UNIVERSITY OF CAPE TOWN

DEPARTMENT OF FINANCE AND TAX

FINANCIAL MANAGEMENT (FTX2024S)

CLASS TEST 2 – 29th SEPTEMBER 2022

75 MARKS 100 MINUTES (PLUS 10 MINUTES READING TIME)

PLEASE READ THE FOLLOWING INSTRUCTIONS CAREFULLY

1. Please fill in the attendance slip and complete your personal details on the three answer books,
including your tutorial group number before the start of the test. No time is
allowed for this at the end of the test.

2. Cell phones must be switched off for the duration of the test and placed with your other
possessions out of sight underneath your chair.

3. Do not open this test paper until instructed to do so. You may not write anything on your test paper
or in your answer books before the start of the test or once you have been instructed to stop writing.

4. ANSWER EACH QUESTION IN A SEPARATE ANSWER BOOK. You are supplied with 3
answer books. You must write on both sides of the page. Please ensure that you submit all three
answer books at the end of the test.

5. All written answers must be written in black or blue ink, including workings.

6. No questions will be answered by invigilators during the test. Please make whatever assumptions
you deem appropriate and clearly state these in your answer.

7. Only non-programmable calculators are permitted for this test. The use of programmable
calculators during this test is strictly prohibited.

8. Reading time. During the 10 minutes reading time, you should not write anything in the answer
books. However, you may perform some calculations, and make notes (and/or make highlights) on
the question paper.

9. Answer ALL THREE questions in this paper.

Questions Topics Marks Estimated time
-------------- Reading Time --- 10 Minutes
Question 1 Working Capital Management 25 33 Minutes
Question 2 Basic Valuations 25 33 Minutes
Question 3 Cost of Capital 25 34 Minutes
75 110 Minutes

This test question paper consists of a total of 9 pages including this cover page, formula sheets, and two present
value interest factor tables.

Page 1 of 9
QUESTION 1 [25 MARKS : 33 MINUTES]

ANSWER THE TWO PARTS OF THIS QUESTION IN A SEPARATE ANSWER BOOK MARKED QUESTION 1

PART A – Working Capital Management (12 MARKS : 16 MINUTES)

Bieber Ltd, a producer of gift wrap paper had the following balances were extracted from the accounting
records for the year ended 30 June 2022:
Dr
R
Land and buildings at cost 6 000 000
Inventory 800 000
Trade receivables 1 750 000
Trade payables 2 250 000
Cost of sales expense 10 000 000

75% of the total net sales were on credit. The firm has consistently applied a gross profit mark-up on cost
of 50%.

Required:
1. Calculate Bieber Ltd’s Working capital cycle (Cash Conversion Cycle). (8 marks)

2. How would the following circumstances affect Bieber Ltd’s Operating cycle and Working capital cycle
(Cash conversion cycle)? Please indicate whether the circumstances below would increase, decrease,
or have no effect on the Operating cycle and Working capital cycle.
2.1 Inventory turnover increases. (2 marks)
2.2 Accounts receivable collection period decrease. (2 marks)

PART B – Working Capital Management (13 MARKS : 17 MINUTES)

The following information relates to Gugulethu Fabrics Limited a private company and has recently
complied with Black Economic Empowerment (BEE) regulation to level 4 status. The firm manufactures
linen products to the hospitality industry and most of their clients are small to medium enterprises such as
bed and breakfast establishments. A large percentage of their sales are on credit. They have recently
experienced some cash flow problems and are concerned that the situation might worsen if corrective
action is not taken. The credit manager, Ms Saar-Rah Chilwan has indicated that the solution would be to
change the credit policy. Ms Chilwan provides you with the following comparative details information of
the existing and proposed new working capital policies:

Old policy New policy

Discount and period 3/15 4/10
Net payment period 40 50
Debtors’ collection period 40 days 50 days
Total sales: R60m -
Credit sales R?m -
Cash sales is 20% of total sales R?m -
Percentage of credit customers who take up discount 35% of credit sales 65% of credit sales
Percentage of bad debts 2% 3%
(Of credit customers who do not take the discount)

Page 2 of 9
Additional information:
The credit manager estimates that the implementation of the new policy will result in R8 000 000 increase
in credit sales. The percentage split between credit and cash sales will remain the same. The firm has
consistently applied a gross profit mark up on cost of 25%, and the firm’s cost of capital is 14%.

Required:
Advise Ms Chilwan whether or not she should implement the new working capital policy. You are required
to present your answer in tabular format which will summarize the net effect on profit resulting from the
implementation of the new working capital policy. Please show all your workings. (13 marks)

END OF QUESTION 1 – USE A NEW BOOK FOR QUESTION 2

QUESTION 2 [25 MARKS : 33 MINUTES]

ANSWER THE TWO PARTS OF THIS QUESTION IN A SEPARATE ANSWER BOOK MARKED QUESTION 2

PART A – Basic Valuations (12 MARKS : 16 MINUTES)

1. A non-redeemable bond has a face value of R5 000 and pays a coupon rate of 15% per annum. The
current yield to maturity for similar bonds is 7%. How much will you pay for this bond? (2 marks)
2. Cookie Ltd issued a bond with a face value of R4 000, and it pays an annual coupon rate of 10%. It is
redeemable in 5 years’ time. Similar bonds have a market yield of 12%. Calculate the price that you will
pay for this bond. (3 marks)
3. Sweet Ltd has issued a bond with a face value of R1 000. This is a three-year bond that pays a coupon
of 6.10%. Coupon payments are made semi-annually. The yield to maturity is 5.8%.
3.1 How much will you be willing to pay for this bond? (3 marks)
3.2 Based on your calculations above, is this bond selling at premium, discount, or par? Motivate
your answer. (2 marks)
4. Candy Ltd issued a bond with a face value of R35 000 that pays annual coupon payments of R2 300.
The bond is redeemable in 3 years’ time. You have calculated the price of the bond and found it to be R
43 000. Is this a good investment? Motivate your answer. (2 marks)

PART B – Basic Valuations (13 MARKS : 17 MINUTES)

1. The redeemable preference shares of R25 000, pay a dividend of 10%, and the required rate of return
on similar preference shares is 12%. These shares are redeemable in full after 5 years. Calculate the
value of these preference shares. (3 marks)

2. Blueberry Ltd pays a constant dividend of R2.90 to perpetuity, and the company’s cost of equity as
measured by the CAPM is 9%. What should be the fair price of the company’s ordinary share?
(2 marks)

3. Delight Ltd expects to pay a dividend of R15 in the next period. The dividend has been increasing at a
7% annual rate and is expected to continue at this rate. Calculate the maximum price you are willing to
pay for this stock if your required rate of return is 14%. (2 marks)

4. Gateaux Ltd paid a dividend of R10 in the last period. The company has been experiencing cash flow
problems for some time, and the company’s dividends have been reduced each year by 3%. This trend
is expected to continue in the future. Calculate the price you are willing to pay for this share if your
required rate of return is 5%. (3 marks)

Page 3 of 9
5. Vanilla Ltd is expected to experience a mixed dividend pattern for two years of R5, and R7. After two
years, the dividends are expected to grow at a constant growth rate of 8% per year to infinite. The
required rate of return for the equity shares is 10%. Calculate the value of Vanilla Ltd’s share. (3 marks)

END OF QUESTION 2 – USE A NEW BOOK FOR QUESTION 3

QUESTION 3 [25 MARKS : 34 MINUTES]
Bauba Platinum Ltd is a JSE listed company that operates in the mining sector and has platinum and
chrome mines in South Africa. The company’s tax rate is 28% and has a target capital structure of 40%
debt capital, 20% preference shares capital, and 40% ordinary shares equity capital and seeks to maintain
this target whenever it raises new capital.
Because of the increasingly unreliable energy supply from Eskom, the board of Bauba Platinum Ltd is
considering investing in a renewable energy project that would supply electricity to its mines and sell any
surplus to Eskom. The project, which requires R500 million in funding, is expected to be undertaken during
the coming financial year ending 29 September 2023. To raise the funding for the project, the board is
considering the following sources.

Preference shares financing:

Bauba Platinum Ltd can sell the non-redeemable preference shares with a face value of R2 each and a
coupon rate of 12%, payable annually. Similar listed preference shares are currently yielding 8%. Selling
these preference shares will attract flotation costs of 15 cents per share.

Debt financing:
The company is considering raising debt finance as follows:
i. Raise R50 million from a bank loan with a fixed term of 6 years at an interest rate of 6% per year,
payable annually.
ii. Raise the balance of debt financing by issuing 30-year debentures at par with a coupon rate of 7%
per year, payable annually. Selling these debentures will attract flotation costs of 5%.

Ordinary shares financing:

During the current year ended 29 September 2022, the company generated earnings per share (EPS) of
R100, which represents a return on equity (ROE) of 10%. During the coming year ending 29 September
2023, the company’s EPS are expected to grow at a rate that is equal to its sustainable growth rate. It is
the company’s policy: (a) to distribute 20% of its earnings as dividends; and (b) to exhaust all the available
retained earnings, when financing viable projects, before issuing new ordinary shares. The issuing of new
ordinary shares will cost the company 11% (of the amount raised) in flotation costs.

The company has a total of 1 million ordinary shares in issue, which are trading at a price of R150 each.

Required:
1. Calculate the capital structure weights for the two components of debt financing and ordinary shares
equity financing to be used in the calculation of the weighted average cost of capital (WACC) for Bauba
Platinum Ltd. (8 marks)
2. Calculate the before-tax cost of each of the various components of capital to be used in the WACC
calculation. (12 marks)
3. Show the WACC calculation for Bauba Platinum Ltd. (5 marks)

END OF TEST QUESTION PAPER

Page 4 of 9
 Financial Management (FTX2024F/S)
Formula Sheet
 

FV = PV ( 1 + i/m)nm  PV = FV 
1
nm 
 (1 + i/m) 

 (1 + i/m )nm − 1 
FVA = I 
(
 1 − (1/(1 + i/m)nm ) 
PVA = I 
)
 
 i/m   i/m 

 APR m 
APR = (1 + EAR )1/m − 1 x m 
EAR =  1 +  −1
 m 

I  1 − ( 1/(1 + k d /2 )2n )   1  CF1 D1 FCF1

V =   + P
  P0 = P0 = P0 =
 (1 + k d /2 )  k−g
B 2 k d /2 2n
r−g WACC − g
 

n n

R i Rior E(Ri ) =  P Ri
R i or E(R i ) = i=1 i=1
n
n n

 (Ri − E(Ri ))2 Var σ 2 = PI (Ri − E(Ri ))2

Var σ 2 = i=1 i=1
(n - 1)
n n

 (R i − E(Ri ))2 Std Dev σ =  P (R

i=1
I i − E(R i ))2
Std Dev σ = i=1

(n - 1)
σ x-x
CV = Z =
R σ
e

 Ri − E(Ri )R j − E(R j ) σ = PI Ri − E(Ri )R j − E(R j )

n n

ij i=1
σ = i=1
ij (n − 1)
σ n

r =
ij RP =  X i x R i
ij σ x σ i=1
i j

σ p = w 2i σ 2i + w 2j σ 2j + 2w i w j ij σ p = w 2i σ 2i + w 2j σ 2j + 2wi w jrijσ iσ j

R s = R f + β(R m − R f ) n
β =  Xβ
p j j
j=1

Page 5 of 9
 Financial Management (FTX2024F/S)
Financial Ratio Formulae

1. Quick (or acid-test) ratio Current assets – inventory

Current liabilities

2. Current ratio Current assets

Current liabilities

3. Inventory turnover ratio Cost of sales expense

Inventories

4. Days inventory on hand (Days’ sales in inventories) Inventory x 365

Cost of sales expense

5. Accounts receivable days (Days’ sales outstanding) Trade accounts receivable x 365
Credit or total sales

6. Accounts receivable turnover ratio Credit or total sales

Trade accounts receivable

7. Accounts payable days (or payment period) Accounts payable x 365

Purchases (or Cost of sales)

8. Total asset turnover ratio Total revenue

Total assets

9. Total debt ratio Total debt x 100

Total assets

10. Debt-to-equity ratio Total debt x 100

Total equity

11. Equity multiplier Total assets

Total equity

12. Times interest earned ____EBIT_______

Interest expense

13. Gross profit margin Gross profit x 100

Sales

14. Operating profit margin EBIT x 100

Total revenue

15. Net profit margin Net profit after tax x 100

Total revenue

Page 6 of 9
 Financial Management (FTX2024F/S)
Financial Ratio Formulae - Continued

16. EBIT Return on assets (EBIT ROA) EBIT x 100

Total assets

17. Return on assets (ROA) Net profit after tax x 100

Total assets

18. Return on equity (ROE) Net profit after tax x 100

Total equity

19. Earnings per share (EPS) Profit after tax

No. of ordinary shares in issue

20. Price earnings (P/E) ratio Market price per share

Earnings per share (EPS)

21. Market value added Market CAP – (Total equity – NCI)

22. Market value added per share Market value added

Number of ordinary share in issue

23. Market-to-book ratio Market capitalization

(Total equity – NCI)

24. Dividend pay-out ratio Dividend per share (DPS)

Earnings per share

25. Retention (Plough-back) ratio EPS - DPS

EPS

26. Sustainable growth rate ROE x retention ratio

27. Cash coverage ratio EBITDA

Interest expense

Page 7 of 9
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