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)