BWFF2043 CONFIDENTIAL

FINAL EXAMINATION
SECOND SEMESTER 2018/2019 SESSION
COURSE CODE/NAME : BWFF2043 ADVANCED FINANCIAL MANAGEMENT
DATE : 28 MAY 2019 (TUESDAY)
TIME : 2:30 P.M – 5:00 P.M (2 ½ HOURS)
VENUE : DTSO

INSTRUCTIONS:
1. This examination paper contains SIX (6) questions in FIFTEEN (15) printed
pages, excluding the cover page and appendices.
2. This examination paper also contains FIVE (5) printed pages of attachment.
3. Candidates are required to answer ALL questions in the space provided.
4. Candidates are NOT ALLOWED to take the examination question out of the
examination hall.
5. Candidates are bound by the UUM’s RULES AND PROCEDURES ON
ACADEMIC FRAUD.

MATRIC NO.:
(in words) (in numbers)

IDENTIFICATION CARD NO.:

LECTURER’S NAME: __________________________________

GROUP: TABLE NO.:

DO NOT OPEN THIS EXAMINATION PAPER

UNTIL INSTRUCTED

CONFIDENTIAL
 BWFF2043 ADVANCED FINANCIAL MANAGEMENT
SECOND SEMESTER 2018/2019 SESSION
MATRIC NO:____________________

QUESTION ONE (15 MARKS)

a) Compare and contrast TWO (2) characteristics of stock dividends and stock splits.
(2 marks)

b) Briefly define the following terms;

i) Declaration date
(1 mark)

ii) Ex dividend date

(1 mark)

c) B&B, Inc., is manufacturing various types of classic furniture. Currently, the operating
income of the company is about RM6 million. Meanwhile, the company has earnings
available for common stockholders of RM3 million and has 10,000,000 shares of
common stock outstanding at RM2.00 per share. B&B, Inc. is currently contemplating
the payment of RM0.25 per share in cash dividends. The company has a tax rate of 24 %.

i) Calculate the firm’s current earnings per share (EPS) and price/earnings (P/E) ratio.
(2 marks)

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 BWFF2043 ADVANCED FINANCIAL MANAGEMENT
SECOND SEMESTER 2018/2019 SESSION
MATRIC NO:____________________

ii) If the firm can repurchase stock at RM2.25 per share, how many shares can be
purchased under the proposed cash dividend payment?
(2 marks)

iii) How much will the EPS be after the proposed repurchase?
(2 marks)

d. Enoki’s common stock is selling for RM2 per share and this company is currently
growing at 5%. Its common stockholders’ equity is shown below.

Common Stock (RM1 par value; 60,000,000 shares) RM60,000,000

Capital contributed in excess of par value 10,000,000
Retained Earnings 65,000,000
Common stockholders’ equity 135,000,000

i) Show the impact of a 40% stock dividend.

(4 marks)

ii) Describe how the stock market would react to stock dividend.
(1 mark)

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 BWFF2043 ADVANCED FINANCIAL MANAGEMENT
SECOND SEMESTER 2018/2019 SESSION
MATRIC NO:____________________

QUESTION TWO (20 MARKS)

a) Marcus Corporation currently sells 150,000 units of products a year at a price of RM4.00
per unit. Its variable costs are approximately 30% of sales, and its fixed costs amount to
50% of revenues at its current output level. Although fixed costs are based on revenues at
the current output level, the cost level is fixed. What is Marcus' degree of operating
leverage in sales (RM)?
(5 marks)

b) Elephant Books sells paperback books for RM7 each. The variable cost per book is RM5.
At current annual sales of 200,000 books, the publisher is just breaking even. It is
estimated that if the authors' royalties are reduced, the variable cost per book will drop by
RM1. Assume authors’ royalties are reduced and sales remain constant; how much more
money can the publisher put into advertising (a fixed cost) and still break even?
(5 marks)

c) The Blue Boat Company currently has 2 million shares of common stock outstanding,
along with RM5 million in 10 % bonds. The firm is considering a RM10 million
expansion program which will be financed with either:

(1) all common stock at RM50 a share, or

(2) all bonds at a 12 % interest rate.

The tax rate is 28%.

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 BWFF2043 ADVANCED FINANCIAL MANAGEMENT
SECOND SEMESTER 2018/2019 SESSION
MATRIC NO:____________________

i) Find the EBIT indifference level associated with the two financing proposals.
(4 marks)

ii) Prove that the EPS will be the same regardless of the plan chosen at the EBIT
level found in part (i) above.
(4 marks)

iii) If the projected level of EBIT is RM20 million, which alternative will yield a
higher EPS?
(2 marks)

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 BWFF2043 ADVANCED FINANCIAL MANAGEMENT
SECOND SEMESTER 2018/2019 SESSION
MATRIC NO:____________________

QUESTION THREE (20 MARKS)

a) On the most basic level, if a firm’s weighted average cost of capital (WACC) is 15%,
what does this mean?
(2 marks)

b) How do you determine the appropriate cost of debt for a company?

(2 marks)

c) Explain how the use of internal equity rather than external equity affects the analysis of a
project.
(2 marks)

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 BWFF2043 ADVANCED FINANCIAL MANAGEMENT
SECOND SEMESTER 2018/2019 SESSION
MATRIC NO:____________________

d) Raneem Firm has determined its optimal capital structure, which is composed of the
following sources and target market value proportions:

Source of capital Total

market
proportion
Bonds The firm can sell a 20-year, RM1,000 par value, 9% 30%
bond for RM980. A flotation cost of 2% of the face
value would be required.
Preferred stock The firm has determined it can issue preferred stock at 5%
RM65 per share par value. The stock will pay an
RM8.00 annual dividend. The cost of issuing and
selling the stock is RM3 per share.

Common equity The firm's common stock is currently selling for RM40 65%
per share. The dividend expected to be paid at the end
of the coming year is RM5.07. Its dividend payments
have been growing at a constant rate for the last five
years. So far, the firm has paid five annual dividends
and the first dividend was RM3.45. It is expected that,
a new common stock issue will be underpriced by RM1
per share and the firm must pay RM1 per share in
flotation costs.

Additionally, the firm's marginal tax rate is 24%.

i) What is the firm's before-tax cost of debt?

(2 marks)

ii) What is the firm's after-tax cost of debt?

(1 mark)

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 BWFF2043 ADVANCED FINANCIAL MANAGEMENT
SECOND SEMESTER 2018/2019 SESSION
MATRIC NO:____________________

iii) What is the firm's cost of preferred stock?

(1 mark)

iv) What is the firm's cost of retained earnings?

(3 marks)

v) What is the cost of a new issue of common stock?

(2 marks)

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 BWFF2043 ADVANCED FINANCIAL MANAGEMENT
SECOND SEMESTER 2018/2019 SESSION
MATRIC NO:____________________

vi) What is the weighted average cost of capital up to the point when retained earnings
are exhausted?
(2 marks)

vii) What is the weighted average cost of capital after all retained earnings are
exhausted?
(2 marks)

viii) If the expected rate of return is 18%, should the firm accept the project? Explain
your answer.
(1 mark)

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 BWFF2043 ADVANCED FINANCIAL MANAGEMENT
SECOND SEMESTER 2018/2019 SESSION
MATRIC NO:____________________

QUESTION FOUR (10 MARKS)

a) Office Automation must choose between two copiers, the XX40 or the RH45. The XX40
costs less than the RH45, but its economic life is shorter. The costs and maintenance
expenses of these two copiers are given as follows:

Copier Year 0 Year 1 Year 2 Year 3 Year 4 Year 5

XX40 $700 $100 $100 $100 — —

RH45 $900 $110 $110 $110 $110 $110

All cash flows occur at year-end and the discount rate is 14 %. Assume that revenues are
the same regardless of the copier, and assume that whichever copier the company
chooses, it will continue to buy that model forever. Which copier should the company
choose? Ignore taxes and depreciation.
(6 marks)

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 BWFF2043 ADVANCED FINANCIAL MANAGEMENT
SECOND SEMESTER 2018/2019 SESSION
MATRIC NO:____________________

b) Explain why small companies prefer to use payback period method for capital budgeting
analysis.
(2 marks)

c) Explain ONE (1) advantage of internal rate of return (IRR) over net present value (NPV).
(2 marks)

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 BWFF2043 ADVANCED FINANCIAL MANAGEMENT
SECOND SEMESTER 2018/2019 SESSION
MATRIC NO:____________________

QUESTION FIVE (15 MARKS)

A widget manufacturer currently produces 200,000 units a year. It buys widget lids from an
outside supplier at a price of RM8 a lid. The plant manager believes that it would be cheaper
to make these lids rather than buy them. An unused building bought three years ago at a cost
of RM600,000 and being depreciated over a 10-year period has been identified as the
production site. Direct production costs are estimated to be only RM6.50 a lid. The necessary
machinery would cost RM800,000. This investment could be written off for tax purposes
using the simplified straight line method and it has no economic value at the end of its 10-
year life. The plant manager estimates that the operation would require additional working
capital of RM150,000. The company pays tax at a rate of 24 % and its opportunity cost of
capital is 15 %.

a) What is the initial outlay associated with this project?

(2 marks)

b) What are the annual operating cash flows of this project?

(5 marks)

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 BWFF2043 ADVANCED FINANCIAL MANAGEMENT
SECOND SEMESTER 2018/2019 SESSION
MATRIC NO:____________________

c) What is the terminal value of this project?

(1 mark)

d) Should the company accept this project? Why?

(5 marks)

e) If the tax rate is reduced, what will happen to the net present value of this project? Why?
(No calculation is required)
(2 marks)

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 BWFF2043 ADVANCED FINANCIAL MANAGEMENT
SECOND SEMESTER 2018/2019 SESSION
MATRIC NO:____________________

QUESTION SIX (20 MARKS)

a) What is an intrinsic value and explain how is the intrinsic value of any financial asset
being determined?
(3 marks)

b) Assuming all else is constant, between a 2-year bond and a 10-year bond, which bond is
more sensitive to the change in the market interest rate? Prove your answer.
(3 marks)

c) Given the opportunity to invest in one of two semi-annual bonds listed below, which
one would you purchase and why? Assume your required return of 10%.

Bond Face value Annual Coupon Maturity Market

Rate Price
Y RM1,000 8.5% 15 years RM900
Z RM1,000 9.5% 20 years RM900

(3 marks)

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 BWFF2043 ADVANCED FINANCIAL MANAGEMENT
SECOND SEMESTER 2018/2019 SESSION
MATRIC NO:____________________

d) Early 2019, Mr. Daud, the chief financial officer for Xlumber Corporation was given
the task to assess the impact of a proposed risky investment on the firm’s stock value.
To perform the necessary analysis, Daud gathered the following information on the
firm’s stock.

During the immediate past 5 years (2014-2018), the annual dividends paid on the firm’s
common stock were as follows:

Year Dividend per share

2018 RM1.91
2017 RM1.70
2016 RM1.55
2015 RM1.40
2014 RM1.30

The firm expects that without the proposed investment, the dividend in 2019 will grow
at an average historical growth rate, and this growth rate will continue into the future
for an unforeseeable period. Currently, the required return on the common stock is
14%.

Daud’s research indicates that if the proposed investment is undertaken, the 2019
dividend is expected to rise to RM2.15 per share and the annual rate of dividend growth
will increase to 13%. He feels that, the dividend would continue to grow at this rate
each year only until the end of 2022, and then, at the beginning of 2023, would return
to the rate that was experienced in 2014-2018. As a result of the increased risk
associated with the proposed risky investment, the required return on the common stock
is expected to increase by 2% to an annual return of 16%.

With all the information that Daud has gathered, he must now assess the impact of the
proposed risky investment on the market value of Xlumber’s common stock.

i) Find the current value per share of Xlumber Corporation’s common stock.

(3 marks)

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 BWFF2043 ADVANCED FINANCIAL MANAGEMENT
SECOND SEMESTER 2018/2019 SESSION
MATRIC NO:____________________

ii) Find the value of Xlumber’s common stock in the event that it undertakes the
proposed risky investment.
(5 marks)

iii) On the basis of your findings in part (ii), should the firm undertake the
investment?
(1 mark)

iv) Do the stockholders win or lose as a result of undertaking the proposed risky
investment? Why?

(2 marks)

END OF QUESTIONS

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APPENDIX 1

Vb = I (PVIFA i,n) + M(PVIF i,n) CY =

PMT
Vb

D
1 P1 D
Vcs = (1+k) + Vps =
(1+k) k

D
k = P1 + g
D0 (1+g) 1 D 0
Vcs = = (k−g)
(k−g)

kcs =krf +  (km – krf) I+ [

M− P0
]
YTM = n
M+ P0
[ ]
2

𝑀− 𝑁𝑃
𝐼+ [ ]
kd = 𝑛
𝑀+ 𝑁𝑃 𝐷
[
2
] kps = 𝑁𝑃

kcs =
𝐷1
+ 𝑔 WACC = (wd)(kd)(1- T) + (wps)(kps) + (wcs)(kcs)
𝑁𝑃

𝑁𝑃𝑉
EAA = 𝑃𝑉𝐼𝐹𝐴
g= ROE x retention ratio 𝑖,𝑛

𝑛 𝐹𝐶𝐹
𝐹𝐶𝐹 ∑𝑛𝑡=1
𝑁𝑃𝑉 = ∑ − 𝐼𝑂 (1 + 𝑘)𝑡
(1 + 𝑘)𝑡 𝑃𝐼 =
𝑡=1 𝐼𝑂
𝑛
𝐹𝐶𝐹
𝐼𝑂 = ∑ 𝑄 (𝑃 − 𝑉𝐶)
(1 + 𝐼𝑅𝑅)𝑡 𝐷𝑂𝐿 =
𝑡=1 𝑄 (𝑃 − 𝑉𝐶) − 𝐹𝐶

𝐸𝐵𝐼𝑇 𝐹𝐶 𝐹𝐶
𝐷𝐹𝐿 = 𝑄𝐵𝐸 = ; 𝑆𝐵𝐸 =
1 𝑃 − 𝑉𝐶 𝑉𝐶
𝐸𝐵𝐼𝑇 − 𝐼 − (𝑃𝐷 𝑋 1 − 𝑇) 1− 𝑆

𝐷𝐶𝐿 = 𝐷𝑂𝐿 𝑥 𝐷𝐹𝐿 (𝐸𝐵𝐼𝑇 − 𝐼)(1 − 𝑡) − 𝑃

𝑠

i
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ii
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iii
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iv
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