QUESTION $3(30$ marks$)$

A South African pharmaceutical group, Pharm Limited, listed on the Johannesburg Stock Exchange $($JSE$)$ operates a chain of retail pharmacies, including three manufacturing plants in Johannesburg. Pharm Limited manufactures a broad range of prescription drugs, both branded and generic, which it distributes through multiple channels that comprise pharmacies, doctors, hospitals, and convenience stores, including the group$$s own pharmacy chains.

The group$$s profit has decreased in the year ended $31$ March $2023$ to R$503350000(2022$: R$555066000)$ as various economic challenges continued to depress market demand in the country. Notwithstanding the poor performance, management is optimistic that profit after tax will grow by $9\%$ per annum from $2025$ onwards, excluding the effect of any possible merger or acquisition.

Pharm Limited intends to bolster its financial performance through the acquisition of Clifpharm $($Pty$)$ Ltd$,$ one of its significant suppliers. Clipharm $($Pty$)$ Ltd is an all equity$-$funded company based in Gqeberha manufacturing active pharmaceutical ingredients. Pharm Limited plans to acquire $60\%$ of Clifpharm ordinary shares at R$24$ per share, an offer which Clifpharm will likely accept. The company has $10$ million shares in issue and currently earns $624$ cents per share.

A preliminary investigation has revealed the following:

$$ pre$-$tax annual synergies of R$9$ million would be realised within the first year of acquisition.

$$ integration cost over this period would equal R$4000000($pre$-$tax$).$

$$ Clifpharm earnings are expected to grow by $7\%$ over the next year.

Pharm Limited will issue $500000$ shares and $5$ million debentures to fund the acquisition. The debentures will be issued for a total consideration of R$90$ million and pay an annual interest rate of $9\mathrm{.}6\%$ and will be redeemable at a premium of $4\%$ in $4$ years$$ time. Similar debentures currently yield $9\mathrm{.}5\%$ The balance of the purchase price will be paid from a surplus cash fund that currently derives interest income at an annual rate of $5\%.$

Pharm Limited directors were guided in their preliminary analysis by the following assumptions:

$$ Clifpharm will accept the offer of R$24$ per share.

$$ Pharm Limited$$s P$/$E multiple will stay constant throughout the $2025$ financial year.

$$ The effective date of the transaction will be $1$ April $2024.$

MBA$5903$

MAY$/$JUNE $2024$ EXAMINATION

$9$

$$ The interest on the debentures will not be deductible for tax as its proceeds will be used to purchase equity.

The Pharm Limited group has declared a dividend of $151$ cents per share in the $2023$ financial year, maintaining a constant dividend pay$-$out ratio. There were $100$ million shares in issue at year$-$end, $31$ March $2024,$ which are currently trading at R$65$ per share.

The group derives $80\%$ of its sales from credit sales. It has suffered a credit loss due to the liquidation of one of its debtors, Sychem Limited, writing off the balance of R$1\mathrm{.}5$ million. Sychem had a credit limit of R$2$ million. Credit losses have decreased from R$47980000$ in $2022$ to R$41429000$ in $2023.$

The current tax rate in South Africa is $27\%.$

REQUIRED: PART $1$ Marks

$($a$)$

Analyse and discuss the likely effect of the planned acquisition of Clifpharm $($Pty$)$ Ltd on Pharm Limited$$s basic earnings per share $($EPS$)$ over the course of one year, based on the directors$$ assumptions.

$(13)$

$($b$)$

Discuss possible reasons why the Clipharm acquisition might not be successful.

$(4)$

$($c$)$

Calculate the market value of the debentures at year$-$end, $31$ March $2025.$

$(5)$

$($d$)$

Discuss the benefits and limitations of the current dividend policy based on a constant pay$-$out ratio.

$(4)$ TOTAL $26$

MBA$5903$

MAY$/$JUNE $2024$ EXAMINATION

$10$

PART $2$

Groupe Canal$+$ offers R$125$ per share to buy MultiChoice.

The French company intends to use its cash reserves to increase its $35\%$ shareholding in the MultiChoice group to create a global media group, which will be listed in both Europe and South Africa. The new group will have almost $50$ million subscribers and the resources to invest more in local content and sports enabling Canal$+$ to compete against $$US entertainment giants$($Bloomberg$,2024).$

REQUIRED Marks

$($a$)$

Discuss any potential benefits that motivated the decision to buy MultiChoice.

$(4)$ TOTAL $($Parts $1$ & $2)30$