NAME:SID :GSI :University of CaliforniaWalter A. Haas School of BusinessUGBA 103Introduction to FinanceProf. Dmitry Livdan 12 December 2017FINALQuestion BookletINSTRUCTIONS1. Please don’t open the exam until you are told to do so.2. This exam is being administered under the University’s rules for academic con-duct.3. You have 3 hours4. The exam consists of 1 long question5. Use the white spaces (and backs of pages) in this question booklet as scratch paper for themultiple choice questions. Your final answers should be indicated with a pen!6. Write your answers on the empty pages or on the back.7. Important: PRINT YOUR NAME AND SIS ID on the first page of your answer sheetbooklet. Also indicate your LECTURE section.8. This is an open-book exam!9. Laptops, PCs, PDAs, IPhones, IPads, and any other WiFi-enabled communication enablingdevices are prohibitedUGBA 103 FINAL 2(35 points total) Pegoretti Inc. pays 40% in corporate taxes and is financed entirely by commonstock with a 1,000 shares outstanding trading at $60 per share. Pegoretti has only assets-in-placeand, thus, does not grow.(1)(5 points total) Pegoretti’s CFO wants to use CAPM to calculate Pegoretti’s equity beta, βE.However she does not know several key variables, like the market risk premium, market’s standarddeviation, and the risk-free rate. She does know that the stock market’s Sharpe’s ratio is equal to0.4. She also knows that since CAPM applies to every security, she can find some of these valuesusing data from Pegoretti’s two competitors Merxx and Pinarello, both of which have no debt.(i) (2 points) If Merxx’s and Pinarello’s assets have a cost of capital equal to 13% and 21%respectively, and their asset betas are equal to 0.8 and 1.6 respectively what are the risk free rateand the stock market risk premium (rM− rf)?(ii) (2 points) What is Pegoretti’s cost of equity capital if its market risk is equal to 0.375?(iii) (1 point) What is Pegoretti’s EBIT per share?UGBA 103 FINAL 3(2) (10 points total) Pegoretti considers embarking on a 5-year growth plan presented in thetable below:Year PBR ROE POR1 0.4 50% 0.62 0.4 50% 0.63 0.4 50% 0.64 0.4 50% 0.65 0.6 55% 0.4First investment is made in the year 1 (year 1 ROE is the return on the year 1 investment and soon). Investment is paid out of the earnings. Each investment pays forever. The ROE is the sameafter year 5 and is equal to 55%. After finishing this investment plan Pegoretti once again becomesa no-growth company.(i) (1 point) What is the Pegoretti’s EPS, investment, and dividend in year 1?(ii) (1 point) What is the Pegoretti’s EPS, investment, and dividend in year 2?(iii) (1 point) What is the Pegoretti’s EPS, investment, and dividend in year 3?(iv) (1 point) What is the Pegoretti’s EPS, investment, and dividend in year 4?UGBA 103 FINAL 4Continues on the next page!UGBA 103 FINAL 5(v) (1 point) What is the Pegoretti’s EPS, investment, and dividend in year 5?(vi) (4 points) What is Pegoretti’s price, P0, with this reinvestment policy?(vii) (1 point) What is PVGO from such investment policy?Continues on the next page!UGBA 103 FINAL 6(4) (3) (20 points total) Pegoretti is considering an alternative 5-year project. Since this projectis very different from Pegoretti’s current assets, the adjusted present value will be used to valuethe project.The project requires an initial investment of $75,000 in new assets, which will be depreciatedstraight-line to 0 over the project’s 5-year life. These assets will be worthless in five years, i.e., theywill not be resold. Each year for five years, the project is expected to generate pre-tax revenuesof $60,000 and to require pre-tax costs of $24,000. The entire project will be financed through a5-year bank loan with an annual rate of 10% (it is also the discount rate). The principal on theloan will be repaid in equal installments of $15,000 each (i.e., each year, the company pays $15,000in principal, and pays the interest on the outstanding loan). It is estimated that the pre-tax costs(payable at time zero) of negotiating the loan will be 4% of the amount borrowed and these costscannot be amortized.The project’s risk is very similar to the risk of Roaming Divide (RD) Inc.’s assets. This firm iscurrently financed by 100,000 shares worth $12.50 each, and $750,000 worth of debt, and has thesame tax rate as the Pegoretti’s. The beta of RD’s stock is 1.5, and the company borrows at a rateof 11%.The values for the risk free rate and the market risk premium are the same as in the first partof this exam.(i) (i) (4 points) What is the appropriate discount rate for the project? (Round to two digits,e.g., 0.33 instead of 0.3266.)(ii) (2 points) What is the NPV of project’s assets? Please use the discount rate found in theprevious part to discount the depreciation tax shields. NOTE: Part (iii) is on the next pageUGBA 103 FINAL 7(iii) (7 points) What is the NPV of the loan and APV of the project? NOTE: Part (iv) ison the next pageUGBA 103 FINAL 8(iv) (7 points) Now consider an alternative financing. The entire project still will be financedthrough a 5-year bank loan but with government-subsidized annual rate of 8.5% (market rate forsuch loans is still 10%), and with principal repaid in a lump sum at the end of the fifth year.However, such loan requires floatation costs (payable at time zero) of 10% of the amount borrowed.In this case the floatation costs can be amortized over the project’s 5 year life (amortizationmeans that the value is straight-line depreciated to zero over 5 years and Pegoretti is getting thedepreciation tax shield back every year, for instance costs of 5,000 depreciate by 1,000 every yearand the tax shield is 0.4 × 1, 000 = 400). Would you prefer this loan to the previous one? Pleasegive a quantitative