Posted: April 24th, 2016

Shi Importers balance sheet shows $300 million in debt, $50 million in preferred

stock, and $250 million in total common equity. Shi faces a 40% tax rate and the

following data: rd _ 6%, rps _ 5.8%, and rs _ 12%. If Shi has a target capital structure

of 30% debt, 5% preferred stock, and 65% common stock, what is Shi s

WACC?

10 12

Spencer Supplies stock is currently selling for $60 a share. The firm is expected to

earn $5.40 per share this year and to pay a year end dividend of $3.60.

a. If investors require a 9% return, what rate of growth must be expected for

Spencer?

b. If Spencer reinvests earnings in projects with average returns equal to thestock s expected rate of return, what will be next year s EPS? [Hint: g _ROE(Retention ratio).]

11 13

Cummings Products Company is considering two mutually exclusive investments.

The projects expected net cash flows are as follows:

Expected Net Cash Flows

Year Project A Project B

0 ($300) ($405)

1 (387) 134

2 (193) 134

3 (100) 134

4 600 134

5 600 134

6 850 134

7 (180) 0

a. Construct NPV profiles for Projects A and B.

b. What is each project s IRR?

c. If you were told that each project s cost of capital was 10%, which project

should be selected? If the cost of capital was 17%, what would be the proper

choice?

d. What is each project s MIRR at a cost of capital of 10%? At 17%? (Hint:

Consider Period 7 as the end of Project B s life.)

e. What is the crossover rate, and what is its significance?

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