Assignment

1. Xia Corporation is a company whose sole assets are $100,000 in cash and
three projects that it will undertake. The projects are risk-free and have the
following cash flows:
Project Cash Flow Today ($) Cash Flow in One Year ($)
A -20,000 30,000
B -10,000 25,000
C -60,000 80,000
Xia plans to invest any unused cash today at the risk-free interest rate of 10%. In
one year, all cash will be paid to investors and the company will be shut down.
a. What is the NPV of each project? Which projects should Xia undertake and how
much cash should it retain?
b. What is the total value of Xia’s assets (projects and cash) today?
c. What cash flows will the investors in Xia receive? Based on these cash flows,
what is the value of Xia today?
d. Suppose Xia pays any unused cash to investors today, rather than investing it.
What are the cash flows to the investors in this case? What is the value of Xia
now?
e. Explain the relationship in your answers to parts (b), (c), and (d).
2. You are running a hot Internet company. Analysts predict that its earnings will
grow at 30% per year for the next five years. After that, as competition increases,
earnings growth is expected to slow to 2% per year and continue at that level
forever. Your company has just announced earnings of $1,000,000. What is the
present value of all future earnings if the interest rate is 8%? (Assume all cash
flows occur at the end of the year.)
3. You have just turned 30 years old, have just received your MBA, and have
accepted your first job. Now you must decide how much money to put into your
retirement plan. The plan works as follows: Every dollar in the plan earns 7% per
year. You cannot make withdrawals until you retire on your sixty-fifth birthday.
After that point, you can make withdrawals as you see fit. You decide that you will
plan to live to 100 and work until you turn 65. You estimate that to live
comfortably in retirement, you will need $100,000 per year starting at the end of
the first year of retirement and ending on your 100th birthday. You will contribute
the same amount to the plan at the end of every year that you work. How much do
you need to contribute each year to fund your retirement?
4. Natasha’s Flowers, a local florist, purchases fresh flowers each day at the local
flower market. The buyer has a budget of $1000 per day to spend. Different
flowers have different profit margins, and also a maximum amount the shop can
sell. Based on past experience, the shop has estimated the following NPV of
purchasing each type:
NPV per Bunch Cost per Bunch Max. Bunches
Roses $3 $20 25
Lilies 8 30 10
Pansies 4 30 10
Orchids 20 80 5
What combination of flowers should the shop purchase each day?
5. IDX Technologies is a privately held developer of advanced security systems
based in Chicago. As part of your business development strategy, in late 2008 you
initiate discussions with IDX’s founder about the possibility of acquiring the
business at the end of 2008. Estimate the value of IDX per share using a
discounted FCF approach and the following data:
 Debt: $30 million
 Excess cash: $110 million
 Shares outstanding: 50 million
 Expected FCF in 2009: $45 million
 Expected FCF in 2010: $50 million
 Future FCF growth rate beyond 2010: 5%
 Weighted-average cost of capital: 9.4%