Weighted Average Cost of Capital and Marriott Corporation

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Butler Lumber Company

1.Why does Mr. Butler have to borrow so much money to support this profitable business?

2.Do you agree with his estimate of the company’s loan requirements? How much will he need to borrow to finance his expected expansion in sales (assume a 1991 sales volume of $3.6 million)

3.As Mr. Butler’s financial adviser, would you urge him to go ahead with, or to reconsider, his anticipated expansion and his plans for additional debt financing? As the banker, would you approve Mr. Butler’s loan request, and, if so, what conditions would you put on the loan?

Toy World

1.What factors could Mr. McClintock consider in deciding whether or not to adopt the level production plan?

2.What savings would be involved?

3.Estimate the amount of added funds required and the timing of the needs under level production. Prepare pro forma income statements and balance sheets (rather than cash budget) to make this estimate. Ignore interest expense in making these estimates.

4.Compare the liabilities patterns feasible under the alternative production plans. What implications do their differences have for the risk assumed by the various parties?

Hampton Machine Tool

1.Why can’t a profitable firm like Hampton repay its loan on time and why does it need more bank financing? What major developments between November 1978 and August 1979 contributed to this situation?

2.Based on the information in the case, prepare a projected cash budget for the four months September through December 1979, a projected income statement for the same period, and a pro forma balance sheet as of December 31, 1979.

3.Review the results of your forecast. Do the cash budgets and the pro forma financial statements yield the same results? Why?

4.Critically evaluate the assumptions on which your forecasts are based. What developments could alter your results? Is Mr. Cowins correct in his belief that Hampton can repay the loan in December?

5.What action should Mr. Eckwood take on Mr. Cowins’ loan request? What are the major risks associated with the proposed loan? What other alternatives does Mr. Eckwood have, and what are their pros and cons? What would you do?

6.Why did Hampton repurchase a substantial fraction of its outstanding common stock? What is the impact of this repurchase on Hampton’s financial performance? Critically assess Hampton’s dividend policy. Do you agree with Mr. Cowins’ proposal to pay a substantial dividend in December?

Marriott Corporation (Cost of Capital)

1.Are the four components of Marriott’s financial strategy consistent with its growth objective?

2.How does Marriott use its estimate of its cost of capital? Does this make sense?

3.What is the weighted average cost of capital for Marriott Corporation?

a.What risk-free rate and risk premium did you use to calculate the cost of equity?

b.How did you measure Marriott’s cost of debt?

4.What type of investments would you value using Marriott’s WACC?

5.If Marriott used a single corporate hurdle rate for evaluating investment opportunities in each of its lines of business, what would happen to the company over time?

6.What is the cost of capital for the lodging and restaurant divisions of Marriott?

a.What risk-free rate and risk premium did you use in calculating the cost of equity for each division? Why did you choose these numbers?

b.How did you measure the cost of debt for each division? Should the debt cost differ across divisions? Why?

c.How did you measure the beta of each division?

7.What is the cost of capital for Marriott’s contract services division? How can you estimate its equity costs without publicly traded comparable companies?

Dividend Policy of FPL Group

1.Why do firms pay dividends? What, in general, are the advantages and disadvantages of paying cash dividends?

2.What are the most important issues confronting the FPL Group in May 1994?...
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