4.
Suppose Goodyear Tire and Rubber Company is considering divesting one of its manufacturing plants. The plant is expected to generate free cash flows of $1.5 million per year, growing at a rate of 2.5% per year. Goodyear has an equity cost of capital of 8.5%, a debt cost of capital of 7%, a marginal corporate tax rate of 35%, and a debt-equity ratio of 2.6. If the plant has average risk and Goodyear plans to maintain a constant debt-equity ratio, what after-tax amount must it receive for the plant for the divestiture to be profitable?
5.
Suppose Alcatel-Lucent has an equity cost of capital of 10%, market capitalization of $10.8 billion, and an enterprise value of $14.4 billion. Suppose Alcatel-Lucent’s debt cost of capital is 6.1% and its marginal tax rate is 35%.
• a. What is Alcatel-Lucent’s WACC?
• b. If Alcatel-Lucent maintains a constant debt-equity ratio, what is the value of a project with average risk and the following expected free cash flows?
Year 0 1 2 3
FCF −100 50 100 70
• c. If Alcatel-Lucent maintains its debt-equity ratio, what is the debt capacity of the project in part b?
• 1.
• What inherent characteristic of corporations creates the need for a system of checks on manager behavior?
• 2.
• What are some examples of agency problems?
• 3.
• What are the advantages and disadvantages of the corporate organizational structure?
• Managing Agency Conflict
• 10.
• Is it necessarily true that increasing managerial ownership stakes will improve firm performance?
• 11.
• How can proxy contests be used to overcome a captured board?
• 12.
• What is a say-on-pay vote?
• 13.
• What are a board’s options when confronted with dissident shareholders?
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