Solutions Manual Fundamentals of Corporate Finance
13th Edition Ross, Westerfield, and Jordan
Chapters 1 - 27
,CHAPTER 1: Introduction to Corporate Finance
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CHAPTER 2: Financial Statements, Taxes, And Cash Flow
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CHAPTER 3: Working with Financial Statements
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CHAPTER 4: Long-Term Financial Planning and Growth
wl wl wl wl wl wl
CHAPTER 5: Introduction to Valuation: The Time Value of Money
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CHAPTER 6: Discounted Cash Flow Valuation
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CHAPTER 7: Interest Rates and Bond Valuation
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CHAPTER 8: Stock Valuation
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CHAPTER 9: Net Present Value and Other Investment Criteria
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CHAPTER 10: Making Capital Investment Decisions
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CHAPTER 11: Project Analysis and Evaluation
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CHAPTER 12: Some Lessons from Capital Market History
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CHAPTER 13: Return, Risk, And the Security Market Line
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CHAPTER 14: Cost of Capital
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CHAPTER 15: Raising Capital
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CHAPTER 16: Financial Leverage and Capital Structure Policy
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CHAPTER 17: Dividends and Payout Policy
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CHAPTER 18: Short-Term Finance and Planning
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CHAPTER 19: Cash and Liquidity Management
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CHAPTER 20: Credit and Inventory Management
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CHAPTER 21: International Corporate Finance
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CHAPTER 22: Behavioral Finance: Implications for Financial Manage
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CHAPTER 23: Enterprise Risk Management
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CHAPTER 24:Options and Corporate Finance
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CHAPTER 25: Option Valuation
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CHAPTER 26: Mergers and Acquisitions
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CHAPTER 27: Leasing
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,CHAPTER 1 wl
INTRODUCTION TO CORPORATE wl wl lw
FINANCE
Answers to Concepts Review and Critical Thinking Questions
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1. Capital budgeting (deciding whether to expand a manufacturing plant), capital structure (deciding
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whether to issue new equity and use the proceeds to retire outstanding debt), and working capita
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
l management (modifying the firm’s credit collection policy with its customers).
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2. Disadvantages: unlimited liability, limited life, difficulty in transferring ownership, hard to raise c
wl wl wl wl wl wl wl wl wl wl wl wl
apital funds. Some advantages: simpler, less regulation, the owners are also the managers, someti
wl wl wl wl wl wl wl wl wl wl wl wl wl
mes personal tax rates are better than corporate tax rates.
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3. The primary disadvantage of the corporate form is the double taxation to shareholders of distribu
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ted earnings and dividends. Some advantages include: limited liability, ease of transferability, abi
wl wl wl wl wl wl wl wl wl wl wl wl
lity to raise capital, unlimited life, and so forth.
wl wl wl wl wl wl wl wl
4. In response to Sarbanes-
wl wl wl
Oxley, small firms have elected to go dark because of the costs of compliance. The costs to com
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
ply with Sarbox can be several million dollars, which can be a large percentage of a small fir
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
ms profits. A major cost of going dark is less access to capital. Since thefirm is no longer
wl wl wl wl wl wl wl wl wl wl wl wl wl wl w
l wl wl wl
publicly traded, it can no longer raise money in the public market. Although the company will s
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
till have access to bank loans and the private equity market, the costs associated with raising fun
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
ds in these markets are usually higher than the costs of raising funds in the public market.
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
5. The treasurer’s office and the controller’s office are the two primary organizational gr
w l w l w l w l w l w l w l w l w l w l w l w l
oups thatreport directly to the chief financial officer. The controller’s office handles cost and fi
w l w
l wl wl wl wl wl wl wl wl wl wl wl wl wl
nancialaccounting, tax management, and management information systems, while the treasurer’s
w
l wl wl wl wl wl wl wl wl wl wl
office is responsible for cash and credit management, capital budgeting, and financial plann
wl wl wl wl wl wl wl wl wl wl wl wl
ing. Therefore,the study of corporate finance is concentrated within the treasury group’s function
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l wl wl wl wl wl wl wl wl wl wl wl
s.
6. To maximize the current market value (share price) of the equity of the firm (whether it’s public
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ly- traded or not).
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7. In the corporate form of ownership, the shareholders are the owners of the firm. The shareholder
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
s elect the directors of the corporation, who in turn appoint the firm’s management. This separati
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
on of ownership from control in the corporate form of organization is what causes agency proble
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
ms to exist. Management may act in its own or someone else’s best interests, rather than those o
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
f the shareholders. If such events occur, they may contradict the goal of maximizing the share pr
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
ice of the equity of the firm.
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8. A primary market transaction.
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, B-2 SOLUTIONS
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9. In auction markets like the NYSE, brokers and agents meet at a physical location (the exchange)
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to match buyers and sellers of assets. Dealer markets like NASDAQ consist of dealers operating
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at dispersed locales who buy and sell assets themselves, communicating with other dealers either
l wl wl wl wl wl wl wl wl wl wl wl wl wl
electronically or literally over-the-counter.
wl wl wl wl
10. Such organizations frequently pursue social or political missions, so many different goals are con
wl wl wl wl wl wl wl wl wl wl wl wl wl
ceivable. One goal that is often cited is revenue minimization; i.e., provide whatever goods and s
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
ervices are offered at the lowest possible cost to society. A better approach might be to observe t
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
hat even a not-for-
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profit business has equity. Thus, one answer is that the appropriate goal is to maximize the val
wl wl wl wl wl wl wl wl wl wl wl wl w l wl wl wl
ue of the equity.
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11. Presumably, the current stock value reflects the risk, timing, and magnitude of all future cash flo
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
ws, both short-term and long-term. If this is correct, then the statement is false.
wl wl wl wl wl wl wl wl wl wl wl wl wl
12. An argument can be made either way. At the one extreme, we could argue that in a market econ
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
omy,all of these things are priced. There is thus an optimal level of, for example, ethical and/or i
w
l wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
llegal behavior, and the framework of stock valuation explicitly includes these. At the other extre
wl wl wl wl wl wl wl wl wl wl wl wl wl wl
me, we could argue that these are non-
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economic phenomena and are best handled through the political process. A classic (and highly re
wl wl wl wl wl wl wl wl wl wl wl wl wl wl
levant) thought question that illustrates this debate goes something like this: “A firm has estimate
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d that the cost of improving the safety of one of its products is $30 million. However, the firm b
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
elieves that improving the safety of the product will only save $20 million in product liability cl
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
aims. What should the firm do?”
wl wl wl wl wl
13. The goal will be the same, but the best course of action toward that goal may be different becau
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
se of differing social, political, and economic institutions.
wl wl wl wl wl wl wl
14. The goal of management should be to maximize the share price for the current shareholders. If
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
management believes that it can improve the profitability of the firm so that the share price will
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
exceed $35, then they should fight the offer from the outside company. If management believes t
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
hat this bidder or other unidentified bidders will actually pay more than $35 per share to acquire
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl w
the company, then they should still fight the offer. However, if the current management cannot i
l wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
ncrease the value of the firm beyond the bid price, and no other higher bids come in, then mana
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
gement is not acting in the interests of the shareholders by fighting the offer. Since current mana
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
gers often lose their jobs when the corporation is acquired, poorly monitored managers have an i
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
ncentive to fight corporate takeovers in situations such as this.
wl wl wl wl wl wl wl wl wl
15. We would expect agency problems to be less severe in other countries, primarily due to the relat
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
ivelysmall percentage of individual ownership. Fewer individual owners should reduce the numbe
w
l wl wl wl wl wl wl wl wl wl wl wl
r of diverse opinions concerning corporate goals. The high percentage of institutional ownership
wl wl wl wl wl wl wl wl wl wl wl wl wl
might lead to a higher degree of agreement between owners and managers on decisions concerni
wl wl wl wl wl wl wl wl wl wl wl wl wl wl
ng risky projects. In addition, institutions may be better able to implement effective monitoring
wl wl wl wl wl wl wl wl wl wl wl wl wl wl
mechanisms on managers than can individual owners, based on the institutions’ deeper resources
wl wl wl wl wl wl wl wl wl wl wl wl wl
and experiences with their own management. The increase in institutional ownership of stock in t
wl wl wl wl wl wl wl wl wl wl wl wl wl wl
he United States andthe growing activism of these large shareholder groups may lead to a reduct
wl wl wl w
l wl wl wl wl wl wl wl wl wl wl wl wl
ion in agency problems for U.S. corporations and a more efficient market for corporate control.
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13th Edition Ross, Westerfield, and Jordan
Chapters 1 - 27
,CHAPTER 1: Introduction to Corporate Finance
wl wl wl wl wl
CHAPTER 2: Financial Statements, Taxes, And Cash Flow
wl wl wl wl wl wl wl
CHAPTER 3: Working with Financial Statements
wl wl wl wl wl
CHAPTER 4: Long-Term Financial Planning and Growth
wl wl wl wl wl wl
CHAPTER 5: Introduction to Valuation: The Time Value of Money
wl wl wl wl wl wl wl wl wl
CHAPTER 6: Discounted Cash Flow Valuation
wl wl wl wl wl
CHAPTER 7: Interest Rates and Bond Valuation
wl wl wl wl wl wl
CHAPTER 8: Stock Valuation
wl wl wl
CHAPTER 9: Net Present Value and Other Investment Criteria
wl wl wl wl wl wl wl wl
CHAPTER 10: Making Capital Investment Decisions
wl wl wl wl wl
CHAPTER 11: Project Analysis and Evaluation
wl wl wl wl wl
CHAPTER 12: Some Lessons from Capital Market History
wl wl wl wl wl wl wl
CHAPTER 13: Return, Risk, And the Security Market Line
wl wl wl wl wl wl wl wl
CHAPTER 14: Cost of Capital
wl wl wl wl
CHAPTER 15: Raising Capital
wl wl wl
CHAPTER 16: Financial Leverage and Capital Structure Policy
wl wl wl wl wl wl wl
CHAPTER 17: Dividends and Payout Policy
wl wl wl wl wl
CHAPTER 18: Short-Term Finance and Planning
wl wl wl wl wl
CHAPTER 19: Cash and Liquidity Management
wl wl wl wl wl
CHAPTER 20: Credit and Inventory Management
wl wl wl wl wl
CHAPTER 21: International Corporate Finance
wl wl wl wl
CHAPTER 22: Behavioral Finance: Implications for Financial Manage
wl wl wl wl wl wl wl
CHAPTER 23: Enterprise Risk Management
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CHAPTER 24:Options and Corporate Finance
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CHAPTER 25: Option Valuation
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CHAPTER 26: Mergers and Acquisitions
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CHAPTER 27: Leasing
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,CHAPTER 1 wl
INTRODUCTION TO CORPORATE wl wl lw
FINANCE
Answers to Concepts Review and Critical Thinking Questions
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1. Capital budgeting (deciding whether to expand a manufacturing plant), capital structure (deciding
wl wl wl wl wl wl wl wl wl wl wl
whether to issue new equity and use the proceeds to retire outstanding debt), and working capita
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
l management (modifying the firm’s credit collection policy with its customers).
wl wl wl wl wl wl wl wl wl wl
2. Disadvantages: unlimited liability, limited life, difficulty in transferring ownership, hard to raise c
wl wl wl wl wl wl wl wl wl wl wl wl
apital funds. Some advantages: simpler, less regulation, the owners are also the managers, someti
wl wl wl wl wl wl wl wl wl wl wl wl wl
mes personal tax rates are better than corporate tax rates.
wl wl wl wl wl wl wl wl wl
3. The primary disadvantage of the corporate form is the double taxation to shareholders of distribu
wl wl wl wl wl wl wl wl wl wl wl wl wl wl
ted earnings and dividends. Some advantages include: limited liability, ease of transferability, abi
wl wl wl wl wl wl wl wl wl wl wl wl
lity to raise capital, unlimited life, and so forth.
wl wl wl wl wl wl wl wl
4. In response to Sarbanes-
wl wl wl
Oxley, small firms have elected to go dark because of the costs of compliance. The costs to com
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
ply with Sarbox can be several million dollars, which can be a large percentage of a small fir
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
ms profits. A major cost of going dark is less access to capital. Since thefirm is no longer
wl wl wl wl wl wl wl wl wl wl wl wl wl wl w
l wl wl wl
publicly traded, it can no longer raise money in the public market. Although the company will s
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
till have access to bank loans and the private equity market, the costs associated with raising fun
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
ds in these markets are usually higher than the costs of raising funds in the public market.
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
5. The treasurer’s office and the controller’s office are the two primary organizational gr
w l w l w l w l w l w l w l w l w l w l w l w l
oups thatreport directly to the chief financial officer. The controller’s office handles cost and fi
w l w
l wl wl wl wl wl wl wl wl wl wl wl wl wl
nancialaccounting, tax management, and management information systems, while the treasurer’s
w
l wl wl wl wl wl wl wl wl wl wl
office is responsible for cash and credit management, capital budgeting, and financial plann
wl wl wl wl wl wl wl wl wl wl wl wl
ing. Therefore,the study of corporate finance is concentrated within the treasury group’s function
wl w
l wl wl wl wl wl wl wl wl wl wl wl
s.
6. To maximize the current market value (share price) of the equity of the firm (whether it’s public
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
ly- traded or not).
wl wl wl
7. In the corporate form of ownership, the shareholders are the owners of the firm. The shareholder
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
s elect the directors of the corporation, who in turn appoint the firm’s management. This separati
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
on of ownership from control in the corporate form of organization is what causes agency proble
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
ms to exist. Management may act in its own or someone else’s best interests, rather than those o
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
f the shareholders. If such events occur, they may contradict the goal of maximizing the share pr
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
ice of the equity of the firm.
wl wl wl wl wl wl
8. A primary market transaction.
wl wl wl
, B-2 SOLUTIONS
w l
9. In auction markets like the NYSE, brokers and agents meet at a physical location (the exchange)
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl w
to match buyers and sellers of assets. Dealer markets like NASDAQ consist of dealers operating
l wl wl wl wl wl wl wl wl wl wl wl wl wl wl w
at dispersed locales who buy and sell assets themselves, communicating with other dealers either
l wl wl wl wl wl wl wl wl wl wl wl wl wl
electronically or literally over-the-counter.
wl wl wl wl
10. Such organizations frequently pursue social or political missions, so many different goals are con
wl wl wl wl wl wl wl wl wl wl wl wl wl
ceivable. One goal that is often cited is revenue minimization; i.e., provide whatever goods and s
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
ervices are offered at the lowest possible cost to society. A better approach might be to observe t
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
hat even a not-for-
wl wl wl
profit business has equity. Thus, one answer is that the appropriate goal is to maximize the val
wl wl wl wl wl wl wl wl wl wl wl wl w l wl wl wl
ue of the equity.
wl wl wl
11. Presumably, the current stock value reflects the risk, timing, and magnitude of all future cash flo
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
ws, both short-term and long-term. If this is correct, then the statement is false.
wl wl wl wl wl wl wl wl wl wl wl wl wl
12. An argument can be made either way. At the one extreme, we could argue that in a market econ
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
omy,all of these things are priced. There is thus an optimal level of, for example, ethical and/or i
w
l wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
llegal behavior, and the framework of stock valuation explicitly includes these. At the other extre
wl wl wl wl wl wl wl wl wl wl wl wl wl wl
me, we could argue that these are non-
wl wl wl wl wl wl wl
economic phenomena and are best handled through the political process. A classic (and highly re
wl wl wl wl wl wl wl wl wl wl wl wl wl wl
levant) thought question that illustrates this debate goes something like this: “A firm has estimate
wl wl wl wl wl wl wl wl wl wl wl wl wl wl
d that the cost of improving the safety of one of its products is $30 million. However, the firm b
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
elieves that improving the safety of the product will only save $20 million in product liability cl
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
aims. What should the firm do?”
wl wl wl wl wl
13. The goal will be the same, but the best course of action toward that goal may be different becau
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
se of differing social, political, and economic institutions.
wl wl wl wl wl wl wl
14. The goal of management should be to maximize the share price for the current shareholders. If
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
management believes that it can improve the profitability of the firm so that the share price will
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
exceed $35, then they should fight the offer from the outside company. If management believes t
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
hat this bidder or other unidentified bidders will actually pay more than $35 per share to acquire
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl w
the company, then they should still fight the offer. However, if the current management cannot i
l wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
ncrease the value of the firm beyond the bid price, and no other higher bids come in, then mana
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
gement is not acting in the interests of the shareholders by fighting the offer. Since current mana
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
gers often lose their jobs when the corporation is acquired, poorly monitored managers have an i
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
ncentive to fight corporate takeovers in situations such as this.
wl wl wl wl wl wl wl wl wl
15. We would expect agency problems to be less severe in other countries, primarily due to the relat
wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl wl
ivelysmall percentage of individual ownership. Fewer individual owners should reduce the numbe
w
l wl wl wl wl wl wl wl wl wl wl wl
r of diverse opinions concerning corporate goals. The high percentage of institutional ownership
wl wl wl wl wl wl wl wl wl wl wl wl wl
might lead to a higher degree of agreement between owners and managers on decisions concerni
wl wl wl wl wl wl wl wl wl wl wl wl wl wl
ng risky projects. In addition, institutions may be better able to implement effective monitoring
wl wl wl wl wl wl wl wl wl wl wl wl wl wl
mechanisms on managers than can individual owners, based on the institutions’ deeper resources
wl wl wl wl wl wl wl wl wl wl wl wl wl
and experiences with their own management. The increase in institutional ownership of stock in t
wl wl wl wl wl wl wl wl wl wl wl wl wl wl
he United States andthe growing activism of these large shareholder groups may lead to a reduct
wl wl wl w
l wl wl wl wl wl wl wl wl wl wl wl wl
ion in agency problems for U.S. corporations and a more efficient market for corporate control.
wl wl wl wl wl wl wl wl wl wl wl wl wl wl
