Wacc, Corporate Finance

Assignment Help:
The cost of capital for a firm can differ from the cost of capital for each of its businesses. When a firm has multiple businesses, it is important to use the cost of capital appropriate to the particular project under consideration, rather than the firm''s overall cost of capital, when evaluating a proposed project. Renowned Cola, Inc.''s 2005 annual report explains that Renowned Cola''s investments are expected to generate cash returns that exceed its "long-term cost of capital," which Renowned Cola estimated to be approximately 10% at year-end 2005. Renowned Cola has three main lines of business, soft drinks, notably Dr. Cola; snack foods, such as Fritos; and restaurants. Restaurant investments include NPC, which has a beta of 0.80 and a debt-to-firm value ratio is 0.31. Renowned Cola did not report costs of capital separately for these three businesses.
Below, we have available year-end data for 2005 provided by Renowned Cola.
• Renowned Cola’s Items Values (M = millions)
• Cash and marketable securities $1,498M (market value assumed)
• Short-term debt $706M
• Long-term debt $8,509M ($8,747M market value)
• Common shares outstanding 788M
• Year-end share price $55.875
• Income tax rate 34%
• Renowned Cola''s beta 1.0
• Long-term borrowing rate 6.75%
• Short-term riskless rate 5.13%
• Intermediate-term riskless rate 5.50%
• Long-term riskless rate 6.00%
• Short-term market risk premium 8.40%
• Intermediate-term market risk premium 7.40%
• Long-term market risk premium 7.00%
• Given the above information, answer the below questions.
Questions:
1. Calculate the market value of Renowned Cola''s debt at year-end 2005. What is the book
value of debt? Why do usually use market or book values for debt? Explain. (4 marks)

2. To the nearest million, calculate the market value of Renowned Cola''s stockholders'' equity at year-end 2005. (3 marks)

3. Renowned Cola subtracts the value of its short-term debt from its total debt when calculating its "net debt ratio." Renowned Cola believes that the market values for its traded debt are not accurate because the bonds trade infrequently. Given this belief and their treatment of short-term debt, compute Renowned Cola''s net debt ratio using book values for debt and market value for equity. (5 marks)
4. Compute Leverage keeping the short-term debt as part of total debt. Using the CAPM compute re for short-term, medium-term, and long-term investments. Compute WACC for short-term, medium-term, and long-term investments. Suppose you were considering a long-term capital investment project, which WACC would you use and why? You can assume that the asset''s risk profile for the project mirrors Renowned Cola''s overall risk profile. (6 marks)

5. Should Renowned Cola use its overall cost of capital to evaluate its restaurant capital
investments? Under what circumstances would it be correct to do so? (4 marks)

Related Discussions:- Wacc

Prepare a statement of stockholders equity, On December 31, 2009, the Real ...

On December 31, 2009, the Real Weapons Factory reported total stockholders' equity of $447,200. On that date, total contributed capital was $360,000. During 2009, the firm had tota

Discuss the importance of a trade unions recognition, "The Code of Practice...

"The Code of Practice set out in the fourth schedule to the Employment Relations Act shall- (a) provide practical guidance for the promotion of good employment relations". (Se

Case Study, B. Zehpher Intelligence A second possible Acquisition, Zehpher ...

B. Zehpher Intelligence A second possible Acquisition, Zehpher Intelligence, an IT company is operating in a rapid growth industry. Relevant financials: Free cash flow for the pa

Evaluate the projects, Consider the subsequent information about four diffe...

Consider the subsequent information about four different projects. Each requires an initial outlay of Rs2,000,000 but the firm only has funds to undertake one project. The firm ha

Cash budget, You have been asked to prepare a cash budget for Whitborrow pl...

You have been asked to prepare a cash budget for Whitborrow plc for the next three months, October, November and December. The Managers are concerned that they may not have suffici

Capital structure, What the implications of the pecking order theory?

What the implications of the pecking order theory?

Mergers and Acquisition, #queM&A E-III Corp. is investigating the possible ...

#queM&A E-III Corp. is investigating the possible acquisition of Silicon Inc. Assume that both firms have no debt outstanding. E-III Corp. Silicon Inc. Pre-announcement stock price

What is phoenix activity, Q. What is phoenix activity? Phoenix activity...

Q. What is phoenix activity? Phoenix activity is "the evasion of tax and other liabilities, such as employee entitlements, through the deliberate, systematic and sometimes cycl

Write Your Message!

Captcha
Free Assignment Quote

Assured A++ Grade

Get guaranteed satisfaction & time on delivery in every assignment order you paid with us! We ensure premium quality solution document along with free turntin report!

All rights reserved! Copyrights ©2019-2020 ExpertsMind IT Educational Pvt Ltd