2016年ACCA F9《财务管理》重要知识点讲解(4)

2016年ACCA F9《财务管理》重要知识点讲解（4）

Effects of taxation on project appraisal

Investment in capital assets has taxation implications, which should be included in the analysis. To ignore the effect of taxation could affect the quality of the decision, which is consequently made about an investment opportunity. If the resulting project from the appraisal is profitable then taxation becomes payable on these profits thus reducing the net cash inflows by the amounts of tax payable. Capital allowances are given by the Inland Revenue at about 25% on a reducing balance basis over the life of the project. Capital allowances reduce the amount of tax which becomes payable. If the project has a terminal value at the end of its useful life, it will be necessary to establish whether this gives rise to a balancing allowance or a balancing charge. Net cash inflows are used in pay back, net present value and Internal rate of return methods. If the entity will not be in a tax-paying position during the entire life of the project then it is known as tax exhausted and tax can be ignored but this situation is most unlikely to occur.

Now that we have looked at these possible areas of complication let us look at a fictitious company we shall call Samco Plc.

Case

Samco Plc is a manufacturer of electric drills. The company has just developed two new models of electric drills. Model 1 is called Automatic and model 2 is called Super. Senior managers have resolved that if production were to commence in making the automatic model, 200,000 drills per annum will be produced and sold over the next five years at a price of ￡200 per drill, whereas if production were to commence with the super model, 150,000 drills per annum will be sold over the next seven years at a price of ￡140 per drill. Budgeted operating costs of each of the two models at today?s prices are as stated below:

Automatic model￡

Direct material70

Direct Labour20

Variable overhead

Fixed production overhead

Selling, Distribution etc20

Net Cash inflow per unit = (￡200 ? ￡140) = ￡60

Super model￡

Direct material20

Direct labour12

Variable overhead15

Fixed production overhead

Selling, distribution, etc.

Net Cash inflow per unit = (￡140 ? 70) = ￡70

Net present value to infinity

Automatic model

NPV μ= NPV of the project/PV of annuity of appropriate years and rate

Discount Rate

= ￡17,130,000/3.736

0.155

= ￡29,581,405

Super model

= ￡18,920,000/3.605

0.20

= ￡26,241,332

Having calculated the net present values of the two projects to infinity clearly one can see that the automatic model has a net present value of about ￡29.5m whereas super has a lower net present value of about ￡26.2m. This means that the automatic model will give a higher return to the shareholders of Samco plc. This is the model the Board should manufacture and sell to their customers, because shareholders? wealth will be maximised by taking this course of action.

Conclusion

The main objective of this second article in the area of project appraisal was to demonstrate to readers that cases might not necessarily be straightforward. Aspects such as inflation, taxation and unequal life spans must be understood in order that candidates can competently answer questions requiring an understanding of these further aspects. The scenario in Samco plc should be carefully followed ensuring that you understand how the author has used the available information to answer the question.

by John Richard Edwards

01 Oct 2000

The merits of cash based financial reporting ? for example, it is based principally on facts rather than problematic accounting measurements ? have been known for many years. However, it was not until 1990 (revised 1996) that the Accounting Standards Board made the publication of Cash Flow Statements (FRS 1) a standard requirement for UK companies. FRS 1 tells us that the ?cash flow statement in conjunction with a profit and loss account and balance sheet provides information on financial position and performance as well as liquidity, solvency and financial adaptability?. Wise words, but what do they mean?

The usefulness of financial statements is enhanced by an examination of the relationship between them; also by comparisons with previous time periods, other entities and expected performance. Value can be further added through the calculation and interpretation of accounting ratios. An examination of accounting textbooks and the pages of accounting periodicals reveals an enthusiasm for rehearsing the potential of ?accounting ratios? demonstrated through calculations of the net profit margin, return on capital employed, current ratio and a host of other ?traditional? measures based on the contents of the profit and loss and balance sheet. But what about the cash flow statement? We have seen that its publication was required by the ASB in order to improve the informative value of published financial information. Indeed, some say it is the most important financial statement. One based on ?hard facts? which has helped prevent financial machinations such as those that are believed to have occurred at companies such as Polly Peck in the 1980s.

The lack of attention to cash flow-based ratios in accounting textbooks is particularly surprising given their acknowledged role in credit rating assessments and in the prediction of corporate failure. In these and other contexts, the traditional ratios suffer from the same defect as the financial statements (the profit and loss account and balance sheet) on which they are based. Such ratios are the result of comparing figures which have been computed using accounting conventions and ?guestimations?.

Given the difficulty of deciding the length of the period over which a fixed asset should be written off, whether the tests which justify the capitalisation of development expenditure have been satisfied, the amount of the provision to be made for claims under a manufacturer?s twelve month guarantee (to give just a few examples), ratios based on such figures are also bound to have limited economic significance. This is not to suggest that the traditional ratios are irrelevant. Clearly this is not so, as they reveal important relationships and trends that are not apparent from the examination of individual figures appearing in the accounts. However, given the fact that cash flow ratios contain at least one element that is factual (the numerator, the denominator or both), their lack of prominence in the existing literature is puzzling.

Some recognition of cash flow ratios

The importance of cash flow ratios was dramatically demonstrated, early on, by W. H. Beaver whose 1966 study showed that the most effective predictor of corporate failure was the ratio of cash flow to total debt. Indeed, one of his most surprising findings was that the current ratio proved to be one of the least useful ratios in predicting impending collapse. The importance of cash as an indicator of continuing financial health should not be surprising in view of its crucial role within the business. Colourfully described as a company?s ?life-blood?, a strong cash flow will enable a business to recover from temporary financial problems whereas future negative cash flow will cause even an apparently sound enterprise to move towards liquidation. Expressing the importance of cash differently: a company which descends into a

loss-making position often succeeds in making a comeback; one which runs out of cash is unlikely to have a second chance.

Ratios which link the cash flow statement with the two other principal financial statements

Cash flow from operations to current liabilities

Cash flow from operations to current liabilities

= Net cash flow from operating activities x 100

Average current liabilities

Where:

Net cash flow from operating activities is taken directly from the cash flow statement published to comply with FRS 1. Average current liabilities are computed from the opening and closing balance sheet.

This ratio examines the liquidity of the company by providing a measure of the extent to which current liabilities are covered by cash flowing into the business from normal operating activities. The ratio is thought to possess some advantage over balance sheet-based ratios such as the liquidity ratio as a measure of short-term solvency. This is because balance sheet ratios are based on a static positional statement

(the ?instantaneous financial photograph?) and are therefore subject to manipulation by, for example, running down stock immediately prior to the year end and not replacing it until the next accounting period. Balance sheet based ratios may alternatively be affected by unusual events which cause particular items to be abnormally large or small. In either case, the resulting ratios will not reflect normal conditions.

Cash recovery rate

Cash recovery rate (CRR) =

Cash flow from operations x 100

Average gross assets

Where:

Cash flow from operations is made up of ?net cash flow from operating activities? together with any proceeds from the disposal of long-term assets. Gross assets is the average gross value of the entity?s assets.

Assets are required to generate a return which is ultimately, if not immediately, in the form of cash. The CRR is, therefore, a measure of the rate at which the company recovers its investment in fixed assets. The quicker the recovery period, the lower the risk. You may have noticed that the CRR is thus the reciprocal of the pay back period used for capital project appraisal purposes assuming projects have equal (or roughly equal) annual cash flows.

Cash flow per share

Cash flow per share =

Cash flow

Weighted average no. of shares

Ratios which link the cash flow statement with the two other principal financial statements

Cash flow from operations to current liabilities

Cash flow from operations to current liabilities

= Net cash flow from operating activities x 100

Average current liabilities

Where:

Net cash flow from operating activities is taken directly from the cash flow statement published to comply with FRS 1. Average current liabilities are computed from the opening and closing balance sheet.

This ratio examines the liquidity of the company by providing a measure of the extent to which current liabilities are covered by cash flowing into the business from normal operating activities. The ratio is thought to possess some advantage over balance sheet-based ratios such as the liquidity ratio as a measure of short-term solvency. This is because balance sheet ratios are based on a static positional statement

(the ?instantaneous financial photograph?) and are therefore subject to manipulation by, for example, running down stock immediately prior to the year end and not replacing it until the next accounting period. Balance sheet based ratios may alternatively be affected by unusual events which cause particular items to be abnormally large or small. In either case, the resulting ratios will not reflect normal conditions.

Cash recovery rate

Cash recovery rate (CRR) =

Cash flow from operations x 100

Average gross assets

Where:

Cash flow from operations is made up of ?net cash flow from operating activities? together with any proceeds from the disposal of long-term assets. Gross assets is the average gross value of the entity?s assets.

Assets are required to generate a return which is ultimately, if not immediately, in the form of cash. The CRR is, therefore, a measure of the rate at which the company recovers its investment in fixed assets. The quicker the recovery period, the lower the risk. You may have noticed that the CRR is thus the reciprocal of the pay back period used for capital project appraisal purposes assuming projects have equal (or roughly equal) annual cash flows.