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Bmit 222: Business Finance Semester 2 Question Paper
Bmit 222: Business Finance Semester 2
Course:Bachelor Of Commerce
Institution: Kabarak University question papers
Exam Year:2009
KABARAK UNIVERSITY EXAMINATIONS
2008/2009 ACADEMIC YEAR
FOR THE DEGREE OF BACHELOR OF BUSINESS
MANAGEMENT & INFORMATION TECHNOLOGY
COURSE CODE: BMIT 222
COURSE TITLE: BUSINESS FINANCE
STREAM: Y2S2
DAY: WEDNESDAY
TIME: 2.00 – 5.00 P.M.
DATE: 18/3/2009
INSTRUCTIONS:
- Attempt ALL questions.
QUESTION ONE
(a) Write brief explanatory notes on each of the following concepts as used in corporate finance.
(i) Systematic risks (1 ½ Marks)
(ii) Capital structure (1 ½ Marks)
(iii) Agency costs (2 Marks)
(iv) Cost of external equity (2 Marks)
(b ) Kabu Ltd Finance Manager is considering buying stocks X and Y being sold in Nairobi Stock
Exchange.
The stocks have the following distribution of returns:
State of Economy Probability Stock X Stock Y
(%) (%)
A 0.1 -8 14
B 0.2 10 -4
C 0.4 8 6
D 0.2 5 15
E 0.1 -4 20
Required:
(i) Calculate the expected returns and risks of each stock. (5 Marks)
(ii) Calculate the covariance and correlation coefficient between the two stocks. (4 Marks)
(iii) What is the expected returns and risk of a portfolio with equal weights
in each asset? (4 Marks)
QUESTION TWO
(a) (i) Define the term “sensitivity analysis” in the context of capital investment appraisal. (2 Marks)
(ii) Explain how sensitivity analysis can be used in appraising risky capital investments (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 (2 Marks)
QUESTION THREE
(a) (i) What is the objective of capital structure management? (2 Marks)
(ii) Identify and briefly explain four factors that need to be considered in
making capital structure decisions. (4 Marks)
(b) Compare and contrast the internal rate of return (IRR) and Net present value
methods of investment appraisal. (6 Marks)
The following details relate to a capital project:
Project Cost Sh. 65,000,000
Annual Cash flows (after tax) Sh. 21,000,000
Economic Life 5 Years
The required rate of return is 12%
Required:
Assess the suitability of the capital project using the following methods:
(i) Net Present value. (3 Marks)
(ii) Profitability index (PI). (2 Marks)
(iii) Internal Rate of Return (IRR). (3 Marks)
QUESTION FOUR
(a) Explain the role of the financial manager in a modern corporate setting and environment. (5 Marks)
(c) Huge limited is contemplating a complete share acquisition of Tiny Ltd. Huge Ltd is offering three
of its shares for every two shares of Tiny Ltd. The data relating to the two companies are shown
below.
Huge Ltd Tiny Ltd
Sh. Sh.
Earnings to ordinary
shareholders before Tax
5,200,000 2,400,000
Earnings per share (EPS) 15.00 30.00
Market Price per share 200 300
The corporate tax rate is 30%
Required:
(a) Highlight the advantages of growth by acquisition. (5 Marks)
(b) Compute the post acquisition EPS of the two companies. (5 Marks)
(c) What alternative forms of payment are available in a bid? (3 Marks)
(d) Given that the growth rate of Huge Ltd is 8%, while that of Tiny Ltd is 12%,
compute the combined growth rate of the two companies. (2 Marks)
QUESTION FIVE
(a) (i) Distinguish between systematic risk and unsystematic risk.
Illustrate with the help of a diagram. (4 Marks)
(ii) A financial analyst has provided you with the following data relating to Merica Hotel Ltd’s
returns and market returns for five years from 2004 to 2008.
Year Return on Return on the
Merica Hotel Ltd Market
2004 18% 20%
2005 16 14
2006 10 12
2007 6 10
2008 8 11
Required:
(i) Determine the beta coefficient of Merica Hotel Ltd. Interpret your answer. (6 Marks)
(ii) Determine the required rate of return on Merica Hotel Ltd’s shares. (4 Marks)
(b) Highlight the forces or mechanisms, which might serve to reduce potential conflicts between
shareholders and corporate lenders. (6 Marks)
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