Marketing Problems and answers

1.) Suppose that in 2010, Global launches an aggressive marketing campaign that boosts sales by 15%. However, their operating margin falls from 5.57% to 4.50%. Suppose that they have no other income, interest expenses are unchanged, and taxes are the same percentage of pretax income as in 2009.

• What is Global’s EBIT in 2010?

Ans: Let us assume the Net Sales in 2009 to be Y

Operating Margin = Operating Income / Net sales.

Operating Income = Operating Margin X Net Sales

For 2010

Operating margin is 4.5%

Net sales = Y(1+.15) = 1.15Y

Operating Income = .45 x 1.15Y

This is the Earnings before Interest and Tax (EBIT)

• What is Global’s income in 2010?

Ans: Global’s income will be EBIT – ( Interest and Tax )

= (0.45X1.15Y) – Interest and Tax

• If Global P/E Ratio and number of shares outstanding remain unchanged, what is Global’s share price in 2010?
  • PE ratio = Market value per share / Earning per share

Market value per share = PE Ratio X Earnings per share.

2.) Suppose a firm’s tax rate is 35%

• What effect would a $10 million operating expense have on this year’s earnings? What effect would it have on next year’s earnings?

Ans: When the operating expenses is $10 million, the operation profit will reduce by this amount and the proportionately the tax component will reduced and the net earning will be net off of this tax amount.

• What effect would a $10 million capital expense have on this year’s earnings if the capital is depreciated at a rate of $2 million per year for five years? What effect would it have on next year’s earnings?

Ans: Depreciation is a non-cash expense, it increases free cash flow while decreasing reported earnings, and proportionately the earnings will reduce by $ 2 million. This will have the same impact on all years for the next 5 years.

3.) Suppose the risk-free interest rate is 4%.

• Having a $200 today is equivalent to having what amount in one year?

Ans: 200 *(1+ 4/100) = 208 This is the value we will have after one year.

• Having $200 in one year is equivalent to having what amount today?

Ans: 200 *(96/100) = 192

• Which would you prefer, $200 today or $200 in one year? Does your answer depend on when you need the money? Why or Why not?

Ans : The Answer will depend when one needs the money. Here the opportunity cost will have to taken into consideration to decide what one loses / gains and depending on this one can decide.

4.) Your firm has a risk-free investment opportunity where is can invest $160,000 today and receive $170,000 in one year. For what level of interest rates is this project attractive?

Ans: The interest earned = $ 10,000

The interest rate = 10,000/160000 X 100 = 6.25 %

5.) Suppose Bank One offers a risk-free interest rate of 5.5% on both savings and loans, and Bank Enn offers a risk-free interest rate of 6% on both savings and loans.

• What arbitrage opportunity is available?

Ans: Borrow from bank one and deposit in bank Enn as you will earn 6% from bank Enn for the deposits and you can pay only 5.5 % interest for the loan from bank one, you will arbitrage 0.5%

• Which bank would experience a surge in the demand for loans? Which bank would receive a surge in deposits?

Ans: Bank one for loans and Bank Enn for deposits

• What would you expect to happen to the interest rates the two banks are offering?

Ans: Both the banks will match each others offering to avoid this arbitrage.