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BFIN 305 Summer 1 Assignment 1 Corporate Finance course assignment. 5 questions




Corporate Finance course assignment. 5 questions;Question 2;(2 points);Union Industries is considering investment in a project to manufacture a new product which;it believes has good potential demand. The investment in the project is expected to be about;AED 400,000. It, though, is not sure about the competition and is worried that the;competition may increase. Accordingly, it is evaluating two possible structures of the project.;One option is to have a project with a shorter life of 3 years with a lower investment where;the company can re-invest again after 3 years should the competition remain low.;Alternatively, it can go ahead with a project with a longer life of 6 years with higher;investment upfront. The details of investment and cash flows are given in the table below.;The Company?s cost of capital which will be the discount rate is 10%.;Particulars;Investment;Cash Flows ? Year 1;Cash Flows ? Year 2;Cash Flows ? Year 3;Cash Flows ? Year 4;Cash Flows ? Year 5;Cash Flows ? Year 6;Option 1;-300,000;75,000;125,000;200,000;Option 2;-600,000;75,000;110,000;150,000;220,000;280,000;320,000;Please answer the following questions;(A) Using replacement chain method for Option 1 at end of Year 3 and assuming same cash;outflows and inflows, recalculate the NPV and PI.;(B) Does your recommendation of which option is better change or remain the same?;Please explain why or why not has the change happened.;(C) Instead of replacement chain method, use the Equivalent Annual Annuity method.;Calculate the EAA for both options;(D) Give your recommendation of which option is preferable under the EAA method?;Question 3;(1 point);Acme Industries is contemplating four projects whose details are given below. Its desired;rate of return is 12% and its capital budget is AED 450,000. Further, it believes that idle;C 3.11 ? Appendix III: Assessment Instrument Cover Sheet;funds, if any cannot be reinvested at a rate higher than 12%.;(All figures in AED);Year;Initial Cost;Cash Flow ? Year 1;Cash Flow ? Year 2;Cash Flow ? Year 3;Cash Flow ? Year 4;Cash Flow ? Year 5;NPV;IRR;PI;Project A;200,000;93,000;93,000;93,000;23,370;18.7%;1.12;Project B;235,000;90,000;85,000;75,000;55,000;50,000;29,827;17.6%;1.13;Project C;190,000;45,000;55,000;65,000;70,000;75,000;27,333;17.2%;1.14;Project D;210,000;40,000;50,000;60,000;65,000;75,000;(7,854);10.6%;0.96;In evaluating these projects, please respond to the following questions;(A) If Acme Industries can choose more than one project, explain which combination of;projects is the best;(B) If Acme Industries can choose only one project, explain which one you would;recommend.;Question 4;(2 points);Al Jassim Ceramics Limited is in the business of manufacturing and sale of ceramic tiles and;ancillary products catering to primarily the needs of hotel industry and households. The;company has grown substantially in the last 3 years assisted by the rising construction;activity in both the hospitality and residential/commercial segments. With a view to further;enhance its growth by developing new markets, it seeks to enter the high growth market in;C 3.11 ? Appendix III: Assessment Instrument Cover Sheet;Qatar. To facilitate this it wishes to set up a new factory in Doha which it estimates would;require investment worth AED 80 million. The Company?s business plan indicates that the;retained earnings for the coming year would be AED 15 million. As for the balance, market;conditions indicate the following;?;?;?;Bonds with a coupon rate of 10% can be sold at par;Preferred stock with annual dividend of 12% can be sold at par;Common stock can be sold to yield AED 58 per share;The current capital structure, considered optimal, is as follows;? Long term debt;AED 175 million;? Pref. Stock;AED 50 million;? Equity;AED 275 million;Its studies indicate that cost of equity is 16%. The tax rate is 40%.;Q1. Determine how the company should finance the expenditure. Show your calculations;and specifically for the new equity to be issued, show how many shares would have to be;issued;Q2. Calculate the marginal WACC;Question 5;(3;point;s);Refer to Al Jassim Ceramics Limited in Question 4 above. Explain how each of the following;events, considered individually, would either increase or decrease or would have no effect;on the cost of capital;? Increase in corporate tax rate;? Lending rates will increase;? Beta of the company goes down;C 3.11 ? Appendix III: Assessment Instrument Cover Sheet;?;Company decides to substantially increase amount of debt in its capital structure;Question 6;(3 points);Dubai Metals Limited is an existing profit making company. It wishes to expand its production;capacity of steel products to cater to the rising demand from the construction industry. The;total cost of the project is estimated at AED 55 million. It is considering the following possible;options for financing the cost of the project;1. Selling AED 1,000, 8%, 20 year bonds for which a premium of AED 30 can be;charged though the firm will have to pay a floatation cost of AED 20 per bond.;C 3.11 ? Appendix III: Assessment Instrument Cover Sheet;2. Selling 6% preferred stock at par value of AED 105 per share for which the;floatation cost is AED 5 per share;3. Issuing equity shares for which the current market price is AED 75 per share. The;company expects to pay a constant dividend of AED 7 per share in future. For the;issue, the stock will have to be underpriced by AED 3 per share while the;floatation costs will be AED 5 per share.;4. The company expects to have AED 5 million of retained earnings;The preferred capital structure is as under;o Long term debt;30%;o Preferred;20%;o Equity;50%;The tax rate of the company is 40%.;Calculate;(a);(b);(c);(d);(e);The Pre-tax and Post-tax Cost of Debt;The annual Cost of Preferred Stock;The Cost of Equity;The Cost of Retained Earnings;The WACC of the company;C 3.11 ? Appendix III: Assessment Instrument Cover Sheet


Paper#30853 | Written in 18-Jul-2015

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