Reference no: EM132443306

Problem:

You are analyzing KKP Private Limited and you have collected the following information. KKP operates 7 nurseries and provides landscaping services to the condominiums in Korea. It started in the year 2000 and its revenues have grown at a compounded rate of about 12% a year. Its financial details for the past 3 years are shown below:

KKP plans to open another 3 nurseries. The initial capital expenditure required for this expansion is estimated to be $3 million, which is to be depreciated equally over three years to zero net book value. No salvage value is expected. Based on a market feasibility study which cost $100,000 to undertake, it anticipates that sales will be $300,000, $500,000 and $650,000 for the first three years. Thereafter, it will grow at 2% per year indefinitely. Gross profit will be 50% of sales. Fixed overheads in the first three years is estimated to be $75,000 per year and this will increase to $125,000 from year four onwards. Net working capital is estimated to be 12% of sales, which is required at the start of the year. As the firm expects to fully implement a just-in-time inventory system, the net working capital will be fully recovered at the end of year three.

For the purpose of investment appraisal, the company uses a market risk premium of 5% and risk-free rate of 3%. Its historical beta is 0.8 and marginal tax rate is 20%. Good Landscaping has a target debt ratio of 16%. It issued bonds on July 1, 2013 for $200,000 with a par value of $100 and coupon rate of 8%. The maturity of the bonds in on June 30, 2020. The market value of bonds is $108.53. Its shares are selling at $1.20.

Required:

Question 1: Compute the accounting ratios for FY 2012 to 2014 and evaluate KKP's liquidity, profitability, asset utilisation and financial leverage.

Question 2: Calculate KKP's cost of equity, cost of debt and weighted average cost of capital (WACC).

Question 3: Calculate the net present value (NPV) and examine whether Good Landscaping should proceed with this growth strategy.

Question 4: Analyse and comment on the dividend policy over the last 5 years.

Question 5: In order to finance the expansion plan, the Board is considering several options such as issue shares for $9 million, borrow funds for $9 million and reduce dividend payout to 40%. Compare the implications of various options and recommend an appropriate financing alternative.