Suppose you are a CFO of retail business, and your company’s credit rating is A, which gives very low cost of borrowing.

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Q1 Suppose you are a CFO of retail business, and your company’s credit rating is A, which gives very low cost of borrowing.  Since debt is typically a cheaper source of financing than is equity, why NOT your firm uses as close to 100% debt financing as possible? Please discuss the possibilities and pros/cons of raising capital from 100% debt? (300 words limit with bulletin points to answer the above questions Marks: 30)

Q2:  Your Company needs to purchase new machine to meet the demand for its product. The cost of the equipment is $310,000. It is estimated that the firm will increase operating cash flow (OCF) by $38,000 annually for the next seven years. The firm is financed with 40% debt and 60% equity, both based on market values. The firm’s cost of equity is 8% and its pre-tax cost of debt is 6%. The flotation costs of debt and equity are 4% and 6%, respectively. Assume the firm’s tax rate is 30%.

(A) What is the firm’s WACC?

(B) Ignoring flotation costs, what is the NPV of the proposed project?

(C) What is the weighted average flotation cost, fA, for the firm?

(D) What is the dollar flotation cost of the proposed financing?

(E) After considering flotation costs, what is the NPV of the proposed project?

Q3: Suppose you are the CFO who is watching your company’s stock price and financial markets tightly.  If your company’s stock price increases given the strong financial market performance, and you expect the financial market will crack down in the near future, please discuss the WACC change of your firm and the potential risks/returns for your company from financial perspectives?