Solomon Auto Repair, Inc. is evaluating a project to purchase equipment that will not only expand the company's capacity but alsoimprove the quality of its repair services. The board of directors requires all capital investments to meet or exceed the minimumrequirement of a 10 percent rate of return. However, the board has not clearly defined the rate of return. The president and controllerare pondering two different rates of return: unadjusted rate of return and internal rate of return. The equipment, which costs $106,000,has a life expectancy of five years. The increased net profit per year will be approximately $6,100, and the increased cash inflow peryear will be approximately $29,405. (PV of $1 and PVA of $1) (Use appropriate factor(s) from the tables provided.)Requireda-1. Determine the unadjusted rate of return and (use average investment) to evaluate this project. (Round your answer to 2 decimalplaces. (i.e., 0.2345 should be entered as 23.45).)a-2. Based on the unadjusted rate of return, should the company invest in the equipment?b-1. What is the approximate internal rate of return of this project?b-2. Based on the internal rate of return, should the company invest in the equipment?c. Which method is better for this capital investment decision?a-1. Unadjusted rate of return%a-2. Should the company invest in the equipment?Yesb-1. Internal rate of return%b-2. Should the company invest in the equipment?YesC.Which method is better for this capital investment decision?Internal rate of return

IRR is a tool that is used to calculate the return over the project cash flow or its investment. If…

a-1. Determine the unadjusted rate of return and (use ave places. (i.e., 0.2345 should be entered as 23.45).) a-2. Based on the unadjusted rate of return, should the ce b-1. What is the approximate internal rate of return of this

a-1. Determine the unadjusted rate of return and (use ave places. (i.e., 0.2345 should be entered as 23.45).) a-2. Based on the unadjusted rate of return, should the ce b-1. What is the approximate internal rate of return of this

Intermediate Financial Management (MindTap Course List)

13th Edition

ISBN:9781337395083

Author:Eugene F. Brigham, Phillip R. Daves

Publisher:Eugene F. Brigham, Phillip R. Daves

Chapter11: Determining The Cost Of Capital

Section: Chapter Questions

Problem 1MC: During the last few years, Jana Industries has been too constrained by the high cost of capital to...

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Perez Auto Repair, Inc. is evaluating a project to purchase equipment that will not only expand the company's capacity but also improve the quality of its repair services. The board of directors requires all capital investments to meet or exceed the minimum requirement of a 10 percent rate of return. However, the board has not clearly defined the rate of return. The president and controller are pondering two different rates of return: unadjusted rate of return and internal rate of return. The equipment, which costs $109,000, has a life expectancy of five years. The increased net profit per year will be approximately $6,600, and the increased cash inflow per year will be approximately $28,023. (PV of $1 and PVA of $1) (Use appropriate factor(s) from the tables provided.) Required a-1. Determine the unadjusted rate of return and (use average investment) to evaluate this project. (Round your answer to 2 decimal places. (i.e., 0.2345 should be entered as 23.45).) a-2. Based on the…
The senior VP in charge has asked that you make a recommendation for the purchase of new equipment.Ideally, the company wants to limit its capital investment to $500,000. However, if an asset meritsspending more, an investment exceeding this limit may be considered. You assemble a team to helpyou. Your goal is to determine which option will result in the best investment for the company. Toencourage capital investments, the government has exempted taxes on profits from new investments.This legislation is to be in effect for the foreseeable future.The average reported operating income for the company is $1,430,500.The company uses an 11% discount rate in evaluating capital investments.The team is considering the following optionsOption 1:The asset cost is $300,000.The asset is expected to have an 8-year useful life with no salvage value.Straight-line depreciation is used.The net cash inflow is expected to be $62,000 each year for 8 years.A significant portion of this asset is made from…
During the last few years, Jana Industries has been too constrained by the high cost of capital to make many capital investments. Recently, though, capital costs have been declining, and the company has decided to look seriously at a major expansion program proposed by the marketing department. Assume that you are an assistant to Leigh Jones, the financial vice president. Your first task is to estimate Jana’s cost of capital. Jones has provided you with the following data, which she believes may be relevant to your task: The firm’s tax rate is 40%. The current price of Jana’s 12% coupon, semiannual payment, noncallable bonds with 15 years remaining to maturity is $1,153.72. Jana does not use short-term interest-bearing debt on a permanent basis. New bonds would be privately placed with no flotation cost. The current price of the firm’s 10%, $100 par value, quarterly dividend, perpetual preferred stock is $116.95. Jana would incur flotation costs equal to 5% of the proceeds on a new issue. Jana’s common stock is currently selling at $50 per share. Its last dividend (D0) was $3.12, and dividends are expected to grow at a constant rate of 5.8% in the foreseeable future. Jana’s beta is 1.2, the yield on T-bonds is 5.6%, and the market risk premium is estimated to be 6%. For the own-bond-yield-plus-judgmental-risk-premium approach, the firm uses a 3.2% risk premium. Jana’s target capital structure is 30% long-term debt, 10% preferred stock, and 60% common equity. To help you structure the task, Leigh Jones has asked you to answer the following questions: (1) What sources of capital should be included when you estimate Jana’s weighted average cost of capital? (2) Should the component costs be figured on a before-tax or an after-tax basis? (3) Should the costs be historical (embedded) costs or new (marginal) costs?
Barnard Manufacturing is considering three capital investment proposals. At this time, Barnard only has funds available to pursue one of the three investments. |(Click the icon to review the proposals.) Which investment should Barnard pursue at this time? Why? Since each investment requires a different initial investment and presents a positive NPV, Barnard Manufacturing should use the profitability index to compare the profitability of each investment. Select the labels for the evaluation measure you determined above. Enter the amounts into the formula, beginning with Equipment A, and calculate the amount you will use to evaluate each investment. (Enter all amounts as positive numbers. Round the evaluation measure to two decimal places, X.XX.) - X Data Table Equipment A Equipment B Equipment C Present value of net cash inflows 1,832,478 S 1,865,471 $ 2,169,724 (1,650,881) (1,516,643) (1,749,777) Initial Investment 181,597 S 348,828 S 419,947 NPV Print Done
Sam Strother and Shawna Tibbs are vice presidents of Mutual of Seattle Insurance Company and co-directors of the company’s pension fund management division. An important new client, the North-Western Municipal Alliance, has requested that Mutual of Seattle present an investment seminar to the mayors of the represented cities, and Strother and Tibbs, who will make the actual presentation. C) How does one determine the value of any asset whose value is based on expected future cash flows? D)How is the value of a bond determined? What is the value of a 10-year, $1,000 par value bond with a 10% annual coupon if its required rate of return is 10%? E) What would be the value of the bond described in Part d if, just after it had been issued, the expected inflation rate rose by 3 percentage points, causing investors to require a 13% return? Would we now have a discount or a premium bond?
Boswell Manufacturing Company has been in business for five years. Thecompany has now decided to expand its operations. To finance this process, the company is considering two approaches: (1) Lease the assets that are needed on a long term basis or (2) Issue bonds and use the proceeds to purchase the assets. The CEO is seeking your advice on the matter. Without knowledge of the comparative cost involved, how would you advise him in the following questions: (i) What might be the advantages and disadvantages of leasing the assetsinstead of owning them. (List at least three advantages and threedisadvantages) (ii) How will leasing the assets instead of owning them affect the financialstatements?
During the last few years, Harry Davis Industries has been too constrained by the high cost of capital to makemany capital investments. Recently, though, capital costs have been declining, and the company has decidedto look seriously at a major expansion program proposed by the marketing department. Assume that you arean assistant to Leigh Jones, the financial vice president. Your first task is to estimate Harry Davis’s cost ofcapital. Jones has provided you with the following data, which she believes may be relevant to your task:(1) The firm’s tax rate is 40%.(2) The current price of Harry Davis’s 12% coupon, semi-annual payment, noncallable bonds with 15 yearsremaining to maturity is $1,225.72. Harry Davis does not use short-term interest-bearing debt on a permanentbasis. New bonds would be privately placed with no flotation cost.(3) The current price of the firm’s 10%, $100 par value, quarterly dividend, perpetual preferred stock is $117.Harry Davis would incur flotation costs equal…
Shaylee Corporation has $2.00 million to invest in new projects. The company's managers have presented a number of possible options that the board must prioritize. Information about the projects follows: Initial investment Present value of future cash flows Required: 1. Is Shaylee able to invest in all of these projects simultaneously? 2-a. Calculate the profitability index for each project. 2-b. What is Shaylee's order of preference based on the profitability index? Complete this question by entering your answers in the tabs below. Req 1 Project A $ 435,000 785,000 Req 2A and 2B Is Shaylee able to invest in all of these projects simultaneously? Is Shaylee able to invest in all of these projects simultaneously? Project C $ 740,000 1,220,000 Project D $ 965,000 1,580,000
Fountain Corporation’s economists estimate that a good business environment and a bad business environment are equally likely for the coming year. The managers of the company must choose between two mutually exclusive projects. Assume that the project the company chooses will be the firm’s only activity and that the firm will close one year from today. The company is obligated to make a $4,200 payment to bondholders at the end of the year. The projects have the same systematic risk but different volatilities. Consider the following information pertaining to the two projects: Economy Probability Low-Volatility Project Payoff High-Volatility Project Payoff Bad .50 $ 4,200 $ 3,400 Good .50 4,600 4,900 a. What is the expected value of the company if the low-volatility project is undertaken? What if the high-volatility project is undertaken? (Do not round intermediate calculations.) b. What is the expected value of the company’s equity if the low-volatility…
Fountain Corporation’s economists estimate that a good business environment and a bad business environment are equally likely for the coming year. The managers of the company must choose between two mutually exclusive projects. Assume that the project the company chooses will be the firm’s only activity and that the firm will close one year from today. The company is obligated to make a $4,100 payment to bondholders at the end of the year. The projects have the same systematic risk but different volatilities. Consider the following information pertaining to the two projects: Economy Probability Low-Volatility Project Payoff High-Volatility Project Payoff Bad .50 $ 4,100 $ 3,500 Good .50 4,600 5,200 a. What is the expected value of the company if the low-volatility project is undertaken? The high-volatility project? (Do not round intermediate calculations and round your answers to the nearest whole number, e.g., 32.) b. What is the expected value of the…
During the last few years, Helney Industries has been too constrained by the high cost of capital to make many capital investments. Recently, though, capital costs have been declining, and the company has decided to look seriously at a major expansion program proposed by the marketing department. Assume that you are an assistant to Leigh Jones, the financial vice president. Your first task is to estimate Helney’s cost of capital. Jones has provided you with the following data, which she believes may be relevant to your task:(1) The firm’s tax rate is 40%.(2) The current price of Harry Davis’s 12% coupon, semi-annual payment, noncallable bonds with 15 years remaining to maturity is $1,225.72. Helney does not use short-term interest-bearing debt on a permanent basis.(3) The current price of the firm’s 10%, $100 par value, quarterly dividend, perpetual preferred stock is $117.(4) Helney’s common stock is currently selling at $50 per share. Its last dividend (D0) was $3.12, and dividends…
During the last few years, Harry Davis Industries has been too constrained by the high cost of capital to make many capital investments. Recently, though, capital costs have been declining, and the company has decided to look seriously at a major expansion program proposed by the marketing department. Assume that you are an assistant to Leigh Jones, the financial vice president. Your first task is to estimate Harry Davis’ cost of capital. Jones has provided you with the following data, which she believes may be relevant to your task: •The firm’s tax rate is 35%. •The current price of Harry Davis’ 12.5% coupon, semiannual payment, noncallable bonds with 15 years remaining to maturity is $1105.67. Harry Davis does not use short-term interest-bearing debt on a permanent basis. New bonds would be privately placed with no flotation cost. •The current price of the firm’s 10%, $100 par value, quarterly dividend, perpetual preferred stock is $114.27. Harry Davis would incur flotation costs…