FIN3701 Assignment 2 (COMPLETE ANSWERS) Semester 2 2023 (520459) - DUE 15 September 2023.

FIN3701 Assignment 2 (COMPLETE ANSWERS) Semester 2 2023 () - DUE 15 September 2023.Detailed working, solutions, memo, notes & explanations.................. QUESTION 1 [20 marks] MediPharm Ltd has optimal capital structure weights of 40% debt and 60% equity. MediPharm is in the 30% tax bracket and is evaluating four independent investment proposals. PROJECT INITIAL INVESTMENT (R) INTERNAL RATE OF RETURN (IRR) (%) A B C D MediPharm senior financial analyst has gathered the following information: MediPharm can raise R150 000 through the sale of a R1 000 par value, 8% annual coupon rate and a ten-year debenture. The debenture will be issued at 5% discount and R20 flotation cost per debenture. Additional funds will be raised through the bank loan with an after-tax cost of 10%. R375 000 is available through retained earnings. Additional funds will be raised through the issue of new ordinary shares. The company pays a regular dividend of R10, has a growth rate of 3% and nets R87.30 after flotation costs. The flotation costs are calculated at 3% of the par value (R90) of a share. FIN3701/101/2/2023 11 REQUIRED: 1.1 Calculate the WACC associated with each range of financing/break-point. (18 marks) 1.2 In which project do you recommend that the company invest its funds? Give motivation for your choice. (2 marks) QUESTION 2 [18 marks] A totally equity financed company with 10 000 outstanding ordinary shares, each with a book and market value of R35 is in the process of introducing debt into its capital structure. Funds raised through debt will be used to retire some of the shares and the company’s aim is to maintain the same total amount of financing required. The company pays all its earnings as dividends and is subject to 30% tax rate. The expected sales are R530 000, fixed costs are estimated at R251 000 and variable cost are estimated at 30%. The following capital structures are being considered: Capital structure A at 40% debt ratio A loan provided by Standard Bank at 20 % per annum interest rate. Capital structure B at 50% debt ratio A loan provided by Capitec Bank at 18% per annum interest rate. REQUIRED: 2.1 Which capital structure would you advise the company to choose if its objective is to maximise earnings per share (EPS)? (9 marks) 2.2 Calculate the weighted average cost of capital (WACC) for both 40% and 50% debt structures. (4 marks) 2.3 Which capital structure would you advise the company to choose if the aim is to maximise shareholder wealth? (3 marks) 2.4 Calculate the company’s dividend per share (for both 40% and 50% debt structures) if the company has a 45% dividend pay-out ratio. (2 marks) 12 QUESTION 3 [6 marks] Consider the following pre-merger information about a bidding company (All Gold Mining) and a target company (Silver Enterpises) at the end of the year 2020: All Gold Mining had 600 000 ordinary shares outstanding and had earnings of R1 600 000. All Gold Mining’s earnings are expected to grow at an annual rate of 5%. Silver Enterpises had 100 000 ordinary shares outstanding and had earnings of R200 000. Silver Enterpises’ earnings are expected to grow at an annual rate of 10%. REQUIRED: 3.1 Calculate the next 5 years’ () earnings per share (EPS) for All Gold Mining before the merger. (3 marks) 3.2 Calculate the next 5 years’ () earnings per share (EPS) for Silver Enterpises before the merger. (3 marks) QUESTION 4 [6 marks] Nolt Ltd is a growth-oriented company – 75% is owned by its directors and 25% is owned by an outside financier. The company was formed fours year ago by the directors but after two years, the company could not raise further loans and the directors had no further funds to invest. There were, however, a number of profitable investments under consideration for Nolt Ltd. At that time, the financier agreed to invest in the company but indicated that he would not like the debt ratio to exceed 40% because he believed that the company was exposed to a high degree of business risk and should therefore take a conservative financial position. Nolt Ltd’s interest rate on its debt is a constant 10%; its cost of ordinary shares funding from retained earnings is 14%; and its marginal tax rate is 28%. The after-tax profit for the past year amounted to R900 million. The company has the following investment opportunities: Project Cost (Rm) IRR (%) A 180 16 B 420 14 C 240 13 D 210 12 E 270 10 The CFO has determined the WACC of Nolt Ltd’ to be 11.28%. FIN3701/101/2/2023 13 REQUIRED: 4.1 Apply the residual dividend policy and determine the amount (if any) that should be distributed as a dividend.