Investment Analysis for Leeds Ventures

This assignment presents a case study where a company needs to decide whether to invest in Leeds Ventures or another available alternative. Students must apply various financial concepts, like payback period, net present value, and internal rate of return, to evaluate the investment opportunity. The analysis should consider information asymmetry and the costs of capital, drawing upon relevant academic sources and online materials.

BUSINESS FINANCE

TABLE OF CONTENTS
PART 1............................................................................................................................................1
I. a. Meaning of profit and cash-flow along with difference..................................................1
I. b. Meaning of working capital and its components............................................................1
I. c. Ways by which fluctuations in working capital influence cash-flow.............................2
II. Application of the above terms using hypothetical figures...............................................2
III. Analysing as well as recommending steps which should be taken GRL company for
managing cash flow................................................................................................................3
PART 2............................................................................................................................................4
I. a. Meaning of capital budgeting, its purpose and key stages of procedure.........................4
I. b. Evaluating three capital budgeting techniques................................................................5
II. Applying the above concepts using hypothetical data.......................................................6
III. Analysing and suggesting one project..............................................................................9
REFERENCES..............................................................................................................................10

PART 1
I. a. Meaning of profit and cash-flow along with difference
A financial earning which generated by the firm or difference among amount earned as
well as spent on several business activities is considered as profit. Higher the amount of profit at
the workplace is highly beneficial for every firm including GardenRite Limited enterprise.
Amount which reflects difference between specifically two values which are like cash
incomes and cash payments is known as cash-flow in financials (Fazzari and Papadimitrio,
2015). Lower the amount of this aspect shows that firm has low liquidity position in the industry.
Amount of profit is computed on the yearly or half yearly basis at the workplace of every
entity whereas calculation of cash flow is performed on monthly or half yearly basis. Profit is
used by both internal and external stakeholders of the GRL while cash flows taken into account
by only internal stakeholders. Using profit, the management of cited organisation can make
decisions for providing dividend to shareholders whereas cash flow helps to make investment
and funding judgements. In addition to this, profit reflects outline of financial performance of an
enterprise in the industry while cash flow shows only liquidity or cash condition.
I. b. Meaning of working capital and its components Working capital: An amount which is used in the firm for day-to-day activities and
trading is known as working capital. It is calculated using particular formula which is
WC = current assets – current liabilities. Those contents which are relied under current
assets like cash, stock, accounts receivables, debtors etc. are included in this aspect
(Johnson, McLaughlin and Haueter, 2015). On the another side, each and every
component of current liabilities which involve short-term loans, accrued liabilities,
accounts payables etc. taken into account. Further, it has major three elements which are
described below: Receivables: Sum of money which will be received by the firm in next years or after
some months is considered as receivables. This amount will be paid by those customers
who purchased products and services from GRL on credit rather than cash.
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 Inventory: Goods and services or any other assets which are not sold in current year and
remained at the workplace is known as inventory. In each enterprise there are two kinds
of stock available which are like closing and opening.
 Payables: Sum of money which is owed by an organisation and will be paid to its
suppliers or creditors after some times is known as payables (Wilson, 2016). It can be in
form of short-term debts, purchase of raw materials etc.
I. c. Ways by which fluctuations in working capital influence cash-flow
Working capital is difference of two values i.e. current assets and current liabilities which
create positive and negative impact on the GRL's cash flows. There is highly direct relationship
between both the terms of finance which are like cash flows and working capital. Due to
increasing in working capital of the entity, cash flows will also enhance. The reason is that, when
cash assets enhance and cash liabilities will reduce then amount of working capital will be
affected in positive direction. This specific term clearly reflects that cash inflows will enhance as
compared to the cash outflows. Ultimately, amount of cash flows will improve which is positive
indication to boost up overall financial performance.
On the other side, due to increase in current liabilities and decline in current assets
working capital will be affected negatively. As per the direct or positive relations among these
both the aspects it can be said that, cash flows will reduce in the company (Keasey, Pindado and
Rodrigues, 2015). Higher the value of working capital and cash flows is beneficial for every
enterprise.
II. Application of the above terms using hypothetical figures
In order to perform computation of working capital there are some components of current
assets and current liabilities are taken into account. Further, it majorly relies on three aspects
which are like receivables, payables as well as inventories. Figures used to make calculation of
WC are hypothetical (Macve, 2015). Moreover, application of the above stated elements and
working capital is stated below:
Particulars Amount
Current assets
Cash 80000
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Accounts receivables 22500
Inventories 45200
Total current assets (A) 147700
Current liabilities
Accounts payables 45000
Short-term loans or borrowings 28500
Accrued liabilities 35000
Total current liabilities (B) 108500
Working Capital (WC) (A – B) 39200
III. Analysing as well as recommending steps which should be taken GRL company for
managing cash flow
In order to enhance cash-flow in the business of GRL it is necessary to increase amount
of working capital. The reason is that, this aspect majorly depended upon WC and for this
management of GRL should work upon WC. Further, some ways which will help to improve
cash-flow are suggested below:
 The company should ensure that its all the debt amounts or obligations paid on time. The
reason is that, higher the time of loan will impose financial burden which leads to decline
cash position.
 Management of GRL requires selecting a supplier among two or more who offers highly
attractive schemes and discounts (Cassar, Ittner and Cavalluzzo, 2015). It will support to
manage amount of purchasing raw materials and account payables. Resulting is that WC
will enhance and cash-flow as well.
 The firm needs to manage level of stock and apply those strategies which support to
reducing total inventory at the workplace of GRL.
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 At the time of making expenses it should analyse fixed and variable costs. If any of the
expenditure seems high and unproductive then can be reduced which is indication of
enhancing cash position in GRL.
 Management should analyse financial information or transactions within very short
period of time. It will help to decline unnecessary costs and enhance working capital
(Kumaran, 2015).
 At the end, GRL needs to apply attractive marketing strategies which will support to raise
sales revenue and cash position.
PART 2
I. a. Meaning of capital budgeting, its purpose and key stages of procedure
A planning procedure which is considered by an enterprise in order to analyse and
evaluate long term investments at the workplace which are like machinery, purchase of property
or plant, etc. is known as capital budgeting. Due to helping in investment decisions at the
working environment, it considers as investment appraisal techniques as well (Capital
Budgeting, 2015). It consists of various tools like NPV, IRR, payback period, ARR, profitability
index, etc.
Purposes or objectives of capital budgeting are stated below:
 In order to assess profitable capital expenses of the project, this is an essential aspect.
 To determine that whether replacement of existing machinery will give higher profit as
compared to previous or not.
 For selecting and implementing one project among two or more simultaneous in GRL
firm, it is one of the best approaches.
 To identify financial resources, needed in capital expenditure. For evaluating one of the best projects and decide to implement at the workplace.
Process of capital budgeting:
 Identifying one of more projects as well as generation.
 Screening and then evaluation of projects after applying tools and methods of capital
budgeting (Johnstone, 2015).
 Selection of one project which has the highest NPV, IRR, ARR and lowest payback
period.
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 Implementation at the workplace of GRL Company.
 Reviewing performance of the project after completing investment years.
I. b. Evaluating three capital budgeting techniques
Payback Period
A method which helps an entity for determining years or period in which total amount of
initial investment will be recovered is known as payback period. For performing computation of
this, firstly, cumulative cash flows are calculated and then formula is applied i.e.
Payback period = Investment required / Net annual cash flow
Advantages:
 It is a very simple method to make calculations.
 Easy to make analysis and interpretation of computations.
 One of the important indicators of cash position of liquidity of specific project
(Advantages And Disadvantages Of Pay Back Period (PBP), 2012). It is highly cost effective or cheap method.
Drawbacks:
 It does not consider the time value of money.
 It ignores cash inflows which are occurred after the payback period.
Net Present Value
NPV represents current value of the present investment which will be incurred after
completing project. On the basis of this, decision for investing money is taken in a proper way.
Formula to compute NPV of project is stated as below:
Benefits:
 It considers time value of money and gives higher importance to this.
 It uses both cash inflows i.e. before and after the project's life.
 Risks and return or profitability; both these aspects are to be given with higher priority
while computing NPV of project (Keythman, 2016). It helps to enhance or maximise value of firm i.e. GRL.
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Drawbacks:
 To use and implement, NPV is difficult.
 If the projects have not same life and initial investment then not they are useful to make
comparison.
 Therefore, beneficial and profitable decisions cannot to be made.
Internal rate of return
The tool through which returns which will be generated at the end of project completion
and assess profitability of an investment is considered as internal rate of return (IRR). Formula
for performing calculation of IRR is stated as below:
Benefits:
 It is very simple to interpret and make analysis.
 It uses time value of money through which effective decisions can be made.
 In this, cost of capital or discounting factor is not needed. If needs to address discounting factor then analysts can take as per his or her convenience
(Akers, 2016).
Limitations:
 It includes little complex and tedious calculation.
 It does not consider the economies of scale while performing calculation.
 Not supportive to compare in between two or mutually exclusive projects.
II. Applying the above concepts using hypothetical data
Payback Period
Project 1: Leeds Ventures
Year Cash flow of project Cumulative cash flow
Initial investment £10000000
1 580000 9420000
2 900000 8520000
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3 1390000 7130000
4 1900000 5230000
5 2789000 2441000
6 3500000 -1059000
7 3850000 -4909000
8 4600000 -9509000
9 6500000 -16009000
Payback Period 5.7 years
Project 2: Bristol Ventures
Year Cash flow of project Cumulative cash flow
Initial investment £6000000
1 1700000 4300000
2 1136500 3163500
3 1385000 1778500
4 1565000 213500
5 1450000 -1236500
6 1720000 -2956500
Payback Period 4.1 years
Net Present Value
Project 1: Leeds Ventures
Year Cash flow of project Discounting factor @10% Present value
Initial investment £10000000
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1 580000 0.909 527273
2 900000 0.826 743802
3 1390000 0.751 1044328
4 1900000 0.683 1297726
5 2789000 0.621 1731750
6 3500000 0.564 1975659
7 3850000 0.513 1975659
8 4600000 0.467 2145934
9 6500000 0.424 2756635
Total present value 14198763
Initial investment 10000000
Net Present Value £4198763
Project 2: Bristol Ventures
Year Cash flow of project Discounting factor @10% Present value
Initial investment £6000000
1 1700000 0.909 1545455
2 1136500 0.826 939256
3 1385000 0.751 1040571
4 1565000 0.683 1068916
5 1450000 0.621 900336
6 1720000 0.564 970895
Total present value 6465429
Initial investment 6000000
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Net Present Value £465429
Internal rate of return
Project 1: Leeds Ventures
Year Cash flow of project
Initial investment £10000000
1 580000
2 900000
3 1390000
4 1900000
5 2789000
6 3500000
7 3850000
8 4600000
9 6500000
Internal rate of return 16.69%
Project 2: Bristol Ventures
Year Cash flow of project
Initial investment £6000000
1 1700000
2 1136500
3 1385000
4 1565000
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5 1450000
6 1720000
Internal rate of return 12.57%
III. Analysing and suggesting one project
On the basis of the above calculations, it can be analysed that, NPV of Leeds and
Bristol venture is worth of £4198763 and £465429 respectively where first project is beneficial.
In terms of payback period, second project is highly profitable as initial investment will be
recovered within 4.1 years only. Same for another project is 5.7 years where second is worth.
Considering to the IRR technique it can be said that Leeds and Bristol ventures has IRR value
16.69% and 12.57% respectively. Payback period method is less considered as compared to
another two which are taken into account. Hence, project one i.e. Leeds Venture will be highly
beneficial for the GardenRite Limited.
On the basis of this, it can be suggested to management of GRL that it should make
investment in Leeds Ventures rather than another available alternative.
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REFERENCES
Books and Journals
Cassar, G., Ittner, C. D. and Cavalluzzo, K. S., 2015. Alternative information sources and
information asymmetry reduction: Evidence from small business debt. Journal of
Accounting and Economics. 59(2). pp. 242-263.
Fazzari, S. M. and Papadimitriou, D. B., 2015. Financial conditions and macroeconomic
performance: Essays in honor of Hyman P. Minsky. Routledge.
Johnson, C. J., McLaughlin, J. and Haueter, E. S., 2015. Corporate finance and the securities
laws. Wolters Kluwer Law & Business.
Johnstone, D. J., 2015. Information and the Cost of Capital in a Mean-Variance Efficient Market.
Journal of Business Finance & Accounting. 42(1-2). pp. 79-100.
Keasey, K., Pindado, J. and Rodrigues, L., 2015. The determinants of the costs of financial
distress in SMEs. International Small Business Journal. 33(8). pp. 862-881.
Macve, R. H., 2015. Fair value vs conservatism? Aspects of the history of accounting, auditing,
business and finance from ancient Mesopotamia to modern China. The British Accounting
Review. 47(2). pp. 124-141.
Wilson, N., 2016. ESOPs: their role in corporate finance and performance. Springer.
Online
Advantages And Disadvantages Of Pay Back Period(PBP). 2012. [Online]. Available through:
<https://accountlearning.blogspot.in/2011/07/advanyages-and-disadvantages-of-pay.html>.
Akers, H., 2016. The Advantages & Disadvantages of the Internal Rate of Return Method.
[Online]. Available through: <https://yourbusiness.azcentral.com/advantages-
disadvantages-internal-rate-return-method-11831.html>.
Capital Budgeting. 2015. [Online]. Available through:
<http://www.edupristine.com/blog/capital-budgeting>.
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