Spread sheet with all the calculations and results clearly identified. o PDF file explaining with all details formu

Formalities:

• Student must submit 1 document (either):

o Spread sheet with all the calculations and results clearly identified.

o PDF file explaining with all details formulas utilized and computations made to get results

It assesses the following learning outcomes:

• Demonstrate a deep understanding of the theory and practices of financing a firm and its capital structure. • Evaluate the financing risk that may result from the chosen debt ratio.

Case Auticat Corporation

Auticat is an engineering company which was founded 30 years ago by the current President, Mr. JJ Singer.

The company showed profits for most of the years, but in the year 2015 the company tried to scale up with debt heavily increasing their operations in the export markets. The situation had a negative development due to wrong strategic approach and a lack of control of the company managers. As a result, from this experience and after a very slow recovery, Mr. Singer is now much more risk averse, and therefore he is trying to avoid debt as much as possible. Currently the company has a 0 debt.

Mr. Singer has now a new project, this is a new venture in the drones industry, and he believes this could be a very profitable business. The required investment for this project is of 70M€, and the expectations for profitability show annual pretax earnings of 10M€ in perpetuity.

Now the company, or Mr. Singer, must decide whether to finance with debt or equity. Even though he dislikes debt, he hired a highly skilled and recommended CFO who believes that debt would be adding value to shareholders. According to the first estimates based on Gerald’s research (Gerald is the CFO), the best deal they could find is a 50% debt investment, which means that the company should rise half the amount of the investment with new shares and the other 50% with bonds. An increased level of debt would make the company more vulnerable and therefore the financing costs would sharply increase up to an undesirable level.

• The bonds would be issued at par value with 4,5% annual coupon payments.

• Auticat is a Spanish company, and the income tax rate is 25% in 2021.

• The company has a market capitalization of 296M€, and 1,2M shares outstanding.

• The company cost of equity is 7%.

Mr. Singer is not only very risk averse, but he is also a man who does not trust anybody. How would you advise him?

1. Should he issue debt or equity for this investment and why.

2. As Auticat is a public company, he would like to know which is the enterprise value (capital structure at market value) before the investment in the new

project is announced.

3. If Auticat decides to make the investment 100% with Equity, as Mr. Singer prefers, what would be the Net Present Value of the project?

4. What would be the enterprise value after the company announces the project fully financed by Equity? How many shares will have to be issued to

finance the project? And what would be the price per share?

5. Construct a market value balance sheet before and after new equity issue (investment project). How many shares outstanding has the company? and

how much is the price per share?

6. Construct the market value Balance Sheet after the new investment has been done.

7. Do steps 3 – 6 for the debt issuing alternative. Remember the CFO said max 50%.

8. Which of the alternative do you think would be better for Mr. Singer, as he is the majority shareholder?