Module 6 Assignment 6

Module 6 Assignment 6

Module 6 Assignment 6

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Question 1 (20 marks)

1.1 What is the difference between solvency and liquidity? (Max. 3 lines) (2 marks)

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1.2 Michael and Simphiwe are concerned about their ability to meet their debt repayments. Calculate the company’s debt ratios and interest coverage ratios for 2016 and 2015. (Max. 12 lines) (10 marks)

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1.3 Based on the ratios above, answer the following questions:

  • Is the company currently able to meet its interest obligations?
  • Should they be concerned with the trend both of the ratios are following from 2015 to 2016?
  • Why?

(Max. 5 lines) (5 marks)

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1.4 If the company decided to issue additional ordinary share capital through a rights issue, would these shareholders demand a higher or lower cost of capital than obtaining additional debt financing? Why is that? (Max. 3 lines) (3 marks)

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Question 2 (30 marks)

2.1 Calculate the company’s earnings per share (EPS) for both years, and the P/E ratio for both years. (Max. 12 lines) (10 marks)

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2.2 Based on your responses to Question 2.1 above, what would you consider when deciding whether or not to purchase shares in this company? Please substantiate your answer with reasons. (Max. 10 lines) (6 marks)

(Hint: Make sure you use your answer from Question 2.1 to guide you – What does the change in EPS and P/E ratio tell you about whether this company is an interesting investment or not?)

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2.3 What is the company’s Return on equity for 2016 using the extended Du Pont analysis formula? (Max. 4 lines) (5 marks)

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2.4 If the company’s cost of capital is 22%, would they be happy with the return on equity you calculated above? Why or why not? (Max. 2 lines) (2 marks)

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2.5 Michael is worried about the current share price and wants to improve it in the next year, but Simphiwe reminds him that they need to think long-term. Why is there a trade-off between short-term profit maximisation and long-term wealth creation? Give an example of an action that may result in short-term gains but long-term losses. (Max. 5 lines) (3 marks)

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2.6 Do you think it is sufficient to just look at the current year financial statements of a company when evaluating their financial performance? What other activities would you recommend an analyst perform? Think more broadly than just reading the financial statements – What else would you like to know? (Max. 4 lines) (4 marks)

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