Finance For Business: Economic Analysis Of Investment Essay

Question:

Describe about the Finance for Business for Economic Analysis of Investment.

Answer:

Introduction

The report will have the complete analysis of the concept of capital budget as well as a weighted average cost of capital. The analysis will be done on the two case studies which will be of EMU Electronics and Harvey Norman. Assessment will be done on the concept WACC and capital budgeting. The report will have clear concept NPV, IRR, PBP and Sensitive Analysis will be done on the given concept. The report will have completed an analysis of the capital budgeting concept.

Part A

Payback Period of EMU Electronics is 1.6

Profitability Index of EMU Electronics is 127.6%

Internal Rate of Return of EMU Electronics is 127.67%

Net Present Value of EMU Electronics is 57%

The price of NPV will be affected greatly because of the launch of new smart Phone. Due to increase in the price of the new smart phone value, NPV will also be affected, with the increase in the price of the smart phone the value of NPV also increases. Similarly, with a decrease in the price of the smart phone, the value of the NPV will also be falling (Leary and Roberts 2014).

With the change in the quantity of the phone sold the NPV will be changed. Moreover, for changing the sales volume, the value of NPV will be decreasing.

Production of the smart phone will take place it will be generating positive NPV for the company. Similarly, a payback period of EMU Electronics has been calculated as 1.6, which is fruitful for the approach of the company, because this will help the company in getting recover the initial investment of the company under small time.

By introducing the new approach EMU Electronics will be giving a return, this will help in covering the loss of the because of the decrease in sales and earlier introduced model. If the new model is introduced for recovering the loss in the generation because of loss occurred in the company for the new strategy (Gitman and Zutter 2012).

Part B

4243000 $ is the "book value of debt" and 2556860 $ is the "book value of equity."

The current share price of Harvey Norman is $ 5.18 as on 26th September 2016.

$ 5.62 billion is the market value of Harvey Norman. The annual dividend given by the company is 20 per cents. Yes, dividend discount model ban is used by the above company. The beta of the company is 0.530 which is as per the calculation was done. 4.50% is the yield on the government debt. 4.68% is the companies’ cost of equity.

Harman Norman has calculated the weighted average cost, by utilizing book-value which has come to 5.74%, whereas by utilizing market-value WACC comes to 6.23%.

Calculation for which has been given in detail:

Cost of Debts

Book Value

Market Value

Kinds of Debts

Book Value

Market Value

Amount

Weight

Weighted Rate

Weighted Rate

Borrowings

5.93%

6.35%

561808

81.59%

4.84%

5.18%

Other Loans

4.22%

5.47%

89928

13.06%

0.55%

0.71%

Bank Overdraft

6.68%

7.17%

32620

4.74%

0.32%

0.34%

Financial Lease

9.50%

0.00

139

0.02%

0.00%

0.00%

Other Financial Liabilities

5.21%

0.00%

4061

0.59%

0.03%

0.00%

Other Financial Liabilities

5.54%

0.00%

43

0.01%

0.00%

0.00%

Total

688599

100%

5.74%

6.23%

In the above calculation, there is the difference of cost of debt. One cost of debts is through market value which true because it is representing economic. Whereas the another cost of debt is through book value which is also true claim because it is representing financial outstanding (Bierman and Smidt 2014).

The calculated WACC through book-value comes to 4.25%, whereas though market value comes to 4.48%. The cost of capital is calculated by the use of market value is considered to be more relevant because the method is depicting the present scenario, which is taken as a relevant approach for seeking the shareholders of the firm foe doing more investments. Calculation for that has been given below:

Book Value

Market Value

Book Value

Market Value

Particulars

Amount

Cost

Cost

Weight

Tax Rate

Weighted Rate

Weighted Rate

Equity

380328

4.68%

4.68%

36%

30%

4.25%

4.48%

Debt

688599

5.74%

6.23%

64%

30%

Total

1068927

The approach of pure play has some problem for estimating a cost of capital, and it is because of an inability of to observe the real return of the business. If this process is used the value of beta, do not come directly. The organization using this process for estimating the cost of capital are using some proxy and assumed the value which is not a correct process of valuing the activities of business. Pure play approach will only be used if the beta company is not available. So the organization will not reflect the exact and correct value of activities of investments (Hillier 2012).

Conclusion

Finally to conclude the report it will be said that all the calculation and estimation of the case study has been done. All the requirement of the study has been fully achieved with true understanding. After the calculation of WACC as a cost of capital of the firm, Harvey Norman will be assessing the minimum return on assets. Sensitivity analysis conducted gives a clear picture of the changes in the NPV as well as a quality of production.

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