FIN303 Financial Management Group-based Assignment January 2021 Presentation Question 1 LTC Inc

Subject:FinancePrice:13.01 Bought9

Share With

FIN303

Financial Management

Group-based Assignment

January 2021 Presentation

Question 1

LTC Inc. is considering whether to sell an existing diecasting mould and then lease it back for 3 years. In this way, cash can be freed up to meet more intermediate needs.

 

The mould brings in revenue of $20,000 yearly with variable cost staking 20% of revenue. The mould was bought 7 years ago for $500,000 with an estimated life of 10 years. It has been depreciated based on the straight-line method. The mould can be sold now for $100,000.

 

Mitti Heavy Equipment Inc. has agreed to buy and then lease back the mould to LTC Inc. at $20,000 yearly for 3 years. The yearly lease payments are to be made in advance, that is, beginning of the lease period.  

 

LTC Inc. still enjoys tax holidays granted by the country’s economic bureau. Its cost of funds is at 5%.

 

1. Analyse if LTC Inc. should go ahead with the sale-and-lease back plan.

(8 marks)

             

2. LTC Inc. now learns that it can junk the mould as scrap metal for $88,000 payable immediately. Hence, production shall stop as LTC Inc. will relocate to lower cost production centres overseas. Analyse if it should still consider its option in part (a)?

(7 marks)

 

 

Question 2

 

TX Ltd has just paid a dividend of $1 per share. Dividends are expected to grow at 5% per annum for the future. Its shares are trading at $20. An efficient 11% return is expected.

 

1. Is the market appraising the risk of the stock right? Should you now recommend ‘buy’ or ‘sell’ on the stock?
   5. marks)

 

2. TX Ltd specialises in medical research. It has just announced that it is in the final stage of clinical trials for the only pandemic vaccine in the world. Its shares shot up to $25 a share post announcement. Dividend growth is set to double for the future and the longterm view that 11% return on the stock is fair. Given this new scenario, discuss how will your recommendation change from part (a)?
   5. marks)

 

 

Question 3

 

Iconichip Inc. is considering investing in a new equipment to produce the latest nano chips for electronic devices. It requires an initial outlay of $4.5 million as equipment cost and an additional $500,000 as installation cost. The firm hired a specialist firm to do an encompassing feasibility study which cost $200,000.

 

The equipment will be depreciated over 5 years of its useful life on a straight-line basis. Additional spending of $300,000 on net working capital at the start of the project will be necessary, although it can be recovered in the equipment’s last productive year. By conservative estimates, the project will produce sales of $6 million every year for 5 years, with $1.5 million as costs each year. The tax rate is 20%.

 

It must be noted that the equipment can be sold as scrap for 5% of the initial equipment cost at the end of its productive life.

 

It must also be noted that to encourage high-tech investments, the authority has offered capital investment credit based on 20% of the installation cost for new equipment deductible upon installation.

 

1. Calculate the Operating Cash Flow (OCF) of the project.

(9 marks)

 

2. What is the tax implication for depreciation and how will it impact cash flow?
   4. marks)

 

3. A university intern suggested that interest on loans to finance the project should be included in the cash flow calculations because ‘the amount is substantial and must be paid in cash’. 

 

As a finance major, what do you think? Discuss.

1. 4. marks)

 (d)     Another intern suggested that ‘the firm should try to make a loss on salvaging an asset as it will boost cash flow’.

 

Again, as a finance major, what do you think? Discuss.

(4 marks)

 

(e) The firm’s cost of capital is 10% for average risk. But given the uncertainty of the world economy and the project risk, a more stringent criterion is needed. As a brilliant finance major, and in consultation with the firm’s economist, should you add or subtract 2% to the cost of capital? Hence, examine if the firm should undertake the venture.

(24 marks)

 

 

Question 4

 

You are a trained Corporate Investment Analyst.

 

Your client, an oil rig entity, has hired you to research and analyse some methods they can adopt in evaluating oil rig projects. Thus far, they have adopted a simple ‘back of the envelope’ or Payback period method in assessing viability of a project. However, for long term projects, they have consistently lost money because cash flow for projects seldom panned out.

 

‘There must be a better way,’ so exclaimed the CEO Alfred Tam. 

 

He has commissioned you to submit a report of up to 2,500 words in total and must address:

 

1. All methods for evaluation of projects. One (1) merit and one (1) demerit of each method.

 

2. ‘The absolute method still triumphs over the relative method in evaluating investment projects.’ What does it mean? Explain in the report.

 

3. Under what situation will both the absolute and relative methods yield the same project investment decision?

 

4. Determine the risk in cash flow projections. List and describe two (2) ways that such risks can be mitigated.

             

5. Explain which of the following are relevant cash flow?

 

1. 1. Market explorative survey expenditure
   2. Additional cost savings
   3. Extra income a project could bring
   4. Installation costs
   5. Salvage value of machinery to be replaced
   6. Tax credit for new equipment

 

6. The firm traditionally uses a standard discount rate for all its project evaluation, namely its own bank’s borrowing rate. Is this appropriate?

           (30 marks)