HERIOT-WATT UNIVERSITY
SCHOOL OF THE BUILT ENVIRONMENT
CONSTRUCTION FINANCIAL MANAGEMENT (D31CG)
Tutorial Questions
Question 1
SOHAIL Construction Limited started business in January 2014 and is in the process
of producing the budget for the year 2015. During the year 2014, the company won
and started four contracts. The value, starting date, duration and profit are as
follows:
Contract Month started Duration Value Profit
(Months) (£M) (£M)
P January 22 15 0.75
Q April 18 10 0.5
R August 16 12 0.6
S November 18 6 0.3
a) Calculate the turnover for the year 2015 if no more contracts are won during
that year (assume a uniform rate of valid build up on any of the contracts).
(7 marks)
b) Calculate the total value of contracts to be won during the year 2015 for the
contractor to be able to achieve the following objectives:
1. Pay the second of 10 annual instalments of a £10 million loan taken at the
beginning of the 2014 (assuming 9% interest rate)
2. Pay dividends of 50p per share for the 2 million shares used to start the
company
3. Retained profit of £2 million
You may assume that the average duration of projects to be started in 2015 is
16 months.
(7 marks)
c) While analysing the market, it was found that the company during 2014, had a
market share (value of work executed by contractor versus the total market
output for that year) of 10%. If demand for construction in this market is
expected to increase by 25% in 2015, calculate the required market share the
contractor has to achieve in order to meet the profit targets set in (1b) above.
(9 marks)
d) Of what benefits are the calculations to the contractor in developing corporate
strategy for the year 2015?
(10 marks)
Question 2
AJL Limited is a construction company that started business at the beginning of 2014
by issuing 15 million of £1 shares. During that year of 2014, the company took a loan
of £6.5 million (£2.5 million for plant, cars and furniture purchases and £4 million for
head office building). The loan is to be paid back in one instalment after 10 years
while the interest is paid annually. During the year, AJL won several contracts, all of
which are long term (over one year long). The following table presents the
company’s performance on these projects up to the end of the year 2014.
Total for all Contracts £ Million
Value 49.0
Cost 43.0
Certified by client 38.0
Cash received 36.0
Cash paid 28.0
Assumptions:
9% fixed interest rate is applied for the loan.
Plant, furniture and cars are to be depreciated over 5 years and the
Building over 50 years.
Overheads are £250,000
Corporation tax is 25% of profit after interest to be paid
Dividends of 5p per share to be paid
You may ignore any interest to be earned or paid on cash or overdraft.
a) Compute and prepare the Profit & Loss Account and Balance Sheet for the
year ending December 31, 2014.
(20 marks)
b) Use gearing ratio and ROCE to comment on the cash and financial standing of
the company. What is your advice to the company?
(13 marks)
Question 3
A contractor is proposing the following programme of work and cost estimates for a
project:
Activity Cost (£) Duration (months)
1 2 3 4 5 6
Site preparation 1,000,000
Substructures 6,000,000
Superstructures 3,000,000
Services 4,500,000
Finishes 2,000,000
The contractor has applied a fixed mark-up rate of 10% across all activities. The
client is to hold 5% of monthly valuation as retention. The retention held will be paid
back to the contractor in one instalment at completion of construction. It was also
agreed that work would be measured monthly and payment for value of work done is
made one month after measurement. The contractor is to execute all works using his
own labour (associated materials and plants would be purchased or hired by the
contractor). The cost of contractor’s own labour is 40% of the total monthly cost while
the remaining 60% is for cost of materials and plant. The monthly cost is invoiced in
such a way that the contractor’s own labour will be paid in the same month the cost
is incurred while the cost of materials and plant will be paid one month after.
a) Calculate the cumulative monthly cash flow for the project if both the client and
contractor adhere strictly to their contractual obligations.
(18 marks)
b) Assuming that the contractor is considering alternatives for improving cash
flow. One of such is to subcontract all works. Prepare a cumulative cash flow
table for this alternative if the contractor’s cost would increase by 5% and
subcontractors are to be paid two months after each monthly cost is incurred
(assume total value of project to remain the same).
(10 marks)
c) Briefly discuss the impacts of the option in 3(b) on the project.
(5 marks)
Question 4
Discuss the importance and benefits of corporate analyses (i.e. assessing
companies’ balance sheets and profit and loss accounts) particularly in the
Construction Industry.
(18 marks)
With the aid of examples explain why different construction organisations may have
significantly different values of financial ratios.
(15 marks)
Question 5
A company is considering two strategies for equipment purchases to undertake a
major construction contract. The following table presents details of the proposed
strategies.
Strategy one Strategy two
Total capital cost £4,000,000 £5,600,000
Maintenance cost £120,000 per year for £45,000 per year
first 3 years, then
increasing by £30,
000 a year
Rental income £1,000,000 per year £1,500,000 per year
for first 3 years, then
reducing by £50,000
per year
Life of equipment 7 years 4 years
Resale value £1,000,000 £2,000,000
Discount rate to be used in the analysis is 9%.
(a) Based on financial appraisal techniques alone, which of the two strategies
would you advise the company to adopt?
(18 marks)
(b) What would be the minimum resale value of the equipment needed for the
losing strategy to make you change your recommendation in 5(a)?
(10 marks)
(c) What risks affect the quality of the decision making on which strategy to adopt?
(5 marks)
Question 6
A contractor is starting a project with the following programme and costs.
Months
Activity Cost 1 2 3 4 5 6 7 8
Site preparation 400,000
Substructures 1,000,000
Superstructures & 2,800,000
cladding
Services 750,000
Finishes 1,000,000
The contractor has applied a fixed mark-up rate of 10% on activities to be performed
by the contractor’s own labour (Site preparation & Finishes) and 5% on labour and
material for subcontracted activities (the rest). The retention to be held by the client
is 5% of each valuation. The retention held will be paid back to the contractor in one
instalment at completion of construction. The client is to measure the work monthly
and must pay the cash within one month after each measurement. The contractor’s
monthly cost is invoiced in such a way that activities performed by their own labour
will be paid in the same month the cost has incurred. Subcontractors, material
purchases and plant hire are all paid one month after the cost has been committed.
The percentage of own labour cost for Site preparation is 50% and for Finishes is
50%.
(a) Calculate the contractor’s cumulative monthly cash flow for the project.
(15 marks)
(b) Suggest two alternative approaches that the contractor can try in order to amend
his cashflow. With the aid of calculations identify which method would yield a
better cashflow and critically evaluate the impact s on the project and business.
(18 marks)
Question 7
The table below shows the balance sheet of a contracting company at the end of
year 2011.
Fixed assets
Buildings £7,000,000
Current assets
Debtors £1,200,000
WIP £ 500,000
Cash £ 650,000
Current liabilities
Creditors (£850,000)
Long term liabilities
Loans (£4,000,000) (see note)
Shareholders funds
Called up shares £4,000,000
Retained profit £ 500,000
Note: This loan was taken to purchase the head office building and is being paid
back in equal annual instalments of £500,000.
During 2012 the contractor won ten contracts all of which are long term. The
following table lists the contractor’s total performance on these contracts up to the
end of that year.
Total
(all in £ Million)
Value 22
Cost 20
Certified by client 18
Cash received 15
Cash paid 12
At the start of 2012, the contractor took another loan to fund the full purchase of
another head office building (£4,000,000). This loan was to be paid in 5 equal annual
instalments.
Assuming that
Interest rate on all loans is 9%.
Depreciation of all buildings is £500,000.
Corporation tax is 25% of profit after interest, to be paid.
Dividends of £400,000 to be paid.
a) Calculate the profit and loss account and the balance sheet at the end of year
2012.
b) Comment on the financial position of the company.
Interest 9%
CAF PWF USCAF USSF USPWF USCRF
Find F given P, F/P Find P given F, P/F Find F given A, F/A Find A given F, A/F Find P given A, P/A Find A given P, A/P
n
1 1.0900 0.9174 1.0000 1.0000 0.9174 1.0900
2 1.1881 0.8417 2.0900 0.4785 1.7591 0.5685
3 1.2950 0.7722 3.2781 0.3051 2.5313 0.3951
4 1.4116 0.7084 4.5731 0.2187 3.2397 0.3087
5 1.5386 0.6499 5.9847 0.1671 3.8897 0.2571
6 1.6771 0.5963 7.5233 0.1329 4.4859 0.2229
7 1.8280 0.5470 9.2004 0.1087 5.0330 0.1987
8 1.9926 0.5019 11.0285 0.0907 5.5348 0.1807
9 2.1719 0.4604 13.0210 0.0768 5.9952 0.1668
10 2.3674 0.4224 15.1929 0.0658 6.4177 0.1558
11 2.5804 0.3875 17.5603 0.0569 6.8052 0.1469
12 2.8127 0.3555 20.1407 0.0497 7.1607 0.1397
13 3.0658 0.3262 22.9534 0.0436 7.4869 0.1336
14 3.3417 0.2992 26.0192 0.0384 7.7862 0.1284
15 3.6425 0.2745 29.3609 0.0341 8.0607 0.1241
16 3.9703 0.2519 33.0034 0.0303 8.3126 0.1203
17 4.3276 0.2311 36.9737 0.0270 8.5436 0.1170
18 4.7171 0.2120 41.3013 0.0242 8.7556 0.1142
19 5.1417 0.1945 46.0185 0.0217 8.9501 0.1117
20 5.6044 0.1784 51.1601 0.0195 9.1285 0.1095
21 6.1088 0.1637 56.7645 0.0176 9.2922 0.1076
22 6.6586 0.1502 62.8733 0.0159 9.4424 0.1059
23 7.2579 0.1378 69.5319 0.0144 9.5802 0.1044
24 7.9111 0.1264 76.7898 0.0130 9.7066 0.1030
25 8.6231 0.1160 84.7009 0.0118 9.8226 0.1018
26 9.3992 0.1064 93.3240 0.0107 9.9290 0.1007
27 10.2451 0.0976 102.7231 0.0097 10.0266 0.0997
28 11.1671 0.0895 112.9682 0.0089 10.1161 0.0989
29 12.1722 0.0822 124.1354 0.0081 10.1983 0.0981
30 13.2677 0.0754 136.3075 0.0073 10.2737 0.0973
