Financial management- CAPM

Discuss the problems that may be encountered in applying the CAPM in investment appraisal.

Problems that could have been discussed in connection with applying the CAPM in investment appraisal include:

Ø  Determining the excess market return
Ø  Determining the risk-free rate of return
Ø  Estimation of the equity and overall betas of a company
Ø  Determination of the beta for a project
Ø  The CAPM is a single-period model
Ø  The CAPM is an ex-ante model
Ø  National surrogates for market return may be intentionally inappropriate

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How Japan’s Crisis could improve the Global Economy

Investors around the world have panicked following the massive crisis in Japan caused by an earthquake, made worse by a tsunami, and radiation leaks at nuclear power plants.
Apparently there are stories about how Japan’s disaster could weigh on the global economy. This may be true. But let me offer an unconventional point of view that Japan’s woes could be a boost for the global economy.
According to International Monetary Fund (IMF), In 2010 the global economy grew by 5% and is anticipated to grow by 4.4% and 4.5% in 2011 and 2012 respectively.
Very few analysts are of the opinion that the disaster will undo the 4+% rate of global growth expected this year, or that the setback that the Japanese economy may suffer will be anything but a temporary one.
Japan is one of the world’s economic engines however its importance is dropping. Japan is the world’s number 4 economy after the United States, China and The EU.
Japan Crisis
The earthquake and tsunami damaged airports, Ports, factories and roads, disrupting the consignment of goods in and out of the country. Four container ports of medium size on Japan’s northeast coast were harshly damaged that they are not expected to resume operations for months or even years.
Certain commodities are particularly vulnerable. Japan used up 500,000 ounces of platinum and 750,000 ounces of palladium in the new cars it built in 2010. Exportation of new Japanese cars could be delayed while the ports are straightened out, and Japan has lost 23% of its electrical power as its nuclear power plants have shut down. Demand for base metals, particularly zinc and nickel, could also take a knock.
Moreover, Japan Exports to Europe, United States and rest of the world the manufactured components which can be sold alone or used in other manufacturing. For example, Japan is a major supplier of flash memory chips, commonly used in portable electronics. Delays in shipping could impact big buyers such as Intel, the world’s biggest semiconductor company, and Texas Instruments.
Therefore it can be clear now how this could disrupt manufacturing around the world.
On the other hand
v  Japan is the third-largest consumer of oil in the world after United States and China (4.4 million barrels of oil per day). During this Crisis, Japan could use less oil which will result to low demand and therefore decrease in oil prices (first Law of Demand). Lower oil prices should help the economies of the rest of the world to accelerate, or at least put off the risk of a global recession caused by an oil shock.
v  Japan will have to rebuild which means they will be importing things like aluminum, copper, steel and nickel plus wood, paper, and food. Importation of these things will increase the demand and therefore lead to increase In prices which will be an advantageous for poor exploited countries which produce these materials.
v  Japan is the number 1 market for exports of U.S. corn (Japan bought nearly 15 million tons of U.S. corn in 2009-2010). In the short-term, livestock operations in Japan are going to suffer, and that will lower Japan’s corn demand. But in the intermediate-term, not only will those livestock producers come back online, but Japan is probably going to have to import more corn and other grains as it rehabilitates its swamped farmland and broken infrastructure.
v  Good news for natural gas: Japan has shut down 11 nuclear reactors with a total capacity of 9.7 gigawatts (the equivalent of 200,000 barrels of oil a day, or 4.5% of Japan’s consumption). Even if some of those reactors come online, I think nuclear power is dead in Japan for years to come. This should be a boost for natural gas, a commodity that has suffered from oversupply recently.
v  A deluge of easy money. Japan’s central bank decided to inject an enormous 26.5 trillion yen (about $324 billion) into its financial system in the first three days of this week, so as to provide stimulus and prop up the economy and financial system. Moreover it can be suggested that they are probably not done yet! All that cash has to go somewhere (increase spending) which may result to increase in commodity prices.
Where to Invest?
We have already seen bargain-hunting investors dive into Japanese stocks Wednesday, scooping up shares of beaten-down companies. It can be argued that they are not yet matured due to the fact that  the selling in Japan may not be over yet. Give me a few days when we don’t have more bad news on one of Japan’s nuclear power plants. Then maybe I will be ready to buy.
The Japanese are a tough, resilient, industrious people. We can be sure that not only can they bounce back from this, but also they can rebound strongly.  Remember 1995, Japan was hit by a devastating quake that killed more than 6,400 people, about 4,600 of them in the city of Kobe. Within 15 months of the quake, manufacturing in Japan returned to normal levels.
To be sure, one fly in the ointment is how Japan is going to finance all this reconstruction. The government is expected to spend at least $200 billion, and the Japanese government’s debt is already an alarming 225% of the country’s economic output.
But as long as governments can create paper and pass it off as money — and there’s no sign that’s going to end any time soon, Japan should be okay.
And you know what else should do well as Japan prints money to pay for its reconstruction? The money you CAN’T print (gold and silver). Apparently, investors in Japan are selling gold in a hurry. But the World Gold Council says that Japanese investors have been selling gold into the market for years. The real buying is elsewhere in the world, including China, India and the Middle East.
How to Invest
Pullbacks in gold, oil and other hard assets can be bought just wait for a bottom before you commit your cash. We are not there yet.
A more interesting way to play it is to wait for a bottom in the Japan iShares (EWJ), a broad basket of Japanese stocks, and then buy it.  This is how real investors will do.

Royal Bank of Scotland pays £375m to 323 key staff

The bank announced that it paid a total of £375m to 323 people designated as "code" or key staff.
RBS, 83%-owned by the taxpayer after a government bail-out in 2008, made a £1.67bn loss in 2010, after losses of £3.6bn in 2009 and £35bn in 2008.
RBS has already disclosed that chief executive Stephen Hester received a pay package worth £7.7m for 2010.

Mr Hester said in the bank's annual report that its recovery was "ahead of schedule", highlighting the fact that the bank had returned to operating profit. Before restructuring costs, strategic disposals, bonus tax, fair value changes and a host of other exclusions, this operating profit came in at £1.9bn.
"We have much work still to do and there are significant obstacles still to overcome," Mr Hester warned.
Pay restraint?

The BBC's business editor, Robert Peston, points out that the "code" staff, as defined under rules set by the Financial Services Authority, earned, on average, £1.2m each.
They are those executives who are perceived to do things that have a bearing on the risks that banks takes.
However, he adds that this definition excludes other RBS staff, such as traders, who earned even more than this. "For what it's worth, RBS's code staff earn less than Barclays' code staff, whose average pay was £2.4m per head," our business editor adds. "So presumably the chancellor of the exchequer will point to this disparity as proof that taxpayer-owned RBS is showing restraint."

Although the RBS pay undercut Barclays' figure, it was higher than that of HSBC, which said it paid 280 staff an average of just over £1m each. Banks have been releasing this information in accordance with new EU rules on disclosure of remuneration.  Publication of the figures also follows the banking sector's Project Merlin agreement with the UK government, aimed at curbing high pay and boosting bank lending.


US Economy and Inflation Threats

In United States, the cost of living in Washington has increased by 0.5% in February, highlighting the highest monthly rate of inflation June 2009 as petrol prices continue to be pushed up by unrest in the Middle East, the Labour Department said.

On the other hand, a key gauge of the economy's performance rose for the eight straight months. The New York-based Conference Board's index of leading economic indicators gained 0.8 per cent in February, after a 0.1-per-cent rise in January due to snow storms in much of the US.

Over the last few months Inflation rate in the US has been increasing steadily amid strong gains in oil and food prices. This has prompted some policymakers to push the US Federal Reserve to pay more attention to the threat of inflation and consider tightening monetary policy.

The February price gain slightly beat the forecasts of economists, who had been predicting a 0.4-per-cent inflation rate. Consumer prices rose 0.4 per cent in January.

According to the department, Energy prices have increased suddenly and powerfully by 11% in the past year. The so-called core inflation rate, which excludes more volatile food and energy prices, rose just 0.2 per cent.
The United States central bank has so far shrugged off the fears of higher inflation, pointing to the low core rate and preferring to continue prodding the world's largest economy into a stronger economic recovery.
The Fed this week held interest rates at record lows of near 0 per cent and kept in place an unprecedented programme to buy up 600 billion dollars in government bonds. The European Central Bank by contrast is considering a rate increase in April.

The United States central bank has said it expects the spike in oil and food prices to be temporary. While the economy was now on a 'firmer footing,' unemployment remained too high at 8.9 per cent, the Fed's decision-making board said in its statement on Tuesday.

For the last 12 months, the inflation rate climbed to 2.1 per cent, compared to a year-on-year rate of 1.6 per cent in January. The core inflation rate stood at 1.1 per cent over the same period.
Ken Goldstein of the Conference Board said that sharply rising food and energy prices could yet prove a 'headwind' for the economy's recovery. Goldsteain stated 'Still, the way inflation will move is unclear, given the degree of slack in the overall economy, and especially in the labour market,'.


Capital Gain Tax

What is Capital Gains Tax?
Capital Gains Tax is a tax on the profit or gain you make when you sell or otherwise ‘dispose of’ an asset.
You usually dispose of an asset when you cease to own it - for example if you sell it, give it away as a gift, transfer it to someone else or exchange it for something else.
For example if you make a gift of a second home to your children, you'll have to work out if there's any Capital Gains Tax to pay on the disposal of the property at that time.
In some cases you're treated as if you've disposed of an asset. For example a building has been destroyed and you've received a capital sum, such as an insurance payout, by way of compensation.
It's the gain you make - not the amount of money you receive for the asset - that's taxed.
Typical types of property
When you sell or otherwise dispose of property - such as a building, land or lease - you'll usually have to work out if there's any Capital Gains Tax to pay.
However, if you sell your main home you're usually entitled to Private Residence Relief, a tax relief that covers any gain made and means there's no tax to pay (see 'Selling your own home' further below).
Typical types of property include:
·       a property that you've bought as an investment, for example a buy-to-let property
·       a second home, for example a holiday home in the UK or overseas
·       business premises, such as a shop or a factory
·       land, such as agricultural land
There are some special rules for working out certain gains and losses on land
Working out Capital Gains Tax
To work out your Capital Gains Tax you'll need to look separately at each asset disposed of that's liable to Capital Gains Tax and in straightforward cases:
1. Take the disposal proceeds (usually the amount received) and deduct your costs and tax reliefs to work out each gain or loss.
2. Add together all of your gains for that tax year.
3. Add together all of the losses you've made for that tax year.
4. Deduct any allowable losses you've made that year from the gains to work out the overall gain or loss.
5. If the overall gain is below the annual tax-free allowance (known as the ‘Annual Exempt Amount’), there's no Capital Gains Tax to pay. The Annual Exempt Amount for individuals is £10,100 for 2009-10 and 2010-11.
6. If the overall gain is above the Annual Exempt Amount, you may be able to deduct unused losses from earlier years.
7. If the overall gain is still above the Annual Exempt Amount, you deduct the Annual Exempt Amount and work out the tax on the balance. The rate of tax is 18 per cent for 2009-10. Follow the 'Capital Gains Tax rates' link below to find the rates of tax for other years
If you've made a loss on a disposal you'll need to claim it in order to set it off against your gains
Selling your own home
You don't have to pay Capital Gains Tax when you sell or dispose of your own home, as long as you're entitled to full Private Residence Relief.
You must have used the property as your only or main residence throughout the time you've owned it. Certain other conditions must also be met.

Selling or giving property to family
If you sell, give or otherwise dispose of a property to your husband, wife or civil partner you don’t pay Capital Gains Tax as long as you've lived together for at least part of the tax year in which you made the disposal.
However, if your husband, wife or civil partner later sells or disposes of the property, they’ll have to work out the tax due. It's useful to keep a note of what the asset cost you, as your spouse or civil partner may need this to work out their Capital Gains Tax when they dispose of the asset.
If you sell, give or otherwise dispose of a property (that's not your main home) to any other family member - or to a spouse or civil partner that you haven't lived with during that tax year - you'll have to work out the gain or loss made and any Capital Gains Tax due.
If you give away your home, for example to a child, you don't have to pay Capital Gains Tax as long as you're entitled to full Private Residence Relief  but your child may have to pay Capital Gains Tax when they sell or dispose of it.
Property trading
If you're a sole trader or a partner in a partnership and your trade is in property, you'll pay Income Tax rather than Capital Gains Tax on any profits you make when you sell or otherwise dispose of property. This may include a one-off purchase and sale of a property. You usually have to pay any Income Tax due by completing a Self Assessment tax return.
It's different if the property trading business is carried on by a limited company - in which you may be a director or shareholder - any profits on properties disposed of form part of the total profits of the company on which it pays Corporation Tax.
Land and leases
In many cases you work out the gain or loss when you dispose of land in the same way as for other assets. But there are some special rules for working out gains and losses if you:
·       dispose of land that's been compulsorily purchased
·       grant a lease
·       assign or surrender a lease


Hello Guyz
i would like to share with you these Tax laws as per Tanzania Finance Act 2010/2011. Feel free to comment and if possible share with us the difference between this Finance Act and the one of your current residence.

Following the budget speech of 2010/11, the government has reviewed tax laws administered by TRA that grant exemptions with a view to controlling and instituting measures to improve supervision. The proposed measures cover the following tax laws:-
  • The Value Added Tax Act, CAP148
  • The Income Tax, CAP 332
  • The Excise (management & Tariff) Act, CAP 147;
  • The Motor Vehicles (Tax on Registration and Transfer )Act, CAP 124
  • Road Traffic Act, CAP 168;
  • The East African Community Customs Management Act, 2004;
  • Tax Laws and Government Notices (GNs) granting exemptions on motor vehicles.

A: Amendments to the Value Added Tax Act Cap 148
VAT Exemptions
  • VAT on transportation ( intra- transport) of agricultural products i.e. transportation of sugar cane, sisal and tea plantations to the processing industry; This is applicable to organized farming only;
  • VAT on machines and equipments used in the collection, transportation and processing of milk products;
    • Milk cans (HS Code: 7310.29.90)
    • Milk pumps-( HS Code no. 8413.81.00);
    • Milk hoses-( HS Code no. 8413.70.20);
    • Compressors used in refrigerating equipment-(HS Code no. 8414.30.00)
    • Milk Storage tanks- (HS Code no. 7309.00.00);
    • Milk Tankers ( HS Code 8716.31.90);
    • Milk pasteurizers-( HS Code no. 8434.20.00);
    • Butter churns- (HS Code 8434.90.00);
    • Storage chillers– HS Code no. 8415.81.00); and
    • Chees pressers - (HS Code no. 8434.20.00).
  • VAT on animal feeds or seed cake ( locally known as mashudu)
  • VAT on agricultural implements i.e. combine harvesters, pick-up balers, hay making machinery and mowers used in agricultural production and livestock;
  • VAT on Airfreight charges for transportation of flowers;
  • VAT on Breeding services through artificial animal insemination;
  • VAT on supply of packaging materials for fruit juices and milk products;
VAT Special Reliefs - Third schedule to the Act
    • Supply of equipments to a registered Veterinary Practitioner
    • Importation by or supply of green houses to growers;
    • Supply of goods and services to the organized farms and farms under registered cooperatives unions for the purpose of building infrastructures such as irrigation canal, construction of road networks, godowns and similar storage facilities;
    • Supply of building materials and construction services to EPZ developers;
    • Practice of classifying certain goods deemed capital goods have been reinstated; Inter disciplinary committee under TRA will oversee its implementation to avoid abuse of this facility.
Zero Rate:
VAT on locally produced edible oil using local oil seeds by local processors;
B: The Income Tax Act 2004 Cap 332

  • Sect. 11 of income tax Act has been amended to introduce Ring fencing within the mining area. The measure restrict companies to utilize losses of one mine against the taxable income of another income of another mine while determining tax liabilities.
  • Reduce individual income tax rate from 15% to 14% for employees

Where income does not exceed Tshs. 135,000/= NIL
Where total income exceeds Tshs. 135,000/= but does not exceed Tshs. 360,000/= 14% of the amount in excess of Tshs. 135,000/=
Where total income exceeds Tshs. 360,000/= but does not exceed Tshs. 540,000/= Tshs. 31,500/= plus 20% of the amount in excess of Tshs 360,000/=
Where total income exceeds Tshs. 540,000/= but does not exceed Tshs. 720,000/= Tshs. 67,500/= plus 25% of the amount in excess of Tshs 540,000/=
Where total income exceeds Tshs. 720,000/= Tshs. 112,500/=plus 30% of the amount in excess of Tshs 720 ,000/=


Impact of Tsunami to Japan Economy

Tokyo: Japan will suffer severe economic costs from last Friday’s devastating earthquake and tsunami but major ratings agencies Moody’s and Standard and Poor’s said on Monday they did not anticipate any effect on its sovereign ratings. One initial estimate has put the economic cost at 15 trillion yen ($183 billion).
Meanwhile, Bank of Japan unveiled plans to pump in 15 trillion yen into the economy. Analysts said the economy could even tip back into recession.
Global stocks hit 6-week low, Nikkei plunges
Tokyo: The Nikkei average tumbled 7.5%, its biggest decline in a single day since October 2008, and more than 4.9 billion shares changed hands on the exchange’s first section, the highest number since World War 2. World stocks also hit a six-week low driven by a slide in Tokyo shares.
Oil below $99 as disaster stuns world economy 
Singapore: Oil prices dropped below $99 a barrel on Monday in Asia after the tsunami, denting demand for crude from the world’s third-largest economy.
Honda, Toyota, Nissan suspend production
Tokyo: Honda Motor Co said it will suspend all production in Japan at least until March 20. Toyota Motor also said it would suspend production at all its domestic car plants until at least March 16.
Nissan Motor also shut down all four of its auto assembly plants in Japan.
Japan quake tests supply chain from chips to ships
Seoul/Taipei: Global companies from semiconductor makers to shipbuilders moved to minimise major supply disruption. The killer quake and ensuing tsunami destroyed infrastructure and knocked out factories supplying everything from high-tech components to steel, forcing firms such as Sony Corp to suspend production.
Plant closures and production outages among Japan’s high-tech companies were among the biggest threats to the global supply chain as an estimated fifth of all global technology products are made in Japan.
Big quake cost estimate weighs on insurers 
London: Shares in European insurers fell steeply on Monday after analysts estimated over the weekend that the earthquake could cost the industry $35 billion, making it one of the most expensive disasters ever. 
Employees safe, monitoring situation: IT majors
New Delhi: Indian IT giants TCS, Infosys and Wipro on Monday said their employees in tsunami-hit Japan are safe and are constantly monitoring the situation there.
TCS has over 200 people in Japan, while its peers Infosys and Wipro have over 250 people and 400 employees, respectively.


Difference between Basic and Applied Research

Basic research
Applied Research
-          Expand knowledge of  business process and management
-          Improve understand of particular business or management problem
-          Results in universal principles relating to the process and its relationship to outcomes.
-          Results in solution to problem
-          Finding of significance and value to society in general
-          Finding of practical relevance and value to manager(s) in organisation(s)

-          Undertaken by people based in universities
-          Undertaken by people based in a variety of setting including organisations and universities
-          Choice of topic and objectives determined by the researcher
-          Objectives negotiated with originator
-          Flexible timescales
-          Tight timescales

Financial Management- Capital structure

What is gearing?
          The mixture of debt finance relative to equity finance that a company uses to finance its business operations
          Gearing ratios assess financial risk:
          Debt/equity ratio:           D/E
          Capital gearing: D/(D+E)
          Market values preferred to book values
          Should D include short-term debt?
Implications of High gearing
          Increased volatility of equity returns arises with high gearing since interest must be paid before paying returns to shareholders.
          Increased risk of bankruptcy also occurs.
          Stock exchange credibility falls as investors learn of company’s financial position.
Short-termism moves managers’ focus away from maximisation of shareholder wealth
Optimal capital structure
Key question:
          Does the mix of debt and equity finance used by a company affect its weighted average cost of capital?
          Is there a mix of debt and equity that will minimise the average cost of capital?
          Minimum cost of capital will maximise market value of company and hence maximise shareholder wealth.
Simplifying Assumptions
          No taxes exist.
          Financing choice is between ordinary shares and perpetual debt.
          Capital structure changes incur no cost and entail replacing debt with equity or vice versa.
          All earnings are paid out as dividends.
          Business risk is constant over time.
Earnings and hence dividends are constant
Traditional approach
          Cost of equity increases as gearing increases due to rising financial risk and, later, bankruptcy risk.
          Cost of debts rises at high levels of gearing due to bankruptcy risk.
          As company starts to replace expensive equity with cheaper debt, WACC falls.
          As gearing continues to increase, cost of equity and cost of debt increase, offsetting the benefit of cheap debt.
Miller and Modigliani 1 (1st Proposition)
          Capital markets are assumed to be perfect.
          No risk of bankruptcy so cost of debt curve is flat.
          Linear increase in cost of equity due to increasing financial risk.
          As company gears up and replaces equity with debt, benefit of cheaper debt is exactly balanced by the increasing cost of equity.
No optimal capital structure is found
Assume you own 1% of B’s shares:
(1) Sell your shares for £77.27
(2) Borrow £30 to copy B’s gearing
(3) Buy 1% of A’s shares (surplus of £7.27)
          Return on B’s shares: 11% × £77.27 = £8.50
          Return on A’s shares: 10% × £100 = £10
          Less interest: £30 × 5% = £1.50 leaves £8.50
          Same return but you now have £7.27 surplus
Arbitrage proof using companies A and B:
                                                                     A                               B
Net income                                       1000                        1000     
Interest at 5%                                        Nil                       150
Earnings                                               1000                       850
Divide by cost of equity                      10%                         11%
MV of equity                                  10 000                        7 727
MV of debt                                         Nil                          3 000
Total market value                        10 000                      10 727
          Selling will cause B’s share price to fall and buying will cause A’s share price to rise.
          Return on B’s shares will rise and return on A’s shares will fall.
          WACC of A (10%) will fall and WACC of B (9.3%) will rise, and WACCs will converge until any arbitrage opportunity is eliminated.
          The claim that identical business risk will have an identical WACC is shown to be true.
Miller and Modigliani II (2nd Proposition)
          M&M adjusted their first model to reflect the tax deductibility of interest payments.
          Tax efficiency implies that gearing up by replacing equity with debt gives benefit of a tax shield, increasing the value of company.
          Cost of debt curve falls from before-tax to after-tax level, so WACC curve slopes downwards.
This implies an optimal capital structure does exist: i.e. gear up with as much debt as possible

Market Imperfection
          M&M relaxed assumption of perfect capital market by considering corporate taxation.
          If we relax perfect market assumption further by considering bankruptcy risk, an optimal capital structure emerges.
          Companies have to balance the tax efficiency of debt with the risk of bankruptcy.
          Traditional approach: Optimal Capital Structure (OCS) exists
          Miller and Modigliani I: no OCS is found
          Miller and Modigliani II: OCS is 100% debt
          Market imperfections: OCS exists
In practice, rather than one optimal capital structure existing for each firm, a range of optimal capital structures may exist.