- Describe how the costs of debt and equity differ from the perspective of accounting measures
- Sales forecast for the month of March through July for PDC company is as follows:
Sales are done on 60% cash and 40% credit. Each month the company collects all its previous months credit sales.
Prepare the cash collection schedule for PDC for the months of April through July.
- Zima Corporation has a target capital structure of 70% common stock, 5% preferred stock, and 25% debt. Its cost of equity is 11%, the cost of preferred stock is 5%, and the pretax cost of debt is 7%. The relevant tax rate is 35%.
- What is Zimas WACC?
- The company president has approached you about Zimas capital structure. He wants to know why the company does not use more preferred stock financing because it costs less than debt. What would you tell the president?
- A venture investor, BKAngel, is considering investing in a software venture opportunity. However, the rate of return to be realized next year is likely to vary with the economic climate that will occur. Supposing that prior to the new investment standard deviation of the rate of return (ROR) was 18%, expected ROR was 12%. Also assume that the company’s capital prior to the new investment was $5 million and that the size of the capital required for the software venture investment is $2 million. Following are three possible economic outcomes, the probability that each one will occur, and the rate of return projected for each outcome:
|
Economic Climate |
Probability of Occurrence |
Rate of Return (%) |
|
Recession |
0 .25 |
-20.0 |
|
Normal |
0 .50 |
15.0 |
|
Rapid Growth |
0.25 |
30.0 |
- What is the expected rate of return on the software venture?
- Calculate the variance and standard deviation of the rates of return for the software venture?
- Compute the coefficient of variation of the rates of return for the software venture.
- Calculate expected rate of return and standard deviation of the rate of return of total investment and then calculate coefficient of variation of the companys capital after adding the new software venture investment. Explain if the added new investment makes the company to be more risky or less risky? Assume the covariance between the software venture rate of return and the companys rate of return prior to new investment is 2.5%.
