Assignment:
Here is the company's balance sheet:
Assets:
Cash- $2,000,000
Accts. Receivable- $28,000,000
Inventories- $42,000,000
Net Fixed Assets- $133,000,000
Total Assets- $205,000,000
Liabilities:
Accts. Payable- $18,000,000
Notes Payable- $40,000,000
Long-Term Debt- $60,000,000
Preferred Stock- $10,000,000
Common Equity- $77,000,000
Total Liabilities- $205,000,000
Other Info:
Last Year's Sales- $225,000,000
- The Company has 60,000 bonds with a 30-year life outstanding, with 15 years till maturity. The bonds carry a 10% semi-annual coupon and are currently selling for $874.78.
- They also have 100,000 shares of $100 par, 9% dividend perpetual preferred stock outstanding. The current market price is $90.00. Any new issues of preferred stock would incur a $3.00 per share float cost.
-They have 10 million shares of common stock outstanding with a current price of $14.00 a share. The stock exhibits a constant growth rate of 10%. The last dividend(Do) was $.80. New stock could be sold with flotation costs, including market pressure, of 15%.
-The risk free rate is currently 6% and the rate of return on the stock market as a whole is 14%. The company stock's beta is 1.22.
-Stockholders require a risk premium of 5% above the return on the firms bonds.
-The firm expects to have additional retained earnings of $10 million in the coming year and expects a depreciation expenses of $35 million.
-The firm does not use notes payable for long-term financing.
-The firm considers its market value capital structure to be optimal and wishes to maintain that structure.
-The firm's federal+state marginal tax rate is 40%.
-The firm's dividend payout ration is 50% and net profit margin was 8.89%.
You are pitching a new product to your company. You estimate that the product will have a six-year life span, and the equipment used to manufacture the product falls in the MACRS 5-year class. Your venture would require a capital investment of $15,000,000 in equipment, plus $2,000,000 in installation costs. The venture would also result in an increase of accounts recievable and inventories of $4,000,000. At the end of the six-year life span of the venture, you estimate that the equipment could be sold at a $4,000,000 salvage value.
Your venture, which management considers fairly risky, would increase fixed costs by a constant $1,000,000 per year while variable costs of the venture would equal 30% of the revenues. You are projecting that revenues generated by the product would equal %5,000,000 in year 1, $10,000,000 in year 2, $14,000,000 in year 3, $16,000,000 in year 4, $12,000,000 in year 5, and $8,000,000 in year 6.
The firm's management requires a 2% adjustment to the cost of capital for risky projects.
The cost of individual capital components are:
1. long-term debt: 7.09%
2. preferred stock: 10.34%
3. retained earnings: 16.29%
4. new common stock: 17.39%
Calculate the following:
Q1. Compute the WACC twice, once using retained earnings as Re and the next using new common stock's cost for Re, then determine which WACC is best.
Q2. Compute the Year 0 investment for the project.
Q3. Compute cash flows for years 1-6.
Q4. Compute the additional non-operating cash flow at the end of year 6.
Q5. Compute the IRR and payback period for the project.
Q6. Add the cash flows up and determine PV.