# Financial Management MBA

Pages: 19 (3905 words) Published: December 14, 2014
﻿Question one

a) Calculate the Weighted Average Cost of Capital

Equity: 200,000/400,000 * 15% = 7.5%

Debt: 200,000/400,000 * 9% = 4.5%

WACC: 7.5% + 4.5% = 12%

Therefore, WACC is: 12%

b) Calculate the Capital Allowances and Taxable payable for both projects A and B

Project A

The capital expenditure for project A is 400,000 generating capital allowances of 25%. Therefore, the Capital Allowance for project A is:

Project A
Year
Capital Allowances
Writing Down Value
25%

1

400000
100000

2
400000 - 100000
300000
75000

3
300000 - 75000
225000
56250
Balancing Allowance →
4
225000 - 56250
168750
168750

Explanation
In year 1, the capital allowance is 25% of the written down value of 400,000, which equals to 100,000. The written down value in year 2 is then reduced by that amount, which equals to 300,000. Again, there is a capital allowance of 25% of the written down value in in this year, which equals to 75,000. The equation is then carried on. In year 4, there is a remaining written down value of 168,750. However, because the project is closing in this year, a capital allowance of the remaining balance is allowed, and therefore the capital allowance is the full 168,750.

Year
Taxable Profits
Taxation
22%

1
75000 - 100000
0

0
No tax payable in Year 1 and Year 2
2
125000 – (75000 yr2 capital allowance + 25,000 unutilised capital allowance from yr1) 25,000

5500
Payable year 3
3
150000 - 56250
93750

20625
Payable year 4
4
175000 - 168750
6250

1375
Payable year 5

Inflows
Taxable Profits

Outflows

Explanation
Project A have inflows of 75,000 for year one, 125,000 for year two, 150,000 for year 3 and 175,000 for year 4. The annual capital allowance for year 1 is then reduced from the inflows for year 1. So 75,000 minus100,000, which equals to (25,000) taxable profits. In year 1, the company can claim a maximum 75,000 capital allowance. Therefore, if the company claim part of what they are entitled to (100,000), the unutilised capital allowances can be carried forward to offset against the assessable income of the subsequent year. For example, 25,000 against year 2 profits added to 75,000 for year 2 – therefore a total of 100,000 allowances can be claimed against year 2 profits. Then a taxation of 22% is paid against 25,000, which equals to 5,500. This taxation charge will then be paid in year 3. The following year the company will pay 20,625 payable in year 4 and so on.

Project B

The capital expenditure for project B is £400,000 generating capital allowances of 25%. Therefore, the Capital Allowance for project B is:

Project B
Year
Capital Allowances
WDV
25%

1

400000
100000

2
400000 - 100000
300000
75000

3
300000 - 75000
225000
56250
Balancing Allowance →
4
225000 - 56250
168750
168750

Year
Taxable Profits
Taxation
22%

1
125000 - 100000
25000

5500
Payable year 2
2
125000 - 75000
50000

11000
Payable year 3
3
125000 - 56250
68750

15125
Payable year 4
4
150000
0

0
Payable year 5

Inflows
Taxable Profits

Outflows

Project B is exactly the same, as the capital outlay and the capital allowance were the same. The Tax payable has been worked out the same way as for project. Moreover, in year 4, a maximum capital of allowance of 150,000 can be claimed.

c) Calculate the Net Present Value of both projects, and the discounted payback period of both projects and recommend which of these two, if any, should be selected

Project A:

Year
Inflows
Outflows
Taxation
NCF
DCF 12%
PV
0
0
400000
0
-400000
1.0000
-400000
1
75000
0
0
75000
0.8928
66960
2
125000
0
0
125000
0.7972
99650
3
150000
0
5500
119500
0.7118
85060.1
4
175000
0
20625
98875
0.6355
62835.1
5

1375
97500
0.5674
55321.5

NV
115875
NPV
-30173.3

Discounted factor calculation below:

(1+r)^-n...

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