2CDS, a pharmacy chain, is considering a 5-year trial to establish an in-store clinic in one if its US locations. Customers in this location could receive non-emergency and preventative medical care at a lower cost. If the in-store clinic concept is successful, it could be replicated throughout the US. The company has hired a consultant who has collected the following information:

The trial requires an immediate investment of $800,000 in medical equipment and store infrastructure. The investment will have a 8-year economic life and will be depreciated straight-line to a salvage value of zero. After 5 years, the equipment can be sold for $400,000.

Since the trial is part of the health care reform agenda aimed at reducing overall health care costs, CDS can immediately claim a tax credit of $50,000 if it undertakes the trial.

The in-store clinic's revenues are $450,000 per year (starting in year 1) and its operating cash costs (staff salaries, medical supplies, etc.) are expected to be $250,000 per year.

The in-store clinic will require a level of Net Working Capital equal to 10% of the revenues in the following year. The working capital needs to built up immediately.

The consultant's fee equals $25,000 and has not yet been paid

The consultant has estimated that the relevant discount rate for an investment of this type equals 15%. The marginal corporate tax rate for CDS is 40%. Furthermore, you can assume that all cash flows will be realized at the end of each year. With this information please answer the following two questions.

(i)Should CDS undertake the trial and establish the in-store clinic? Motivate your approach and show all your calculations.

(ii)* Now suppose that the consultant determined that if CDS does not establish the in-store clinic, the firm would lose $1,000,000 in pharmacy sales in each year of the trial if a competitor decides to open a clinic. If we assume that the probability of competitive entry equals 50%, the pharmacy's operating profit (EBIT) margin equals 20% of pharmacy sales and the immediate investment in working capital needed to support pharmacy sales equals 30% of the sales in the following year, how does would this information affect the value of the trial clinic to CDS and the firm's decision to invest? Clearly describe your approach and show all your calculations.

2) In-Charge is a publicly listed firm that provides technology allowing customers to monitor their credit and debit card use, set spending limits and activate and de-activate cards through apps on mobile devices. The company recently struck deals with key payment processing companies to adopt this technology in order to prevent fraud. In-Charge is entering a fast growth phase, which is expected to last for 5 years. The following table contains reported income statement information for the recent year 2018 (all numbers are in $1,000s):

Year2018

Revenues4,500

Operating Costs (incl. Depreciation.)2,250

EBIT2,250

Interest expense2,025

EBT225

Taxes90

Net Income135

Detailed projections (in $1,000s) for the years 2019-2023 are given below:

Expected growth in revenues is 100% per year.

Operating profit (EBIT) equals 50% of revenues in each of the years 2019-2023.

The increase in net working capital equals 25% of revenues in each of the years 2019-2023.

Gross investments in fixed assets equal $1,200 in each of the years 2019-2023.

The amount of depreciation is equal to $700 in each of the years 2019-2023.

In-Charge currently has 2 million shares outstanding and has a debt ratio (D/V) of 50% in market value terms. The firm has a BBB bond rating and its equity beta equals 1.90. The interest rate on T-bonds equals 2.5%, the expected yield on BBB-rated bonds is 4% and the market risk premium is 5%. Finally, you can assume that all cash flows will be realized at the end of the year and that the firm is subject to a 40% marginal corporate tax rate. With this information answer the following four questions.

(i)Determine the relevant Free Cash Flows for a valuation of the firm for the years 2019-2023 (in

$1,000s). Show your calculations.

(ii)Calculate the weighted average cost of capital for In-Charge. Show all your calculations.

(iii)Determine In-Charge's business risk (or asset beta). Show all your calculations.

(iv)Now suppose that In-Charge wants to immediately change its leverage to 25% with a corresponding cost of debt of 3%. If we assume that In-Charge maintains a constant growth rate of 2% after 2023, what is In-Charge's share price?