Financial Strategy, Valuation, Financing and Investment Appraisal
This domain tests whether a strategic recommendation is financially sound: what it is worth, how it is funded, and whether it clears the required return. Case requirements usually combine a valuation or appraisal calculation with advice on financing mix and the effect on covenants and shareholder value.
Cost of capital and financing
Estimate the cost of equity with CAPM (risk-free rate, equity beta, market risk premium) and the after-tax cost of debt, weighted at market values. Capital structure choices run between the tax shield on debt and the costs of financial distress - the trade-off view - with pecking order behaviour explaining why firms prefer retained cash, then debt, then equity. Dividend policy should be tested against the residual approach: fund positive-NPV investment first, then return what is surplus, while respecting covenants and signalling effects.
Valuation and appraisal
Free cash flow to the firm discounted at WACC, free cash flow to equity at the cost of equity, dividend growth models, and multiples (P/E, EV/EBITDA) as a cross-check. Synergy value must exceed the premium paid for an acquisition to create value. For projects: NPV is the primary rule, IRR and MIRR for communication and ranking, payback for liquidity, adjusted present value where gearing changes materially. Add sensitivity and scenario analysis; the strategic option value matters where staging is possible.
Worked example
Risk-free 15%, equity beta 1.2, market risk premium 7%: Ke = 15% + (1.2 × 7%) = 23.4%. Debt costs 20% pre-tax, tax 25%, so 15% after tax. Equity market value GHS 360m, debt GHS 240m: WACC = (0.6 × 23.4%) + (0.4 × 15%) = 14.04% + 6.0% = 20.0%. A project needs GHS 180m and returns GHS 60m a year for five years: the five-year annuity factor at 20% is 2.991, so PV is GHS 179.5m and NPV is about negative GHS 0.5m - reject, and note the project is essentially at its IRR of 20%, so a small adverse move in price or cost flips it into loss.
Traps that cost marks
- Weighting at book rather than market values.
- Using pre-tax cost of debt.
- Discounting nominal cash flows at a real rate, or the reverse.
- Omitting working capital, tax timing and capital expenditure from free cash flow.
- Including sunk costs or allocated group overhead that is not incremental.
- Using IRR to rank mutually exclusive projects of different scale.
- Valuing synergies but forgetting the premium paid.
Professional Skills, Ethics and Communication in the Strategic Case
This domain carries the marks that separate a technically correct script from a passing one. A dedicated block of marks rewards application to the case, evaluation and scepticism, commercial acumen and communication that the intended reader can act on. Ethics questions ask what you would do, why, and with reference to the ICAG Code based on IESBA principles.
Ethics under the Code
Five fundamental principles: integrity, objectivity, professional competence and due care, confidentiality and professional behaviour. Threats are self-interest, self-review, advocacy, familiarity and intimidation; assess their significance, then apply safeguards - disclosure to those charged with governance, independent review, removing the individual from the engagement, or declining. Under pressure to misstate, never accede: document the request, escalate to the audit committee or board, and use whistleblowing channels; consider NOCLAR obligations for accountants in business and public practice alike. Resignation is a last step, taken only when escalation has failed.
Communication that earns marks
Use the report format the case implies: to/from/date/subject, an executive summary carrying the recommendation and its financial effect, headed sections mirroring the requirement verbs, and an appendix for workings. Lead with the conclusion; never make the reader infer your view. Quantify and compare - "Option A delivers GHS 12m NPV at a 20% WACC by year three" beats "Option A is financially attractive". Address the recipient: a lender wants covenant headroom and cash, a regulator wants compliance, employees want job security.
Worked example
A finance director asks you to defer an GHS 8m provision to protect a covenant before year-end. The obligation arises from a past event, so deferral misstates the accounts and inflates profit by 8m, or 6m after 25% tax - 0.20 per share on 30m shares. Threats are self-interest (his bonus) and intimidation (your appraisal). Response: refuse and explain the accounting and the Code; minute the discussion; escalate to the audit committee chair; ensure the financial statements reflect the obligation; keep a written record. Note in your answer that the covenant breach itself is a commercial issue for the board, not a reason to change the accounting.
Traps that cost marks
- Ethics bolted on as a final paragraph rather than woven through the advice.
- Jumping to "I would resign" without escalation.
- Describing technical material instead of evaluating options and concluding.
- Burying the recommendation in the middle of the report.
- Ignoring who the communication is written for.
- Unsupported assertions with no case evidence or figures.