Question

The following information is available for XYZ Co.

Capital expenditure GHS50 million

Corporate tax rate 25%

Debt repayment GHS27 million

Depreciation charges GHS13 million

Shareholders' required return 13%

20X8

GHS

M

Sales 725.00

Less cost of goods sold (517.00)

Gross profit 208.00

Operating expenses (91.75)

EBIT 116.25

Less interest expense (11.00)

Earnings before tax 105.25

Less taxes (26.31)

Net income 78.94

What is the FCFE ?

2. Using the information above and assuming the free cash flow is expected to grow at a constant rate of 3% per year, what is the valuation of XYZ Co?

(b)

The Board Chairman of your company is struggling to understand the relevance of free cash flow in the management of the company finances. The Finance Director has requested you to prepare a brief write up on free cash flow to help him appreciate the concept under the following headings:

i. the meaning of free cash flow;

ii. the underlying concept of what constitutes free cash flow; and

iii. why some analyst and investors evaluate a company purely on free cash flow (FCF) to the exclusion of all other measures.

(c)

YZ Co wants to issue a five-year redeemable bond with an annual coupon of 4%. The bond is redeemable

at par (GHS100). Tax can be ignored.

The annual spot yield curve for this risk class of bond in the financial press is given as:

One-year 3.3%

Two-year 3.8%

Three-year 4.2%

Four-year 4.8%

Five-year 5.5%

Required

Using the information above, calculate:

(a) The expected price at which the bond can be issued (2.5 marks)

(b) The yield to maturity (YTM) of the bond (2.5 marks)

Total marks 25

Answer 1