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) a) Ibrahim and his sons (Ibrahim & Sons) have been operating an excavation company in British Columbia for the last 15 years.

) a) Ibrahim and his sons (Ibrahim & Sons) have been operating an excavation company in British Columbia for the

last 15 years. The company has been successful in generating revenue and free cash flows (FCF). The company is planning to replace five excavators. The supplier will trade in old excavators and will deduct $150,000 from the total purchase price of new excavators. Each new excavator will cost $100,000.

 

The corporate tax rate is 30%. The company beta (bA) is 0.90, risk free return (Rf) is 1%, and return on the market portfolio (E(RM) is 8%. Based on the risk, the bank will charge 6% on the commercial loans/chattel mortgages granted for excavators. The company will use 70% equity financing and 30% debt financing.

 

Based on the above information, please calculate the WACC. Please show all the calculations by which you came up with the final answer. (4 Points)

 

 

 



b)        Another excavation company called Diamond 15 has 20,000 shares of common stock outstanding with a market price of $200 per share. It has 2,000 bonds outstanding, each selling for $1,200. The bonds mature in 15 years, have a coupon rate of 7%, and pay coupons annually. The firm's beta is 1.09, the risk free rate is 1%, and the market risk premium is 7%. The tax rate is 34%.

 

Based on the above information, please calculate the WACC. Please show all the calculations by which you came up with the final answer. (4 Points)

 


 

c)         Based on your analysis and findings (Questions: a & b), which company has higher risk (Ibrahim & Sons or Diamond 15) and higher cost of capital? Why? How would you define business and financial risk? Where do business and financial risk come from? Please explain your reasoning. (5 Points)

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