1. A publicly-held corporation has recently reported the following financial statements as of 31/12/2020. Balance sheet...

 

Transcribed Image Text:

1. A publicly-held corporation has recently reported the following financial statements as of 31/12/2020. Balance sheet Income statement (2020) Assets Short-term assets 5,000,000 Debt Long-term assets 8,000,000 Equity Liabilities and equity 12,000,000 1,000,000 Sales 50,000,000 COGS 40,000,000 Other expenses 5,000,000 EBIT 5,000,000 Interest on debt 2,400,000 2,600,000 Net taxable profit Net profit after taxes 2,028,000 The company has outstanding 1 million shares of common stock, currently traded at a price of 9/share in Borsa stanbul. a. If the risk-free rate of interest (current yield on short-term T-bills) is 19%, the stock market is expected to return 23% next year and the company's estimated (CAPM) beta is 1.2, what is the required rate of return on its equity? b. Calculate the company's weighted average cost of capital. 2. In 2021, the firm is considering a new big project, which requires an initial investment in equipment of 2,700,000 and also an initial investment in working capital of 1,000,000 (at t = 0). The investment will be fully financed by issuing a 4-year bond with 10% annual coupon and a yield-to-maturity of 20%. You expect the project to produce sales revenue of 2,400,000 per year for three years. You estimate manufacturing costs at 60% of revenues. (Assume all revenues and costs occur at year-end) The equipment fully depreciates using straight-line depreciation over three years. At the end of the project, the firm can sell the equipment for 1,000,000 and also recover the investment in net working capital. a. Considering the change caused by the new project in the firm's capital structure, recalculate the new cost of capital for the firm (assume the equity beta of 1.2 is not affected). b. Find the project's payback period, IRR, and NPV. C. Should the company invest in the project? Explain. d. Does your decision in (b) depend on the way the project is financed? If so, how? 1. A publicly-held corporation has recently reported the following financial statements as of 31/12/2020. Balance sheet Income statement (2020) Assets Short-term assets 5,000,000 Debt Long-term assets 8,000,000 Equity Liabilities and equity 12,000,000 1,000,000 Sales 50,000,000 COGS 40,000,000 Other expenses 5,000,000 EBIT 5,000,000 Interest on debt 2,400,000 2,600,000 Net taxable profit Net profit after taxes 2,028,000 The company has outstanding 1 million shares of common stock, currently traded at a price of 9/share in Borsa stanbul. a. If the risk-free rate of interest (current yield on short-term T-bills) is 19%, the stock market is expected to return 23% next year and the company's estimated (CAPM) beta is 1.2, what is the required rate of return on its equity? b. Calculate the company's weighted average cost of capital. 2. In 2021, the firm is considering a new big project, which requires an initial investment in equipment of 2,700,000 and also an initial investment in working capital of 1,000,000 (at t = 0). The investment will be fully financed by issuing a 4-year bond with 10% annual coupon and a yield-to-maturity of 20%. You expect the project to produce sales revenue of 2,400,000 per year for three years. You estimate manufacturing costs at 60% of revenues. (Assume all revenues and costs occur at year-end) The equipment fully depreciates using straight-line depreciation over three years. At the end of the project, the firm can sell the equipment for 1,000,000 and also recover the investment in net working capital. a. Considering the change caused by the new project in the firm's capital structure, recalculate the new cost of capital for the firm (assume the equity beta of 1.2 is not affected). b. Find the project's payback period, IRR, and NPV. C. Should the company invest in the project? Explain. d. Does your decision in (b) depend on the way the project is financed? If so, how?

Answer rating: 100% (QA)

a To calculate the required rate of return on equity cost of equity we can use the Capital Asset Pricing Model CAPM formula Required Rate of Return RiskFree Rate Beta Market Return RiskFree Rate Given ... View the full answer