1. Company AFLAC had issued a 10-year coupon bond with 6% coupon rate on the face value as $1,000 and with semi-annual payments. Answer the following questions: a) Suppose the discount rate for the bond is given as 10%, what is the present value of the bond? b) Suppose the current market price of the bond is given as $906 per bond, what is the current market discount rate (or so called Yield to Maturity) for the bond? c) The company also issued a common stock of $0.78 dividend with 10% growth rate. There is also one preferred stock issued with preferred dividend as $1.62 and preferred stock price as $10 per share. The current common stock price is $14.20/ per share, the corporate income tax rate is 25%. Let there be 2 million shares of common stock issued, 50,000 shares of preferred stock issued. And there are 300,00 bonds issued. What is the Weighted Average Cost of Capital (WACC) for Company AFLAC? d) What are the assumptions for Weighted Average Cost of Capital (WACC)? 2. You are given with the following information of two projects planned by your company. Two projects are of the same initial costs with $2 millions. Table 1: (in thousands) Project A B Year 1 -180 -210 Year 2 750 945 Year 3 -170 1625 Year 4 1000 Year 5 1800 Answer the following questions. a) Suppose the weighted average cost of capital is 10%. What are the Net Present Values for these two projects? Which project is better? What are the limitations for this criterion? b) Suppose the financial manager discovered that if we postponed the project B to two years later, the cost of capital could be 8% due to possible low future interest rates. However, the deferment may cost the firm additional $0.5 million to restart the facilities and the initial cost must be spent now, instead of two years later. Will you recommend waiting for additional 2 years to start? c) Let the corporate income tax rate be 30%, the cost of debts be 6%, the cost of equity be 25% and there is no preferred stock issued by the firm. What is the debt-to-equity ratio for your company if the cost of capital is given as in a)? d) Find the IRR (Internal Rate of Return) for project A and project B. Which project will you choose? What are the limitations for this criterion? 3. You are given with the following information of two projects planned by your company when there is no consideration of the possible bad condition of economy. Two projects are of the same initial costs with $1 million. Table 1: (in thousands) Project A B Year 1 950 1400 Year 2 2720 -175 Year 3 - 350 1600 Year 4 1300 Year 5 2800 Answer the following questions. a) Suppose the cost of capital is 10% and the $1 million initial outlays are paid out by installments, that is, the $1 million initial outlays are present values for the regular payments each year, what is the Net Present Value for each project? b) Suppose the financial manager discovered that if we postponed the project B to two years later, the cost of capital could be 9% due to possible low future interest rates. However, the deferment may cost the firm additional $350,000 to restart the facilities and the initial outlay must be spent now, instead of two years later. Will you recommend waiting for additional 2 years to start? c) Find the IRR (Internal Rate of Return) for project A and project B. What is your decision based on the IRR criterion? d) If you applied the discounted payback periods for the decision making, which project will you choose? Is this a good decision rule?
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