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CPA Advanced Financial Management – April 2025 Past Paper & Answers

Unit: Advanced Financial Management

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Questions

Download CPA Advanced Financial Management April 2025 past paper with detailed answers and marking scheme. This paper is based on KASNEB examination standards and is ideal for revision and exam preparation.

Access the full paper online, download the PDF, or study offline. Each question includes step-by-step solutions to help you understand key concepts in Advanced Financial Management.

Other Advanced Financial Management Past Papers

1a
International financial management
​​Describe SIX roles of the World Trade Organisation (WTO) in the international financial system.
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1b
Advanced capital budgeting decision
​ ​​As the finance manager of Popo Ltd., the Board has approached you to evaluate the proposed acquisition of new machinery. The purchase price of the machinery is Sh.100 million. It will cost another Sh.20 million to modify it for special use. The machine will be sold after 5 years for Sh.40 million and it will require an increase in net operating working capital (NOWC) of Sh.8 million. 

Additional information: 
1. The purchase of the new machine will not have any effect on revenues but it is expected to save the company Sh.45 million per year before tax operating costs mainly labour. 2. The corporate tax rate is 30%. 
3. The company uses the straight line method of depreciation.
4. The project cost of capital is 12%. 

Required: 
(i) Using the net present value (NPV) method, evaluate whether the machinery should be purchased. 

(ii) Assume the Board suggests that you conduct a scenario analysis for this project because of the uncertainties of cost savings, salvage value and net operating working capital. After an extensive analysis, you come up with the following probabilities and the values for the scenario analysis:

Scenario
Probability
Before tax savings
  Salvage value 
Net operating working capital (NOWC)


Sh.“million” 
Sh.“million” 
Sh.“million” 
Worst case
0.30
36
32
6.4
Base case
0.40
45
40
8.0
Best case
0.30
54
48
9.6

Required: 
The project’s expected net present values (ENPV). 

(iii) Analyse THREE common pitfalls that could arise in estimating cash flows in capital budgeting.
 
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2a
Advanced financing decision
​​Discuss the following theories of capital structure: 
 
(i) Pecking order theory.  
 
(ii) Static trade off theory.
 
(iii) Agency effect theory.
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2b
Portfolio theory and analysis
​ ​​A financial manager has the following bond portfolio:

Bond
Price (Sh.)
Yield (%)
Par amount owed (Sh.“million”) 
Duration
A
120
10
4
3.86
B
85.50
10
5
8.05
C
130.50
10
3
9.17

The three bonds are option-free. 

Required: 
(i) The bond portfolio duration. 

(ii) Interpret the result obtained in (b) (i) above. 
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2c
​ ​​Solomon Wasike took a mortgage product to acquire a family house with the following characteristics: 

  1. Mortgage loan amount was Sh.10,000,000. 
  2. Annual interest rate is at 8% per annum. 
  3. The loan is for a one year term. 
  4. Solomon pays an extra Sh.200,000 per month. 
Required: 
(i) Calculate the monthly payment for a fixed mortgage of this type. 

(ii) Prepare the mortgage amortisation schedule for Solomon Wasike.
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3a
Financial risk management
​​Explain FOUR advantages of over-the-counter agreements in relation to the operations of the derivatives markets.
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3b
Corporate restructuring and re-organisation
​​In relation to corporate reorganisation and restructuring, examine SIX financial restructuring strategies available to a firm.
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3c
Mergers and acquisitions
​ ​​Huge Ltd. is considering acquisition of Tiny Ltd. through a share exchange arrangement. Under the terms of acquisition, Huge Ltd. will offer two of its ordinary shares in exchange for every three ordinary shares in Tiny Ltd. 

 The summarised financial information relating to the two companies for the year ended 31 December 2024 are as shown below:

Huge Ltd. 
Tiny Ltd. 
Profit after tax (Sh.)
225 million 
45 million 
Number of ordinary shares 
37.5 million
12 million
Earnings per share (Sh.) 
7.20
4.50
Market price per share (Sh.) 
93.60
40.50 
Price earnings (P/E) ratio 
13 times 
9.00 times 

  Required: 
 (i) The earnings per share (EPS) of the combined company after acquisition. 

(ii) Assume the price earnings ratio after acquisition falls to 12 times, determine the premium received by the shareholders of Tiny Ltd. (Use the combined company’s new share price). 

(iii) Assume that the price earnings (P/E) ratio after acquisition falls to 12 times, justify whether acquisition would be beneficial to the shareholders of Huge Ltd. 
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4a
Portfolio theory and analysis
​​Explain FOUR differences between “portfolio theory” and “arbitrage pricing theory”.
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4b
Portfolio theory and analysis
​ ​​The table below gives the end of year levels of the price of an ordinary share in Tausi Ltd. and a representative stock exchange index:

Year
Tausi Ltd. share price (Sh.) 
Stock Exchange Index
2019
75
752
2020
78
815.5
2021
81
875
2022
79
840
2023
85
900
2024
76.5
795

Additional information: 
1. The risk free rate is 5% per year. 
2. The expected return from equities is 8% per year. 

Required: 
(i) The beta coefficient of Tausi Ltd.’s ordinary shares. 

(ii) The required rate of return of Tausi Ltd.’s ordinary shares.

(iii) Assume that the expected rate of return of Tausi Ltd. is 10%. Establish whether Tausi Ltd. share is undervalued or overvalued. 

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4c
International financial management
​ ​​Hakika business solutions is a newly established firm based in Kenya and is a subsidiary of United Kingdom (UK) based company, Quick Solutions Ltd. The foreign country is Kenya while the home country is United Kingdom (UK). The projected cash flows in Ksh. from 2025 to 2029 are shown below:

Year
2025 
KSh.“000”
2026
KSh.“000”
2027
KSh.“000”
2028
KSh.“000”
2029
KSh.“000”
Cash inflows 
2,000
2,200
2,420
2,662
2,928
Less: Variable cash outflows 
(600)
(660)
(726)
(799)
(878)
Less: Fixed cash outflows 
(200)
(200)
(200)
(200)
(200)
Less: Depreciation
(1,000)
(1,000)
1,000
1,000
1,000
Cash flows before corporate tax 
200
340
494
663
850
Less: 33% corporate tax 
(66)
(112)
(163)
(219)
(280)
Add: Depreciation 
1,000
1,000
1,000
1,000
1,000
After tax corporate tax flows
1,134
1,228
1,331
1,444
1,569
Less: 10% withholding tax on dividend 
(113)
(123)
(133)
(144)
(157)
Net cash to be repatriated 
1,021
1,105
1,198
1,300
1,412

Additional information: 
1.
The exchange rate of KSh/GBP is KSh 170 to 1GBP. 
2.
The difference in the interest rates between Kenya shillings (KSh) and Great Britain Pound (GBP) is provided by the following formula: 

​\(\displaystyle F_t=S_0 \times \left[\frac{1 + \text{r}_d}{1+ \text{r}_{\text{f}}} \right]^t\)​

Where:
​\(F_t\)​ is the forward exchange rate at time “t”
​\(S_0\)​ is the spot exchange rate
​\(r_d\)​ is the nominal interest rate in domestic currency
​\(r_f\)​ is the nominal interest rate in foreign currency
3.
The expected interest rates for Kenya and United Kingdom are given as 6% and 4% respectively.
4.
Quick Solutions Ltd. spent Ksh 6 billion to set up the business in Kenya. A UK business conglomerate has agreed to buy the business for Ksh.10 billion in 5 years.
5.
The UK cost of capital is 15%.
  
Required: 
Compute the Net Present Value (NPV) of the project using home currency approach and comment on your findings.        
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5a
Advanced capital budgeting decision
​​Jawabu Ltd. is a 100% equity financed company. The company is considering undertaking a major diversification in the consumer electronics industry. Its current equity Beta is 1.2, while the average equity Beta (β) of electronics industry is 1.6. 
 
Gearing in the electronics industry averages 30% debt and 70% equity.  Corporate debt is considered risk free. 
 
Additional information:  
1. Expected return on the market is 25%. 
2. The risk-free rate of return is 10%. 
3. The corporation tax rate is 30% per annum. 
 
Required: 
Using suitable discount rate for the new investment, determine the weighted average cost of capital (WACC) assuming Jawabu Ltd. were to be financed in each of the following ways: 
 
(i) By 20% debt and 80% equity.
  
(ii) By 30% debt and 70% equity.
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5b
Advanced financing decision
​ ​ ​​Viruga Ltd. is an unlevered firm. The firm expects to generate earnings before interest and tax (EBIT) of Sh.20 million each year in perpetuity. The firm’s current market value is Sh.120 million and pays corporation tax at the rate of 30%. The management of the firm is considering the use of debt financing. The firm’s financial analyst has estimated that the present value of any future financial distress cost is Sh.80 million and that the probability of financial distress would increase with leverage according to the following schedule:

Value of debt 
Probability of financial distress
Pre-tax cost of debt (%)
Sh.“million” 
25
0.0000
7
50
0.0125
8
75
0.0250
9
100
0.0625
10
125
0.1250
11
150
0.3125
12
200
0.7500
13

Required: 
(i) The current cost of equity and weighted average cost of capital (WACC) of the firm. 

(ii) The firm’s optimal level of debt financing using the “Pure” Modigliani and Miller with corporate tax model.

(iii) The firm’s optimal level of debt financing using Modigliani and Miller with corporate taxes and financial distress. 

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