Corporate Finance

BCO315 Corporate Finance Task brief & rubrics

Task: Midterm Assignment

· Individual task

· The student will answer all the questions and problems below.

Formalities:

· You should submit a document in Excel format.

· Font: Arial 11 pts.

· Text alignment: Justified.

Submission: Week (4) – Via Moodle (Turnitin). Sunday 20th June at 23:59 CEST.

Weight: This task is a 40% of your total grade for this subject.

This task assesses the following learning outcomes:

· Demonstrate a deep understanding of the theory and practices of financing a firm and its capital structure.

· Evaluate the financing risk that may result from the chosen debt ratio.

· Critically evaluate the dividend payout ratio.

· Describe and analyze the trade-off between paying dividends and retaining the profits within the company.

· Explain the purpose and procedure related to stock repurchases.

ASSIGNMENT QUESTIONS:

IMPORTANT: SHOW YOUR DETAILED SOLUTIONS FOR EACH QUESTION.

Problems (60 points)

1.- Macson, Inc., has equity market value of €10 million and debt with a market value of €4.5 million.

Treasury bills that mature in one year yield 4 percent per year, and the expected return on the market portfolio is 11 percent. The beta of equity is 1.2. The firm pays no taxes. We are following the MM theorem.

a) What is Macson's debt–equity ratio?

b) What is the firm's weighted average cost of capital?

c) What is the cost of capital for an identical all-equity firm?

2.- The Good Company Corporation is considering a loan of €3 million. The loan will be repaid in equal installments over the next two years, and it has an interest rate of 12 percent.

The company's tax rate is 25 percent. According to MM Proposition I with taxes, what would be the increase in the value of the company after the loan?

3.- Companies A and B, are identical except their capital structures. Both expects to earn €100 million EBIT per year in perpetuity, all earnings will be distributed as dividends.

Company A perpetual debt has a market value of €90 million and costs 12 percent per year.

Company A has 3 million shares outstanding, currently worth €50 per share.

Company B has no debt and 3 million shares outstanding, at a market price of €60 per share.

If you have to buy stocks from A or B, which one would you choose and why?

4.- A company with the shareholders equity shown below declares a stock dividend of 20 percent.

The market value of its common stock is €100 per share, while the par value is 2.

Common stock 1.000.000 €

Capital surplus 2.000.000 €

Retained earnings 10.000.000 €

Total owners' equity 13.000.000 €

a) How many shares are they going to issue?

b) What is the new statement of shareholders Equity?

5.- Para Atlantic Corporation is evaluating an extra cash dividend versus a share repurchase.

In either case the total amount to be paid out is €10000.

Today the EPS are €5. And the share is selling in the market at €71.

The company does not pay taxes at all, and the have 10000 common shares outstanding.

In case thy make the cash dividend, how much is the value for one shareholder that holds one share?

How much are EPS and P/E ratio?

In case you make a shares repurchase, how much is the value for one shareholder that holds one share?

How much are EPS and P/E ratio?

6.- Super split corporation has 1 million shares of stock outstanding that sell for €100 per share.

Imagine there are no taxes, what will be the price per share and the new number of shares outstanding after:

1. A five-for-two stock split?

2. A 30 percent stock dividend?

3. A three-for-five reverse stock split?

Questions (40 points)

a) What is the basic goal of financial management with regard to capital structure?

b) Why is the use of debt financing referred to as financial “leverage”?

c) Why is the goal of financial management to maximize the current share price of the company's stock? In other words, why isn't the goal to maximize the future share price?

d) How is it possible that dividends are so important, but at the same time dividend policy is irrelevant? Explain.

e) What is the impact of a stock repurchase on a company's debt ratio?

Rubrics

	Descriptor
9-10	The student demonstrates an excellent understanding of the concepts.
8-8.9	The student demonstrates a good understanding of the concepts.
7-7.9	The student demonstrates a fair understanding of the concepts.
6-6.9	The student demonstrates some, but insufficient understanding of the concepts.
3-5.9	The student demonstrates insufficient understanding of the concepts. They may mention some relevant ideas or concepts, although it is clear that the relationship between them is not understood by the student.
1-2.9	The student demonstrates insufficient understanding of the concepts and does not mention any relevant ideas or concepts.
0	The student leaves the question blank or cheats.