Exam Essay Example | Topics and Well Written Essays - 1500 words - 1

Exam - Essay Example weighted-average cost of capital for a firm with the following sources of funds and corresponding required rates of return: $5 million common stock at 16 percent, $500,000 preferred stock at 10 percent, and $3 million debt at 9 percent. All amounts are listed at market values and the firms tax rate is 35 percent. 3- Firms A and B intend to merge and Firm A has calculated the NPV of the merger to be $2 million after paying $8 million for Firm B. If Firm A had a pre-merger value of $10 million and Firm B had a pre-merger value of $6 million, calculate the value of the merged entity, as well as the cost of the merger. 4- Circular File stock is selling for $25 a share. You see that call options on the stock with exercise price of $20 are selling at $3. What should you do? What will happen to the option price as investors identify this opportunity? Then you observe that put options on Circular File with exercise price $30 are selling for $4. What should you do? In the first case, I will be exercising the call option since it gives me the intrinsic benefit of $2 ($25 - $20 - $3). My total cost of the stock would be $23 however; I will still earn benefit of $2 as compared to market where the stock is selling at $25. When other investors would see this opportunity, there are two possibilities to happen. Firstly, the current share price is likely to reduce to $23 or secondly, the value of call option may increase to $5. In case of put option, I will be exercising the put option as it will allow me to generate the intrinsic benefit of $1 ($30 - $25 - $4). I would be purchasing the stock at a total cost of $29 i.e. $25 current price plus $4 the value of put option. I would then be selling the stock at $30, which would earn me $1