C - Advanced investment appraisal Flashcards
What are the assumptions of the BSOP model and how can its result be interpreted?
Underlying assets are tradable
Perfect markets
Log nominal distribution of asset prices
Constant interest rates
What are some of the concerns one must address when providing estimates on project appraisals?
Accuracy of information involved in calculation
Addressing uncertainty by the use of sensitivity and scenario analysis
Relationship between variables e.g. Interest rates and exchange rates moving in line with each other
Cost of capital and it’s relevance to risk profile of the company
Scenario based dynamics/timelines
Other costs which maybe significant e.g. Underwriting
What are some business risks one must consider when evaluation international projects
Culture
What is the exam technique when preparing NPV calculations?
Revenue Less: COS Other related costs tax allowable depreciation Balancing allowance Tax at relevant rate Add back non cashflows
What does the values of P(a) and P(e) represent in the BSOP model?
P(a) - present value of underlying asset
P(e) - exercise price
What are some possible reasons for a company to seek a public listing?
Raise funds quicker (undertake new projects, payoff existing debt)
Give current owners value for their equity stake=> proceeds of sale
Higher reputation ( reduce costs of contracting)
What are some discussion points for issuing initial shares offer at a discount?
Discount reflects additional risk of investing as a minority shareholder (initial listing shareholders becomes minorities, decision making influence curtailed)
Joint shareholders (former bond/new investors) would have significant influence (depends on whether interests are aligned)
Ensures that all shares are sold/reward for underwriters (research shows price increase immediately after launch)
What items should be included in calculating APV?
Base cost NPV
Add: PV of tax shield and subsidy
Annuity factors (rate, duration)
Annual tax shield benefit interest paid (rate,investment,tax rate)
Subsidy benefit (rate, investment, 1-tax rate)
APV (base case NPV, PV of tax shield + subsidy - investment)
What items must one include when calculating the terminal value of an investment/company valuation?
Free cash flows for the final year
Annuity factor (if applicable for remaining years)
PV factor the final year
Terminal value (FCF, annuity, DF)
What exam technique can be used when calculating by what % selling price must be reduced by to bring NPV to zero?
Find NPV of cash outflows
Divide above by annuity factor x discount factor
Add solution to annual cost
Divide solution by number of units
What are the main variables when formulating an appropriate capital rationing model that maximises or minimizes the net present value?
Defining variables
Objecting statement
Constraints per variable or resource/time factor
Why would a company want to impose capital rationing on its departments?
Limitations from hard capital rationing may lead to soft capital rationing
What are the features of a capital investment monitoring system and the benefits of maintaining such a system?
Sets plan/ budget, milestones
Identifies possible risks both internal and external
Ensures project proceeds according to plan
Sets up contingencies for risks identified
Tries to ensure project meets revenues and expenses planned
Risk factors remain valid
Critical path identified
Reduce cost by having a better plan as team is more proactive
Serves as a communication device for managers and monitoring team
Able to reassess assumptions made due to changes in the external environment
