Question
In: Accounting
You have the following information about Burgundy Basins, a sink manufacturer. Equity shares outstanding 20 million...
You have the following information about Burgundy Basins, a sink manufacturer.
| Equity shares outstanding | 20 | million | |
| Stock price per share | $ | 30 | |
| Yield to maturity on debt | 7.5 | % | |
| Book value of interest-bearing debt | $ | 320 | million |
| Coupon interest rate on debt | 3.5 | % | |
| Market value of debt | $ | 200 | million |
| Book value of equity | $ | 320 | million |
| Cost of equity capital | 10.0 | % | |
| Tax rate | 35 | % | |
Burgundy is contemplating what for the company is an average-risk investment costing $20 million and promising an annual ATCF of $4.0 million in perpetuity.
a. What is the internal rate of return on the investment? (Round your answer to 2 decimal places.)
b. What is Burgundy's weighted-average cost of capital? (Round your answer to 2 decimal places.)
Solutions
Expert Solution
Answer :
(a). Computation of internal rate of return
Internal rate of rate at which net present value (NPV) is zero
Present value of perpetuity is simply C/r,where in C is the same cash flow every year and r is the discount rate.
If we equate this present value to the initial investment, then the NPV becomes zero, and thus the r comes to be known as IRR
Thus, simply, IRR = C / initial investment
IRR = 0.4/20
IRR = 2%
(b). Computation of weighted average cost of capital ('(WACC')
The WACC can be computed by taking book value of weight or market value of weight
Computation of WACC by taking market value of weight
| Capital | Amount $ | Rates | Tax impact | Rates After tax | Weight | WACC |
| Market value of equity shares | 600 | 10 | 10 | 0.75 | 7.50 | |
| Market value of interest bearing debt | 200 | 7.5 | 2.625 | 4.875 | 0.25 | 1.22 |
| Total | 800 | 0 | 8.72 | |||
| Computation of WACC by taking book value of weight | ||||||
| Capital | Amount $ | Rates | Tax impact | Rate after tax | Weight | WACC |
| Book value of equity shares | 320 | 10 | 0 | 10 | 0.5 | 5.00 |
| Book value of interest bearing debt | 320 | 7.5 | 2.625 | 4.875 | 0.5 | 2.44 |
| 640 | 1 | 7.44 | ||||
| Market value of equity shares | |
| No of equity shares (in million) | 20 |
| Market value of shares ($) | 30 |
| Market value of equity share capital | 600 |
ekkarill92 answered 1 year agoRelated Solutions
Q1) Zemma Corp: is all equity financed with 20 million shares outstanding. Their shares trade at...
Q1)
Zemma Corp: is all equity financed with 20 million shares
outstanding. Their shares trade at $15 per share. Now Zemma Corp
will change its capital structure by issuing 100 million in debt.
The 100 raised by the issue will be used to buyback shares at a
fair price. Assume that debt will be permanent debt and that the
appropriate cost of debt will be 5%. The current tax rate is
40%.
Before the transaction, what is the market value...
Zemma Corp: is all equity financed with 20 million shares outstanding. Their shares trade at $15...
Zemma Corp: is all equity financed with 20 million shares
outstanding. Their shares trade at $15 per share. Now Zemma Corp
will change its capital structure by issuing 100 million in debt.
The 100 raised by the issue will be used to buyback shares at a
fair price. Assume that debt will be permanent debt and that the
appropriate cost of debt will be 5%. The current tax rate is
40%.
A. Before the transaction, what is the market value...
XYZ Satellites Inc. is an all equity firm with 200,000 shares outstanding and $20 million in...
XYZ Satellites Inc. is an all equity firm with 200,000
shares outstanding and $20 million in earnings after taxes with a
market value of $350 million.The company borrows $75 million to
repurchase#50000 shares @8%.The tax rate is 50%.
1) What effect will this have on the earning per share of the
firm?
2) At what interest rate would have to be on the debt for the EPS
effect to disappear?
AHN is firm manufacturer. The firm is all-equity financed and has 40 million shares outstanding at...
AHN is firm manufacturer. The firm is all-equity financed and
has 40 million shares outstanding at a price of $75 per share. AHN
current cost of capital is 7.5%. The firm is considering to buy
back $400 million in shares in the open market and to finance the
repurchase by issuing bonds. AHN plans to maintain this capital
structure indefinitely. At this level of debt, the bonds would be
A-rated, and the firm would pay an interest rate of 4.5%.AHN's...
An all-equity business has 100 million shares outstanding, selling for $20 a share. Management believes that...
An all-equity business has 100 million shares outstanding,
selling for $20 a share. Management believes that interest rates
are unreasonably low and decides to execute a dividend
recapitalization. It will raise $1 billion in debt and repurchase
50 million shares.
Do equity shareholders appear to have gained or lost as a result
of the recap? Please explain.
Assume now that the recap increases total firm cash flows, which
adds $100 million to the value of the firm. Now what is...
Today the company announces net income equals $51 million. They have 20 million shares outstanding, and...
Today the company announces net income equals $51 million. They
have 20 million shares outstanding, and today’s share price is
$94.86 . Find the company’s price-to-earnings ratio.
{ANSWER: D ; xlADDRESS: FA1!$B$227 }
/\a. 40.9 b.
30.7 c. 33.8 d.
37.2 e. 45.0
Company A has a market value of equity of $2,000 million and 80 million shares outstanding....
Company A has a market value of equity of $2,000 million and 80
million shares outstanding. Company B has a market value of equity
of $400 million and 25 million shares outstanding. Company A
announces at the beginning of 2019 that is going to acquire Company
B.
The projected pre-tax gains in operating income (in millions of
$) from the merger are:
2019
2020
2021
2022
2023
Pre-tax Gains in Operating Income
12
16
28
38
45
The projected pre-tax...
Company A has a market value of equity of $2,000 million and 80 million shares outstanding....
Company A has a market value of equity of $2,000 million and 80
million shares outstanding. Company B has a market value of equity
of $400 million and 25 million shares outstanding. Company A
announces at the beginning of 2019 that is going to acquire Company
B.
The projected pre-tax gains in operating income (in millions of
$) from the merger are:
2019
2020
2021
2022
2023
Pre-tax Gains in Operating Income
12
16
28
38
45
The projected pre-tax...
Company A has a market value of equity of $2,000 million and 80 million shares outstanding....
Company A has a market value of equity of $2,000 million and 80
million shares outstanding. Company B has a market value of equity
of $400 million and 25 million shares outstanding. Company A
announces at the beginning of 2019 that is going to acquire Company
B.
The projected pre-tax gains in operating income (in millions of
$) from the merger are:
2019
2020
2021
2022
2023
Pre-tax Gains in Operating Income
12
16
28
38
45
The projected pre-tax...
Company A has a market value of equity of $2,000 million and 80 million shares outstanding....
Company A has a market value of equity of $2,000 million and 80
million shares outstanding. Company B has a market value of equity
of $400 million and 25 million shares outstanding. Company A
announces at the beginning of 2019 that is going to acquire Company
B.
The projected pre-tax gains in operating income (in millions of
$) from the merger are:
2019
2020
2021
2022
2023
Pre-tax Gains in Operating Income
12
16
28
38
45
The projected pre-tax...
ADVERTISEMENT
ADVERTISEMENT
Latest Questions
- Tidewater Company uses the product cost concept of applying the cost-plus approach to product pricing. The...
- Create 5 short-term plan of technology projects that you can perform outside of an I.T. department...
- Derek plans to retire on his 65th birthday. However, he plans to work part-time until he...
- Toady and Froggy were running a vegan cafe together. The business was having financial difficulties.Betelguese, who...
- 1. The following questions concern Jesse Gelsinger who suffered from partial OTC. a. In the...
- Pittman Company is a small but growing manufacturer of telecommunications equipment. The company has no sales...
- TzeMay was one of the first women engineering students at ABC University. She graduated in 1995...
ADVERTISEMENT