- 20 Marks
FM – DEC 2023 – L2 – Q4 – Capital rationing | Introduction to Investment Appraisal | Sources of finance: debt
Explanation of capital rationing concepts, NPV and profitability index calculations, and factors influencing debt finance decisions.
Question
a) In periods of difficult global financial environment, raising of capital is a challenge necessitating the need for prudent and best use of scarce capital for projects.
Required:
i) Explain the term capital rationing. (2 marks)
ii) Distinguish between soft capital rationing and hard capital rationing giving an example each. (3 marks)
b) Akonta Ghana Ltd has excess funds of GH¢200 million and is looking for attractive investment opportunities that will yield a return of 15% per annum or better to deploy the funds. An extract from a Feasibility report submitted by a team of investment and project experts is as follows:
| Project | Initial Investment Required (GH¢) | Constant Annual Cash Inflow (GH¢) | Project Life (Years) |
|---|---|---|---|
| A | 80,000,000 | 36,000,000 | 4 |
| B | 40,000,000 | 23,000,000 | 3 |
| C | 78,000,000 | 30,000,000 | 5 |
| D | 40,000,000 | 20,000,000 | 4 |
| E | 40,000,000 | 22,000,000 | 3 |
The cash flows per project are constant for the life span of each project and each project is divisible for the purpose of capital allocation.
Required:
i) Calculate the Net Present Values (NPVs) of each project. (7 marks)
ii) Rank the projects using Profitability Index and allocate the GH¢200 million among the projects. (3 marks)
c) There are many sources of debt finance available to a company which has viable and profitable investment opportunities to utilise the funds. It is, however, very important for the Finance Manager to do a thorough work before deciding the type and source of debt finance to tap into.
Required:
Explain THREE (3) factors a Finance Manager should consider when deciding the type of debt finance to raise. (5 marks)
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