BUSINESS AND SHARE VALUATIONS

Valuation is an assessment of the worth of an enterprise which is subject to a merger or takeover

so that the value of the enterprise can be determined. Such valuation helps in determining the
value of shares of the acquired and acquiring company to safeguard the interest of the
shareholders of both companies. A share represents a bundle of rights, like, right to elect
directors, to vote on resolutions of the company, shares in the surplus, if any, on liquidation.
The above topic explores how various values can be placed on the assets of an enterprise.
Usually management, shareholders, and other stakeholders may wish to know the worth of a
business for various decisions. For instance, a shareholder may expect to know how much his
wealth is worth. This and many more other questions require the valuation of a business.

'Valuing a company is a part art and part science'

Placing value on a company is more of an art than a science, since there no had no fast scientific
rules to determining value of a business.
It should be recognized that the value of business is equal to the market or book value of the
aggregate of the number of shares of a company in issue.

MARKET CAPITALISATION
Market capitalisation is the market value of a company’s shares multiplied by the number of
issued shares.
WHEN VALUATIONS ARE REQUIRED
A share valuation will be necessary:
a. For quoted companies, when there is a takeover bid. A takeover is the acquisition by a company
of a controlling interest in the voting share capital of another company, usually achieved by the
purchase of a majority of the voting shares.
b. For unquoted companies, when:
 The company wishes to go public and must fix a price for its shares
 There is a scheme of merger
 Shares are sold
 Shares need to be valued for the purpose of taxation
 Shares are pledged as collateral for a loan
c. For any company, where a shareholder wishes to dispose of his or her shareholding. Some of the
valuation methods we describe will be most appropriate if a large or controlling interest is being
sold
d. For any company, when the company is being broken up in a liquidation situation or the
company needs to obtain additional finance or re-finance current debt.
e. During the complete Sale of company
INFORMATION REQUIREMENT FOR VALUATION
1. Financial statements for at least past five (5) years
2. Summary of Non-current assets list and depreciation schedule
3. Aged accounts receivable summary
4. Aged accounts payable summary
5. List of marketable securities
6. Inventory summary
7. Organization chart and management responsibilities
8. Information regarding the industry and economic environment
9. Projections or forecast for five years
10. Forecast dividend and earnings per share

POSSIBLE PROBLEMS WITH VALUING ASSETS

Asset values can be difficult because values ought to be realistic and attaching a figure to an
individual asset may vary considerably depending on whether it is valued on a going concern or
a break-up basis. Assets values can be based on:

 Historic basis
 Replacement basis (going concern basis)
 Realisable basis (break-up basis)

BASIS OF BUSINESS VALUATION

Businesses are usually valued using various models, including the following:
1. Asset valuation basis
2. Earnings valuation model
3. Dividend basis
4. Cash flow models

Each of the above models could be used to ascertain the value of a business at a particular point
in time. Either of these models provides different value to the business; it therefore rests on
management, shareholders or the stakeholder to decide on the appropriate value of the business.

ASSETS VALUATION MODELS

This is a valuation model which is based on the value of the firm's assets. Upon using the asset
valuation basis, the value of the company's shares is represented by the value of the assets. In this
regard, the value of shares is equal to the company's net assets.

Thus, the firm's value = Total Assets – Total liabilities.

Using this method of valuation, the value of a share in a particular class is equal to the net
tangible assets divided by the number of shares in issue. Intangible assets (including goodwill)
should be excluded, unless they have a market value (for example patents and copyrights which
could be sold).
a) Goodwill, if shown in the accounts, is unlikely to be shown as a true figure for the purpose of
valuation, and the value of goodwill should be reflected in another method of valuation (for
example the earnings basis)
b) Development Expenditure, if shown in the accounts, would also have a value which is related to
future profits rather than to the worth of the company’s physical assets.

Thus: Price per share = Net Tangible Assets

Number of shares in issue
 Or
Total tangible assets – Total liabilities
Number of equity shares issued

It should be noted that preference shares are taken as loan capital, and thus, treated as such.
GH¢
Total Tangible Assets xxx
Total Firm's liabilities, including preference share capital xxx
Net Assets xxx
Net Assets per share: Net Assets/number of ordinary shares in issue.

CHOICE OF ASSETS VALUATION BASIS

The choice of values attached to assets should be realistic. The reliability of the assets values
depends on two major concerns that, the business is valued on a going concerns basis or on the
grounds of liquidation.

The following assets values may be adopted by a firm:

 Historic cost valuation
 Replacement cost valuation
 Net Realizable value basis

HISTORIC COST VALUATION BASIS

This is an asset –based business valuation model where the value of the business is determined
on the basis of the book values of the assets. In this case, the net book value of the assets
represents the net book value of the company's shares in issue. This gives a share price of the
average of the net book values to the number of ordinary shares in issue.

The use of the historical or book values usually appears unrealistic since the values of the assets
are affected by the accounting policies, such as depreciation, amortization, etc., of the enterprise.
Again, the book values may not reflect prevailing market conditions or even the circumstance of
the enterprise itself.

REPLACEMENT COST BASIS

This is an alternative to the historical-cost business valuation. It is unlikely that a firm would use
the historical cost to determine its value, especially on the going concern basis. For the purpose
of going concern, businesses are usually valued using their replacement values of the assets. This
is based on the notion that the assets would be replaced regularly. The replacement cost is the
cost at which the asset can be replaced to its current state. It does mean acquiring a brand new
asset, but that which has the same state and life as the current asset.

NET REALISABLE VALUE BASIS

The net realizable value of assets represents the value at which the assets can be sold separable.
In this circumstance, the business is said to be have been liquidated or wound up. When the
business is likely to be sold to the extent that it will no longer exists, the break up values are
appropriate to use than the going concern values, such as the replacement cost or the historical
 values. The NRV represents the gross proceeds receivable from the sale of the business' assets in
an open market and all liabilities settled.

FACTORS AFFECTING ASSETS VALUATION MODEL

Factors to be considered before choosing asset values include the following:
 Whether there is need for a professional valuation and how much such a valuation is likely to
cost
 Whether or not all liabilities have been accurately valued e.g. deferred tax and any contingent
liabilities
 How have the current assets been valued? Are all debtors collectable and are all inventories
realizable?
 Can all hidden liabilities be accurately assessed? Would there be redundancy payments and
closure costs?
 Is there an available market in which the assets can be realized?
 Are there any prior charges on the assets?
 Does the business have a regular revaluation and replacement policy?

CIRCUMSTANCES UNDER WHICH THE ASSETS BASIS OF VALUATION SHOULD

BE USED
The net asset basis of valuation might be used in the following circumstances:
 As a measure of the 'security' in a share value. The assets’ backing for shares provides measure
of the possible loss if the company fails to make the expected earnings or dividend payments.
The value of the assets provides the guarantee that at a worse position that the company finds
itself, purchasers would be compensated by the quality of the assets. Where earnings are low, the
assets must be good enough to provide alternative reward to the shareholders through sale.
The asset backing for shares thus provides a measure of the possible loss if the company fails to
make expected earnings or dividend payments. Valuable tangible assets may be a good reason
for acquiring a company, especially freehold property which might be expected to increase in
value over time.

 As a measure of comparison in as scheme of merger. Merging refers to the pool of resources by

two or more companies so as to increase the value of the combined business compared to the
aggregate of the individual companies’ values(synergy). This is usually used when for the two
companies, one has a lower asset backing and the other has a higher assets backing. Thus, where
one firm has a low asset backing and the other having high asset backing, the weaker firm is
strengthened by the asset of the stronger asset.
 As a floor value- for business which is up for sale. Thus, with all the models that may be used,
the minimum price that will be acceptable to the shareholders is the asset values. Thus, at worse
value the asset value is appropriate. In effects, the asset value is the minimum acceptable price to
the shareholders.

Problems with the assets basis

There are two main problems with this valuation approach:
 In practice, realistic asset values are often difficult to identify because there is no necessarily an
active market in second-hand industrial assets.
 The technique only values the hard or tangible assets of the business (such as buildings,
machinery, and stocks) and ignores the company's intellectual assets.

The term 'intellectual assets' refers to such intangible assets as managerial know-how; work
force skills, education and training; network of suppliers; the distribution system; patents,
copyrights, trademarks, and brands, and general business contacts. These are amongst the most
valuable assets that any business uses, but this method ignores it since they do not appear on the
balance sheet.

Illustration:
Akosua,Oppong,Boadi and Isha are the directors of Dankwah and Sons Company Ltd.The
directors own 25% each of equity shares of the company.The directors would wish that the
company is sold as going concern to any interested entity.Akosua and Isha are of the view that
the values shown in the statement of financial position should be used to calculate the price at
which to offer to sell the company.Oppong and Boadi are of different opinion as they believe
that the replacement costs are more realistic.The following information is relevant:

Dankwah and Sons Ltd

Statement of Financial Position as at 2015

Non-Current Assets GH¢ GH¢

Freehold Premises 4,000
Plant and Equipment 8,000
12,000
Current Assets
Inventory 3,000
Trade Receivable 2,000
Cash 400 5,400
Total Assets 17,400

Capital and Liabilities

Ordinary shares of no par value 4,000
Income Surplus 6,800
10,800
Current Liabilities 2,600
Secured loan 4,000
17,400
The following information is relevant:
(i)Share Capital consist of 50,000 shares
(ii)The Replacement costs of the assets based on expert advice are:
GH¢
Freehold Premises 15,000
Plant and Equipment 20,000
Inventory 2,000

Required:
 Calculate the value of the company as a whole and the value of individual’s share value on the
following baisis:
(a)Book Values
(b)Replacement Costs
(c)Advice the directors which valuation basis are more appropriate
Solution:
(a)Book Value Method:
Value of Business = Total Assets – Total Liabilities
GH¢ GH¢
Total Assets 17,400
Total Liabilities:
Current 2,600
Loan 4,000 (6,600)
10,800
Individual’s share (0.25 x 10,800) = 2,700
Price (Net Asset)/share = 10,800
50,000
= GH¢0.22

(b)Replacement Cost: GH¢

Assets:
Freehold Premises 15,000
Plant and Equipment 20,000
Inventory 2,000
Receivables 2,000
Cash 400
39,400
Liabilities (2,600 + 4,000) (6,600)
32,800
Price / share = 32,800
50,000
= GH¢ 0.66
Individual’s share(0.25 x 32,800) = GH¢8,200
Advice:
The directors should accept the replacement cost basis since it is more realistic as compared to
the book value method.
INCOME VALUATION BASIS
This involves the use of the company's future earnings and/or past earnings as the basis of
valuing the company. The quality of the company's earnings is very important to every investor
since the basis of the investors' reward depends on the company’s earnings. There are number of
models that corroborate the use of the earning basis:
 The Price/Earnings ratio (P/E)
 Dividend basis
 Earnings Yield(EY)
 Accounting Rate of Return(ARR)
 Present Value of Future Earnings / Cash Flows
a. THE PRICE/EARNINGS RATIO (P/E):
This is a common method of valuing a controlling interest in a company, where the owner can
decide on dividend and retention policy. An investor of a large concern is much concerned with
the earning potential of the selling business as he/she is influenced by the reward afterwards.
Investors of this nature have controlling interest in the financial and operating policies, such as
the dividend policy, of the enterprise; hence, the earnings are important to them.

This model could be used to value a block of company usually listed on the stock market. It may
also be used to ascertain the value of an unquoted company, having adjusted for risk preferences,
quality of management, and other relevant variables required by the market.
The P/E ratio = Market Capitalization/Earnings of the company.

The valuations is therefore = P/E * earnings

Earnings: This is the total after tax company profit and preference dividends. It is the residue of
profit after tax and interest that is available to the equity shareholders. This EAIT (Earnings
After Interest and Taxes), as given in the income statement may require adjustments for
exceptional items and other unusual events and transactions such as sale of fixed assets, loss
arising from disaster, unrepresentative payment to managements, etc.

NOTE
The P/E ratio is usually available for listed companies and used (borrowed) for valuing an
unlisted company. It should be noted that the shares in an unlisted company are less marketable
than those of similar listed companies. Where an unquoted company is concerned, the P/E ratio
of a similar quoted company of a comparable size in the same industry with the same operating
risk should be reduced to take into account, the non-marketability of the shares. The
reduction is technically called an abatement factor.

THE SIGNIFICANCE OF THE PRICE- EARNING RATIO

A high price/earnings ratio may indicate the following:
 Expectation that the EPS will grow rapidly

 It provides a security of earnings. A well-established company will be valued on a higher P/E

ratio than a similar company whose earnings are subject to greater uncertainty

 Status: A quoted company would usually expect a higher P/E ratio than an unquoted company
when the former company makes a bid to acquire the latter company.

PROBLEMS WITH THE P/E RATIO

 A single years earning per share may not be a good basis, if earnings are volatile
 The quoted company may have a different capital structure from the unquoted company
 It is difficult obtaining similar company that may have the same business structure or risk to act
as the pure-play comparison.

FACTORS THAT INFLUENCE THE SIZE OF THE P/E RATIO

The following are some of the factors that influence the price of a share of a company:
 General economic and financial conditions e.g. inflation
 The type of industry and the prospect of the industry
 The size of the undertaking and its status within the industry
 The marketability of the shares of the company
 The diversity of shareholdings and the financial status of the principal shareholders
 The reliability of profit estimates and past profit records
 The level of gearing of the company
 Assets backing and liquidity
 The nature of the assets, for example, whether some of the fixed assets are of highly specialized
nature and so have only a small break-up value.

Illustration 1:
The statement of financial position of Kante Ltd,a private company,is as follows:
GH¢
Non – Current Assets:
Goodwill 500,000
Tangible 1,800,000
Net Current Assets 1,700,000
4,000,000
Share Capital:
1,800,000 ordinary shares @ GH¢1 each 1,800,000
Income Surplus 1,200,000
3,000,000
1,000,000 7% preference shares of NPV 1,000,000
4,000,000
The following information is relevant:
The price earnings ratio of a quoted company in the same industry is 12
(i)The premises included in the fixed assets figure is GH¢1,400,000 which at current rate is now
valued at GH¢1,500,000
(ii)The net current asset are considered to be overvalued by GH¢200,000
(iii)The preference share capital is redeemable at book value
(iv)The trend profit (or loss) before taxation is as follows:

Years GH¢
1 500,000
2 (50,000)
3 450,000
4 650,000
5 700,000
Required:
 How would you value the ordinary shares of Kante Ltd using the earning (P/E) basis?

Illustration 2:
Executive Group Ltd wishes to make a takeover bid for the shares of unquoted company,Special
Ltd,the earnings of Special Ltd over the past five years were as follows:
Years GH¢
2011 25,000
2012 36,000
2013 34,000
2014 35,000
2015 37,500

The average price earnings ratio of quoted companies in the industry in which Special Ltd
operates is 10.Quoted companies which are similar in many respects to Special Ltd are:
(a)True Vine Ltd which has a P/E ratio of 15,but is a company with a very good prospects
(b)Sweet Apple Ltd,which has had a poor profit record for several years,and has a P/E ratio of 7.

Required:
What would be a suitable range of valuations for shares in Special Ltd?

b. EARNING YIELD VALUATION MODEL

This model incorporates the volatility in the earnings than the use of the P/E ratio. It reciprocates
the P/E model in order to measure the growth rate or the earning yield as follows:

Earning Yield = Maintainable Earnings ×100%

Market valuation

Therefore: Market Valuation = Earnings

E/Y

Where there is expected growth in earnings:

Market Value = Earnings (1+g)

Ke- g

Earnings per share = Net Profit after tax- Preference Dividend

Number of ordinary shares in issue

Exactly the same guidelines apply to this method as for the P/E ratio method. Note that where
high growth is envisaged, the EY will be low, as current earnings will be low relative to a market
price that has built in future earnings growth. A stable earnings yield may suggest a company
with low risk characteristics.
 Illustration 1:
Below is a summary income statement of Sanchez Ltd for 2014:
GH¢ GH¢
Trading Profit 360,000
Less:
Directors Salary 76,000
Depreciation 44,000 120,000
240,000
Income tax (30%) (72,000)
Profit after tax 168,000
Proposed dividend (16,800)
15,200
Retained Profit 320,800
472,000
Assume:
 An expressed fair return of this class of business is between 20% and 25%
 The Directors remunerative to excessive and would normally be expected to be GH¢40,000.
 Rent for the period of GH¢76,000 have not been taken into account
 The number of shares owned is 800,000
 Both the change for depreciation and stock values are considered reasonable for this type of
business
 Market Values of freehold land is estimated at GH¢800,000.All other assets have no market
values

Required:
To value the shareholdings of Sanchez Ltd on earning basis

Solution:
GH¢ GH¢
Current Earnings before tax 240,000
Adjustments for:
Remuneration 36,000
Rent (76,000) (40,000)
Earnings before tax 200,000
Tax (30%) 60,000
Maintainable Earnings 140,000

Value of the Business:

Assuming security on assets rate of 20% is appropriate.
Value of Business = Maintainable Profit
Capitalisation Rate
= 140,000
0.2
= GH¢700,000
 Illustration 2:
A company is expected to generate future profits of GH¢30 million per annum. What is the value
of the company, based on earnings yield, if investment in the industry are expected to give
annual return of 12%.

Solution:
Profit after tax = GH¢30,000,000
Earnings Yield = 12%

Value of Business= GH¢30,000,000

0.12
=GH¢250,000,000

c. DIVIDEND VALUATION MODEL

This method is appropriate for valuing small shareholdings in unquoted companies. It is based
on the principle that small shareholders are mainly interested in dividends since they cannot
control decisions affecting the company’s profits and earnings.
The dividend yield ratio relates to the cash return from dividends to the current market value per
share. This ratio measures the return to an investor in the form of dividends for a cedi investment
and it is calculated as:
Dividend Yield = Gross dividend per share × 100%
Market price per share
By mathematically re-arrangement, the market price per share can be obtained by:

Market price per share = Dividend per share

Dividend yield
NB:The value of a share found by using such dividend yield will be adjusted downward for risk
differentials or the similar listed company’s yield should be adjusted upwards by the risk
factor before using it as the appropriate or suitable dividend yield.
 Dividend for the year in both interim and final dividends for the year.
 Use gross dividend or per share and not net dividend or per share.

 Where dividend growth is expected

Market price per share (ex-div.) = dividends (1 + growth rate)
Dividend yield – Expected growth rate
NB:
Using the Capital Assets Pricing Model (CAPM) formula
Required Rate of Return (r) = RF + B (RM – RF)
Where:
Rf = risk free
B = beta
Rm= return on market

It is often preferable to use gross dividends. In examination students’ may be required to

calculate the required return and this can be done using CAPM formula.
 Price per share = Dividend (1+g)
ke - g
The cost of capital is the cost of equity (Ke) or the Weighted Average Cost of Capital (WACC)
of the buying company (the acquirer). The appropriate rate is the Ke.

Problems of using the dividend yield

 Forecasting dividend is very difficult
 Problem deciding on the suitable dividend yield
 The valuation is affected by management’s dividend policy
 The valuation does not take into account the total performance of the company but only the
dividends declared.

REASONS WHY THE DIVIDEND YIELD OF A SIMILAR LISTED COMPANY NEED

TO BE ADJUSTED
 The shares of the listed company are more marketable compared to private unlisted companies
 Quoted companies often have more certain dividend policy than private unlisted companies
 Investments in quoted companies as less risky than in private unlisted companies since they are
more diversified
 Quoted companies are often bigger in size as compared to private unlisted companies
 The level of gearing may differ for listed and unlisted companies
 Other specific factors may need to be considered.

ASSUMPTIONS UNDERLYING THE DIVIDEND MODEL

 Investors are homogenous and rational
 The estimate of future dividends, prices, and cost of capital are reasonable.
 Dividends are used to signal the investors on the company's strength
 Growth in dividends is constant or nil
 There are no other influence on share price than dividends
 Discount rate exceed the growth in dividend

Illustration 1:
Dumelo Ltd is planning to obtain a stock market quotation by offering 45% of its shares to the
public.No new shares will be issued.It most recent summarized results are as follows:
GH¢
Turnover 250,631
Earnings 35,000
Number of shares in issue 60,000

The company is lowly geared and has a dividend policy of 50% retention.This retention policy is
expected to achieve 8% dividend growth each year.
Below is summarized detailed of two listed companies in the same industry as Dumelo Ltd:
Beautiful Ltd Gardner Ltd
Gearing (Total Debt/Total Equity) 48% 15%
Equity Beta 1.5 1.1
 The risk free rate of return is 20% per annum and the average market return is 28%.The shares
will be offered to the public at a price of 20% lower than the estimated market price valuation in
order to increase the prospects of the public issue.
Required:
What is the price per share?

Solution:
Using the Dividend Growth Model:
MPS = Dividend per share (1+g)
Ke – g
DPS = Total Dividend
No. of shares
Earnings = GH¢35,000
Payout ratio (50%) = GH¢17,500
Dividend per share = GH¢17,500
60,000
= GH¢0.29
Growth = 8%
Ke = rf + B(rm-fr)
= 20+1.1(28-20)
= 20 + 1.128
= 28.8
MPS = 0.29(1+0.08)
0.288-0.08
= 0.29(1.08)
0.208
= GH¢1.51
Actual Price = 0.8 x 1.51
= GH¢1.21

d. SUPER PROFIT METHOD

The value of a business using super profit is simply equal to Goodwill plus net book value assets
of the target company less liabilities. Thus, by this method, a fair rate of return is applied to the
net tangible assets and the result is compared with the expected profits. Any excess of profit
(referred to as super profit) is used to calculate goodwill. The goodwill calculated at a specified
number of years’ super profit is added to the value of target company’s net assets to arrive at a
value for the business.
Demerits of Super Profit Method
 the expected rate of return is subjectively or arbitrary chosen without any scientific precision
 The number of years’ purchase of super profit is arbitrary.
In effect,the value of the shares is determined as follows:
GH¢
Maintainable Earnings xxx
Less return on capital employed (Net Tangible Assets) xxx
Super profit xxx
Value of Assets (both Tangible and Intangible):
 GH¢
Goodwill (n x super profit) xxx
Net tangible assets xxx
Value of Business xxx

Where:
N = Number of years purchase of super profit
Capital employed = total tangible assets less total liabilities
Illustration:
Joe Boy Ltd has net tangible assets of GH¢96,000 and earnings of GH¢50,000.Storng Ltd wishes
to acquire the former and considers that a fair return for this type of industry is 25% and decided
to value Joe Boy Ltd’s goodwill at 4 years purchase of super profit.
Required:
Determine the value of Joe Boy Ltd.
Solution:
GH¢
Earnings 50,000
Return on Tangible Assets 24,000
Super Profit 26,000
Goodwill (26,000 x 4) 104,000
Value of Business:
GH¢
Net Tangible Assets 96,000
Goodwill 104,000
200,000

ACCOUNTING RATE OF RETURN (ARR) METHOD

This method considers the rates of return which will be required from the company whose shares
are to be valued. This valuation relates to the average annual profit of the company to the
accounting rate of return or the capital employed.
The ARR might be used in a takeover when the acquiring company is trying to assess the
maximum amount it can afford to pay.
If the valuation is for a takeover bid, it will be necessary to adjust the profit figure to allow for
expected changes after the takeover. Such adjustments may include new levels of directors’
remuneration, new levels of interest charges, a charge for notional rent and the effects of product
rationalization and improved management.
It is given as:
ARR = Profit after tax or ARR= Average Annual Profit after tax
Capital employed Average investment
Therefore, by re-arrangement, capital employed, which is equivalent to the value of the business,
is given as:
Value (price) per share = Estimated Profit after Tax
ARR

FORECAST (DISCOUNTED) CASH FLOW BASIS

 This is most appropriate when a company intends to buy the assets of another company and to
make further investments in order to improve on the cash flows in future. Thus, this method is
adopted when there is going to be additional capital investments to boost the current status of the
company acquired by the acquirer. The value of the company on this basis is the present value of
its future expected cash flows.

The only difference between the dividend model and the cash flow model is the fact that the
former uses the dividend policies of the enterprise whiles the latter is based on the genuine or
free cash flow of the company.

The free cash flow (FCF) is defined as the cash flow that is available to be distributed to the
suppliers of finance-both equity and debt capital-while maintain the company's continued
existence. It is equal to the firms operating cash flow after tax but before interest payments,
minus capital investments required to maintain the company' continued level of activity in the
future.

This free cash flow may grow constantly forever or irregularly.

FCF = operating cash flow – tax paid – capital maintenance charge + depreciation

Where the FCF grows irregularly:

Value of the company (Vo) = Present value of the discounted future expected FCF

Alternatively:
Constant growth: FCF (1+g)
WACC – g
g- Growth rate in FCF

Illustration :
Vigilance Ltd has been in existence since 2001, with steady results. Since 2007 it has generated
cash flow of GH¢80,000 and the directors expect this to continue for the next five (5) years.In
2007,at the AGM, the shareholders requested the directors of Vigilance Ltd to contact the
directors of Propaganda Ltd who were willing to sell the entire business of Propaganda Ltd for
GH¢130,000.The directors of Vigilance Ltd obtained the following results:
i. It was expected that Propaganda Ltd will make a profit of GH¢80,000 in each year for the next
five years, after charging annual depreciation of GH¢10,000.
ii. Propaganda Ltd has to repay a debenture of GH¢24,000 on 31st December,2009 will have to
replace a plant at a cost of GH¢60,000 on 31st December,2011
iii. If Propaganda Ltd is taken over, Vigilance Ltd will carry out a reorganization scheme and by 31st
December,2008 will be able to dispose of property to realize GH¢40,000 and to reduce the
combined working capital by GH¢10,000.It will also make an annual cost savings of GH¢5,000.
iv. The appropriate discount rate to be applied to the acquisition is 25%.Assume that the cash flow
arises at the end of the year.

Year 0 1 2 3 4 5
Discounting factor 1.000 0.800 0.640 0.512 0.410 0.328
Required:
Advise the directors of Vigilance Ltd on whether the acquisition of Propaganda Ltd at the stated
price should be undertaken.

Solution:
Project Appraisal (Business Valuation)
Years 2008 2009 2010 2011 2012
Cash Flows: GH¢ GH¢ GH¢ GH¢ GH¢
Annual Profit 90,000 90,000 90,000 90,000 90,000
Redemption of Deb. (24,000)
Asset Replacement (60,000)
Disposal of Property 40,000
Releasing of WC 10,000
Cost Savings 5,000 5,000 5,000 5,000 5,000
Net Cash Flows 145,000 71,000 95,000 35,000 95,000
Discounting factor 0.800 0.640 0.512 0.410 0.328
116,000 45,440 48,640 14,350 31,160
Total Present Value GH¢255,590
P.V of Investment (GH¢130,000)
NPV GH¢125,590

DUAL CAPITALISATION METHOD

This method of valuation is used to determine acceptable yields for both tangible and intangible
assets.Infact,this is much closer,to the super profit approach.It blends features of super profit and
the super profit valuation models.An acceptable rate of return is applied on the value of tangible
assets.The figure obtained is known as the return on tangible assets.This return is deducted from
the gross earnings to obtain the return on the intangible assets.The earnings attributable to the
intangible assets is capitalized at an acceptable rate of return;and thus ,added to the total tangible
assets to ascertain the value of the business.The earnings capitalized give rise to goodwill.
Illustration:
Yeremiah Ltd has an average earnings of GH¢75,000 and this approximate its maintainable
earnings.The tangible assets of the business is GH¢250,000 and the total liabilities of
GH¢50,000.The required return on the net tangible assets is 20%.The required return on the
intangible assets is pegged at 30% due to high risk associated with the company.
Required:
Determine the value of Yeremiah Ltd using the Dual Capitalisation model
Solution: GH¢
Earnings 75,000
Return on Tangible Assets (0.2 x 200,000) (40,000)
Return on Intangible Assets 35,000
Value of Intangible Asset = GH¢35,000
0.3
=GH¢117,000
Value of Business:
GH¢
 Tangible Assets 250,000
Intangible Assets 117,000
Liabilities (50,000)
317,000

SUGGESTED EXAMINATION APPROACH

Unless otherwise stated in the question in exams, the following may be followed:
 Briefly explain or define the method applied
 State the formula for calculating the value of the business under the method
 State any assumptions made and why
 Apply the formula to value the business and calculate the value per share
 Draw your conclusions as appropriate
 Briefly state the merits and flaws(demerits) in the formula applied.

QUESTION 1
Obuoba Ltd is a family controlled company that has grown over the years. The company is now
considering listing on the Stock Market. The MD believes that as the company has assets with a
book value of GH¢46 million and shareholders fund GH¢24 million, the company‟s value, when
listed should be at least GH¢70 million . He proposes that 500,000 new shares should be issued
to the public to raise approximately GH¢3.5 million for future expansion .
The company‟s financial performance for the last three years is summarized below:
Income statement for the years ended 31 December
2009 2010 2011
GH¢‟000 GH¢‟000 GH¢‟000
Sales 40,000 45,000 52,000
Cost of goods sold 25,000 26,000 29,000
Gross Profit 15,000 19,000 23,000
Admin expenses 3,000 4,000 4,500
Selling and general expenses 1,600 2,600 4,500
Interest payable 1,400 1,400 2,000
Net Profit before tax 9,000 11,000 12,000
Current Taxation @ 20% 1,800 2 200 2,400
Net profit after tax 7,200 8,800 9,600

Statement of Financial Position as at 31 December

2009 2010 2011
GH¢‟000 GH¢‟000 GH¢‟000
Non-current assets
Property, plant and equipment (Net):
Land and buildings 15,000 16,000 16,000
Plant 5,000 6,000 7,000
Investment (FVTPL) 2,000 2,000
Current Assets
Inventory 7,000 7,000 11,000
Trade Receivables 5,000 8,000 9,000
 Cash 1,000 1,000 1000
33,000 40,000 46,000
Financed by
Stated Capital (Issued at GH¢0.10 per share) 1,000 1,000 1,000
Retained earnings 18,000 19,000 23,000
Shareholders fund 19,000 20,000 24,000
Long term loans 7,000 7,000 11,000
Current liabilities
Trade payables 5,000 10,800 8,600
Taxation 2,000 2,200 2,400
33,000 40,000 46,000
Additional notes relating to the Income Statement for the year ended 31 December 2011 and the
Statement of Financial Position as at 31 December 2011 is as follows:
(i) Obuoba‟s income statement includes GH¢ 8 million of revenue for credit sales made on a
„sale or return‟ basis. At 31 December 2011, customers who had not paid for the goods, had the
right to return GH¢ 2·6 million of them. Obuoba applied a mark-up on cost of 30% on all these
sales. In the past, Obuoba‟s customers have sometimes returned goods under this type of
agreement.
(ii) The property, plant and equipment have not been depreciated for the year ended 31
December 2011. Obuoba has a policy of revaluing its land and buildings at the end of each
accounting year. The values in the above statement of financial position are as at 1 January 2011
when the buildings had a remaining life of 20 years. A qualified surveyor has valued the land and
buildings at 31 December 2011 at GHS 18 million. Additional plant was installed in January
2011. Plant is depreciated at 20% on the reducing balance basis.
(iii) The investments at fair value through profit and loss [FVTPL] are held in a fund whose
value changes directly in proportion to a specified market index. At 1 January 2011 the relevant
index was 150 and at 31 December 2011, it was 162.
(iv) In late December 2011, the directors of Obuoba discovered a material fraud perpetrated by
the company‟s financial accountant that had been continuing for some time. Investigations
revealed that a total of GH¢ 2 million of the trade receivables as shown in the statement of
financial position at 31 December 2011 had in fact been paid and the money had been stolen by
the Financial Accountant. An analysis revealed that GH¢ 1·5 million had been stolen in the year
to 31 December 2010 with the rest being stolen in the current year. Obuoba is not insured for this
loss and it cannot be recovered from the Financial Accountant.
(v) During the year taxable temporary differences of GH¢ 500,000 arose. The applicable income
tax rate is 20%. This has not been included in the figures in the financial statements above.
vi) The long term loans consists of:
 20% GH¢ 7 million debenture stocks issued on 1 January 2009 and redeemable at par on 31
December 2013; and
 15% GHS 4 million loan notes issued on 1 January 2011 and redeemable on 31 December 2012
for GH¢4,262,000 resulting in an effective interest rate of 18% per annum. This Financial
liability is to be measured at amortised cost.

(vii) The only movements in the statement of changes in equity [retained earnings column] in
2011 were the reported draft profit and dividend payment.
Obuoba‟s management has obtained some financial information on a listed company in the same
industry, which has the same number of listed equity shares as Sankofa.

Dadeba Ltd
Market capitalization GH¢42 million
Number of shares 10 million
Earnings per share GH¢0.60
Dividend pay-out ratio 60%
Required
a) Assess the validity or otherwise of the Managing Director‟s statement (5marks)

b) Advise the directors of Obuoba Ltd the values to be placed on an ordinary share using the
following methods
i) Price Earnings ratio
ii) Dividend yield
iii) Net Assets [fair values] (15 marks)

Note
The following assumptions and bases may be relevant:
i) The revised profit after tax for the current year may be a good representation of the earnings of
the entity.
ii) Additional information (i) – (iv) above would necessitate a revision of the 2011 Income
statement and statement of financial position profit. Dividend payment will however not be
affected
iii) Investing in unlisted securities is about 25% more risky than investing in listed securities.

(Total: 20 marks)
Solution:
(a). The Managing Director’s statement is incorrect for a number of reasons:
i. The figures are based on book values. It is more appropriate to use market values in arriving at
a valuation for listing purposes.
ii. The addition of total assets and surpluses is to double count since the surplus represents one of
the sources of finance use to acquire the existing assets.
iii. The liabilities should have been deducted from the total assets figure in order to arrive at the
net asset position of the company.
iv. The issue of 500,000 new shares would bring the total number of shares of the company to
10,500,000 . If only the new shares are offered on the exchange, this represents 4.7% of the total
number of shares. The minimum percentage that can be offered in the market is about 25%.
v. In view of the problems with the net assets valuation, and taken into account the valuation
estimates given below, Obuoba is unlikely to achieve the price of GH¢7 per share which would
be necessary to raise GH¢3.5 million from 500,000 shares

(b)
i. Revised Profit (for PE Ratio method)
GHS’000
Profit before Tax per draft accounts 12,000
URP on sale or return [30/130 x GHS2.6 m] (600)
Depreciation: Land and building (800)
Plant (1,400)
Fair valuation gain of FAFVTPL 160
Embezzlement: current year (500)
Additional interest [amortization] 720-600 (120)
-------
Profit before tax 8,740
Taxation: Current Tax @ 20% 1748
Deferred Tax [20% 500) 100
-------
(1,848)
---------
Profit after tax 6,892
=====

ii. Dividend Paid [For Dividend Yield method]

GHS’000
Retained earnings as at 31 December 2010 19,000
Reported profit 9,600
----------
28,600
Balance as at 31 December 2011 (23,000)
-----------
Dividend paid 5,600
=====
An alternative is to prepare a revised Income Statement as follows:
GHS’000
Sales (52000-2,600] 49,400
Cost of sales [29,000 – 2,000 + 800+1400] (29,200)
-----------
Gross Profit 20,200
Selling expense (4,500)
Admin (4,500)
Interest [2000+120] (2,120)
Fair valuation gain 160
--------
Profit before tax 8,740
Taxation (1,848)
--------
Net Profit 6,892
====
iii. Revised Net Asset [ For Net Assets Method]
GHS’000
Per the trial balance 24,000
Prior year adjustment [embezzlement] (1,500)
Adjustment to reported profit [9,600 – 6,892] (2,708)
Revaluation surplus – Land and buildings 2,800
--------
22,592
=====
An alternative is to prepare the revised SOFP as follows
GHS’000
Land and buildings 18,000
Plant 5,600
FAFVTPL 2,160
-------
25760
-------
Current assets
Inventory 11,000+ 2000 13,000
Trade receivables [9,000-2,000 -2,600] 4,400
Cash 1,000
--------
18,400
--------
Total assets 44,160
====
Equity
Stated capital 1,000
Revaluation surplus 2,800
Retained earnings [23,000- 1500 - 2708] 18,792
------
22,592
Non-current- liabilities
Long term loans [7,000 + 4120] 11,120
Deferred tax provision 100
Current liabilities
Trade payables 8,600
Current tax 1,748
-------
44,160
i. Price Earnings Ratio
Value per share = EPS X PE ratio
EPS GHS6,892,000/10 million shares = GHS 0. 6892
PE ratio = That of Dadeba as adjusted
= (GHS4.20/GHS0.60) = 7 adjusted to 5.25
Value per share = GHS0.6892 x 5.25 = GHS3.6183

ii. Dividend Yield Method

Value per share = Do/Dividend yield
 Do = GHS5,600,000 / 10m shares = GHS0.5600
Dividend yield = That of Dadeba as adjusted
= (GHS0.36/GHS4.20) = 8.57% adjusted to 10.71% or 11.42%
Value per share = GHS0.5600/0.1142 = GHS4.9037 or GHS0.5600/0.1071 = GHS5.228

iii. Net Assets Method

Value /share = Net Assets/No of ordinary shares
=GHS22,592,000/10 million shares
=GHS2.2592

QUESTION 2
Quality Handicraft Ltd [QHL] produces handicrafts for both local and foreign market. The
company was incorporated in the year 2008 and now employs about 150 craftsmen.
The shareholders of QHL mainly comprise the original founder and close family members who
would now like to realize their investment. In order to arrive at an estimate of what they believe
the business is worth, they have identified a long established quoted company, Suama Handicraft
Company [SHC] which has similar business, though it also produces for the European market.
Summarized financial statistics for the two companies for the most recent financial year are as
follows:
QHL SHC
Issued shares (million) 8 20
Net assets value [GH¢ ’million] 14.4 30
Earnings per share (pesewas) 35 28
Dividend per share (pesewas) 20 24
Debt: Equity ratio 1:7 1:6.5
Share price (as quoted on the stock market) - pesewas - 160
Expected rate of growth in earnings/dividends 5% 5%
Additional Information:
i. The net assets of QHL stated above are the net book values of tangible non-current assets plus
working capital. However:

 A recent valuation of the buildings was GH¢1,500,000 above book value

 An investment held which is designated as available for sale with a carrying value of
GH¢1,000,000 is fair valued at GH¢1,100,000
 Due to a dispute with one of their clients, an additional allowance for bad debts of GH¢750,000
could prudently be made.
 An item of plant with a carrying value of GH¢800,000 is assessed to have value-in-use of
GH¢760,000 and fair value less cost to sell of GH¢780,000.

ii. Growth rate should be assumed to be constant per annum. QHL’s earnings growth rate
estimate was provided by the marketing manager, based on expected growth in sales adjusted by
normal profit margins. SHC’s growth rates are gleaned from press reports.

iii. The dividend yield of SHC approximates its cost of equity.

Required:
(a) Compute a range of valuations for the business of QHL, using the information available and
stating any assumptions made. Use the following methods for the valuation (Net Assets, Price-
earning method and dividend growth methods) (9 marks)

(b) Comment on the strengths and weaknesses of the methods used in (a) and their suitability for
valuing QHL
(6 marks)

Note: The additional information (i) may affect the net asset value and the earnings per share
stated above. Ignore tax implications.
(Total: 15 marks)
Solution:
Net Assets Method GH¢’000
Net Assets as per the draft account 14,400
Adjustments:
Revaluation surplus –buildings 1,500
Fair valuation surplus –AFSFA 100
Allowance for doubtful debts (750)
Impairment loss (20)
Value of business 15,230
Price earnings Ratio Method
Value of business = Earnings x PE Ratio
Earnings GH¢’000
Per draft accounts [GH¢0.35 X 8 million shares] 2,800
Adjustments
Allowance for doubtful debts (750)
Impairment loss (20)
2,030
PE Ratio
Taken that the PE Ratio of the unlisted entity must be adjusted for lack of marketability and
higher risk
PE Ratio of SHC = 160p/28 p =5.7
Adjusted to say 4
Value of business = GH¢2, 030,000 X 4 = GH¢8,120,000
Dividend Growth method
Value of business = Do(1+g)/(DY-g)
Do = GHS0.20 X 8,000,000 shares = GH¢1,600,000
DY = that of listed entity (appropriately adjusted)
= 24p/160p =15%
Adjusted to say 20%
Value of business = GH¢1,600,000X 1.05
0.20 – 0.05
= GH¢1,680,000/0.15
= GH¢11,200,000
Summary GH¢
PE Ratio 8,120,000
Dividend growth 11,200,000
Net Assets 15,230,000

b) Comment on relative merits of the methods used, and their suitability

Asset Based Valuation
Valuing a company on the basis of its asset values alone is rarely appropriate if it is to be sold on
a going concern basis. Exceptions would include property investment companies and investment
trusts, the market values of the assets of which will bear a close relationship to their earning
capacities.
Knowledge of the Net Asset Value (NAV) of a company will, however, be important as a floor
value for a company in financial difficulties or subject to a takeover bid. Shareholders will be
reluctant to sell for less than the net asset value even if future prospects are poor.
P/E Ratio Valuation
The P/E ratio measures the multiple of the current year’s earnings that is reflected in the market
price of a share. It is thus a method that reflects the earnings potential of a company from a
market point of view. Provided the market is efficient, it is likely to give the most meaningful
basis for valuation.
One of the first things to say is that the market price of a share at any point in time is determined
by supply and demand forces prevalent during small transactions, and will be dependent upon a
lot of factors in addition to a realistic appraisal of future prospects. A downturn in the market,
economies and political changes can all affect the day-to-day price of a share, and thus its
prevailing P/E ratio. It is not known whether the share price given for SHC was taken on one
particular day, or was some sort of average over a period. The latter would perhaps give a
sounder basis from which to compute a applicable P/E ratio.
Even if the P/E ratio of SHC can be taken to be indicative of its true worth, using it as a basis to
value a smaller, unquoted company in the same industry can be problematic.
The status and marketability of shares in a quoted company have tangible effect on value but
these are difficult to measure.
The P/E ratio will also be affected by growth prospects – the higher the growth expected, the
higher the ratio. The growth rate incorporated by the shareholders of SHC is probably based on a
more rational approach than that used by QHL.
In the valuation in (a) a crude adjustment has been made to SHC’s P/E ratio to arrive at a ratio to
use to value QHL’s earnings. This can result in a very inaccurate result if account has not been
taken of all the differences involved.

Dividend Based Valuation

The dividend valuation model (DVM) is a cash flow based approach, which valued the dividends
that the shareholders expect to receive from the company by discounting them at their required
rate of return. It is perhaps more appropriate for valuing a non-controlling shareholding where
the holder has no influence over the level of dividends to be paid than for valuing a whole
company, where the total cash flows will be of greater relevance.
The practical problems with the dividend valuation model lie mainly in its assumptions. Even
accepting that the required ‘perfect capital market’ assumptions may be satisfied to some extent,
 in reality, the formula used in (a) assumes constant growth rates and constant required rates of
return in perpetuity.
Determination of an appropriate dividend yield/cost of equity is particularly difficult for an
unquoted company, and the use of an ‘equivalent’ quoted company’s data carries the same
drawbacks as discussed above. Similar problems arise in estimating future growth rates and the
results from the model are highly sensitive to changes in both these inputs.
It is also highly dependent upon the current year’s dividend being a representative base from
which to start.
The dividend valuation model valuation provided in (a) results in a higher valuation than that
under the P/E ratio approach. Reasons for this may be:
 The share price of SHC may be currently depressed below its normal level, resulting in an
inappropriate low P/E ratio.
 The adjustment to get to an appropriate P/E ratio for QHL may have been too harsh, particularly
in light of its apparently better growth prospects.
 The dividend yield/cost of equity used in the dividend valuation model was that of SHC. The
validity of this will largely depend upon the relative levels of risk of the two companies.
Although they both operate the same type of business, the fact that SHC sells its material
externally means it is perhaps less reliant on a fixed customer base.
Even if business risks and gearing risk may be thought to be comparable, a prospective
buyer of QHL may consider investment in a younger, unquoted company to carry
greater personal risk. His required return may thus be higher than that envisaged in the
dividend valuation model, reducing the valuation.

BUSINESS VALUATION
Question 1(nov 2017)
Santader Limited intends to take over Agos Limited. The financial statements of Agos
Limited for the year ended 30 June 2016 are as follows:
Agos Limited
Income Statement for the year ended 30 June, 2016
GH¢
Profit before tax 450,000
Tax 125,000
Profit after tax 325,000

Statement of Retained Earnings for the year ended 30 June 2016.

GH¢
Balance at beginning 250,000
Profit after tax 325,000
Dividend paid (180,000)
Balance at end 395,000

Statement of Financial Position as at 30 June 2016 GH¢ GH¢

Non-current Assets:
Freehold land and building at cost 204,500
Plant and machinery (Net) 156,700
Motor vehicles (Net) 560,000
Patent 150,000
1,071,200

Current Assets:
Inventories 500,000
Trade receivable 680,000
Bank balance 120,000
1,300,000
Current Liabilities:
Trade payable 240,000
Accrued expenses 180,000
420,000
Net current assets 880,000
1,951,200

Financed By:
Stated capital ordinary shares issued @GH¢1
1,000,000
Retained earnings 395,000
1,395,000
25% Debenture stock 556,200
1,951,200

Additional Information:
i) Turnover, profits before tax and dividend of Agos Limited over the past 5 years were
as follows:
Year Ending Sales Pre-Tax Profits Dividend
30 June
GH¢ GH¢
GH¢
2012 5,800,000 250,000 65,000
2013 6,900,000 320,000 80,000
2014 7,700,000 330,000 100,000
2015 8,500,000 410,000 120,000
2016 9,800,000 450,000 180,000

ii) The patent represents a license to produce and sell a special product. This product is
expected to generate a pre-tax profit of GH¢12,000 per annum in perpetuity.
iii) The discount rate of Agos Limited is 10% per annum.
iv) Nhyira Limited, a major competitor of Agos Limited, is listed on the Stock Exchange
and has a P/E ratio of 8 and a dividend yield of 10%.
v) Nhyira Limited expects a return of 11% of the net assets.
 Required:
Estimate the value per share of Agos Limited as at 30 June, 2016 using the following
methods:
i) Net Assets (4 marks)
ii) Dividend valuation (4 marks)
iii) Price/earnings ratio (4 marks)

Note
1. You may assume that it is about 10% more risky investing in unlisted entity than
investing in listed entity.
2. Unless otherwise deemed inappropriate, the current year’s financial statements
(appropriately adjusted) may form the basis of the valuation.

(Total: 12 marks)
BUSINESS VALUATION: Question 2. (may 2016)
In 2016, the shareholders of Power Ltd decided to sell their equity stake in the company. The
company is not listed and the new shareholders plan to prepare the company for listing once the
acquisition was completed. The summarized financial statements of Power Ltd for the year
ended 30th June, 2016 are stated below:
Statement of Income for the year ended 30th June, 2016
GH¢
Profit before tax 24,800,000
Taxation (8,000,000)
Profit after tax 16,800,000
Dividends (3,200,000)
Retained Earnings 13,600,000

Statement of Financial Position as at 30th June, 2016

GH¢
Non-Current Assets 62,400,000
Current Assets 21,400,000
83,800,000

Current Liabilities 12,800,000

Long Term Liabilities 35,000,000
47,800,000

Net Assets 36,000,000

Stated Capital 20,000,000

Retained Earnings 16,000,000
36,000,000
The following additional information is provided;
1) The discounted present value of future cash payments in respect of the long-term loan is
GH¢48,800,000.
2) The stated capital of Depot Ltd is made up of 25,000,000 ordinary shares of no par
value.
3) Current Assets include inventory of GH¢6,600,000 representing goods received from a
major supplier on "not for sale but display only" basis.
4) The fair value of the tangible non-current assets was GH¢96,000,000.
5) The profit for the current year includes VAT of 17.5% on turnover of GH¢8,500,000
being invoice amount sold to a customer.
6) The discount rate of Depot Ltd is 10% per annum.
7) Warehouse Ltd, a major competitor of Depot Ltd is listed with a P/E ratio of 9 and
dividend yield of 5.2.
8) Profits after tax over the 4 years were as follows;
GH¢
30th June 2015 12,000,000
30th June 2014 14,400,000
30th June 2013 6,400,000
30th June 2012 11,200,000

Required:
Compute the value to be placed on the ordinary shares using three methods of valuation and
advise the Directors accordingly.

Question 3
In February 2016 the shareholders of Adu Ltd a private company, decided to list on the Ghana
stock exchange to make a public offer of its shares. The financial statements of the company for
the year 2016 are given below:

Statement of Comprehensive Income for the year-ended 28 February, 2016

GH¢
Turnover 212,600
Cost of sales 58,900
Gross profit 153,700
Selling, general & administrative expenses 86,400
Profit before taxation 67,300
Taxation 12,300
Profit after taxation 55,000
Proposed dividend 9,000
Retained profit 46,000

Statement of Financial Position at 28 February 2016

GH¢
Patent 40,000
Tangible Asset 236,000
Inventory 26,520
 Receivables 25,800
Bank and cash 7,200
Trade payables (11,600)
Accred charges (1,600)
18% Debenture (13,000)
309,320
Equity
Stated capital 200,000
Share deals 25,820
Retained earnings 83,500
309,320
Additional information
1. The stated capital of Adu Ltd is made up of 2,500 ordinary shares of no par value
2. the fair value of the tangible assets has been estimated at GH¢440,000 by an independent valuer,
valuation charges of 2.5% have not been accrued for the above accounts .
3. The inventory include obsolete items worth GH¢2,200 being hold despite persistent advice by
the auditors to have them written off.
4. Receivables include an amount of GH¢15,000 resulting from the bankruptcy of a major
customer. Adu Ltd is not likely to realize any amount from this but the directors have refused to
make any provisions
5. The patents represent a right to sell a special product. This product is expected to generate cash
flows of GH¢1,500 per annum indefinitely.
6. The discounted present value of future cash payments in respect of the debenture is GH¢16,500.
7. Profits after tax of Adu Ltd over the past four years were as follows:
Year 2015 2014 2013 2012
Profits (GH¢) 36,000 30,000 28,000 34,000
8. A corporate plan prepared by the directors of Adu Ltd in 2015 included the following positions
Year to 30 June Profit after tax Depreciation
GH¢ GH¢
2015 38,000 5,600
2016 41,500 8,300
2017 40,000 10,000
2018 43,000 12,000
2019 46,000 15,000
2020 50,000 16,000
2021 55,000 18,000
9. The price-earning ratio and dividend yield of quoted companies in the same line in the same
industrial sector in which Adu Ltd operate are 8 and 4.5%
10. the net assets of Adu Ltd as at 28 February 2015 was GH¢251,100
11. The cost of capital of Adu Ltd is 20%

Required
Using any four methods of valuation advise the directors of Adu Ltd on the value to be
place on the ordinary shares.

QUESTION 4
 POWER Limited operates a large-scale commercial farm. It now plans to off-load some of its
shareholding to the public in order to raise funds to expand its operations.
Financial statements of POWER Limited are as follows:
Statement of Comprehensive Income for the year-ended 31st December, 2016
GH¢
Turnover 245,800
Cost of sales 117,300
Gross profit 128,500
Selling, general & administrative expenses 87,140
Earnings before interest & tax 41,360
Interest 3,360
Profit before taxation 38,000
Taxation at 25% 9,500
Profit after tax 28,500

Income Surplus Account for the year ended 31st December 2016
GH¢
Balance at 1/1/2015 95,940
Profit for the year 28,500
Dividends paid (12,400)
Balance at 31/12/2016 112,040

Statement of Financial Position as at 31st GH¢

December, 2016 GH¢
Property, plant & equipment 197,500
Patents 16,400
Development expenditure 26,100
240,000
Current Assets
Inventories 43,400
Receivables 25,002
Bank and cash 11,888
80,290
Current Liabilities
Payables 30,800
Net Current assets 49,490
289,490
14% Medium-term loan (24,000)
Net assets 265,490
 Financed By:
Stated capital 100,000
Capital surplus 53,450
Income surplus 112,040
265,490
Additional Information:
(i) Stated Capital is made up as follows:
GH¢
Ordinary shares (issued @ GH¢0.20 each) 80,000
22% Irredeemable Preference Shares 20,000
100,000
(ii) A review of the development expenditure revealed that 60% of it is worthless.
(iii) An independent valuer has placed values on some of the assets, detailed as follows:

GH¢
Property, plant & equipment 222,000
Inventories 32,400
Receivables 20,000

(iv) Profit forecasts for the next five years are as follows:
Profit before tax Depreciation Charge
GH¢ GH¢
2017 29,800 2,200
2018 32,000 2,450
2019 38,500 3,100
2020 39,600 4,050
2021 43,100 4,260

The estimated profit before tax figures are arrived at after charging the estimated depreciation.
(v) Yam Limited is a competitor listed on the Ghana Stock Exchange and data extracted from its
recently published statements revealed the following:

 Market capitalisation = GH¢2,000,000

 Number of ordinary shares = 800,000
 Earnings per share = GH¢0.20 (20 pesewas)
 Dividend payout ratio = 80%

(vi) The patents represent a license to produce an improved variety of potatoes and is expected to
generate a pre-tax profit of GH¢20,000 per year for the next five years.

(vii) The cost of capital of POWER Limited is 18%.

Required:
(a) Determine the value to be placed on each share of POWER Limited using the following
methods of valuation:

(i) Net assets

(ii) Prices-earnings ratio
(iii) Dividend yield
(iv) Discounted cash flow
(12 marks)
The discount factors and annuity at 18% for the relevant years are as follows:
Year 1 2 3 4 5
Discount factor 0.847 0.718 0.609 0.516 0.437
Annuity 0.847 1.565 2.174 2.690 3.127
(b) Outline any three (3) reasons why the dividend yield of Yam Ltd should be adjusted before it
is used to value the shares of POWER Limited. (3 marks)
(Total: 15 marks)
Question 5 )
The shareholders of Wunam Bank (Ghana) Limited, have decided to sell the company to GCC
Bank (Ghana) Limited following their inability to recapitalize the company as being demanded
by the Bank of Ghana. The statement of financial positions of the two banks as at 31st March
2018 are given below.
GCC Bank Ltd Wunam Bank
GH¢000 GH¢000

Cash and balances with other banks (Note (vi)) 43,000 6,250
Investments (Note (ii))
 64,250 13000
Loan & advances (Note (i))
 115,100 16,700
Other assets (Note (iii)) 3,150 4,250
Property, Plant & Equipment (Note (v)) 14,300 8,650
239,800 48,850
Deposits and Current Accounts (Note (iv)) 191,100 37,750
Other liabilities (Note (vii)) 4,050 11,000
195,150 48,750
Stated Capital (Note (x)) 22,500 2,500
Statutory Reserve Fund 5,100 900
Retained Earnings 17,050 (3,300)
44,650 100
239,800 48,850

The following additional information relate to Wunam Bank Ltd;

i) Wunam Bank Ltd. carries a huge non-performing loan portfolio. It is estimated that only 40%
of the outstanding loans are recoverable. 

ii) Investments represent91-DayTreasuryBills held as secondary reserves. An audit has shown
that the investments were overstated in 2017 as interest on investments for that year amounts to
GH¢4.15 million. 

iii) Other assets include long outstanding debits amounting to GH¢3.6 million. These are not
represented by tangible assets. 

 iv) Deposits amounting to GH¢3.75 million could not be accounted for. This phenomenon has
prevailed since 2014 but has not been provided for in the accounts. 

v) Property, plant and equipment include an old banking software amounting to GH¢1.25
million. This is considered worthless. The remaining tangible fixed assets have been revalued at
GH¢15.3 million. 

vi) Cash and balances with other banks include an amount of GH¢2.4 million due from Sakara
Rural Bank Ltd which was liquidated in 2016. 

vii) Other liabilities include interest earned on investments amounting to GH¢3.15 million. 

viii) Goodwill was assessed at 2.5% of adjusted deposits and current accounts.
. ix) Wunam Bank Ltd. has been investing each year in Government bonds to provide funds in
order 
to install Automatic Teller Machines and to open two ultra-modern branches in Takoradi
and Kumasi respectfully. This practice is only known to the Managing Director and the Finance
Manager, and the investments are worth GH¢12.6 million as at 31 March, 2018. 

. x) The stated capital of Wunam Bank Ltd. is made up of 100 million ordinary shares of no par
value. 

Required: 

. a) Identify FOUR (4) factors you would consider in determining the value to be placed on assets

when using the net assets approach to valuation of Wunam Bank Ltd. (4 marks) 

. b) Determine the value to be placed on the shares of Wunam Bank Limited using the net assets

approach to valuation. (5 marks) 

. c) Prepare the statement of financial position of GCC Bank (Ghana) Limited after the takeover
using your answer in (b) above. Assume the following: The purchase consideration was duly
settled; GCC Bank Ltd. took over all assets and liabilities; and Goodwill was written off. 

(6 marks) (Total: 15 marks) 


solu
QUESTION THREE
a) Factors to consider in determining the value to be placed on assets.
i) Consideration of whether or not the assets should be professionally valued. 

ii) The existence of hidden liabilities such as contingent liabilities, deferred taxes, 
redundancy
payments, among others 

iii) The realisability of receivables such as debtors and other bills receivables. Also consider the
recoverable amount of inventories. 

iv) Consideration of whether or not the assets can be separately disposed of in the open market.

v) Consideration of whether or not there are prior charges on any of the assets. 

vi) The specific valuation basis to use whether it should be going concern basis, replacement cost
basis, breakup basis. 

(b)
(Any four points for 1 mark each up to a maximum of 4 marks)

GH¢000
Loans and Advances (40% x 16,700) 6,680
Investment (13,000 – 4,150) 8,850
Other Assets (4,250 – 3,600) 650
Deposit and Current Assets (37,750 + 3,750) (41,500)

Property, Plant & Equipment 15,300

Cash and Balances (6,250 – 2,400) 3,850

Other Liabilities (11,000 – 3,150) (7,850)

Interest Receivable 3,150

Goodwill (25% of 41,500) 1,037.5

Investment in Govt. Bonds 12,600

2,767.5
Total value of company

Price of a share GH¢2,767,500/100,000,000 =GH¢0.0277

(10 ticks x 0.50 mark per tick = 5 marks)
(c) GCC BANK LIMITED
Statement of financial position as at 31/03/18 merger or
amalgamation

GH¢000

Cash balance with other banks (43,000 + 3,850-2,767.5) 44,082.5

Investments (64,250 + 8,850) 73,100

Investment in government bonds 12,600

Loans & advances (115,100 + 6,680)

121,780

Other assets (3,150 + 650) 3,800

29,600
Property plant & equipment (14,300+ 15,300)

284,962.5

Deposit and current accounts (191,100+ 41,500) 232,600

Other liabilities (4,050 + 7,850) 11,900

Total liabilities 244,500
Stated capital
22,500

Statutory reserve fund 5,100

12,862.5
Income Surplus (17,050 – 3,150 – 1,037.5)

40,462.5
Total equity

Total liabilities and equity 284,962.5

Question 6

The Board of Pogas Furniture Ltd (PFC) after few years of incorporation has decided to get the
company listed on the Ghana Stock Exchange. The Board has contacted you to assist in
determining the true value of the business as at 31 December 2018 and to provide a range of
possible issue price based on Net Assets and Earnings Yield. Oliso Ltd, a listed company and a
competitor of PFC, current results show price-earnings ratio of 5 and earnings yield of 20%. The
summarised unaudited financial statements of PFC are as follows:

Statement of profit or Loss for the year ended 31 December 2018

GH¢’000
Sales Revenue (note i) 150,000
Cost of Sales (72,000)
Gross Profit 78,000
Operational Expenses (34,800)
Finance Costs (Interest on debenture stocks) (1,200)
Net Profit 42,000
Taxation (@ 25%) (10,500)
Profit for the period 31,500

Statement of financial position as at 31 December 2018

Assets
GH¢’000
Non-current assets (note ii)
Property at Valuation (Land GH¢3 million; buildings GH¢ 27 million) (ii) 30,000
Plant and Equipment (ii) 24,000
Intangible Asset – Patent Right (ii) 3,000
Financial Asset (fair valued through profit or loss at 1/1/2018) (iii) 7,500
64,500
Current Assets (note iv) 30,000
Total Assets 94,500
Equity and Liabilities
Stated Capital (4 million shares issued at GH¢3.00 per share) 12,000
Retained Earnings 57,960
69,960

Non-current liabilities
20% Debenture Stocks (2018-2020) 6,000
Deferred Tax provision -1 January 2018 (note v) 4,500

Current liabilities
Trade Payables 3,540
Current Tax liability 10,500
Total Equity and Liabilities 94,500

Your examination of the financial statements and the underlying records revealed the
following additional information:
i) The sales revenue includes GH¢24 million of revenue for credit sales made on a 'sale
or return' basis. At 31 December 2018, customers who had not paid for the goods, had
the right to return GH¢7.8 million of them. PFC applied a markup on cost of 30% on all
these sales. In the past, PFC’s customers have sometimes returned goods under this
type of agreement.

ii) The depreciable non-current assets have not been depreciated for the year ended 31
December 2018.

year. The values in the above statement of financial position are as at 1 January 2018
when the buildings had a remaining life of 18 years. A qualified surveyor has valued the
land and buildings at 31 December 2018 at GH¢33 million.

basis. As at 31 December 2018, the value in use and the fair value less cost to sell were
assessed at GH¢21.3 million and GH¢20.25 million respectively.

expected to be used for 5 years after which the right of usage would have to be
renewed in January 2023.

iii) The financial assets at fair value through profit or loss are held in a fund whose value
changes directly in proportion to a specified market index. At 1 January 2018 the
relevant index was 240.0 and at 31 December 2018 the index was 259.2

iv) In late December 2018, the directors of PFC discovered a material fraud perpetrated
by the company's credit controller. Investigations revealed that a total of GH¢9 million of
the trade receivables (included in current assets) as shown in the statement of financial
position at 31 December 2018 had in fact been paid and the money had been stolen by
the credit controller. An analysis revealed that GH¢3 million had been stolen in the year
to 31 December 2017 with the rest being stolen in the current year. PFC is not insured
for this loss and it cannot be recovered from the credit controller since his where about
is unknown.
v) As at 31 December 2018, the company’s taxable temporary differences had
increased to GH¢24 million. The deferred tax relating to the increase in the temporary
differences should be taken to profit or loss. The applicable corporate tax rate is
25%.The above figures do not include the estimated provision for current income tax on
the profit for the year ended 31 December 2018. After allowing for any adjustments
required in items (i) to (iv), the directors have estimated the provision of current tax
liability for 2018 at 25% of adjusted profit. (This is in addition to the deferred tax effects
of item (v)).

(Note: Assume that it is about 20% riskier in investing in a non-listed entity (as compared
with a listed entity.)

Required
a) Redraft the financial statements above (taking into consideration the additional
information (i) – (v) above.
(11 marks)
b) Based on the revised financial statements, provide a range of possible issue prices per
share using Net Assets Method and Earnings Yield/Price Earnings Ratio Method.
(4 marks)

Solutions

(PFC) Revised Financial Statement

Statement of profit or Loss for the year ended 31 December 2018
GH¢’000
Sales Revenue (150,000-7,800) 142,200
Cost of sales (72,000-6,000 (W1) (66,000)
Gross Profit 76,200
Operational Expenses (34,800)
Depreciation/Amortization (3,000+600+1,500) (W2) (5,100)
Bad debts (9,000-3,000) (6,000)
Fair valuation gains of FA (W3) 600
Finance costs (Interest on debenture stocks) (1,200)
Net Profit 29,700
Current Taxation (@ 25%) (7,425)
Deferred Tax (1,500) (8,925)
Net Profit for the period 20,775
OCI 4,500
Total Comprehensive Income 25,275

Statement of financial position as at 31 December 2018

Assets GH¢’000
Non-current assets (note ii)
Property at valuation 33,000
Plant and equipment (24,000 -3,000) 21,000
Intangible Asset – Patent Right (3,000 – 600) 2,400
Financial asset (fair valued through profit or loss) W3 8,100
64,500
Current Assets (30,000 – 7,800 + 6,000 – 9,000) 19,200
Total Assets 83,700

Equity and Liabilities

Stated Capital (4 million shares issued at GH¢3.00 per share) 12,000
Retained Earnings W4 44,235
Revaluation Surplus (30,000 – 25,500) 4,500
60,735
Non-current liabilities
20% Debenture Stocks (2018-2020) 6,000
Deferred Tax provision - 31 December 2018 (25% of 24,000) 6,000
Current liabilities
Trade Payables 3,540
Current Tax liability 7,425
Total Equity and Liabilities 83,700

WORKINGS
W1 Cost of Sales
Sale or return
Dr Revenue 7,800
Cr Current Assets 7,800
Mark up = 30%
130% = 7,800
100/130 * 7,800 = 6,000

Dr Current Assets 6,000

Cr Cost of Sales 6,000

W2 Depreciation/Amortisation
Property
Land 3,000
Building 27,000
27,000/18 years = 1,500 depreciation
Plant and equipment
12.5% on reducing balance
=0.125*24,000 =3,000
Amortisation of Intangible asset
=3,000/5 years = 600

W3 Fair value through profit or loss

Index, If 240.0 = 7,500
259.2 = ?
259.2/240 * 7,500 = 8,100
Fair value gain = 8,100-7,500 =600
W4 Retained Earnings
As per balance sheet = 57,960
Profit for the year as per profit or loss = (31,500)
 Prior year retained earnings 26,460
Less prior year fraud 3,000
23,460
Add profit for the year 2018 20,775
44,235

b) Share Valuation

(i) Net Assets Basis

Value of a share = Net Assets/No. of shares
= GH¢60,735,000/4 million shares
= GH¢15.183
(2 marks)

(ii) Earnings Yield

Value of a share = EPS/Earnings Yield
EPS = GH¢20,775,000/4 million shares
= GH¢5.194
Earnings Yield = PFC (20%) discounted to say 24%
Value of a share = GH¢5.194/0.24
= GH¢21.63

WHEN VALUATIONS ARE REQUIRED

A share valuation will be necessary:
a. For quoted companies, when there is a takeover bid. A takeover is the acquisition by a
company of a controlling interest in the voting share capital of another company, usually
achieved by the purchase of a majority of the voting shares.
b. For unquoted companies, when:
 The company wishes to go public and must fix a price for its shares
 There is a scheme of merger
 Shares are sold
 Shares need to be valued for the purpose of taxation
 Shares are pledged as collateral for a loan
c. For any company, where a shareholder wishes to dispose of his or her shareholding. Some of the
valuation methods we describe will be most appropriate if a large or controlling interest is being
sold
d. For any company, when the company is being broken up in a liquidation situation or the
company needs to obtain additional finance or re-finance current debt.
e. During the complete Sale of company
 REASONS WHY THE DIVIDEND YIELD/PE RATIO OF A SIMILAR LISTED
COMPANY NEED TO BE ADJUSTED
 The shares of the listed company are more marketable compared to private unlisted companies
 Quoted companies often have more certain dividend policy than private unlisted companies
 Investments in quoted companies as less risky than in private unlisted companies since they are
more diversified
 Quoted companies are often bigger in size as compared to private unlisted companies
 The level of gearing may differ for listed and unlisted companies
 Other specific factors may need to be considered.
The insecurity of the earnings of the unquoted company