Hbc2206:Financial Management Question Paper
Hbc2206:Financial Management
Course:Bachelor Of Commerce
Institution: Meru University Of Science And Technology question papers
Exam Year:2013
QUESTION ONE – (20 MARKS)
Nchiru Limited produces and sells computers. The company has been in operations for a number of years and has an issued share capital of Shs.400,000 (per value Shs.0.50 per shares). To date, the company has purchased only one product. In the year ended 31st December 2009, it sold 30,000 units. The profit and loss account for the year ended 31st December 2009 were as follows:
Shs.”000” Shs.”000”
Sales 2,800
Less: Variable expenses (1,200)
Fixed expenses (600) (1,800)
Earnings before taxation 700
Less corporate taxes (210)
Profit after taxation 490
Dividends (190)
Retained profit for the year 300
2
Recently the company has been experiencing a number of problems and as a result, has decided to introduce a new highly automated production process is estimated to increase fixed costs by Shs.180,000 including depreciation but will reduce variable costs Shs.20 per unit. The new production process will be financed by the issue of Shs.1,500,000 debentures at an interest rate of 12%. If the new production process is introduced immediately, the directors believe that sales for the forthcoming year will not change. Stocks will remain at the current level throughout the coming year. The company’s shares currently sell at a P.E ratio of 15:1 and the current corporation tax rate is 30%.
Required:
a) Explain the term operating gearing and financial gearing. (5 marks) b) Calculate the change in EPS and in share price if the company introduced the new production process immediately. Explain any assumption you make. (12 marks) c) Calculate the critical ex-right share price if the company makes a right issue at an issue price of Shs.3.75 per share. (3 marks)
QUESTION TWO (18 MARKS)
a) Discuss the importance of working capital management to organization. (6 marks) b) i) Identify and explain any two agency problems in corporation and how they are resolved. ii) How are agency costs mitigates (8 marks) c) The management of Lowder limited has ascented that the firm will require Shs.5 million in cash for transaction impose during the coming financial Year. The interest rate on marketable securities is presently at 10% per Annum and is expected to remain constant over the next one year. The Cost of converting marketable securities to cash is Shs.100 per transaction. Using the Bahmol cash management model, determine the following: i) Optimal cash conversion size (1 mark) ii) Average cash balance (1 mark) iii) How often (in days) the firm should make conversion? (1 mark) iv) The total cost of marging the optimal cash balance. (1 mark)
3
QUESTION THREE (12 MARKS)
a) Write short notes on the following theories of dividends. i. Clientele (3 Marks) ii. MM’S theory (3 Marks) b) Discuss various factors influencing dividend policy of a firm. (6 Marks)
QUESTION FOUR (20 MARKS)
a) Make short notes on the following: i) Capital structure (2 marks) ii) Managerial decision of a firm. (4 marks) iii) Perperturity bond (2 marks) b) The directors of Akili Limited are trying to decide whether to obtain some additional finance from a loan or an overdraft. The following information is available: The interest on loan would be 12% per annum or 3% per quarter. The interest on overdraft would be 14% per annum or 3.5% per quarter Surplus cash can be invested at 10% per annum or 2.5% per quarter. The cash position over the next 12 months is anticipated as follows: Month Shs.”000” Month Shs.”000” October 20 April 50 November 20 May 50 December 20 June 50 January 30 July 20 February 30 August 20 March 30 September 20
The business has decided that it needs to arrange either a term loan (for one year) or extend the overdraft facility to cover the next twelve months anticipated cash shortfall. Required: Calculate which method of financing you think would be the most cost effective for the company over the relevant twelve months period. (12 marks)
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