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Sun Solar Ltd produces solar panels for the Australian residential market. Due to high demand for solar panels they have decided to extend their installation services to include batteries which store the energy captured by the panels. Sun Solar has made the following projections:
i. In the first year they expect 5,000 units to be sold. The number of units sold is expected to grow at 15% per annum.
ii. The price for each unit in the first year will be AU$12,000. It is expected that this price will grow by 5% each year.
iii. The variable costs will be 70% of the sale price year on year.
iv. Fixed costs are $3,000,000 for the first year and will increase by 2% per annum.
v. The project term is four years.
vi. This project will require an initial investment of $56,000,000.
vii. This will be depreciated straight line to zero.
viii. Salvage value will be $8,000,000
ix. Working capital is $1,500,000.
x. Tax rate is 30%
xi. Required rate of return is 10%.
xii. Required payback is 3 years.
Question 1 [25 marks]
Use the above details to prepare an Excel spreadsheet calculating the following using the following headings.
|Accounting item||Year 0||Year 1||Year 2||Year 3||Year 4|
a. After-tax cash flows. (15 marks)
b. Payback period. (3 marks)
c. Net present value. (5 marks)
d. Profitability Index (2 marks)
Question 2 (10 marks)
From your findings in Question 1, you are asked to present a report on your findings regarding this project. Make a recommendation to management on whether they should proceed with the project or not. Explain the criteria on which you have based your decision.
Question 3 (5 marks)
It has come to your attention that revenue may flatten to 0% growth due to increased competition. However, variable costs would continue to grow by 5% per annum. Would you recommend the company proceeds with the project? (Show calculations)
Question 4 (10 marks)
The board of directors of Sun Solar are considering another possible investment which involves branching into solar operated cars. The life of the project will be six years, two years more than the battery project from question 1. They are not able to proceed with both investments. Explain how the financial managers would evaluate both projects of unequal lives.
Questions 5 – 9 relate to Topic 9 and below are data to be used for these questions.
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Biomedics Ltd is an Australian publicly listed firm on the Australian Stock Exchange. All shareholders are Australian residents for tax purposes. The firm wishes to expand into a sleep apnoea device that is much less intrusive to its wearers than those currently on the market and is looking at alternative financing sources and the firm’s capital structure. The following relevant data has been identified.
1. It has a long term capital structure of 50% ordinary equity, 10% preference shares and 40% debt.
2. The target capital raising is $100,000,000
3. To raise capital the Biomedics broker advises that they can sell new 10 year corporate bonds to investors for $1,070 with an annual coupon of 5% and a face value of $1,000. Issues costs are expected to be 1% of the face value
4. Preference shares will be issued at $150 per share and pay a dividend of $11.25. They will have an issue cost of 3%
5. Ordinary shares will be issued at a cost of 2% and are currently trading at $6.75 per share. They will pay a dividend of $0.58 this year and dividends are expected to grow by a constant rate of 4%
6. The company pays tax on profits at a rate of 30%
Question 5 (10 marks)
a. Calculate the value of debt Biomedics will need to issue to maintain their target capital structure. [2 marks]
b. What will be appropriate cost of debt for Biomedics? [8 marks]
Question 6 (10 marks)
a. Calculate the value of the preference shares Biomedics will need to issue to maintain their target capital structure. [2 marks]
b. What will be the appropriate cost of preference shares for Biomedics? [8 marks]
Question 7 (10 marks)
a. Calculate the value of ordinary shares Biomedics will need to issue to maintain their target capital structure. [2 marks]
b. What will be the appropriate cost of ordinary shares for Biomedics? [8 marks]
Question 8 (10 marks)
Calculate the Weighted Average Cost of Capital (WACC) for Biomedics following the new capital raising.
Question 9 (10 marks)
Biomedics has a current EBIT of $2milliion pa. The CFO approached the Board and advised them that the finance department has devised a strategy which will lower the company’s cost of capital by 0.75%. How will this change the value of the company? Support your answer using theory and calculations.