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Foundations Of Financial Management, Tenth Canadian Edition Solution Manual

Foundations Of Financial Management, Tenth Canadian Edition Solution Manual provides step-by-step solutions and explanations for better comprehension.

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    Chapter 1 Foundations of Fin. Mgt. 10Ce Block, Hirt, Danielsen, Short , Perretta 1 - 1 Discussion Questions 1 - 1. C apital budgeting was the first area of study in which the financial manager was presented with analytical techniques for allocating resources among the various assets of the firm. 1 - 2. The student should be prepared to pay a higher price for the promised $2 from the Royal Bank. The risk is lower. 1 - 3. The goal of shareholder wealth maximization implies that the firm will attempt to achieve the highest possible valuation in the marketplace. It is the one overriding objective of the firm and should influence every decision. The problem with a profit maximization goal is that it fails to take account of risk, the timing of the benefits is not considered, and profit measurement is a very inexact process. 1 - 4. Agency theory examines the relationship between the owners of the firm and the managers of the firm. In privately owned firms, management and the owners are usually the same people. Management operates the firm to satisfy its own goals, needs, financial requirements and the like. As a company moves from private to public ownership, management now represents all owners. This places management in the agency position of making decisions in the best interest of all shareholders. 1 - 5. Because institutional investors such as pension funds (Ontario Teachers’, CPP) and mutual funds own a large percentage of major companies, they are having more to say about the way publicly owned companies are managed. As a group, they have the ability to vote large blocks of shares for the election of a board of directors, which is suppose to run the company in an efficient, competitive manner. The threat of being able to replace poor performing boards of directors makes institutional investors quite influential. Since these institutions, like pension funds and mutual funds, represent individual workers and investors, they have a responsibility to see that the firm is managed in an efficient and ethical way. 1 - 6. Insider trading occurs when someone has information that is not available to the public and then uses the information to profit from trading in a company’s common stock. The provincial securities commissions are responsible for protecting against insider trading. 1 - 7. Regulations set the “rules of the game” in which the firm operates. Shareholder wealth maximization can and should still be sought within the rules , for economic efficiency to be achieved. Society judges deregulation benefits against the costs of regulation . 1 - 8. M anagement operates within a competitive market and they should be paid their opportunity cost. If managers do not act to maximize shareholder wealth, share prices will become depressed. To the extent manager’s compensation is tied to share price performance, shareholders can fire managers, and there exists a market for corporate control, management will be compensated based on their economic contribution.

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    Chapter 1 Foundations of Fin. Mgt. 10Ce Block, Hirt, Danielsen, Short , Perretta 1 - 2 1 - 9. Daily functions - cash management, inventory control, receipt and disbursement of funds. Occasional - share issue, bond issue, capital budgeting and dividend decisions. 1 - 10. There is unlimited liability for the sole proprietorship and partnership forms of ownership. Under the limited partnership, only the general partner(s) has unlimited liability, with limited partners obligated only to the extent of their initial contribution. Finally, all shareholders in a cor poration have limited liability, although owner/ shareholders of small businesses often have to give banks their personal guarantees . 1 - 11. The corporate form is best suited to large organizations because of the easy divisibility of ownership through issuance of shares. Also, the corporation has continued existence independent of any shareholder. 1 - 12. Money markets refer to those markets dealing with short - term securities that have a life of one year or less. Capital markets refer to securities with a life of more than one year. 1 - 13. A primary market refers to the use of the financial markets to raise new funds. After the securities are sold to the public (institutions and individuals), they trade in the secondary market between investors. It is in the secondary market that prices are continually changing as investors buy and sell securities based on the expectations of corporate prospects. A liquid secondary market promotes a successful primary market. 1 - 14. Government debt loads require financing. This puts large dem ands ($1 tr illion in accumulated fed eral and provincial debt in 2011 ) on th e capital markets , putting upward pressure on interest rates and a corporation’s ability to invest in capital projects . When governments finance their deficits abroad they place Canada’s economic le vers outside of our control and debt servicing payments can impact the foreign exchange markets. As government debt loads have been reduced in recent years there has been less pressure on interest rates, corporations have borrowed more , but there have been less ‘risk free’ government securities available (causing liquidity problems particularly in the money markets). 1 - 15. Stakeholders include: shareholders, creditors, employees, unions, environmentalists, consumer groups, Canada Revenue Agency, government regulatory bodies, customers, managers and others. Internet Resources and Questions 1. www.nobelprize.org 2. www.fin.gc.ca 3. www. bankofcanada .ca 4. http://onex.com/Principles_and_Values.aspx http://www.rbc.com/aboutus/visionandvalues.html 5. http://www.bce.ca/responsibility/corporateresponsibility

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    Chapter 1 Foundations of Fin. Mgt. 10Ce Block, Hirt, Danielsen, Short , Perretta 1 - 3 Problems 1 - 1. Incubus Corporation a. Common stock (contributed capital) $40,000 Retained earnings (deficit) ( 7,000 ) $33,000 b. Common stock $40,000 Retained earnings 2 ,000 $42 ,000 c. Common stock $6 0,000 Retained earnings 8 ,000 $68 ,000 1 - 2. Puppet Corporation a. Common stock $2 0,000 Retained earnings 2 ,000 $22 ,000 b. Common stock $2 0,000 Retained earnings 8 ,000 $28 ,000 c. Common stock $3 0,000 Retained earnings 10,5 00 $40,5 00 1 - 3. Two to Ten Dollar Corporation would be expected to have the higher valuation because the $10 per share dividend (although achieved later) is expected to be sustained for a much longer period of time. Building earnings for longer term sustainability is more valuable than quick returns that peter out.

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    Chapter 1 Foundations of Fin. Mgt. 10Ce Block, Hirt, Danielsen, Short , Perretta 1 - 4 1 - 4. Share value is a combination of expected earnings (or cash flow) and the risk inherent in those cash flows. Although the financial institution reports lower earnings it is because of restructuring charges that lower reported earnings. Cash flows are not l ikely to be effected. Future earnings should be more reliable and therefore less risky than those of the new health services company. Therefore the market is likely to suggest a higher value for the financial institution. 1 - 5. Board of Directors Decision a. A combination of high profit margins and strong consumer acceptance should be positive for share value. However a new product introduces a high degree of risk that will mitigate higher share values. b. More detailed financial information for investors should increase their confidence in the activities of the firm and lower the risk of their investment. This will be offset by the likely increase costs of providing this information. In an environment of questionable ethics by management this should be slightly positive to share value. c. Pollution control devices will increase firm costs. The local residents will view the firm more positively which should have some positive cash flow effects as they may be more willing to purchase the firm’s products and will decrease possible litigations or harassment. Overall it is likely to be a neutral or slightly negative effect on share value. d. Aligning management compensation motivators with shareholder goals should be positive for share values with implemented. The effect however may be small. There is no correct answer. It depen ds on the tradeoff between risk , returns and costs.

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    Chapter 2 Foundations of Fin. Mgt. 10Ce Block, Hirt, Danielsen, Short, Perretta 2 - 1 Discussion Questions 2 - 1. The price - earnings ratio will be influenced by the earnings and sales growth of the firm, the risk or volatility in performance, the debt - equity structure of the firm, the dividend payment policy, the quality of management, and a number of other factors. The ratio tends to be future - oriented, and will be higher the more positive the outlook 2 - 2. Book value per share is arrived at by taking the cost of the assets and subtracting out liabilities and preferred stock and dividing by the number of common shares outstanding. It is based on the historical costs of the assets. Market value per share is based on current assessed value of the firm in the marketplace and may bear little relationship to original cost. Besides the disparity between book and market value caused by the historical cost approach, other contributing factors are the growth prospects for the firm, the quality of managem ent, and the industry outlook. To the extent these are quite negative , or positive, market value may differ widely from book value. 2 - 3. The only way amortization generates cash flows for the company is by serving as a tax s hield against reported income. Allowable amortization for tax purposes is known as capital cost allowance (CCA). In most instances this will be different than accounting amortization. This non - cash deduction may provide cash flow equal to the tax rate times the amortization charged. This much in taxes will be saved, while no cash payments occur. 2 - 4. Accumulated amortization is the sum of all past and present amortization charges, while amortization expense is the current year's charge. They are related in that the sum of all prior amortization expense should be equal to accumulated amortization (subject to some differential related to asset write - offs). 2 - 5. The balance sheet , for private companies using ASPE , is based on historical costs. W hen prices are rising rapidly, historical cost data may lose much of their meaning - particularly for plant , equipment and inventory. However, the balance sheet of public companies using IFRS is based on market values and opposite order whereby non - current assets are listed ahead of current assets. The same applies to the liabilities section that lists non - current liabilities first. 2 - 6. The income statement and balance sheet are based on the accrual method of accounting, which attempts to match revenues and expenses in the period in which they occur. However, accrual accounting does not attempt to properly assess the cash flow position of the firm. The statement of changes in financ ial position fulfills this need. The values on these statements will differ for public companies using IFRS compared to private firms. 2 - 7. T he sections of the statement of cash flows and sources of information are: Cash flows from operating activities (Income statement) Cash flows from investing activities (non - current assets section of balance sheet) Cash flows from financing activities (non - current liabilities and equity section)

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    Chapter 2 Foundations of Fin. Mgt. 10Ce Block, Hirt, Danielsen, Short, Perretta 2 - 2 The payment of cash dividends falls into the financing activities category. 2 - 8. We can examine the various sources that were utilized by the firm as indicated on the statement. Possible sources for the financing of an increase in assets might be profits, increases in liabilities, or decreases in other asset accounts. 2 - 9. Free cash flow is equal to : Cash flow from operating activities Minus: Capital expenditures required to maintain the productive capacity of the firm. Minus: Dividends (required to maintain the payout on common stock and to cover any preferred stock obligation). The analyst or banker normally looks at free cash flow to determine whether there are sufficient excess funds to pay back the loan associated with the leveraged buy - out (a company with limited cash acquiring stocks of another company to acquire control) . 2 - 10. Interest expense is a tax deductible item to the corporation, while dividend payments are not. The net cost to the corporation of interest expense is the amount paid multiplied by the difference of (one minus the applicable tax rate). The firm must bear the full burden of the cash outflow of dividend payments because they are not an expense, but rather a distribution out of retained earnings. Internet Resources and Questions 1. www.cica.ca , www.cpa.ca 2. www.cma - canada.org 3. www.cga - canada.org 4. www.ifrs.org. 5. www. kpmg.ca/taxi 6. www.pwc.com/ca/tax 7. www.cra - arc.gc.ca

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    Chapter 2 Foundations of Fin. Mgt. 10Ce Block, Hirt, Danielsen, Short, Perretta 2 - 3 Problems ( The following s olutions use the 2014 tax rates or rates given in the text. The 2013 rates are also shown but subject to change). 2 - 1. Bradley Bus Inc. a. Last Year Earnings after taxes $600,000 Shares outstanding 300,000 Earnings per share ($600,000/300,000 shares) $2.00 b. Current Year Earnings after taxes ($600,000 × 125%) $750,000 Shares outstanding (300,000 + 40,000) 340,000 Earnings per share ($750,000/340,000 shares) $2.21 2 - 2. Dover River Company a. Operating profit (EBIT)......................... $200,000 Interest expense................................. 10,000 Earnings before taxes (EBT).................. 190,000 Taxes.................................................. 61,250 Earnings after taxes (EAT)...................... 128,750 Preferred dividends ........................... 18,750 Available to common shareholders........ $110,000 Common dividends............................ $ 30,000 Increase in retained earnings.................. $ 80,000 EPS = Earnings available to common shareholders / Number of shares of common stock outstanding = $110,000/20,000 shares = $5.50 per share Divid ends per Share = $30,000/20,000 shares = $1.50 per share b. Payout Ratio=Dividend per share/Earnings per share =1.50/5.50 per share = 27.27% c. Increase in retained earnings = $80,000 d. Price/earnings ratio = $26.40/ $5.50 = 4.8 ×

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    Chapter 2 Foundations of Fin. Mgt. 10Ce Block, Hirt, Danielsen, Short, Perretta 2 - 4 2 - 3. Far East Fast Foods a. 2014 Earnings after taxes $23 0,000 Shares outstanding 2 00,000 Earnings per share $1.15 b. 2015 Earnings after taxes ($230,000 × 125 %) $287,5 00 Shares outstanding 230 ,000 Earnings per share $1.25 2 - 4. Sheridan Travel a. EP S = $600,000 = $2.00 per share 300,000 b. New Net Income: $600,000 x 125% = $750,000 Shares: 300,000 + 40,000 = 340,000 shares New EPS = $ 750,000 = $2.21 per share 340,000

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    Chapter 2 Foundations of Fin. Mgt. 10Ce Block, Hirt, Danielsen, Short, Perretta 2 - 5 2 - 5. Moore Enterprise / Kipling Corporation Moore Kipling Gross profit......................... $880,000 $880,000 Selling and adm. expense... 120,000 760,000 120,000 760,000 Amortization....................... 360,000 60,000 Operating profit.................. 400,000 700,000 Taxes (40%)........................ 160,000 280,000 Earnings after - taxes.............. 240,000 420,000 Plus : A mortization E xpense... 360,000 60,000 Cash Flow........................... $600,000 $480,000 Moore had $300,000 more in amortization, which provided $120,000 (0.40 × $300,000) more in cash flow. Moore paid 0 .4 0 ×300,000 (difference in operating income) = $120,000 less taxes.

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    Chapter 2 Foundations of Fin. Mgt. 10Ce Block, Hirt, Danielsen, Short, Perretta 2 - 6 2 - 6. Yes, Aztec Book Company made a profit of $13,920 for the year ended December 31, 2015. Aztec Book Company Income Statement For the Year ended December 31, 2015 Sales (1,400 books at $84 each)...... .............................. $ 117,6 00 Cost of goods so ld (1,400 books at $63 each).............. 88,2 00 Gross Profit........................... .......................... ..... ..... 29,4 00 Selling expense.............................. ........................ .. ...... 2,000 Amortization expense................................ .................... 5 ,0 0 0 Operating profit........................ ........................ ..... .... 22,4 00 Interest expense........................................................ . ..... 5 ,000 Earnings before taxes...................... ............... ..... ...... 17,4 00 Taxes @ 2 0%................................................................. 3,48 0 Earnings after taxes............... .......................... ...... ..... $ 13,9 20

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    Chapter 2 Foundations of Fin. Mgt. 10Ce Block, Hirt, Danielsen, Short, Perretta 2 - 7 2 - 7. Carr Auto Wholesalers Income Statement For the Year ended December 31, 2015 a. Sales …………………………………………….. $9 00,000 Cost of goods sold @ 65 % ................................... 585 ,000 Gross profit ………………………………….. 315 ,000 Selling and administration expense @ 9 % ......... 81 ,000 Amortization expense …………………………... 1 0,000 Operating profit ……………………………… 224 ,000 Interest expense …………………………………. 8 ,000 Earnings before taxes ………………………… 216 ,000 Taxes @ 30% ........................................................ 64,8 00 Earnings after taxes …………………………… $151,2 00 b. Sales …………………………………………….. $1,00 0,000 Cost of goods sold @ 60 % .................................... 600 ,000 Gross profit …………………………………... 400 ,000 Selling and administration expense @ 12 % ......... 120 ,000 Amortization expense …………………….…….. 1 0,000 Operating profit ……………………………… 27 0,000 Interest expense …………………………………. 15 ,000 Earnings before taxes ………………………… 255 ,000 Taxes @ 30% …………………………………… 76 ,5 00 Earnings after taxes …………………………… $ 178 ,500 Ms. Hood ’s idea will increase profitability.

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    Chapter 2 Foundations of Fin. Mgt. 10Ce Block, Hirt, Danielsen, Short, Perretta 2 - 8 2 - 8. Income Statement Sales Cost of goods sold Gross profit Selling and administrative expense Amortization expense Operating profit Interest expense Earnings before taxes Taxes Earnings after taxes Preferred stock dividends Earnings available to common shareholders Shares outstanding Earnings per share

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    Chapter 2 Foundations of Fin. Mgt. 10Ce Block, Hirt, Danielsen, Short, Perretta 2 - 9 2 - 9. David ’s Magic Stores a. Operating profit (EBIT)......................... $21 0,000 Interest expense............................ .. ... 3 0,000 Earnings before taxes (EBT).................. 180 ,000 Taxes......................................... .. ....... 59,30 0 Earnings after tax es (EAT)...................... 120,70 0 Preferred dividends ....................... . ... 24 ,70 0 Available t o common shareholders ........ $ 96 ,000 Common dividends......................... .. . 36 ,000 Increase in retained earnings.................. $ 6 0,000 EPS = Earnings available to common shareholders Number of shares of common stock outstanding = $96,000/16 ,000 shares = $6.0 0 per share Dividends per Share = $36,000/16 ,000 shares = $2.25 per share b. Payout ratio = $2.25/ $6.00 = .375 = 37.5% c. Increase in retained earnings = $6 0,000 d. Price/earnings ratio = $90/ $6.0 0 = 15.0 2 - 10. Thermo Dynamics a. Reta ined earnings, December 31, 2015 ............. $45 0,000 Less: Reta ined earnings, December 31, 2014 .... 40 0,000 Change in retained earnings.............. ......... ........ 5 0,000 Add: Common stock dividends.......................... 25 ,000 Earnings available t o common shareholders...... $ 75 ,000 b. Earnings per share = $75 ,000/ 2 0,000 shares = $3.75 per share c. Payout ratio = $25,000/ $75,000 = .333 = 33 .33 % d. Pric e/earnings ratio = $30.00 / $3.75 = 8 .0 ×

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    Chapter 2 Foundations of Fin. Mgt. 10Ce Block, Hirt, Danielsen, Short, Perretta 2 - 10 2 - 11. Brandon Fast Foods Inc. a. Operating Income – Taxes – Interest = Net income after taxes = $210,000 – $59,300 – $30,000 = $120,700 Net income after taxes – Preferred divid ends = Earnings availabl e to common shareholders = $120,700 – $24,700 = $96,000 EPS = $ 96,000 / 16,000 shares = $ 6 EPS Common Dividend s p er S hare = Div. paid / shares = $36,000/16,000 shares = $2.25 Dividend p er Share b. Increase in RE = Income – Dividends – Preferred Dividend = $120,700 – $36,000 – $24,700 = $ 60,000 . 2 - 12. Balance Sheet Items Common stock – noncurrent Accounts payable – current Preferred stock – noncurrent Prepaid expenses – current Bonds payable – noncurrent Inventory – current Investments – noncurrent Marketable securities – current Accounts receivable – current Plant and equipment – noncurrent Accrued wages payable – current Retained earnings – noncurrent

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    Chapter 2 Foundations of Fin. Mgt. 10Ce Block, Hirt, Danielsen, Short, Perretta 2 - 11 2 - 13. Balance Sheet Assets Current Assets Cash ..................... .............................. $ 10,000 Marketable securities......................... 20,000 Accounts receivable ................. .......... $ 48,000 Less: Allowance for bad debts ...... 6,000 42,000 Inventory ............................................ 66,000 Total Current Assets................. 138,000 Other Assets: Investments ............ ............................ 20,000 Capital Assets: Plant and equipment ... ....................... 680,000 Less: Accumulated amortization .. 300,000 Net plant and equipment ................... 380,000 Total Assets ............................... ........ .... $538,000 Liabilities and Shareholders' Equity Current Liabilities: A ccounts payable.............................. $ 35,000 Notes payable .................................... 33,000 Total current Liabilities ................ 68,000 Long - Term Liabilities ............................ Bonds payable ................................... 136,000 Total Liabilities............................. 204,000 Shareholders' Equity: Preferred stock, 1 ,000 shares outstanding ….... 50,000 Common stock, 100,000 shares outstanding.... 188,000 Retained earnings ............................ ......... ........ 96,000 Total Shareholders' Equity .......... ........... ...... 334,000 Total Liabi lities and Shareholders' Equity ……... . $538,000

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