find the worst case npv and probability, Financial Management

Question 1

What are the total cash inflows for project A?

Discount rate (%)                      NPV of A (Rs.)

0                                                         10,000

5                                                          6,000

10                                                        2,000

Question 2

The Farid Frisby Company is an all equity firm with 125,000 common shares outstanding. It needs to raise Rs.800,000 in order to manufacture cement frisbies for a national contest. The current stock price is Rs.25. The company decides to raise the funds by issuing preferred stock with a 9% coupon.

(a)    What is the number of shares of common stock outstanding?

(b)   What is the net income?

Question 3

The following tabulation gives earnings per share figures for Pappas Manufacturing during the preceding ten years. The firm's common stock 140,000 shares outstanding, is now selling for Rs. 50 a share, and the expected dividend for the coming year (2009) is 50 percent of EPS for the year. Investors expect past trends to continue, so "g" may be based on the historical earnings growth rate.

Year                                                             EPS

1999                                            2.00

2000                                            2.16

2001                                            2.33

2002                                            2.52

2003                                            2.72

2004                                            2.94

2005                                            3.18

2006                                            3.43

2007                                            3.70

2008                                            4.00

The current interest rate on new debt is 8 percent. The firm's marginal tax rate is 40 percent. The firm's market value capital structure, considered to be optional, is as follows:

Debt                            Rs. 3,000,000

Common Equity                7,000,000

Total capital                 Rs.10,000,000



Find the firm's WACC, assuming no common stock is sold.

Question 4

A corporation declares a 10 percent stock dividend and a cash dividend of 20 paisas to be paid to both old shares and those received as stock dividends. Before this announcement, the balance sheet appeared as follows:

            Assets                                                              Liabilities                                        

cash                  Rs. 10,000000                       Common:

other asset                           90,000,000                        Par (Rs.1)               Rs. 10,000,000

                                                                          Paid-in capital               40,000,000

                                                                                    Retained Earnings         50,000,000     

Total assets       Rs. 100,000,000                        total equity            Rs. 100,000,000


Construct new balance sheet showing firm's position after paying stock and cash dividends.

Question 5:

An electronic company has a return of 22% and a beta of 2. A leisure products company has a return of 18.5% and a beta of 1.5.

(a)    What is market return?

(b)    What is risk free rate?

Question 6:

Calculate the required rate if return for Mahmood & Co. assuming that investors expect a 5% rate of inflation in the future. The real risk-free rate is equal to 3% and the market risk premium is 5%. Mahmood has a beta of 2.0 and its realized rate if return has averaged 15% over the last 5 years.

Question 7:

Sky Lifts inc. is a highly seasonal business. The following summary balance sheet provides data for peak and off-peak seasons (in thousands of rupees):

                                                                  Peak                                  Off-peak

Cash                                                          Rs.50                                   Rs.30

Marketable securities                                      0                                          20

Accounts receivable                                       40                                         20

Inventories                                                      100                                       50

Net fixed assets                                               500                                       500

                                                                  Rs. 690                                 Rs.620


Spontaneous liabilities                                    Rs. 30                                    Rs.10

Short-term debt                                                50                                           0

Long-term debt                                                300                                       300

Common equity                                               310                                        310

                                                                    Rs.690                                   Rs.620


From the above data identify and conclude the working capital policy of the firm.

Question 8:

Old Gold is a mining company. Currently Old Gold stock sells for Rs. 15 per share. Old Gold pays a .50 dividend per year with certainty. The price of Old Gold next Year will depend on the stae of the economy as given below:

                                                      Price                                 Probability

Bust                                                 5                                           .5

Boom                                              25                                          .5


(a)    What is expected return on Old Gold stock?

(b)   What is the expected capital gain

(c)    What is the variance of Old Gold's return?

Question 9:

Your firm is planning to replace a machine which it had purchased in the past. The remaining economic life of the machine is 6 years and the book value is Rs. 120,000. The salvage value at the end of 6 years is expected to be zero. The replacement machine has an economic life of 6 years and can be purchased for Rs. 350,000. The salvage value is expected to be rs.50,000. This machine will generate Rs.40,000 per year in additional revenues and will decrease operating costs by Rs.20,000 per year. Assume that the book value of the old machine accurately reflects its market value. The marginal income tax rate is 40%, the depreciation is straight line and the RRR is 10%.


(a)    Initial outlay

(b)   CFAT

Question 10:

You are trying to decide between three projects, A, B,C:

Project                         Investment                Return                    Risk Premium

A                                     Rs.100                      5%                                2%

B                                      Rs.100                      7%                               3%

C                                      Rs.100                      11%                              6%

 Assume that the risk free rate is 4% and that you have only Rs.100 to invest.

(a)    What is the best investment for this investor?

(b)   At what risk free interest rate will the investor be indifferent between the risk free investment and A?

Question 11

Ross and Sons Company has a target capital structure that calls for 40 percent debt, 10 percent preferred stock and 50 percent common equity. The firm's current after-tax cost of debt is 6 percent and it can sell as much debt as it wishes at this rate. The firm's preferred stock currently sells for Rs.90 a share and pays a dividend of Rs.10 per share however, the firm will net only Rs.80 per share from the sale of new preferred stock. Ross expects to retain Rs.15,000 in earning over the next year. Ross common stock currently sells for Rs.40 per share, but the firm will net only Rs.34 per share from the sale of new common stock. The firm recently paid a dividend of Rs. 2 per share on its common stock, and investors expect the dividend to grow indefinitely at a constant rate of 10 percent per year.

(a)    What is the firm's cost of retained earnings?

(b)   What is the firm's cost of newly issued common stock?

(c)    What is the firm's cost of newly issued preferred stock?

Question 12

The staff of National Manufacturing has estimated the following net cash flows and probabilities for a new manufacturing process:

                                Net cash flow

Year                      P=0.2                        P=0.6                                    P=0.2  

0                       (Rs.200,000)             (Rs.200,000)                   (Rs.200,000)

1                                40,000                       60,000                             80,000

2                                40,000                       60,000                             80,000

3                                40,000                       60,000                             80,000

4                                40,000                       60,000                             80,000

5                                40,000                       60,000                             80,000

5*                                        0                       40,000                            60,000

Line 0 is the best cost of the process. Lines 1-5 are operating cash flows and line 5* contains the estimated salvage values. The firm's marginal cost of capital (MCC) for an average risk project is 10 percent.

(a)    Assume that the project has average risk. Find the project's base case NPV (Hint: use expected value for net cash flow in each year)

(b)   Find the worst case NPV. What is the probability of occurrence of the worst?

Posted Date: 2/22/2013 5:03:36 AM | Location : United States

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