Project 3

Finance recource management

a

ABP POST GRADUATE DIPLOMA BUSINESS MANAGEMENT

Unit : Management of Financial Resources and Performance

Activity title : Financial Management Assignment

Assignment reference : MFRP 1

Date issued- Date due : 28/03/2011-15/04/2011

Assessor(s) : __Melek YILMAZ_____

Student : __________________________ Date submitted : __________

1


Outcomeand

criteria

Evidence for the criteria

Feedback Assessor’s decision

Internal Verification

Understand

performance

Understand the impact of financial resourcing on an organisation’s performance

(1.1)

Un((

Identify the need for

financial resources

within a strategic plan

1.1

Appraise methods by

which financial

resources are

allocated, managed

and controlled

1.2

Evaluate the impact of

financial resource

decision making on

business strategy

1.3

Outcomeand

criteria

Evidence for the

criteria

Feedback Assessor’s decision

Internal Verification

Understand how to use appraisal methods to manage financial resources

Evaluate how

alternative strategic

investment

opportunities are

assessed

2.1

Identify the data to be

used when making

decisions about the

use of financial

resources

2.2

2


(2.1) Analyse alternative

investments using

appraisal methods

2.3

Justify recommenda-

tions about the use of

financial resources

2.4

Lecturer’s additional feedback and comments

Internal verification (IV) of assignment brief (approved version)

IV name (print) Date

3


I confirm that this is all my own work Learner signature

REQUIRED:

You have been asked to produce an assignment on two parts for management of financial resources and performance of the financial resources and investment appraisal methods that are very essential for the business.

Produce an assignment in which you:

SCENARIO- A

Globally economy is shifting and changing constantly, every input company has becomes even more valuable.

Among all the departments the role of the finance department is vital as Governments are evaluating the options more carefully and tightening the budgets. Injections of cash to the economy are reduced yet again by the Government. Hence these plans are announced in number of different ways such as reducing number of staff in public sector which ultimately have influence in economy overall because of the multiplier effect.

Due to recent crises in 2010 Banking Sector is reluctant than ever and tightening their lending policies. Also recent inflation figures (28/March/2011) indicate interest rates will start rising. Economy as a whole contracting as approved by negative growth figures and aggregate demand is falling.

Collectively these and other changes will push the importance of financial resources and their need as part of Strategic Plan.

TASK- A

Identify the need for financial resources within a strategic plan and appraise methods by which financial resources are allocated, managed and controlled and evaluate the impact of financial resource decision making on business strategy.

(1.1, 1.2, 1.3)

4


SCENARIO- B

Meridian Limited is considering acquiring and selling a new product called Clear Voice. Inside the company this is referred to as Project X. This product is software which is a voice recognition programme for use with PCs. Its major selling point is the quality of the voice recognition, particularly in the context of understanding a large range of regional accents. The technology company responsible for the discovery and development of this advanced technology has accepted, at least in principle, an offer of £5 million from Meridian Limited for the patent, the patent contract to last for ten years. However, the technology company has given Meridian Limited only ten days to formalize the agreement and sign a legally binding contract. After ten days, the technology company will hold discussions with other companies. Those companies are rivals to Meridian Limited in what is a very competitive environment. For the past six months Meridian Limited has been exploring the idea of acquiring and selling advanced voice recognition software. Indeed, three months ago, it commissioned a market research survey to establish demand for such a new programme. The survey cost £50,000 and although the bill has been received and charged as an expense against last year’s profits, Meridian Limited has not yet paid it. The survey results allowed Meridian Limited to prepare profit forecasts for the ten year period in question. Those forecasts are shown in figure 1 further below.

If Meridian Limited does acquire the patent, it will have to build a new manufacturing site. Land will cost £3 million; the new building will cost £2 million; new machinery and equipment will cost £6 million. Meridian Limited’s depreciation policy is to apply straight-line depreciation, assuming zero residual values, to buildings and machinery, but not to land, over their useful lives of ten years. Patents are amortized over ten years on a straight line basis, assuming zero residual value.

The product will have a life of ten years, at the end of which time it will be obsolete. The factory building will then given to a charity, and the machinery collected free of charge by a specialist machinery recycling company. The land will be sold for an estimated £3 million. The working capital (inventory, trade receivables and trade payables) required for this project will be £1.2 million, invested in year 1 and released in year 10. The project will be financed by equity and a bank loan, at an average cost of capital of 15%. The bank loan will incur annual interest of £300,000, payable at the end of each year.The profit forecasts are detailed below, after charging depreciation, amortization, and interest on the bank loan and launch costs. The launch costs will be £1.5 million, all in year one.

Year Profit/(loss) £m Year Profit/(loss) £m

5


1 (2.3) 6 10.02 1.5 7 8.03 6.0 8 6.04 8.0 9 4.05 10.0 10 2.0

Figure 1: Profit forecasts for Project X

The Finance director has examined the proposal for Project X and has suggested an amendment: instead of building a new factory, one should be leased. The costs would involve an ‘up front’ single payment in advance of operations of £1.4 million, with ten subsequent annual payments of £800,000, payable at the end of each year. New machinery, as referred to earlier, will still have to be purchased. All other costs and expense identified with Project X would remain unchanged, as would revenues. This suggestion is referred to as Project Y. The cost of capital would change to 12%.

The Marketing director is unhappy with both of Projects X and Y, and has suggested a third alternative, Project Z. This project would involve adaptation of an existing software product and no patent would need to be paid for. Additionally, no new building would be required as the required additional production capacity could be achieved by operating an extra production shift in the existing factory. New machinery would be required but at a cost of £4 million rather than £6 million. The bank loan would not be necessary and the working capital requirement would reduce to £0.8 million. The cost of capital would change to 10%. The profits forecasts for Project Z are shown in figure 2, after charging depreciation, and launch costs.

Year Profit/(loss) £m Year Profit/(loss) £m

1 2.1 6 2.62 3.6 7 2.63 3.6 8 1.64 3.6 9 1.65 2.6 10 0.6

Figure 2: Profit forecasts for Project Z

6


TASK- B

Required tasks:1. For each of the three projects, calculate the following:

a) The incremental cash flows;

b) The accounting rate of return (using the initial investment at Time Zero);c) The non-discounted payback period;d) The net present value;e) The internal rate of return

Work to the nearest £1when performing your financial calculations, and to two decimal places for ARR and IRR %s.

When performing your calculations, show your workings and do not use the dedicated functions for PV, NPV and IRR provided by spreadsheets and some calculators.

Ignore taxation.

2. Prepare a summary report for Meridian Limited’s board of directors, appraising the capital investment decision and evaluate how alternative strategic investment opportunities are assessed and identify the data to be used when making and decisions about the use of financial resources and analyse alternative investments using appraisal methods and justify recommendations about the use of financial resources.

(2.1, 2.2, 2.3, 2.4)

7


GRADING

Pass All outcomes identified in the assignment are met.

MARKING GUIDANCE

Financial Management is a complex activity and the work must indicate both how the figures have been evaluated and how assumptions have been built in to the work. All analysis of the changes facing financial managers must be based on reasoned arguments and relevant supporting evidence. There need to be clear explanations and conclusions need to be justified.

This assignment is an INDIVIDUAL assignment and is NOT a group-based assignment. The Assignment comprises TWO parts: A and B.

Your coursework MUST be prepared using Microsoft Word and Excel. Hard copy must produce in Microsoft Word and you need to insert necessary tables from Excel. Soft copy must include all your work WORD and EXCEL files.

Your submitted Coursework will be assessed by Melek Yilmaz and Mahmut Aydin. Coursework is subject to double marking. All results when first published are provisional until confirmed by the External Examiner. No appeals regarding your published mark are available until after confirmation by the External Examiner at the Exam Board held in Summer Term 2011.

Use 11 point Arial script.

Use ‘Harvard Referencing System’

Draft material for will be discussed at the tutorials in the week beginning (06.04.2011)

Complete the title page and sign the statement of authenticity.

8


Use a butterfly or treasury tag to keep the pages of your work together and put it in the plastic folder.

ENSURE THAT YOU ENTER YOUR STUDENT EXAMINATION NUMBER ON EACH PAGE OF YOUR SUBMITTED COURSEWORK IN THE TOP RIGHT HAND CORNER (IN THE HEADER)

SUBMITTING YOUR ASSIGNMENT

Submit the work to Miss Miceala and Miss Joe in the Wesminister Academy office by 15 th of April 2011 until 4pm. Late work will only be marked on the next occasion the unit is taught in 2012.If the unit does not run again then you

will need to pay a late assessment fee in line with the requirements of the college’s assessment policy.

Table of ContentsOutcome...............................................................................................................................................................................................2

9


Evidence for the criteria.................................................................................................................................................................2

Outcome...............................................................................................................................................................................................2

Need of financial recources:......................................................................................................................................................................10

Investment appraise methods:....................................................................................................................................................................10

Economic Benefits and Associated Cost :.............................................................................................................................................10

Internal Rate of Return..........................................................................................................................................................................10

NPV.......................................................................................................................................................................................................10

Discounted Payback Period...................................................................................................................................................................11

Summary Report for the management:......................................................................................................................................................11

Indices:.......................................................................................................................................................................................................13

Project X................................................................................................................................................................................................13

Project Y................................................................................................................................................................................................19

Project Z.................................................................................................................................................................................................25

10


Need of financial recources:

Strategic planning is the most important activity in connection to business succeess. A well planned strategy makes the attainment of goals more smooth. Financial recources represents the major portion of strategic planning. Cash and assets need is important for making a strategy for future. The need of these recources are for:

1. Acquisiotins and mergers: Financial recource position guide about taking the decision of acquisitions and mergers. 2. Debt Structure: By having a look at finance recources, stratgic management can decide about the debt structure of

the company.

Investment appraise methods:

There are many method of allocating and evaluating finance recources. These different methods are:

Economic Benefits and Associated Cost :

One method of evaluating the finance recourse are the economic benefits and cost associated with the recources. If the benefits are more than cost concerned than the decision is made to retain the finace reources.

Internal Rate of Return

By using the internal rate of return, assessment is done for any asset’s effeciency and future benefit associated.

NPV

In NPV method, net worth of the asset is determined to take the decision such as to purchase the asset or go for the lease option.

Discounted Payback Period

11


In discounted payback method, recources are evaluated on the basis of its payback. It is a very good tool for determining that in how much time asset will payback its cost price.

Summary Report for the management:

Project X Y Z

Net cash Flow 56.

20 50.

20 24.

50

Accounting Rate of Return 66.50% 76.13%122.50

%Non-Discounted Payback period 3.73 3.68 1.50

NPV 16 19 14IRR 30.85% 34.02% 72.24%

All three projects are evaluated on the basis of different methods. Altough project Z’s result were better in terms of ARR and IRR, and Project X could be the better choice as per net cash flows method but NPV is considered as most important parameter to evaluate any investment proposal so Project Y is preferable due to higher NPV.

12


13


Indices:

Project X

Project X

Net cash Flow 56.

20 Accounting Rate of Return 66.50%

Non-Discounted Payback period 3.73NPV 16IRR 30.85%

14


Incremental cash flow

t0 t1 t2 t3 t4 t5 t6 t7 t8 t9 t10

(----------------------- -------------------------------In--------------------------------- Millions-------------------------------)

Profit Before Tax (2.30)

1.50

6.00

8.00

10.00

10.00

8.00

6.00

4.00

2.00

Add Back

amortization 0.50 0.50

0.50

0.50

0.50

0.50

0.50

0.50

0.50

0.50

Depreciation 0.80 0.80

0.80

0.80

0.80

0.80

0.80

0.80

0.80

0.80

Interest 0.30 0.30

0.30

0.30

0.30

0.30

0.30

0.30

0.30

0.30

Cash Flow (0.70)

3.10

7.60

9.60

11.60

11.60

9.60

7.60

5.60

3.60

working capital - (1.20)

- -

- - -

- - -

1.20

Patent (5.00) -

- -

- - -

- - - -

land' (3.00) -

- -

- - -

- - -

3.00

building (2.00) -

- -

- - -

- - - -

machinery (6.00) -

- -

- - -

- - - -

cash Flow (16.00)

(1.90)

3.10

7.60

9.60

11.60

11.60

9.60

7.60

5.60

7.80

Net cash Flow 56.20

NotesSurvey cost is Past cost, not relevant.

15


t0 t1 t2 t3 t4 t5 t6 t7 t8 t9 t10 Total Average

Profit Before Tax -

(2.30)

1.50

6.00

8.00

10.00

10.00

8.00

6.00

4.00

2.00

53.20 5.32

Average Investment = 16+0 = 8.00

2

Accounting Rate of Return = 5.32 = 66.50%8

16


Non-Discounted Payback period

Years Cash Flow Balance

t0 (16.00) (16)

t1 (1.90) (18)

t2 3.10 (15)

t3 7.60 (7)

t4 9.60 2

t5 11.60 14

t6 11.60 26

t7 9.60 35

t8 7.60 43

t9 5.60 48

t10 7.80 56

3+7/9.6 3.73 Years

17


NPV

t0 t1 t2 t3 t4 t5 t6 t7 t8 t9 t10

(---------------------------------------------------------In--------------------------------- Millions-------------------------------)

Profit Before Tax (2.3

0) 1.50 6.0

0 8.00 10.0

0 10.0

0 8.0

0 6.0

0 4.0

0 2.0

0 Add Back

amortization 0.50 0.50 0.50 0.50

0.50

0.50

0.50

0.50

0.50

0.50

Depreciation 0.80 0.80 0.80 0.80

0.80

0.80

0.80

0.80

0.80

0.80

Interest 0.30 0.30 0.30 0.30

0.30

0.30

0.30

0.30

0.30

0.30

Cash Flow (0.7

0) 3.10 7.6

0 9.60 11.6

0 11.6

0 9.6

0 7.6

0 5.6

0 3.6

0

working capital - (1.2

0) - - - - - - - - 1.2

0

Patent (5.0

0) - - - - - - - - - -

land' (3.0

0) - - - - - - - - - 3.0

0

building (2.0

0) - - - - - - - - - -

machinery (6.0

0) - - - - - - - - - -

Net cash Flow (16.0

0) (1.9

0) 3.10 7.6

0 9.60 11.6

0 11.6

0 9.6

0 7.6

0 5.6

0 7.8

0 DF @ 15% 1.000 0.870 0.756 0.658 0.572 0.497 0.432 0.376 0.327 0.284 0.247DCF (16.00) (1.65) 2.34 5.00 5.49 5.77 5.02 3.61 2.48 1.59 1.93

NPV 16

18


IRR

Years Cash Flow 24 % 33.00%

t0 (16.00) 1 (16.00) 1 (16.00)

t1 (1.90) 0.806 (1.53) 0.752 (1.43)

t2 3.10 0.650 2.02 0.565 1.75

t3 7.60 0.524 3.99 0.425 3.23

t4 9.60 0.423 4.06 0.320 3.07

t5 11.60 0.341 3.96 0.240 2.79

t6 11.60 0.275 3.19 0.181 2.10

t7 9.60 0.222 2.13 0.136 1.30

t8 7.60 0.179 1.36 0.102 0.78

t9 5.60 0.144 0.81 0.077 0.43

t10 7.80 0.116 0.91 0.058 0.45 4.88

(1.53)

IRR= L+ NL x(H-L) = 30.85%NL-NH

Where:L= Lower Discount RateH= Higher discount RateNL= NPV at lower rateNH= NPV at Higher rate

19


Project Y

Project Y

Net cash Flow 50.

20 Accounting Rate of Return 76.13%

Non-Discounted Payback period 3.68NPV 19IRR 34.02%

20



t0 t1 t2 t3 t4 t5 t6 t7 t8 t9 t10

(-----------------------------------------------------In--------------------------------- Millions-------------------------------)

Profit Before Tax (2.30)

1.50

6.00

8.00

10.00

10.00

8.00

6.00

4.00

2.00

Add Back

amortization 0.50

0.50

0.50

0.50

0.50

0.50

0.50

0.50

0.50

0.50

Depreciation 0.80

0.80

0.80

0.80

0.80

0.80

0.80

0.80

0.80

0.80

Interest 0.30

0.30

0.30

0.30

0.30

0.30

0.30

0.30

0.30

0.30

Cash Flow (0.70)

3.10

7.60

9.60

11.60

11.60

9.60

7.60

5.60

3.60

working capital - (1.20)

-

-

-

-

-

-

-

-

1.20

Patent (5.00) -

-

-

-

-

-

-

-

-

-

land' - -

-

-

-

-

-

-

-

-

-

building (1.40) (0.80)

(0.80)

(0.80)

(0.80)

(0.80)

(0.80)

(0.80)

(0.80)

(0.80)

0.60

machinery (6.00) -

-

-

-

-

-

-

-

-

-

cash Flow (12.40) (2.70)

2.30

6.80

8.80

10.80

10.80

8.80

6.80

4.80

5.40

Net cash Flow 50.20

21


NotesSurvey cost is Past cost, not relevant.

Accounting Rate of Return

t1 t2 t3 t4 t5 t6 t7 t8 t9 t10 Total Ave.

PBT of Project X (2.30)

1.50

6.00

8.00

10.00

10.00

8.00

6.00

4.00

2.00

53.20

5.32

Add Depreciation of building 0.20

0.20

0.20

0.20

0.20

0.20

0.20

0.20

0.20

0.20

2.00

0.20

Less Rent (0.80)

(0.80)

(0.80)

(0.80)

(0.80)

(0.80)

(0.80)

(0.80)

(0.80)

(0.80)

(8.00)

(0.80)

PBT of Project y (2.90)

0.90

5.40

7.40

9.40

9.40

7.40

5.40

3.40

1.40

4.72

Average Investment = 12.4+0 = 6.

20 2

Accounting Rate of Return =

4.72 =76.13

%6.2

(Formulae)Average Investment = opening Inv+ closing Inv

2

22


Accounting Rate of Return = Average Profit

Average investment


Years Cash Flow Balance

t0 (12.40) (12)

t1 (2.70) (15)

t2 2.30 (13)

t3 6.80 (6)

t4 8.80 3

t5 10.80 14

t6 10.80 24

t7 8.80 33

t8 6.80 40

t9 4.80 45

t10 5.40 50

23


3+6/8.8 3.68 Years

24


NPV

t0 t1 t2 t3 t4 t5 t6 t7 t8 t9 t10

(--------------------------Amounts -------------------------------In--------------------------------- Millions-------------------------------)

Profit Before Tax - -2.30 1.5

0 6.0

0 8.0

0 10.0

0 10.0

0 8.0

0 6.0

0 4.0

0 2.0

0 Add Back

amortization 0.50

0.50

0.50

0.50

0.50

0.50

0.50

0.50

0.50

0.50

Depreciation 0.80

0.80

0.80

0.80

0.80

0.80

0.80

0.80

0.80

0.80

Interest - 0.3

0 0.3

0 0.3

0 0.3

0 0.3

0 0.3

0 0.3

0 0.3

0 0.3

0 0.3

0

Cash Flow (0.70

) 3.1

0 7.6

0 9.6

0 11.6

0 11.6

0 9.6

0 7.6

0 5.6

0 3.6

0

working capital - -1.20 - - - - - - - - 1.2

0 Patent -5.00 - - - - - - - - - - land' - - - - - - - - - - -

building -1.40 -0.80 -0.80 -0.80 -0.80 -0.80 -0.80 -0.80 -0.80 -0.80 0.6

0

machinery (6.0

0) - - - - - - - - - -

Net cash Flow -12.40 -2.70 2.3

0 6.8

0 8.8

0 10.8

0 10.8

0 8.8

0 6.8

0 4.8

0 5.4

0 DF @ 12% 1.000 0.893 0.797 0.712 0.636 0.567 0.507 0.452 0.404 0.361 0.322DCF -12.40 -2.41 1.83 4.84 5.59 6.13 5.47 3.98 2.75 1.73 1.74

NPV 19.25

25


26


IRR

Years Cash Flow 27 % 35.00%

t0 (12.40) 1 (12.40) 1 (12.40)

t1 (2.70) 0.833 (2.25) 0.741 (2.00)

t2 2.30 0.694 1.60 0.549 1.26

t3 6.80 0.579 3.94 0.406 2.76

t4 8.80 0.482 4.24 0.301 2.65

t5 10.80 0.402 4.34 0.223 2.41

t6 10.80 0.335 3.62 0.165 1.78

t7 8.80 0.279 2.46 0.122 1.08

t8 6.80 0.233 1.58 0.091 0.62

t9 4.80 0.194 0.93 0.067 0.32

t10 5.40 0.162 0.87 0.050 0.27

50.2 8.92

(1.25)



27


Project Z

Project Z

Net cash Flow 24.

50

Accounting Rate of Return122.50

%Non-Discounted Payback period 1.50

NPV 14IRR 72.24%


t0 t1 t2 t3 t4 t5 t6 t7 t8 t9 t10

(---------------------------------------------------------In--------------------------------- Millions-------------------------------)

28


Profit Before Tax

2.10

3.60

3.60

3.60

2.60

2.60

2.60

1.60

1.60

0.60

Add Back

amortization -

-

- -

-

-

-

-

-

-

Depreciation 0.40

0.40

0.40

0.40

0.40

0.40

0.40

0.40

0.40

0.40

Interest -

-

- -

-

-

-

-

-

-

Cash Flow 2.50

4.00

4.00

4.00

3.00

3.00

3.00

2.00

2.00

1.00

working capital - -0.80

-

- -

-

-

-

-

-

0.80

Patent -

-

-

- -

-

-

-

-

-

-

land' -

-

-

- -

-

-

-

-

-

-

building -

-

-

- -

-

-

-

-

-

-

machinery -4.00 -

-

- -

-

-

-

-

-

-

cash Flow -4.00 1.70

4.00

4.00

4.00

3.00

3.00

3.00

2.00

2.00

1.80

Net cash Flow 25

NotesSurvey cost is Past cost, not relevant.Accounting Rate of Return

29


t0 t1 t2 t3 t4 t5 t6 t7 t8 t9 t10 Total Average

Profit Before Tax -

2.10

3.60

3.60 3.60

2.60

2.60

2.60

1.60

1.60

0.60

24.50 2.45

Average Investment = 4+0 = 22

Accounting Rate of Return = 2.45 = 122.50%

2

30



Years Cash Flow

Balance

t0 (4.00) (4)

t1 1.70 (2)

t2 4.00 2

t3 4.00 6

t4 4.00 10

t5 3.00 13

t6 3.00 16

t7 3.00 19

t8 2.00 21

t9 2.00 23

t10 1.80 25

1+2/4 1.5 Years

31


NPV

t0 t1 t2 t3 t4 t5 t6 t7 t8 t9 t10

(---------------------------------------------------------In--------------------------------- Millions-------------------------------)Profit Before Tax -

2.10

3.60

3.60

3.60

2.60

2.60

2.60

1.60

1.60

0.60

Add Back

amortization -

-

-

-

-

-

-

-

-

-

Depreciation 0.40

0.40

0.40

0.40

0.40

0.40

0.40

0.40

0.40

0.40

Interest -

-

-

-

-

-

-

-

-

-

Cash Flow 2.5

0 4.0

0 4.0

0 4.0

0 3.0

0 3.0

0 3.0

0 2.0

0 2.0

0 1.0

0

working capital - -0.80 - - - - - - - - 0.8

0 Patent - - - - - - - - - - - land' - - - - - - - - - - - building - - - - - - - - - - - machinery -4.00 - - - - - - - - - -

Net cash Flow -4.00 1.7

0 4.0

0 4.0

0 4.0

0 3.0

0 3.0

0 3.0

0 2.0

0 2.0

0 1.8

0 DF @ 10% 1.000 0.909 0.826 0.751 0.683 0.621 0.564 0.513 0.467 0.424 0.386DCF -4.00 1.55 3.31 3.01 2.73 1.86 1.69 1.54 0.93 0.85 0.69

NPV 14.16

32


IRR

Years Cash Flow 35% 70.00%

t0 (4.00) 1 (4.00) 1 (4.00)

t1 1.70 0.741 1.26 0.588 1.00

t2 4.00 0.549 2.19 0.346 1.38

t3 4.00 0.406 1.63 0.204 0.81

t4 4.00 0.301 1.20 0.120 0.48

t5 3.00 0.223 0.67 0.070 0.21

t6 3.00 0.165 0.50 0.041 0.12

t7 3.00 0.122 0.37 0.024 0.07

t8 2.00 0.091 0.18 0.014 0.03

t9 2.00 0.067 0.13 0.008 0.02

t10 1.80 0.050 0.09 0.005 0.01 4.22

0.14



33


34

Project 3

Documents

use of financial resources

impact of financial

months meridian limited

finance recource management2

finance recource managementi

new product

finance department

strategic plan