Reference no: EM132505719 , Length: Word count: 1500

Part 1:

• Green Energy Company has recently completed a $220,000, two-year study on its latest project, ‘Roof-top Solar". It estimated that 28,000 units of its new Roof-top Solar units could be sold annually over the next 10 years at a price of $6,580 each. Subcontractors would install the unit at a cost of $4,700 per installation. Fixed costs of $11 million per annum will be incurred.

• The initial outlay includes $52 million to build production facilities and $4.2 million in land. The $52 million facility will be depreciated using the prime cost method over the project's life (fully depreciated at the end of the project). At the conclusion of the project the facilities (including the land) will be sold for an estimated value of $12.5 million. The land value is expected to increase by 1.5 per cent annually over the project period.

• The firm is an ongoing profitable business and pays taxes at a 30% rate in the year of income. It uses a 10% discount rate on the new project.

Question 1: Using the NPV approach, decide whether the project should be undertaken or not.

Part 2:

• "Northland Mining" is considering a major Coal mine project in North Queensland, Australia. Costs of financing have been declining recently, and the company's finance department is considering sourcing the capital through debt and equity.

• Northland Mining's bonds will mature in four years with a total face value of $80 million, paying a half yearly coupon rate of 10% per annum. The yield on the bonds is 15% per annum.

• The market value for the company's preference share is $6.50 per unit while the ordinary share is currently worth $1.90 per unit. The preference share pays a dividend of $1.10 per share. The beta coefficient for the ordinary share is 1.4. The market risk premium is estimated to be 10% per annum and the risk-free rate is 4% per annum.

• The company is subject to a 30% corporate tax rate.

Below is the recent balance sheet for the company:

Debt:

Bonds: $80 million

Equity:

Preference Shares (100,000 units): $4 million

Ordinary Shares (10 million): $14 million

Question 2: Calculate the after-tax cost of each of the company's current financing sources listed below:

(i). Bonds

(ii). Preference shares

(iii). Ordinary shares

Question 3: Using the information provided above, calculate the market values for the financing sources listed below:

(i). Bonds

(ii). Preference shares

(iii). Ordinary shares

Question 4: Using the information from the previous sections, calculate the company's after-tax weighted average cost of capital (WACC).

Question 5: The finance manager of Northland Mining has identified a potential project with an IRR of 18% per year. Should this project be undertaken by the company? Discuss your recommendation using relevant calculations.

Part 3:

(a) Western Agri-Business Ltd is considering short term financing for its working capital requirement. Discuss briefly the three key factors that the company should consider in selecting different sources of short term financing. [8 marks]

(b) Build-Smart Construction Ltd wants to borrow $100,000 to finance a new $150,000 hydraulic machine to be used in a new construction project. The machine will pay for itself in one year. The firm is considering the following alternatives to buy the machine:

Option A: The firm's bank offers to lend the $100,000 at a rate of 12% by arranging a bill for one year.

Option B: The machine dealer offers to finance the machine with a one-year loan of $100,000, and the loan would require payment of principal and interest totaling $115,500 at year-end.

Question 6:  Determine the face value of the bill.

Question 7:  Which option should Build-Smart Construction Ltd. select?

Question 8: What would be your answer if the bank charged a $3000 arrangement fee for the bill?