BA4008QA – Business Decision Making: Coursework 2 (Individual Coursework)

London Met Student

ID
Module Title Business Decision Making

Module Code BA4008QA

Assessment Assignment 2

Intake July 20

Date

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 BA4008QA – Business Decision Making: Coursework 2 (Individual Coursework)

TASK ONE

QUESTION 1(a) :

i. Payback for Duke

B
We know, for uneven cashflows, Payback Period = A + C

Where,

A: Last year with negative cumulative NCF

B: Absolute value of cumulative NCF at the end of period A; and

C: Cash Inflow for the succeeding period of A

As the cash inflows are not even, so to determine the payback period of both of the models,
the following table has to be developed (Penman, 2011):

For Model 1: Duke

Cash Inflow/(Outflow) Cumulative Net Cash Flow

Initial Investment (£250,000) (£250,000)
Year 1 120,000 (130,000)
Year 2 50,000 (80,000)
Year 3 50,000 (30,000)
Year 4 [A] 25,000 (5,000) [B]
Year 5 60,000 [C] 55,000
Year 6 50,000 105,000
Scrap Value 10,000 115,000

B
For Model 1: Duke, Payback period = A + C

5000
= 4 + 60000

= 4.083 Years

= 4 Years 1 Month (Approx.)

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 BA4008QA – Business Decision Making: Coursework 2 (Individual Coursework)

ii. Payback for Earl

We know, for uneven cashflows,

B
Payback Period = A + C

Where,

A: Last year with negative cumulative NCF

B: Absolute value of cumulative NCF at the end of period A; and

C: Cash Inflow for the succeeding period of A

For Model 2: Earl

Cash Inflow/(Outflow) Cumulative Net Cash Flow

Initial Investment (£400,000) (£400,000)

Year 1 60,000 (340,000)

Year 2 100,000 (240,000)

Year 3 125,000 (115,000)

Year 4 50,000 (65,000)

Year 5 [A] 50,000 (15,000) [B]

Year 6 120,000 [C] £105,000

Scrap Value 40,000 £145,000

B
For Model 2: Earl, Payback period =A+ C

15000
= 5 + 120000

= 5.13 Years

= 5 Years 1.5 Months (Approx.)

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 BA4008QA – Business Decision Making: Coursework 2 (Individual Coursework)

iii. Accounting rate of Return for Duke

To compute Accounting Rate of Return,

Total Cashinflow−Total Cash outflow

we know ARR = × 100
TotalCash outflow

For Model 1: Duke,

Total Cash Inflow = £120,000+50,000+50,000+25,000+60,000+50,000+10,000

= £365,000

And Cash Outflow = £250,000

£ 365,000−£ 250,000
So, ARR = × 100
£ 250,000

= 46%

iv. Accounting rate of Return for Earl

For Model 2: Earl,

Total Cash Inflow = £60,000+100,000+125,000+50,000+50,000+120,000+40,000

= £545,000

And Cash Outflow = £400,000

£ 545,000−£ 400,000
So, ARR = × 100
£ 400,000

= 36.25%

v. Net Present Value for Duke

As the cash inflows are uneven, the present value has to be calculated according to the
following table (Jones and Smith, 2012):

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 BA4008QA – Business Decision Making: Coursework 2 (Individual Coursework)

Year Cash Outflow Cash Inflow Net Cash Flow DF @8% PV of NCF

0 (£250,000) (£250,000) 1 (£250,000)

1 120,000 120,000 0.9259 111,111

2 50,000 50,000 0.8573 42,867

3 50,000 50,000 0.7938 39,692

4 25,000 25,000 0.7350 18,376

5 60,000 60,000 0.6806 40,835

6 50,000 50,000 0.6302 31,508

Scrab Value 10,000 10,000 0.6302 6,302

Net Present Value £40,691

vi. Net Present Value for Earl

As the cash inflows are uneven, the present value has to be calculated according to the
following table (Jones and Smith, 2012):

Year Cash Outflow Cash Inflow Net Cash Flow DF @8% PV of NCF
0 (£400,000) (£400,000) 1 (£400,000)
1 60,000 60,000 0.925926 55,556
2 100,000 100,000 0.857339 85,734
3 125,000 125,000 0.793832 99,229
4 50,000 50,000 0.73503 36,751
5 50,000 50,000 0.680583 34,029
6 120,000 120,000 0.63017 75,620
Scrab Value 40,000 40,000 0.63017 25,207
Net Present Value £12,126

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 BA4008QA – Business Decision Making: Coursework 2 (Individual Coursework)

vii. Internal Rate of Return for Duke

We know, to find IRR i.e., Internal Rate of Return, we have to solve this equation for both of
the models (Jones and Smith, 2012),

n
NCF
∑ (1+ IRR)n n – ICO=0Here,
n =1

n
NCF
∑ (1+ IRR)n n – ICO=0
n =1

120000 50000 50000 25000 60000 50000 10000

= 1
+ 2
+ 3
+ 4
+ 5
+ 6
+ 6
−250,000
(1+ IRR) (1+ IRR) (1+ IRR) (1+ IRR) ( 1+ IRR) (1+ IRR) (1+ IRR)
=0

Solving this equation delivers the value of IRR for Model 1 to be 14.14%.

viii. Internal Rate of Return for Earl

We know, to find IRR i.e., Internal Rate of Return, we have to solve this equation for both of
the models (Jones and Smith, 2012),

n
NCF
∑ (1+ IRR)n n – ICO=0Here,
n =1

n
NCF
∑ (1+ IRR)n n – ICO=0
n =1

60000 100000 125000 50000 50000 120000 40000

= + + + + + + −400,000
(1+ IRR) (1+ IRR) (1+ IRR) (1+ IRR) ( 1+ IRR) (1+ IRR) (1+ IRR)6
1 2 3 4 5 6

=0

Solving this equation delivers the value of IRR for Model 2 to be 8.93%.

QUESTION 1(b) : Report to senior management

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 BA4008QA – Business Decision Making: Coursework 2 (Individual Coursework)

A report is given below for providing to the senior management of the company with the
explanation of working process of each technique-

Payback period

Payback period method is a tool for capital budgeting which helps to know an investor the
total length of time will be required to get his invested money back or reach to the break-even
point (Tirole, 2010). According this method one investor should accept that project which
takes less time to return the capital. To calculate the payback period, it is only required the
initial cost and the inflows and outflows of a project. As it’s easy to use and requires fewer
components to know the outcome & also considers firm’s liquidity this method is used by
many investors.

However, this method does not consider the cost of capital and the time value of money
which sometimes leads to wrong decision. Further, it does not consider the cash flows after
the period of payback. Again, this method believes that investment can take place only once
in a project that does not followed in today’s business.

Accounting rate of Return

Accounting Rate of Return is a capital budgeting tool which works with net profit of an
organization. Besides, it works with minimal data of an organization such as net income after
tax and average investment (Penman, 2011).

As this method provides a percentage of return which is more easily understandable fact to
the most of the investors and also helps them to determine the rate of return of alternative
projects which also considered useful to many investors as they can invest on those
alternatives if they possess extra cash.

Nevertheless, like payback period it does not consider the time value of money and further
does not consider the terminal value and also does not distinguish between investments which
generates different cash flows over the time of a project.

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 BA4008QA – Business Decision Making: Coursework 2 (Individual Coursework)

Net Present Value

Net Present value (NPV) is one of the finest and most accepted tool for analysing and
evaluating a project. NPV is the discounted value of all future cash flows whether they are
positive or negative over the lifespan of an investment (Jones and Smith, 2012). In this
process, it estimates the possible profit or loss of an investment in a project.

In the process of giving most appropriate outcome for decision making, it considers time
value of money, cash flows from operation, time factor, salvage value of the project and also
adjust the risk factors. Yet, this method ignores some issues like opportunity cost, suck cost
and size of the project. Besides, in discounting future cash flows a judgmental and estimated
discount rate is used and also for this reason NPV greatly criticized.

Internal Rate of Return

According to Besley and Brigham (2013), IRR is the rate where the NPV becomes zero. This
means Internal Rate of Return is rate when a present value of cash inflows become equal to
the cash outflows. This an annual growth rate for a project that must be generated to avoid
loss.

This method is very much appropriate to evaluate capital budgeting project as it is simple to
understand and use, consider time value of money, required rate of return is not required. But
at the same time it ignores the size of the project and the future cost.

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 BA4008QA – Business Decision Making: Coursework 2 (Individual Coursework)

QUESTION 1(c) : Decision and explanation

Recommendation for both machines based on the above-calculated techniques has been
drawn below:

Technique Model 1: Duke Model 2: Earl Recommended Model

Payback Period 4.08 Years 5.13 Years Model 1

Accounting Rate of Return 46% 36.25% Model 1

Net Present Value £40,691 £12,126 Model 1

Internal Rate of Return 14.14% 8.93% Model 1

Technique: Payback Period

Under this payback technique, Model 1 will be paid back way before the other model as
Model 1’s PBP is 4.08 years but Model 2 has a PBP of 5.13 years. Therefore, Model 1 is
highly recommended to the management which will be paid back 1 year before the other
one.

Technique: Accounting Rate of Return

Based on the accounting rate of return, Model 1 is recommended as the accounting return
rate for model 1 (46%) is greater than that for model 2 (36.25%) which will result in a greater
profit in the project duration.

Technique: Net Present Value

Net present value of Model 1 (£40,691) is greater than that of Model 2 (£12,126). Hence,
Model 1 is suggested based on the NPV technique as it would generate £28,564 more value
than Model 2.

Technique: Internal Rate of Return

According to IRR technique, Model 1 is preferred as it (14.14%) has a higher IRR than
Model 2 (8.93%) which will let the management get over 6% rate than their cost of capital
(8%).

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 BA4008QA – Business Decision Making: Coursework 2 (Individual Coursework)

TASK TWO

QUESTION 2(a): (Tesco plc performance and position)

In order to analyse the performance and position of Tesco, a ratio analysis has been done in
the following section. After that, other relevant information is also considered. Finally, the
overall performance is provided at the last portion.

Performance ratios

Performance ratio demonstrates the extend company uses its assets to generate ratio in
addition to the efficiency of the company to turn sales into cash (Ponikvar et al., 2019). Tesco
plc has gross profit margin, return on total assets, return on capital employed as its
performance ratio. Here its ratios are analysed based on the given data-

 Gross profit margin of the company was 5.19% in 2017 which has been increased to
6.48% in 2019. This ratio is showing that the company is earning £6.48 from the sales of
£100 after covering the direct costs. This is actually not a preferable amount because
gross margin ratio normally is bigger than net margin ratio and an average net margin
ratio should be 10%. So, this ratio is not satisfying.
 Return on Total assets is the measurement of performance of a company where the
percentage is determined of EBIT is generating from total net assets. In 2019, the Return
on Total asset was 3.41% which was definitely a good increase from 0.32% in 2017. But,
a good Return of Total Asset ratio is above 5% which was could not be maintained by
Tesco. So, it is not a satisfying result.
 Return on capital employed (ROCE) of Tesco in 2019 was 5.90%. It shows the value
which is returned to the shareholders. So, a higher ROCE is preferred to the company as
well as to its shareholders. ROCE of Tesco was 0.55% in 2017 which has increased
drastically to 5.90% and it’s a good increment. But as a reputed company this amount is
actually not a satisfactory one.

Liquidity ratios

The ability to paying the current obligation of a company is determined by its liquidity ratio.
It deals with the short-term obligation of a company (Saleem and Rehman, 2011). Current
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 BA4008QA – Business Decision Making: Coursework 2 (Individual Coursework)

and acid test ratio are the two most used liquidity ratios. Here this two are analysed based on
the data of Tesco-

 Current ratio is simply the ratio of current assets and current liabilities which shows the
portion of current liabilities is paid off by current asset. In 2019, the current ratio was
decreased to 0.61 from 0.71. It was 0.79 in 2017. So, a constant decrement was observed
here. Again, current ratio less than 1 shows a deficiency of liquid asset in the company.
So, it is a bad performance.
 Like current ratio, acid test ratio is also decreasing over the year in Tesco. It was 0.68 in
2017 that decreased to 0.61 in 2018 and finally 0.49 in 2019. A continuous decreased in
acid test ratio shows a bad liquidity position of the company.

Efficiency ratios

Efficiency ratio is a measurement of in what manner of efficiency a company is managing its

daily activities (Weygandt et al., 2018). Inventory, accounts receivable, accounts payable are
the components for measuring efficiency of a company. Here the days of these three are
analysed below in order to know the efficiency of Tesco-

 Inventory days of 14.95 in 2019 shoes that the inventory of Tesco in converting into sales
within 15 days (approx.). This ratio shows sales efficiency of a company. In 2018, this
amount was 14.37 day. 5 to 10 days is the ideal benchmark. In that sense it is not showing
a best performance but it is acceptable.
 Trade receivable days shows the days outstanding before debtors pay their debt. A 3.42
trade receivable days demonstrate that Tesco is collecting from their trade receivables in
4 days approximately which is a very good measure. It was also low in 2017 and 2018.
 Trade payable days demonstrates the time company is taking to pay its obligation towards
creditor. It shows the efficiency how a company is taking advantage of its credit periods.
That’s why the more the better. All the three years has trade payable days above 32 days
which is a good remark.

Gearing ratio

Capital Gearing ratio is a ratio between long term debt over total equity of a company. It is a
measurement of financial leverage (Muradoglu et al., 2015). Normally above 50% capital
gearing denotes to high levered company and below 25% is considered as a low-risky one.
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 BA4008QA – Business Decision Making: Coursework 2 (Individual Coursework)

Tesco had an extreme capital gearing ratio of 454.44%. It means they had financed through
debt instruments in an exceptionally high volume compared to equity finance. In 2018 is was
233% and in 2019 it becomes 161%. Over the year they had reduced their risk but still 161%
is still a very high percentage. Because the more the gearing ratio, the more the risk will be.

Other information

In March, 2018 the case of fraud against three former executives of Tesco was on retrial. It
was an accounting scandal amounted £246m at the supermarket chain (BBC, 2018). An
overestimated of profit about 250 million pounds was shown in 2014. Because of this
incident the share price of Tesco hampered seriously.

Figure 1: Annual Revenue of Tesco from 2015 to 2019 (Coppola, 2020)

Figure 1 is showing the annual revenue of Tesco from 2015 to 2019. Because of the scandal
and trial, the revenue was decreased in 2016 to 2018. But after that the revenue again
increased to its normal position (Coppola, 2020).

Overall Performance and Position

It is a matter of fact that Tesco is one of the successful retail store in UK. It is popular for its
service and performance. Non-financially it means both in internal and external environment,
it holds an important position. But if we look at the financial outlook through ratio analysis,
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 BA4008QA – Business Decision Making: Coursework 2 (Individual Coursework)

we can see that it is not performing well in the area of profitability, liquidity and gearing. But
it is performing satisfactorily in the area of efficiency.

QUESTION 2(b): limitations in the use of accounting ratios

For identifying the limitations of accounting ratios of Tesco’s ratio analysis, at first the
drawbacks of this kind of ratio is given below-

1. Ratio analysis works on historic information. So, comment on performance over a historic
information can’t be always accurate.

2. External factors are not considered in this analysis. For example: international recession is
not considered here.

3. In intra-company comparison, it doesn’t consider the changes in accounting policy of the

company.

4. In inter-company comparison, other company is not always prepared to share their internal
information.

In the case of Tesco, we also observed some of these limitations, such as, they compared
2017 to 2019 data and comment the performance based on this. It may be inaccurate.

The external factors like inflation in economy of UK was not considered in this case.

The entire analysis was a intra company analysis. There were many internal incidences
occurred during this period which was not taken care of.

The main limitation of accounting ratio of Tesco is that they didn’t consider the non-financial
information and comment on the performance purely on available financial data. But some
long term financial data can bring down the overall performance of a company. We saw that,
in 2018, because of the case of SFO a huge fall occurred in share market of Tesco. But
currently up to 3rd February 2021, the share price of Tesco was 246.08p (Tesco, 2021). This is
quite a good indicator. But if we look at the ratio analysis of Tesco, we can see a negative
performance of them.

QUESTION 2(c): (other factors affecting Tesco in 2019)

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 BA4008QA – Business Decision Making: Coursework 2 (Individual Coursework)

Supplementary factors affecting Tesco in 2019

There are a handful of factors that influence the performance of Tesco PLC. Significant ones
are discussed below:

 One significant supplementary factor is having under 70% of valued resources of its
genuine expenses. If Tesco's business returns to standard, they can revalue their
advantages back more than 80% and might comprehend a £3bn in accounting (Tesco,
2021). Or of course, Tesco could revalue their points of interest steadily plug in any
difficulty of benefit over different years.
 In 2015, Tesco's profit by the Asian business sectors fell by 4% which can be stretch out
credited to the political and financial flimsiness circumnavigating (Coppola, 2020).
Subsequently, it can from this time forward be said that benefit of Tesco by and large
dependent on the reliability of the overall economy.
 The development factor is incomprehensibly used as a piece of the Tesco that influences
the economic situation and retail cost of the business. Tesco keeps up the committed site
with revamping substance for all of the zones that they cooperated.
 Other than that, Tesco uses a development in its store, stock organization, and when all is
said in the done undertaking of the association. A bit of the inventive instruments that the
association uses are the electronic motivation behind the offer and stamping high deals
(Tesco, 2021). In the circumstance of Tesco is assessed, it is seen that the association
considered this factor altogether.
 In all the widespread business sectors where Tesco is operational, there was a decent
space for the retail business. People in those countries had acceptable purchasing capacity
and the economy.
These are the significant supplementary factors that are affecting the performance of Tesco.
The management of this company should keep all these influential factors under
consideration as much as possible while taking decisions.

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 BA4008QA – Business Decision Making: Coursework 2 (Individual Coursework)

References

BBC. 2018. SFO seeks retrial of former Tesco bosses. Available at:
https://www.bbc.com/news/business-43253799 [Accessed 1 February, 2021].

Besley, S. and Brigham, E.F., 2013. Principles of finance. Cengage Learning.

Coppola, D. 2020. Annual revenue of Tesco Group in the United Kingdom (UK) and the
Republic of Ireland from financial year 2015 to 2020. Statista. Available at:
https://www.statista.com/statistics/490931/tesco-group-finance-revenue-united-kingdom-uk/
#:~: text=In%20its%202019%2F2020%20financial,and%20the%20Republic%20of
%20Ireland.&text=The%20company's%20profit%20in%20the,2.2%20billion%20in
%202019%2F2020. [Accessed 3 February, 2021].

Jones, T.W. and Smith, J.D., 2012. An historical perspective of net present value and
equivalent annual cost. The Accounting Historians Journal, pp.103-110.

Muradoglu, G., Bakke, M. and Kvernes, G.L., 2015. An investment strategy based on gearing
ratio. Applied Economics Letters, 12(13), pp.801-804.

Penman, S.H., 2011. An evaluation of accounting rate-of-return. Journal of Accounting,

Auditing & Finance, 6(2), pp.233-255.

Ponikvar, N., Tajnikar, M. and Pušnik, K., 2019. Performance ratios for managerial decision‐
making in a growing firm. Journal of Business Economics and management, 10(2), pp.109-
120.

Saleem, Q. and Rehman, R.U., 2011. Impacts of liquidity ratios on

profitability. Interdisciplinary journal of research in business, 1(7), pp.95-98.

Tirole, J., 2010. The theory of corporate finance. Princeton University Press.

Vernimmen, P., Quiry, P., Dallocchio, M., Le Fur, Y. and Salvi, A., 2014. Corporate
finance: theory and practice. John Wiley & Sons.

Weygandt, J.J., Kimmel, P.D. and Kieso, D.E., 2018. Financial and managerial accounting.
John Wiley & Sons.

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