KASNEB Advanced Financial Management - Question 1b

Analyse FIVE differences between portfolio theory and capital asset pricing model (CAPM). ... [Click to view full question and step-by-step solution]

KASNEB Advanced Financial Management - Question 1c

Simon Kobia, an investor is evaluating six portfolios with the following characteristics: PortfolioExpected return of the portfolio (%)Standard deviati... [Click to view full question and step-by-step solution]

KASNEB Advanced Financial Management - Question 3b

The following information relates to an office complex: Sh.“000”Gross potential rental income1,050,000Insurance and taxes 78,000Utilities54,000Repairs and ... [Click to view full question and step-by-step solution]

KASNEB Advanced Financial Management - Question 4b

The statement of financial position of two companies, Aco Ltd. and Bero Ltd. as at 31 December 2022 are shown below: Aco Ltd. Sh.“000” Bero Ltd.Sh.“000” Or... [Click to view full question and step-by-step solution]

KASNEB Advanced Financial Management - Question 5a

Assess THREE indicators of an organisation restructuring. ... [Click to view full question and step-by-step solution]

KASNEB Advanced Financial Management - Question 5b

Mapato Ltd. has the following capital structure which it considers optimal:Debentures 25%Preference share capita15%Ordinary share capital 60%100% Addit... [Click to view full question and step-by-step solution]

August 2023

1a

International financial management

Over the years, the World Bank has evolved from a single institution to a group of five unique and collaborative institutions known collectively as the World Bank or the World Bank Group.

Required:

In relation to the above statement, describe FIVE functions of the World Bank.

1b

Portfolio theory and analysis

Analyse FIVE differences between portfolio theory and capital asset pricing model (CAPM).

1c

Portfolio theory and analysis

Simon Kobia, an investor is evaluating six portfolios with the following characteristics:

Portfolio	Expected return of the portfolio (%)	Standard deviation of the portfolio (%)
1	19	8
2	25	12
3	16	6
4	32	16
5	22.5	10
6	8	2

The expected return of the market portfolio is 12% with an accompanying standard deviation of 4% while the risk free rate of interest is 5%.

Required:

(i) Using capital market line (CML), advise the investor on which portfolio(s) is inefficient, efficient or superefficient.

(ii) In case of inefficient and superefficient portfolio(s) in (c) (i) above, compute the standard deviation that the portfolio should have for efficiency to be achieved with the given expected return.

2a

Mergers and acquisitions

Explain the following terms as used in mergers and acquisitions:

(i) Poison pill.

(ii) Staggered board of directors.

(iii) Golden parachutes.

2b

Advanced capital budgeting decision

Tobin Ltd. is appraising an investment project which has a cost of Sh.20 million payable in full at the start of the first year of operation. The project life is expected to be four years. Forecast sales, volumes, selling prices, variable costs and fixed costs are as follows:

Year	1	2	3	4
Sales (units per year)	300,000	410,000	525,000	220,000
Selling price per unit (Sh.)	125	130	140	120
Variable cost per unit (Sh.)	71	71	71	71
Annual fixed cost (Sh.“000”)	3,000	3,100	3,200	3,000

Additional information:

Selling price and cost information are in current price terms before applying selling price inflation of 5% per year, variable cost inflation of 3.5% per year and fixed cost inflation of 6% per year.
Tobin Ltd. pays annual corporation tax of 30%, with the tax liability being settled in the year in which it arises.
The company can claim tax allowable depreciation on the full initial investment of Sh.20 million on a 25% straight line basis.
The company’s investment project is expected to have zero residual value at the end of four years.
Tobin Ltd. has a nominal after tax cost of capital of 12% and a real after tax cost of capital of 8%.
The general rate of inflation is expected to be 3.7% per year for the foreseeable future.

Required:

The nominal net present value (NPV) of Tobin Ltd.’s investment project.

2c

International financial management

James Kamau had Ksh. 3,600,000 to invest and is considering the foreign exchange market (forex market). The following information relates to two forex bureaus:

	Forex Bureau X		Forex Bureau Y
	Bid/buy	Ask/sell	Bid/buy	Ask/sell
	Ksh	Ksh	Ksh	Ksh
Tsh. quote	0.8	0.9	0.10	0.11

The two forex bureaus are in the same location.

Required:

(i) Calculate the locational arbitrage gain for James Kamau with Ksh. 3,600,000 to invest, if any.

(ii) Explain the scenario that is necessary for locational arbitrage to exist.

3a

Contemporary issues and emerging trends

Discuss THREE challenges that organisations face while adopting blockchain technology in their operations.

3b

Real estate finance

The following information relates to an office complex:

	Sh.“000”
Gross potential rental income	1,050,000
Insurance and taxes	78,000
Utilities	54,000
Repairs and maintenance	69,000
Depreciation	120,000
Interest on proposed financing	54,000

Additional information:

1.	Vacancy and collection losses are estimated at 6%.
2.	Recently, two buildings have been sold in the same locality: The first building had a net operating income of Sh.1,500,000 and was sold for Sh.12 million. The second building had a net operating income of Sh.675,000 and was sold for Sh.4.8 million.

Required:

(i) The net operating income (NOI) for the office complex.

(ii) The appraised price of the office complex using the income approach.

3c

Financial risk management

You are provided with the following information on put and call options on a stock:

Call price, Co =Sh.6.64

Put price, Po = Sh.2.75

Exercise price, X = Sh.30

Days to option expiration = 219 days

Current stock price, So = Sh.33.19

Number of days in a year = 365 days

Risk free rate is 5%

Required:

Using put-call parity, calculate prices of the following:

(i) Synthetic call option.

(ii) Synthetic put option.

(iii) Synthetic bond.

4a

Financial risk management

Kobe Ltd. is about to replace its existing delivery vehicle with a new design of a vehicle that offers greater fuel economy. The company estimates that replacing the existing vehicle will save running costs of Sh.200,000 per year. There are two financing options available:

Option 1: Borrowing funds and purchasing the vehicle

The vehicle could be purchased for Sh.3,400,000 using a bank loan with an after tax cost of borrowing of 4% per year. The vehicle would have a useful life of four years and would have a residual value of Sh.1,400,000 at the end of that period. Straight line tax allowable depreciation is available on the vehicle. The vehicle would be subject to a special tax of Sh.60,000 at the end of each year of operation. The tax expenses are corporation tax deductible.

Option 2: Leasing the vehicle

The vehicle could be leased for a period of four years for a payment of Sh.600,000 per year, payable at the start of each year. The lessor will pay the special tax. Lease payments are a corporation tax deductible expense.

The firm after tax weighted average cost of capital is 8%. The company pays corporation tax at a rate of 30% one year in arrears.

Required:

(i) Advise Kobe Ltd. on whether it should lease or borrow to finance the new vehicle.

(ii) Examine THREE reasons other than possible after tax cost advantages why Kobe Ltd. may choose to lease rather than buy the new delivery vehicle.

4b

Mergers and acquisitions

The statement of financial position of two companies, Aco Ltd. and Bero Ltd. as at 31 December 2022 are shown below:

	Aco Ltd. Sh.“000”	Bero Ltd. Sh.“000”
Ordinary share capital (Sh.10 par value)	10,000	5,000
Preference share capital	2,000	-
Share premium account	-	200
Profit and loss account balance	3,800	400
10% debentures	1,500	500
	17,300	6,100
Non-current assets	12,200	3,500
Net current assets	5,100	2,600
	17,300	6,100

Additional information:

1.	Aco Ltd. is proposing to acquire Bero Ltd. by means of an issue of its own ordinary shares in exchange for the ordinary shares of Bero Ltd.
2.	The management of the two companies have availed the following information to assist in the takeover:

		Aco Ltd.	Bero Ltd.
	Maintainable annual profits after tax attributable to equity holders	Sh.2,400,000	Sh.1,500,000
	Current market price per ordinary share	Sh.24	Sh.27
	Current earnings per share (EPS)	Sh.2.4	Sh.3.0
3.	The corporation tax rate is 30%.

Required:

Using the following valuation basis and assuming no synergy effects accrue from the takeover, determine the total number of shares the directors of Aco Ltd. will have to offer to the shareholders of Bero Ltd:

(i) Net asset value basis.

(ii) Earnings per share basis.

(iii) Market value basis.

(iv) Present value of future earnings basis.

5a

Mergers and acquisitions

Assess THREE indicators of an organisation restructuring.

5b

Advanced capital budgeting decision

Mapato Ltd. has the following capital structure which it considers optimal:

Debentures	25%
Preference share capita	15%
Ordinary share capital	60%
	100%

Additional information:

1.	Mapato Ltd.’s expected profit after tax for the year ended 30 June 2023 was Sh.34,285,714. Mapato Ltd. has an established dividend pay-out ratio of 30%. The tax rate for the company is 30% and investors expect earnings and dividends to grow at a constant rate of 9% per annum in the future.
2.	The company paid a dividend of Sh.3.6 per share in the year ended 30 June 2023. The company’s shares currently sells at Sh.60 per share.

3.	The company can obtain new capital as follows:
	Ordinary shares:	New ordinary share capital can be issued at a floatation cost of 10%.
	Preference share capital:	New preference share capital can be issued to the public at Sh.100 per share. The floatation cost is Sh.5 per share and a dividend of Sh.11 per share.
	Debentures:	Debentures can be issued at an interest rate of 12% per annum.

4.	Assume that the cost of capital is constant beyond the retained earnings breakpoint.
5.	Mapato Ltd. has the following investment opportunities:

5.	Project	Cost (Sh.)	Internal rate of return (IRR)
	A	10,000,000	17.4%
	B	20,000,000	16.0%
	C	10,000,000	14.2%
	D	20,000,000	13.7%
	E	10,000,000	12.0%

Required:

(i) Calculate the break point in the marginal cost of capital (MCC) schedule.

(ii) Determine the cost of each capital structure component.

(iii) Calculate the weighted average cost of capital (WACC) in the intervals between the break points in the marginal cost of capital (MCC) schedule.

(iv) Using the marginal cost of capital schedule, identify the projects that the company should accept and why.

August 2023

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