· Complete the following problems from your textbook: · Pages 378–381: 10-1, 10-2, 10-16, and 10-20. · Pages 443–444: 12-7 and 12-9. · Page 469: 13-5. · 10-1 How would each of the following scenarios affect a firm’s cost of debt, rd(1 − T); its cost of equity, rs; and its WACC? Indicate with a plus (+), a minus (−), or a zero (0) whether the factor would raise, lower, or have an indeterminate effect on the item in question. Assume for each answer that other things are held constant, even though in some instances this would probably not be true. Be prepared to justify your answer but recognize that several of the parts have no single correct answer. These questions are designed to stimulate thought and discussion. Effect on rd(1 − T) rs WACC a. The corporate tax rate is lowered. __ __ __ b. The Federal Reserve tightens credit. __ __ __ c. The firm uses more debt; that is, it increases its debt ratio. __ __ __ d. The dividend payout ratio is increased. __ __ __ e. The firm doubles the amount of capital it raises during the year. __ __ __ f. The firm expands into a risky new area. __ __ __ g. The firm merges with another firm whose earnings are countercyclical both to those of the first firm and to the stock market. __ __ __ h. The stock market falls drastically, and the firm’s stock price falls along with the rest. __ __ __ i. Investors become more risk-averse. __ __ __ j. The firm is an electric utility with a large investment in nuclear plants. Several states are considering a ban on nuclear power generation. __ __ __ · 10-2 Assume that the risk-free rate increases, but the market risk premium · 10-16COST OF COMMON EQUITY The Bouchard Company’s EPS was $6.50 in 2018, up from $4.42 in 2013. The company pays out 40% of its earnings as dividends, and its common stock sells for $36.00. · a. Calculate the past growth rate in earnings. (Hint: This is a 5-year growth period.) · b. The last dividend was D0 = 0.4($6.50) = $2.60. Calculate the next expected dividend, D1, assuming that the past growth rate continues. · c. What is Bouchard’s cost of retained earnings, rs? · 10-20WACC The following table gives Foust Company’s earnings per share for the last 10 years. The common stock, 7.8 million shares outstanding, is now (1/1/19) selling for $65.00 per share. The expected dividend at the end of the current year (12/31/19) is 55% of the 2018 EPS. Because investors expect past trends to continue, g may be based on the historical earnings growth rate. (Note that 9 years of growth are reflected in the 10 years of data.) The current interest rate on new debt is 9%; Foust’s marginal tax rate is 40%, and its target capital structure is 40% debt and 60% equity. · a. Calculate Foust’s after-tax cost of debt and common equity. Calculate the cost of equity as rs = D1/P0 + g. · b. Find Foust’s WACC · 12-7SCENARIO ANALYSIS Huang Industries is considering a proposed project whose estimated NPV is $12 million. This estimate assumes that economic conditions wi ...

1. · Complete the following problems from your textbook:
· Pages 378–381: 10-1, 10-2, 10-16, and 10-20.
· Pages 443–444: 12-7 and 12-9.
· Page 469: 13-5.
· 10-1 How would each of the following scenarios affect a
firm’s cost of debt, rd(1 − T); its cost of equity, rs; and its
WACC? Indicate with a plus (+), a minus (−), or a zero (0)
whether the factor would raise, lower, or have an indeterminate
effect on the item in question. Assume for each answer that
other things are held constant, even though in some instances
this would probably not be true. Be prepared to justify your
answer but recognize that several of the parts have no single
correct answer. These questions are designed to stimulate
thought and discussion.
Effect on
rd(1 − T)
rs
WACC
a. The corporate tax rate is lowered.
__
__
__
b. The Federal Reserve tightens credit.
__
__
__
c. The firm uses more debt; that is, it increases its debt ratio.
__
__
__
d. The dividend payout ratio is increased.
__

2. __
__
e. The firm doubles the amount of capital it raises during the
year.
__
__
__
f. The firm expands into a risky new area.
__
__
__
g. The firm merges with another firm whose earnings are
countercyclical both to those of the first firm and to the stock
market.
__
__
__
h. The stock market falls drastically, and the firm’s stock price
falls along with the rest.
__
__
__
i. Investors become more risk-averse.
__
__
__
j. The firm is an electric utility with a large investment in
nuclear plants. Several states are considering a ban on nuclear
power generation.
__
__
__
· 10-2 Assume that the risk-free rate increases, but the market
risk premium
· 10-16COST OF COMMON EQUITY The Bouchard Company’s

3. EPS was $6.50 in 2018, up from $4.42 in 2013. The company
pays out 40% of its earnings as dividends, and its common stock
sells for $36.00.
· a. Calculate the past growth rate in earnings. (Hint: This is a
5-year growth period.)
· b. The last dividend was D0 = 0.4($6.50) = $2.60. Calculate
the next expected dividend, D1, assuming that the past growth
rate continues.
· c. What is Bouchard’s cost of retained earnings, rs?
· 10-20WACC The following table gives Foust Company’s
earnings per share for the last 10 years. The common stock, 7.8
million shares outstanding, is now (1/1/19) selling for $65.00
per share. The expected dividend at the end of the current year
(12/31/19) is 55% of the 2018 EPS. Because investors expect
past trends to continue, g may be based on the historical
earnings growth rate. (Note that 9 years of growth are reflected
in the 10 years of data.)
The current interest rate on new debt is 9%; Foust’s marginal
tax rate is 40%, and its target capital structure is 40% debt and
60% equity.
· a. Calculate Foust’s after-tax cost of debt and common equity.
Calculate the cost of equity as rs = D1/P0 + g.
· b. Find Foust’s WACC
· 12-7SCENARIO ANALYSIS Huang Industries is considering a
proposed project whose estimated NPV is $12 million. This
estimate assumes that economic conditions will be “average.”
However, the CFO realizes that conditions could be better or
worse, so she performed a scenario analysis and obtained these
results:
Economic Scenario
Probability of Outcome

4. NPV
Recession
0.05
($70 million)
Below average
0.20
(25 million)
Average
0.50
12 million
Above average
0.20
20 million
Boom
0.05
30 million
12-9NEW PROJECT ANALYSIS You must evaluate a proposal
to buy a new milling machine. The base price is $135,000 and
shipping and installation costs would add another $8,000. The
machine falls into the MACRS 3-year class, and it would be
sold after 3 years for $94,500. The applicable depreciation rates
are 33%, 45%, 15%, and 7% as discussed in Appendix 12A. The
machine would require a $5,000 increase in net operating
working capital (increased inventory less increased accounts
payable). There would be no effect on revenues, but pretax
labor costs would decline by $52,000 per year. The marginal tax
rate is 35%, and the WACC is 8%. Also, the firm spent $4,500
last year investigating the feasibility of using the machine.
a. How should the $4,500 spent last year be handled?
b. What is the initial investment outlay for the machine for
capital budgeting purposes, that is, what is the Year 0 project
cash flow?
c. What are the project’s annual cash flows during Years 1, 2,
and 3?

5. d. Should the machine be purchased? Explain your answer.
Challenging Problems 5-7
13-5OPTIMAL CAPITAL BUDGET Hampton Manufacturing
estimates that its WACC is 12.5%. The company is considering
the following 7 investment projects:
a. Assume that each of these projects is independent and that
each is just as risky as the firm’s existing assets. Which set of
projects should be accepted, and what is the firm’s optimal
capital budget?
b. Now assume that Projects C and D are mutually exclusive.
Project D has an NPV of $400,000, whereas Project C has an
NPV of $350,000. Which set of projects should be accepted, and
what is the firm’s optimal capital budget?
c. Ignore part b and assume that each of the projects is
independent but that management decides to incorporate project
risk differentials. Management judges Projects B, C, D, and E to
have average risk, Project A to have high risk, and Projects F
and G to have low risk. The company adds 2% to the WACC of
those projects that are significantly more risky than average,
and I subtracts 2% from the WACC of those projects that are
substantially less risky than average. Which set of projects
should be accepted, and what is the firm’s optimal capital
budget?
·
Complete the following problems from your textbook:
o

6. Pages 378
–
381: 10
-
1, 10
-
2, 10
-
16, and 10
-
20.
o
Pages 443
–
444: 12
-
7 and 12
-
9.
o
Page 469: 13
-
5.
·
10
-
1
How would each of the following scenarios affect a firm’s cost
of debt, r

7. d
(1
-
T); its
cost of equity, r
s
; and its WACC? Indicate with a plus (+), a minus (
-
), or a zero (0)
whethe
r the factor would raise, lower, or have an indeterminate effect
on the item in
question. Assume for each answer that other things are held
constant, even though in
some instances this would probably not be true. Be prepared to
justify your answer but
reco
gnize that several of the parts have no single correct answer.
These questions are
designed to stimulate thought and discussion.
Effect on
r
d
(1
-
T)
r
s
WACC

8. a.
The corporate tax rate is lowered.
__
__
__
b.
The Federal Reserve tightens credit.
__
__
__
c.
The firm uses more debt; that is, it increases its debt ratio.
__
__
__
d.
The dividend payout ratio is increased.
__

9. __
__
e.
The firm doubles the amount of capital it raises during the year.
__
__
__
f.
The firm expands into a risky new area.
__
__
__
g.
The firm merges with another firm whose earnings are
countercyclical both
to those of the first firm and to the stock market.
__
__
__

10. h.
The stock market falls drastically, and the firm’s stock price
falls along
with the rest.
__
__
__
i.
Investors become more risk
-
averse.
__
__
__
j.
The firm is an electric utility with a large investment in nuclear
plants.
Several states are considering a ban on nuclear power
generation.
__
__

11. __
·
10
-
2
Assume that the risk
-
free rate increases, but the market risk premium
·
10
-
16
COST OF COMMON EQUITY
The Bouchard Company’s EPS was $6.50 in
2018, up from $4.42 in 2013. The company pays out 40% of its
earnings as dividends,
and its common stock sells for $36.00.
·
a.
Calculate the past growth rate in
earnings. (Hint: This is a 5
-
year growth period.)
·

12. b.
The last dividend was D
0
= 0.4($6.50) = $2.60. Calculate the next expected dividend,
D
1
, assuming that the past growth rate continues.
·
c.
What is Bouchard’s cost of retained earnings, r
s
?
·
10
-
20
WACC
The following table gives Foust Company’s earnings per share
for the last
10 years. The common stock, 7.8 million shares outstanding, is
now (1/1/19) selling for
$65.00 per share. The expected dividend at the end of the
current year (12/31/19) is 55%
o Pages 378–381: 10-1, 10-2, 10-16, and 10-20.
o Pages 443–444: 12-7 and 12-9.

13. o Page 469: 13-5.
-1 How would each of the following scenarios affect a
firm’s cost of debt, r
d
(1 - T); its
cost of equity, r
s
; and its WACC? Indicate with a plus (+), a minus (-), or a zero
(0)
whether the factor would raise, lower, or have an indeterminate
effect on the item in
question. Assume for each answer that other things are held
constant, even though in
some instances this would probably not be true. Be prepared to
justify your answer but
recognize that several of the parts have no single correct
answer. These questions are
designed to stimulate thought and discussion.
Effect on
r
d
(1 -
T)
r
s
WACC
a. The corporate tax rate is lowered. __ __ __
b. The Federal Reserve tightens credit. __ __ __
c. The firm uses more debt; that is, it increases its debt ratio. __
__ __
d. The dividend payout ratio is increased. __ __ __
e. The firm doubles the amount of capital it raises during the
year. __ __ __
f. The firm expands into a risky new area. __ __ __

14. g. The firm merges with another firm whose earnings are
countercyclical both
to those of the first firm and to the stock market.
__ __ __
h. The stock market falls drastically, and the firm’s stock price
falls along
with the rest.
__ __ __
i. Investors become more risk-averse. __ __ __
j. The firm is an electric utility with a large investment in
nuclear plants.
Several states are considering a ban on nuclear power
generation.
__ __ __
-2 Assume that the risk-free rate increases, but the market
risk premium
-16 COST OF COMMON EQUITY The Bouchard
Company’s EPS was $6.50 in
2018, up from $4.42 in 2013. The company pays out 40% of its
earnings as dividends,
and its common stock sells for $36.00.
a
5-year growth period.)
0
= 0.4($6.50) = $2.60. Calculate the next expected dividend,
D
1
, assuming that the past growth rate continues.
s
?
-20 WACC The following table gives Foust Company’s
earnings per share for the last
10 years. The common stock, 7.8 million shares outstanding, is

15. now (1/1/19) selling for
$65.00 per share. The expected dividend at the end of the
current year (12/31/19) is 55%
Using a spreadsheet program like Excel, calculate the NPV and
IRR of the following scenario:
•Cost (Year 0): 10,000.
•Year 1 Return: 3,000.
•Year 2 Return: 3,000.
•Year 3 Return: 5,000.
•Discount Rate: 10%.
Using a spreadsheet program like Excel, calculate the NPV and
IRR of the following scenario:
•Cost (Year 0): 10,000.
•Year 1 Return: 3,000.
•Year 2 Return: 3,000.
•Year 3 Return: 5,000.
•Discount Rate: 10%.
Using a spreadsheet program like Excel, calculate the NPV and
IRR of the following scenario:
•Cost (Year 0): 10,000.
•Year 1 Return: 3,000.
•Year 2 Return: 3,000.
•Year 3 Return: 5,000.
•Discount Rate: 10%.