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  • 30 Marks

FM – Nov 2018 – L3 – Q1 – Financial Strategy Formulation

Appraisal of a diversification project into holiday travel using WACC and associated financial strategy considerations.

Eko Plc. (Eko) is a listed company in the food retailing sector and has large stores in all major cities in the country. Eko’s board is considering diversifying by opening holiday travel shops in all of its stores.

At a recent board meeting, the directors discussed how the holiday travel shops project (the project) should be appraised. The sales director insisted that Eko’s current weighted average cost of capital (WACC) should be used to evaluate the project, as the majority of its operations will still be in food retailing. The finance director disagreed, stating that the existing cost of equity does not account for the systematic risk of new projects and that the company’s overall WACC would change as a result of the project’s acceptance. The board was also concerned about the market’s reaction to its diversification plans. Another board meeting was scheduled, at which Eko’s advisors would be asked to make a presentation on the project.

You work for Eko’s advisors and have been asked to prepare information for the presentation. You have established the following:

Eko intends to raise the capital required for the project in such a way as to leave its existing debt-to-equity ratio (by market value) unchanged following the diversification. Extracts from Eko’s most recent management accounts are shown below:

Statement of financial position as at May 31, 2017

On May 31, 2017, Eko’s ordinary shares had a market value of 276 kobo (ex-div) and an equity beta of 0.60. For the year ended May 31, 2017, the dividend yield was 4.2%, and the earnings per share were 25 kobo. The return on the market is expected to be 8% p.a, and the risk-free rate is 2% p.a.

Eko’s debentures had a market value of N108 (ex-interest) per N100 nominal value on May 31, 2017, and they are redeemable at par on May 31, 2021.

Companies operating solely in the holiday travel industry have an average equity beta of 1.40 and an average debt-to-equity ratio (by market value) of 3:5. It is estimated that if the project goes ahead, the overall equity beta of Eko will be made up of 90% food retailing and 10% holiday travel shops.

Assume that the income tax rate will be 20% p.a. for the foreseeable future.

Required:

a. Ignoring the project, calculate the current WACC of Eko using:
i. The Capital Asset Pricing Model (CAPM) (8 Marks)
ii. The Gordon Growth Model (6 Marks)

b. Use the CAPM to calculate the cost of equity that should be included in a WACC suitable for appraising the project and explain your reason. (5 Marks)

c. By calculating an overall equity beta and using the CAPM, estimate the overall WACC of Eko assuming that the project goes ahead and comment on the implications of a permanent change in the overall WACC. (5 Marks)

d. Advise whether Eko should diversify its operations and how the stock market might react to the proposed project. (3 Marks)

e. Identify the appropriate project appraisal methodology that should be used when a project’s financing results in a major increase in a company’s market gearing ratio, and using the data relating to Eko, calculate the project discount rate that should be used in this circumstance. (3 Marks)

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  • 30 Marks

CSME – May 2022 – L2 – SA – Q1 – Corporate Strategy Formulation

Analyze Abiodun Farms' growth strategy using SOAR and PESTEL, and suggest strategic directions for growth.

Abiodun Farms Limited is a company established to engage in poultry farming. Currently, it owns and runs a poultry farm located at Ota, Ogun State. With five years of experience in egg production, the company produces 700 crates of eggs per day, all of which are sold in Ota. The current demand for eggs in Ota is estimated at 2,000 crates per day. The company’s vision is to become the country’s biggest egg producer within the next ten years.

As a growth strategy, Abiodun Farms Limited plans to expand production to 10,000 crates of eggs per day through the installation of more cages and pens on its premises at Ota, acquisition of more chickens, and other required inputs. The focus is to serve the market for eggs in selected towns in Southwestern Nigeria, all of which have an estimated daily demand of 50,000 crates of eggs. The production capacity of all competitors of Abiodun Farms Limited in the market for eggs in the Southwest was estimated at 32,000 crates per day. The company hopes to take advantage of this demand gap through the establishment of distribution outlets across major cities in the region for effective marketing. Aggressive advertisement campaigns to stimulate demand for its products will also be embarked upon.

The establishment of a new poultry or expansion of the production capacity of an existing one has no legal requirements except for making adequate arrangements for waste management. Capital requirements are high. However, the Central Bank of Nigeria (CBN) recently approved the release of soft loans to all interested poultry farmers as part of the government’s agri-loan scheme aimed at promoting farming. Abiodun Farms Limited intends to fund 60% of its growth plan through the agri-loans scheme which the CBN has approved and is currently awaiting disbursement.

For the success of the proposed growth strategy, it hopes to leverage the following:

  • Knowledge and experience of poultry business acquired in the company’s 5 years of operation
  • Size of land owned by the company, where current production takes place, is adequate for the proposed expansion
  • Strong business relationships with the biggest and most reliable suppliers of poultry inputs, such as point-of-lay chickens, cages, feeds, medicines, egg crates, etc.
  • Growth rate of demand for eggs is currently in line with that of the population of the country, which is estimated at 3%
  • The company has access to current technology in egg production, which has not changed in decades. It hopes to install automatic solid chicken waste flushers, egg pickers, and sorters. There are also plans to employ two in-house veterinarians
  • The problem of kidnapping has become worrisome in the area where the company operates. Recently, it had to pay a huge ransom to kidnappers for the release of one of its kidnapped marketers. To mitigate this risk, the company plans to engage five local hunters to provide security for its employees in addition to those securing the farm premises currently
  • There is currently no public water supply to the farm location. Hence, the company provides its own water, using a huge borehole it drilled three years ago, which has the capacity to generate adequate water to meet current and future needs. In the same vein, the company relies mostly on its generating sets for its electricity needs, due to the unreliable and epileptic public electricity supply
  • With the increase in egg production comes an increase in solid waste generation and air pollution. Therefore, it is envisaged that the increased air pollution could attract some negative reactions from people in the Ota community. However, the company has an existing waste disposal system which it hopes to expand to properly dispose of all poultry waste
  • Required human resources are available within the Ota community

Required:

a. Use the SOAR model to analyze the strategic position of Abiodun Farms Limited. (12 Marks)

b. Using the PESTEL analysis, assess the business environment of Abiodun Farms Limited, explaining how each component will impact the company’s growth strategy. (12 Marks)

c. Suggest strategies for Abiodun Farms Limited to achieve its goal of becoming the biggest poultry products producer and seller in Nigeria under the following strategic directions:

  • i. Market development (2 Marks)
  • ii. Market penetration (2 Marks)
  • iii. Diversification (2 Marks)

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Has Case Study
  • 10 Marks

SCS – Nov 2023 – L3 – Q2 – Methods of Development

NSL's adoption of backward and forward vertical integration through farming and retailing in Kumasi.

Although the company’s core business is the production of shito, it has diversified into farming/cultivating some of its inputs and is also contemplating the idea of retailing shito to customers by renting gondola in supermarkets in Kumasi by 2025.

Required:
a) Clearly identify and explain the integration strategy the company is adopting by going into cultivating some inputs and the proposal to go into retailing in Kumasi.
(2 marks)

b) Explain to the Martinsons FOUR (4) potential weaknesses or disadvantages the company may or is likely to suffer with the integration strategy identified in (a) above.
(8 marks)

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  • 10 Marks

BMIS – Nov 2021 – L1 – Q5a – Introduction to business strategy

Explain the components of the Ansoff Growth Matrix in strategic planning.

Organisations that intend to remain focused on the achievement of their objectives develop and apply different business models to guide them in their operations. One of such models is the Ansoff Growth Matrix.

Required:
Explain the Ansoff Growth matrix with emphasis on its components. (10 marks)

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  • 30 Marks

FM – Nov 2018 – L3 – Q1 – Financial Strategy Formulation

Appraisal of a diversification project into holiday travel using WACC and associated financial strategy considerations.

Eko Plc. (Eko) is a listed company in the food retailing sector and has large stores in all major cities in the country. Eko’s board is considering diversifying by opening holiday travel shops in all of its stores.

At a recent board meeting, the directors discussed how the holiday travel shops project (the project) should be appraised. The sales director insisted that Eko’s current weighted average cost of capital (WACC) should be used to evaluate the project, as the majority of its operations will still be in food retailing. The finance director disagreed, stating that the existing cost of equity does not account for the systematic risk of new projects and that the company’s overall WACC would change as a result of the project’s acceptance. The board was also concerned about the market’s reaction to its diversification plans. Another board meeting was scheduled, at which Eko’s advisors would be asked to make a presentation on the project.

You work for Eko’s advisors and have been asked to prepare information for the presentation. You have established the following:

Eko intends to raise the capital required for the project in such a way as to leave its existing debt-to-equity ratio (by market value) unchanged following the diversification. Extracts from Eko’s most recent management accounts are shown below:

Statement of financial position as at May 31, 2017

On May 31, 2017, Eko’s ordinary shares had a market value of 276 kobo (ex-div) and an equity beta of 0.60. For the year ended May 31, 2017, the dividend yield was 4.2%, and the earnings per share were 25 kobo. The return on the market is expected to be 8% p.a, and the risk-free rate is 2% p.a.

Eko’s debentures had a market value of N108 (ex-interest) per N100 nominal value on May 31, 2017, and they are redeemable at par on May 31, 2021.

Companies operating solely in the holiday travel industry have an average equity beta of 1.40 and an average debt-to-equity ratio (by market value) of 3:5. It is estimated that if the project goes ahead, the overall equity beta of Eko will be made up of 90% food retailing and 10% holiday travel shops.

Assume that the income tax rate will be 20% p.a. for the foreseeable future.

Required:

a. Ignoring the project, calculate the current WACC of Eko using:
i. The Capital Asset Pricing Model (CAPM) (8 Marks)
ii. The Gordon Growth Model (6 Marks)

b. Use the CAPM to calculate the cost of equity that should be included in a WACC suitable for appraising the project and explain your reason. (5 Marks)

c. By calculating an overall equity beta and using the CAPM, estimate the overall WACC of Eko assuming that the project goes ahead and comment on the implications of a permanent change in the overall WACC. (5 Marks)

d. Advise whether Eko should diversify its operations and how the stock market might react to the proposed project. (3 Marks)

e. Identify the appropriate project appraisal methodology that should be used when a project’s financing results in a major increase in a company’s market gearing ratio, and using the data relating to Eko, calculate the project discount rate that should be used in this circumstance. (3 Marks)

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  • 30 Marks

CSME – May 2022 – L2 – SA – Q1 – Corporate Strategy Formulation

Analyze Abiodun Farms' growth strategy using SOAR and PESTEL, and suggest strategic directions for growth.

Abiodun Farms Limited is a company established to engage in poultry farming. Currently, it owns and runs a poultry farm located at Ota, Ogun State. With five years of experience in egg production, the company produces 700 crates of eggs per day, all of which are sold in Ota. The current demand for eggs in Ota is estimated at 2,000 crates per day. The company’s vision is to become the country’s biggest egg producer within the next ten years.

As a growth strategy, Abiodun Farms Limited plans to expand production to 10,000 crates of eggs per day through the installation of more cages and pens on its premises at Ota, acquisition of more chickens, and other required inputs. The focus is to serve the market for eggs in selected towns in Southwestern Nigeria, all of which have an estimated daily demand of 50,000 crates of eggs. The production capacity of all competitors of Abiodun Farms Limited in the market for eggs in the Southwest was estimated at 32,000 crates per day. The company hopes to take advantage of this demand gap through the establishment of distribution outlets across major cities in the region for effective marketing. Aggressive advertisement campaigns to stimulate demand for its products will also be embarked upon.

The establishment of a new poultry or expansion of the production capacity of an existing one has no legal requirements except for making adequate arrangements for waste management. Capital requirements are high. However, the Central Bank of Nigeria (CBN) recently approved the release of soft loans to all interested poultry farmers as part of the government’s agri-loan scheme aimed at promoting farming. Abiodun Farms Limited intends to fund 60% of its growth plan through the agri-loans scheme which the CBN has approved and is currently awaiting disbursement.

For the success of the proposed growth strategy, it hopes to leverage the following:

  • Knowledge and experience of poultry business acquired in the company’s 5 years of operation
  • Size of land owned by the company, where current production takes place, is adequate for the proposed expansion
  • Strong business relationships with the biggest and most reliable suppliers of poultry inputs, such as point-of-lay chickens, cages, feeds, medicines, egg crates, etc.
  • Growth rate of demand for eggs is currently in line with that of the population of the country, which is estimated at 3%
  • The company has access to current technology in egg production, which has not changed in decades. It hopes to install automatic solid chicken waste flushers, egg pickers, and sorters. There are also plans to employ two in-house veterinarians
  • The problem of kidnapping has become worrisome in the area where the company operates. Recently, it had to pay a huge ransom to kidnappers for the release of one of its kidnapped marketers. To mitigate this risk, the company plans to engage five local hunters to provide security for its employees in addition to those securing the farm premises currently
  • There is currently no public water supply to the farm location. Hence, the company provides its own water, using a huge borehole it drilled three years ago, which has the capacity to generate adequate water to meet current and future needs. In the same vein, the company relies mostly on its generating sets for its electricity needs, due to the unreliable and epileptic public electricity supply
  • With the increase in egg production comes an increase in solid waste generation and air pollution. Therefore, it is envisaged that the increased air pollution could attract some negative reactions from people in the Ota community. However, the company has an existing waste disposal system which it hopes to expand to properly dispose of all poultry waste
  • Required human resources are available within the Ota community

Required:

a. Use the SOAR model to analyze the strategic position of Abiodun Farms Limited. (12 Marks)

b. Using the PESTEL analysis, assess the business environment of Abiodun Farms Limited, explaining how each component will impact the company’s growth strategy. (12 Marks)

c. Suggest strategies for Abiodun Farms Limited to achieve its goal of becoming the biggest poultry products producer and seller in Nigeria under the following strategic directions:

  • i. Market development (2 Marks)
  • ii. Market penetration (2 Marks)
  • iii. Diversification (2 Marks)

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  • 10 Marks

SCS – Nov 2023 – L3 – Q2 – Methods of Development

NSL's adoption of backward and forward vertical integration through farming and retailing in Kumasi.

Although the company’s core business is the production of shito, it has diversified into farming/cultivating some of its inputs and is also contemplating the idea of retailing shito to customers by renting gondola in supermarkets in Kumasi by 2025.

Required:
a) Clearly identify and explain the integration strategy the company is adopting by going into cultivating some inputs and the proposal to go into retailing in Kumasi.
(2 marks)

b) Explain to the Martinsons FOUR (4) potential weaknesses or disadvantages the company may or is likely to suffer with the integration strategy identified in (a) above.
(8 marks)

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  • 10 Marks

BMIS – Nov 2021 – L1 – Q5a – Introduction to business strategy

Explain the components of the Ansoff Growth Matrix in strategic planning.

Organisations that intend to remain focused on the achievement of their objectives develop and apply different business models to guide them in their operations. One of such models is the Ansoff Growth Matrix.

Required:
Explain the Ansoff Growth matrix with emphasis on its components. (10 marks)

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