Future growth strategies

Task 1

The assistant finance manager of Digitech is interested in your capital investment appraisal calculations and mentions that when she was a student she can remember using the Capital Asset Pricing Module in order to calculate a suitable cost of capital for use in determining an appropriate discount factor. She also remembers that the cost of capital for a corporation relies upon the size of the company’s beta factor.

With this in mind she says to you, “I am rather confused by beta as it seems to be rather random. If I look at the beta for two well-known UK registered organisations such as Severn Trent plc and Easy Jet plc, they are 0.30 and 2.56 respectively (https://uk.finance.yahoo.com/quote/,acccessed 07/07/21). How can it be possible that two such companies can have such different betas?”

You are required to provide a response discussing explicitly why the betas of the two companies (Severn Trent and Easy Jet) may have such different beta factors and considering the implications of this difference. You may wish to also take account of the fact that the current risk-free rate of return is identified as 2.5% and the average return on the market is taken as 12%.

(25 marks)

Task 2

Digitech plc, as a small quoted company, could finance the purchase of the machinery by long term debt or by issuing more equity. Provide a consideration of the practical factors that may make one source of capital more attractive than another to Digitech’s management team.

(20 marks)

Task 3                                                                                        

As Digitech plc is expanding quite rapidly it is considering future growth strategies. The marketing director favours acquiring a competitor, whereas the CEO says, “it would be far more sensible to grow organically and carefully.”

You are required to prepare a brief report for the management team providing a critical analysis of the above suggested strategies for growth.

(15 marks)

(Total 100 marks)