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Six factors to consider when making financing decisions
(i) Cost of raising finance: different sources finance has different costs. The objective is to raise funds at minimum cost.
(ii) Risk profile: Different sources have different risk profile. For example, equity is less risky compared to debt since it’s not a must to pay dividend. For debt, a company has an obligation to pay regular interest.
(iii) Control: where a business is family owned and they don’t want to dilute the control, debt is more suitable than equity. This is because debt does not lead to control, but equity does.
(iv) Purpose and period: a company may need to borrow funds for investment in long term assets or just for daily operations. This will determine whether the company will borrow short term or long-term funds, which will also have an impact on the cost of funds
(v) Tax benefits: using debt as a source of fund lead to tax savings because interest is tax
deductible. On the other hand, dividend is not deductible, and therefore, no tax
savings will arise.
(vi) Form and legal status of an organization. A business can either be a sole proprietorship, partnership or limited company. It’s easy for a limited company issue shares in the stock market to raise funds. Private companies, partnerships and sole traders cannot use the stock market to raise funds.
(vi) Financial strength and stability of operations: a business should not use debt where its financial strength is poor or business operations are not stable. This may lead to liquidation, if the company fails to repay its debt.
francis1897 answered the question on November 7, 2022 at 09:33
- Explain the following concepts of valuation of a security.
(i) Going concern value.
(ii) Liquidation value.
(iii) Intrinsic value. (Solved)
Explain the following concepts of valuation of a security.
(i) Going concern value.
(ii) Liquidation value.
(iii) Intrinsic value.
Date posted: November 7, 2022. Answers (1)
- Galaxy Ltd. are considering undertaking an expansion programme which is expected to cost sh.20 million. The expansion will be a diversification from their mainstream activities...(Solved)
Galaxy Ltd. are considering undertaking an expansion programme which is expected to cost sh.20 million. The expansion will be a diversification from their mainstream activities into the mining industry.
The firm’s capital structure which is considered optimal is given as follows:
Sh. "000
Equity capital 80,000
Long term debt 20,000
100,000
Additional information:
1. The firm will finance sh.6 million of additional funds from internal source.
2. New ordinary shares can be issued at a price of sh.50 each. A floatation cost of sh.5 per share will be incurred. The most recent dividend paid by the firm was sh.2. This is expected to grow at the rate of 5% each year in perpetuity.
3. New 8% irredeemable debentures can be issued at a market price of sh.110 each. The par value of each unit is sh.100. a floatation cost of 5% of the par value will be incurred.
4. Corporation tax rate applicable is 30%
Required:
(i) The cost of retained earnings.
(ii) The after-tax cost of 8% debentures.
(iii) The cost of ordinary shares.
(iv) The firm’s weighted marginal cost of capital.
Date posted: November 7, 2022. Answers (1)
- Fanuel Oketch is considering making equal annual payments into his savings account at the end of each year over a period of 5 years. He...(Solved)
Fanuel Oketch is considering making equal annual payments into his savings account at the end of each year over a period of 5 years. He expects to earn interest on the deposit at the rate of 6% per annum, compounded annually. Oketch is targeting to raise a cumulative sum of sh.3,000,000 after 5 years to finance an investment project.
The future value of an ordinary annuity in 5 years at the rate of 6% is 5.6371
Required:
The annual installment to be deposited into his account each year.
Date posted: November 7, 2022. Answers (1)
- Propose four challenges faced by small and medium sized enterprises (SMEs) in raising capital. (Solved)
Propose four challenges faced by small and medium sized enterprises (SMEs) in raising capital.
Date posted: November 7, 2022. Answers (1)
- Dynamic Plc intends to invest in project Y which is expected to generate the following cash flows:
Cash flows
Year ...(Solved)
Dynamic Plc intends to invest in project Y which is expected to generate the following cash flows:
Cash flows
Year Sh.
0 -100,000
1 20,000
2 30,000
3 40,000
4 50,000
5 30,000
Additional information:
1. The cost of capital is 12% per annum
2. The acceptable discounted payback period for Dynamic Plc is 3 years
Required:
Advise the management of Dynamic Plc on whether to invest in project Y using the following methods:
(i) Net present value (NPV).
(ii) Profitability index.
(iii) Discounted payback period.
Date posted: November 7, 2022. Answers (1)
- Explain three principles of Islamic finance.(Solved)
Explain three principles of Islamic finance.
Date posted: November 7, 2022. Answers (1)
- Differentiate between “riba” and “gharar” as used in Islamic finance. (Solved)
Differentiate between “riba” and “gharar” as used in Islamic finance.
Date posted: November 7, 2022. Answers (1)
- Whiteshell Ltd.’s capital structure is provided as follows:
...(Solved)
Whiteshell Ltd.’s capital structure is provided as follows:
Sh. "000"
Ordinary share capital 60,000
Reserves 20,000
10% debentures 25,000
8% preference share capital 15,000
120,000
Additional information:
1. The firm is expected to generate annual operating profits before interest and tax of sh.10,000,000 in perpetuity.
2. The firm has acceptable investment opportunities worth sh.2,000,000 to be financed in each year.
3. Corporation tax rate is 30%
Required:
(i) Total ordinary dividend payable in each year if the firm adopts residual dividend policy.
(ii) Total ordinary dividend payable in each year if the firm adopts 60% payout ratio policy.
Date posted: November 7, 2022. Answers (1)
- Peterson Chacha borrowed sh.5,000,000 from XYZ commercial bank at an interest of14% per annum. The loan is to be repaid in equal annual installments over...(Solved)
Peterson Chacha borrowed sh.5,000,000 from XYZ commercial bank at an interest of14% per annum. The loan is to be repaid in equal annual installments over a period of 4 years.
Interest on the loan is to be paid on a reducing balance basis.
Required:
Prepare a loan amortization schedule.
Date posted: November 7, 2022. Answers (1)
- Explain four remedial measures to agency conflict between shareholders and debenture holders. (Solved)
Explain four remedial measures to agency conflict between shareholders and debenture holders.
Date posted: November 7, 2022. Answers (1)
- The forecasted rate of return from investment in securities X and Y over the next 5 years are as follows:
...(Solved)
The forecasted rate of return from investment in securities X and Y over the next 5 years are as follows:
Forecasted returns (%)
Year Security X Security Y
2022 10 12
2023 12 8
2024 8 13
2025 15 11
2026 10 6
Required:
(i) The expected rate of return for security X and security Y.
(ii) The standard deviation of returns of security X and security Y.
(iii) The coefficient of variation of security X and security Y.
(iv) Interpret results in (c) (i) and (c) (ii) above.
Date posted: November 7, 2022. Answers (1)
- Propose three strategies a firm could use in management of cash in the context of working capital financing policies. (Solved)
Propose three strategies a firm could use in management of cash in the context of working capital financing policies.
Date posted: November 7, 2022. Answers (1)
- Explain the following forms of dividend:
(i) Stock dividend.
(ii) Scrip dividend.(Solved)
Explain the following forms of dividend:
(i) Stock dividend.
(ii) Scrip dividend.
Date posted: November 7, 2022. Answers (1)
- Zenkel Traders borrowed sh.10,000,000 at interest rate of 15% per annum from Pesa Bank. The loan is to be repaid in equal annual installments for...(Solved)
Zenkel Traders borrowed sh.10,000,000 at interest rate of 15% per annum from Pesa Bank. The loan is to be repaid in equal annual installments for the next six years.
Required:
Prepare a loan amortization schedule.
Date posted: November 1, 2022. Answers (1)
- Explain the following types of risk in relation to finance and investments.
(i) Political risk.
(ii) Technological risk.(Solved)
Explain the following types of risk in relation to finance and investments.
(i) Political risk.
(ii) Technological risk.
Date posted: November 1, 2022. Answers (1)
- Hazyl Ltd. applies the Baumol’s Model to control its cash balances. The firm’s annual cash requirements are estimated at sh.4,000,000. It incurs a cost of...(Solved)
Required:
(i) The optimal cash balance.
(ii) Assuming 360 days in a year, determine the cash conversion period.
(iii) The average cash balance.
Date posted: November 1, 2022. Answers (1)
- Identify four factors that might influence the working capital needs of a company.(Solved)
Identify four factors that might influence the working capital needs of a company.
Date posted: November 1, 2022. Answers (1)
- Delight Limited is considering its capital budgets for the year 2022. The following information relates to three mutually exclusive projects that the management is contemplating...(Solved)
Delight Limited is considering its capital budgets for the year 2022. The following information relates to three mutually exclusive projects that the management is contemplating to undertake.
Project Initial cash outflows Cash inflows
Sh. "000" Sh. "000"
Year 1 Year 2 Year 3
A (8,000) 2,000 4,000 6,000
B (10,000) 4,000 6,000 6,000
C (20,000) 8,000 12,000 10,000
Additional information:
1. The firm has a capital budget ceiling of sh.20 million.
2. The cost of capital for Delight Limited is 10% per annum.
Required:
Advise the management on the projects to undertake using each of the following investment appraisal techniques.
(i) Net present value.
(ii) Profitability Index.
Date posted: November 1, 2022. Answers (1)
- Explain four differences between “Islamic banking” and “Conventional banking”.(Solved)
Explain four differences between “Islamic banking” and “Conventional banking”.
Date posted: November 1, 2022. Answers (1)
- The following information relates to the forecasted returns of securities A and B and their probabilities during the financial year ending 30 April 2022.
Probability ...(Solved)
The following information relates to the forecasted returns of securities A and B and their probabilities during the financial year ending 30 April 2022.
Probability Forecasted returns
A (%) B (%)
0.15 10 8
0.20 12 10
0.10 8 7
0.15 15 12
0.25 14 10
0.15 9 8
Required:
(i) The expected return of security A and security B.
(ii) The standard deviation of security A and security B.
(iii) Advise a potential investor on the security to invest in using relative risk.
Date posted: November 1, 2022. Answers (1)