Posted by howard on Monday, February 13, 2012 at 1:50am.
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1. Bob’s Country Bunker (BCB), a chain of economically priced motels in the Midwestern United States has reviewed its current target structure of 40% debt and 60% equity. It can issue debt at a rate of 9%. The last dividend paid on its stock was $1.25. The company is doing very well and expects to maintain its current growth rate of 5%. The firm’s tax rate is 35%, and the common stock currently sells at $29. The company is considering two projects: Project A which has an expected rate of return of 14%, and Project B which has an expected rate of return of 10%. Both projects are equally risky and the firm can accept both.
a. What is the cost of common equity?
b. What is the WACC?
c. Which projects should BCB accept?
2. Your firm is considering two projects: Project A and Project B with the following cash flows:
A YEAR B YEAR
-$75 0 -$60 0
$15 1 $20 1
$33 2 $13 2
$44 3 $15 3
$55 4 $18 4
a. Calculate the NPVs based on WACCs of 5% and 7%
b. What are the IRRs based on the WACCs?
c. Calculate the payback period and discounted payback period
d. Which projects should the firm accept if they are independent, based on the NPV, IRR, payback period, and discounted payback period methods? Assume your firm requires projects to break even in three years
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