Version:0.9 StartHTML:0000000105 EndHTML:0000003402 StartFragment:0000000141 EndFragment:0000003362 Alpha Ltd has been in operation for the last 5 years and has been unprofitable, making a

loss of $150,000 pa. A significant part of this loss is due to annual depreciation of $100,000

pa on equipment and $200,000 in interest expense on a $2m loan. Although Alpha has

kept up with the annual interest payment each year it has not met any principal payments.

The management of Alpha believe that there is a 20% chance that a new product will

receive approval from regulators in the near future, and if approved, will improve earnings

by $5m pa and save the company from bankruptcy.

Required:

Using FCFF methodology, determine the value of equity for Alpha under the following set

of assumptions and the amount of money that creditors (banks) are likely to lose.

Tax rate is 30% (ignore any complications associated with tax, such as tax losses

carried forward etc)

Assume that no further investments in WCInv and FCInv are required and that no

additional costs are associated with the new product

Alpha has a beta of 1.8, the equity risk premium is 6% and Rf is 4%

D/E ratio is 150%