Solutions Manual Fundamentals of Corporate Finance
13th Edition Ross, Westerfield, and Jordan
Chapters 1 - 27
,CHAPTER 1: Introduction to Corporate Finance
CHAPTER 2: Financial Statements, Taxes, And Cash Flow
CHAPTER 3: Working with Financial Statements
CHAPTER 4: Long-Term Financial Planning and Growth
CHAPTER 5: Introduction to Valuation: The Time Value of Money
CHAPTER 6: Discounted Cash Flow Valuation
CHAPTER 7: Interest Rates and Bond Valuation
CHAPTER 8: Stock Valuation
CHAPTER 9: Net Present Value and Other Investment Criteria
CHAPTER 10: Making Capital Investment Decisions
CHAPTER 11: Project Analysis and Evaluation
CHAPTER 12: Some Lessons from Capital Market History
CHAPTER 13: Return, Risk, And the Security Market Line
CHAPTER 14: Cost of Capital
CHAPTER 15: Raising Capital
CHAPTER 16: Financial Leverage and Capital Structure Policy
CHAPTER 17: Dividends and Payout Policy
CHAPTER 18: Short-Term Finance and Planning
CHAPTER 19: Cash and Liquidity Management
CHAPTER 20: Credit and Inventory Management
CHAPTER 21: International Corporate Finance
CHAPTER 22: Behavioral Finance: Implications for Financial Manage
CHAPTER 23: Enterprise Risk Management
CHAPTER 24:Options and Corporate Finance
CHAPTER 25: Option Valuation
CHAPTER 26: Mergers and Acquisitions
CHAPTER 27: Leasing
,CHAPTER 1
INTRODUCTION TO CORPORATE
FINANCE
Answers to Concepts Review and Critical Thinking Questions
1. Capital budgeting (deciding whether to expand a manufacturing plant), capital structure (deciding
whether to issue new equity and use the proceeds to retire outstanding debt), and working capital
management (modifying the firm’s credit collection policy with its customers).
2. Disadvantages: unlimited liability, limited life, difficulty in transferring ownership, hard to raise
capital funds. Some advantages: simpler, less regulation, the owners are also the managers,
sometimes personal tax rates are better than corporate tax rates.
3. The primary disadvantage of the corporate form is the double taxation to shareholders of distributed
earnings and dividends. Some advantages include: limited liability, ease of transferability, ability to
raise capital, unlimited life, and so forth.
4. In response to Sarbanes-Oxley, small firms have elected to go dark because of the costs of
compliance. The costs to comply with Sarbox can be several million dollars, which can be a large
percentage of a small firms profits. A major cost of going dark is less access to capital. Since the
firm is no longer publicly traded, it can no longer raise money in the public market. Although the
company will still have access to bank loans and the private equity market, the costs associated with
raising funds in these markets are usually higher than the costs of raising funds in the public market.
5. The treasurer’s office and the controller’s office are the two primary organizational groups that
report directly to the chief financial officer. The controller’s office handles cost and financial
accounting, tax management, and management information systems, while the treasurer’s office is
responsible for cash and credit management, capital budgeting, and financial planning. Therefore,
the study of corporate finance is concentrated within the treasury group’s functions.
6. To maximize the current market value (share price) of the equity of the firm (whether it’s publicly-
traded or not).
7. InMtheMcorporateMformMofMownership,MtheMshareholdersMareMtheMownersMofMtheMfirm.MTheMsh
areholdersMelectMtheMdirectorsMofMtheMcorporation,MwhoMinMturnMappointMtheMfirm’sMmanagem
ent.MThisMseparationMofMownershipMfromMcontrolMinMtheMcorporateMformMofMorganizationMisMw
hatMcausesMagencyMproblemsMtoMexist.MManagementMmayMactMinMitsMownMorMsomeoneMelse’s
MbestMinterests,MratherMthanMthoseMofMtheMshareholders.MIfMsuchMeventsMoccur,MtheyMmayMcont
radictMtheMgoalMofMmaximizingMtheMshareMpriceMofMtheMequityMofMtheMfirm.
8. AMprimaryMmarketMtransaction.
, B-2M SOLUTIONS
9. InMauctionMmarketsMlikeMtheMNYSE,MbrokersMandMagentsMmeetMatMaMphysicalMlocationM(theMe
xchange)MtoMmatchMbuyersMandMsellersMofMassets.MDealerMmarketsMlikeMNASDAQMconsistMofM
dealersMoperatingMatMdispersedMlocalesMwhoMbuyMandMsellMassetsMthemselves,McommunicatingM
withMotherMdealersMeitherMelectronicallyMorMliterallyMover-the-counter.
10. SuchMorganizationsMfrequentlyMpursueMsocialMorMpoliticalMmissions,MsoMmanyMdifferentMgoalsM
areMconceivable.MOneMgoalMthatMisMoftenMcitedMisMrevenueMminimization;Mi.e.,MprovideMwhatev
erMgoodsMandMservicesMareMofferedMatMtheMlowestMpossibleMcostMtoMsociety.MAMbetterMapproac
hMmightMbeMtoMobserveMthatMevenMaMnot-for-
profitMbusinessMhasMequity.MThus,MoneManswerMisMthatMtheMappropriateMgoalMisM toMmaximize
MtheMvalueMofMtheMequity.
11. Presumably,MtheMcurrentMstockMvalueMreflectsMtheMrisk,Mtiming,MandMmagnitudeMofMallMfutureM
cashMflows,MbothMshort-termMandMlong-term.MIfMthisMisMcorrect,MthenMtheMstatementMisMfalse.
12. AnMargumentMcanMbeMmadeMeitherMway.MAtMtheMoneMextreme,MweMcouldMargueMthatMinMaMm
arketMeconomy,MallMofMtheseMthingsMareMpriced.MThereMisMthusManMoptimalMlevelMof,MforMexa
mple,MethicalMand/orMillegalMbehavior,MandMtheMframeworkMofMstockMvaluationMexplicitlyMinclu
desMthese.MAtMtheMotherMextreme,MweMcouldMargueMthatMtheseMareMnon-
economicMphenomenaMandMareMbestMhandledMthroughMtheMpoliticalMprocess.MAMclassicM(andMh
ighlyMrelevant)MthoughtMquestionMthatMillustratesMthisMdebateMgoesMsomethingMlikeMthis:M“AMfi
rmMhasMestimatedMthatMtheMcostMofMimprovingMtheMsafetyMofMoneMofMitsMproductsMisM$30Mmil
lion.MHowever,MtheMfirmMbelievesMthatMimprovingMtheMsafetyMofMtheMproductMwillMonlyMsaveM
$20MmillionMinMproductMliabilityMclaims.MWhatMshouldMtheMfirmMdo?”
13. TheMgoalMwillMbeMtheMsame,MbutMtheMbestMcourseMofMactionMtowardMthatMgoalMmayMbeMdiffer
entMbecauseMofMdifferingMsocial,Mpolitical,MandMeconomicMinstitutions.
14. TheMgoalMofMmanagementMshouldMbeMtoMmaximizeMtheMshareMpriceMforMtheMcurrentMsharehold
ers.MIfMmanagementMbelievesMthatMitMcanMimproveMtheMprofitabilityMofMtheMfirmMsoMthatMtheM
shareMpriceMwillMexceedM$35,MthenMtheyMshouldMfightMtheMofferMfromMtheMoutsideMcompany.M
IfMmanagementMbelievesMthatMthisMbidderMorMotherMunidentifiedMbiddersMwillMactuallyMpayMmo
reMthanM$35MperMshareMtoMacquireMtheMcompany,MthenMtheyMshouldMstillMfightMtheMoffer.MHo
wever,MifMtheMcurrentMmanagementMcannotMincreaseMtheMvalueMofMtheMfirmMbeyondMtheMbidM
price,MandMnoMotherMhigherMbidsMcomeMin,MthenMmanagementMisMnotMactingMinMtheMinterestsM
ofMtheMshareholdersMbyMfightingMtheMoffer.MSinceMcurrentMmanagersMoftenMloseMtheirMjobsMwh
enMtheMcorporationMisMacquired,MpoorlyMmonitoredMmanagersMhaveManMincentiveMtoMfightMcorp
orateMtakeoversMinMsituationsMsuchMasMthis.
15. WeMwouldMexpectMagencyMproblemsMtoMbeMlessMsevereMinMotherMcountries,MprimarilyMdueMto
MtheMrelativelyMsmallMpercentageMofMindividualMownership.MFewerMindividualMownersMshouldMr
educeMtheMnumberMofMdiverseMopinionsMconcerningMcorporateMgoals.MTheMhighMpercentageMof
MinstitutionalMownershipMmightMleadMtoMaMhigherMdegreeMofMagreementMbetweenMownersMandM
managersMonMdecisionsMconcerningMriskyMprojects.MInMaddition,MinstitutionsMmayMbeMbetterMab
leMtoMimplementMeffectiveMmonitoringMmechanismsMonMmanagersMthanMcanMindividualMowners,
MbasedMonMtheMinstitutions’MdeeperMresourcesMandMexperiencesMwithMtheirMownMmanagement.M
TheMincreaseMinMinstitutionalMownershipMofMstockMinMtheMUnitedMStatesMandMtheMgrowingMacti
vismMofMtheseMlargeMshareholderMgroupsMmayMleadMtoMaMreductionMinMagencyMproblemsMforM
U.S.McorporationsMandMaMmoreMefficientMmarketMforMcorporateMcontrol.
13th Edition Ross, Westerfield, and Jordan
Chapters 1 - 27
,CHAPTER 1: Introduction to Corporate Finance
CHAPTER 2: Financial Statements, Taxes, And Cash Flow
CHAPTER 3: Working with Financial Statements
CHAPTER 4: Long-Term Financial Planning and Growth
CHAPTER 5: Introduction to Valuation: The Time Value of Money
CHAPTER 6: Discounted Cash Flow Valuation
CHAPTER 7: Interest Rates and Bond Valuation
CHAPTER 8: Stock Valuation
CHAPTER 9: Net Present Value and Other Investment Criteria
CHAPTER 10: Making Capital Investment Decisions
CHAPTER 11: Project Analysis and Evaluation
CHAPTER 12: Some Lessons from Capital Market History
CHAPTER 13: Return, Risk, And the Security Market Line
CHAPTER 14: Cost of Capital
CHAPTER 15: Raising Capital
CHAPTER 16: Financial Leverage and Capital Structure Policy
CHAPTER 17: Dividends and Payout Policy
CHAPTER 18: Short-Term Finance and Planning
CHAPTER 19: Cash and Liquidity Management
CHAPTER 20: Credit and Inventory Management
CHAPTER 21: International Corporate Finance
CHAPTER 22: Behavioral Finance: Implications for Financial Manage
CHAPTER 23: Enterprise Risk Management
CHAPTER 24:Options and Corporate Finance
CHAPTER 25: Option Valuation
CHAPTER 26: Mergers and Acquisitions
CHAPTER 27: Leasing
,CHAPTER 1
INTRODUCTION TO CORPORATE
FINANCE
Answers to Concepts Review and Critical Thinking Questions
1. Capital budgeting (deciding whether to expand a manufacturing plant), capital structure (deciding
whether to issue new equity and use the proceeds to retire outstanding debt), and working capital
management (modifying the firm’s credit collection policy with its customers).
2. Disadvantages: unlimited liability, limited life, difficulty in transferring ownership, hard to raise
capital funds. Some advantages: simpler, less regulation, the owners are also the managers,
sometimes personal tax rates are better than corporate tax rates.
3. The primary disadvantage of the corporate form is the double taxation to shareholders of distributed
earnings and dividends. Some advantages include: limited liability, ease of transferability, ability to
raise capital, unlimited life, and so forth.
4. In response to Sarbanes-Oxley, small firms have elected to go dark because of the costs of
compliance. The costs to comply with Sarbox can be several million dollars, which can be a large
percentage of a small firms profits. A major cost of going dark is less access to capital. Since the
firm is no longer publicly traded, it can no longer raise money in the public market. Although the
company will still have access to bank loans and the private equity market, the costs associated with
raising funds in these markets are usually higher than the costs of raising funds in the public market.
5. The treasurer’s office and the controller’s office are the two primary organizational groups that
report directly to the chief financial officer. The controller’s office handles cost and financial
accounting, tax management, and management information systems, while the treasurer’s office is
responsible for cash and credit management, capital budgeting, and financial planning. Therefore,
the study of corporate finance is concentrated within the treasury group’s functions.
6. To maximize the current market value (share price) of the equity of the firm (whether it’s publicly-
traded or not).
7. InMtheMcorporateMformMofMownership,MtheMshareholdersMareMtheMownersMofMtheMfirm.MTheMsh
areholdersMelectMtheMdirectorsMofMtheMcorporation,MwhoMinMturnMappointMtheMfirm’sMmanagem
ent.MThisMseparationMofMownershipMfromMcontrolMinMtheMcorporateMformMofMorganizationMisMw
hatMcausesMagencyMproblemsMtoMexist.MManagementMmayMactMinMitsMownMorMsomeoneMelse’s
MbestMinterests,MratherMthanMthoseMofMtheMshareholders.MIfMsuchMeventsMoccur,MtheyMmayMcont
radictMtheMgoalMofMmaximizingMtheMshareMpriceMofMtheMequityMofMtheMfirm.
8. AMprimaryMmarketMtransaction.
, B-2M SOLUTIONS
9. InMauctionMmarketsMlikeMtheMNYSE,MbrokersMandMagentsMmeetMatMaMphysicalMlocationM(theMe
xchange)MtoMmatchMbuyersMandMsellersMofMassets.MDealerMmarketsMlikeMNASDAQMconsistMofM
dealersMoperatingMatMdispersedMlocalesMwhoMbuyMandMsellMassetsMthemselves,McommunicatingM
withMotherMdealersMeitherMelectronicallyMorMliterallyMover-the-counter.
10. SuchMorganizationsMfrequentlyMpursueMsocialMorMpoliticalMmissions,MsoMmanyMdifferentMgoalsM
areMconceivable.MOneMgoalMthatMisMoftenMcitedMisMrevenueMminimization;Mi.e.,MprovideMwhatev
erMgoodsMandMservicesMareMofferedMatMtheMlowestMpossibleMcostMtoMsociety.MAMbetterMapproac
hMmightMbeMtoMobserveMthatMevenMaMnot-for-
profitMbusinessMhasMequity.MThus,MoneManswerMisMthatMtheMappropriateMgoalMisM toMmaximize
MtheMvalueMofMtheMequity.
11. Presumably,MtheMcurrentMstockMvalueMreflectsMtheMrisk,Mtiming,MandMmagnitudeMofMallMfutureM
cashMflows,MbothMshort-termMandMlong-term.MIfMthisMisMcorrect,MthenMtheMstatementMisMfalse.
12. AnMargumentMcanMbeMmadeMeitherMway.MAtMtheMoneMextreme,MweMcouldMargueMthatMinMaMm
arketMeconomy,MallMofMtheseMthingsMareMpriced.MThereMisMthusManMoptimalMlevelMof,MforMexa
mple,MethicalMand/orMillegalMbehavior,MandMtheMframeworkMofMstockMvaluationMexplicitlyMinclu
desMthese.MAtMtheMotherMextreme,MweMcouldMargueMthatMtheseMareMnon-
economicMphenomenaMandMareMbestMhandledMthroughMtheMpoliticalMprocess.MAMclassicM(andMh
ighlyMrelevant)MthoughtMquestionMthatMillustratesMthisMdebateMgoesMsomethingMlikeMthis:M“AMfi
rmMhasMestimatedMthatMtheMcostMofMimprovingMtheMsafetyMofMoneMofMitsMproductsMisM$30Mmil
lion.MHowever,MtheMfirmMbelievesMthatMimprovingMtheMsafetyMofMtheMproductMwillMonlyMsaveM
$20MmillionMinMproductMliabilityMclaims.MWhatMshouldMtheMfirmMdo?”
13. TheMgoalMwillMbeMtheMsame,MbutMtheMbestMcourseMofMactionMtowardMthatMgoalMmayMbeMdiffer
entMbecauseMofMdifferingMsocial,Mpolitical,MandMeconomicMinstitutions.
14. TheMgoalMofMmanagementMshouldMbeMtoMmaximizeMtheMshareMpriceMforMtheMcurrentMsharehold
ers.MIfMmanagementMbelievesMthatMitMcanMimproveMtheMprofitabilityMofMtheMfirmMsoMthatMtheM
shareMpriceMwillMexceedM$35,MthenMtheyMshouldMfightMtheMofferMfromMtheMoutsideMcompany.M
IfMmanagementMbelievesMthatMthisMbidderMorMotherMunidentifiedMbiddersMwillMactuallyMpayMmo
reMthanM$35MperMshareMtoMacquireMtheMcompany,MthenMtheyMshouldMstillMfightMtheMoffer.MHo
wever,MifMtheMcurrentMmanagementMcannotMincreaseMtheMvalueMofMtheMfirmMbeyondMtheMbidM
price,MandMnoMotherMhigherMbidsMcomeMin,MthenMmanagementMisMnotMactingMinMtheMinterestsM
ofMtheMshareholdersMbyMfightingMtheMoffer.MSinceMcurrentMmanagersMoftenMloseMtheirMjobsMwh
enMtheMcorporationMisMacquired,MpoorlyMmonitoredMmanagersMhaveManMincentiveMtoMfightMcorp
orateMtakeoversMinMsituationsMsuchMasMthis.
15. WeMwouldMexpectMagencyMproblemsMtoMbeMlessMsevereMinMotherMcountries,MprimarilyMdueMto
MtheMrelativelyMsmallMpercentageMofMindividualMownership.MFewerMindividualMownersMshouldMr
educeMtheMnumberMofMdiverseMopinionsMconcerningMcorporateMgoals.MTheMhighMpercentageMof
MinstitutionalMownershipMmightMleadMtoMaMhigherMdegreeMofMagreementMbetweenMownersMandM
managersMonMdecisionsMconcerningMriskyMprojects.MInMaddition,MinstitutionsMmayMbeMbetterMab
leMtoMimplementMeffectiveMmonitoringMmechanismsMonMmanagersMthanMcanMindividualMowners,
MbasedMonMtheMinstitutions’MdeeperMresourcesMandMexperiencesMwithMtheirMownMmanagement.M
TheMincreaseMinMinstitutionalMownershipMofMstockMinMtheMUnitedMStatesMandMtheMgrowingMacti
vismMofMtheseMlargeMshareholderMgroupsMmayMleadMtoMaMreductionMinMagencyMproblemsMforM
U.S.McorporationsMandMaMmoreMefficientMmarketMforMcorporateMcontrol.
