Investment decisions companies make today will have a direct impact on their ability to reach financial objectives. Most companies are faced with questions such as: which projects should your company invest in, which returns are needed and what risks are the company willing to take to achieve company goals? This paper will explain what is, and how to calculate a weighted average cost of capital of Tesco Plc based on company’s balance sheet1 and cash flow statement.2 The second part will focus on a report on the Tesco’s cash flow over the two year period starting in 2005. In the last part essay will explain what discount rate Tesco Plc. should use when deciding on major investment projects.
a) Calculate the company’s weighted average
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WACC is calculated by multiplying the cost of each capital component by its proportional weight and then summing:
WACC = ke We + kd Wd
Where kd – cost of debt ke – cost of equity
Wd – weight of debt – Vd / (Vd + Ve )
We – weight of equity – Ve / (Vd + Ve )
Data for Tesco is:
Debt – £4,509 million
Cost of debt – 5.376%
Weight of debt – 4,509 / (4,509 + 9 444) = 0.3231
Equity – £9 444 million
Cost of equity – 8.306%
Weight of equity – 9 444 / (4,509 + 9 444) = 0.6768
WACC = 8.306% x 0.6768+5.376% x 0.3231
WACC = 7.4407%
Tesco’s weighted average cost of capital is 7.44%, this means that if the company takes on an investment with return lesser than that figure it will make a loss. Not being able to cover costs of financing will force shareholders to look for value elsewhere, consequently forcing them to look for returns in different company.
Write a brief report on the company’s cash flow over the period covered by the accounts.
Cash flow statement is simple and informative way to evaluate company’s financial position; both inflows and outflows of cash are included in the statement. Usually it is taken over the period of one year and it measure cash flow from: operation, investing and financing activities. All of the figures are easily obtainable from the sheet.
Tesco’s cash flow from net cash operating activities up 20.4% to over £2.6bn. Cash generated from operating activities was increased by just over
* She is considering the cash flow paid to all the equity or debt holders. So she cannot use the equity cost of capital.
Free Cash Flow = Sales Revenues – Operating Costs and Taxes – Required Investments in Operating Capital. Weighted Average Cost of Capital (WACC) is affected by market interest rates, market risk aversion, cost of debt, cost of equity, firm’s debt/equity mix, and firm’s business risk. Therefore, free cash flows and the weighted average cost of capital interact to determine a firm’s value by the following equation:
Another type of an internal source of finance for Tesco is fixed assets. Fixed assets are an asset that is not consumer or sold during the normal course of business, these are land, buildings, equipment, machinery, vehicles etc. These assets are very hard to convert into cash as it takes time to sell, Tesco would use these assets to fund future operations.
Tesco’s financial year represents the 52 weeks that ended 27 February 2007, which is prior to 53 weeks that ended 28 February 2009. In accordance with the International Financial Standards (FRS) were the consolidated financial statements prepared. The statements were also prepared in agreement with the Financial Reporting Interpretation Committee (IFRIC).
Mortensen’s cost of capital estimates are used for a variety of purposes at both the divisional and corporate levels. Examples include internal analyses such as financial accounting, performance assessment and capital budgeting, while others are used for strategic planning purposes such as merger and acquisition, as well as stock repurchase decisions (Luehrman and Heilprin, 2009, pg.1). When used at the divisional rather than corporate level, special consideration should be given to the fact that Midland’s divisions are not publicly traded entities, and therefore do not have individual Beta
Yahoo! Finance (2012) describes Tesco PLC as a company that "operates stores that primarily offer food products, as well as general merchandise, clothing products, and electrical products." In addition to that, Tesco PLC is also involved in the provision of insurance, financial as well as banking (retail) services (Yahoo! Finance, 2012). Taking into consideration the number of branches it has in various parts of the world, Tesco PLC can be regarded one of the largest retailers around the globe. Having been established sometimes in the year 1919 by Jack Cohen, the company has surely come a long way (Tesco, 2012). The phenomenal growth of Tesco PLC over time can largely be attributed to both the unwavering vision of the founder and the selection of a competent team of managers to run the company's operations during its growth phase. Currently, the company top management team comprises of its CEO Andrew Clarke, its Chief Financial Officer Laurie Mcllwee and Tim
The statement of cash flows reports the cash receipts, cash payments, and net change in cash resulting from the operating, investing, and financing activities of a company during a period in a format that reconciles the beginning and ending cash balances
The cash flow statement shows the amount of cash within a company. Items that affect the cash balance are listed on the statement. The first section of the cash flow statement is operating activities, which shows the cash flowing in and out of the company in relation to its business operation. The operating activities section also includes net income and the change in dollars of certain accounts listed on the balance sheet. The next section, investing activities, shows cash the company received and spent on a company's capital investments. The financing activities section shows the inflows and outflows of cash related to the company’s issued financial securities, which is also listed on the balance sheet and statement of shareholders' equity.
Tesco operates in 14 different countries. Therefore its performance may be influenced by the local legislation and political factors. There are
Star Appliance is looking to expand their product line and is considering three different projects: dishwashers, garbage disposals, and trash compactors. We want to determine which project would be worth doing by determining if they will add value to Star. Thus, the project(s) that will add the most value to Star Appliance will be worth pursuing. The current hurdle rate of 10% should be re-evaluated by finding the weighted average cost of capital (WACC). Then by forecasting the cash flows of each project and discounting them by the WACC to find the net present value, or by solving for the internal rate of return, we should be able to see which projects Star should undertake.
WACC = Cost of Debt X proportion of debt + Cost of Preferred Stock X Proportion of preferred stock + Cost of equity X proportion of equity
The cash flow statement consists of three parts: cash flows provided by operating activities of $13,831, cash flows provided by investing activities, and cash flows provided by financing activities effect of exchange rate changes on cash and cash equivalents of ($204)
The following case analysis portraits the use of capital asset pricing model to compute the weighted average cost of capital for Marriott and each of its divisions. The flow of events below is following a string of different evaluations, each of which is assessed separately.
Tesco PLC, the top three retailer in the world, which was establish by Jack Cohen in 1919 year, which has near 100-Year history. In these days, it has been thrived to 12 country all over the world, including United Kingdom, Malaysia, India, Hungary, Ireland, Kipa, Slovakia, Poland, Czech, Thailand, even South Korea, and China (Tescoplc.com, 2012). Tesco is a public limited company. According to Marcouse (2011:92), “Public limited company (Plc) is a larger type of company that must have at least £50,000 of share capital and has its shares traded on the stock market”, therefore Tesco can have greater capital source and shareholders in their business.
As I have mentioned before, this research paper is being taken exclusively with the aim to evaluate the Tesco’s performance in both financial and business terms over a three years period. Since the financials will be compared with its three year