PRIN.OF CORPORATE FINANCE
13th Edition
ISBN: 9781260013900
Author: BREALEY
Publisher: RENT MCG
expand_more
expand_more
format_list_bulleted
Concept explainers
Textbook Question
Chapter 16, Problem 16PS
Repurchases and the DCF model Hors d’Age Cheeseworks has been paying a regular cash dividend of $4 per share each year for over a decade. The company is paying out all its earnings as dividends and is not expected to grow. There are 100,000 shares outstanding selling for $80 per share. The company has sufficient cash on hand to pay the next annual dividend.
Suppose that, starting in year 1, Hors d’Age decides to cut its cash dividend to zero and announces that it will repurchase shares instead.
- a. What is the immediate stock price reaction? Ignore taxes, and assume that the repurchase program conveys no information about operating profitability or business risk.
- b. How many shares will Hors d’Age purchase?
- c. Project and compare future stock prices for the old and new policies. Do this for years 1, 2, and 3.
Expert Solution & Answer
Want to see the full answer?
Check out a sample textbook solutionStudents have asked these similar questions
Happy Time Inc. is expected to generate the following cash flows for the next year, as shown in the table
below. Happy Time now only has one outstanding debt with a face value of $110 million to be repaid in the
next year. The current market value for the debt is $67 million. The tax rate is zero. If you invest in the
corporate debt of Happy Time Inc. today, what is your expected percentage return on this investment?
Cash flow in the next year
Economy Probability Amount
Boom
0.3
Normal 0.4
Recession 0.3
O 36.87%
O -26.37%
64.8%
O-16.63%
$110 million
$101 million
$61 million
Golf Ball Inc. expects earnings to be $10,000 per year in perpetuity if it pays out all of its earnings in dividends. Suppose the firm has an opportunity to invest $1,000 of next year's earnings to upgrade its machinery. It is expected that this upgrade will increase earnings in all future years (starting two years from now) by $140. Assume that Golf Ball's next dividend is one year from now. The required rate of return is 12%.
What is the value of Golf Ball Inc. if it undertakes the upgrade?
Melissa’s Kitchen is considering acquiring Takeshi’s Takeout Corp., a small local restaurant chain. Expected net cash flows from the acquisition for the first four years of the post-merger period are:
Year 1 $350,000
Year 2 $400,000
Year 3 $475,000
Year 4 $550,000
After four years, the net cash flows are expected to grow at a constant rate of 3 percent per year. If we know the following information, what is the most Melissa’s Kitchen Should pay for Takeshi’s Takeout?
Melissa’s Kitchen
Borrowing costs 5% above the current long-term Treasury Bond rate
10-year T-Bond Rate 2/8/23 = 3.64%
Beta 2.4
Debt $4 million
Stock 500,000 shares outstanding - $20 per share on 2/8/23
Tax Rate 21 percent
Chapter 16 Solutions
PRIN.OF CORPORATE FINANCE
Ch. 16 - Dividend payments In 2017, Entergy paid a regular...Ch. 16 - Dividend payments Seashore Salt Co. has surplus...Ch. 16 - Repurchases Look again at Problem 2. Assume...Ch. 16 - Repurchases An article on stock repurchase in the...Ch. 16 - Company dividend policy Here are several facts...Ch. 16 - Prob. 7PSCh. 16 - Information content of dividends What is meant by...Ch. 16 - Information content of dividends Does the good...Ch. 16 - Information content of dividends Generous dividend...Ch. 16 - Prob. 11PS
Ch. 16 - Payout policy in perfect capital markets Go back...Ch. 16 - Payout policy in perfect capital markets Go back...Ch. 16 - Payout policy in perfect capital markets Respond...Ch. 16 - Prob. 15PSCh. 16 - Repurchases and the DCF model Hors dAge...Ch. 16 - Repurchases and the DCF model Surf Turf Hotels is...Ch. 16 - Repurchases and the DCF model House of Haddock has...Ch. 16 - Repurchases and the DCF model Little Oil has 1...Ch. 16 - Repurchases and EPS Many companies use stock...Ch. 16 - Dividends and value We stated in Section 16-3 that...Ch. 16 - Payout and valuation Look back one last time at...Ch. 16 - Dividend clienteles Mr. Milquetoast admires Warren...Ch. 16 - Prob. 24PSCh. 16 - Payout and taxes Which of the following U.S....Ch. 16 - Prob. 26PSCh. 16 - Prob. 27PSCh. 16 - Prob. 28PSCh. 16 - Dividend policy and the dividend discount model...Ch. 16 - Prob. 30PS
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
- Each of the following scenarios is independent. All cash flows are after-tax cash flows. Required: 1. Patz Corporation is considering the purchase of a computer-aided manufacturing system. The cash benefits will be 800,000 per year. The system costs 4,000,000 and will last eight years. Compute the NPV assuming a discount rate of 10 percent. Should the company buy the new system? 2. Sterling Wetzel has just invested 270,000 in a restaurant specializing in German food. He expects to receive 43,470 per year for the next eight years. His cost of capital is 5.5 percent. Compute the internal rate of return. Did Sterling make a good decision?arrow_forwardAn investment of $491,588 (today) by a company results in a series of payouts over the next 10 years. Each of the payouts is 680,254. These payouts start decreasing by $1,642 per year starting from year 4. What is the AW of this situation given a discount rate of 6.5%? And what is the IRR for the AW. Show your work(Do not use excel) make sure you write it down and draw the specific diagrams related to it.arrow_forwardWal-Mart plans to open a new store near Campus. Wal-Mart is going to finance via bond market and stock market. Total capital required is 10 million dollars. 3 million dollars are going to be financed via stock market. Wal-Mart plans to pay $3 per share next year. The dividend is expected to grow at the rate of 5% each year. The stock is traded at $60 per share. How much is the cost of equity (stock)? The flotation fee is 5%. 26% 85% 71% 19%arrow_forward
- Covan, Inc. is expected to have the following free cash flow: Year 1 2 4 FCF 13 15 16 17 Grow by 5% per year a. Covan has 6 million shares outstanding, $3 million in excess cash, and it has no debt. If its cost of capital is 10%, what should be its stock price? b. Covan adds its FCF to cash, and has no plans to add debt. If you plan to sell Covan at the beginning of year 2, what is its expected price? c. Assume you bought Covan stock at the beginning of year 1. What is your expected return from holding Covan stock until year 2? a. Covan has 6 million shares outstanding, $3 million in excess cash, and it has no debt. If its cost of capital is 10%, what should be its stock price? The stock price should be $ (Round to the nearest cent.) b. ovan adds its FCF to cash, and has no plans to add debt. If you plan to sell Cov at the beginning of year 2, what is its expected price? If you plan to sell Covan at the beginning of year 2, its price should be $ (Round to the nearest cent.) c. Assume…arrow_forwardCede & Co. expects its EBIT to be $163000 every year forever. The company can borrow at 8 percent. The company currently has no debt and its cost of equity is 10 percent. The tax rate is 23 percent. If the company borrows $185,000 and uses the proceeds to buy back equity, what is the weighted average cost of capital after the recapitalisation is complete? O 15.13% O 9.67% O 14.32% O 8.17%arrow_forwardStock Valuation. Sarro Shipping, Inc., expects to earn $1.3 million per year in perpetuity if it undertakes no new investment opportunities. There are 100,000 shares of stock outstanding, so earnings per share equal $13 ($1,300,000/100,000). The firm will have an opportunity at date 1 to spend $1,300,000 on a new marketing campaign. The new campaign will increase earnings in every subsequent period by $260,000 (or $ 2.6 per share). The firm’s discount rate is 10 percent. What is the value per share before and after deciding to accept the marketing campaign?arrow_forward
- A new company estimates that by investing in a new process, it will increase its sales by $ 2 million one and a half years from now and a further $ 1.5 million two years from now. Assume interest rate of 18% per year, compounded semiannually. Please write formula, use compound interest table for extracting factors, show your solution step by step. a) Draw cash flow diagram b) What is the maximum amount the company can afford to spend now on the new process in order to break even? Compare PP and CP and use first method (determine effective rate per compounding period).arrow_forwardThe table below shows the forecast cash flow information of Good Time Inc. for the next year. The required debt payment in the next year is $88 million, with the current market value of $75 million. The company pays no tax. If you invest in the corporate debt of Good Time Inc. today, what is your expected return on this investment? Cash flow in the next year Economy Probability Amount Boom 0.6 $148 million Recession 0.4 I$61 million O 18.77% O 10.29% O 2.93% O 28.67%arrow_forwardNokela Industries purchases a $42.0 million cyclo-converter. The cyclo-converter will be depreciated by $10.5 million per year over four years, starting this year. Suppose Nokela's tax rate is 25%. a. What impact will the cost of the purchase have on earnings for each of the next four years? b. What impact will the cost of the purchase have on the firm's cash flow for the next four years? a. What impact will the cost of the purchase have on earnings for each of the next four years? Earnings will ▼ by $enter your response here million each year for four years. (Select from the drop-down menu and round to one decimal place.) Part 2 b. What impact will the cost of the purchase have on the firm's cash flow for the next four years? The impact on the firm's cash flow in year 1 is $enter your response here million. (Round to one decimal place.) Part 3 The impact on the firm's cash flow in years two through four is $enter your response here million. (Round to one decimal place.)arrow_forward
- Southern tours os considering acquiring holiday vacations. Management believes holiday vacation can generate cash flows of $218,000, $224,000, and $238,000 over the next three years, resp. After that time, they feel the business will be worthless. If the desired rate of return is 14.5 percent, what is the maxim southern tours should pay today to acquire holiday vacations?arrow_forwardNokela Industries purchases a $36.4 million cyclo-converter. The cyclo-converter will be depreciated by $9.1 million per year over four years, starting this year. Suppose Nokela's tax rate is 25%. a. What impact will the cost of the purchase have on earnings for each of the next four years? b. What impact will the cost of the purchase have on the firm's cash flow for the next four years?arrow_forwardCede & Co. expects its EBIT to be $163000 every year forever. The company can borrow at 8 percent. The company currently has no debt and its cost of equity is 10 percent. The tax rate is 23 percent. If the company borrows $185,000 and uses the proceeds to buy back equity, what is the weighted average cost of capital after the recapitalisation is complete? Group of answer choices 9.67% 15.13% 14.32% 8.17%arrow_forward
arrow_back_ios
SEE MORE QUESTIONS
arrow_forward_ios
Recommended textbooks for you
- Cornerstones of Cost Management (Cornerstones Ser...AccountingISBN:9781305970663Author:Don R. Hansen, Maryanne M. MowenPublisher:Cengage LearningEBK CONTEMPORARY FINANCIAL MANAGEMENTFinanceISBN:9781337514835Author:MOYERPublisher:CENGAGE LEARNING - CONSIGNMENT
Cornerstones of Cost Management (Cornerstones Ser...
Accounting
ISBN:9781305970663
Author:Don R. Hansen, Maryanne M. Mowen
Publisher:Cengage Learning
EBK CONTEMPORARY FINANCIAL MANAGEMENT
Finance
ISBN:9781337514835
Author:MOYER
Publisher:CENGAGE LEARNING - CONSIGNMENT
What is WACC-Weighted average cost of capital; Author: Learn to invest;https://www.youtube.com/watch?v=0inqw9cCJnM;License: Standard YouTube License, CC-BY