Question 3 Consider two projects, A and B, associated with the following expected cash flow sequences Year Project A Project B 0 950 950 1 400 240 2 400 240 3 450 240 4 0 240 5 0 240 6 0 240 You are acting as the Chief Financial Officer of a firm Suppose you face a capital rationing constraint such that you have a limit of 950 currency units in your budget Your firms weighted average cost of capital (WACC) is 8 , and you assume that the cost of capital for each project A and B is also 8 Address the following questions Calculate the Internal Rates of Return of the projects, A and B 20 marks Calculate the Net Present Values and Profitability Indices of the projects, A and B 20 marks Which project would you recommend by way of an investment for your corporation Why 40 marks Is it reasonable to assume that both projects have the same WACC 20 marks Question 4 Do financial derivative instruments have a role to play in corporate finance If so, what is this role 40 marks The put call parity relation can be stated Call PV (Exercise Price) Put Security Price Can we have confidence that this relation is satisfied in any given capital market How might knowledge of such a relation be useful to a Chief Financial Officer 60 marks

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Question 3 Consider two projects, A and B, associated with the following expected cash flow sequences Year Project A Project B 0 -950 -950 1

Question 3

Consider two projects, A and B, associated with the following expected cash flow sequences

Year	Project A	Project B
0	-950	-950
1	400	240
2	400	240
3	450	240
4	0	240
5	0	240
6	0	240

You are acting as the Chief Financial Officer of a firm. Suppose you face a capital rationing constraint such that you have a limit of 950 currency units in your budget. Your firms weighted average cost of capital (WACC) is 8%, and you assume that the cost of capital for each project A and B is also 8%. Address the following questions

Calculate the Internal Rates of Return of the projects, A and B. [20 marks]

Calculate the Net Present Values and Profitability Indices of the projects, A and B. [20 marks]

Which project would you recommend by way of an investment for your corporation? Why? [40 marks]

Is it reasonable to assume that both projects have the same WACC? [20 marks]

Question 4

Do financial derivative instruments have a role to play in corporate finance? If so, what is this role? [40 marks]

The put-call parity relation can be stated:

Call + PV (Exercise Price) = Put + Security Price

Can we have confidence that this relation is satisfied in any given capital market? How might knowledge of such a relation be useful to a Chief Financial Officer? [60 marks]