I Wanted to know if anyone could help me figure out this homework problem ive been on this for 3days strait and getting no where.
Far Out Tech (FOT) has a debt ratio of 0.36 and it considers this to be its optimal
capital structure. FOT has no preferred stock. FOT has analyzed four capital projects for the coming year as follows:
Project Net Investment IRR
1 $3,000,000 13.5%
2 $1,500,000 18.0%
3 $2,000,000 12.6%
4 $1,600,000 16.0%
FOT expects to earn $2.7 million after tax next year and pay out $700,000 in dividends. Dividends are expected to be $1.05 a share during the coming year and are expected to grow at a constant rate of 11 percent a year for the foreseeable future. The current market price of FOT stock is $24 and up to $2 million in new equity can be raised for a flotation cost of 10 percent. If more than $2 million is sold then the flotation cost will be 15 percent. Up to $2 million in debt can be sold at par with a coupon rate of 10 percent. Any debt over $2 million will carry a 12 percent coupon rate and be sold at par. If FOT has a marginal tax rate of 35 percent, in which projects should it invest and what is FOT’s optimal capital budget? (Please draw MCC and IOS curves when answering this question.)
Far Out Tech (FOT) has a debt ratio of 0.36 and it considers this to be its optimal
capital structure. FOT has no preferred stock. FOT has analyzed four capital projects for the coming year as follows:
Project Net Investment IRR
1 $3,000,000 13.5%
2 $1,500,000 18.0%
3 $2,000,000 12.6%
4 $1,600,000 16.0%
FOT expects to earn $2.7 million after tax next year and pay out $700,000 in dividends. Dividends are expected to be $1.05 a share during the coming year and are expected to grow at a constant rate of 11 percent a year for the foreseeable future. The current market price of FOT stock is $24 and up to $2 million in new equity can be raised for a flotation cost of 10 percent. If more than $2 million is sold then the flotation cost will be 15 percent. Up to $2 million in debt can be sold at par with a coupon rate of 10 percent. Any debt over $2 million will carry a 12 percent coupon rate and be sold at par. If FOT has a marginal tax rate of 35 percent, in which projects should it invest and what is FOT’s optimal capital budget? (Please draw MCC and IOS curves when answering this question.)