Question Tag: Shareholder Analysis

Raymond Plc. is a successful IT services company incorporated 10 years ago. It was listed on the Stock Exchange 3 years ago. The company has a broad customer base mainly consisting of small and medium-sized companies. Raymond Plc. has achieved rapid growth in recent years by obtaining regular business from satisfied customers and also by acquiring other IT services companies.

The Directors of Raymond Plc. have identified Harold Limited, an unlisted company, as a possible acquisition target. Harold Limited has a number of large multinational clients, and, in general, its clients tend to be larger than those of Raymond Plc. If successful, the acquisition would go ahead on January 1, 2018.

Forecast financial data for Raymond Plc. and Harold Limited as of December 31, 2017, are summarized below:

N/A: Not applicable (not listed).

Additional information:

1. If Harold Limited were to remain an independent company, its Directors estimate that reported Profit After Tax would be ₦15 million for 2018 and then grow by 2% yearly in perpetuity;
2. If the acquisition were to go ahead, Raymond Plc.’s Directors estimate that Harold Limited’s profit after tax would be 5% higher for 2018 than if the company remains an independent company, and that profit after tax would then grow by 3% yearly in perpetuity;
3. The average ungeared Cost of Equity for the industry is 8%;
4. Both Raymond Plc. and Harold Limited are wholly equity financed; and
5. Profit after tax can be assumed to be a good approximation of free cash flow attributable to investors.

The Directors of Raymond Plc. are considering offering to purchase Harold Limited at a price of ₦7.00 per share. It is estimated that transaction costs of ₦8 million would be payable on the acquisition and that ₦2 million would be required in the first year to cover the costs of integrating the two companies.

Required:

• (a) Calculate:
  • i. The value of Raymond Plc. as at December 31, 2017.
  • ii. The value of Harold Limited as at December 31, 2017 before taking the possible acquisition of the company by Raymond Plc. into account.
  • iii. The overall increase in value created by the acquisition of Harold Limited by Raymond Plc. (8 Marks)
• (b)
  • i. Explain how value might be created by the proposed acquisition. (2 Marks)
  • ii. Comment on the difficulties which Raymond Plc. is likely to face in realizing the potential added-value, after the acquisition. (2 Marks)
• (c) Evaluate the proposed offer price of ₦7.00 per share for Harold Limited from the point of view of:
  • i. Harold Limited’s shareholders.
  • ii. Raymond Plc.’s shareholders. (8 Marks)

(Total 20 Marks)