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Financial Decision

Question:

Discuss about the Financial Decision.

Answer:

Introduction:

The analysis represents that when Ace Printer’s Plc was operating at the level of 80,000 units it had the sales revenue of $960,000 and it incurred the variable cost of $360,000. The contribution margin stood $600,000 with the fixed cost of $165,000. According to the first strategy undertaken by Ace Printers Plc the company is currently operating at 80,000 units with a variable cost per unit of $4.50. With the current strategy employed by the organization, the Internal Rate of Return represents 13.68 whereas, the net present value yielded from first strategy is $1,522,871. Meanwhile, the profitability index reflected the value of 1.14% (Afik and Benninga 2014). The information derived under the operating level of 80,000 units shows the net annual income of $567,500 with net operating cash flow of $732,500 for the first financial year after considering 8.50% the annual rate of return.

Under the second strategy Ace Printers Plc is considering to increase the level of output to 95,000 units and incurs the variable cost of $418,000 where as the net annual value reflects the value of $567,500. The major components concerning the second strategy are the projected internal rate of return showing the value of 29.44 (Penman and Zhang 2013). This shows that if Ace Printers Plc maximizes the units of production to 95000 units its sales revenues increase from $960,000 to $1,092,500. This represents that the second strategy is more profitable than the first strategy as the projected annual cash flow for the first financial year is $732,500 and for the subsequent year $715,135 with the incremental value of 11% yearly on annual sales.

Beta statistically measures the volatility of a stock when compared with the overall market. It is usually used to measure systematic risk and organizational performance. The beta values of stock illustrate the volatility of stock price movement in terms of market relation. If a stock has a beta value of more than 1 it has more variations and it is considered of having more volatility in market. On the other hand, if the beta value is below 1 then the stock volatility is low and its price movement is not highly correlated with the overall market conditions (Barberis et al. 2015). Lower beta stocks reflect fewer variations as they do not carry much of the market risk and generates high amount of return from market.

According to the case study, the beta values of Severn Trent Plc and Taylor Wimpey plc represents 1.50 and 0.60 respectively. This represents that the beta values of Severn Trent Plc is higher than the Wimpey Plc. According to the definition, the beta value of Severe Trent Plc shows that it deviates at a higher degree in market. A stock which swings at a higher degree beyond the prescribed market rate is believed to have been exposed at high risk. It can be observed that the stock value of Severe Trent Plc is 1.50 which is beyond the prescribed market value of 1 beta (Barberis et al. 2015). On the other hand, the beta value of Wimpey Plc is low which ultimately represents that the stock variation is not volatile in terms of market risk.

Beta is considered as a vital element for capital asset pricing model (CAPM). This component is used to calculate the cost of equity for any listed stock price in the market. The cost of capital usually represents the rate of discount rate which is employed by the organization to arrive at current value of desired cash flows. The capital asset pricing model explains that higher the amount of discount rate represents the current value of cash on the future cash flows. If taken precisely beta value has the authenticity to create an impact on the share value of an organization. The variability of stock price is significant in determining the risk of stocks (Cumming et al. 2016). Indeed, it is important to denote that beta value of stocks provides a clear and quantifiable measure which makes it easy to work with. The above beta values of the two respective companies shows that variations on beta depends upon the market index used and the time period used to measure the values of stocks.

If the implications of beta values is considered for both the organizations the beta values of Severn Trent Plc is higher and it is vulnerably exposed to high market risk. The beta component of Severn Trent Plc reflects 1.50 beta values which demonstrate that the stock price has high volatility and hence, it is exposed to high market risk.

Capital investment decision:

Capital investment decision can also be defined as the capital budgeting in terms of financial decision making prospects. Capital investment decision is aimed at allotting the capital investment fund of an organization in an effective manner. According to the comments made by the H.R manager “Tom Sparks” source of capital is important for an organization to make several important decisions. Capital investment decision is usually regulated by the process of rating and identifying the firm’s capital investments.

While making capital investment decision, business usually aims to maximize the wealth of the shareholders by acquiring assets and by yielding profit (Robb and Robinson 2012). The management has to make decision regarding the sources of funds to be obtained for a specified project thereby, also determining the capital investment decision to derive the cash flow yield. It is noteworthy to denote that the capital investment decision enables the managers to assure that the resources of business is apportioned appropriately to strategically achieve the desired goals of an organization. The capital investment decision making process plays a vital role for the managers in capital investment. Depending upon the kind of projects an organization considers at a given period of time, an organization prioritizes the sources of capital to be obtained from various sources.  

Capital investment decision is highly important for an organization in following ways;

Expansion: It is to be denoted that capital investment decision is centrally aimed at expansion of operational levels. This can be attained by acquiring fixed assets through purchasing plant and equipment which assures that good investment and capital investment are in the balancing act.

Replacement: The growth of an organization slows down after the period of maturity. This usually happens if an organization is using worn out or uses outdated plants and machinery (Guerra et al. 2014). An appropriate capital investment decision will enable an organization to return to full fledged productivity and generate desired benefits.

Renewal: As a substitute to replacing renewal may consist of re-building or re-hauling an asset currently in use. This usually enables firms to increase its productivity and profits.

Value maximization: The structure of capital maximizes the market value of an organization. If an organization has adequately designed structure of capital the average worth of ownerships interest and shareholders claim are maximized (Edwards 2013).

Minimization of cost: Sources of capital usually reduces an organization cost of capital or cost involved in financing its resources. By determining an appropriate source of adequate mix of funds, an organization can keep the overall cost of capital to the lowest amount.

Increased price of shares: Capital investment decision helps an organization to increase the market price of shares by increasing the earning per share of the existing shareholders of the company (Meyer 2016.). Increased price of shares helps in increasing the dividend receipt of shareholders.

Improved investment opportunity: Improved capital investment decision helps an organization to increase its sources of capital and thereby, improving the ability of an organization towards improved wealth creating investment opportunities. In addition to this, adequate capital gearing also helps in improving the level of confidence of suppliers of debt.  

It is evident that most of the business has the plan of expanding their business and boost their sales and profit. However, there are certain methods which Ace Printers Plc must use in order to implement growth strategy. In this case study “Peter Kormach” is in the opinion of acquiring new competitor where as “Beverly” has voiced his suggestion regarding sensible growth. A detailed overview is provided below regarding the sustainable growth strategies for Ace Printers Plc to be presented to the management. These are as follows;

1. Market penetration: One of the best growth strategy recommended for the Ace Printers Plc is market penetration. Ace Printers Plc should decide to employ market penetration strategy with its existing products within the same set of markets where it has been using. The most central way of growing the use of existing products and markets is to maximize its market share. Market share can be defined as the percentage of unit and revenues generated from sales which a company holds under a certain market in contrast to its competitors (Brown 2012). One of the suggested ways of entering the market for Ace Printers Plc is to maximize its market share by lowering the price of the products and increasing the volume of output.

2. Expansion of market: Another strategy which can be implemented by Ace printers Plc is employing market expansion strategies for attaining desirable growth, it is also known as the market development strategies. This will enable Ace Printers Plc to sell its current products in new markets. There are numerous reasons for Ace Printers Plc to consider the market expansion strategy (Duuren et al. 2015). At first the competition should be such that there should no room for growth under the current market where it operates. It is noteworthy to denote that if Ace Printers Plc does not discover new market for its merchandise, it will not be in a position to increase the sales strategy. Ace Printers Plc must use new strategy of market expansion for its existing products.

3. Product expansion: It is already evident that Ace Printers Plc is expanding its volume of productions so that it can add to its new features of increasing sales and profitability. The strategy of product expansion have worker well on numerous occasions when new technologies are implemented.

4. Acquisition: Growth strategies for Ace Printers Plc also include acquisition. Under the acquisition process, an organization acquires another company to expand its operational functions. Ace Printers Plc may employ such acquisition strategies to expand its operational functions and enter into the new markets. An acquisition growth can turn out to be risky but it is not as risky as the process of diversification. One of the sole reasons where Ace Printers Plc may implement such strategy if they think both their products and markets are already known to the customers (Shroff, et al. 2013). Ace Printers Plc must understand their strategy before entering into the acquisition process as it involves huge investments.

5. Acquiring a distribution channel: One of the most sought after goal of acquisition is merging and sharing of the distribution channel. It takes a hard work to develop a strong distribution channel. The process of acquisition is very effective method of business acquisition. Acquisition of distribution channel will serve as a potential advantage for Ace Printers Plc. Gaining retailers can turn out to be one of the major challenges for Ace Printers Plc in the process of acquisition but as soon as the resellers are secured the distribution channel becomes more effective.

Reference list

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Ai, H., Croce, M.M. and Li, K., 2013. Toward a quantitative general equilibrium asset pricing model with intangible capital. Review of Financial Studies, 26(2), pp.491-530.

Arnold, G., 2014. Corporate financial management. Pearson Higher Ed.

Barberis, N., Greenwood, R., Jin, L. and Shleifer, A., 2015. X-CAPM: An extrapolative capital asset pricing model. Journal of Financial Economics,115(1), pp.1-24.

Brief, R.P. and Lawson, R.A., 2014. Approximate error in using accounting rates of return to estimate economic returns. The Continuing Debate Over Depreciation, Capital and Income (RLE Accounting), p.225.

Brown, R., 2012. Analysis of investments & management of portfolios.

Cumming, D.J., Fleming, G. and Liu, Z.F., 2016. Private Debt: Volatility, Credit Risk, and Returns. Credit Risk, and Returns (March 12, 2016).

Duuren, E., Plantinga, A. and Scholtens, B., 2015. ESG integration and the investment management process: fundamental investing reinvented. Journal of Business Ethics, pp.1-9.

Edwards, J.R., 2013. A History of Financial Accounting (RLE Accounting)(Vol. 29). Routledge.

Gajek, L. and Kaluszka, M., 2015. On the average rate of return in a continuous time stochastic model. arXiv preprint arXiv:1501.03772.

Goldman, N.D., Capital Iq, Inc., 2013. Method of identifying potential targets for a capital transaction. U.S. Patent 8,355,968.

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