question archive Capital Structure F has 300,000 shares outstanding with a market value of $25 each and no debt
Capital Structure F has 300,000 shares outstanding with a market value of $25 each and no debt
Subject:FinancePrice: Bought3
Capital Structure
F has 300,000 shares outstanding with a market value of $25 each and no debt. The β of F's equity is 0.9, the risk-free rate is 4% and the expected return of the market portfolio is 9%. F considers the following alternative operations
4.1 Operation 1: F pays $1,000,000 in dividends to stockholders. This dividend is financed by issuing debt for the same amount. If you hold one F stock, how much value is created/destroyed for you in this operation?
4.2 Operation 2: F invests $1,500,000 in a project that generates $200,000 per year after tax (perpetuity). This project has the same systematic risk as F's existing assets. The investment cost is financed by issuing debt for the same amount ($1,500,000). If you hold one F stock, how much value is created/destroyed for you in this operation?
4.3 The cost of equity, rS, after operation 1 will be 9%, while it will be 9.5% after operation 2. Compute the beta of F's debt βB after operation 1 and after operation 2. (3 points) 4.4 Operation 3: F buys an asset A worth $2,200,000 (at market value). This purchase is financed by issuing risk-free debt for the same amount. Following the operation, F's equity beta increases to 1. Compute the systematic risk βA of the asset A bought by F.
