Question

SECTION B Answer any FOUR questions in this section. Each whole question carries FIVE marks Acme Corporation has a beta of 2.0. The standard deviation of the market portfolio is 20% and Acme has a standard deviation of 50% a. Estimate the correlation between Acme and the market portfolio (3 marks) (2 marks) b. What proportion of Acme's risk is specific risk? Safecorp currently has £500 million in debt and the market value of its equity is £800 million Beta of its stock is 1.20. The company is planning a leveraged buyout (LBO) that will increase its debt-to-equity ratio to 5. If the marginal tax rate is 20%, what will be the equity beta of the firm after the LBO? (5 marks) 3. Beta plc is in steady state and has book value of equity of £500m. Its return on equity is 10%, cost of equity is 8%, and the payout ratio is 60%. a. What is the expected steady state growth rate for Beta plc? (2 marks) b. What is the value of equity of the company? (3 marks) SWC plc is a grocery chain. Its reported debt to capital ratio is 20%, and return on capital is 8%, on a book value of invested capital of £500 million. If the operating lease expense in the current year is £40 million, the present value of lease commitments is £400 million, the tax rate is 20%, and the pre-tax cost of debt is 5%, estimate the company's adjusted debt to capital and return on capital (5 marks) 5. Rich Plc generated £100 million in net income and £80 million in Free cash flow to equity (FCFE) in the latest year. The company paid out £70m in dividends. The book value of equity is £800 million, it has debt of £200 million and cash of £50 million. If the tax rate is 20%, what is the a. Equity reinvestment rate? (2.5 marks) (2.5 marks) b. Expected growth in net income?

Answer 1

Question 1.

Beta = 2.0

Standard Devaition of the market = 20%

Standard Devaition of the Acme = 50%

Part A)

We know Beta = correlation * Standard Deviation of Acme / Standard Deviation of market

2.0 = correlation * 50% / 20%

Correlation = 2.0 * 20% / 50%

Correlation = 0.8

Part B)

Specific risk = Standard Deviation of Acme - beta * standard deviation of market

Specific risk = 50% - 2.0 * 20%

Specific risk = 10%

Specific risk as % of Total Risk of Acme = 10% / 50%

Specific risk as % of Total Risk of Acme = 1/5

Dear Student, as per HOMEWORKLIB RULES, request you to raise fresh queries for the other questions.