- 20 Marks
FM – L2 – Q36 – Sources of finance: equity
Prepare profit/loss statements, calculate EPS, and determine gearing for three financing schemes for Brighton Enterprises' expansion.
Question
Brighton Enterprises wishes to expand its production facilities to meet an increase in sales demand for its products. It will need GH₵18 million of new capital to invest in equipment. It is expected that annual profit before interest and taxation will increase by GH₵5 million.
Brighton Enterprises is considering the following three possible methods of financing the expansion programme:
(i) Issuing 9 million GH₵0.50 equity shares at a premium of GH₵1.50 per share.
(ii) Issuing 12 million 12% GH₵1 preference shares at par and GH₵6 million 10% debentures at par.
(iii) Issuing 6 million equity shares at a premium of GH₵1.50 per share and GH₵6 million 10% debentures at par.
Assume that the rate of tax on profits is 25%.
The statement of financial position of Brighton Enterprises as at 31st November Year 6 is as follows:
Statement of financial position as at 30th November Year 6
| GH₵m | GH₵m | |
|---|---|---|
| Non-current assets | 24.8 | |
| Current assets | ||
| Inventory | 18.5 | |
| Trade receivables | 21.4 | |
| Bank | 1.9 | |
| 41.8 | ||
| Total assets | 66.6 | |
| Equity and liabilities | ||
| GH₵0.50 ordinary shares | 10.0 | |
| Accumulated profits | 22.4 | |
| Total equity | 32.4 | |
| 10% Debentures | 15.0 | |
| Current liabilities | ||
| Trade payables | ||
| Taxation | ||
| 19.2 | ||
| Total equity and liabilities | 66.6 |
A statement of profit or loss for the year to 30th November Year 6 is as follows:
| GH₵m | |
|---|---|
| Sales | 115.4 |
| Profit before interest and taxation | 17.9 |
| Interest payable | 1.5 |
| Profit before taxation | 16.4 |
| Tax (25%) | 4.1 |
| Profit after taxation | 12.3 |
Required
(a) For each of the financing schemes under consideration:
(i) prepare a projected statement of profit or loss for the year ended 30 November Year 7.
(ii) calculate the expected earnings per share for the year ended 30th November Year 7.
(iii) calculate the expected level of financial gearing as at 30th November Year 7, assuming that dividend payments during the year are GH₵0.30 per share.
(b) Assess each of the three financing schemes under consideration from the viewpoint of an existing equity shareholder in Brighton Enterprises.
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