For this and the next three questions: 1. Teddy Corp is considering acquiring Da
ID: 2753812 • Letter: F
Question
For this and the next three questions:
1. Teddy Corp is considering acquiring Daniels Company. Daniels has a capital structure consisting of $5 million (market value) in 11% bonds and $10 million (market value) of common stock. Currently, Daniels has a beta of 1.36. Teddy's beta is 1.02. Both firms have tax a rate of 40%. Teddy's debt ratio is 40%. The free cash flows estimated for Daniels are $3 million for each of the next 4 years and a horizon value of $10 million in Year 4. Interest tax savings are estimated to be $1 million for each of the next 4 years and a horizon value of $5 million in Year 4. Additionally, new debt would be issued to finance the acquisition. The new debt would have an interest rate of 8%. Currently, the risk-free rate is 6% and the maret risk premium is 4%. Calculate the current WACC for the Daniels Company.
a. 8.06%
b. 9.83%
c. 11.29%
d. 11.44%
e. 13.49%
f. None of the above
2.. Calculate the target firm's (Daniels Company) cost of equity using the CAPM.
10.08%
11.01%
11.44%
None of the above
3.. Calculate the target firm's cost of UNLEVERED equity using the following formula: wDrD + wErEL
9.83%
10.06%
11.29%
11.44%
13.49%
4. Calculate the value of the target firm's equity? There are no non-operating assets to consider.
a. $17.11m
$17.19 m
$17.92m
$22.11m
$22.92m
None of the above
2.. Calculate the target firm's (Daniels Company) cost of equity using the CAPM.
a.10.08%
b11.01%
c.11.44%
None of the above
3.. Calculate the target firm's cost of UNLEVERED equity using the following formula: wDrD + wErEL
a.9.83%
b.10.06%
c.11.29%
d.11.44%
e.13.49%
4. Calculate the value of the target firm's equity? There are no non-operating assets to consider.
a. $17.11m
b.$17.19 m
c.$17.92m
d.$22.11m
e.$22.92m
f.None of the above
Explanation / Answer
Calculate the target firm's (Daniels Company) cost of equity using the CAPM.
Cost of equity = 6% + 1.36 * 4%
= 11.44% which option (c)
Calculate the current WACC for the Daniels Company.
WACC = [$10million * 11.44% + $5million * 11% * (1-40%)] / $15million
= 9.83% which option (b)
Calculate the target firm's cost of UNLEVERED equity using the following formula:
Unlevered cost of equity = ($5million / $15million) * 11% + ($10million / $15million) * 11.44%
= 11.29% which is option (c)