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170118/mod resource/content//AC (a) You are given the following information in relation to Percussion Ltd: Sales £29,250,000

(c) The board of Purple Plc have taken the decision to restructure the business and close one of Purple Plcs factories. The

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Answer #1

Answer: (a) - (i)

Percussion Ltd.

Sl. No.

Description

Amount (in €)

I.

1.

Sales

29,250,000

2.

Gross Profit (10% on Sales)

2,925,000

3.

General Expenses

675,000

4.

Profit Before Tax (PBT)

2,250,000

5.

Tax

450,000

6.

Profit After Tax (PAT)

1,800,000

II.

1.

Profit After Tax (PAT)

1,800,000

2.

Total No. Of Shares

720,000

3.

Earnings per Share (1,800,000 ÷ 720,000)

2.5

III.

1.

Market Price of Share

190

2.

Earnings per Share

2.5

3.

Price to Earnings Ratio (190 ÷ 2.5)

76

Answer: (a) - (ii)

If a Company has a higher PE Ratio, then it indicates that the prospects of the Company are rich. On the contrary it is also that the Company may result in a lower financial leverage and the stocks are possibly over-valuated.

Theoretically speaking, if a Company increase its gearing, i.e., financial leverage, then it will lower the PE Ratio but substantially increase the Value of the Shares. This would in turn lead to a higher stock volatility. However, in reality, there are studies which has found that, if there is an increase in the leverage, the PE Ratio remains indeterminate.

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