NAME: LINDIWE MHLANGA

FACULTY: Economics and Management Sciences

DEPARTMENT: Namibia Business School

SUBJECT: FINANCIAL MANAGEMENT STRATEGY

ASSIGNMENT: 02

SUBJECT CODE: BFM 5999

STUDENT NUMBER: 201800411

LECTURER: PROF E. ZIRAMBA

QUESTION 1

(a) What is the current share price?

Using the Book Value of the Company,
The current Share Price to be resented = P
Total Assets = $600,000
Common stock outstanding
P= Total Assets/ Number of Common stock Outstanding
P $600,000/12,000
P=$50 per share.

(b) Calculate Earnings per share (EPS) under each of the three economic scenarios before any debt
issue. Also to calculate the expected EPS.

EPS= EBIT/Number of Common stocks outstanding

Details Normal Good Condition Bad Condition Expected

Condition$ $ $ Returns $

EBIT 30,000 50,000 0 27,500

INTEREST - - - -

NET INCOME 30,000 50,000 0 27,000

NUMBER OF 12,000 12,000 12,000 12,000

EQUITY

EPS 2.5 4.17 0 2.29

Calculation:

EPS (Normal Condition) 30,000/12,000= 2.5

EPS(Good Condition) 50,000/12,000=4.17

EPS(Bad Condition) 0/12,000= 0

Expected EPS.

Expected EBIT= .5(30,000) +.25(50,000) +.25(0)= 27500

EPS= 27500/12000=2.9
(c ) Calculate returns on Equity (ROE) under each of the three Economics Scenarios before any debt
issue. Also Calculate the expected ROE.

ROE= Net Income / Book Value of Equity Shareholders

Details Normal Condition $ Good Condition $ Bad Condition$ Expected

Returns$
EBIT 30,000 50,000 0 27500
INTEREST - - - -
NET INCOME 30000 50,000 0 27500
VALUE OF EQUITY 600,000 600,000 600,000 600,000
NUMBER OF 12,000 12,000 12,000 12,000
COMMON STOCK
ROE 5% 8.3% 0% 4.5%

Calculation:

ROE In Normal Condition = 30000/600,000=5%

ROE In Good Condition = 50,000/600,000=8.3%

ROE In Bad Condition = 0/600,000=0%

ROE on Expected Returns= 27500/600,00=4.5%

(d ) By repeating Part (b) with an assumption that Dilana goes through with recapitalisation. What do I
observe?

Eps= EBIT-INTEREST/Number of Common equity Outstanding

EPS= Net Income/ Number of Common Equity Outstanding

Calculation Divided Per Share After Debt is Issued and Expected Earnings after debt is issued. (Net
Income/ Outstanding Shares)

Alternative 1 Alternative 2 Alternative 3

(Good - 25%) (Normal – (Bad – 25%)
50%)
After Loan is Issued
Earnings Per Share
Operating Earnings $30,000 $50,000 $0
Less loan interest ($12,000) ($12,000) ($12,000}
Net Operating Earning $18,000 $38,000 -$12,000
Outstanding Shares 9600 9600 9600
Earnings per share (EPS) $18,000/ 9600 = $38,000/ 9600 $-12,000/ 9600
$1.9 = = -1.3
$4.00

Expected Earnings Per

Share(EPS)
Operating Earnings $30,000 $50,000 $0
Probability 0.25 0.5 0.25
Expected Operating Earnings 7,500 25,000 0
Less loan interest ($12,000) ($12,000) ($12,000)
Net Expected Operating Earnings ($4,500) $13,000 ($12,000)
Expected Earnings Per Share -$4,500/9600 = $13,000/9600 ($24,000)/9600
(EPS) 0.47 = 1.35 = -$2.50

Both dividend per share and expected earnings per share decrease after loan is issued. This is as a result of
interest payments from earnings.

From My observation, Eps of Dilana after recapitalisation All the three conditions with expected returns EPS
where reduce by 1. This might be the effect of risk effect of the recapitalisation financed by debt
instruments of $120,000.
e) By Repeating C part on assumption that Dilana goes through with recapitalization . What do I observe?

ROE= NET INCOME/SHAREHOLDER EQUITY BOOK VALUE

Details Normal Condition $ Good Condition $ Bad Condition$ Expected

Returns$
EBIT 30,000 50,000 0 27500
INTEREST 12,000 12,000 12000 12000
NET INCOME 30000 50,000 0 27500
VALUE OF EQUITY 600,000 600,000 600,000 600,000
NUMBER OF 12,000 12,000 12,000 12,000
COMMON STOCK
ROE 3% 6.3% 0% 2.5%

My Observation with Dilana Corporation goes with recapitalisation. The ROE in the three economics
conditions and expected returns value were reduced by 2% in all conditions respectively. This was as a
result of compensation to debt investors risk for providing the fund for the equity recapitalisation.

Calculation:

ROE in Normal Condition = 30000-12000/600000*100= 3%

ROE In Good Condition = 50000-12000/600000*100=6.3%

ROE In Bad condition= 0

ROE on Expected Returns= 27000-12000/600000*100= 2.5%

QUESTION 2

(a)

The Du point system is use to examine the sources of performance which can break down returns ratios
into their components for determine which areas are responsible for a firms performance.

Year Sales $ Net Income $ Total Assets $ Common Equity $

2014 3800 500 3900 1800
2015 4800 650 4400 2100
2016 5000 750 4800 2500
2017 5400 860 4900 2700
2018 6200 1000 5600 2800

To describe te changes in the return on equity from year to year.

ROE = NET INCOME/ BOOK VALUE OF SHAREHOLDERS EQUITY

ROE= (NET INCOME/SALES)*(SALES/TOTAL ASSETS)*(TOTAL ASSETS/ COMMON EQUITY VALUE)

ROE= (NET PROFIT MARGIN)*(TOTAL ASSETS TURNOVER)*(EQUITY MULTIPLIER)

Y1 ROE=( 500/3800)*(3800/3900)*(3900/1800)= approximate to 28%

Y2 ROE= (650/4800)*(4800/4400)*(4400/2100)= approximate to 31%

Y3 ROE= (750/5000)*(5000/4800)*(4800/2500)= approximate to 30%

Y4 ROE= (860/5400)*(5400/4900)*(4900/2700)= approximate to 32%

Y5 ROE=(1000/6200)*(6200/5600)*(5600/2800)=approximate to 36%

(b)

GRISHAM COMPANY BALANCE SHEET FOR THE YEAR ENDED 2017

(IN MILLIONS)

2017 $(000)

Non- Current Assets

Plant & Equipment 200,000

Current Assets 160,00

Inventory 80,000

Accounts Receivable 30,000

Cash 50,000

Total Assets 360,00

Equity & Liabilities

Equity 240,000

Long Term Liabilities

Long Term Debt 90,000

Current Liabilities 30,000

Total Liabilities & Equity 360,000

COMMON SIZE BALANCE SHEET FOR 2017

Details Calculations Answer
ASSETS
Fixed Assets
Plant and Equipment ($200/$360) x 100 = 55.56 55.56%
Current Assets
Cash ($50/$360) x 100 = 13.89 13.89%
Accounts Receivable ($30/$360 x 100 = 8.33 8.33%
Inventory ($80/$360) x 100 = 22.22 22.22%
Total 100%
LIABILITIES
Current Liabilities ($30/$360) x 100 = 8.33 8.33%
Long- term Liabilities ($90/$360) x 100 = 25 25%
Equity ($240/$360 x 100 = 66.67 66.67%
Total 100%

(c ) For Redan Manufaturing Inventory policy to be optimal. It must have Economic order quantity (EOQ) to
satisfy the optimal inventory level.

EOQ= [ 2*S*F/H]^1/2

Where S represent Annual quantity demands= if 52 weeks in a year, then 52*2500 weekly used = 130,000

F= ordering cost per order= $2400

H= Holding cost per unit per year =$10

EOQ= (2*130,000*2400/10)^1/2

EOQ= (62,400,000)^1/2

EOQ= 7899 units

The economic order quantity of 7899 units order for a year will be the company optimal inventory policy in
which they can get the best cost of ordering in a year to maximise the ordering cost and minimise the
holding cost of the inventory for a year.

QUESTION 3

Sales Forecast for outlook corporation for each of the next for months

Description/period MARCH $ APRIL $ MAY$ JUNE$

SALES 100,000 250,000 125,000 150,000
20%CASH INFLOWS 20,000@ 50,000 25,000 30,000
INSTANTLY
80% BALANCE COLLECT - 80,000 200,000 100,000
NEXT MONTH
TOTAL CASH INFLOWS 20,000 130,000 225,000 130,000

LESS CASH OUTFLOWS

PURCHASES PAYMENT 35,000 87,500 43,750 52,500
(70%*SALES*50% PAID)
PURCHASEBALANCE - 35,000 87,500 43,750
PAYABLE(70%*SALES*50%
PAY IN NEXT MONTH)
TOTAL PAYMENT 35,000 122,500 131,250 96,250
NET CASH FLOW 15,000 7,500 93,750 33,750

Calculations

(1) 20 % cash sales received instantlyon sales.

March= 20%*100,000= $20,000

April = 20%*250,000=50,000

May= 20%*125,000= 25,000

June= 20%*150,000= 30,000

(2) 80% of sales received in Next Months

April= 80% of March Sales(100,000)= $80,000

May= 80% Of April Sale (250,000)= $200,000

June=80%* of May Sales(125,000)= $100,000

(3 ) Total Cash Inflows=

March= $20,000
 April = $50,000 + $ 80,000 = $130,000

May = $ 25,000+ $ 200,000= $225,000

June= $30,000 +$100,000 = $130,000

(4)

Puchases Payment In The month of purchase:

March= 70% of Monthly Sales(100,000) * 50%= $35,000

April = 70% *250,000*50%= $87,500

May= 70%*125,000*50%= $47,750

June= 70%*150,000*50%=$52,500

(5)

Purchases Balance Payment a month ahead.

March= Nil

April= 70%*March Sales(100,00)*50%= $35,000

May= 70%* April Sales( 250,000)*50%=$87,500

June=70%* May Sales(125,000)*50%= $43,750