Concept explainers
Eco Plastics Company
Since its inception, Eco Plastics Company has been revolutionizing plastic and trying to do its part to save the environment. Eco’s founder, Marion Cosby, developed a biodegradable plastic that her company is marketing to manufacturing companies throughout the southeastern United States. After operating as a private company for 6 years, Eco went public in 2012 and is listed on the Nasdaq stock exchange.
As the chief financial officer of a young company with lots of investment opportunities, Eco’s CFO closely monitors the firm’s cost of capital. The CFO keeps tabs on each of the individual costs of Eco’s three main financing sources: long-term debt,
Source of capital | Weight |
Long-term debt | 30% |
Preferred stock | 20 |
Common stock equity | 50 |
Total | 100% |
At the present time, Eco can raise debt by selling 20-year bonds with a $1,000 par value and a 10.5% annual coupon interest rate. Eco’s corporate tax rate is 40%, and its bonds generally require an average discount of $45 per bond and flotation costs of $32 per bond when being sold. Eco’s outstanding preferred stock pays a 9% dividend and has a $95-per-share par value. The cost of issuing and selling additional preferred stock is expected to be $7 per share. Because Eco is a young firm that requires lots of cash to grow, it does not currently pay a dividend to common stockholders. To track the cost of common stock, the CFO uses the
Although Eco’s current target capital structure includes 20% preferred stock, the company is considering using debt financing to retire the outstanding preferred stock, thus shifting their target capital structure to 50% long-term debt and 50% common stock. If Eco shifts its capital mix from preferred stock to debt, its financial advisors expect its beta to increase to 1.5.
To Do
- a. Calculate Eco’s current after-tax cost of long-term debt.
- b. Calculate Eco’s current cost of preferred stock.
- c. Calculate Eco’s current cost of common stock.
- d. Calculate Eco’s current weighted average cost capital (WACC).
- e. 1. Assuming that the debt financing costs do not change, what effect would a shift to a more highly leveraged capital structure consisting of 50% long-term debt, 0% preferred stock, and 50% common stock have on the risk premium for Eco’s common stock? What would be Eco’s new
cost of common equity ? - 2. What would be Eco’s new weighted average cost of capital (WACC)?
- 3. Which capital structure- the original one or this one-seems better? Why?
Trending nowThis is a popular solution!
Chapter 9 Solutions
Gitman: Principl Manageri Finance_15 (15th Edition) (What's New in Finance)
- Conch Republic Electronics is a midsized electronics manufacturer located in Keey West,Florida. The company president is Shelly Couts, who inherited the company. The companyoriginally repaired radios and other household appliances when it was founded more than 70years ago. Over the years, the company has expanded, and it is now a reputable manufacturerof various speciality electronic items. Jay McCanless, a recent MBA graduate, has been hiredby the company in its finance department.One of the major revenue-producing items manufactured by Conch Republic is a smartphone.Conch Republic currently has one smartphone model on the market and sales have beenexcellent. The smartphone is a unique item in that it comes in a variety of tropical colors andis preprogrammed to play Jimmy Buffett music. However, as with any electronic item,technology changes rapidly, and the current smartphone has limited features in comparisonwith newer models. Conch Republic spent $1.2 million to develop a prototype…arrow_forwardConch Republic Electronics is a midsized electronics manufacturer located in Keey West,Florida. The company president is Shelly Couts, who inherited the company. The companyoriginally repaired radios and other household appliances when it was founded more than 70years ago. Over the years, the company has expanded, and it is now a reputable manufacturerof various speciality electronic items. Jay McCanless, a recent MBA graduate, has been hiredby the company in its finance department.One of the major revenue-producing items manufactured by Conch Republic is a smartphone.Conch Republic currently has one smartphone model on the market and sales have beenexcellent. The smartphone is a unique item in that it comes in a variety of tropical colors andis preprogrammed to play Jimmy Buffett music. However, as with any electronic item,technology changes rapidly, and the current smartphone has limited features in comparisonwith newer models. Conch Republic spent $1.2 million to develop a prototype…arrow_forwardThis case explores Alibaba’s record setting IPO. Alibaba, China’s largest e-commerce company, was founded in 1999 with a $60,000 investment from entrepreneur Jack Ma. The company has since grown to be one of the world’s largest online e-commerce companies with transactions exceeding those of Amazon and eBay combined. In 2013, Alibaba’s leaders decided it was time to take the company public. Alibaba hoped that by going public, it would raise the cash necessary to finance improvements to its infrastructure that would allow the company to continue its rapid growth. Alibaba also felt that an IPO would put it in a better position to implement an acquisition strategy. In addition, an IPO would give employees an option to sell their shares in the company. Following the decision to go public, Alibaba explored where to hold its IPO. Initially, Hong Kong looked to be a strong choice, however it was later rejected when it became clear that local regulations could effectively cause Alibaba to…arrow_forward
- This case explores Alibaba’s record setting IPO. Alibaba, China’s largest e-commerce company, was founded in 1999 with a $60,000 investment from entrepreneur Jack Ma. The company has since grown to be one of the world’s largest online e-commerce companies with transactions exceeding those of Amazon and eBay combined. In 2013, Alibaba’s leaders decided it was time to take the company public. Alibaba hoped that by going public, it would raise the cash necessary to finance improvements to its infrastructure that would allow the company to continue its rapid growth. Alibaba also felt that an IPO would put it in a better position to implement an acquisition strategy. In addition, an IPO would give employees an option to sell their shares in the company. Following the decision to go public, Alibaba explored where to hold its IPO. Initially, Hong Kong looked to be a strong choice, however it was later rejected when it became clear that local regulations could effectively cause Alibaba to…arrow_forwardThe GFA Company, originally established 16 years ago to make footballs, is now a leading producer of tennis balls, baseballs, footballs, and golf balls. Nine years ago, the company introduced “High Flite,” its first line of high-performance golf balls. GFA management has sought opportunities in whatever businesses seem to have some potential for cash flow. Recently Mr Dawadawa, vice president of the GFA Company, identified another segment of the sports ball market that looked promising and that he felt was not adequately served by larger manufacturers. As a result, the GFA Company investigated the marketing potential of brightly coloured bowling balls. GFA sent a questionnaire to consumers in three markets: Accra, Kumasi, and Koforidua. The results of the three questionnaires were much better than expected and supported the conclusion that the brightly coloured bowling balls could achieve a 10 to 15 percent share of the market. Of course, some people at GFA complained about the cost of…arrow_forwardThe GFA Company, originally established 16 years ago to make footballs, is now a leading producer of tennis balls, baseballs, footballs, and golf balls. Nine years ago, the company introduced “High Flite,” its first line of high-performance golf balls. GFA management has sought opportunities in whatever businesses seem to have some potential for cash flow. Recently Mr Dawadawa, vice president of the GFA Company, identified another segment of the sports ball market that looked promising and that he felt was not adequately served by larger manufacturers. As a result, the GFA Company investigated the marketing potential of brightly coloured bowling balls. GFA sent a questionnaire to consumers in three markets: Accra, Kumasi, and Koforidua. The results of the three questionnaires were much better than expected and supported the conclusion that the brightly coloured bowling balls could achieve a 10 to 15 percent share of the market. Of course, some people at GFA complained about the cost of…arrow_forward
- MAG Petroleum is an SME specialising in the sale of lubricants for industrial use. The company, which is owned and operated by Angelina, has just completed its third year operation. During this time, Angelina has sought to establish a reputation for the company as a supplier of high quality lubricants. The efforts made by Angelina and her staff have proved successful, and her company has become one of the best and fastest growing privately owned company in Zambia.Angelina has concluded that in order to plan better for the growth of the company in the future, it is necessary to develop assistance that will enable her to forecast lubricant sales by month for up to one year in advance. Angelina has available data on the total lubricant sales that were realized during the previous three years of operation. These data are provided in Table Q2.(a) What forecasting method would you recommend to Angelina? Justify your choicearrow_forwardJohn Snow has recently retired, and he received a large lump sum settlement from his employer. He would like to invest this money to achieve a stable long term income. He is considering investing in the following two companies: Allied Grocers (AG) are a 3-year-old online grocery retailer that specializes in delivering a wide selection of quality food products through an online platform. Beta Solutions (BS) is an established 10-year-old electronics company that is known for selling the most innovative electronic products and software solutions. Selected financial data for 2019 AG BS Average total assets 1,500,000 4,000,000 Average # of common shares outstanding (no preferred shares) 10,000 10,000 Dividends paid 10,000 50,000 Current Market price per share $95 $165 Net sales 1,300,000 6,300,000 Cost of goods sold 900,000 4,200,000 Gross profit 400,000 2,100,000 Operating Expenses: Administrative…arrow_forwardConch Republic Electronics is a midsized electronics manufacturer located in Key West, Florida. The companypresident is Shelly Couts, who inherited the company. The company originally repaired radios and other householdappliances when it was founded over 70 years ago. Over the years, the company has expanded, and it is now a reputablemanufacturer of various specialty electronic items. Jay McCanless, a recent MBA graduate, has been hired by thecompany in its finance department.One of the major revenue-producing items manufactured by Conch Republic is a smart phone. Conch Republiccurrently has one smart phone model on the market and sales have been excellent. The smart phone is a unique itemin that it comes in a variety of tropical colors and is preprogrammed to play Jimmy Buffett music. However, as withany electronic item, technology changes rapidly, and the current smart phone has limited features in comparison withnewer models. Conch Republic spent $300,000 to develop a prototype for…arrow_forward
- Conch Republic Electronics is a midsized electronics manufacturer located in Key West, Florida. The companypresident is Shelly Couts, who inherited the company. The company originally repaired radios and other householdappliances when it was founded over 70 years ago. Over the years, the company has expanded, and it is now a reputablemanufacturer of various specialty electronic items. Jay McCanless, a recent MBA graduate, has been hired by thecompany in its finance department.One of the major revenue-producing items manufactured by Conch Republic is a smart phone. Conch Republiccurrently has one smart phone model on the market and sales have been excellent. The smart phone is a unique itemin that it comes in a variety of tropical colors and is preprogrammed to play Jimmy Buffett music. However, as withany electronic item, technology changes rapidly, and the current smart phone has limited features in comparison withnewer models. Conch Republic spent $300,000 to develop a prototype for…arrow_forwardBadwin Ltd is a rapidly growing company presently owned by the Badwin family. It sells designer clothing and accessories that it sourced from around the world and the trading result are exceeding expectations. The family is looking to cash in on the success of the business and also provide some capital for expansion, so they have decided to float the company on the stock exchange. At present, the board of directors consists of Mark Badwin who is the Chairman and Managing Director, and his two sons David and John who are Sales and Buying Directors respectively. They are going to appoint Bill Struter who is presently the Chief Accountant, as Financial Director just before flotation. The Auditor, T & R are a little concerned that the Stock Exchange will find the level of Corporate Governance unacceptably low, if not actually non-existence, and they think they should tell Mark Badwin, who is dogmatic and not a man who like others interfering in his business, what he need to do to…arrow_forwardJohn is CFO at a venture-backed tech start-up with revenues of $20 million andapproximately 80 employees. He has worked at the company for several years, andnow reports to Ralph, the company's newly hired CEO.The company had been doing really well, but recently big customers have been placingfewer orders and Ralph is feeling pressure to show growth. This pressure is amplifiedbecause the company is venture-backed, and the investors expect results. While thecompany did well in the first round of funding, if they don't perform now, they may havetrouble with gaining sufficient funding in the second round, which could mean the endof the company.All of this was on John's mind when Ralph came to him about recording a major orderthat was still under negotiation. The deal had not gone through, although both partiesexpected to complete the deal in the next week. With the current quarter ending in thenext few days, including this order would give a significant boost to the company'sfinancial…arrow_forward
- Essentials Of InvestmentsFinanceISBN:9781260013924Author:Bodie, Zvi, Kane, Alex, MARCUS, Alan J.Publisher:Mcgraw-hill Education,
- Foundations Of FinanceFinanceISBN:9780134897264Author:KEOWN, Arthur J., Martin, John D., PETTY, J. WilliamPublisher:Pearson,Fundamentals of Financial Management (MindTap Cou...FinanceISBN:9781337395250Author:Eugene F. Brigham, Joel F. HoustonPublisher:Cengage LearningCorporate Finance (The Mcgraw-hill/Irwin Series i...FinanceISBN:9780077861759Author:Stephen A. Ross Franco Modigliani Professor of Financial Economics Professor, Randolph W Westerfield Robert R. Dockson Deans Chair in Bus. Admin., Jeffrey Jaffe, Bradford D Jordan ProfessorPublisher:McGraw-Hill Education