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MM – 5007 FINANCIAL MANAGEMENT Mid-Term Exam Student Name: Mahammad Khadafi Student ID: 29112324 ITB School of Business and MBA EXECUTIVE 48 Lead the Future

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MM 5007

FINANCIAL MANAGEMENT

Mid-Term Exam

Student Name: Mahammad Khadafi

Student ID: 29112324

1st Semester 2013/2014

MASTER OF BUSINESS ADMINISTRATION

School of Business & Management

INSTITUTE TEKNOLOGI BANDUNG

EXECUTIVE SUMMARY

I. Objective

LG Indonesia is a well-known water pump branded from Korea used for housing which has been in operations for 5 years in Indonesia. Mr. Kim Sang Lee CEO of LG Indonesia is now considering expanding market segment not only for housing but also fro industries for such as Perusahaan Air Minum Daerah, Oil & Gas Industry, Mining, Textile, Food & Beverages, Hotel and Agro Industry.

Subsequently, LG Indonesia established a local company under Indonesian Corporate Law called PT. Pompa LG Indonesia (PLGI) in December 2009. Based on companys financial performance, Mr. Lee concluded that Indonesia has a big potential market in water treatment and purifying business. However, he still did not have a confidence on his conclusion just based on company performance.

The objective in this case are :

Decided which cities are the best for investment of PLGI company based on its sales forecast by using capital budgeting calculation.

Estimated what the used of component capital budgeting process for PLGI whether NPV, payback period, IRR or sum of undiscounted cash flows.

II. Analysis

Based on the analysis PT. Pompa LG Indonesia want to expand the market to Indonesia market. There are ten office location in Indonesia that have sales forcast from year 2014 to 2023. So, first we make a cash flow of the each region. This can be done by using an calculation to make a prediction based on its sale / year (2014 2023).

If we look at the balance sheet of the company. We know that the debt to equity ratio of the company is increasing from 0,882 to 0,986. Its indicate that the capability of company to paid its debt isnt capable. As alternative this company should propose a bond, bank loan or share from the shareholder investment. But for current ratio of the company indicate that the current ratio of the company is decresing from 2009 to 2013. The value is 1,723 for 2009 to 1,177 for 2013. That value of current ratio is decreasing which indicate the portion of current liabilities of company is higher than its current asset. Its concluded that the debt of company is much bigger than the asset of company itself.

First, we calculate the Weight Average Cost of Capital (WACC) based on the data of company. LG Indonesia company established a local company under Indonesian Corporate Law called PT. Pompa LG Indonesia (PLGI) in December 2009 with paid in capital/preferred stock issued 300.00 shared at amount of Rp. 300.000.000. Subsequently PLGI was regsitered as public listed comapny in November 2011 by issuing new stock/common stock 2.500.000 shared as equal to 25% of total common shares and comapny obtained new funds total Rp3.000.000.000 where Mr. Lee will develop a new business unit called EPCI.

Mr Lee estimates that the cost of office start up for each branch of office:

Purchase of building ( Rp 5.000.000.000 Rp 10.000.000.000

Office equipments ( Rp 250.000.000 Rp 500.000.000

So based on above date we can calculate the cash flow analysis. The WACC is getting from the calculation of :

We calculate the cost of debt by using data from the data of short term borrowing and long term debt of the lastest year. And the make the weight by comparing the total debt and sum of cost of debt and cost od equity. The cost of equity we get from common stock equity data that calculate from common stock outstanding times current share price. The preferred stock equity calculate from divided the weight of preferred stock equity to sum of total equity and debt.

From the data of macroeconomy Indonesia for year 2013 for the inflation rate (yoy) as of September 2013 is 8,40% and target of inflation is set 4,5%, BI rate is 7,25% p.a., Country foreign reserve is US$92,997 million. Bankd lending interest rate offered in range : 12 15% /p.a. Yeild on Indonesia Goverment Bond 9,25% for tenor 5 years. Currently, comapny shares traded ar high price Rp 1.800/share and low price Rp. 1.500/ share. But we calculate the value of shres is the average of high price and low price. The company beta is 0,9.

Using those data we can calculate the WACC and the value of WACC that we get is 11,75%. The calculation based on the expected (Rm-Rf) comes form the data on internet which the value is 8%.

The calculation of Net Present Value (NPV) by using the data comes from net working capital in 2 year lastest (2012 2013) as an initial investent. The calculation is done by divided the data of total curret asset and data of total current liabilities. The depreciation value of building by using the straight line method (5% for building depreciation) and for the depreciation value of office by using MARCS (20%; 32%; 19%; 12%; 12%; 5% for office depreciation). The table below show us the rangking of the Net Present value, IRR and payback period of each region in Indonesia.

Office Location

NPV

IRR

PBP

Pontianak

Rp15.197.433.684,27

34,75%

4

Medan

Rp10.411.891.972,16

27,45%

5

Depansar

Rp6.801.780.173,08

25,76%

4

Makasar

Rp3.819.309.231,58

19,84%

4

Jayapura

Rp2.485.799.956,93

15,84%

7

Semarang

(Rp2.482.452.526,26)

7,48%

9

Pekanbaru

(Rp3.394.858.315,50)

3,81%

9

Surabaya

(Rp4.684.693.772,83)

3,38%

10

Bandung

(Rp6.345.193.504,03)

0,09%

10

Balikpapan

(Rp10.299.490.701,26)

-9,36%

>10

From the table above, we see that Pontianak is the highest value for NPV and IRR. The Net Present Value (NPV) and Internal Rate of Return (IRR) of Pontianak region is Rp15.197.433.684,27 and 34,75%. The second ranking of the region is Medan which the value of NPV and IRR are Rp10.411.891.972,16 and 27,45% respectively. The Third region is Denpasar with NPV is Rp6.801.780.173,08 and IRR 25,76%. So, based on my calculation Pontianak is the most preferable for investment of PLGI in Indonesia region.

For the pay back period duration. It is showed that the data cant be used as reference. Because those reference of pay back period isnt matching between the value of NPV and IRR. For Indonesia region, payback period isnt met the requirement of the country investment condition. Payback period represents the amount of time it takes for a project to recover its initial cost. The payback period decision rule specifies that all independent projects with a payback period less than a specified number of years should be accepted. When choosing among mutually exclusive projects and during certain times of tight capital constraint, the projects with the quickest paybacks are preferred.

NPV indicates the expected impact of the project on the value of the firm. The NPV is the present value of all expected cash flows including the investment dollars; both positive and negative cash flows are considered. A discount rate is chosen to get discounted net present value. The NPV decision rule specifies that all independent projects with a positive NPV should be accepted. When choosing among mutually exclusive projects and when capital is constrained, the projects with the largest positive NPV combination should be selected. The definition of IRR is the discount rate at which the net present value (NPV) of a project equals zero. The IRR decision rule specifies that all independent projects with an IRR greater than the cost of capital should be accepted when there are no capital constraints. When choosing mutually exclusive projects and when capital is constrained, the projects with the highest IRRs should be selected.

3.1 Conclusion

Based on the calculation of capital budgeting each regions of Indonesia. The sales forecast of each regions indicate that Pontianak is the most preferable region for investment. This can be seen from the value of NPV and IRR. Both data show that Pontianak gives the higher value than the other regions in Indonesia. Despite the payback period of those region is only 4 years, but the positive NPV and highest IRR give the strong reason that why Pontianak is more preferable than any other region in Indonesia.

3.2 Recommendation :

My recomendation for this company is the current ratio decreasing which means that the debt of company is bigger than its assets. So, for expanding company market. The company should expand its market to Pontianak region. This because NPV of that region is positive and IRR of company is biggest than any other region. As Indonesia is the fourth most populous country in the world. For increasing the sales revenue of company so it would be better that the company should take a chance to expand its market to Indonesia especially Pontianak region.

INSTITUTE of TECHNOLOGY BANDUNG

Lead the Future

ITB School of Business and Management

MBA EXECUTIVE 48

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