- 20 Marks
FM – DEC 2023 – L2 – Q2 – Business valuations | Mergers and acquisitions
Business valuation techniques applied to a 70% acquisition using P/E ratio, balance sheet valuation, and discounted cash flow.
Question
a) Panpana Ltd is in advanced negotiation with shareholders of Zanu Ltd to acquire 70% shares in that company. The following financial information is provided for Zanu Ltd:
- Number of ordinary shares = 20 million
- Net assets per share = GH¢8
- Earning per share = GH¢15
- Price Earnings ratio (P/E) = 10
The Finance Director who performed a due diligence review recommended the following:
- Fixed assets included in the net assets were overstated by GH¢6 million
- A key customer who owes GH¢4 million has gone bankrupt and debt considered irrecoverable
- A provision of GH¢10 million is made for a tax liability
- Panpana Ltd cost of capital is 16% and risk premium of 4% is added in the valuation of Zanu Ltd to take care of additional operational risk.
- The Finance manager provided a statement showing projected cash inflows for the next 5 years as follows:
| Year | Cash flow (GH¢ million) |
|---|---|
| 1 | 125 |
| 2 | 60 |
| 3 | 150 |
| 4 | 200 |
| 5 | 110 |
Required:
Advise shareholders of Panpana Ltd on how much to pay for 70% of the shares of Zanu Ltd using the following valuation methods:
i) Price Earning (P/E) ratio. (4 marks)
ii) Balance sheet valuation basis. (5 marks)
iii) Cash flow valuation. (5 marks)
b) Explain THREE (3) reasons business valuation is undertaken in the corporate environment. (6 marks)
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