The entity should invest in Project(s) <List A> and has an optimal capital budget of <List B> million.
Answer(s): B
The inf.-,reaction of the IOS and MCC schedules determines the cost of capital and the optimal capital budget. The entity should begin with the project having the highest return and continue accepting projects as long as the IRR the MCC. The highest ranked project is A, with a $50 million cost and a 14% IRR. The MCC is only 6% over this range of financing. The next highest ranked project is B, with a US $75 million cost and a 12% IRR.When US $125 million has been invested, the marginal cost of the next unit of capital is 10%, so Project B. is also acceptable, bringing the optimal capital budget to US $125 million. Project C is not acceptable because it has an 8% return. The MCC is 10% for the first US $50 million invested in this project and 12% for the remaining US $75 million.
The marginal cost of debt for an entity is defined as the interest rate on <List A> debt minus
Answer(s): C
The marginal cost of debt as a rate) must equal the cost of new debt as a rate) minus the tax savings as a rate). Hence, marginal cost equals the cost of new debt times one minus the marginal tax rate, or ks(1 - T). This expression equals Ka Kat. The marginal cost of debt financing is the interest rate on new debt minus the entity's marginal tax rate multiplied by the interest rate. Moreover, the marginal or incremental cost of debt to the entity is based on the cost of newly issued debt, not on the cost of outstanding debt.
An entity has 10.000 outstanding shares with a market value of US $25 each. It just paid a US $1 per share dividend. Dividends are expected to grow at a constant rate of 10%. If flotation costs are 5% of the selling price, the cost of new equity financing is calculated by the following formula.
The cost of new equity is calculated by adding the expected dividend yield, based on the net proceeds of the new issue, to the expected dividend growth rate. The expected dividend at the end of the period equals the dividend at time zero times one plus the expected dividend growth rate. Net proceeds received by the entity when issuing one ordinary share equals the market price of a share times one minus the flotation cost percentage. Flotation costs include items such as underwriting fees. printing, and advertising. The calculation of the cost of new equity is as follows:
An entity must select from among several methods of financing arrangements when meeting its capital requirements. To acquire additional growth capital while attempting to maximize earnings per share, an entity should normally
Earnings per share will ordinarily be higher if debt is used to raise capital instead of equity, provided that the entity is not over-leveraged. The reason is that the cost of debt is lower than the cost of equity because interest is tax deductible. However, the prospect of higher EPS is accompanied by greater risk to the entity resulting from required interest costs, creditors' liens on the entity's assets, and the possibility of a proportionately lower EPS if sales volume fails to meet projections.
The marginal cost of capital MCC) curve for this entity rises price, first when the entity has raised US $75 million and again when US $175 million of new funds has been raised. These increases in the MCC are caused by:
Answer(s): D
The MCC is a weighted average of the costs of the different financing sources. If the cost of any source of financing increases, the MCC curve will rise. The MCC curve is upward sloping because the lowest cost financing sources are assumed to be used first. Thus, as cumulative debt increases, the cost of debt also increases. CyberAge Outlet. a relatively new store, is a cafe that offers customers the opportunity to browse the Internet or play computer games at their tables while they drink coffee. The customer pays a fee based on the amount of time spent signed on to the computer. The store also sells books, tee-shirts, and computer accessories. CyberAge has been paying all of its bills on the last day of the payment period, thus forfeiting all supplier discounts. Shown below are data on CyberAge's two major vendors, including average monthly purchases and credit terms.
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