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I found it difficult to uderstand the model answer.
(A)Report
Before undertaking any valuations it is advisable to recalculate the earnings for 20X6 without the exceptional item. It is assumed that this is a one-off expense, which was not fully tax allowable.1.Quesiton) which was not fully tax allowalble?? I suppose the exceptional items are not inculuded in the PBT. Is this what a model answer are trying to talk about it?
P/E ratios
Expected earnings growth for Besserlot is much higher than the average for the industry, especially during this next three years. In view of this it might be reasonable to apply a P/E ratio of at least the industry average when attempting to value Besserlot.
2.Question) Besserlot’s revenue is expected to increase by 25% per year for three years. The average PE ratio of listed companies of similar size to Besserlot is 30:1. Average earnings groth in the industry is 6 percent per year. I guess earnings is normally considered as PAT especially in PE ratios. but we only know expected revenue growth rates. So I am confused.
Could you please clarify and elaborate the above model asnwer?
(c) Factors that might influence the medium-term success of the acquisition include:
(i) The thoroughness of the planning of the acquisition. This would include
establishing key reporting relationships and control of key factors.
(ii) Corporate objectives and plans should be harmonised.
3. Question ) The above answers are so abstract to get it. Could please help me to understand it?Thank you very much.
1 The fact that the exceptional items are not fully tax allowable is not really relevant to what follows. It just explains why in the SOPL in the question the tax is not 30% of the profit before tax.
2 PE ratios are always calculated on PAT. They use current earnings and so growth rates are irrelevant in the calculation. It is simply that the market values (and therefore the PE ratio) will be higher if shareholders are expecting higher growth. (Given that the operating profit is going to remain at 8% of turnover then the profit growth will be the same as the revenue growth, although again that is irrelevant for the calculation).
3 As always the examiners answer is only a suggested answer and only about three sensible points are needed to get the five marks (whether or not they included the two points you mention). For point (i) if you are taking over another company then it is vital to plan things well, such as who people report to in the future. For point (ii), at the moment as two separate companies they might well have different objectives for the future. When it becomes one big company it is important the whole company is working to the same objectives.
Thank you for your clarity and plain english. It would be really helpful if the model answer was like your answer and lecture.
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