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ACCA F9 Workbook Questions & Solutions 1.1 PDF
ACCA F9 Workbook Questions & Solutions 1.1 PDF
ACCA F9 Workbook
Lecture 1
Financial Strategy
ACCA F9 Financial Management Full Course Workbook Solutions!
Solution
2008 3.56 (3.56 - 3.30) = 26c 42c (26 + 42) = (68 / 330) = 2m x 68c =
68c 20.6% $1.36m
2009 3.47 (3.47 - 3.56) = -9c 44c (-9 + 44) = (35 / 356) = 2m x 35c =
35c 9.8% $0.70m
2010 3.75 (3.75 - 3.47) = 28c 46c (28 + 46) = (74 / 347) = 2m x 74c =
74c 21.3% $1.48m
2011 3.99 (3.99 - 3.75) = 24c 48c (24 + 48) = (72 / 375) = 2m x 72c =
72c 19.2% $1.44m
ACCA F9 Financial Management Full Course Workbook Solutions!
EPS - Illustration 2
2010 2011
$000 $000
Solution
2010 2011
1. The 3 main areas of the business that Finance Managers plan are:
Answer B
Answer C
Answer A
Answer D
ACCA F9 Financial Management Full Course Workbook Solutions!
Answer D
6. ABC Co. Paid out a dividend of 35c last year and 42c this year per share. Their share
price has increased from $4.33 to $5.24 in that time. What is the percentage shareholder
return in the current year.
A. 20.00%
B. 21.10%
C. 30.72%
D. 24.39%
Answer C
1 $4.50 82c
2 $4.71 84c
3 $3.85 86c
Answer C
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8. In order for dividends to be paid a company must have made profits in the current year.
Answer FALSE
9. Miller and Modigliani stated in their theory that dividends were ..........................
Answer Irrelevant
10. If a company does not pay dividends then the result will be
Answer C
Answer C
12. The Bird in the hand argument refers to the fact that
A. Investors prefer a dividend now rather than later as there is a risk that the company
could not pay a dividend at all.
B. Managers prefer not to pay a dividend as they can re-invest the cash saved into new
investments.
C. The government want the company to pay their tax on time.
D. The company has an ethical policy to look after any injured birds they might find.
Answer A
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Answer B
14. A company can reward investors through script dividends without paying out any cash.
Answer TRUE
Answer D
16. A share buy back scheme refers to a situation where a company buys back its own
shares from shareholders and then cancels those shares.
Answer TRUE
Answer B
18. A company may decide not to pay a dividend for which of the following reasons
ACCA F9 Financial Management Full Course Workbook Solutions!
Answer D
19. Investors would like to see a company pay a steadily rising dividend growing at a rate
in excess of inflation.
Answer TRUE
20. Which of the following is an assumption of Miller and Modiglianis dividend irrelevancy
theory?
Answer B
ACCA F9 Financial Management Full Course Workbook Solutions!
Investments
Financing
Dividend Policy
Corporate strategy is the overall direction that a firm decides to take and covers
such areas as expansion into new markets, penetration of existing markets or
diversification into different business areas.
The managers of a firm act as the agents of the shareholders as they are the owners
of the company.
The managers are interested in maximising their short term interests through pay
and benefits, whereas the shareholders are interested in the long term stability and
success of their investment.
As such, the goals of management are not the same as those of the shareholders,
creating the agency problem.
Share price growth + dividends paid (Learn this now if you didnt know!).
ACCA F9 Financial Management Full Course Workbook Solutions!
Any 2 of:
8. Why did Miller & Modigliani say that dividends were irrelevant?
M & M stated that whether the firm paid a dividend or chose to reinvest the money
into the business the shareholders would get the same return.
This is because if a dividend is paid the shareholders get their return in the form of
revenue. If the money is reinvested in the business this should lead to more profit
and thus an increased share price which increases shareholder wealth by the same
amount.
A firm should choose a consistent dividend policy so that potential investors can
choose their investment based on their preference for a return in the form of
revenue or share price growth.
Now do it!
!
ACCA F9 Financial Management Full Course Workbook Solutions!
Lecture 2
Performance
Measurement
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X1 X2 X3
Tax 120 90 50
Using the information on the previous page calculate and comment on the following
Ratios:
Solution
ROCE
X1 X2 X3
Return on Capital PBIT / Capital (500 / 550) = (500 / 780) = (300 / 1030) =
Employed Employed 90.91% 64.10% 29.13%
ACCA F9 Financial Management Full Course Workbook Solutions!
X1 X2 X3
In the first year the ROCE was 90.91%. At first glance this would appear to be a good return, however
without industry averages or prior period information we are unable to tell if this is the case.
In year X2 the ROCE is 64.10%. This is a fall of 29.5% from the previous year indicating that the business
in not able to make the same return on its assets that it has previously been able to do.
In the year X3 the ROCE is 29.13%. This is a fall of 54.55% indicating that there may be some serious
underlying problems which are affecting the ability of the business to generate the return on capital
previously generated.
ROE
X1 X2 X3
Return on Equity (PAT / Ord Shares + (280 / 400) = (260 / 580) = (300 / 730) =
Reserves) 70% 44.8% 41%
In the first year the ROE was 70%. At first glance this would appear to be a good return, however without
industry averages or prior period information we are unable to tell if this is the case.
In year X2 the ROE is 44.8%. This is a fall of 36% from the previous year indicating that the business in
not able to make the same return on the shareholders funds that it has previously been able to do.
In the year X3 the ROE is 41%. This is a fall of 8.4% indicating that the business may be having difficulty
generating the returns it was able to do previously.
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Margins
X1 X2 X3
Gross Margin (Gross Profit / Revenue) (1000 / 3000) = (1100 / 3500) = (1000 / 4200) =
33.33% 31.42% 23.89%
Net Margin (PAT / Revenue) (280 / 3000) = (260 / 3500) = (30 / 4200) =
9.3% 7.4% 0.7%
Operating Margin (PBIT / Revenue) (500 / 3000) = (500 / 3500) = (300 / 4200) =
16.66% 14.28% 7.1%
The Gross Margin is 33.33% in X1 and holds reasonably steady in X2 at 31.42%. However in X3 the
Gross Margin falls to 23.89% indicating that the business has either had to cut prices to sell the greater
volume it has, or the cost of its purchases have gone up.
The Net Margin is 9.3% in X1 but begins to fall in X2 with 7.4% achieved, before falling dramatically to
0.7% in X3. The main reason for this is the fall in Gross Profit as other costs have risen in line with
expectations given the increase in sales. However another point to note is that interest costs have risen
with the increase in long term loans. The extra interest costs have put pressure on the business.
The Operating Margin dropped slightly in X2 to 14.28% from 16.66% the previous year - a fall of almost
15%. In X3 the Operating Margin fell away to 7.1%, a decrease of over 50%. This is due to the decreasing
Gross Margin achieved as well as rises in the other expenses.
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Gearing
X1 X2 X3
Gearing levels in year X1 are 15%. Without industry averages or prior year data we are unable to assess
this level although at first glance it does not seem excessive.
In year X2 gearing increases slightly to 16.66%, an increase of 11% from year X1. This is due to debt
levels increasing to 200 from 150, although this is offset by the increase in the share price from $3.30 to
$4.
In year X3 gearing increases dramatically to 45%, an increase of over 180%. This is due to debt levels
rising to 300 from 200 and the share price dropping to $2.20 due to the deteriorating results of the
business.
ACCA F9 Financial Management Full Course Workbook Solutions!
Interest Cover
X1 X2 X3
Interest Cover (PBIT / Interest) (500 / 100) = 5 (500 / 150) = 3.33 (300 / 220) = 1.36
times times times
Interest coverage in year X1 is 5 times. Without industry averages or prior year data we are unable to
assess this level although at first glance it does not seem unreasonable.
In year X2 interest coverage falls to 3.33 times. This has occurred due to the interest charge increasing in
the period while PBIT has remained constant.
In year X3 interest coverage has decreased again to 1.36 times. This is caused by the PBIT achieved
decreasing to 300 combined with the increase in the interest charge to 220. The increase in interest is
caused by the increase in the long term debt of the company as shown by the gearing ratios calculated
above.
Dividend Cover
X1 X2 X3
Dividend Cover (PAT / Dividends) (280 / 100) = 2.8 (260 / 110) = 2.36 (30 / 30) = 1 time
times times
Dividend coverage in year X1 is 2.8 times. Without industry averages or prior year data we are unable to
assess this level although at first glance it does not seem unreasonable.
In year X2 dividend coverage falls to 2.36 times. This would not concern investors as although coverage
has gone down slightly, the dividend paid this year is greater than last.
In year X3 dividend coverage has decreased to 1 time. This is caused by the decrease in profit achieved
by the company restricting the level of dividend payable. This will be of concern to investors and their
concern is reflected in the fall in the share price from $4 in year X2 to $2.20 in year X3.
ACCA F9 Financial Management Full Course Workbook Solutions!
Dividend Yield
X1 X2 X3
Dividends Per Share (100 / 300) = 33c (110 / 300) = 36c (30 / 300) = 10c
Dividend Yield (Dividends Per Share / (33 / 330) = 10% (36 / 400) = 9% (10 / 220) = 4.5%
Share Price)
The Dividend Yield is 10% in year X1. Whilst we do not have comparatives, this seems a reasonable
return.
In year X2 the Dividend Yield falls to 9%. This will not be overly concerning to investors as the increase in
share price over the year will have more than made up for the slightly lower yield.
In year X3 the Dividend Yield has fallen to 4.5% which is 50% lower than the previous year. This,
combined with the fall in share price and reduced profitability will be a major concern to investors.
P/E Ratio
X1 X2 X3
EPS (280 / 300) = 93c (260 / 300) = 86c (30 / 300) = 10c
P/E Ratio (Share Price / EPS) (330 / 93) = 3.54 (400 / 86) = 4.65 (220 / 10) = 22
The P/E Ratio in year X1 is 3.54. We don not have industry comparatives or prior year information with
which to compare this.
In year X2 the P/E Ratio increases to 4.65. This indicates that the market expectations for this share have
risen since X1 and that investors are now willing to pay 4.65 times what the business earns in a year to
own the share.
In year X4 the P/E ratio has increased dramatically to 22. This is unusual as the earnings have decreased
to 12% of the previous year. The share price has fallen to reflect this, but not by as much as would be
expected. This may indicate that the market feels that the results in year X3 were perhaps a one-off and
that next years results will improve.
ACCA F9 Financial Management Full Course Workbook Solutions!
1. In the ROCE calculation what are the 3 ways of calculating Capital Employed?
This is the distributable profits and thus the amount that the investors in the equity
of the firm will be interested in.
The number if times the current earnings that the market is currently willing to pay
for the share.
If the P/E ratio is high it indicates that the market expects strong future earnings.
If the P/E ratio is low it indicates that the market expects weak future earnings.
The dividend paid as a proportion of the share price i.e. the amount of dividends
that the share has yielded to investors.
Now do it!
ACCA F9 Financial Management Full Course Workbook Solutions!
Lecture 3
Finance Sources
ACCA F9 Financial Management Full Course Workbook Solutions!
Solution
4 $8 (4 x $8) = 32
1 $6 (1 x $6) = 6
5 38
We now have 5 shares in issue at total value of $38 so the THERP is (38 / 5) = $7.60
ACCA F9 Financial Management Full Course Workbook Solutions!
The share price is currently $5.50 and ABC intends to raise $5m.
There are currently 6.25m shares in issue and ABC is offering a 1 for 5 rights issue.
Solution
1 $4 (1 x 4) = 4
6 31.5
We now have 6 shares in issue at total value of $31.5 so the THERP is (31.5 / 6) =
$5.25
ACCA F9 Financial Management Full Course Workbook Solutions!
1. Which of the following is NOT something a company will consider when choosing a
source of finance?
Answer B
Answer D
3. Which of the following are advantages to a company of being listed on the stock
exchange?
A. 1 and 2
B. 2 and 3
C. 2 and 4
D. 1 and 3
Answer D
ACCA F9 Financial Management Full Course Workbook Solutions!
4. Which of the following are disadvantages to a company of being listed on the stock
exchange?
A. 1 and 2
B. 2 and 4
C. 3 and 4
D. 1 and 4
Answer A
5. A company has 10m shares in issue at a share price of $7 and undertakes a rights issue
of 1 for 5 to raise $12m. What is the Theoretical ex-rights price?
A. $6.17
B. $6.83
C. $6.00
D. $6.44
Answer B
10m $7 $70m
2m $6 $12m
12m $82m
We now have 12m shares in issue at total value of $82m so the THERP is ($82m / 12) =
$6.83
ACCA F9 Financial Management Full Course Workbook Solutions!
A. All of the new Shares being issued to one large institutional investor.
B. An offering of new shares to all investors in the market to enable them to purchase
them if they wish.
C. Offering shares to current shareholders in the same proportion as they currently own
them.
D. An issue to current shareholders of shares instead of dividends.
Answer B
Answer B
A. All of the new Shares being issued to one large institutional investor.
B. An offering of new shares to all investors in the market to enable them to purchase
them if they wish.
C. Offering shares to current shareholders in the same proportion as they currently own
them.
D. An issue to current shareholders of shares instead of dividends.
Answer A
A. Shareholders
B. Banks
C. The market
D. The government
Answer B
ACCA F9 Financial Management Full Course Workbook Solutions!
10. Which of the following is NOT a function of the treasury department in a company?
Answer C
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5. A company has 10m shares in issue at a share price of $7 and undertakes a rights issue
of 1 for 5 to raise $12m. What is the Theoretical ex-rights price?
10m $7 $70m
2m $6 $12m
12m $82m
We now have 12m shares in issue at total value of $82m so the THERP is ($82m / 12) =
$6.83
6. What is an IPO?
It can be very expensive (Legal fees, listing fees, compliance costs, advertising
costs, corporate governance requirements, underwriting costs).
It may need to be underwritten to ensure the shares are taken up.
The share price achieved for the issue may not be as high as expected.
8. What is a placing?
Now do it!
ACCA F9 Financial Management Full Course Workbook Solutions!
Lecture 4
Economic
Environment
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A. Full employment.
B. Price stability.
C. High, stable growth.
D. Low consumer prices.
Answer D
1. Wage increases.
2. Rising cost of commodities.
3. Sales tax decreases.
4. High demand in the economy
A. 1 and 2
B. 2 and 4
C. 3 and 4
D. 1 and 4
Answer A
3. Fiscal policy can be described as tax revenues raised by the government and spent on
services and subsidies for the public.
Is this statement
A. TRUE
B. FALSE
ACCA F9 Financial Management Full Course Workbook Solutions!
A. 1 and 2
B. 2 and 4
C. 3 and 4
D. 1 and 4
Answer D
5. Which of the following might cause policy makers to decide to decrease interest rates?
A. 1 and 2
B. 2 and 3
C. 3 and 4
D. 1 and 4
Answer B
Answer D
7. How can financial intermediaries help to make the market more efficient?
A. By buying commodities from sellers and trading them on the commodities exchange.
B. By providing insurance on transactions for buyers and sellers.
C. By providing finance to enable transactions to take place.
D. By selling foreign currency on the currencies exchange.
Answer C
ACCA F9 Financial Management Full Course Workbook Solutions!
Full employment.
Price stability.
High, stable growth.
Balance of payments.
Wage increases.
Rising cost of commodities.
Sales tax increases.
An increase in interest rates will increase the cost of financing to individuals and
companies in the economy. This will decrease demand for goods as consumers will
have less money to spend on goods because they are spending more money on the
increased cost of financing (mortgages, credit cards etc.).
When excessive consumer demand is causing inflation interest rates may be raised
to decrease demand.
7. How can financial intermediaries help to make the market more efficient?
Treasury bills.
Long term government bonds.
Corporate bonds.
Preference shares.
Ordinary shares.
Now do it!
ACCA F9 Financial Management Full Course Workbook Solutions!
Lecture 5
Working Capital
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Balance Sheet
$000
ASSETS
Inventory 300
Receivables 200
Cash 300
1800
LIABILITIES
Reserves 200
Payables 100
Overdraft -
1800
Income Statement
$000
Revenue 1000
COS 800
Other Information:
Required:
Solution
Less:
164
Show the journal entries and calculate the Revised Balance sheet if the operating cycle
changes to:
Item Days
Less:
Payables Period 30
270
ACCA F9 Financial Management Full Course Workbook Solutions!
Solution
Less:
270 164
Entries Dr Cr
Dr Inventory 138
Cr Cash 138
Dr Receivables 74
Cr Cash 74
Dr Payables 35
Cr Cash 35
ACCA F9 Financial Management Full Course Workbook Solutions!
ASSETS
1800 1765
LIABILITIES
Overdraft 0 0
1800 1765
ACCA F9 Financial Management Full Course Workbook Solutions!
Show the journal entries and calculate the Revised Balance sheet if the operating cycle
changes to:
Item Days
Inventory Period 90
Collection Period 30
Less:
Payables Period 60
60
Solution
Less:
60 270
ACCA F9 Financial Management Full Course Workbook Solutions!
Entries Dr Cr
Dr Cash 241
Cr Inventory 241
Dr Cash 192
Cr Receivables 192
Dr Cash 65
Cr Payables 65
498 498
ASSETS
1765 1830
LIABILITIES
Payables 65 65 130
Overdraft 0 0
1765 1830
ACCA F9 Financial Management Full Course Workbook Solutions!
1. Which of the following are components of working capital within the financial
statements:
A. 1 and 2
B. 2 and 3
C. 3 and 4
D. 2 and 4
Answer B
Answer B
ACCA F9 Financial Management Full Course Workbook Solutions!
A 103 days
B 131 days
C 235 days
D 31 days
Answer A
4. If inventory days go up from 100 to 150 the company will need to invest more cash in
the business.
Is this statement:
A. TRUE
B. FALSE
Answer A
5. Which of the following statements concerning working capital management are correct?
1 The twin objectives of working capital management are profitability and liquidity
2 A conservative approach to working capital investment will increase profitability
3 Working capital management is a key factor in a companys long-term success
A 1 and 2 only
B 1 and 3 only
C 2 and 3 only
D 1, 2 and 3
Answer B
ACCA F9 Financial Management Full Course Workbook Solutions!
6. Which of the following statements concerning working capital management are correct?
1 The twin objectives of working capital management are profitability and liquidity
2 A aggressive approach to working capital investment will increase profitability
3 Working capital management is not a key factor in a companys long-term success
A 1 and 2 only
B 1 and 3 only
C 2 and 3 only
D 1, 2 and 3
Answer A
7. Which of the following statements concerning working capital management are correct?
1 The twin objectives of working capital management are profitability and liquidity
2 A moderate approach to working capital investment will increase profitability
3 An aggressive approach to working capital investment uses more long term finance than
short term.
A 1 and 2 only
B 1 and 3 only
C 2 and 3 only
D 1, 2 and 3
Answer B
8. Which of the following statements concerning working capital management are correct?
1 A conservative approach to working capital investment employs uses long term finance
to finance some fluctuating current assets.
2 An aggressive approach to working capital investment will increase profitability
3 Working capital management has no effect on profitability of the company.
A 1 and 2 only
B 1 and 3 only
C 2 and 3 only
D 1, 2 and 3
Answer A
ACCA F9 Financial Management Full Course Workbook Solutions!
5. If my inventory days go up from 100 to 150 will I need to invest more or less cash in the
business?
The level of inventory, receivables and cash that are required to support the day to
day running of the business.
The levels of inventory, receivables and cash that are required to support seasonal
fluctuations in business operations.
ACCA F9 Financial Management Full Course Workbook Solutions!
Matching short term assets with short term finance and long term assets with long
term finance.
10. What are the advantages of a conservative working capital financing policy?
There is less chance of the firm running out of cash i.e. less liquidity risk.
The firm is able to meet sales demand changes.
By offering more credit the firm may well increase sales.
Now do it!
ACCA F9 Financial Management Full Course Workbook Solutions!
Lecture 6
Managing
Receivables
ACCA F9 Financial Management Full Course Workbook Solutions!
Receivables - Illustration 1
New Policy
Solution
Working
167
The saving made is greater than the profit lost so the discount should be offered
ACCA F9 Financial Management Full Course Workbook Solutions!
Receivables - Illustration 2
A factor has offered to take over the administration of trade receivables on a non-recourse
basis for an annual fee of 3% of credit sales. The factor will maintain a trade receivables
collection period of 30 days and Gorwa Co will save $100,000 per year in administration
costs and $350,000 per year in bad debts. A condition of the factoring agreement is that
the factor would advance 80% of the face value of receivables at an annual interest rate of
7%. The current overdraft rate is 5%
Difference on Receivables
Difference 1,526,027
A 1 and 2 only
B 1 and 3 only
C 2 and 3 only
D 1, 2 and 3
Answer A
2. Which of the following are benefits of a company offering a discount to customers for
early payment of invoices?
A 1 and 2 only
B 1 and 3 only
C 2 and 3 only
D 1, 2 and 3
Answer A
ACCA F9 Financial Management Full Course Workbook Solutions!
3. The management of XYZ Co has annual credit sales of $20 million and accounts
receivable of $4 million. Working capital is financed by an overdraft at 12% interest per
year. Assume 365 days in a year.
What is the annual finance cost saving if the management reduces the collection period to
60 days?
A $85,479
B $394,521
C $78,904
D $68,384
Answer A
1. It can be expensive.
2. It creates a bad impression with customers because the debt is collected by the factor.
3. It can increase the liquidity of the company.
4. It can lose the goodwill of customers.
A 1 and 2 only
B 1 and 3 only
C 2 and 3 only
D 1, 2 and 3
Answer D
A 1 and 2 only
B 1 and 3 only
C 2 and 3 only
D 1, 2 and 3
Answer B
ACCA F9 Financial Management Full Course Workbook Solutions!
Any 3 of:
A factor (usually a bank) buys the debt of the company for a percentage of the
invoice amount. The factor will charge a fee for the service and will charge interest
on any amounts outstanding until the money is collected.
It can be expensive.
It creates a bad impression with customers because the debt is collected by the
factor.
It can lose the goodwill of customers.
ACCA F9 Financial Management Full Course Workbook Solutions!
A factor forwards the company money secured against the debt ledger of the
business but it is still collected by the business.
8. How can a company seek to ensure that foreign receivables are collected?
Now do it!
ACCA F9 Financial Management Full Course Workbook Solutions!
Lecture 7
Inventory
Management
ACCA F9 Financial Management Full Course Workbook Solutions!
EOQ - Illustration 1
Holding cost per year of 10% of the purchase price of the goods.
Solution
Working
Ordering Cost 12
Test
Solution
The current policy is to order 100,000 units when the inventory level falls to 35,000 units.
Forecast demand to meet production requirements during the next year is 625,000 units.
The cost of placing and processing an order is 250, while the cost of holding a unit in
stores is 050 per unit per year. Both costs are expected to be constant during the next
year. Orders are received two weeks after being placed with the supplier. You should
assume a 50-week year and that demand is constant throughout the year.
Solution
Working
Holding Cost for Buffer (Holding cost p/unit x 0.5 x 10,000 5,000
Buffer Stock)
Order cost 30
Required
Calculate the minimum total cost with a discount of 1% given on orders of 1500 and
over
Solution
2) Calculate costs at the lower level of each discount above the EOQ
Working
1. Which of the following types of cost we are seeking to minimise by using the Economic
Order Quantity?
Answer B
2. If a company uses the Economic Order Quantity as the level at which to order, how will
they calculate total ordering costs for the year?
Answer A
3. ABC Co. sells widgets and expects annual demand of 3.4m units. The cost of making
an order is $49.71 and the cost of holding one unit for one year is $0.50.
A. $5,687.34
B. $6,413.81
C. $6,500.54
D. $6,430.32
Answer C
ACCA F9 Financial Management Full Course Workbook Solutions!
3. ABC Co. sells widgets and expects annual demand of 1.2m units. The cost of making
an order is $25.21 and the cost of holding one unit for one year is $0.50.
A. $2,850
B. $3,750
C. $2,450
D. $2,750
Answer D
4. Layla Co. sells 200m wigs in a year with each order taking 15 days to be delivered once
made. They make an order every time their stock levels reach 10m wigs.
A. 1,780,822
B. 6,666,666
C. 9,333,333
D. 2,345,632
Answer A
5. Which of the following are drawbacks of a company using the Economic Order Quantity
method of stock management?
A 1, 2 and 4 only
B 1 and 3 only
C All of the above
D 1, 2 and 3
Answer C
ACCA F9 Financial Management Full Course Workbook Solutions!
6. Stavros Cos current inventory policy is to order 60,000 units when the inventory level
falls to 55,000 units. Forecast demand to meet production requirements during the next
year is 800,000 units. The cost of placing and processing an order is $90, while the cost
of holding a unit in stores is $1 per unit per year. Both costs are expected to be constant
during the next year. Orders are received three weeks after being placed with the
supplier. You should assume a 50-week year and that demand is constant throughout
the year.
A. $12,000
B. $6,000
C. $7,000
D. $19,000
Answer D
Solution
Working
Ordering costs.
Holding costs.
6. What are the steps in calculating the total costs when there is a buffer stock?
8. Why might we not use the EOQ when there are bulk discounts available?
The saving on the discount may mean that it is cost beneficial to order at that level.
ACCA F9 Financial Management Full Course Workbook Solutions!
Now do it!
ACCA F9 Financial Management Full Course Workbook Solutions!
Lecture 8
Cash Management
ACCA F9 Financial Management Full Course Workbook Solutions!
A business expects to move 500,000 from its interest bearing account into cash over the
course of one year.
How much should the business transfer into cash each time it makes a transfer?
Solution
Working
Interest Rate 7%
Using the information in illustration 1 calculate the total cost to the business each year of
their cash management policy.
Solution
Working
The fixed cost of converting securities into cash is $264.50 per conversion.
Solution
Working
Interest Rate 9%
Working
If a company must maintain a minimum cash balance of 8,000, and the variance of its
daily cash flows is 4m (ie std deviation 2,000). The cost of buying/ selling securities is
50 & the daily interest rate is 0.025 %.
Calculate the spread, the upper limit & the return point.
Solution
Working
1. Which of the following are the reasons for a company to hold cash?
1. Speculation
2. Persuasion
3. Transaction
4. Reaction
A 1 and 2 only
B 1 and 3 only
C 2 and 3 only
D 1, 2 and 3
Answer B
2. Revaile Co. has annual transactions of $30 million. The fixed cost of converting
securities into cash is $500 per conversion. The annual opportunity cost of funds is 6%.
What is the optimal deposit size?
A. $21,213
B. $42,426
C. $707,107
D. $42.43
Answer B
Working
Interest Rate 6%
Working
A 1 and 2 only
B 1 and 3 only
C 2 and 3 only
D 1, 2 and 3
Answer D
4. If a company must maintain a minimum cash balance of 20,000, and the variance of its
daily cash flows is 6.25m (ie std deviation 2,500). The cost of buying/ selling
securities is 80 & the daily interest rate is 0.035 %.
Working
Speculation
Precaution
Transaction
The optimum cash amount to transfer from interest bearing investments into cash
each time cash is transferred.
By holding cash you are not earning interest so the cost is the opportunity cost of
the interest you could have earned.
The cost of moving cash x number of movements (Total cash moved per year /
amount moved each time)
7. Why does the Miller-Orr model tell us to buy securities with extra cash?
9. If the interest rate is 8% what figure should be included in the Miller-Orr model for i?
Now do it!
ACCA F9 Financial Management Full Course Workbook Solutions!
Lecture 9
Investment
Appraisal I
ACCA F9 Financial Management Full Course Workbook Solutions!
ARR - Illustration 1
ABC Ltd are considering expanding their internet cafe business by buying a business
which will cost $275,000 to buy and a further $175,000 to refurbish.
1 45,000
2 75,000
3 80,000
4 50,000
5 50,000
6 60,000
The equipment will be depreciated to a zero resale value over the same period and,
after the sixth year, they can sell the business for $200,000
Solution
A business is considering investing in a new project. They have already spent $20,000 on
a feasibility study which suggests that the project will be profitable.
The headquarters of the company has spare floor space which will be allocated to the
project with $7,000 of the current monthly rent allocated to the project.
New equipment costing $2.5m will have to be bought and will be depreciated on a straight
line basis over 10 years.
A manager who earns $30,000 per year and currently runs a similar project will also
manage the new project taking up 25% of his time.
State whether each of the following items are relevant cash flows and explain your answer.
Solution
Year 1: ! $1,200,000
Solution
1 1,200,000 1,200,000
2 2,200,000 3,400,000
3 2,500,000 5,900,000
4 1,700,000 7,600,000
Total cash flows in year 4 of 1,700,000 so it will take (300,000 / 1,700,000) x 12 = 2.11
months
ACCA F9 Financial Management Full Course Workbook Solutions!
Solution
1+m = 1.155
m = 0.155 = 15.5%
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Year Cash-Flows
1 5,000
2 7,000
3 8,000
4 10,000
5 11,000
6 9,000
Calculate the present value of the cash flows for each of the six years and in total.
Solution
Total 35,072
ACCA F9 Financial Management Full Course Workbook Solutions!
Year Cash-Flows
1 5,000
2 5,000
3 5,000
4 5,000
5 5,000
6 5,000
Calculate the present value of the total cash flows for the six years
Solution
Total 21,770
Solution
1. JoJo Ltd are considering investing in a new project which will cost an initial $375,000
and they expect the following cash to come in:
The investment will be depreciated to a scrap value of $175,000 over the period of the
project.
What is the Accounting Rate of Return (Return on Capital Employed) of the project?
A. 6%
B. 3%
C. 18%
D. 12%
Answer B
2. Which of the following are weaknesses of the Accounting Rate of Return (Return on
Capital Employed)?
A 1, 2 and 4
B 1 and 3 only
C 2 and 3 only
D 1, 2 and 3
Answer A
3. Aldios Co. intends to make an investment of $4.5m in a project lasting 5 years. The
project cashflows are forecast to be as follows:
The investment will be depreciated to a scrap value of $1.5m over the period of the
project.
A. 3 Years 4 months
B. 2 Years 6 months
C. 4 Years 2 months
D. 2 Years 4 months
Answer A
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1 250,000 250,000
2 550,000 800,000
3 2,700,000 3,500,000
4 3,000,000 6,500,000
4. Jpeg Co. uses a real discount rate of 8%. They are carrying out an investment appraisal
using an inflation rate of 5%.
What discount rate should be used to discount the cash flows for the project:
A. 8%
B. 5%
C. 13%
D. 11%
Answer C
ACCA F9 Financial Management Full Course Workbook Solutions!
The gain is expressed as a percentage so does not take into account the size of the
investment.
Uses accounting profit rather than cash so can be manipulated.
Disregards the timing of cashflows.
No discount rate to allow for inflation and risk.
Cash
Incremental (Caused by the project)
Future
ACCA F9 Financial Management Full Course Workbook Solutions!
Simple.
Minimises risk as it focuses on getting the capital invested back.
Maximises liquidity, again as it focuses on getting the capital invested back.
Uses cash rather than accounting profit.
Good for conservative managers.
9. If the real discount rate is 7% and inflation is running at 3% what is the nominal/money
discount rate?
10. If I am going to receive $8,000 per year for 6 years and my cost of capital (discount
rate) is 8% what is the present value of the total of these cash-flows?
Now do it!
ACCA F9 Financial Management Full Course Workbook Solutions!
Lecture 10
Investment
Appraisal II
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WDA - Illustration 1
After the 4 year project the equipment can be sold for $25.
Solution
4 42.19
17.19 5.16 5
Period 0 1 2 3 4 5
A business requires the following working capital investment into a four year project:
Solution
Period 0 1 2 3 4
NPV - Illustration 3
I. Sales will be $100,000 in the first year and are expected to increase by 5% per year.
II. Costs will be $50,000 and are expected to increase by 7% per year.
III. Capital investment will be $200,000 and attracts tax allowable depreciation of the full
value of the investment over the 5 year length of the project.
IV. The tax rate is 30% and tax is payable in the following year.
V. Working Capital invested will be 20% of projected sales for the following year.
VI. General inflation is expected to be 3% over the course of the project and the business
uses a real discount rate of 9%.
Solution
Working 1 - WDAs
Working 2 - Inflation
Period 1 2 3 4 5
Working
Inflation In Question 3%
Period 0 1 2 3 4 5
NPV
Period 0 1 2 3 4 5 6
Capital -200,000
Investment
NPV -31,838
ACCA F9 Financial Management Full Course Workbook Solutions!
1. Asfor Co. plans to undertake a project with an initial investment of $5m. The inflation
adjusted cash flows expected from the project are as follows:
Year $
1 $1.2m
2 $1.8m
3 $2.1m
4 $2.2m
5 $2.5m
Asfor Co. uses a real discount rate of 6% and general inflation is expected to be 5% per
year for the duration of the project.
A. $8,178
B. $8,108
C. $2,010
D. $7,010
Answer C
Total PV 7,010
Capital 5,000
NPV 2,010
ACCA F9 Financial Management Full Course Workbook Solutions!
2. Asfor Co. plans to undertake a project with an initial investment of $16m. The cash flows
(profit) before inflation expected from the project are as follows:
Year $
1 $4.2m
2 $4.9m
3 $5.5m
4 $5.8m
5 $6.1m
Asfor Co. uses a real discount rate of 10% and general inflation is expected to be 3% per
year for the duration of the project.
A. $417
B. $2,048
C. -$298
D. $2,233
Answer B
Total PV 18,048
Cash
Capital 16,000
NPV 2,048
ACCA F9 Financial Management Full Course Workbook Solutions!
3. Asfor Co. plans to undertake a project with an initial investment of $16m and a scrap
value of $3m at the end of the project. The cash flows after inflation expected from the
project are as follows:
Year $
1 $4.2m
2 $4.9m
3 $5.5m
4 $5.8m
5 $6.1m
Asfor Co. uses a nominal discount rate of 10%. Inflation is expected to be 3% per year.
The tax rate on profits is 30% payable the following year. Tax allowable depreciation is
available at 25% reducing balance.
A. $1,477
B. $6,945
C. $17,477
D. $3,340
Answer D
5 5,063
2,063 619 6
ACCA F9 Financial Management Full Course Workbook Solutions!
0 1 2 3 4 5 6
NPV 3,340
ACCA F9 Financial Management Full Course Workbook Solutions!
4. Asfor Co. plans to undertake a project with an initial investment of $10m. The cash flows
(profit) after inflation expected from the project are as follows:
Year $
1 $4.2m
2 $4.9m
3 $5.5m
4 $5.8m
5 $6.1m
The working capital requirement will initially be $1m rising by 5% each year before being
returned at the end of the project.
A. $4,605
B. $9.566
C. $4,097
D. $4,293
Answer D
1 2 3 4 5 6
Total PV 14,293
Cash
Capital 10,000
NPV 4,293
ACCA F9 Financial Management Full Course Workbook Solutions!
5. Asfor Co. plans to undertake a project with an initial investment of $6m and scrap value
of $1m. The sales price per unit in real terms is $30 with cost per unit of $15.
Year Units
1 200,000
2 300,000
3 350,000
4 400,000
5 320,000
The sales are expected to be subject to inflation of 5% with the costs subject to inflation of
3%.
A. $11,079
B. $5,912
C. $4,097
D. $8,111
Answer A
1 2 3 4 5
Sales Price 30 30 30 30 30
Inflated 32 33 35 36 38
Cost Price 15 15 15 15 15
Inflated 15 16 16 17 17
1 2 3 4 5 6
NPV 11,079
ACCA F9 Financial Management Full Course Workbook Solutions!
6. Asfor Co. plans to undertake a project with an initial investment of $600,000 and scrap
value of $100,000. The sales and costs in real terms are forecast to be
1 200,000 100,000
2 300,000 125,000
3 350,000 155,000
4 400,000 160,000
5 320,000 145,000
The sales are expected to be subject to inflation of 5% with the costs subject to inflation of
3%.
A. -$33,000
B. -$2,000
C. $72,000
D. $107,000
Answer D
1 2 3 4 5
1 2 3 4 5 6
NPV 107
ACCA F9 Financial Management Full Course Workbook Solutions!
The initial investment in the project is being compared to the forecast cash-flows
which are discounted to reflect the risk of the project and inflation.
The initial investment is made now - in the current time period and as such is not
discounted as no inflation will have occurred.
The discount rates given to us in the discount table applys to a whole year i.e. the
discount rate for period one applies to cash flows that occur 1 year after the start of
the project.
If we did not assume that the cash we earn during year one occurred at the end of
that period then we would have to adjust the discount rate for the month in which
they occur (by using a fraction of the discount rate).
4. If I have profits in period 2 of $4,000 and a tax rate of 30% how much tax will I pay and
when?
5. If I receive 25% capital allowances and have a tax rate of 20% what will my tax saving
be in each year over a 5 year project if the capital investment is $7,500 with a residual
value of $1,500?
5 2373
873 175 6
We then adjust the working capital for the increase or decrease required in each
period.
The closing balance of working capital is returned at the end of the project so that
the working capital line in the NPV calculation should add across to zero.
8. If my cash flows in my NPV analysis are inflated should I use the real or the nominal
discount rate?
The real rate. If the cash flows are inflated then the discount rate needs to be
adjusted for inflation also.
ACCA F9 Financial Management Full Course Workbook Solutions!
Now do it!
ACCA F9 Financial Management Full Course Workbook Solutions!
Lecture 11
Investment
Appraisal III
ACCA F9 Financial Management Full Course Workbook Solutions!
IRR - Illustration 1
Solution
! !
! ! 100,000
1. Which of the following best describes the result of calculating the Internal Rate of Return
of a prospective project?
Answer D
2. If a project has cash inflows of $5,000 per year for 5 years and had an initial investment
of $17,000 what is the IRR?
A. 14.5%
B. 11.5%
C. 10.0%
D. 15.0%
Answer A
IRR = 14.5%
3. If a project has cash inflows of $6,000 per year for 5 years and had an initial investment
of $23,000 what is the IRR?
A. 11.05%
B. 10.07%
C. 12.07%
D. 9.23%
Answer B
IRR = 14.5%
ACCA F9 Financial Management Full Course Workbook Solutions!
4. Which of the following are advantages of using the Internal Rate of Return (IRR) as an
investment appraisal technique?
A 1 and 2 only
B 1 and 3 only
C 2 and 3 only
D 1 and 4 only
Answer D
5. Which of the following are disadvantages of using the Internal Rate of Return (IRR) as
an investment appraisal technique?
A 1, 2 and 4
B 2, 3 and 4
C 2 and 3 only
D 1 and 3 only
Answer B
ACCA F9 Financial Management Full Course Workbook Solutions!
We are trying to find the discount rate at which the NPV of the project would equal
zero i.e. if we discounted the cash flows at that discount rate the project would have
neither a positive or negative NPV but an NPV of 0.
3. If a project has cash inflows of $5,000 per year for 5 years and had an initial investment
of $17,000 what is the IRR?
IRR = 14.5%
Now do it!
ACCA F9 Financial Management Full Course Workbook Solutions!
Lecture 12
Further Appraisal
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A business is considering 2 different projects. The likely profit made from each project is
outlined below:
Project A Project B
Solution
Project A Project B
1 EV $18,100 1 EV $18,150
ACCA F9 Financial Management Full Course Workbook Solutions!
Solution
Period 0 1 2
NPV 11,230
ACCA F9 Financial Management Full Course Workbook Solutions!
Period 0 1 2
Sensitivity Margins
Initial NPV / PV Initial Investment 56% The NPV is 56% of the initial
Investmen (11,230 / 20,000) investment.
t
The Machine has a useful economic life of 5 years with no scrap value
Finance choices
If the machine is purchased then maintenance costs of $100 per year will be incurred.
Solution
Buy
Working 2 - Maintenance
Working 4 - NPV
Period 0 1 2 3 4 5 6
Capital -10,000
Maintenance Tax 30 30 30 30 30
Saving (W2)
Total Cash Flows -10,000 -100 680 492 352 246 979
NPV -8,214
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Lease
Period 0 1 2 3 4 5 6
Total Cash Flows -2200 -2200 -1540 -1540 -1540 660 660
NPV -6,898
Running costs
Year 1 10,000
Year 2 11,500
Year 1 19,000
Year 2 16,000
Solution
Period 0 1
NPV -21,819
Period 0 1 2
NPV -35,373
1. A business is considering 2 different projects. The likely profit made from each project is
outlined below:
Project 1 Project 2
Project 3 Project 4
Which of the projects should be chosen on the basis of the Expected Values?
A Project 1
B Project 2
C Project 3
D Project 4
Answer C
ACCA F9 Financial Management Full Course Workbook Solutions!
Project 1 Project 2
$22,000 $22,300
Project 3 Project 4
$20,740 $21,060
ACCA F9 Financial Management Full Course Workbook Solutions!
2. A company is considering investing in a project with an expected life of four years. The
project has a positive net present value of $280,000 when cash flows are discounted at
12% per annum. The projects estimated cash flows include net cash inflows of $320,000
for each of the four years. No tax is payable on projects of this type.
A 87.5%
B 21.9%
C 3.5%
D 28.8%
Answer D
3. A five year investment project has a positive net present value of $320,000 when
discounted at the cost of capital of 10% per annum. The project includes annual net cash
inflows of $100,000 which occur at the end of each of the five years.
A 31.25%
B 118.5%
C 84.4%
D 18.5%
Answer C
4. Davos Co. intends to lease a machine on a 5 year operating lease for a payment of
$3,500 payable in advance. The tax rate is 30%. The pre-tax cost of borrowing is
15.71%.
What is the present value cost to the business of leasing the machine?
A. $9,440
B. $10,480
C. $10,864
D. $10,974
Answer C
Period 0 1 2 3 4 5 6
Total Cash Flows -3,500 -3,500 -2,450 -2,450 -2,450 1,050 1,050
NPV -10,864
5. Davos Co. intends to buy a machine a payment of $2m. Tax allowable depreciation is
allowable over 5 years at 25% reducing balance. The tax rate is 30%. The pre-tax cost
of borrowing is 17.14%. Maintenance costs of $65,000 are payable each year.
What is the present value cost to the business of buying the machine?
A. -$1,786
B. -$1,615
C. -$1,849
D. -$2,172
Answer A
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3 1125 281 84 4
4 844 211 63 5
Period 0 1 2 3 4 5 6
Capital -2,000
Maintenance Tax
19.5 19.5 19.5 19.5 19.5
Saving
Total Cash Flows -2,000 -65 104.5 67.5 38.5 17.5 209.5
NPV -1,786
ACCA F9 Financial Management Full Course Workbook Solutions!
6. Kevlar Co. has a piece of machinery which cost $40,000 and is trying to decide how
often to replace it based on the Equivalent Annual Cost (EAQ). The following
information relates to the machine.
Running costs
Year 1 19,000
Year 2 16,000
Answer D
12,000 x 19,000
1 40,000 10,716 16,976 33,740 0.893 37,783
0.893 x 0.893
12,000 x 16,000
2 40,000 20,820 12,752 48,068 1.690 28,443
1.690 x 0.797
12,000 x 14,000
3 40,000 28,824 9,968 58,856 2.402 24,503
2.402 x 0.712
12,000 x 14,000
4 40,000 37,224 6,996 70,228 3.102 22,640
3.102 x 0.636
ACCA F9 Financial Management Full Course Workbook Solutions!
2. How can we deal with each of risk and uncertainty in investment appraisal?
4. Why might a company want to lease an item rather than buy it?
7. If I have a pre-tax borrowing rate of 13% and the tax rate is 25% what is the post-tax
borrowing rate?
0.13 x (1-T)
0.13 x (1 - 0.25) = 0.975
Answer = 9.75%
EAC tells us when best to replace assets as it shows us the cost per year to own
and operate them.
10. I have an item of plant costing $30,000 new and $5,000 to maintain each year. The
residual value after 3 years is $7,000 and after 4 years is $5,000. If I have a cost of
capital of 10% after how long should I replace the asset?
Period 0 1-3 3
NPV -37,178
Period 0 1-4 4
NPV -41,069
Now do it!
ACCA F9 Financial Management Full Course Workbook Solutions!
Lecture 13
Further Appraisal II
ACCA F9 Financial Management Full Course Workbook Solutions!
A business has identified the following projects. They have $200,000 to invest and the
projects are divisible.
A 90,000 15,000
B 110,000 25,000
C 50,000 10,000
D 75,000 22,000
E 70,000 -8,000
Solution
E 70,000 -8,000 -
Investment
Project Investment
All of D 75,000
All of B 110,000
A business has identified the following projects. They have $200,000 to invest and the
projects are non-divisible.
A 90,000 15,000
B 110,000 25,000
C 50,000 10,000
D 75,000 22,000
Solution
The business should undertake projects B and D as these will yield the highest NPV.
ACCA F9 Financial Management Full Course Workbook Solutions!
! ! ! ! NPVDuration
Solution
A 0.38
B 0.54
C 0.28
D 0.26
Answer C
2. A company has a maximum of $80 million available for investment and seven
independent projects in which it could invest as follows:
A 10 4.20
B 40 6.10
C 20 8.50
D 40 13.70
E 50 3.80
F 20 4.90
G 20 4.33
None of the projects can be carried out more than once. Each project is divisible therefore
investment in part of a project can be undertaken.
What is the maximum NPV that could be achieved from investing the $80m using the
Profitability Index?
A. $28.85
B. $31.3m
C. $45.53m
D. $26.4m
Answer A
G 20 4.33 0.22 5 - -
B 40 6.10 0.15 6 - -
E 50 3.80 0.08 7 - -
ACCA F9 Financial Management Full Course Workbook Solutions!
A. A limited amount of capital is available to the company due to external factors such as
banks unwillingness to lend.
B. A limited amount of capital is available to the company due to internal factors such as
management unwillingness to take more risk.
C. Extra capital is available to the company due to external factors such as banks who are
keen to lend.
D. Extra capital is available to the company due to internal factors such as excess cash
from operations.
Answer A
A. A limited amount of capital is available to the company due to external factors such as
banks unwillingness to lend.
B. A limited amount of capital is available to the company due to internal factors such as
management unwillingness to take more risk.
C. Extra capital is available to the company due to external factors such as banks who are
keen to lend.
D. Extra capital is available to the company due to internal factors such as excess cash
from operations.
Answer B
ACCA F9 Financial Management Full Course Workbook Solutions!
For divisible projects, the company can do a proportion of one project if they do not
have the capital to do it all.
Non divisible projects cannot be split i.e. they are all or nothing.
2. If the projects are divisible,which method should be used to decide which projects to
undertake?
Profitability index.
The EAB tells us what the NPV of the project would be the equivalent to as an
annual amount.
Capital rationing refers to the fact that companies do not have an unlimited amount
of capital available to invest.
Now do it!
ACCA F9 Financial Management Full Course Workbook Solutions!
Lecture 14
Business Valuations
ACCA F9 Financial Management Full Course Workbook Solutions!
Reserves 200,000
The Market Value of property in the Non Current Assets is $50,000 more than the book
value.
What is the value of a 70% holding using the net assets valuation basis?
Solution
Working $
532,500
DVM - Illustration 2
Solution
Working
DVM - Illustration 3
Calculate the Value of the business using the dividend valuation method.
Solution
Dividend Growth 8%
Share Price (Dividend (1+g)) / (Ke - g) (30 x 1.08) / (0.12 - 0.08) = 810c
X1 X2 X3
Tax 120 90 50
Calculate the Value of the Company for each of the 3 years using the P/E Ratio
method.
Solution
X1 X2 X3
Tax 120 90 50
Number of Shares 3m 3m 3m
Calculate the Value of the Company for each of the 3 years using the EPS you
calculate.
ACCA F9 Financial Management Full Course Workbook Solutions!
Solution
1 480,000 3m 16c
2 560,000 3m 18.66c
3 630,000 3m 21c
X1 X2 X3
Tax 120 90 50
Number of Shares 4m 4m 4m
Calculate the Earnings Per Share for each of the 3 years and the share price using the
earnings yield.
Solution
They expect this to increase in each of the next 5 years by 5% and after that to increase
by 2% forever.
Calculate the value of the company using the present value of future cash flows method.
Solution
Period 1 2 3 4 5 6
(127,628 x 1.02) /
Cash Inflows 105,000 110,250 115,763 121,551 127,628 (0.10 - 0.02)
= 1,627,257
Discount Rate
0.909 0.826 0.751 0.683 0.621 0.621
10%
PV Cash
95,445 91,067 86,938 83,019 79,257 1,010,527
Flows
Total 1,446,252
ACCA F9 Financial Management Full Course Workbook Solutions!
1.
Reserves 300,000
The Market Value of property in the Non Current Assets is $100,000 more than the book
value.
What is the value of a 80% holding using the net assets valuation basis?
A. $730,000
B. $664,000
C. $584,000
D. $444,000
Answer C
ACCA F9 Financial Management Full Course Workbook Solutions!
Solution
Working $
730,000
2. ABC Co. has Share Capital made up of 50c shares of $5 million. They have just
paid a dividend per share of 50c and paid a dividend per share four years ago of 35c.
The cost of capital is 14%.
Calculate the Value of the business using the dividend valuation method.
A. $343.6m
B. $389.3m
C. $109.3m
D. $54.65m
Answer C
Solution
Dividend Growth 9%
Share Price (Dividend (1+g)) / (Ke - g) (50 x 1.09) / (0.14 - 0.09) = 1093c
3. SKV Co has paid the following dividends per share in recent years:
The dividend for 2013 has just been paid and SKV Co has a cost of equity of 12%.
Using the geometric average historical dividend growth rate and the dividend growth
model, what is the market price of SKV Co shares to the nearest cent on an ex
dividend basis?
A $467
B $514
C $540
D $697
Answer C
$000
Revenue 3000
COS 2000
Number of Shares 1m
Share Price $5
What is the the Value of the Company Using the P/E ratio calculation?
A. $5m
B. $7.5m
C. $8m
D. $5.5m
Answer B
Solution
1 15 500,000 $7.5m
ACCA F9 Financial Management Full Course Workbook Solutions!
They expect this to increase in each of the following 4 years by 8% and after that to
increase by 4% forever.
Calculate the value of the company to the nearest $000 using the present value of future
cash flows method.
A. $1,902,000
B. $2,795,000
C. $1,340,000
D. $3,675,000
Answer A
Solution
Period 1 2 3 4 5 Post Yr 5
136(1.04) /
Cash Inflows 100 108 117 126 136 (0.1 - 0.04)
= 2,357
Discount Rate
0.909 0.826 0.751 0.683 0.621 0.621
10%
PV Cash
91 89 88 86 84 1,464
Flows
Total 1,902
ACCA F9 Financial Management Full Course Workbook Solutions!
They expect this to increase in each of the following 4 years by 7% and after that to
increase by 3% forever.
Calculate the value of the company to the nearest $000 using the present value of future
cash flows method.
A. $7,569,000
B. $9,638,000
C. $8,137,000
D. $11,790,000
Answer C
Solution
Period 1 2 3 4 5 Post Yr 5
655(1.03) /
Cash Inflows 500 535 572 613 655 (0.1 - 0.03)
= 9,638
Discount Rate
0.909 0.826 0.751 0.683 0.621 0.621
10%
PV Cash
455 442 430 418 407 5,985
Flows
Total 8,137
ACCA F9 Financial Management Full Course Workbook Solutions!
2. What are the downsides of using the Net Assets Valuation method?
3. A company pays a constant dividend of 50c and has a cost of capital of 13%. Calculate
the share price using DVM.
50 / 0.13 = $3.85
4. A company pays a dividend of 50c and paid a dividend of 40c 4 years ago. The
company has a cost of capital of 13%. Calculate the share price using DVM.
6. Why do we use a proxy P/E Ratio when valuing a business with this method?
To base our valuation on what the business should be achieving based on the
industry it is in, rather that what it is achieving. If we buy the business we will intend
to improve its performance at least to the industry average.
When we are valuing a risky company or an unlisted company we may adjust the P/
E ratio down by say 10% to reflect this.
8. The industry average P/E ratio for the fashion industry is 13. We are valuing an unlisted
fashion business who have an EPS of 22c and 12m shares in issue. What is the value
of the firm?
A fashion business is risky as fashion changes and it is also unlisted so lets adjust
the P/E ratio down to 12 and say:
$2.64 x 12 = $31.68
10. A business is expected to earn $250,000 this year that is expected to grow at 4%
forever. What is the value of the business using the present value of future cash flows
if their cost of capital is 14%?
We can use the growth formula in the DVM model to calculate this:
Lecture 15
WACC I
ACCA F9 Financial Management Full Course Workbook Solutions!
Solution
Dividend 35
The dividend paid has grown by 4% per year for the past 5 years.
Solution
Dividend 35
Dividend Growth 4%
The average return than investors in the market can expect is 15%.
Solution
Beta 1.2
The average return than investors in the market can expect is 12%.
Solution
Company A Company B
Beta 1.2 1
Notice that when Beta is 1 (Company B) Ke is 12% which is the same as the average
return on the market.
Also notice that a higher Beta of 1.2 gives a higher Ke of 13.4% showing that a higher
Beta means higher risk.
ACCA F9 Financial Management Full Course Workbook Solutions!
Solution
Company A Company B
Remember to look out for the market risk PREMIUM as this is always (Rm - Rf) rather
than Rm (Average return on the market)
Again notice that a higher Beta leads to a higher Ke i.e. more risk.
ACCA F9 Financial Management Full Course Workbook Solutions!
1. Entrie Company has just paid a dividend of 75c. The dividend paid has grown by 3%
per year for the past 4 years. The current share price is $6.54
A. 12%
B. 15%
C. 7%
D. 11%
Answer B
Dividend 75
Dividend Growth 3%
2. Company Alpha has a Beta of 1.1.Government bonds are currently trading at 4%.
The average market risk premium is 7%.
What is the cost of equity using the capital assets pricing model?
A. 12.2%
B. 11.7%
C. 7.3%
D. 11.4%
Answer B
ACCA F9 Financial Management Full Course Workbook Solutions!
3. Which of the following statements about systematic risk are correct when referring
to the capital assets pricing model?
A. Systematic risk affects the overall market, not just a particular stock or industry.
B. Systematic risk is company or industry specific risk.
C. Systematic risk is risk that can be diversified away by investors.
D. Systematic risk is determined by the gearing of the company.
Answer A
4. Which of the following statements about unsystematic risk are correct when
referring to the capital assets pricing model?
A. Systematic risk affects the overall market, not just a particular stock or industry.
B. Systematic risk is company or industry specific risk.
C. Systematic risk is risk that can be diversified away by investors.
D. Systematic risk is determined by the gearing of the company.
Answer B
5. Which of the following are assumptions made by the capital asset pricing model
(CAPM) are correct?
A 1 and 2 only
B 1 and 3 only
C 2 and 3 only
D 1 and 4 only
Answer B
ACCA F9 Financial Management Full Course Workbook Solutions!
6. Which of the following are downsides of the capital assets pricing model (CAPM) are
correct?
A 1 and 2 only
B 1 and 3 only
C 2 and 3 only
D 1 and 4 only
Answer B
ACCA F9 Financial Management Full Course Workbook Solutions!
Each item of capital that a company has e.g. debt and equity has a cost.
The cost for debt will be the interest that the company has to pay and the cost for
equity will be the dividends paid.
There may be more equity than debt so to get the average cost of these capital
sources we need to weight the average based on the market value of each.
Type Cost
Debt holders take less risk as they are higher on the creditors hierarchy.
Interest payments on debt are tax deductible.
4. If a company has a dividend of 40c and a share price of $3.45 what is the cost of
equity?
40 / 345 = 11.59%
6. What are the two types of risk mentioned in the CAPM lecture?
How the shares of a company have historically fluctuated with the average of all the
shares in the market.
CAPM assumes that you can borrow at the risk free rate.
CAPM assumes a perfect capital market with no transaction costs.
CAPM assumes that all investors are diversified (so we can ignore unsystematic
risk).
11. A company has a Beta of 1.3. The market risk premium is 6% and government bonds
are trading at 4%. Calculate the cost of equity using CAPM.
Ke = Rf + (Rm - Rf)
Ke = 4 + 1.3(6)
Ke = 11.8
12. Is a company with a Beta of 1.2 a more risky or less risky investment than a company
with a Beta of 1.6?
The company with a Beta of 1.6 is more risky than the one with 1.2.
ACCA F9 Financial Management Full Course Workbook Solutions!
Beta is calculated by plotting the historic data as to how that share price has
fluctuated in the past on a graph against the average share price in the market.
Now do it!
ACCA F9 Financial Management Full Course Workbook Solutions!
Lecture 16
WACC II
ACCA F9 Financial Management Full Course Workbook Solutions!
Solution
Cost of Debt (After tax interest / Market Value of Debt) (7 / 90) = 7.7%
ACCA F9 Financial Management Full Course Workbook Solutions!
Ignore taxation.
Solution
11.03 -25.48
Solution
4.70 -30.84
The current share price is $6 and it is expected to grow in value by 4% per year.
Solution
Working
Shares
Current Value $6
The conversion value is higher than the cash so the investors will choose to convert.
Do an IRR the same as for redeemable but filling $131.40 into the capital repaid
ACCA F9 Financial Management Full Course Workbook Solutions!
Cost of Debt
13.32 -31.23
Solution
Interest Paid 8
Solution
WACC - Illustration 7
Debt 15% 7%
Solution
WACC 13.8
ACCA F9 Financial Management Full Course Workbook Solutions!
WACC - Illustration 8
The cost to the company of each of the above items has been calculated as:
Loan Notes 8%
Bank Loan 5%
Solution
Working 1 - Calculate Cost of Capital for each item.
Loan Notes 8%
Bank Loan 5%
ACCA F9 Financial Management Full Course Workbook Solutions!
Loan Notes 2000 Loan Notes nominal value (on (2000 x (94 / 100)
SFP) = 100 = 1880
Market Value = 94
11880
WACC - Illustration 9
The company has an equity beta of 1.2. Government bonds are currently trading at 6%
and the average market risk premium is 7%.
The Loan notes are currently trading at $106 and are redeemable at par in 5 years time.
Solution
Working 1 - Calculate Cost of Capital for each item.
Beta 1.2
8.76 -28.14
Interest Paid 8
12% Loan 1500 Loan Notes nominal value (on (1500 x (106 /
Notes SFP) = 100 100) = 1590
Market Value = 106
7800
ACCA F9 Financial Management Full Course Workbook Solutions!
1. Avecas Co. has irredeemable debt in issue that interest at a rate of 12%. The market
value of the debt is $84 and the tax rate is 30%.
A. 14%
B. 12%
C. 10%
D. 11%
Answer C
Cost of Debt (After tax interest / Market Value of Debt) (8.4 / 84) = 10%
2. A company has 10% irredeemable debt in issue at a market value of $97. If the tax rate
is 30% what is the cost of the debt?
A. 7.2%
B. 9.7%
C. 6.5%
D. 8.2%
Answer A
10 (1-0.3) / 97 = 7.2%
ACCA F9 Financial Management Full Course Workbook Solutions!
3. A Company has issued debt which is redeemable in 5 years time. Interest is payable at
12%. The current market value of the debt is $102. Tax is payable at 30%.
What is the cost of debt (kd) using linear extrapolation and discount rates of 5% and 15%
in the calculation?
A. 12.00%
B. 8.47%
C. 9.00%
D. 7.24%
Answer B
12.76 -24.14
4. A company has 5 year 8% redeemable debt in issue at a market value of $103. The tax
rate is 25%.
What is the cost of debt (kd) using linear extrapolation and discount rates of 5% and 15%
in the calculation?
A. 6.26%
B. 5.95%
C. 7.19%
D. 5.4%
Answer D
1.37 -33.19
5. Jeeves Company has issued debt which is convertible in 5 years time. Interest is
payable at 12% and the current market value of the debt is $108.
The current share price is $7 and it is expected to grow in value by 3.5% per year.
A. Based on the information available, investors would be better off choosing to take the
cash option by $6.39.
B. Based on the information available, investors would be better off choosing to take the
conversion option by $6.39.
C. Based on the information available, investors would be indifferent between the cash and
conversion option.
D. Based on the information available, investors would be better of choosing to take the
cash option by $8.94.
Answer B
6. A company has 8% preference share in issue at a current value of 94c. The tax rate is
30%. What is the cost of the preference shares?
A. 8.5%
B. 6.0%
C. 8.0%
D. 5.6%
Answer A
8 / 94 = 8.5%
7. A company has a bank loan of $7m at a rate of 6%. The tax rate is 35%. What is the
cost of the bank debt?
A. 6.0%
B. 2.1%
C. 3.9%
D. 4.2%
Answer C
The cost to the company of each of the above items has been calculated as:
Loan Notes 7%
Bank Loan 6%
A. 11.56%
B. 16.19%
C. 13.34%
D. 17.24%
Answer B
ACCA F9 Financial Management Full Course Workbook Solutions!
Loan Notes 1000 Loan Notes nominal value (on (1000 x (98 / 100)
SFP) = 100 = 980
Market Value = 98
$100
Shares.
4. A company has 10% irredeemable debt in issue at a market value of $97. If the tax rate
is 30% what is the cost of the debt?
10 (1-0.3) / 97 = 7.2%
5. A company has 5 year 8% redeemable debt in issue at a market value of $103. The tax
rate is 25%. What is the cost of the debt?
1.37 -33.19
6. A company has 10% convertible debt in issue at a market value of $111 that is
redeemable in 5 years at either cash or 5 shares per nominal. The current share price is
$18 and is expected to grow at 2%. The tax rate is 30%. What is the cost of debt?
ACCA F9 Financial Management Full Course Workbook Solutions!
Working
Cash $100
Shares
The conversion value is lower than the cash so the investors will choose not to convert.
Cost of Debt
-2.30 -37.84
7. A company has 8% preference share in issue at a current value of 94c. What is the cost
of the preference shares.
8 / 94 = 8.5%
8. A company has a bank loan of $7m at a rate of 6%. The tax rate is 35%. What is the
cost of the bank debt?
9. The company has each of the types of debt in questions 4 to 6 on their balance sheet at
a book value of $10m for each of them except for the bank debt which is on the balance
sheet at $7m. If the company has a market value of $110m with a cost of equity of 14%
then what is the companys weighted average cost of capital?
10. What if the company has each of the types of debt in questions 4 to 6 on their balance
sheet at a book value of $8m for each of them except for the bank debt which is on the
balance sheet at $7m. If the company has a market value of $99m with a cost of equity
of 12% then what is the companys weighted average cost of capital?
Lecture 17
Capital Structure
ACCA F9 Financial Management Full Course Workbook Solutions!
A company has total capital of $1,000 with debt making up $300 and equity making up
$700 of the total. The companys cost of debt is 5% and cost of equity is 14%.
Solution
I.
1000 11.3
II.
1000 10.5
III.
1000 13
ACCA F9 Financial Management Full Course Workbook Solutions!
A. In the traditional view, there is a linear relationship between the cost of equity and
financial risk
B. Modigliani and Miller said that, in the absence of tax, the cost of equity would remain
constant
C. Pecking order theory indicates that preference shares are preferred to convertible debt
as a source of finance
D. Business risk is assumed to be constant
Answer D
A. The traditional view of capital structure suggests that the company can minimise their
weighted average cost of capital
B. Modigliani and Miller said that, incorporating tax, the weighted average cost of capital
would remain constant
C. Pecking order theory indicates that preference shares are preferred to convertible debt
as a source of finance
D. Modigliani and Miller said that, incorporating tax, as gearing levels increase so the value
of the company will decrease
Answer A
3. Which of the following are assumptions that Modigliani and Miller made in their no tax
model?
A 1 and 2 only
B 1 and 3 only
C 2 and 3 only
D 1 and 4 only
Answer B
ACCA F9 Financial Management Full Course Workbook Solutions!
4. What does the M&M model with tax suggest a company should do with their capital
structure?
A. As there is greater financial risk at high levels of gearing the company should have as
little debt as possible.
B. As the transaction costs will be high the company should retain their current capital
structure for as long as possible.
C. As taking on more debt reduces the weighted average cost of capital the company
should increase their gearing levels.
D. The company should find the optimum capital structure at which it can minimise its
weighted average cost of capital.
Answer C
ACCA F9 Financial Management Full Course Workbook Solutions!
2. What does the traditional view suggest you can do with the WACC?
Minimise it.
The WACC is a cost to the business - as with any cost the company will wish to
minimise it.
5. What does the M&M model with tax suggest we should do with our capital structure?
As the interest on debt is tax deductible and thus debt is cheaper, M&M suggested
that a company should substitute Equity for Debt in order to take advantage of this
fact.
This will also have the effect of increasing the value of the business using the PV of
future cash-flows method as the WACC and thus the discount rate will be lower
leading to a higher valuation.
Lecture 18
Financing &
Investment
ACCA F9 Financial Management Full Course Workbook Solutions!
Ignore Tax
Solution
a 0.86
Beta 1.2
Solution
a = e(Ve / (Ve + (Vd x 1-t)) 1.3 (900 / (900 + (450 x 0.7)) = 0.96
ACCA F9 Financial Management Full Course Workbook Solutions!
a 0.96
e = a (Ve + (Vd x 1-t) / Ve) 0.96 ((1200 + (500 x 0.7)) / 1200) = 1.24
Beta 1.24
Company Alpha is financed with $1,000 of equity and $400 of debt and intends to
undertake a project in an unrelated industry. They have identified Horizon Co. as a
company in the new industry with $700 of equity and $300 of debt. Alpha Co. has a Beta
of 1.3 whereas Horizon Co. has a Beta of 1.2. The risk free rate is 4% and the average
return on the market is 12%. The tax rate is 30%.
Which of the following would be the project specific discount rate for Alpha Co. when
entering the new industry?
A. 12.34%
B. 10.25%
C. 11.12%
D. 13.42%
Answer D
Working 1 - Un-gear the proxy e to get a.
a = e(Ve / (Ve + (Vd x 1-t)) 1.2 (700 / (700 + (300 x 0.7)) = 0.92
a 0.92
e = a (Ve + (Vd x 1-t) / Ve) 0.92 ((1000 + (400 x 0.7)) / 1000) = 1.18
ACCA F9 Financial Management Full Course Workbook Solutions!
Beta 1.18
2. Company Alpha is financed with 60% equity and 40% debt and intends to undertake a
project in an unrelated industry. They have identified Horizon Co. as a company in the new
industry with 75% equity and 25% debt. Alpha Co. has a Beta of 1.1 whereas Horizon Co.
has a Beta of 1.4. The risk free rate is 6% and the average return on the market is 14%.
The tax rate is 30%.
Which of the following would be the project specific discount rate for Alpha Co. when
entering the new industry?
A. 19.38%
B. 18.00%
C. 17.20%
D. 16.32%
Answer A
a = e(Ve / (Ve + (Vd x 1-t)) 1.4 (75 / (75 + (25 x 0.7)) = 1.14
a 1.14
e = a (Ve + (Vd x 1-t) / Ve) 1.14 ((60 + (40 x 0.7)) / 60) = 1.67
ACCA F9 Financial Management Full Course Workbook Solutions!
Beta 1.67
3. Company Alpha is financed with debt/equity of 1/4 and intends to undertake a project in
an unrelated industry. They have identified Horizon Co. as a company in the new industry
with debt/equity 1/3. Alpha Co. has a Beta of 1.05 whereas Horizon Co. has a Beta of
1.24. The risk free rate is 6% and the average return on the market is 14%. The tax rate is
30%.
Which of the following would be the project specific discount rate for Alpha Co. when
entering the new industry?
A. 16.23%
B. 15.49%
C. 17.26%
D. 18.28%
Answer B
a 1.01
Beta 1.19
1. What are the two types of risk included in a companys equity Beta?
Select a proxy company with the same business risk as the new project area.
Un-gear the equity beta of the proxy to remove its financial risk and get the asset
beta which just includes the business risk of the new project area.
Re-gear the asset beta with our companys financial risk to get a new equity beta
for that project.
Fill the new equity beta into CAPM.
ACCA F9 Financial Management Full Course Workbook Solutions!
5. Our business has a Beta of 1.2, debt with a market value of 100 and equity with a
market value of 400. If the proxy has a Beta of 1.4, debt with a market value of 100 and
equity with a market value of 200 calculate a project specific discount rate. The risk free
rate is 4% and the average market risk premium is 7%. Ignore tax.
a 0.93
Beta 1.24
Investors cannot therefore beat the market as the price responds only to new
information that investors do not have.
Now do it!
ACCA F9 Financial Management Full Course Workbook Solutions!
Lecture 19
More Debt
ACCA F9 Financial Management Full Course Workbook Solutions!
Phobis Co has in issue 9% bonds which are redeemable at their par value of $100 in five
years time.
Alternatively, each bond may be converted on that date into 20 ordinary shares of the
company. The current ordinary share price of Phobis Co is $445 and this is expected to
grow at a rate of 65% per year for the foreseeable future. Phobis Co has a cost of debt of
7% per year.
Required:
Calculate the following current values for each $100 convertible bond:
(i) market value;
(ii) floor value;
(iii) conversion premium.
Solution
i. Market Value
Working
Cash $100
Shares
Answer
Period Item $ DR 7% PV
123.89
Period Item $ DR 7% PV
108.20
Working Amount
Premium 34.89
1. Luke Co has 8% convertible loan notes in issue which are redeemable in five years
time at their nominal value of $100 per loan note. Alternatively, each loan note could be
converted after five years into 70 equity shares with a nominal value of $1 each.
The equity shares of Luke Co are currently trading at $125 per share and this share price
is expected to grow by 4% per year. The before-tax cost of debt of Luke Co is 10% and the
after-tax cost of debt of Luke Co is 7%.
What is the current market value of each loan note to the nearest dollar?
A. $92
B. $96
C. $104
D. $109
Answer B
Working
Cash $100
Shares
96.40
ACCA F9 Financial Management Full Course Workbook Solutions!
2. A bond has a coupon rate of 8.5% per annum. The next interest payment will be made
in one years time. The bond will repay the par value of $100 when it matures in seven
years time. The before-tax cost of debt is 7% and the after-tax cost of debt is 5%.
What is the the expected current market price of the bond to the nearest dollar?
A. $98
B. $93
C. $108
D. $106
Answer C
Period Item $ DR 7% PV
108.11
3. A bond has a coupon rate of 6% per annum and will repay its face value of $100 on its
maturity in four years time. The yield to maturity on similar bonds is 4% per annum. The
annual interest has just been paid for the current year.
What is the the expected current market price of the bond to the nearest dollar?
A. $96
B. $92
C. $110
D. $107
Answer D
Period Item $ DR 4% PV
106.78
ACCA F9 Financial Management Full Course Workbook Solutions!
4. Angus Co has 8% convertible loan notes in issue which are redeemable in five years
time at their nominal value of $100 per loan note. Alternatively, each loan note could be
converted after five years into 35 equity shares with a nominal value of $1 each. The tax
rate is 30%
The equity shares of Angus Co are currently trading at $225 per share and this share
price is expected to grow by 6% per year. The before-tax cost of debt of Luke Co is 10%
and the after-tax cost of debt of Luke Co is 7%.
What is the current market value of each loan note to the nearest dollar?
A. $87
B. $96
C. $98
D. $108
Answer C
Working
Cash $100
Shares
Answer
Period Item $ DR 7% PV
98.07
ACCA F9 Financial Management Full Course Workbook Solutions!
5. A $100 bond has a coupon rate of 8% per annum and is due to mature in four years
time. The next interest payment is due in one years time. Similar bonds have a yield to
maturity of 10%.
What is the the expected current market price of the bond to the nearest dollar?
A. $96
B. $94
C. $110
D. $100
Answer B
93.66
ACCA F9 Financial Management Full Course Workbook Solutions!
The present value of the interest and capital paid to debt holders, discounted at the
cost of debt.
2. What will the capital repaid figure in the IRR calculation be the higher of?
Discount the interest and the nominal capital to be repaid at the cost of the debt.
The difference between the expected conversion value and the current conversion
value.
Now do it!
ACCA F9 Financial Management Full Course Workbook Solutions!
Lecture 20
Currency Risk I
ACCA F9 Financial Management Full Course Workbook Solutions!
You have an invoice to pay to a US business of $1250 and you are a UK business.
Solution
Bank sells low We want to buy $ with our and the bank will sell them to
us at the low rate of 1.2500
For a receipt use the rate We are making a payment so we use the rate on the left i.e.
on the right 1.2500
You have issued an invoice to a US customer of $2000 and you are a UK business.
Solution
Bank sells low We want to sell the $ we will receive. The bank will buy them
from us at the high rate of 1.5500
For a receipt use the This is a receipt so use the rate on the right of 1.5500
rate on the right
Solution
Forecast (Spot Rate Counter x (1 + Inf in Counter / 1 2 x ((1 + 0.06) / (1 + 0.08)) = 1.96
+ Inf in Base)
ACCA F9 Financial Management Full Course Workbook Solutions!
Solution
Forecast (Spot Rate Counter x (1 + Int in Counter / 1 2 x ((1 + 0.03) / (1 + 0.02)) = 2.02
+ Int in Base)
ACCA F9 Financial Management Full Course Workbook Solutions!
ABC Company has entered into a contract whereby they will receive $500,000 from a
US customer in 3 months.
ABC is a UK company.
Calculate the amount of ABC would receive under the forward contract.
Solution
A rate quoted at $: 1.6000 +/- 0.0500 is the same as saying $: 1.5500 - 1.6500
How much will the transaction cost using a money market hedge?
Solution
We will deposit the money in the US where it will earn interest so that in 3 months we
have $350,000.
We will deposit $344,827 in the US where it will earn interest of 1.5% over the 3 months
making it worth $350,000 when the payment becomes due.
We transfer the money now so that there is no more FX risk. The transfer is made at the
spot rate.
ACCA F9 Financial Management Full Course Workbook Solutions!
We transfer the money now so that there is no more FX risk. The transfer is made at the
spot rate.
We will have to pay interest on the amount we have borrowed for 3 months.
How much will the business receive using a money market hedge?
Solution
We will borrow $344,403 in the US where it will earn interest of 1.625% over the 3
months making it worth $350,000 when the receipt becomes due.
We will pay off the loan in the US when we receive the $350,000 in 3 months.
We transfer the money now so that there is no more FX risk. The transfer is made at the
spot rate.
ACCA F9 Financial Management Full Course Workbook Solutions!
We transfer the money now so that there is no more FX risk. The transfer is made at the
spot rate.
Total Receipt
1. The home currency of ACB Co is the dollar ($) and it trades with a company in a foreign
country whose home currency is the Dinar. The following information is available:
Answer A
A 1 only
B 2 only
C Both1 and 2
D Neither 1 nor 2
Answer C
ACCA F9 Financial Management Full Course Workbook Solutions!
3. The date is 31 January 2014 and Avecas Co. has entered into a contract whereby they
will receive $300,000 from a US customer on 01 April 2014. Avecas Co. is a UK company.
What amount in will Avecas Co. receive under the appropriate forward contract to the
nearest .?
A. 181,818
B. 193,548
C. 206,897
D. 495,000
Answer A
What will the transaction cost Hilasys Co. to the nearest using a money market hedge?
A. 181,818
B. 245,700
C. 148,909
D. 150,026
Answer D
How much to the nearest will the Varys receive using a money market hedge?
A. 256,732
B. 294,846
C. 291,206
D. 495,050
Answer B
The dollar.
Remember this as the base is always on the right or that this is dollars (plural) to
the pound (singular).
2. UK company receiving $500. Spot rate is $/ 1.35 - 1.45. How many will the company
receive?
3. UK inflation is 5%, US inflation is 2%. The spot rate is $/ 1.35. What will the FX rate be
in one years time?
Future rate = spot rate x (1 + inf in the counter) / (1 + inf in the base)
6. How many will a company receive if they take a forward contract at a rate of $/ 1.55
+/- 0.05 for an amount of $400,000?
7. How does a money market hedge eliminate the foreign currency risk?
The transfer is made today at the spot rate so no more exposure to the risk.
We will deposit the money in the US where it will earn interest so that in 3 months we
have $350,000.
We will deposit $394,575 in the US where it will earn interest of 1.375% over the 3
months making it worth $400,000 when the payment becomes due.
We transfer the money now so that there is no more FX risk. The transfer is made at the
spot rate.
We transfer the money now so that there is no more FX risk. The transfer is made at the
spot rate.
We will have to pay interest on the amount we have borrowed for 3 months.
Now do it!
ACCA F9 Financial Management Full Course Workbook Solutions!
Lecture 21
Currency Risk II
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1. There is a risk that the value of our foreign currency-denominated assets and liabilities
will change when we prepare our accounts.
A Translation risk
B Economic risk
C Transaction risk
D Interest rate risk
Answer A
2. Which of the following are advantages of a using a futures contract to hedge foreign
exchange risk?
A 1 and 2 only
B 1 and 3 only
C 2 and 3 only
D 1 and 4 only
Answer C
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3. Which of the following are disadvantages of a using a futures contract to hedge foreign
exchange risk?
A 1 and 2 only
B 1 and 3 only
C 2 and 3 only
D 1 and 4 only
Answer B
A 1 and 2 only
B 1 and 3 only
C 3 and 4 only
D 1 and 4 only
Answer C
A 1 and 2 only
B 1 and 3 only
C 2 and 3 only
D 1 and 4 only
Answer D
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Translation.
Transaction.
Economic.
Translation risk is the risk that losses will be incurred in translating foreign assets
or liabilities in the balance sheet at the year end.
Transaction risk is the risk that in the period between agreeing a transaction and
settling it fluctuations in currency rates lead to a loss.
Economic risk is long term transaction risk i.e. the risk that your operations in a
foreign currency make FX losses over the long term.
7. What is an option?
An option is the right but not the obligation to buy or sell a currency at a certain
price in the future.
The user of an option can take advantage of upside risk if the currency movement is
favourable to them by choosing not to exercise the option.
The premium is expensive and has to be paid whether the option is exercised or
not.
Options are available for relatively few currencies.
Transaction risk.
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Lecture 22
Interest Rate Risk
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1. In relation to hedging interest rate risk, which of the following statements is correct?
A. The flexible nature of interest rate futures means that they can always be matched with
a specific interest rate exposure
B. Interest rate options carry an obligation to the holder to complete the contract at
maturity
C. Forward rate agreements are the interest rate equivalent of forward exchange contracts
D. Matching is where a balance is maintained between fixed rate and floating rate debt
Answer C
2. Which of the following are disadvantages of using an interest rate swap to hedge
interest rate risk?
1. There is a risk that one of the parties fails to pay their side of the swap.
2. It is a reversible agreement.
3. The decision to move into the swap may be the wrong decision as interest rates may
change unexpectedly.
4. The transactions costs can be very high.
A 1 and 2 only
B 1 and 3 only
C 2 and 3 only
D 1 and 4 only
Answer B
3. Which of the following statements are correct in reference to using an over the counter
interest rate option to manage interest rate risk?
A. It constitutes an contract with a bank to secure a specific interest rate no matter what
happens.
B. It is an agreement with a bank that ensures that the company can take advantage of
low rates, but secure against high rates.
C. It is an exchange traded contract that can be closed out at any time.
D. It enables the company to swap from a fixed interest rate to a floating rate or vice-versa.
Answer B
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4. In relation to hedging interest rate risk, which of the following statements is correct?
A. The flexible nature of interest rate futures means that they can always be matched with
a specific interest rate exposure
B. Interest rate options carry an obligation to the holder to complete the contract at
maturity
C. Forward rate agreements are the interest rate equivalent of money market hedging of
foreign exchange risk
D. Smoothing is where a balance is maintained between fixed rate and floating rate debt
Answer D
A 1, 2 and 3 only
B 1 and 3 only
C 2 and 3 only
D 1, 2 and 4 only
Answer D
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1. What internal methods may a firm use to manage interest rate risk?
Smoothing.
Matching.
Netting.
2. What is an FRA?
A forward rate agreement. Effectively this is a forward interest rate agreed with a
bank.
3. Why might a firm use an interest rate option to manage interest rate risk?
It means that they can take advantage of low rates, but secure against high rates.
Sn arrangement organised through a bank whereby two parties swap interest rate
commitments.
There is a risk that one of the parties fails to pay their side of the swap.
It is a binding agreement.
The decision to move into the swap may be the wrong decision as interest rates
may change unexpectedly.
The transactions can be complex.
8. What are the three ways in which theorists have sought to explain the slope of the yield
curve?
Expectations theory states that if debt is to be held for longer terms it is more likely
that it wont get paid back so higher interest rates are demanded to compensate so
as the term gets longer the interest rate rises = upward sloping curve.
Liquidity preference theory states that because investors prefer cash, if they are
going to tie capital up by lending it out for the longer term they will demand higher
interest rates to compensate = upward sloping curve.
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Lecture 23
Islamic Finance
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Answer B
Labour.
Forbidden - haraam.
Permitted - halaal.
The lender will own the property and the borrower will pay a rental amount and a
capital repayment amount until the asset is owned.
Murabaha transaction.
An asset.
Musharaka.
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