You are the CEO of a firm that appears to be the target of a hostile takeover attempt. Thibeaux Piques has been accumulating the shares of your stock and now holds a substantial percentage of the outstanding shares. You would like to purchase the shares that he owns. What method of stock repurchase will you opt for?
> Explain why managers of firms might prefer that their firms’ shares trade in a moderate per-share price range rather than in a high per-share price range. How do managers of firms keep their shares trading in a moderate price range?
> Explain why holders of a firm’s debt should insist on a covenant that restricts the amount of cash dividends the firm pays?
> Explain how the issuance of new securities by a firm can produce useful information about the issuing firm. How can this information make the shares of the firm more valuable, even if it only confirms existing information about the firm?
> You are the CFO of a public company that advises distressed companies about how to manage their businesses. Your company has been performing extremely well. In fact, it has earned so much money that the increase in its retained earnings has resulted in a
> You are the Chief Financial Officer (CFO) of a large publicly traded company. You would like to convey positive information about the firm to the market. If you agree with the conclusions from the Lintner study, will you keep paying your currently high d
> You purchased 1,000 shares of Zebulon Copper Co. five years ago for $50 per share. Today Zebulon management is trying to decide whether to repurchase shares for $70 per share through a fixed-price tender offer or pay a $70 cash dividend per share. If cap
> Place the following in the proper chronological order, and describe the purpose of each: ex-dividend date, record date, payment date, and declaration date?
> Cholla Company currently has 30,000 shares outstanding. Each share has a market value of $20. If the firm repurchases $150,000 worth of shares, then what will be the value of each share outstanding after the repurchase? Ignore taxes?
> Saguaro Company currently has 30,000 shares outstanding. Each share has a market value of $20. If the firm pays $5 per share in dividends, what will each share be worth after the dividend payment? Ignore taxes?
> Why should the NPV method be the primary decision tool used in making capital investment decisions?
> Shadows, Inc., had shares outstanding that were valued at $120 per share before a two-for-one stock split. After the stock split, the shares were valued at $62 per share. If we accept that the firm’s financial maneuver did not create any new value, then
> WeAreProfits, Inc., has not issued any new debt securities in 10 years. It will begin paying cash dividends to its stockholders for the first time next year. Explain how a dividend might help the firm get closer to its optimal capital structure of 50 per
> Dividend reinvestment programs (DRIPs) sometimes sell shares at a discount to stockholders who reinvest their dividends through such plans. Your boss tells you that such plans are just a scheme to transfer wealth from nonparticipating to participating st
> In the early 1990s, the amount of time that elapsed between purchasing a stock and actually obtaining that stock was five business days. This period was known as the settlement period. The settlement period for stock purchases is now two business days. D
> What is the advantage of a Dutch auction over a fixed-price tender offer?
> Briefly discuss the methods available for a firm to repurchase its shares and explain why you might expect the stock price reaction to the announcement of each of these methods to differ?
> You read that a number of public companies have been financing their dividend payments in recent years entirely through equity issues. A colleague of yours argues that this only increase taxes paid by individual stockholders and boosts underwriting and o
> Consider a firm that repurchases shares from its stockholders in the open market, and explain why this action might be detrimental to the stockholders from whom the firm buys shares?
> Stock repurchases, once announced, do not actually have to occur in total or in part. From a signaling perspective, why would a special dividend be better than a stock repurchase?
> You own shares in a firm that has extra cash on hand to distribute to stockholders. You do not want the cash. What course of action would you prefer the firm take?
> What is the Internal Rate of Return (IRR) method?
> A commentator on a financial talk show on TV says that “On average, firms pay out too little to stockholders. This is why stock prices go up with dividend increases and down with dividend decreases.” Is the commentator right?
> A firm can deliver a negative signal to stockholders by increasing the level of dividends or by reducing the level of dividends. Explain why this is true?
> Undecided Corp. has excess cash on hand right now, although management is not sure about the level of cash flows going forward. If management would like to put cash in stockholders’ hands, what kind of dividend should the firm pay, and why?
> CashCo increased its cash dividend each quarter for the past eight quarters. While this may signal that the firm is financially very healthy, what else could we conclude from these actions?
> Explain what the introduction of transaction costs does to the Modigliani and Miller assumption that dividends are irrelevant. Start with a firm that pays dividends to investors that do not want to receive dividend payments. Do not consider taxes?
> You have just encountered two identical firms with identical investment opportunities, as well as the ability to fund these opportunities. One of the firms has just announced that it will pay a dividend, while the other has continued to pay no dividend.
> The Poseidon Shipping Company has paid a $0.25 dividend per quarter for the past three years. Poseidon just lowered its declared dividend to $0.20 for the next dividend payment. Discuss what this new information might convey concerning Poseidon managemen
> What does it mean when a company has a very high P/E ratio? Give examples of industries in which you believe high P/E ratios are justified?
> Under what conditions does it make sense to use the constant-growth dividend model to value a stock?
> Why are common stockholders considered to be more at risk than the holders of other types of securities?
> What are the major shortcomings of using the Accounting Rate of Return (ARR) method as a capital budgeting method?
> Why are investors and managers concerned about stock market efficiency?
> Why can the market price of a stock differ from its true (intrinsic) value?
> Explain how the financial statements of a private company might differ from those of a public company. What does this imply for valuing a private company?
> Your boss has asked you to estimate the intrinsic value of the equity for Google, which does not currently pay any dividends. You are going to use an income approach and are trying to choose between the free cash flow to equity (FCFE) approach and the di
> You want to estimate the value of a company that has three very different lines of business. It manufactures aircraft, is in the data-processing business, and manufactures automobiles. How could you use an income approach to value a company such as this—
> Is the replacement cost of a business generally related to the value of the cash flows that the business is expected to produce in the future? Why or why not? Illustrate your answer with an example?
> You have just received a business valuation report that is dated six months ago. Describe the factors that might have changed during the past six months and, therefore, caused the value of the business today to be different from the value six months ago.
> You are entering negotiations to purchase a business and are trying to formulate a negotiating strategy. You want to determine the minimum price you should offer and the maximum you should be willing to pay. Explain how the concepts of fair market value
> What is a business plan? Explain how a business plan can help an entrepreneur succeed in building a business?
> Explain how the taxation of a C-corporation differs from the taxation of the other forms of business organization discussed in this chapter?
> What are the five steps used in NPV analysis?
> Explain why it is difficult to value a young, rapidly growing company?
> Given that many new businesses fail in the first few years after they are established, how should an entrepreneur think about the risk of failure associated with a new business? From what you have learned in this chapter, what can an entrepreneur do to i
> Fled Flightstone Mining’s management does not like to pay cash dividends due to the volatility of the company’s cash flows. Fled management has found, however, that when it does not pay dividends, its stock price becomes too high for individual investors
> Some people argue that a high tax rate on dividends creates incentives for managers to go about their business without credibly convincing investors that the firm is doing well, even when it is. Discuss why this may be true?
> You have just read a press release in which a firm claims that it will be able to generate a higher level of cash flows for its investors going forward. Justify the choice of a dividend payout that could credibly convey that information to the market?
> You have accumulated stock in a firm that does not pay cash dividends. You have read that, according to Modigliani and Miller, you can create a “homemade” dividend should you require cash. Discuss why this choice may not be very good for the value of you
> Discuss why the dividend payment process is so much simpler for private companies than for public companies?
> You find that you are the only investor in a particular stock who is subject to a 15 percent tax rate on dividends (all other investors are subject to a 5 percent tax rate on dividends). Is there greater value to you in holding the stock beyond the ex-di
> Lintner found that firms are reluctant to make dividend changes that might have to be reversed. Discuss the rationale for that behavior?
> What is the NPV of a project?
> Suppose that you live in a country where it takes 10 days to settle a stock purchase. By how many days will the ex-dividend date precede the record date?
> Discuss under what circumstances you might be able to use a model that assumes constant growth in dividends to calculate the current cost of equity capital for a firm?
> Ten years ago, the Edson Water Company issued preferred stock at a price equal to the par value of $100. If the dividend yield on that issue was 12 percent, explain why the firm’s current cost of preferred capital is not likely to equal 12 percent?
> Maltese Falcone, Inc., has not checked its weighted average cost of capital for four years. Firm management claims that since Maltese has not had to raise capital for new projects in four years, they should not have to worry about their current weighted
> Describe why it is not usually appropriate to use the coupon rate on a firm’s bonds to estimate the pretax cost of debt for the firm?
> Your firm will have a fixed interest expense for the next 10 years. You recently found out that the marginal income tax rate for the firm will change from 30 percent to 40 percent next year. Describe how the change will affect the cash flow available to
> Your friend has recently told you that the federal government effectively subsidizes the use of debt financing (vs. equity financing) for corporations. Do you agree with that statement? Explain?
> With respect to the level of risk and the required return for a firm’s portfolio of projects, discuss how the market and a firm’s management can have inconsistent information and expectations?
> Which is easier to calculate directly, the expected rate of return on the assets of a firm or the expected rate of return on the firm’s debt and equity? Assume that you are an outsider to the firm?
> Your boss just finished computing your firm’s weighted average cost of capital. He is relieved because he says that he can now use that cost of capital to evaluate all projects that the firm is considering for the next four years. Evaluate that statement
> What are the differences between capital projects that are independent, mutually exclusive, and contingent?
> Explain why the required rate of return on a firm’s assets must be equal to the weighted average cost of capital associated with its liabilities and equity?
> How does the pretax operating cash flow for a project differ from the economic profit for that project?
> The economics break-even calculation assumes that the number of units sold is the same each year during the life of the project. It is possible for the NPV of a project to be negative if unit sakes are not the same each year and the average unit sales ar
> What is the fundamental difference between a sensitivity analysis and a scenario analysis?
> Is it possible to have a crossover point where the accounting break-even point is the same for two alternatives - that is, above the break-even point for a low-fixed-cost alternative but below the break-even point for a high-fixed-cost alternative? Expla
> Describe how the pretax operating cash flow break-even point is related to the economic break-even point?
> Explain how EBITDA differs from incremental after-tax free cash flows (FCF) and discuss the types of businesses for which this difference would be especially small or large?
> Discuss the interpretation of the degree of accounting operating leverage and degree of pretax cash flow operating leverage?
> You own a firm with a single new product that is about to be introduced to the public for the first time. Your marketing analysis suggests that the annual demand for this product could be anywhere between 500,000 units and 5,000,000 units. Given such a w
> What is the advantage of using a simulation analysis instead of a scenario analysis to assess the risk of a project?
> Why are capital investments considered the most important decisions made by a firm’s management?
> You are involved in the planning process for a firm that is expected to have a large increase in sales next year. Which type of firm would benefit the most from that sales increase: a firm with low fixed costs and high variable costs or a firm with high
> Explain the difference between marginal and average tax rates, and identify which of these rates is used in capital budgeting and why?
> How is the MACRS depreciation method under IRS rules different from the straight-line depreciation allowed under GAAP rules? What is the implication on incremental after-tax free cash flows from firms’ investments?
> High-End Fashions, Inc., bought a production line of ankle-length skirts last year at a cost of $500,000. This year, however, miniskirts are in and ankle-length skirts are completely out of fashion. High-End has the option to rebuild the production line
> QualityLiving Trust is a real estate investment company that builds and remodels apartment buildings in northern California. It is currently considering remodeling a few idle buildings that it owns in San Jose into luxury apartment buildings. The company
> MusicHeaven, Inc., is a producer of media players which currently have either 20 gigabytes or 30 gigabytes of storage. Now the company is considering launching a new production line making mini media players with 5 gigabytes of storage. Analysts forecast
> Suppose that FRA Corporation already has divisions in both Dallas and Houston. FRA is now considering setting up a third division in Austin. This expansion will require that one senior manager from Dallas and one from Houston relocate to Austin. Ignore r
> You are providing financial advice to a shrimp farmer who will be harvesting his last crop of farm-raised shrimp. His current shrimp crop is very young and will, therefore, grow and become more valuable as their weight increases. Describe how you would d
> What is the opportunity cost of using an existing asset? Give an example of the opportunity cost of using the excess capacity of a machine?
> When two mutually exclusive projects have different lives, how can an analyst determine which is better? What is the underlying assumption in this method?
> Describe the process of capital rationing?
> Do you agree or disagree with the following statement given the discussion in this chapter? We can calculate future cash flows precisely and obtain an exact value for the NPV of an investment?
> Under what circumstances might the IRR and NPV approaches produce conflicting results?
> What are the strengths and weaknesses of the accounting rate of return approach?
> Identify the weaknesses of the payback period method?
> a. A firm invests in a project that is expected to earn a return of 12 percent. If the appropriate cost of capital is also 12 percent, did the firm make the right decision. Explain. b. What is the impact on the firm if it accepts a project with a negati
> In the context of capital budgeting, what is “capital rationing”?
> a. Sykes, Inc. management is considering two projects: a plant expansion and a new computer system for the firm’s production department. Classify these projects as independent, mutually exclusive, or contingent projects and explain your reasoning. b. A c
> Elkridge Construction Company has an overall (composite) cost of capital of 12 percent. This cost of capital reflects the cost of capital for an Elkridge Construction project with average risk. However, the firm takes on projects of various risk levels.
> Explain why the cost of capital is referred to as the “hurdle” rate in capital budgeting?
> The profitability index is a tool for measuring a project’s benefits relative to its costs. How might this help to eliminate bias in project selection?
> What is the cost of capital?
> What is the general formula used to calculate the price of a share of a stock? What does it mean?
> Select the best answer for each of the following questions. Explain the reasons for your selection. a. Which of the following is not a financial statement assertion made by management? (1) Existence of recorded assets and liabilities. (2) Completeness of
> For each definition (or portion of a definition) in the first column, select the term that most closely applies. Each term may be used only once or not at all. Partial (or Complete) Definition Term a. A federal securities statute covering registrat
