Q1. Veritas Corporation has a gross investment in existing projects of $6,000,00

Question

Q1.

Veritas Corporation has a gross investment in existing projects of $6,000,000. These projects generated gross cash flow of $1,100,000 and have an expected life of 8 years. The salvage value of these projects is estimated to be $900,000. The firm's cost of capital of 10%. Using the simplified approach, what is the CFROI for these projects?

Select one:

A. 5.63%

B. 7.73%

C. 10.90%

D. 12.94%

E. 14.37%

Q2.

Atlantic Cruise Lines had a current year operating income (EBIT) of $100 million. The firm plans to retain $25 million for additional capital investments, but does not expect any change in its net working capital. Atlantic expects its operating income to grow 4% in perpetuity and to maintain its existing reinvestment rate. The firm has a capital structure of 60% equity and 40% debt, a cost of equity of 12%, and a pre-tax cost of debt of 8%. Atlantic is in the 40% tax bracket. What is the value of the firm?

Select one:

A. $432.44 million

B. $567.89 million

C. $710.94 million

D. $863.29 million

E. None of the above

Explanation / Answer

1)

Economic depression = Annuity of 5100000 (6000000 - 900000)

= 5100000 * 10% / ((1+10%)8 - 1)

= 445964.49

CFROI = (Gross CF - Economic depression ) / (Gross Investment)

= (1100000 - 445964.49) / 6000000

= 10.90% (Option C)

2)

WACC = 60%*12% + 40%*8%*(1-40%) = 9.12%

Dividend = (1-40%)*100 - 25 = 35 milllion

Firm value = 35*(1+4%) / (9.12% - 4%) = 710.9375 (Option C)

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