MGB305 Accounting and Finance : Project Investment

Introduction

The assignment discusses on investment proposal and capital structure of the company to assess the financial stability of the firm. The report covers different methods of capital budgeting techniques which are used to make a decision of acceptance of any project. It also highlights on maximizing of shareholders value by capital structure.

Part A 

Workings:

Annual sales for first year = $1,445,000 or $1.145 million

Annual expenses for 1st year $(900,000+ 210,000+ 46,000+ 25,000) = 1,181,000 or $1.181million

Revenue: increase 10 %

Expenses: 6% of 1,181,000= 1251,860

Depreciation = 1,650,000- 100,000/8= $193,750 or $0.19 million

Salvage value= $100,000-(100,000x 0.30) = $70,000 

Worst case (units in millions)

Best case (units million)

Payback period

Base case

Payback period formula= Initial Investment/Cash Inflow per Period

Payback period= 4+ (0.35/0.49)

= 4+0.71= 4.71 years

Worst case

Payback period: In this case, the investments incurred gets negative value which represents that company might incur a huge loss on investments. In the third year, the income becomes and cash inflow stops within the company. Therefore, a shortfall of cash invested is difficult to recover from the company.

Best case

Payback period

= 3+ (0.52/0.69) = 3+ 0.75= 3.75 years

Discounted payback period 

Base case

Discounted Cash Inflow = Actual Cash Inflow/ (1 + i)n

Discounted payback period= 7 + (0.071/0.259)= 7.27 years

Worst case

In this scenario, the discounted payback period cannot be calculated due to shortfall of cash inflow.

Best case

 Discounted payback period= 5+ (0.029/0.463)= 5.06 years

NPV 

Base case

Total PV of cash flow: $1.838

Initial investment: $1.650

NPV= Total PV value- initial investment

NPV = 1.838-1.650 = $ 0.188 million

Worst case

NPV: 1.650-0.421 = $ 1.229 million

Best case

Total PV of cash flow: 3.132

Initial investment: 1.650

NPV = 3.132 -1.650 = $1.482 million

Profitability Index (PI)

PI= 1+ (NPV/Initial Investment)

Base case: 1+ (0.188/1.650) = 1.11

Worst case: 1+ (1.229/1.650) = 1.744

Best case: 1+ (1.482/1.650) = 1.898

• Besides worst case and best case projections, the company can opt for other capital budgeting approaches such as ARR, IRR which helps in comparing the profit earned rather than on cash flows. Unlike payback period it does not consider the time value of money involved. On the other hand, the techniques like IRR can also use to estimate the future cash flow which also actuates the projects managers to attain the efficinecy  of capital invested into the projects. It considers the time value of money and takes into total cash inflows and outflows to measure the profitability test and return on investment. Thus, the capital budgeting techniques not only serves for knowing the risk factor but also assist in comparing short terms profit in different project investment done by business.
• Based on NPV and Payback period, the Base case and Best case give positive sign on acceptance of the proposal. Out of two scenarios, the best case is observed to have better profitability and early return on investment i.e. 3.75 years and NPV is $1.482 million (positive).   A project is accepted if the NPV is the positive and   lower value of payback period. Therefore, considering both the methods, the proposal on the best case can be accepted.

Part B

• A capital structure is made of debt and equity capital. The debt to equity ratio measures amount of borrowing vise shareholders funds in the company. In annual report 2016 of APO, the total debt to equity ratio is 38.14 or 0.38. A low ratio figure shows that firm is financially  strong with accumulation of assets to bear the risk in future. APO‘s capital structure is within the range of 0.6 which indicates that company is able to generate wealth for its shareholders.

WACC calculation

Tax rate = 30%

Cost of debt: 2.06% (1- 30%) = 0.014 or 1.4 4%

Cost of Equity: risk free return+ beta (market return- risk free rate)

2.4%+ 1.3(7%-2.4%)

= 8.38%

WACC= Cost of equity x cost of debt

WACC after tax = 0.50(1.14) + 0.50(8.38)

= 4.176%

• APO debt to equity ratio is 0.38 and its competitors named Enero Group Ltd has 0.031 which means that company Enero ltd is financial more strong due to lower total debt to equity ratio compared to APO. This indicates that company liquidity position and currents assets are sufficient to meet its regular expenses which prevent the firm for borrowing of funds from the market. Therefore, Enero group has better capital structure than APO.
• Other ratios of APN are a total debt to total capital ratio is 27.61 or 0.27 which measures the dependdencys on debt to finance its day to day activities of business. Higher the ratio greater is a risk for the business. The debt to capital ratio is less than 1 which means debt is manageable and it's less risky for firm to  take a loan or invest their money. Another ratio i.e. debt to total asset an indicator of financial leverage. It tells about total assets that were financed to pay creditors. APN has 22.75 or 0.22 which indicates that company is having sufficient assets to pay off its liabilities.
• There is no significant changes, however slight decrease in total debt and and increases in total assets are observed in the year 2016 which has strenthened the financial capacity to bear risk in future.
• In past three years, the firm has been able to attain considerable return on equity and net margin  to 14.64. The total debt has reduced in past three year to 102.68 million.  On the other hands shareghoders equity has increased to 269.20 million which shows increased in return to shareholder thereby maximising their wealth.
• It is impotant to minimise cost of capital for firms so as to to fulfil the expectations of sahrehodkers and investors by earning enough revenue to keep the market value per share unchanged and increased price of market share will give adequate return.
• It is recommended that company can adopt Net present value as capital structure that will require lower cost of capital to estimates retrun on investment and take decision for projects .

Conclusion

To conclude, the report gives a glimpse of  capital budgeting techniques and capital structure methods helps the projects managers in taking decisions on investment proposal and estimates their return on investment. Therefore, the above analysis helps the managers to take correct decisions to fulfill their investment needs.

Bibliography

Capital-Investment. (2017, Sep). Capital Investment Appraisal / Appraisal Techniques. Retrieved Sep 2017, from https://www.capital-investment.co.uk: https://www.capital-investment.co.uk/capital-investment-appraisal.php

Agriculture and Consumer Protection. (2017, Sep). Investment decisions - Capital budgeting. Retrieved Sep 2017, from https://www.fao.org: https://www.fao.org/docrep/w4343e/w4343e07.htm

APN Outdoor Group Limited . (2016). 2016 Annual Report. Retrieved Sep 2017, from https://investors.apnoutdoorcorporate.com: https://investors.apnoutdoorcorporate.com/Investor-Centre/?page=Financial-Reports

Tijdhof, L. (2017, sept). WACC: Practical Guide for Strategic Decision-Making – Part 1. Retrieved sep 2017, from https://zanders.eu/: https://zanders.eu/en/latest-insights/wacc-practical-guide-for-strategic-decision-making-part-1/

VAIDYA, D. (2017, Sep).Capm Beta – Definition, Formula, Calculate Beta In Excel. Retrieved Sep 2017, from https://www.wallstreetmojo.com: https://www.wallstreetmojo.com/capm-beta-definition-formula-calculate-beta-in-excel/

WSJ. (2017, Sept). APN Outdoor Group Ltd. Retrieved Sep 2017, from https://quotes.wsj.com/: https://quotes.wsj.com/AU/XASX/APO/financials

WSJ. (2017, Sep). Enero Group Ltd. Retrieved Sep 2017, from https://quotes.wsj.com: https://quotes.wsj.com/AU/XASX/EGG/financials