Can someone please answer problems 7 and 8? Thanks! Year MV (S) AOC (S) 20,000 1
ID: 2806325 • Letter: C
Question
Can someone please answer problems 7 and 8? Thanks!
Year MV (S) AOC (S) 20,000 14,000 10,000 5,000 -7,000 9,000 -14,000 -19,000 2 4 Should the car be replaced now? If not now, when? Problem 7 (15 points) (FHA financing) It's 08/4/2012. Fly High Airlines (FHA, Lebanon's first private airline) has just opened for business, and is considering buying a used Boeing 747 for $4.6 million. Financing for the plane will be provided as follows: ( million from the owner's savings account paying a 3% interest rate, (ii) $1.6 million from issuing common stock with an estimated beta of 1.5, in the Lebanese market where the market portfolio pays 10% return and the risk-free rate of 3.5% (iii) $1 $1 million from, issuing an 8% dividend preferred stock, and (iv) $1 million bank loan payable in one installment after 5 years at 7% interest. FHA's tax rate is 30% and the loan interest is exempt from tax. Estimate FHA's cost of capital. What MARR should FHA use? Problem 8 (15 points) (Uncertain MARR) A company is considering an investment that requires an The investment will be terminated at the end of the fifth year with no additional cash flows. The company is not sure what MARR to use for this investment. It estimates that the MARR will be 10% (per year) if the economy is up the next 5 years(with probability 30%) 12% if the economy stays the same (with probability 30%)and 15% if the economy is down (with probability 40%). (a) What is the expected value of the company's MARR? (b) Should the company engage in this investment? Bonus (3 points) (a) Who sings for Rita? (b) Give the date of a Thursday, after June 15, when class was not held (b) What's the name of the mom in the Simpsons family?Explanation / Answer
Calculation of cost of capital:
Cost of equity (Ke) Using CAPM method = Rf + B(Rm-Rf)
=3.5% + 1.5(10%-3.5%)
= 3.5% +9.75% = 13.25%
Cost of debt after tax = (kd) = 7% (1-0.3) = 4.9%
cost of preference = (Kp) = 8%
The owner is investing 1 milllion from his savings account that implies it is also equity (ke) = 13.25%
total investment required is 4.6 million.out of which 2.6 million will be financed through equity ,1 million through preference stock and 1 million through debt.
Cost of capital = 2.6/4.6*13.25% +1/4.6*4.9% +1/4.6*8%
=7.49 + 1.07 + 1.74 = 10.3%
The return on 4.6 million @ 10.3% = 473800
Add:opportunity cost @ 3% on $ 1 million = 30000
Total required return on 4.6 million = 503800
The MARR = (503800/4600000)*100 = 10.9521%
8)The expected value of MARR = 10%*0.3 +12%*0.3 +15%*0.4 =3% + 3.6% + 6% = 12.6%
Calculation of NPV
Initial investment = $200,000 ;Npv = 195350.8 - 200000 = -4649.2 dolllars
The company should not engage in this project as it has negative NPV
Year Cash flow PVF @ 12.6% Disccf 1 55000 0.888099467 48845.47 2 55000 0.788720664 43379.64 3 55000 0.700462401 38525.43 4 55000 0.622080285 34214.42 5 55000 0.55246917 30385.8 Total 195350.8