Exercice 16

Pigeon Express currently plows back 40 percent of its earnings and earns a return of 20% on this inv
dividendsamount 4 euros then share price is 100 Euros.
a. Assuming that Pigeon can continue to plow back this proportion of earnings and earn a 20% return
dividends grow? What is the expected return on Pigeon sock?
b. Suppose that management suddenly announces that future investment opportunities have dried u
the stock price change?
Question 1
Plowback
r
div
ROE

40%
20%
4%
20%

g=plowback*ROE
g=
8%
r=div yield + g
r=
12%
Return does not change
Question 2
Before :
Price=
100
After
If no plowback :
Div before = 4 for 60% of the earnings
Now div= 6.66667
Price=
55.56

return of 20% on this investment. The dividend yield on the stock is 4% so assume

gs and earn a 20% return on the investment, how rapidly will earnings and

pportunities have dried up. Now Pigeon intends to pay out all its earnings. How will

95.54818
Exercice 18
a. If the opportunity cost of capital is 10 percent, which projects have a positive NPV?
b. Calculate the payback period for each project.
c. Which project(s) would a firm using the payback rule accept if the cut-off period is three years?
Project
A
B
C

C0
-1000
-2,000
-3,000

C1
1,000
1,000
1,000

C2

C3

C4

C5

0
1,000
1,000

0
4,000
0

0
1,000
1,000

0
1,000
1,000

Exercice 19

The opportunity cost of capital is 9 percent. Mr Clops is tempted to take B, which has the higher IRR.
a. Explain to Mr. Clops why this is not the correct procedure.
b. Show him to adapt the IRR rule to choose the best project.
c. Show him that this project also has the higher NPV.
Project
A
B

C0
-400
-200

C1
250
140

C2
300
179

IRR (%)
23
36

9%
81.86
79.10

Exercice 20
Borghia Pharmaceuticals has $1 million allocated for capital expenditures. Which of the following pro
company accept to stay within the $1 million budget? How much does the budget limit cost the com
its market value? The opportunity cost of capital for each project is 11 percent.
Project
1
2
3
4
5
6
7

Investment NPV ($ 000)

($ 000)
300
200
250
100
100
350
400

66
-4
43
17
4
63
48

IRR (%)

11

17.2
10.7
16.6
12.1
11.8
18
13.5

ok
no
ok
ok
ok
ok
ok

PI
0.22
-0.02
0.172
0.17
0.04
0.18
0.12

1000
189

e NPV?

riod is three years?

10% Payback
-91 1y
4,045 2y
39 4y

best

ich has the higher IRR.

ch of the following projects should the

dget limit cost the company in terms of
.

YEAR
Net income
Depreciation
Cash Earnings

-2663
1583
-1080

1537
1583
3120

6595
1583
8178

10731
1583
12314

Change inventory
Change accounts receivable
Change accounts payable
Change in other creditors
Change working capital
CF from operations

-550

-739

-1972

-1629

-550
-1630

-739
2381

-1972
6206

-1629
10685

Net CF from operations

-1630

2381

6206

10685

investments intangibles
investments tangibles
investments property/equipment
investments financial assets
Net CF from investing activities

Dividends
Repurchase of own shares
New issue
Change in loan
CF from financing
CF of the year

0
-1630

0
2381

0
6206

0
10685

Opening Cash Flow

Closing Cash Flow
-1630
-12600.00 -1358.33

2381
1653.47

6206
3591.44

10685
5152.87

-13500
20000

7246
1583
8829

2946
1583
4529

942

1307

1581

2002

1307
10136

1581
6110

2002
2944

10136

6110

2944

0
10136

0
6110

0
2944

10136
4073.43

6110
2046.23

2944
821.62

942

3380.72

Exercice 24

United Pigpen is considering a proposal to manufacture high-protein hog feed. The project would ma
The next years rental charge on the warehouse is $100,000 and thereafter the rent is expected to g
In addition to using the warehouse, the proposal envisages an investment in plant and equipment of
However Pipgen expects to terminate the project at the end of eight years and expects to resell the
Finally the project requires an initial investment in working capital of $350,000. Thereafter, working
sales are forecast to grow by 5% a year, slightly faster than the inflation rate.
Manufacturing costs are expected to be 90% of sales, and profits are subject to tax at 35 percent. Th

Income Statement
0

Sales
COGS
Rent

Working capital
Change in WC
Cash Flow Statement
Net profit
Deprec
Var WC
CF Activities
CAPEX
Disposal of asset
FCF
PV
NPV total

4.410
3.969
0.104
0.337
0.12
0.217
0.076
0.141

4.631
4.167
0.108
0.355
0.12
0.235
0.082
0.153

4.862
4.376
0.112
0.374
0.12
0.254
0.089
0.165

1.2

-0.12
0.12
1.08

-0.12
0.24
0.96

-0.12
0.36
0.84

-0.12
0.48
0.72

0.35
0.35

0.420
0.070

0.441
0.021

0.463
0.022

0.486
0.023

0.130
0.12
-0.070
0.18

0.141
0.12
-0.021
0.240

0.153
0.12
-0.022
0.251

0.165
0.12
-0.023
0.262

-1.550

0.180

0.240

0.251

0.262

-1550000
85795.62

160714.3

191366.4

178392.4

166355.1

EBITDA
Depreciation
EBT
Tax
Net profit

Invest
Acc depreciation
Book value

4.2
3.78
0.1
0.32
0.12
0.200
0.070
0.130

1.2

-0.350
-0.35
-1.2

. The project would make use of an existing warehouse, which is currently rented out to a neighbouring firm.
he rent is expected to grow in line with inflation at 4% a year.
plant and equipment of $1.2 million. This could be depreciated for tax purposes straight-line over the next 10 y
d expects to resell the plant and equipment in year 8 for 400,000.
0. Thereafter, working capital is forecasted to be 10% of sales in each of years 1 through 7. Year 1 sales of hog

to tax at 35 percent. The cost of capital is 12 percent. What is the NPV of Pipgens project.

5.105
4.595
0.117
0.394
0.12
0.274
0.096
0.178

5.360
4.824
0.122
0.414
0.12
0.294
0.103
0.191

5.628
5.066
0.127
0.436
0.12
0.316
0.111
0.206

-0.12
0.6
0.6

-0.12
0.72
0.48

-0.12
0.84
0.36

0.511
0.024

0.536
0.026

0.563
0.027

-0.563

0.178
0.12
-0.024
0.273

0.191
0.12
-0.026
0.286

0.206
0.12
-0.027
0.299

0.221
0.12
0.563
0.903
0.344 0,056 is the tax you pay
1.247

0.273

0.286

0.299

155181.2

144803.7

135161.2

5.910
5.319
0.132
0.459
0.12
0.339
0.119
0.221

-0.12
0.96
0.24
We expect 0,4 (salvage value)
So a capital gain of 0,16
on which 35% of tax

503821.3

i=

12.0%

ut to a neighbouring firm.

aight-line over the next 10 years.

rough 7. Year 1 sales of hog feed are expected to be $4.2 million, and thereafter

project.

tax you pay

Exercice 25
Year
Inflation Return
Tbill return Real returnRisk
1999
2.7
23.6
4.7
20.4%
2000
3.4
-10.9
5.9
-13.8%
2001
1.6
-11
3.8
-12.4%
2002
2.4
-20.9
1.7
-22.8%
2003
1.9
31.6
1
29.1%
0.1%

premium
18.9
78.73
-16.8
50.31
-14.8
38.42
-22.6
93.83
30.6
198.95
-0.94
460.24
23.99
21.45
(population)

Exercice 28
Stdev i
Stdev j
Xi
Xj

10% Cor 1
20% Cor 2
0.6 Cor 3
0.4

Var1
Stdev1

0.0196
14%

Var 2
Stdev 2

0.0148
12.2%

Var 3
Stdev 3

0.01
10%

Exercic 29
Stdev
Cor
n
stdev
34.0%
32.0%
30.0%
28.0%
26.0%
24.0%
22.0%
20.0%

0.4
0.3
2
32.2%

3
29.2%

1
0.5
0

4
27.6%

5
26.5%

6
25.8%

7
25.3%

26.0%
24.0%
22.0%
20.0%
1

Correlation = 0
n

2
28.3%

3
23.1%

4
20.0%

5
17.9%

6
16.3%

10

11

12

13

7
15.1%

30.0%
25.0%
20.0%
15.0%
10.0%
5.0%
0.0%
1

10

11

12

13

14

98.41
62.88
48.02
117.29
248.69
575.30
23.99
(sample)

8
24.9%

9
24.6%

10
24.3%

11
24.1%

12
23.9%

13
23.8%

14
23.7%

15
23.6%

10

11

12

13

8
14.1%

10

11

12

14

9
13.3%

13

14

15

16

10
12.6%

15

16

17

18

11
12.1%

17

19

12
11.5%

18

19

13
11.1%

14
10.7%

15
10.3%

16
23.5%

17
23.4%

18
23.3%

19
23.2%

20
23.2%

30
22.7%

60
22.3%

16
10.0%

17
9.7%

18
9.4%

19
9.2%

20
8.9%

30
7.3%

60
5.2%