I need help with a Management question. All explanations and answers will be used to help me learn.

Your probationary period at the Cosmo K Manufacturing Group continues.

For this week’s project, Gerry has asked you to consider two mutually exclusive investments and incorporate risk considerations into the process of evaluation.

The Cosmo K Manufacturing Group is considering the addition of a new smelting machine or a new paving machine. The two investments are mutually exclusive; if one is selected, the other is rejected. The annual cash flows after taxes and the effects of depreciation, which begin one year from project start, and their respective probabilities are given below:

Each project has an expected life of 4 years and will cost $45,000. The riskier project will be evaluated at the company’s WACC plus 3%, and the less risky project will be evaluated at the company’s WACC. Cosmo K has the following capital structure:

This capital structure is current and consistent with the company’s objectives and so will be used to raise any new funds. All new debt will be raised using long-term bonds, with no short-term debt being used for the new project. New bonds will have a coupon rate of 13%. The company’s common stock is currently selling for $65 per share, paid a dividend of $4.25 last year, and has an expected growth rate of 6% indefinitely. There will be no floatation costs on new common stock. Preferred stock can be sold for $90 per share and pays a dividend of $10, with a floatation cost of $2 per share. Currently, the market risk premium is 5% and the risk-free rate is 8%. Cosmo K’s beta coefficient is currently 1.23 and is expected to be consistent for the foreseeable future. The tax rate is expected to be 40% for the next decade.

Tasks:

Answer the following questions:

• What is the component cost of capital for the company? Calculate using the CAPM.
• What is the company’s WACC?
• What are the expected cash flows for the investments?
• What is the standard deviation for each investment?
• What is the coefficient of variation for each investment?
• Given the data above, which investment has the higher risk?
• What is the expected net present value (NPV) for each investment?
• What is the internal rate of return (IRR) of the investments?
• According to the decision rules for the NPV and those for the IRR, is there an acceptable project? Explain your answer.
• Is there a conflict between the two decision methods? If so, what would you use to recommend a project?

The company is considering the addition of a new office machine that will perform many of the tasks now performed manually. For this week’s task, Gerry has given you the responsibility of evaluating the cash flows associated with the new machine. He has requested the report to be delivered within the week.

Evaluation of a New Office Machine

The Cosmo K Manufacturing Group currently has sales of $1,400,000 per year. It is considering the addition of a new office machine, which will not result in any new sales but will save the company $105,500 before taxes per year over its 5-year useful life. The machine will cost $300,000 plus another $12,000 for installation. The new asset will be depreciated using a modified accelerated cost recovery system (MACRS) 5-year class life. It will be sold for $25,000 at the end of 5 years. Additional inventory of $11,000 will be required for parts and maintenance of the new machine. The company evaluates all projects at this risk level using an 11.99% required rate of return. The tax rate is expected to be 35% for the next decade.

Tasks:

Answer the following questions:

• What is the total investment in the new machine at time = 0 (T = 0)?
• What are the net cash flows in each of the 5 years of operation?
• What are the terminal cash flows from the sale of the asset at the end of 5 years?
• What is the NPV of the investment?
• What is the IRR of the investment?
• What is the payback period for the investment?
• What is the profitability index for the investment?
• According to the decision rules for the NPV and those for the IRR, is the project acceptable?
• Is there a conflict between the two decision methods? If so, what would you use to make a recommendation?
• What are the pros and cons of the NPV and the IRR? Explain your answers.

Submission Details:

• Show the data used and the calculations for each question in a Microsoft Excel sheet and the analysis in a Microsoft Word document.
• Name your Microsoft Excel sheet MBA6010_W3_A2_LastName_ FirstName.xls and your Microsoft Word document MBA6010_W3_A2_ LastName_FirstName.doc.
• Submit your assignment to the W3 Assignment 2 Dropbox by Tuesday, July 11, 2017.