IN201 Week 4 Class Presentation Questions

1. A company is considering the installation of a new machine at a cost of $60,000 to replace a machine purchased 7 years ago for $100,000. The disposal value of the old machine is $15,000. Both machines will have similar output and will produce work of identical quality. The estimated yearly costs of operating each machine are as follows:

Old Machine($)New Machine($)Wages15,0005,000Supplies, repairs, power5,0003,000Insurance and miscellaneous2,0003,000Total22,00011,000 Both machines have an estimated life of 3 years, at which time both machines will have an estimated disposal value of $5,000. Assume that:

a) The required rate of return is 10% per annum b) The operating costs of the old machine and the new machine are incurred at the end of each year.

Should the company purchase the new machine, or continue to operate the old one? Show your workings.

2. Expected return, risk and diversification The table below gives information on three risky assets: A, B and C

Correlations Asset Expected Returns Standard Deviation of return A B C A 12.5

40 1.00 0.20

0.35

B 16.0

45 0.20 1.00 0.10

C 20.0

60 0.35 0.10 1.00

There is also a risk-free Asset F whose expected return is 9.9%.a) Portfolio 1 consists of 40% Asset A and 60% Asset B. Calculate its expected return and standard deviation b) Portfolio 2 consists of 60% Asset A, 22.5% Asset B and 17.5% Asset C. Calculate its expected return and standard deviation. Compare your answers to (a) and comment

c) Portfolio 3 consists of 4.8% Asset A, 75% Asset B and 20.2% in the risk free asset. Calculate its expected return and standard deviation. Compare your answers to (a) and (b) and comment d) Portfolio 4 is an equally weighted portfolio of the three risky assets A, B and C. Calculate its expected return and standard deviation and comment on these results e) Portfolio 5 is an equally weighted portfolio of all four assets. Calculate its expected return and standard deviation and comment on these results

3. Discuss the relative importance of the following institutions as providers of company finance: a. Stockbrokers b. Investment banks c. Banks d. Finance companies e. Superannuation funds

4. Katz Pty Ltd is a well-established company whose directors have decided to convert to public company status, make a public share issue and list on the stock exchange. The company needs to raise $7,920,000 to expand its operations. Its prospectus forecasts a dividend of 20 cents per share in its first year as a public company and dividends are expected to grow at 6% per annum indefinitely. Shareholders require a return of 14% per annum and the cost of listing amounts to 12% of the gross proceeds from the issue. How many shares must Katz issue? Show your workings and calculations to arrive at your answer.

5. What are the main advantage of raising equity rather than borrowing?

6. Listed public companies have the advantage of greater access to the capital market than private or unlisted companies. However, this advantage comes with a significant cost. What are main cost. Explain

7. MWB Ltd is a profitable company whose ordinary shares are listed on the ASX. The company has paid regular dividends to shareholders and has generally financed its growth by retaining about 50% of its profit. Its current 5-year plan includes investment in fixed assets on a scale that will require the raising of external equity finance during the planning period. The director is considering: a. A rights issue b. A series of share placements c. Establishing a dividend reinvestment plan

Advise the directors on the main factors that they should consider in deciding how to raise equity