QUESTION: 117

Company F's current profit before interest and taxation is $5.0 million.

It has a 10% long-term corporate bond in issue with a nominal value of $10 million.

Corporate tax is paid at 25%.

The industry average P/E multiple is 10.

Company X has made an approach to acquire the entire share capital of Company F for $30 million.

Company X has announced that anticipated synergies (after interest and taxation) arising from its acquisition of Company F will be $1 million each year in perpetuity.

Advise the Board of Directors of Company F if the bid should be accepted, based on the above information?

Accept the bid because Company F is potentially worth $30 million to Company X.
Reject the bid because Company F is potentially worth $40 million to Company X.
Reject the bid because Company F is potentially worth $50 million to Company X.
Reject the bid because Company F is potentially worth $60 million to Company X.

Answer(s): B

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QUESTION: 118

The following information relates to Company A's current capital structure:

Company A is considering a change in the capital structure that will increase gearing to
30:70 (Debt:Equity).

The risk -free rate is 3% and the return on the market portfolio is expected to be 10%.

The rate of corporate tax is 25%

Using the Capital Asset Pricing Model, calculate the cost of equity resulting from the proposed change to the capital structure.

11.4%
12.3%
9.3%
10.1%

Answer(s): B

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QUESTION: 119

CORRECT TEXT

A company is considering whether to lease or buy an asset.

The following data applies:

· The bank will charge interest at 7.14% per annum

· The asset will cost $1 million

· Tax-allowable depreciation is available on a straight line basis over 5 years

· There is no residual value

· Corporate tax is paid at 30% in the year when the profit is earned

What is the NPV of the buy option?

Give your answer to the nearest $000.

$740

Answer(s): A

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QUESTION: 120

A company is funded by:

· $40 million of debt (market value)

· $60 million of equity (market value)

The company plans to:

· Issue a bond and use the funds raised to buy back shares at their current market value.

· Structure the deal so that the market value of debt becomes equal to the market value of equity.

According to Modigliani and Miller's theory with tax and assuming a corporate income tax rate of 20%, this plan would:

increase the company's asset beta.
decrease the company's equity beta.
increase shareholder wealth.
increase the market value of the company's equity.

Answer(s): C

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QUESTION: 117

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QUESTION: 120