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Solutions_ch13

# Solutions_ch13 - Problem 13.1 Tuba City Manufacturing Inc...

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Problem 13.1 Tuba City Manufacturing, Inc. What is Tuba City's weighted average cost of capital? Assumption Value Tax rate 30.00% 10-year euro bonds (euros) 6,000,000 20-year yen bonds (yen) 750,000,000 Spot rate (\$/euro) \$0.9000 Spot rate (\$/pound) \$1.5000 Spot rate (yen/\$) 125.00 Weighted US Dollar Pre-tax Post-tax Component Component Amount Proportion Cost (%) Cost (%) Cost (%) 25 year US dollar bonds \$10,000,000 13.26% 6.000% 4.200% 0.5570% 5 year US dollar euronotes 4,000,000 5.31% 4.000% 2.800% 0.1485% 10 year euro bonds 5,400,000 7.16% 5.000% 3.500% 0.2507% 20 year yen bonds 6,000,000 7.96% 2.000% 1.400% 0.1114% Shareholders' equity 50,000,000 66.31% 20.000% 20.000% 13.2626% Total \$75,400,000 100.00% WACC = 14.3302% The component coupon costs (for example the 6% coupon on the 25-year US dollar bonds) are the same as the current yields to maturity that would be needed to sell similar bonds in the marketplace today. Current yields to maturity is the proper rate to use. The interest costs used for the euro and yen bonds reflect actual expected interest costs after any exchange rate changes. This calculation assumes there is no expected change in the exchange rate over the life of the debt issue (which is indeed highly unlikely).

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Problem 13.2 Pacific Group What is the dollar cost of this debt? Assumptions Value Principal borrowed (British pounds) £3,000,000 Pound interest rate, one year (percent per annum) 9.000% Beginning of year spot rate, \$/pound \$1.6000 End of year spot rate, \$/pound \$1.5000 Calculation of the dollar cost of pound debt Pound-denominated debt, in pounds sterling: Principal £3,000,000.00 Interest 270,000.00 Principal and interest due at end of year £3,270,000.00 Repayment cost of pounds, in US dollars (ending spot rate) \$4,905,000.00 Divided by the US dollar value of initial pound debt proceeds \$4,800,000.00 (at beginning of period spot rate) Equals 1.02188 Minus 1 1.00000 Equals the implied US dollar cost of pound-denominated debt 0.02188 US dollar cost of pound debt 2.188%
Problem 13.3 Hartford Associates What is the effective US dollar cost of this debt? Assumptions Value Principal borrowed for three years, in euros € 80,000,000 Interest rate on loan, percent per annum 6.000% Beginning spot rate, \$/euro \$0.9000 Expected % change in the euro versus the dollar -3.000% Calculation of the dollar cost of euro debt Year 0 Year 1 Year 2 Year 3 Proceeds from borrowing euros € 80,000,000 Interest payment due, in euros -€ 4,800,000 -€ 4,800,000 -€ 4,800,000 Repayment of principal in year 3 -€ 80,000,000 Total cash flows of euro-denominated debt € 80,000,000 -€ 4,800,000 -€ 4,800,000 -€ 84,800,000 Note: One way to check this calculaton is to find the

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Solutions_ch13 - Problem 13.1 Tuba City Manufacturing Inc...

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