COMPULSORY CASE STUDY

As the Financial Manager of Lily Ltd, you are evaluating the investment opportunities for the business. The company has the following information,

Capital Structure:

The company is funded for each source of capital and relevant specific cost of capital are as follows:

Type of Financing	Market Value	Specific cost
Debt (Long Term)	$1,400,000	5.3%
Ordinary Share Capital	$1,000,000	12.0
Preference Share Capital	$1,350,000	15.0

Note the company tax rate is 30%

Proposed Bond issue and valuation

The planned expansion into new markets in the next financial year, would require considerable cash, in this regard the company is planning to issue 10-year bonds with a face value of $1000 and coupon rate of 6%. The going market rate for such bonds are 7.125%. Assume that coupon payments will be annual and the company needs to raise $700,000.

Proposed Capital Investment Project

The proposed planned expansion into new markets would require manufacturing plants being set up in various states, in this regard the production team are attempting to select the better of two mutually exclusive projects. The initial investment and after-tax cash inflows associated with these projects are shown in the following table:

Cash flows	Project X	Project Y
Initial investment (CF 0)	$120,000	$200,000
Cash inflows (CFt), t1 to 5	$40,000	$ 60,000

You are required to:

A)Calculate the companys Weighted Average Cost of Capital (WACC) and explain how the firm can use this cost in the investment decision-making process. (15 Marks)

B)Calculate the price and number of bonds to be issued. (15 marks)

C)

Calculate the following for the capital investment projects X & Y( total 15 marks):

1)Calculate the payback period for each project. (5 marks)

2)Calculate the net present value (NPV) of each project. (5 marks)

3) Assuming the Internal rate of return (IRR) for Project X is 19.86% and Project Y is 17.34%, summarize the preferences dictated by each measure, and indicate which project you would recommend and provide reasons for your answer. (5 marks)