HR, Inc., another company in Richmond, Indiana in 2008, is currently entirely eq

Question

HR, Inc., another company in Richmond, Indiana in 2008, is currently entirely equity financed. It has only 250,000 shares of common stock outstanding. The stock is selling at $65 per share.

HR is considering to purchase a large shopping complex at Orlando, Florida to lease to some well-known high-end retail stores such as Nordstrom, Von Maur, Lord & Taylor, Macy's and Dillard's. The complex is located near Lake Buena Vista on I-Drive.

The offer price for this shopping complex is $12.35 million. This project is expected to increase HR’s annual pretax earnings by $4.2 million and the same amount of annual pretax earnings increase will occur forever into the future. HR’s current cost of capital is 15 percent. According to the investment banks in Indiana, HR can issue bonds at par value with a 7 percent coupon rate and the optimal capital structure for HR is 65 percent equity and 35 percent debt. If HR uses more than 35 percent debt, the cost of debt to the firm will increase significantly. HR pays 35 percent corporate taxes (including both state and federal).

1. How does the market value balance sheet of HR look like before the firm makes the

announcement on the shopping complex project? Explain and construct the market value balance sheet. [For this question and any question below that asks for a market value

balance sheet, you have to present the balance sheet with the proper format to earn the

full points.

2. What is the net present value of the shopping complex project, assuming that HR issues equity (i.e. stock) to finance it?

3. How will HR’s market value balance sheet look like after the firm makes announcement on the shopping complex project which will be financed by equity? Explain and construct the market value balance sheet.

Explanation / Answer

2)

3)

Company HR Amount Amount Balance Sheet As of 2008 Long-Term Assets: Building 12,350,000 Equity: Capital 250000 shares 16,250,000 Retained Earnings      Total Equity      Total Liabilities and Equity

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