1. The "Conniving Kangaroos" company has 10 million shares of common stock outstanding. The book value is $50 per share and the market price is $10 per share. The risk-free rate is 5% and the expected market risk premium is 6%.
The stock of the company has a beta of 2. The company just paid a $2 dividend per share. The firm has $50,000,000 debt outstanding (50,000 bonds each with a $1,000 par value, 15% coupon rate paid annually) with 15 years remaining to maturity that currently sells for $1,100. If the company's marginal tax rate is 35%, find the weighted average cost of capital (WACC) for the company.
2. Upsy Daisy Inc. is analyzing two machines to determine which one it should purchase. The company requires a 15% rate of return and uses straight-line depreciation to a zero book value over the life of its equipment.
Machine A has a cost of $900,000, annual operating costs of $30,000, and a 4-year life. Machine B costs $1,100,000, has annual operating costs of $20,000, and has a 5-year life. Whichever machine is purchased will be replaced at the end of its useful life in perpetuity.
Compute the equivalent annual cost for each machine and based on this cost, determine which machine should be purchased. (We covered the equivalent annual cost method on slides 47-50 of the Chapter 10 lecture notes.)
3. Suppose 90-day investments in Britain have a 6% annualized return and a 1.5% quarterly (90-day) return. In the U.S., 90-day investments of similar risk have a 4% annualized return and a 1% quarterly (90- day) return. In the 90-day forward market, 1 British pound equals $1.65. If interest rate parity holds, what is the spot exchange rate?