North South University

School of Business and Economics

Executive MBA Program
EMB 510: Foundations of Accounting and Finance
Final Examination Summer 2021
Total Marks: 200 Faculty: Dr Akm Waresul Karim Time: 2 hours
Student Name: ID#:
Instructions:
Marks of each question are indicated separately.
Answer all sections in this question booklet. No extra paper will be provided.
Write your Name, ID, and Section on both the answer script and the question.
Sharing of calculators, or any other material with other students is not allowed

Section A: True/False Statements (15X1=15 Marks)

Indicate whether the following statements are true or false by circling the word True or False as
appropriate.

1. Projected free cash flows should be discounted at the firm's weighted average cost of capital to find
the value of its operations. True / False

2. The free cash flow valuation model cannot be used unless a company pays dividends. True / False

3. Two firms with the same expected free cash flows and growth rates must also have the same value of
operations. True / False

4. The free cash flow valuation model discounts free cash flows by the required return on equity.
True / False

5. The before-tax cost of debt, which is lower than the after-tax cost, is used as the component cost of
debt for purposes of developing the firm's WACC. True / False

6. If a firm's marginal tax rate is increased, this would, other things held constant, lower the cost of debt
used to calculate its WACC. True / False

7. The cost of perpetual preferred stock is found as the preferred's annual dividend divided by the
market price of the preferred stock. No adjustment is needed for taxes because preferred dividends,
unlike interest on debt, is not deductible for tax purposes. True / False

8. The cost of common equity obtained by retaining earnings is the rate of return the marginal
stockholder requires on the firm's common stock. True / False

9. For capital budgeting and cost of capital purposes, the firm should always consider retained earnings
as the first source of capital ⎯i.e., use these funds first ⎯because retained earnings have no cost to
the firm. True / False

1 | Page
10. The firm's cost of external equity raised by issuing new stock is the same as the required rate of return
on the firm's outstanding common stock. True / False

11. The lower the firm's tax rate, the lower will be its after-tax cost of debt and also its WACC, other
things held constant. True / False

12. The internal rate of return is that discount rate that equates the present value of the cash outflows (or
costs) with the present value of the cash inflows. True / False

13. A project's IRR is independent of the firm's cost of capital. In other words, a project's IRR doesn't
change with a change in the firm's cost of capital. True / False

14. If debt is to be used to finance a project, then when cash flows for a project are estimated, interest
payments should be included in the analysis. True / False

15. Changes in net working capital should not be reflected in a capital budgeting cash flow analysis
because capital budgeting relates to fixed assets, not working capital. True / False

2 | Page
 Section B: Multiple Choice Questions (10X4 = 40 Marks)

Question Two: Bond Valuation (10 + 5 = 15 marks)

Fiorentina Corporation just issued a 10-year 13% annual coupon bonds with a par value of
$1,000 for $1,170. [The bond’s face value is $1,000 while its issue price is $1,170].

Required:
(i) What is the bond’s yield-to-maturity?
(ii) What is the bond’s current yield?
(iii)

3 | Page
Question Three: Free Cash Flow Valuation 40 marks

Greenie Agrochemical Industries has the following data for last several years:
(amounts in ‘000 dollars)
Items 2018 2019 2020 2021 2022
Turnover 224,500 227,300 285,000 332,000 340,000
Operating Profit (EBIT) 15,000 16,000 36,700 57,200 58,000
Net Income 6,735 7,956 8,826 9,280 9,000
Net Operating Assets 205,000 223,000 245,000 275,000 295,000
Interest-bearing Debt 150,000 165,000 170,000 190,000 200,000

Additional information:

i) The company’s tax rate is 30%;

ii) Its weighted average cost of capital (WACC) is 12%;
iii) Terminal growth rate from 2022 and beyond is 3%;
iv) Number of shares outstanding on 31 December, 2018: 250,000.

Required: Calculate the following:

i) Estimated free cash flows for the company for the years 2019 to 2022;
ii) Estimated horizon value (HV) at the end of 2022;
iii) Present value of horizon value (PV of HV) at the beginning of 2019;
iv) Estimated value of operations at the beginning of 2019;
v) Estimated value of equity at the beginning of 2019; and
vi) Estimated value of 1 share of the company’s stock at the beginning of 2019.

(10 + 5 + 5 + 10 + 5 + 5 = 40 marks)

4 | Page
5 | Page
6 | Page
Question Two: Bond Valuation (10 + 5 = 15 marks)
Fiorentina Corporation just issued a 10-year 13% annual coupon bonds with a par value of
$1,000 for $1,170. [The bond’s face value is $1,000 while its issue price is $1,170].

Required:
(i) What is the bond’s yield-to-maturity?
(ii) What is the bond’s current yield?

Question Four: Cost of Capital 45 marks

The following table gives the current balance sheet for World Travellers Limited (WTL).

World Travellers Limited (millions of dollars)

Assets Amount Liabilities and Equity Amount

s s
Cash 10 Accounts payable 20
Accounts receivable 30 Accruals 20
Inventories 30 Short-term debt 15
Current assets $ 70 Current liabilities $ 55
Net fixed assets 60 Long-term debt 30
Preferred stock (50,000 shares) 15
Common equity
Common stock (3,800,000
shares) $ 10
Retained earnings 20
Total common equity 30
Total assets $ 130 Total liabilities and equity $ 130

The following facts also apply to WTL:

(1) The short-term debt carries an interest rate of 13%.
(2) The long-term debt carries a coupon rate of 7.6% with a face value of $1,000. The current
yield-to-maturity (YTM) on these bonds is 11.8%.
(3) WTL’s perpetual preferred stock has a $100 par value, pays an annual dividend of $8,
and their current market price is $80. New perpetual preferred stock with the same
dividend could be issued for $80 each but the company would incur a floatation cost of
3.8% on issue price to sell it.

7 | Page
 (4) The price per share of the company’s common stock is $20, i.e., P 0 = $20. The current
dividend per share on the company’s common stock is $1, i.e., D0 = $1, which is expected
to grow at an annual rate of 8% for an indefinite period.
(5) The stock has a beta of 1.6. The T-bill rate is 6%, and the return on the market portfolio is
estimated to be 11%.
(6) WTL is in the 21% corporate tax bracket.

Required: Compute the following:

(i) After-tax cost of short-term debt (KD S-T);

(ii) After-tax cost of long-term debt (KD L-T);
(iii) Cost of preferred stock (KP);
(iv) Cost of equity (KE) using Capital Asset Pricing Model (CAPM);
(v) Cost of equity (KE) using the Dividend Discount Model (DDM);
(vi) Weighted average cost of capital (WACC) using the CAPM-based KE.

(5 + 5 + 5 + 5 + 5 + 20 = 45 marks)

8 | Page
9 | Page
Question Five 19 marks

Srabonti Corporation is considering the following project:

Net initial outlay: $20,000

Cash inflows ($):
Year 1: 5,000
Year 2: 7,000
Year 3: 9,000
Year 4: 7,000

Salvage value at the end of the 4th year: $2,000

Cost of capital: 10%

Required: Calculate the project’s

(i) net present value (NPV) and

(ii) its modified internal rate of return (MIRR).
(7 + 12 = 19 marks)

10 | Page