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5105LBSBW Investment & Finance

5105LBSBW Investment & Finance

Question 1

A firm is considering an investment opportunity which has a 10 year life. It will cost £500,000 and is expected to generate annual profits of £100,000 (assuming zero debt finance). The company is considering how to raise the £500,000 and has the following data regarding the proportion to be raised through equity and debt

Gearing (%)              Cost of Equity (%)              Cost of Debt after tax (%)

  0                                            3                                  1

10                                            3.1                               1.1

20                                            3.2                               1.2

30                                            3.3                               1.3

40                                            3.5                               1.5

50                                            3.9                               1.8

60                                            4.5                               2.1

a)    Calculate the weighted average cost of capital for the company at each of the different levels of gearing and identify the optimal capital structure from your answer.

(20 marks)


b)    Calculate the Payback, NPV and IRR using the optimal capital structure identified in Part a

(20 marks)


c)    Evaluate the opportunity highlighting the risks and stating whether you would proceed with the investment

(20 marks)


Question 2


Select ONE of the following:


  • Outline and illustrate the Utility Function of someone who is Risk Averse; Risk Neutral and a Risk Taker and explain how this may impact on their decisions to insure against risk


  • Evaluate the Role of Portfolio Theory and the Capital Asset Pricing Model in assessing and pricing risk.


  • Outline and evaluate Option Pricing Theory with reference to the Black & Scholes Option Pricing Model


  • To what extent are financial markets efficient ? Support you answer with


(40 marks)


(Total 100 MARKS)


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