After the overall evaluation the investment conducted by the parents is relevantly adequate, as 10-year Commonwealth Government bonds is one of the safest investment bets considering they are not prominent investors. In this case the investment conducted is adequate and is whole heartedly agreed by me. Ballotta and Kyriakou (2015) mentioned that the risk free return provided by bonds is mainly used by investors to hedge their portfolio and reduce the risk from high return providing securities. However, concern regarding the risk and return factors is not agreed by me, as risk free investment does not have any kind of risk, which could hamper turn of the investors. Moreover, any kind of investments that is given by the risk free investment is adequate, as a fixed return is provided. Nevertheless, certain measures could be used by investors, while making the investment decisions in risk free bonds. These measures are depicted as follows.
The inflation rate needs to be taken into account, as the return might not be useful to the investor if inflation rises and nullifies the return. This could only reduce viability of the investment conducted on bond. Badertscher et al. (2015) mentioned that increased inflation rate and constant yield mainly reduce demand of the bonds, which in turn forces the price of bonds to plunge.
The actual yield of the bonds need to be considered while purchasing bonds, as reduced yield will mainly nullify any gains, which might be portrayed by the bonds. Furthermore, the bond needs to provide a fixed return, which needs to be higher than the inflation rate. Kalotay (2014) argued that without adequate investment decisions buying bonds could only block capital of the investors and provide limited returns.
After the overall evaluation of the financial position and condition of Slater & Gordon’s there is very limited options of generating finances, which could be used by the managing directors. The current condition of the company is so vital that issuing shares and acquiring more debt from bank or other financing activities is not an option. The share of the company have plunged the lowest in six months, which nullifies the option for using share issue (Ft.com 2017). This might not allow the company to raise the required capital and in turn increases it expense on issuing the shares. Moreover, the company could also not use bank loans, as an adequate option, where maximum of its loans are not being paid. The following options could be used by the company to raise the required level of financing to support its directors comments.
The management could issue bonds, which might help in generating the required finance for jump starting the overall company. The issue of bond would provide the company with adequate time to consume the overall acquisition expense and improve its financial stability. Seeing the overall financial gains of the company in year-on-year basis it has adequately grown and generated higher returns for its investors. This bond issue could adequately allow the company with relevant time to support its activities and generate adequate profits (Majury 2014).
The second measures that could be used by the company are selling some of its fixed and current assets, which might help in accumulating the required funds to support its activities. The company’s receivables and work-in-progress have adequately accumulated, which might be sold to generated relevant cash. The overall intangible assets and property could be sold by the company to generate quick cash, which could be used in supporting its current operations (Zhaofeng 2016).
|
Particulars |
Amount |
|
Market research cost |
$ 5,000 |
|
New machine (A) |
$ 200,000 |
|
Time (B) |
5 years |
|
Depreciation (C=A/B) |
$ 40,000 |
|
Add old machine depreciation (D) |
$ 15,000 |
|
Total depreciation (E=C+D) |
$ 55,000 |
|
Net additional contribution (F) |
$ 40,000 |
|
Net Cash flow per year (G=F+E) |
$ 95,000 |
The overall cash flows that is recorded in the above table all needs to be considered, while making the decision for new product launch. The overall flows have different characteristics, which needs to be understood and adequately used by the company to get the actual cash inflows of the product and then detect its viability by using investment appraisal techniques.
This is type of investment needs to be conducted by before initiating any kind of new product launch, as it helps to identify the actual potential and market demand of the product. The overall market research needs to be considered as the initial investment and used during the investment appraisal evaluation (Gotze, Northcott and Schuster 2016).
The new machine purchase cash outflow is mainly conducted to initiate the new project and start the production. The purchase of the new equipment needs to be considered as the initial investment and used during the investment appraisal evaluation.
The overall depreciation cash flow is conducted on the new machine purchase and on the old building, which could be used in the production system. The depreciation system mainly allows the companies to reduce the overall expenses conducted on tax and increase the retained income of the project. This retained income is then utilised in increase the overall cash inflow of the company project. The use of depreciation is mainly conducted in determining the actual cash flow of the product (Baum and Crosby 2014).
The overall net additional contribution is the net income, which is generated from the sales of the products after deducting all the relevant expenses. This cash inflow is the overall income, which is generated from the product and could be used in detecting financial viability of the investment. The below mainly portrays the overall cash inflow and outflow of the investment for 5 years. In addition, by using the overall IRR method overall viability of the product could be detected. Therefore, the net additional contribution could be used by the company in detecting actual financial viability of the investment and make adequate decision in continuing the proposal of new product (Almarri and Blackwell 2014).
|
Year |
Cash inflow |
|
0 |
$ (205,000) |
|
1 |
$ 95,000 |
|
2 |
$ 95,000 |
|
3 |
$ 95,000 |
|
4 |
$ 95,000 |
|
5 |
$ 95,000 |
|
IRR |
37% |
|
Particulars |
0 |
1 |
2 |
3 |
4 |
5 |
|
Sales |
$ 481,000.00 |
$ 514,670.00 |
$ 550,696.90 |
$ 589,245.68 |
$ 630,492.88 |
|
|
Production cost |
$ 59,200.00 |
$ 63,344.00 |
$ 67,778.08 |
$ 72,522.55 |
$ 77,599.12 |
|
|
Marketing cost |
$ 96,200.00 |
$ 102,934.00 |
$ 110,139.38 |
$ 117,849.14 |
$ 126,098.58 |
|
|
Inventory cost |
$ 52,000.00 |
$ (52,000.00) |
||||
|
Annual rent |
$ 30,000 |
$ 30,000 |
$ 30,000 |
$ 30,000 |
$ 30,000 |
|
|
Employees (4) |
$ 300,000 |
$ 300,000 |
$ 300,000 |
$ 300,000 |
$ 300,000 |
|
|
Total expenses |
$537,400.00 |
$496,278.00 |
$507,917.46 |
$520,371.68 |
$481,697.70 |
|
|
Net income |
$ (56,400.00) |
$ 18,392.00 |
$ 42,779.44 |
$ 68,874.00 |
$ 148,795.18 |
|
|
Initial investment |
$200,000 |
|||||
|
Total cash flow |
$(200,000.00) |
$ (56,400.00) |
$18,392.00 |
$42,779.44 |
$68,874.00 |
$148,795.18 |
|
Year |
Cash flow |
Discounting rate |
Discounted cash flow |
|
0 |
$ (200,000.00) |
1 |
$ (200,000.00) |
|
1 |
$ (56,400.00) |
0.847457627 |
$ (47,796.61) |
|
2 |
$ 18,392.00 |
0.71818443 |
$ 13,208.85 |
|
3 |
$ 42,779.44 |
0.608630873 |
$ 26,036.89 |
|
4 |
$ 68,874.00 |
0.515788875 |
$ 35,524.44 |
|
5 |
$ 148,795.18 |
0.437109216 |
$ 65,039.74 |
|
Net Present Value |
$ (107,986.69) |
The overall NPV of the project is mainly calculated at ($107,986.69), which is relatively negative and portrays the problems that might be incurred from investment in the project. Therefore, with a negative NPV the overall non-viability of the proposed project could be identified, which needs to be discontinued by the company for increasing its profitability in future.
NPV analysis is mainly considered one of the major investment appraisals techniques, which are used by organisation to detect the actual viability of a certain project. The NPV method mainly allows organisation to detect viability of the projects, which could help in increase firm value in near future. Mahmoud and Neale (2016) mentioned that with the help of adequate investment appraisal techniques companies are able to increase their future return from investment. On the other hand, Venables, Laird and Overman (2014) criticises that investment appraisal techniques mainly lose its friction if variables and data are not adequately researched before conducting the analysis. Moreover, with the help of NPV analysis companies are able to utilise the time variance, which help in depicting actual value of future cash inflow in investment year. The use of NPV analysis majorly allows the organisation discount all the relevant income and expenditure, which could help in detecting actual valuation portrayed by the project.
There are other investment appraisal techniques, which could be used by organisation to detect viability of the projects. Investment appraisal techniques such as payback period, internal rate of return, accounting rate of return, and profitability index are mainly used by organization to detect actual viability of the project. These techniques only come in handy when the investment level is different or the NPV value is relevantly same from different projects. The use of the identified measures could eventually help in detecting the projects, which have the highest return generation capacity. The major qualitative factors that need to be considered are product/services, environmental concerns, and ethical considerations. Diewert, Fox and Shimizu (2016) mentioned that the use of adequate qualitative factors mainly allow organisation to increase their product quality, which help in boosting their shares. On the other hand, Baum and Crosby (2014) criticises that increased product quality might raise he product cost, which in turn could reduce the actual income generated from a certain project.
The business should not be started, as the overall NPV of the project is negative ($107,986.69). This only depicts that the investment would reduce the actual investment value and attains low profitability from investment.
The capital budgeting process mainly uses depreciation for building, which is used in production process. This depreciation process is mainly conducted, which help in reducing the tax expenses and increase cash inflow. The depreciation is mainly used as the project utilises the building and adequate compensation needs to be provided for the investment.
Cost of borrowed fund is mainly identified as the minimum return that needs to be provided from an investment. In addition, any decline in the overall return from cost of capital will mainly reduce overall viability of the project. Moreover, cost of borrowed funds is mainly used as a discounting factor to detect the actual value of future cash flows and determine the viability of the project (Upton et al. 2015).
Reference and Bibliography:
Almarri, K. and Blackwell, P., 2014. Improving risk sharing and investment appraisal for PPP procurement success in large green projects. Procedia-Social and Behavioral Sciences, 119, pp.847-856.
Badertscher, B.A., Givoly, D., Katz, S.P. and Lee, H., 2015. Private ownership and the cost of debt: Evidence from the bond market.
Ballotta, L. and Kyriakou, I., 2015. Convertible bond valuation in a jump diffusion setting with stochastic interest rates. Quantitative Finance, 15(1), pp.115-129.
Baum, A.E. and Crosby, N., 2014. Property investment appraisal. John Wiley & Sons.
Berk, J, DeMarzo, P, Harford J, Ford, G and Finch, N 2014, Fundamentals of corporate finance, Pearson Australia, 2nd edn, Frenchs Forest, NSW. ISBN: 978 1486042197
Boatright, J.R 2013, Ethics in finance, 3rd edn, Wiley.
Brealey, R, Myers, S and Marcus, A 2012, Fundamentals of corporate finance, 7th edn, McGraw-Hill Australia, Sydney.
Diewert, W.E., Fox, K.J. and Shimizu, C., 2016. Commercial Property Price Indexes and the System of National Accounts. Journal of Economic Surveys, 30(5), pp.913-943.
Ft.com. (2017). Banks take big loss on Slater & Gordon investment. [online] Available at: https://www.ft.com/content/cdbe2a9a-0aa7-11e7-97d1-5e720a26771b?mhq5j=e1 [Accessed 18 Jul. 2017].
Gitman, LJ, Juchau, R and Flanagan, J 2011, Principles of managerial finance, 6th edn, Pearson Education Australia, Sydney.
Gotze, U., Northcott, D. and Schuster, P., 2016. INVESTMENT APPRAISAL. SPRINGER-VERLAG BERLIN AN.
Graham, JR, Scott, BS, Adam, C and Gunasingham, B 2017 Corporate finance, , Cengage Learning, 2nd Asia-Pacific edition, South Melbourne, VIC. ISBN: 9780170364331.
Kalotay, A., 2014. The Interest Rate Sensitivity of Tax-Exempt Bonds under Tax-Neutral Valuation. Journal of Investment Management, 12(1), pp.62-68.
Mahmoud, O. and Neale, B., 2016. Managerial Judgment Factors and the Real Options Approach in the Investment Appraisal Process: Evidence from UK Automotive Firms.
Majury, N., 2014. ‘Trusting the numbers’: mineral prospecting, raising finance and the governance of knowledge. Transactions of the Institute of British Geographers, 39(4), pp.545-558.
Upton, J., Murphy, M., De Boer, I.J.M., Koerkamp, P.G., Berentsen, P.B.M. and Shalloo, L., 2015. Investment appraisal of technology innovations on dairy farm electricity consumption. Journal of dairy science, 98(2), pp.898-909.
Venables, A., Laird, J.J. and Overman, H.G., 2014. Transport investment and economic performance: Implications for project appraisal.
Zhaofeng, L.I., 2016. Analysis on Sources of Finance and Difficulties in Raising Finance for Small to Medium-Sized Companies. International Business and Management, 12(3), pp.27-30.
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