Finance Essay

1743 words - 7 pages

Bachelor of Business
(Incorporating Graduate Diploma and Graduate Certificate in Business)

Managerial Finance (ACCT 706)
Semester Two, 2016

Assignment # 2
Due Date:

Week 8, 03/05/16, 12.00 noon

Weighting:

25% of the final grade

Type:

Individual Assignment

Length:

Approximately 2,000 – 3,000 words excluding appendices

Submission: Students are expected to submit a hard copy of the assignment along with
Arion generated barcoded assignment cover sheet in the drop box located in
WF building (ground floor). All assignments should be submitted via turnitin
and a turnitin report should accompany the assignment (Please note: Turnitin
submission should precede ...view middle of the document...

Ellis based his estimates on an
established long-term expansion plan into European and Latin American markets. Venturing
into these markets was expected to cause the risk of the firm, as measured by risk premium
on its share, to increase immediately from 8.8% to 10%. Currently, the risk free rate is 6%.
In preparing the long-term financial plan, Encore’s chief financial officer has assigned a
junior financial analyst, Marc Scott, to evaluate the firm’s current share price. He has asked
Marc to consider the conservative predictions of the securities analysts and the aggressive
predictions of the company founder, Jordan Ellis.
Marc has compiled these 2015 financial data to aid his analysis:
Data item
Earnings per share
Price per ordinary share
Book value of equity
Total ordinary shares outstanding
Ordinary dividend per share

2015 value
$ 6.25
$ 40.00
$ 60,000,000
2,500,000
$ 4.00

Required:
a. What is the firm’s current book value per share?
(2 Marks)
b. What is the firm’s current P/E ratio?
(2 Marks)
c. (1) What is the current required rate of return for Encore’s shares?
(2) What will be the new required rate of return for Encore’s shares assuming that they
expand into European and Latin American markets as planned?
(6 Marks)
d. If the securities analysts are correct and there is no growth in future dividends, what will be
the value per share? (Use the new required rate of return computed in part [C (2)] above).
(2 Marks)

Page 2 of 6

e. (1) If Jordan Ellis’s predictions are correct, what will be the value per share if the firm
maintains a constant annual 6% growth rate in future dividends? (Use the new required rate
of return computed in part [C (2)] above).
(2 Marks)
(2) If Jordan Ellis’s predictions are correct, what will be the value per share if the firm
maintains a constant annual 8% growth rate in dividends per share over the next 2 years
and 6% thereafter? (Use the new required rate of return computed in part [C (2)] above)
(4 marks)
f.

Compare the current (2015) price of the share and the share values found in parts (a) to (e).
Discuss why these values differ. Which valuation method do you believe most clearly
represents the true value of Encore’s Share?
(7 Marks)

B. Answer the following questions:
a. How does a bond issuer decide on the appropriate coupon rate to set on its bonds?
Explain the difference between the coupon rate and the required return on a bond.
(5 Marks)
b. Companies pay rating agencies such as the Standard and Poor Rating Service, to rate
their bonds, and the costs can be substantial. However, companies are not required
to have their bonds rated in the first place; doing so is strictly voluntary. Why do you
think they do it?
(5 Marks)

Page 3 of 6

QUESTION 2: WEIGHTED AVERAGE COST OF CAPITAL

(22 Marks)

Defence Electronics International (DEI) a large publicly listed company is the market leader in radar
detection systems (RDSs). The company...

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