Corporate Finance: Capital Budgeting

STOTTS Technologies Pty Ltd is investing $10 million in new equipment that will produce innovative RFID blocking pads for wireless credit card protection. Research and development costs of $1.5m has already been spend and a feasibility study costing $100,000 has also been completed. Due to constantly changing technologies, the project is estimated to last only 10 years. Arising from the feasible study, net sales to its customers is projected at $2m for the next three years; increasing by 10% each year for next 4 years and then declining by 20% for remaining 3 years. (Net Sales is taken to be less of fixed and variable costs of operating the project.)Depreciation is on straight line method over the estimated useful life of the project. Assume both the tax and accounting depreciation to be the same. At the end of the ten years, the equipment can be sold for a scrap value of $500,000.Increase of net working capital (NWC) of $300,000 is forecasted throughout the duration of the project. The new equipment will be located in part of a new factory normally rented out for $200,000 p.a.

The company’s tax rate is 30%, and the cost of capital is 10%.

1. What is the (est.) payback period
2. Calculate the project Net Present Value (NPV).
3. What is the Internal Rate of Return (IRR) for the project
4. d. Based on your assessment of the results of a, b & c above; what is your view of this project
5. Assuming Stott’s Technologies have to borrow for this project and the cost of borrowing is 25%; would your views change on the project and why

Question 2(Risks and Returns; Share – Returns, WCM, Dividends Payout; Portfolio)

Word Limit: 2000

Your retired Aunty Mary has some savings and due to the low interest rate environment now; she wants to invest in shares. She has never invested in shares before. She asked for your advice because she knows you are doing a Finance subject in your degree. Auntie Mary thinks you are able to advise her on a share listed on ASX which she is interested in.

From the list of ASX listed companies in Appendix 1; select a (ONE) stock to advise Aunty Mary.

Your approach in advising her will be along the guidelines (i.e. tasks) as follows-

1. Examine the share (or stock) price and history of traded volumes over the past five (5) years; identifying the main causes of changes in the share price during the period. How do you think the share performed Briefly advise her on whether you think she should buy or not.

2. Calculate the holding period return (%) if she was to hold the share for the past year. What is the yield return (%) for the same period Assuming she follow your advice to buy the share now, what will be her expected current dividend yield

3. What is the Market Capitalization; Gearing Ratio and Beta of the share (Note: State the source of your information for analysis.)

Using CAPM, calculate the expected return of investing into that share assuming the overall average market return / premiumfor ASX shares is 8%.  Explain to Aunty Mary what the stock’s Beta means and why you think its Beta for that share is justify. Do you consider the share to be volatile

4. Describe the working capital strategy of the company. What major factors would they have consider in determining their working capital (Review current ratios and cash flow positions to analysis.)

5. Examine the dividends paid over the past 5 years. Describe the company’s dividend policy and dividend trends. Advise Aunty Mary accordingly. (Aunty Mary being a pensioner paying no taxes is interested in getting more dividends with franking credits.)

Aunty Mary is risk averse as she is retired and from your study you know investing in one stock can be risky. So you also decide you also need to explain how she can diversify her investment risks.

6. Explain the concept of diversification to Aunty Mary. How do you think she can diversify with the selected share into a portfolio

7. Identify and briefly discuss two (2) systemic and two (2) non-systematic risks factors impacting the share you have selected. You can draw on some of the news release about the company and the industry it is in.

APPENDIX 1

LIST OF AUSTRALIAN STOCK EXCHANGE (ASX) COMPANIES

INSTRUCTIONS FOR ASSIGNMENT 2 (CORPORATE FINANCE )

Objectives: The aim of this assignment is to give students an understanding of real life finance issues; to help students understand the linkage between theory and practice and to foster students’ research, critical analysis and both written and verbal communication skills.

The breakdown for allocating the marks for this assignment is as follows: –

Question 1:                                5 marks

Question 2:                              15 marks

Presentation:                                5 marks

Important:

– To the writer please choose either BHP or Santos, the company to invest in shares.

–  Please draw timeline

–  Indicate the formula used in each part of the calculation. 

–  Please show all steps in the calculations and provide written explanations for each step. 

– Support your arguments and views with references and from acceptable sources. (up-to-date).