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Hi John, thank you for the prompt response. Now I am even more confused :). As per the question does it not state calculate the gain to the shareholders if the project is to be financed (b) 70% from equity and 30% from irredeemable debt?
“The real problem is that the NPV you have got of 22.32 is the gain that will go to the shareholders.”
A company is considering a project that has the following after-tax flows:
0 (100M)
1 – 5 40M p.a.
The ? of the project has been calculated as 1.5.
The market is giving a return of 15% and the risk free rate is 5%.
The rate of corporation tax is 30%
Calculate the gain to shareholders if the project is to be financed:
(a) entirely from equity
(b) 70% from equity and 30% from irredeemable debt
(c) 70% from equity and 30% from debt redeemable in 5 years time.Secondly, “That will mean that the gearing does not end up being 70% equity and 30% debt (that was how the money was raised, but the equity will end up being higher and therefore you would need to rework on the new ratios (then the gain will be different, which would mean reworking again, and so on – you would never be required to do this ? )”
so what you are saying above is that the ratio of debt and equity (gearing) is the debt and equity in the company. This is not necessarily the ratio that this specific project was financed with it is instead gearing is the overall ratio of debt and equity. So to put it more simply when looking at a question because it says the project if financed using 70% from equity and 30% from debt we would perform the calculation your way in the answer. If the question said the company will finance the project using a RATIO of 70% equity and 30% debt then is would be calculated the way I did it?
I think why I am getting so confused is if we look at Chapter 10 example 9, “Xplc is an oil company” the calculation is done my way and to provide a return to the shareholder the next step in example 9 would be to an NPV cal if the cash flows were given.
So I guess what I am asking is in the exam how do I know which calculation route to take. is the clue that in example 2 chapter 12 it does not say using a ratio of 70% and 30%?
Hi John,
I hope you are well.
Chapter 8 example 4.
A company has 8% bond in issue, redeemable in 5 years time at a premium of 10%. The current market value is 98.63.
My question is when calculating IRR why is the coupon of 8 not included in the redemption. Meaning for IRR to be 10% at year five we would have to receive 110 not 118? I feel this should be 118?
Hi John,
I hope you are well.
I have the Texas BA11 Plus calculator and it is very quick and easy to perform alot of the calculation such as cashflows, NPV, IRR, bonds etc on this calculator.
My question is since the paper is so time driven is it that important to manual perform and write out the calculation rather than just do them on the calculator?