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