Purpose of this assignment: Identify the sources of finance available to a business Assess the implications of the different sources Evaluate appropriate sources of finance for a business project Scenario ACME Corporation is one of the world's leading manufacturers of steel and steel products. It is headquartered in Germany. ACME is considering setting up a steel structural plant in UAE to cater to the rapidly growing real estate market in the GCC. It envisages setting up a factory with a capacity to manufacture 100,000 tons per annum. The total cost of the factory is estimated at US$ 175 million. The details of the project cost of US$ 175 million are as under: (US $) Land : 4 million Buildings : 26 million Plant & Machinery : 95 million Furnitures& Fixtures : 18 million Pre-operative Expenses : 15 million Working capital margin : 17 million ACME, itself, is considering an equity investment of US$ 50 million and seeks to raise the balance from outside sources. Its global capital structure policy is to have a maximum debt:equity ratio of 1:1 (50% debt and 50% equity). Further, you are told that ACME's desired rate of return on any of its investment is 10% on a post-tax basis. Task 1(LO1: AC 1.1, 1.2, 1.3) LO 1 - Understand sources of finance available to a business 1.1 List out all the possible sources of finance that you believe would be available to ACME to finance the project in UAE. (AC 1.1 : Identify the sources of finance available to a business) - [Grade Descriptor M3] 1.2 Give a brief analysis of each of the sources of finance as listed in AC 1.1, along with its advantages and disadvantages. Your analysis and assessment should ideally cover among others, factors such as key terms, cost in a qualitative and comparable terms, riskiness, security conditions, tax benefits, tenor etc. You may conduct appropriate research to answer the questions. Please ensure you indicate all your sources of information wherever applicable. (AC 1.2 : Assess the implications of the different sources of finance). [Grade Descriptor M3] 1.3 Based on the information provided and ACME's internal conditions and policies, evaluate appropriate sources of finance for ACME's project requirements and discuss what would be the appropriate one? You answer should provide a break-up of how US$ 175 million will be financed by evaluating and giving a justification of appropriateness of each of the sources used by you. (AC 1.3 : Evaluate appropriate sources of finance for a business project). [Grade Descriptor D1] Task 2 (LO 2: AC 2.1, 2.2, 2.3, 2.4) LO 2 - Understand the implications of finance as a resource within a business ACME has now sought proposals from various finance providers so as to evaluate the optimal financing structure for its project. It is keen to look at mix of debt and equity sources so as to achieve its target debt: equity financing mix. You are told that ACME tax rate will be 30%. The following proposals have been received by ACME. Debt Option 1: Bank A has offered a five year loan of up to US$ 100 million carrying an 8% interest payable quarterly. The principal has to be repaid in semi-annual instalments. Debt Option 2: Bank A has offered an alternative option of a 4 year loan of up to US$ 95 million carrying interest rate of 7% payable quarterly. The principal has to be repaid in semi-annual instalments. ACME would be required to keep a compensating balance of 5% of initial loan amount, till the loan is fully repaid, which would earn an interest of 2% p.a. Debt Option 3: Leasing Company B has offered a 5 year lease of plant and equipment of about US$ 85 million on which it would charge a lease rental equivalent to 9% p.a. Equity Option 1: An Investment Company is keen to invest up to US$ 50 million in the equity of the company. It has mentioned that the current market conditions offer it enough opportunities to earn a return of 12% p.a. Given the above information, please help ACME answer the following questions. To get full credit, you are required to show the steps and workings. 2.1 What is the effective interest cost of Debt Option 1 and Debt Option 2? Prepare a table which lists out all the financing options, maximum amount offered, after tax cost. Based on this table advise ACME as to how should it finance the requirements of US$ 175 million, given its debt: equity policy and its own desired investment of US$ 50 million. Please briefly justify and analyse why you consider your suggestion as optimal in terms of cost. (AC 2.1: Analyse the costs of different sources of finance) [Grade Descriptor D1] 2.2 Guide and explain ACME as to the importance and advantages of good financial planning and how such planning helps the company in the long term? (AC 2.2: Explain the importance of good financial planning) [Grade Descriptor M3] 2.1 ACME wants to conduct a feasibility study of the steel market in the GCC region to analyse the demand for the products and the competition. Its objective is to see if it is worthwhile to set up the plant. Briefly explain and assess the needs and sources of information that ACME can use to conduct this study? (AC 2.3: Assess the information needs of different decision makers) [Grade Descriptor D2] 2.2 ACME also wants your help to understand the impact of the following on its future financial performance, as would be seen in its financial statements, once it becomes operational. (AC 2.4: Explain the impact of finance on financial statements) [Grade Descriptor D2] High amount of debt as compared to equity Taking a 7 year loan vis--vis a 3 year loan, both re-payable semi annually Increase in tax rate from 30% to 40% If the equity investor pushes the company to increase his returns from his investment Assignment title Be able to make financial decisions based on financial information Purpose of this assignment: Be able to make financial decisions based on financial information Analyse budgets and make appropriate decisions Explain the calculation of unit costs and make pricing decisions using relevant information Assess the viability of a project using investment appraisal techniques Scenario ACME Corporation is setting up steel structural plant in UAE to cater to the rapidly growing real estate market in the GCC. It envisages setting up the project at a cost of US$ 175 million. The details of the expected cash flows for the first 5 years are as under: (US $) Original Investment (year 0) : -175 million Cash Inflow (year 1) : +30 million Cash Inflow (year 2) : +50 million Cash Inflow (year 3) : +80 million Cash Inflow (year 4) : +90 million Cash Inflow (year 5) : +110 million The project will be funded by a mix of debt and equity such that the weighted average cost of capital if 10%. ACME Corporation is preparing the budget for the coming year. The following initial forecasts have been proposed for the coming year 2015. 1. 2. 3. 4. Sales Selling Price Opening Inventory of finished goods for the coming year Desired level of closing inventory for the year : : : : 100,000 units $ 15 per unit 20,000 units 15,000 units, ACME Corporation Unique Technologies is currently preparing the cash budget for the first quarter of the coming year. Forecasts for sales for each month of the first quarter are as under: January : 7,000 units February March : : 7,500 units 8,000 units Selling price is expected to be about US$ 15 per unit. 40% of the sales are collected in the month of sales while the balance 60% is collected in the next month. Receivables of last year of $ 30,000 is expected to be collected in January of coming year. Payment for expenses is expected to be @ $ 12 per unit and is to be paid in the same month. Opening balance of cash as on 1st January 2014 would be $ 5,000 A company is trying to figure out the ideal pricing strategy for a new product. The company seeks to maximise profitability by pursuing an aggressive penetration strategy. The maximum number of units possible to be produced are 15,000 units. Competition sells the units in the range of $8 to $ 10 per unit. The Company realises that if it sets a higher price than competition it will generate low market share. If it can manage a low price, it will achieve higher sales though it might affect profits. The company estimates the product demand at different price levels is as under: For a price of 8 $ per unit the company can sell 14500 units For a price of 9 $ per unit the company can sell 13500 units For a price of 10 $ per unit the company can sell 12500 units Cost structure of the Company is as under: Variable Costs : $ 5 per unit Fixed Costs : $ 20,000 Tax Rate : 30%