Peach Co’s latest results are as follows:
| $000 | |
|---|---|
| Profit before interest and taxation | 2,500 |
| Profit before taxation | 2,250 |
| Profit after tax | 1,400 |
| $000 | |
|---|---|
| Equity | 10,000 |
| Non-current liabilities | 2,500 |
What is Peach Co’s return on capital employed (ROCE)?
A. 14%
B. 18%
C. 20%
D. 25%
The following information relates to an investment project which is being evaluated by the directors of Fence Co, a listed company. The initial investment, payable at the start of the first year of operation, is $3·9 million.
| Year | 1 | 2 | 3 | 4 |
|---|---|---|---|---|
| Net operating cash flow ($000) | 1,200 | 1,500 | 1,600 | 1,580 |
| Scrap value ($000) | 100 |
The directors believe that this investment project will increase shareholder wealth if it achieves a return on capital employed greater than 15%. As a matter of policy, the directors require all investment projects to be evaluated using both the payback and return on capital employed methods. Shareholders have recently criticised the directors for using these investment appraisal methods, claiming that Fence Co ought to be using the academically-preferred net present value method.
The directors have a remuneration package which includes a financial reward for achieving an annual return on capital employed greater than 15%. The remuneration package does not include a share option scheme.
Based on the average investment method, what is the return on capital employed of the investment project?
A. 13·3%
B. 26·0%
C. 52·0%
D. 73·5%
| $m | $m | |
|---|---|---|
| Equity | ||
| Ordinary shares ($1 nominal) | 15 | |
| Reserves | 153 | |
| 168 | ||
| Non-current liabilities | ||
| 6% Irredeemable loan notes | 10 | |
| 7% Loan notes | 12 | |
| 22 | ||
190 |
Gemlo Co is planning an expansion of existing business operations costing $10 million in the near future and is assessing its current financial position as part of preparing a business case in support of seeking new finance.
The business expansion is expected to increase the profit before interest and tax of Gemlo Co by 20% in the first year.
The planned business expansion by Gemlo Co has already been announced to the stock market. Information on the expected increase in profit before interest and tax has not yet been announced and the company has not decided on how the expansion is to be financed.
The ordinary shares of the company are currently trading at $3·75 per share on an ex dividend basis. The irredeemable loan notes have a cost of debt of 7%.
The 7% loan notes have a cost of debt of 6% and will be redeemed at a 5% premium to nominal value after seven years. The interest cover of Gemlo Co is 6 times.
Companies operating in the same business sector as Gemlo Co have an average debt/equity ratio of 40% on a market value basis and an average interest cover of 9 times.
Required:
(a) Calculate the debt/equity ratio of Gemlo Co based on market values and comment on your findings. (4 marks)
| $m | $m | |
|---|---|---|
| Non-current assets | 120 | |
| Current assets | ||
| Inventory | 8 | |
| Trade receivables | 12 | 20 |
| Total assets | 140 | |
| Equity | ||
| Ordinary shares | 25 | |
| Reserves | 80 | 105 |
| Non-current liabilities | 20 | |
| Current liabilities | 15 | |
| Total equity and liabilities | 140 |
On an historic basis, what is the net asset value per share of QK Co?
A. $2·10 per share
B. $2·50 per share
C. $2·80 per share
D. $4·20 per share
| $000 | $000 | |
|---|---|---|
| Equity | ||
| Ordinary shares | 8,000 | |
| Reserves | 20,000 | |
| 28,000 | ||
| Non-current liabilities | ||
| Bonds | 4,000 | |
| Bank loans | 6,200 | |
| Preference shares | 2,000 | |
| 12,200 | ||
| Current liabilities | ||
| Overdraft | 1,000 | |
| Trade payables | 1,500 | |
| 2,500 | ||
| Total equity and liabilities | 42,700 |
What is the market value based gearing of the company, defined as prior charge capital/equity?
A. 15·0%
B. 13·0%
C. 11·8%
D. 7·3%
The following are extracts from the statement of profit or loss of CQB Co:
| $000 | |
|---|---|
| Sales income | 60,000 |
| Cost of sales | 50,000 |
| Profit before interest and tax | 10,000 |
| Interest | 4,000 |
| Profit before tax | 6,000 |
| Tax | 4,500 |
| Profit after tax | 1,500 |
60% of the cost of sales is variable costs.
What is the operational gearing of CQB Co?
A. 5·0 times
B. 2·0 times
C. 0·5 times
D. 3·0 times
DD Co has a dividend payout ratio of 40% and has maintained this payout ratio for several years. The current dividend per share of the company is 50c per share and it expects that its next dividend per share, payable in one year’s time, will be 52c per share.
The capital structure of the company is as follows:
| $m | $m | |
|---|---|---|
| Equity | ||
| Ordinary shares (par value $1 per share) | 25 | |
| Reserves | 35 | |
| 60 | ||
| Debt | ||
| Bond A (par value $100) | 20 | |
| Bond B (par value $100) | 10 | |
| 30 | ||
90 |
Bond A will be redeemed at par in ten years’ time and pays annual interest of 9%. The cost of debt of this bond is 9·83% per year. The current ex interest market price of the bond is $95·08.
Bond B will be redeemed at par in four years’ time and pays annual interest of 8%. The cost of debt of this bond is 7·82% per year. The current ex interest market price of the bond is $102·01.
DD Co has a cost of equity of 12·4%. Ignore taxation.
Required:
(a) Calculate the following values for DD Co:
(ii) capital gearing (debt divided by debt plus equity) using market values; and (2 marks)
The current assets and current liabilities of CSZ Co at the end of March 2014 are as follows:
| $000 | $000 | |
| Inventory | 5,700 | |
| Trade recievables | 6,575 | 12,275 |
| Trade payables | 2,137 | |
| Overdraft | 4,682 | 6,819 |
| Net current asstes | 5,456 |
For the year to end of March 2014, CSZ Co had domestic and foreign sales of $40 million, all on credit, while cost of sales was $26 million. Trade payables related to both domestic and foreign suppliers.
For the year to end of March 2015, CSZ Co has forecast that credit sales will remain at $40 million while cost of sales will fall to 60% of sales. The company expects current assets to consist of inventory and trade receivables, and current liabilities to consist of trade payables and the company’s overdraft.
CSZ Co also plans to achieve the following target working capital ratio values for the year to the end of March 2015:
| Inventory days: | 60 days |
| Trade receivables: | 75 days |
| Trade payables: | 5 days |
| Current Ratio: | 1.4 |
Required:
(b)Calculate the target quick ratio (acid test ratio) and the target ratio of sales to net working capital of CSZ Co at the end of March 2015. (5 marks)
The following financial information relates to MFZ Co, a listed company:
| Year | 2014 | 2013 | 2012 |
| profit before interest tax ($m) | 18.3 | 17.7 | 17.1 |
| profit after tax ($m) | 12.8 | 12.4 | 12.0 |
| dividends ($m) | 5.1 | 5.1 | 4.8 |
| equity market value ($m) | 56.4 | 55.2 | 54.0 |
MFZ Co has 12 million ordinary shares in issue and has not issued any new shares in the period under review. The company is financed entirely by equity, and is considering investing $9•2 million of new finance in order to expand existing business operations. This new finance could be either long-term debt finance or new equity via a rights issue. The rights issue price would be at a 20% discount to the current share price. Issue costs of $200,000 would have to be met from the cash raised, whether the new finance was equity or debt.
The annual report of MFZ Co states that the company has three financial objectives:
| Objective 1: to achieve growth before interest and tax of 4% per year. |
| Objective 2: to achieve growth in earnings per share of 3.5% per year . |
| Objective 3: to achieve total shareholder return of 5% per year. |
Required:
Analyse and discuss the extent to which MFZ Co has achieved each of its stated objectives. (7 marks)
GXG Co is an e-business which designs and sells computer applications (apps) for mobile phones. The company needs to raise $3,200,000 for research and development and is considering three financing options.
Option 1
GXG Co could suspend dividends for two years, and then pay dividends of 25 cents per share from the end of the third year, increasing dividends annually by 4% per year in subsequent years. Dividends in recent years have grown by 3% per year.
Option 2
GXG Co could seek a stock market listing, raising $3·2 million after issue costs of $100,000 by issuing new shares to new shareholders at a price of $2·50 per share.
Option 3
GXG Co could issue $3,200,000 of bonds paying annual interest of 6%, redeemable after ten years at par.
Recent financial information relating to GXG Co is as follows:
Under options 2 and 3, the funds invested would earn a before-tax return of 18% per year.
The profit tax rate paid by the company is 20% per year.
GXG Co has a cost of equity of 9% per year, which is expected to remain constant.
(b) Calculate the effect on earnings per share of the proposal to raise finance by a stock market listing (option 2), and comment on the acceptability of the proposal to existing shareholders.
(5 marks)
(c) Calculate the effect on earnings per share and interest cover of the proposal to raise finance by issuing new debt (option 3), and comment on your findings.
(5 marks)