CWA ICWA Final - Stage IV : Valuations Management and Case Study - December 2009

CWA ICWA Final - Stage IV • Valuations Management and Case Study • December 2009

This Paper has 31 answerable questions with 0 answered.

F—20(VMC) Revised Syllabus
Time Allowed : 3 Hours	Full Marks : 100

The figures in the margin on the right side indicate full marks.
Answer Question No. 1 (carrying 20 marks) and any five each carrying 16 marks) from the rest.
Please:	(1) write answers to all the parts of a question together. (2) open a new page for answer to a new question. (3) do not attempt more than the requisite number of questions. (4) tick mark the front page of the answer–book to indicate the questions attempted.
Marks

(a)

State if each of the following statements is T (true) or F (false):

1x10

(i)

The four main value concepts are: owner value, market value, tax value, fair value.

(0)

(ii)

Valuation of a business unit can be done through one or more of the following modes viz., valuation based on

(1)	assets,
(2)	open market,
(3)	earnings,
(4)	super profit.

(0)

(iii)

In the context of an acquisition of a company the most widely used method to determine its price is asset–based valuation.

(0)

(iv)

Valuation experts generally study a company to decide which method of valuation fits best in the circumstances and evaluates the company thereby without recourse to other approaches.

(0)

(v)

The value of a share, after a rights issue, is expected to be

NP₀ +

(N + 1)

Where:	N = number of existing shares required for a rights share.
	P₀ = ex–right market price per share.
	S = subscription price at which the rights shares are issued.

(0)

(vi)

The Alcar Model of value–based management uses value drivers that include

•	the rate of growth of sales.
•	opening profit margin,
•	dividend pay–out ratio.
•	cost of capital.

(0)

(vii)

The benefits of being publicly traded with no significant costs as perceived by private firms are

•	Increased access to financial markets.
•	Increased liquidity.
•	A market price for their stock.
•	A brand name.

(0)

(viii)

A merger may be

•	Horizontal.
•	Vertical.
•	Diagonal.
•	Conglomerate.

(0)

(ix)

Changes in ownership can be noticed in

•	Divestiture.
•	Leveraged buyouts.
•	Going public.
•	Joint venture.

(0)

(x)

Costs that are generally excluded from inventories include

•	Abnormal wastage of material.
•	Administration overheads.
•	Selling and distribution overheads.
•	Overtime premium of after–sales service personnel.

(0)

(b)

Fill in the gap with the appropriate word(s) given in brackets after each statement:

1x5

(i)

According to Walter’s Model, retentions of profits influence the share price only through their effect on further __________ (dividend/growth).

(0)

(ii)

Generally, companies paying dividends at steady rates, as opposed to fluctuating dividends, enjoy __________ popularity which is reflected in their share price (greater/lesser).

(0)

(iii)

Share values go __________ when bonus or rights issues are announced, through it is doubtful whether really these can alter the value (down/up).

(0)

(iv)

The normal probability distribution is an important statistical technique in the hands of analysts for evaluating the __________ a project (return from/riskiness of).

(0)

(v)

The absolute measures of risk in capital budgeting include sensitivity analysis and __________ (standard deviation/coefficient of variation)

(0)

(c)

Dhantaras Jewellers Ltd. announces that its sales and earnings in the fourth quarter of last year were 50% higher than sales and earnings in the third quarter of last year. It is expected that this announcement would cause the company’s stock price to increase.

(A)	Yes?
(B)	No?

Give reasons for your answer.

(0)

(d)

Examine the following independent sources of risk and indicate whether you would consider each of them as part of an investment analysis if you were a large publicly traded clothing retail firm. If considered as common, is being a part of an investment analysis, suggest a way of diversifying the risk.

(i)	The project analyst might have overestimated the revenues on the store.

(ii)	There might be a natural disaster (cyclone or flood) in the area where the project is located, resulting in major losses.

(iii)

A national sales tax that would reduce sales might be passed by lawmakers.

1x3

(0)

Below are the excerpts taken from the annual Report: 2008–2009 of Britannia Industries Limited:

Ten Years Financial Statistics 2000–2009
Rs.Million
As at/Year ended 31^st March	2000	2001	2002	2003	2004	2005	2006	2007	2008	2009
Assets employed Fixed Assets less Depreciation &Amortisation Investments Net current assets Miscellaneous expenditure	1,306 1,470 65 122	1,588 2,156 257 163	1,632 3,104 592 217	1,481 2,969 747 260	1,283 2,913 43 463	1,338 3,301 (485) 342	1,516 3,599 309 161	2,144 3,200 596 256	2,507 3,808 2,072 232	2,839 4,231 1,161 266
	2,963	4,164	5,545	5,457	4,702	4,496	5,585	6,196	8,619	8,497
Financed by Equity shares Reserves & surplus Loan funds	279 1,586 1,098	279 2,123 1,762	269 3,430 1,846	259 3,653 1,545	251 4,059 392	239 4,196 61	239 5,252 94	239 5,909 48	239 7,319 1,061	239 8,006 252
	2,963	4,164	5,545	5,457	4,702	4,496	5,585	6,196	8,619	8,497
Profits and appropriations
Sales Profit before Depreciation, Amortisation and Tax Depreciation and Amortisation Profit before tax and exceptional items Exceptional items Profit before tax Taxation Profit after tax^∗ Dividend Tax on dividend Debenture Redemption Reserve Retained earnings	11,698 962 172 790 (19) 771 261 510 125 14 — 371	13,325 1,369 189 1,180 (41) 1,139 434 705 153 16 47 489	14,510 1,630 240 1,390 1,201 2,591 559 2,032 201 — 14 1,817	13,491 1,722 261 1,461 12 1,473 482 991 251 32 18 690	14,705 2,251 224 2,027 (183) 1,844 656 1,188 272 35 — 881	16,154 2,645 190 2,455 (252) 2,203 715 1,488 334 47 — 1,107	18,179 2,218 217 2,001 6 2,007 543 1,464 358 50 — 1,056	23,171 1,514 253 1,261 (77) 1,184 108 1,076 358 61 — 657	26,170 2,536 291 2,245 78 2,323 413 1,910 430 73 — 1,407	31,429 2,866 335 2,531 (206) 2,325 521 1,804 956 162 — 686

^∗Includes impact on account of transfer of dairy business of Rs. 1,257 M in 2002.
Britannia has an excellent track record of rewarding its shareholders. The company has an uninterrupted record of distributing dividends for several decades. The dividends declared over the last 10 years are as under:

Year	Dividend Percentage
1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009	40 40 50 55 45 55 75 100 110 140 150 150 180 400

Using the above data, you are required to calculate the following:

(a)	Find the EPS for the period ending on March 31, year 2008 and March 31, year 2009. The face value of the share is Rs. 10.

(b)	Using the price of Rs. 1,525 determine the ratio between the market price and the book value as on March 31, 2009.

(c)	Calculate the P/E ratio using the price of Rs.1,525 and the EPS calculated for the year ending on March 31, 2009.

(d)	Assuming that the intrinsic value of the Britannia share can be fairly estimated through the Constant Growth Model, you are required to determine the value of share. Assume the cost of equity as 18%.

4+3
+3+6

(0)

The following information has been extracted from the Annual Report 2008–09 of Infosys Technologies Limited.

Infosys Technologies Limited Balance Sheet as on March 31, ………
(Rs. In crores)
SOURCES OF FUNDS Shareholders’ Funds	2008 Rs.	2009 Rs.
Share Capital Reserves and Surplus	286.00 13,204.00 13,490.00	286.00 17,523.00 17,809.00
Loan Funds Secured Loans
Total	13,490,00	17,809.00
APPLICATIONS OF FUNDS Fixed Assets Original cost Less: Depreciation and Amortization Net Block Capital work–in–Progress and Advances	4,508.00 1,837.00 2,671.00 1,260.00	5,986.00 2,187.00 3,799.00 615.00
Investments Deferred Tax Assets Current Assets, Loans and Advances	3,931.00 964.00 99.00	4,414.00 1,005.00 102.00
Sundry Debtors Cash and Bank Balances Loans and Advances	3,093.00 6,429.00 2,705.00	3,390.00 9,039.00 3,164.00
Current Liabilities Liabilities Provisions	12,227.00 1,334.00 2,397.00	15,593.00 1,507.00 1,798.00
Net Current Assets	3,731.00 8,496.00	3,305.00 12,288.00
Total	13,490.00	17,809.00
Infosys Technologies Limited Profit and Loss Account for the year ending on March 31, ………
(Rs. in crores)
	2008 Rs.	2009 Rs.
INCOME Software Services and Products	15,648.00	20,264.00
Total	15,648.00	20,264.00
Expenditure Software Development Expenses	8,876.00	11,145.00
GROSS PROFIT	6,772.00	9,119.00
Selling and Marketing Expenses General and Administrative Expenses	730.00 1,079.00	933.00 1,280.00
Profit before Depreciation, Interest and Taxes Depreciation	4,963.00 546.00	6,906.00 694.00
Profit Before Interest and Taxes Interest	4,417.00 —	6,212.00 —
Profit after Interest and Depreciation Other Income Provision for Investments	4,417.00 683.00 —	6,212.00 502.00 —
PROFIT BEFORE TAX	5,100.00	6,714.00
Provision for Taxes	630.00	895.00
NET PROFIT AFTER TAX	4,470.00	5,819.00

Other Information from the Annual Report 2008–09 of Infosys Technologies Limited:

∗	Return on Risk Free Investment 7%
∗	Market Risk Premium 7%.
∗	Beta Variant 0.74.

Required:

(a)	From the above set of information, you are required to calculate Economic Value Added by Infosys during 2008–09.

(b)	"There may be cases where Cash Flow Return on Investment increases while reducing Firm Value". Discuss this statement, giving two examples.

12+4

(0)

(a)

You are avid investor in fixed income securities. Your portfolio of bond does not have bonds from AAA rated companies. You are considering purchase of an AAA rated bond. Two such bonds from AAA rated companies, bond A and bond B are available in the market that have following features:

	Bond A	Bond B
Face value Coupon rate Periodicity of coupon Time remaining for maturity Current market price	Rs. 100 15.00% Semi–annual 3 years Rs. 110	Rs. 120 12.00% Semi–annual 4 years Rs. 130

Your expectation of return from the investment in AAA rated bonds is 10% which is slightly above the yields in the government securities.
Which of the bond should you buy and why? Assume that you are indifferent to the investment horizon of 3 or 4 years.
[Note: An extract from Present Value Table will be found at end of this paper]

(0)

(b)

Hungry Limited is considering merger with Food Limited. Necessary information about both the companies and merger are given below:

Particulars	Hungry Ltd.	Food Ltd.
Share Capital (Face Value Rs. 10 per share) : Rs. in crore Profit after tax : Rs. in crore P/E Ratio : Times	40.00 8.00 12.50	20.00 2.00 10.00

Given the above information, calculate the share exchange ratio so that pre– and post–merger EPS of Hungry Limited is same. Also, find the market price if post–merger P/E Ratio of Hungry Limited will be 11.50.

(0)

(a)

Discuss the different methods of Brand Valuation.

(0)

(b)

A share, Y, currently sells for Rs. 80. It is expected that in one year it will either rise to Rs. 88 or decline to Rs. 72. Find the value of a European Call, if the strike price of the underlying share is Rs. 75 and the risk–free interest rate is 9% p.a.

(0)

Daily Needs Limited which is the business of packaged foods has been an all equity–financed firm. Its current level of earnings is Rs. 20 crores. The shareholders expect a 14% return from the firm and the shares of the company are accordingly priced in the market. It has been offered a debt of Rs. 50 crore at 6% by the financial institutions. Daily Needs Ltd., not in need of finances, have been advised to retire equity to the extent of availability of debt in order to increase the value of the firm.
You are required to:

(a)	Find out the total value of the firm, value of equity, cost of equity and WACC if there are no taxes. Can debt help?

(b)	Calculate the same parameters with a tax rate of 30% (inclusive of Surcharge and Education Cess).

8+8

(0)

You have been asked to analyze the capital structure of Refuse Treatment Limited (RTL.), an environmental waste disposal firm, and to make recommendation on a future course of action. RTL. has 40 lakh shares outstanding, selling at Rs. 20 per share, and a debt/equity ratio (in market value terms) of 0.25. The beta of the stock is 1.15, with interest rate of 10% to correspond to AA rating. The firm’s income statement is as follows:

	Rs. lakh
EBIT Interest Expenses Taxable Income Taxes @ 40% Net Income	150 20 130 52 78

The current Treasury Bond rate is 8% and Market Risk Premium is 5.5%.

(a)	What is the firm’s current weighted average cost of capital?

(b)	The firm is proposing borrowing an additional Rs. 200 lakh in debt and repurchasing stock. If it does so, its rating will decline to A, with a market interest rate of 11%. What will the weighted average cost of capital be if it makes the move?

(c)	What will the new stock price be if the firm borrows Rs. 200 lakh and repurchases stock (assuming rational investors)?

(d)

The Internal Auditor of the firm has another option to raise the firm’s debt/equity ratio (instead of borrowing money and repurchasing stock). It has considerable capital expenditures planned for the next year (Rs. 150 lakh). The company currently pays Re. 1 in dividends per share. If the company finances all its capital expenditures with debt and doubles its dividend yield from the current level for the next year, what would you expect the debt/equity ratio to be at the end of the next year?

4+4
+4+4

(0)

Briefly discuss the financial aspect of the following (any four):

4x4

(a)

Valuation of orchards.

(0)

(b)

Valuation of farm houses.

(0)

(c)

Factors to be considered for acquisition of a target firm.

(0)

(d)

Income bond vs. Preferred stock as a source of fund.

(0)

(e)

Means of plugging profit erosion of airlines without reducing staff strength.

(0)

(f)

Hidden value of Intellectual capital.

(0)

[Extract from Present Value Table
Year	Discount factor 5%	Discount factor 10%
1 2 3 4 5 6 7 8	.952 .907 .864 .823 .784 .746 .711 .677	.909 .826 .751 .683 .621 .564 .513 .467]

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