Assignment: You are interested in proposing a new venture to management of your company. Pertinent financial information is described below.
BALANCE SHEET:
Cash 2,000,000 Accounts Payable and Accruals 18,000,000
Accounts Receivable 28,000,000 Notes Payable 40,000,000
Inventories 42,000,000 Long-Term Debt 60,000,000
Preferred Stock 10,000,000
Net Fixed Assets 133,000,000 Common Equity 77,000,000
Total Assets 205,000,000 Total Claims 205,000,000
A) Last year’s sales were $225,000,000.
B) The company has 60,000 bonds with a 30-year life outstanding, with 15-years until maturity. The bonds carry a 10 % semi-annual coupon, and are currently selling for $874.78.
C) You as well have 100,000 shares of $100 par, 9% dividend perpetual preferred stock outstanding. The present market price is $90.00. Any new issues of preferred stock would incur a $3.00 per share flotation cost.
D) The company has 10 million shares of common stock outstanding with the currently price of $14.00 per share. The stock exhibits a constant growth rate of 10 %. The last dividend (D0) was $.80. New stock could be sold with flotation costs, comprising market pressure of 15 percent.
E) The risk-free rate is presently 6 %, and the rate of return on the stock market as a whole is 14 %. Your stock’s beta is 1.22.
F) Stockholders need a risk premium of 5 % above the return on the firms bonds.
G) The firm expects to have additional retained earnings of $10 million in the coming year and expects depreciation expenditures of $35 million.
H) Your firm doesn't use notes payable for the long-term financing.
I) The firm considers its present market value capital structure to be optimal and wishes to maintain that structure.
J) The firm is presently employing its assets at capacity.
K) The firm’s management needs a 2 % adjustment to the cost of capital for risky projects.
L) Your firm’s federal + state marginal tax rate is 40%.
M) Your firm’s dividend payout ratio is 50 %, and net profit margin was 8.89 %.
N) The firm has the given investment opportunities presently available in addition to the venture that you are proposing:
Project Cost IRR
A 10,000,000 20%
B 20,000,000 18%
C 15,000,000 14%
D 30,000,000 12%
E 25,000,000 10%
Your venture would comprises of a new product introduction (You should label your venture as Project I, for “introduction”). You estimate that your product will have a 6-year life span, and the equipment employed to manufacture the project falls into the MACRS 5-year class. Your venture would need a capital investment of $15,000,000 in equipment, plus $2,000,000 in installation costs. The venture would as well result in an increase in accounts receivable and inventories of $4,000,000. At the end of the 6-year life span of the venture, you estimate that the equipment could be sold at a $4,000,000 salvage value.
Your venture, which management considers fairly risky, would raise fixed costs by a constant $1,000,000 per year, while the variable costs of the venture would equal 30 percent of revenues. You are projecting that revenues produced by the project would equal $5,000,000 in year 1, $10,000,000 in year 2, $14,000,000 in year 3, $16,000,000 in year 4, $12,000,000 in year 5, and $8,000,000 in year 6.
The given list of steps gives a structure which you should use in analyzing your new venture.
Note: Carry all the final compuatations to two decimal places.
Question 1: Find out the costs of the individual capital components:
a) long-term debt
b) preferred stock
c) retained earnings (avg. of CAPM, DCF, & bond yield + risk premium approaches)
d) new common stock
Question 2: Calculate the value of the long-term elements of the capital structure and find out the target percentages for the optimal capital structure. Carry weights to 4 decimal plances.
Question 3: Calculate the retained earnings break point.
Calculate 4: Draw the MCCF schedule, comprising depreciation-generated funds in the schedule.
Question 5: Compute the Year 9 investment for Project I.
Question 6: Calculate the annual operating cash flows for years 1-6 of the project.
Question 7: Calculate the additional non-operating cash flow at the end of year 6.
Question 8: Draw a timeline which summarizes all of the cash flows for your venture
Question 9: Calculate the IRR and payback period for Project I
Question 10: Draw the IOS schedule including Project I all along with the Projects A-F
Question 11: Determine your firm’s cost of capital.
Question 12: Point outwhich projects must be accepted based on your MCC and IOS schedules and why?
Question 13: Compute the NPV for Project I at the risk-adjusted cost of capital for the project. Should management adopt this project based on your analysis? Describe. Would your answer be different if the project were find out to be of average risk?