The following information is provided for Bessemer Ltd which operates in an industry subject to marked variations in consumer demand.

Required:

(a) The forecast profit and loss appropriation accounts for each of the next three years and - year-end balance sheet extracts, so far as the information permits, assuming that the expansion is financed by:
(i) issuing additional shares, or (ii) raising a debenture.

(b) Calculate the forecast return on shareholders’ equity, for each of the next three years, under the alternative methods for financing the planned expansion.

(c) An assessment of the merits and demerits of the alternative methods of finance based on the calculations made under

(a) and

(b) and any other relevant methods of comparison.

Transcribed Image Text:

(i) Shareholders' equity at 30 September 19X5: Issued ordinary shares of 1 each fully paid Retained profits There were no loans outstanding at the balance sheet date. (ii) Profit and loss account extracts: year to 30 September 19X5: Net profit before tax Less Corporation tax Less Dividends Retained profit for the year Retained profit at 1 October 19X4 Retained profit at 30 September 19X5 000 5,000 1,650 6,650 000 900 270 630 600 30 1,620 1,650 (iii) The directors are planning to expand output. This will require an additional investment of 2,000,000 which may be financed either by issuing 1,000,000 ordinary shares each with a nominal value of 1, or by raising a 12 per cent debenture. (iv) Forecast profits before interest charges, if any, for the year to 30 September: 19X6 19X7 000 1,800 500 2,200 19X8 A corporation tax rate of 30 per cent on reported profit before tax may be assumed; the directors plan to pay out the entire post-tax profit as dividends.