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Coursework, Semester A 2021_22 Herts Gadgets International plc (t0 = 2021) Herts Gadgets International plc manufactures and sells a range of machine tool accessories. The company is considering an investment of £13.0 million in new production plant and machinery for the product. The new facility is to be operational from 1 January 2022. It will have a life of five years and at the end of its life it will have a residual value of £1.0 million. It is expected that the facility will have significant benefits. Firstly, it will increase Herts Gadgets’ production output of diamond milling tools by 10%. Total contribution from new sales is expected to be £2,865,000 in 2022 increasing annually by 5% per annum until 2026. All the increased production will be exported in approximately equal proportions to South Korea, Spain and Canada. Thus, the firm will have cash flows denominated in Won, €, and $Ca and the contribution figure given above is the sterling equivalent of these cash flows at current exchange rates. Secondly, it will reduce the product’s direct labour and direct material costs by 20% per unit which will result in savings of £1,680,000 on existing production in 2022. Having made these cost savings, the company expect costs to remain constant to 2026 due to continual efficiency improvements. The project also requires additional working capital of £2.0 million. Herts Gadgets pays corporation tax at the rate of 20% on its taxable profits which is paid one year in arrears. (Assume that net cash flow is the same as taxable profit). A recent report by financial consultants suggests that the Herts Gadgets plc’s equity has a beta of 1.60 and reported that medium term UK government bonds are earning 2.89% per annum. In addition, the report noted that the FTSE All-share index increased by an average of 11.6% compound in each of the last three years. Herts Gadgets plc ordinary shares are trading on the stock exchange at £1.65 whilst their loan stock is trading at £104.70. During the last year the firm reported an operating profit of £969,000. Inspection of the Herts Gadgets plc balance sheet reveals the following: Long-term Liabilities: £000 7% Loan Stock 2023 500 3 Shares & reserves: Ordinary shares par value £1 1200 Profit and loss account 942 Shareholders funds 2642 Required: Evaluate the investment proposal on behalf of Herts Gadgets Intl plc and advise the firm whether the project is acceptable on a financial basis. Also, comment on the potential impact of foreign exchange risk on the project. Also discuss and recommend the alternative sources of financing the project. You should support your arguments with relevant theory and calculations and indicate any non-financial matters you feel should be taken into consideration. Your answer should be presented in the form of a report of 2500 words total (excluding the reference list). You must also submit an Excel spreadsheet containing your calculations.


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