1.

I use net present value as a capital budgeting method because it's perhaps the most
insightful and useful method to evaluate whether to invest in a new capital project. It is more
refined from both a mathematical and time-value-of-money point of view. In finance, the net
present value (NPV) or net present worth (NPW) applies to a series of cash flows occurring at
different times. The present value of a cash flow depends on the interval of time between now
and the cash flow. It also depends on the discount rate. NPV accounts for the time value of
money. It provides a method for evaluating and comparing capital projects or financial products
with cash flows spread over time.
Sensitive analysis is a technique used to determine how independent variable values will
In a business context,
impact a particular dependent variable under a given set of assumptions.
sensitivity analysis can be used to improve decisions based on certain calculations or
modeling. A company can use sensitivity analysis to identify the best data to be collected
for future analyses to evaluate basic assumptions regarding investment and return on
investment (ROI), or to optimize the allocation of assets and resources.
Conducting sensitivity analysis provides a number of benefits for decision-makers. First, it
acts as an in-depth study of all the variables. Because it's more in-depth, the predictions may be
far more reliable. Secondly, it allows decision-makers to identify where they can make
improvements in the future. Finally, it allows for the ability to make sound decisions about
companies, the economy, or their investments.
The expected value (EV) is an anticipated value for an investment at some point in the future.
In statistics and probability analysis, the expected value is calculated by multiplying each of the
possible outcomes by the likelihood each outcome will occur and then summing all of those
values. By calculating expected values, investors can choose the scenario most likely to give the
desired outcome. An investment with a higher expected value will be considered better and one
with lower expected value is bad.
I advise him to invest in this project because it gives positive NPV, imply that positive pay-offs
for investing in new investment. it also show us the expected value is higher for this investment
but positive sensitivity does not mean always positive pay-off ,therefore, we will invest in the
project until projects give us positive NPV .
2. A. The Capital Asset Pricing Model (CAPM) describes the relationship between systematic risk
and expected return for assets, particularly stocks. CAPM is widely used throughout finance for
pricing risky securities and generating expected returns for assets given the risk of those assets
and cost of capital.

The capital asset pricing model (CAPM) is a finance theory that establishes a linear
relationship between the required return on an investment and risk. The model is based on
the relationship between an asset's beta, the risk-free rate (typically the Treasury bill rate) and
the equity risk premium, or the expected return on the market minus the risk-free rate.
Advantages of the CAPM Model There are numerous advantages to the application of the
CAPM, including:
Ease of Use
The CAPM is a simple calculation that can be easily stress-tested to derive a range of possible
outcomes to provide confidence around the required rates of return.

Key Takeaways

 The CAPM is a widely-used return model that is easily calculated and stress-tested.
 It is criticized for its unrealistic assumptions.
 Despite these criticisms, the CAPM provides a more useful outcome than either the DDM
or the WACC models in many situations.

Diversified Portfolio

The assumption that investors hold a diversified portfolio, similar to the market portfolio,
eliminates unsystematic (specific) risk. 

Systematic Risk
The CAPM takes into account systematic risk (beta), which is left out of other return models,
such as the dividend discount model (DDM). Systematic or market risk is an important variable
because it is unforeseen and, for that reason, often cannot be completely mitigated. mitigated.
The expected return is the profit or loss an investor anticipates on an investment that has known or
anticipated rates of return (RoR). It is calculated by multiplying potential outcomes by the chances of
them occurring and then totaling these results. For example, if an investment has a 50% chance of
gaining 20% and a 50% chance of losing 10%, the expected return is 5% (50% x 20% + 50% x -10% =
5%).The expected return is a tool used to determine whether an investment has a positive or negative
average net outcome. In the example above, for instance, the 5% expected return may never be realized
in the future, as the investment is inherently subject to systematic and unsystematic risks. Systematic
risk the danger to a market sector or the entire market whereas unsystematic risk applies to a specific
company or industry.

 The expected return is the amount of profit or loss an investor can anticipate receiving on
an investment.
  An expected return is calculated by multiplying potential outcomes by the odds of them
occurring and then totaling these results.
 Essentially a long-term weighted average of historical results, expected returns are not
guaranteed.

It is quite dangerous to make investment decisions based on expected returns alone. Before making any
buying decisions, investors should always review the risk characteristics of investment opportunities to
determine if the investments align with their portfolio goals.
In addition to expected returns, wise investors should also consider the likelihood of a return to better
assess risk. After all, one can find instances where certain lotteries offer a positive expected
return, despite the very low chances of realizing that return. Risk-Free Rate (Rf).The commonly accepted
rate used as the Rf is the yield on short-term government securities. The issue with using this input is
that the yield changes daily, creating volatility.
3. Shareholders' wealth is maximized when a decision generates net present value. The
net present value is the difference between present value of the benefits of a project and
present value of its costs. A decision that has a positive net present value creates wealth
for shareholders and a decision that has a negative net present value destroys wealth of
shareholders. Therefore, only those projects which have positive net present value
should be accepted. For example, suppose a firm invests $ 10,000 in a project that
generates net cash flow $ 3,000 each year for five years. If the firm requires 10% return
on its capital, the net present value of the project is $ 1,372. Project like this should be
accepted because the net present value accruing from the project belongs to
shareholders, hence increases their wealth. Investors pay higher price for shares of a
company which undertakes projects with positive net present value. As a result, wealth
maximization is reflected in the market price of shares. Based on this logic, stock price
maximization is   equivalent to shareholders wealth maximization. It is because, market
price of firm's stock takes into account present and expected earnings per share; the
timing, duration, and risk of these earnings; the dividend policy of the firm; and other
factors that bear on the market price of the stock. Stock price maximization is
considered superior goal to profit maximization goal.

The objective of shareholder wealth maximization has a number of distinct advantages.

First, this objective explicitly considers the timing and the risk of the benefits expected
to be received from stock ownership. Similarly, managers must consider the elements
of timing and risk as they make important financial decisions, such as capital
expenditures. In this way, managers can make decisions that will contribute to
increasing shareholder wealth.
Second, it is conceptually possible to determine whether a particular financial decision
is consistent with this objective. If a decision made by a firm has the effect of
increasing the market price of the firm’s stock, it is a good decision. If it appears that an
action will not achieve this result, the action should not be taken (at least not
voluntarily).
Third, shareholder wealth maximization is an impersonal objective. Stockholders who
object to a firm’s policies are free to sell their shares under more favorable terms (that
is, at a higher price) than are available under any other strategy and invest their funds
elsewhere. If an investor has a consumption pattern or risk preference that is not
accommodated by the investment, financing, and dividend decisions of that firm, the
investor will be able to sell his or her shares in that firm at the best price, and purchase
shares in companies that more closely meet the investor’s needs.
For these reasons, the shareholder wealth maximization objective is the primary goal in
financial management. . It has been universally accepted that the fundamental
goal of the business enterprise is to increase the wealth of its shareholders, as
they are the owners of the undertaking, and they buy the shares of the
company with the expectation that it will give some return after a period. This
states that the financial decisions of the firm should be taken in such a manner
that will increase the Net Present Worth of the company’s profit. The value is
based on two factors:

1. Rate of Earning per share

2. Capitalization Rate

I advise the director to use NPV because of the above stated reason I will describe. So, I can attempt to
determine the valuation of common stock by looking at its current dividend and making assumptions
about any future dividends it may pay.

5. for the year 20X0

Given Profit = 12.6 million

Dividend paid = 4.2 million

4.2mill/12.6 million =.33 or 33% which means 33% of profit is paid to shareholders , so the remaining
amount which is .67 or 67% will be retained for further expansion

Retention rate = 67%

ROE For 20x4 will be

ROE=Total earning / total capital= 12.6million/178 million =.07 or 7%

Therefore, ROE is 7%

The growth rate = Retention rate (ROE)

0.67(7%) =4.69 %

Cost of equity capital ( Ke) = 4.2 mill/12.6 million+ 4.69%

0.33+4.69% =0.35 or 35%

For 20X4,

Given profit after tax 31.2 million

Dividend paid 10.8 million

Dividend paid =amount of dividend paid/amount of profit after tax

=10.8 million/31.2million=.346 or 34.6% which means 34.6% of profit is paid to shareholders

Therefore, the retention rate will be 65.4% and the ROE will be,

31.2 million/178 million= 17.5%

Then, the growth rate = 0.65(17.5%) = 11.37%, but based on the constant growth
rate, the cost of equity capital will be,

Ke = 10.8million/31.2 million+4.69%

= 0.346 +0.016= 0.36 or 36%

6. EBIT indifference level is the

 Breakeven ( EBIT-EPS) indifference point is the levels of EBIT that produce

same level of EPS for two or more alternative capital structures.
Common stock equity of 40 milion ETB

PLAN A; C/S OF 50000 SHARES OF AT Br 400 = 20,000,000

PLAN B Debt ( sales of Bond ) debt financing, Bond with FV OF 20,000,000 at 16 % interest rate

A) Indifferent point between two financing plan will be

( EBIT1,2 – i)(1-t)-PD = (EBIT 1,2- I )(1-t)-pd

NS1 NS2

= (EBIT 1,2 – i)(1-0.35)-0 = (EBIT1,2- 3,200,000)(1-0.35)-0

100,00 50,000

= EBIT 1,2(0.65) = EBIT1,2-3200000)(0.65)

100,000 50,000

(EBIT1,2)(0.65) =EBIT-2,080,000

100,000 50000
50,000EBIT (0.65) =100,000(EBIT-2080, 000)

B.) EPS1,2= 6,400,000 *0.65=( EBIT*1-T)

100000 NS2

4,160,000/100,000 = 41.6

Common stock Debt

EBIT 6,400,000 6,400,000

Iess Int 0 3,200,000

EBT 6,400,00 3,200,000

Less tax 2,240,000 1,120 000

EAT 4,160,000 2,080,000

NS 100,000 50,000

EPS 41.6 41.6

C ) Common stock Bond

EBIT 8,000,000 8000,000

Less int 0 3,200000

EBT 8000,000 4,800,000

Less tax 35% 2,800,000 1,680,000

EAT 5,200,000 3,120,000

NS 100,000 50,000
EPS 52 62.4

If EBIT 8,000,000 is less than the indifference point 6,400,000 the common stock
will have higher EPS, but here the reverse is true.

D ) For 8000,000 EBIT Price of shares for PLAN A will be

P/E ratio = Price/EPS

12 = X/52, 52 (12) =624 per share

For Plan B

P/E Ratio =price/EPS, 62.4=X/10 62.4(10) = 624 EPS.

7. While Nike was criticized for the poor working conditions for its workers, the company has
recognized the problem and has substantially improved the working environments recently. Although
Nike’s workers get paid very low wages by the Western standard, they probably are making
substantially more than their local compatriots who are either under- or unemployed. While Nike’s
detractors may have valid points, one should not ignore the fact that the company is making
contributions to the economic welfare of those Asian countries by creating job opportunities.
Nike has made mistakes, but one could argue that Nike has paved the way for economic
development in some of the countries that most desperately need it of living. One estimate is
that 5% of the Vietnamese gross national product is related to Nike, which has only operated
there since 1995. We have no reason to believe that Nike’s practices are fundamentally worse
or better than those of other shoe and apparel manufacturers, and indeed we believe Nike has
been the target of attention because it is the market leader, not because it is extreme in its
practices. Does the fact that Nike is better than, or at least no worse than, its competitors mean
that its critics should stop putting pressure on Nike to improve its practices? Perhaps not, the
point of advocacy activities is to push companies past simple compliance with the law.
Therefore, “fairness” toward a particular company is not an overarching objective of Nike critics.