Financial Analysis Essay

A1: Capital Structure

50% Preferred 20% 40% 60%

(5%, $50 par) and 9% Bonds and 9% Bonds and 12% Bonds and 9% Bonds 50% Common Stock Common Stock Common Stock Common Stock
Year 9
0.002

0.027 0.027 0.023 0.017
Year 10
0.009

0.032 0.032 0.028 0.023
Year 11
0.019

0.039 0.038 0.035 0.031
Year 12
0.031

0.048 0.046 0.043 0.04
Year 13
0.042

0.057 0.054 0.052 0.049
Sum
0.103 0.203 0.197 0.181 0.16

The above chart shows 50% preferred with 50% common stock is the best capital structure approach for Competition Bikes, Inc. This option presents the highest outcome for earnings per share over a five year period at 20%. By using the 50% preferred and 50% common stock capital structure, the company does not use bonds because interest on bonds will reduce the company’s net income. When net income is low, stockholders receive less money for the funds they invested in. When stockholders are not receiving money and not seeing their funds being put to good use, they will discontinue investing in the company. When the company does not have investors, the company will not be profitable. The other four capital structures use bonds which accrue interest every year. When a company uses bonds within their capital structure and interest is accrued, this decreases a company’s profits. When profit decreases, there is less income to divide among stockholders, which decreases earnings per share. This is why 50% preferred and 50% common stock is the best capital structure for Competition Bikes, Inc to use.
A2: Capital Budget Net present value is the “present value of a project’s future cash flows less the cost of the initial investment” (Hilton). It is important to calculate net present value to determine the profitability of an investment. Net present value will tell an investor whether it is good or bad idea to invest into the company based on how much profit is expected. The net present value for years nine, ten, eleven, twelve, and thirteen is negative $26,740 in low demand. This is a negative net present value for the company which means the company would not be yielding 10% return on capital. The company needs to yield higher than 10% return on capital in order to consider the Canadian expansion. This becomes a concern for investors because they are not seeing a high profit rate with the funds they are investing in when demands are low. The net present value for years nine, ten, eleven, twelve, and thirteen is a positive $2,243 in moderate demand. This means the company would be yielding greater than 10% return on capital when demands are moderate. When the company has average net income, and yields more than 10% return on capital, the company would be profiting from the Canadian expansion. Investors will continue to provide funds for the company if the expansion is profitable. Internal rate of return is “the discount rate required for an investment’s net present value to be zero” (Hilton). The higher the internal rate of return, the more desirable it is for the company to pursue a particular project. It illustrates the rate of growth a company would expect to generate if the project is pursued. The internal rate of return for Competition Bikes, Inc requires a 10% return on capital to pursue a capital investment. The internal rate of return for Competition Bikes, Inc in the Canadian expansion for low demand is 8.7%. This raises concern for the company because they are not profiting enough income to pursue the expansion. The company’s expenses such as cost of goods sold and selling and administrative expenses would be too high for the company to increase their profits. For example, in year nine for low demand, selling and administrative expenses are $154,390. This amount is higher since it would be the start of a new company and more money would need to be spent on

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Analysis Of Financial Analysis