FINANCIAL MANAGEMENT

INSTRUCTION:

1. This is an individual assignment.

2. A hard copy MUST be presented to the lecturer on the due date.

3. The APA format MUST be maintained, and a declaration of authorship must be made.

4. This assignment represents 15% of final grade

Instructions: Answer ALL questions in this section.

QUESTION 1

Latherman’s Company Limited supplies meat, feed and fuel to the Caribbean market. The company has been aggressively pursuing a strategy of credit sales to expand market share. The directors prefer to finance expansion using internal sources of funds, however, they have accessed low cost loans to support growth. Unfortunately, due to Covid-19 disruptions the company’s fuel production facility has been closed since September 2020.

Latherman's Company Limited
Income Statement for the year ended December 31, 2020
	2020	2019
	$'000	$ '000
Revenue	22,446,902	24,623,315
Cost of sales	(17,730,725)	(20,662,325)
Gross Profit	4,716,177	3,960,990
Other operating income	105,994	110,902
Distribution cost	(556,686)	(479,865)
Admin. Expenses	(2,183,773)	(2,154,824)
Operating Profit	2,081,712	1,437,203
Finance costs	(484,475)	(433,476)
Taxation	(284,436)	(175,664)
Unrealized losses	(570)	(9,686)
Exchange differences	13,544	369,960
Net Income	1,325,775	1,188,337
	Cents	Cents
Earnings per share	109.47	69.05
Price per share	$6.10	$5.15

Latherman's Company Limited
Balance Sheet for the year ended December 31, 2020
	2020	2019
	$'000	$ '000
Non-Current Assets
Property, plant and equipment	6,414,590	6,580,143
Intangible asset	70,729	77,843
Investments	123,607	193,481
Deferred Income taxes	30,180	12,983
Post-Employment benefit assets	206,200	157,400
	6,845,306	7,021,850
Current Assets
Inventories	2,617,645	3,748,371
Biological assets	885,999	810,935
Receivables	1,285,190	1,030,937
Taxation recoverable	5,494	13,977
Cash and short tern investment	1,282,938	785,596
	6,077,266	6,389,816
Current Liabilities
Payables	1,480,602	1,546,793
Taxation payable	132,380	132,942
Dividends payable	-	131,921
Borrowings	2,243,194	3,807,595
	3,856,176	5,619,251
Net Current Assets	2,221,090	770,565
	9,066,396	7,792,415
Stockholders' Equity
Share Capital	765,137	765,137
Capital Reserve	1071941	1058967
Retained Earnings	5046553	3973607
	6,883,631	5,797,711
Non-Current Liabilities
Borrowings	1717023	1670410
Deferred income taxes	456542	316294
Post-emp. benefit obligations	9200	8000
	9,066,396	7,792,415

Required:

A. Calculate the following ratios:

i. Accounts receivable turnover (3 marks)

ii. Current ratio (2 marks)

iii. Average collection period (3 marks)

iv. Inventory turnover (3 marks)

v. Debt-equity ratio (3 marks)

vi. Return on asset (2 marks)

vii. Price-to-earnings ratio (2 marks)

B. The following table represents the industry averages for the selected ratios. Compare the results of the ratios as computed in Part A with the ratios in the table and provide a brief comment on the firm’s financial performance. (7 marks)

Industry	Average
Account Receivable Turnover	15 times
Current Ratio	2.43
Average Collection	25 days
Inventory Turnover	4.48 times
Debt-to-Equity	0.55
Return on Asset	13.50%
Price-Earnings Ratio	8 times

QUESTION 2

a) As an Investment Advisor, your client indicates that he wants to eliminate the risks in his investment portfolio.

I. Differentiate between systematic and unsystematic risk. (2 Marks)

II. With the aid of a diagram, advise the client on as to the extent of his elimination and how he can reduce the level of risk in his portfolio. (4 Marks)

b) Consider the following information

State of Economy	Probability of State of Economy	Digicel Rate of Return	FLOW Rate of Return
Boom	0.4	0.15	0.40
Average	0.2	0.09	0.10
Recession	0.4	0.05	-0.08

I. Compute the expected rate of return on each stock. (4 Marks)

II. Compute the Standard Deviation of each stock (4 Marks) III. Which stock is most volatile? (3 Marks)

c) Brianna holds the portfolio shown below. Using the responses in B, calculate the portfolio’s expected return. (3 Marks)

DIGICEL $400,000

FLOW $300,000

d) Brianna is seeking to expand her portfolio and thinks these two stocks are good value. Assume a risk-free rate of 8% and a market rate of 12%, which stock should she add to the portfolio? (5 Marks)

Stock	Expected Return	Beta
CIBC	13%	1.5
SCOTIA	19%	2.5

(Total 25 marks)

QUESTION 3

Lego Ltd has an optimal capital structure of 25% debt; 10% preferred stock and 65% common stock.

The company recently participated in the bonds market. They have sold an issue of 30-year bond with an 10% coupon rate and realizes net proceeds (after flotation costs) of $950 for each $1000 face value bond. During the same period the company also issued an 8% preferred stock having a par value of $120, priced at $135 and a flotation cost of $8.00 per share. The risk-free rate of equity is 6%; the expected return on market portfolio is 12% and beta for the company’s stock is 1.2. Corporate taxes payable is at a rate of 30%.

Required:

A. Calculate the after-tax cost of debt. (5 marks)

B. Calculate the cost of capital for preferred shares issued. (3 marks)

C. What is the cost of equity? (4 marks)

D. Calculate the weighted average cost of capital (WACC). (6 marks)

Lego Ltd’s ordinary share was last traded at $230 per share. The company just paid dividend of

$1.25 per share. The market expects the stock to grow by 5% per year into the foreseeable future.

Assuming the capital structure is revised to now 35% Bonds, 20% Preference Share and 45%

Ordinary Shares, what would be the company’s weighted average cost of capital (WACC)? (7 marks)

(Total 25 marks)

2020/2021- Semester 2

Financial Management II

2020/2021- Semester 2

Financial Management II

2020/2021- Semester 2

Financial Management II