University College Dublin
An Coláiste Ollscoile, Baile Átha Cliath
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Spring, 22/23 TRIMESTER EXAMINATIONS
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FIN30170
Corporate Financial Management[Resit]
Module Coordinator: Professor Louis Murray
Student Number
Seat Number
Time Allowed: 120 minutes
Materials Permitted in the Exam Venue:
Non-programmable or scientific calculator
Materials to be Supplied to Students:
12 Page Answer Booklets
Instructions to Students:
You should attempt any four questions. All questions carry equal marks.
UCD © Spring, 22/23
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FIN30170
Question 1
a) Describe the stages associated with the preparation of a sensitivity analysis of a
proposed investment. Identify any potential advantages and any shortcomings.
Compare a sensitivity analysis with a scenario analysis and suggest any
circumstances when the latter is more appropriate.
(10 Marks)
b) The Hogsworth Corporation proposes an investment of €8 million in a new
manufacturing facility that will depreciate on a straight-line basis. Fixed costs are
€4 million per year. Each product costs €15 per unit to manufacture and sells for
€20 per unit. You estimate that the plant has an operating life of four years. Cost
of capital is 10 percent. Estimate the accounting break-even level of annual
sales. Assume no taxes. Conclude your answer by assessing the usefulness of
this measure of operating leverage and break-even.
(10 Marks)
c) Describe the Monte Carlo Simulation approach towards investment analysis and
suggest how it might contribute towards better decision-taking. (5 Marks)
Question 2
a) Company performance normally is assessed using data from recent financial
accounts. Four commonly identified categories of performance are efficiency,
profitability, leverage, and liquidity. Describe each category and suggest suitable
financial ratios. Indicate the aspect of performance captured by each measure.
Develop you answer by considering the benchmarks against which each should
be assessed.
(15 Marks)
b) Describe the Cash Conversion Cycle and explain how it should be used to
manage the extent of investment in net working capital.
(5 Marks)
c) The following information has been taken from the annual accounts of Sulphur
Mining Corporation. Given this data, estimate the Inventory Period, the Accounts
Receivable Period, and the Accounts Payable Period for Sulphur Mining.
Determine the overall Cash Conversion Cycle, and comment on your findings.
Writewell Publishers (€ Millions)
Year Ended
2022
Inventory
18.96
Receivables
18.87
Payables
15.21
Sales
168.93
Cost of goods sold
32.72
2021
22.19
20.93
16.85
177.36
36.56
(5 Marks)
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Question 3
a) Describe the main features of equity share capital. Include an explanation of the
risk exposure of shareholders. Describe voting procedures and consider when
voting by shareholders is important. Identify the major types of investors in
ordinary shares and discuss the extent to which the issue of new shares is a
major source of finding for larger companies.
(10 Marks)
b) Long-term debt capital normally is a combination of bank debt and bonds or
debentures. Identify the main features of each. Describe the many ways (for
example, fixed or floating rate) in which bonds or debentures can be designed,
and suggest some circumstances when each should be used. (10 Marks)
c) Ragwort Corporation reported earnings of €940,000. Assuming that it is financed
by a combination of ordinary shares and €1.2 million debt, estimate the amount
available to shareholders. Interest rate on debt is 10%, and company tax rate is
20%. Alternatively, supposing that instead of issuing debt, Ragwort is financed by
ordinary shares and by €1.2 million of preferred shares, estimate the amount that
would be available to ordinary shareholders. Dividend yield on preferred shares is
9%. Which financial structure would be more attractive to shareholders. Explain
your reasoning.
(5 Marks)
Question 4
a) Modigliani and Miller propose that companies cannot use financing decisions to
alter company value, and therefore that capital structure should be irrelevant.
Explain this proposition and also explain the underlying assumptions. Your
explanation should include a description of how investors could substitute
personal borrowing for company borrowing, to alter their expected returns.
(10 Marks)
b) A second proposition considers the impact of increased leverage on the required
rate of return on equity. Outline this proposition and explain its purpose.
(10 Marks)
c) Eagle Sport Supplies is financed entirely by ordinary shares, offering a 10%
return on investment. The company repurchases 20% of the shares and
substitutes an equal value of debt yielding a 6% return. Use the M&M second
proposition to estimate expected return on the common stock after refinancing.
Explain your results.
(5 Marks)
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Question 5
a) The dividend signalling hypothesis implies that the amount of dividend paid will
have a positive impact on company value. Explain the reasoning and consider
any evidence supportive of this proposal. Conclude with a brief description of
alternative proposals regarding the relationship between dividend policy on
company value.
(10 Marks)
b) Share repurchases have become a very common alternative to the payment of
cash dividends. Consider possible reasons for this change and outline the
methods employed when shares are repurchased.
(10 marks)
c) Two companies, Delta and Zeta, have exactly the same risk. Both have a current
share price of €150. Delta pays no dividend and will have a price of €180 one
year from now. Zeta pays dividends and will have a price of €171 one year from
now after paying the annual dividend. Both companies pay no taxes and
investors pay no taxes on capital gains, but they pay a 20 percent income tax on
dividends. Estimate the value of the dividend that investors expect Zeta to pay
one year from today. If capital gains and income were taxed equally, reassess
the impact on expected dividend per share.
(5 marks)
Question 6
a) Weighted average cost of capital is the normal discount rate when evaluating a
proposed investment. Outline any assumptions implicit in this approach. Develop
your answer by describing the Adjusted Present Value approach and suggest any
circumstances when it should be employed.
(10 Marks)
b) Surf & Turf Hotels is currently financed by a combination of equity and debt. Cost
of debt is 9%, and cost of equity is 15.6%. Corporate tax rate is 20%.
i.
Assuming that debt and equity ratios are 40% and 60% respectively,
estimate the WACC. Use this estimate to evaluate the proposed
investment of €5.5 million in a redecoration, which will produce annual
cash inflows of €865,000 in perpetuity.
ii.
Surf & Turf also is exploring the possibility of a reduction in the debt
ratio to 20%. New shares will be issued to finance the purchase of
outstanding debt. You can assume there will be no impact on cost of
debt. Assess the impact of this change on WACC. Explain your choice
of methodology.
(15 Marks)
End of Exam Paper
oOo
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