Question

Buoyant business conditions in Australia has prompted the board of PKR Small Goods Pty Ltd, a third generation privately owned family business to look at expanding their operations. The board, which is made up entirely of family members, is looking to double the size of the business over the coming five years and has estimated that this will require an additional capital expenditure (CAPEX) of $225 million. There is considerable debate amongst board members as to how this expansion should be funded - some of the ideas that have been put forward include, raising equity by listing on the Australian Stock Exchange, issuing bonds, borrowing the funds needed from the firm’s banks, utilising retained earnings, or some combination of the preceding measures. In light of the debate amongst board member’s, they have sought your advice as a finance specialist and have requested that you write a report that:

1. Critically evaluates the perceived advantages and disadvantages to the firm of each of the preceding forms of funding.

AND

2. Based on your evaluation above, makes a recommendation to the board that explains how you think the firm should fund the proposed expansion.

Answer 1

Advantages of listing on exchange:-

1.Access to Capital for Growth

2.Enhanced Visibility

3.Liquidity

4.Transparency and efficiency

Disadvantage of listing

1.Expensive

2.Loss of Management Control

3.Increased Regulatory Oversight

4.Enhanced Reporting Requirements

Advantages of issuing bonds

1 It offers tax benefits

2.Ownership not dilluted

Disadvantage of issuing bonds

1.Fixed interest charges

2.Higher interest rates

Advantage of borrowing funds from banks

1.Easy Availability

2.Cost effective

3.Flexibility

Disadvantages

1.Fixed interest charges

2.Higher interest rates

Advantages of Utilising retained earnings

1.Easy availability

2.can be used in research & developments also

Disadvantages

1.Future Risk will be ignored

Ans.2 Based on above evaluation board should use the combination of all above funds.Maximum amount should be acquired through issue of shares,some amount can be borrowed from bank & some amount can be used from retained earnings also.But it should be kept in mind that retained earnings after utilisation will be able to meet the future risk also.