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Human Resource Accounting Essay

5895 words - 24 pages


Professional Level – Options Module, Paper P4 Advanced Financial Management 1

December 2010 Answers

Up to 4 professional marks are available for the presentation of the answer, which should be in a report style. The decision should be taken in the best interests of the shareholders and other stakeholders of the company. Obviously all the input numbers should be considered on basis of their reasonableness and accuracy. Hence the positions of the interested parties will be considered on this basis. 1. Cease Trading and Liquidate the Company This is probably not in the best interest of any party. Debt holders only receive 55·7c for every $1 invested and the shareholders ...view middle of the document...

The shareholders would benefit immediately if the management buy-out option is taken because they will receive a premium on the share price, although this may still be lower than when the company’s share price was at its height. Therefore the shareholders need to weigh up whether they would like to possibly benefit from future company prospects (not evident at the moment) or whether they would like to sell their shares for 60c per share. They would probably opt for the management buy-out. Unsecured Bond Holders The unsecured bond holders’ position is not dissimilar to the shareholders’ position in that with the restructuring, their financial position depends on the future success of the company, but with the management buy-out they benefit from receiving the full repayment of their initial investment. However, their preferred proposal is probably more difficult to judge. With the restructuring option they would become the majority shareholder with just over 87% of the company for a total investment of $210m. They would be able to play a major part in influencing the management’s decision possibly with representation on the Board. However, they would be exposed to additional risk as equity holders, as opposed to being debt holders. The value attributable to them based on perpetuity cash flows is $223m ($256·3 x 87%) approximately, which is more than their investment. Like the shareholders they would benefit from any future projects that the re-structured business undertakes. They would also receive the shares at a significant discount, 270m shares for $210m which is 77·7c per $1 par value. The ability to influence the Board and the possibility of obtaining a higher return than their investment from almost the start may sway them to accept the restructuring option. On the other hand, the management buy-out pays them what is due immediately, but they cannot participate in future benefits. Bond holders may therefore be more tempted to opt for the restructuring when compared to shareholders. Directors and Management Participating in the Management Buy-Out If the restructuring is considered as opposed to liquidation then clearly a significant benefit to the management and directors is that they would retain their employment, unless the new shareholder owners decide to terminate some of their contracts. The possibility of the offer of the share options is interesting. At first the $1·10 exercise price may seem generous as the directors would be able to exercise when the price of shares increase by just 10%. However, it is unlikely that the share price will start at $1 per share. If the estimate of the value to perpetuity of $256·3m is taken against the total number of shares of 310m, this gives a theoretical share price of 82·7c per share. This means that the share price needs to increase by over 33% before the option will become in-the-money. The option is currently well out-of-money and would have a low value. Given the asymmetric payoff of the...

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