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Analysis of Bega Cheese: Line of Yoghurt

Introduction to Corporate Finance - Assignment

Instructions:

Read the instructions carefully before proceeding.

This assignment is worth 15 marks. You are required to work on this mini-case in a group of not more than four. The due date for submission is 22 July 2018, 11.59 pm sharp.

Only one member of the group needs to make a submission for the assignment. Any submissions received after this date will automatically incur penalty of 2 marks per day.

Students are required to show their calculations in excel sheet, with individual sheets for each calculations.

Each group member should also submit journal maintained throughout the assignment period detailing the contributions from their groupmates. The journal needs to be submitted individually latest by 22 July 2018, 11.59 pm.

Case

Bega Cheese currently has 185,000,000 shares of ordinary shares outstanding that trade at a price of $7.03 per share.

Bega Cheese also has 300,000 bonds outstanding that currently trade at $92.34 each.

The company has no preferred shares outstanding and has an equity beta of 1.13. The risk-free rate is 3.5%, and the market is expected to return 12.52%. The company’s bonds have a 20-year life, a $100 face value, a 10% coupon rate and pay interest semi-annually.

The Board of Directors is now considering adding to its product mix a range of Yogurt products to capitalise on the growing demand for natural yogurt range.

The initial outlay for the project is expected to be $3,000,000, which will be depreciated using the straight-line method to a zero salvage value.

Sales are expected to be 1,250,000 units per year at a price of $1.25 per unit.

Variable costs are estimated to be $0.24 per unit, and fixed costs of the project are estimated at $250,000 per year.

The project is expected to have a three-year life and a terminal value (excluding the operating cash flows in year 3) of $300,000.

Bega Cheese has a 34% tax rate. (For the purposes of this project, working capital effects will be ignored).

The yogurt range is expected to have different risk characteristics from the company’s current products.

You have recently graduated with a degree in finance. Your employer, Bega Cheese wants you to work with the provided to data to address the given problems

  1. Determine the weighted average cost of capital for Bega Cheese.
  2. Should the management go ahead with its proposed project of introducing the range of yogurt under the normal conditions as stated previously?
  3. Should Bega Cheese go ahead with its proposed project of introducing the ranges of yogurt under the following best case and worst case scenarios?
  • Best – Case Scenario

Selling 2,500,000 units at a price of $1.24 per unit, with variable production costs of $0.22 per unit.

  • Worst – Case Scenario

Selling 950,000 units at a price of $1.32 per unit, with variable production costs of $0.27 per unit.

  1. What would you do as the financial analyst? Which investment would you recommend, and why?

Marking Criteria

Journal (individual)3 marks

A brief description of how you and your group approached the problem.

Group Work12 marks

Calculation of YTM

Calculation of Weighted average cost of capital

Depreciation Calculations

NPV calculations (all three scenarios)6 marks

Findings and recommendations

Total weightage15 Marks

Answer

Analysis of Bega Cheese new product line of Yoghurt

The WACC of the product range is 13.64%

Under normal conditions the NPV of the project is (-)$440,374. This means that the product is not profitable and is not recommended.

However under the best case scenario, the NPV of the project is $1,544,,565. The NPV is more than Zero and thus the investment is recommended.

Under the worst case scenario, the NPV of the project is (-)$848,924. The NPV is less than Zero and thus the investment is recommended.

The project if new product range of yoghurt is profitable only in the base case scenario. Thus the management should invest in the project only if the possibilities of best scenario are very high. Otherwise the project is not recommended as it is not profitable under normal conditions.

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