AC3410 Financial Management for Business Coursework Assignment

Wordcount: 3000 Words

Dashwood plc is a UK manufacturing firm, supplying PPE (Personal Protection Equipment) that has been trading since 1990. In order to meet increased demand, the company is considering opening a number of new factories across the UK. It is anticipated that most of the premises will be rented but the expansion would still require a significant investment of £25m for the company.
The Directors have identified that the required new machinery which will cost £12m and will have an initial expected life of 4 years. The following forecast financial information is currently available:

Year 1 Year 2 Year 3 Year 4
Net cash inflow £2,300,000 £2,530,000 £2,930,400 £3,357,500
Working capital equal to 20% of cash flows needs to be in place at the start of each
year. This will be released at the end of the expected life.
It is expected that the machinery used have a scrap value of £3m at the end of its useful life.
The machinery attracts tax allowable depreciation at a rate of 25% reducing balance.
Corporation tax is payable at 20%. Tax cash flows are payable or receivable one year in arrears
Fargo plc, the company’s bank, is aware of these plans and has stated that they are willing to provide the debt element of the financing, with a loan at a rate of 10% pa, repayable in 5 years time.
The company has historically used a discount rate of 7% when assessing potential investments. The following comments have been made by Directors at a Board meeting, where the planned investment was discussed:
Director A “We should continue to use out discount rate of 7% as it represents our
most costly source of finance, equity shares”
Director B “We shouldn’t ignore other forms of financing. Why can’t we average
out the various forms of finance we have available to us”
Director C “We should use 10% as our discount rate because that is what Fargo
plc will charge us for funding the expansion”
The Board have asked you to calculate an appropriate discount rate to use when
assessing the investment plans. The following information is available to you:
Statement of Financial Position
extract
Nominal value Market value
£1 ordinary shares (note 1) £5,000,000 £8.60 / share (cumdiv)
6% 50p preference shares £2,000,000 £3.20 / share (ex-div)
5% irredeemable debentures £4,000,000 £80 (ex-int)
7% redeemable debentures (note 2) £16,000,000 £96 (ex-int)
Notes
(1) The company is about to pay a dividend of 46p for the year ended 31
December 2020. The annual dividend has been growing steadily at a rate of
4% for a number of years
(2) The redeemable debentures will be redeemed at a discount of 3% in 3 years’
time
Assume the corporation tax is 20% and that the year end is 31 December 2020
Director D has expressed the following concerns about the proposed £25m loan
“Future dividends could be threatened, which will impact on our shareholder wealth”
Required
a) Calculate the weighted average cost of capital which could be used as an
appropriate discount rate when assessing the investment plans. The allocation of
marks is as follows:
 Cost of equity (3 marks)
 Cost of preference shares (1 mark)
 Cost of irredeemable debentures (1 mark)
 Cost of redeemable debentures (5 marks)
 Weighted average cost of capital (5 marks)
b) Discuss the points raised by each of the Directors A,B,C at the Board meeting,
with reference to capital structure theories (25
marks)
c) Critically evaluate Dashwood plc existing sources of finance and contrast these
with the proposed loan
(30 marks)
d) Discuss the impact of the proposed loan on Dashwood plc’s gearing
(10 marks)
e) Discuss dividend policy with reference to the concerns of Director D
(10 marks)
f) Advise the Directors on the viability of the proposed investment
(15 marks)

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