Case - 1
Case Assignment
Solving Present Value and Future Value Problems
You are the CFO (Chief Financial Officer) of ABC Golf Equipment Corporation, a small company that sells golf equipment. Mr. Hillbrandt, the new CEO (Chief Executive Officer) has a marketing background and is trying to learn more about the financial side of running a business. He wants your help and asks for an introduction to the concept of time value of money.
The value of a typical corporate bond is the present value of an annuity plus the present value of a lump sum. Thus, if an individual does not understand how to calculate the present value of a lump sum or the present value of an annuity, it is difficult to determine the value of a typical corporate bond. Thus, in this case assignment, you will work through a variety of time value of money problems to illustrate the idea to the CEO.
The following websites include a number of formulae and financial calculators, including Present Value, Future Value, and Annuity:
Financial calculators. (2015). Calculator Soup. Retrieved from https://www.calculatorsoup.com/calculators/financial/
Carther, S. (2015). Calculating the present and future value of annuities. Investopedia. Retrieved from https://www.investopedia.com/articles/03/101503.asp
Required:
Compute and show your work for the following scenarios:
Calculate the present value of the following lump sums:
$100,000 to be received five years from now with a 5% annual interest rate
$200,000 to be received 10 years from now with a 10% annual interest rate
Calculate the future value of the following lump sums:
$100,000 if invested for five years at a 5% annual interest rate
$200,000 if invested for 10 years at a 10% annual interest rate
Calculate the present value of these ordinary annuities:
$100,000 to be received each year for five years with a 5% annual interest rate
$200,000 to be received each year for 10 years with a 10% annual interest rate
Calculate the future value of these ordinary annuities:
$100,000 if invested each year for five years at a 5% annual interest rate
$200,000 if invested each year for 10 years at a 10% annual interest rate
Calculate the present value of these perpetuities:
$100,000 to be received each year forever with a 5% annual interest rate
$200,000 to be received each year forever with a 10% annual interest rate
Computations (use Excel).
1. Show the computations as required above.
2. Summarize the results in an easy to read table at the top of the spreadsheet or on a clearly labeled separate tab.
Memo (use Word).
Interpret the results from the computations and explain how the information is useful. Write a four or five paragraph memo to the CEO. Start with an introduction and end with a conclusion or recommendation. Each of the four or five paragraphs should have a heading.
Short Essay (use Word).
Do research and write a short essay to comment on the use of bonds by public corporations. The emphasis of the essay could be either
A discussion of different types of bonds; or The use of bonds in different industries.
Start with an introduction and end with a summary or conclusion. Use headings. Don't forget to reference your sources. Maximum length of two pages.
Case 2
Case Assignment
Stock Valuation
Mr. Hillbrandt is impressed with your ability to explain financial concepts so he asks for help with learning about stock valuation. Mr. Hillbrandt really liked the examples you provided last time (module 1), so it seems as if you need to sit down and create some relevant examples for this topic too. Below is some information that helps you brush up on the topic.
Read this article related to the intrinsic value of stock, paying special attention to the section entitled "Constant Growth Model":
Alvarez, S. (2015). What is the intrinsic value of stock? Investopedia. Retrieved from https://www.investopedia.com/articles/basics/12/intrinsicvalue.asp
Now, let's work the following problem:
A company just paid an annual dividend of $2.00 per share. Dividends are anticipated to grow at a rate of 8% per year forever. The stock's beta is 1.5, the risk free rate is 2.5%, and the expected return on the overall stock market is 7.5%.
What's the intrinsic value of the company's common stock? Using the formula:
Stock Price = D1 ÷ (k - g)
Where:
D1 = dividend for the coming year
k = required rate of return (NOTE: k must be greater than g) g = growth rate of dividends
(Note: Decimals and not percentages must be used for the model to work)
1) To calculate the dividend for the coming year, we need to multiply the last dividend by the expected dividend growth rate. And so:
D1 = $2.00 x 1.08 = $2.16
2) Find the Market risk premium using the following formula: Market risk premium = Expected return on stock Risk free rate
= 7.5% 2.5%
= 5%
3) Then, to find k, or the required rate of return, use the following formula: k = risk free rate + [market risk premium x beta]
= 2.5% + (5% * 1.5)
= 10%
4) g = 8% (or 0.08) growth rate of dividends
5) Stock Price = D1 ÷ (k - g)
= $2.16 ÷ (.10 .08)
= $2.16 ÷ .02
= $108.00 (ANSWER)
5) Check your answer with this online calculator: https://www.zenwealth.com/businessfinanceonline/SV/CGStockCalculator.html
Now, work the following problems:
1. A company just paid an annual dividend of $3.25 per share. Dividends are anticipated to grow at a rate of 5% per year forever. The stock's beta is 1.2, the riskfree rate is 3.5%, and the expected return on the overall stock market is 5.5%. What's the intrinsic value of the company's common stock? ANSWER =
$379.17
2. A company just paid an annual dividend of $2.35 per share. Dividends are anticipated to grow at a rate of 6.25% per year forever. The stock's beta is 1.6, the riskfree rate is 4.25%, and the expected return on the overall stock market is 8.5%. What's the intrinsic value of the company's common stock? ANSWER =
$51.48
Required:
Part I consists of three questions.
Do the computations for the example below. Show the computations step by step, so Mr. Hillbrandt can easily follow your examples.
1. The company's common stock dividends are anticipated to grow at a constant 5.5% growth rate per year going forward. The company just paid an annual dividend (that is, Dzero) of $3 per share. What's the intrinsic value of the stock based on the following required rates of return?
1. 6%
2. 8%
3. 10%
4. 12%
2. If the stock is currently selling for $40 per share, is the stock a good buy? Interpret the results and justify your decision.
3. The company just paid an annual dividend of $1.50 per share. Dividends are anticipated to grow at a stable rate of 10% per year forever. The stock's beta is 1.2, the riskfree rate is 4%, and the expected return on the overall stock market is 11%. What is the intrinsic value of the company's common stock?
Part II
Select one company that is a member of the Dow Jones Industrial Average. The listing is here:
https://finance.yahoo.com/q/cp?s=^DJI+Components
Apply the Dividend Discount Model and justify why you think that the stock is currently undervalued, overvalued, or fully valued. Please be sure to state your assumptions and justify your results. What is the relationship, if any, between stockholders' wealth and financial decisions?
Computations (use Excel).
Use Excel to make the part I and II computations. Make sure you separate the two parts and organize the information, so Mr. Hillbrandt easily understands.
Memo (use Word).
Explain the concept and computations in part I to the CEO. Start with an introduction and end with a conclusion. Each of the four or five paragraphs should have a heading.
Short Essay Part II (use Word).
Let's look at this issue from an investor's perspective and respond to the question above. Do research as needed and respond to the questions posed in part II.
Start with an introduction and end with a summary or conclusion. Use headings. Don't forget to reference your sources. Maximum length of two pages.
Case 3
Case Assignment
Estimating Project Cash Flows
ABC Golf Equipment Corporation is considering venturing into the golf club manufacturing business with a new driver golf club. As the CFO, it is your job is to add the financial perspective to the decision. It is estimated that the current cost (t=0) of the machinery to create the golf club would cost $2,050,000 including all installation expenses. The company also expects to have to maintain $100,000 of inventories associated with the manufacturing of the golf clubs. The machinery is expected to last ten years. The production equipment is expected to last ten years. The project's cash inflows are expected at begin during year 1 (t=1) and continue through all ten years (t=10). The company expects to sell 500 golf clubs per year at an anticipated price of $500 per golf club. Operating costs, excluding depreciation, are anticipated to be 75% of sales each year. The project's cost of capital is 12% and the firm's tax rate is 35%. Determine the project's cash flows for years t=0 to t=10.
Note: Don't forget to consider depreciation (use straight line) when doing the calculations. The equipment is expected to have a resale value of only $40,000 at the end of the tenth year, so this amount is the salvage for purposes of the analysis.
Before you start the analysis, you can work through the example below for guidance.
Acme Company is considering the purchase of new equipment that will be used to produce widgets. As the CFO, you've been asked to complete a financial analysis of cash flows associated with this new purchase. It is estimated that the cost (t=0) of the equipment will be $285,000, with shipping and installation costs of $25,000. The machinery is expected to last 5 years, and is expected to sell for $30,000 at the end of the 5year period (this remaining value is referred to as the "salvage value").
Assume that the salvage value of the equipment will be equal to the market value of the equipment (i.e., there will be no gain or loss on sale of the equipment at end of Year 5). The project's cash inflows will begin during year 1 (t=1) and will continue through all five years (t=5). The company expects to sell 600 widgets each year at a price of $500 per widget. Operating costs, excluding depreciation, are anticipated to be 70% of sales each year. The firm's tax rate is 35%. Calculate:
1) The initial investment cash outlay, and assume that the equipment requires
$20,000 of supplies (i.e., working capital) be kept on hand at all times.
2) Straightline depreciation
3) Operating cash flows for the 5year period Answers:
1) Compute the initial investment cash outlay. This is the total cost of equipment purchase ($285,000), installation and shipping ($25,000), and change in net working capital ($20,000):
= $285,000 + $25,000 + $20,000
= $330,000
2) Calculate straightline depreciation, where salvage value is $30,000 and useful life of the equipment is 5 years:
= [($285,000 + $25,000) $30,000] = $280,000
= ($280,000 / 5 years) =$56,000
3) Calculate operating cash flows, where CFt = (revenues costs)*(1 tax rate) CF1 = ($300,000 $210,000)*(1 35%) = $58,500
CF2 = ($300,000 $210,000)*(1 35%) = $58,500 CF3 = ($300,000 $210,000)*(1 35%) = $58,500 CF4 = ($300,000 $210,000)*(1 35%) = $58,500 CF5 = ($300,000 $210,000)*(1 35%) = $58,500
= $58,500 x 5
= $292,500
Required:
Computations (use Excel).
Use Excel to estimate the project's cash flows. Presentation always matter, but you want to make sure that Mr. Hillbrandt can easily follow your work. He is a busy man.
Memo (use Word).
Write a memo to Mr. Hillbrandt and comment on the three questions below. Limit the memo to four or five paragraphs since CEOs want an initial succinct explanation to accompany the financial calculations. Start with an introduction and end with a recommendation. Each of the four or five paragraphs should have a heading.
1. If the manufacturer plans on using debt to finance the project, should the estimated project cash flows be changed to reflect these interest charges? Why
or why not?
2. If the manufacturer spent $200,000 studying golf clubs last year, should that cost be taken into account with this analysis? Why or why not?
3. If the manufacturer could rent out the factory that is storing the golf club machinery for $80,000 a year, should that be taken into account with this analysis? Why or why not?
Short Essay (use Word).
If ABC Golf Equipment Corporation goes ahead with this new manufacturing venture, the company may no longer be allowed to represent a competing brand of golf clubs that currently accounts for 20% of its profits. Should this be considered in the analysis? Why or why not? What other factors should be considered in making the decision?
Start with an introduction and end with a summary or conclusion. Use headings. Don't forget to reference your sources. Maximum length of two pages.
Case 4
Case Assignment
Analyzing a Firm's Capital Structure
Mr. Hillbrandt has learned a lot about the financial side of running the business during the first year with the company and is now contemplating making changes to the corporate capital structure. He needs your assistance one more time.
ABC Golf Equipment Corporation has $10 million in assets (where the market value of the assets is equal to the book value of the assets) and no debt. The company's marginal tax rate is currently 35% and has 500,000 shares outstanding. The company's earnings before interest and taxes (EBIT) are $3.88 million. The firm's stock price is $27 per share and the cost of equity is 11%.
The company is thinking of issuing bonds and simultaneously repurchasing a portion of its stock. If the company changes its capital structure from no debt to 25% debt based on market values, the firm's cost of equity will increase to 13% because of the increased risk. The bonds can be sold at a cost of 9%. The firm's earnings are not expected to grow over time. All of its earnings will be paid out as dividends.
|
Probability
|
EBIT ($)
|
|
0.05
|
1 million
|
|
0.25
|
2.3 million
|
|
0.40
|
4 million
|
|
0.25
|
5.8 million
|
|
0.05
|
6.1 million
|
Required:
Computations (use Excel).
Make the computations necessary to answer the questions below. Don't forget that Mr. Hillbrandt does appreciate your stepbystep computations to guide him through the analysis.
1. What impact will this utilization of this debt have on the value of the company?
2. What's going to be the company's EPS after the recapitalization?
3. What's going to be the company's new stock price?
4. The $3.88 million EBIT discussed above is determined from this probability distribution.
5. What's the times interest earned ratio at each probability level?
Memo (use Word).
Interpret the analysis already prepared and use the Excel computations as a basis for a memo to the CEO. Write a four or five paragraph memo. Make sure each question listed above is addressed. Start with an introduction and end with a recommendation. Each of the four or five paragraphs should have a heading.
Short Essay (use Word).
Do research to determine some significant considerations that go into selecting or changing the capital structure of a corporation. Start with an introduction and end with a summary or conclusion. Use headings. Don't forget to reference your sources. Maximum length of two pages.
SLP - 1
Conducting Financial Ratio Analysis
Select a publicly traded U.S. company that has paid a dividend for at least the last three years, and conduct a financial ratio analysis. You will be using this company for other assignments in this course; thus, please spend adequate time locating a company. Please consider reviewing https://finance.yahoo.com to locate a company. The company must have data available for you to conduct a financial ratio analysis. It's important to select a company in an industry that has industry ratio numbers.
You cannot select a privately held company.
Calculate all the following ratios for the company for the past three years and compare them to the appropriate industry benchmarks:
Liquidity ratios:
Current Quick
Asset Management ratios:
Inventory turnover Total assets turnover Fixed assets turnover Days sales outstanding
Debt Management ratios:
EBITDA coverage Timesinterestearned Total debt to total assets
Profitability ratios:
Return on common equity Return on total assets
Basic earning power Profit margin on sales
Market Value ratios:
Market/book Price/earnings Price/cash flow
Create a table that contains the ratios for the various years. Then analyze the information. Look at the trends in the ratios and comment on how they compare to the industry benchmarks. Which ratios are strong? Which ratios need improvement? If you were a stock investor, would you buy the company's common stock? Why or why not? If you were a bond investor, would you buy the company's bonds? Why or why not?
SLP Assignment Expectations
You are expected to:
Describe the purpose of the report and provide a conclusion. An introduction and a conclusion are important because many busy individuals in the business environment may only read the first and the last paragraph. If those paragraphs are not interesting, they never read the body of the paper.
Answer the SLP Assignment question(s) clearly and provide necessary details.
Write clearly and correctly-that is, no poor sentence structure, no spelling and grammar mistakes, and no runon sentences.
Provide citations to support your argument and references on a separate page. (All the sources that you listed in the references section must be cited in the paper.) Use APA format to provide citations and references.
Type and doublespace the paper.
Whenever appropriate, please use Excel to show supporting computations in an appendix, present financial information in tables, and use the data computed to answer followup questions. In finance, in addition to being able to write well, it's important to present information in a professional manner and to analyze financial information. This is part of the assignment expectations and will be considered for grading purposes.
SLP - 2
Bond Valuation
This assignment contains two parts: Part I and Part II. Part I
Answer these questions and show your work:
Assume that the company that you selected for the Module 1 SLP has a bond outstanding that matures in 20 years and has a coupon rate of 6.5%. The par value of the bond is $1,000.
If the yield to maturity is 8% and the bond pays interest on an annual basis, what's the current price of the bond? Is the bond selling for a premium or discount? How can you tell?
If the yield to maturity is 8% but the bond pays interest on a semiannual basis instead of an annual basis, what's the current price of the bond? Is it different from the value when using annual compounding? Explain.
Now, assume that the economy enters into a recession and interest rates fall. The bond's yield to maturity is now 5%. What's the bond's new price? How does the price compare with your answer in part a? Why did the bond's value change?
A bond matures in ten years and is currently selling for $1,125. The bond pay interest annually, has a par value of $1,000, and a yield to maturity of 10.75%. What's the bond's current yield?
Part II:
Write a 2page essay comparing reinvestment risk and interest rate risk and how an investor can protect his or her portfolio from those risks. Please be sure to discuss duration in your paper.
SLP Assignment Expectations
You are expected to:
Describe the purpose of the report and provide a conclusion. An introduction and a conclusion are important because many busy individuals in the business environment may only read the first and the last paragraph. If those paragraphs are not interesting, they never read the body of the paper.
Answer the SLP Assignment question(s) clearly and provide necessary details.
Write clearly and correctly-that is, no poor sentence structure, no spelling and grammar mistakes, and no runon sentences.
Provide citations to support your argument and references on a separate page. (All the sources that you listed in the references section must be cited in the paper.) Use APA format to provide citations and references.
Type and doublespace the paper
Whenever appropriate, please use Excel to show supporting computations in an appendix, present financial information in tables, and use the data computed to answer followup questions. In finance, in addition to being able to write well, it's important to present information in a professional manner and to analyze financial information. This is part of the assignment expectations and will be considered for grading purposes.
SLP - 3
Applying Various Capital Budgeting Methodologies
The objective of a firm is to maximize shareholder wealth. The Net Present Value (NPV) method is one of the useful methods that help financial managers to maximize shareholders' wealth.
Suppose the company that you selected for the Module 1 SLP is considering a new project that will have an initial cash outflow of $125,000,000. The project is expected to have the following cash inflows:
Year Cash Flow ($)
1 2,000,000
2 3,500,000
3 13,500,000
4 89,750,000
5 115,000,000
6 120,000,000
If the project's cost of capital (discount rate) is 12.5%, what is the project's NPV? Should the project be accepted? Why or why not?
You may use the following steps to calculate NPV:
1. Calculate present value (PV) of cash inflow (CF)
PV of CF = CF1 / (1+r)^1 + CF2 / (1+r)^2 + CF3 / (1+r)^3 + CF4 / (1+r)^4 + CF5 / (1+r)^5 + CF6
/ (1+r)^6
Where the CFs are the cash flows and r = the project's discount rate.
2. Calculate NPV
NPV = Total PV of CF - Initial cash outflow or Initial cash outflow + Total PV of CF
r = Discount rate (12.5%)
If you do not know how to use Excel or a financial calculator for these calculations, please use the present value tables.
Online Learning Center. (n.d.) Present and Future Value Tables. Retrieved from https://highered.mheducation.com/sites/0072994029/student_view0/present_and_future_value_tables.html
Also, consider reviewing https://www.tvmcalcs.com for financial calculator tutorials.
Besides NPV, there are other capital budgeting methodologies including the regular payback period, discounted payback period, profitability index (PI), internal rate of return (IRR), and modified internal rate of return (MIRR). These methodologies don't necessarily give the same accept/reject decisions as NPV.
If the firm has a requirement that projects are paid back within 3 years, would the project be accepted based off the regular payback period? Why or why not? Would the project be accepted based off the discounted payback period? Why or why not?
What is the project's internal rate of return (IRR)? Based off IRR, should the project be accepted? Why or why not? Recall the project's cost of capital is 12.5%. What is the project's modified internal rate of return (MIRR)? Based off MIRR, should the project be accepted? Why or why not?
What are the advantages/disadvantages of NPV, regular payback, discounted payback, PI, IRR, and MIRR? Present these advantages/disadvantages in a table.
SLP Assignment Expectations
You are expected to:
Describe the purpose of the report and provide a conclusion. An introduction and a conclusion are important because many busy individuals in the business environment may only read the first and the last paragraph. If those paragraphs are not interesting, they never read the body of the paper.
Answer the SLP Assignment question(s) clearly and provide necessary details.
Write clearly and correctly-that is, no poor sentence structure, no spelling and grammar mistakes, and no runon sentences.
Provide citations to support your argument and references on a separate page. (All the sources that you listed in the references section must be cited in the paper.) Use APA format to provide citations and references.
Type and doublespace the paper.
Whenever appropriate, please use Excel to show supporting computations in an appendix, present financial information in tables, and use the data computed to answer followup questions. In finance, in addition to being able to write well, it's important to present information in a professional manner and to analyze financial information. This is part of the assignment expectations and will be considered for grading purposes.
SLP -4
Analyzing the Dividend Policies of Various Companies
Please recall the company that you selected for the Module 1 SLP. Please review the company's dividends over the past three years. Then, answer the following questions in Word (except for the Excel portion specifically noted):
What has occurred with company's dividend payout, dividend yield, and dividend per share over the past three years? Do you have any explanations for what has occurred?
How does your selected company's dividend payout, dividend yield, and dividend per share compare to other companies in its industry? Has the company's dividend strategy been similar to other companies in its industry?
You are now to use Excel and plot your selected company's earnings and dividends over the past three years. Do you notice any patterns?
What is your estimate for your company's dividend per share next year? Please justify why you made that decision.
Now locate a company that has reduced or eliminated its common stock cash dividend over the past year. Why did the company reduce or eliminate its dividend? What has happened to the company's stock price over the year?
SLP Assignment Expectations
You are expected to:
Describe the purpose of the report and provide a conclusion. An introduction and a conclusion are important because many busy individuals in the business environment may only read the first and the last paragraph. If those paragraphs are not interesting, they never read the body of the paper.
Answer the SLP Assignment question(s) clearly and provide necessary details.
Write clearly and correctly-that is, no poor sentence structure, no spelling and grammar mistakes, and no runon sentences.
Provide citations to support your argument and references on a separate page. (All the sources that you listed in the references section must be cited in the paper.) Use APA format to provide citations and references.
Type and doublespace the paper.
Whenever appropriate, please use Excel to show supporting computations in an appendix, present financial information in tables, and use the data computed to answer followup questions. In finance, in addition to being able to write well, it's important to present information in a professional manner and to analyze financial information. This is part of the assignment expectations and will be considered for grading purposes.