Calculate Beta For CGI Glass Lewis Case Ques

Description

Required:

1. Select one proxy company that can be used to determine a possible beta for Aussie

Growers Company. Explain why this is necessary. Justify your choice and briefly describe

its operations.

2. Calculate the beta for the proxy company. Justify your data choices and all your

assumptions.

3. Determine an appropriate beta for Aussie Growers Company if this company has a target

debt-to-equity ratio of 0.5.

4. Using the Capital Asset Pricing Model, calculate the required rate of return on equity ofAussie Growers

Company. Justify your data choices.

5. Determine the company’s weighted average cost of capital given that Aussie Grower

Company operates in an imputation tax system and assuming that the shareholders can

fully utilise the franking credits they receive from any dividends paid out. The current pre

tax cost of debt for the firm is 3% p.a. compounded annually.

6. Present a detailed net cash flow table based on the relevant information for this project.

7. Provide a final recommendation to the Board of Directors as to whether Aussie Growers

Company should invest in this project or not.

• Justifications should be made with reference to appropriate academic literature.

Explanation & Answer length: 7 pages

FINC2011 Corporate Finance I Semester 2, 2020 Firms in the domestic fruit and vegetable processing industry have struggled with increasing external competition over the past five years. Rising import penetration and high operating costs have negatively affected industry performance over this period. Aussie Growers Company is a newly listed agricultural company on the Australian Securities Exchange (ASX). Aussie Growers Company operates a variety of fruit farms throughout Australia and their products are supplied to major supermarkets and food retailers, both domestically and internationally.

Aussie Growers Company is considering using part of the proceeds from its IPO for a project to expand its current product line-up. A detailed financial analysis is required to ascertain if this new project will contribute to the wealth of shareholders. You have been tasked to collect relevant information and to use the finance skills that you have learnt in Corporate Finance I for Aussie Growers Company. Your report will be provided to the Board of Directors who will then formally decide whether to proceed with this investment project or not, based largely on your final recommendation. FINC2011 Corporate Finance I Semester 2, 2020 Aussie Growers Company is considering the introduction of a new range of organic cold-pressed gourmet juices that will be distributed through high-end food retailers such as David Jones’ Food Halls. This would enable the company to use its surplus fruit production that is currently going to waste. They hope to capture new consumers who are concerned with leading a healthy life and who want the convenience of fruit drinks.

The project requires Aussie Growers Company to purchase a new industrial juicing machine and although this represents a large capital expenditure today, the project cannot proceed without it. The machine cost $990,000 plus it would need to be installed into the factory at a further cost of $150,000. Over the last year, Aussie Growers Company has spent $120,000 in research and development relating to juicing machines that extract maximum fruit pulp from whole fruits. The equipment is very large and would require that the company expand into the industrial unit next door. The unit was purchased 4 years ago for $350,000 and is currently rented out to Premier Pet Food. Next year’s rent had already been set at $120,000. Given the current rental market in Australia, the annual rent thereafter was anticipated to decrease by 3% p.a. The juice project would require the immediate cancellation of this agreement which Aussie Grower Company is able to do without penalty. The company also needs to borrow $850,000 today to help finance the project, which includes a new advertising campaign. The five-year interest-only loan has a fixed interest rate of 3.2% p.a. for commercial borrowings, which equates to $27,200 each year. The advertising campaign will cost the company $750,000 today and then they will maintain it at 6.5% of their total anticipated revenues for each year of this product in order to penetrate the juice market and then to maintain their market share.

The company’s tax accountant has advised that advertising can be claimed as a tax deduction at the time the expense is incurred. Aussie Growers Company will sell each 1.5 litre juice bottle for $8.99. Each bottle requires approximately two kilos of fresh fruit. The variable costs per bottle are $1.90. The project would require the company to employ an additional five full-time workers at a cost of $50,000 p.a. each in the first year. The company has an enterprise agreement in place with their employees that would result in these wages increasing by 2.5% p.a. for the life of the project. Other annual fixed costs will be $95,000 in the first year but these are predicted to grow by 8% p.a. Aussie Growers Company commissioned Traffic Brand Agency to conduct a marketing study into the number of proposed juice customers and overall size of the fruit juice market. This study cost Aussie Growers Company $350,000 one month ago. The predicted sales units are: 1 2 3 4 5 Sales Units 170,000 200,000 265,000 225,000 180,000 Currently, the product lines of Aussie Growers Company include the sale of freshly prepared and prepackaged fruit salad. It is anticipated that 22% of their juice sales (in units) will come from customers who would have otherwise purchased the fruit salad product for $7 per container.

They anticipate that this rate and price would remain constant for the next five years. FINC2011 Corporate Finance I Semester 2, 2020 The juicing project will require an initial increase in inventories and accounts receivables by $50,000 to get production started. The total investment in net working capital will need to be maintained at 15% of the dollar value of sales for that year. All working capital will be liquidated at the termination of the project after five years as it is replaced by new juicing techniques that dissolve the fruit pulp into edible capsules. The Australian Taxation Office has ruled that the equipment will have an estimated useful life of ten years, over which the installed cost of the machine must be depreciated to zero. The juicing machine is expected to be sold to Juice and Co. for $650,000 at the end of the project’s life. The applicable company tax rate for Aussie Growers Company is 30%. If the Board of Directors approves of the juicing project, they will commit to a special one-off dividend amounting to $750,000 for all shareholders at the end of the project’s life in anticipation of its success. Required: 1. Select one proxy company that can be used to determine a possible beta for Aussie Growers Company. Explain why this is necessary. Justify your choice and briefly describe its operations. 2. Calculate the beta for the proxy company.

Justify your data choices and all your assumptions. 3. Determine an appropriate beta for Aussie Growers Company if this company has a target debt-to-equity ratio of 0.5. 4. Using the Capital Asset Pricing Model, calculate the required rate of return on equity of Aussie Growers Company. Justify your data choices. 5. Determine the company’s weighted average cost of capital given that Aussie Grower Company operates in an imputation tax system and assuming that the shareholders can fully utilise the franking credits they receive from any dividends paid out. The current pretax cost of debt for the firm is 3% p.a. compounded annually. 6. Present a detailed net cash flow table based on the relevant information for this project. 7. Provide a final recommendation to the Board of Directors as to whether Aussie Growers Company should invest in this project or not. • Justifications should be made with reference to appropriate academic literature. FINC2011 Corporate Finance I Semester 2, 2020 Assessment Criteria: 1. Conforming with instructions (e.g. word length, font, other instructions) 2. Presentation, communication & style (written) 3. Clarity of expression (incl. accuracy, spelling, grammar, punctuation) 4. Referencing 5. Use of literature/knowledge of theory 6. Data/information gathering/processing 7. Conclusions 8. Analysis 9. Problem solving 10. Reflection/evaluation Formatting and Presentation:

1. The report should be no more than 8 pages with 1.5 line spacing and size 12 Arial or Calibri Font. It should have normal sized (2.54cm) margins on all sides. Please number the pages of your report. Marks will be reduced by 10% for each page you exceed the page limit. Hence, your mark will be reduced to zero if the report exceeds 18 pages. You will be penalised for inappropriate formatting. 2. Ensure you use proper academic referencing in supporting the ideas and discussion within your report. All reports must include a list of references in academic form using the APA method. The APA referencing style can be found here: https://libguides.library.usyd.edu.au/c.php?g=508212&p=3476096. You will be penalised if you use inappropriate referencing. 3. Pay particular attention to presentation. A component of your mark will be based on presentation. Avoid overdoing formatting and ensure that the report is very clear, logical and professional. Pay attention to grammar. Clear and logical presentation is a major challenge in report preparation. 4. Preparing a concise report poses a major challenge.

Brevity and conciseness are key ingredients of a highly successful report. Every part of the report should somehow add to the end result; otherwise, it is superfluous and distracting. 5. Use headings in the report to separate key ideas. Using paragraphs will also assist with structuring ideas. 6. The report must be submitted as a PDF document. You must submit the report electronically via the Turnitin link on Canvas. Excel spreadsheets must be submitted as a .xlsx workbook. You must submit two files electronically via the link on Canvas. FINC2011 Corporate Finance I Semester 2, 2020 The page limit for the report is 8 pages. What is included in the 8 page limit? • Report body • Tables • Diagrams What is excluded from the 8 page limit? • Title page • Table of contents • Executive summary • Reference list • Appendices (Appendices should be used sparingly and only used to provide information to the reader, where appropriate) Marking Guide: Proxy company selection and justification /2 marks Beta calculation – proxy company /6 marks Beta calculation – Aussie Growers Company /2 marks Required rate of return on equity /3 marks Weighted average cost of capital /3 marks Net cash flow table /15 marks Final recommendation /5 marks Presentation and style of report /4 marks Penalties Inappropriate use of literature Incorrect referencing Failure to comply with formatting requirements Each page over the 8 page limit TOTAL MARKS up to -4 marks up to -4 marks up to -4 marks -4 marks per page /40 marks.

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