The Maximus Corporation
• Compute the net present value, profitability index, and internal rate of return for a given company.
• Predict the best choice for a company based on analysis of financial data.
• Compute a company’s WACC using given percentages.
• Calculate the cost of capital of a stock.
• Computer the after-tax cost of capital for bonds.
Instructions: Answer the questions directly on this document. When you are finished, select “Save As,” and save the document using this format: Student ID_UnitVIII. Upload this document to BlackBoard as a .doc, docx, or .rtf file. Show all of your work.
1. The Turnip Company plans to issue preferred stock. Currently, the company’s stock sells for $110. Once new stock is issued, the Turnip Company would receive only $90. The dividend rate is 8%, and the par value of the stock is $100. Compute the cost of capital of the stock to your firm. Show all work.
2. The Maximus Corporation is considering a new investment, which would be financed from debt. Maximus could sell new $1,000 par value bonds at a new price of $920. The bonds would mature in 13 years, and the coupon interest rate is 10%. Compute the after-tax cost of capital to Maximus for bonds, assuming a 34% tax rate. Show work.
3. Connor Corporation is considering two projects (see below). For your analysis, assume these projects are mutually exclusive with a required rate of return of 10%.
Project 1 Project 2
Initial investment $(465,000) $(700,000)
Cash inflow Year 1 $510,000 $850,000
Compute the following for each project:
• NPV (net present value)
• PI (profitability index)
• IRR (internal rate of return)
Based on your analysis, answer the following questions :
• Which is the best choice? Why?
• Which project should be selected and why? If the projects had the same IRR amounts but different NPV totals, then how would you know which project to select? Explain.
• What would happen if both projects had negative NPV totals? Which project would you choose? What do negative NPVs indicate? Explain.
• Should we also use the payback method to assist us in project selection? Why or why not? Explain.
4. The capital structure for Magellan Corporation is shown below. Currently, flotation costs are 13% of market value for a new bond issue and $3 per share for preferred stock. The dividends for common stock were $2.50 last year and have an estimated annual growth rate of 6%. Market prices are $1,020 for bonds, $20 for preferred stock, and $30 for common stock. Assume a 34% tax rate.
Financing Type % of Future
Financing
Bonds (8%, $1k par, 16 year maturity) 36%
Common equity 45%
Preferred stock (5k shares outstanding, $50 par, $1.50 dividend) 19%
Total % 100%
Compute the company’s WACC. Is this WACC considered reasonable given the assumptions and other relevant information? Explain.
Sample Solution
Maximus Inc. is a government services corporation based in the United States with global operations in Australia, Canada, and the United Kingdom. The firm works with government organizations to manage and administer initiatives that are funded by the government. Among other government programs, Maximus provides administration and other services for Medicaid, Medicare, health care reform, and welfare-to-work. The corporation, situated in Tysons, Virginia, employs 34,300 people and expects to generate $3.46 billion in revenue in fiscal year 2020. David V. Mastran, a Vietnam veteran and former employee of the US Department of Health, Education, and Welfare, started Maximus in 1975. Maximus began as a business consultancy organization.
