Expert answer:Introduction to Capital Budgeting/Investment Valua

Solved by verified expert:ATTACHED ARE MY RESULT FOR THIS ASSIGNMENT AND THE TURNITIN REPORT. I NEED REWORDED SO THAT THE ORIGINALITY IS LESS THAN 10%Respond to the following scenario with your thoughts, ideas, and comments. Be substantive and clear, and use research to reinforce your ideas.Mary Francis has just returned to her office after attending preliminary discussions with investment bankers. Her last meeting regarding the intended capital structure of Apix went well, and she calls you into her office to discuss the next steps.“We will need to determine the required return for our intended project so that we have a decision criteria defined for the project,” she says.“Do you have the information I need to describe capital structure and to calculate the weighted average cost of capital (WACC)?” you ask.“I do,” she smiles. “We can determine the target WACC for Apix Printing Inc., given these assumptions,” she says as she hands you a piece of paper that says the following:
Weights of 40% debt and 60% common equity (no preferred equity)A 35% tax rateCost of debt is 8%Beta of the company is 1.5Risk-free rate is 2%Return on the market is 11%“Great,” you say. “Thanks.”“Be sure to indicate how these costs of capital might be used to determine the feasibility of the capital project,” Mary says. “I want your recommendation about which is more appropriate to apply to project evaluation, too. Let me know what you think.”“One more thing,” she says as she stands up to signal the end of the meeting. “You did a good job with the explanations that you provided Luke the other day. Would you have time to define marginal cost of capital for me so I can include it in my discussions with investors? You seem to have a knack for making things accessible to nonfinancial folks.”“No problem,” you say. “I’m glad my explanations are so useful!”For this assignment, complete the following:Describe capital structure.Determine the WACC given the above assumptions.Indicate how these might be useful to determine the feasibility of the capital project.Recommend which is more appropriate to apply to project evaluation.Define marginal cost of capital.
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Running Head: CAPITAL BUDGETING
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Capital Budgeting
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Institution Affiliation
Course
Date
CAPITAL BUDGETING
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Capital Budgeting
Describe capital structure
The capital structure is how a company funds its entire tasks and growth by applying different
sources of finance. It is important in this case to note that the debt takes the form of bond issues
or sometime a long term notes payable (Fabozzi, Peterson, & Peterson, 2003). On the other hand,
equity is established as common stock, preferred stock, or retained earnings. Short-term debt
such as the working capital requirements is sometimes established to be part of the capital
structure. It is important to note that a company’s capital structure can be a mixture of long-term
debt, short-term debt, common equity, and preferred equity (Chandra, 2008). In a case where a
company has a proportion of short- and long term debt, this will only be considered when the
company is analyzing the capital structure. In this company, we should be able to establish that
the capital structure should reflect the company’s debt-to-equity ratio. This shows understanding
into how dangerous a firm is. In most cases, a form that is deeply funded by debt has a more
force on capital structure and hence establishes a greater risk to the shareholders (Hirschey,
2009). However, this risk may be the primary source of the company’s growth.
Determine the WACC given the above assumption
In order to calculate the WACC, we first need to determine the cost of the equity using the
capital asset pricing model:
Re = (Rf) + [B(Rm – Rf)]
In this case;
Re = Cost of equity
Rf = Risk free rate
B = Beta
CAPITAL BUDGETING
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Rm = Return on the market
Once we are able to calculate the Re, then we would be able to calculate the WACC.
Re = (2%) + [1.5(11% – 2%)]
Re = (2.718282) =2100+1.5(11100−2100)
Re = 0.057021
WACC in this case should be;
WACC = [(Weight of equity) * (Cost of equity)] + [(Cost of Debt) * (Weight of Debt) * (1- tax
rate)]
WACC = [(40%)* (60%)] + [(8%) * (40%) * (1 – 35%)]
WACC = (2.718282) =40100(60100) + (8100(40100)) (1−35100)
WACC = 0.095943
It is important to note that WACC is computed by considering the relative weight of every factor
of the firm’s capital structure. In this case, the computation is required to apply the market values
of the factors, other than the company’s book values, which in this case may be critically
different (Chandra, 2008).
Indicate how these might be useful to determine the feasibility of the capital project
In order for the company to control the feasibility of the capital project, it is believed that the
extent of a source of funding is basically its market value and it will be divided by the sum of the
values of all the components (Hirschey, 2009). The easiest factor to compute is the market value
of the equity of a publicly traded firm, because this is basically the cost per share multiplied by
the number of the outstanding shares. Similarly, the market value of the favored shares is
established to be easy to control and is computed by multiplying the cost per share by the
CAPITAL BUDGETING
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number of the outstanding shares. This brings us to the feasibility of the project. Feasibility is
important because it helps the company’s managers to be able to determine how they will be able
to successfully complete a project, keeping in mind that there are features that affect the project
such as economic, technological, legal, and planning factors. The superiors of the company will
use the feasibility to decide on the potential positive and negative results of a project prior to
investing a substantial amount of time and cash into it (Fabozzi, Peterson, & Peterson, 2003).
Recommend which is more appropriate to apply to project evaluation
The first way the company can be able to evaluate the project should be through evaluating the
satisfaction of the stakeholders and customers. This means that the company needs to measure
the stakeholder and customer satisfaction. This will help the company to determine the areas
where the company needs to make changes to fit the company’s long term goals. In addition to
this, another recommendation is to be able to determine if the project was able to meet the
required objectives (Hirschey, 2009). This should be determining by interviewing the parties if
the project was able to meet their needs. Determining the outcome of the project is an effect way
in which the company can be able to evaluate the success of the project.
Define marginal cost of capital
Marginal cost of capital is the fee of the final dollar of the investment contributed by a company,
specifically the budget of another unit of investment contributed. It is significant to note that as
more investment is contributed, the marginal cost of investment increases. This means that the
marginal cost of capital is a graph that relates to the company’s weighted average cost of each
unit of capital to the total amount of the new capital raised (Chandra, 2008).
References
CAPITAL BUDGETING
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Chandra, P. (2008). Financial management: Theory and practice. New Delhi: Tata McGraw-Hill
Pub.
Hirschey, M. (2009). Fundamentals of managerial economics. Mason, OH: SouthWestern/Cengage Learning.
Fabozzi, F. J., Peterson, P. P., & Peterson, P. P. (2003). Financial management and analysis.
Hoboken: Wiley.
IP3
by Edmond Saneaka
Submission date: 25-Oct-2017 09:58PM (UT C-0500)
Submission ID: 869082916
File name: FINC 615 IP3 2.docx (22.83K)
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