Chapter 8 Mini-Case 5: Valuing Refresh Ltd.
Refresh Ltd, a manufacturer of a range of sports drinks and the industry leader in this segment of the local beverage market is listed on the JSE. Mr Hilton, the financial director of Refresh Ltd, has approached you to assist in negotiations for the sale of a 25% equity interest in the business. The directors of Refresh Ltd collectively own 65% of the ordinary shares in issue and would like to sell part of their shareholding to Houston Beverages Inc.
Mr Hilton requires you to value the business of Refresh Ltd as at the 28th February 2007 and the directors intend using your valuation for the purposes of their negotiations. In order to assist you, Mr Hilton has provided you with extracts from the draft balance sheet and income statement for the year ended 28th February 2007 as well as forecast financial statements for 2008 through 2010.
Balance sheets at end February (R'000)
2007 / 2008 / 2009 / 2010Capital employed
Shareholders’ equity / 111 427 / 108 693 / 110 697 / 113 623
Deferred taxation / 4 232 / 4 895 / 5 268 / 5 569
Long-term loan / 38 574 / 28 554 / 14 226 / -
154 233 / 142 142 / 130 191 / 119 192
Employment of capital
Non-current assets / 120 919 / 99 135 / 77 551 / 87 968
Capitalised expenses / - / 2 438 / 1 625 / 812
Investment in associate / 2 006 / 2 856 / 3 706 / 4 556
Other investments / 2 712 / 2 712 / 2 712 / 2 712
Current assets
Inventory / 34 485 / 39 182 / 42 770 / 47 502
Accounts receivable / 43 656 / 48 895 / 52 953 / 57 984
Cash / 204 / 241 / 332 / 465
73 345 / 88 318 / 96 055 / 105 951
Current liabilities
Accounts payable / 37 887 / 41 958 / 45 067 / 49 169
Provisions / 1 847 / 2 445 / 2 644 / 2 544
Tax owing / 3 573 / 2 866 / 3 747 / 4 608
Short-term borrowings / 6 442 / 6 048 / - / 26 486
49 749 / 53 317 / 51 458 / 82 807
Net current assets / 28 596 / 35 001 / 44 597 / 23 144
Net assets / 154 233 / 142 142 / 130 191 / 119 192
Income Statements Year ended/ending February (R'000)
2007 / 2008 / 2009 / 2010Gross profit / 76 151 / 83 451 / 89 018 / 94 191
Depreciation / (22 471) / (24 784) / (25 584) / (34 584)
Other expenses / (28 675) / (31 211) / (33 699) / (25 419)
Abnormal items / 6 116 / 2 644 / - / -
Profit before interest / 31 121 / 24 812 / 29 735 / 34 188
Interest / (4 335) / (7 364) / (4 883) / (4 071)
Profit before tax / 26 786 / 17 448 / 24 852 / 30 117
Tax / (7 234) / (7 032) / (8 698) / (10 541)
Net profit after tax / 19 552 / 10 416 / 16 154 / 19 576
Income from associate / 787 / 850 / 850 / 850
Dividends paid / (12 500) / (14 000) / (15 000) / (17 500)
Transfer to non-distributable reserve / (787) / (850) / (850) / (850)
Retained profit for the year / 7 052 / 3 584 / 1 154 / 2 076
The abnormal item included in the 2008 projected income statement relates to the discontinuance of the information technology activities of Refresh Ltd., which it intends outsourcing.
The company proposes expanding its manufacturing capacity in 2010 and R40 million of the total 2010 capital expenditure budget has been set aside for this purpose. No disposals of non-current assets are budgeted for over the next three years.
The investment in the associate represents a 49% shareholding in Rolling Wheels (Pty) Ltd., a logistics company which distributes all of the products of Refresh Ltd in Gauteng and North West provinces. The shareholding in Rolling Wheels (Pty) Ltd was bought by Refresh Ltd four years ago when it decided to outsource its distribution activities. The remaining 51% shareholding is held by a consortium of investors who have control of Rolling Wheels (Pty) Ltd.
In terms of the shareholders’ agreement Rolling Wheels (Pty) Ltd matches or beats the best distribution rates that Refresh Ltd can achieve in the Gauteng and North West provinces. Rolling Wheels (Pty) Ltd has historically not declared dividends and this policy will remain in force for the foreseeable future.
In Mr Hilton’s view, the accounting value of the investment in Rolling Wheels (Pty) Ltd approximates its market value.
Other investments’ shown on the balance sheet represent premiums paid in respect of key person insurance policies entered into by Refresh Ltd over the past seven years. The present surrender values of these policies total R4 335 million.
You may assume the following for the purposes of your valuation of Refresh Ltd:
- Inflation from 2010 onwards10%
- Corporate income tax rate35%
- Weighted average cost of capital20,83%
The cash flows of 2010 are expected to be sustainable into the foreseeable future.
[Adapted from PAAB Final Qualifying Examination, Paper 1, 1996]