Assignment
Task 1
Foreach of the following movements in ratios, provide at least two (2) possible reasons for the movement in each ratio (1 to 5) for one year to the next:
|
|
|
Year 20X1
|
Year 20X2
|
|
1.
|
Current ratio
|
2.0 : 1
|
2.5 : 1
|
|
2.
|
Gross profit ratio
|
45%
|
40%
|
|
3.
|
Inventory turnover rate
|
6 times per year
|
5 times per year
|
|
4.
|
Debtor turnover rate
|
40 days
|
45 days
|
|
5.
|
PE ratio
|
12times
|
13times
|
Part B
Ineach of the following examples the ratio has deteriorated from one year to the next. For each case, provide at least one (1) recommendation that you would make to management to correct the trend in the ratio:
|
|
|
Year 20X1
|
Year 20X2
|
|
(a)
|
Debtor turnover rate
|
30 days
|
45 days
|
|
(b)
|
Net profit ratio
|
25%
|
20%
|
|
(c)
|
Debt to equity ratio
|
40%
|
50%
|
|
(d)
|
Time interest coverage
|
5 times
|
4 times
|
|
(e)
|
Return on equity
|
20%
|
17%
|
Part C
For the following actions taken by the management of the company, indicate how it would affect the identified ratio (unless specified assume that all other aspects of the financial performance remains unchanged):
|
|
Action taken
|
How is this ratio affected
|
|
(a)
|
Gross profit ratio improved by reducing cost of sales
|
Earnings yield
|
|
(b)
|
Debt repaid by issuing new ordinary shares
|
Times interest coverage
|
|
(c)
|
Reduced debtor turnover rate by improved debt recovery procedures
|
Current ratio
|
|
(d)
|
Borrowed funds to use for redevelopment of the business in the future (i.e. funds acquired but not yet spent)
|
Liquid ratio
|
|
(e)
|
Instead of paying a dividend, the funds were retained for expansion of the business
|
PE ratio
|
Task 2
Hale & Pace Ltd have raised funds from the following sources:
9.5% debentures $80,000
8% preference shares $10,000
Ordinary shares fully paid to $1 $ 5,000
Earnings before interest and taxes are currently $16,000 . The company is required to raise $20,000 for expansion and is considering either issuing more ordinary shares at a market value of $1.60 or offering 11.5% debentures. The following estimates of earnings before interest and taxes have been calculated if the expansion proceeds.
EBIT ($000s) Probability of occurrence
15 0.10
18 0.25
20 0.45
25 0.20
Tax is 30% on profits.
(i) What are the earnings per share under each estimated level of EBIT if shares are issued?
(ii) What are the earnings per share under each estimated level of EBIT if debt is used?
(iii) What are the expected earnings per share under each alternative?
(iv) What is the coefficient of variation of EPS under each alternative?
(v) Which alternative would you choose? (vi) Which alternative is more risky?
(vii) Calculate the indifference point (IP) between the Share option and the Debenture option.
(viii) Demonstrate by calculating the EPS for the Share option and the Debenture option that the indifference point is correct (it doesn't matter what level of EBIT you choose).
Task 3
identify at least one risk minimisation strategy that may improve the possibility that any portfolio's return will not be significantly different from the expected market return. How may this affect the portfolio's return in the future?