Reference no: EM132889946

BAF301 Introduction to Financial Management

LO 1: Describe the relationship between risk and return
LO 2: Describe the concept of time value of money and calculate PV, FV & annuities.
LO 3: Calculate the value of Securities
LO 4: Calculate the cost of capital.
LO 5: Describe techniques used in Capital Budgeting.
LO 6: Criticize Financing Decisions in business environment.

Question 1. In choosing where to invest, return and risk for an investment must be compared. It is not sufficient to choose an investment based only on return without taking risk into consideration. We have studied two methods or measures that compare return and risk. State these two methods, the formula for each and the criteria used in evaluating alternative investment of each method.

Question 2. Solve the following two problems. Use Excel, financial calculator, or PV and FV Tables. Show your work with the formulas and figures inserted in them.

1. Hamad is saving to establish a small business. He deposits a fixed amount of money every month in a bank account that pays a nominal interest rate of 12 percent. If this account pays interest every month, then how much he should save at the end of every month to have AED 50,000 in his account after 5 years.

2. What is the present value of an investment that pays AED 100,00 every year for four years if the interest rate is 8 percent compounded quarterly.

Question 3. Solve the following two problems. Use Excel, financial calculator, or PV and FV Tables. Show your work with the formulas and figures inserted in them.

1. What must be the present value of an AED 10,000 bond with a 9 percent coupon rate, semiannual coupons that has 8 years to maturity if the discount rate is 10 percent.

2. A public shareholding announced that it is not going to pay dividends for the next 9 years. However, it also announced that it will pay AED 5 as a dividend to common stockholders in year 10 and the dividends will grow by 2 percent every year starting year 11. What price would you pay at present if the required rate of return is 7 percent.

Question 4. Tammuz Enterprises, a public shareholding company, wants to calculate its weighted average cost of capital WACC. It has raised AED 1,000 million in capital (funds) distributed as follows: AED million 50 as preferred stock, AED 400 million as common stock and AED 550 million from debt (bonds). The firm has a marginal tax rate of 30 percent and it borrows at a coupon rate of 12 percent it pays to its bondholders. The price of its preferred stock is AED 80 and the dividend it pays to these stockholders is AED 6. The current flotation cost it would incur if it issued new preferred stock, is 2 percent. Furthermore, the firm's stock beta coefficient is 0.95 and the risk-free return rate is 6 percent while the required market return rate is 13 percent. Using the above information, First, calculate the component cost of each source of capital and then calculate the WACC for the firm. Show you work step by step.

Question 5. A company wants to decide which project to undertake out of two projects A and B. For this purpose, it wants to evaluate each project that have the same initial investment (cost) but different cash flows for the next three years. The following table gives information on these two projects. The discount rate to be used is 8 percent, which is the WACC for the company. Use two methods of capital budgeting: The Net Present Value (NPV) Method and the Internal Rate of Return (IRR) Method, to evaluate and compare the two projects. Based on the outcome of calculations, choose the best project A or B and explain your decision for each method. Show all your work for each method step by step.

Question 6. COVID 19 has adversely affected many economic activities in most countries in 2020. Although many economies recovered in the past few months, there is still a great risk facing many firms. There are problems facing investors wanting to start a new business. The following are questions on the relevant information needed to start a new business venture in the UAE.

1. Identify five economic areas that have demonstrated good performance in the UAE during 2020 despite the effects of COVID 19. Starting a business in these sectors will be more likely successful.

2. Suppose you have initially selected a specific area to start a new line of business from one of the five areas above. There is some relevant information available about similar businesses that are currently operating in the market. What information do you look for to evaluate the feasibility of the new business judging from the material you have learned in this course?