Office Use Only
Monash University
Semester One Examination Period
2011
Faculty Of Business and Economics
EXAM CODES:
AFW3790
TITLE OF PAPER:
CORPORATE FINANCE B
EXAM DURATION:
3 hours writing time
READING TIME:
10 minutes
THIS PAPER IS FOR STUDENTS STUDYING AT:( tick where applicable)
Berwick
Clayton
Malaysia
Off Campus Learning
Caulfield
Gippsland
Peninsula
Enhancement Studies
Pharmacy
Other (specify)
Open Learning
Sth Africa
During an exam, you must not have in your possession, a book, notes, paper, electronic device/s, calculator,
pencil case, mobile phone or other material/item which has not been authorised for the exam or specifically
permitted as noted below. Any material or item on your desk, chair or person will be deemed to be in your
possession. You are reminded that possession of unauthorised materials in an exam is a discipline offence under
Monash Statute 4.1.
No examination papers are to be removed from the room.
AUTHORISED MATERIALS
CALCULATORS
YES
NO
OPEN BOOK
YES
NO
SPECIFICALLY PERMITTED ITEMS
if yes, items permitted are:
YES
NO
Candidates must complete this section if required to write answers within this paper
STUDENT ID
__ __ __ __ __ __ __ __
DESK NUMBER
__ __ __ __
Page 1 of 7
QUESTION 1
(60 MARKS; 90 MINUTES)
Ukhozi Ltd is a licensed tour operator that specialises in Southern African bush safaris. Ukhozi advertises on
various online websites and attracts customers from many different countries. Ukhozi derives its revenue
from many diverse sources, ranging from bird viewing excursions and accommodation to sales of items such
as binoculars and handheld PDA’s (Personal Digital Assistant) with software that identifies bird calls and
bird species.
Ukhozi owns a number of specialised assets such as game viewing vehicles as well as bush lodges located
close to prominent national parks in various Southern African countries. Staff are employed on both full time
and ad-hoc basis due to the seasonality of the tourism industry.
Ukhozi is based in South Africa and reports all financial information in Rand (ZAR) despite invoicing in US
Dollar (USD) due to their predominantly international client base. Ukhozi has a December year end.
The following sections relate to the business of Ukhozi Ltd.
SECTION A
The Financial Director of Ukhozi is very concerned about the firm’s cash flow forecast and cash position.
The following information relates to the cash activities of Ukhozi.
Month
Mar-11
Apr-11
May-11
Jun-11
Jul-11
Aug-11
Sep-11
Sales (R)
Salaries paid (R)
400 000
600 000
500 000
700 000
600 000
800 000
500 000
80 000
100 000
90 000
120 000
100 000
90 000
90 000
Material Purchases
300 000
250 000
350 000
300 000
250 000
250 000
300 000
Overheads (R)
120 000
160 000
140 000
230 000
160 000
140 000
140 000
Additional information:
The favourable cash balance at 31 May 2011 was R220 000.
Salaries are paid in the month incurred.
It is company policy to pay for purchases three months after the purchase.
10% of monthly sales (revenue) are for cash and 90% are sold on credit.
Trade receivables will be collected in 60 days after the month of sale.
Included in overheads are depreciation of R 20 000 per month. Overhead expenses are paid one month after
being incurred.
A loan of R250 000 will be repaid on 30 June 2011.
Ukhozi will pay a dividend of R100 000 on 15 August 2011.
Overdrafts facilities are available to Ukhozi if required.
Ukhozi wishes to maintain a minimum cash balance of R10 000 at all times
Page 2 of 7
REQUIRED:
a) List and explain two different types of working capital financing polices.
(4)
b) Prepare the cash budget for Ukhozi Ltd for June, July and August 2011.
(15)
c) Interpret the results from your cash budget prepared in part b) above
(3)
d) List three reasons for holding cash.
(3)
e) Discuss the factors that should consider before extending credit to customers.
(10)
SECTION B
Ukhozi is based in South Africa and reports all financial information in Rand (ZAR) despite invoicing in US
Dollar (USD) due to their predominantly international client base. Quotations are made in USD and are valid
for 6 months, resulting in some exposure for Ukhozi to foreign exchange fluctuations.
The financial director would like to invest R8,000,000 to hedge Ukhozi against fluctuations in ZAR:USD.
He obtained a 6month forward rate of 1$ = R8.56 from the bank.
Considering the information below, the financial director believes there is a triangle arbitrage opportunity
available:
-
The South African nominal risk free interest rate is 9.65%.
The United States nominal risk free interest rate is 1.50%.
USD Spot Rate 1US$ = R7.89
REQUIRED:
f) Using the principles of Interest Rate Parity (IRP), demonstrate the arbitrage opportunity and
calculate the amount of profit that can be made.
(10)
SECTION C
Ukhozi operates a large number of game viewing vehicles, many of which are reaching the end of their
useful lives. These vehicles often brake-down and result in the cancellation and refund of fees.
The value of vehicles that must urgently be replaced amount to R2,500,000. The savings in refunds and
cancellations amounts to R324 000 per year.
If the company buys the vehicles, maintenance cost per year would amount to R60 000. These vehicles could
also be leased for R510 000 per year for 5 years. The lease payments are payable in advance. If the vehicles
are leased there is no need to pay for the maintenance cost per year. The company’s tax rate is 28% and their
after tax borrowing rate is 7%. The company also depreciates their vehicles over 5 years, in line with
allowable rates from SA Revenue Services.
REQUIRED:
g) Calculate whether Ukhozi should buy or lease the vehicles.
h) Briefly discuss some good reasons to enter into a lease.
(10)
(5)
Page 3 of 7
QUESTION 2
(35 MARKS; 52.5 MINUTES)
Mr. I.M. Chicken is the owner of C-cure Ltd. a company that specialises in safety and security products. Mr.
Chicken is concerned about safety and security in South Africa and has decided to emigrate to a country with
lower (reported) incidents of crime. On 28 January 2011 he approached you regarding a valuation for his
100% shareholding of C-cure Ltd.
After reviewing the recent financial statements presented below, and using an adjusted PE ratio taken from
listed security companies, Mr. Chicken has come up with a preliminary valuation for the business of
R73,500,000.
C-Cure Ltd
2010
2009
2008
10 565 983
-1 598 995
8 966 988
10 985 667
-1 644 639
9 341 028
10 498 225
-1 588 659
8 909 566
Operating expenses
Depreciation
Operating profit
Finance costs
1 082 007
2 230 000
5 654 981
1 594 328
1 295 195
2 150 500
5 895 333
1 672 546
1 350 734
1 950 000
5 608 832
1 584 953
Net income before taxation
4 060 653
4 222 787
4 023 879
Taxation
1 136 983
1 182 380
1 126 686
Net income after taxation
2 923 670
3 040 407
2 897 193
STATEMENT OF COMPREHENSIVE INCOME
Revenue
Cost of Sales
Gross Profit
Page 4 of 7
QUESTION 2 (continued)
BALANCE SHEET
ASSETS
Total non-current assets
Property, plant & equipment
Investments
Total current assets
Cash & cash equivalents
Receivables
Inventory
TOTAL ASSETS
LIABILITIES
Long-term loan
Total non-current liabilities
Total current liabilities
Payables
Receiver of revenue
Total liabilities
EQUITY
2010
60 955 560
21 104 580
39 850 980
6 159 927
254 500
2 685 422
3 220 005
67 115 487
1 500 000
734 325
78 757
655 568
2 234 325
Ordinary share capital
Retained earnings
64 881 162
1 000
64 880 162
TOTAL LIABILITIES AND EQUITY
67 115 487
Additional information:
1.
In 2009, an employee who was accidentally shot in a training exercise sued C-Cure Ltd. A
settlement of R500 000 was agreed upon and paid during 2010. This was recorded as legal
expenses, and was deductible for tax purposes.
2.
Mr. I.M. Chicken was paid an annual salary of R600 000 each year. He considered this
sufficient - no dividends have ever been declared by the company. His salary was marketrelated.
Page 5 of 7
QUESTION 2 (continued)
3.
Although there are no major plans for expansion, there is an annual capital expenditure budget. This
budget was R450 000 in 2010 and is increased by 10% each year.
4.
The growth trend in operations experienced over the last three years is expected to continue. An
additional investment in working capital will be required each year, at approximately the same rate.
5.
The company tax rate is 28%.
6.
The weighted average cost of capital has been estimated at 13.5% and the cost of equity is estimated
at 15%.
REQUIRED:
(a)
Shortly describe the problems of using the PE ratio as a valuation tool.
(b)
Prepare a valuation report to Mr. Chicken giving an appropriate alternative valuation for the
company based on the available information to estimate 2011 figures. (Do not use either the PE ratio
or Earnings yield methods)
(30)
QUESTION 3
(5)
(25 MARKS; 37.5 MINUTES)
This question has various unrelated sections.
SECTION A
Whitey’s has 10 000 shares of ordinary shares outstanding with a par value of R1 each and a market price of
R35 a share. The firm also has a bond issue outstanding with a total face value of R250 000 which is selling
for 102 per cent of face value. The pre-tax cost of equity is 11 per cent while the pre-tax cost of debt is 8 per
cent. The firm has a beta of 1,1 and a tax rate of 28 per cent.
REQUIRED:
a) Calculate Whitey’s weighted average cost of capital.
(5)
SECTION B
Blackstone, Inc. is currently an all equity firm that has 65 000 shares outstanding at a market price of R22 a
share. The firm has decided to leverage their operations by issuing R605 000 of debt at an interest rate of
6,5 per cent. This new debt will be used to repurchase shares. The restructuring is expected to increase the
earnings per share.
REQUIRED:
b) Calculate the minimum level of profit before interest and taxes that Blackstone is expecting. (Ignore
taxes)
(5)
Page 6 of 7
SECTION C
Murphy’s, Inc. has 10 000 shares outstanding with a par value of R1 per share. The market value is R8 per
share. The balance sheet shows R32,500 in the Share Premium account, R10,000 in the ordinary share
capital account, and R42,700 in the retained profit account. The firm just announced a 10 per cent scrip
dividend.
REQUIRED:
c) Calculate the balance in the retained profit account after the scrip dividend.
(5)
SECTION D
A share had returns of 8 per cent, -2 per cent, 4 per cent, and 16 per cent over the past four years.
REQUIRED
d) Calculate the standard deviation of this share for the past four years.
(5)
SECTION E
The current risk-free rate of return is 3,6 per cent and the market rate of return is 10,5 per cent. The
following information is available for the shares listed:
Share
A
B
C
D
E
Beta
0,85
1,08
1,69
0,71
1,45
Expected Return
9,2%
11,8%
15,3%
7,8%
12,3%
REQUIRED
e) Calculate which of the following shares are correctly priced.
(5)
Page 7 of 7