UNIVERSITY OF CAPE TOWN

DEPARTMENT OF FINANCE & TAX

FTX2024F CORPORATE FINANCIAL MANAGEMENT

FINAL EXAMINATION
7 June 2019
150 Marks 180 Minutes

PLEASE READ THE FOLLOWING INSTRUCTIONS VERY CAREFULLY

1. All cell phones must be switched off for the duration of the Examination and placed in your bags out
of sight underneath your chair.
2. Please fill in your personal details on the attendance slip and leave this on your desk with your student
card.
3. Complete your personal details on the cover of both answer books before the start of the Examination.
No time is allowed for this at the end of the Examination. This is your responsibility.
4. You are provided with three (3) answer books and you must hand in all the three (3) books at the end
of the Examination – even if a book is unused.
5. EACH QUESTION MUST BE ANSWERED IN A SEPARATE ANSWER BOOK
6. Do not open this Examination paper until instructed to do so. You may not write anything on your
Examination paper or in your answer books before the start of the Examination or once you have been
instructed to stop writing.
7. From the time the first Examination paper is distributed to the class and until the last Examination
answer book is collected you may not talk to any other student. This is a standard university policy and
anyone contravening this rule will be disqualified.
8. Written answers must be completed in blue or black ink only. The university allows workings to be in
pencil although we encourage you to do these in pen and clearly mark them. Workings are important
and marks will be given for completed workings.
9. NO QUESTIONS WILL BE ANSWERED BY THE INVIGILATORS DURING THE EXAMINATION. MAKE
WHATEVER ASSUMPTIONS YOU DEEM APPROPRIATE AND CLEARLY STATE THESE IN YOUR ANSWER.

Topic Marks Suggested time

Question 1 Time value of Money; Risk and Return & Portfolio 56 67.2
management; Derivatives; Basic Valuations & cost of
capital
Question 2 42 50.4
Question 3 Working Capital Management; Capital Budgeting & 52 62.4
Dividend policy
150 180 minutes

This examination paper comprises 12 numbered pages, excluding, formula sheets, and financial
tables

Page 1 of 15
 Question 1: Pamburai H’s section (56 Marks : 67.2 Minutes)
This question consists of four (4) independent parts (i.e. Parts A; B; C & D)

PART A – Time Value of Money (10 MARKS: 12 MINUTES)

(i) Explain what happens to your PMT (i.e. periodic payment), interest component and capital repayment
component when performing a loan amortization schedule.
[3]
(ii) Princess Ajanae is 35 years old now and she wants to retire at the age of 55 years. Her financial advisor
told her that she would need to have R2 373 663.78 in her account by the time she retires if she is to
maintain her current life style after retirement. Her advisor also told her that the amount will be
enough to allow her to make equal monthly withdrawals at the end of each month until she turns 80
years. Assume that Princess Ajanae’s investment returns 12% per annum compounded monthly and
that she will take her advisor’s advice and answer the questions that follow:

(a) Calculate the amount of money Princess Ajanae should be able to withdraw from her account at
the end of each month from the time she retires until she is 80 years old.
[3]
(b) How much should she deposit into her account at the end of each month for her account to
show an amount of R2 373 663.78 by the time she retires (that is at the age of 55 years)?
[3]
(c) How much should she deposit into her account today if she decides to contribute a lump sum?
[1]

PART B – Risk, Return & Portfolio Management (10 MARKS: 12 MINUTES)

Assume that you are the manager of Gitsena (pty) Limited asset management company and that you have been
assigned to consider an investment in either project A or B. Further assume that you have been presented with
the information tabulated below to help you to do the investment appraisal. Use the information given to answer
the questions that follow:

State of the economy Probability Returns Returns

A B
Normal 0.40 0.15 0.17
Boom 0.60 0.25 0.23

(i) Study the table above and calculate the expected return, variance, standard deviation and the
Co-efficient of Variation (CV) for each project.
[6]
(ii) Which project should Gitsena (pty) Limited invest in and why?
[1]
(iii) State the mostly commonly used measure of total risk and split it into its two components and state
which one the investor gets rewarded for and why?
[3]

Page 2 of 15
 PART C - Derivatives (20 MARKS: 24 MINUTES)

Assume that general H is a farmer who bought a put option to sell his sugar beans to a local boarding school.
Further assume that the strike price (i.e. exercise price) is R500 per tonne, and that he expects to harvest just
one tonne in 3 months’ time. Further assume that the option premium is R50 and that the option expires in 3
months’ time. In addition, assume that the spot prices per tonne of sugar beans over the 3 months period are;
R300; R400, R500, R600; R700.

YOU ARE REQUIRED TO:

(i) Use the above information to draw the payoff and profit/ loss table of general H at expiration
[4]

(ii) Show graphically the payoff and profit/loss profile of general H, and also indicate the in the money, at the
money and the out of the money positions on your graph. (Label your graph fully)
[8]

(iii) Describe a straddle option strategy in terms of what in involves, when is it profitable, when is it useful
and under what circumstances it is not useful
[4]
(iv) State what a protective put involves, and the three reasons for using a protective put
[4]

PART D – Basic Valuation & Cost of capital (16 MARKS: 19.2 MINUTES)

Timberland (Pty) Ltd reported earnings per share (EPS) of R66.00 for the year ended 7 June 2019. Management
at Timberland (pty) Ltd agreed in their previous meeting that the company will maintain a dividend cover of 3
each year into the future. The rate of return on the 10 year government bond is 8% and the risk premium is 7%.
The beta co-efficient for Timberland (pty) Limited is 1.2 while its WACC is 10%. The company has a market
capitalization of R70 000 000 and 200 000 ordinary shares in issue.

In the table below you are presented with the forecasts growth rate of future earnings for Timberland (pty) Ltd:

Year ended 7 June 2020 2021 2022

Earnings growth 30% 25% 20%

Additional information:
 From the beginning of the year 2023 to perpetuity, the earnings of Timberland (pty) Ltd are expected to grow
at a rate of 5% per annum.
 Timberland (Pty) Ltd has a long-term bond that is currently trading on the Bond Exchange of South Africa
(BESA). The bond is trading at a yield-to-maturity of 12% and it is left with 5 years to maturity. The bond has
a face value of R1 000 and it pays a coupon R75 bi-annually.

YOU ARE REQUIRED TO:

(i) Use the Dividend Discount Model to determine intrinsic value of the shares of Timberland (pty) Ltd as at 7
June 2019 and make a recommendation to a potential investor.
Page 3 of 15
 [12]

(ii) State the condition that must hold between the coupon rate and the yield to maturity in determining
whether the bond has been issued at par, premium or discount
[11/2]

(iii) What is the effect of issuing shares through a broker on the proceeds the company receives, cost of equity
and on the WACC holding everything else constant?

[11/2]

(iv) Determine the intrinsic value of the Timberland (pty) Ltd bond.
[1]

END OF QUESTION 1 – USE A NEW BOOK FOR QUESTION 2

Page 4 of 15
 QUESTION 2: Edward’s section (42 MARKS: 50.4 MINUTES)

This question consists of three (3) independent parts (i.e. Parts A; B& C)

Part A (30 marks: 36 MINUTES)

Aliko Dangote is a Nigerian business magnate, investor and owner of the Dangote Group, which has operations
in Nigeria and many other African countries. Mr Dangote is interested in acquiring a controlling interest in United
Fibre Cement Company (Pty) Ltd (UFCC), manufacturers of asbestos-free cellulose fibre cement boards, fibre
cement roofing, ceiling, fascia, cladding, decking and fencing products. The company (UFCC) is based in Cape
Town and also has warehousing facilities in Johannesburg, supplying quality fibre cement products throughout
South Africa and to neighbouring countries.
Mr Dangote has approached you to assist in determining a fair value for the ordinary shares of UFCC (Pty) Ltd.
To help you with the valuation of the company (as at 31st May 2019), your assistant has provided you with the
following actual (or historical) and forecast financial statements of UFCC (Pty) Ltd.
UFCC (Pty) Ltd’s statements of profit or loss and other comprehensive income for the year ended 31st May:

2019 2020 2021

Actual Forecast Forecast
Rm Rm Rm
Sales 800.00 1 040.00 1 200.00
Cost of sales (620.00) (780.00) (872.00)
Gross profit 180.00 260.00 328.00
Investment income – Dividends received 20.00 22.00 25.00
Investment income – Interest received 10.00 10.00 10.00
210.00 292.00 363.00
Depreciation (34.00) (44.00) (48.00)
Other operating expenses (42.00) (60.00) (72.00)
Profit before interest and tax 134.00 188.00 243.00
Interest expense (14.00) (16.00) (18.00)
Profit before tax 120.00 172.00 225.00
Tax expense (28.00) (42.00) (56.00)
Profit after tax 92.00 130.00 169.00

UFCC (Pty) Ltd’s statements of financial position as at 31st May:

2019 2020 2021

Actual Forecast Forecast
ASSETS Rm Rm Rm
Non-current assets:
Property, plant and equipment 400.00 500.00 550.00
Investments 160.00 160.00 160.00
Current assets:
Inventory 220.00 250.00 260.00
Trade and other receivables 160.00 200.00 190.00
Cash and cash equivalents 40.00 60.00 80.00
Total assets 980.00 1 170.00 1 240.00

EQUITY AND LIABILITIES

Shareholders’ equity:
Ordinary shares (par value: 50 cents per share) 200.00 200.00 200.00
10% Non-redeemable preference shares:R1 each 100.00 100.00 100.00
Retained earnings 320.00 420.00 540.00
Non-current liabilities:
Page 5 of 15
8% Debentures 180.00 160.00 140.00
Current liabilities:
Trade and other payables 160.00 270.00 240.00
8% Debentures (current portion) 20.00 20.00 20.00
Total equity and liabilities 980.00 1 170.00 1 240.00

Page 6 of 15
The following additional information is also provided:
1. The rate of return required by the ordinary shareholders of UFCC (Pty) Ltd (or cost of equity) is 18% and the
weighted average cost of capital is 11%.
2. On 31st May 2019, the dividend yield (or required rate of return) on non-redeemable preference shares similar
to those of UFCC (Pty) Ltd was 8%.
3. The company tax rate is 28% (for all the years) and it is assumed that the accounting depreciation is equal to
wear and tear allowances (or tax depreciation).
4. The investments of UFCC (Pty) Ltd, which are not part of the operations of the company, are reported at their
market values in the statements of financial position.
5. The carrying amount of the 8% debentures (as reported in the statements of financial position) is considered
to be equal to their market value.
6. 25% of the cash and cash equivalents (as reported in the statements of financial position) is considered to be
excess to the operational requirements of the company (that is, non-operating). The interest on cash and cash
equivalents is negligible and has been ignored.
7. The free cash flow to the firm in 2021 is expected to grow at 7% per year from 2022 to perpetuity.

Required:
Calculate the fair value of each ordinary share of UFCC (Pty) Ltd, as at 31st May 2019, using the free cash flow to
the firm valuation method. Calculations should be rounded to two decimal places. (30 marks)

Part B (4 MARKS: 5 MINUTES)

“Leasing is a way many businesses finance plant, property and equipment. Just about any assets that can be
purchased can be leased and there are many good reasons for leasing” (Firer et al., 2012, p. 767 – Fundamentals
of Corporate Finance – South African Edition. McGraw-Hill, London.
Required:
Provide any four “good reasons” for (or advantages of) leasing instead of borrowing and buying an asset.
(4 marks)

Part C (8 MARKS: 10 MINUTES)

1. What are agency costs? Provide one example of a direct agency cost. (2 marks)
2. Provide two mechanisms (which are external to a company) that help minimize the agency problem.
(2 marks)
3. Distinguish between money markets and capital markets. (2 marks)
4. Provide two examples of financial securities or instruments that are traded on the money markets.

(2 marks)

END OF QUESTION 2 – USE A NEW BOOK FOR QUESTION 3

Page 7 of 15
 QUESTION 3: Abdullah’s section (52 MARKS: 50.4 MINUTES)
This question consists of …. () independent parts (i.e. Parts A; B; C & D)

Page 8 of 15
 Department of Finance and Tax

FTX 2024F/S Corporate Financial Management - Formula Sheet

 

FV  PV ( 1  i /m)nm  PV  FV 
1
nm 
 (1  i/m) 

 1  i/mnm  1 
FVA  I 

 1  (1/(1  i/m)nm ) 
PVA  I 

 
 i/m   i/m 

 APR m 
APR  1  EAR1/m  1 x m 
EAR   1   1
 m 

I  1  ( 1/1  k d /22n)   1  CF1 D1 FCF1

V     P
 2n  P0  P0  P0 
 1  k d /2  rg kg WACC  g
B 2 k d /2
 

n n

 Ri Rior ERi    P Ri
R ior ER i   i1 i1

n
n n

 Ri  ERi 2 Varσ 2   PI R i  ER i 2

Varσ 2  i1 i1

n - 1
n n

 Ri  ERi 2 StdDevσ   P R

i1
I i  ER i 2
StdDevσ  i1

n - 1
σ x-x
CV  Z 
R σ
e

 Ri  ERi R j  ER j  σ   PI R i  ER i R j  ER j 

n n

ij i1
σ  i1
ij n  1
σ n

r 
ij RP   X i x Ri
ij σ x σ i1
i j

σ p  w 2i σ 2i  w 2j σ 2j  2w i w j ij σ p  w2iσ 2i  w2jσ 2j  2wi w jrijσ iσ j

R s  R f  βRm  R f  n
β   Xβ
p j j
j1

Page 9 of 15
 FTX 2024F/S Corporate Financial Management

Financial Ratio Formula Sheet

1. Quick (or acid-test) ratio Current assets – inventory

Current liabilities
2. Current ratio Current assets
Current liabilities
3. Inventory turnover ratio Cost of sales expense
Inventories
4. Days inventory on hand (Days’ sales in inventories) Inventory x 365
Cost of sales expense

5. Accounts receivable days (Days’ sales outstanding)) Trade accounts receivable x 365
Credit or total sales

6. Accounts receivable turnover ratio Credit or total sales

Trade accounts receivable

7. Accounts payable days (or payment period) Accounts payable x 365

Purchases (or Cost of sales)

8. Total asset turnover ratio Total revenue

Total assets

9. Total debt ratio Total debt x 100

Total assets

10. Debt-to-equity ratio Total debt x 100

Total equity

11. Equity multiplier Total assets

Total equity

12. Times interest earned EBIT

Interest expense

13. Gross profit margin Gross profit x 100

Sales

14. Operating profit margin EBIT x 100

Total revenue

15. Net profit margin Net profit after tax x 100

Total revenue

Page 10 of 15
 FTX 2024F/S Corporate Financial Management

Financial Ratio Formula Sheet continued

15. Net profit margin Net profit after tax x 100

Total revenue

16. EBIT Return on assets (EBIT ROA) EBIT x 100

Total assets

17. Return on assets (ROA) Net profit after tax x 100

Total assets

18. Return on equity (ROE) Net profit after tax x 100

Total equity

Earnings per share (EPS) Profit after tax

19. Price earnings (P/E) ratio Market price per share

Earnings per share (EPS)

20. Market value added Market CAP – (Total equity – NCI)

21. Market value added per share Market value added

Number of ordinary share in issue

22. Market-to-book ratio Market capitalization

(Total equity – NCI)

23. Dividend pay-out ratio Dividend per share (DPS)

Earnings per share

24. Retention (Plough-back) ratio EPS - DPS

EPS

25. Sustainable growth rate ROE x retention ratio

Page 11 of 15