Question Tag: Earnings

Question:

Alomo Investments and Financial Services (Alomo) is a locally based investment portfolio firm which holds several financial assets across different industries in Ghana. Alomo holds some equity assets in Bediako Metals Ltd (Bediako). Currently, Alomo is preparing its financial statements and would like to know the fair value of its current year-end 20% equity holdings in Bediako based on the latter’s recently available financial data (for the year ended 31 December 2021) provided below:

Additional information:

1. At year-end, the entity had to make a downward revision of decommissioning provision relating to one of its plants as both the expected cash outflows and the current-market rate discount rate were reassessed. Reduction of GH¢40 million (appropriately discounted) has been used to revise the liability and same credited to profit or loss.
2. Bediako holds some 3-year bonds which are measured at fair value through other comprehensive income. Coupon and effective interest rates, which are the same, have been correctly dealt with. The carrying value of these bonds is GH¢92 million, and the bonds are yet to be revised to reflect their year-end fair value. For the purpose of obtaining the appropriate fair value in line with IFRS 13: Fair value measurement, the following information has been obtained:

3. The directors of Bediako Ltd have refused to agree with their external auditors to a reduction in the year-end inventory value for the firm’s main product. As a result, the auditors have issued a qualified opinion on the financial statements. The items in question are being included in current assets at the cost of GH¢200 million. The auditors noted during their subsequent event procedures that 90% of these items had been sold for 95% of their cost.
4. The directors also failed to cooperate with the Finance Director (FD) over how the issued 5-year bonds should be accounted for. The FD’s position is that, though the firm has clear intention to pay all interests and principal on the bonds to the bondholders, such treatment would result in a very huge measurement mismatch. Hence, the fair value option should be taken. Taking that option would have created a fair value gain on the bond by GH¢12 million (including a credit-worthiness element of GH¢5 million).
5. On 30 June 2021, Bediako Ltd made an issue of 30 million new ordinary shares to a venture capital firm to raise GH¢120 million. Later, on 1 November 2021, the entity also made a capitalisation issue on the basis of one new share for every four shares held at that time. Bediako has correctly accounted for these issues in its financial statements. Its total number of ordinary shares outstanding as at 31 December 2021 was 200 million.
6. Ordinary dividends for the current period, when compared to the draft profit attributable to ordinary shareholders, translate into a dividend cover of 5:1. The following details relate to preference dividends paid by Bediako during the current year:

Bediako has correctly accounted for these dividends.

7. A comparable listed firm provides a price/earnings ratio of 12 and dividend yield of 4%. A risk factor of 20% should be assumed.

Required:
Determine a range of values for Alomo’s equity investment in Bediako using the following bases:
i) Net assets basis
ii) Earnings basis
iii) Dividend yield basis