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Description
Which of the following statements most accurately describes one difference between private and public equity firms?
Comment
Regulatory and investor relations costs are lower for private equity firms than for public firms. There are no stock exchange, regulator y, or share holder involvements with private equity, whereas for public firms these costs can be high.
Section
Learning Module 1 The Firm and Market Structures
Learning Module 2 Understanding Business Cycles
Learning Module 3 Fiscal Policy
Learning Module 4 Monetary Policy
Learning Module 5 Introduction to Geopolitics
Learning Module 6 International Trade
Learning Module 7 Capital Flows and the FX Market
Learning Module 8 Exchange Rate Calculations
Learning Module 1 Market Organization and Structure
Learning Module 2 Security Market Indexes
Learning Module 3 Market Efficiency
Learning Module 4 Overview of Equity Securities
Learning Module 5 Company Analysis: Past and Present
Learning Module 6 Industry and Competitive Analysis
Learning Module 7 Company Analysis: Forecasting
Learning Module 8 Equity Valuation: Concepts and Basic Tools
Learning Module 1 Ethics and Trust in the Investment Profession
Learning Module 2 Code of Ethics and Standards of Professional Conduct
Learning Module 3 Guidance for Standards I–VII
Learning Module 4 Introduction to the Global Investment Performance Standards (GIPS)
Learning Module 1 Derivative Instrument and Derivative Market Features
Learning Module 10 Valuing a Derivative Using a One-Period Binomial Model
Learning Module 2 Forward Commitment and Contingent Claim Features and Instruments
Learning Module 3 Derivative Benefits, Risks, and Issuer and Investor Uses
Learning Module 5 Pricing and Valuation of Forward Contracts and for an Underlying with Varying Maturities
Learning Module 6 Pricing and Valuation of Futures Contracts
Learning Module 7 Pricing and Valuation of Interest Rates and Other Swaps
Learning Module 8 Pricing and Valuation of Options
Learning Module 9 Option Replication Using Put–Call Parity
Learning Module 1 Introduction to Financial Statement Analysis
Learning Module 10 Financial Reporting Quality
Learning Module 11 Financial Analysis Techniques
Learning Module 12 Introduction to Financial Statement Modeling
Learning Module 2 Analyzing Income Statements
Learning Module 3 Analyzing Balance Sheets
Learning Module 4 Analyzing Statements of Cash Flows I
Learning Module 5 Analyzing Statements of Cash Flows II
Learning Module 6 Analysis of Inventories
Learning Module 7 Analysis of Long-Term Assets
Learning Module 8 Topics in Long-Term Liabilities and Equity
Learning Module 9 Analysis of Income Taxes
Answer
Intro
<p>A dealer provides spot rate quotes for the following currencies</p> <table style="width:80%;text-align:center"> <tr> <th>Currency</th> <th>Spot rate</th> </tr> <tr> <td>CNY/HKD</td> <td>0.8422</td> </tr> <tr> <td>CNY/ZAR</td> <td>0.9149</td> </tr> <tr> <td>CNY/SEK</td> <td>1.0218</td> </tr> </table>
<p>A market has the following limit orders standing on its book for a particular stock. The bid and ask sizes are number of shares in hundreds</p> <table style="width:80%;text-align:center"> <tr> <th>Bid Size</th> <th>Limit Price (€)</th> <th>Offer Size</th> </tr> <tr> <td>5</td> <td>9.73</td> <td></td> </tr> <tr> <td>12</td> <td>9.81</td> <td></td> </tr> <tr> <td>4</td> <td>9.84</td> <td></td> </tr> <tr> <td>6</td> <td>9.95</td> <td></td> </tr> <tr> <td></td> <td>10.02</td> <td>5</td> </tr> <tr> <td></td> <td>10.10</td> <td>12</td> </tr> <tr> <td></td> <td>10.14</td> <td>8</td> </tr> </table>
<p>Consider the following limit order book for a stock. The bid and ask sizes are number of shares in hundreds.</p> <table style="width:80%;text-align:center"> <tr> <th>Bid Size</th> <th>Limit Price (¥)</th> <th>Offer Size</th> </tr> <tr> <td>3</td> <td>122.80</td> <td></td> </tr> <tr> <td>8</td> <td>123.00</td> <td></td> </tr> <tr> <td>4</td> <td>123.35</td> <td></td> </tr> <tr> <td></td> <td>123.80</td> <td>7</td> </tr> <tr> <td></td> <td>124.10</td> <td>6</td> </tr> <tr> <td></td> <td>124.50/td> <td>7</td> </tr> </table>
<table style="width:80%;text-align:center"> <tr> <th>Order</th> <th>Time of Arrival (HH:MM:SS)</th> <th>Limit Price (€)</th> <th>Special Instruction (If any)</th> </tr> <tr> <td>I</td> <td>9:52:01</td> <td>20.33</td><td></td> </tr> <tr> <td>II</td> <td>9:52:08</td> <td>20.29</td><td>Hidden order</td> </tr> <tr> <td>III</td> <td>9:53:04</td> <td>9:53:04</td><td></td> </tr> <tr> <td>IV</td> <td>9:53:49</td> <td>20.29</td><td></td> </tr> </table>
<p>A market has the following limit orders standing on its book for a particular stock:</p> <table style="width:90%;text-align:right"> <tr> <th>Buyer</th> <th>Bid Size (Number of Shares)</th> <th>Limit Price (£)</th> <th>Offer Size (Number of Shares)</th> <th>Seller</th> </tr> <tr> <td>Keith</td> <td>1,000</td> <td>19.70</td><td></td><td></td> </tr> <tr> <td>Paul</td> <td>200</td> <td>19.84</td><td></td><td></td> </tr> <tr> <td>Ann</td> <td>400</td> <td>19.89</td><td></td><td></td> </tr> <tr> <td>Mary</td> <td>300</td> <td>20.02</td><td></td><td></td> </tr> <tr> <td></td> <td></td> <td>20.03</td><td>800</td><td>Jack</td> </tr> <tr> <td></td> <td></td> <td>20.11</td><td>1,100</td><td>Margaret</td> </tr> <tr> <td></td> <td></td> <td>20.16</td><td>400</td><td>Jeff</td> </tr> </table>
<p>An analyst gathers the following information for an equal-weighted index comprised of assets Able, Baker, and Charlie</p> <table style="width:80%;text-align:center"> <tr> <th>Security</th> <th>Beginning of Period Price (€)</th> <th>End of Period Price (€)</th> <th>Total Dividends (€)</th> </tr> <tr> <td>Able</td> <td>10.00</td> <td>12.00</td><td>0.75</td> </tr> <tr> <td>Baker</td> <td>20.00</td> <td>19.00</td><td>1.00</td> </tr> <tr> <td>Charlie</td> <td>30.00</td> <td>30.00</td><td>2.00</td> </tr> </table>
<p>An analyst gathers the following information for an equal-weighted index comprised of assets Able, Baker, and Charlie</p> <table style="width:80%;text-align:center"> <tr> <th>Security</th> <th>Beginning of Period Price (€)</th> <th>End of Period Price (€)</th> <th>Total Dividends (€)</th> </tr> <tr> <td>Able</td> <td>10.00</td> <td>12.00</td><td>0.75</td> </tr> <tr> <td>Baker</td> <td>20.00</td> <td>19.00</td><td>1.00</td> </tr> <tr> <td>Charlie</td> <td>30.00</td> <td>30.00</td><td>2.00</td> </tr> </table>
<p>An analyst gathers the following information for a price-weighted index comprised of securities ABC, DEF, and GHI:</p> <table style="width:80%;text-align:center"> <tr> <th>Security</th> <th>Beginning of Period Price (€)</th> <th>End of Period Price (€)</th> <th>Total Dividends (€)</th> </tr> <tr> <td>ABC</td> <td>25.00</td> <td>27.00</td><td>1.00</td> </tr> <tr> <td>DEF</td> <td>35.00</td> <td>25.00</td><td>1.50</td> </tr> <tr> <td>GHI</td> <td>15.00</td> <td>16.00</td><td>1.00</td> </tr> </table>
<p>An analyst gathers the following information for a market-capitalization-weighted index comprised of securities MNO, QRS, and XYZ:</p> <table style="width:80%;text-align:center"> <tr> <th>Security</th> <th>Beginning of Period Price (¥)</th> <th>End of Period Price (¥)</th> <th>Dividends per Share (¥)</th> <th>Shares Outstanding</th> </tr> <tr> <td>MNO</td> <td>2,500</td> <td>2,700</td><td>100</td><td>5,000</td> </tr> <tr> <td>QRS</td> <td>3,500</td> <td>2,500</td><td>150</td><td>7,500</td> </tr> <tr> <td>XYZ</td> <td>1,500</td> <td>1,600</td><td>100</td><td>10,000</td> </tr> </table>
<p>An analyst gathers the following data for a price-weighted index:</p> <table style="width:80%;text-align:center"> <tr> <th></th> <th colspan="2">Beginning of Period</th> <th colspan="2">End of Period</th> </tr> <tr> <th>Security</th> <th>Price (€)</th> <th>Shares Outstanding</th> <th>Price (€)</th> <th>Shares Outstanding</th> </tr> <tr> <td>A</td> <td>20.00</td> <td>300</td><td>22.00</td><td>300</td> </tr> <tr> <td>B</td> <td>50.00</td> <td>300</td><td>48.00</td><td>300</td> </tr> <tr> <td>C</td> <td>26.00</td> <td>2,000</td><td>30.00</td><td>2,000</td> </tr> </table>
<p>An analyst gathers the following data for a value-weighted index:</p> <table style="width:80%;text-align:center"> <tr> <th></th> <th colspan="2" >Beginning of Period</th> <th colspan="2" >End of Period</th> </tr> <tr> <th>Security</th> <th>Price (£)</th> <th>Shares Outstanding</th> <th>Price (£)</th> <th>Shares Outstanding</th> </tr> <tr> <td>A</td> <td>20.00</td> <td>300</td><td>22.00</td><td>300</td> </tr> <tr> <td>B</td> <td>50.00</td> <td>300</td><td>48.00</td><td>300</td> </tr> <tr> <td>C</td> <td>26.00</td> <td>2,000</td><td>30.00</td><td>2,000</td> </tr> </table>
<p>An analyst gathers the following data for an equally-weighted index:</p> <table style="width:80%;text-align:center"> <tr> <th></th> <th colspan="2" >Beginning of Period</th> <th colspan="2" >End of Period</th> </tr> <tr> <th>Security</th> <th>Price (¥)</th> <th>Shares Outstanding</th> <th>Price (¥)</th> <th>Shares Outstanding</th> </tr> <tr> <td>A</td> <td>20.00</td> <td>300</td><td>22.00</td><td>300</td> </tr> <tr> <td>B</td> <td>50.00</td> <td>300</td><td>48.00</td><td>300</td> </tr> <tr> <td>C</td> <td>26.00</td> <td>2,000</td><td>30.00</td><td>2,000</td> </tr> </table>
<p>Joshua Hu, a research analyst, is initiating coverage on several companies in the ocean freight shipping industry. OldShips is a mature company with high fixed costs and a high capital expenditure to sales ratio because it owns and operates its own fleet of ships. CleanYards is a technologically advanced, sustainable shipyard with a focus on specialized repairs and ship construction. Hu has compiled the following data for the two companies:</p> <table style="width:80%;text-align:center"> <tr> <th></th> <th>OldShips</th> <th>CleanYards</th> </tr> <tr> <td class="left">Degree of Financial Leverage (DFL)</td> <td>2.0</td> <td>2.0</td> </tr> <tr> <td class="left">Degree of Operating Leverage (DOL)</td> <td>1.0</td> <td>2.0</td> </tr> <tr> <td class="left">Asset turnover ratio</td> <td>0.84×</td> <td>0.42×</td> </tr> <tr> <td class="left">DSO</td> <td>27</td> <td>98</td> </tr> <tr> <td class="left">DOH</td> <td>12</td> <td>46</td> </tr> <tr> <td class="left">DPO</td> <td>55</td> <td>40</td> </tr> </table> <p>NewShips, a third company, is a web-based shipping technology platform that connects ship operators such as OldShips with customers in a wide variety of industries who need ocean freight shipping. NewShips’ customers place orders online and pay for freight to be placed on a container to any destination in the world. NewShips’ partners, like OldShips, provide vessels on both long- and short-term charters. </p> <p>In 2X19, NewShips’ platform brokered orders for 900,000 twenty-foot equivalent unit (TEU) containers in aggregate, with an average gross freight rate of USD3,848 per TEU. On average, NewShips’ commission, which it receives as a broker from the customer, was 5% of the freight rate. </p>
<p>Calculate the book value of a company using the following information:</p> <table style="width:80%;text-align:center"> <tr> <td class="left">Number of shares outstanding</td> <td class="right">100,000</td> </tr> <tr> <td class="left">Price per share</td> <td class="right">€52</td> </tr> <tr> <td class="left">Total assets</td> <td class="right">€12,000,000</td> </tr> <tr> <td class="left">Total liabilities</td> <td class="right">€7,500,000</td> </tr> <tr> <td class="left">Net Income</td> <td class="right">€2,000,000</td> </tr> </table>
<p>Calculate the return on equity (ROE) of a stable company using the following data:</p> <table style="width:80%;text-align:center"> <tr> <td class="left">Total sales</td> <td class="right">£2,500,000</td> </tr> <tr> <td class="left">Net income</td> <td class="right">£2,000,000</td> </tr> <tr> <td class="left">Beginning of year total assets</td> <td class="right">£50,000,000</td> </tr> <tr> <td class="left">Beginning of year total liabilitiess</td > <td class="right">£35,000,000</td> </tr> <tr> <td class="left">Number of shares outstanding at the end of the year</td> <td class="right">1,000,000</td> </tr> <tr> <td class="left">Price per share at the end of the year</td> <td class="right">£20</td> </tr> </table>
<p>An analyst gathers or estimates the following information about a stock:</p> </br>   <table style="width:80%;text-align:center"> <tr> <td class="left">Current price per share</td> <td class="right">€22.56</td> </tr> <tr> <td class="left">Current annual dividend per share</td> <td class="right">€1.60</td> </tr> <tr> <td class="left">Annual dividend growth rate for Years 1–4</td> <td class="right">9.00%</td> </tr> <tr> <td class="left">Annual dividend growth rate for Years 5+</td > <td class="right">4.00%</td> </tr> <tr> <td class="left">Required rate of return</td> <td class="right">12%</td> </tr> </table>
<p>Unless otherwise stated in the question, all individuals in the following questions are CFA Institute members or candidates in the CFA Program and, therefore, are subject to the CFA Institute Code of Ethics and Standards of Professional Conduct.</p>
<p>Montau AG is a German capital goods producer that manufactures its products domestically and delivers its products to clients globally. Montau’s global sales manager shares the following draft commercial contract with his Treasury team:</p> </br>   <table style="width:80%;text-align:left"> <caption>Montau AG Commercial Export Contract</caption> <tr> <th>Contract Date:</th> <td>[Today]</td> </tr> <tr> <th>Goods Seller:</th> <td>Montau AG, Frankfurt, Germany</td> </tr> <tr> <th>Goods Buyer:</th> <td>Jeon Inc., Seoul, Korea</td> </tr> <tr> <th>Description of Goods</th> <td>A-Series Laser Cutting Machine</td> </tr> <tr> <th>Quantity:</th> <td>One</td> </tr> <tr> <th>Delivery Terms:</th> <td>Freight on Board (FOB), Busan Korea with all shipping, tax and delivery costs payable by Goods Buyer</td> </tr> <tr><th>Delivery Date:</th> <td>[75 Days from Contract Date]</td> </tr> <tr><th>Payment Terms:</th> <td>100% of Contract Price payable by Goods Buyer to Good Seller on Delivery Date</td> </tr> <tr><th>Contract Price:</th> <td>KRW650,000,000</td> </tr> </table> <p>Montau AG’s Treasury manager is tasked with addressing the financial risk of this prospective transaction. </p>
Biomian Limited is a Mumbai-based biotech company with common stock and listed futures and options on the National Stock Exchange (NSE). The Viswan Family Office (VFO) currently owns 10,000 Biomian common shares. VFO would like to reduce its long Biomian position and diversify its equity market exposure but will delay a cash sale of shares for tax reasons for six months.
<p>Privatbank Kleinert KGaA, a private wealth manager in Munich, has a number of clients with large holdings in the German fintech firm SparCoin AG. Kleinert’s analyst is concerned about a drop in SparCoin’s share price in the next year and is recommending to clients that they consider purchasing a one-year put with an exercise price of €100. SparCoin’s spot price (S<sub>0</sub>) is €105.25, and it pays no dividends. The risk-free rate is 0.37%. </p>
<p>Consider the following structured note offered by Baywhite Financial</p> </br>   <table style="width:80%;text-align:left"> <caption>Baywhite Financial LLC 80% Principal Protected Structured Note</caption> <tr> <th>Description:</th> <td>The Baywhite Financial LLC 80% Principal Protected Structured Note (“the Note”) is linked to the performance of the S&P 500 Health Care Select Sector Index (SIXV).</td> </tr> <tr> <th>Issuer:</th> <td>Baywhite Financial LLC</td> </tr> <tr> <th>Start Date:</th> <td>[Today]</td> </tr> <tr> <th>Maturity Date:</th> <td>[Six months from Start Date]</td> </tr> <tr> <th>Issuance Price:</th> <td>102% of Face Value</td> </tr> <tr> <th>Face Value</th> <td>Sold in a minimum denomination of USD1,000 and multiple units thereo</td> </tr> <tr><th>Payment at Maturity:</th> <td>At maturity, you will receive a cash payment, for each USD1,000 principal amount note, of USD800 plus the Additional Amount, which may be zero.</td> </tr> <tr><th>Partial Principal Protection Percentage:</th> <td>80% Principal Protection (20% Principal at Risk)</td> </tr> <tr><th>Additional Amount:</th> <td>At maturity, you will receive the greater of 100% of the returns on the S&P 500 Health Care Select Sector Index (SIXV) in excess of 5% above the current spot price of the SIXV or zero</td> </tr> </table> <p>As a financial analyst for a wealth management advisory firm, you have been tasked with comparing the features of the Baywhite Financial LLC Structured Note with those of a similar exchange-traded, stand-alone derivative instrument alternative in order to make a recommendation to the firm’s clients. </p>
<p><i>Baywhite Financial is a broker-dealer and wealth management firm that helps its clients manage their portfolios using stand-alone derivative strategies. A new Baywhite analyst is asked to evaluate the following client situations.</i></p>
<p><i>Ace Limited is a financial intermediary active in both futures and forward markets. You have been hired as an investment consultant and asked to review Ace’s activities and answer the following questions</i><p>
<p><i>Ace Limited is a financial intermediary that is active in forward and swap markets with its issuer and investor clients. You have been asked to consult on a number of client situations to determine the best course of action. </i></p>
<p><i>The Viswan Family Office (VFO) owns non-dividend-paying shares of Biomian Limited that are currently priced (S<sub>0</sub>) at INR 295 per share. VFO’s CIO is considering an offer to sell shares at a forward price (F<sub>0</sub>(T)) of INR 300.84 per share in six months based on a risk-free rate of 4%. You have been asked to advise on the purchase of a put option or the sale of a call option with an exercise price (X) equal to the forward price (F<sub>0</sub>(T)) as alternatives to a forward share sale.</i></p>
<i> <strong><p>South China Sprintwyck Investments (SCSI)</p></strong> <p>South China Sprintwyck Investments (SCSI) has a Chinese equity portfolio that has outperformed in the first half of the year due to an overweight position in health care industry shares. SCSI is considering option-based alternatives for one of its current overweight positions, ChinaWell Inc. (CWI). CWI has a current price (S<sub>0</sub>) of CNY127.50 and pays no dividends. The current risk-free rate is 4%. You are a new SCSI analyst hired to evaluate several alternatives for CWI stock.</p></i>
<p>An analyst is interested in assessing both the efficiency and liquidity of Spherion PLC. The analyst has collected the data in Exhibit 1 for Spherion:</p> </br> <table style="width:90%;text-align:center"> <caption>Exhibit 1: Spherion Data</caption> <tr><th class="left"></th><th>FY3</th><th>FY2</th><th>FY1</th></tr> <tr><td class="left">Days of inventory on hand</td><td>32</td><td>34</td><td>40</td></tr> <tr><td class="left">Days sales outstanding</td><td>28</td><td>25</td><td>23</td></tr> <tr><td class="left">Number of days of payables</td><td>40</td><td>35</td><td>35</td></tr> </table>
<p>An analyst is evaluating the solvency and liquidity of Apex Manufacturing and has collected the data in Exhibit 1:</p> </br> <table style="width:90%;text-align:center"> <caption>Exhibit 1: Solvency and Liquidity of Apex Manufacturing (euro millions)</caption> <tr><th class="left"></th><th>FY5</th><th>FY4</th><th>FY3</th></tr> <tr><td class="left">Total debt</td><td>2,000</td><td>1,900</td><td>1,750</td></tr> <tr><td class="left">Total equity</td><td>4,000</td><td>4,500</td><td>5,000</td></tr> </table>
<p>An analyst observes the data in Exhibit 1 for two companies:</p> </br> <table style="width:90%;text-align:center"> <caption>Exhibit 1: Data Comparison (US dollars)</caption> <tr><th class="left"></th><th>Company A</th><th>Company B</th></tr> <tr><td class="left">Revenue</td><td>4,500</td><td>6,000</td></tr> <tr><td class="left">Net income</td><td>50</td><td>1,000</td></tr> <tr><td class="left">Current assets</td><td>40,000</td><td>60,000</td></tr> <tr><td class="left">Total assets</td><td>100,000</td><td>700,000</td></tr> <tr><td class="left">Current liabilities</td><td>10,000</td><td>50,000</td></tr> <tr><td class="left">Total debt</td><td>60,000</td><td>150,000</td></tr> <tr><td class="left">Shareholders’ equity</td><td>30,000</td><td>500,000</td></tr> </table>
<p>The following data appear in the five-year summary of a major international company. A business combination with another major manufacturer took place in FY13.</p> <table style="width:90%;text-align:center"> <captionExhibit 1: Five-Year Summary of a Major International Company</caption> <tr><th class="left"></th><th>FY10</th><th>FY11</th><th>FY12</th><th>FY13</th><th>FY14</th></tr> <tr><td class="left">Financial statements</td><td>GBP millions</td><td>GBP millions</td><td>GBP millions</td><td>GBP millions</td><td>GBP millions</td></tr> <tr><td class="left"><b>Income statements</b></td><td></td><td></td><td></td><td></td><td></td></tr> <tr><td class="left">Revenue</td><td>4,390</td><td>3,624</td><td>3,717</td><td>8,167</td><td>11,366</td></tr> <tr><td class="left">Profit before interest and taxation (EBIT)</td><td>844</td><td>700</td><td>704</td><td>933</td><td>1,579</td></tr> <tr><td class="left">Net interest expense</td><td>–80</td><td>–54</td><td>–98</td><td>–163</td><td>–188</td></tr> <tr><td class="left">Taxation</td><td>–186</td><td>–195</td><td>–208</td><td>–349</td><td>–579</td></tr> <tr><td class="left">Minorities</td><td>–94</td><td>–99</td><td>–105</td><td>–125</td><td>–167</td></tr> <tr><td class="left">Profit for the year</td><td>484</td><td>352</td><td>293</td><td>296</td><td>645</td></tr> <tr><td class="left"><b>Balance sheets</b></td><td></td><td></td><td></td><td></td><td></td></tr> <tr><td class="left">Fixed assets</td><td>3,510</td><td>3,667</td><td>4,758</td><td>10,431</td><td>11,483</td></tr> <tr><td class="left">Current asset investments, cash at bank and in hand</td><td>316</td><td>218</td><td>290</td><td>561</td><td>682</td></tr> <tr><td class="left">Other current assets</td><td>558</td><td>514</td><td>643</td><td>1,258</td><td>1,634</td></tr> <tr><td class="left">Total assets</td><td>4,384</td><td>4,399</td><td>5,691</td><td>12,250</td><td>13,799</td></tr> <tr><td class="left">Interest bearing debt (long term)</td> <td>–602</td> <td>–1,053</td> <td>–1,535</td> <td>–3,523</td> <td>–3,707</td> </tr> <tr><td class="left">Other creditors and provisions (current)</td><td>–1,223</td><td>–1,054</td><td>–1,102</td><td>–2,377</td><td>–3,108</td></tr> <tr><td class="left">Total liabilities</td><td>–1,825</td><td>–2,107</td><td>–2,637</td><td>–5,900</td><td>–6,815</td></tr> <tr><td class="left">Net assets</td><td>2,559</td><td>2,292</td><td>3,054</td><td>6,350</td><td>6,984</td></tr> <tr><td class="left">Shareholders’ funds</td><td>2,161</td><td>2,006</td><td>2,309</td><td>5,572</td><td>6,165</td></tr> <tr><td class="left">Equity minority interests</td><td>398</td><td>286</td><td>745</td><td>778</td><td>819</td></tr> <tr><td class="left">Capital employed</td><td>2,559 </td><td>2,292</td><td>3,054</td><td>6,350</td><td>6,984</td></tr> <tr><td class="left"><b>Cash flow</b></td><td></td><td></td><td></td><td></td><td></td></tr> <tr><td class="left">Working capital movements</td><td>–53</td><td>5</td><td>71</td><td>85</td><td>107</td></tr> <tr><td class="left">Net cash inflow from operating activities</td><td>864</td><td>859</td><td>975</td><td>1,568</td><td>2,292</td></tr> </table>
<p>An analyst compiles the data in Exhibit 1 for a company:</p> <table style="width:90%;text-align:center"> <caption>Exhibit 1: Net Profit Margin</caption> <tr><th class="left"></th><th>FY13</th><th>FY14</th><th>FY15</th></tr> <tr><td class="left"><b>ROE</b></td><td>19.8%</td><td>20.0%</td><td>22.0%</td></tr> <tr><td class="left"><b>Return on total assets</b></td><td>8.1%</td><td>8.0%</td><td>7.9%</td></tr> <tr><td class="left"><b>Total asset turnover</b></td><td>2.0%</td><td>2.0%</td><td>2.1%</td></tr> </table>
<p>A decomposition of ROE for Integra SA is as follows:</p> <table style="width:90%;text-align:center"> <caption>Exhibit 1: Integra SA ROE</caption> <tr><th class="left"></th><th>FY12</th><th>FY11</th></tr> <tr><td class="left">ROE</td><td>18.90%</td><td>18.90%</td></tr> <tr><td class="left">Tax burden</td><td>0.70</td><td>0.75</td></tr> <tr><td class="left">Interest burden</td><td>0.90</td><td>0.90</td></tr> <tr><td class="left">EBIT margin</td><td>10.00% </td><td>10.00% </td></tr> <tr><td class="left">Asset turnover </td><td>1.50</td><td>1.40</td></tr> <tr><td class="left">Leverage</td><td>2.00</td><td>2.00</td></tr> </table>
<p>A decomposition of ROE for Company A and Company B is as follows:</p> <table style="width:90%;text-align:center"> <caption>Exhibit 1: ROE for Company A and Company B</caption> <tr><th class="left"></th><th colspan="2">Company A</th><th colspan="2">Company 2</th></tr> <tr><th class="left"></th><th>FY15</th><th>FY14</th><th>FY15</th><th>FY14</th></tr> <tr><td class="left">ROE</td><td>26.46%</td><td>18.90%</td><td>26.33%</td><td>18.90%</td></tr> <tr><td class="left">Tax burden</td><td>0.70</td><td>0.75</td><td>0.75</td><td>0.75</td></tr> <tr><td class="left">Interest burden</td><td>0.90</td><td>0.90</td><td>0.90</td><td>0.90</td></tr> <tr><td class="left">EBIT margin</td><td>7.00% </td><td>10.00% </td><td>13.00% </td><td>10.00% </td></tr> <tr><td class="left">Asset turnover </td><td>1.50</td><td>1.40</td><td>1.50</td><td>1.40</td></tr> <tr><td class="left">Leverage</td><td>4.00</td><td>2.00</td><td>2.00</td><td>2.00</td></tr> </table>
<p>Nigel French, an analyst at Taurus Investment Management, is analyzing Archway Technologies, a manufacturer of luxury electronic auto equipment, at the request of his supervisor, Lukas Wright. French is asked to evaluate Archway’s profitability over the past five years relative to its two main competitors, which are located in different countries with significantly different tax structures. French begins by assessing Archway’s competitive position within the luxury electronic auto equipment industry using Porter’s five forces framework. A summary of French’s industry analysis is presented in Exhibit 1.</p> <table style="width:90%;text-align:center"> <caption><b>Exhibit 1: Analysis of Luxury Electronic Auto Equipment Industry Using Porter’s Five Forces Framework</b></caption> <tr><th class="left">Force</th><th class="left">Factors to Consider</th></tr> <tr><td class="left">Threat of substitutes</td><td class="left">Customer switching costs are high</td></tr> <tr><td class="left">Rivalry </td><td class="left">Archway holds 60 percent of world market share; each of its two main competitors holds 15 percent</td></tr> <tr><td class="left">Bargaining power of suppliers</td><td class="left">Primary inputs are considered basic commodities, and there are a large number of suppliers</td></tr> <tr><td class="left">Bargaining power of buyers </td><td class="left">Luxury electronic auto equipment is very specialized (non-standardized)</td></tr> <tr><td class="left">Threat of new entrants </td><td class="left">High fixed costs to enter industry</td></tr> </table> <p> French notes that for the year just ended (2019), Archway’s COGS was 30 percent of sales. To forecast Archway’s income statement for 2020, French assumes that all companies in the industry will experience an inflation rate of 8 percent on the COGS. Exhibit 2 shows French’s forecasts relating to Archway’s price and volume changes. </p> <table style="width:90%;text-align:center"> <caption><b>Exhibit 2: Archway’s 2020 Forecasted Price and Volume Changes</b></caption> <tr><td class="left">Average price increase per unit</td><td>5.00</td></tr> <tr><td class="left">Volume growth </td><td>–3.00%</td></tr> </table> <p> After putting together income statement projections for Archway, French forecasts Archway’s balance sheet items. He uses Archway’s historical efficiency ratios to forecast the company’s working capital accounts. Based on his financial forecast for Archway, French estimates a terminal value using a valuation multiple based on the company’s average price-to-earnings multiple (P/E) over the past five years. Wright discusses with French how the terminal value estimate is sensitive to key assumptions about the company’s future prospects. Wright asks French: “What change in the calculation of the terminal value would you make if a technological development that would adversely affect Archway was forecast to occur sometime beyond your financial forecast horizon?”</p>
<p>Gertrude Fromm is a transportation sector analyst at Tucana Investments. She is conducting an analysis of Omikroon, N.V., a hypothetical European engineering company that manufactures and sells scooters and commercial trucks. Omikroon’s petrol scooter division is the market leader in its sector and has two competitors. Omikroon’s petrol scooters have a strong brand name and a well-established distribution network. Given the strong branding established by the market leaders, the cost of entering the industry is high. But Fromm anticipates that small, inexpensive, imported petrol-fueled motorcycles could become substitutes for Omikroon’s petrol scooters.</p> <p>Fromm uses ROIC as the metric to assess Omikroon’s performance. Omikroon has just introduced the first electric scooter to the market at year-end 2019. The company’s expectations are as follows:</p><br> ■ Competing electric scooters will reach the market in 2021.<br> ■ Electric scooters will not be a substitute for petrol scooters.<br> ■ The important research costs in 2020 and 2021 will lead to more efficient electric scooters.<br> <p> Fromm decides to use a five-year forecast horizon for Omikroon after considering the following three factors:</p> <dl> <dt>Factor 1</dt><dd> The annual portfolio turnover at Tucana Investments is 30 percent.</dd> <dt>Factor 2 </dt><dd>The electronic scooter industry is expected to grow rapidly over the next 10 years.</dd> <dt>Factor 3 </dt><dd> Omikroon has announced it would acquire a light truck manufacturer that will be fully integrated into its truck division by 2021 and will add 2 percent to the company’s total revenues</dd></dl> <p>Fromm uses the base case forecast for 2020 shown in Exhibit 1 to perform the following sensitivity analysis:<br> ■ The price of an imported specialty metal used for engine parts increases by 20 percent.<br> ■ This metal constitutes 4 percent of Omikroon’s cost of sales.<br> ■ Omikroon will not be able to pass on the higher metal expense to its customers.<br> </p> <table style="width:90%;text-align:center"> <caption>Exhibit 1: Omikroon’s Selected Financial Forecasts for 2020 Base Case (euro millions)</caption> <tr><th class="left"></th><th>Petrol Scooter Division </th> <th>Commercial Truck Division</th><th> Electric Scooter Division </th><th>Total</th></tr> <tr><td class="left">Sales</td><td>99.05</td><td>45.71 </td><td>7.62</td><td>152.38</td></tr> <tr><td class="left">Cost of sales</td><td> </td><td> </td><td> </td><td> 105.38</td></tr> <tr><td class="left">Gross profit</td><td> </td><td> </td><td> </td><td> 47.00 </td></tr> <tr><td class="left">Operating profit </td><td> </td><td> </td><td> </td><td>9.20 </td></tr> </table> Omikroon will initially outsource its electric scooter parts. But manufacturing these parts in-house beginning in 2021 will imply changes to an existing factory. This factory cost EUR7 million three years ago and had an estimated useful life of 10 years. Fromm is evaluating two scenarios: <dl> <dt>Scenario 1</dt> <dd>Refit the existing factory for EUR27 million.</dd> <dt>Scenario 2</dt> <dd>Sell the existing factory for EUR5 million. Build a new factory costing EUR30 million with a useful life of 10 years.</dd></dl>
<p>Angela Green, an investment manager at Horizon Investments, intends to hire a new investment analyst. After conducting initial interviews, Green has narrowed the pool to three candidates. She plans to conduct second interviews to further assess the candidates’ knowledge of industry and company analysis. Prior to the second interviews, Green asks the candidates to analyze Chrome Network Systems, a company that manufactures internet networking products. Each candidate is provided Chrome’s financial information presented in Exhibit 1.</p> <table style="width:90%;text-align:center"> <caption>Exhibit 1: Chrome Network Systems Selected Financial Information (US dollar millions)</caption> <tr><td class="left"></td><th colspan="3">Year-End</th></tr> <tr><td class="left"></td><th>2017</th><th>2018</th><th>2019</th></tr> <tr><td class="left">Net sales</td><td>46.8</td><td>50.5</td><td>53.9</td></tr> <tr><td class="left">Cost of sales</td><td>18.2</td><td>18.4</td><td>18.8</td></tr> <tr><td class="left">Gross profit</td><td>28.6</td><td>32.1</td><td>35.1</td></tr> <tr><td class="left">SG&A expenses</td><td>19.3</td><td>22.5</td><td>25.1</td></tr> <tr><td class="left">Operating income</td><td>9.3</td><td>9.6</td><td>10.0</td></tr> <tr><td class="left">Interest expense</td><td>0.5</td><td>0.7</td><td>0.6</td></tr> <tr><td class="left">Income before provision for income tax</td><td> 8.8</td><td> 8.9</td><td> 9.4</td></tr> <tr><td class="left">Provision for income taxes</td><td>2.8</td><td>2.8</td><td>3.1</td></tr> <tr><td class="left">Net income</td><td>6.0</td><td>6.1</td><td>6.3</td></tr> </table> <p>Green asks each candidate to forecast the 2020 income statement for Chrome and to outline the key assumptions used in their analysis. The job candidates are told to include Horizon’s economic outlook for 2020 in their analysis, which assumes nominal GDP growth of 3.6 percent, based on expectations of real GDP growth of 1.6 percent and inflation of 2.0 percent. Green receives the models from each of the candidates and schedules second interviews. To prepare for the interviews, Green compiles a summary of the candidates’ key assumptions in Exhibit 2.</p> <table style="width:90%;text-align:center"> <caption>Exhibit 2: Summary of Key Assumptions Used in Candidates’ Models</caption> <tr><th class="left">Metric</th><th> Candidate A</th><th>Candidate B</th><th>Candidate C</th></tr> <tr><td class="left">Net sales</td><td> Net sales will grow at the average annual growth rate in net sales over the 2017–19 time period.</td><td> Industry sales will grow at the same rate as nominal GDP, but Chrome will have a two-percentage-point decline in market share.</td><td> Net sales will grow 50 bps slower than nominal GDP.</td></tr> <tr><td class="left">Cost of sales</td><td> The 2020 gross margin will be the same as the average annual gross margin over the 2017–19 time period.</td><td> The 2020 gross margin will decline as costs increase by expected inflation.</td><td> The 2020 gross margin will increase by 20 bps from 2019.</td></tr> <tr><td class="left">SG&A expenses</td><td> The 2020 SG&A/net sales ratio will be the same as the average ratio over the 2017–19 time period.</td><td> The 2020 SG&A will grow at the rate of inflation.</td><td> The 2020 SG&A/net sales ratio will be the same as the 2019 ratio.</td></tr> <tr><td class="left">Interest expense</td><td> The 2020 interest expense assumes the effective interest rate will be the same as the 2019 rate.</td><td> The 2020 interest expense will be the same as the 2019 interest expense.</td><td> The 2020 interest expense will be the same as the average expense over the 2017–19 time period.</td></tr> <tr><td class="left">Income taxes</td><td> The 2020 effective tax rate will be the same as the 2019 rate.</td><td> The 2020 effective tax rate will equal the blended statutory rate of 30%.</td><td> The 2020 effective tax rate will be the same as the average effective tax rate over the 2017–19 time period</td></tr> </table>
Fairplay reported the information shown in Exhibit 1 related to the sale of its products during 2009, which was its first year of business: <table style="width:90%;text-align:center"> <caption>Exhibit 1: Fairplay</caption> <tr><td>Revenue </td><td>USD1,000,000</td></tr> <tr><td>Returns of goods sold </td><td>USD100,000</td></tr> <tr><td>Cash collected </td><td>USD800,000</td></tr> <tr><td>Cost of goods sold </td><td>USD700,000</td></tr> </table>
Laurelli Builders (LB) reported the financial data shown in Exhibit 1 for year-end 31 December: <table style="width:90%;text-align:center"> <caption>Exhibit 1: Laurelli Builders</caption> <tr><td class="left">Common shares outstanding, 1 January </td><td>2,020,000</td></tr> <tr><td class="left">Common shares issued as stock dividend, 1 June </td><td>380,000</td></tr> <tr><td class="left">Warrants outstanding, 1 January </td><td>500,000</td></tr> <tr><td class="left">Net income </td><td>USD3,350,000</td></tr> <tr><td class="left">Preferred stock dividends paid </td><td>USD430,000</td></tr> <tr><td class="left">Common stock dividends paid </td><td>USD240,000</td></tr> </table>
Consider the common-size balance sheets in Exhibit 1 for Company A, Company B, as well as the industry average. <table style="width:90%;text-align:center"> <caption>Exhibit 1: Balance Sheet and Industry Average</caption> <tr><td class="left"> </td><th>Company A</th><th> Company B</th><th> Industry Average</th></tr> <tr><td class="left">ASSETS </td><td colspan="3"></td></tr> <tr><td class="left">Current assets</td><td colspan="3"></td></tr> <tr><td class="left"> Cash and cash equivalents </td><td>5 </td><td>5 </td><td>7</td></tr> <tr><td class="left"> Marketable securities</td><td> 5</td><td> 0</td><td> 2</td></tr> <tr><td class="left"> Accounts receivable, net </td><td>5</td><td> 15 </td><td>12</td></tr> <tr><td class="left"> Inventories </td><td>15 </td><td>20 </td><td>16</td></tr> <tr><td class="left"> Prepaid expenses </td><td>5 </td><td>15 </td><td>11</td></tr> <tr><td class="left">Total current assets </td><td>35</td><td> 55</td><td> 48</td></tr> <tr><td class="left"> Property, plant, and equipment, net</td><td> 40 </td><td>35</td><td> 37</td></tr> <tr><td class="left"> Goodwill </td><td>25</td><td> 0</td><td> 8</td></tr> <tr><td class="left"> Other assets </td><td>0 </td><td>10 </td><td>7</td></tr> <tr><td class="left">Total assets </td><td>100 </td><td>100 </td><td>100</td></tr> <tr><td class="left">LIABILITIES AND SHAREHOLDERS’ EQUITY </td><td colspan="3"></td></tr> <tr><td class="left">Current liabilities </td><td colspan="3"></td></tr> <tr><td class="left"> Accounts payable </td><td>10</td><td> 10</td><td> 10</td></tr> <tr><td class="left"> Short-term debt </td><td>25 </td><td>10 </td><td>15</td></tr> <tr><td class="left"> Accrued expenses </td><td>0 </td><td>5 </td><td>3</td></tr> <tr><td class="left">Total current liabilities </td><td>35 </td><td>25 </td><td>28</td></tr> <tr><td class="left"> Long-term debt </td><td>45 </td><td>20 </td><td>28</td></tr> <tr><td class="left"> Other non-current liabilities </td><td>0 </td><td>10 </td><td>7</td></tr> <tr><td class="left">Total liabilities </td><td>80 </td><td>55 </td><td>63</td></tr> <tr><td class="left"> Total shareholders’ equity </td><td>20 </td><td>45 </td><td>37</td></tr> <tr><td class="left"><b>Total liabilities and shareholders’ equity</b></td><td> 100 </td><td>100 </td><td>100</td></tr> </table>
<p> Please use the selected disclosure data in Exhibit 1 and Exhibit 2 for the Marcy Corporation.<br> <b>Note I: Income Taxes</b><br> The components of earnings before income taxes are as shown in Exhibit 1: </p> <table style="width:95%;text-align:center;border-spacing:5px;"> <caption>Exhibit 1: Earnings before Income Taxes (US dollars thousands)</caption> <tr><td class="left"></td> <th>Year 3 </th> <th>Year 2</th><th> Year 1</th></tr> <tr><td>Earnings before income taxes:</td><td></td><td></td><td></td></tr> <tr><td class="left">United States</td> <td class="right">USD117,758</td><td class="right">USD107,053</td><td class="right">USD97,321</td></tr> <tr><td class="left">Foreign</td><td class="right">57,526</td><td class="right">52,296</td><td class="right">47,542</td></tr> <tr><td class="left">Total</td><td class="right">USD175,284</td><td class="right">USD159,349</td><td class="right">USD144,863</td></tr> </table> <p> The components of the provision for income taxes are as shown in Exhibit 2:</p><br> <table style="width:95%;text-align:center;border-spacing:5px;"> <caption>Exhibit 2: Provision for Income Taxes (US dollars thousands)</caption> <tr><td class="left"></td> <th>Year 3 </th> <th>Year 2</th><th> Year 1</th></tr> <tr><td>Income taxes Current:</td><td></td><td></td><td></td></tr> <tr><td class="left">Federal</td> <td class="right">USD34,739</td><td class="right">USD34,257</td><td class="right">USD31,143</td></tr> <tr><td class="left">Foreign</td><td class="right">14,382</td><td class="right">13,074</td><td class="right">17,591</td></tr> <tr><td class="left">Foreign</td><td class="right">USD49,121</td><td class="right">USD47,331</td><td class="right">USD48,734</td></tr> <tr><td>Deferred:</td><td></td><td></td><td></td></tr> <tr><td class="left">Federal</td> <td class="right">(USD6,524)</td><td class="right">(USD6,002)</td><td class="right">(USD5,325)</td></tr> <tr><td class="left">Foreign</td><td class="right">389</td><td class="right">305</td><td class="right">262</td></tr> <tr><td class="left"> </td> <td class="right">(6,135)</td> <td class="right">(5,697)</td><td class="right">(5,063)</td></tr> <tr><td class="left">Total</td> <td class="right">USD42,986</td> <td class="right">USD41,634</td><td class="right">USD43,671</td></tr> </table>
<p> An analyst is studying the impairment of the manufacturing equipment of WLP Corp., a UK-based corporation that reports under IFRS. He gathers the following information about the equipment:</p><br> <table style="width:95%;text-align:center"> <tr><td class="left">Fair value </td><td class="right">GBP16,800,000</td></tr> <tr><td class="left">Costs to sell </td><td class="right">GBP800,000</td></tr> <tr><td class="left">Value in use </td><td class="right">GBP14,500,000</td></tr> <tr><td class="left">Net carrying amount </td><td class="right">GBP19,100,000</td></tr> </table>
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