Assignment Briefing (level 7)

Module Name FINANCIAL RESOURCES MANAGEMENT

Module Code BA7002
Assignment Title Investment Appraisal Techniques, Risk, and the CAPM
Type of Submission INDIVIDUAL ASSIGNMENT
Weighting of this assignment 50%
in the overall module grade
Word Count 1,400 WORDS MAXIMUM including tables and graphs
Issue Date 15 November 2021
Submission Date 23 December 2021
Date of Feedback to Students In four working weeks
Where feedback can be found ONLINE - CANVAS

Assignment Task: You are required to produce a 1,400-word report in Word format (or pdf
format), that will contain your responses to ALL THE THREE QUESTIONS listed below.

Question 1

(a) Sparkly Ltd, a house-building group, is considering bidding at an auction, to be held

next week, for an old agricultural building in the Green Belt. The auctioneer, who will
be conducting the auction, believes that that the building will be sold at about
£400,000. The business wants to convert the building into a block of ten one-
bedroom apartments to be sold at a forecast price of £200,000 each.

The works will be in two stages and these will take two years. Stage One, covering
the first year of the project, will cost £800,000. The company expects to complete
and sell six apartments at the end of the first year. During Stage Two planned for the
second year, the remaining four apartments will be completed at an estimated total
cost of £650,000 and sold at the end of the second year. Sparkly’s cost of financing
is 5 per cent per annum.

The threshold for the acceptability of the project is a non-negative NPV (net present
value). The estimates of conversion costs produced by the project’s team are based
on similar cost estimates for residential apartment conversions and have been
agreed with a team of local cost consultants. The assumptions about the selling price
of apartments and the cost of financing are based on forecasts made by the firm’s
finance team. The manager, who is currently reviewing the net present value
calculations, wants to explore how sensitive the project will be to possible adverse
movements in apartment sale price and in cost of financing.

Assume that each apartment must be sold for the same price. Ignore taxation and
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 inflation. Assume that cash flows arise at the end of the year to which they relate.
The manager does not expect capital to be in short supply during the next two years.

Required:
(i) What is the NPV of the proposed project?
(ii) Now, suppose that none of the other inputs deviate from the estimates
provided. What is the maximum tolerable unfavourable change in:

- sale price of apartment,

- cost of financing?
(iii) How would you explain the results in part (ii)? Is the level of risk
associated with the findings high or low?

You must show computations and workings and state assumptions you have made
clearly and neatly.

(b) Briefly discuss the merits and demerits of the internal rate of return rule.

[ 35 marks ]
Question 2

(a) Evergreen Activities Ltd are considering three investment project proposals. The
expected pattern of cash flows is as follows:
Initial
Investment Annual Sales Annual
in Year Zero Revenues Fixed Costs Life of Project
Project (£000) (£000) (£000) (years)
A 15 28 7 5
B 35 35 4 4
C 14 20 6 7

Respective variable costs are 50 per cent of annual revenues. The fixed costs are
directly associated with the projects and will be incurred by going ahead with the
proposals.

Each project can be undertaken only once and each is divisible, that is, it is possible
to undertake part of a project, if required.

The company has the cost of financing of 8 per cent per annum and the investment
budget for Year Zero is restricted to £40,000. All cash flows occur at the year-ends.
Assume no tax and inflation.

Required:
Determine the optimal allocation of the investment budget among these projects.
You must show computations and workings and state assumptions you have made
clearly and neatly.

(b) Discuss the distinction between hard and soft capital rationing.

[ 35 marks ]

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Question 3

The table below provides the end-of-year share prices (in pence) for Vodafone Group Plc
and BT Group Plc and the end-of-year values for the FTSE 100 Index, which is a proxy for
the Market Portfolio, M.

YEAR Vodafone Group Plc BT Group Plc Market Portfolio, M

2003 43.9 87.9 4476.9

2004 46.6 99.2 4814.3
2005 43.9 114.2 5618.8
2006 47.2 162.7 6220.8
2007 67.4 152.1 6456.9
2008 54.6 81.7 4434.2
2009 63.3 85.5 5412.9
2010 81.1 120.2 5899.9
2011 97.1 132.5 5572.3
2012 93.0 166.8 5897.8
2013 156.6 282.8 6749.1
2014 148.7 308.2 6566.1
2015 154.9 368.8 6242.3
2016 147.9 296.6 7142.8
2017 184.4 230.3 7687.8
2018 129.8 214.9 6728.1
2019 132.3 188.0 7542.4
2020 112.8 132.3 6450.5
Source: Yahoo! Finance.

Required:
(a) Calculate the systematic risk (𝛽𝑖2 × 𝜎𝑚 2
), the non-systematic risk (𝜎𝑖2 ) − (𝛽𝑖2 × 𝜎𝑚
2
)
2
and the total risk (𝜎𝑖 ) of the equity shares of Vodafone Group and BT Group.

(b) Which company’s returns are better explained by the market’s returns?

(c) Suppose the market is in equilibrium. Assuming the risk-free interest rate of
0.85% per annum, calculate the expected equilibrium risk-premium for each of
the two shares. Comment on the results.
You must show computations and workings and state assumptions you have made
clearly and neatly.
[ 30 marks ]

Allocation of Available Marks

Section/element Allocated Available Marks

1) Question 1 35 marks
2) Question 2 35 marks
3) Question 3 30 marks

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 Non-submission or work submitted after the above deadline will be given 0 (zero) %.

Submission Requirements:
Please use the following page layout for the report:
Times New Roman font size 12, single spaced, with margins 1” (or 2.5 cm) 1 inch
margins (left, right, top and bottom).
Please do not forget to provide the actual word count at the end of the report.

You must submit your report electronically via a dropbox designated for this Assignment
on Canvas. Name the Word (or pdf) file uploaded using your last name and the
assignment’s title, e.g., Holland_Assignment.docx.

NO paper submission is needed. Please keep backup files of your work.

General points:

i) Provide all the required information and follow the instructions (e.g. word/page
count). Answer the question directly and relevantly.
ii) Write in proper sentences and paragraphs and avoid a ‘shopping list’ approach. Keep
the style formal and remember to draw conclusions. Use the spelling and grammar
check in Word. Poor grammar and spelling is unprofessional and unacceptable at
Master’s level. As a result, make sure that you proof read your work and edit it
properly.
iii) Do not copy the work of others or allow others to copy your work. Plagiarism is
cheating and will be penalised. Guidance on how to avoid plagiarism and academic
misconduct can be found in Academic Regulations Policies and regulations - How
the University works - Kingston University London.

Feedback on the written elements of the module will be based on postgraduate grade
criteria.

The general assessment criteria at Masters Level (Level 7) are set out in a document titled
University Grade Criteria and available in the Academic Guidance Area of Academic
Regulations Policies and regulations - How the University works - Kingston University
London.

END OF ASSIGNMENT PAPER

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