Moving into its 20th year of operations, Prosperity Food Pte Ltd (“Prosperity Food”) first started out as a humble bakery in 1995 before evolving into Singapore’s award-winning food and beverage (“F&B”) group featuring an acclaimed portfolio of bakeries and restaurants. Currently, Prosperity Food has 34 F&B outlets spread across Singapore supported by a staff base of 260. You have recently been promoted to Finance Manager. During a conversation at an all-hands meeting with George Quek, the firm’s founder and Managing Director, he raised a number of queries: Query 1: I hope to aggressively grow the business. Given the hectic lifestyle of most Singaporean, I think we should penetrate into the fast-food business. For this new business segment to be successful, we need to setup at least 8 outlets across the island within the next twelve to eighteen months. Here is an extract of the most recent statement of financial position: FIN309 Assignment 2 SIM UNIVERSITY Assignment 2 – Page 3 of 5 Statement of Financial Position As at 30 June 2015 $'000 $'000 Non-current assets Property, plant and equipment 22,067 22,067 Current assets Inventories 1,063 Trade and other receivables 5,449 Prepayments 578 Cash and cash equivalents 9,545 16,635 Total assets 38,702 Current liabilities Trade and other payables 9,768 Borrowings 7,521 Tax payable 683 17,972 Non-current liabilities Borrowings 12,149 Deferred tax liabilities 262 12,411 Equity Share capital 3,330 Accumulated profits 4,989 8,319 38,702 To do so, we will require substantial capital expenditure. From my discussion with our business development team, property, plant and equipment is anticipated to increase by $5 million in FY 2016. Inventories as well as trade and other receivables are expected to increase by 20%. Trade and other payables will increase by 15%. All other balance sheet items are likely to remain constant. Sales for the financial year ended 30 June 2015 were $58,900,000. But this will increase by 25% in FY 2016 as a result of the expansion plan. Operating profit after tax margin is expected to remain at 3% in the foreseeable future. The firm intends to maintain a dividend payout ratio of 70%. Are you able to tell me how much funds are required for our expansion plan? Query 2: Over the last decade, both revenue and earnings have been very stable. Also, given the firm’s healthy track record, our bankers have extended credit facility of up to $30 million. FIN309 Assignment 2 SIM UNIVERSITY Assignment 2 – Page 4 of 5 Do you think it’s a good idea to reduce our dividend payout to fund the expansion plan described earlier? Query 3: We are in the midst of evaluating our four worst performing bakery outlets. They all have a remaining lease period of three years and the monthly rental is $6,000 per shop, which is not expected to increase throughout the lease period. Renovation and equipment costing $250,000 per shop was incurred two years ago. The firm adopts a policy to depreciate fixed assets over 5 years using the straight-line method to zero book value. Renovation is worthless at the end of the lease period but equipment can be sold for $10,000 per shop. Variable cost is 45% of sales and fixed overheads (cash) are estimated to be $28,000, $29,400 and $30,800 per shop per year over the next three years. I have been told that corporate tax rate is 17% and the appropriate discount rate is 12%. What is the sales target (per year) I should set for each shop so that it breaks even? Query 4: Before I forget, there is one last question I have for you and this is related on my first request. In order to fund the expansion plan, should we issue new shares or borrow? Our accountant told me that Prosperity Food has 3,330,000 ordinary shares outstanding. The fair market value determined by a professional valuer has been estimated to be $5.00 per share. Interest charged by our bank is 8% per year. Operating profit after tax margin of 3% mentioned earlier was based on the existing capital structure. Question 1 Compute and assess the discretionary external financing needs of Prosperity Food for the financial year ending 30 June 2016. (25 marks) Question 2 Examine the factors affecting the dividend policy of a firm and conclude whether Prosperity Food should reduce its dividends.