QUESTION 1 [25 MARKS]

a) Sync Diamonds makes synthetic diamonds by treating carbon in a very

technologically advanced and secret process. Each diamond can sell for R100.

The material cost for a diamond is R40. The fixed costs incurred each year for

factory upkeep and administrative expenses are R200 000. The machinery

costs R1 million and it is depreciated straight-line over 10 years to a salvage

value of zero.

i)

What is the accounting break-even level of sales in terms of the number

of diamonds sold?

[4 Marks]

ii)

What is the NPV break-even level of sales assuming a tax rate of 35%,

a 10-year project life, and a discount rate of 12%?

[6 Marks]

iii)

Would the accounting break-even point in the first year of operation

increase or decrease if the machinery were depreciated over a five-year

period? Motivate your answer.

[2 Marks]

iv)

Would the NPV break-even point increase or decrease if the machinery

were depreciated over a five-year period? Motivate your answer.

[2 Marks]

b)

Bokke's

management anticipates that, after five years of paying a constant

dividend of R2 per year, they will be able to secure new markets. Management

thus feels that, commencing with the dividend in year 6, dividends should grow

at a rate of 20% per annum for two years (i.e., in years 6 and 7); then there

should be 18% growth for one year (i.e., in year 8), settling down thereafter to

a constant growth of 10% per annum indefinitely. The required return has

increased to 20% per annum.Calculate the price of Bokke

's shares today.

[11 Marks]