Fin management materials / P4AFM-Session11_j08
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SESSION 11 – BUSINESS PLANNING AND EVALUATION
Example 4
Cathcart Inc
Statement of financial position as at 31 December 200X
Non - current assets |
$000 |
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Cost less depreciation |
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Current assets |
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Inventory |
400 |
Receivables |
500 |
Cash |
100 |
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_____ |
Equity
Ordinary shares ($1 par)
Retained earnings
Non-current liabilities |
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10% bond |
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Preferred shares |
(10%) ($1 par) |
Current liabilities |
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Payables |
400 |
Income tax |
200 |
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_____ |
$000
2,200
1,000
_____
3,200
_____
1,000
800
600
200
600
_____
3,200
_____
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SESSION 11 – BUSINESS PLANNING AND EVALUATION
Cathcart Inc
Income statement for the year ended 31 December 200X
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$000 |
$000 |
Turnover |
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3,000 |
Cost of sales |
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(2,400) |
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_____ |
Gross profit |
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600 |
Operating expenses |
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(200) |
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_____ |
Profit before interest and tax |
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400 |
Interest |
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(60) |
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_____ |
Profit before tax |
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340 |
Income tax |
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(180) |
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_____ |
Profit after tax |
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160 |
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_____ |
Dividends |
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Ordinary |
125 |
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Preference |
20 |
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Current quoted price of $1 ordinary shares in Cathcart Inc |
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$1.40 |
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_____ |
Required:
Calculate each of the following ratios for Cathcart Inc:
(a) Gross profit margin
(b) Operating profit margin
(c) Return on capital employed
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SESSION 11 – BUSINESS PLANNING AND EVALUATION
(d)Return on equity
(e)Current ratio
(f)Acid test ratio
(g)Receivables days
(h)Total asset turnover
(i)Fixed asset turnover
(j)Proportion of debt finance
(k)Interest cover
(l)Earnings per ordinary share
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SESSION 11 – BUSINESS PLANNING AND EVALUATION
(m)Dividend cover
(n)Dividend yield
(o)Price earnings ratio
Key points
Strategic planning links with models such as SWOT, Porter’s 5 forces and Ansoff’s matrix.
Dividend policy is of course closely linked to financing and investing strategy. If company managers follow Pecking Order Theory they are likely to view the dividend as the residual cash available after financing all positive NPV projects. However this may lead to a volatile dividend which can cause practical problems for a listed company. It may be better to use the surplus for a share buy back programme.
International groups also have to make decisions about the level of dividends paid by subsidiaries to the parent. This may be affected by overseas government policy which may restrict the payment of dividends to a foreign parent or impose high withholding taxes.
Ratio analysis is also a subjective area – different analysts calculate ratios in slightly different ways. If the exam question does not define exactly how a certain ratio should be calculated then state your definition, show your workings and be consistent between companies/years. Often it is the change in ratios which is more relevant than their absolute level.
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FOCUS
You should now be able to:
¾discuss the nature of strategic, tactical and operational planning and the information requirements to support each;
¾discuss theoretical and practical approaches to dividend policy;
¾discuss the potential advantages of using special dividends or share buy back programmes as alternatives to the traditional interim/final dividend;
¾suggest methods of minimizing withholding tax on foreign dividends and of dealing with blocks on the payment of foreign dividends;
¾calculate all commonly used ratios.
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EXAMPLE SOLUTION
Solution 1
(a) |
Gross profit margin |
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(b) |
Operating profit margin |
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(c)Return on capital employed
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= |
(d) |
Return on equity |
= |
(e) |
Current ratio |
= |
(f) |
Acid test ratio |
= |
(g) |
Receivables days |
= |
(h) |
Total asset turnover |
= |
(i) |
Fixed asset turnover |
= |
(j)Proportion of debt finance
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= |
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OR |
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= |
(k) |
Interest cover |
= |
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= |
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600 |
×100 |
= |
20% |
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3,000 |
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400 |
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×100 |
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13.3% |
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3,000 |
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400 |
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×100 = 15.4% |
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1,000 + 200 +800 +600 |
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160 - 20 |
×100 = 7.8% |
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1800 |
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1,000 |
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1.67: 1 |
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600 |
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600 |
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1: 1 |
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600 |
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500 |
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×365 |
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61 days |
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3,000 |
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3,000 |
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0.94 |
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3,200 |
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3,000 |
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1.4 |
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2,200 |
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800 |
×100 |
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= |
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44.4% |
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1800 |
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800 |
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×100 |
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30.8% |
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800 +1800 |
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Profit before interest and tax |
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Interest charge |
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400 |
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= |
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6.67 |
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60 |
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SESSION 11 – BUSINESS PLANNING AND EVALUATION
(l)Earnings per ordinary share
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160 |
−20 |
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14 cents |
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1,000 |
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(m) |
Dividend cover |
= |
16020 |
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= |
1.1 |
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125 |
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(n) |
Dividend yield |
= |
Dividend per ordinary share |
×100 |
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Ordinary share price |
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12.5cents |
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8.9% |
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$1.40 |
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(o) |
Price earnings ratio |
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Shareprice |
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EPS |
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140 |
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10 |
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14 |
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SESSION 11 – BUSINESS PLANNING AND EVALUATION
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