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Corporate Finance Question Paper

Corporate Finance

Course:Master Of Business Administration

Institution: Kenyatta University question papers

Exam Year:2009

KENYATTA UNIVERSITY
UNIVERSITY EXAMINATIONS 2009/2010
FIRST SEMESTER EXAMINATION FOR THE DEGREE OF
MASTERS OF BUSINESS ADMINISTRATION

BAC 605: CORPORATE FINANCE

DATE: Wednesday
25th November 2009
TIME: 2.00pm – 5.00pm

INSTRUCTIONS:
DO ALL QUESTIONS -TOTAL 60MARKS
Question 1
a)
What are the dangers in accepting too uncritically the NAV shown in a company’s accounts? [3marks]
b)
What do you understand by the term “Agency problem” and what is its significance in finance theory? [3marks]
c)
Describe how the modified IRR is calculated, what advantages does the MIRR have over the IRR in assessing capital investment decisions. [4marks]

Question 2
a)
Explain the distinction between project risk, business risk, financial risk, and portfolio risk. [5marks]
b)
Home owners List is a developer of residential houses. It’s considering to design two types – a small two bedroomed house and a large four bedroomed executive residence. The project will take a number of years an its success depends largely on general economic conditions which influence the demand for houses. Some information is available on past sales patterns of similar properties in similar location -the demand for larger properties being relatively greater in good economic conditions and higher for smaller properties in a recession. Since these appears to be a degree of inverse correlation between demand and therefore net cash flows, from the two products, it seems sensible to consider diversified development. To what extent? What advise can you offer? The table below shows annual net cash flow estimates for various economic conditions.

State of Economy
Probability
Estimated case flow

Large houses Smalls houses

E1 0.2 200 200

E2 0.3 200 300

E3 0.4 400 200

E4 0.1 400 300
[10marks]

Question 3
a)
In terms of the market model, explain the significance of movements along the characteristics and variations around the line itself. [5marks]
b)
Global Ltd a Kenyan Company is considering expansion into Uganda. It is considering whether to invest directly in the country by building a factory. The expected pay off from the project would depend on the future state of the Ugandan economy, as shown below:
State of Economy

Probability
IRR from Project (%)
E1 0.1 10
E2 0.2 20
E3 0.5 10
E4 0.2 20
Global’s existing activities are expected to generate an overall return of 30% with a standard deviation of 14%. The correlation coefficient of Global’s returns with that of the new project is -0.36. Global’s returns have a correlation coefficient of 0.80 with the return on the market portfolio, while the new project has a correlation coefficient of -0.10 with the Ugandan market portfolio The BETA coefficient of Global is 1.20. The risk free late is 12%. The risk premium is 12%. The risk premium on the Kenyan market portfolio is 15%. Assume that Global’s shares are correctly priced by the market.

Required:
a)
Determine the expected rate of return and standard deviation of the return from the new project. [3marks]
b)
If the new project requires capital funding equal to 25% of the values of the existing assets of Global determine the risk-return characteristics of Global after the investments. [4marks]
c)
What effect will the adoption of the project have on the BETA Global Ltd.? [3marks]

Question 4
a)
How does factoring differ from discounting? [5marks]
b)
The stock exchange has estimated that the average cost of rights issues is 4% of the new capital raised, compared with 7: 6% for offers for sale. Discuss the benefits of the two methods of finance. Under what circumstances might the second more expensive option the advisable. [5marks]

Corporate Finance Question Paper

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