i) Operating leverage
Refers to the ratio of contribution (sales less variable costs) to profit before interest and tax.
Measured using a degree of operating leverage. It shows the sensitivity of forms operating
income to changes in sales.
ii) Financial leverage
Refers to the ratio of profit before interest and tax (PBIT) to profit after tax. It is also the ratio
of total debt to total assets. It is the degree to which an investor is utilizing borrowed money.
Also known as financial gearing measured using degree of financial gearing. Shows the
sensitivity of the firms earning per share to changes in operating income.
Kavungya answered the question on April 11, 2022 at 10:11
- Differentiate between “Running yield and “flat yield”.(Solved)
Differentiate between “Running yield and “flat yield”.
Date posted: April 5, 2022. Answers (1)
- The following data is available for Firm A
Required:
i. Overall break – even point in units.
ii. Degree of operating leverage.
iii. Degree of financial leverage.
iv. Degree of...(Solved)
The following data is available for Firm A
Required:
i. Overall break – even point in units.
ii. Degree of operating leverage.
iii. Degree of financial leverage.
iv. Degree of total leverage.
Date posted: April 5, 2022. Answers (1)
- The following data show the capital structure of Samma Ltd.
The company’s current dividend yield is 5% while the tax rate is 30%.
Required:
The weighted marginal cost...(Solved)
The following data show the capital structure of Samma Ltd.
The management of Samma Ltd. intends to invest in a project estimated to cost sh.16, 800,000.
The cost of the project will be raised as follows:
• Issue 10% 100 debentures at the current price of sh. 5,000.
• Issue 10% sh. 20 preference shares at the market price of sh. 25.
• Issue ordinary shares at the current market price of sh. 45 with floatation cost of 12%.
• Utilise 60% shares at the current market price of sh. 45. with floatation cost of 12%
The company’s current dividend yield is 5% while the tax rate is 30%.
Required:
The weighted marginal cost of capital.
Date posted: April 5, 2022. Answers (1)
- The capital structure of Savy Ltd. is as follows:
Required:
i) The company's growth in equity.
ii) The company's weighted average cost of capital (WACC).(Solved)
The capital structure of Savy Ltd. is as follows:
Additional information:
1. Ordinary shares are currently quoted at Sh. 14 on the securities exchange.
2. Ordinary shares have a dividend cover of 3 times and an earnings per share (EPS) of Sh.6.
3. The 18% debentures were issued in 2006 at a price of Sh.l 00. They are due for redemption in
2014 at sh. 120
4. The company incurred Sh. 400,000 in floatation costs when raising the loan.
5. The company's tax rate is 30%.
Required:
i) The company's growth in equity.
ii) The company's weighted average cost of capital (WACC).
Date posted: April 5, 2022. Answers (1)
- Digital Ltd. projects to raise Sh.50 million for construction of a new plant. After due consideration, the financial manager proposed the following three financial plans.
1....(Solved)
Digital Ltd. projects to raise Sh.50 million for construction of a new plant. After due consideration, the financial manager proposed the following three financial plans.
1. Issue of 5,000,000 ordinary shares at Sh. 10 each.
2. Issue of 2,500,000 ordinary shares at Sh.10 each and 250,000 debentures of Sh.100 each bearing 8% rate of interest per annum.
3. Issue of 2,500,000 ordinary shares at Sh. 10 each and 250,000 preference shares at Sh. 100 each bearing 8% rate of interest per annum.
The company's tax rate is 30%.
Required:
i) Earnings per share (EPS) when the company earnings before interest and tax are Sh. l million, Sh.2 million,Sh.4 million, Sh.6 million and Sh.10 million, under each of the three financial plans.
ii) Advise the management of Digital Ltd. on the best financial plan in (b) (i) above.
Date posted: April 5, 2022. Answers (1)
- The following is the capital structure of Ngana Ltd:
Required:
Using market values, calculate the weighted average cost of capital (WACC) of Ngana Ltd(Solved)
The following is the capital structure of Ngana Ltd:
Additional information:
1. The shareholders of Ngana Ltd. expect earnings and dividends to grow at a constant rate of 5% in
the future. The company has just paid a dividend of Sh4.00 per share.
2. The current market price of one ordinary share of Ngana Ltd. is Sh.80.
3. Treasury bonds yield 12%. The return on the market is 14%. The company's beta is 1.50.
4. New preference shares can be sold at Sh. 120 per share with a dividend of Sh. 12 per share; and
floatation costs of Sh.6 per share.
5. The corporation tax rate is 30%.
6. The company pays out all its earnings as dividends.
7. The company will sell 12% debentures with a maturity of 10 years at Sh.90 per debenture. The
par value of the debenture is Sh.100.
Required:
Using market values, calculate the weighted average cost of capital (WACC) of Ngana Ltd
Date posted: April 5, 2022. Answers (1)
- Nice Ltd. is considering raising capital from an issue of ordinary shares and debentures in a mix that will maintain its gearing ratio constant.
The company...(Solved)
Nice Ltd. is considering raising capital from an issue of ordinary shares and debentures in a mix that will maintain its gearing ratio constant.
The company has an issued share capital of ten million ordinary shares of Sh. 100 par value. It has also issued Sh.800 million of 8% debentures.
The current market value of the ordinary shares is Sh.476 and that of each debenture (Sh.100 par) is Sh.77. Dividends and interest are payable annually. An ordinary dividend has just been paid. The next instalment of interest is payable in the near future. Debentures are redeemable at par in 15 years’ time.
An extract from the most recent statement of financial position is as follows
Required:
Nice Ltd’s weighted average cost of capital (WACC).
Date posted: April 5, 2022. Answers (1)
- Hisa Limited has 1 million ordinary shares outstanding at the current market price of Sh.50 per
Share. The company requires Sh. 8 million to finance a...(Solved)
Hisa Limited has 1 million ordinary shares outstanding at the current market price of Sh.50 per Share. The company requires Sh. 8 million to finance a proposed expansion project. The board of directors has decided to make a one for five rights issue at a subscription price of Sh. 40 per share.
The expansion project is expected to increase the firm’s annual cash inflow by Sh. 945,000.
Information on this project will be released to the market together with the announcement of the rights issue.
The company paid a dividend of Sh. 4.5 in the previous financial year. The dividend, together with the company’s earnings is expected to grow by 5% annually after investing in the expansion project
Required:
i) Compute the price of the shares after the commencement of the rights issue but before they start selling ex-rights
ii) Compute the theoretical ex-rights price of the shares.
iii) Compute the theoretical value of the rights when the shares are selling rights on.
iv) What would be the cum-rights price per share if the new funds are used to redeem a Sh. 8 million 10% debenture at par? (Assume a corporation tax rate of 30%)
Date posted: April 5, 2022. Answers (1)
- An investor received a dividend of Sh.1.50 in the current financial year on each of his ordinary shares. The par value per share is Sh.20....(Solved)
An investor received a dividend of Sh.1.50 in the current financial year on each of his ordinary shares. The par value per share is Sh.20. The annual growth rate in dividends is 8%. The current market price per share is Sh1.50 while the investor’s required rate of return is 20%.
Calculate the intrinsic value of each ordinary share.
Date posted: April 5, 2022. Answers (1)
- Define the term “intrinsic value” with reference to the valuation of ordinary and preference shares.(Solved)
Define the term “intrinsic value” with reference to the valuation of ordinary and preference shares.
Date posted: April 5, 2022. Answers (1)
- D. Magana’s investment portfolio comprises 490 shares in ABC Ltd. and sh. 20,000 deposited in a savings account. ABC Ltd. has declared a rights issue...(Solved)
D. Magana’s investment portfolio comprises 490 shares in ABC Ltd. and sh. 20,000 deposited in a savings account. ABC Ltd. has declared a rights issue of one share for every five shares held at an issue of sh. 20 per share. The current market price per share of ABC Ltd. is sh. 35.
D. Magana would obtain the funds required to exercise the rights issue from the savings account. Similarly, proceeds from the sale of rights issue would be credited to the savings account.
Required:
i) The value of each right
ii) Analyze the effect of the rights issue on the value of D. Magana investment portfolio and hence advise him on whether to exercise, sell or ignore the rights issue. Ignore interest on the savings account.
Date posted: April 5, 2022. Answers (1)
- Mauzo Ltd. intends to declare a rights issue of one ordinary share for every five ordinary shares held as at 31 December 2007.(Solved)
Mauzo Ltd. intends to declare a rights issue of one ordinary share for every five ordinary shares held as at 31 December 2007.
The current market price per share is sh. 16 but subscribers for the rights issue will be offered a 15%
discount. The balance sheet of the company as at 31 December 2007 was as follows:
Required:
a)
i) The theoretical ex- rights price per share.
ii) The value of rights per existing share.
b)
i) List three alternative actions available to the shareholders as regards to the rights issue.
ii) Determine the effect of each of the alternative actions listed in (b) (i) above on the wealth an
investor holding 1,000 shares in the company and hence advise the investor on the best course
of action.
Date posted: April 5, 2022. Answers (1)
- Kawaida Ltd. is currently engaged in an expansion programme. Consequently, the company has been retaining all its earnings to finance the expansion programme. The company’s...(Solved)
Kawaida Ltd. is currently engaged in an expansion programme. Consequently, the company has been retaining all its earnings to finance the expansion programme. The company’s management expects to resume the payment of dividends at the end of 3 years with a dividend payment of sh. 1 per share. The dividends will grow at an annual rate of 50% in years 4 and 5. Thereafter, the dividends will grow at a constant rate of 8% indefinitely. The required rate of return on the company’s stock is 15%.
Required:
The current value of the company’s stock.
Date posted: March 30, 2022. Answers (1)
- Ushindi Ltd. has recently issued a sh. 1,000, 9 percent convertible bond. The bond can be converted into 9 ordinary shares at the end of...(Solved)
Ushindi Ltd. has recently issued a sh. 1,000, 9 percent convertible bond. The bond can be converted into 9 ordinary shares at the end of the five years. The current market price of the shares of Ushindi Ltd. is sh. 25 per share. The price is expected to grow at a rate of 10 per cent per annum. The investors’ required rate of return is 12%.
Required:
The current value of the bond.
Date posted: March 30, 2022. Answers (1)
- Mhusika Ltd. is an all equity financed company with a market capitalization of Sh720,000,000.(Solved)
Mhusika Ltd. is an all equity financed company with a market capitalization of Sh720,000,000.
The company intends to raise Sh.120, 000,000 through a rights issue to finance a new project. The current market price per share of the company prior to announcement of the rights issue is Sh 30. The proposed offer price is Sh.25.
The new project is expected to generate cash flows of Sh.16, 800,000 per annum to perpetuity. For the year just ended, the company paid a dividend per share of Sh. 2.83. The project’s cash flows and dividends per share have an equal growth rate of 6% per annum.
Required;
(i) Outline three advantages to a company of raising capital through a right issue
(ii) The cum-right market price per share on announcement of the rights issue but just before the issue is made.
(iii) The theoretical ex-right market price share and the value of each right.
Date posted: March 30, 2022. Answers (1)
- Pentagon Ltd. issued a 10 year bond two years ago. The bond has a coupon rate of 13% per annum payable semi- annually. Upon maturity,...(Solved)
Pentagon Ltd. issued a 10 year bond two years ago. The bond has a coupon rate of 13% per annum payable semi- annually. Upon maturity, it will be redeemed at sh. 102 for every Sh. 100 par.
Required:
The highest amount you can pay to acquire the bond today if the required rate of return is 14%.
Date posted: March 30, 2022. Answers (1)
- Ufanisi Ltd. is experiencing a period of rapid growth. Earnings and dividends are expected to grow at the rate of 5% per annum during the...(Solved)
Ufanisi Ltd. is experiencing a period of rapid growth. Earnings and dividends are expected to grow at the rate of 5% per annum during the next two years, 13% in the third year and at a constant rate of 6% per annum thereafter. The last dividend paid by the company was sh. 11.50. The company’s required rate of return is 12%.
Required:
i) The value of the equity shares of the company today.
ii) The dividend yield and capital gains yield and total return for year 1 and year 2.
Date posted: March 30, 2022. Answers (1)
- The 10% convertible loan stock of Nalyaka Ltd. is quoted at Sh.142 per Sh.100 par value. The earliest date of conversion is in 4 years’...(Solved)
The 10% convertible loan stock of Nalyaka Ltd. is quoted at Sh.142 per Sh.100 par value. The earliest date of conversion is in 4 years’ time, at the rate of 30 ordinary shares per Sh.100 nominal loan stock. The share price is currently Sh.4.15. Annual interest on the stock has just been paid.
Required:
(i) The average annual growth rate in the share price that is required for the stockholders to achieve an overall rate of return of 12% a year compounded over the next 4 years, including the proceeds of conversion.
(ii) The implicit conversion premium on the stock.
Date posted: March 30, 2022. Answers (1)
- XYZ Ltd. is planning to absorb three other companies so as to realized its sales projection of Sh.50, 000,000 per annum. The company accountant has...(Solved)
XYZ Ltd. is planning to absorb three other companies so as to realized its sales projection of Sh.50, 000,000 per annum. The company accountant has advised the management to maintain such a size as will enable its shares to sell at minimum price of Sh. 16. The Company’s last published statement of financial position indicates the following:
The price earnings (P/E) ratio applicable is 12:1
Required;-
Compute the value of the business using the:
i) Price-earnings (P/E) ratio method
ii) Asset method
Date posted: March 30, 2022. Answers (1)
- Naziri investment Ltd. currently sells bonds at Sh.1,200 with an 11% coupon rate and Sh.1,000 par value. The bond agreement provides for payment of interest...(Solved)
Naziri investment Ltd. currently sells bonds at Sh.1,200 with an 11% coupon rate and Sh.1,000 par value. The bond agreement provides for payment of interest on annual basis with 18 years maturity period.
Required:
The bond yield to maturity (YTM)
Date posted: March 30, 2022. Answers (1)