Question

ABC Co. and XYZ Co. are identical firms in all respects except for their capital structure. ABC is all equity financed with $800,000 in stock. XYZ uses both stock and perpetual debt; its stock is worth $400,000 and the interest rate on its debt is 10 percent. Both firms expect EBIT to be $97,000. Ignore taxes.

  

a.	Richard owns $80,000 worth of XYZ’s stock. What rate of return is he expecting? (Do not round intermediate calculations and enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)
b.	Suppose Richard invests in ABC Co. and uses homemade leverage to match his cash flow in part (a). Calculate his total cash flow and rate of return. (Do not round intermediate calculations. Enter your return answer as a percent rounded to 2 decimal places, e.g., 32.16.)
c.	What is the cost of equity for ABC and XYZ? (Do not round intermediate calculations and enter your answers as a percent rounded to 2 decimal places, e.g., 32.16.)
d.	What is the WACC for ABC and XYZ? (Do not round intermediate calculations and enter your answers as a percent rounded to 2 decimal places, e.g., 32.16.)

     

Answer 1

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ke - Microsoft Excel (Product Activation Failed) Review File Home Insert Page Layout Formulas Data View Add-Ins E AutoSum - Cut A A Wrap Text Calibri 11 General E Copy Fill Merge & Center Insert Delete Format Paste В IU- +.0 .00 Conditional Format Cell Sort & Find & Filter Select % .00 0 Format Painter Clear Formatting as Table Styles Clipboard Font Alignment Number Styles Cells Editing f&x QB1022 PX QG РT PU PV PW PY PZ QA Ов QC QD QE QF QH QI 1022 АВС XYZ 1023 400000 EQUITY 800000 400000 1024 DEBT 1025 TОTAL 800000 800000 1026 1027 RICHARD HAS INVESTMENT IN XYZ 1028 1029 80000 RICHARD INVESTMENT 1030 1031 EBIT 97000 40000 [400000 X 10% LESS INTEREST 1032 1033 CASH FLOW FOR SHAREHOLDERS 57000 1034 [57000 X 80000/400000] [11400/80000] 1035 CASH FLOW TO RICHARD 11400.00 14.25% 1036 RATE OF RETURN а 1037 20% [80000/400000] b 1038 RICHARD INVESTMENT IN XYZ = 160000 [20% OF 800000] 1039 NOW INVESTMENT REQUIRED IN ABC 1040 LESS AVAILABLE AMOUNT 80000 SO BORROWING 1041 80000 1042 YIELD bond portfolio RESI e UTILITY, SHARPE, beta CONVEXITY DGM beta INTL CAP BUD LEASING PV, FV, ANNUITY DIR right clean port future INDEX cap stru WACC 120 % КЕ САРМ 画回四 II erences: CF670 Rea WA 04:59 ENG taa ו 29-10-2019

ke - Microsoft Excel (Product Activation Failed) Review File Home Insert Page Layout Formulas Data View Add-Ins Cut E AutoSum - A A Wrap Text Calibri 11 General Copy Fill Merge & Center $ % Insert Delete Format Paste +.0 .00 Conditional Format Cell Sort & Find & Filter Select BIU .00 0 Format Painter Clear Formatting as Table Styles Alignment Clipboard Font Number Styles Cells Editing f&x QB1061 QG PT PU PV PW PX PY PZ QA QB QC QD QE QF QH QI 1042 EBIT OF ABC 1043 97000 1044 LESS INTEREST 0 1045 CASH FLOW FOR SHAREHOLDERS 97000 1046 19400 [97000 X 160000/800000] 8000 [80000 X 10% 1047 CASH FLOW FROM DIVIDEND 1048 LESS INTEREST PAID ON BORROWING 1049 CASH FLOW TO RICHARD 11400 (SAME AS XYZ) 1050 7.13% [11400/160000] 1051 RATE OF RETURN 1052 COST OF EQUITY 1053 C EBIT/VU 97000/800000 = 12.13% AS IT IS UNLEVERED 1054 ABC 14.25% re 12.13% + (400000/400000) (12.13%-10%) re ru(D/S) (ru-rd) 1055 XYZ 1056 d 1057 WACC 12.13% AS IS UNLEVERED 1058 ABC WACC = Wd * rd We*re 12.13% WACC =0.5*(10%)+0.5*(14.25%) 1059 XYZ 1060 1061 1062 YIELD bond portfolio RESI e UTILITY, SHARPE, beta DGM beta LEASING PV, FV, ANNUITY DIR right КЕ САРМ clean cap stru WACC 120 % port future INDEX KE CAPM cONvexity INTL CAP BUD 画回四 II erences: CF670 Rea WA 04:59 ENG taa ו 29-10-2019