ICAN 2021 Strategic Financial Management | Mixed

Palemo Temidayo (PT) is a large engineering company listed on the stock market. The company is considering the purchase of Zinco, an unlisted company that produces a number of engineering components. The board of directors is concerned about the appropriate price to pay for Zinco. As a starting point, it has been decided to provide a range of valuations based on different industry recognised techniques. Summarised financial statements of Zinco Limited for the last two years are shown below: \( \begin{array}{lrr} \text{Statements of profit or loss for the years ended 30 June} & & \\ & 2020 & 2019 \\ & \text{₦'000} & \text{₦'000} \\ \text{Sales revenue} & \underline{112,400} & \underline{101,090} \\ \text{Opening profit before exceptional items} & 6,510 & 4,100 \\ \text{Exceptional items} & (10,025) & - \\ \text{Interest paid (net)} & \underline{(1,400)} & \underline{(890)} \\ \text{Profit/(Loss) before tax} & (4,915) & 3,210 \\ \text{Taxation} & \underline{(1,050)} & \underline{(890)} \\ \text{Profit/(Loss) after tax} & \underline{(5,965)} & \underline{2,320} \\ \text{Note: Dividend} & 1,000 & 500 \\ & & \\ \text{Statement of financial position as at 31 March (₦000)} & & \\ & 2020 & 2019 \\ \text{Non-current assets (net)} & & \\ \text{Tangible assets} & 27,150 & 25,240 \\ \text{Goodwill} & 850 & 1,000 \\ & & \\ \text{Current asset} & & \\ \text{Inventory} & 17,000 & 13,900 \\ & & \\ \text{Receivables} & 13,790 & 12,560 \\ \text{Cash and bank} & \underline{240} & \underline{240} \\ \text{Total assets} & \underline{\mathbf{59,030}} & \underline{\mathbf{52,940}} \\ & & \\ \text{Equity and liabilities} & & \\ \text{Call-up share capital (50 kobo par)} & 20,000 & 10,000 \\ \text{Retained profits} & 5,185 & 17,150 \\ \text{Other reserves} & \underline{6,245} & \underline{1,675} \\ \text{Total equity} & 31,430 & 28,825 \\ \text{Current liabilities -- payable} & \underline{27,600} & \underline{24,115} \\ & \underline{\mathbf{59,030}} & \underline{\mathbf{52,940}} \end{array} \) Additional information relating to Zinco: (i) If the acquisition succeeds, there will be revenue synergy leading to increase in annual sales revenue of Zinco of 25% for three years, and of 10% per year thereafter. (ii) Non-cash expenses, including depreciation, were N4,100,000 in 2020. (iii) Income tax rate is 30% p.a. (iv) Capital expenditure was N5 million in 2020, and is expected to grow at approximately the same rate as revenue. (v) Working capital, interest payments and non-cash expenses are expected to increase at the same rate as revenue. (vi) Zinco has a patent with current market value of N50million. This has not been included in the non-current assets. (vii) Operating profit is expected to be approximately 8% of revenue in 2021, and to remain at the same percentage in future years. (viii) Dividends are expected to grow at the same rate as revenue. (ix) The realisable value of inventory is expected to be 70% of its book value. (x) The estimated cost of equity is 12%. (xi) The average P/E ratio of listed companies of similar size of Zinco is 30:1. (xii) Average earnings growth in the industry is 6% per year. Required:

You should assume that the current date is 31 December 2019 You work for Eko Corporate Finance (ECF). One of the clients for whom you are responsible is Gap Plc (GP). Gap Plc is a listed company and is seeking to raise ₦560 million to invest in new projects during 2020. Currently Gap Plc is financed by equity. However, at recent board meeting, the finance director stated that, since other companies in Gap‟s Plc industry have average gearing ratios (measured by debt/equity by market value) of 30% (with a maximum of 40%) and an average interest cover of 6 times (with a minimum of 5 times), perhaps the company should access the debt markets. The finance director presented to the board two alternative sources of finance to raise the ₦560 million. Equity issue: The ₦560 million would be raised by a 1 for 2 rights issue, priced at a discount on the current market value of GP‟s shares. Debt issue: The ₦560 million would be raised by an issue of 7% coupon bonds, redeemable on 31 December 2029. The yield to maturity (YTM) of the bonds would be equal to the YTM of the bonds of Eko Ventures (EV), another listed company in Gap‟s Plc market sector. Eko Ventures has a similar risk profile to Gap Plc and has recently issued its bonds. Eko Ventures‟ bonds have a coupon of 7%, will be redeemed in four years at par and their current market price is ₦110 per ₦100 nominal value. There were concerns expressed by a number of board members regarding the debt issue since it has been the long-standing policy of the company not to borrow. Their concerns were how Gap‟s Plc shareholders and the stock market would react. The company‟s cost of capital would increase as a result of the borrowing, leading to a fall in the company‟s value. An extract from Gap’s Plc most recent management accounts is shown below: \( \begin{array}{lr} & \text{₦m} \\ \text{Operating profit} & 200 \\ \text{Taxations at 20\%} & \underline{(40)} \\ \text{Profit after tax} & \underline{160} \end{array} \) Additional information: (i.) Gap Plc has an equity beta of 1.1 (ii.) The risk free rate is expected to be 3% p.a. (iii.) The market return is expected to be 8% p.a. (iv.) Gap‟s Plc current share price is ₦5 per share ex-div (v.) Gap Plc has 320 million shares ordinary shares in issue. Required:

You work with a large private company operating in several sectors of the Nigerian economy. The company is currently being prepared for listing on the stock market through introduction. You are part of the committee charged with the responsibility of providing corporate financial and non-financial information required for publicity. You are preparing an initial briefing to other members of the committee. \(Required:\)

Kingston Plc. (KP) is a Nigerian company based in Aba. KP exports finished products to and imports raw materials from a company in Central Africa, with currency of Central Dollar (C$). \( \begin{array}{lrr} \text{KP has the following expected transactions:} & & \\ & \text{C\$} & \\ \text{One month: Expected receipt} & 4,800,000 & \\ \text{One month: Expected payment} & 2,800,000 & \\ \text{Three month: Expected receipts} & 6,000,000 & \\ & & \\ \text{You have collected the following information:} & & \\ & \text{C\$ per ₦ 1} & \\ \text{Spot rate} & 1.7818 - 1.7822 & \\ \text{One month forward rate} & 1.7826 - 1.7832 & \\ \text{Three months forward rate} & 1.7842 - 1.7850 & \\ & & \\ \text{Money market rate for KP:} & & \\ & \text{Deposit} & \text{Borrowing} \\ & \text{%} & \text{%} \\ \text{Nigeria} & 9 & 12 \\ \text{Central Africa} & 13 & 15 \end{array} \) \(\textbf{Required:}\)

Ponk Plc is a market research company. It has seen significant growth in recent years and obtained a stock market listing 5 years ago. Due to current economic and political turmoil in the country, there has been a significant drop in revenue and profit. Ponk Plc is planning a takeover bid for XY, a rival market research company specialising in the telecommunication industry – an industry that has been very resistant to the current economic turbulence in the country. XY has an advanced information technology and information system which was developed in-house and which Ponk Plc would acquire the rights to use. Ponk Plc plans to adopt XY’s information technology and information system following the acquisition and this is expected to be a major contributor to the overall estimated synergistic benefits of the acquisition. These benefits are believed to worth ₦8million (in cash flow) at the end of the first year of acquisition and growing annually at 5%. Ponk Plc has 30 million shares in issue and a current share price of ₦69 before any public announcement of the planned takeover. XY has 5 million shares in issue and a current share price of ₦128.40. It is believed that the WACC of the combined company will be 15% p.a. The directors of Ponk are considering 2 alternative bid offers: Bid offer 1 – Share based bid of 2 Ponk Plc shares for each of XY share. Bid offer 2 – Cash offer of ₦135 per XY share.

Tico Plc is comprised of only four major investment projects, details of which are as follows: \( \begin{array}{rrrrr} \text{Project} & \text{\% of} & \text{Annual \% return} & \text{Risk} & \text{Correlation} \\ & \text{company} & \text{during the last 5} & \text{\% standard} & \text{with the} \\ & \text{market} & \text{years} & \text{deviation} & \text{market} \\ & \text{value} & & & \\ 1 & 28 & 10 & 15 & 0.55 \\ 2 & 17 & 18 & 20 & 0.75 \\ 3 & 31 & 15 & 14 & 0.84 \\ 4 & 24 & 13 & 18 & 0.62 \end{array} \) The risk free rate is expected to be 5% per year, the market return 14% per year, and the standard deviation of market returns 13%.