Financial Management Homework: Investment Appraisal Techniques

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Financial Management
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Contents
Question 2........................................................................................................................................3
Question 3........................................................................................................................................6
References......................................................................................................................................18
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Question 2
a)
The below table is shown the total numbers of shares after initializing or issue right shares as (£)
1.8 price for each share.
Particulars Number of shares Amount (£)
Shares @ 0.50 each 600,000 300,000
Rights issue @ 1.80 per share 100,000 180,000
Total shares 700,000 480,000
value/share 0.685714286
The below table is shown the total numbers of shares after initializing or issue right shares as (£)
1.6 price for each share.
Particulars Number of shares Amount (£)
Shares of .50 each 600,000 300,000
Rights issue @ £1.60 per share 112500 180,000
Total shares 712500 480000
value/share 0.673684211
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The below table is shown the total numbers of shares after initializing or issue right shares as (£)
1.4 price for each share.
Particulars Number of shares Amount (£)
Shares of .50 each 600,000 300,000
Rights issue @ £ 1.40 per share 128571.4286 180,000
Total shares 728571.4286 480000
value/share 0.658823529
The below table is show the profit after tax and the tax rate is applicable @ 20 percent on the
total amount.
Particulars Amount (£)
Equity shareholder's funds 480000
Reserves 400,000
Total 880,000
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Tax @ 20% 176000
Profit after tax (PAT) 704,000
Following table is present the earning per share (EPS) at three different value such as (£) 1.8, (£)
1.6 and (£) 1.4
Earnings per share (EPS) = Net income/outstanding of number of shares
Particulars at 1.8 (£) at 1.6 (£) at 1.4 (£)
Profit after tax 704,000 704,000 704,000
Number of shares 700,000 712,500 728,571
Earnings per share (EPS) 1.005714286 0.988070175 0.966275078
The EPS of the company Lexbel plc is more when the company made the right issue of share at £
1.8 per share as compared with the other level of right issue (Money-Zine, 2019). In the other
level of the right share, the share value is diluted. If the company made the right issue £ 1.6 then
the value of share dilutes £ 0.98 and also in case if made right share at £1.4 then the share is
valued at £ 0.96 (Manigart, and Sapienza, 2017).
Theoretical ex-price of the shares:
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Theoretical ex-price 1.8 (£) 1.6 (£) 1.4 (£)
Market value before rights issue
880,00
0
880,00
0
880,00
0
cash proceeds from rights issue
180,00
0
180,00
0
180,00
0
Total
1,060,00
0
1,060,00
0
1,060,00
0
Number of shares
700,00
0
712,50
0
728,57
1
Ex- price per share 1.514285714
1.48771929
8
1.45490281
7
In these cases, the theoretical ex-price of share is more or high when the company made the right
issue of shares at the following price:
£ 1.8, the ex-price of theoretical is less when the company made the right issue at £ 1.6 and 1.4
suggested to the company that the company should make the right issue of shares at £1.8 (Lester,
et. al., 2017).
b)
The dividend paid by the company is out from the company annual profit earned throughout the
year from the business activities or earning (Money-Zine, 2019).
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A scrip dividend is a new issue of the share of a cash dividend. It offers in front of the existing
shareholders two options either accept a divided n in form cash or received new additional shares
of the company (Study.com, 2019).
There are various advantages to both the shareholders of the company and company in various
forms which are going to be discussed each one in detail for the better understanding why it is
important for both parties i.e. shareholders and company.
1) First of all, discuss the benefits of scrip dividend for the shareholders
 The scrip dividend provides an option to the shareholders received dividend either in cash form
or in the form of additional shares. Shareholders of the company have different needs which help
this to satisfy their needs. For instance, one who depends on the money may choose the option
to receive the dividend in cash form but on the same hand, one who wants to increase share or a
wealthier investor go further to choose more shares in order to capture future price appreciation.
This will make a happy option for both types of shareholders.
 If the shareholders of the firm think that the value of the share is undervalued then they go to use
the option of a scrip dividend in the form of additional shares and they need not pay any
transaction cost.
 If the shareholders of the company choose shares rather than cash it provides a benefit to get an
exemption from the obligations of paying tax because the dividend not received in cash form
which create a liability to pay tax.
2) benefits for the company
 The scrip dividend paid by the company save the amount of cash of the firm as the dividend is
not paid in cash form but the dividend is paid in form additional shares. The company issue
additional shares for the dividend in respect of paying a dividend in cash does not impact on the
cash of the company and the cash position of the company remain same or constant (Money-
Zine, 2019).
 If the value of scrip dividend which is to be paid in less amount then it does not impact and not
dilute the value of shareholders but if it is paid in a large amount of quantity then it sure impacts
the value of shareholders and tends to dilute.
 Through the scrip dividend, the borrowing power of the firm also tends to increase. When the
company paid scrip dividend it helps in increasing the equity of the company. This lead to
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minimizing the low gearing ratio which ultimately aids to the firm in order to borrow more funds
from outside (Study.com, 2019).
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Question 3
(a) Followings are the calculations using different methods in the investment proposal regarding
the choosing best method from the available in order to take the various benefits like a return of
cash in less time and high profitability from the selected (Rossi, 2015).
Investment 320000
Annual Inflow of cash 105000
Annual Outflow of cash 15500
Period (in year) 6
Residual value 32000
Cost of Capital (COC) 12%
Depreciation Rate 20%
i. Payback Period:
This method is applicable while calculating the amount of time required to recover the
investment cost. This method is suitable in a condition when the PBP is less because it provides
an advantage of getting back return as soon as affect the investment by any internal or external
factors.
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Particulars Amount (£)
Investment 320,000
Cash inflow (for 5 years) 232,358
Remaining Amount 87,642
Time required to complete 10.46
Payback Period 5 years 10 months
From this table, it is said the project is able to recover its cost of investment in a complete 5 year
and 10 months. After this period, the organizations start to earn a profit from the project
investment.
ii. Accounting rate of return
It is used in condition where the entity or firm wants to know the profitability of the investment
project of the proposed project.
ARR =
Average Net profit
X 100
Average Investment
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ARR =
100,528
X100
176000
ARR =
57.11
The company only accepts the project by using this method in a condition when the ARR is more
than the cost of capital. In this part, the cost of capital is far less from the ARR so it can be
acceptable by the company (Accounting tools, 2018).
Working note:
Average Investment =
Initial Investment + Residual Value
2
Average Investment = 176000
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iii. Net present value
This method of investment appraisal is helpful to recognize the present value of capital that will
be invested in the proposed project and enable to the management whether this is benefited to the
firm in the future.
Y
e
a
r
Investme
nt (£)
Annu
al
Inflow
Annual
Outflow
Depreciatio
n
Net Cash
inflow (£)
COC
factor
@ 12%
Discounted
Cash Flows
(£)
0 320,000 - - - (320,000) 1.00 (320,000)
1 -
105,00
0 15,500 64,000 25,500 0.892 22,746
2 -
105,00
0 15,500 51,200 38,300 0.797 30,525
3 -
105,00
0 15,500 40,960 48,540 0.711 34,512
4 0.635
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