2 ‘SABARAGAMUWA UNIVERSITY OF SRILANKA FACULTY OF MANAGEMENT STUDIES 'BSe DEGREE PROGRAMME IN FINANCIAL MANAGEMENT. ‘YEAR I SEMESTER Il EXAMINATION ~ MARCHVAPRIL 2017 FUNDAMENTALS OF FINANCIAL MANAGEMENT ~ FM 1213 Time sllowed: THREE @) hours “Answer all the questions. ‘What isthe difference between wealth maximization and profit maximization? Under what conditions might profit maximization not lead to wealth ‘maximization? (08 Marks) ‘What are agency problems and how do they arse? Explain wth an example, (06 Marks) {ii Discuss the major decisions made by the financial manager. “ (06 Marks) Amuyi Designs is considering an investment in an expanded product line. Two possible type of expansion are being considered. The coinpany has estimated ~ the folowing posible utes (0s mack) ~ | Line PT probability’ Line Q” | probability 1724000 24000 Pessimistic | vee_[~ vas | 000 Mos ikiy [hee [aso] 803 Optimistic mm | aas [28% | 025] 8) Determine the range ofthe rates of retum foreach of the two projects. 1) Calculate the expected value of return for each project. {)* Which project is ess risky? Explain why? (05 Marks) ‘Anne is planning to invest her money in two securities X and Y. The probability distribution and expected retums of the two securities are given bellow. agetors tS[ Eeonomic State | Probability | Return X% | Return Y% ee a a ee a | Recession 020 6 7 “The proportions of funds invested inthe wo securities are : X 40% and Y 60% The correlation between the returns of X and Y i 0.62, Calculate the expected return ofthe portfolio and portfolio standard deviation. (05 Marks) iii Jenie is attempting to evaluate two possible portfolios, Which consist of the same five assets held in different proportions. She is interested in using beta to ‘compare the risks ofthe portfolios, so she gathered the following data Asset Asset Beta | a + = Ponflio A% | Polio Be ps. | 180 0 W ma 080 0 0 te 1:20 10 20 D 10) 30 0 = a9 30 3% Toul 100% | 100% 4) Calculate the betas for portfolios A and B 'b) Compare the risks (beta) ofthese portfolios in relation tothe market beta 5 well sto each other, Which portfolios have above market risk. (05 Marks) iv You have been managing Rs. 10 million portfolio that has a beta of 1.25 and a required rate of retum of 12% The current risk free rate is 6%, Assume that you receive another Rs. 800 000. Ifyou invest the money in a stock with a beta ‘of0.80, what willbe the required return on your Rs, 108 million portfolio? (05 Marks) 463 i Wis now January 1, 2016 and Staisy is considering the purchase of an ‘outstanding bond that was issued on January, 2014. It has an nual coupon of 19.5% and had a 30-year original maturity. There is $ years of call protection {until December 31, 2018), after which time it can be called at 106% of par or Rs, 1060\=, Interest rates have declined since it was issued; and itis now selling t Rs. 1165! 18) Determine the yield to maturity and yield to call? 'b) Ifyou bought this bond, which retum would you actualy earn? Explain your reasoning. iA feetilizer company pays a dividend of Rs, 2 per Share. It is expected tht the ‘companys dividend will grow at arate of 20% per year forthe next two years, and then the dividend will grow at a constant rate of 6% thereafter. The company’s stock has a beta equal 10-42, the rskofee mate is 7.5%, and the ‘market isk premium is 4%. What is your estimate of the stock's current price? iii Thomas Ltd's stock curently sells for Re. 25/= a Share. The stock just paid @ dividend of Re, 1,00 a Share (Do=Rs. 1.00), The dividend is expected to grow ‘1-8 constant rate of 10% a year. What stock price is expected one year from now? What isthe required rate of etur onthe company’s stock? i You are planning to make a series of deposits in an saving account. You will ‘deposit Rs. 1000 today, Rs. 2000 in two years and Rs. 8000 in five years, If you fvithdeaw Rs, 3000 in three years and Rs, 5000 in seven yeas, how much will you have after eight years ifthe intrest rate is 9%2 What is the present value of these cash flows? i To compete your degree, you will need Rs, 10000/~ per year for four years, starting next year (you will need to withdraw the ist Rs. 10000/= one year from today). Your rich uncle will deposit in a bank paying 8% interest, ~ compounded annually, a sum of money that is sufficient to provide the four ‘payments Rs. 10000/= each. His deposit will be made today. 4) How large must the deposit be? +b) How much wil be in the account immediately after you make the fist withdrawal? caerors 11 (08 Marks) (06 Marks) (06 Macks) (04 Marks) (04 Marks)XY Lid. is creating a sinking fund to redeem its debentures of Rs. 5 million issued on O1st January, 2010 and maturing 31st December, 2024, The company will make equal annul payments and expects thatthe fund will ean 12% per year, How much wil be the amount of sinking fund payment? ‘You are thinking about buying a Car, and your bank is willing to lend you Rs. 10 million to buy the Car. Under the terms of the lan, it wil be fully amortized over 5 years (60 months) and the nominal interest rate will be 12% with interest paid monthly. What would be the monthly payment on the loan? What would be the effective rate of interest on the loan? ‘Suppose you can buy a security at a price of Rs. 78.25, and it will pay you Rs. 100° after five years. What i the interest rate you would eum if you buy this security? Singcr Ltd's common stock is currently trading at Rs, 25.00. Share, The stock is expected to pay a dividend of Rs. 3.00 a Share atthe end of the year and the dividend is expected to grow at a constant rate of 5% i year. If the company ‘were to issue extemal equity, it would incur a 10% flotation cost. What are the cost of intemal and extemal equity? ‘TESCO Lid has asked its nancial manager to measure its overall cost of capital. The weighted average cost is to be measured by using the following ‘weights 40% longeterm debt, 10% preferred stock and S0% common stock, “The p's tax rate is 40%. Debt ‘The fim can raise an unlimited amount of deb by selling for Rs. 980/= a 10 year, Rs, 1000 par value bond paying annual interest at a 10% coupon rate. A Aoation cost of 2% ofthe par value is required Proferred stock “Ten pereent (annual dividend) prefered stock having @ par value of Rs, 100 scan be sold for Rs, 90°. The cost of issuing and selling the preferred stock is expected to be Rs 3 per Share. An unlimited amount of preferred stock ean be sold under these tems. Common stock ‘The firm's common stock is curently selling for Rs. SO per share. The dividend expected to be paid atthe end ofthe coming year (2017) is Rs. 4 “The dividends forthe past S yeas are shown in the following table, vpntats +8 (04 Marks) (04 Marks) (04 Marks) (06 Marks)‘Year Dividend (Rs.) aoe [320 2s 290} 24 20 2013 220 2012 20] Ie is Expected that in order to sell new common stock, the firm must pay floation cost of Rs. 3/= per share. The firm can sell an unlimited amount of ‘new common stocks under these conditions. Retained earnings ‘The firm expects to have Rs. 250 000/= of retained earings available inthe ‘coming year. Once these retained earnings are exhausted, the frm will use new ‘common stocks. 4 8) Calculate the specific cost ofeach source of financing, by-~Caleilate the single break point associsted with te firm's financial situation. . ©) Calculate the weighted average cost of capital (WAC) associated with total new financing. 8) Using the information shown in the following table on the available investment opportunities, draw the weighted average cost of capital schedule and investment opportunities schedule. Tavesteat [ner Rate FRE] gay + Opportunity wR) x 12.00 200.000 B 3.00 200.000 © 1250” 50.000 D 15:00 200.000 E 1150 300 000 F 500 700 000 . c 10.00 2200-000 ©) Which; if any of the available investments do you recommend thatthe firm accept? Explain your answer. Determine the optimal capital budget forthe finn, (14 Marks)Fret Va nF Foca £25 20988 2082 THE SS008 12008 8NE- a EPRRE 89558 26 BRGHE 28292 4% SR05G RRRHE HUE § 18898 GREER AEERE EREGE 20528 THRE 29858 The tcer be wr dep1 ae 1 cas 3, Prpeeat Value of Annuity of $1 Fer Period for» Periods: 1 i VIA = ‘Tame C2a ee ee om comm, Ta 0 = Parad spond He peo 9 TSO 2eA ATH666566 < alae pote 305 pond ma $28 Agr we Jo IN romeys,