Republic of the Philippines

CAMARINES SUR POLYTECHNIC COLLEGES

Nabua, Camarines Sur
COLLEGE OF ENGINEERING

NAME: LARGO, JORDAN ALEX E. COURSE/YEAR: BSME – 4C

DATE DUE: DECEMBER 03, 2021 DATE SUBMITTED: DECEMBER 03, 2021

TOPIC 6: Managing the Finance Function

DIMENSION RATING TOTAL

Content 5 4 3 2 1
Quality 5 4 3 2 1
Format 5 4 3 2 1
Sequencing 5 4 3 2 1
Examples 5 4 3 2 1
Timeliness 5 4 3 2 1

I- PROBLEM
XYZ Company is financed by debt (50%), preferred stocks (20%), and common equity (30%). Its
common stock price is $43 per share. It pays a dividend of $3.00 and has a growth rate of −2%. Its
annual preferred stock dividend is $82 per $1000 share with a flotation cost of 7.5% per share. The
interest for long-term debt is 11%. Its corporate tax rate is 30%. What is the company’s weighted
average cost of capital (WACC)?

ANSWER:
The company’s weighted average cost of capital (WACC) can be derived from the equations below,

(Chang, 2016)

where:
D = debt (long-term loans, corporate bonds, etc.) (dollars)
E = equity (stocks) (dollars)
t = corporate tax rate (percent)
V = E + D (dollars)
Ke = cost of equity capital (e.g., 0.15–0.18)
Kd = cost of debt capital (e.g., 0.08 = yield to maturity [YTM] rate for bonds, plus cost associated
with lost growth opportunity)

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 Republic of the Philippines
CAMARINES SUR POLYTECHNIC COLLEGES
Nabua, Camarines Sur
COLLEGE OF ENGINEERING

And also by,

∗ ∗ ! " ∗
# $ (Seth, 2019)

where:
%&'() '*+ ,-.' -& /(0' 12'()(.' )*'( ∗ 1 4*+ )*'(
%&'() '*+ ,-.' -& /(0' 11% ∗ 1 30%
%&'() '*+ ,-.' -& /(0' 7.70%

:-.' -& (;<='> ?=@=/(2/⁄A)=,( C)-D'ℎ )*'(

:-.' -& (;<='> $3⁄$43 2%
:-.' -& (;<='> 4.9767%

:-.' -& K)(&())(/ .'-,L ?=@=/(2/⁄ A)=,( ∗ 1 MN-'*'=-2 ,-.'

:-.' -& K)(&())(/ .'-,L $82 / ($1000*(1-7.5%))
:-.' -& K)(&())(/ .'-,L 8.8649%

Therefore, by substituting the given values to the formula we can get the value of WACC.

P%:: P(=Qℎ' ∗ %&'() '*+ ,-.' -& /(0' P(=Qℎ' ∗ :-.' -& (;<='>
P(=Qℎ' ∗ :-.' -& K)(&())(/ .'-,L
P%:: 50% ∗ 7.70% 30% ∗ 4.9767% 20% ∗ 8.8649%
P%:: 3.850% 1.4930% 1.7730%
P%:: 7.116%
S. T% U V

II- PROBLEM
The company is considering the introduction of a new product that is expected to reach sales of
$10 million in its first full year and $13 million of sales in the second and third years. Thereafter,
annual sales are expected to decline to two-thirds of peak annual sales in the fourth year and one-
third of peak sales in the fifth year. No more sales are expected after the fifth year. The CGS is
about 60% of the sales revenues in each year. The GS&A expenses are about 23.5% of the sales
revenue. Tax on profits is to be paid at a 40% rate. A capital investment of $0.5 million is needed
to acquire production equipment. No salvage value is expected at the end of its five-year useful life.
This investment is to be fully depreciated on a straight-line basis over five years. In addition, working
capital is needed to support the expected sales in an amount equal to 27% of the sales revenue.
This working capital investment must be made at the beginning of each year to build up the needed
inventory and implement the planned sales program. Furthermore, during the first year of sales
activity, a one-time product introductory expense of $200,000 is incurred. Approximately $1.0 million
has already been spent promoting and test marketing the new product.

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 Republic of the Philippines
CAMARINES SUR POLYTECHNIC COLLEGES
Nabua, Camarines Sur
COLLEGE OF ENGINEERING

a. Formulate a multiyear income statement to estimate the cash flows throughout its five-year
life cycle.
b. Assuming a 20% discount rate, what is the new product’s NPV?
c. Should the company introduce the new product?

ANSWER:
1. Multiyear income statement. (Chang, 2016)

Initial Investment
Production equipment 500,000
Promoting and test marketing 1,000,000
Introductory expense 200,000
Total 1,700,000
Table 1

Depreciation
Cost of equipment 500,000
Useful life 5 years
Hence depreciation% (100/5 yrs) 20%
Depreciation amount per year 100,000
Table 2

Income Statement
Particulars Year 1 Year 2 Year 3 Year 4 Year 1
Sales 10,000,000 13,000,000 13,000,000 8,666,667 4,333,333
Expenses
CGS (60% of sales) 6,000,000 7,800,000 7,800,000 5,200,00 2,600,000
SG%A Expenses (23.5% of sales) 2,350,000 3,055,000 3,055,000 2,036,667 1,018,333
Depreciation 100,000 100,000 100,000 100,000 100,000
Working capital (27% of sales) 2,700,000 3,510,000 3,510,000 2,340,000 1,170,000

Cash flow (Sales-Expenses) -1,150,000 -1,465,000 -1,465,000 4,190,000 -555,000

Table 3

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 Republic of the Philippines
CAMARINES SUR POLYTECHNIC COLLEGES
Nabua, Camarines Sur
COLLEGE OF ENGINEERING

2. New product’s NPV. (Chang, 2016)

WAX A)(.(2' @*N<( -& ,*.ℎ =2&N-D A)(.(2' @*N<( -& ,*.ℎ -<'&N-D.

As the cash inflows are negative hence the NPV will also be negative.
1,150,000 1,465,000] 1,465,000_ 1,010,000` 555,000 a
WAX Y [ \ ^ \ ^ \ ^ \ ^
1 20% 1 20% 1 20% 1 20% 1 20%
1,700,000
bc d, Tee, f e (Answer)

3. Company should not introduce the new product as the NPV of this project is negative.

III- PROBLEM
Define the EVA of XYZ Company, whose income statement and balance sheet are shown in Tables
4.1 and 4.2. Assume that the WACC is 12.35% for both years.

Table 4.1

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 Republic of the Philippines
CAMARINES SUR POLYTECHNIC COLLEGES
Nabua, Camarines Sur
COLLEGE OF ENGINEERING

Table 4.2

ANSWER:
EVA for 2012 (Chang, 2016)
WgA%4 12@(.'(/ ,*K='*N ∗ P%::
hi14 1 ' '-'*N *..('. ,<))(2' N=*0=N='=(. ∗ P%::
34,000 434,000 73,000 ∗ 12.35%
j, dke. dj U V

EVA for 2013 (Chang, 2016)

WgA%4 12@(.'(/ ,*K='*N ∗ P%::
hi14 1 ' '-'*N *..('. ,<))(2' N=*0=N='=(. ∗ P%::
10,000
23,500 l1 m 461,500 54,500 ∗ 12.35%
20,500
fT, ej . jk U V
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 Republic of the Philippines
CAMARINES SUR POLYTECHNIC COLLEGES
Nabua, Camarines Sur
COLLEGE OF ENGINEERING

IV- CASE APPLICATION

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 Republic of the Philippines
CAMARINES SUR POLYTECHNIC COLLEGES
Nabua, Camarines Sur
COLLEGE OF ENGINEERING

ANSWER:
1. My initial reaction was shock, disgust, and just general disbelief while reading the story. I was
appalled by the initial response of the company. To me, it says they have no respect for the
employees nor did they care about their well-being. I find it absurd and it actually makes me
angry. Internal conditions point to a poor work environment causing unnecessary and excessive
stress on the employees. Externally, the article mentioned France has a higher suicide rate than
other Western countries, which may make the residents more likely to commit suicide but not a
key contributor.

2. France Telecom was applying pressure after pressure to employees and expecting them to
withstand it. Things like involuntary transfers sound just awful and I can’t imagine the stress an
unexpected and unwanted transfer could have on not only your work life but your personal life
as well. Managers should have an idea of where their employees are at both at work and in
personal life. They don’t need to know the details but they should have a pulse on the overall
well-being of their teams. If someone is in distress some signs could be missing work, changes in
personality, or a change in quality of work.

3. Managers will have to make decisions that are for the best of company. However no matter what
the decision is, managers should always consider their employee reactions. Managers may not
be able to alter the decision or stop the change from occurring but they can explain the why to
their teams and help manage the employees experience to the change.

4. The executives are attempting to rebuild the morale by discontinuing harsh business practices,
fostering supportive practices, and allowing employees to work from home. I don’t think it’s
enough. I think more resources should be in place for employees. For employees in need there
should be an employee assistance program available to everyone. Offering a service that can
help employees cope with major life stressors such as moving, divorce, marriage, parenting, etc.
My company has an EAP hotline and I used it once when someone close to me passed away. I
was able to get a few free counseling sessions and tips to help me cope with a big stressor in my
life. These types of programs have a substantial return for the company.

5. Other companies could learn to keep in mind the negative effects of excessive stress. Being
mindful of how the workplace stress and environment has an effect on the workers is important.
If conditions are harsh and add additional stress to employees, the outcome of this can be awful.

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 Republic of the Philippines
CAMARINES SUR POLYTECHNIC COLLEGES
Nabua, Camarines Sur
COLLEGE OF ENGINEERING

REFERENCES:

1. Chang, CM. Engineering Management Meeting the Global Chalenges, Chang, CM. Engineering
Management Meeting the Global Chalenges, 2016
2. Seth, S. (2019). What is the Formula for Weighted Average Cost of Capital (WACC)? [online]
Investopedia. Available at: https://www.investopedia.com/ask/answers/063014/what-
formula-calculating-weighted-average-cost-capital-wacc.asp.

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