Reference no: EM132537975
Part A
Answer any six (6) out of eight (8) questions.
Essay questions
Question 1: Which of the following statements is CORRECT? Rationalize your choice.
a. It is usually easier to transfer ownership in a corporation than it is to transfer ownership in a sole proprietorship.
b. Corporate shareholders are exposed to unlimited liability.
c. Corporations generally face fewer regulations than sole proprietorships.
d. Corporate shareholders are exposed to unlimited liability, and this factor may be compounded by the tax disadvantages of incorporation.
e. Shareholders in a regular corporation (not an S corporation) pay higher taxes than owners of an otherwise identical proprietorship.
Question 2: You are the CEO of a company and you are considering entering into an agreement to have your company buy another company. You think the price might be too high, but you will be the CEO of the combined, much larger, company. You know that when the company gets bigger, your pay and prestige will increase. What is the nature of the agency conflict here and how is it related to ethical considerations?
Question 3: What concerns might a loan officer have when loaning funds to a sole proprietorship that he or she might not have when loaning funds to a corporation? Discuss.
Question 4: What are some economic conditions that affect the cost of money?
Question 5: Projects A and B have identical expected lives and identical initial cash outflows (costs). However, most of one project's cash flows come in the early years, while most of the other project's cash flows occur in the later years. The two NPV profiles are given below:
Which of the following statements is CORRECT? Justify your choice with rational arguments.
a. More of Project B's cash flows occur in the later years.
b. We must have information on the cost of capital in order to determine which project has the larger early cash flows.
c. The NPV profile graph is inconsistent with the statement made in the problem.
d. The crossover rate, i.e., the rate at which Projects A and B have the same NPV, is greater than either project's IRR.
e. More of Project A's cash flows occur in the later years.
Question 6: What do we call the price that a borrower must pay for debt capital? What is the price of equity capital? What are the four most fundamental factors that affect the cost of money, or the general level of interest rates, in the economy?
Question 7: Jane Doe, who has substantial personal wealth and income, is considering the possibility of starting a new business in the chemical waste management field. She will be the sole owner, and she has enough funds to finance the operation. The business will have a relatively high degree of risk, and it is expected that the firm will incur losses for the first few years. However, the prospects for growth and positive future income look good, and Jane plans to have the firm pay out all of its income as dividends to her once it is well established. Which of the legal forms of business organization would probably best suit her needs? Discuss with reasoning.
Question 8: You need to analyze a firm's performance in relation to its peers. You can do this either by comparing the firms' balance sheets and income statements or by comparing the firms' ratios. If you only had time to use one means of comparison which method would you use and why? Give logical arguments to support your answer.
Part B
Answer any seven (7) out of eight (8) questions.
Exercise 1
Read the following scenario and answer the question given below:
You are on the staff of O'Hara Inc. The CFO believes project acceptance should be based on the NPV, but Andrew O'Hara, the president, insists that no project should be accepted unless its IRR exceeds the project's risk-adjusted WACC. Now you must make a recommendation on a project that has a cost of $15,000 and two cash flows: $110,000 at the end of Year 1 and -$100,000 at the end of Year 2. The president and the CFO both agree that the appropriate WACC for this project is 10%. At 10%, the NPV is $2,355.37, but you find two IRRs, one at 6.33% and one at 527%, and a MIRR of 11.32%.
Required:
Which of your statements best describes your optimal recommendation, i.e., the analysis and recommendation that is best for the company and least likely to get you in trouble with either the CFO or the president? Use the information given in the case to conveyance the CFO and president.
Exercise 2
JBS Inc. recently reported net income of $4,750 and depreciation of $885. How much was its net cash flow, assuming it had no amortization expense and sold none of its fixed assets? How does net cash flow affect managerial decision making?
Exercise 3
The balance sheet and income statement shown below are for Pettijohn Inc. Note that the firm has no amortization charges, it does not lease any assets, none of its debt must be retired during the next 5 years, and the notes payable will be rolled over.
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Balance Sheet (Millions of $)
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Assets
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2012
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Cash and securities
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$ 1,554.0
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Accounts receivable
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9,660.0
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Inventories
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13,440.0
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Total current assets
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$24,654.0
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Net plant and equipment
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17,346.0
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Total assets
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$42,000.0
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Liabilities and Equity
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Accounts payable
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$ 7,980.0
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Notes payable
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5,880.0
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Accruals
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4,620.0
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Total current liabilities
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$18,480.0
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Long-term bonds
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10,920.0
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Total debt
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$29,400.0
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Common stock
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3,360.0
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Retained earnings
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9,240.0
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Total common equity
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$12,600.0
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Total liabilities and equity
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$42,000.0
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Income Statement (Millions of $)
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2012
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Net sales
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$58,800.0
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Operating costs except depr'n
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$54,978.0
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Depreciation
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$ 1,029.0
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Earnings befint and taxes (EBIT)
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$ 2,793.0
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Less interest
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1,050.0
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Earnings before taxes (EBT)
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$ 1,743.0
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Taxes
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$ 610.1
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Net income
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$ 1,133.0
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Other data:
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Shares outstanding (millions)
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175.00
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Common dividends
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$ 509.83
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Int rate on notes payable & L-T bonds
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6.25%
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Federal plus state income tax rate
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35%
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Year-end stock price
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$77.69
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Required:
What is the firm's current ratio?
What is the firm's quick ratio?
What is the firm's day's sale outstanding? Assume a 360-day year for this calculation.
What is the firm's total assets turnover?
What is the firm's inventory turnover ratio?
What is the firm's debt-to-assets ratio?
What is the firm's ROA?
What is the firm's ROE?
What is the firm's profit margin?
What is the firm's P/E ratio?
Based on your above calculation of various ratios, discuss the liquidity position as well as the performance of the firm.
Exercise 4
On 12/31/2013, Heaton Industries Inc. reported retained earnings of $675,000 on its balance sheet, and it reported that it had $172,500 of net income during the year. On its previous balance sheet, at 12/31/2012, the company had reported $555,000 of retained earnings. No shares were repurchased during 2013.
Required:
How much in dividends did Heaton pay during 2013?
Does dividend announcement affect the firm's market value? Discuss.
Exercise 5
Tucker Electronic System's current balance sheet shows total common equity of $3,125,000. The company has 125,000 shares of stock outstanding, and they sell at a price of $52.50 per share. By how much do the firm's market and book values per share differ? How does the difference in these values matter to the firm? Explain.
Exercise 6
Rao Corporation has the following balance sheet.
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Cash
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$ 10
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Accounts payable
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$ 20
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Short-term investments
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Accruals
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20
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Accounts receivable
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50
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Notes payable
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50
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Inventory
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40
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Current liabilities
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$ 90
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Current assets
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$130
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Long-term debt
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0
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Net fixed assets
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100
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Common equity
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30
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Retained earnings
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50
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Total assets
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$230
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Total liab. & equity
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$230
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Required:
a. How much net operating working capital does the firm have?
b. How does net working capital affect the decision making?
Exercise 7
The following information pertains to Major Manuscript Inc. for 2012:
Required:
Major Manuscripts, Inc. does not want to incur any additional external financing. The dividend payout ratio is constant. What is the firm's maximum rate of growth?
How rate of growth can help the firm in financial planning. Discuss.
Exercise 8
Use the following information to answer the questions that follow:
Required:
What is the cash flow from assets for 2011?
Based on your answer in part (a) above, comment on the liquidity position of the firm.