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Business Finance Question Paper
Business Finance
Course:Bachelor Of Commerce In Accounting (Accounting)
Institution: Kabarak University question papers
Exam Year:2010
Page 1 of 5
KABARAK UNIVERSITY
UNIVERSITY EXAMINATIONS
2009/2010 ACADEMIC YEAR
FOR THE DEGREE OF BARCHEOR OF COMMERCE
COURSE CODE: BMIT 222
COURSE TITLE: BUSINESS FINANCE
STREAM: Y2S2 [MC]
DAY: WEDNESDAY
TIME: 5:30 – 8:30 P.M.
DATE: 10/02/2010
INSTRUCTIONS:
Answer questions ONE and any other THREE questions only.
2. ALL necessary workings must be carefully shown.
PLEASE TURNOVER
Page 2 of 5
QUESTION ONE (COMPULSORY)
a) Distinguish between each of the following sets of business finance terms:
(i) Leasing and Hire purchase (4 Marks)
(ii) Independent vs. mutually exclusive projects (3 Marks)
(i) Finance lease and operating lease (3 Marks)
(iv) Annuity vs. mixed stream cash flows (3 Marks)
b i) Explain the reasons that may drive a company to raise equity finance rather than debt finance
(6 marks)
ii) Briefly explain four sources of finance available to small and medium sized enterprises (SMEs)
for financing the acquisition of non-current assets (6 marks)
c) Briefly explain the factors considered whether a capital project should be abandoned. (6marks)
d) Janet is considering investing in a corporate bond with possible one-year returns distributed
as follows:
Returns 6% 9% 11% 13% 16%
Probability 0.15 0.20 0.30 0.20 0.15
Required:
(i) Determine the expected return and standard deviation of the above security. (6 Marks)
(ii) Suppose that Janet now wants to form a portfolio of Kshs. 1 Million, with Kshs.
400,000 invested in the above bond, denoted B. If the rest of the funds are invested
equally in the stocks K and C of two companies, determine the expected return of the
portfolio given the following information.
Security Expected Return %
K 10
C 12
(3Marks
(TOTAL: 40 Marks)
Page 3 of 5
QUESTION TWO
a) Write brief notes on payback period and profitability index methods of capital budgeting
(6marks)
b) The management of Biashara Ltd is in the process of evaluating alternative machine models,
Alpha and Beta for possible purchase in order to increase the company’s production level. The
following additional information is available;
1) Alpha costs Kshs 4,000,000 and will have a useful life of five years,
2) Beta costs Kshs 8,000,000 and will have a useful life of five years,
3) Both machines have no salvage value after their useful life
4) An investment is working capital amounting to Kshs 800,000 will have to be made at the
beginning of the first year of the machine’s life regardless of the model purchased.
5) The estimated pretax cash inflows for each of the machines are as shown below:
Year Machine
Alfa (Kshs) Beta (Kshs)
1 2,500,000 4,300,000
2 3,000,000 3,000,000
3 3,000,000 3,200,000
4 3,000,000 3,700,000
5 - 5,000,000
The cost of capital to the company is 12% and the corporation tax rate 30%.
Required:
Assess the suitability of the capital projects using the following methods:
i. Pay Back period, (4 marks)
ii. Net Present Value, and, (6 marks)
iii. Profitability Index Method (4 marks)
Page 4 of 5
(TOTAL: 20 Marks)
QUESTION THREE
(a) Identify and briefly explain five reasons why a company seeking to maximize the wealth of the its
shareholders may wish to take over another company (5 marks)
(a)a Using knowledge of agency theory, discuss how to resolve the potential conflicts arising
between shareholders and lenders (10 marks)
(a)b A company expects to pay dividends of sh 2 per share in the coming year. The dividends
are growing at a constant rate of 10% and this growth rate is expected to continue indefinitely.
The market price of the company’s equity shares is Sh.40 and floatation cost of 10% of the
market price is expected to be incurred.
Required:
i). Calculate the cost of internal equity (2marks)
ii). Calculate the cost of external equity (2marks)
iii) What are your observations in (a) above? (1mark)
[TOTAL: 20 Marks]
QUESTION FOUR
(a) Compare and contrast Net present value (NPV) and Internal rate of return (IRR) methods of
capital investment appraisal. (6 marks)
(b) The management of Tayari Ltd is considering which of the two mutually exclusive
Projects, A or B, should be undertaken by the company.
The probability distribution of the net present value for each of the projects is shown below:
Project A Project B
Net present value (NPV) Probability Net Present Value (NPV) Probability
Sh. Sh.
(2,000,000) 0.15 500,000 0.2
1,000,000 0.20 1,500,000 0.3
2,000,000 0.35 2,000,000 0.4
4,000,000 0.30 2,500,000 0.1
(i) Determine the expected net present value for each project. (4 Marks)
(ii) Compute the standard deviation of the net present value for each project. (6 Marks)
(iii) Using the coefficient of variation criterion, advice the management of Tayari Ltd on which
project to pursue (4 Marks)
(TOTAL: 20 Marks)
Page 5 of 5
QUESTION FIVE
a) In many countries including Kenya, the concept of corporate governance has gained
increasing prominence in recent times. Identify and briefly explain the reasons motivating
the increasing interest in corporate governance. (5marks)
b) Kabarak university has an investment capital of shs.1,000,000. The finance manager
wishes to invest in Two securities A and B in the following proportion: shs.200,000 in
security A and shs.800,000 in Security B.
The returns on these two securities depend on the state of the economy as shown below:-
State of economy Probability Returns on Returns on
Recovery Security A Security B
0.4 18% 24%
0.5 14% 22%
0.1 12% 21%
Required:
i) Compute the expected return and the risk of each stock. (6mks)
ii) Covariance and correlation coefficient between security A and security B. (4mks)
iii) Compute the expected portfolio return. (2mks)
iv) Compute the portfolio risk (3mks)
[TOTAL: 20 Marks]
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