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Assignment/Situation: After looking at the project and talking with some people that have been around the organization for many years, you recognize that the 10% cost of capital is not reflective of the company’s current cost of capital. The head of treasury has assured you that the company can raise debt at 7% in today’s market and that if the firm was not going to use the US$4M to invest in the machine for the production plant, it would be invested in some short-term securities yielding 5%.
With this in mind, explain a company’s cost of capital and how it is calculated. What is marginal cost of capital and how does it differ from weighted average cost of capital? How do market rates and the company’s perceived market risk impact its cost of capital? Assume you are leading a discussion on these elements with the managers and finance personnel.
Company History: Superior Living, Inc. is a private, domestic U.S. manufacturer of home furniture targeted at U.S. consumers ages 21 to 54 (from first-time apartment renters to empty nesters). The company generates $250 million in revenues from six product lines: outdoor patio, luxury, durable rental, children’s furniture, rare woods, and space saver. The company sells its products through a number of retailers and has a solid business reputation with distributors and customers. Superior Living has divisions for each of the product lines, and each division includes sales, marketing, and manufacturing personnel. The other functional areas—human resources, finance, and information technology—support the entire company. You are the vice president of finance, reporting to the chief financial officer (CFO). Your role includes the responsibility for financial analysis and financial reporting. This includes developing financial statements, monitoring performance metrics, educating the senior officer team on key financial decisions, and valuing new business opportunities that are presented to the board of directors. Superior is looking to go public in the next 6 to 8 months with an initial public offering (IPO). In addition, the company is aggressively pursuing new business opportunities, which may include expansion via acquisition and the development and implementation of new product lines. All of this will require the company to manage its finances extremely well. You are the key officer to lead in this responsibility. The CFO has asked you to meet with her to outline the financial plans for the next 12 months. She needs you to develop the three financial statements for the end of the fiscal year, determine the capital investments required for the upcoming year, develop the operating budget, and outline the plan for the IPO. To do this, you will work closely with the VP of accounting and the head of strategic planning. You know that the next 12 months can determine the long-term success of Superior. The CEO and board of directors have made it clear to you and the CFO that the financial plans for the next year should be based on sound, fundamental financial principles and contain as little risk as possible. Finally, you understand the company very well and know that the division chiefs—the senior vice presidents who lead the product divisions—wield a great deal of power and must agree to financial plans. Many of them have expressed that they will need significant expenditures next year, stating that the “running rate will not be enough,” referencing the company’s longstanding process of developing expense budgets based on the previous year’s expenditures plus a small percentage increase. Furthermore, they all have stated that if a merger should occur, it should be with a product line that compliments their division and is brought under their control.
Ensure references/reference page is also included! ALSO PLEASE cite everything required within the main-body of the paper!!!
**Please include at least one reference is from the textbook Fundamentals of Corporate Finance (Alternate Edition) 9th Edition, Ross, Westerfield, Jordan; Publisher McGraw-Hill Irwin
ALSO please stay within the 700-825 word count for the main body of essay, do not exceed or have less than word count requirement.
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