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S86 PROGRESS EXAM QUESTIONS AND VERIFIED ANSWERS
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S86 PROGRESS EXAM QUESTIONS AND VERIFIED ANSWERS...
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The RR Corporation currently has 19 million shares of common stockoutstanding and $150 million of convertible preferred stock. The
conversion price of the preferred stock is $25 and the current market
price is $40 per share. The present value of cash flows is $300 million,
the terminal value is $700 million, the cash from the balance sheet is
$50 million, and the debt is $50 million. Based on these details, what's
the diluted intrinsic value per share?
A) $40.00
B) $52.63
C) $44.00
D) $48.00
A) 40.00
The "if converted" method is used to calculate fully diluted EPS. This
method assumes that all convertible securities (preferred stock and
debt) are converted into common stock during the period in which they're
outstanding if the market price of the stock is higher than the conversion
price (i.e., $40 is greater than $25). XYZ has $150 million of preferred
stock outstanding and the conversion price is $25. If these shares are
converted, an additional 6 million shares of common stock will be
outstanding ($150 million / $25). Using a discounted cash flow (DCF)
analysis, the intrinsic equity value per share is determined using the
following method.
First, add the present value of the cash flows and the terminal value to
calculate the implied enterprise value. The present value of cash flows is
$300 million and the terminal value is $700 million; therefore, the total
value of the firm or enterprise value is $1.0 billion. Then, subtract the
debt and add the cash on the balance sheet to calculate the intrinsic
equity value. In this example, since these two numbers net out to zero,
the equity value is the same as the EV. If the total number of shares
outstanding is 25 million (19 million + 6 million from conversion), the
diluted intrinsic value is $40 ($1.0 billion / 25 million). Some analysts
also refer to the intrinsic value as the implied equity value.
The "if converted" method"
,The "if converted" method is used to calculate fully diluted EPS. This
method assumes that all convertible securities (preferred stock and
debt) are converted into common stock during the period in which they're
outstanding if the market price of the stock is higher than the conversion
price (i.e., $40 is greater than $25).
Treasury Method
Employee stock options will only be exercised if the options have
intrinsic value (i.e., when the offer value exceeds the strike price).
Goodwill
Offer Value - Net Tangible Assets
Tangible Book Value
Assets − liabilities − goodwill − intangibles with no identifiable market
value
If a company sells its goods or services at a reduced price what will
occur?
Gross margins will decline
If a company can't sell their excess inventory, what happens to the
current ratio?
The current ratio will increase since inventory is a current asset.
Demand Curve Shifters
number of buyers, income, prices of related goods, tastes, expectations
Free Cash Flow Yield Objective
1) To test whether a share is cheap or expensive
2) Expresses the annual cash flow return from a share as a percentage
Free Cash Flow Yield Formula
Free cash Per Share/Price Per Share
Free Cash Flow Formula
1) Cash flow from operations - CapEx
What does a high free cash flow yield mean
1) Implies a low price to free cash flow multiple
2) Annual cash flow is a high proportion of the firms equity's value
3) May flag a cheap stock
What does a low free cash yield mean
1) Annual cash flow is a low proportion of the firm's equity value
2) May flag an expensive stock
Accounts Receivable Turnover Ratio
Sales on Credit/Average Accounts Receivable
Inventory Turnover Ratio
, COGS/Average Inventory
Asset Turnover Ratio
Sales/Average Assets
Earnings Available to Common
Net Income - Preferred Dividends
DuPont ROE
Net Income/Sales x (Sales/Assets x Assets/Shareholders Equity
Basic EPS
Earnings Available to Common/Average Common Shares Outstanding
Return On Equity
Earnings Available to Common/Average Common Shareholders' Equity
Return on Assets
Net Income/Average Assets
Present Value of Free Cash Flow
FCFF/(1 + WACC)^T
Employee Stock Options Question
Current Outstanding Shares: 6,000,000
Number of Options:
300,000 at a strike price of $25.00200,000 at a strike price of $50.00
Current stock price is:
$30.00 per share
1) The expected exercise of employee stock options is limited to those
that have intrinsic value (where the market value exceeeds the strike
price)
2) The options have a strike price of $25 will be exercised
3) The options with a strike price of $50.00 will not be exercised
4) The exercised options will generate proceeds to the company of
$7,500,000 (300,000 x 25)
5) The difference will peremit the company to repurchase 250k shares
from the market (7,500,000/30)
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