FiltersDone

Question type

Essay

Multiple Choice

Short Answer

True False

Matching

Exam 21: Dynamic Capital Structures and Corporate Valuation

Show Answer

Share

---

All types

Filters

Study FlashcardsPractice ExamLearn

Question 21

Multiple Choice

Review LaterAdd Note

Review Later

Gators Incorporated has the following information for the current year and projected for next year.Calculate its projected free cash flow to equity.(Assume new debt is added at the beginning of the year.) $\begin{array}{lr}&\text {Current}&\\&\text {year}&\text {Projected}\\ \text { FCF } & \text { NA } &\$1,000\\\text { Total debt } & \$ 400&\$600 \\\text { Interest rate on debt } & 6 \% & 6 \% \\\text { Tax rate } & 25 \%& 25 \%\end{array}$

A) $1,066
B) $1,173
C) $1,290
D) $1,419
E) $1,561

F) A) and C)
G) B) and E)

Correct Answer

verified

Show Answer

Question 22

True/False

Review LaterAdd Note

Review Later

The present value of the free cash flows discounted at the unlevered cost of equity is the value of the firm's operations if it had no debt.

A) True
B) False

Correct Answer

verified

Show Answer

Question 23

True/False

Review LaterAdd Note

In the compressed adjusted present value model, the appropriate discount rate for the tax shield is the after-tax cost of debt.

Epsilon Consultants has the following projected free cash flows to equity and other information.It has no non-operating assets.Calculate Epsilon's intrinsic value of equity using the FCFE model. $\begin{array} { l c c r } & \text { Year 1 } & \text { Year 2 } & \text { Year 3 } \\\text { FCFE } & \$ 1,000 & \$ 1,200 & \$ 1,260 \\\text { Long-term FCFE growth } & 5 \% & & \\\text { Required return on } \\\text { equity }& 9 \% & &\end{array}$ ? ?

Angelou Corporation has debt worth $150,000, with a yield of 8%, and equity worth $350,000.It is growing at a 5% rate, and its tax rate is 25%.A similar firm with no debt has a cost of equity of 13%.Using the compressed adjusted present value model, what is the value of the firm's tax shield, i.e., how much value does the use of debt add?

Gamma Pharmaceuticals has the following financial information for the current year and projected for next year.Calculate Gamma's projected free cash flow to equity. $\begin{array} { l r r } & { \text { Current } } \\& \text { year } & \text { Projected } \\\text { NOPAT } & { \text { NA } } & \$ 1,000 \\\text { Total operating capital } & \$ 2,000 & \$ 2,200 \\\text { Total debt } & \$ 900 & \$ 800 \\\text { Interest rate on debt } & 6 \% & 6 \% \\\text { Tax rate } & 25 \% & 25 \%\end{array}$

Kitto Electronics Data Kitto Electronics expects an EBIT of $200,000 for Year-1.EBIT is expected to grow at 6% thereafter.The tax rate is 25%.In order to support growth, Kitto must reinvest 20% of its EBIT in net operating assets.Kitto has $300,000 in 8% debt outstanding, and a similar company with no debt has a cost of equity of 11%. -Refer to data for Kitto Electronics.Using the compressed adjusted present value model, what is Kitto's value of equity?

MM showed that in a world without taxes, a firm's value is not affected by its capital structure.

Zeta Technologies has the following projections.It has no non-operating assets.Calculate Zeta's intrinsic value of equity using the FCFE model. $\begin{array}{cccc}&\text { Current }\\&{\text { year }} & \text { Year 1 } & \text { Year 1 } & \text { Year 3 } \\\text { FCF }&\mathrm{NA} & \$ 1,000 & \$ 1,200 & \$ 1,248 \\\text { Total debt }&\$ 3,000 & \$ 3,900 & \$ 4,290 & \$ 4,462\\\text { Interest rate on debt } & 6 \% & 6 \% & 6 \% & 6 \% \\\text { Tax rate } & 25 \% & 25 \% & 25 \% & 25 \%\\\text { Long-term growth rate } & 4 \% \\\text { Required return on } & \\\text { equity } & 9 \%\end{array}$

The market value of DeLoach Photography's debt is $200,000 and its yield is 8%.The firm's equity has a market value of $800,000, its free cash flows are growing at a 4% rate, and its tax rate is 25%.A similar firm with no debt has a cost of equity of 12%.Using the compressed adjusted present value (CAPV) model, what would its total value be if it had no debt?

If the capital structure is stable, and free cash flows are expected to be growing at a constant rate at the horizon date, then the compressed adjusted present value model calculates the horizon value by discounting the post-horizon free cash flows and post-horizon expected future tax shields at the weighted average cost of capital.

Eta Edibles had free cash flow to equity, required return, and long-term growth rate as indicated below.Eta has no non-operating assets.Calculate Eta's intrinsic value of equity using the FCFE model. $\begin{array} { l r } \text { Most recent FCFE } & \$ 1000 \\\text { Required return on } & \\\text { equity } & 9 \% \\\text { Long-term growth rate } & 4 \%\end{array}$

The market value of Rudyard Incorporated's debt is $200,000 and its yield is 9%.The firm's equity has a market value of $300,000, its earnings are growing at a rate of 5%, and its tax rate is 25%.A similar firm with no debt has a cost of equity of 12%.Using the compressed adjusted present value model, what is Rudyard's cost of equity?

Which of the following statements concerning the compressed adjusted present value (APV) model is NOT CORRECT?

Glassmaker Corporation Data Glassmaker Corporation has a currentcapital structure consisting of $100 million (market value) of 9% bonds and $300 million (market value) of common stock.Glassmaker's beta is 1.5.Glassmaker faces a 25% tax rate.Glassmaker plans on making big changes in operation and capital structure during the next several years.(Its tax rate will remain unchanged.) Under these plans, the free cash flows for Glassmaker are estimated to be $29 million for each of the next 4 years; the horizon value of the free cash flows (discounted at the rate assumed by the compressed adjusted present value (CAPV) approach) is $487 million at Year 4.Glass maker will increase its debt to $140 million in the recapitalization.This will cause the estimatedtax savings due to interest expenses areestimatedto be$3.2 million for each of the next 4 years; the horizon value of the tax shields (discounted at the rate assumed by the CAPV approach) is estimated to be $53 million at Year 4.Glassmaker has no nonoperating assets.Currently, the risk-free rate is 6.0% and the market risk premium is 4.0%. ​ -Refer to data for Glassmaker Corporation.According to the compressed adjusted present value model, what discount rate should you use to discount Glassmaker's free cash flows and interest tax savings?