You are employed by Bolade Plc (BP), a very large printing firm with retail outlets across Nigeria. Its board is considering making an offer to buy 100% of the shares of Kenny Ltd (KL), a competitor of Bolade in Aba. KL’s financial year-end is 28 February, and its most recent financial statements are summarised below:
KL Income Statement for the Year Ended 28 February 2023
| Item |
₦m |
| Revenue |
17.3 |
| Profit before interest and tax |
5.9 |
| Interest |
(0.3) |
| Profit before taxation |
5.6 |
| Tax at 21% |
(1.2) |
| Profit after taxation |
4.4 |
| Dividends declared |
1.1 |
KL Statement of Financial Position at 28 February 2023
| Item |
₦m |
| Non-current assets: |
|
| Freehold land and buildings (original cost ₦4.1m) |
3.5 |
| Machinery (original cost ₦8.8m) |
5.3 |
| Total Non-current assets |
8.8 |
| Current assets: |
|
| Inventories |
3.0 |
| Receivables |
0.5 |
| Cash and bank |
2.8 |
| Total Current assets |
6.3 |
| Current liabilities: |
|
| Trade payables |
3.5 |
| Dividends |
1.1 |
| Taxation |
1.2 |
| Total Current liabilities |
(5.8) |
| Net Current assets |
0.5 |
| Net assets |
9.3 |
| Non-current liabilities: |
|
| 10% bonds (redeemable 2031) |
(3.0) |
| Net assets after non-current liabilities |
6.3 |
| Equity: |
|
| Ordinary shares of ₦1 each |
2.1 |
| Retained earnings |
4.2 |
| Total equity |
6.3 |
Additional Information:
KL’s management had some of the company’s assets independently revalued in January 2023. Those values are shown below:
| Asset |
₦m |
| Freehold land and building |
8.3 |
| Machinery |
4.1 |
| Inventories |
3.1 |
The average price/earnings ratio for listed businesses in the printing industry is 9, and the average dividend yield is 6% p.a.
The cost of equity of businesses in the printing industry, taking account of the industry average level of capital gearing, is 14% p.a.
KL’s finance department has estimated that the company’s pre-tax net cash inflows (after interest) for the next four trading years ending 28 February, before taking account of capital allowances, will be:
| Year to |
₦m |
| 2024 |
4.6 |
| 2025 |
4.3 |
| 2026 |
5.2 |
| 2027 |
5.7 |
KL’s existing equipment has a tax written-down value of ₦3.6 million at 28 February 2023. The equipment attracts 18% (reducing balance) tax allowances in every year of ownership by the company, except the final year.
You should assume that KL will not be purchasing or disposing of any machinery in the years 2024-2027 and that it would dispose of the existing equipment on 28 February 2027 at its tax written-down value.
Bolade’s board estimates that in four years’ time, i.e., 28 February 2027, it could, if necessary, dispose of KL for an amount equal to four times its after-tax cash flow (ignoring the effects of capital allowances and the disposal value of the equipment) for the year to 28 February 2027.
Assume that the company income tax rate is 21% p.a.
Required:
Using the information provided, prepare a report for Bolade’s board by:
a. Calculating the value of one share in KL based on each of the following methods:
- i. Net asset basis (historic cost)
- ii. Net asset basis (revalued)
- iii. Price/earnings ratio
- iv. Dividend yield
- v. Present value of future cash flows
(16 Marks)
b. Explain the advantages and disadvantages of using each of the five valuation methods in (a).
(8 Marks)
c. What are the possible benefits from the merger between Bolade Plc (BP) and Kenny Limited (KL).
(6 Marks)
(Total: 30 Marks)
