Question
In: Accounting
1. The current interest rate in the US is 8% per year, while it is 10%...
1. The current interest rate in the US is 8% per year, while it is 10% in the UK. Currently, in the spot market, US $1 can be exchanged for GBP 0.875. Calculate the amount of 120-days forward exchange rate between US $ and GBP? Do you think the GBP exchange rate is classified as a premium or discount?
2. Lanyala Corp is considering two alternatives to find funds: (1) issuing straight bonds, and (2) issuing bonds-with-warrant. Both types of bonds have a maturity of 5 years. Currently the government bond interest rate is 6% and Lanyala Corp wants to provide a premium of 4% above the interest rate on government bonds for straight bonds, and only 1% premium for bonds-with-warrant. Suppose each bond is sold at a face value of $ 100 million, and a corporate tax of 25% is known. Based on the data above, calculate what is the warrant value for the second alternative?
3. Dell Corp. is considering acquiring a startup company Asus Corp. Based on last year's financial statements, Asus Corp reported obtaining a free cash flow (FCF) of $ 400 million, and is expected to experience a constant growth of 5% every year. The acquisition will be funded with 60% equity, and the remainder with debt with a fixed interest of 12% per year. There is a market return of 15%, a government bond interest rate of 6%, and an Asus Corp beta amount of 0.8. Corporate tax is 25%. Calculate what is the fair value of Asus Corp as the target company to be acquired by Dell Corp.
4. A construction company is considering building a machine
worth $ 200 million with an economic age of 4 years with two
funding alternatives: (1) 100% debt with 14% interest annually for
4 years; (2) leasing. The following data are known:
- The economic life of the asset is 4 years, and will be
depreciated using the straight-line depreciation method
- Maintenance costs per year: $ 30 million
- 25% corporate tax
- Annual lease rent of $ 60 million
- Net residual value of $ 25 million
Calculate which alternative is more efficient?
Solutions
Expert Solution
| 1) | ||||||||
| A | Spot rate (GBP/USD) | 0.875 | ||||||
| B | 120 days interest rate in UK | 0.0329 | ||||||
| C | 120 days interest rate in US | 0.0263 | ||||||
| D | Fair forward rate | 0.8806 | ||||||
| [A*(1+B)/(1+C)] | ||||||||
| Conclusion: | ||||||||
| The exchange rate is classified as premium | ||||||||
| 2) | ||||||||
| Information required regarding redemption. | ||||||||
| 3) | ||||||||
| Cost of Debt | 0.09 | |||||||
| [12%*(1-0.25)] | ||||||||
| Cost of equity (adjusted with growth) | 0.08 | |||||||
| [6+(15-6)*0.8] | ||||||||
| WACC | 0.084 | |||||||
| [0.09*0.4+0.08*0.6] | ||||||||
| Fair value of company ($ in millions) | 4761.904762 | |||||||
| 4) | ||||||||
| a) | Evaluation of debt alternative | |||||||
| i) Debt repayment schedule | ||||||||
| Assumption: EMI includes principal with interest component | ||||||||
| Year | Principal at beginning | Interest | Principal repayment | Principal at end | Tax benefit on interest | Net CF | PVF | PVCF |
| 1 | $ 400.00 | $ 56.00 | $ 100.00 | $ 300.00 | $ 14.00 | $ 142.00 | 0.877193 | $ 124.56 |
| 2 | $ 300.00 | $ 42.00 | $ 100.00 | $ 200.00 | $ 10.50 | $ 131.50 | 0.769468 | $ 101.18 |
| 3 | $ 200.00 | $ 28.00 | $ 100.00 | $ 100.00 | $ 7.00 | $ 121.00 | 0.674972 | $ 81.67 |
| 4 | $ 100.00 | $ 14.00 | $ 100.00 | $ - | $ 3.50 | $ 110.50 | 0.59208 | $ 65.42 |
| $ 372.84 | ||||||||
| ii) Analysis | ||||||||
| Debt repayment | $ 372.84 | |||||||
| Less: Residual value of equipment | $ (14.80) | |||||||
| $ 358.04 | ||||||||
| b) | Evaluation of leasing alternative | |||||||
ekkarill92 answered 1 year ago