Homework Assignment Set 5 Student`s

HomeworkAssignment Set 5

HomeworkAssignment Set 5

Question1-4 (solutions)

Q1

CurrentPrice= Do (1+g)

Ifthe firm tends to force the dividends to grow at a long-run growthrate, the company will therefore pay dividends of $2.808million (seeworkings in the Excel worksheet)

Q2

Ifthe firm continues with the 2013 dividend payout ratio, then it willpay dividends of $3.34million.

Q3

Bypaying dividends based on pure residue policy, the firm will pay$7.855million

Q4

Applyingpure regular-dividend policy, the firm will pay dividends of$2.808million, and if it applies extra-dividend policy, it will pay$5.047million (see workings in the Excel spreadsheet)

Question5-6 solutions

Q5

Old

New

Assets

5,000,000

9,000,000

Fixed Cost

2,000,000

2,500,000

Variable cost reduction

-10000

No. of Units

50

70

Price, p. (per unit)

100,000

95,000

Variable Cost per unit

$50,000 _w1

$40,000 _w2

Determiningthe variable cost per unit before investment

Profit= Total Revenue – Total Cost

TR= P × Q

TC= FC + VC

TVC= QVC

Profit= Sales – (FC + VC)

$500,000= {($100,000 × 50) – ($2,000,000 + VC (50)}

  • 50(VC) = $2,500,000

VCPer unit = $50,000 ….w1

VCfor New = 50,000 -10,000 = 40,000 ….w2

Determiningthe profit level if the change is made

Newprofit = Sales – (FC +VC)

=$95,000(70) – ($2,500,000 + 40,000 ×70)

=$1,350,000

Therefore,the incremental profit will be given by

IncrementalProfit = $1,350,000 – $500,000 = $850,000

Approximaterate of return on new investment

Returnon Investment (ROI) = Profit/Investment

$850,000/$4,000,000× 100% = 21.25%

Commentyes the firm so go ahead and make the investment since the returnexceeds the cost of equity which is 16%.

Thatis, Return &gt WACC 21.25% &gt 16%

Q6

Break-evenanalysis

Atbreak-even point, BEP, the firm makes no profit (Arnold2008).That is, the TR = TC

TheBEP output, Q* is gotten from the formula

Q*=FC/ (P-VC)

Inthis case, the BEP will be as follows

Beforeinvestment,

Q*=2,000,000/ (100,000-50,000) = 40 Units

Afterinvestment,

Q*=2,500,000/ (95,000-40,000) = 45.45 Units

Therefore,the change would increase the break-even point

Question7-8 solution

Q7

Returnon investment is a measure of efficiency and profitability of theassets invested in the firm (Arnold2008).It is an important measure of the profitability of a firm. It iscalculated from the below formula.

Returnon equity or investment (ROI) = operatingincome ×100

Totalassets

Inthis case of Firm A and B, ROI when the short rate is 12% and longrate is 15% is equal to 3.38% and 3.77% respectively. (See theworkings in the excel spreadsheet attached)

Q8

TheROI when the short rate and long rate change to 20% and 16%respectively can also be calculated from the above formula.

ROIfor firm A = 2.86%

AndROI for firm B = 0.69%

Thisimplies that the profitability of assets invested into in firm A ismuch higher than that in firm B.

Whenthe short rate change to 20% and the long rate does not change

ROIfor firm A = 3.03%

ROIfor firm B = 2.38%

Question9

Exchangerate of dollars to Japanese yen

1$ is equivalent to 250 yen

Therefore,if 250yen–$10000

Thenwhat of 120 yen

Thisimplies that (120X10000)/250 =4800

Thisimplies that the price of the car now will be $4800

References

ArnoldG. (2008).Corporate financial management 4thedition.Britain: Pearson Education.

EugeneB. &amp Michael E.(2008).FinancialManagement: Theory &amp Practice Branzil:A