Reference no: EM132523039 , Length: word count:2500

TFIN601 Business Finance - Top Education Institute

Company - "Xero Ltd (ASX Code: XRO)"

Section I

The investment bank your group works for has been hired by the Board of Directors of the company assigned to your group to perform analyses of the company's capital structure and to provide advice on whether the current capital structure is optimal. Since your group will report directly to the Board of Directors, you can assume Financial Management level knowledge of finance.

Your group's assigned task is to produce a report on the capital structure of the company allocated to your group. In the report, you should analyse the capital structure of the assigned company following the guidelines provided below.

In your report, you must apply the theories and concepts discussed in class to the facts of the firm assigned to your group. The report should demonstrate your understanding of the theories and their practical implications.

1. COMPANY AND INDUSTRY OVERVIEW

Visit your company's website and provide a summary of the company's business activities and business segments and recent developments in the company and its industry. Identify two comparable firms, which you will use in your analyses in the next section. You should fully justify your choice of comparable firms.

2. CAPITAL STRUCTURE ANALYSIS

A) As a publicly-traded entity, your company is required to submit half-yearly and annual reports to the Australian Securities Exchange (ASX) detailing the financial operations of the company over the past half-year or year, respectively. These reports are available on the ASX website www.asx.com.au or in the investor section of the company's own website. Go to the ASX website and search for announcements made by your company. Find the most recent annual report or half-year report and download the report. Look on the Balance Sheet to find the book value of debt and the book value of equity. If you look in the report, you should find a section which will provide a breakdown of your company's long-term debt.

B) You should document the financing and leverage history of the company and characterise the company's historical (and current) leverage policy using:
• Recent trends in the use of debt and equity and recent financing activities of the firm (debt and equity issues, placements and share buybacks);
• The current and recent history of leverage and interest coverage ratios;
• Management discussions about the firm's leverage policy.
• Is the financing behaviour of the company consistent with the Pecking Order Theory?
• You should document and discuss the firm's leverage policy relative to the leverage policies of comparable firms.
C) To estimate the cost of equity for your company,

• What is the most recent stock price?
• What is the market value of equity or market capitalisation?
• How many shares are outstanding?
• What is the most recent annual dividend?
• What is the beta for your company?

D) Now go back to www.bloomberg.com and find the Australian government bonds. What is the yield on government debt? Using the historical market risk premium, what is the cost of equity for your company using the Capital Asset Pricing Model (CAPM)? (Assume that the average market risk premium is 5.3%).

E) You now need to calculate the cost of debt for your company. Go to www.westpac.com.au and find the current business loan rates equivalent to each of company's debts.
• What is the weighted average cost of debt for your company using the book-value weights?
• Does it make a difference in this case if you use book-value weights or market-value weights?

3. OPTIMAL LEVERAGE ANALYSIS

Your group should discuss the implications of the various capital structure theories for optimal capital structure as they apply to your assigned company, including:
• Trade-off theory
• The Modigliani and Miller Propositions

Section II

CASH FLOW AND CAPITAL BUDGETING

Your team was hired to work on an outdoor performing arts centre, and you are evaluating a project to increase the number of seats by building four new seating areas and adding 5000 seats for the general public. Each box seating area is expected to generate $2500 in incremental annual revenue. The incremental expenses associated with the new boxes and seating will amount to 60 per cent of the revenues. These expenses include hiring additional personnel to handle concessions, ushering and security. The new construction will cost $10 million and will be fully depreciated (to a value of zero dollars) on a straight-line basis over the 10-year life of the project. The centre will have to invest $1 million in additional working capital immediately, but the project will not require any other working capital investments during its life. This working capital will be recovered in the last year of the project. The centre's tax rate is 30 per cent. What are the incremental cash flows from this project? When evaluating this project, construct an Excel spreadsheet to answer the following questions.
Assume that the investment outlay for this project will be made today (year 0).

Suppose the following rules and requirements are associated with this project.

1. The chief financial officer requires that each project be assessed 5 per cent of the initial investment to account for costs associated with the accounting, marketing and information technology departments.

2. Increasing the number of seats will likely reduce revenues next door at the cinema that your employer also owns. Attendance at the cinema is expected to be lower only when the performing arts centre is staging a big event. The total impact is expected to be a reduction of
$500 000 each year, before tax, in the operating profits (EBIT) of the cinema. The depreciation of the cinema's assets will not be affected.

3. If the project is adopted, the new seating will be built in an area where figures have been placed in the past when the centre has hosted guest lectures by well-known painters or sculptors. The performing arts centre will not be able to host such events, and revenue will be reduced by $600 000 each year as a result.

4. The centre has already spent $400 000 researching the demand for new seating.

5. You have just discovered that a new salesperson will be hired if the centre goes ahead with the expansion. This person will be responsible for sales and service of the four new luxury boxes and will be paid $75 000 per year, including salary and benefits. The $75 000 is not included in the 60 per cent figure for operating expenses that were previously mentioned.
What impact will these requirements and costs have on the Free Cash Flows for the project?

Based on this information, answer the following questions.

1. What is the initial cash flow for this project?

2. What is the annual incremental revenue?

3. What are the annual operating expenses?

4. Should you consider the change in net working capital?

5. Estimate the depreciation costs incurred for each of the next 10 years.

6. How are the possible cannibalisation costs considered in this analysis?

7. How does the opportunity cost relate to this project analysis?

8. What are the examples of the sunk costs for this project?

9. Estimate the after-tax free cash flows for each of the next 10 years.

10. Applying the standard discount rate of 10% that the Art Centre uses for capital budgeting, what is the NPV of this project? Explain your result. Would you accept or reject this project?

Attachment:- Business Finance.rar