Question Four (b) candidates were asked to calculate the effect on earnings per share of a proposal to raise finance by a stock market listing, and to comment on its acceptability to shareholders. Many answers made early calculation errors, but marks based on method (own-error principle) were awarded where necessary. An answer that miscalculated the number of new shares issued, for example, could still pick up most of the marks on offer.

The question stated that the company wanted to invest $3.2 million after issue costs of $100,000, so the amount to be raised was $3.3 million. One error was subtracting the issue costs from the $3.2 million, another was to subtract the issue costs in the income statement. The issue price was given in the question and did not need to be calculated.

The question said that a before-tax return of 18% was expected on the funds invested, but many candidates either ignored this, or incorrectly applied the rate of return to the company’s current operating profit (profit before interest and tax).

Most answers were able to calculate a current and a revised earnings per share, and to comment on the difference between the two values, while better answers discussed, for example, the shareholder control implications of a stock market listing.

Question Four (c) the requirement here was to calculate the effect on earnings per share and interest cover of a proposal to raise finance by a bond issue, commenting on the findings. The key points here were:

• Investing the funds at 18% before tax would increase operating profit; 
• Financing the investment with debt would result in an increase in interest payments; 
• Financing the investment with debt meant that the number of issued shares would not change.

Some answers calculated correctly the interest on the new debt, but ignored interest payable on the current debt when calculating interest cover. Another error was ignoring the return on the new funds invested, so that both current and revised interest cover were calculated using the same operating profit. Some answers calculated interest cover using profit before tax, or profit after tax, indicating a lack of understanding of accounting ratios.

Credit was given for sensible comments on findings, even where the findings contained errors.