Investment bank Canaccord's Think Childcare (TNK) initiation of coverage states: "What's the Differentiator? TNK are operators, not consolidators - Other listed childcare companies have led highly successful consolidation strategies involving multiple arbitrage combined with scale benefits and operating efficiencies. TNK’s focus is on operating the centres to the best of their individual potentials..." (Canaccord, 2016). Multiples arbitrage involves:
Question 1018 RBA cash rate, monetary policy, foreign exchange rate
RBA Governor Phil Lowe says that when the RBA raises the cash rate (by surprise), the Australian dollar (AUD) tends to:
Question 990 Multiples valuation, EV to EBITDA ratio, enterprise value
A firm has:
2 million shares;
$200 million EBITDA expected over the next year;
$100 million in cash (not included in EV);
1/3 market debt-to-assets ratio is (market assets = EV + cash);
4% pa expected dividend yield over the next year, paid annually with the next dividend expected in one year;
2% pa expected dividend growth rate;
40% expected payout ratio over the next year;10 times EV/EBITDA ratio.
30% corporate tax rate.
The stock can be valued using the EV/EBITDA multiple, dividend discount model, Gordon growth model or PE multiple. Which of the below statements is NOT correct based on an EV/EBITDA multiple valuation?
An analyst is valuing a levered company whose owners insist on keeping the dollar amount of debt funding fixed. So the company cannot issue or repay its debt, its dollar value must remain constant. Any funding gaps will be met with equity.
The analyst is wondering, as he changes inputs into his valuation, such as the forecast growth rate of sales, then asset values and other things will change. This makes it hard to figure out which values can be held constant and would therefore make good model inputs, rather than outputs which vary depending on the inputs. Assume that the cost of debt (yield) remains constant and the company’s asset beta will also remain constant since any expansion (or downsize) will involve buying (or selling) more of the same assets.
Which of the following values can be assumed to stay constant when projected sales growth increases?
Which firms tend to have high forward-looking price-earnings (PE) ratios?
An analyst is valuing a levered company whose owners insist on keeping a constant market debt to assets ratio into the future.
The analyst is wondering how asset values and other things in her model will change when she changes the forecast sales growth rate.
Which of the below values will increase as the forecast growth rate of sales increases, with the debt to assets ratio remaining constant?
Assume that the cost of debt (yield) remains constant and the company’s asset beta will also remain constant since any expansion (or downsize) will involve buying (or selling) more of the same assets.
The analyst should expect which value or ratio to increase when the forecast growth rate of sales increases and the debt to assets ratio remains unchanged? In other words, which of the following values will NOT remain constant?
Question 841 gross domestic product, government spending
The government spends money on:
- Goods and services such as defence, police, schools, hospitals and roads; and
- Transfer payments (also called welfare) such as the pension, dole, disability support and student support.
When calculating GDP (=C+I+G+X-M), the ‘government spending’ component (G) is supposed to include:
Question 1012 moral hazard, principal agent problem, asymmetric information
When does the ‘principal-agent problem’ occur? Is it when:
I. The principal has conflicting incentives (moral hazard);
II. The agent has conflicting incentives (moral hazard);
III. The principal has incomplete information about the agent (asymmetric information); or
IV. The agent has incomplete information about the principal (asymmetric information)?
The principal-agent problem occurs when the following statements are true:
Question 1050 Miller debt and taxes, interest tax shields, Miller and Modigliani, no explanation
In Miller's 1977 article 'Debt and Taxes', he argues that interest tax shields are likely to benefit who? Note that this 1977 article is contrary to his past research findings with Modigliani (1958), modern textbooks and common practice by valuers.
Miller (1977) concludes that the benefits of interest tax shields are likely to benefit:
An asset price suddenly increased by 10%. Multiplication by which of the following leverage ratios will give the proportional increase in equity or net wealth?
Over a short time period the equity capital return will equal the asset capital return multiplied by the:
Which of the following formulas for 'contributed equity' from the balance sheet is correct? Assume that now is time 1 and last year is time 0. Assume that book equity consists of contributed equity, retained profits and reserves only (BookEquity = ContributedEquity + RetainedProfits + Reserves).
Question 1070 Multiples valuation, duration, DuPont formula, WACC, mispriced asset
Adam Schwab wrote an article titled 'Why Atlassian is one of the world’s most overvalued businesses' on 15 August 2022. He stated that:
Atlassian is one of the world’s most overvalued businesses by almost any metric. Even though it loses money, Atlassian trades on a multiple of price to sales of a comical 25 times. Stern did a comparison of price-sales multiples in January 2022, noting that the multiple for the entire market was 2.88 and for software (this was before the bubble popped) was 16 times (Schwab, 2022)
Which of the following explanations is NOT correct? Atlassian's stock may be fairly priced if investors beleive that its expected future:
Question 1068 Multiples valuation, price to revenue ratio, operating leverage
Read this excerpt from AFR journalist Sue Mitchell's article 'How online retailers Kogan, Adore and Cettire got it terribly wrong' from 1 September 2022:
In the six months ending June, sales and earnings at omni-channel retailers with physical and online stores rebounded, while sales growth at pure-play e-commerce retailers slowed sharply or, in the case of Kogan, went backwards, decimating profits as operating leverage unwound.
“Hindsight is a beautiful thing and [it] turns out we were wrong,” Kogan told investors after the company delivered a bottom-line loss of $35.5 million and a 69 per cent drop in underlying earnings to $18.9 million. Sales revenue fell 8 per cent, despite the acquisition of New Zealand e-tailer Mighty Ape.
“Based on the data at the time, we predicted the trend would not stop or slow,” he said. “As the pandemic settled, e-commerce didn’t grow as expected, we were left with too much inventory and warehousing costs.”
Pure-plays are now prioritising profits over sales by culling staff and cutting back on investment – moves that could affect customer acquisition and sales.
Kogan, for example, is cutting marketing spend, reducing headcount, clearing excess and underperforming inventory to reduce warehouse costs, and raising the price of its loyalty program, Kogan First.
Kogan hopes to return to profitable growth this year, but the damage for shareholders has been done. The share price has plunged 86 per cent since pandemic-fuelled highs, dropping to $3.40 this week from a peak of $24.76 in September 2020.
Investors are now asking whether pulling back on investment will reduce addressable markets and questioning whether some pure-play online retailers will ever achieve scale.
Multiples for pure-plays have fallen to about 0.7 times revenue after reaching more than two times revenue at the height of the pandemic.
Which of the following statements about this quote is NOT correct? The pure-play online retailers:
Which of the following statements about call options is NOT correct?
Question 271 CAPM, option, risk, systematic risk, systematic and idiosyncratic risk
All things remaining equal, according to the capital asset pricing model, if the systematic variance of an asset increases, its required return will increase and its price will decrease.
If the idiosyncratic variance of an asset increases, its price will be unchanged.
What is the relationship between the price of a call or put option and the total, systematic and idiosyncratic variance of the underlying asset that the option is based on? Select the most correct answer.
Call and put option prices increase when the:
A stock, a call, a put and a bond are available to trade. The call and put options' underlying asset is the stock they and have the same strike prices, ##K_T##.
You are currently long the stock. You want to hedge your long stock position without actually trading the stock. How would you do this?
Question 797 option, Black-Scholes-Merton option pricing, option delta, no explanation
Which of the following quantities from the Black-Scholes-Merton option pricing formula gives the risk-neutral probability that a European put option will be exercised?
Question 381 Merton model of corporate debt, option, real option
In the Merton model of corporate debt, buying a levered company's debt is equivalent to buying risk free government bonds and:
Your firm's research scientists can begin an exciting new project at a cost of $10m now, after which there’s a:
- 70% chance that cash flows will be $1m per year forever, starting in 5 years (t=5). This is the A state of the world.
- 20% chance that cash flows will be $3m per year forever, starting in 5 years (t=5). This is the B state of the world.
- 10% chance of a major break through in which case the cash flows will be $20m per year forever starting in 5 years (t=5), or instead, the project can be expanded by investing another $10m (at t=5) which is expected to give cash flows of $60m per year forever, starting at year 9 (t=9). Note that the perpetual cash flows are either the $20m from year 4 onwards, or the $60m from year 9 onwards after the additional $10m year 5 investment, but not both. This is the C state of the world.
The firm's cost of capital is 10% pa.
What's the present value (at t=0) of the option to expand in year 5?
Question 398 financial distress, capital raising, leverage, capital structure, NPV
A levered firm has zero-coupon bonds which mature in one year and have a combined face value of $9.9m.
Investors are risk-neutral and therefore all debt and equity holders demand the same required return of 10% pa.
In one year the firm's assets will be worth:
- $13.2m with probability 0.5 in the good state of the world, or
- $6.6m with probability 0.5 in the bad state of the world.
A new project presents itself which requires an investment of $2m and will provide a certain cash flow of $3.3m in one year.
The firm doesn't have any excess cash to make the initial $2m investment, but the funds can be raised from shareholders through a fairly priced rights issue. Ignore all transaction costs.
Should shareholders vote to proceed with the project and equity raising? What will be the gain in shareholder wealth if they decide to proceed?