ACCA Paper F9
Financial Management
Revision Pack
2
Revision Study Planner
ACCA: F9 Financial Management June 2017
Subject
Investment Appraisal
3
Must Do
Questions
Fence (Q26 S16)
Hebac (S16)
Degnis (J16)
Argnil (D15)
Ridag Co (J12)
Should do Questions
BQK (D12)
Darn Co (D13)
OAP (J14)
Uftin (D14)
Hraxin (J15)
Cost of Capital
Dinla (J16)
Tinep (D14)
AMH (J13)
Card Co (D13)
Fence (J14)
YGV (J10)
NN (D10)
KFP (J09)
BKB (D12)
Business Finance and
Ratios
Grenarp (J15)
Gemlo (S/D 15)
GXG (J13)
KQK (D15)
YNM (J10)
Bar Co (D11)
Working Capital
Management
Nesud (S16)
Cargo (J16)
ZXC (D15)
Plot Co (D13)
CSZ (J14)
Flit (D14)
WQZ (D10)
Bold Co (D11)
HGR (J09)
Widnor (J15)
KXP (D12)
Valuation
Ring (Q21-25 S16)
Darlga (J16)
Chad (J15)
Par (D14)
Close Co (D11)
Corhig (J12)
GWW Co (D12)
Risk
Herd (Q16-20 S16)
Plam (J16)
GXJ (D15)
Rose (J15)
TGA (J13)
Boluje (D08)
ZPS (J11)
Zigto Co (J12)
PZK (D14)
Session
4
F9
F9 Revision Pack Questions
FINANCIAL MANAGEMENT
6
F9 REVISION PACK QUESTIONS
Section B
Scenario Multiple Choice Questions
The following scenario relates to questions 1-5.
HM Co is considering replacing a machine and its accounts departments has just forwarded estimates on the costs
involved, being the original cost when purchased now, the maintenance costs for four years and the scrap value in four
years’ time, all figures in $s at time 0 values and ignoring tax effects:
Now
(500,000)
1
2
3
4
Scrap after 4
years
(20,000)
(23,000)
(25,000)
(27,000)
70,000
The cost of capital appropriate to the decision is 10%.
They have details of an equivalent machine and have been given a rental value of $150,000 per annum for this machine
for four years, which includes all maintenance costs paid by the rental company.
1.
Calculate the equivalent annual cost of the machine.
A.
B.
C.
D.
2.
Which of the following is false about replacing this machine in relation to renting?
A.
B.
C.
D.
3.
$116,115
$184,644
$164,038
$138,904
There is a higher upfront cost if the machine is replaced
Any increase in the value of the machine will accrue to the company
It will appear on the company’s statement of financial position.
There is more certainty in the cash flows if the company replaces the machine.
In using the equivalent annual cost method to compare the cost of two machines which have differing length
lives, which is true?
(1) The lowest total present value of cost should be taken
(2) You can compare the machines if they have the different length lives
A.
B.
C.
D.
4.
Which of the following criticisms of equivalent annual cost is invalid?
A.
B.
C.
D.
5.
(1)
(2)
(1) and (2)
Neither
Longer life cycles mean that a company will be working with older machines which may be inefficient.
Technological change may make the calculations meaningless
It is better to ignore the method as there are too many uncertainties involved
It can be difficult to know what the correct cost of capital is
In a rent versus buy decision which of the following costs are irrelevant?
A.
B.
C.
D.
Lease rentals
The residual value of the machine
The cashflows generated by sales of the products made using the machine
Tax cashflows
7
FINANCIAL MANAGEMENT
The following scenario relates to questions 6-10.
Chennai Co is newly quoted on a stock market. Some information on Chennai is:
Issued share capital
12,000,000 shares
Authorised share capital
20,000,000 shares
Share price last year
$1.25/share
Share price now
$2.00/share
Revenue
$124, 947,377
Profit before taxation
$35,333,298
Taxation
$11,739,442
Interest
$2,000,000
Dividend
$3,500,000
Research has shown that Chennai Co has a group of investors that consistently have held the company’s shares over
many years, regardless of the movements in the company’s share price or the company’s dividend policy. Some of these
investors are Islamic investors who are attracted to various of the company’s policies.
6.
Calculate the earnings per share (EPS) of Chennai Co
A.
B.
C.
D.
7.
Calculate the dividend cover for Chennai Co
A.
B.
C.
D.
8.
Dividends retained can be invested in the company to get a higher market value
Some investors expect regular dividend cash flows paid to them
Capital gains tax effects
Some stock markets are not very liquid
1, 2 and 3
2, 3 and 4
1, 3 and 4
1, 2 and 4
Some companies have investors that consistently stick with the company’s shares. Which of the following are
arguments for this?
1.
2.
3.
A.
B.
C.
D.
8
8.23
10.10
6.17
35.70
Some commentators say that the level of dividend payments are irrelevant to the value of a company. Which of
the following are arguments against that?
1.
2.
3.
4.
A.
B.
C.
D.
9.
$1.08
$1.80
$1.51
$0.90
All shares will go up or down and the investors are able to see past that
There are transactions costs of selling shares
Taxation encourages the investors to remain holding the company’s shares
1, 2 and 3
1 and 2
2 and 3
1 and 3
F9 REVISION PACK QUESTIONS
10.
Which of the following company policies are Islamic investors likely to be in favour of?
1.
2.
3.
A.
B.
C.
D.
The company is very clear in its contracts
The company receives and charges interest
The company is not involved with gambling, food or drink
1, 2 and 3
1 and 2
2 and 3
1 and 3
9
FINANCIAL MANAGEMENT
The following scenario relates to questions 11-15.
Ashleigh Co is listed on a major stock market and has been successful in recent years. Similar successful companies on
the stock market have an earnings yield of 6.67%. Ashleigh Co’s estimated cost of equity is 18%
Information for Ashleigh Co is as follows:
Financial year ending 31 January
2015
2016
Dividend pay-out ratio
30%
35%
$22,000,000
$26,000,000
5,000,000
5,500,000
Earnings
Ordinary shares (nominal value $0.25)
The directors are interested to see the value of company using the information above and understand the valuation
methods and stock market better.
11.
What are the percentage increase in earnings per share and the percentage increase in total dividends?
Earnings per share Dividends
12.
A.
7.4%
37.8%
B.
18.2%
40%
C.
7.4%
40%
D.
18.2%
37.8%
Calculate the total market value of Ashleigh Co shares using the dividend growth model, assuming dividend
growth per share continues at its current rate.
A.
B.
C.
D.
13.
Calculate the total market value of Ashleigh Co shares using the Price/Earnings ratio model.
A.
B.
C.
D.
14.
The dividend growth model can be distorted by the directors’ dividend pay-outs
The dividend growth model uses more information specific to the company
One method uses profit, the other uses cash to value the company
The P/E ratio model is a better predictor of the future.
Which form of the Efficient Market Hypothesis is the stock exchange most likely to be if controlled and
operated fairly?
A.
B.
C.
D.
10
$82.5m
$329.8m
$136.4m
$390.0m
Which of the following is NOT true when comparing the Price/Earning model and the dividend growth model?
A.
B.
C.
D.
15.
$186.1m
$165.5m
$135.0m
$127.2m
Strong form
Semi-strong form
Weak
None of these
F9 REVISION PACK QUESTIONS
The following scenario relates to questions 16-20.
A US-based company, CSV Co, is interested in borrowing 200 million pesos in three months’ time for a period of 6
months. They have various options, one of which is a bank, which is willing to lend them the money required at an
interest rate that is fixed at the start of the loan period. The interest would be payable at the end of the borrowing in 9
months’ time. There are a lot of uncertainties in the economies of the USA and the UK that may affect the interest rate,
which, as estimated by the company’s treasury department, could be as high as 8% or as low as 5%.
There are two main risks that the company is considering, foreign currency risk and interest rate risk.
The following exchange rates are available:
Spot rate (pesos per $1) 18.181–18.280 and the nine-month forward rate (pesos per $1) 19.335–19.485
The treasury department wants to reduce the currency risk of the interest to be paid in 9 months’ time.
16.
The company’s bank has offered a 7%-6%, 3-9 forward rate agreement to hedge the peso interest rate. What
is the most that the company would receive under the forward rate agreement if the treasury department’s
forecast is correct?
A.
B.
C.
D.
17.
If interest rates fall to 5%, what is the opportunity cost of taking out the forward rate agreement?
A.
B.
C.
D.
18.
19.
2,000,000 pesos
1,000,000 pesos
1,500,000 pesos
4,000,000 pesos
Which of the following are true about a forward rate agreement?
(1)
(2)
(3)
(4)
It is a traded instrument
It is wholly separate from the underlying loan
It is an obligation that must be taken once entered into
It doesn’t give certainty as to the interest that will be paid
A.
B.
A.
B.
(1) and (3)
(1), (2) and (4)
(2) and (3)
All are true
If the company took out a forward exchange contract at the rate quoted what would the company fix the interest
payment at, assuming the company had taken out the forward rate agreement?
A.
B.
C.
D.
20.
2,000,000 pesos
1,000,000 pesos
1,500,000 pesos
4,000,000 pesos
$362,038
$724,076
$385,017
$359,251
The four way equivalence model gives relationships between various rates. Which of the following isn’t included
in the model?
A.
B.
C.
D.
Interest rates
Swap rates
Inflation rates
Exchange rates
11
FINANCIAL MANAGEMENT
Section C
1.
Longer Questions
BQK Co (December 2012)
BQK Co, a house-building company, plans to build 100 houses on a development site over the next four years.
The purchase cost of the development site is $4,000,000, payable at the start of the first year of construction.
Two types of house will be built, with annual sales of each house expected to be as follows:
Year
1
2
3
4
Number of small houses sold:
15
20
15
5
Number of large houses sold:
7
8
15
15
Houses are built in the year of sale. Each customer finances the purchase of a home by taking out a long-term
personal loan from their bank. Financial information relating to each type of house is as follows:
Small house
Large house
Selling price:
$200,000
$350,000
Variable cost of construction:
$100,000
$200,000
Selling prices and variable cost of construction are in current price terms, before allowing for selling price
inflation of 3% per year and variable cost of construction inflation of 4·5% per year.
Fixed infrastructure costs of $1,500,000 per year in current price terms would be incurred. These would not
relate to any specific house, but would be for the provision of new roads, gardens, drainage and utilities.
Infrastructure cost inflation is expected to be 2% per year.
BQK Co pays profit tax one year in arrears at an annual rate of 30%. The company can claim capital allowances
on the purchase cost of the development site on a straight-line basis over the four years of construction.
BQK Co has a real after-tax cost of capital of 9% per year and a nominal after-tax cost of capital of 12% per year.
New investments are required by the company to have a before-tax return on capital employed (accounting rate
of return) on an average investment basis of 20% per year.
Required:
(a) Calculate the net present value of the proposed investment and comment on its financial acceptability. Work
to the nearest $1,000.
(11 marks)
(b) Calculate the before-tax return on capital employed (accounting rate of return) of the proposed investment
on an average investment basis and comment on its financial acceptability.
(4 marks)
(15 marks)
12
F9 REVISION PACK QUESTIONS
2.
Ridag Co (June 2012)
Ridag Co is evaluating two investment projects, as follows.
Project 1
This is an investment in new machinery to produce a recently-developed product. The cost of the machinery,
which is payable immediately, is $1·5 million, and the scrap value of the machinery at the end of four years is
expected to be $100,000. Capital allowances (tax-allowable depreciation) can be claimed on this investment on a
25% reducing balance basis. Information on future returns from the investment has been forecast to be as follows:
Year
1
2
3
4
50,000
95,000
140,000
75,000
Selling price ($/unit)
25·00
24·00
23·00
23·00
Variable cost ($/unit)
10·00
11·00
12·00
12·50
105,000
115,000
125,000
125,000
Sales volume (units/year)
Fixed costs ($/year)
This information must be adjusted to allow for selling price inflation of 4% per year and variable cost inflation of
2·5% per year. Fixed costs, which are wholly attributable to the project, have already been adjusted for inflation.
Ridag Co pays profit tax of 30% per year one year in arrears.
Other information
Ridag Co has a nominal after-tax weighted average cost of capital of 7%.
Required:
(a) Calculate the net present value of Project 1 and comment on whether this project is financially acceptable to
(10 marks)
Ridag Co.
(b) Critically discuss the use of sensitivity analysis as a way of including risk in the investment appraisal
process.
(2 marks)
(15 marks)
Project 2
Ridag Co plans to replace an existing machine and must choose between two machines. Machine 1 has an initial cost
of $200,000 and will have a scrap value of $25,000 after four years. Machine 2 has an initial cost of $225,000 and
will have a scrap value of $50,000 after three years. Annual maintenance costs of the two machines are as follows:
Year
1
2
3
4
Machine 1 ($/year)
25,000
29,000
32,000
35,000
Machine 2 ($/year)
15,000
20,000
25,000
Where relevant, all information relating to Project 2 has already been adjusted to include expected future
inflation. Taxation and capital allowances must be ignored in relation to Machine 1 and Machine
Ridag Co has a nominal after-tax weighted average cost of capital of 7%.
Required:
(c) Calculate the equivalent annual costs of Machine 1 and Machine 2, and discuss which machine should be
purchased.
(6 marks)
(d) Critically discuss the use of probability analysis as a way of including risk in the investment appraisal
process.
(2 marks)
(20 marks)
13
FINANCIAL MANAGEMENT
3.
Darn Co (December 2013)
Darn Co has undertaken market research at a cost of $200,000 in order to forecast the future cash flows of an
investment project with an expected life of four years, as follows:
Year
Sales revenue ($000)
Costs ($000)
1
2
3
4
1,250
2,570
6,890
4,530
500
1,000
2,500
1,750
These forecast cash flows are before taking account of general inflation of 4·7% per year. The capital cost of
the investment project, payable at the start of the first year, will be $2,000,000. The investment project will
have zero scrap value at the end of the fourth year. The level of working capital investment at the start of
each year is expected to be 10% of the sales revenue in that year.
Capital allowances would be available on the capital cost of the investment project on a 25% reducing balance
basis. Darn Co pays tax on profits at an annual rate of 30% per year, with tax being paid one year in arrears. Darn
Co has a nominal (money terms) after-tax cost of capital of 12% per year.
Required:
(a) Calculate the net present value of the investment project in nominal terms and comment on its financial
acceptability.
(10 marks)
(b) Calculate the net present value of the investment project in real terms and comment on its financial
acceptability.
(5 marks)
(c) Explain ways in which the directors of Darn Co can be encouraged to achieve the objective of maximisation
of shareholder wealth.
(5 marks)
(20 marks)
14
F9 REVISION PACK QUESTIONS
4.
Spot Co (December 2013)
Spot Co is considering how to finance the acquisition of a machine costing $750,000 with an operating life of five
years. There are two financing options.
Option 1
The machine could be leased for an annual lease payment of $155,000 per year, payable at the start of each year.
Option 2
The machine could be bought for $750,000 using a bank loan charging interest at an annual rate of 7% per year.
At the end of five years, the machine would have a scrap value of 10% of the purchase price. If the machine is
bought, maintenance costs of $20,000 per year would be incurred.
Taxation must be ignored.
Required:
Evaluate whether Spot Co should use leasing or borrowing as a source of finance, explaining the evaluation
method which you use.
(10 marks)
5.
BKB Co (December 2012)
The statement of financial position of BKB Co provides the following information:
$m
Equity finance Ordinary shares ($1 nominal value)
25
Reserves
15
$m
40
Non-current liabilities
7% Convertible bonds ($100 nominal value)
20
5% Preference shares ($1 nominal value)
10
30
Current liabilities
Trade payables
10
Overdraft
15
Total equity and liabilities
25
95
BKB Co has an equity beta of 1·2 and the ex-dividend market value of the company’s equity is $125 million.
The ex-interest market value of the convertible bonds is $21 million and the ex-dividend market value of the
preference shares is $6·25 million.
The convertible bonds of BKB Co have a conversion ratio of 19 ordinary shares per bond. The conversion date
and redemption date are both on the same date in five years’ time. The current ordinary share price of BKB Co is
expected to increase by 4% per year for the foreseeable future. The overdraft has a variable interest rate which is
currently 6% per year and BKB Co expects this to increase in the near future.
The equity risk premium is 5% per year and the risk-free rate of return is 4% per year. BKB Co pays profit tax at an
annual rate of 30% per year.
Required:
(a) Calculate the market value after-tax weighted average cost of capital of BKB Co, explaining clearly any
(11 marks)
assumptions you make.
(b) Discuss why market value weighted average cost of capital is preferred to book value weighted average cost
(4 marks)
of capital when making investment decisions.
(15 marks)
15
FINANCIAL MANAGEMENT
6.
Card Co (December 2013)
Card Co has in issue 8 million shares with an ex dividend market value of $7·16 per share. A dividend of 62 cents
per share for 2013 has just been paid. The pattern of recent dividends is as follows:
Year
Dividends per share (cents)
2010
2011
2012
2013
55·1
57·9
59·1
62·0
Card Co also has in issue 8·5% bonds redeemable in five years’ time with a total nominal value of $5 million. The
market value of each $100 bond is $103·42. Redemption will be at nominal value.
Card Co is planning to invest a significant amount of money into a joint venture in a new business area. It has
identified a proxy company with a similar business risk to the joint venture. The proxy company has an equity
beta of 1·038 and is financed 75% by equity and 25% by debt, on a market value basis.
The current risk-free rate of return is 4% and the average equity risk premium is 5%. Card Co pays profit tax at a
rate of 30% per year and has an equity beta of 1·6.
Required:
(a) Calculate the cost of equity of Card Co using the dividend growth model.
(2 marks)
(b) Discuss whether the dividend growth model or the capital asset pricing model should be used to calculate
the cost of equity.
(4 marks)
(c) Calculate the weighted average after-tax cost of capital of Card Co using a cost of equity of 12%.
(5 marks)
(d) Calculate a project-specific cost of equity for Card Co for the planned joint venture.
(4 marks)
(15 marks)
7.
NG Co.
NG Co. has exported products to Europe for several years and has an established market presence there. It
now plans to increase its market share through investing in a storage, packing and distribution network. The
investment will cost €13 million and is to be financed by equal amounts of equity and debt. The return in euros
before interest and taxation on the total amount invested is forecast to be 20% per year.
The debt finance will be provided by a €6.5 million bond issue on a large European stock market. The interest
rate on the bond issue is 8% per year, with interest being payable in euros on a six-monthly basis.
The equity finance will be raised in dollars by a rights issue in the home country of NG Co. Issue costs for the
rights issue will be $312,000. The rights issue price will be at a 17% discount to the current share price. The
current share price of NG Co. is $4.00 per share and the market capitalisation of the company is $100 million.
NG Co. pays taxation in its home country at a rate of 30% per year. The currency of its home country is the dollar.
The current price/earnings ratio of the company, which is not expected to change as a result of the proposed
investment, is 10 times.
The spot exchange rate is 1.3000 €/$. All European customers pay on a credit basis in euros.
Required:
(a) Calculate the theoretical ex-rights price per share after the rights issue.
(b) Evaluate the effect of the European investment on:
(i) The earnings per share of NG Co.;
(ii) The wealth of the shareholders of NG Co.
Assume that the current spot rate and earnings from existing operations are both constant.
(4 marks)
(11 marks)
(15 marks)
16
F9 REVISION PACK QUESTIONS
8.
WQZ Co.
WQZ Co. is considering making the following changes in the area of working capital management:
Inventory management
It has been suggested that the order size for Product KN5 should be determined using the economic order
quantity model (EOQ).
WQZ Co. forecasts that demand for Product KN5 will be 160,000 units in the coming year and it has traditionally
ordered 10% of annual demand per order. The ordering cost is expected to be $400 per order while the
holding cost is expected to be $5.12 per unit per year. A buffer inventory of 5,000 units of Product KN5 will be
maintained, whether orders are made by the traditional method or using the economic ordering quantity model.
Required:
(a) Calculate the cost of the current ordering policy and the change in the costs of inventory management that will
arise if the economic order quantity is used to determine the optimum order size for Product KN5. (6 marks)
(b) Briefly describe the benefits of a just-in-time (JIT) procurement policy.
(3 marks)
WQZ Co. could introduce an early settlement discount of 1% for customers who pay within 30 days and at the
same time, through improved operational procedures, maintain a maximum average payment period of 60 days
for credit customers who do not take the discount. It is expected that 25% of credit customers will take the
discount if it were offered.
It is expected that administration and operating cost savings of $753,000 per year will be made after improving
operational procedures and introducing the early settlement discount.
Credit sales of WQZ Co. are currently $87.6 million per year and trade receivables are currently $18 million.
Credit sales are not expected to change as a result of the changes in receivables management. The company has
a cost of short-term finance of 5.5% per year.
Required:
(c) Calculate and comment on whether the proposed changes in receivables management will be acceptable.
Assuming that only 25% of customers take the early settlement discount, what is the maximum early
(6 marks)
settlement discount that could be offered?
(d) Discuss the factors that should be considered in formulating working capital policy on the management of
(5 marks)
trade receivables.
(20 marks)
17
FINANCIAL MANAGEMENT
9.
PKA Co.
PKA Co. is a European company that sells goods solely within Europe. The recently appointed financial manager
of PKA Co. has been investigating the working capital management of the company and has gathered the
following information:
Inventory management
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 €0.50 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.
Accounts receivable management
Domestic customers are allowed 30 days’ credit, but the financial statements of PKA Co. show that the average
accounts receivable period in the last financial year was 75 days. The financial manager also noted that bad debts
as a percentage of sales, which are all on credit, increased in the last financial year from 5% to 8%.
Required:
(a) Identify the objectives of working capital management and discuss the conflict that may arise between
them.
(3 marks)
(b) Calculate the cost of the current ordering policy and determine the saving that could be made by using the
economic order quantity model.
(6 marks)
(c) Discuss ways in which PKA Co. could improve the management of domestic accounts receivable.
(6 marks)
PKA Co. has used a foreign supplier for the first time and must pay $250,000 to the supplier in six months’ time.
The financial manager is concerned that the cost of these supplies may rise in euro terms and has decided to hedge
the currency risk of this account payable. The following information has been provided by the company’s bank:
Spot rate ($ per €): 1.998 ± 0.002
Six months forward rate ($ per €): 1.979 ± 0.004
Money market rates available to PKA Co. are as follows:
Borrowing
Deposit
One year euro interest rates:
6.1%
5.4%
One year dollar interest rates:
4.0%
3.5%
Assume that it is now 1st of December and that PKA Co. has no surplus cash at the present time.
Required:
(d) Evaluate whether a money market hedge, a forward market hedge or a lead payment should be used to
hedge the foreign account payable.
(5 marks)
(20 marks)
18
F9 REVISION PACK QUESTIONS
10.
TGA Co (June 2013)
TGA Co, a multinational company, has annual credit sales of $5·4 million and related cost of sales are $2·16
million. Approximately half of all credit sales are exports to a European country, which are invoiced in euros.
Financial information relating to TGA Co is as follows:
$000
Inventory
$000
473·4
Trade receivables
1,331·5
1,804·9
Trade payables
177·5
Overdraft
1,326·6
1,504·1
Net working capital
300·8
TGA Co plans to change working capital policy in order to improve its profitability. This policy change will not
affect the current levels of credit sales, cost of sales or net working capital. As a result of the policy change, the
following working capital ratio values are expected:
Inventory days
50 days
Trade receivables days
62 days
Trade payables days
45 days
Other relevant financial information is as follows:
Short-term dollar borrowing rate 5% per year
Short-term dollar deposit rate 4% per year
Assume there are 365 days in each year.
Required:
(a) For the change in working capital policy, calculate the change in the operating cycle, the effect on the
current ratio and the finance cost saving. Comment on your findings.
(8 marks)
(b) Discuss the key elements of a trade receivables management policy.
(7 marks)
(c) Explain the different types of foreign currency risk faced by a multinational company.
(5 marks)
(20 marks)
19
20
F9 Revision Pack Questions – June 2017
Link to Answers in Question Bank
Revision Pack Question
Question Name
Revision Kit Question
MCQ 1-5
MCQ 6 - 10
MCQ 11 – 15
MCQ 16 – 20
1
2
3
4
5
6
7
8
9
10
HM
CHENNAI
ASHLEIGH
CSV
BQK
RIDAG
DARN
SPOT
BKB
CARD
NG
WQZ
PKA
TGA
Section B 21 - 25
Section B 51 - 55
Section B 101 - 105
Section B 111 - 115
10
17
18
19
28
33
41
49
66
71
21