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1. Identify the key objectives of the debt policy as suggested in the case for Polaroid
2. Identify key characteristics of the business and the important risks associated with the Polaroid’s business and strategy (prim
3. Drawing on the financial ratios in case Exhibit 9, how much debt could Polaroid borrow at each rating level? What interest c
4. Estimate which rating category has the lowest overall cost of funds.
5. What should Ralph Norwood recommend regarding the debt policy in context of the level of flexibility desired?
business and strategy (primarily those that would be important for debt investors)
ting level? What interest coverage ratios (EBIT Coverage ratios) would result from the borrowings implied by each rating category? (Hint. F
bility desired?
h rating category? (Hint. Flexibility analysis)
Analysis of Flexibility by rating category AAA AA A BBB BB B
6 Market Value of Polaroid's Existing Debt 726.8 726.8 726.8 726.8 726.8 726.8
7 Average Debt Implied by Rating 300.07 415.09 517.63 672.76 943.35 1242.67
8 Unused Debt Capacity at current rating -426.73 -311.71 -209.17 -54.04 216.55 515.87
Estimate of Interest Coverage (if debt levels are as per Rating categories)
11 Average 5-year EBIT (Forecast) 244.24 244.24 244.24 244.24 244.24 244.24
13 Coverage ratio (Based on Average) 12.15 8.53 6.74 4.91 2.88 1.85
14 Coverage ratio (Based on Downside EBIT) 7.46 5.24 4.14 3.01 1.77 1.14
The total debt to capitalization ratio is a solvency measure that shows the proportion of debt a company uses to finance its asset
For example, if a company's only debt is a bond it has issued with a 5% rate, its pre-tax cost of debt is 5%. If its tax rate is 40%,
ny uses to finance its assets, relative to the amount of equity used for the same purpose. A higher ratio result means that a company is more highly lev
s 5%. If its tax rate is 40%, the difference between 100% and 40% is 60%, and 60% of the 5% is 3%. The after-tax cost of debt is 3%.
company is more highly leveraged, which carries a higher risk of insolvency.
debt is 3%.
Capital Costs by
Rating Category AAA AA A BBB BB B
Cost of Debt 6.70% 6.90% 7% 7.40% 9% 10.60%
Debt to Total Capital 10.40% 14.39% 17.95% 23.33% 32.71% 43.09%
Equity to Total Capital 89.60% 85.61% 82.05% 76.67% 67.29% 56.91%
D/E_current 0.3368942487
AAA AA A BBB BB B
What Is Beta?
A stock that swings more than the market over time has a beta greater than 1.0. If a stock moves less than the market, the stock's beta is l
pose less risk but typically yield lower returns.
As a result, beta is often used as a risk-reward measure, meaning it helps investors determine how much risk they are willing to take to ac
If you think of risk as the possibility of a stock losing its value, beta is useful as a proxy for risk.
Weighted average cost of capital (WACC) is used by analysts and investors to assess an investor's returns on an investment in a company. As the majority of businesses run on b
The Capital Asset Pricing Model (CAPM) describes the relationship between systematic risk and expected return for assets, particularly sto
assets given the risk of those assets and cost of capital.
Recapitalization is a strategy a company can use to improve its financial stability or overhaul its financial structure. To accomplish this, the company must change its debt-to-equity