• The usage of a forward exchange contract: This is a contract, usually between a bank and its customers, for the purchase/sale of a specified amount of a stated foreign currency at an exchange rate fixed at the time the contract is made for performance at a future date agreed upon at the time of the contract.
• To borrow foreign currency: A Ghanaian company that has recognized the need to pay a certain amount of US dollars in two months’ time, can borrow that amount of US dollars now, thereby avoiding and reducing translation/conversion risks.
• To insert protection clauses: The exporter can incorporate a clause in the contract of sale, to adjust the selling price, if the exchange rate moves outside an agreed range. Also additional charges may be made as a result of conversion or translation changes which may be agreed to be borne by the importer.
• Export factoring: where the exporter raises foreign finance through the usage of an international factor.
• To operate a domiciliary account: The company in this case maintains an account in a Ghanaian bank, but denominated in the desired foreign currency. Proceeds of export sales can then be used through this account to settle future commitments.
• To match currencies: The idea here is to match receipts and payments in the foreign currency. In this case related amounts are offset in foreign currency if they fall due to within the same time period.
• Incorporating a clause in the export contract which will specifically allow or disallow fluctuations in exchange rates: This is slightly different from protection clauses, since the adjustment is done on the exchange rate for payment especially in local currency.
• Discounting export bills or invoices with foreign finance houses.
• Negotiating of bills of exchange payable or discountable abroad.                      (Any 3 points)
  

Portfolio Risk (β)
Beta of (Treasuring Bills) = 0
Beta of Market = 1
Hence Portfolio  = {40% x 0} x {60% x 1}
.                          = 0.6

The costs of the three alternatives are:

i) Borrowing from the bank at 8%
Since this requires on holding of 25% of the balance at bank in effect the 8% is payable on 75%:
= (8/75) x 100
= 10.6%
OR
Interest payment = 0.08*GH¢100,000 = GH¢8000
Usable amount (100-25)%* GH¢100,000 = GH¢75,000
Effective Interest Rate = (8000/75000)*100
.                                    = 10.67%

ii) Issue Promissory notes
= 500 + 500 + (7½ of 1,000)
= GH¢8,500
= 8.5%
OR
Interest payment = 0.075* GH¢100,000  = GH¢7500
Cost of placement = GH¢500*2               = GH¢1000
.                               Total                         = GH¢8500
Effective Interest Rate = (8,500/100,000)*100   = 8.5%

iii) Forfeit cash discounts
Effective Interest = (𝐶𝐷/100−𝐶𝐷) x (365/𝑁)
CD=Discount Rate =3%
N= Number of days to delay after forfeiting discount, 30-10=20 days
= (3/97) x (365/20)
= 56.4%

Advise: Issuing promissory notes is the cheapest source and should be selected

• Because of Government monetary policy. Interest rates may be increased to reduce the flow of money in the economy.
• Because of Government exchange control policy. If inflation is making it more difficult to export, and encouraging an increase in imports, the Governments may intervene by raising domestic interest rates. This would encourage a flow of foreign investment into the domestic market and improve the exchange rate.
• Because of a reduced propensity to save – at a time when inflation is eroding the value of any funds not consumed immediately. This could lead banks and other financial institutions to raise their interest rates so as to attract more deposits.
     (Any 2 points)

High or fluctuating interest rate cause difficulties in business financing for the following reasons:

• They make it more difficult to obtain funds. In particular, companies will be reluctant to raise fixed interest borrowing if they fear that interest rates are likely to fall. Even overdraft finance will be expensive though still preferable since the interest rate is not fixed;
• They may cause liquidity problems. High interest rates make business operations difficult throughout the economy. Consequently, debtors are more slow to pay, while creditors increase the pressure for quick settlement of their accounts;
• They make it more difficult to draw up plans and budgets. Cash flow becomes more uncertain and interest charges vary, not only with fluctuations in interest rates, but also a consequence of there being less liquid funds available.        (Any 2 points)
  

• Liquidity problems will make it necessary to look carefully at the level of current assets held. This may involve reducing the amount of buffer stocks, tightening credit terms and even realizing investments.
• The difficulties of obtaining long-term finance may make it impossible to replace fixed assets. It may even be necessary to dispose of fixed assets to generate liquid funds.
  

INTERNAL FACTORS

• Overall Goal Congruence:
  Transfer prices should help achieve overall goal congruence with regard to profit/income and customer satisfaction. When divisional managers have the authority to decide whether to buy or sell internally or on the external market, the transfer price can determine whether managers’ incentives align with the incentives of the overall company and its owners. The objective is to achieve goal congruence, in which divisional managers will want to transfer product when doing so maximizes consolidated corporate profits, and at least one manager will refuse the transfer when transferring product is not the profit-maximizing strategy for the company.
• Better Performance Evaluation:
  Transfer prices may be set between two subsidiaries of a holding company and/or two units of a corporate body in such a way to evaluate performance of each division. Transfer pricing can evaluate performance by coordinating production, sales and pricing decisions of the different divisions (via an appropriate choice of transfer prices). The transfer price will affect not only the reported profit of each center, but will also affect the allocation of an organization’s resources. Transfer prices make managers aware of the value that goods and services have for other segments of the firm. Transfer pricing allows the company to generate profit (or cost) figures for each division separately.
• Avoidance of Divisional Conflicts:
  Transfer prices are set among the units in such a way that general co-ordination between units are promoted, the implementation of appropriate procedures to ensure, as far as possible, uniformity in the classification and application of costs are maintained and divisional conflicts among different units are reduced.
• Better cash management.
• Competitive advantage.

EXTERNAL FACTORS

• Transfer Prices as a Tool to Minimize Worldwide Taxes, Duties and Tariffs:
  Transfer prices may be set between two subsidiaries of a holding company and/or two units of a corporate body in such a way to minimize the taxes, duties and tariffs on their overall profit. For example, suppose, tax rate on profit in country X is lower than in country Y. The subsidiary in Y will then under invoice its export to the subsidiary in X. The profit at the latter subsidiary will be inflated, but that will bear a lower tax burden.
• Avoidance of Financial Restrictions on Profit Repatriation Imposed by Government:
  When in a country, financial restrictions on profit repatriation is imposed by Government, transfer prices is set among two subsidiaries by over invoicing its imports. In some countries there may be restriction on repatriation of income and dividend/profits. Goods are sought to be transferred to subsidiaries in these countries at more than the price otherwise settled at arm’s length.
• Inflation:
  If a country hosting a subsidiary, has a high rate of inflation, early repatriation of fund is done by overcharging goods, exported to it so that money may not be tied up in a currency that depreciates. However, the tax and fiscal authorities of the host countries are vigilant. They impose penalty for manipulated evasion of taxation or import duties. To safeguard the position, the taxpayer may enter into an advanced pricing agreement with the related two tax authorities.
• Lesser foreign exchange risks.
  

𝐿𝑜𝑎𝑛 𝑎𝑚𝑜𝑢𝑛𝑡 𝑟𝑒𝑞𝑢𝑖𝑟𝑒𝑑 = 10,000,000−144,230.77 = 9,855,769.23

A leveraged buy-out is a transaction in which a group of private investors uses debt financing to purchase a company or part of a company. In a leveraged buy-out, like a leveraged recapitalization, the company increases its level of leverage, but unlike the case of leveraged capitalisations, the company does not have access to equity markets any more.

Leveraged recapitalization is a corporate strategy in which a company takes on significant additional debt with the intention of paying a large cash dividend to shareholders and/or repurchasing its own stock shares. A leveraged recapitalization strategy typically involves the sale of equity and the borrowing or refinancing of debt.

A leveraged buyout (LBO) is the acquisition of another company using a significant amount of borrowed money to meet the cost of acquisition. The assets of the company being acquired are often used as collateral for the loans, along with the assets of the acquiring company. The purpose of leveraged buyouts is to allow companies to make large acquisitions without having to commit a lot of capital.

• Financial reconstruction: involves changing the capital the capital structure of the firm.
• Portfolio reconstruction: involves making additions to or disposals from companies’ businesses eg. through acquisition or spin-offs.
• Organisational restructuring: involves changing the organizational structure of the firm.
  

A Eurobond is denominated in a currency other than the home currency of the country or market in which it is issued. It is a bearer bond, which means it is unregistered, and payable to the person who carries it; losing a Eurobond is like losing a wallet filled with currency. These bonds are frequently grouped together by the currency in which they are denominated, such as eurodollar or euroyen bonds. Issuance is usually handled by an international syndicate of financial institutions on behalf of the borrower, one of which may underwrite the bond, thus guaranteeing purchase of the entire issue.

They are issued only by large, credit-worthy companies, development banks and state-owned corporations, and are generally unsecured.

• Eurobonds gives issuers the opportunity to take advantage of favourable regulatory and lending conditions in other countries. Eurobonds are not usually subject to taxes or regulations of any one government, which can make it cheaper to borrow in the Eurobond market as compared to other debt markets.
• Eurobonds create a liability in a foreign currency to match against a foreign currency asset.
• They are also extremely flexible. Most Eurobonds are fixed rate but they can be floating rate or linked to the financial success of the company or the government.
• Obtaining financing by issuing Eurobonds is often cheaper than obtaining a foreign currency bank loan.
• It is a way for companies to obtain financing in an economy where financing is hard to obtain. Issuing Eurobond gives companies wider access to the international market which they may normally not be able to access.
• Since Eurobonds are normally aimed at institutional investors and not the public, there are no advertisement costs involved and this means lower cost for the issuing firm.                                       (Any 3 points)
  

• Currency risk may arise if the investment the bonds are funding generates net revenues in a currency different from that the bond is denominated in.
• The Eurobond market has been criticized as being a haven for tax-shy investors.
• Lower overseas interest rates are not necessarily good news. Many corporate treasurers who try to take advantage of relatively low overseas interest rates often overlook the reasons why interest rates are lower overseas.
• Because Eurobonds are unsecured, companies that issue them must be internationally known and have an excellent credit rating.
• There could be huge costs, elements of credit risk with all bond issue and also the element of country risk including political risk.                                 (Any 4 points)
  

Add  cash flows from sale of machines  GH¢100,000                                      = GH¢0.1
Total value of Jacobs Ltd after acquisition                                                        = GH¢10.0

The maximum price Jacobs Ltd should pay to acquire Idowu Ltd should be the difference between its value after and its value before the acquisition = GH¢10m – GH¢7m  = GH¢3.0

The minimum price that ordinary shareholders of Idowu Ltd should accept for their shares is the market value = GH¢1.5m

Take-over price agreed at GH¢ 1.5m
Let x represent the number of new shares to be issued to Idowu Ltd.
Total number of shares in issue will become 2m + x shares
Total value of Jacobs Ltd after acquisition = 10m.
For the entire benefit from the acquisition to accrue to all the present shareholders of Jacobs Ltd, value of Jacobs shares issued to Idowu’s shareholders must equal the agreed take-over price.

 OR

The take-over ratio is 35.2941 shares in Jacobs Ltd for each 100 shares held in Idowu Ltd.
The market value per share after the acquisition or take-over
= (GH¢10,000,000/2,352,941)  = GH¢4.25

Jacobs Ltd shareholders will have an increase in the market value of their shares from GH¢3.50 to GH¢4.25 = GH¢0.75 per share. The 2m shares would have increased by 2m × GH¢0.75= GH¢1,500,000

Idowu shareholders have 352,941 shares at GH¢4.25 each = GH¢1.5m (same as their previous value).
Thus the entire benefit from the take-over will accrue to the present shareholders of Jacobs Ltd.

• The shareholders in Idowu Ltd should try to get a take-over price higher than the GH¢1.5m agreed in (b) above since this is their value and they would not benefit at all from the take-over at that price. In practice, they would have to be offered an amount in excess of their market value to induce them to sell.
• The directors of Idowu Ltd might believe from the proposal that the increase in profits after the acquisition and the sale of assets are indications that they are not effectively utilizing their assets hence may decide to put them (the assets) to better usage rather than sell them.
• The directors of Jacobs Ltd will have to reassess their estimates. How realistic is the increase in sales revenue of GH¢60,000 p.a. and at the same time a reduction in expenses of GH¢50,000. Will reduction in expenses involve retrenchment of staff and what effect will this have in morale of the remaining staff? An increase in value of GH¢3m from an investment of GH¢1.5m seems rather too high.
• What of the transaction costs of the acquisition? They have not been considered. If the take-over is resisted by the directors of Idowu Ltd or other interested buyers, then the cost of the acquisition could be quite high. Also the position of the shareholders of Idowu Ltd should be considered since their control will be greatly reduced, eg. A holder of 51% interest in Idowu Ltd will find himself owning only 7.6% in Jacobs Ltd after the acquisition.
• Whether there would be increased market power and economies of scale and scope.
• Furthermore, Jacobs and Idowu both manufacture and sell autoparts; the attitude of the government or trade unions to forestall a monopoly situation has not been considered. Finally, in as much as the acquisition looks attractive a lot more detailed information to answer the questions raised must be obtained before a final decision is taken.
• Attitude of government and trade unions must be considered.
• Elimination of inefficiencies, use of surplus cash and increased debt capacity must be considered.        (Any 4 points)
  

The company is moving into a different area and to start a new business and this means the financial risk is likely to change. We need to make adjustments to account for different degrees of financial risk which requires ungearing and regearing the beta.

*The beta of the comparable firms or the industry is first ungeared by removing the effects of its financial risk. This is computed as:

The ungeared beta is called “asset beta” because it reflects the business risk of the assets in that industry.

Once we determine the ungeared beta, we adjust it for the capital structure of the company or project that is the focus of our analysis. In other words, we “regear” the asset beta to arrive at an estimate of the equity beta for the project or company of Interest.

Having estimated a project-specific geared beta, we can use the CAPM to estimate the cost of equity. So using the CAPM, we can estimate the cost of equity: