Identify and critically evaluate a range of extrinsic and intrinsic techniques used to value companies Research Paper

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A. Identify and critically evaluate a range of extrinsic and intrinsic techniques used to value
companies? Fully justify the preferred method(s) in practice for an organisation of your choice.
(10 marks)

B. ?A UK firm is considering raising capital in the United States by cross-selling its shares on the…..?
the NYSE as an ADR and having a public offering. Critically evaluate the pros and cons of raising
the capital through this route. (15 marks)

QUESTION 2
You are an analyst for Globes investments group following the Automobile industry and part of your job
responsibilities is to prepare industry and company specific reports based on the competitive situation in the industry.

You have been asked to prepare a report on a target firm as part of the preliminary valuation phase for a possible acquisition and or merger recommendation for one of your corporate clients looking for a
conglomerate merger and have managed to gather the following information unique to the industry the
target firm operates in.

The target firm, Yatoya operates in an industry with the following company specific and industry
applicable information which you have highlighted in the following paragraphs:
Paragraph 1

Yatoya has had a very good year in 2008 and all the operating segments of the business performed at
levels higher than analysts forecast and this is also beyond the company?s internal forecast.
Paragraph 2
Increase in sales was 65% over 2007 FY and this has been the best year of revenue performance at
Yatoya since inception while Yatoya?s gross margin and other profitability ratios remain constant at 50%
Paragraph 3
They were able to maintain the margins at a constant rate despite an increase in direct material cost due
to increase in price and a more efficient product mix and investors have responded by valuing the shares
of Yatoya at an all time high from inception due to the sustained superior performance. As such,
management has decided to reward the performance with share options for all employees and the details
are yet to be finalized.
Paragraph 4
Yatoya?s order book (backlog of orders) has increased by 50% due to the inability of her suppliers to
supply them with steel for fabrication of chassis and body of the vehicles which due to their efficient
supply chain is one of their main competitive advantages. Yatoya has considered the impact of such
delays on their supply chain and are deterred from backward vertical integration or vertical merger due to the high capital intensive nature of the factories required to manufacture steel and this is not unique to Yatoya as the industry as a whole have to suffer the same shortage of steel.
Paragraph 5
Yatoya designs their cars for the UMPY (Upward mobile progressive youths) that is replacing the baby boomers and due to the attractive design and road performance of their cars are able to attract this
particular segment of customers and offer financing at a rate that has yet to be matched by any
competitor. They also offer trade in for cars when the customers want to upgrade and lock in customers to
the deal at inception once this financing is accepted. All of the above added to the fuel efficiency and
performance of Yatoya cars has led to situation in which it will be more expensive for customers to
consider changing from Yatoya cars to other alternatives.
Paragraph 6
Yatoya has a great team of R&D which has not been matched in the industry and they have many
designs and patents which have either been protected or are a trade secret ready for the next generation.
Paragraph 7
Their main arena of operation and distribution is Europe and recent developments have led to the major
competition exiting the European arena for Asia, and start ups financed by venture capitalist has led to
some new car manufacturers entering the industry, which has lessened the positive impact of the exit of
the major competitor as they are filling in the gap left by the exit. This has been essentially possible due to the backing of private equity investors, venture capitals and angel financiers who has found the industry attractive and provide backings for the start ups as they find the existing firms too tough to win over and acquire.
Paragraph 8
The above is further compounded due to the breakthrough in use carbon fibre for constructing the body of
the cars and the starts ups are focusing on this technology as a ?leg up? for entering into the industry.
Required
Based on the above, prepare a preliminary valuation report and recommend to your team if Yatoya should
be considered for the next stage of valuation before recommendation to your corporate clients based on
the intrinsic values. Your recommendation at this stage is solely focused on the attractiveness of the
automobile industry which Yatoya operates in using only the information in the summary above.
Your analysis should be as follows:
a) How do you rate the bargaining power of the suppliers in this industry? (4 marks)
b) How do you rate the bargaining power of the customers in this industry? (4 marks)
c) What is your view on the degree of the threat of new entrants in this industry? (4 marks)
d) What is your view on the degree of competitive rivalry in the industry and the main market arena of
Yatoya? (4 marks)
e) With regards to substitutes, what is your view as to the ease of substituting Yatoya?s cars? (4 marks)
f) What is the summary of the conclusion you derived from the five forces above and what is your
recommendation to your team with regards to the attractiveness of the industry and the possibility of
maintaining earnings at a sustainable rate? (2 marks)
g) Based on the information below and on the assumption that you have made a positive
recommendation for valuation to your team, you have noted that the projected earnings of
Yatoya for the next FY is ?300M and have estimated return on equity as 17% with retention rate of 50%
and a required return on equity of 15%. What is Yatoya?s Market Capitalization and what is the
appropriate P/E for the firm? (3 marks)
(Total marks: 25)
QUESTION 3
Bron has EPS of $3.00 in 2002 and expects EPS to increase by 21 percent in 2003. EPS are expected to
grow at a decreasing rate for the following five years, as shown in the following table.
2003

2004

2005

2006

2007

2008

Growth rate
for EPS

21%

18%

15%

12%

9%

6%

Net capital
expenditures
per share

$5.00

$5.00

$4.50

$4.00

$3.50

$1.50

In 2008, the growth rate will be 6% and is expected to stay at that rate thereafter. Net capital expenditures
(capital expenditures minus depreciation) will be $5.00 per share in 2002 and then follow the pattern
predicted in the table. In 2008, net capital expenditures are expected to be $1.50 and will then grow at 6%
annually. The investment in working capital parallels the increase in net capital expenditures each year. In
2008, investment in working capital will be $0.375 and is predicted to grow at 6 percent thereafter. Bron
will use debt financing to fund 40% of net capital expenditures and 40% of the investment in working
capital.
The required rate of return for Bron is 12%.
Estimate the value of a Bron share using a two-stage Free Cash Flow to Equity valuation approach.
(25 marks)
QUESTION 4
This question has two parts.
a) Identify and critically evaluate implied volatility? Fully justify the problems associated with using implied volatility as a measure of yield volatility? (15 marks)
b) Suppose that the annualized standard deviation of the 2-year Treasury yield based on daily yields is
7% and the current level of the 2-year Treasury yield is 5%. Assuming that the probability distribution for the percentage change in 2-year Treasury yields is approximately normally distributed, how would you
interpret the 7% annualized standard deviation? (10 marks)

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