Financial Management November 2015 Past question Paper and answers

Download Financial Management November 2015 Past Paper


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Financial Management November 2015 Past Paper

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QUESTION ONE

(a) Highlight three financial instruments that are traded in money markets.             (3 marks)

(b) Explain the following theories in relation to valuation of financial assets:

(i) Fundamental theory.                  (3 marks)

(ii) Random walk theory.       (3 marks)

(c) Ngatata Limited has issued a 20-year bond with a nominal value of Sh. 1,000 and a coupon annual rate of 9%. Coupon payments are made semi-annually in arrears. The yield to maturity of the bond is 12% per annum.

Required:

(i)  The value of the bond.        (3 marks)

(ii) The new value of the bond, if yield to maturity goes down to 8% per annum.     (2 marks)

(d) Rematex Limited’s earnings have been growing at the rate of 18% per annum. This growth is expected to continue for 4 years, after which the growth rate will fall to 12% per annum for another 4 years.

Thereafter, the growth rate is expected to be 6% in perpetuity. The company’s last dividend paid was Sh.2. The investors’ required rate of return on the company’s equity is 15%.

Required:

 The intrinsic value of the share.     (6 marks) (Total: 20 marks)

QUESTION TWO

(a) Summarise four advantages of debentures over preference shares.                 (4 marks)

(b) Wendy Limited has the following capital structure:

Debt        35%

Equity     50%

Preference shares         15%

The management of the company has provided the data below:

Bond yield to maturity  9%

Corporate tax rate        30%

Growth rate of ordinary dividends     9%

Market price of one ordinary share    Sh.30

Dividend for one ordinary share        Sh. 1.20

Market price of one preference share Sh. 100

Floatation cost of one preference share Sh.2.00

Dividend for one preference share     Sh.8.50

Required:

The company’s weighted average cost of capital (WACC).     (6 marks)

(c) Cindy Ltd. currently gives credit terms of net 30 days. The company’s average annual sales amount to Sh. 120 million. The average collection period is 45 days. The management intends to increase the credit period to net 60 days. This plan is expected to increase sales 15 per cent. After the change in credit terms, the average collection period is expected to be 75 days. Variable costs are 80% of sales. The company’s required rate of return on receivables is 20%.

Corporate tax rate is 30%.

Assume a 360 days year.

Required:

Advise the management of Cindy Ltd. on whether to relax its credit terms.  (6 marks)

(d) The following data was extracted from the financial statements of Kapecha Limited as at 30 September 2015:

  Sh. “million”
10% preference shares (Sh.10 par value) 16
Ordinary shares (Sh.10 par value) 16
  32
Retained earnings 28
  60
15% debentures 48
  108

The company’s net profit before interest was Sh.80 million. The company’s dividend pay-out ratio was 50%. Corporate tax rate is 30%.

Required:

Dividend per share (DPS).            (4 marks)  (Total: 20 marks)


 QUESTION THREE

(a) The following information relates to Mongwe Limited for the year ended 31 October 2015:

Earnings yield

Dividend for the year

Nominal value per share

Market price per share

25%

10% of share nominal value

Sh.40

Sh.150

Required:

(i) Earnings per share (EPS).              (2 marks)

(ii) Dividend cover.                     (2 marks)

(iii) Price-earnings (P/E) ratio.          (2 marks)

(b) The following details relate to a capital project in XYZ Limited:

Project cost                                    Sh.65,000,000

Annual cash flows (after tax)       Sh.21,000,000

Project economic life                    5 years

Required rate of return                 12%

 Required:

Assess the suitability of the capital project using the following methods:

(i) Internal rate of return (IRR).       ( 5 marks)

(ii) Profitability index (PI).           (3 marks)

(c) Nile group of hotels is considering the acquisition of Victoria hotel at a cost of Sh.200 million. The group of hotels cost of capital is currently 16% due to its high gearing level. Victoria hotel has no debt.

As a result of acquisition, the cost of capital for Nile group of hotels will drop to 12%. Total cash flows will also increase 25 million per annum in perpetuity.

Required:

(i) Using the net present value (NPV) approach, advise the management of Nile group of hotels on the acquisition of Victoria hotel.      (3 marks)

(ii) If the acquisition was funded borrowing so that there is no impact on gearing after acquisition and the cost of capital was not reduced, advise the management of Nile group of hotels whether to proceed with the acquisition of Victoria hotel.     (3 marks)  (Total: 20 marks)

QUESTION FOUR

(a) Fila Ltd. intends to raise finance as follows:

Debenture: Raise Sh.100 million through a debenture issue. Each debenture will have a face value of Sh.1,000 and will be issued at 2% floatation cost and a discount of Sh.60. The coupon rate will be 10% with a maturity period of 10 years.

Equity: The firm will raise Sh.100 million from ordinary shares. The current level of dividend is Sh.5 per share and this has been growing at 10% per annum. The current market price per share is Sh.40 and floatation cost will be 5% of the market price.

Long term debt: Raise Sh.20 million long-term debt at par with an interest rate of 10% per annum.

Corporate tax rate is 30%.

Required:

The marginal cost of capital (MCC) of Fila Ltd.     (8 marks)

(b) The following information was extracted from the financial statements of Tana Enterprises Ltd. for the year ended 31 December 2013 and 31 December 2014:

Statement of financial position
          2014 2013
Assets: Sh. ‘million’ Sh.‘million’
Non-current assets 1,850 1,650
Depreciation (350) (225)
Net non-current assets 1,500 1,425
Intangible assets 150 150
Current assets:                   
Inventory 330 230
Accounts receivable 220 170
Cash 100 90
Total current assets 650 490
Total assets 2,300 2,065
Equity and liabilities:    
Ordinary share capital (Sh.2 par value) 100 million shares issued)  

200

 

200

Additional paid in ordinary share capital 325 325
Retained earnings 550 470
Ordinary shareholders’ equity 1,075 995
Preference share capital (10%, Sh.100 par value) 150 150
Long-term liabilities:    
Long-term debt 625 540
Deferred tax 100 80
Total long-term liabilities 725 620
Current liabilities:    
Accounts payable 85 105
Accruals 65 85
Current portion of long-term debt 75
Short-term bank notes 125 110
Total current liabilities 350 300
Total equity and liabilities 2,300 2,065

 

Statement of comprehensive income
  2014 2013
  Sh. “million” Sh. “million”
Net sales 3,500 2,990
Cost of goods sold 2,135 1,823
Selling, general and administrative expenses 1,107 974
Operating profit 258 193
Net interest expense 74 64
Income from operations 184 129
Income taxes 55 38
Net income 129 91
Preference dividends 15 15
Net income available for ordinary shareholders 114 76
Dividends declared 40 30

Assume that a year has 365 days.

Required:

Compute and interpret the following ratios for the year ended 31 December 2014:

(i) Cash conversion cycle.     (6 marks)

(ii) Equity turnover.          (2 marks)

(iii) Fixed charge cover.         (2 marks)

(iv) Return on capital.       (2 marks)    (Total: 20 marks)


QUESTION FIVE

(a) Distinguish between “required rate of return”’ and “expected rate of return”.      (4 marks)

(b) Discuss three contracts that are made through Islamic financial instruments.   (6 marks)

(c) Summarise six benefits of the integrated financial management information system (IFM1S).          (6 marks)

(d) Makata Limited intends to invest its surplus funds in shares with the following return expectations:

Economic condition Probability Share returns
Boom 0.20 40%
Average 0.60 15%
Recession 0.20 -10%

Required:

Using the coefficient of variation, assess the risk level associated with the investment.  (4 marks) (Total: 20 marks)


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