FIN324 (AA) / Page 7 of 13 Question 3 (70 Marks) YTD Limited's and KKK Limited's financial information are presented for year 2020 (forecast), 2019, 2018 and 2017 as below. The reformulations of financial statements and profitability analysis are also provided as follows; Exhibit 1: YTD Limited Income Statements YTD Limited INCOME STATEMENTS ($) Sales COGS General and administrative cost Marketing and selling expenses Interest expense Income before tax Tax expense Net Income (forecast) 2020 2,227,764 1,800,408 3,680 5,472 36,148 382,056 99,335 282,721 2019 1,856,470 1,500,340 3,067 4,560 30,123 318,380 82,779 235,601 2,018 1,745,000 1,250,000 2,560 3,500 28,570 460,370 119,696 340,674 2017 1,680,300 1,000,500 2,032 2,890 32,600 642,278 166,992 475,286 Exhibit 2: KKK Limited Income Statements KKK Limited INCOME STATEMENTS ($) 2,018 1,970,500 1,757,900 2,870 4,002 2017 1,500,700 1,350,700 2,431 3,850 Sales COGS General and administrative cost Marketing and selling expenses Research and development expenses Interest expense Pretax profit Tax expense Net Income (forecast) 2020 2,400,660 2,244,600 3,680 5,472 60,780 36,148 49,980 18,493 31,487 2019 2,000,550 1,870,500 3,067 4,560 50,650 30,123 41,650 15,411 26,240 28,450 177,278 65,593 111,685 20,500 123,219 45,591 77,628 FIN324 (AA) / Page 8 of 13 Exhibit 3: YTD Limited Re formulation of Balance Sheets YTD Limited BALANCE SHEETS ($) (forecast) 2020 120,600 2019 100,500 2,018 80,400 118,440 24,720 163,680 227,400 654,840 98,700 20,600 136,400 189,500 545,700 78,960 16,480 109,120 151,600 436,560 36,936 6,600 30,780 5,500 24,624 4,400 Cash Other temporary investments, at cost which approximates market Marketable securities Receivables, net Inventories Total current asset Investment in unsolidated subsidiaries Marketable securities Investment in discontinued operations prior to sale Property, Plant & Equipment Goodwill Total long term asset Total Asset Notes payable Account payable Dividend payable Deferred income tax Total current liabilities Long term debt Pension and OPEB liabilities Total long term liabilities Equity Common stock Additional paid-in Retained earning Treasury stocks Total stockholder's equity Total liabilities and equity 404,268 1,892,736 5,340 2,345,880 3,000,720 12,504 660,384 102,936 38,376 814,200 603,840 681,840 1,285,680 336,890 1,577,280 4,450 1,954,900 2,500,600 10,420 550,320 85,780 31,980 678,500 503,200 568,200 1,071,400 269,512 1,261,824 3,560 1,563,920 2,000,480 8,336 440,256 68,624 25,584 542,800 402,560 454,560 857, 120 504,912 24,720 525,360 (154,152) 900,840 3,000,720 420,760 20,600 437,800 (128,460) 750,700 2,500,600 336,608 16,480 350,240 (102,768) 600,560 2,000,480 FIN324 (AA) /Page 9 of 13 Exhibit 4: KKK Limited Reformulation of Balance Sheets KKK Limited BALANCE SHEETS ($) 2019 100,500 158,170 25,600 235,080 188,030 707,380 27,166 106,080 1,454,280 4,497 1,592,023 2,299,403 2,018 80,400 126,536 20,480 188,064 150,424 565,904 21,733 84,864 1,163,424 3,598 1,273,618 1,839,522 (forecast) 2020 Cash 120,600 Prepaid expenses 189,804 Marketable securities 30,720 Receivables, net 282,096 Inventories 225,636 Total current asset 848,856 Investment in unsolidated subsidiari 32,599 Marketable securities 127,296 Property, Plant & Equipment 1,745,136 Goodwill 5,396 Total long term asset 1,910,428 Total Asset 2,759,284 Notes payable on commercial paper 272,840 Payable to suppliers and others 347,448 Dividend payable 103,608 Other accrued liabilities 79 restructuring charges 109,740 Total current liabilities 833,716 Long term debt 599,741 Accrued income tax 561,919 Total long term liabilities 1,161,660 Equity Common stock 330,912 Additional paid in 216,480 Retained earning 372,432 Treasury stocks (155,916) Total stockholder's equity 763,908 Total liabilities and equity 2,759,284 227,367 289,540 86,340 66 91,450 694,763 499,784 468,266 968,050 181,894 231,632 69,072 53 73,160 555,810 399,827 374,613 774,440 275,760 180,400 310,360 (129,930) 636,590 2,299,403 220,608 144,320 248,288 (103,944) 509,272 1,839,522 FIN324 (AA) / Page 10 of 13 Exhibit 5: YTD Limited Reformulation of Income Statements YTD Limited REFORMULATION OF INCOME STATEMENTS ($) Operating income Operating expenses Total operating income before tax Tax reported Tax on net interest expense Adjusted tax on operating income Operating Income Interest expense Tax shield on interest Net financial expense Net Income NOPAT 2019 1,856,470 1,507,967 348,503 82,779 7,832 90,611 257,892 30,123 7,832 22,291 235,601 257,892 2018 1,745,000 1,256,060 488,940 119,696 7,428 127,124 361,816 28,570 7,428 21,142 340,674 361,816 Exhibit 5: KKK Limited Reformulation of Income Statements KKK Limited REFORMULATION OF INCOME STATEMENTS ($) 2019 130,050 7,627 2018 212,600 6,872 205,728 65,593 Operating income Operating expenses Total operating income before tax Tax reported Tax on net interest expense Adjusted tax on operating income Operating Income Interest expense Tax shield on interest Net financial expense Net Income NOPAT 122,423 15,411 5,701.89 21,112 101,311 30,123 11,146 22,291 26,240 77,126 65,593 140,135 28,450 10,527 21,053 111,685 129,609 FIN324 (AA) / Page 11 of 13 Exhibit 7: YTD Limited Reformulation of Balance Sheets YTD Limited REFORMULATION OF BALANCE SHEETS ($) Cash Marketable securities (current) Receivables Inventories Investment in unsolidated subsidiaries Property, Plant & Equipment Goodwill Account payable Deferred income tax Pension and OPEB liabilities Net Operating Asset 2019 200 500 20,600 198,210 189,500 30,780 1,577,280 4,450 (550,320) (31,980) (331,310) 1,307,710 2018 160,400 16,480 158,568 151,600 24,624 1,261,824 3,560 (440,256) (25,584) (265,048) 1,046,168 Notes payable Dividend payable Long term debt Marketable securities (non current) Net financial obligations NOA 10,420 85,780 403,200 (5,500) 493,900 1,307,710 8,336 68,624 322,560 (4,400) 395,120 1,046,168 Exhibit 8: KKK Limited Reformulation of Balance Sheets KKK Limited REFORMULATION OF BALANCE SHEETS ($) Cash Prepaid expenses Receivables Inventories investment in unsolidated subsidiaries Property, Plant & Equipment Goodwill Other accrued liabilities Accrued divestiture and restructuring charges Accrued income tax Net Operating Asset 2,019 100,500 158,170 235,080 188,030 27,166 1,454,280 4,497 (66) 2,018 80,400 126,536 188,064 150 424 21,733 1,163,424 3,598 (53) 191,450) (468,266) 1,582,341 (73 160) (374,613) 1,265,873 Notes payable Dividend payable Long term debt Payable to supplier and others Marketable securities(current) Marketable securities (non current) Net financial obligations NOA 227,367 86,340 499,784 289,540 (25,600) (20,600) 1,056,831 1,582,341 181,894 69,072 399,827 231,632 (20,480) (16,480) 845,465 1,265,873 FIN324 (AA) / Page 12 of 13 Table 1: Profitability Analysis NOPAT NOA Average NOA INFO Average NFO Average SE RNOA ROCE LEV INFE NFR Spread NOPAT Margin NOA turnover Sales Income Assets YTD Limited KKK Limited YTD Limited KKK Limited 2019 2018 257,892 45,217 361,816 129,609 1,287,110 1,318,401 1,029,688 1,265,873 1,158,399 1,186,561 926,719 1,054,825 473,300 681,811 378,640 545,449 425,970 559,085 340,776 490,904 732,429 572,931 443,969 458,345 0.22 0.04 0.39 0.12 0.32 0.04 0.64 0.22 0.58 0.98 0.77 1.07 22,291 18,977 21,142 17,924 0.05 0.03 0.06 0.04 0.17 0.004 0.328 0.086 0.14 0.02 0.21 0.07 1.60 1.69 1.88 1.87 1,856,470 2,000,550 1,745,000 1,970,500 235,601 26,240 340,674 111,685 2,226,820 2,299,403 1,781,456 1,839,522 Required: (a) Comment on the accuracy of the reformulations of the income statements and balance sheets for both companies for year 2019 and 2018. Provide the accurate reformulations of the income statements and balance sheets if necessary. (10 marks) (b) Interpret figures in Table 1 as following breakdown: II Return on Common Equity (ROCE) includes the effect on Financial Leverage. Return on Net Operating Assets (RNOA) includes the effect of Operating Leverage. Computation of individual revenue and expense items as a percent of sales. (30 marks) III (c) Demonstrate a Prospective Analysis in the Residual Income Valuation Model using the forecast figures (2020). The beginning equity for YTD and KKK are $750,700 and $636,590 respectively. assume the beta is 1.6, risk free rate is 4% and the spread of equities over the risk-free rate is 5%. Computation should be until PV of residual income. Discuss the analysis in detail. (10 marks) (d) Describe how the assessment of eamings stability is a crucial part of analysis for YTD and KKK in a decision to add debt. (7 marks) FIN324 (AA) / Page 13 of 13 Illustrate Earning-based Valuation using financial information from both YTD Limited and KKK Limited to value both of companies' equity at January 1 year 2018. Assume the book value of equity for YTD Limited and KKK Limited are $813,810 and $636,590 respectively. YTD Limited paid a dividend of $56,700 and $45,870 for year 2019 and 2018 respectively. While, KKK limited paid a dividend of $45,600 and $35,900 for year 2019 and 2018 respectively. Explain how this valuation implies on PB ratio of both companies? (cost of capital= 10%) (13 marks) - The End FIN324 (AA) feb20/formatted FIN324 (AA) / Page 7 of 13 Question 3 (70 Marks) YTD Limited's and KKK Limited's financial information are presented for year 2020 (forecast), 2019, 2018 and 2017 as below. The reformulations of financial statements and profitability analysis are also provided as follows; Exhibit 1: YTD Limited Income Statements YTD Limited INCOME STATEMENTS ($) Sales COGS General and administrative cost Marketing and selling expenses Interest expense Income before tax Tax expense Net Income (forecast) 2020 2,227,764 1,800,408 3,680 5,472 36,148 382,056 99,335 282,721 2019 1,856,470 1,500,340 3,067 4,560 30,123 318,380 82,779 235,601 2,018 1,745,000 1,250,000 2,560 3,500 28,570 460,370 119,696 340,674 2017 1,680,300 1,000,500 2,032 2,890 32,600 642,278 166,992 475,286 Exhibit 2: KKK Limited Income Statements KKK Limited INCOME STATEMENTS ($) 2,018 1,970,500 1,757,900 2,870 4,002 2017 1,500,700 1,350,700 2,431 3,850 Sales COGS General and administrative cost Marketing and selling expenses Research and development expenses Interest expense Pretax profit Tax expense Net Income (forecast) 2020 2,400,660 2,244,600 3,680 5,472 60,780 36,148 49,980 18,493 31,487 2019 2,000,550 1,870,500 3,067 4,560 50,650 30,123 41,650 15,411 26,240 28,450 177,278 65,593 111,685 20,500 123,219 45,591 77,628 FIN324 (AA) / Page 8 of 13 Exhibit 3: YTD Limited Re formulation of Balance Sheets YTD Limited BALANCE SHEETS ($) (forecast) 2020 120,600 2019 100,500 2,018 80,400 118,440 24,720 163,680 227,400 654,840 98,700 20,600 136,400 189,500 545,700 78,960 16,480 109,120 151,600 436,560 36,936 6,600 30,780 5,500 24,624 4,400 Cash Other temporary investments, at cost which approximates market Marketable securities Receivables, net Inventories Total current asset Investment in unsolidated subsidiaries Marketable securities Investment in discontinued operations prior to sale Property, Plant & Equipment Goodwill Total long term asset Total Asset Notes payable Account payable Dividend payable Deferred income tax Total current liabilities Long term debt Pension and OPEB liabilities Total long term liabilities Equity Common stock Additional paid-in Retained earning Treasury stocks Total stockholder's equity Total liabilities and equity 404,268 1,892,736 5,340 2,345,880 3,000,720 12,504 660,384 102,936 38,376 814,200 603,840 681,840 1,285,680 336,890 1,577,280 4,450 1,954,900 2,500,600 10,420 550,320 85,780 31,980 678,500 503,200 568,200 1,071,400 269,512 1,261,824 3,560 1,563,920 2,000,480 8,336 440,256 68,624 25,584 542,800 402,560 454,560 857, 120 504,912 24,720 525,360 (154,152) 900,840 3,000,720 420,760 20,600 437,800 (128,460) 750,700 2,500,600 336,608 16,480 350,240 (102,768) 600,560 2,000,480 FIN324 (AA) /Page 9 of 13 Exhibit 4: KKK Limited Reformulation of Balance Sheets KKK Limited BALANCE SHEETS ($) 2019 100,500 158,170 25,600 235,080 188,030 707,380 27,166 106,080 1,454,280 4,497 1,592,023 2,299,403 2,018 80,400 126,536 20,480 188,064 150,424 565,904 21,733 84,864 1,163,424 3,598 1,273,618 1,839,522 (forecast) 2020 Cash 120,600 Prepaid expenses 189,804 Marketable securities 30,720 Receivables, net 282,096 Inventories 225,636 Total current asset 848,856 Investment in unsolidated subsidiari 32,599 Marketable securities 127,296 Property, Plant & Equipment 1,745,136 Goodwill 5,396 Total long term asset 1,910,428 Total Asset 2,759,284 Notes payable on commercial paper 272,840 Payable to suppliers and others 347,448 Dividend payable 103,608 Other accrued liabilities 79 restructuring charges 109,740 Total current liabilities 833,716 Long term debt 599,741 Accrued income tax 561,919 Total long term liabilities 1,161,660 Equity Common stock 330,912 Additional paid in 216,480 Retained earning 372,432 Treasury stocks (155,916) Total stockholder's equity 763,908 Total liabilities and equity 2,759,284 227,367 289,540 86,340 66 91,450 694,763 499,784 468,266 968,050 181,894 231,632 69,072 53 73,160 555,810 399,827 374,613 774,440 275,760 180,400 310,360 (129,930) 636,590 2,299,403 220,608 144,320 248,288 (103,944) 509,272 1,839,522 FIN324 (AA) / Page 10 of 13 Exhibit 5: YTD Limited Reformulation of Income Statements YTD Limited REFORMULATION OF INCOME STATEMENTS ($) Operating income Operating expenses Total operating income before tax Tax reported Tax on net interest expense Adjusted tax on operating income Operating Income Interest expense Tax shield on interest Net financial expense Net Income NOPAT 2019 1,856,470 1,507,967 348,503 82,779 7,832 90,611 257,892 30,123 7,832 22,291 235,601 257,892 2018 1,745,000 1,256,060 488,940 119,696 7,428 127,124 361,816 28,570 7,428 21,142 340,674 361,816 Exhibit 5: KKK Limited Reformulation of Income Statements KKK Limited REFORMULATION OF INCOME STATEMENTS ($) 2019 130,050 7,627 2018 212,600 6,872 205,728 65,593 Operating income Operating expenses Total operating income before tax Tax reported Tax on net interest expense Adjusted tax on operating income Operating Income Interest expense Tax shield on interest Net financial expense Net Income NOPAT 122,423 15,411 5,701.89 21,112 101,311 30,123 11,146 22,291 26,240 77,126 65,593 140,135 28,450 10,527 21,053 111,685 129,609 FIN324 (AA) / Page 11 of 13 Exhibit 7: YTD Limited Reformulation of Balance Sheets YTD Limited REFORMULATION OF BALANCE SHEETS ($) Cash Marketable securities (current) Receivables Inventories Investment in unsolidated subsidiaries Property, Plant & Equipment Goodwill Account payable Deferred income tax Pension and OPEB liabilities Net Operating Asset 2019 200 500 20,600 198,210 189,500 30,780 1,577,280 4,450 (550,320) (31,980) (331,310) 1,307,710 2018 160,400 16,480 158,568 151,600 24,624 1,261,824 3,560 (440,256) (25,584) (265,048) 1,046,168 Notes payable Dividend payable Long term debt Marketable securities (non current) Net financial obligations NOA 10,420 85,780 403,200 (5,500) 493,900 1,307,710 8,336 68,624 322,560 (4,400) 395,120 1,046,168 Exhibit 8: KKK Limited Reformulation of Balance Sheets KKK Limited REFORMULATION OF BALANCE SHEETS ($) Cash Prepaid expenses Receivables Inventories investment in unsolidated subsidiaries Property, Plant & Equipment Goodwill Other accrued liabilities Accrued divestiture and restructuring charges Accrued income tax Net Operating Asset 2,019 100,500 158,170 235,080 188,030 27,166 1,454,280 4,497 (66) 2,018 80,400 126,536 188,064 150 424 21,733 1,163,424 3,598 (53) 191,450) (468,266) 1,582,341 (73 160) (374,613) 1,265,873 Notes payable Dividend payable Long term debt Payable to supplier and others Marketable securities(current) Marketable securities (non current) Net financial obligations NOA 227,367 86,340 499,784 289,540 (25,600) (20,600) 1,056,831 1,582,341 181,894 69,072 399,827 231,632 (20,480) (16,480) 845,465 1,265,873 FIN324 (AA) / Page 12 of 13 Table 1: Profitability Analysis NOPAT NOA Average NOA INFO Average NFO Average SE RNOA ROCE LEV INFE NFR Spread NOPAT Margin NOA turnover Sales Income Assets YTD Limited KKK Limited YTD Limited KKK Limited 2019 2018 257,892 45,217 361,816 129,609 1,287,110 1,318,401 1,029,688 1,265,873 1,158,399 1,186,561 926,719 1,054,825 473,300 681,811 378,640 545,449 425,970 559,085 340,776 490,904 732,429 572,931 443,969 458,345 0.22 0.04 0.39 0.12 0.32 0.04 0.64 0.22 0.58 0.98 0.77 1.07 22,291 18,977 21,142 17,924 0.05 0.03 0.06 0.04 0.17 0.004 0.328 0.086 0.14 0.02 0.21 0.07 1.60 1.69 1.88 1.87 1,856,470 2,000,550 1,745,000 1,970,500 235,601 26,240 340,674 111,685 2,226,820 2,299,403 1,781,456 1,839,522 Required: (a) Comment on the accuracy of the reformulations of the income statements and balance sheets for both companies for year 2019 and 2018. Provide the accurate reformulations of the income statements and balance sheets if necessary. (10 marks) (b) Interpret figures in Table 1 as following breakdown: II Return on Common Equity (ROCE) includes the effect on Financial Leverage. Return on Net Operating Assets (RNOA) includes the effect of Operating Leverage. Computation of individual revenue and expense items as a percent of sales. (30 marks) III (c) Demonstrate a Prospective Analysis in the Residual Income Valuation Model using the forecast figures (2020). The beginning equity for YTD and KKK are $750,700 and $636,590 respectively. assume the beta is 1.6, risk free rate is 4% and the spread of equities over the risk-free rate is 5%. Computation should be until PV of residual income. Discuss the analysis in detail. (10 marks) (d) Describe how the assessment of eamings stability is a crucial part of analysis for YTD and KKK in a decision to add debt. (7 marks) FIN324 (AA) / Page 13 of 13 Illustrate Earning-based Valuation using financial information from both YTD Limited and KKK Limited to value both of companies' equity at January 1 year 2018. Assume the book value of equity for YTD Limited and KKK Limited are $813,810 and $636,590 respectively. YTD Limited paid a dividend of $56,700 and $45,870 for year 2019 and 2018 respectively. While, KKK limited paid a dividend of $45,600 and $35,900 for year 2019 and 2018 respectively. Explain how this valuation implies on PB ratio of both companies? (cost of capital= 10%) (13 marks) - The End FIN324 (AA) feb20/formatted