Question 3:

Deira plc has some surplus funds that it wishes to invest in bonds. The company requires a return of 16% on bonds, and the finance director has asked you to analyse whether it should invest in either of the following bonds that are available:

Company A: Expected profit 13% bonds, redeemable at par at the end of two more years, with a current market value of KD 90 per KD 100 bond

Company B: Expected profit 9% bonds, redeemable at KD 110 at the end of two more years, with a current market value of KD 90 per KD 100 bond

a. Calculate the expected value (price) of the two bonds and evaluate if either offer an appropriate return for Deira Plc.

b. Critically evaluate what would be the impact on the price of bonds if Deira Plc reduces their required return.

c. Critically evaluate and discuss the factors that should be considered by the directors of a company when choosing whether to use debt or equity finance for a new project.

d. Recently one director has attended a finance conference, on their return the director has decided the company should fund all projects with internal sources of financing as they are essentially free. Critically discuss if you agree with this statement.