1-Today is John Tardy’s 45th birthday and, in spite of his finance professor’s advice, he hasnft started to
save for his retirement. John can’t believe time has passed so quickly. John wants to retire on his 65th
birthday mortality tables indicate his life expectancy is 85. Therefore, he will need a retirement fund
that will sustain him for 20 years. John intends to completely deplete his fund by age 85, leaving nothing
for his heirs.
a)What amount must be in the retirement fund on John’s 65th birthday if he will withdraw 55,000 then
and every subsequent month? Hence, john will withdraw last payment one month before his 85th
birthday for a total of 240 payments. The rate of return on the retirement fund is 9% per year.
b)How much money should John save each month-beginning one month from today, Ms 4sm birthday
-to accumulate the necessary funds? The rate of return during this period is 12% per year
2-Apilado Appliance Corporation is considering a merger with the Vaccaro Vacuum Company. Vaccaro is a publicly traded company, and its current beta is 1.35. Vaccaro has been barely profitable, so it has paid an average of only 30% in taxes during the last several years. In addition, it uses little debt, having a debt ratio of just 25%.
If the acquisition were made, Apilado would operate Vaccaro as a separate, wholly owned subsidiary. Apilado would pay taxes on a consolidated basis, and the tax rate would therefore increase to 40%. Apilado also would increase the debt capitalization in the Vaccaro subsidiary to 50% of assets, which would increase its beta to 1.8. Apilado’s acquisition department estimates that Vaccaro, if acquired, would produce the following net cash flows to Apilado’s shareholders (in millions of dollars):
Year Net Cash Flows
5 and beyond Constant growth at 8%
These cash flows include all acquisition effects. Apilado’s cost of equity is 12%, its beta is 1.0, and its cost of debt is 10%. The risk-free rate is 4%.
a. What discount rate should be used to discount the estimated cash flows? (Hint: Use Apilado’s rs to determine the market risk premium.)
Round your answer to two decimal places.
b. What is the dollar value of Vaccaro to Apilado? Round your answer to two decimal places.
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c. Vaccaro has 1.4 million common shares outstanding. What is the maximum price per share that Apilado should offer for Vaccaro? Round your answer to two decimal places.