Jimma University
College of Business & Economics
Department of Accounting & Finance
JIMMA UNIVERSITY
COLLEGE OF BUSINESS AND ECONOMICS
DEPARTMENT OF ACCOUNTING AND FINANCE
MA in Project Management and Finance (MPMF) Programme
MPMF 622: Capital Project Finance
ASSIGNMENT # 01
Questions for Submission: All of them
Friday 1st of July 2023
Due Date:
abiy_getahun@hotmail.com
General Directions:
I. Show all the necessary steps neatly in responding each of the questions required for submission!
II. The answers should be attached to the e-Mail account with your full name as the name of the file!
III. Please, e-mail your answers ONLY on the specified address and date (not before or after that date)!
Part One: Discussion Questions
1. What is project finance?
2. What are the distinctive features of a project finance deal?
3. Who are the sponsors of a project finance deal?
4. Why do sponsors use project finance?
5. How do you differentiate corporate (on-balance sheet) financing of a new project by a firm and
project (off-balance sheet) financing of a new venture as a project company?
6. What do we mean by public-private partnership (PPP) in project finance? What are the benefits to
the private sector and to the government?
7. “When a sponsor puts up equity, remuneration is in the form of a residual flow—represented by dividends. Sponsors
are paid only after the rights of all other parties involved in the deal have been satisfied. The right of creditors, however,
is unequivocal.” How do you explain the quoted statements particularly when there are mezzanine
debts involved in financing a project in addition to equity and debts?
8. Define risk management in project financing. List and explain the various sources of risks.
9. Who are the parties bearing risk in project finance? And, how are costs of risk reduced?
10. Explain briefly the elements of contracting and contracting criteria to reduce cost of risk.
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Jimma University
College of Business & Economics
Department of Accounting & Finance
Part Two: Analytical Questions
11. Asteroid Company’s management is faced with the problem of financing a new project venture. Assume
that management finances already-existing assets and those required for a new project with debts that
have a value at maturity of Br. 4,200,000 for each project. Each of the debts is a zero-coupon debt
and that the difference between Br. 4,200,000 and the present value of the debt at the start of each
project is financed by equity capital. Management can decide to finance existing assets (Project X)
and new project assets (Project Y) separately by using a project finance approach, or they could
finance the combined projects using a corporate finance approach.
Now future cash flows for existing and new project assets will be considered according to the four
possible scenarios summarized in the table hereunder:
Scenario
Hypothesis
Debt Project X (assets in place)
Debt Project Y (new project)
Expected cash flows: Project X
Expected cash flows: Project Y
A
Br. 4,200,000
4,200,000
2,100,000
2,000,000
B
Br. 4,200,000
4,200,000
2,500,000
5,450,000
C
Br. 4,200,000
4,200,000
5,460,000
2,540,000
D
Br. 4,200,000
4,200,000
5,880,000
6,100,000
Required:
a. If management decided for corporate financing, i.e., cash flows from Projects X and Y are used
jointly to repay the debts contracted for existing and new venture assets, what would be the
payoffs to creditors and shareholders of the company under each scenario?
b. If management decided for project financing, i.e., cash flows from Project Y are only used to
repay the debts for that project, what would be the payoffs to creditors and shareholders of the
company under each scenario?
c. What are your recommendations for management under each of the foregoing financing
alternatives considering contamination risk, conflict of interests, and coinsurance effect?
12. Suppose that a firm is undertaking a project with a 5-year term loan of Br. 100 million. The term loan
carries a fixed interest rate of 10% annually.
Required:
a. If the loan is a bullet loan, how is it going to be paid? Compute the fixed annual interest payment
and the final repayment of the principal.
b. What is the amount of yearly payment if the loan is fully amortized loan?
c. Prepare an amortization schedule for the loan assuming it is a fully amortized loan.
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Jimma University
College of Business & Economics
Department of Accounting & Finance
13. A firm wants to acquire a new machine that has an economic life of 5 years and costs Br. 200,000,
delivered & installed. However, the firm plans to lease it for only 4 years. The machine’s estimated
scrap value is Br. 5,000 after 5 years of use, but its estimated residual value, which is the value at the
expiration of the lease, is Br. 20,000. Thus, if the firm buys the machine, it would expect to receive
Br. 20,000 before taxes when the machine is sold in 4 years. The firm can borrow the required Br.
200,000 from its bank at a before tax rate of interest of 10%. The firm can lease the machine for 4
years at a rental charge of Br 57,000, payable at the beginning of each year. However, the lessor will
own the machine at lease expiration. The lease agreement stipulates that the lessor will maintain the
machine at no additional charge to the lessee. However, if the firm borrows and buys the machine, it
will have to bear the costs of maintenance, which would be performed by the manufacturer at a fixed
contract rate of Br. 2,500 per year, payable at the beginning of each year. The machine’s depreciation
per year is Br. 45,000 and the firm’s tax rate is 40%.
Required: Should the firm lease or buy the machine?
14. Assume that Canton Industries intends to finance its new project with an IRR of 18.5% through a
mixture of capital sources, as shown on below:
Capital Source
Long Term debt
Market Value
Br. 1,000,000
Preferred stock
250,000
Retained Earnings
500,000
Common equity
750,000
Total liability and equity
Br. 2,500,000
Canton’s cost of capital were, kd = 12%, kp = 15%, kr= 18% & kc = 18.5%.
Required: Compute the firm’s WACC and compare it with the project’s IRR. Is the project viable?
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