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Sources of Finance and Acquisition Proposal for Newton Co

Added on -2019-09-21

This report discusses the short-term and long-term sources of finance available to a business involved in the design and development of tools and parts for specialist machinery. It also provides a generic outline of an acquisition proposal and evaluates the proposals facing Newton Co. The report includes estimates of the current value of a Newton share, percentage gain in value to a Newton Co share and a Mille and Co share under each payment offer, and the likely reaction of Newton Co and Mille and Co shareholders to the takeover offer.
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HIGHER EDUCATION ASSESSMENTSchool:Professional StudiesAwarding Body:Lancaster UniversityModule Code:BFM502Programme Title:FdA in Business and Financial ManagementOccurrence:2016/17Module Title:Financial ManagementWeighting:50%Assessment Title:Written reportAssessment No.1 of 2Tutor DetailsNameDavid RobinsonTelephone Verification (IV)For Staff Use OnlyAssessment Brief IVMust be internally verified prior to distribution to studentsIV Name:Toby WeymouthDate:3 October 2016Student Submission IVTo be completed if the assessment submission forms part of the IV sampleIV Name:Date:Distribution Date:10 October 2016Submission Time:23.55 hrs.Submission Date: 13 November 2016Submission Point/Location:Upload to MoodleFeedback Week Commencing:28 November 2016Student Number:Student Name:Assessment RecordFor Staff Use Only. All assessment grades are subject to ratification by the College board of examiners and the awarding body.GradeAwarded:Submitted: On Time Late ___ days (days NOT working days)Date:Penalty:Page 1 of 6
Assessment BriefRequired:Prepare a report for the Board of Directors of Newton Co that:(a)Identifies and discusses both short –term and long-term sources of finance available to a business involved inthe design and development of tools and parts for specialist machinery;Any company needs loan to leverage (Bouchoud, 2001)its finances. There are mainly two types of finances. Longterm finance and short term finance. Generally long term finance is used to procure long term assets which areincome generating. For eg to purchase plant and machinery, office equipment, furniture and fixtures, office buildingetc. These are spread over long period. Generally the finance provider offers a moratorium period for few negotiatedmonths in order to give an additional space for the company to incur initial expenditures without generating anyrevenue. Second type of loan is short term in nature. They are generally meant for meeting short term liquidity orworking capital requirements. These are generally against the hypothecation of stock and book debts of thecompany (LaPray J, 2002). Short term finance are generally for a tenure upto 3 years and long term are more than 3years.Loan repayment has a thing to do with the Liquidity (Pastor et al, 2001)of the Company. A profitable company hasgood profit margins from the business. However, its cash richness or liquidity can be judged from the Short termLiquidity ratios. The fast movement of stock and receivables provide fund to repay the suppliers / creditors oroutside liabilities. The banks provide short term working capital term loans with the sole criteria of checking the cashflow statement of the company for the defined period of loan tenure. A good turnover with low operating costs doesnot imply that the company has good realizability of money from the outstanding receivables. If the Company wishes to go for the option II, i.e. to enter into a new venture of developing a prototype, then theCompany can leverage its finances with the help of external borrowing. In my opinion Foreign investors are cheaperthan the locally available options in the market. The Company should try to get a deal from foreign investor who is ina country with lower interest rates than the company’s residence country. The supplier of machinery can also extend finance to the company which is another type of credit availment. Thebest way to bring in money is own borrowing which are absolutely risk free. If the promotors have cash balance intheir personal name, then they should insert more capital into the balance sheet and increase their promotorholding and control in the decision making. They can also increase shareholding by adding few of their friends whoare trustworthy and work with the same wavelength as that with the existing shareholders who are promotors. Bythis way, the money remains with the management and so does the control.(b)Provides a generic outline of an acquisition proposal; andAcquisition proposal (Goyal, 2012)is a generally an official to by a purchasing company to purchase a Sellingcompany. The same is done with a mutually agreed purchase consideration (Harris, K., Davies et al, 1997).Acquisitions / mergers and demergers happen for the purpose of getting a synergy effect in the industry. It boostsrevenue or reduces operating costs as compared to the aggregate of both the company. The strengths multiply andweaknesses get divided on the transaction of an amalgamation / acquisition / merger.In the given situation, Mille and Co, which is the proposed buyer / investor has 10 million shares in issue. The sharesare available for a trade at £4·80 each. The company’s price to earnings (P/E) ratio (Ou et al, 1989) is 15. More over,It has sufficient cash to pay for Newton’s (the selling company) equity and a substantial proportion of its debt,Page 2 of 6
believing that this will enable Newton to operate on a P/E level of 15 as well. In addition to this, Mille believes that itcan find cost-based synergies of £150,000 after tax per year for the foreseeable future. Mille’s current profit after taxis £ 3,200,000.In the given case, if Miles and Co purchases the shares of the Newton and Co, it will be amalgamation in the nature of absorption. Where the selling company gets absorbed in the main holding company – purchasing company. The company newton and Co must take a wise decision if it wants to amalgamate in this manner as there are chances of loosing its own identity in the market.(c)Considers and evaluates the proposals facing Newton Co, particularly providing: (12 marks)(i)Estimates of the current value of a Newton share, using the free cash flow to firm methodology; Calculation of Discounted Cash flow of Newton and CoYear Profit After Tax DepreciationCash PAT Annual Working Capital Net IncomeDiscountFactor @ 11%PresentValue 06201206182610108161.00081612283101012730.909115722853101018430.826152333566101025560.751192144458101034480.683235555573101045630.6212833Net Present Value 10605Cash Profit after tax is derived by adding 25% Growth factor. Net income is derived by deducting annual workingcapital investment from the Cash Profit after tax. Discounting Factor (Takahashi 2006) of 11% is the expected rate ofreturn. The present value is a multiplication of Discounting factor and net income. According to the abovecalculation, the net present value is 10605000/- with a horizon period of 5 years. We have assumed to project life of 5 years as horizon period. (ii) Estimates of the percentage gain in value to a Newton Co share and a Mille and Co share under each payment offerAs per the given problem sum, Newton’s earnings before interest and tax in its first year of operation without theamalgamation was £970,000. The same has been growing steadily in three years, to their current level. As furtherexplained, the cash flows grew at the same rate as well. However, the Company projects annual growth to reduce to25% of the original rate for the foreseeable future. Newton currently has a cost of debt of 7% per year on its loans,which is 3.8% higher than the government base rate, and corporation tax of 20% on profits after interest. Newtonand Co estimates that an overall cost of capital of 11% is reasonable compensation for the risk undertaken on aninvestment of this nature. In arriving at the profit after tax figure, Newton deducted tax allowable depreciation (Darret al, 1995) and other non-cash expenses totalling £1,206,000. Mille and Co has 10 million shares in issue and these are trading for £4·80 each. Mille and Co’s price to earnings(P/E) ratio is 15. It has sufficient cash to pay for Newton’s equity and a substantial proportion of its debt, believingthat this will enable Newton to operate on a P/E level of 15 as well. Mille’s current profit after tax is £3,200,000. The problem is silent on the terms of payment and purchase consideration and its corresponding effect on GoodwillPage 3 of 6

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