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1. Calculate the following using the data from Yahoo Finance (https://au.finance.yahoo.com/) for the company you selected for Question 1 of Assignment 1.

1. Calculate the daily market return over the last five years from the daily prices, calculate the monthly returns from the daily returns, and calculate the yearly returns from the monthly returns.

2. Calculate the total risk (i.e. yearly standard deviation of the daily returns).

3. Calculate the yearly systematic / market risk using the daily returns of the stock and daily return of the market index.

4. Calculate the unsystematic risk / firm specific risk. Suggest whether this company is a good investment. Answer the following questions while making your suggestion.

a) What is the basis for selection of this stock if you suggest this as a good investment? b) Would you invest all your money into this stock? If not, why not? How will you address this concern?

Question 2 Capital Budgeting

Requirements:

1. Compute the initial investment outlay, operating cash flow over the project’s life, and the terminal-year cash flows for ABC’s expansion project.

2. Determine whether the project should be accepted using NPV analysis.

3. Do the sensitivity analysis using different levels of change (e.g. 2%, 5% and 10% increase and decrease) of each of the key inputs (e.g., sales, variable costs and cost of capital)

4. Identify the most sensitive factor

5. Perform the scenario analysis

## Market Return Calculation

The average daily return is 0.13%, monthly return is 4% and the yearly return -1.18437.

The stock is selected for investment after analyzing the return that the stock gives in short, medium and long term. The risk associated with the stock is compared with the return it offers and based on the comparison of the risk and return the shares are selected. In this stock, the risk associated with the stock is low but the return associated with the stock is significantly low in daily and yearly. Therefore based on this evaluation it can be said that investment should not be made in the stock of Australian pharmaceutical industry (Thow et al., 2015).

The investment should be diversified so all the money should not be invested in one stock. In order to reduce the overall risk it is advised that the investor should diversify investment and make a balanced portfolio. This can be done by making investment in different types of instruments that have different level of risk. The risk taking ability of the investor should be assessed so that investment can be made in the appropriate securities (Butlin, 2013).

 Statement showing Initial investment, operating cash flow and terminal year cash flow Particulars Year 0 Year 1 Year 2 Year 3 Year 4 Initial Investment Building AUD   24,000.00 Equipment AUD   16,000.00 Investment in Working Capital AUD   12,000.00 Initial Investment AUD   52,000.00 Revenue Sales AUD  80,000.00 AUD  80,000.00 AUD  80,000.00 AUD  80,000.00 Profit on sale of Equipment AUD       800.00 Total Revenue AUD  80,000.00 AUD  80,000.00 AUD  80,000.00 AUD  80,800.00 Expenses Manufacturing expenses AUD  48,000.00 AUD  48,000.00 AUD  48,000.00 AUD  48,000.00 Fixed overhead AUD  10,000.00 AUD  10,000.00 AUD  10,000.00 AUD  10,000.00 Depreciation AUD    3,800.00 AUD    3,800.00 AUD    3,800.00 AUD    3,800.00 Loss in sale of building AUD    6,600.00 Total Expenses AUD  61,800.00 AUD  61,800.00 AUD  61,800.00 AUD  68,400.00 Profit before tax AUD  18,200.00 AUD  18,200.00 AUD  18,200.00 AUD  12,400.00 Tax @40% AUD    7,280.00 AUD    7,280.00 AUD    7,280.00 AUD    4,960.00 Profit After Tax AUD  10,920.00 AUD  10,920.00 AUD  10,920.00 AUD    7,440.00 Add: Depreciation AUD  14,720.00 AUD  14,720.00 AUD  14,720.00 AUD  11,240.00 Operating cash flow AUD  25,640.00 AUD  25,640.00 AUD  25,640.00 AUD  18,680.00 Realization of assets AUD  19,000.00 Terminal cash flow AUD  37,680.00

Table 1: Cash flow statement

(Source: Created by Author)

The table above shows that the initial investment outlay for the project is AUD52000.00. The table highlight the operating cash flow of each year and the terminal year cash flow.

 Calculation relating building Particulars Amount Building AUD   24,000.00 life 40.00 Depreciation AUD        600.00 Book value AUD   21,600.00 Market value AUD   15,000.00 Profit /(loss) AUD    (6,600.00)

Table 2: Building

(Source: Created by Author)

 Calculation relating Equipment Particulars Amount Building AUD   16,000.00 life 5.00 Depreciation AUD     3,200.00 Book value AUD     3,200.00 Market value AUD     4,000.00 Profit /(loss) AUD        800.00

Table 3: Equipment

(Source: Created by Author)

 Statement showing Net Present Value of the Project Particulars Year 0 Year 1 Year 2 Year 3 Year 4 Cash flow during the year AUD  (52,000.00) AUD  25,640.00 AUD  25,640.00 AUD  25,640.00 AUD  37,680.00 Discounting factor @12% 0.892857143 0.797193878 0.711780248 0.635518078 Discounted Cash flow AUD  (52,000.00) AUD  22,892.86 AUD  20,440.05 AUD  18,250.05 AUD  23,946.32 Net Present value AUD   33,529.27

Table 4: NPV

(Source: Created by Author)

The table above shows the NPV analysis of the project. The NPV of the project is positive hence the project should be accepted.

 Price Sensitivity Analysis AUD  80,000.00 AUD  33,529.27 2% AUD  81,600.00 AUD  34,199.86 5% AUD  84,000.00 AUD  35,205.74 10% AUD  88,000.00 AUD  36,882.20 -2% AUD  78,400.00 AUD  32,858.69 -5% AUD  76,000.00 AUD  31,852.81 -10% AUD  72,000.00 AUD  30,176.35

Table 5: Price Sensitivity Analysis

(Source: Created by Author)

 Variable cost Sensitivity Analysis AUD  48,000.00 AUD  33,529.27 2% AUD  48,960.00 AUD  34,199.86 5% AUD  50,400.00 AUD  35,205.74 10% AUD  52,800.00 AUD  36,882.20 -2% AUD  47,040.00 AUD  32,858.69 -5% AUD  45,600.00 AUD  31,852.81 -10% AUD  43,200.00 AUD  30,176.35

Table 6: Variable cost sensitivity analysis

(Source: Created by Author)

 Discounting factor Sensitivity Analysis 0.12 AUD  33,529.27 2% 0.14 AUD  39,117.49 5% 0.19 AUD  53,088.02 10% 0.29 AUD  81,029.08 -2% 0.27 AUD  75,440.87 -5% 0.22 AUD  61,470.34 -10% 0.12 AUD  33,529.27

Table 7: Discounting factor sensitivity analysis

(Source: created by Author)

The sensitivity analysis studies the uncertainty of output due to variability of the inputs. In the given case, the output is net present value and it is analyzed in terms of different output. The sensitivity analysis helps to identify the most sensitive factor. The analysis shows that the net present value is most sensitive to the cost of capital.

The scenario analysis shows the performance in the best case and the worst-case scenario. In the given case, a scenario analysis conducted by determine the Net present value in the two scenario of the cost of capital. In the best-case scenario, the cost of capital is taken as 10% and it is seen in that case the NPV of the project is \$37498.83. In the worst case scenario the cost of capital is taken as 14% and  the NPV of the project in such case is \$29836.23. The table below shows the scenario analysis:

 Scenario Analysis Year Cash Flow Best case Scenario (10%) Worst case Scenario (14%) Discounting factor Net cash flow Discounting factor Net cash flow 0 AUD     (52,000.00) AUD                        1.00 AUD  (52,000.00) AUD                           1.00 AUD  (52,000.00) 1 AUD       25,640.00 AUD                        0.91 AUD   23,309.09 AUD                           0.88 AUD   22,491.23 2 AUD       25,640.00 AUD                        0.83 AUD   21,190.08 AUD                           0.77 AUD   19,729.15 3 AUD       25,640.00 AUD                        0.75 AUD   19,263.71 AUD                           0.67 AUD   17,306.27 4 AUD       37,680.00 AUD                        0.68 AUD   25,735.95 AUD                           0.59 AUD   22,309.58 Total NPV AUD   37,498.83 AUD   29,836.23

Table 8: Scenario Analysis

(Source: Created by Author)

References

Butlin, N. G. (2013). Investment in Australian economic development, 1861-1900. Cambridge University Press.

Thow, A. M., Snowdon, W., Labonté, R., Gleeson, D., Stuckler, D., Hattersley, L., ... & Friel, S. (2015). Will the next generation of preferential trade and investment agreements undermine prevention of noncommunicable diseases? A prospective policy analysis of the Trans Pacific Partnership Agreement. Health Policy, 119(1), 88-96.

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