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Question-2
What are some of the problems related to financial ratio analysis? How can these
problems be rectified?
Justify your answers using examples and reasoning.
************ FIN 3030 Week-1
Assignment-3 ************
Question 3: If the cost of debt is generally below cost of equity, why would firms want to issue
equity?
Question 4: How reliable are ratios when used to evaluate fast-growing companies? How is it
used to evaluate fast-evolving economic sectors such as Internet companies? How are ratios
helpful in evaluating turnarounds? What is the best measure of performance for companies in
cyclical sectors?
1. A bond has a $1,000 par value (face value) and a contract or coupon interior rate
of 8%. A new issue would have a flotation cost of 5% of the market value. The
bonds mature in 10 years. The firms average tax rate is 28% and its marginal tax
rate is 39%. The current price is $1100. What is the after tax cost of debt?
2. A new common stock issue paid a $1.50 dividend last year. The par value of the
stock is $25, and earnings per share have grown at a rate of 3% per year. This
growth rate is expected to continue into the foreseeable future. The company
maintains a constant dividend/earnings ratio of 40%. The price of this stock is now
$30, but 4% flotation costs are anticipated. What is the cost of new common equity?
3. Internal common equity where the current market price of the common stock is
$45.50. The expected dividend this coming year should be $4.00, increasing
thereafter at a 6% annual growth rate. The corporations tax rate is 34%. What is
the cost of common equity?
4. A preferred stock paying a 10% dividend on a $100 par value. If a new issue is
offered, flotation costs will be 10% of the current price of $115. What is the cost of
preferred equity?
5. The capital structure for the Shelby Corporation is provided below. The company
plans to maintain its debt structure in the future. If the firm has a 5% after-tax cost
of debt, a 12% cost of preferred stock, and a 20% cost of common stock, what is the
firms weighted cost of capital?
Bonds $2,500,000
Preferred Stock $ 350,000
Common Stock
$4,350,000
6. A bond that has a $1,000 par value (face value) and a contract or coupon interior
rate of 12%. A new issue would have a flotation cost of 6% of the market value. The
bonds mature in 10 years. The firms average tax rate is 30% and its marginal tax
rate is 34%.The current price is $989. What is after tax cost of debt?
7. A new common stock issue that paid a $1.75 dividend last year. The par value of
the stock is $15, and earnings per share have grown at a rate of 8% per year. This
growth rate is expected to continue into the foreseeable future. The company
maintains a constant dividend/earnings ratio of 30%. The price of this stock is now
$28, but 5% flotation costs are anticipated. What is the cost of new common equity?
8. Internal common equity where the current market price of the common stock is
$43.50. The expected dividend this coming year should be $3.25, increasing
thereafter at a 7% annual growth rate. The corporations tax rate is 34%. What is
the cost of common equity
9. A preferred stock paying a 10% dividend on a $125 par value. If a new issue is
offered, flotation costs will be 12% of the current price of $150. What is the cost of
preferred equity?
10. The capital structure for the Memphis Corporation is provided below. The
company plans to maintain its debt structure in the future. If the firm has a 6%
after-tax cost of debt, a 13.5% cost of preferred stock, and a 19% cost of common
stock, what is the firms weighted cost of capital?
Capital Structure ($000)
Bonds $1,100
Preferred Stock $
250
Question-1 Compare and contrast NPV, IRR, MIRR and payback. Which method of ranking
investment proposals is best and why?
Question-2 What impact does timing of the cash flows have on your overall return? How might
this impact project acceptance?
***************
********************
You will compare three projects. The following table lists each projects initial
outlay (price of the project) in year 0 (zero). The following years are the cash
inflows. All projects receive the same total cash inflows. They differ on when
the cash flows occur and the amount of the annual cash flow You must
submit your backup in Excel showing how answers were reached. Use the
formula and the financial calculator or Excel to determine:
Year
Project
A
Project
B
Project
C
Cash
Flow
Cash
Flow
Cash
Flow
-1000
-1000
-1000
200
500
350
300
400
350
400
300
350
500
200
350
1. Find the NPV, IRR and MIRR of each the projects with a cost of capital
of 5%, 10%, and 12%.
2. Determine the payback period of each project.
3. Determine the acceptance of the projects if you have a capital budget
of $3000, $2000. and $1000.
4. Compare the timing of the cash flows of each project relative to its
NPV.
5. Compare how the timing and size of the cash flows change the net
present value.
******************** FIN 3030 Week-3 Assignment-3 **********************
First identify or calculate the capital spending, the operating cash flow, the
change in net working capital, and finally the free cash flow to the firm of the
project. Free Cash Flows are cash flows available to the firm after
stakeholders have been paid (interest and dividends). It is these free cash
flows that you find that are discounted at the weighted average cost of
capital to calculate the net present value and the internal rate of return.
You will assess whether to make the investment or not. Use your acceptreject rules for the net present value and the internal rate of return.
Redbird, Inc. is considering an addition to its current operations. The figures
are below.
$3,000,000
Installation costs
$100,000
40,000
65,000
35,000
$200
$200
$150
$130
$40,000
$60,000
5 % of sales
Depreciation method
5 years straight-line
method, no salvage value
40%
15%
1. Calculat
e
Question-3 Discuss the relationship between business risk, financial risk, and beta (systematic or
market risk).
Question 4: Explain why certain shareholders would have a preference on receiving dividends
and on the amount of the dividend.
Assume that a firm has the following Income Statement Use this data to
determine the business risk and the financial risk as measured by the degree
of operating leverage and the degree of financial leverage, respectively. Also,
determine the combined leverage as found with the degree of combined
leverage. Utilize these risk measures to see the affect of a change in sales.
Income Statement
Sales ($34/unit)
$34,000,000
$20,000,000
Fixed Cost
$10,000,000
EBIT
$4,000,000
Interest Expense
$120,000
EBT
$3,880,000
Taxes (40%)
$1,552,000
Net Income
$2,328,000
This part of the project is to analyze the following capital structure plans. You
will use the EBIT-EPS analysis to evaluate the two plans. One plan is all
equity and one has debt and equity.
Plan
Plan 1: All
Equity
Plan 2: Some
Debt
Shares of
Equity
80,000
50,000
Debt
$2,000,000
Cost of debt
12%
Interest
Expense
$240,000
Tax Rate
34%
34%
1. Cash Cycles: Go the internet and select an automobile manufacturing company (e.g. Ford,
Toyota, Hyundai, etc.) Find its most recent quarterly income statement and balance sheet.
a. Determine its Cash Cycle
b. Evaluate its Cash Cycle.
2. EOQ: Lillys Manufacturing needs fastener supplies to manufacture its products. The CFO
estimates that the company will need about 200,000 cases next year. The cost of storing cases
is about $0.90. The ordering cost is $500 for a shipment.
a. Determine the EOQ.
b. How many times will you order?
c. What would be the total costs for ordering the cases 1, 6, and 12 times per year?
d. What questionable assumptions are being made by the EOQ model?
************
Of Redbirds sales, 20% is for cash, another 60% is collected in the month
following sale, and 20 percent is collected in the second month following
sale. November and December sales for 20X1 were $220,000 and $175,000,
respectively.
Redbird purchases its raw materials two months in advance of its sales equal
to 70% of its final sales price. The supplier is paid one month after it makes
delivery. For example, purchases for April sales are made in February, and
payment is made in March.
In addition, Redbird pays $10,000 per month for rent and $20,000 each
month for other expenditures. Tax prepayments for $23,000 are made each
quarter beginning in March.
The companys cash balance at December 31, 20X1, was $22,000; a
minimum balance of $20,000 must be maintained at all times. Assume that
any short-term financing needed to maintain cash balance would be paid off
in the month following the month of financing if sufficient funds are
available. Interest on short-term loans (12%) is paid monthly. Borrowing to
meet estimated monthly cash needs takes place at the beginning of the
month. Thus, if in the month of April the firm expects to have a need for an
additional $60,500, these funds would be borrowed at the beginning of April
with interest of $605 (.12 x 1/12 x $60,500) owed for April and paid at the
beginning of May.
January
$100,0
00
May
$275,0
00
February
$110,0
00
June
$250,0
00
March
$130,0
00
July
$235,0
00
April
$250,0
00
Augu
st
$160,0
00
1. Prepare a cash budget for Redbird covering the first seven months of
2010.
2. They have $100,000 in notes payable due in July that must be repaid,
or an extension renegotiated. Will they be able to pay off the notes?
3. What are the external funding needs, or how much can they pay back?
*****************
rising to $2 million. Given its present high rate of growth, the firm retains all
its earnings to help defray the cost of new investments.
The firms balance sheet for the year just ended is found below:
12/31/09
% of
Sales
Current assets
$4,000,000
20%
8,000,000
40%
Total Assets
$12,000,00
0
Accounts payable
$3,000,000
15%
Long-term debt
2,000,000
NA
Total Liabilities
$5,000,000
Common stock
1,000,000
NA
Paid-in capital
1,800,000
NA
Retained earnings
4,200,000
NA
Total Equity
7,000,000
NA
$12,000,0
00
1. Estimate Oranges total financing requirements for 2010 and its net
funding requirements.
2. Orange Company is considering manufacturing communication
equipment for the military. The average selling price of its finished
product is $175 per unit. The variable cost for these same units is $140
per unit. This project incurs fixed costs of $550,000 per year.
a. What is the break-even point in units for the project?
b. What is the dollar sales volume the firm must achieve to reach
the break-even point?
c. What would be the firms profit or loss at the following units of
production sold: 12,000 units? 15,000 units? 20,000 units?