Part A 

Requirements 

It has been three months since your promotion to assistant financial manager at fashion company BERMUDA Ltd. BERMUDA Ltd is a fashion retailer listed on the AIM market. The firm was founded 10 years ago, after a short and successful period as a partnership between Rebecca and Roy Race. The company has grown rapidly and has two successful own brand labels, ‘BERMUDA’ catering for the middle-income woman’s market and ‘Racey’ aimed at younger women. 

BERMUDA Ltd distributes its two major seasonal lines (spring/summer and autumn/winter) under the ‘BERMUDA’ label and its young women’s label ‘Racey’ through major high street retailers in the UK andUnited States. Sales are also generated through exhibits of new collections at clothing exhibitions and through a fledgling, but not dynamic online presence, and very occasional webcast fashion shows. 

The company’s investment priorities are to maintain its existing competitive position and identify value creating growth opportunities. The current low interest rates have incentivised BERMUDA Ltd management team to consider raising debt finance to fund their investment priorities. 

• You have been asked to produce a PowerPoint presentation together with notes to the slides which critically examines the benefits and risks to a company of incorporating corporate debt into anexisting portfolio of equity and debt. Please note you will not be required to present the PowerPoint presentation (30%)

 Part B 

Task 1 

BERMUDA Ltd has recently established a private pension scheme for its employees and the financial manager has asked you to provide a short report on why diversification generally leads to a reduction in risk relative to return. This report will be made available on the company website to inform employees on how the pension scheme manages both risk and return when selecting investable assets (including reference to forms of risk, covariance and CAPM).(20%)

In this section students should demonstrate understanding, knowledge, and an ability to critically evaluate the differing theoretical viewpoints associated with the topic. The response should attempt to incorporate a critical perspective through relevant academic referencing, rather than overly describing the topic. Attempting to evaluate within a practical, real-life business context through investigation of academic empirical findings will assist in developing the response.

Task 2 

Currently, the management at BERMUDA Ltd are in preliminary decisions on a horizontal acquisition of ‘Sporty PLC’. Sporty PLC has an established men’s fashion brand; however, it is seen as a ‘Problem Child’ evidenced by relatively low market share in an industry segment that is experiencing growth. Industry analysts believe declining sales is principally due to not anticipating current tastes/trends and the financial manager has approached you for information on what value to place on Sporty PLC. 

If the acquisition tales place, Sporty PLC will operate as a separate entity within BERMUDA Ltd. Existing designers at BERMUDA Ltd are very knowledgeable on the female market and believe they can transfer these skills to men’s fashion. Also, Roy Race is an ex-professional footballer and is passionate about men’s sport/casual wear. Both Rebecca and Roy are confident that synergies will improve economies of scale and scope, quality and in the medium-term, key performance ratios for Sporty PLC will be comparable to BERMUDA Ltd. BERMUDA Ltd’s share price is currently £6.00, and the company’s earnings per share stand at 17p. BERMUDA Ltd’s weighted average cost of capital is 9% 

The board estimates that annual after-synergy benefits resulting from the takeover will be £7m, that Sporty’s distributable earnings will grow at an annual rate of 4% and that duplication will allow the sale of £20m of assets, net of corporate tax (currently standing at 30%), in a year’s time. Information relating to Sporty PLC: 

Financial Position Statement of Sporty PLC. 

£m

Non-Current Assets                                                        40

Current Assets                                                               78

118 Equity:

Ordinary Shares (£1)                                                     40

Reserves                                                                        3

43

Long-Term Debt         10 Current Liabilities    65

Total Liabilities                                                             118

Statement of Profit or Loss Extracts 

Required: 

• Given the information above, calculate the value of Sporty PLC using the following valuation methods: 

1. Price / Earnings (using BERMUDA Ltd’s P/E ratio)
2. Dividend valuation
3. Discounted cash flow(15%) 

• Based on your calculations, justify the value of Sporty PLC and the stated motives for this (10%) 

In this section students should demonstrate understanding, knowledge, and an ability to critically evaluate the differing theoretical viewpoints associated with the topic. The response should attempt to incorporate a critical perspective through relevant academic referencing, rather than overly describing the topic. Attempting to evaluate within a practical, real-life business context through investigation of academic empirical findings will assist in developing the response.

Task 3

 Designs for BERMUDA Ltd’s fashion lines are created inhouse and manufacturing takes place across numerous locations in Birmingham, however the company is keen to expand into Asian-Pacific markets and is considering a small manufacturing base in Vietnam.The project will have an initial outlay of £2m has a 0.55 probability of producing a return of £1.7m in Year 1 and a 0.45 probability of delivering a return of £1m in Year 1. If the £1.7m results occurs, then the second year could return either £2.8m (probability of 0.6) or £1.9m (probability of 0.4). If the £1m result for Year 1 occurs, then either £1.1m (probability 0.5) or £600,000 (probability of 0.5) could be received in the second year. All cash flows occur on anniversary dates. The discount rate for this project is 15%. 

Required: 

• Calculate:
  1. The expected
  2. The standard deviation of
  3. The probability of the NPV being less than zero assuming a normal distribution of return – (bell shaped and symmetrical about the mean).(10%) 

Based on your analysis of the macroeconomic risk factors, you believe that if the project was delayed by a year, BERMUDA Ltd would be able to improve the accuracy of the Year 1 probability estimates, which could lead to a reduced initial outlay and discount rate. 

• Upon finishing your calculations, a colleague states that the ‘traditional NPV method is just as effective as an NPV method incorporating probabilities and real option perspectives’. Critically evaluate this (15%) 

In this section students should demonstrate understanding, knowledge, and an ability to critically evaluate the differing theoretical viewpoints associated with the topic. The response should attempt to incorporate a critical perspective through relevant academic referencing, rather than overly describing the topic. Attempting to evaluate within a practical, real-life business context through investigation of academic empirical findings will assist in developing the response.