General Rules and Requirements:
This is a group assignment (each group should have a minimum of three or a maximum of five students). Word limit is 2,500 words.
Font type – Times New Roman
Paragraph spacing – 1.5
This must include:
Name of the Institute (Top Education Institute)
The assignment title
The name and code of the unit
Full details of the students who prepared the report (official names and student numbers) The due date of the report
Full name of the unit coordinator
Table of Contents
The final report should include the list of the headings and appendices. It is vital to double-check that the correct page numbers are shown opposite each section of the report.
In the introduction section, you should provide enough details about the purpose of the report, essential tasks and generally what the report will cover.
Answers to questions should be organised under appropriate headings and sub-headings. It is vital to include analysis of the sources you are using to answer the questions and report on your research findings.
In the final section of the report, you are expected to summarise all the main points of the report. You will need to list all the findings that are directly linked to the objectives of the report. Reference List
Includes a full list of references you have used to complete your report. Please follow a Harvard style system of referencing. Appendices
Each appendix includes typically tables, figures, annual financial statements, which are too detailed for them to be included in the body of the report. Appendices are placed at the very end of the report. Each appendix should have a separate number.
Part I (10 points)
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.
- 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 points)
- CAPITAL STRUCTURE ANALYSIS
- 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 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. (1 point)
- 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); (0.2 points)
- The current and recent history of leverage and interest coverage ratios; (0.2 points)
- Management discussions about the firm’s leverage policy. (0.2 points)
- Is the financing behaviour of the company consistent with the Pecking Order Theory? (0.2 points)
- You should document and discuss the firm’s leverage policy relative to the leverage policies of comparable firms. (0.2 points)
- To estimate the cost of equity for your company, go to http://au.finance.yahoo.com plus the business section of smh.com.au and enter the ASX code for your company.
Follow the various links to answer the following questions
- What is the most recent stock price? (0.2 points)
- What is the market value of equity or market capitalisation? (0.2 points)
- How many shares are outstanding? (0.2 points)
- What is the most recent annual dividend? (0.2 points)
- What is the beta for your company? (0.2 points)
- Now go back to 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%). (1 point)
- You now need to calculate the cost of debt for your company. Go to 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? (1 point)
- Does it make a difference in this case if you use book-value weights or market-value weights? (1 point)
- 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 (1 point)
- The Modigliani and Miller Propositions (1 point)
PART II (15 points)
CASH FLOW AND CAPITAL BUDGETING
Your team was hired to analyse and estimate two alternative investment proposals. The first proposal calls for a major renovation of the company’s manufacturing facility. The second involves replacing just a few obsolete pieces of equipment in the facility. The company will choose one project or the other this year, but it will not do both. The cash flows associated with each project appear below and the firm discounts project cash flows at 15%.
- Calculate the payback period of each project and based on this criterion, indicate which project you would recommend for acceptance. (2 points)
- Calculate the net present value (NPV) of each project and based on this criterion, indicate which project you would recommend for acceptance. (2 points)
- Calculate the internal rate of return (IRR) of each project and based on this criterion, indicate which project you would recommend for acceptance. (2 points)
- Calculate the profitability index (PI) of each project and based on this criterion, indicate which project you would recommend for acceptance. (2 points)
- Overall, you should find conflicting recommendations based on the various criteria. Why is this occurring? (1 points)
- Chart the NPV profiles of these projects. Label the intersection points on the x- and y-axes and the crossover point. (2 points)
- Based on this NPV profile analysis and assuming the WACC is 15%, which project would you recommended for acceptance? Why? (1 point)
- Based on this NPV profile analysis and assuming the WACC is 25%, which project is recommended? Why? (1 point)
- Discuss the important elements to consider when deciding between these two projects. (2 points)