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Hi John,
Regarding this question, I have below queries
1. Lets say 28 Feb 2017 is considered as Year 0 point of time. When the answer calculates the cash flows after the restructuring program, such cash flow is as at end of Year 1 or as at Year 0? I am confused because the book value of non current asset is at Year 0, and they calculate the Tax Allowable depreciation using book value as at Year 0, then such allowable depreciation should be applied to Year 1 cash flows instead of Year 0, right? Also for the $1,200m new assets purchased, the TAD cannot be applied to Year 0 cashflow. Shouldn’t we have to calculate Year 1 Cash flows and discount to Year 0 for this question, if we calculate TAD using book value at Year 0 like this?What I did for this part, lets say to calculate FCFF for the new Chrysos company, is to calculate Year 0 EBITDA = 13,440 – 7560 = 5880, then grew it at 4% to 6115 for Year 1. Only after that I will calculate the TAD of 1,382 and deduct it from 6115 to get the taxable profit for Year 1. I will then calculate Terminal Value as at Year 1 growing at 4% and then discount both the Year 1 Cash flow and the Terminal Value to Year 0…. What did I do wrong here?
2. When the question calculate the increased value of 20% for the VCO, how can it say that the increased value is 50% * 18,458 = 9,229? We dont know the market value of original 20% holding of the VCO, then we cannot simply say that 50% of the new market value of its holding equal to the increased value, right?
The question is quite long but I hope I made my point clear. Thank you for your help
1. There is no such thing as year 0. Time 0, time 1 etc are points in time that are one year apart.
Time 0 is the start of the first year.
Time 1 is the end of the first year, start of the second year.
Time 2 is the end of the second year, start of the third year.
and so on.With regard to the timing of the tax flows, you need to watch my free lectures. I suggest you watch the Paper PM lectures on investment appraisal with tax, because this is revision of Paper FP (old Paper F9).
2 The increased value that you are referring to is (as the answer states) the value due to increased equity ownership. Given that they end up owning 40% instead of 20%, then half of the total value of $18,458 is due to the fact that they own twice as many shares.
Hi John,
Thanks for your answer, Sorry for mixing up Year and Time. Then I will just change my first question to Time. In overall, what I dont understand is why the examiner is calculating the TAD effect on the earnings as at Time 0 ( 28 Feb 2017)? That does not make sense to me because new purchased asset that are being used to calculate TAD are bought at Time 0, then such TAD effect should be counted for Time 1 cash flows, not Time 0. I did watch the lecture and I think I got the point fine, that if asset is bought at time 0 then the TAD effect should start for Time 1 cash flows.
What I did for this part, lets say to calculate FCFF for the new Chrysos company, is to calculate Time 0 EBITDA = 13,440 – 7560 = 5880, then grew it at 4% to 6115 for Time 1. Only after that I will calculate the TAD of 1,382 and deduct it from 6115 to get the taxable profit for Time 1. I will then calculate Terminal Value as at Time 1 (growing at 4%, discounted at WACC) and then discount the sum of the Time 1 Cash flow and the Terminal Value to Time 0…. What did I do wrong here? The examiner answer basically only calculate at Time 0.
2. Again on the increased value, how about the original 20% that the VCOs own? That original 20% holding now also have a value of 9,229 and may be higher than the value before the restructuring happen. Why do we ignore that increased value for the original 20% holding?
Thank you
1. I really do not understand you.
The answer is using the dividend valuation formula to arrive at the PV of the perpetuity, In the formula, the equivalent of Do is the after-tax cash flow as of 28 Feb 2017 (as adjusted), which is always the case when using the dividend valuation formula.
2. We can’t say anything about the original 20%, precisely because of what you wrote in your first post!!
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