Part A. Project Selection ( FOR BACKGROUND PURPOSES-I NEED PART B PLEASE)

As observed in Part I, over twenty percent of Garcia Energys inventory is invested in inventory. In order to make this component of its asset base more productive, Garcia Energy is analyzing two potential inventory expansion projects. Option B is more costly and provides larger cash inflows. Project A and Project B are mutually-exclusive projects. Andrew Potts believes that he the impact of this decision will extend out to three years. Garcia Energys required return is 10 percent on this project, which is discussed in greater detail in Part B. Results for Option A are provided. Complete the analysis for Option B, which is over $100,000 more costly (probably bumping the inventory component of total assets above 25 percent), and identify the project that should be selected. Show work to get partial credit in situations where you have incorrect final answer.

Option A			Option B
Initial Investment: $310,000			Initial Investment: $440,000
Year	Cash Inflow		Year	Cash Inflow
1	$151,790		1	$210,000
2	$151,790		2	$190,000
3	$151,790		3	$180,000

Part B. Stock Price impacts During the immediately preceding 4 years, the annual dividend paid on the firms common stock has grown from $3.91 to $4.58 (Do), or by approximately a dollar, which equates to a 4% growth rate. Andrew Potts believes that without the proposed investment, the historical annual dividend growth rate will continue into the future. Currently the required rate of return on the common stock is 13%. Andres Potts research indicates that if the proposed inventory investment is undertaken, the annual rate of dividend growth will rise to 7% and the coming years dividend will rise to $4.90 per share. He feels that in the best case, the dividend would continue to grow at this rate each year forever into the future. Or, essentially, that he would replace this inventory project with a similar project repeatedly in the future. In the anticipated case, the 7% annual rate of dividend growth would continue for only two years, and then at the beginning of the third year the dividend growth rate would return to the 4% rate that was experienced over the past four years. In the worst case, the firms growth rate will drop to zero, due to the use of valuable managerial resources managing inventory assignment across Garcia Energy and the losses incurred if the economy were to deteriorate in a world where it had amassed extra inventory. As a result of the increased risk associated with the proposed risky investment, the required rate of return on the common stock is expected to increase by 1% to an annual rate of 14%. This required rate of return applies regardless of which dividend growth outcome occurs. Armed with the preceding information, Andrews has tasked you with assessing the impact of the proposed risky investment on the market value of Garcia Energys stock. In this scenario analysis, your examination has shown that the best case scenario is likely to happen 20 percent of the time, anticipated case 70 percent of the time, and worst case 10 percent of the time.

1 Best case. Find the value of Garcia Energys common stock in the event that it undertakes the proposed inventory investment and the subsequent dividend growth rate stays at 7% forever.

2. Anticipated case. Recalculate the current price assuming that after two years the average annual dividend growth rate returns from 7% to 4%.

3. Worst case. Recalculate the current price assuming that project is undertaken and the growth rate drops to zero.

4. In between 200 and 300 words summarize the above information in Part II.B and provide Andrew Potts with an analysis of his upcoming inventory decision from the perspective of its impact on the current stock price. (3 points)