FINANCIAL MANAGEMENT

TUTORIALS
WITH MR PINEAS IKECHUKWU SHEFIKA
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 CHAPTER 3: RISK AND RETURN

• CONCEPT OF RISK ~WHAT IS RISK

• BUSINESS RISK: DEGREE OF OPERATING LEVERAGE
DOL=(S-VC)/(S-VC-F)
• FINANCIAL RISK
. DEGREE OF FINANCIAL LEVERAGE
DFL=EBIT/EBIT-I
• DEGREE OF COMBINED LEVERAGE DCF=DOL×DFL
• LET’S NOW LOOK AT TWO EXAMPLES
BUSINESS AND FINANCIAL RISKS
 REQUIRED

• FIND THE DEGREE OF OPERATING LEVERAGE, THE DEGREE OF FINANCIAL LEVERAGE, AND THE
DEGREE OF TOTAL LEVERAGE FOR EACH COMPANY. RECOMMEND ON THE TWO COMPANIES.
 RETURN AND RISKS

QUESTION 3
EMMA DLAMINI IS CONSIDERING TWO INVESTMENTS AND CAN ONLY INVEST IN EITHER THE
SHARES OF COMPANY X OR IN THE SHARES OF COMPANY Y. THE FOLLOWING INFORMATION
REGARDING RETURNS AND PROBABILITY DISTRIBUTIONS OF RETURNS IS RELEVANT:
QUESTION 3 CONTINUED
 CHAPTER 7 COST OF CAPITAL
LEARNING OBJECTIVES

AFTER WORKING THROUGH THIS CHAPTER, YOU SHOULD BE ABLE TO:

■■ UNDERSTAND THE CONCEPT OF THE WEIGHTED-AVERAGE COST OF CAPITAL (WACC).

■■ DETERMINE THE COST OF DEBT.

■■ DETERMINE THE COST OF PREFERENCE SHARE CAPITAL.
■■ CALCULATE THE COST OF EQUITY USING THE DIVIDEND GROWTH MODEL AND THE CAPM APPROACH.
■■ UNDERSTAND THE PRACTICAL ISSUES OF ESTIMATING THE CAPM PARAMETERS.
■■ UNDERSTAND HOW A FIRM’S CAPITAL STRUCTURE AFFECTS A FIRM’S WACC.

■■ CALCULATE A FIRM’S WACC.

■■ UNDERSTAND THE USE OF THE WACC IN DETERMINING A FIRM’S ECONOMIC VALUE ADDED (EVA).

■■ UNDERSTAND ALTERNATIVE METHODS OF DETERMINING THE COST OF EQUITY.

■■ DETERMINE THE COST OF CAPITAL OF DIVISIONS, INCLUDING UNLEVERING AND RELEVERING BETAS.

■■ REFLECT ON ADJUSTMENTS MADE IN PRACTICE TO THE COST OF EQUITY.

■■ COMPREHEND THE EVIDENCE OF THE MARKET RISK PREMIUM BASED ON SURVEYS AND HISTORICAL
WHAT’S EARNED IN THE ENTITY BELONGS TO
INVESTORS
HOW TO FIND THE COST OF CAPITAL
CAPITAL ASSET PRICING MODEL METHOD (CAPM)
 ILLUSTRATIVE QUESTION

• QUESTION 2 : TEST 3 18.05.22

CHAPTER 8: CAPITAL BUDGETING
PROFITABILITY INDEX
 PAY BACK PERIODS

• DISCOUNTED
• UNDISCOUNTED
INTERNAL RATE OF RETURN
NET PRESENT VALUE
ILLUSTRATIVE QUESTION
 REQUIRED

• EVALUATE PROJECTS USING:

1. PAYBACK METHOD
2. DISCOUNTED PAYBACK
3. NPV
4. IRR
5. PI
CHAPTER 9: FURTHER ISSUES OF CAPITAL BUDGETING

• CAPITAL RATIONING:
1. DIVISIBLE PROJECTS – USE PROFITABILITY INDEX TO RANK PROJECTS
2. INDIVISIBLE PROJECTS – GROUP PROJECTS BASED ON AVAILABLE CAPITAL, AND SELECT THE
GROUP THAT IS LIKELY TO MAXIMIZE SHAREHOLDERS WEALTHY.
3. ILLUSTRATIVE QUESTION: QUESTION 1 TEST 3 18/05/22
4. PROJECTS WITH UNEQUAL LIVES
 PROJECTS WITH UNEQUAL LIVES

• CHIOMA HAS N$12,000 TO INVEST EITHER IN PROJECT A OR B. THE FOLLOWING

INFORMATION IS GIVEN
• COST OF CAPITAL 12%

YR 0 1 2 3 4
A -12,000 6,200 6,200 6,200
B -12,000 5,000 5,000 5,000 5,000
 REQUIRED

• WITH THE AID OF EQUIVALENT ANNUAL ANNUITY (EAA), ADVISE CHIOMA ON WHICH PROJECT
TO INVEST HER MONEY.
 CHAPTER 2: TIME VALUE OF MONEY

• CONTENTS
 CHAPTER 5 FINANCIAL STATEMENTS ANALYSIS

• CONTENTS
 CHAPTER 6 VALUATIONS

• CONTENTS
GOOD LUCK
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