Page 23 - CIMA SCS Workbook November 2018 - Day 2 Tasks

FINANCIAL STRATEGY (F3) - PRACTICE TASKS

EXERCISE THREE

UPDATE

Randal Edwards, Novak’s Director of Finance has just walked across to your desk and started to
speak.

TRIGGER

“A couple of things have cropped up this morning regarding Novak’s debt finance.

First, I was having a chat with Dorothy Novak.

She’s been looking at our accounts and asking me about the company’s gearing level. Although
she isn’t an accountant, she did some finance modules as part of her MBA studies many years ago
and she’s been questioning why our total amount of debt finance is reducing.

Apparently her Financial Strategy lecturer always used to tell the class that theoretically
companies should increase gearing as much as possible. I’m not sure whether this lecturer
understood the real world problems of running a company!

Also, this morning the bank has sent me this letter about interest rate swaps.

I must confess that my technical knowledge on swaps is a bit hazy – we’ve never used swaps
before at Novak, but according to Mark Morriss, now might be the time to start!

Could you please prepare some briefing notes for me so that I’m well prepared when I speak to
Dorothy Novak and Mark Morriss about these issues over the next couple of days?

First, please explain (in general terms) the main practical and theoretical advantages and
disadvantages of using debt finance compared to equity finance.

Second, could you explain to me generally what are the advantages and disadvantages of using
interest rate swaps, and specifically how the quoted swap would work?

Thanks“

TASK
Prepare some briefing notes for Randal Edwards as requested. (Time allowed: 60 minutes)

(Refer to the reference materials overleaf)

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