Financial Strategy

FIS8X00

Tutorial 1 Suggested Solution 29 February

2024

Tutorial Information Source Marks Page

Question 1 – Objectives & Constraints Test 3 2011, Question 2 25 2

Question 2 – Analysis & Interpretation Test 1 2013, Question 1 25 4
PROGRAMM PG Dip (Fin. Man.) / B.Com Hnrs (Fin. Man.) Page 2 of
E: MODULE: Financial Strategy (FIS8X00) (TUTORIAL 1 – 29 FEBRUARY 2024)

QUESTION 1 [25 Marks]

1.1 Compare and contrast the objectives of the three different entities Max
Marks
Objectives
 The objectives of public and private sector entities are moving closer together,
the public sector recognising its needs to be more accountable for ()
taxpayers’ money and the private sector recognises there are stakeholders in
the entity other than shareholders.
 This explains M&R’s focus on sustainable earnings and development of the
socio-economic environment. ()
 Private sector entities have more readily defined objectives and have a
greater emphasis on financial objectives compared to HFHSA and LowCost.
 LowCost’s main objective would be to stay within the allocated government ()
budget.
 LowCost will also focus on providing a good service. ()
 Habitat’s and LowCost’s objectives would mainly be qualitative (non- ()
financial) compared to M&R Ltd whose objectives are mainly financial.
Stakeholders ()
 Private sector entities’ main responsibility is to shareholders and they are
obliged to maximise their return on investment and make it comparable to similar risk
investments.
()
 M&R builds high quality, luxury housing, whereas LowCost provides low cost
housing and Habitat provides adequate housing to beneficiaries therefore the needs
of the end-users are different, hence so are the objectives of each organisation.
()
 LowCost has to ensure the government as well as the ‘customers’ it services are
pleased with the services it provides. Most of its funding will come from taxpayers so
they must ensure they show them their money is going to good use. Failure to
show ethical conduct as well as provide an adequate service will result in
taxpayers being dissatisfied and government awarding the tender to another ()
company.
 HFHSA’s main stakeholders are the communities it services and its
donors. Its objectives are therefore aimed at ensuring these stakeholders are satisfied.
They must ensure that donors are satisfied with where their money is going otherwise
they will not be willing to make further donations. ()
 M&R’s is a listed entity and will therefore maximise profits by satisfying
customers, considering the needs of stakeholders such as employees and
lenders. ()
 Failure for M&R Ltd to meet its stated objective of increasing EPS could
result in a loss of investor confidence as well as shareholders being
dissatisfied.
 Dividends send a signalling effect to the market. If M&R is not able to ()
maintain the dividend growth rate, it will send negative messages to the
market and will lead to shareholder dissatisfaction.
 If M&R is perceived to have profitability problems, lenders might also be ()
hesitant to provide M&R with finance and suppliers to continue their
relationship.
 If M&R fails to be socially responsible, they may suffer reputational ()
damage.
 Any other relevant point. ()

()
(MAX = 12)
PROGRAMM PG Dip (Fin. Man.) / B.Com Hnrs (Fin. Man.) Page 3 of
E: MODULE: Financial Strategy (FIS8X00) (TUTORIAL 1 – 29 FEBRUARY 2024)

QUESTION 1 (CONTINUED) [25 Marks]

1.2 HFHSA is facing the following constraints Max
Marks
 Because beneficiary families do not pay for services, demand will exceed supply
so HFHSA will have to do some kind of rationing of services. ()
 Obtaining funding is difficult, particularly during the recession. Habitat is
dependent on the goodwill of the public. The last thing many companies budget for is ()
donating to local charities.
 Habitat relies on volunteer labour and work for building houses as well as
marketing themselves. They therefore need to continually attract new volunteers to get ()
involved in the cause.
 Economic constraints – if prices of building materials go up fewer houses can
be built. ()
 Transport – building materials need to be transported to all building sites. This may
be quite far and this will impact our fuel costs. Fuel costs have increased ()
significantly.
 Habitat must comply with government building regulations and house plans
need to be approved before building can take place. ()
 Health and safety – Habitat must ensure safety of all volunteers and
employees at the building sites. ()
 Any other relevant point. ()
(MAX = 6)
1.3 Evaluation of objectives
Calculations 2009 2010 2011
Workings R’ million R’ million R’ million Comments
Operating Profit 2 000 1 925 2 575
Less Interest (400) (350) (500)
Less Tax (448) (441) (581)
Earnings 1 152 1 134 1 494
(½) (½) (½)
EPS
Earnings 1 152 1 134 1 494
Number of shares 300 300 350
EPS R3.84 R3.78 R4.27 (3.78 – 3.84)/3.84 x100% = (1.56)%
=(1.56)% = 12.96% (4.27 – 3.78)/3.78 x100% = 12.96%
(CE) (CE)
DPS
Dividend (½ CE) 460.8 510.3 672.3
Number of shares 300 300 350
DPS 1.54 1.70 1.92 (1.70 – 1.54)/1.54 x 100% = 10.39%
=10.39% 12.94% (1.92 – 1.70)/1.70 x 100% = 12.94%
(CE) (CE)
1.3 Evaluation of objectives - Conclusion Max
Marks
 Therefore M&R Ltd achieved its financial objective of increasing dividend per share
of 10% per annum, but only achieved the earnings per share objective in 2011. N/A
 The reason M&R Ltd did not achieve its EPS objective in 2010 is probably due to the
fact that there was a decrease in operating profit (possibly due to the global
recession). ()
 Any other relevant point.
()
(MAX = 7)
PROGRAMM PG Dip (Fin. Man.) / B.Com Hnrs (Fin. Man.) Page 4 of
E: MODULE: Financial Strategy (FIS8X00) (TUTORIAL 1 – 29 FEBRUARY 2024)

QUESTION 2 [25 Marks]

2.1 Memorandum evaluating performance of Tulula Max
Marks
MEMORANDUM
TO: THE BOARD OF DIRECTORS OF COMFLIGHT LTD
FROM: FINANCIAL MANAGER ()
RE: EVALUATION OF RESULTS OF TULULA
DATE: 07 MARCH 2013 MAX 1
Introduction (½)
As requested, I have prepared a memorandum:
a. Evaluating Tulula’s results for the year ended 31 December 2010, 2011 and 2012. I
have presented the relevant calculations in appendix A. My evaluation of the results
is presented below.
Profitability
 Tulula was fairly profitable in 2010, but profitability declined significantly in 2011
before recovering in 2012. The reason for the decline in profitability in 2011 was due
to declining revenues and increasing costs. ()
 Despite the declining revenue and profitability in 2011, Tulula still managed to
generate a profit. This is an exceptional achievement considering that many airlines
are struggling globally and are even going out of business (i.e. Velvet Sky ()
and 2Time Airline).
 The salary freeze and new fleet of Boeing 737-800’s purchased at the end of 2011 for
2012 resulted in revenue and profit increasing significantly in 2012. ()
 The return on capital employed, assets and equity ratios were not as high in 2012 as
2010 due to the significant investment in new assets (Boeing 737- 800s) at the
beginning of 2012. ()
 As the new Boeing uses less jet fuel than the previous fleet of aeroplanes and is the
most fuel-efficient aeroplane on the market we can expect Tulula to increase
profitability in the future and increase profitability over competitors.
 Any other relevant point. ()

()
MAX 3
Liquidity
 Both the current and quick ratios are very similar. This is due to the fact that Tulula
does not have much inventory on hand. ()
 This appears reasonable as Tulula is a service organisation rather than a
trading organisation. ()
 Without knowing the industry average it is difficult to comment specifically on
the current / quick ratio. ()
 However, as the current liabilities exceed the current assets every year it appears that
the overall liquidity position is not very strong. ()
 A significant amount is owed to payables at the end of every year and the current
assets will not cover the amounts owing. This means that if the suppliers insist
that Tulula pay cash for fuel or refreshments (payables as indicated in the ()
question), then Tulula would need access to some sort of financing (i.e. a bank
overdraft).
 It is promising that Tulula does not have an overdraft balance at the end of
each of the three-year’s presented in the financial statements. ()
 Any other relevant point. ()
MAX 3
PROGRAMM PG Dip (Fin. Man.) / B.Com Hnrs (Fin. Man.) Page 5 of
E: MODULE: Financial Strategy (FIS8X00) (TUTORIAL 1 – 29 FEBRUARY 2024)

QUESTION 2 (CONTINUED) [25 Marks]

2.1 Memorandum evaluating performance of Tulula Max
Marks
Debt / Gearing
 As Tulula needed to finance the purchase of the new Boeing’s at the end of
2011, we can see that their gearing / debt equity ratio increased quite significantly. ()
 The gearing / debt equity ratio only slightly breached the limit of excessive
debt in the capital structure in 2011 (but returned to an acceptable level in 2012)
due to the profitability (or the increase in the market value of equity) in 2012. ()
 The interest cover ratio provides evidence that Tulula could pay its finance
costs each year, with only 2011 having a slight concern. Nevertheless, the interest
cover was still almost 2 times profits.
 Tulula is currently not over-geared and can comfortably repay its finance ()
costs.
 Any other relevant point. ()
()
MAX 3
Investor / shareholder ratios
 Tulula has managed to increase EPS from 2010 to 2012, but there was a significant
decrease in 2011. This was due to the increasing costs and decreasing ()
revenue before the introduction of the cost savings programme.
 The P/E ratio has remained fairly stable at between 7.5 – 9.7 times. The P/E ratio
is slightly low, but considering the significant decrease in the profitability and ()
share price in 2011, as well as the state of the aviation industry in general, it does
not seem surprising.
 As EPS has increased above the 2010 figure, it may be appropriate to offer staff
a salary increase in 2013 so that other stakeholders (i.e. employees) also benefit
from the increased EPS and not only the shareholders. ()
 The share price has recovered from the low in 2011 and is significantly
above the 2010 year end price. ()
 Any other relevant point. ()
MAX 3
Conclusion (½)
 The cost savings programme consisting of the salary freeze and upgrading of the fleet
of aeroplanes appears to have resolved Tulula’s declining profitability.
 The benefit of the new fleet of aeroplanes will be experienced for years to come, as
the new Boeing uses less fuel (thus resulting in cost savings for Tulula) and will
also cost less in maintenance (as the aeroplanes are new and all the same).
 Tulula should be able to offer staff a salary increase in 2013, but should
remain vigilant on controlling costs.
 As most of an airline’s costs are fixed, Tulula should try to increase revenue (and MAX
profitability) by selling all the seats on a flight. ()
 Tulula should be poised for further increases in revenue and profitability
in the future, provided there is not another recession and the public continues to fly.
 However, it appears that there will be increased competition in the market
shortly with Fastjet and Skywise likely to start operations in South Africa in the
next few months. [Note – Skywise has since also gone into liquidation.]
 Any other relevant point.
PROGRAMM PG Dip (Fin. Man.) / B.Com Hnrs (Fin. Man.) Page 6 of
E: MODULE: Financial Strategy (FIS8X00) (TUTORIAL 1 – 29 FEBRUARY 2024)

QUESTION 2 (CONTINUED) [25 Marks]

Appendix A (maximum marks = 12 out of 13 ½ marks)
Ratio 2010 2011 2012 Max
R’ 000 R’ 000 R’ 000 Marks
Profitability (Maximum of any 3 ratios and 4 ½ marks)
Operating profit % 65 000 47 800 88 000
= Operating profit 800 000 630 000 850 000 (½½½)
Revenue = 8.13% = 7.59% = 10.35%
Net profit % 39 500 16 500 49 000
= Net profit 800 000 630 000 850 000 (½½½)
Revenue = 4.94% = 2.62% = 5.76%
ROA 65 000 47 800 88 000
= Operating profit 550 500 843 000 779 500 (½½½)
Total assets = 11.81% = 5.67% = 11.29%
ROE 39 500 16 500 49 000
= Net profit 243 500 260 000 309 000 (½½½)
Total equity = 16.22% = 6.35% = 15.86%
ROCE 65 000 47 800 88 000
= Operating profit 328 500 488 000 507 000 (½½½)
Capital employed = 19.79% = 9.80% = 17.39%
Asset turnover 800 000 630 000 850 000
= Revenue 328 500 488 000 507 000 (½½½)
Total assets – Current liabilities = 2.44 times = 1.29 times = 1.68 times
Liquidity (Maximum of any 2 ratios and 3 marks)
Current ratio 164 500 168 000 172 000
= Current assets 222 000 355 000 272 500 (½½½)
Current liabilities = 0.74:1 = 0.47:1 = 0.63:1
Quick ratio 160 900 162 700 164 200
= Current assets - inventory 222 000 355 000 272 500 (½½½)
Current liabilities = 0.72:1 = 0.46:1 = 0.60:1
Debt / Gearing (Maximum of any 2 ratios and 3 marks)
Debt / Equity ratio 106 500 278 000 228 000
= Interest-bearing debt 243 500 260 000 309 000 (½½½)
Equity = 43.74% = 106.92% = 73.79%
Gearing ratio (Book Values) 106 500 278 000 228 000
= Interest-bearing debt 350 000 538 000 537 000 (½½½)
Interest-bearing debt + Equity = 30.43% = 51.67% = 42.46%
Gearing ratio (Market Values) 106 500 278 000 228 000
= Interest-bearing debt 439 000 403 000 703 000 (½½½)
Interest-bearing debt + Equity = 24.26% = 68.98% = 32.43%
Debt ratio 307 000 583 000 470 500
= Total debt 550 500 843 000 779 500 (½½½)
Total assets = 55.77% = 69.16% = 60.36%
Interest cover 65 000 47 800 88 000
= Operating profit 10 000 25 000 20 000 (½½½)
Interest expense = 6.5 times = 1.91 times = 4.4 times
Investor / Shareholder Ratios (Maximum of any 2 ratios and 3 marks)
Earnings per share (EPS) 39 500 16 500 49 000
= Profit att. to ord. shareholders 50 000 50 000 50 000 (½½½)
Weighted number of shares = 79 cents = 33 cents = 98 cents
Price / Earnings ratio (P/E) 6.65 2.50 9.50
= Market price per share 0.79 0.33 0.98 (½½½)
Earnings per share = 8.42 times = 7.58 times = 9.69 times
PROGRAMM PG Dip (Fin. Man.) / B.Com Hnrs (Fin. Man.) Page 7 of
E: MODULE: Financial Strategy (FIS8X00) (TUTORIAL 1 – 29 FEBRUARY 2024)

QUESTION 2 (CONTINUED) [25 Marks]

MAXIMUM MARKS
Report and Evaluation = 11 Marks
Calculations = 12 Marks
Presentation = 2 Marks

Total = 50