Mod09Tutorial - 3 October 2003 FIN2101 BUSINESS FINANCE II...

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3 October 2003 FIN2101 BUSINESS FINANCE II MODULE 9 – INTERACTION OF INVESTMENT AND FINANCING DECISIONS QUESTION 1 Briggs Boxing and Packaging Ltd is considering expanding its operations. The expansion project will cost $1 400 000 and will have a 6-year life. It is expected to produce annual before-tax cash inflows of $1 500 000. Before-tax fixed costs are estimated to be $400 000 per annum, while before-tax variable costs will be 35% of the estimated cash inflows. The firm has a tax rate of 30%, an unlevered opportunity cost of capital of 18%, a cost of debt of 12% and a debt-to-value ratio of 0.25. Should the company undertake the expansion project? QUESTION 2 Termite Ltd is evaluating an expansion project that requires an investment in equipment costing $9 million, with an expected useful life of 5 years. The equipment will be depreciated using the straightline method to zero over its 5-year life. However, it is expected that the equipment will be sold at the end of the 5 years for $1 million. The project will increase before-tax net cash inflows by $2.5 million per annum in years 1 and 2, by $4 million per year in years 3 and 4, and by $2 million in year 5. The project is to be partly financed by way of a debt issue to raise $3 million at a cost of 10%. The balance will come from an equity issue, which will incur issue costs of 2% of the gross proceeds. The tax rate is 30% and the cost of equity for an equivalent all-equity financed
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This note was uploaded on 12/06/2011 for the course BUSINESS Finance taught by Professor Qilei during the Summer '11 term at Tianjin University.

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Mod09Tutorial - 3 October 2003 FIN2101 BUSINESS FINANCE II...

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