# FIN-450 Week 7 Chapter 18 Practice Problems

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FIN-450 Week 7 Chapter 18 Practice Problems

Intermediate Finance - Dividend Policy

Grand Canyon University

Complete the following problems from Chapter 18 in the textbook:

1. P18-3

2. P18-11

3. P18-12

4. P18-14

1. Do all work in Excel. Do not submit Word files or *.pdf files.

2. Submit a single spreadsheet file for this assignment. Do not submit multiple files.

3. Place each problem on a separate spreadsheet tab.

You are not required to submit this assignment to Turnitin.

1.     P18-3      Tax benefits and price Hahn Textiles has a tax loss carryforward of \$800,000. Two firms are interested in acquiring Hahn for the tax loss advantage. Reilly Investment Group has expected earnings before taxes of \$200,000 per year for each of the next 7 years and a cost of capital of 15%. Webster Industries has expected earnings before taxes for the next 7 years as shown in the following table. Both Reilly’s and Webster’s expected earnings are assumed to fall within the annual limit legally allowed for application of the tax loss carry forward resulting from the proposed merger (see footnote 2 on page 727). Webster has a cost of capital of 15%. Both firms are subject to a 40% tax rate on ordinary income.

a. What is the tax advantage of the merger each year for Reilly?

b. What is the tax advantage of the merger each year for Webster? ……………….

2.  P18-11    EPS and postmerger price Data for Henry Company and Mayer Services are given in the following table. Henry Company is considering merging with Mayer by swapping 1.25 shares of its stock for each share of Mayer stock. Henry Company expects its stock to sell at the same price/earnings (P/E) multiple after the merger as before merging.

a. Calculate the ratio of exchange in market price.

b. Calculate the earnings per share (EPS) and price/earnings (P/E) ratio for each company.

c. Calculate the price/earnings (P/E) ratio used to purchase Mayer Services.

d. Calculate the postmerger earnings per share (EPS) for Henry Company.

e. Calculate the expected market price per share of the merged firm. Discuss this result in light of your findings in part a.

3.   P18-12       Holding company Scully Corporation holds enough stock in company A and company B to give it voting control of both firms. Consider the accompanying simplified balance sheets for these companies

a. What percentage of the total assets controlled by Scully Corporation does its common stock equity represent?

b.  If another company owns 15% of the common stock of Scully Corporation and, by virtue of this fact, has voting control, what percentage of the total assets controlled does the outside company’s equity represent?

c. How does a holding company effectively provide a great deal of control for a small dollar investment?

d. Answer parts a and b in light of the following additional facts.

(1) Company A’s fixed assets consist of \$20,000 of common stock in Company C. This level of ownership provides voting control.

(2) Company C’s total assets of \$400,000 include \$15,000 of stock in Company D, which gives Company C voting control over Company D’s \$50,000 of total assets.

(3) Company B’s fixed assets consist of \$60,000 of stock in both Company E and Company F. In both cases, this level of ownership gives it voting control. Companies E and F have total assets of \$300,000 and \$400,000, respectively.

4 P18-14   Voluntary settlements For a firm with outstanding debt of \$125,000, classify each of the following voluntary settlements as an extension, a composition, or a combination of the two.

a. Paying a group of creditors in full in four periodic installments and paying the remaining creditors in full immediately.

b. Paying a group of creditors 90 cents on the dollar immediately and paying the remaining creditors 80 cents on the dollar in two periodic installments.

c. Paying all creditors 15 cents on the dollar. Paying all creditors in full in 180 days.

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