ASSIGNMENT 1

GROUP 4

Submitted by:

Aveek Dutta (008)

Shivanand K K (232)
Bharadwaja Reddy (384)
Spandana Nori (456)
All the detailed solutions are included in the Excel:
Excel File:

CV1.xlsx

Solutions:

Chapter-8
Question -3

Workings in Excel Sheet

a) ß 1.7
Debt 0
c) 100% business risk as no leverage has been taken.
Rf 0.064
Rm - Rf 0.055
Cost of equity 0.1575 15.75%
Question -6
b) Rf' 0.075
Ke' 16.85%

D 50
E 100
V 150
ße 1.2
tax 0.4
D(1-t)/E 0.3
Unlevered beta, 0.923077
ßa
D'/E' 8
D'(1-t)/E' 4.8
ße' 5.353846

Question -7

E n ($ bn) 2 Ew 1 Tax 0.4

Beta n 1.5 Beta w 1.3

a) Beta' n 1.43333
3
b) D n ($ bn) 1
Relevered 1.86333
beta 3
 Question -13
Regression Intercept= 0.06%
Slope of regression= 0.46
SD of X co-efficient= 0.2
R-Squared= 5%
No. of Shares= $ 20 Mill.
Market Price= 2 $/share
Debt Outstanding= $ 20 Mill.
Tax Rate= 36%
Equity Risk Premium= 5.50%
i.

T bond return= 6%

Cost of Equity= R f + β ( MRP ) = 0.06+0.46*(0.055) = 8.53%

Equity return expected= 8.53%

ii.

Firm Risk coming from market sources(R^2) = 5%

Firm Risk coming from firm related components (1-R^2) = 95%

As the risk coming from the firm specific components is diversifiable,

Diversifiable Firm Risk= 95%

iii.

Debt (mill.) Equity (mill.) Firm Value (mill.)

Before Disinvestment 20 40 60
After the new division acquisition 50 40 90

Unlevered Beta of the disinvested division= 0.2

New division value= 50 million
Disinvested Division value= 20 million
Levered Beta= 0.46
Unlevered Beta or Asset Beta=Beta Levered/(1+(1-t) *D/E) = 0.35
Beta of the remaining business assets other than disinvested division=
Firm Value
β Remaining asstes= ¿
Value of remaining assets after disinvested
= 0.42
Unlevered Beta of the new acquired division= 0.8
Unlevered Beta of the firm after the acquisition= 0.63
The new Levered Beta= 1.138
 Question 18:

Beta in 1995= Levered Beta of the Firm=1.05

Debt= 13 billion
Equity= 355 mill. *$50= 17.75 billion
Firm Value= 30.75 billion
Cash balance= 8 billion
Tax rate= 36%
Unlevered beta of firm= Levered Beta of the Firm/(1+(1-t) *D/E) = 0.715
Beta of cash= 0
i. Unlevered Beta of firm excluding liquid cash= Unlevered Beta of Firm/ (1-(Cash/Firm value))=
0.966

ii. Dividends paid= 5 billion

Firm value after dividend payment=25.75 billion
Cash remaining= 3 billion
Unlevered Beta after dividend payment=
Cash
Unlevered Beta of non cash∗(1− ) = 0.8537
Firm Value after dividends

iii. Levered Beta of Chrysler= Unlevered Beta after dividend payment * (1+(1-t) *D/E) = 1.411

Question 20:
(D/E) Comparable= 0.35
(D/E) Division= 0.25
βlevered, comparable = 0.95
βunlevered, comparable = βlevered, comparable/(1+((1-t) *(D/E) Comparable))= 0.78

βlevered, Division= βunlevered, comparable*(1+(1-t)(D/E)Division) = 0.9

Higher Fixed costs may result in higher unlevered beta of the firm compared to that of unlevered
beta of the comparable firm. In that case we can't directly assume that the Unlevered Beta of
comparable is equal to Unlevered beta of the Firm.

Chapter 10
Question -1

a) Effective rate = 12.5/50 = 0.25

Firm value = ($16.57mn)

b) Firm value = ($20.25mn)

c) Firm value = ($16.5mn)

Question -4

a) NWC = $112,363
b) Non cash WC = $128,676

c) NCWC as % of revenues = 83%

Question -5

a)

0 1 2 3 4 5
Revenu 170446. 187490. 206239. 226863. 249550.
e 154951 1 7 8 8 1
141543. 155697. 171267. 188394. 207233.
NCWC 128676 6 9 7 5 9
0.8304
% 3 0.83043 0.83043 0.83043 0.83043 0.83043

b)

0 1 2 3 4 5
Revenu 170446. 187490. 206239. 226863. 249550.
e 154951 1 7 8 8 1
78293.0 47637.5 17636.0 10730.6
NCWC 128676 7 1 28985.1 2 6
0.8304 0.45934 0.25407 0.14054 0.07773
% 3 2 9 1 8 0.043

0.55313
Ratio 7

Question -6
a.
This year revenue = 1000 million
Next year revenue at 10% increase = 1100 million
Δ Working capital (assuming -5% of chance in revenue) = -5 milion
EBIT ( 1-t) = 80
 FCFF = 85
b.
No, over the next 10 years using the industry average working capital percent will make more sense
as over the years WC might not be a source anymore.

Chapter 11
Question -3

ROE = Net Income/equity value = 150/1000 =15%

Equity reinvestment rate = (Capex + change in NWC – New debt issued) /Net Income
= ((160-100 +40)-40)/150
= 40%
Expected growth rate =0.4 * 15%
= 6%
(b). If ROE increases to 25% ,

Expected Growth rate = 0.4 * 25%

= 10%

Question -4
Reinvestment Rate = (25+15)/100 %
= 40%
Return on capital = 100/800 = 12.5%
Expected growth rate = 0.4*1.2% = 5%

(b)
Expected Growth rate = ROC(t) *Reinvestment rate +( ROC(t) ROC(t-1) )/ROC(t)
= 15%* 40% +( 15%- 12.5 %)/12.5%
= 26%

Sampa Video Case

Q1) Discount rate for all equity financing= 5+1.5*7.2 = 15.8 %

r 0.158 g 0.05

Year 0 2002 E 200 2004 2005 2006 E 2007 2008

3E E E
Sales 1200 240 3900 5600 7500
0
EBITDa 180 360 585 840 1125
Depreciation -200 -225 -250 -275 -300
EBIT -20 135 335 565 825
Tax Expense 8 -54 -134 -226 -330
EBIATa -12 81 201 339 495
Add back 200 225 250 275 300
Depreciation
OCF 188 306 451 614 795
CAPXb -300 -300 -300 -300 -300
Investment in 0 0 0 0 0
Working Capital
Initial investment -1500
FCF -1500 -112 6 151 314 495 519.7 545.737
5 5
Terminal value 5307.5
 NPV   Rs.
1,228.49
x 1000 =
1228490

Q2) APV of firm = NPV of firm + present value of the tax shield.

PV (Tax shield) = 750000*0.4

= 300000

APV = 1228490 + 300000

= 1528490

Q3)
Debt to Market Value= 25%
Tax rate= 40%
Risk Free rate (RF)= 5%
Market Risk Premium= 5%
Debt to Firm value= 20%
Equity to Firm value= 80%
FCFF Calculation
  2002 E 2003 E 2004 E 2005 E 2006 E 2007 E 2008 E 2009 E 2010 E
Sales 1200 2400 3900 5600 7500
EBITDa 180 360 585 840 1125
Depreciation -200 -225 -250 -275 -300
EBIT -20 135 335 565 825
Tax Expense 8 -54 -134 -226 -330
EBIATa -12 81 201 339 495
Depreciation 200 225 250 275 300
OCF 188 306 451 614 795
CAPXb 300 300 300 300 300 To perpetuity
Investment in
0 0 0 0 0
Working Capital
FCFF of the 545.73 573.02 601.67
-112 6 151 314 495 519.75
Project 8 4 6
7159.091
-112 6 151 314 7654.091

Cost of Debt (KD)= 6.80%

As the Asset beta of the comparable companies is given as 1.5, we can take it as the Asset Beta or
Unlevered Beta of the Project
Unlevered Beta of the Project= 1.5

As the Debt to Market value is given as 25% and Marginal tax rate as 40%, we can calculate Levered
Beta of the Project using the below formula
β Levered =β Unlevered∗¿
Levered Beta of the Project = 1.725
As the Levered Beta is known we can calculate the Cost of equity using
K e =R F + β Levered∗( MRP)
Cost of Equity (KE)= 13.63%

To calculate WACC of the Project

D E
WACC= KD+ K
D+ E D+ E E
WACC= 12.26%
Terminal Growth (g) = 5%
519.74
Terminal Value= =¿ 7159.091
WACC−g
Using the Terminal Value and the expected FCFF from 2002 to 2006 we can calculate Value of the
Project
Value of the Project= $4,502.51 (in thousands of dollars)

NPV of the Project= $3002.5 (in thousands of dollars)

(Detailed Workings are given in the Excel Sheet)

Q4.

Value of the project from above question at the end of 2001 = $4,502.51 (in thousands of dollars)

Assuming project value changes across the years,

2001-year end debt value = 25% (firm value)

= .25*4502.51

= 1125.62 (in thousands of dollars)

Evaluation of debt at the end of the years (2002-2005):

2001 2002 2003 2004 2005

End of year $4,502.51 $ 5,166.52 $ 5,793.93 $ 6,353.27 $ 6,818.18
present Value of
FCF
EoY Debt (25% $1125.62 $ 1,291.63 $ 1,448.48 $ 1,588.32 $ 1,704.55
D/V)

Excel File :

CV1.xlsx