Suggesting Alternative Methods of Funding for AB Plc

This document suggests four alternative methods of funding for AB Plc and critically discusses the reasons behind each method. It also explores the suitability of these funds and the factors to be considered in raising debt or equity funds. The document is relevant for MBA-Financial Analysis and Management course.

Running head: MBA-FINANCIAL ANALYSIS AND MANAGEMENT
MBA-Financial Analysis and Management
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1MBA-FINANCIAL ANALYSIS AND MANAGEMENT
Table of Contents
Introduction:....................................................................................................................................2
1. Suggesting 4 alternative methods of funding to the boards of AB Plc debating critically the
reasons behind each of these methods of funding:..........................................................................2
1.1 External source of finance:........................................................................................................2
1.2 Stating about the external equity funds and debt funds:............................................................3
1.3 Suggesting the ways in which AB Plc may raise the funds from external equity:....................3
1.4 Suggesting the ways in which AB Plc may raise the funds from external debt:.......................4
1.5 Discussing the general factors to be considered in raising either debt or equity funds:............5
2. Critical discussion on the suitability of such funds:....................................................................7
2.1 Internal factors:..........................................................................................................................7
2.2 External factors:.........................................................................................................................8
3. Critically discussing the link between the above financing decision and investment decision
relating to the acquisition of the unlisted company:........................................................................9
3.1 Discussing the impact of financing on cost of capital:..............................................................9
3.2 Discussing the use of WACC in investment appraisal:...........................................................10
3.3 Critically analyzing the link between the debt finance, WACC and NPV:.............................11
3.4 Providing the relevant recommendations:...............................................................................11
Conclusion:....................................................................................................................................12
Reference and Bibliography:.........................................................................................................13

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Introduction:
The overall assessment aims in detecting the appropriate source of finance, which can be
used by the organisation for acquiring the unlisted company. There are different sources of
finance, which can be used by the organisations for supporting their operations and reducing the
negative impact on their productivity or exposition. In addition, there are different levels of
finance source, which can be used by the organisation at appropriate time for improving their
operations. The detection of different finance source provides the management with adequate
information regarding the opportunities, which can be grabbed for increasing their growth in the
long term.
1. Suggesting 4 alternative methods of funding to the boards of AB Plc debating critically
the reasons behind each of these methods of funding:
1.1 External source of finance:
The sources of finance can be both internal and external, as and when required by an
organisation. Moreover, sources of finance are able to segregate under three segments such as
short-term finance source, medium-term finance source and long-term finance source. The
different segments of the finance source have relevant significance and support alternative needs
of the organisation to support its operations. In addition, the assignment of finance source is also
segregated on the basis of interest rates, where the shorter finance options have higher interest
rates in comparison to other segments (Yazdanfar and Ohman 2015). Hence, AB Plc can

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adequately use the identified source of finance for supporting the acquisition of an unlisted
organisation.
1.2 Stating about the external equity funds and debt funds:
There are different sources of finance that can be used by AB Plc for acquiring the
required funds for acquisition process. In this context, Wamser (2014) mentioned that detection
of appropriate source of finance mainly allows the management to make prompt decision for
raising the required funds and support their operations. The management can use four distinct
method of finance to supports its operations. Issuing of equity shares, Debentures or bonds,
Loans from banks and financial institutions, and lease financing are identified as the four major
source of finance that can be used by the management of AB Plc for gathering the required funds
for the acquisition of the unlisted company. On the other hand, Ding, Liu and Wu (2016)
criticises that selection of wrong source of finance can increase the debt exposure of the
company, which in turn can have negative impact on their actual income from operations.
1.3 Suggesting the ways in which AB Plc may raise the funds from external equity:
The right issue of equity shares is considered to be one of the major sources of finance,
which can be used by AB Plc for acquiring the required funds for their operations. However, the
current capital structure of the company indicates that the management has only used equity
share capital for conducting its operations until now. Hence, using the equity share price for
future capital requirements can directly have impact on its overall share price values. The offer-
for-sales will directly increase the number of shares in the stock market, while the current
demand being stable. This would only lead to a decline in the overall share price value of the

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organisation, which in turn can have negative impact on the capital acquisition process. Eisfeldt
and Muir (2016) revealed that share capital is one of the major sources of finance that can be
used by companies only when huge capital investment is required and the management does not
want to increase their current debt levels.
1.4 Suggesting the ways in which AB Plc may raise the funds from external debt:
The second option that can be used by AB Plc is the issue of debentures or bonds, which
can help in acquiring the required level of funds for the new acquisition of the unlisted company.
In addition, the issue of bonds and debentures are mainly conducted in different forms, where he
bond is issued with fixed interest rates, while debentures can be converted to equity shares after
certain amount of payment conducted to investor. The financial performance of the organisation
is mainly dependent on the finance cost, which can be increased by raising the issues of
debentures and bonds. Fenton et al. (2014) argued that the issue of debt directly raises the level
of finance cost for the organisation, where financial performance can be hindered due to high
cash outflows.
Hybrid instruments are considered to be one of the sources of finance that allows the
organisation to gather the required funds for supporting their operations. Financial institutions or
FDI who mainly require relevant assurance from the company to provide the funds for their
acquisition process mainly provides these hybrid instruments. The financial institutions before
providing the required loans for their investment desires mainly evaluate the financial
performance of the organisation. Hence, assures of the loans from financial institutions is not
always viable, as they require the organisation to generate higher returns, which needs to be
backed by adequate financial assets. Overesch and Wamser (2014) mentioned that loan from

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financial institutions is considered to be a risky endeavour, as the company needs to provide the
relevant financial assets as security, while interest payments are high. Hence, AB Plc limited
should not choose the financial institutions option for their source of finance, as it would directly
increase the level of interest payments and raise concerns for the actual solvency position of the
organisation.
The Hybrid instruments are a finance source, which can allow AB Plc to gather the
required funds for their acquisition process. In addition, bank loans can be used by the company
with no kind of securities, which can increase the level of debt exposure of AB Plc. Therefore,
the actual loan requirements are 25% of the company’s current market capitalisation, which will
increase the actual financial cost from bank loan and hamper its current financial trajectory.
Therefore, AB Plc should not consider the Hybrid instruments for the acquisition process, as it
could increase their chance of insolvency and hamper the financial performance (Florackis,
Kanas and Kostakis 2015).
1.5 Discussing the general factors to be considered in raising either debt or equity funds:
The critical debating of the main reasons behind factors to be considered in raising either
debt or equity funds are depicted as follows.
Dilution of Control:
The issue of equity will have direct impact on the control structure of the management,
which increases the number of shareholders in an organisation. This increment in number of
shares and shareholders will directly affect the management making relevant decisions. In
addition, the shareholder with the controlling power can directly rule the relevant decisions for

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AB plc, which can be problematic for the organisation to thrive in the current financial market.
Delusion of control will directly affect the controlling power of the management and negatively
affect current operational conditions of AB plc. wood directly not have negative impact on the
overall control factors of the management, as finance will only be gathered from debt issue.
McLean and Zhao (2014) argued that increasing number of equity finance exposure could
directly affect the overall management control on the decision making process of an
organisation.
Issue cost:
Thus, the share issuing can reduce the share price value of the company, which does not
allow the management to gather the required funds for the acquisition process. Therefore, the
management needs to neglect the issuing of new shares for adequately gathering the required
funds to acquire the unlisted organisation. On the contrary, Coleman, Cotei and Farhat (2016)
argued that share issue is only successful when the organisation is able to acquire the required
funds without hampering their current share price value. The actual amount required for
acquisition of the unlisted company is 25% of the current market valuation of AB Plc, where
using the equity finance position can directly hamper the actual share price valuation of the
organisation and reduce its overall share price. Hence, the issue cost of the equity is high, which
in turn can hamper the current market capitalisation and reduce derive their share price down.
Security:
AB Plc ltd can issue the debenture for acquiring the required funds for the acquisition
process, which can raise the level of debt for the company. The status of the debt for AB Plc is
nil, as depicted in the case study, where the company is relying only on equity finance.

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Therefore, issuing debenture with adequate conversion period can allow the company to raise the
required capital, which can help in acquiring the unlisted organisation. Cole and Sokolyk (2018)
stated that with the inclusion of debentures the organisation’s overall debt exposure increases
until it is converted to equity share. Hence, during the stipulated time of the debentures the
company must fix relevant payments to the investors, which increases the finance cost.
Moreover, AB Plc can use the debentures for gathering the required funds for their investments,
as it will fix the interest payment for only specific period, whereas after the completion of the
stipulated period the debentures will be converted to equity shares. Hence, providing appropriate
security to the company for continuing its operations
Duration:
In case of durations, AB Plc needs to repay the loan amount after the stipulated period,
which will increase their level of cash flow. The issue would directly raise the level of interest
payments that needs to be conducted by the company over the tenure with an actual repayment at
the end. The company is in the construction of residential property, while the actual risk is high.
This high risk will lead to the reduction in credit rating, which in turn will raise the level of
interest rates that needs to be paid to the investor. Hence, debt issue can be more problematic for
the company in the long run, as they must maintain constant finance cost on yearly basis and a
heft cash outflow at the end of the bond tenure.

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2. Critical discussion on the suitability of such funds:
2.1 Internal factors:
The current situation of AB Plc directly indicates that the company has been using the
equity finance for supporting its operations, while no information regarding the current debt
composition is provided. Consequently, the financial performance of the organisation is mainly
depended on the capital composition, where higher debt accumulation can raise the finance cost,
which in turn hampers the financial performance of the company. This information has directly
indicated that the current financial requires of the company is dependent on only equity. Hence,
further acquisition of the capital through equity method can directly affect its share price value.
Capital market identifies the share value on the basis of the current valuation of an organisation
and the increment in the supply of share will directly reduce its share value. The current internal
factors the organisation is considered adequate, as there is no presence of gearing levels, as the
organisation is mainly dependent on equity Finance (Hutton, Peterson and Smith 2014). Hence,
the acquisition of equity will not have negative impact on the overall capital structure of the
organisation. On the other hand, the debt composition will have direct impact on the overall
gearing value of the organisation. Moreover, this would directly alter the trajectory of the
company perform, as it cannot be aligned with past financial performance. The organisation does
not have any debt covenants, which in turn reduces the occurrence of insolvency condition.
Therefore, after acquiring the required debt the overall gearing ratio of the company will change,
where insolvency.

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2.2 External factors:
The current economic climate is considered to be appropriate for organization and new
projects, as the construction industry is boosting from the soring price of the housing market.
The residential property market is relatively arising due to the demand from customers in
Australia. Currently in Australia construction of residential property are considered to be
booming, where the practice of negative gearing has increased the prices of the housing market.
Hence the economic push could eventually allow AB plc to improve its operations and generate
high level of income from the new acquisition. The current market sentiments regarding
construction companies and REIT in Australia are relatively positive, which can directly have a
positive impact on the profits of AB plc. Lastly, the interest rate movement in the current
Australian economy is also minimal, where low interest rate loans can be provided to the
organization, which in turn can reduce the level of finance cost (Belo, Lin and Yang 2014).
3. Critically discussing the link between the above financing decision and investment
decision relating to the acquisition of the unlisted company:
3.1 Discussing the impact of financing on cost of capital:

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There is relevant impact on the cost of capital of the organization due to the changes in
their current financing measures. The cost of capital of an organization is directly calculated with
the help of weighted average cost of capital, which comprises of different capital combination
that is used by the organization. The weighted average cost of capital Comprise of Equity,
preference shares, debentures, bonds and other source of finance. Therefore, changes in the
current financing option of the organization will directly alter the actual cost of capital, which is
being used by the company to support its future plans. The current financing cost of AB plc
mainly comprises of expeditious, where the company only maintains equity financing to support
its operations (Fatoki 2014). Therefore, changes in the current financing cost can alter the
WACC value of the organization. Moreover, companies acquiring high interest rate debt could
sharply increase their WACC values, which will force the company to accept only projects that
provide higher returns from an investment. Hence, the finance that is used by the company to
comprise their current capital is directly linked to its weighted cost of capital.
3.2 Discussing the use of WACC in investment appraisal:
Weighted average cost of capital is considered to be one of the major components that are
used by organization during the investment appraisal process. Weighted average cost of capital is
the overall expected returns that need to be provided by the company to support its financing
cost, which stone is used to increase the growth factor of an organization. The investment
appraisal technique directly uses different levels of calculations such as internal rate of return,
discounted payback period, net present value and profitability index, which needs an adequate
WACC value to detect whether the new projects return are in lieu with the organization. Hence,
the use of weighted average cost of capital can allow the organization to select projects, which

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comply with current financing cost and generate higher returns. The selection process eventually
allowed the company to maximize the level of profits from its operations and support the
financing cost. In the similar contacts, AB plc used to evaluate the current company by using the
investment appraisal techniques, which can allow the company to detect whether the initial
investments would be fruitful in the long run. On the other hand, Javakhadze, Ferris and French
(2016) argued that cash flows from the project needs to be researched adequately while the
WACC should also include inflation rate for detecting the returns that would be generated from
an investment.
3.3 Critically analyzing the link between the debt finance, WACC and NPV:
The case study directly provides information regarding the current capital structure of AB
plc, where the organization can acquire debt to support its acquisition process. The use of debt
would directly diversify the WACC value of the organization, which is solely dependent on
equity financing. The use of low cost finance from debt could reduce the actual finance cost of
AB plc, which might allow the management to acquire additional investment options to increase
their returns. Furthermore, the use of debt capital would also reduce the actual tax on cash
outflows, which is conducted through dividend payments. Hence, the organization can minimize
the tax expenses by acquiring debt instead of equity capital. There is an adequate link between
the debt finance, WACC and NPV, which directly allows the organization to make adequate
investment decisions (Zhang 2015). The debt finance relevantly comes with tax exemptions,
which is used in the WACC calculations. Moreover, the WACC value that is derived after the
acquisition of debt financing directly reduces the actual cost of capital of an organization, which
is then used in the NPV calculation to detect the viable investment options. In the similar

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process, AB plc needs to acquire the unlisted company by using debt financing, which will
reduce the actual cost of finance and allow the management to consider more projects for
investments.
3.4 Providing the relevant recommendations:
After evaluating the different financing options that was presented to AB plc, it could be
identified that the use of debt financing could be more financially viable for the organization.
The organization could use external long term debt funds such as, debentures, loan stock,
redeemable preference shares and hybrid instruments. The identified external long term debt
would directly allow the management to minimize the current financial cost of an organization
and reduce the total finance cost and cash outflows. The use of debt financing would directly
reduce the level of expenses and cost of capital for the organizations, which would allow the
management to intake more projects to increase their financial performance in the long run
(Schwienbacher, Baker and Welter 2015). Therefore, the use of debt financing might allow the
management to acquire the relevant unlisted organization in their current operations and increase
their profitability in the long run. The debt finance would also reduce the cash outflows in form
on dividends and tax that was being paid by the organization in previous financial years.
Conclusion:
The overall assessment mainly evaluates the financing requirement of Ab plc, who
intends to acquire an unlisted organisation. Hence, the management of AB plc could use debt
financing to support its operations, as it might help in minimising the financial cost and improve
cash outflows of the organisation. The debt financing comes with relevant benefits, which was

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previously not enjoyed by Ab plc. Hence, external long term debt funds such as, debentures, loan
stock, redeemable preference shares and hybrid instruments can be used by the organization.

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