Accounting and Finance Report: Capital Budgeting and Capital Structure

This report presents a detailed financial analysis in two parts. Part A evaluates capital budgeting decisions for Saturn Pet Care, comparing the Bathurst and Wodonga projects using NPV, payback period, and profitability index, also considering product cannibalization and sales budget estimations. Part B analyzes the capital structure of ARB Limited, calculating its WACC and assessing its financial performance through ratio analysis, comparing it to Modine Manufacturing, and evaluating efforts to maximize shareholder wealth. The report recommends strategies for determining an optimal capital structure and maximizing shareholder value, providing valuable insights into financial management and investment decisions. The report also includes an executive summary and a table of contents for easy navigation.

Running head: ACCOUNTING AND FINANCE
Accounting and Finance
Name of the Student
Name of the University
Author Note

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Executive summary:
This particular assignment is prepared in two sections with each section depicting two
different cases. There are two section that is part A and part B. Part A deals with the
evaluation of capital budgeting of two proposed projects that would be undertaken by Saturn
Pet care. Another case is about analysis of capital structure of ABR limited. The risk and
return of organization is evaluated by the implementation of CAPM.

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Table of Contents
Part A:........................................................................................................................................3
Capital budgeting analysis of Bathurst project:.........................................................................3
Capital budgeting analysis of Wodonga project:.......................................................................4
Importance of cannibalization of product in capital budgeting decision:..................................5
Estimation of sales budget and capital budgeting options:........................................................5
Analysis of original value of the vacant Wodonga factory:.......................................................6
Part B:.........................................................................................................................................6
Introduction:...............................................................................................................................6
Discussion:.................................................................................................................................7
Categorizing the capital structure of ARB limited:....................................................................7
Computation of after tax weighted average cost of capital:.......................................................8
Computation of appropriate level of return using CAPM:.........................................................9
Comparing the capital structure of ARB limited with that of Modine manufacturing company:
....................................................................................................................................................9
Analysis of financial performance of ARB limited using ratio:..............................................10
Changes in the capital structure of firm:..................................................................................12
Evaluating the firms’ efforts in maximizing the shareholder wealth:......................................13
Recommendation for determining alternative capital structure:..............................................13
Conclusion:..............................................................................................................................14
References list:.........................................................................................................................15

ACCOUNTING AND FINANCE
Part A:
Capital budgeting analysis of Bathurst project:

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Capital budgeting analysis of Wodonga project:
The above table depicts the computation of several capital budgeting techniques for
the evaluation of proposed project. Capital budgeting techniques that have been used in the
analysis are net present value, Payback period and profitability index. The net present value
for Bathurst project is computed at $ 5844587 as against Wodonga project having a net
present value of $ 9594827. It can be seen that net present value of Wodonga is more than
that of Bathurst project indicating that the former should be accepted. In addition to this, it
can be seen that payback period of Wodonga project stood at 3.45 years while that of
Bathurst project stood at 3.86 years. Profitability index of the Wodonga project is computed
at 1.34 while that of Bathurst project stood at 1.17. Higher value of profitability index depicts
that the present value of project is more than the initial amount of investment that has been
made. Less payback period is indicative of the fact that the initial amount of investment
would be covered in less time by investor. Therefore, based on the selection criteria of the

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project, it is recommended to Saturn Pet Care to opt for making investment in Wodonga
project.
Importance of cannibalization of product in capital budgeting decision:
Product cannibalization is a phenomenon under which organization introduces new
product with an intention to reduce or lower the sales revenue, sales volume and market share
of existing product. This strategy is used by organization for promoting the new product that
has been launched by organization. Reducing the sales of new product by introducing new
product depicts negative incremental effects of new product and lower amount of profit
attributed from existing product should be treated as cost. This strategy is followed by Saturn
Pet Care with the objective of increasing the promotion of their new product. Such strategy is
adopted for increasing the sales revenue and has considerable impact on the capital budgeting
decision and selection of the project to be invested in (Andor et al., 2015).
Estimation of sales budget and capital budgeting options:
One of the concerns of marketing department is that the estimated sales budget might
be too high. The analysis of capital budgeting conducted by organization for the intended
projects is considerably impacted by the false or wrong budgeted sales estimation and thereby
would impact the process of planning and accordingly investment decision. Therefore, it is
required by management of Saturn to take appropriate measures for neutralizing the impact of
such errors relating to estimation of sales on the analysis of capital budgeting decision. Under
such circumstance of making wrong sales estimation, management can opt for the technique
such as net present value (Shimizun& Tamura, 2015). The reason attributable to the fact for
employing net present value is to offset the impact of wrong sales estimation and generating
an increased outflow of cash.

ACCOUNTING AND FINANCE
Analysis of original value of the vacant Wodonga factory:
Another concern in the analysis of capital budgeting is the inclusion of original value
of vacant Wodonga factory. The opinion of Natha is considering the original cost of factory
that has been determined and it should be incorporated in the analysis of net present value.
However, the analysis of net present value would change if the cost of old factory is
incorporated. Such inclusion would make it difficult on part of investors as the results would
be negatively impacted and thereby the decision making process of organization would be
unfavorably impacted (Bartlett, 2014).
Part B:
Introduction:
The report is prepared for analyzing the capital structure of ARB Corporation Limited
that is a manufacturer, designer and distributor of light metal engineering works and vehicle
accessories. Analysis of the capability of organization in maximizing the wealth of
shareholders has also been analyzed. In addition to this, the capital structure of organization
is evaluated by comparing to other similar firms operating in the industry. Financial
performance of ARB limited is analyzed using the tool of financial ratios and any significant
changes in the capital structure of organization is analyzed for the past three years.

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Discussion:
Categorizing the capital structure of ARB limited:
The above table presents the capital structure of ARB limited that involves only share
capital and no external borrowings. Organization makes use of its shareholder equity for
financing its capital and the total amount of capital stood at $ 272341. Therefore, it can be
said that company is not at all leveraged and finance all the operations using the equity of
shareholders.

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Computation of after tax weighted average cost of capital:
The weighted average cost of capital of ARB Limited is presented in the above table
and this is indicated that there has been decline in the value since year 2014. WACC has
decreased significantly from 21.52% in year 2014 to 18.05% in year 2017. This fall in
WACC is regarded as favorable from the viewpoint of organization as it signifies that lower
risk is associated with the operations of business. higher value of WACC is associated with
higher level of risks and requires investors to be provided with higher return for undertaking
higher risk.

ACCOUNTING AND FINANCE
Computation of appropriate level of return using CAPM:
There is difference in value of cost of equity computed under general method as
against CAPM approach. Cost of equity of ABR limited under general method comes to
18.05% and the value computed under CAPM approach comes to 7.906%. Since the rate of
return provided by market comes to 8.54% and the cost of equity stood at 7.906% indicating
that this value is favorable as the return generated is more than the cost incurred for financing
the operations of business.
Comparing the capital structure of ARB limited with that of Modine manufacturing
company:
In this section, the capital structure of ARB Corporation is compared with one of the
firms operating in same industry that is Modine limited.

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It can be seen from above table that Modine limited is highly leveraged as against
ARB limited that is entirely dependent upon the equity investors funding. ARB capital
involves equity of amount $ 272341. On other hand, the capital structure of Modine limited
involves both equity as well as secured borrowings. Moreover, the proportion of total secured
borrowings in the capital structure is more than the equity. The proportion of total equity
stood at 45% at value of $ 421.20 and the proportion of secured borrowings stood at 55% at
value of 510.90. Therefore, the company is highly leveraged as against ARB that does not
have any borrowings or debt in their capital structure. However, the total worth of capital of
ARB limited is significantly higher than that of Modine limited.
Analysis of financial performance of ARB limited using ratio:
Financial performance of ARB limited is analyzed by evaluating its liquidity,
profitability and efficiency position.
Profitability position of ARB is evaluated by the computation of net profit margin,
gross profit margin, return on equity and return on assets. All the ratios have reduced since
year 2014 by fewer amounts indicating that there has not been much deterioration in the
profitability position of company (Grosse et al., 2017).

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The solvency position of company is evaluated by computation of debt to equity ratio,
time interest earned ratio, debt ratio and equity ratio. Table below depicts that there has been
fall in different solvency ratio by considerable amount indicating that the overall solvency
position of company have improved.
Evaluation of efficiency position of ARB limited is done by computation of inventory
turnover ratio, payable turnover and receivable turnover ratio. As indicated by figures, it can

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be inferred that overall efficiency position of organization reduced as the receivable and
payables are not efficiently generating return (Hart & Zingales, 2017).
Changes in the capital structure of firm:
From the above table, it can be inferred from figures that total value of capital has
increased since year 2014. The value of capital has increased from $ 197814 to $ 272341. In
year 2014, the capital structure included some proportion of secured borrowings which
indicated that company is leveraged (Grosse et al., 2017).

ACCOUNTING AND FINANCE
Evaluating the firms’ efforts in maximizing the shareholder wealth:
The above table depicts that net operating profit after tax has been increasing since
year 2014. WACC of ARB limited has reduced from 19.39% in year 2015 to 18.05% in year
2017 indicating that risk associated with operations of business has reduced. However, there
has not been any increase in value of shareholders wealth and the economic value added
stood at zero for all years.
Recommendation for determining alternative capital structure:
Organization intending to lower their WAC should exercise caution irrespective of the
method that have been employed. Taxation is the factor that should be taken into account. It
is required by organization to have an appropriate mix of equity and borrowed capital in the
capital structure. There should be appropriate degree of financial leverage enjoyed by firms
for designing a favorable capital structure (Shaban et al., 2017).
Conclusion:
From the analysis of capital structure of ARB limited, it can be inferred that it is
required by business to reduce their overall cost of capital. Moreover, they should include
appropriate amount of borrowings in their capital structure for deriving the advantages of

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taxation. Therefore, there should be proper degree of financial leverage. Wealth of
shareholders can be maximized by the inclusion of debt capital into the capital structure of
business.

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References list:
Andor, G., Mohanty, S. K., & Toth, T. (2015). Capital budgeting practices: A survey of
Central and Eastern European firms. Emerging Markets Review, 23, 148-172.
Bartlett III, R. P. (2014). Shareholder wealth maximization as means to an end. Seattle UL
Rev., 38, 255.
Dean, B. A., Perkiss, S., Simic Misic, M., & Luzia, K. (2018). Transforming accounting
curricula to enhance integrative learning. Accounting & Finance.
Grosse, M., Kean, S., & Scott, T. (2017). Shareholder say on pay and CEO compensation:
three strikes and the board is out. Accounting & Finance, 57(3), 701-725.
Hart, O., & Zingales, L. (2017). Companies should maximize shareholder welfare not market
value.
Hoffmann, A. O., & Post, T. (2017). How return and risk experiences shape investor beliefs
and preferences. Accounting & Finance, 57(3), 759-788.
Shaban, O. S., Al-Zubi, Z., & Abdallah, A. A. (2017). The Extent of Using Capital Budgeting
Techniques in Evaluating Manager’s Investments Projects Decisions (A Case Study
on Jordanian Industrial Companies). International Journal of Economics and
Finance, 9(12), 175.
Sharfman, B. S. (2014). Shareholder wealth maximization and its implementation under
corporate law. Fla. L. Rev., 66, 389.
Shimizu, N., & Tamura, A. (2015). The Eff ects of Business Strategy on Economic
Evaluation Techniques of Capital Investment.