Question
In: Finance
LP Bean Company, an all equity company, has an EBIT of $1,200,000 that it expects it...
LP Bean Company, an all equity company, has an EBIT of $1,200,000 that it expects it will earn
forever, and it pays all of its earnings as dividends to shareholders (i.e., no growth). The firm
has a corporate tax rate of 45% and has an un-levered beta of 1.25. In the market, you observe
that Government T-bills are being sold to yield 3% and the market risk premium is 6%. Assume
a world of taxes and a cost for the risk of default.
a) Calculate the value of the firm.
b) Calculate the WACC for the firm.
c) What is the value of the firm if the firm issues $1,500,000 of bonds at par with a coupon
rate of 5%? The beta for the equity of the leveraged firm is 1.6.
d) What is the value of the firm if the firm issues $2,000,000 of bonds at par with a coupon
rate of 7%? The beta for the equity of the leveraged firm is 1.95.
e) What is the optimal level of debt $0, $1,500,000 or $2,000,000? Explain.
f) What is the WACC for the firm at the optimal level of debt?
g) What are the financial distress costs when the firm as $2,000,000 in debt?
Solutions
jeff jeffy answered 1 year agoRelated Solutions
LP Bean Company, an all equity company, has an EBIT of $1,200,000 that it expects it...
LP Bean Company, an all equity company, has an EBIT of
$1,200,000 that it expects it will earn forever, and it pays all of
its earnings as dividends to shareholders (i.e., no growth). The
firm has a corporate tax rate of 45% and has an un-levered beta of
1.25. In the market, you observe that Government T-bills are being
sold to yield 3% and the market risk premium is 6%. Assume a world
of taxes and a cost for the...
MacKinnon Co. currently has EBIT of $35,000 and is all equity financed. EBIT is expected to...
MacKinnon Co. currently has EBIT of $35,000 and is all equity
financed. EBIT is expected to stay at this level indefinitely. The
firm pays corporate taxes equal to 20% of taxable income. The cost
of equity for this firm is 18%.
Suppose the firm has a value of $155,555.56 when it is all
equity financed. Now assume the firm issues $71,000 of debt paying
interest of 8% per year and uses the proceeds to retire equity. The
debt is expected...
Smoke and Mirrors currently has EBIT of $30,000 and is all-equity-financed. EBIT is expected to stay...
Smoke and Mirrors currently has EBIT of $30,000 and is
all-equity-financed. EBIT is expected to stay at this level
indefinitely. The firm pays corporate taxes equal to 32% of taxable
income. The discount rate for the firm’s projects is 8%.
a.
What is the market value of the firm?
(Round your answer to 2 decimal places.)
Market value of the firm
$
b.
Now assume the firm issues $40,000 of debt paying
interest of 6% per year and uses the...
Trade-Off Theory. Smoke and Mirrors currently has EBIT of $25,000 and is all-equity- financed. EBIT is...
Trade-Off Theory. Smoke and Mirrors currently has EBIT of
$25,000 and is all-equity- financed. EBIT is expected to stay at
this level indefinitely. The firm pays corporate taxes equal to 21%
of taxable income. The discount rate for the firm’s projects is
10%.
a. What is the market value of the firm?
b. Now assume the firm issues $50,000 of debt paying interest of 6%
per year, using the proceeds to retire equity. The debt is expected
to be permanent....
Bellevue Company is currently debt-free and expects perpetual annual EBIT of 6,000. Its cost of equity...
Bellevue Company is currently debt-free and expects
perpetual annual EBIT of 6,000. Its cost of equity is 16 percent.
The firm can borrow at 10 percent. The corporate tax rate is 35
percent. a. What is the current value of the firm? b. What will the
value be if Bellevue establishes 50 percent debt ratio? C. What
will the value be if Bellevue changes the debt ratio to 100%?
Camouflage Corporation expects an EBIT of $26,850 every yearforever. The company currently has no debt,...
Camouflage Corporation expects an EBIT of $26,850 every year
forever. The company currently has no debt, and its cost of equity
is 14 percent. The tax rate is 35 percent.What is the current value of the company?Suppose the company can borrow at 8 percent. What will the
value of the company be if it takes on debt equal to 50 percent of
its unlevered value? What if it takes on debt equal to 100 percent
of its unlevered value?What will...
Consider an all-equity firm with 125,000 shares outstanding. Assume that EBIT=800,000 and that EBIT will remain...
Consider an all-equity firm with 125,000 shares outstanding.
Assume that EBIT=800,000 and that EBIT will remain constant, the
firm pays out all profits (EPS = dividends per share) as dividends,
and that its tax rate is 40%. If the firm’s beta is 1.1, the
risk-free rate is 4%, and the market risk premium is 6%, what is
the firm’s stock price according to the dividend growth model?
Round your answer to the nearest cent.
Stevenson's Bakery is an all-equity firm that has projected perpetual EBIT of $198,000 per year. The...
Stevenson's Bakery is an all-equity firm that has projected
perpetual EBIT of $198,000 per year. The cost of equity is 14.1
percent and the tax rate is 34 percent. The firm can borrow
perpetual debt at 5.8 percent. Currently, the firm is considering
converting to a debt–equity ratio of 1.08. What is the firm's
levered value?
An all-equity firm with 200,000 shares outstanding, has $2,000,000 of EBIT, which is expected to remain...
An all-equity firm with 200,000 shares outstanding, has
$2,000,000 of EBIT, which is expected to remain constant in the
future. The company pays out all of its earnings, so earnings per
share (EPS) equals dividends per share (DPS). Its tax rate is 40%.
The company is considering issuing $5,000,000 of 10% bonds and
using the proceeds to repurchase stock. The risk free rate is 6.5%,
the market risk premium is 5.0%, and the beta is currently 0.90,
but the CFO...
Hunter Corporation expects an EBIT of $29,000 every year forever. The company currently has no debt...
Hunter Corporation expects an EBIT of $29,000 every year
forever. The company currently has no debt and its cost of equity
is 14 percent. The corporate tax rate is 24 percent.
a.
What is the current value of the company? (Do not round
intermediate calculations and round your answer to 2 decimal
places, e.g., 32.16.)
b-1.
Suppose the company can borrow at 8 percent. What will the
value of the company be if takes on debt equal to 30...
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