Consider a simple firm that has the following market-value balance sheet:AssetsLiabilities end equity$1 040DebtEquity$400640Next year, there are two possible values for its assets, each equally likely: $1 180 and $960. Its debt will be due with 4.9% interest.Because all of the cash flows from the assets must go to either the debt or the equity, if you hold a portfolio of the debt and equity inthe same proportions as the firm's capital structure, your portfolio should earn exactly the expected return on the firm's assets. Showthat a portfolio invested 38% in the firm's debt and 62% in its equity will have the same expected return as the assets of the firm.That is, show that the firm's pre-tax WACC is the same as the expected return on its assets.If the assets will be worth $1 180 in one year, the expected return on assets will be %. (Round to one decimal place.)

The expected return on assets is the average return that a business or investor anticipates…

Answered: If the assets will be worth $1 180 in…

Business

Finance

If the assets will be worth $1 180 in one year, the expected return on assets will be %. (Round to one decimal place.)

EBK CONTEMPORARY FINANCIAL MANAGEMENT

14th Edition

ISBN:9781337514835

Author:MOYER

Publisher:MOYER

Chapter3: Evaluation Of Financial Performance

Section: Chapter Questions

Problem 8P

See similar textbooks

Related questions

Q: You want to buy a nice road bike. You place $2,200 at the end of each year in an investment account…

A: The future value of an annuity is the total amount of money that will accumulate over a series of…

Q: Shawn Bixby borrowed $18,000 on a 150-day, 11% note. After 60 days, Shawn paid $2,100 on the note.…

A: After day 60:-Interest = Total borrowed fund* Rate of interest*60/360= $18,000*11%*60/360= $330Total…

Q: You've just invested $770,000 into Far Far Away Investments. This company promises to pay you and…

A: The annual payment you can expect to receive from your $770,000 investment in Far Far Away…

Q: Below are various states of financial distress: 1. defaulting on a principal payment on debt 2.…

A: Assessing credit risk and bankruptcy risk is a critical aspect of financial analysis, particularly…

Q: Rank the following three stocks by their total risk level, highest to lowest. Night Ryder has an…

A: In investing, risk refers to the possibility of financial loss or divergence from projected returns.…

Q: Peter has been granted options on 50,000 shares. The stock is currently trading at $17 a share and…

A: A Call Option is a financial contract that gives the holder the right, but not the obligation, to…

Q: The total market value of the common stock of the Okefenokee Real Estate Company is $11.5 million,…

A: The CAPM equation can be used for finding the equity cost of financing where this model represents…

Q: Complete the following for the present value of an ordinary annuity. (Use Table 13.2.) Note: Do not…

A: An ordinary annuity is a series of fixed payments received or paid at a fixed interval for a defined…

Q: Monkey Inc. is debating whether to convert its all-equity capital structure to one that is 40% debt.…

A: Stock market:The stock market is a platform where companies can raise capital by issuing shares of…

Q: Better Mousetraps has developed a new trap. It can go into production for an initial investment in…

Q: Tubby Toys estimates that its new line of rubber ducks will generate sales of $7 million, operating…

A: Operating cash flows (OCF) is the cash flows generated from normal operations- Selling and producing…

Q: Use the information for the question(s) below. The Sisyphean Company has a bond outstanding with a…

A: A bond is a kind of debt security issued by the government and private companies to the public for…

Q: Consider a zero-coupon debt with a face value of $1,000 issued on December 31, 2040. The bond has…

A: Balance of debt principal:The balance of the debt principal refers to the amount of money borrowed…

Q: Genevieve has decided to start saving up for a vacation in two years, when she graduates from…

A: Future value refers to the compounded value of the asset or the cash flow. Continuous compounding is…

Q: Suppose you purchase a put option to sell General Motors common stock at $80 per share in March. The…

A: The intrinsic value of a put option is the difference between the strike price and the current…

Q: urrently, the term structure is as follows: One-year bonds yield 9.75%, two-year zero - coupon bonds…

A: Bond price:The term "bond price" refers to the market value or the current trading price of a bond.…

Q: A bank pays an interest of 8.1% for a 8 month term deposit. Calculate the amount that Stacy must…

A: Variables in the question:Interest=$519.64Rate=8.1%Time=8 month

Q: Ann got a 30 year Fully Amortizing FRM for $1,000,000 at an annual interest rate of 7% compounded…

A: A mortgage refers to a covered loan that is taken out for purchasing a property and the property…

Q: Analysts project the FIN340 Company’s upcoming 5 years of (undiscounted) cash flow is as follows:…

A: Fair Market Value refers to the market value of the shares as per the prevailing market conditions…

Q: You have a credit card that charges a monthly interest rate of 1.85%. The table below shows your…

A: Unpaid balance from previous month = $1,050.15Monthly interest rate = 1.85%The interest charged on…

Q: Consider each of the following projects: Accounting Unit Unit Variable Project Break-Even Price Cost…

A: We need to use accounting break-even formula to calculate unknown variables.

Q: Computech Corporation is expanding rapidly and currently needs to retain all of its earnings: hence,…

A: The dividend will be distributed by the company in case if positive net income is earned. This will…

Q: Jason, the new risk manager for River Transportation Enterprises, has studied the steps of the risk…

A: In the context of risk management and risk financing, the primary finance options are the…

Q: Baillie Power leased hightech electronic equipment from Courtney Leasing on January 1, 2024.…

A: Amortization schedule:An amortization schedule is a table or chart that outlines the scheduled…

Q: What is the depreciation charge of an equipment purchased six (6) years ago for $200,000, and a…

A: Variables in the question:Cost of equipment=$200,000Life of equipment=10 years

Q: Phoenix produces dividends in four consecutive years of 0.29, 11.83, 48.63, and 50.11, respectively.…

A: The dividend discount model suggests that the present price of a stock is the present value of all…

Q: A father loaned his daughter $17,000 at a 3% annual simple interest rate for a down payment on a…

A: When the borrower borrows a loan from the lender, he has to pay a rate of interest on the borrowed…

Q: Each of the four independent situations below describes a finance lease in which annual lease…

A: Lease payments are regular, periodic payments made by a lessee to a lessor in exchange for the use…

Q: An index consists of the following securities. What is the value-weighted index return?…

A: Here, StockOutstanding SharesBeginning PriceEnding PriceL4000 $ 18.00 $…

Q: An enterprise may not be a Subchapter S corporation if it owns more than ________ of the stock of a…

A: In this type of corporation the US corporation exists in the United States and it creates criteria…

Q: Leon wants to save a classic car so he deposits $1500 at the end of the years into a savings account…

A: We need to use future value of ordinary annuity formula to calculate worth of deposit after 5 years.…

Q: Suppose your company needs $10 million to build a new assembly line. Your target debt- equity ratio…

A: Weighted cost refers to the cost of financing new assembly where weights are assigned to each of the…

Q: ment? (Note: Be careful not to round any intermediate stops less than six decimal places)

A: Loans are paid by equal periodic monthly payments and these monthly payments carry the payment of…

Q: gan has decided to invest $500 quarterly for 5 years in an ordinary annuity at 12%. As her…

A: Future value of the amount is the amount of deposit made and amount of compounded interest…

Q: An investor purchases a 30-year, zero-coupon bond with a face value of $5,000 and a yield to…

A: A zero coupon bond is a form of financial instrument where the bondholder receives no monthly…

Q: A customer repays a loan of 22,000 that has an annual effective interest rate of 5.15% by making…

A: We take loans to buy large ticket items that otherwise we cannot afford. The loan is then repaid by…

Q: Suppose Capital One is advertising a 60-month, 5.22% APR motorcycle loan. If you need to borrow…

A: Monthly payments are periodic amounts that a loan borrower has to make on a regular basis in order…

Q: You find the following corporate bond quotes. To calculate the number of years until maturity,…

A: Coupon payments are the cash inflows from a bond investment that can be realized at regular…

Q: A zero-coupon bond has a beta of 0.3 and promises to pay $1000 next year with a probability of 95%.…

A: Bonds can be traded at a discount (lower price than their face value) or at a higher price (called…

Q: A customer repays a loan of 22,000 that has an effective annual interest rate of 5.15% by making…

A: We take loans to buy large ticket items that otherwise we cannot afford. The loan is then repaid by…

Q: what is the equivalent annual cost of each light bulb?

A: Equivalent Annual Cost (EAC) is a financial and economic term used to evaluate the annual cost of…

Q: The treasurer for the Macon Blue Sox baseball team is seeking a $23,600 loan for one year from the…

A: Compensating balance is the minimum balance that a borrower has to keep in his checking account…

Q: You have been given the following return information for a mutual fund, the market index, and the…

A: The Treynor ratio and the Sharpe ratio are similar in that they both quantify the excess return…

Q: Beth purchased a $50,000 nonparticipating whole life insurance policy. The annual premium was…

A: An individual or corporation (the insured) and an insurance firm (the insurer) enter into a contract…

Q: A share of stock with a beta of 0.85 now sells for $60. Investors expect the stock to pay a year-end…

Q: K- (Computing the expected rate of return and risk) After a tumultuous period in the stock market,…

A: Standard deviation is an important risk indicator that can help investors evaluate the riskiness and…

Q: 456 Inc has a profit margin of 12%. It has a capital intensity ratio of 0.80 and its debt/equity…

A: Proft margin12.00%Capital Intensity ratio0.8Debt-Equity Ratio2Net…

Q: A company has preferred stock that can be sold for $27per share. The preferred stock pays an annual…

A: Preferred stock is a source of financing for the companies, It is less costly compared to equity…

Q: Weston Hotels pays no dividend at the present time. Starting in Year 3, the firm will pay a dividend…

A: Dividend in year 1=$0Dividend in year 2=$0Dividend in year 3=$0.35Dividend in year 4=$0.35Dividend…

Q: There are two risky assets. The first is a stock fund, and the second is a long-term government and…

A: Given,risk-free rate = 0.29Expected return of stock funds = 0.13Standard deviation of stock funds =…

Question

Consider a simple firm that has the following market-value balance sheet:
Assets
Liabilities end equity
$1 040
Debt
Equity
$400
640
Next year, there are two possible values for its assets, each equally likely: $1 180 and $960. Its debt will be due with 4.9% interest.
Because all of the cash flows from the assets must go to either the debt or the equity, if you hold a portfolio of the debt and equity in
the same proportions as the firm's capital structure, your portfolio should earn exactly the expected return on the firm's assets. Show
that a portfolio invested 38% in the firm's debt and 62% in its equity will have the same expected return as the assets of the firm.
That is, show that the firm's pre-tax WACC is the same as the expected return on its assets.
If the assets will be worth $1 180 in one year, the expected return on assets will be %. (Round to one decimal place.)

Expert Solution

This question has been solved!

Explore an expertly crafted, step-by-step solution for a thorough understanding of key concepts.

SEE SOLUTION Check out a sample Q&A here

Step 1: Introduction:

VIEW

Step 2: Computation of expected return on assets:

VIEW

Solution

VIEW

Step by step

Solved in 3 steps with 2 images

SEE SOLUTION Check out a sample Q&A here

Knowledge Booster

Learn more about

Need a deep-dive on the concept behind this application? Look no further. Learn more about this topic, finance and related others by exploring similar questions and additional content below.

Similar questions

In the following balance sheet, estimate the impact on the economic value of equity (EVE). If interest rates of assets fall by 1% and deposit rates increase by 1%. EVE=$( ) Loan A (8%, 3 year) = $150 Deposit A (5%, 2 years) =$250 Loan B (11%, 4 years) = $200 Deposit B (7%, 3 year) = $100 Total Assets = $350 Total Liabilities = $350 16.44 17.44 18.44 19.44
Alpha Corporation has average annual free cashflows to the equity holder and to the firmof P3,000,000 and P3,350,000 respectively. Assuming that the weighted average cost ofcapital and actual return of on assets is 16.75% while the market return on Alpha's debt is7%, what is the value of its equity? a. P34,358,974.36 b.P15,000,000.00 c.P17,910,447.76 d.P20,000,000.00
In the following balance sheet, estimate the impact on the economic value of equity (EVE). If interest rates of assets fall by 1% and deposit rates increase by 1%. EVE=$( )Loan A(8%, 3 year)= $150 Deposit A(5%, 2 years)=$250 Loan B(11%, 4 years)= $200 Deposit B(7%, 3 year)= $100Total Assets = $350 Total Liabilities = $350 a. 16.44 b. 17.44 c. 18.44 d. 19.44
Suppose that a company yields mean returns of 20% (equity), and 9% mean returns on every peso the company invests (debt) in a certain alternative. What would be the best decision if the MARR and ROR calculated is 12%?
A company needed ghc 1000 to finance its activities. The firm can financed this expenditure either by bonds or equity. Interest rate on bonds is 10%. The company can earn ghc 160 in good years and ghc80 in bad years. Assuming the firm faces equal probability of good and bad years; i What will be the stream of returns on both bonds and equity if the company chooses the following financing options a 100% equity financing b 50% equity financing c 20% equity financing d 0% equity financing ii Estimate the equity risk associated with each option in (i) iii As an investor who wants to purchase a share in the company, which financing option will make you purchase the stock. Why????
Suppose your firm has a market value of equity is $500 million and a market value of debt is $475 million. What are the capital structure weights (i.e., weight of equity and weight of debt)? Group of answer choices A) weight of equity is 51.28%, , weight of debt is 48.72% B) weight of equity is 48.72%, , weight of debt is 51.28% C) weight of equity is 47.62%, , weight of debt is 52.38%
The liabilities and owners’ equity for Campbell Industries is found here. What percentage of the firm’s assets does the firm now finance using debt (liabilities)? If Campbell were to purchase a new warehouse for $1.4 million and finance it entirely with long-term debt, what would be the firm’s new debt ratio?
The following data pertains to Xena Corp. Xena Corp. Total Assets $21,249 Interest-Bearing Debt (market value) $11,070 Average borrowing rate for debt 10.2% Common Equity: Book Value $5,535 Market Value $23,247 Marginal Income Tax Rate 19% Market Beta 1.64 A. Using the information from the table, and assuming that the risk-free rate is 4.5% and the market risk premium is 6.2%, calculate Xena's cost of equity capital, using the capital asset pricing model: B. Using the information from the table, determine the weight on debt capital that should be used to calculate Xena's weighted-average cost of capital.
Please state the term for each of the definitions given. Of all possible financing strategies, this particular approach uses the largest amount of long-term debt, equity, and spontaneous current liabilities, all other things remaining constant. The general term used to collectively describe the firm’s current asset investment, including its cash, marketable securities, accounts receivable, and inventory. This period is equivalent to the average age of the firm’s inventory, as calculated by dividing the firm’s inventory balance by its daily cost of goods sold. Its value is calculated by dividing a firm’s account receivable balance by its average daily credit sales. A current asset financing strategy in which the cash generated by the conversion of the firm’s current assets is used to repay, or liquidate, the firm’s current liabilities used to finance them. The average elapsed time between the purchase of raw materials and labor using an account…
[EXCEL] Finance balance sheet: KneeMan Markup Company has total debt obligations with book and market values equal to $30 million and $28 million, respectively. It also has total equity with book and market values equal to $20 million and $70 million, respectively. If you were going to buy all of the assets of KneeMan Markup today, how much should you be willing to pay? please use excel
Use the following information to value a firm’s assets. Assume the following: the market value of the firm's assets is expected to remain constant over time so the firm doesn't grow and can be valued as a level perpetuity, the firm has a constant debt-to-assets ratio, the bonds are priced at par, and the stock's expected capital returns are zero. Relevant data: The number of shares on issue is 1 million and the number of bonds is 800,000 The constant annual dividend per share is $3 The bonds have an annual fixed coupon payment of $2.50 10-year government bonds have a yield of 2% and the market risk premium is 5% The beta of levered equity is 1.2 The beta of the bonds is 0.9 Which of the following is the market value of the levered firm’s assets? a. $68.3 million b. $21.2 million c. $70.1 million d. $42.9 million e. $54.7 million
Can you please answer this part c follow up question: c) Suppose the initial £90,000 is raised by borrowing at the risk-free interest rateinstead of issuing equity. What are the cash flows to equity and debt holders, andwhat is the initial value of the levered equity according to Modigliani and Miller’sPropositions? Is the company’s cost of equity the same as before? Overall, can thecompany raise the same amount of capital as before? Explain your reasoning.