2. AGENDA Understand the basic frame work of financial analysis Discuss Aqron cash budget in detail Discuss Aqron cash budget with reinvestment External financing requirement ? Discuss optimal structure in detail Discuss First Chicago approach for Venture valuation
3. AGENDA (Contd) Calculate NPV for various initiatives Sensitivity analysis and interpretation Scenario Analysis and interpretation Discussion on Limitations Exercise Section ; IS , BS and ratios
6. FINACIAL VISIBILITY Projected Cash Budget without reinvestment Projected Cash Budget with reinvestment Projected Financial Statements Cash Budgeting under three different scenarios
7. OPTIMAL CAPITAL STRUCTURE Calculation of unlevered Beta Inclusion of Leverage Optimal Debt to Equity Ratio (Weighted Average Approach) Valuation under Venture Capital (First Chicago Approach) Maximum Angel Investment
12. CASH BUDGETING (contd) Decision Criterion Payback period Discounted payback period Net Present Value of different alternatives IRR and MIRR ? AQRON Cash Budget without reinvestment __
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14. CASH BUDGETING (contd) Reinvestment of Reserves Can demand be created? Assumption of a linear demand curve __ Maximizing output from resources (Best practice) Revenue function = (Demand Curve) * Number of hours of solution Profit function = Revenue function – Cost function Maximize 1st order derivative Maxima to the second order Gives you quantity that maximizes each product and service
19. OPTIMAL CAPITAL STRUCTURE Inclusion of Debt Raises risk for the equity holder Increases ROE for the stockholder High risk Lower stock price High ROR Higher stock price Optimal capital Structure Maximizes Stock Price Minimizes Weighted Average Cost of Capital (WACC)
20. OPTIMAL CAPITAL STRUCTURE (contd) Business Risk ROIC (zero debt ) = ROE Business risk (unlevered firm) = σ ROE Dependent Financial Risk Risk over and above business risk in a levered firm Spreads out the probability distribution
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23. OPTIMAL CAPITAL STRUCTURE (contd) Weighted Average Cost of Capital WACC = Wd*Kd *(1-T) + Ws*Ks + Wp*Kp WACC = D/A*Kd*(1-T) + E/A*Ks Cost of Debt Kd KIBOR + Premium Cost of Equity Ks CAPM: Ks = Rf + β (Rm- Rf)
24. OPTIMAL CAPITAL STRUCTURE (contd) Calculation of Market Risk Premium Geometric mean of KSE 100 Index from 2000-2009 Hamada Equation for Beta calculation β = βu [1 + (1-T)(D/E)] βu = β / [1+ (1 – T) (D/E)] Approach __
29. SENSITIVITY ANALYSIS “Change in NPV response to change in a variable all else constant” What If Questions against a base case Selling Price Growth Rate Variable Cost Fixed Cost WACC __
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31. SCENARIO ANALYSIS “Bad and good set of financial outcomes are compared with the most likely using probability distributions” Best case scenario Base case scenario Worse case scenario Allows changes in more than one variable at a time __
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33. MONTE CARLO SIMULATION Each variables is assigned a value NPV is generated The process is repeated 1000 times 1000 NPVs are generated Mean of these 1000 values is the Expected profitability Std. Deviation is the risk
