FIN503 Finance, Investment and Sustainability
FIN503 Finance, Investment and Sustainability
Assessment 3 Written Assessment
Semester 1, 2024 Dr. D Chakrabarty
-1677597544
Maximum Marks: 45 (worth 45% of the overall assessment)
Due date: Friday, 7th June 2024, 23:59 hours, Darwin time
Instructions:
1. Download the Assignment Question file to complete your assignment.
2. Use Microsoft Word for the main assignment
3. You can use Microsoft Excel or calculator for numerical calculations.
4. When using Microsoft Excel, copy and paste Excel outputs (e.g. plots, tables) into your Microsoft Word document (to protect the formatting of Excel output, use the "paste as picture" option in Word.
5. How to Submit: Click in the submission box in the Assessment 3 folder and click on the attachment icon . Attach the file with the completed assignment (Word document only).
6. Keep a hard copy of the submitted assignment in case there are problems with the electronic submission.
Important Notice:
As this is an individual assessment, students should submit their own assignment. All assignments submitted will go through a matching process. If found to have cheated/plagiarised, all submissions will receive a mark of zero for this assessment item. It is up to you to keep your assessment confidential.
This Assignment consists of three questions. Attempt all of them.
left340775Bank of Sydney has hired you as a financial analyst. One of your first job assignments is to evaluate a loan application of $50 million by Bradley Stores, Pty Ltd. To analyze the present financial condition of Bradley Stores, you are provided with the following 2022 balance sheet and income statement information for Bradley Stores. In addition, you are told that Bradley Stores has 15,000,000 ordinary shares outstanding, currently trading at $14 per share, and its annual purchases are 80% of the cost of goods sold.
00Bank of Sydney has hired you as a financial analyst. One of your first job assignments is to evaluate a loan application of $50 million by Bradley Stores, Pty Ltd. To analyze the present financial condition of Bradley Stores, you are provided with the following 2022 balance sheet and income statement information for Bradley Stores. In addition, you are told that Bradley Stores has 15,000,000 ordinary shares outstanding, currently trading at $14 per share, and its annual purchases are 80% of the cost of goods sold.
Question 1 [15 marks, 800 words]
Write a brief report evaluating the loan application of Bradley stores knowing that Bank of
Sydney will approve new loans only to companies in a better-than-average financial position.
To help you in your analysis, you are provided with the industry averages of some key ratios in
the table below.
Your report should address the following aspects of Bradley Stores' financial situation.
(a) Based on the industry-average information, discuss Bradley Stores' liquidity and business activity. Discuss specific areas in which Bradley compares positively and negatively with the
overall industry.
(Marks: 4)
(b) Based on the industry-average information, discuss Bradley Stores' debt position, company profitability, and how it is viewed in the marketplace. Discuss specific areas where Bradley compares positively and negatively with the overall industry.
(Marks: 6)
(c) Overall, what is your final recommendation (approval or denial of the loan)? Justify your recommendation.
(Marks: 5)
Question 2 [15 marks, 700 words]
Part A (7 marks, 300 words)
Netflix Inc. is a subscription service and production company with a debt-equity ratio of 83% and 221.6 million subscribers worldwide as of 31st March 2022. On 19th April 2022, Netflix announced that it had suffered a net loss of 200,000 subscribers globally. It also said it expected to lose another two million subscribers over the next quarter. It was the first time that Netflix
had experienced a decline in worldwide subscription numbers since its inception. Before this announcement, Netflix shares were trading at$348.6 per share. Within two days, Netflix's share prices fell to$218.2 per share, and by 10th May 2022, its shares were trading at $177.68 per share, an almost 50% decline in the share price of Netflix.
(i) Using the share price valuation models that we have studied, briefly explain the reasons behind such a dramatic decline in the share price of Netflix over just three weeks.
Part B (8 marks, 400 words)
Magic Production Company (MPC) is considering a recapitalization plan to convert MPC from its current all-equity capital structure to one including financial leverage.
MPC now has 10 million ordinary shares outstanding, selling for $25.00 each. Currently, MPC shareholders have a required return of 20%. MPC's expected earnings before interest and taxes (EBIT) is $50,000,000 per year for the foreseeable future. However, MPC earnings exhibit considerable volatility ranging between $20,000,000 to $80,000,000 over the last ten years.
The recapitalization proposal is to issue $150,000,000 worth of long-term debt at an interest rate of 15 per cent and use the proceeds to repurchase as many shares as possible at $25.00 per share. Assume there are no market frictions such as corporate or personal income taxes.
Write a short report for the CEO of MPC summarizing the benefits and risks associated with the recapitalization plan from the shareholder's point of view. Your report should explicitly address the following questions:
(i) What are the number of shares outstanding and the debt-to-equity ratio for MPC if the proposed recapitalization is adopted?
(Marks: 1)
(ii) What are the expected earnings per share (EPS) and the expected return on equity (ROE) for MPC shareholders under the proposed mixed debt/equity capital structure? How does it compare to the EPS and ROE under the current capital structure?
(Marks: 2)
(iii) What risks are involved with moving from its current all-equity capital structure to the mixed debt/equity capital structure?
(Marks: 5)
Filling up the following table will help you in answering these questions.
All Equity Financing New Capital Structure
EBIT Interest Net Income Shares Outstanding Earnings per share (EPS) Return on Equity (ROE) Question 3 [15 marks, 700 words]
Reynolds Energy Company (REC) currently has 30,000,000 ordinary shares outstanding that trade at a price of $20 per share. REC also has 5,000,000 bonds outstanding that currently trade at $80 each. REC has no preferred equity outstanding and has an equity beta of 2.7. The risk-free rate is 4.35%, and the expected market return is 13.5%. The companys bonds have a 20-year life, a $100 par value, a 10% coupon rate and pay interest annually. REC faces a tax rate of 20%.
Reynolds Energy has a $75 million capital budget from retained earnings and must make decisions regarding investment projects in the energy sector for the coming year. Projects 1 and 3 have high carbon emissions. Project 2 is an environmentally clean project. All projects generate revenue for five years only. The initial cash outflow and the earnings before interest and taxes (EBIT) resulting from these three projects are provided in the table below.
Project 1 Project 2 Project 3
Initial cash outflow -$25,000,000 -$75,000,000 -$50,000,000
Year 1 EBIT $20,000,000 $20,000,000 $30,000,000
Year 2 EBIT $25,000,000 $20,000,000 $30,000,000
Year 3 EBIT $10,000,000 $50,000,000 $30,000,000
Year 4 EBIT $10,000,000 $60,000,000 $30,000,000
Year 5 EBIT $10,000,000 $100,000,000 $30,000,000
NPV IRR PI (a) Determine the appropriate discount rate for the REC projects. Provide a brief explanation of your calculations.
(Marks: 4)
(b) Derive the appropriate cash flow generated from the three projects. Provide a brief explanation of your calculations.
(Marks: 2)
(c) What is the Net Present Value (NPV), Internal rate of return (IRR) and Profitability Index (PI) of the three projects?
(Marks: 2)
(d) Which project/s should be chosen by REC if it wants to maximize shareholder wealth? Provide a brief explanation.
(Marks: 2)
(e) Suppose the government wants to promote environment friendly projects in the Energy sector. It decides to implement a clean environment tax which imposes an additional 10% tax on earnings from projects with high carbon emissions. How would your answer to part (d) change due to this policy? Is the governments policy successful? Provide a brief explanation.
(Marks: 5)
END OF WRITTEN ASSIGNMENT
Suppose you want to copy the data shown in the excel file below into word.
Step 1:
Highlight the table as shown below. Right click and select Copy.
Step 2:
Open your word document. Place the cursor where you want the table to appear. Click on Paste tab (top left corner below File), then on paste special and then choose Picture (enhanced metafile).
You will get the excel table as a picture file (see below) which you can rescale to fit your page as desired.
PS: You can also use a similar strategy to copy graphs/charts from excel to word. Just click on the chart and follow Steps 1 & 2 outlined above.
