Table content
Introduction………………………………………………………………………………2
I-Analysis of the reasons behind takeovers and the methods by which such takeovers may
have take place together with the potential effects of a takeover……………………… 3
II- The method of investment appraisal which may be applied to evaluated and rank
potential investment opportunities and their relative merits and limitations…………… 7
1-Payback period………………………………………………………………………….7
2-Accounting rate of return……………………………………………………………….8
3-Net present value……………………………………………………………………… 9
4- Internal rate of return………………………………………………………………….10
III- The nature of gearing and the potential effects of high gearing on perceived risk and
cost of capital…………………………………………………………………………….12
IV- Conclusion………………………………………………………………………… 13
Appendix…………………………………………………………………………………14
Reference……………………………………………………………………………… 17
Word account: 3,625
1
Introdcution:
Jebb Plc wants to takeover a rival company in which they believe will be successful
in increasing the wealth of shareholders. Due to understanding of limited fund, managers
of Jebb PLC are going to raise money through increasing debts in order to acquire target’
firm. As a senior financial manager in Jebb PLC, I have to prepare a report to analysis
reasons behind takeovers and the methods by which such takeovers may take places
together with the potential effects of a takeover. Then, I will give four method of
investment appraisal to evaluated and rank potential investment opportunities and their
merits and limitation. Moreover, the nature of gearing and potential effected of high
gearing on perceived risk and cost of capital.
2
I-Analysis of the reasons behind takeovers and the methods by which such takeovers
may have take place together with the potential effects of a takeover.
‘Takeover’ is referring to transfer of control of a firm from one group of shareholders

effective so that it may be the prime reason for an acquisition offer.
• Vertical integration. This is use in security term. The buyer may want to secure its
supply lines by acquiring selected suppliers. It is important when supplier has to
control over a large proportion of demands. In addition to backward integration,
company can engage in forward integration by acquiring a distributor or customer.
This most commonly occurs with distributors, especially when they have good
relationship with customers (Accountingtool)
Thirdly, I will give some method to takeover the target’s company. There are 4 methods
to takeover a company: cash offers, share-for-share offers, mixed bids and security
package.
• Cash offers. Public offering of security issue to every interested investor, with or
without involving an underwriter. In contrast, a right issue is offered only to the
current stockholders. General cash offer is the most common method of selling debt
(bond) and equity (stock) issues. According to the SEC Rule 415 (1982), a large firm
can file a single new issue registration statement that is valid for two years. Within
this period the firm can make general cash offer as and when it wants.
(investorword.com)
Cash-offer attracts a target company shareholder because it provides shareholders
with significant, immediate and certain value for the buyer’s existing assets, as well as its
future growth potential. Besides, cash-offer adjusts company’s portfolios, its operation
and development capabilities and strong balance sheet. (transalta.com)
Advantage of using cash-offer is that company can determine the outcome. However, its
disadvantage that cash offer to acquire target’s company may insufficient and in case
company borrows money from bank, the interest rate changes must be considered.
• Share-for-share offers. Takeover bid in which the acquiring firm offers its shares for
an equal number of shares in the target firm. It accepted. Shareholders of the both
pre-merger firms become owners of the resulting firm (Businessdictionary.com)
A shareholder must take an offer when its shareholding, including that of parties acting
reaches 30% of the target. Information relating to the bid must not be released except by
4

5
Whatever the decision on employees, this can have a serious impact on employee
morale. (helium.com)
• Financial. Ansof (1971) found that after an acquisition, low sales growth companies
showed significantly higher rates of growth, whereas, high sales growth companies
showed lower rates of growth. However, even though low sales growth companies
showed higher rates of growth after acquisitions, they actually suffered decreases in
their mean P/E ratios, mean EPS and mean dividend payouts. The similar pattern of
inconsistency found in the high sales growth companies whereby their performance
levels for EPS, PE ratio, earning and dividend payouts were greater. Low sales
growth companies financed their acquisitions through decreased dividend payouts
and the use of new debts. In contrast, high sales growth companies with other
strategies tended to decrease debts but increase dividend payouts. (international
business and management)
• Stockholders have such a vested financial stake in the corporations they own stock in
that a takeover affection. The company may falter or thrive and either way this affects
the bottom line of their investment.
• Economy of scale. According to Ansof (1971), acquisitions were in general
unprofitable, as they did not contribute to increase in all of the variables of
companies’ growth. However, follow Ajit Singh, after a two-year period of takeover,
there was deterioration in relative profitability record. He added that as in relation to
EPS, the biggest potential losers are shareholders in biding companies who were
sacrificing profits for future growth. Those acquiring firms could have maintained
their profitability records if they were not involved in takeovers and large companies
tended to engage in higher gearing and this led to higher retention ratio and
eventually higher growth is attained. (international business and management)
6
II- The method of investment appraisal which may be applied to evaluated and rank
potential investment opportunities and their relative merits and limitations.
In this report, I will give 4 methods to evaluate and rank potential investment

2- Accounting rate of return (ARR)
‘The rate of return on an investment that is calculated by taking the total cash inflow
over the life of the investment and dividing it by the number of years in the life of the
investment. The ARR does not guarantee that the cash inflows are the same in a given
year. It simply guarantees that the return averages out to the average of return’.
(thefreedictionary.com)
ARR uses the data from the income statement. This is a non-discounting cash flow
project appraisal model. This is computed by using the following formulas:
ARR = Average net profit / Average Annual Investment
Or
ARR = − (Increase in expected average operating income/ Initial increase in investment)
ARR is related with conventional accounting models of calculating income and required
investment. It shows the effect of an investment on project’s financial statement.
• Merits:
It is simple to calculate using accounting data. ARR formula is easy to apply and familiar
concept to managers which they refer to as ‘returns on investment’ or ‘return on capital
employed’. ARR helps manager to calculate earning of each year which includes the
profitability of the project.
• Limitations:
It is no account of time value of money like PP, i.e. company expected future dollars are
erroneously regarded as equal to present dollars. ARR is inconsistency with wealth
maximization as the objective of the firm. It uses the accounting data it includes the
amount of accruals in accounting the earnings ‘net profit’. Moreover, it can be
manipulated by changing accounting method like depreciation rates and methods which
have nothing to do with the underlying investment.
3- Net present value (NPV)
Definition: it is the method of evaluating project that recognizes that the dollar received
immediately is preferable to a dollar received at some future date. It discounts the cash
flow to take into the account the time value of money.
8

exclusive projects. The ranking conflicts arise because of: timing differences in
incremental cash flows and magnitude differences in incremental cash flow. When a
conflict arise among mutually exclusive project, it would be better to pick the one with
the highest NPV.
Company A Company B Company C
PP 4.38 years 3 years 2.96 years
ARR 6% 12% 18%
NPV -$20,950 @ 10% $57,500. @ 10% $103,250 @ 10%
IRR 12.05% 18.46% 21.86%
The table above shows the result of PP, ARR, NPV and IRR. The 4 method has it
own strength and weakness. Looking at the PP’s result, the shortest time for the company
to payback its investment is C which PP is lowest in the three-project. ARR of company
A is lowest of 6% compare to project B, 12% and project C, 18%. The NPV of company
A also is the lowest with - $ 20,950 at 10%. The highest NPV is company C is $103,250
10
at 10% and the second one is company B with NPV of $ 57,500. IRR of company C is
the highest of 21.86 %, then the second higher is company B with IRR of 18.46% and the
lowest has 12.95 %.
Each project has it own attraction. However, while analyzing data, it usually has
conflict. A raking conflict occurs when one project has a higher NPV than another while
the lower NPV project has a higher IRR.
Based on the information analysis above, we know how to calculate the four-method.
Hence, the most suitable method is NPV, then the second one is IRR, third one is PP and
ARR is the last one. It seems that most suitable method which is the more accurate
measure of telling which project is a good investment and which one is better is NPV
method. There are 3 main reasons:
• NPV measures project value more directly than IRR because NPV actually calculates
the project’s value. In this case it has more than one project lined up, then manager
can simply add the values together to get a total.
• NPV assumes that project cash flows are reinvested at the company’s required rate of

may not be wise to mix business with personal life. Hence, be careful and make sure
terms are clear and documented before proceeding with borrowing from friends and
relatives.
• Bonds and debentures.
Bonds are debt security which is issued by the authorized issuer to the masses. They
generally have a fix term of maturity, which is more than 10 years. The company has
authority to give limited powers to the bond holders with respect voting rights,
information related to company,etc.
Debenture are long term debt instrument used by large companies and governments to
raise finance from the generate people. Debentures are different from bonds because of
securitization conditions. They are usually unsecured debt instruments. If the company
gets liquidated, the debenture holders would be considered at par with general creditors.
Debenture can be pledged against the amount received, only if state in the terms and
12
conditions of the issue. Debentures are freely transferable instruments.
(firewordzone.com)
• New share issues, for example, by companies acquiring a stock market listing for the
first time
• Rights issues: Loan stock; Retained earnings, etc.
Jebb plc understands that to carry out any of the proposed projects will require them
to raise a substantial amount of money through increased debt and this will increase the
gearing of Jebb plc to a high level
Gearing ratio is a term describe a financial ratio that compare some form of owner’s
equity (or capital) to borrowed funds, Gearing is a measure of financial leverages,
demonstrating the degree to which a firm’s activities are fund by owner’s funds versus
creditor’s funds. (accoutingformanagement.com)
There are three effects arising directly from an increase in corporate gearing. Two of
these, the advantage of debt being ‘cheaper’ than equity and the disadvantage of the cost
of equity rising because of increase financial risk, exactly offset each other. This leaves
one net advantages: the tax relief on debt interest. Behind the use of WACC (the average

Payback period of project B = 3 years.
Looking at the table above, after 3 years the company’s cash = $100,000+$50,000+
$100,000=$250,000. Then, after 3 years company can pay-back its investment.
Payback period of project C = 2 years +
000,120$
000,135$000,250$ −
= 2.96 years
b) Accounting rate of return (ARR)
ARR (A) =
%6%100
000,250$
5
000,120$000,90$000,60$000,20$000,35$
=∗
++++
ARR (B) =
%12%100
000,250$
5
000,100$000,50$000,100$000,50$000,100$
=∗
++++
14
ARR (C) =
%18%100
000,250$
5
000,140$000,80$000,120$000,70$000,65$
=∗
++++

IRR (A) =10%+
%05.12
150,81$950,20$
%)10%20(*250,20$
=
−−
−−
IRR (B) = 10% +
%46.18
)500,10500,57($
%)10%20(*500,57$
=
+
−−
IRR (C) = 10% +
%86.21
)200,16$250,103($
%)10%20(*250,103$
=
−
−
Reference:
Accounting tool, assessed 8 April 2010,< />words_term_4868_takeover.html assessed 7 April 2010>
[Internet], assessed 8 April 2010,
<
[Internet], assessed 8 April 2010
< >
16
[Internet], assessed 8 April 2010, < />releases/2009-07-20/transalta-proposes-all-cash-offer-acquire-canadian-hydro-
developer>