[darkshai]

1. Photochronograph Corporation (PC) manufactures time series photographic equipment. It is currently at its
target debt-equity ratio of 1.2. It's considering building a new $40 million manufacturing facility. This new
plant is expected to generate after tax cash flows of $5.5 million in perpetuity. There are three financing
options:
1). A new issue of common stock. The flotation costs of the new common stock would be 8 percent of the
amount raised. The required return on the company's new equity is 18 percent.
2). A new issue of 20-year bonds. The flotation costs of the new bonds would be 3 percent of the proceeds. If
the company issues these new bonds at an annual coupon rate of 9 percent, they will sell at par.
3). Increased use of accounts payable financing. Because this financing is part of the company's ongoing daily
business, it has no flotation costs and the company assigns it a cost that is the same as the overall firm
WACC. Management has a target ratio of accounts payable to long-term debt of .25. (Assume there is no
difference between the pretax and after tax accounts payable cost.)
What is the NPV of the new plant? Assume that PC has a 35 percent tax rate.
2. Reilly Inc. is trying to determine its cost of debt. The company has a debt issue outstanding with 14 years to
maturity that is quoted at 85.1% of par value (i.e. $85.10). The issue makes semiannual payments and has an
embedded cost of 8% annually. What is the pretax cost of debt? If the tax rate is 40%, what is the aftertax
cost of debt?
3. The Aegon Group has a target capital structure of 40% common stock, 10% preferred stock, and 50% debt.
Its cost of equity is 16%, the cost of preferred stock is 7%, and the cost of debt is 12%. If the tax rate is 45%,
what is Aegon's WACC?
4. Pillsbury Corp. has a target debt/equity ratio of .65. Its cost of equity is 18.5% and its cost of debt is 13.25%.
If the tax rate is 42%, what is Pillsbury's WACC?
5. Starbuck Corp.'s WACC is 12.25%. The company's cost of equity is 18% and its cost of debt is 10%. If the
tax rate is 40%, what is Starbuck's target debt/equity ratio?
6. Walt Disney Company has a target debt/equity ratio of 1.4. Its WACC is 12% and the tax rate is 40%. If the
pretax cost of debt is 8%, what is the cost of equity?
7. Ebay has an all equity firm with a current cost of (equity) capital of 16%. The risk-free rate is 6%, and the
market risk premium is 10%. Ebay is considering a new project that has 50% more beta risk than the firm's
assets currently have. The IRR on the new project is 20%. What is the cost of capital for the project? Should
the project be accepted?
8. A firm has an opportunity to invest in a project that will generate $55,000 per year for the next 10 years and
requires an initial investment of $300,000. The firm will need to raise equity to pay for the project, but the
flotation costs are 10% of the funds raised. If the firm's discount rate is 11%, should they invest in this
project?

[Curlyben]

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