Page 291 - AFM Integrated Workbook STUDENT S18-J19

Business valuation

Question 5

UUU Co is a financial services company.

It reported a profit before tax in the most recent financial year of $28.5 million,
and the value of its tangible assets is $210 million.

The average return on tangible assets for firms in the financial services
industry is 9%. The tax rate is 25% and UUU Co's cost of capital is 14%.

Required:

Estimate the value of UUU Co using the CIV method.

Solution

$m
Current pre-tax profit 28.5

Less: Industry ROA × Tangible assets (9% × 210m) (18.9)

–––––
Excess annual return (pre-tax) 9.6

–––––

Post-tax excess annual return = 9.6m × (1–0.25) = $7.2m

CIV (assuming constant perpetuity) = 7.2m × 1/0.14 = $51.4m

Therefore, the total value of UUU Co is estimated to be

210m + 51.4m = $261.4m

Illustrations and further practice

Now try TYU 8 in Chapter 13

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