Classwork & Assignment

Table 1

A

B

$

$

Assets

74,000

140,000

PPE

54,000

110,000

Cash + AR + Inventory

20,000

30,000

Liabilities

48720

87200

Equity

?

?

Research & Development

14,600

27,000

Training Expenses

8900

10200

Sales

85400

87000

Cogs &

Operating expenses

45875

47650

Depreciation

20000

20000

EBIT

19,525

19350

Tax

30%

25%

Net income

12,167

12158

A

B

Cost of equity

9%

8%

Cost of debt

5.5%

4.5%

A =L + E

Assume Liabilities consist of 20% current liabilities and the rest is debt on which the company has to pay interest

The table above shows the financial data of three companies A,B and C. The initial investment was $65000.

Required

1.Carry out a Dupont Analysis to show what has contributed to the ROE of the company [profitability; efficiency; financial leverage] for company B

2.Calculate the WACC of the company B

3.Calculate the EVA of company B

4.Calculate the residual income of company B

S olution for Company A

1DuPont Analysis

(1)(2)

R OE = [Gross profit /Sales] x [Sales/Total assets] x [Total a ssets/Equity]

(3)

1.NI/ sales =Margin = 12167 / 85,400 =0.14

{ Profitability }

2Sales / TA = Turnover = 85,400 /74000 =1.15[Efficiency] 3 . ROI = Margin x Turnover

4. TA - Liabilities = Equity

Equity = 74000-48720 =$25,280 = 25,280

T A / Equity = 74000/25280 = 2.93{Financial Leverage } ROE = 0.14 x 1.15 x 2.93 = 0.47

What contributes the most is the financial leverage.

2.Calculation of WACC

WACC = W_d x r _d (1-T) + W_e x r_e

W_d = D /[D + E] =38976 /64256 =0.61

D = L - CL = 48720- (0.20 x 48720) = 38,976

D + E = 38,976 + 25280 = 64,256

W_e= 1- 0.61 = 0.39

WACC = [0.61 x[0.055 x (1- 0.30)] + ( 0.39x 0.09 )

WACC = 0.023 + 0.035 = 0.058

= 5.8%

3.

C

alculation of EVA

E VA =EBIT [1-T] - [WACC x TCE]

E BIT [1-T] = 19525(1- 0.30) =$13668 WACC = 5.8 %

T CE :

PPE = 54,000

R&D =14,600

E / T=

8 ,900

TCE =

7 7,500

EVA =13668 - [0.058 x 77,500] = $ 9173

5. Residual Income calculation: R I = EBIT - [r_e x operating assets]

r _e rf + risk premium

Cash + AR + INV + PPE = 20,000 +54,000 = $74,000 RI = 19525- [ 74000 x 0.09] =$12,865