**Question 48** IRR, NPV, bond pricing, premium par and discount bonds, market efficiency

The theory of fixed interest bond pricing is an application of the theory of Net Present Value (NPV). Also, a 'fairly priced' asset is not over- or under-priced. Buying or selling a fairly priced asset has an NPV of zero.

Considering this, which of the following statements is **NOT** correct?

A project has an internal rate of return (IRR) which is greater than its required return. Select the most correct statement.

Which of the following investable assets are **NOT** suitable for valuation using PE multiples techniques?

A method commonly seen in textbooks for calculating a levered firm's free cash flow (FFCF, or CFFA) is the following:

###\begin{aligned} FFCF &= (Rev - COGS - Depr - FC - IntExp)(1-t_c) + \\ &\space\space\space+ Depr - CapEx -\Delta NWC + IntExp(1-t_c) \\ \end{aligned}###

Acquirer firm plans to launch a takeover of Target firm. The deal is expected to create a present value of synergies totaling $**105** million. A **scrip** offer will be made that pays the fair price for the target's shares plus **75**% of the total synergy value.

Firms Involved in the Takeover | ||

Acquirer | Target | |

Assets ($m) | 6,000 | 700 |

Debt ($m) | 4,800 | 400 |

Share price ($) | 40 | 20 |

Number of shares (m) | 30 | 15 |

Ignore transaction costs and fees. Assume that the firms' debt and equity are fairly priced, and that each firms' debts' risk, yield and values remain constant. The acquisition is planned to occur immediately, so ignore the time value of money.

Calculate the merged firm's share price and total number of shares after the takeover has been completed.

Find the cash flow from assets (CFFA) of the following project.

One Year Mining Project Data | ||

Project life | 1 year | |

Initial investment in building mine and equipment | $9m | |

Depreciation of mine and equipment over the year | $8m | |

Kilograms of gold mined at end of year | 1,000 | |

Sale price per kilogram | $0.05m | |

Variable cost per kilogram | $0.03m | |

Before-tax cost of closing mine at end of year | $4m | |

Tax rate | 30% | |

Note 1: Due to the project, the firm also anticipates finding some rare diamonds which will give before-tax revenues of $1m at the end of the year.

Note 2: The land that will be mined actually has thermal springs and a family of koalas that could be sold to an eco-tourist resort for an after-tax amount of $3m right now. However, if the mine goes ahead then this natural beauty will be destroyed.

Note 3: The mining equipment will have a book value of $1m at the end of the year for tax purposes. However, the equipment is expected to fetch $2.5m when it is sold.

Find the project's CFFA at time zero and one. Answers are given in millions of dollars ($m), with the first cash flow at time zero, and the second at time one.

The Du Pont formula is:

###\dfrac{\text{Net Profit}}{\text{Sales}} \times \dfrac{\text{Sales}}{\text{Total Assets}} \times \dfrac{\text{Total Assets}}{\text{Owners' Equity}}###

Which of the following statements about the Du Pont formula is **NOT** correct?

**Question 923** omitted variable bias, CAPM, single factor model, single index model, no explanation

Capital Asset Pricing Model (CAPM) and the Single Index Model (SIM) are single factor models whose only risk factor is the market portfolio’s return. Say a Taxi company and an Umbrella company are influenced by two factors, the market portfolio return and rainfall. When it rains, both the Taxi and Umbrella companies’ stock prices do well. When there’s no rain, both do poorly. Assume that rainfall risk is a systematic risk that cannot be diversified and that rainfall has zero correlation with the market portfolio’s returns.

Which of the following statements about these two stocks is **NOT** correct?

The CAPM and SIM: