Applied Corporate Finance - Final Questions
Solutions to Practice Problems by Kyung Hwan Shim University of New South Wales Australian School of Business School of Banking & Finance for FINS 3625 S1 2010 May 23, 2010
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These notes are preliminary and under development. They are made available for FINS 3625 S1 2010 students only and may not be distributed or used without the author’s written consent.
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Solution for Question 1
Summary Table of Cash Flows t=0 I II CF from Machinery ignoring depreciation Working Capital Level in Working Capital CFs from Working Capital III Revenues Variable Costs Fixed Costs Pre Tax Profit Taxes at 34% After Tax Operating CF’s ignoring Deprec. -245,000 160,000 160,000 -160,000 0 0 0 0 0 0 t=1 0 180,000 20,000 -20,000 800,000 450,000 100,000 250,000 85,000 165,000 t=2 0 212,000 32,000 -32,000 900,000 506,250 100,000 293,750 99,875 193,875 t=3 55,000 0 -212,000 +212,000 1,060,000 596,250 100,000 363,750 123,675 240,075
PV of CFs from Tax Shield Gains =
C × d × TC 1 S × d × TC − × n r+d (1 + r) r+d 1 55, 000 × 25% × 34% 245, 000 × .25 × .24 − × = 9% + 25% (1 + .09)3 9% + 25%
= 50, 632.50 20, 000 32, 000 212, 000 − + = −41, 579.50 1.09 1.092 1.093 165, 000 193, 875 240, 075 + + = 499, 939 PV of CFs from Oper. Excl. Dep. = 1.09 1.092 1.093 55, 000 PV of CFs from Invest. & Salvage = −245, 000 + = −202, 530 1.093 1 PV of CFs from Terminal Loss = TC (C(1 − d)n − S) × (1 + r)n 1 = .34(245, 000(1 − .25)3 − 55, 000) × = 12, 696.4 (1 + .09)3 PV of CFs from NWC = −160, 000 −
N P V = 50, 632.50 − 41, 579.50 + 499, 939 − 202, 530 + 12, 696.4 = 319, 158 Since NPV is positive, the firm should go ahead and produce the ultimate tennis racket. Solutions for Question 2
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(a) The market value of debt is D = .15(1.25M ) × a13 7.4% + = 187, 000 × = 2, 026, 284 The market value of preferred equity is P = 5, 700 shares × $87.75 = $500, 175 The market value of common equity is E= $2.2M × $62.50 = 40, 000 shares × $62.50 = $2, 500, 000 $55 1.25M 1.07413
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∗
These notes are preliminary and under development. They are made available for FINS 3625 S1 2010 students only and may not be distributed or used without the author’s written consent.
∗
1
Solution for Question 1
Summary Table of Cash Flows t=0 I II CF from Machinery ignoring depreciation Working Capital Level in Working Capital CFs from Working Capital III Revenues Variable Costs Fixed Costs Pre Tax Profit Taxes at 34% After Tax Operating CF’s ignoring Deprec. -245,000 160,000 160,000 -160,000 0 0 0 0 0 0 t=1 0 180,000 20,000 -20,000 800,000 450,000 100,000 250,000 85,000 165,000 t=2 0 212,000 32,000 -32,000 900,000 506,250 100,000 293,750 99,875 193,875 t=3 55,000 0 -212,000 +212,000 1,060,000 596,250 100,000 363,750 123,675 240,075
PV of CFs from Tax Shield Gains =
C × d × TC 1 S × d × TC − × n r+d (1 + r) r+d 1 55, 000 × 25% × 34% 245, 000 × .25 × .24 − × = 9% + 25% (1 + .09)3 9% + 25%
= 50, 632.50 20, 000 32, 000 212, 000 − + = −41, 579.50 1.09 1.092 1.093 165, 000 193, 875 240, 075 + + = 499, 939 PV of CFs from Oper. Excl. Dep. = 1.09 1.092 1.093 55, 000 PV of CFs from Invest. & Salvage = −245, 000 + = −202, 530 1.093 1 PV of CFs from Terminal Loss = TC (C(1 − d)n − S) × (1 + r)n 1 = .34(245, 000(1 − .25)3 − 55, 000) × = 12, 696.4 (1 + .09)3 PV of CFs from NWC = −160, 000 −
N P V = 50, 632.50 − 41, 579.50 + 499, 939 − 202, 530 + 12, 696.4 = 319, 158 Since NPV is positive, the firm should go ahead and produce the ultimate tennis racket. Solutions for Question 2
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(a) The market value of debt is D = .15(1.25M ) × a13 7.4% + = 187, 000 × = 2, 026, 284 The market value of preferred equity is P = 5, 700 shares × $87.75 = $500, 175 The market value of common equity is E= $2.2M × $62.50 = 40, 000 shares × $62.50 = $2, 500, 000 $55 1.25M 1.07413
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