CWA/ICWA Final :: Valuation Management and Case Study : June 2004

*F-20(VMC)* *Revised Syllabus*
Time Allowed : 3 Hours		Full Marks : 100
Answer Question No. 1 which is compulsory carrying 20 marks and any five from the rest.
Marks

(a)

State whether the following statements are true or false:

(i)	Super profits are calculated on the difference between maintainable future profits and the return on net assets.
(ii)	Estimating replacement cost is essentially a make or sell decision.
(iii)	For Private Limited Companies which are not quoted and closely held a premium is applied for valuation to the prevalent P/E ratio of comparable listed companies.
(iv)	For calculating fair value of a share of a listed company a reliable estimate of future earnings is not necessary.
(v)	The current index future price must be equal to the index value plus the difference between the risk-free interest and dividends obtainable over the life of the contract.
(vi)	When the return on equity is higher than the cost of the equity, he higher a firm’s growth rate, the higher is the market value to book value ratio.

1x6=6

(b)

Fill in the blanks:

(i)	When the projected economic income flows are non-constant _______- method of valuation is used. (direct capitalization/ yield capitalization/ sales transaction)
(ii)	The dividend discount model is a specific case of _______ valuation (bond/equity)
(iii)	A present value of negative cash flows will yield a _______ value for equity of the firm. (positive/ negative)
(iv)	It is easier to determine the value of _______ assets. (tangible/ intangible)
(v)	The difference between maintainable future profits and the return on net assets is termed as _______ (earning per share/ normal profit/ super profit)
(vi)	The increase in value that accrues to a combined firm either from economies of scale or increase sales or profits is known as _______- synergy. (financial/operating)
(vii)	The difference between the firm’s after tax return on capital and its cost of capital is known as _______. (economic value added/ market value added).

1x7=7

(c)

Value creation from existing assets is possible if one could –

(i)	Increase the cash flows generated by existing investments. Yes/No
(ii)	Augment the growth rate in earnings. Yes/No
(iii)	Increasing the discounting rate of future cash flows. Yes/No
(iv)	Enhance the length of the high growth period of the life cycle of the product. Yes/No

1x4=4

(d)

Essential for an income approach analysis to evaluate intangible assets are:

(i)	An appropriate measure of economic income. Yes/No
(ii)	Estimation of the appropriate projection period. Yes/No
(iii)	Service of an experienced analyst.Yes/No

1x3=3

(a)

What are the limitations of Economic Value Added?

(b)

A company in operation for five years has tangible assets worth Rs.20,00,000. Maintainable future profits are estimated at Rs.4,00,000. The nominal rate of return expected for the company is 15%. It desires to capitalize super profits at 20%. Determine the value of the company.

(c)

Differentiate between operating and financial synergy.

X and Y are two fast growing companies in the engineering industry. They are close competitors and their composition, capital structure and profitability records have been very similar for several years. The primary difference between the companies from a financial management perspective is their dividend policy. Company X tries to maintain a non-decreasing dividend per share while company Y maintains a constant dividend payment ratio. Their recent earnings per share (EPS), dividend per share (DPS) and share price (P) history are as follows:

	Company X (in Rs.)			Company X (in Rs.)
Year	EPS	DPS	P (Ranges)	EPS	DPS	P (Ranges)
1 2 3 4 5 6 7	9.30 7.40 10.50 12.75 20.00 16.00 19.00	2.00 2.00 2.00 2.25 2.50 2.50 2.50	75-90 55-80 70-110 85-135 135-200 150-190 155-210	9.50 7.00 10.50 12.25 20.25 17.00 20.00	1.90 1.40 2.10 2.45 4.05 3.40 4.00	60-80 25-65 35-80 80-120 110-225 140-180 130-190

The Management of Company “Y” is puzzled as to why their share prices are lower than those of Company x in spite of the fact that profitability record of the company “Y” is slightly better (particularly of past three years).
As a financial consultant, how would you explain the situation?

Please turn over

( 2 )

F-20(VMC)
Revised syllabus

Marks

(a)

The price of a company’s share is Rs.80 and the value of growth opportunities is Rs.20. if the company’s capitalization rate is 15 percent, what is the earnings price ratio? How much is earning per share?

(b)

A company’s current price of share is Rs.60 and dividend per share is Rs.4. if its capitalization rate is 12 percent, what is the dividend growth rate?

(c)

How is Intellectual Capital Valued?

(d)

What is the methodology of Brand Valuation?

(a)

What are the motives and strategies influencing merges and acquisitions?

(b)

What are the salient features of the Accounting Standard (AS) 13 applicable to corporate regarding valuation of investments?

The chairman of Rose Ltd. at a board meeting proposed the acquisition of Beauty Ltd.
He stated:

As a result of this take over we will diversify our operations and our earnings per share will rise by 13 percent, bringing great benefits to out shareholders.
No bid has yet been on a share-for-share exchange, which would be one Rose share for every six Beauty shares. Financial data for the two companies include:

	Rose Rs. Crore	Beauty Rs. Crore
Turnover Profit before Tax Profit available to equity holders Dividend Retained earnings Issued ordinary shares (crore) Market price per share (Rs)	5.60 1.20 0.78 0.32 0.46 4 3.0\20	4.20 1.00 0.65 0.34 0.31 15 0.45

Required:—

(a)

Explain whether you agree with the chairman of Rose when he says that the take over would bring great benefits to out shareholders.
Support your explanation with relevant calculations. State clearly any assumptions that you make.

(b)

On the basis of information provided, calculate the likely post-acquisition share price of Rose if the bid is successful.

On March 9,2004, Ferguson Systems was trading at Rs.13.62.

12+4

(a)

To value a July 2004 call option with a strike price of Rs.15, trading on he Board Options Exchange on the same day for Rs.2. The following are the other parameters of the options:

–	The annualized standard deviation in Ferguson Systems stoc price over he previous year was 81%.
–	The option expiration date is Friday, July 23,2004. there are 103 days to expiration (year = 365 days), and the annualized Treasury Bill rate corresponding to this option life is 4.63%
–	The value using the normal distribution of N(d₁) = 0.5085 and n(d₂) = 0.3412.

(b)

Comment on the trading value as at 23rd July, 2004.

A strategic approach to takeover would imply that acquisitions are only made after a full analysis of the underlying strengths of the acquirer company and identifications of candidates strategic fit with existing activities. Below are given (A) Possible strategic reasons for a take over and (B) Suggested ways of achieving the aim:

2x8=16

List A (where you are)		List B (How to get to where you want to be )
1.	Growing steadily but in a mature market with limited growth prospects	(a)	Acquire a company making similar products operating substantially below capacity.
2.	Marketing an incomplete product range, or having the potentials to sell other products or services to your existing customers	(b)	Acquire company into which your talents can extend
3.	Operating at maximum productive capacity	(c)	Acquire a suitable company which will enhance earnings per share.
4.	Under utilizing management resources	(d)	Acquire a company with the right customer profile.
5.	Lacking key clients in a targeted sector	(e)	Acquire a company with a complementary product range.
6.	Preparing for floatation but needing to improve your balance sheet	(f)	Acquires a company with the key talents and / or technology.
7.	Needing to increase market share	(g)	Acquire a company in a younger market with a higher growth rate
8.	Needing to widen your capability.	(h)	Acquire an important competitor.

Required:
Match the numbered items A (1, 2, 3 ……) with the lettered items in B (a, b, c, ...)

__________