(1) 5 pts

This work must be your own. Reply on an Excel spreadsheet

Ford Motor has been successfully producing the Ford Aspire in India. It has best-in-class safety features and has premium interiors. Designed to exude success, it’s been chosen the best car in India by several critics. Ford now wishes to extend the product into other parts of Asia and is considering producing the car in China.

This will involve an initial investment of RMB 4 billion in year zero. The plant will start production in year one. The plant is then expected to produce cars for ten years. We can also assume a salvage value at the end, year 10, of RMB 500 million. The tax law there allows the use of the straight-line method over the ten years of cash flow to depreciate the original value to the salvage value.

The plant will produce 80,000 cars per year. Ford assumes that it can sell the cars initially for RMB 65,000. Thereafter the selling price is expected to increase 4% per year.

Auto production materials for each car are expected to be RMB 18,000 per vehicle in the initial production year and increase at 2% per year.

Total labor costs for the plant are forecasted to cost RMB 1.1 billion and thereafter increase at 7% per year.

Ford will rent the land on which the plant is built for RMB 300 million per year. The initial payment is upfront, in year zero, so this is a year zero expense through a year 10 expense.

Ford’s cost of capital is 15%. Profits are taxed at 21%. (Remember that Ford is a big company with lots of ongoing operations. With all projects, it’s important to think on the margin. Ask what impact this has using that frame of reference. Tax is a great place to apply this thinking. Ford pays taxes as long as the entire firm is profitable, right? In a year when this project makes a profit, it creates an additional tax liability for Ford. What about in startup (or construction) years when this project creates a loss? Doesn’t this project in those years create expenses that are swallowed up in the vastness that is Ford? That also means that this creates expenses which cause a reduction in Ford’s tax liability that year. Does that mean an internal tax credit or savings can be applied to this project?)

Assume all cash flows take place at the end of the year.

What is the NPV? (1 pt) The IRR? (1 pt) The Payback? (1 pt).

If labor costs actually increase by 10%, what is the NPV? (1 pt).

Return labor costs to a 7% increase: If the cost of capital is recalculated and determined to be 16%, what is the NPV? (1 pt) Fill all answer cells with yellow paint, I will grade only those. Don’t fill yellow paint on any cell except an answer cell. Be very careful, it’s important that many of you do well on this and one mistake can obliterate the entire spreadsheet.

(2) 5pts, ½ pt each

Answer these questions on the same XL sheet, true or false: (list “a” through “j” in column A and “true” or “false” in column B)

a. Bankruptcy Chapter 7 is about closing down a firm and liquidating its assets

b. In an LBO, one of the first tasks of a financial manager is to pay down debt

c. The main characteristics of leveraged restructurings are high debt, incentives to management, and private ownership.

d. Private equity partnerships have limited lives, forcing the sale of portfolio companies

e. Private equity managers compensation depends on the exit value of a company

f. Although a firm going through Chapter 11 is still a new entity, there is new equity, it is entitled to tax-loss carry forwards

g. In a bankruptcy, junior creditors at the bottom of the capital structure are incentivized to play for time

h. Chrysler’s 2009 bankruptcy is an example where absolute priority of payments were not adhered to

i. When accompany becomes bankrupt, it is usually in the interests of stockholders to seek a liquidation rather than a reorganization

j. Large, multi-tech firms have a significant risk because they tend to under-invest in disruptive ideas.