Bahir Dar University

College of Business and Economics

Department of Accounting and Finance
MBA Program

Financial Management Assignment (30%)

Question No.1
You are a financial analyst for ABC Company. The director of capital budgeting has asked you
to analyze two proposed capital investments, projects X and Y. Project X has a cost of Br.
8,923.50 and project Y has a cost of Br. 10,858.40 and the cost of capital for each project is 12
percent. The projects' expected net cash inflows are as follows(after tax):

Year Project X Project Y

1 Br. 3,000 Br. 3,500

2 3,000 3,500

3 3,000 3,500

4 3,000 3,500

Required:
1. What is the net present value (NPV) of Project Y?
2. What is the payback period of project X ?
3. Which project(s) should be accepted based on NPV criterion assuming the projects are
independent?
4. What is the internal rate of return (IRR) for Project X?
5. Which Project (s) be accepted under IRR criterion if the projects are independent?
6. Which project (s) be accepted under IRR criterion if the projects are mutually exclusive?
 Question No.2
A firm will finance its investment projects as follows:

Source Amount
Debt Birr 40,000
Preferred stock 10,000
Common Stock 50,000
Total needed 100,000
The market interest rate on debt is 12% (before tax). The preferred stock has a current
market price of Birr 55, a dividend of birr 5 and floatation cost of Birr 5. The common
stock has a market price of Birr 60, a floatation cost of 12%, a current dividend of Birr 3,
and dividend grows at a rate of 10% every year forever. The corporate tax rate is 40%.

Required:
1. What is the cost of debt for the corporation?
2. What is the cost of preferred stock for the corporation?
3. What is the cost of common stock for the corporation?
4. What is the overall cost of capital (WACC) for the corporation?
5. If the corporation finances its investment projects entirely by common stock, what will be
the overall cost of capital (WACC) for the corporation?

Question No.3
XYZ Corporation is considering a new production line. The project will be financed entirely by
common equity. Information on the proposed production line is provided below.

Year Cash outlay Earning before tax

0 $900,000

1 $400,000

2 350,000

3 350,000

4 400,000

5 600,000

Assume the risk free rate is 6%, the expected return on market portfolio is 10% and the beta of
the project is 1.5. The tax rate is 50 percent. Assume net working capital requirement is zero
every year and ignore annual depreciation.
Required:
A. Calculate the discount rate.
 B. What is the NPV of the project?
C. Should XYZ accept the project?

Question No.4
You have an opportunity to invest $1,000,000 today in a business that will pay $200,000 in the
first year, $400,000 in second year, $600,000 in the third year and $800,000 in the fourth year.
You can earn 12% per year compounded annually on an investment in a mutual fund that has
similar risk. Should you undertake the project?

Question No.5
Suppose you have given an offer to invest $1,000 today and promised to get the cash inflows of
$600 at the end of year one and $800 at the end of year two. The market rate on this type of
investment is 10% per year compounded annually. Do you accept or reject your offer?

Question No.6
Assume that you have some money. A friend of yours is working as an unpaid employee at a local
brokerage firm, and his boss is selling some securities that call for four payments, $50 at the end of
each of the next 3 years, plus a payment of $1,050 at the end of Year 4 , per security. Your friend
says he can get you some of these securities at a cost of $850 each. Your money is now invested in
a bank that pays an 8 percent interest rate, but with quarterly compounding. You consider the
securities as being just as safe, and as liquid, as your bank deposit, so your required annual rate of
return on the securities is the same as that on your bank deposit. Calculate the value of the
securities and tell whether they are a good investment opportunity or not.

Question No.7
You plan to retire in fifteen years. If the annual (year-end) amount you save each year increases
annually at a 6 percent rate (the growth rate of your income) and will be $1,000 initially at year
end, and if you can earn 8 percent on your savings, how much will your retirement fund be worth
in 15 years?

Question No.8
The annual end-of-year lease payments on a building increase 10 percent annually for the next 6
years. If 8 percent is an appropriate interest rate, and if the first year's lease payment is $10,000,
how much would the leasee pay as of today in one lump sum to the recipient of these lease
payments?

Question No.9
You wish to save annually an increasing (6% growth rate) amount (because your salary increases
annually), and you wish to have $100,000 by the end of the 10th year. If you can earn 10%
compounded annually on your savings, how much should your first (end-of-year) amount saved
be?

Question No.10
Your uncle Harvey expects to live another 10 years. (Should he live longer, he feels you would
be pleased to provide for him.) He currently has $60,000 in savings which he wishes to spread
evenly in terms of purchasing power over the remainder of his life. Since he feels inflation will
average 6 percent annually, his annual beginning-of-year withdrawals should increase at a 6%
growth rate. If he earns 8 percent on his savings not withdrawn, how much should his first
withdrawal be?

Question No.11
ABC enterprise has a beta of 1.50. The risk free rate is 6 percent and the expected return on the
market portfolio is 10 percent. The company presently pays a dividend of Br. 2 a share and
investors expect it to experience a growth in dividends of 7 percent per annum for many years to
come.
Required:

a) What is the stock's required rate of return according to CAPM

b) What is the stock's present market price per share if this required return prevails.
Question No.12
Consider two bonds (A & B) that are identical in every way except for their coupons and, of
course their prices. Both have five years to maturity. The first bond (bond A) has a 10 percent
coupon rate and sells for Br. 1000. The second (bond B) has a 12 percent coupon rate. Both
bonds have a par value of Br. 1000 each and provide coupon payments annually.

Required:

A. What is the yield to maturity for bond B?

B. What is the value of bond B?
C. What is the relationship between the coupon rate and yield to-maturity for premium
bonds? For discount bonds? For bonds selling at par value?

Question No. 13
Today ABC Company sold an issue of bonds with 10 year maturity, a Br. 1000 par value, a 10%
annual coupon rate and quarterly interest payments. The going rate of interest on bonds such as
these now is 6% per year.

Required:
1. What should be the current price of the bond?
2. Does the bond sell at a premium or discount or at par as of today?
3. If the yield to maturity is 10% instead of 6%, at what price does the bond sell today?

Question No. 14

ABC Cement Factory is trading a stock that is expected to experience a supernormal growth in
dividends of 10% per annum for the first two years and 8% per annum for the next another one
year. Then the growth rate declines to 6% per annum into the indefinite future. The stock
currently pays Br.10. The required return of the stock is 12 percent.

Required:

1. Determine annual dividends for each of the first three years.

2. Determine the current value of the stock.