CORPORATE FINANCE/ MODULE 5/ VALUATION ASPECTS

1. A company has 4,00,000 equity shares of Rs. 100, each fully paid up. The companys
expected earnings after tax is Rs. 3,40,00,00 and its current Price earnings ratio is 10.
Calculate the value of firm.
2. The capital structure of the company has 100000 fully paid up equity shares of Rs. 100
each. The companys earnings per share for the past 5 years are given below.
Years
EPS(Rs.)
1

10

10.50

11

11.60

12.30

Price earnings ratio of the company is 10. Calculate the value of the firm.
3. From the following information mentioned below find out the value per share using Free
Cash flow to equity model
1) EPS = Rs. 4
2) Capital Expenditure = Rs. 3
3) Depreciation per share = Rs. 2.50
4) Changes in working capital = Rs. 0.50
5) Expected growth = 9%
6) Beta Coefficient = 0.90
7) Risk free rate of return = 8%
8) Market Risk Premium = 6%
4. Core India Ltd. is trying to buy Elder India Ltd. Elder India Ltd., is a small bio
technology firm that develops products that are licensed to major pharmaceutical firms.
The development costs are expected to generate the negative cash flow of Rs. 10 lakh
during the first year of the forecast period. Licensing fee is expected to generate positive
cash flows of Rs. 5, 10, 15 and 20 lakh during 2-5 years respectively. Due to emergence
of competitive products the cash flows are expected to grow annually at a modest 5%
after the fifth year. The discount rate for the first 5 years is estimated to be 15% and then
drop to 8% beyond the fifth year. Calculate the value of the firm.
5. East Co. Ltd. is studying the possible acquisition of Fost Co. Ltd. by way of merger. The
following data are available in respect of the companies:
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Particulars
Earnings after tax
No. of Equity Shares
Market Value per Share

(Rs)
(Rs)

East Co. Ltd.

2,00,000
40,000
15

Fost Co. Ltd.

60,000
10,000
12

(i) If the merger goes through by exchange of equity share and the exchange ratio is based on the
current market price, what is the new earning per share for East Co. Ltd.?
(ii) Fost Co. Ltd. wants to be sure that the earnings available to its shareholders will not be
diminished by the merger. What should be the exchange ratio in that case?
6. XYZ Ltd. considering merger with ABC Ltd. XYZ Ltds shares are currently traded at Rs. 25. It
has 2,00,000 shares outstanding and its earnings after taxes (EAT) amount to 4,00,000. ABC Ltd.
has 1,00,000 shares outstanding; its current market price is Rs. 12.50 and its EAT are Rs.
1,00,000. The merger will be effected by means of a stock swap (exchange). ABC Ltd. has agreed
to a plan under which XYZ Ltd. will offer the current market value of ABC Ltds shares:
(i)
What is the pre-merger earnings per share (EPS) and P/E ratios of both the companies?
(ii)
If ABC Ltds P/E ratio is 8, what is its current market price? What is the exchange ratio?
What will XYZ Ltds post-merger EPS be?
(iii)
What must the exchange ratio be for XYZ Ltds that pre and post-merger EPS to be the
same?

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Solutions
Solution1
1. Step 1 : find out Eps
Eps = earnings / no. of equity shares
= 3,40,00,000/ 4,00,000
= Rs. 8.5
Step 2. Find out market price per share
Po= EPS * P/E ratio
= Rs. 8.5 8* 10
= Rs. 85
Step 3. Find out value of firm
V= MP* No. of equity shares
= Rs. 85* 4,00,000
= Rs. 34,00,000.
Solution2
2. Step 1 : Calculate growth rate
g =[12.30/ 10 ^ 1/5] 1
= 1.0423 1
= 0.0423
Step 2 : Calculate EPS for the next year
EPS = Eps of Last year(1 + g)
= 12.30(1.0423)
= 12.82
Step 3 = Market price per share
= EPS* P/E ratio
= 12.82 * 10
= 128.20
Step 4 = Value of firm
V= MP* No. of equity shares
= 128.20 * 1,00,000
=12,82,000
Solution 3
3. Step 1 : Find out cost of equity
= Rf +( Rm- Rf)
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= 8% + 0.9 (6%)
= 13.4%
Step 2: FCFE = EPS (Cap Exp Dep.) Change in WC + New Debt issued
= 4 (3- 2.5) 0.5
= Rs. 3
Step 3 = Value per Share
= FCFE * (1+g) (r-g)
= 3 * (1.09) ( 0.134 0.09)
= Rs. 74.32
Solution 4
Year
1
2
3
4
5

Cash Flows
(10)
5
10
15
20

Discounted Rate@ 15%

1.15
1.323
1.521
1.749
2.011

Present Value
(8.69)
3.779
6.575
8.576
9.945

Total Sum of the Present Value = 20.185

Terminal Value t = Cash Flow t+ 1 R gstable
Cash Flow t+ 1 = Cash Flow t (1 + g)
= 20 (1 + 0.05) = 21 lakh.
Terminal Value = Rs. 21 lakh / (0.08 0.05)
= Rs. 700 lakh.
Present Value of the terminal value = 700 / 2.011 = 348.08
Value of the firm = Rs. 20.185 + Rs. 348.08 = Rs. 368.265 lakh
Solution 5
Calculation of EPS of East Company
1. No. of equity shares to be issued by East Co. Ltd of Fost Co. Ltd
= 10000 shares * 12/15
2. Total No. of shares in East co. Ltd after acquisition of fost Co. ltd
= 40000 + 8000
3. Total Earnings after tax after acquisition
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8000 shares
48000
260000

= Rs. 200000 + 60000

4. Eps = 260000 / 48000

Rs. 5.42

Calculation of the Exchange Ratio which would not diminish the EPS of Fost Co. after its merger with
East Co.
Current EPS
East Co. 200000Rs / 40000 shares
5 Rs
Fost Co. 60000 Rs/ 10000 shares
6 Rs
Exchange ratio = 6/ 5
1.20
No. of new shares to be issued by East Co. Ltd to Fost Co. Ltd 10000* 1.20
12000 shares
Total No. of shares After acquisition (40000 + 12000)
52000 shares
Eps after merger = 260000/ 52000
5 Rs
Total earnings of Fost Co. Ltd (12000*5)
60000
Solution 6
Pre-merger EPS and PE ratio of XYZ ltd and ABC ltd
Particulars
Earnings after tax
No. of Shares
EPS (Rs)
Market price per share (Rs)
PE Ratio (times)

XYZ ltd
400000
200000
2
25
12.50

Current market price of ABC ltd if pe ratio is 8 = Rs. 1 * 8 = Rs. 8

Exchange ratio = 25/ 8 = 3.125
Post-merger Eps of Xyz Ltd = 400000+ 100000
200000+( 100000/ 3.125)

500000
232000

= 2.16 Rs.
Desired Exchange ratio
Total number of shares in post merged company
= post merger earnings / premerger eps of xyz ltd
= 500000/ 2 = 250000.
Number of shares required to be issued.
= 250000 200000
= 50000.
Therefore the exchange ratio is 50000/ 100000 = 0.50 Rs.
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ABC ltd
100000
100000
1
12.50
12.50