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Question: A firm has common shares outstanding with


A firm has common shares outstanding with a discount rate of 10.5 percent. The current market price is $25. The company just paid a dividend of $1.20 per share. What is the per‐share implied growth rate?



> What is the difference between a BA and commercial paper?

> What is the purpose of credit analysis and how is it accomplished?

> Explain the function of a factor in working capital management.

> What are three major sources of float? What are some common methods that address float?

> What are the operating cycle and the cash conversion cycle, and how are they related to working capital policy?

> What are the limitations of the current ratio and the quick ratio as measures of working capital management?

> What is an aged accounts receivable report?

> What does 2/10 net 30 mean, and what is the implicit interest cost?

> What are the four C’s of credit?

> Why is trade credit different from bank credit?

> What is the effective annual cost if a firm issues $10 million of 180‐day BAs at a quoted rate of 5.5 percent, and the bank charges it a 0.4 percent stamping fee? Compare the effective annual cost of 180‐day commercial paper issued at $10 million face va

> What additional services does a factor provide over a bank?

> Calculate the effective annual cost of a one‐year $2‐million operating line of credit. The firm borrowed $1.2 million for the first four months of the year and reduced the loan amount to $500,000 for the rest of the year. The quoted interest rate is 6 pe

> A firm engaged a one‐year, monthly pay, $100,000 line of credit at 9 percent plus a 0.25 percent commitment fee on the unused portion of the line. The firm used 75 percent of the line for the first half year and reduced the loan amount to 60 percent for

> Calculate the effective annual cost of issuing 270‐day BAs at a quoted rate of 5 percent with a face value of $10 million. The bank charges a 0.6 percent stamping fee.

> ABC Inc. grants credit terms of net 25. It is considering a new policy that involves more stringent credit terms: net 20. As a result, the price of its product will stay the same at $45. The expected sales will decrease by 2,000 per year to 10,000 units.

> EastShore Inc. has an ACP of 60 days and daily credit sales of $75,000. A factor offers a 60‐day accounts receivable loan equal to 90 percent of accounts receivable. The quoted interest rate is 10 percent and the commission fee is 1.5 percent of accounts

> Suppose that ABC Inc. (see Practice Problem 30) switches to 3/10 net 30 from net 30. It is 80 percent of customers will take advantage of the discount, while the remaining 20 percent will pay on day 30. The price will increase from $52 to $53 per unit; u

> ABC Inc. currently grants no credit, but it is considering offering new credit terms of net 30. As a result, the price of its product will increase by $2 per unit. The original price per unit is $50. Expected sales will increase by 1,000 units per year.

> What is float and why is it important to the firm?

> Why do firms hold cash?

> Explain how trade credit allows firms to use their suppliers as sources of short‐term funds.

> Why should all firms prepare a cash budget?

> What is the difference between profit and cash flow from operations?

> 1. Which of the following is not a warning sign of potential liquidity problems? a. Declines in working capital and daily cash flows b. Increases in accounts receivable and longer collection periods c. Decreases in debt and debt ratios d. A buildup of in

> Why does cash flow from operations increase if the firm speeds up the collection of receivables, delays paying its bills, or increases its inventory turnover ratio?

> What is the relationship between the break-even sales growth rate and a firm’s collection policy, payables policy, and inventory policy?

> Investor A ’ s personal tax rate is 30 percent while Investor B ’ s is 22 percent. Investor A owns 1,000 shares of SNS Company and receives an annual dividend of $1.75 per share. Investor B owns 1,000 shares of CGC Company and receives an annual dividend

> A company receives an average of $100,000 in cheques per day from its customers. It takes the company an average of five days to receive and deposit these cheques. The company is considering a lockbox arrangement that would reduce its collection float ti

> Explain why firms do not simply pay out dividends as a fixed portion of their profits. What do most firms do in terms of dividend policy?

> A firm follows a strict residual dividend policy. This firm will have profits of $800,000 this year. After screening all available investment projects, the firm has decided to take three out of the 10 projects and those three will cost $600,000. The curr

> Currently a firm has an operating cash flow of $42 million and there is a promising project available, which costs $30 million. There are 5 million shares outstanding with a current price of $64 per share. The firm is expected to pay out a dividend of $5

> Describe split shares, and explain what their popularity implies about investor preferences for dividends in the real world.

> Explain why dividend policy will be relevant in the presence of transactions costs, informational asymmetry and agency problems, and taxes.

> According to equity market capitalization, what is the cost of capital for the stock of the following firm? Current market value of the equity is $1.8 million with 150,000 shares outstanding. The stock price is expected grow 6 percent in a year, and the

> What is the market price per share if the next period’s dividend = $2.50, P 1 = $30, and K = 16%?

> A firm has a dividend yield of 3.8 percent and a payout ratio of 36 percent. If its earnings are $22 million and there are 6 million shares outstanding, what is the price per share?

> 1. Dividend‐payout ratio is defined as: a. the dividend yield plus the capital gains yield. b. dividends per share divided by earnings per share. c. dividends per share divided by income per share. d. dividends per share divided by current price per shar

> Briefly describe the notion of homemade dividends as it relates to M&M’s irrelevancy argument.

> There are two suppliers of one input for a factory. Supplier A offers a selling price of $1,000 with terms of 1/10 net 30, while Supplier B offers $1,100 with 3/10 net 60. Which supplier offers the lower effective annual cost?

> Explain the relationship between M&M’s argument and the use of a residual dividend policy.

> Explain how and under what assumptions M&M show that dividends are irrelevant.

> Calculate ROE and ROI given the following.

> Explain how the existence of informational asymmetries and agency problems may lead firms to follow a pecking order to financing.

> 1. What is the invested capital given the following? Accounts receivable = $50,000; current assets = $200,000; total assets = $700,000; shareholders’ equity = $450,000; accounts payable = $10,000; short-term debt = $90,000; and long-term debt = $200,000.

> What are the main determinants of capital structure?

> Calculate PVGO, PVEO, and P 0 given the following information: ROE1 15%; ROE2 20%; further investment (Inv) $200; BVPS $25; and Ke 12%. Is this firm a star? If not, what is it according to Boston Consulting Group?

> Calculate the cost of equity using the constant growth DDM given the following: current dividend $3; payout ratio 0.5 (assume it is not changing); ROE 12%; and the current market price of the stock $24. Is the current management adding to or reducing the

> A firm’s earnings and dividends are expected to grow at a constant rate indefinitely, and it is expected to pay a dividend of $9 per share next year. Expected EPS and BVPS next year are $12 and $50, respectively. The cost of equity is 13.5 percent and th

> What is the effective annual cost if a firm issues $5 million face value of 90‐day commercial paper for net proceeds of $4.85 million? The firm pays a standby fee of 0.1 percent on the face value.

> What is the difference between a bank operating line of credit and a traditional loan?

> Calculate the cost of issuing new equity for a firm, assuming issue costs are 6 percent of the share price after taxes; market price per share $50; current dividend $3.75; and the constant growth rate in dividends is 4 percent.

> Rocky Mountain Depot just announced its EPS of $5. Retention rate (b) 0.4. The earnings are expected to grow at 10 percent for one year and then at 5 percent indefinitely. Given that Ke 16 percent, what is the market price?

> What is V Fed if the expected earnings per share on the S&P 500 is $23.50 and the long‐term U.S. bond rate is 4.75 percent?

> A firm’s market values of equity and debt are $750,000 and $250,000, respectively. The before-tax cost of debt 6%; RF 3%; b eta ( ) 1.08; the market risk premium 8%; and the tax rate 25%. Calculate the WACC (weighted average cost of capital).

> Provide two reasons why the cost of a security to a company differs from its required return in capital markets.

> Calculate invested capital and before‐tax ROI.

> Straightforward Theatre Company has an EBIT of $1.2 million per year. The WACC of the firm is 10 percent and the before‐tax cost of debt is 5 percent. The debt is risk free and all cash flows are perpetual. The current D/E ratio is 2/3. The corporate tax

> Athabascan Drilling is currently unlevered and is valued at $10 million. The company is considering including debt in its capital structure and wants to know the likely impact on its value and cost of capital. The current cost of equity is 20 percent. Th

> The Saskatchewan Botanicals Company expects a free cash flow of $1.08 million every year forever. Saskatchewan Botanicals currently has no debt, and its cost of equity is 18 percent. The corporate tax rate is 30 percent. The firm can borrow at 8 percent.

> Susan and Celia are twins but have very different attitudes toward debt. Susan believes that firms should have a D/E ratio of 0.2 while Celia believes that the D/E ratio should be 1.1. Both sisters have agreed that Okanagan Produce Inc. (OPI) is an excel

> Suppose Sio Inc. has 45 days of accounts receivable (AR) of $900,000 on its books. A factor offers a 45‐day AR loan equal to 90 percent of AR. The quoted interest rate is 6 percent, and there is a commission fee of 0.5 percent. The factoring will result

> In the M&M no‐tax world, an unlevered firm has a cost of equity of 12 percent and expected EBIT of $480,000. The firm decided to issue $3 million of debt at a cost of 8 percent to finance a project, which has an ROI of 18 percent. It has 200,000 shares o

> How can we estimate the market value of common equity, preferred equity, and long-term debt?

> What are the steps involved in estimating a firm’s WACC?

> Why is the weighted average cost of capital (WACC) so important?

> Why do we say that equity holders bear the brunt of the effects of leverage?

> Distinguish between operating and financial leverage.

> Explain four of the most important factors influencing capital structure decisions as indicated in the survey results and how they relate to the conceptual discussion of an optimal capital structure.

> Summarize the main factors you need to consider if the CFO of your firm asks you to evaluate your firm’s capital structure.

> What is the pecking order according to Myers’ argument?

> Explain how the static trade‐off model can be used to find an optimal capital structure.

> What are special purpose vehicles (SPVs)? What is the main advantage of SPVs? List a few forms of credit enhancement that are critical to SPVs.

> In order for the M&M irrelevance theorem to hold, what key assumptions must be met?

> State the two rules of financial leverage.

> What is the market price and market‐to‐book ratio, assuming the firm’s stock is a perpetuity and all earnings are paid out as cash dividends (i.e., the retention rate is zero)?

> What is the cost of equity (K e ) given RF 3%, beta ( ) 1.4, expected market return ( ERM) 10%?

> Why does the MCC suddenly jump up and become expensive?

> Explain the importance of using the WACC as a hurdle rate for making investment decisions.

> Explain why beta estimates are “period specific” and outline the potential problems that may arise. Allude to problems with recent beta estimates.

> Explain how we can use the CAPM to estimate the cost of common equity.

> 1. Which of the following statements is false? a. Financing total assets is called the financial structure decision. b. Capital structure is how invested capital is financed. c. The financial structure is $34,000 if the total assets are $34,000. d. The i

> Why would you want a cumulative feature when purchasing preferred shares?

> a. Calculate the effective annual cost of forgoing the discount from credit terms of 2/15 net 60. The selling price is $800. b. Another supplier offers $820 on credit terms of net 90. If you could finance the purchase by using loans at an effective annua

> Briefly describe the following types of preferred shares: straight, retractable, and floating rate.

> Define and explain how to determine the following for a convertible: conversion price, conversion value, straight bond value, floor value, and convertible premium.

> Explain why issuing debt or preferred shares with warrants attached or issuing convertible bonds or convertible preferred shares, may represent attractive sources of financing for higher-risk firms.

> Why is dividend income preferred by both corporations and individual investors?

> Why do voting rights affect the prices of some common shares and not others?

> What are the basic rights associated with equity securities? How do these differ across different categories or classes of equities?

> Why are preferred shares sometimes called hybrid securities?

> A firm has just issued convertible preferred shares with a call feature that permits the firm to repurchase the shares at par value (or, in effect, force the conversion into common shares). Usually, the common stock will be trading at least 20 percent ab

> A firm has just issued convertible preferred shares with a $100 par value. The conversion price for these shares is $20 (per common share). What is the conversion ratio?

> Montreal Brewers is going to issue $100 million of 90‐day commercial paper for net proceeds of $99 million. Montreal Brewers must maintain a $100 million credit line, on which it must pay a standby fee of 0.15 percent. What is the commercial paper’s effe

> Straight preferred shares issued by a firm have a discount rate of 8 percent per year, whereas these shares are yielding 4 percent on the $25 par value. The conversion value of these shares is calculated to be $15. Determine the straight preferred value

> A firm’s common shares currently trade at $20 per share. The firm has warrants outstanding that entitle the holder to purchase two shares at an exercise price of $18 per share. The expiry date is two years from today. a. Calculate the minimum value (floo

> Orion’s Belt Mining Co. has 12 million common shares outstanding, which are currently trading for $5. In addition, the company has issued two million share purchase warrants with a strike price of $4.25 that are just about to expire. a. Determine the equ

> Calculate the payoff of fully exercising warrants given the following: 950,000 existing shares are outstanding; 150,000 warrants are outstanding and are exercisable at $10. The firm is valued at $10 million before the warrants are exercised. Calculate th

> In December 2015, Collingwood Corp. decided to issue 100,000 convertible bonds, maturing in December 2025. The bonds have a face value of $1,000 and promise an annual coupon payment of 5.75 percent. The conversion ratio of these bonds is 25.32, and it is

> Jack and Jill Inc. very nearly tumbled into bankruptcy last year. To refinance the firm, the firm issued $30 million worth of 30‐year income bonds. These bonds have an 8‐percent coupon that is payable only if the firm achieves earnings before interest an

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