a. The broker offers to sell you some shares of ABC & Co. common stock that paid annual dividend of $2.00 yesterday. ABC's dividend is expected to grow at 5% per year for the next 3 years. If you buy the stock, you plan to hold it for 3 years and then sell it. The appropriate discount rate is 12%.

From the perspective of either an investor and firm, which of the financing ways is preferable? Debt or equity? Please justify your choice with relevant reasons

b. Please critically comment on the following sentence (for this one words around 450 will be okay): "Weighted Average Cost of Capital (WACC) is too complicated and not useful for financial management as we should only calculate the cost of borrowing/debt since we do not have to pay our shareholders any dividends if we choose to." [10 marks]

c. According to a Chief Financial Officer of a listed company, she thinks that financial leverage is more effective than operating leverage in the real world as one can use financial derivatives to manage the risk accordingly. Do you agree with her? [15 marks]

d. Pappy's Potato has come up with a new product, the Potato Pet (they are freeze-dried to last longer). Pappy's paid $120,000 for a marketing survey to determine the viability of the product. It is felt that Potato Pet will generate sales of $815,000 per year. The fixed costs associated with this will be $196,000 per year, and variable costs will amount to 20 percent of sales. The equipment necessary for production of the Potato Pet will cost $865,000 and will be depreciated in a straight-line manner for the 4 years of the product life (as with all fads, it is felt the sales will end quickly). This is the only initial cost for the production. Pappy's has a tax rate of 40 percent and a required return of 13 percent. Calculate the payback period, NPV, and IRR. [10 marks]

e. Wells Printing is considering the purchase of a new printing press. The total installed cost of the press is $2.2 million. This outlay would be partially offset by the sale of an existing press. The old press has zero book value, cost $1 million 10 years ago, and can be sold currently for $1.2 million before taxes. As a result of acquisition of the new press, sales in each of the next 5 years are expected to be $1.6 million higher than with the existing press, but product costs (excluding depreciation) will represent 50% of sales. The new press will not affect the firm's net working capital requirements. The new press will be depreciated under MACRS, using a 5-year recovery period. The firm is subject to a 40% tax rate. Wells Printing's cost of capital is 11%. (Note: Assume that the old and the new presses will each have a terminal value of $0 at the end of year 6.) [15 marks]

1. Determine the initial investment required by the new press. [2 marks]
2. Determine the operating cash flows attributable to the new press. (Note: Be sure to consider the depreciation in year 6.) [6 marks]
3. Determine the payback period. [2 marks]
4. Determine the net present value (NPV) and the internal rate of return (IRR) related to the proposed new press. [4 marks]
5. Make a recommendation to accept or reject the new press, and justify your answer. [1 marks]