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24S2 Assignment Instruction

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24 views

24S2 Assignment Instruction

Uploaded by

karthicktherulingrascal
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as PDF, TXT or read online on Scribd
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24S2

125.700 Assignment instruc on

1. The due date for this assignment is October 6 (Sunday), 11.59 pm. This assignment has a
weigh ng of 20% towards your final grade. Late assignments are penalised 5% of the
total score each day.

2. To complete this assignment, you need to have finished the readings and exercises up to
week 7.

3. You will need to upload two files on Stream before the due date: a typed Word
document, and an Excel file. In the Word document, type your name and ID in the
Header; cover page is not required. Use “ID_NAME” as the file name for both Word and
Excel.

4. Your submission of work will be checked by Turni n, which embeds the detec on for the
use of Ar ficial Intelligence. Please ensure your similarity and AI scores are reasonably
low; a high score may incur penal es or be considered a breach of academic integrity.
Any breach and/or plagiarism will be dealt with seriously and may be reported to the
Academic Integrity Officer of MBS. Please see the following for more informa on.

h ps://www.massey.ac.nz/study/study-and-assignment-support-and-guides/academic-
integrity-student-guide/what-academic-integrity-means/
24S2

Part 1: Investment Decisions

The management of a company is considering the manufacture of an electronic product,


machine X. The projected quan ty of machine X and other informa on are presented below

Projected Quan ty:


Year 1 70 units
Year 2 70
Year 3 70
Year 4 70

Ini al investment $60,000


Salvage value at the end of year 5 $0
Deprecia on Straight-line for 4 years

The price of each unit is $1,000, and the variable cost is 40% of the selling price. Fixed costs
are $10,000 no ma er which machine would be used.

Required:

1. You want to show that there is more than one way to calculate the opera ng cash flows
(OCF). Show the full workings of OCF for year 1 using conven onal, bo om-up, top-
down, and tax shield approaches, respec vely. Assume a 28% corporate tax rate. [4
marks]

2. You want to check the forecas ng risk therefore you decide to calculate the accoun ng
break-even, cash break-even, and financial break-even quan ty, respec vely. Assume a
28% corporate tax rate and the required return is 10%. [5 marks]

3. A er the first two steps you realise that you’ve missed or mistaken some informa on.
Refer to the informa on below and calculate NPV in Excel. [12 marks]

a. The Marke ng Team informs you that they have conducted a market survey on
customer demand, cos ng $20,000.
b. The Manufacturing Team thinks you severely underes mated the salvage value. As a
ma er of fact, due to the uniqueness of this machine, it should be sold at $65,000
a er 4 years. They also point out that you’ve overlooked the change in net working
capital, which should be 20% of next year’s sales.
c. The Accoun ng Team reminds you that, according to the NZ tax authori es this type
of machine is depreciated using straight line for 10 years, although the Management
Team would like to use 4-year straight-line deprecia on to claim higher deprecia on
expenditure. They also recall that there are $5,000 interest expenses per year.
d. The Finance Team es mates the required rate of return for a similar project is 10%,
but the Management Team would like to see a 15% return from all investments.
24S2

4. Before finalising your decision (based on the new informa on above), you receive a call
from the Finance Team. They have been evalua ng another similar investment
opportunity, machine Y (same products, same risk, etc.). They provide their final data
(see below). Assume that the project will be repeated for future manufacturing
regardless of which machine is selected, and the scales of ini al investment and
produc on are not considered. Make your decision on which is the be er project with
full workings and explana on. [4 marks]

Project Cash Flows


Year 1 $148,000
Year 2 $139,000
Year 3 $213,000
Year 4 $338,000
Year 5 $751,000

Ini al investment $1,050,000

Instruc on:

Answer Ques on 1, 2, and 4 in Word and Ques on 3 in Excel. Type full workings.
[Total for Part 1: 25 marks]
24S2

Part 2: Cost of Capital

Infinity Construc on plans to take out a new term loan from the bank and use the loan
proceeds to buy back its own shares. This will result in the following change in its capital
structure:
Current Market Weights Target Weights

Long-term debt 30% 45%


Ordinary equity 60% 45%
Preferred equity 10% 10%
The exis ng debt is represented by 12% coupon bonds which are currently trading at $1,130.
The bonds have a par value of $1,000 and have 6 years to maturity. A er the capital
restructure, the bonds will con nue to comprise 30% of total long-term financing. The firm
believes the cost of the bonds will not be significantly different at the me of the share
repurchase. The bank loan will carry a fixed interest rate of 10.25%.
Infinity has just paid a dividend on its common shares of $3.70 per share. Based on historical
dividends, the firm has determined its growth rate is 4%. The current share price is $29.55.
The current risk-free rate is 5.5%, the firm has a beta of 1.2 and the market return is 14.5%.
In the past Infinity has calculated two es mates of the WACC by employing both the CAPM
and constant growth models when calcula ng the cost of common equity. Infinity’s
preferred shares pay a fixed dividend of $5.00 per share and are currently trading at $35.55.
The cost of equity (both common and preferred) is expected to remain unchanged as the
firm believes its overall risk will not increase significantly. The tax rate is 28%.

Required:

1. Calculate the cost of each source of financing being used by Infinity Construc on. [4
marks]

2. Determine Infinity’s WACC before and a er the share repurchase scheme. [8 marks]

3. Is the change in capital structure likely to affect the value of Infinity Construc on? If so,
in what way? [3 marks]

Instruc on:
Answer all ques ons in Word. Type full workings.

[Total for Part 2: 15 marks]


Total for assignment: 40 marks

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