FIN 650 Grand Canyon Entire Course
FIN 650 Grand Canyon Entire Course
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FIN 650 Grand Canyon Week 1 Discussion 1
Respond to the questions
posed in the Mini Case at the end of chapter 1 of the textbook by drafting an
e-mail to Michelle DellaTorre in which you respond to the questions. Post your
e-mail as a reply to this discussion thread. As follow up discussion, respond
to two e-mails drafted by your classmates asking any questions you may have or
for clarification of their explanations.
FIN 650 Grand Canyon Week
1 Discussion 2
This discussion thread
will be used to discuss the practice problems completed in this module. After
completing the problems, submit your answers to the instructor. Your instructor
will specify which problems will be reviewed for discussion. Post your answers
to the posted problem to this discussion thread and discuss any challenges you
had with completing the problems, tips that helped you arrive at the correct
answers, and/or questions you may still have.
FIN 650 Grand Canyon Week
2 Discussion 1
Your stockbroker suggests
you concentrate your portfolio on stocks with low P/E ratios. She explains that
these firms are likely to be out of favor with investors because they have a
low price relative to their current earnings. Is this necessarily a good
investment practice? Why or why not?
FIN 650 Grand Canyon Week
2 Discussion 2
This discussion thread
will be used to discuss the practice problems completed in this module. After
completing the problems, submit your answers to the instructor. Your instructor
will specify which problems will be reviewed for discussion. Post your answers
to the posted problem to this discussion thread and discuss any challenges you
had with completing the problems, tips that helped you arrive at the correct
answers, and/or questions you may still have.
FIN 650 Grand Canyon Week
3 Discussion 1
How would companies
benefit from running sensitivity analysis? How do they determine the most
relevant items to evaluate?
FIN 650 Grand Canyon Week
3 Discussion 2
This discussion thread
will be used to discuss the practice problems completed in this module. After
completing the problems, submit your answers to the instructor. Your instructor
will specify which problems will be reviewed for discussion. Post your answers
to the posted problem to this discussion thread and discuss any challenges you
had with completing the problems, tips that helped you arrive at the correct
answers, and/or questions you may still have.
FIN 650 Grand Canyon Week
4 Discussion 1
The book identifies five
steps in the financial plan. Which step(s) is (are) the most critical? Explain
your rationale.
FIN 650 Grand Canyon Week
4 Discussion 2
This discussion thread
will be used to discuss the practice problems completed in this module. After
completing the problems, submit your answers to the instructor. Your instructor
will specify which problems will be reviewed for discussion. Post your answers
to the posted problem to this discussion thread and discuss any challenges you
had with completing the problems, tips that helped you arrive at the correct
answers, and/or questions you may still have.
FIN 650 Grand Canyon Week
5 Discussion 1
Share repurchases have
grown significantly over the past decade or two. In fact, a recent radio
commentator suggested that the current rise in share prices (both the S&P
500 and the Dow Jones averages are trading at historic highs as of this
writing) is due not to superior company performance, but to the increased
volume of money flowing into the stock market from corporate share repurchases.
Does this sound like a valid explanation for an increase in share prices? Why
or why not?
FIN 650 Grand Canyon Week
5 Discussion 2
This discussion thread
will be used to discuss the practice problems completed in this module. After
completing the problems, submit your answers to the instructor. Your instructor
will specify which problems will be reviewed for discussion. Post your answers
to the posted problem to this discussion thread and discuss any challenges you
had with completing the problems, tips that helped you arrive at the correct
answers, and/or questions you may still have.
FIN 650 Grand Canyon Week
6 Discussion 1
What are the components of
WACC? Which component has the most significance in the total? Over which
component does management have the greatest influence?
FIN 650 Grand Canyon Week
6 Discussion 2
This discussion thread
will be used to discuss the practice problems completed in this module. After
completing the problems, submit your answers to the instructor. Your instructor
will specify which problems will be reviewed for discussion. Post your answers
to the posted problem to this discussion thread and discuss any challenges you
had with completing the problems, tips that helped you arrive at the correct
answers, and/or questions you may still have.
FIN 650 Grand Canyon Week
7 Discussion 1
How should a firm
determine its dividend distribution policy? Discuss three different viewpoints
(management, stockholders, and lenders).
FIN 650 Grand Canyon Week
7 Discussion 2
This discussion thread
will be used to discuss the practice problems completed in this module. After
completing the problems, submit your answers to the instructor. Your instructor
will specify which problems will be reviewed for discussion. Post your answers
to the posted problem to this discussion thread and discuss any challenges you
had with completing the problems, tips that helped you arrive at the correct
answers, and/or questions you may still have.
FIN 650 Grand Canyon Week
8 Discussion 1
Reflect upon your
experiences and the concepts studied throughout the course. In your own words,
explain what maximizing shareholder wealth is all about. What is or was the
most difficult concept to grasp throughout the course? What are some tips you
would share with future students taking the course.
FIN 650 Grand Canyon Week
8 Discussion 2
This discussion thread
will be used to discuss the practice problems completed in this module. After
completing the problems, submit your answers to the instructor. Your instructor
will specify which problems will be reviewed for discussion. Post your answers
to the posted problem to this discussion thread and discuss any challenges you
had with completing the problems, tips that helped you arrive at the correct
answers, and/or questions you may still have.
FIN 650 Grand Canyon Week
1 Benchmark Case study
Corporate Governance
Over the past few years,
the number of start-up companies attracted to either doing business themselves
in the cloud, or specifically creating applications for others to use in the
cloud, has grown significantly. A few but very promising enterprises have
launched applications in “container” technology, which enables companies,
programmers, or other enterprises to both launch and run applications solely in
the cloud.
There is still a lot of
room in this emerging marketplace, and you are diving in. The product you’ve
developed has a unique angle to tap into the local-grown/local-made/local-paid
movement that’s also growing larger every day. Your initial market is your own
small city, which operates independently but which is linked economically and
via public safety provision to another small city sitting directly across a
river separating the two. Once you’ve been able to launch your company in your
city, you plan to approach the “sister city” leaders, then the county, state,
and eventually go national. It’s too soon now, but your future plans entail an
IPO offering to accomplish all this. Eventually, you hope to be able to
re-imagine your product to go global. You have big plans, are close to being
tapped out financially and you now need to plan for additional investors.
Address the following
considerations as they apply to your product launch.
- Describe an
agency relationship and how it may/will take shape for your small company.
As the sole employee and investor in your startup, what agency conflicts
might arise?
- Six months
have transpired, and you’ve been able to add two employees. In this new
arrangement, what agency disputes might now develop that need to be
addressed, and how might you address them? What resources do you need to
use or consider?
- Another
three months have passed. You are now ready to expand to your sister city
and you need more capital. You decide the wisest path is to sell some
stock to outside investors, but you will maintain control over your
company by holding onto the majority of the stock. In this new scenario, what
type of agency conflict might occur? How can you address this in advance?
- The IPO was
a success, and you have a robust number of shareholders. With board
support, you determine it is time to hire a financial manager to help your
firm achieve current goals and set new ones appropriate to the firm’s
growth strategy. What professional strengths and skills will an individual
seeking this position need to possess?
- Another
consideration you feel you need to address at this point, now that your
firm’s stock is publicly traded, is how to sustain the high ethical
standards you’ve fostered thus far as you move into the firm’s future.
What strategies can your management team implement to conduct your
business with both personal and professional integrity? What steps can you
take to ensure that ethical considerations for financial and other
management decisions are embedded into the firm’s culture?
- Congratulations
– you are now at Year One, and everything is moving along faster than you
anticipated. While this is great, you are at the point where you need to
raise additional capital from outside lenders. With this decision, what
type of agency costs might the company incur? How might a lender mitigate
any agency costs?
- Year Two
rolls around. Your company has been able to expand beyond your local
communities and into to localities and governments in half the counties of
the state. The stakes are getting bigger and you welcome the idea of
high-level input to ensure the company keeps growing and expanding. You
cash out the majority of your stock and turn the company over to an
elected board of directors. Neither you nor any other stockholders own a
controlling interest (which is also the situation at most public
companies). List six potential managerial behaviors the new board might
take that could harm your company’s value, and what steps overall can put
into place to avoid or mitigate these.
- You are also
aware from your prior career and from your research, that corporate
governance can affect shareholder value. This greatly concerns you, as you
still have lofty plans for your company’s growth and eventual global
trajectory. Questions you’ve identified that need to be addressed at this
stage include: a) What is corporate governance?; b) What five corporate
governance provisions are internal to a firm and are under its control?;
c) What characteristics of the board of directors usually lead to
effective corporate governance?; d) What characteristics of the board of
directors signal ineffective or problematic governance practices?; e) How
can regulatory agencies and legal systems affect corporate governance? If
there are differences in local versus national levels, expand upon these.
- Lastly, one
of your new board members is very concerned with “blockholders.” What is
block ownership? How does it affect corporate governance? Explain the pros
and cons.
Prepare this assignment
according to the guidelines found in the APA Style Guide, located in the
Student Success Center. An abstract is not required.
This assignment uses a
rubric. Please review the rubric prior to beginning the assignment to become
familiar with the expectations for successful completion.
You are required to submit
this assignment to Turnitin. Please refer to the directions in the Student
Success Center.
FIN 650 Grand Canyon Week
2 Assignment
Financial Analysis and
Proposal Component 1
Throughout this course,
you will prepare a comprehensive financial analysis and proposal (excluding
tables, figures, and addenda) that will demonstrate your understanding of key
financial concepts, strategies, and practices. After selecting a company to profile,
you will construct a comparative financial analysis of your selected company’s
financial position with that of a prime competitor, for example, Amazon and
Netflix, Microsoft and Oracle, or Bank of America and JPMorgan Chase & Co.
Following the nine-step assessment process detailed inAssessing a Company’s
Future Financial Health, your financial analysis and proposal will be composed
of four separate component assignments in Topics 2, 4, 6, and 8.
Financial Analysis and
Proposal Assignment: Overall
In this topic, you will
select a publicly-traded company and a chief competitor and submit both names
to the instructor for approval by the end of the topic.Note: You will need to
have this step finalized before you can complete the assignment detailed below,
so it is in your best interest to select and obtain approval as soon as
possible.
In your selection process,
consider only a company and competitor that are both publicly-traded and which
enjoy extensive analytical coverage to ensure access to sufficient financial
data to complete this four-part assignment successfully.
As you develop your
analysis, research the market at each step for relevant data on your chosen
company/competitor, including financial reports and market information.
Disclose all assumptions you set forth (e.g., revenue growth projections,
expense controls) and provide supporting rationale and quantifiable evidence
behind those assumptions. As your financial analysis and proposal develops over
the span of the course, you will synthesize the analytical and research data
and outcomes of the nine-step assessment process in order to assess 1) the
long-term financial health of the chosen company, and 2) the suitability in
recommending the company (versus the competitor) as a long-term investment
opportunity.
Financial Analysis and
Proposal Component 1: Analysis of the Fundamentals
For this assignment, apply
the first two steps of the nine-step assessment process detailed in Assessing a
Company’s Future Financial Health(i.e., Step 1: Strategy and Step 2: Revenue
Outlook) to compose a comprehensive overview of the company/competitor pairing
you’ve selected and which has been approved by your course instructor. Use the
“Analysis of the Fundamentals” resource provided in the topic materials to
present your findings as per below:
- Using the
most recent U.S. Securities and Exchange Commission (SEC) 10-K reports for
your company and chosen competitor, provide a brief yet succinct
comparative analysis for a) the business overall, b) products and
services, c) customers, d) goals, e) strategies, f) market positions, g)
general risk factors, h) quantitative and qualitative market risk factors,
i) competitors, j) competitive technology, k) regulatory considerations,
and l) operating characteristics. Use the “Analysis of the Fundamentals”
resource provided in the topic materials to present your findings.
- Download
most recent annual financial statements for your company and chosen
competitor (i.e., balance sheets, income statements, and statement of cash
flows). Perform a ratio analysis on the current financial reports,
interpret the results, and provide a brief discussion regarding the
overall revenue outlook. To successfully complete this assignment, please
show all ratio analysis calculations.
Note: You will be required
to re-submit this assignment, revised to incorporate all instructor feedback,
along with the other three component assignments as one comprehensive
submission in Topic 8. To save time later in the course, consider addressing
any feedback soon after this assignment has been graded and returned to you.
Prepare this assignment
according to the guidelines found in the APA Style Guide, located in the
Student Success Center. An abstract is not required.
This assignment uses a
rubric. Please review the rubric prior to beginning the assignment to become
familiar with the expectations for successful completion.
You are required to submit
this assignment to Turnitin. Please refer to the directions in the Student
Success Center.
FIN 650 Grand Canyon Week
3 Case Study
Fixed Income Securities
Congratulations. You have
been promoted to vice president and director of your mid-size firm’s pension
fund management team located in Cincinnati, OH. Before you have even had the
opportunity to settle into your new office, your senior vice president tapped
you to take her place and present an investment seminar to “a group of
investment decision-makers” comprised of government analysts from all over the
tri-state area but that is the extent of the information you’ve been provided.
After doing some quick research, you’ve identified that the specific target
audience for this presentation is composed primarily of individuals with little
or no professional investment experience who are attending this seminar to
build their skills.
In order to address the
range of information these individuals need to know and the likely range of
questions that may crop up, you’ll need to be able to:
- Describe the
essential characteristics of a bond and how these characteristics interact
to determine bond value, inclusive of how both the interest rate and
coupon rate influence bond value and pricing.
- Summarize
call provisions and sinking fund provisions. Explain how these types of
provisions individually make bonds more or less risky for a) an investor,
and b) the issuer.
- The value of
an asset whose value is based on expected future cash flows is determined
by the present value of all future cash flows the assets will generate.
Given the case scenario and target audience provided, select and discuss a
simple asset situation that could apply to exemplify this concept.
- Define what
it means when a bond is callable. Provide two measures you can review to
understand what type of returns to expect if the bond is called or if it
is not called.
- Describe the
type of returns one could one expect with a callable bond trading at a
premium price and provide your rationale. Explain the significance of the
designation “premium price.” Discuss why or why not a callable bond
trading at a premium price would be an appropriate investment for the
target audience’s organizations.
- Select an
example scenario appropriate to the seminar’s target audience Write a
general expression for the yield on a probable debt security (rd) and
define these terms in regards to that hypothetical security: real
risk-free rate of interest (r*), inflation premium (IP), default risk
premium (DRP), liquidity premium (LP), and maturity risk premium (MRP).
- Define the
nominal risk-free rate (rRF) and provide an example relevant to your
target audience of a specific security that can be used as an estimate of
rRF.
- Describe
interest rate risk and reinvestment rate risk and how these relate to the
maturity risk premium. Based on reinvestment rate risk, provide an example
on how a 1-year bond or a 10-year bond would be a better investment for a
typical community as represented by those attending your seminar.
- Select an
example appropriate to your seminar target audience to explain the
concepts of a) term structure and interest rates and b) yield curve.
- Review
corporate bankruptcy law. If a firm were to default on its bonds, describe
how the company assets could be/would be liquidated. What is a likely
outcome for bondholders? Select and describe an example scenario that
applies to your seminar attendees’ organizations.
Prepare this assignment
according to the guidelines found in the APA Style Guide, located in the
Student Success Center. An abstract is not required.
This assignment uses a
rubric. Please review the rubric prior to beginning the assignment to become
familiar with the expectations for successful completion.
You are required to submit
this assignment to Turnitin. Please refer to the directions in the Student
Success Center.
FIN 650 Grand Canyon Week
4 Assignment
Financial Analysis and
Proposal Component 2
Throughout this course you
will prepare a comprehensive financial analysis and proposal (excluding tables,
figures, and addenda) that will demonstrate your understanding of key financial
concepts, strategies and practices. After selecting a company to profile, you
will construct a comparative financial analysis of your selected company’s
financial position with that of a prime competitor, for example, Amazon and
Netflix, Microsoft and Oracle, or Bank of America and JPMorgan Chase & Co.
Following the nine-step assessment process detailed in Assessing a Company’s
Future Financial Health, your financial analysis and proposal will be composed
of four separate component assignments in topics 2, 4, 6, and 8.
For this assignment, apply
the following two steps of the nine-step assessment process detailed in
Assessing a Company’s Future Financial Health(i.e., Step 3: Investments in
Assets and Step 4: Economic Performance)to compose further assessment of the
company/competitor pairing analysis as below:
- Review the
Management’s Discussion and Review (MDR), aka the Management’s Discussion
and Analysis (MDA) section, which can be obtained from the SEC 10-K
reports. Develop pro-forma financial statements for your
company/competitor for the next 5 years. Pro-forma financial statements
require us to make conservative assumptions about future growth; as such,
your discussion must justify and support any assumptions you have made in
developing the pro-formas.
- Discuss
current strategy (ies) used by the company/competitor and any relevant
future investments required to support the business unit (s) strategy(ies)
to achieve higher ROI and market position.
Perform a ratio analysis
on the two pro-forma financial statements you’ve developed (company and
competitor), and provide a discussion regarding future profitability and
competitive performance as well as any significant changes you observe. To
successfully complete this assignment, please show all ratio analysis
calculations.
Note: You will be required
to re-submit this assignment, revised to incorporate all instructor feedback,
along with the other three component assignments as one comprehensive
submission in Topic 8. To save time later in the course, consider addressing
any feedback soon after this assignment has been graded and returned to you.
Prepare this assignment
according to the guidelines found in the APA Style Guide, located in the
Student Success Center. An abstract is not required.
This assignment uses a
rubric. Please review the rubric prior to beginning the assignment to become
familiar with the expectations for successful completion.
You are required to submit
this assignment to Turnitin. Please refer to the directions in the Student
Success Center.
FIN 650 Grand Canyon Week
4 Problem Set 2
Complete the following
problems from Chapter 12 in Financial Management: Theory and Practice:
Chapter 12:
Topics: Additional Funds
Needed, Forecasted Statements and Ratios, Financing Deficits
Problems: 12-2, 12-4,
12-5, 12-7, 12-8, 12-9
General Instructions:
Use the Topic 4 Excel
Resource (if needed). Please show all work for each problem. You are not
required to submit this assignment to Turnitin.
FIN 650 Grand Canyon Week
5 Case Study
Risk and Return
You have recently
graduated with a major in finance and landed a financial planner job with
Barney Smith Inc., a large financial services corporation. Your first
assignment is to invest $100,000 for a client. Because the funds will be
invested in a new business the client plans to start at the end of the year,
you have been instructed to plan for a 1-year holding period. Further, your
boss has restricted you to the investment alternatives shown in Table 1 on the
attached resource, “Topic 5 Assignment Graphic Tables.” (Disregard for now the
items at the bottom of the data; you will fill in the blanks later.)
Note that the estimated
returns of American Foam (Am. Foam), a bedding company, do not always move in
the same direction as the overall economy. For example, when the economy is
below average, consumers purchase fewer mattresses than they would if the
economy were stronger. However, if the economy is in a flat-out recession, a
large number of consumers who were planning to purchase a more expensive
inner-spring mattress may purchase a cheaper foam mattress instead. Under these
circumstances, we would expect American Foam’s stock price to be higher if
there is a recession than if the economy was just below average.
Barney Smith’s economic
forecasting staff has developed probability estimates for the state of the
economy, and its security analysts have developed a sophisticated computer
program that was used to estimate the rate of return on each alternative under
several state of the economy scenarios. Alta Industries (Alta Inds) is an
electronics firm; Repo Men collects past-due debts; and American Foam, as per
above, manufactures mattresses and various other foam products. Barney Smith
also maintains an “index fund” which owns a market-weighted fraction of all
publicly traded stocks; you can invest in that fund, and thus obtain average
stock market results.
Given the situation as
described, answer the following questions.
1- Describe investment
returns, and what “best case” and “worst case” returns you might hope to
achieve for your new client. What is the return on an investment that costs
$1,000 and is sold after one year for $1,100? Would you recommend this type of
investment for your task at hand?
2- Explain why the
Treasury bill’s (aka, T-bill) return is independent of the state of the overall
economy? Do T-bills promise a completely risk-free return? Provide your
rationale.
3- Why are Alta Ind.’s
returns expected to move with the economy whereas Repo Men’s are expected to
move counter to the economy?
4- Calculate the expected
return (), the standard deviation (?p), and the coefficient of variation (CVp)
for the portfolio profiled in Table 1. Provide your answers with calculations.
5- How does the risk of
this two-stock portfolio compare with the risk of the individual stocks if
those stocks were held in isolation? In what ways do “portfolio effects” impact
how investors think about the risk of individual stocks?
6- If you decided to hold
a simple one-stock portfolio, and consequently were exposed to more risk than
diversified investors, could you expect to be compensated for all of your risk;
that is, could you earn a risk premium on that part of your risk that you could
have eliminated by diversifying? Explain.
7- Describe how market
risk is measured for individual securities. How are beta coefficients
calculated? Calculate beta using the following historical returns for the stock
market and for another company, P.Q. Unlimited (PQU) as per Table 2 on the
attached resource, “Topic 5 Assignment Graphic Tables.” Note: Use the Excel
formula function to calculate beta and interpret your results.
8- Write out the Security
Market Line (SML) equation and use it to calculate the required rate of return
on each alternative. Compare the expected rates of return with the required
rates of return. How do these perform against your predictions?
9- Does the fact that Repo
Men has an expected rate of return less than the T-bill rate of return make any
sense? Why or why not?
10- What would be the
market risk and the required return of a 50-50 portfolio of Alta Industries and
Repo Men? Or of Alta Industries and American Foam? Based on your analysis and
conclusions, which would you recommend to your client?
Prepare this assignment
according to the guidelines found in the APA Style Guide, located in the
Student Success Center. An abstract is not required.
This assignment uses a
rubric. Please review the rubric prior to beginning the assignment to become
familiar with the expectations for successful completion.
You are required to submit
this assignment to Turnitin. Please refer to the directions in the Student
Success Center.
FIN 650 Grand Canyon Week
6 Assignment
Financial Analysis and
Proposal Component 3
Throughout this course,
you will prepare a comprehensive financial analysis and proposal (excluding
tables, figures, and addenda) that will demonstrate your understanding of key
financial concepts, strategies, and practices. After selecting a company to
profile, you will construct a comparative financial analysis of your selected
company’s financial position with that of a prime competitor, for example,
Amazon and Netflix, Microsoft and Oracle, or Bank of America and JPMorgan Chase
& Co. Following the nine-step assessment process detailed in Assessing a
Company’s Future Financial Health, your financial analysis and proposal will be
composed of four separate component assignments in Topics 2, 4, 6, and 8.
For this assignment, apply
the next three steps of the nine-step assessment process detailed in Assessing
a Company’s Future Financial Health(i.e., Step 5: External Financing Need, Step
6: Target Sources of Finance, and Step 7: Viability of 3-5 Year Plan) to
compose further assessment of the company/competitor pairing analysis as below:
- Current
financial plan. Interpret current equity valuations in order to recommend
strategic solutions regarding future financial goals. Consider how stock
splits and stock dividend allocations can impact the plan.
- Future
external financing needs. To support growth, companies need capital, and
external financial needs are vital any firm’s future success. Describe
external financing needs sufficient to support your ongoing analytical
assumptions and pro forma financial statements for your chosen company and
competitor.
- Access to
target sources of external financing. You will need to consider the amount
of financing, timing, length of time required, and deferability of
financing options.
- Viability of
a 3-5 Year Plan. Assess the consistency of the plan with the firm’s goals,
and the achievability of both the operating plan and the financing plan
you are proposing.
Note: You will be required
to re-submit this assignment, revised to incorporate all instructor feedback,
along with the other three component assignments as one comprehensive
submission in Topic 8. To save time later in the course, consider addressing
any feedback soon after this assignment has been graded and returned to you.
Prepare this assignment
according to the guidelines found in the APA Style Guide, located in the
Student Success Center. An abstract is not required.
This assignment uses a
rubric. Please review the rubric prior to beginning the assignment to become
familiar with the expectations for successful completion.
You are required to submit
this assignment to Turnitin. Please refer to the directions in the Student
Success Center.
FIN 650 Grand Canyon Week
6 Problem Set 3
Complete the following
problems from Chapters 7, 14, and 15 in Financial Management: Theory and
Practice:
Chapter 7:
Topics: Equity Valuation
Models, Preferred Stock Valuation Model, and Free Cash Flow Valuation Model
Problems: 7-3, 7-4, 7-5,
7-9, 7-12, 7-13, 7-14, 7-17, 7-18, 7-20
Chapter 14:
Topics: Dividend
Distribution Policies and Alternative Dividend Policies
Problems: 14-9, 14-10
Chapter 15:
Topics: Break-Even Point
and Capital Structure Analysis
Problems: 15-7, 15-8, 15-9
General Instructions:
Use the Topic 6 Excel
Resource (if needed). Please show all work for each problem. You are not
required to submit this assignment to Turnitin.
FIN 650 Grand Canyon Week
7 Case Study
Project Valuation and Risk
Analysis
Iron Ore What? (IOW)
Casting Company is considering adding a new line to its product mix. Sydney
Johnson, a recently minted MBA, will be conducting the capital budgeting
analysis. The new production line would be set up in unused space in IOW’s main
plant. The machinery invoice price totals approximately $250,000, with another
$20,000 in shipping charges and $30,000 to install the equipment, for a total
requirement estimated at $300,000. The machinery has an economic life of 4
years, and IOW has obtained a special tax ruling that places the equipment in
the Modified Accelerated Cost Recovery System (MACRS) 3-year class. After 4
years of use the machinery is expected to have a salvage value of $25,000.
The new product line would
generate incremental sales of 1,350 units per year for 4 years at an
incremental cost of $100 per unit in the first year, excluding depreciation.
Each unit can be sold for $200 each in the first year. The sales price and cost
are expected to increase by 3% per year due to inflation. Further, to handle
the new line, the firm’s net working capital would have to increase by an
amount equal to 15% of sales revenues. The firm’s tax rate is 40%, and its
overall weighted average cost of capital is 12%.
- Calculate
and provide the annual sales revenues and costs (other than depreciation).
Why is it important to include inflation when estimating cash flows?
- Construct 4
years of annual incremental operating cash flow statements for IOW Casting
Company. Estimate the required net working capital for each year, and the
cash flow due to investments in net working capital. Calculate the
after-tax salvage cash flow.
- Calculate
the net cash flows for each of the 4 years. Based on these cash flows,
what are the project’s NPV, IRR, MIRR, PI, payback, and discounted
payback? Do these indicators suggest the project should be undertaken?
Explain.
- What does
the term “risk” mean in the context of capital budgeting? To what extent
can risk be quantified, and, when risk is quantified, is the
quantification based primarily on statistical analysis of historical data
or on subjective, judgmental estimates? Provide your rationale.
- Describes
sensitivity analysis and discuss a) its primary weakness; and b) its
primary usefulness? For the IOW project, perform a sensitivity analysis on
the unit sales, salvage value, and cost of capital. Assume that each of
these variables can vary from its expected, or “base-case” value by ± 10%,
± 20%, and ± 30%. Include a sensitivity diagram, and discuss the results.
- Assume that
Sydney Johnson is confident of her estimates of all the variables that
affect the project’s cash flows exceptunit sales and sales price. If
product acceptance is poor, unit sales could be only approximately 1,000
units a year and the unit price would be set at $150. Conversely, an
excellent consumer response could produce sales of 2,000 units and a unit
price of $220. Sidney believes that there is a 25% chance of poor
acceptance, a 25% chance of excellent acceptance, and a 50% chance of
average acceptance (the base case). What is the worst-case NPV? The
best-case NPV? Use the worst-, base-, and best-case NPVs and probabilities
of occurrence to find the project’s expected NPV, standard deviation, and
coefficient of variation.
- Explain
scenario analysis an
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