Question

3. Consider a simple firm that has the following market value balance sheet: Liabilities & Equity $1.000 Debt $430 Equity 570
0 0
Add a comment Improve this question Transcribed image text
Answer #1

1). Asset is worth $1,200 in one year then ROA = (asset worth after 1 year/current asset worth)-1 = (1,200/1,000) -1 = 20.0%

2). Asset is worth $960 after one year then ROA = (960/1,000) -1 = -4.0%

3). Expected asset worth after one year = average of expected worths = (1,200 + 960)/2 = 1,080

Expected return on assets = (1,080/1,000) -1 = 8.0%

4). Expected return on debt will be constant as interest rate is fixed. Expected return will be 4.8%.

5). If equity is $749.36 in one year then return on equity = (equity value after 1 year/current equity value) -1 = (749.36/570)-1 = 31.5%

6). If equity is $509.36 in one year then return on equity = (509.36/570)-1 = -10.6%

7). Expected equity value after 1 year = average of expected values = (749.36+509.36)/2 = 629.36

Expected return on equity = (629.36/570) -1 = 10.4%

8). Expected pre-tax return on a portfolio of 43% debt and 57% equity = sum of weighted returns

= (43%*4.8%) + (57%*10.4%) = 8.0%

Add a comment
Know the answer?
Add Answer to:
3. Consider a simple firm that has the following market value balance sheet: Liabilities & Equity...
Your Answer:

Post as a guest

Your Name:

What's your source?

Earn Coins

Coins can be redeemed for fabulous gifts.

Not the answer you're looking for? Ask your own homework help question. Our experts will answer your question WITHIN MINUTES for Free.
Similar Homework Help Questions
  • Consider a simple firm that has the following market-value balance sheet: 3. Assets Liabilities & Equity...

    Consider a simple firm that has the following market-value balance sheet: 3. Assets Liabilities & Equity Debt $1,000 $430 570 Equity Next year, there are two possible values for its assets, each equally likely: $1,200 and $960. Its debt will be due with 4.8% interest. Because all of the cash flows from the assets must go either to the debt or the equity, if you hold a portfolio of the debt and equity in the same proportions as the firm's...

  • 3. Consider a simple firm that has the following market value balance sheet: Liabilities & Equity $1.000 Debt...

    3. Consider a simple firm that has the following market value balance sheet: Liabilities & Equity $1.000 Debt $430 Equity 570 Assets Next year, there are two possible values for its assets, each equally likely: $1,200 and $960. Its debt will be due with 4.8% interest. Because all of the cash flows from the assets must go either to the debt or the equity. If you hold a portfolio of the debt and equity in the same proportions as the...

  • 3. Consider a simple firm that has the following market value balance sheet: Assets Liabilities &...

    3. Consider a simple firm that has the following market value balance sheet: Assets Liabilities & Equity $1,000 $430 Debt Equity 570 Next year, there are two possible values for its assets, each equally likely: $1,200 and $960. Its debt will be due with 4.8% interest. Because all of the cash flows from the assets must go either to the debt or the equity, if you hold a portfolio of the debt and equity in the same proportions as the...

  • Q1. Firm XYZ is currently financed entirely with equity. The market value of the firm's assets...

    Q1. Firm XYZ is currently financed entirely with equity. The market value of the firm's assets and equity is ?? = ?? = 500, and the expected return on the firm's assets and equity is ?? = ?? = 12.5 percent. Suppose the firm issues debt with a value of ? = 200, and uses the proceeds to retire equity. The market value of the firm remains the same, ?? = ?? + ? = 500. If the expected return...

  • Market return and beta of equity are not given in this question. Consider a firm whose...

    Market return and beta of equity are not given in this question. Consider a firm whose only asset is a plot of vacant land, and whose only liability is debt of $15.3 million due in one year. If left vacant, the land will be worth $9.7 million in one year. Alternatively, the firm can develop the land at an up-front cost of $19.9 million. The developed the land will be worth $35.8 million in one year. Suppose the risk-free interest...

  • Hatter, Inc., has equity with a market value of $23.3 million and debt with a market...

    Hatter, Inc., has equity with a market value of $23.3 million and debt with a market value of $6.99 million. The cost of debt is 9 percent per year. Treasury bills that mature in one year yield 5 percent per year, and the expected return on the market portfolio over the next year is 12 percent. The beta of the company’s equity is 1.18. The firm pays no taxes. a. What is the company’s debt?equity ratio? (Do not round intermediate...

  • Garwryk, Inc., which is financed with debt and​ equity, presently has a debt ratio of 79...

    Garwryk, Inc., which is financed with debt and​ equity, presently has a debt ratio of 79 percent. What is the​ firm's equity​ multiplier? How is the equity multiplier related to the​ firm's use of debt financing​ (i.e., if the firm increased its use of debt financing would this increase or decrease its equity​ multiplier)? Explain. What is the​ firm's equity​ multiplier? The equity multiplier is given​ by: Equity Multiplier equals StartFraction 1 Over 1 minus Debt Ratio EndFraction The equity...

  • The Paulson Company's year-end balance sheet is shown below. Its cost of common equity is 16%,...

    The Paulson Company's year-end balance sheet is shown below. Its cost of common equity is 16%, its before-tax cost of debt is 10%, and its marginal tax rate is 25%. Assume that the firm's long-term debt sells at par value. The firm's total debt, which is the sum of the company's short. term debt and long-term debt, equals $1,143. The firm has 576 shares of common stock outstanding that sell for $4.00 per share. Assets Liabilities And Equity Cash $...

  • Consider the following company's balance sheet and income statement. Balance Sheet Liabilities and Equity Assets Cash...

    Consider the following company's balance sheet and income statement. Balance Sheet Liabilities and Equity Assets Cash Accounts receivable Inventory Total current assets Fixed assets $ 12,000 Accounts payable 67,000 Notes payable $ 38,000 20,000 48,000 127,000 Total current liabilities 58,000 20,000 125,000 $203,000 76,000 Long-term debt Equity $203,000 Total liabilities and equity Total assets Income Statement Sales (all on credit) Cost of goods sold Gross margin Selling and administrative expenses Depreciation EBIT Interest expense Earnings before tax Taxes Net income...

  • Acort Industries owns assets that will have a(n) 60% probability of having a market value of...

    Acort Industries owns assets that will have a(n) 60% probability of having a market value of $49 million in one year. There is a 40% chance that the assets will be worth only $19 million. The current risk-free rate is 7%, and Acort's assets have a cost of capital of 14% a. If Acort is unlevered, what is the current market value of its equity? b. Suppose instead that Acort has debt with a face value of $17 million due...

ADVERTISEMENT
Free Homework Help App
Download From Google Play
Scan Your Homework
to Get Instant Free Answers
Need Online Homework Help?
Ask a Question
Get Answers For Free
Most questions answered within 3 hours.
ADVERTISEMENT
ADVERTISEMENT
ADVERTISEMENT