Finance;

Finance;
Hand-up Question
**Give your answer to this question to your tutor at the beginning of Tutorial 9 (Week
10).
Read the articles below and answer the following questions.
My life as an investment banker
Rohan Siddhu | December 19, 2005
The good, the bad and the ugly
I soon discovered that I did not land myself a job but a 24/7 personality referred to as the
investment banker. I was like a doctor on call.
My day would typically start by waking up early morning to chat with a client in Hong
Kong. And I ended the day staying up really late to chat with the one from US.
In between, my life was interspersed with mundane tasks of presentations and
photocopying, with miniscule doses of financial engineering and power games.
Let me explain.
Investment bankers are experts at calculating what a business is worth.
To arrive at this figure, they use something known as the Discounted Cash Flow method.
For the uninitiated, this is a valuation method used to estimate the attractiveness of an
investment opportunity. It is such a sensitive tool that, by just changing a variable or
assumption, you would be able to get a completely different figure.
It actually was up to me!
This made me feel supremely important, despite the fact that I had to pore over comainducing
spread sheets.
And, of course, when you discuss mergers and acquisitions, you only meet with the big
brass. Getting a handshake from these guys and having them listen to my every word
and detailed analysis would set my adrenaline soaring.
Our job also entailed raising capital (money) for companies. This was not much fun. I
had to dress up a company and then present it to private equity investors or venture
capitalists and even the public, if we were floating Initial Public Offerings.
Basically, we had to sell a company, whether we truly believed in it or not. Often, I found
myself pushing deals with clients that I knew would not work. I became a salesman to
the core.
Investment bankers also excel in paperwork. Whether it was a prospectus for an IPO or
whatever deal, we had to ensure that the figures were accurate and the language legally
perfect. We had to scrutinise every word and then make hundreds of photocopies
(alright, I am exaggerating, but only slightly).
2
And, if it was merger or acquisition that we were working on, the paperwork assumed
such gigantic proportions that a room had to be hired — called the data room — whose
sole purpose was to store the photocopies.
There were periods when I managed to catch just four hours of sleep daily.
Whoever said that investment banking is not about money but about the game of
acquiring it (a popular saying among investment bankers) was lying through his teeth.
It’s all about the money, honey
What I loved about the job was the money….Let me tell you something about the
bonuses.
Has anyone seen my social life?
The travelling and the ridiculous working hours ensured that my social life was a
memory of the past. It dropped in inverse proportion to my salary.
….but hey, on my own I can’t afford to fly business class, live in executive suites in fivestar
hotels, holiday abroad every year and eat in the swankiest and most expensive
restaurants in town.
That, along with the money, is the prime motivator as to why I am an investment
banker.
Source: http://ia.rediff.com/getahead/2005/dec/19ibank.htm
You are an investment banker for Macquarie bank. You are given the following
information about a company you are evaluating:
The company’s capital structure is such that it is financed 50% by ordinary shares, 30%
by bonds and 20% by preference shares. The YTM of the bonds is 6.5%, the required
return on the preference shares is 9%. Ordinary shares are currently trading at $20, a
dividend of $3 will be paid in one year’s time and dividends will continue to grow at
2% forever.
The project will cost $5,000,000 and generate cash flows of 845,000 for 10 years. All
cash flows and rates are real.
a) Calculate the company’s cost of capital and the NPV of this project.
Should the company accept the project? (You will need to calculate the
weighted average cost of capital- WACC)
b) You are aware that there is a different approach to estimating the cost of
equity capital; the CAPM approach. What would it be assuming that the
risk free rate was 3%, the market risk premium was 5% and the beta of
the company was 1.6? Why might you use this approach?
c) What is the NPV using the new cost of equity value from b in the WACC?
d) What conclusions would you draw from your answers in b) and c)?
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