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FIN504 Financial Management
Capital Budgeting Technique Assessment
The Case is a mini case study which explains the Pizza Palace re financing process which deals in understanding as to whether the debt financing must be undertaken or the equity financing. The analysis is examined on the basis of different equity cost of capital or the debt cost of capital. The case explains the following recommendation analysis : -
Using the free cash flow valuation model, show the only avenues by which capital structure can affect value.
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Point A
Using the free cash flow valuation model, the capital structure is affected as follows; -
In connection with the capital structure analysis understanding the debt capital structure which leads to increasing and adding further, to the usage of financial risk. In connection to the same it is essential to understand that the debt will be added on the interest cost which may lead to add further on the expense and reduce the free cash flow If we use more debt than financial risk will increase which affects the capital structure. On the other hand, in case of equity it is done with a free basis where the capital structure is not effected by the interest cost and a additional benefit (Brigham, Ehrhardt, Nason, & Gessaroli, 2016). In terms with the debt the effect is largely dependent on the WACC as well as the FCF. On the more, the percent of the debt cost increase leading to increasing the cost of valuation. It is essential to understand that the additional burden will definitely have an impact of the cost valuation as well as lead to an unresponsive mode on the NPV Projects.
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Point B
What is business risk? What factors influence a firm's business risk?
Business risk: This is a risk which is related to the profits and earning, it deals with a process or possibility where the company organisation is questioned on account of the financial goals. It includes an overall risk analysis which being the Economic Risk, Operational Risk, Strategy Risk and various risk. Business risk includes both financial risk as well as non-financial risk. Business risk can be influenced by various elements which include the various financial factors and various non-financial factors. The factors can include prices, demand, input costs, output costs, sales, cost of goods sold, indirect cost as well as direct costs. It deals with various ratio and analysis as well.
What is operating leverage, and how does it affect a firm's business risk? Show the operating break-even point if a company has fixed costs of $200, a sales price of $15, and variable costs of $10.
(2) Operating leverage: In connection with the computation of the leverage of the operating analysis the formula for the measurement of this degree can be estimated on the basis of the combination of the fixed costs undertaken as well as the variable costs undertaken by the organisation; -
The compuatation is calculated as follows: -
Operating break-even expenses = Fixed Expense / (Price per unit of the product traded - Variable Expense per unit of the product related) (Gedviliene, & Giliuviene, 2017)
= $ 200 / $ (15 - 10)
= $ 200 / $ 5
= $ 40
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