CFA课后习题：公司金融

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44

Reading31■IntroductiontoCorporateGovernanceandOtherESGConsiderations

PRACTICEPROBLEMS

1

2

3

4

5

Corporategovernance:

A

B

C

complieswithasetofglobalstandards.

isindependentofbothshareholdertheoryandstakeholdertheory.

seekstominimizeandmanageconflictinginterestsbetweeninsidersand

externalshareholders.

Whichgroupofcompanystakeholderswouldbeleastaffectedifthefirm’s

financialpositionweakens?

A

B

C

Suppliers

Customers

Managersandemployees

Whichofthefollowingrepresentsaprincipal–agentconflictbetweenshare-

holdersandmanagement?

A

B

C

Risktolerance

Multipleshareclasses

Accountingandreportingpractices

Whichofthefollowingissuesdiscussedatashareholders’generalmeeting

wouldmostlikelyrequireonlyasimplemajorityvoteforapproval?

A

B

C

Votingonamerger

Electionofdirectors

Amendmentstobylaws

Whichofthefollowingstatementsregardingstakeholdermanagementismost

accurate?

A

B

C

Companymanagementensurescompliancewithallapplicablelawsand

regulations.

Directorsareexcludedfromvotingontransactionsinwhichtheyhold

materialinterest.

euseofvariableincentiveplansinexecutiveremunerationisdecreasing.

6

7

Whichofthefollowingrepresentsaresponsibilityofacompany’sboardof

directors?

A

B

C

Implementationofstrategy

Enterpriseriskmanagement

Consideringtheinterestsofshareholdersonly

Whichofthefollowingstatementsaboutnon-marketfactorsincorporategov-

ernanceismostaccurate?

A

Stakeholderscanspreadinformationquicklyandshapepublicopinion.

B

Acivillawsystemoffersbetterprotectionofshareholderintereststhandoes

acommonlawsystem.

C

Vendorsprovidingcorporategovernanceserviceshavelimitedinfluenceon

corporategovernancepractices.

8

Whichofthefollowingstatementsregardingcorporateshareholdersismost

accurate?

A

Cross-shareholdingshelppromotecorporatemergers.

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PracticeProblems

45

B

C

Dual-classstructuresareusedtoaligneconomicownershipwithcontrol.

Affiliatedshareholderscanprotectacompanyagainsthostiletakeoverbids.

9

Whichofthefollowingstatementsaboutenvironmental,social,andgovernance

(ESG)ininvestmentanalysisiscorrect?

A

B

C

ESGfactorsarestrictlyintangibleinnature.

ESGterminologyiseasilydistinguishableamonginvestors.

Environmentalandsocialfactorshavebeenadoptedininvestmentanalysis

moreslowlythangovernancefactors.

10WhichofthefollowingstatementsregardingESGimplementationmethodsis

mostaccurate?

A

B

C

Negativescreeningisthemostcommonlyappliedmethod.

ematicinvestingconsidersmultiplefactors.

Relative/best-in-classscreeningexcludesindustrieswithunfavorableESG

aspects.

©CFAInstitute.Forcandidateuseonly.Notfordistribution.

46

Reading31■IntroductiontoCorporateGovernanceandOtherESGConsiderations

SOLUTIONS

1

Ciscorrect.Corporategovernanceisthearrangementofchecks,balances,and

incentivesacompanyneedstominimizeandmanagetheconflictinginterests

betweeninsidersandexternalshareholders.

2

3

Biscorrect.Comparedwithotherstakeholdergroups,customerstendtobe

lessconcernedwith,andaffectedby,acompany’sfinancialperformance.

Aiscorrect.Shareholderandmanagerinterestscandivergewithrespecttorisk

tolerance.Insomecases,shareholderswithdiversifiedinvestmentportfolios

canhaveafairlyhighrisktolerancebecausespecificcompanyriskcanbediver-

sifiedaway.Managersaretypicallymoreriskaverseintheircorporatedecision

makingtobetterprotecttheiremploymentstatus.

4

5

Biscorrect.eelectionofdirectorsisconsideredanordinaryresolutionand,

therefore,requiresonlyasimplemajorityofvotestobepassed.

Biscorrect.Often,policiesonrelated-partytransactionsrequirethatsuch

transactionsormattersbevotedonbytheboard(orshareholders),excluding

thedirectorholdingtheinterest.

6

7

Biscorrect.eboardtypicallyensuresthatthecompanyhasanappropriate

enterpriseriskmanagementsysteminplace.

Aiscorrect.Socialmediahasbecomeapowerfultoolforstakeholdersto

instantlybroadcastinformationwithlittlecostoreffortandtocompetewith

companymanagementininfluencingpublicsentiment.

8

9

Ciscorrect.epresenceofasizableaffiliatedstockholder(suchasanindi-

vidual,familytrust,endowment,orprivateequityfund)canshieldacompany

fromtheeffectsofvotingbyoutsideshareholders.

Ciscorrect.erisksofpoorcorporategovernancehavelongbeenunderstood

byanalystsandshareholders.Incontrast,thepracticeofconsideringenviron-

mentalandsocialfactorshasbeenslowertotakehold.

10Aiscorrect.Negativescreening,whichreferstothepracticeofexcluding

certainsectors,companies,orpracticesthatviolateacceptedstandardsinsuch

areasashumanrightsorenvironmentalconcerns,isthemostcommonESG

investmentstyle.

©CFAInstitute.Forcandidateuseonly.Notfordistribution.

PracticeProblems

69

PRACTICEPROBLEMS

1

2

enetpresentvalue(NPV)ofaninvestmentisequaltothesumofthe

expectedcashflowsdiscountedatthe:

A

B

C

internalrateofreturn.

risk-freerate.

opportunitycostofcapital.

A$2.2millioninvestmentwillresultinthecashflowsshownbelow:

Year-EndCashFlow

Year

(millions)

1

2

3

4

$1.3

$1.6

$1.9

$0.8

Usingan8%opportunitycostofcapital,theproject’snetpresentvalue(NPV)is

closestto:

A

B

C

$2.47million.

$3.40million.

$4.67million.

3

4

einternalrateofreturn(IRR)isbestdescribedasthe:

A

B

C

opportunitycostofcapital.

time-weightedrateofreturn.

discountratethatmakesthenetpresentvalueequaltozero.

Athree-yearinvestmentrequiresaninitialoutlayof£1,000.Itisexpectedto

providethreeyear-endcashflowsof£200plusanetsalvagevalueof£700atthe

endofthreeyears.Itsinternalrateofreturn(IRR)isclosestto:

A

B

C

10%.

11%.

20%.

5

Giventhefollowingcashflowsforacapitalproject,calculatetheNPVandIRR.

erequiredrateofreturnis8percent.

Year

0

1

2

3

4

5

Cashflow

−50,000

15,000

15,000

20,000

10,000

5,000

NPV

IRR

A

$1,905

$1,905

$3,379

10.9%

26.0%

10.9%

B

C

6

Giventhefollowingcashflowsforacapitalproject,calculateitspaybackperiod

anddiscountedpaybackperiod.erequiredrateofreturnis8percent.

©2019CFAInstitute.Allrightsreserved.

70

Reading32■CapitalBudgeting

Year

0

1

2

3

4

5

Cashflow

−50,000

15,000

15,000

20,000

10,000

5,000

ediscountedpaybackperiodis:

A

B

C

0.16yearslongerthanthepaybackperiod.

0.51yearslongerthanthepaybackperiod.

1.01yearslongerthanthepaybackperiod.

7

8

9

Aninvestmentof$100generatesafter-taxcashflowsof$40inYear1,$80in

Year2,and$120inYear3.erequiredrateofreturnis20percent.enet

presentvalueisclosestto:

A

B

C

$42.22.

$58.33.

$68.52.

Aninvestmentof$150,000isexpectedtogenerateanafter-taxcashflowof

$100,000inoneyearandanother$120,000intwoyears.ecostofcapitalis

10percent.Whatistheinternalrateofreturn?

A

B

C

28.39percent.

28.59percent.

28.79percent.

KimCorporationisconsideringaninvestmentof750millionwonwith

expectedafter-taxcashinflowsof175millionwonperyearforsevenyears.e

requiredrateofreturnis10percent.Whatistheproject’s:

NPV?

IRR?

14.0%

23.3%

10.0%

A

B

C

102millionwon

157millionwon

193millionwon

10KimCorporationisconsideringaninvestmentof750millionwonwith

expectedafter-taxcashinflowsof175millionwonperyearforsevenyears.e

requiredrateofreturnis10percent.Expressedinyears,theproject’spayback

periodanddiscountedpaybackperiod,respectively,areclosestto:

A

B

C

4.3yearsand5.4years.

4.3yearsand5.9years.

4.8yearsand6.3years.

11Aninvestmentof$20,000willcreateaperpetualafter-taxcashflowof$2,000.

erequiredrateofreturnis8percent.Whatistheinvestment’sprofitability

index?

A

B

C

1.08.

1.16.

1.25.

12HermannCorporationisconsideringaninvestmentof€375millionwith

expectedafter-taxcashinflowsof€115millionperyearforsevenyearsandan

additionalafter-taxsalvagevalueof€50millioninYear7.erequiredrateof

returnis10percent.Whatistheinvestment’sPI?

A

1.19.

1.33.

B

PracticeProblems

71

C

1.56.

13ErinChouisreviewingaprofitableinvestmentprojectthathasaconventional

cashflowpattern.Ifthecashflowsfortheproject,initialoutlay,andfuture

after-taxcashflowsalldouble,ChouwouldpredictthattheIRRwould:

A

B

C

increaseandtheNPVwouldincrease.

staythesameandtheNPVwouldincrease.

staythesameandtheNPVwouldstaythesame.

14ShirleySheahasevaluatedaninvestmentproposalandfoundthatitspayback

periodisoneyear,ithasanegativeNPV,andithasapositiveIRR.Isthiscom-

binationofresultspossible?

A

B

C

Yes.

No,becauseaprojectwithapositiveIRRhasapositiveNPV.

No,becauseaprojectwithsucharapidpaybackperiodhasapositiveNPV.

15Aninvestmenthasanoutlayof100andafter-taxcashflowsof40annuallyfor

fouryears.Aprojectenhancementincreasestheoutlayby15andtheannual

after-taxcashflowsby5.Asaresult,theverticalinterceptoftheNPVprofileof

theenhancedprojectshifts:

A

B

C

upandthehorizontalinterceptshiftsleft.

upandthehorizontalinterceptshiftsright.

downandthehorizontalinterceptshiftsleft.

16Projects1and2havesimilaroutlays,althoughthepatternsoffuturecashflows

aredifferent.ecashflowsaswellastheNPVandIRRforthetwoprojectsare

shownbelow.Forbothprojects,therequiredrateofreturnis10percent.

CashFlows

Year

0

1

2

3

4

NPV

IRR(%)

Project1

Project2

−50

−50

20

0

20

0

20

0

20

100

13.40

18.30

21.86

18.92

etwoprojectsaremutuallyexclusive.Whatistheappropriateinvestment

decision?

A

B

C

Investinbothprojects.

InvestinProject1becauseithasthehigherIRR.

InvestinProject2becauseithasthehigherNPV.

17Considerthetwoprojectsbelow.ecashflowsaswellastheNPVandIRR

forthetwoprojectsaregiven.Forbothprojects,therequiredrateofreturnis

10percent.

CashFlows

Year

0

1

2

3

4

NPV

IRR(%)

Project1

Project2

−100

−100

36

0

36

0

36

0

36

175

14.12

19.53

16.37

15.02

WhatdiscountratewouldresultinthesameNPVforbothprojects?

A

B

C

Aratebetween0.00percentand10.00percent.

Aratebetween10.00percentand15.02percent.

Aratebetween15.02percentand16.37percent.

18WilsonFlanneryisconcernedthatthisprojecthasmultipleIRRs.

72

Reading32■CapitalBudgeting

Year

0

1

2

3

Cashflows

−50

100

0

−50

HowmanydiscountratesproduceazeroNPVforthisproject?

A

B

C

One,adiscountrateof0percent.

Two,discountratesof0percentand32percent.

Two,discountratesof0percentand62percent.

19Withregardtothenetpresentvalue(NPV)profilesoftwoprojects,thecross-

overrateisbestdescribedasthediscountrateatwhich:

A

B

C

twoprojectshavethesameNPV.

twoprojectshavethesameinternalrateofreturn.

aproject’sNPVchangesfrompositivetonegative.

20Withregardtonetpresentvalue(NPV)profiles,thepointatwhichaprofile

crossestheverticalaxisisbestdescribedas:

A

B

C

thepointatwhichtwoprojectshavethesameNPV.

thesumoftheundiscountedcashflowsfromaproject.

aproject’sinternalrateofreturnwhentheproject’sNPVisequaltozero.

21Withregardtonetpresentvalue(NPV)profiles,thepointatwhichaprofile

crossesthehorizontalaxisisbestdescribedas:

A

B

C

thepointatwhichtwoprojectshavethesameNPV.

thesumoftheundiscountedcashflowsfromaproject.

aproject’sinternalrateofreturnwhentheproject’sNPVisequaltozero.

22Withregardtocapitalbudgeting,anappropriateestimateoftheincremental

cashflowsfromaprojectisleastlikelytoinclude:

A

B

C

externalities.

interestcosts.

opportunitycosts.

Solutions

73

SOLUTIONS

1

Ciscorrect.eNPVsumstheproject’sexpectedcashflows(CF)discounted

attheopportunitycostofcapital.eNPVcalculationis

N

CF

(1+r)t

∑

t

NPV=

t=0

where

CF=theexpectednetcashflowattimet

t

N=theinvestment’sprojectedlife

r=thediscountrateoropportunitycostofcapital

2

Aiscorrect.

eNPV=−$2.2+

$1.3

(1.08)

$1.6

(1.08)2

$1.9

(1.08)3

$0.8

(1.08)4

+

+

+

=$2.47million.

3

4

Ciscorrect.einternalrateofreturniscomputedbyidentifyingallcashflows

andsolvingfortheratethatmakesthenetpresentvalueofthosecashflows

equaltozero.

Biscorrect.IRRisdeterminedbysettingthenetpresentvalueequaltozerofor

thecashflowsshowninthetable.

Year

CashFlow(£)

0

1

2

3

–1,000

200

200

900

5

Ciscorrect.

15,00015,00020,00010,0005,000

NPV=−50,000+

+

+

+

+

1.08

1.082

1.083

1.084

1.085

NPV=−50,000+13,888.89+12,860.08+15,876.64+7,350.30

+3,402.92

NPV=−50,000+53,378.83=3,378.83

eIRR,foundwithafinancialcalculator,is10.88percent.

Ciscorrect.

6

Year

0

1

2

3

4

5

Cashflow

−50,000

−50,000

−50,000

−50,000

15,000

−35,000

13,888.89

−36,111.11

15,000

−20,000

12,860.08

−23,251.03

20,000

0

15,876.64

−7,374.38

10,000

10,000

7,350.30

−24.09

5,000

15,000

3,402.92

3,378.83

Cumulativecashflow

Discountedcashflow

CumulativeDCF

Astheexhibitshows,thecumulativecashflowoffsetstheinitialinvestmentin

exactlythreeyears.epaybackperiodis3.00years.ediscountedpayback

periodisbetweenfourandfiveyears.ediscountedpaybackperiodis4years

74

Reading32■CapitalBudgeting

plus24.09/3,402.92=0.007ofthefifthyearcashflow,or4.007=4.01years.e

discountedpaybackperiodis4.01−3.00=1.01yearslongerthanthepayback

period.

7

8

Biscorrect.

3

CF

(1+r)t

40

1.20

80

120

∑

t

NPV=

=−100+

+

+

=$58.33

1.2021.203

t=0

Ciscorrect.eIRRcanbefoundusingafinancialcalculatororwithtrialand

error.Usingtrialanderror,thetotalPVisequaltozeroifthediscountrateis

28.79percent.

PresentValue

Year

CashFlow

28.19%

28.39%

28.59%

28.79%

0

1

2

−150,000

100,000

120,000

−150,000

78,009

73,025

1,034

−150,000

77,888

72,798

686

−150,000

77,767

72,572

338

−150,000

77,646

72,346

−8

Total

AmorepreciseIRRof28.7854percenthasatotalPVclosertozero.

Aiscorrect.

9

7

175

1.10t

∑

TheNPV=−750+

=−750+851.97=101.97millionwon.

t=1

eIRR,foundwithafinancialcalculator,is14.02percent.(ePVis−750,N

=7,andPMT=175.)

10Biscorrect.

Year

0

1

2

3

4

5

6

7

Cashflow

Cumulativecashflow

−750

−750

175

−575

175

−400

175

−225

175

−50

175

125

175

300

175

475

epaybackperiodisbetweenfourandfiveyears.epaybackperiodisfour

yearsplus50/175=0.29ofthefifthyearcashflow,or4.29years.

Year

0

1

2

3

4

5

6

7

Cashflow

Discountedcashflow

CumulativeDCF

−750

−750

−750

175

159.09

−590.91

175

144.63

−446.28

175

131.48

−314.80

175

119.53

−195.27

175

108.66

−86.61

175

98.78

12.17

175

89.80

101.97

ediscountedpaybackperiodisbetweenfiveandsixyears.ediscounted

paybackperiodisfiveyearsplus86.61/98.78=0.88ofthesixthyearcashflow,

or5.88years.

11Ciscorrect.

ThepresentvalueoffuturecashflowsisPV=

PV

2,000

0.08

25,000

=25,000

=1.25

TheprofitabilityindexisPI=

=

Investment20,000

Solutions

75

12Ciscorrect.

7

115

1.10t1.107

50

∑

PV=

+

=585.53millioneuros

t=1

585.53

375

PI=

=1.56

13Biscorrect.eIRRwouldstaythesamebecauseboththeinitialoutlayand

theafter-taxcashflowsdouble,sothatthereturnoneachdollarinvested

remainsthesame.Allofthecashflowsandtheirpresentvaluesdouble.e

differencebetweentotalpresentvalueofthefuturecashflowsandtheinitial

outlay(theNPV)alsodoubles.

14Aiscorrect.Ifthecumulativecashflowinoneyearequalstheoutlayand

additionalcashflowsarenotverylarge,thisscenarioispossible.Forexample,

assumetheoutlayis100,thecashflowinYear1is100andthecashflowinYear

2is5.erequiredreturnis10percent.isprojectwouldhaveapaybackof

1.0years,anNPVof−4.96,andanIRRof4.77percent.

15Aiscorrect.everticalinterceptchangesfrom60to65(NPVwhencost

ofcapitalis0%),andthehorizontalintercept(IRR,whenNPVequalszero)

changesfrom21.86percentto20.68percent.

16Ciscorrect.Whenvaluingmutuallyexclusiveprojects,thedecisionshould

bemadewiththeNPVmethodbecausethismethodusesthemostrealistic

discountrate,namelytheopportunitycostoffunds.Inthisexample,therein-

vestmentratefortheNPVmethod(here10percent)ismorerealisticthanthe

reinvestmentratefortheIRRmethod(here21.86percentor18.92percent).

17Biscorrect.Fortheseprojects,adiscountrateof13.16percentwouldyieldthe

sameNPVforboth(anNPVof6.73).

18Ciscorrect.Discountratesof0percentandapproximately61.8percentboth

giveazeroNPV.

Rate

NPV

0%

0.00

20%

4.40

40%

3.21

60%

0.29

61.8%

0.00

80%

−3.02

100%

−6.25

19Aiscorrect.ecrossoverrateisthediscountrateatwhichtheNPVprofiles

fortwoprojectscross;itistheonlypointwheretheNPVsoftheprojectsare

thesame.

20Biscorrect.everticalaxisrepresentsadiscountrateofzero.epoint

wheretheprofilecrossestheverticalaxisissimplythesumofthecashflows.

21Ciscorrect.ehorizontalaxisrepresentsanNPVofzero.Bydefinition,the

project’sIRRequalsanNPVofzero.

22Biscorrect.Coststofinancetheprojectaretakenintoaccountwhenthecash

flowsarediscountedattheappropriatecostofcapital;includinginterestcosts

inthecashflowswouldresultindouble-countingthecostofdebt.

PracticeProblems

111

PRACTICEPROBLEMS

1

2

ecostofequityisequaltothe:

A

B

C

expectedmarketreturn.

rateofreturnrequiredbystockholders.

costofretainedearningsplusdividends.

Whichofthefollowingstatementsiscorrect?

A

eappropriatetaxratetouseintheadjustmentofthebefore-taxcostof

debttodeterminetheafter-taxcostofdebtistheaveragetaxratebecause

interestisdeductibleagainstthecompany'sentiretaxableincome.

B

C

Foragivencompany,theafter-taxcostofdebtisgenerallylessthanboth

thecostofpreferredequityandthecostofcommonequity.

Foragivencompany,theinvestmentopportunityscheduleisupwardslop-

ingbecauseasacompanyinvestsmoreincapitalprojects,thereturnsfrom

investingincrease.

3

4

Usingthedividenddiscountmodel,whatisthecostofequitycapitalforZeller

MiningifthecompanywillpayadividendofC$2.30nextyear,hasapayout

ratioof30percent,areturnonequity(ROE)of15percent,andastockpriceof

C$45?

A

B

C

9.61percent.

10.50percent.

15.61percent.

Dot.Comhasdeterminedthatitcouldissue$1,000facevaluebondswithan

8percentcouponpaidsemi-annuallyandafive-yearmaturityat$900perbond.

IfDot.Com’smarginaltaxrateis38percent,itsafter-taxcostofdebtisclosest

to:

A

B

C

6.2percent.

6.4percent.

6.6percent.

5

6

ecostofdebtcanbedeterminedusingtheyield-to-maturityandthebond

ratingapproaches.Ifthebondratingapproachisused,the:

A

B

C

couponistheyield.

yieldisbasedontheinterestcoverageratio.

companyisratedandtheratingcanbeusedtoassessthecreditdefault

spreadofthecompany'sdebt.

MorganInsuranceLtd.issuedafixed-rateperpetualpreferredstockthreeyears

agoandplaceditprivatelywithinstitutionalinvestors.estockwasissued

at$25persharewitha$1.75dividend.Ifthecompanyweretoissuepreferred

stocktoday,theyieldwouldbe6.5percent.estock'scurrentvalueis:

A

B

C

$25.00.

$26.92.

$37.31.

7

AfinancialanalystatBuckcoLtd.wantstocomputethecompany'sweighted

averagecostofcapital(WACC)usingthedividenddiscountmodel.eanalyst

hasgatheredthefollowingdata:

112

Reading33■CostofCapital

Before-taxcostofnewdebt

Taxrate

Targetdebt-to-equityratio

Stockprice

8percent

40percent

0.8033

$30

Nextyear'sdividend

Estimatedgrowthrate

$1.50

7percent

Buckco’sWACCisclosestto:

A

B

C

8percent.

9percent.

12percent.

8

eGearingCompanyhasanafter-taxcostofdebtcapitalof4percent,acost

ofpreferredstockof8percent,acostofequitycapitalof10percent,anda

weightedaveragecostofcapitalof7percent.Gearingintendstomaintainits

currentcapitalstructureasitraisesadditionalcapital.Inmakingitscapital-

budgetingdecisionsfortheaverage-riskproject,therelevantcostofcapitalis:

A

B

C

4percent.

7percent.

8percent.

9

FranMcClureofAlbaAdvisersisestimatingthecostofcapitalofFrontier

CorporationaspartofhervaluationanalysisofFrontier.McClurewillbeusing

thisestimate,alongwithprojectedcashflowsfromFrontier'snewprojects,to

estimatetheeffectofthesenewprojectsonthevalueofFrontier.McClurehas

gatheredthefollowinginformationonFrontierCorporation:

Forecastedfor

CurrentYear($)

NextYear($)

Bookvalueofdebt

Marketvalueofdebt

50

62

50

63

Bookvalueofshareholders'equity

Marketvalueofshareholders'equity

55

210

58

220

eweightsthatMcClureshouldapplyinestimatingFrontier'scostofcapital

fordebtandequityare,respectively:

A

B

C

w=0.200;w=0.800.

de

w=0.185;w=0.815.

d

e

w=0.223;w=0.777.

d

e

10WangSecuritieshadalong-termstabledebt-to-equityratioof0.65.Recent

bankborrowingforexpansionintoSouthAmericaraisedtheratioto0.75.

eincreasedleveragehaswhateffectontheassetbetaandequitybetaofthe

company?

A

B

C

eassetbetaandtheequitybetawillbothrise.

eassetbetawillremainthesameandtheequitybetawillrise.

eassetbetawillremainthesameandtheequitybetawilldecline.

11BrandonWieneisafinancialanalystcoveringthebeverageindustry.Heis

evaluatingtheimpactofDEFBeverage’snewproductlineofflavoredwaters.

DEFcurrentlyhasadebt-to-equityratioof0.6.enewproductlinewouldbe

financedwith$50millionofdebtand$100millionofequity.Inestimatingthe

valuationimpactofthisnewproductlineonDEF'svalue,Wienehasestimated

PracticeProblems

113

theequitybetaandassetbetaofcomparablecompanies.Incalculatingthe

equitybetafortheproductline,WieneisintendingtouseDEF'sexistingcapital

structurewhenconvertingtheassetbetaintoaprojectbeta.Whichofthefol-

lowingstatementsiscorrect?

A

UsingDEF’sdebt-to-equityratioof0.6isappropriateincalculatingthenew

productline'sequitybeta.

B

UsingDEF’sdebt-to-equityratioof0.6isnotappropriate,butratherthe

debt-to-equityratioofthenewproduct,0.5,isappropriatetouseincalcu-

latingthenewproductline’sequitybeta.

C

Wieneshouldusethenewdebt-to-equityratioofDEFthatwouldresult

fromtheadditional$50milliondebtand$100millionequityincalculating

thenewproductline'sequitybeta.

12HappyResortsCompanycurrentlyhas1.2millioncommonsharesofstock

outstandingandthestockhasabetaof2.2.Italsohas$10millionfacevalue

ofbondsthathavefiveyearsremainingtomaturityand8percentcouponwith

semi-annualpayments,andarepricedtoyield13.65percent.IfHappyissuesup

to$2.5millionofnewbonds,thebondswillbepricedatparandhaveayield

of13.65percent;ifitissuesbondsbeyond$2.5million,theexpectedyieldon

theentireissuancewillbe16percent.Happyhaslearnedthatitcanissuenew

commonstockat$10ashare.ecurrentrisk-freerateofinterestis3percent

andtheexpectedmarketreturnis10percent.Happy’smarginaltaxrateis

30percent.IfHappyraises$7.5millionofnewcapitalwhilemaintainingthe

samedebt-to-equityratio,itsweightedaveragecostofcapitalisclosestto:

A

B

C

14.5percent.

15.5percent.

16.5percent.

ThefollowinginformationrelatestoQuestions

1

13–18

JurgenKnudsenhasbeenhiredtoprovideindustryexpertisetoHenrikSandell,CFA,

ananalystforapensionplanmanagingagloballarge-capfundinternally.Sandellis

concernedaboutoneofthefund'slargerholdings,autopartsmanufacturerKruspa

AB.Kruspacurrentlyoperatesin80countries,withthepreviousyear'sglobalrevenues

at€5.6billion.Recently,Kruspa’sCFOannouncedplansforexpansionintoTrutan,a

countrywithadevelopingeconomy.Sandellworriesthatthisexpansionwillchange

thecompany'sriskprofileandwondersifheshouldrecommendasaleoftheposition.

SandellprovidesKnudsenwiththebasicinformation.Kruspa’sglobalannualfree

cashflowtothefirmis€500millionandearningsare€400million.Sandellestimates

thatcashflowwillleveloffata2percentrateofgrowth.Sandellalsoestimatesthat

Kruspa’safter-taxfreecashflowtothefirmontheTrutanprojectfornextthreeyears

is,respectively,€48million,€52million,and€54.4million.Krusparecentlyannounced

adividendof€4.00pershareofstock.Fortheinitialanalysis,Sandellrequeststhat

Knudsenignorepossiblecurrencyfluctuations.HeexpectstheTrutaneseplantto

sellonlytocustomerswithinTrutanforthefirstthreeyears.Knudsenisaskedto

evaluateKruspa’splannedfinancingoftherequired€100millionwitha€80million

publicofferingof10-yeardebtinSwedenandtheremainderwithanequityoffering.

1eLevelIexamusesonlyindependentquestions.isminicaseisintendedasalearningexercise.

114

Reading33■CostofCapital

Additionalinformation:

Equityriskpremium,Sweden

Risk-freerateofinterest,Sweden

Industrydebt-to-equityratio

MarketvalueofKruspa’sdebt

MarketvalueofKruspa’sequity

Kruspa’sequitybeta

4.82percent

4.25percent

0.3

€900million

€2.4billion

1.3

Kruspa’sbefore-taxcostofdebt

TrutancreditA2countryriskpremium

Corporatetaxrate

9.25percent

1.88percent

37.5percent

Level

Interestpaymentseachyear

13Usingthecapitalassetpricingmodel,Kruspa’scostofequitycapitalforitstypi-

calprojectisclosestto:

A

B

C

7.62percent.

10.52percent.

12.40percent.

14SandellisinterestedintheweightedaveragecostofcapitalofKruspaABprior

toitsinvestingintheTrutanproject.isweightedaveragecostofcapital

(WACC)isclosestto:

A

B

C

7.65percent.

9.23percent.

10.17percent.

15Inhisestimationoftheproject’scostofcapital,Sandellwouldliketousethe

assetbetaofKruspaasabaseinhiscalculations.eestimatedassetbetaof

KruspapriortotheTrutanprojectisclosestto:

A

B

C

1.053.

1.110.

1.327.

16Sandellisperformingasensitivityanalysisoftheeffectofthenewprojecton

thecompany'scostofcapital.IftheTrutanprojecthasthesameassetrisk

asKruspa,theestimatedprojectbetafortheTrutanproject,ifitisfinanced

80percentwithdebt,isclosestto:

A

B

C

1.300.

2.635.

3.686.

17Aspart