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Roberto Inc. is a manufacturing company. The company has always followed their ideal capital structure which the management insists is 40% debt and 60% equity capital. The company can issue bonds for 9% coupon rate with 22 years to maturity. The interest is paid semi-annually. The bonds can be issued with a price of $835.42 today. Roberto’s marginal tax rate is 40%. For cost of equity, the company uses the CAPM based on SML. The risk-free rate in the market is 8% and the market rate of return is 14%. The company has a beta of 1.1. Roberto is experiencing a highly abnormal growth rate of 30%. This growth rate is expected to continue for four years. After year four, the growth rate is expected to return to a normal 8% and remain constant afterwards for the foreseeable future. Roberto just paid a dividend of $1.15. Furthermore, Roberto is evaluating several projects to invest in. The top project that is being considered will cost $1,000,000 and promises to pay $500,000 in year one, $400,000 in year two, $300,000 in year three and $100,000 in year four. This project will cease to exist with no salvage value at end of year four. So, the cash flow would look like the following:
Year CF ($ in 000’s)
Yr 0 -1,000 (Initial Outlay)
Yr 1 500
Yr 2 400
Yr 3 300
Yr 4 100
Q1:. What is Roberto’s cost of debt before taxes? a. 11% b. 12% c. 10% d. 8%
Q2: What is Roberto’s after-tax cost of debt? a. 6.6% b. 7.2% c. 6% d. 4.8%
Q3: What is the company’s cost of equity capital using the CAPM? a. 9.6% b. 8% c. 14.6% d. 12.09%
Q4: What is weighted average cost of capital (WACC) for Roberto Inc? a. 10.02% b. 11.40% c. 12.86% d. 14%
Q5: Using the information related to paid dividend, cost of equity and growth outlook for Roberto Inc., what should be the price for this supernormal growth stock today (P0)? a. $25.32 b. $33.42 c. $39.21 d. $37.53
Q6: . Using the cash-flows related to the top project Roberto is considering and the WACC you previously calculated, what is the expected NPV for the project (in 000’s)? a. $78.82 b. $109.45 c. $49.18 d. $53.09
Q7: Further evaluating the top project for Roberto, what is the anticipated IRR for the project? a. 11.8% b. 14.49% c. 12.45% d. 13.02%
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