Capital Budgeting Analysis

The assignment content provided is related to capital budgeting, where a company needs to decide whether to invest in a new project or not. The project involves costs such as labour, savings on tax depreciation and recovery of current assets. The assignment also includes present value calculations for cash flows, net benefit calculation, and recommendation based on the result.

Fundamentals of corporate finance

Que 1)
a)
Two period certainty Problem:
Income estimations
Year 2017 2018
Net profit 6,00,000.00 7,50,000.00
Dividend payout 70.00% 70.00%
Dividend 4,20,000.00 5,25,000.00
Jack Black Equity holding 12.00% 12.00%
Dividend of Jack Black 50,400.00 63,000.00
Two Period Certainty Problem
Years Income
Opening
Amount Interest
Consumptio
n
Balanc
e
2016-
17 50,400.00 4536 54936 26100 28836
2017-
18 63,000.00 28836
8265.2
4
10010
1 100000 101.24
Total 126100
b)
Valuation of share:
Given,
Dividned per share in
2017
$
1.20
Required annual return 12%
Further dividends per
share
In the year of 2018 1.44
In the year of 2019 1.656
In the year of 2020 1.8216
In the year of 2021 1.91268
Value of common equity
3.398095845

Que 2)
a) Time value of money and deferred perpetuities:
i) Present value of the fund:
Ending of 3rd
year $ 50,000.00
Required
return 5%
Time 0.03
PV 0.863837599
NPV $ 43,191.88
ii) Extra required fund:
3rd Year
$
50,000.00
Required
return 3%
Time 0.03
PV 0.915141659
NPV
$
45,757.08
b) Loan repayment and loan terms:
i) Effective annual interest rate:\
Effective annual interest rate is 0.65% per month.
ii) Monthly repayment amount:
Loan 540000
Tenure (months) 240
Interest rate
monthly 0.65%
EMI $4,449.79
iii) EMI amount if the given alteration is adopted:
In first Year
Loan 5,40,000.00

Tenure (months) 12
Interest rate
monthly 0.65%
EMI $3,300.00
In SecondYear
Loan 5,42,612.07
Tenure (months) 12
Interest rate
monthly 0.65%
EMI $3,750.00
In third Year
Loan 5,39,838.03
Tenure (months) 216
Interest rate
monthly 0.65%
EMI $4,658.29
iv) Total required time to repay the loan:
Loan 5,40,000.00
Interest rate monthly 0.65%
EMI $2,500.00
New Tenure (months) 135
Existing Tenure
(months) 240
Extra period (105)
Que 3)
a) Alternative investment choice:
i) Payback period:
Payback period Payback period

Time
Cash
Flow
Cash
inflow
Cumulative
Cash Flow Time
Cash
Flow
Cash
inflow
Cumulative
Cash Flow
£
Milli
on £ Million
£
Milli
on £ Million
0
-
4000
0 12000 -28000 0
-
4000
0 18000 -22000
1 18000 -10000 1 18000 -4000
2 27000 17000 2 18000 14000
Paybac
k
Period 1.37037
Paybac
k
Period 1.22222
Payback period Payback period
Time
Cash
Flow
Cumulative
Cash Flow Time
Cash
Flow
Cumulative
Cash Flow
£
Milli
on £ Million
£
Milli
on £ Million
0
-
4000
0 -40000 0
-
4000
0 -40000
1
1200
0 -28000 1
1800
0 -22000
2
1800
0 -10000 2
1800
0 -4000
3
2700
0 17000 3
1800
0 14000
Paybac
k
Period
2.3703703
7
Paybac
k
Period 2.22222
ii) Difference in the answer:
Through the above analysis, it has been found that the result of both the payback period
calculation is different in both the projects. This has taken place due to differences in the time
period.
iii) NPV:
Net Present Value

Time Cash Flow Discount rate Cash flow
£ Million
0 -40000 1 -40000
1 12000 0.971 11652
2 18000 0.943 16974
3 27000 0.915 24705
Net Present Value 13331
Net Present Value
Time
Cash
Flow
Discount
rate
Cash
flow
£
Million
0 -40000 1 -40000
1 18000 0.971 17478
2 18000 0.943 16974
3 18000 0.915 16470
Net Present Value 10922
iv) IRR:
IRR
Time
Cash
Flow
Cash
inflow
cash
flow
£
Million
£
Million
0 -40000 12000 -28000

1 18000 18000
2 27000 27000
Payback
Period 35%
IRR
Time
Cash
Flow
Cash
inflow
Cash
Flow
£
Million
£
Million
0 -40000 18000 -22000
1 18000 18000
2 18000 18000
Payback
Period 40%
v) Exact crossover point:
Through the above analysis, it has been found that the 10000 is the cross over point of
NPV and cross over point in the IRR is 18000.
vi) Recommendation:

Through the above calculations, it has been found that the net present value is the best
method and according to the NPV analysis, first project is the best project to invest and
enhance the profit of the company.
b) Valuation of bonds:
i) Price of the bond:
Position on 15 November, 2016
Bond-1 Bond-2
Face value 100000 100000
Coupon (Half
yearly) 3% 3%
Maturity (Half
years) 7 13
15 Feb 2017 to 15 Aug
2020
15 Feb 2017 to 15 Aug
2023
Yeild (Half yearly) 3% 3%
Price at 15 aug, 2017
Bond-1 Bond-2
Face value 1,00,000.00 1,00,000.00
Coupon (Half
yearly) 3% 3%
Maturity (Half
years) 7 13
Yeild (Half yearly) 4.00% 4.00%
Interest amount 3,000.00 3,000.00
Price of bond 93,997.95 90,014.35
ii) Reason behind price movements:
The bond-1's price has been reduced from $100,000 to $93,997.95 at
the same time the bond-2's price has been reduced
iii) If alternative is used:
Price at 7 Nov, 2017
Bond-1 Bond-2
Face value 100000 100000
Coupon (Half
yearly) 0.03 0.03
Maturity (Half 7 13

years)
Yield (Half yearly) 0.04 0.04
Interest amount 1369.5652 1369.5652
Price of bond 84,211.99 73,733.40
Que 4)
Capital budgeting:
QUESTION 4-a
Cash outflows
Year $
0 -630000
Cost of technology and
additions to current
assets
1 0
2 -20000
Cost of overhauling
the technology
Savings lost on building
PV of Rent for 4
years net of tax
1,12,000.0
0 3.17
3,55,0
24.93
Less: PV of
Payment to cancel
the lease 44,000.00 1.00
44,00
0.00
PV of savings lost
3,11,0
24.93
Cash inflows
Year
Labour
costs
Savings
Tax savings on
depreciation
Salva
ge
Recovery of
current
assets Total
1
1,90,000.0
0 42,750.00
2,32,
750.0
0
2
1,90,000.0
0 42,750.00
2,32,
750.0
0
3 42,750.00

1,90,000.0
0
2,32,
750.0
0
4
1,90,000.0
0 42,750.00
30,00
0.00 35,000.00
2,97,
750.0
0
Net present value
Year
Net cash
flows PVF@10% PV
0 -630000 1.0000
(6,30,
000.0
0)
1 232750 0.9091
2,11,5
90.91
2 212750 0.8264
1,75,8
26.45
3 232750 0.7513
1,74,8
68.52
4 297750 0.6830
2,03,3
67.26
PV of cash flows
1,35,6
53.13
Less: PV of
savings lost
3,11,0
24.93
Net benefit or loss
in present value
terms
(1,75,
371.8
0)
Recommendation:
Thus through the analysis, it has been estimated that the project is offering loss to the
company and thus the company must not go for this project.