Question Tag: Cost of Capital

Search 500 + past questions and counting.

  • Filter by Professional Bodies

  • Filter by Subject

  • Filter by Series

  • Filter by Topics

  • Filter by Levels

  • 20 Marks

FM – Nov 2016 – L3 – Q4 – International Financial Management

Evaluate a foreign investment decision for Gugi Plc, including cash flow, tax, and exchange rate considerations.

Gugi Plc. is a highly successful manufacturing company operating in Nigeria. In addition to sales within Nigeria, the company also exports to a foreign country (with currency F$) along the ECOWAS sub-region. The export sales generate annual net cash inflow of ₦50,000,000.

Gugi Plc. is now considering whether to establish a factory in the foreign country and stop export from Nigeria to the country. The project is expected to cost F$1 billion, including F$200 million for working capital.

A suitable existing factory has been located, and production could commence immediately. A payment of F$950 million would be required immediately, with the remainder payable at the end of year one. The following additional information is available:

Details Figures
Annual production and sales 110,000 units
Unit selling price F$5,000
Unit variable cost F$2,000
Unit royalty payable to Gugi Plc ₦300
Incremental annual cash fixed costs F$50 million

Assume that the above cash items will remain constant throughout the expected life of the project of 4 years. At the end of year 4, it is estimated that the net realizable value of the non-current assets will be F$1.40 billion.

It is the policy of the company to remit the maximum funds possible to the parent (i.e., Gugi Plc.) at the end of each year. Assume that there are no legal complications to prevent this.

If the new factory is set up and export to the foreign country is stopped, it is expected that new export markets of a similar worth in North Africa could replace the existing exports. Production in Nigeria is at full capacity, and there are no plans for further capacity expansion.

Tax on the company’s profits is at a rate of 40% in both countries, payable one year in arrears. A double taxation agreement exists between Nigeria and the foreign country, and no double taxation is expected to arise. No withholding tax is levied on royalties payable from the foreign country to Nigeria.

Tax-allowable “depreciation” is at a rate of 25% on a straight-line basis on all non-current assets.

The Directors of Gugi Plc. believe that the appropriate risk-adjusted cost of capital of the project is 13%.

Annual inflation rates in Nigeria and the foreign country are currently 5.6% and 10%, respectively. These rates are expected to remain constant in the foreseeable future. The current spot exchange rate is F$1.60 = ₦1. You may assume that the exchange rate reflects the purchasing power parity theorem.

Required:

(a) Evaluate the proposed investment from the viewpoint of Gugi Plc.
Notes:

  • Show all workings and calculations to the nearest million.
  • State all reasonable assumptions. (18 Marks)

(b) State two further information and analysis that might be useful in evaluating this project. (2 Marks)

Login or create a free account to see answers

Login
Register

Find Related Questions by Tags, levels, etc.

Report an error
Report an error

You're reporting an error for "FM – Nov 2016 – L3 – Q4 – International Financial Management"

  • 30 Marks

FM – Nov 2016 – L3 – Q1 – Investment Appraisal Techniques

Evaluate TP’s project considering current market values and assess the risk-adjusted cost of capital.

Tinko Plc (TP) repairs and maintains heavy-duty trucks, with workshops in Nigeria and several other African countries. TP is considering an expansion project in response to the government’s recent policy aimed at encouraging mechanized farming through the “Graduates Back To Land (GBTL)” program, which will likely increase demand for heavy-duty machinery.

Below are extracts from the most recent Statement of Financial Position of TP:

Item ₦’million
Share capital 200
Reserves 320
Non-current liabilities 760
Current liabilities 60
Total 1,340

TP’s Free Cash Flows to Equity (FCFE) is currently estimated at ₦153 million, and it is expected to grow at 2.5% per annum indefinitely. The equity shareholders require a return of 11%.

The non-current liabilities consist entirely of bonds redeemable in four years at par with a coupon rate of 5.4%. The debt is rated BB, and the credit spread on BB-rated debt is 80 basis points above the risk-free rate.

In light of the GBTL program, TP is contemplating entry into the mechanized farming support industry through a four-year project, recognizing that after four years, competition may intensify significantly.

The project requires an initial investment of ₦84 million and is expected to generate the following after-tax cash flows:

Additional Information:

  • Scenario Adjustments:
    • There is a 25% probability that the GBTL program will not grow as expected in the first year. If this occurs, the present value of the project’s cash flows over its four-year life will be 50% of the original estimates.
    • If the GBTL program grows as expected in the first year, there is still a 20% probability that growth will slow in subsequent years, reducing the present value of cash flows to 40% of the original estimates for those years.
  • Sale Option: Feedwell Limited (FL) has offered ₦100 million to buy the project from TP at the start of the second year. TP is evaluating if this option adds strategic value to the project.
  • Abako Plc, a comparable company, operates primarily in non-agricultural services, similar to TP, and has an equity beta of 1.6. Abako derives approximately 80% of its revenues from services outside agriculture, with an asset beta of 0.80. Abako’s capital structure consists of 80 million shares trading at ₦4.50 per share and debt of ₦340 million.
  • The debt is trading at ₦1,050 per ₦1,000 with a zero debt beta.
  • Risk-free rate: 4%; Market risk premium: 6%; Corporate tax rate: 20%.

Requirements: a. Calculate TP’s current total market value of:

  • i. Equity (3 Marks)
  • ii. Bonds (4 Marks) b. Determine the risk-adjusted cost of capital for the new project (to the nearest percent) (10 Marks) c. Estimate the value of the project:
  • i. Without factoring in the potential strategic value or synergy from the project (5 Marks)
  • ii. With FL’s offer, assuming it reflects the market’s view of the project’s value (5 Marks) d. Clearly state the assumptions made in your calculations (3 Marks)

Login or create a free account to see answers

Login
Register

Find Related Questions by Tags, levels, etc.

Report an error
Report an error

You're reporting an error for "FM – Nov 2016 – L3 – Q1 – Investment Appraisal Techniques"

  • 16 Marks

FM – May 2024 – L3 – SC – Q6 – Financial Distress and Bankruptcy

Discuss economic exposure in currency risk management and calculate impact of USD strengthening on Linko Plc’s market value.

(a) With respect to foreign currency risk management, explain economic exposure and discuss generally how a company can manage economic exposure. (8 Marks)

(b) Linko Plc is a UK-based company supplying medical equipment to the USA and Europe, while importing raw materials from the USA. It has net imports of 8 million dollars from the USA, which is expected to continue for the next six years. The company’s cost of capital is 10% per year. Assume cash flows occur at year-end and ignore taxation.

Required:
Assuming no change in the physical volume or dollar price of imports, estimate the impact on the expected market value of Linko Plc, if the market expects the dollar to strengthen by 4% per year against the pound. The current spot exchange rate (US$ per £1) is 1.9156 – 1.9210. (7 Marks)

Login or create a free account to see answers

Login
Register

Find Related Questions by Tags, levels, etc.

Report an error
Report an error

You're reporting an error for "FM – May 2024 – L3 – SC – Q6 – Financial Distress and Bankruptcy"

  • 15 Marks

FM – Nov 2018 – L3 – Q5 – Capital Budgeting under Uncertainty

Analyze whether replacing a machine after three or four years is more beneficial based on economic costs and tax implications.

Kuku Plc. had a need for a machine. After four years of purchase, the machine will no longer be capable of efficient working at the level of use by the company. The company typically replaces machines every four years. The production manager has noted that in the fourth year, the machine will require additional maintenance to maintain normal efficiency. This raises the question of whether the machine should be replaced after three years instead of four years, as per company practice.

Relevant information is as follows:

(i) A new machine will cost N240,000. If retained for four years, it will have zero scrap value at the end. If retained for three years, it will have an estimated disposal value of N30,000. The machine qualifies for capital allowance of 20% on a reducing balance basis each year, except in the last year. In the final year, if the disposal proceeds are less than the tax written-down value, the difference will be an additional tax relief.

The machine is assumed to be bought and disposed of on the last day of the company’s accounting year.

(ii) The company tax rate is 30%, payable on the last day of the relevant accounting year.

(iii) Maintenance costs are covered by the supplier in the first year. In the second and third years, maintenance costs average N30,000 annually. In the fourth year, they increase to N60,000. Maintenance costs are tax-allowable and payable on the first day of the accounting year.

(iv) The company’s cost of capital is 15%.

Required:

a. Prepare calculations to determine whether it is economically beneficial to replace the machine after three years or four years. (12 Marks)

b. Discuss two additional factors that could influence the company’s replacement decision, including any potential weaknesses in the decision criteria. (3 Marks)

Login or create a free account to see answers

Login
Register

Find Related Questions by Tags, levels, etc.

Report an error
Report an error

You're reporting an error for "FM – Nov 2018 – L3 – Q5 – Capital Budgeting under Uncertainty"

  • 20 Marks

FM – Nov 2022 – L3 – Q3 – Financing Decisions and Capital Markets

Evaluate the financing structure and calculate required return, WACC, and factors influencing beta.

Zakai (ZK) Plc is a listed company that owns and operates a large number of farms throughout the country. A variety of crops are grown.

Financing Structure:
The following is an extract from the statement of financial position of ZK Plc as at 30 September 2021:

The ordinary shares were quoted at ₦3 per share ex div on 30 September 2021. The beta of ZK Plc’s equity shares is 0.8; the annual yield on treasury bills is 5%, and financial markets expect an average annual return of 15% on the market index.

The market price per preference share was ₦0.90 ex div on 30 September 2021. Loan stock interest is paid annually in arrears and is allowable for tax at 30%. The loan stock was priced at ₦100.57 ex interest per ₦100 nominal on 30 September 2021. Loan stock is redeemable on 30 September 2022.

Assume that taxation is payable at the end of the year in which taxable profits arise.

A New Project:
Difficult trading conditions have caused ZK Plc to decide to convert a number of its farms into camping sites with effect from the 2022 holiday season. Providing the necessary facilities for campers will require major investment, and this will be financed by a new issue of loan stock. The returns on the new campsite business are likely to have a very low correlation with those of the existing farming business.

Required:

a. Using the capital asset pricing model, calculate the required rate of return on equity of ZK Plc as at 30 September 2021. Ignore any impact from the new campsite project. (3 Marks)

b. Briefly explain the implications of a beta of less than 1, such as that for ZK Plc. (2 Marks)

c. Calculate the weighted average cost of capital (WACC) of ZK Plc as at 30 September 2021 (use your calculation in answer to requirement (a) above for the cost of equity). Ignore any impact from the new campsite project. (10 Marks)

d. Without further calculations, identify and explain the factors that may change ZK Plc’s equity beta during the year ending 30 September 2022. (5 Marks)

(Total 20 Marks)

Login or create a free account to see answers

Login
Register

Find Related Questions by Tags, levels, etc.

Report an error
Report an error

You're reporting an error for "FM – Nov 2022 – L3 – Q3 – Financing Decisions and Capital Markets"

  • 20 Marks

FM – Nov 2022 – L3 – Q2 – Financing Decisions and Capital Markets

Evaluating financing options (rights issue vs convertible loans) for Balama Plc's expansion.

Balama Plc. (Balama) is a listed manufacturer of dairy products. In recent years, the company has experienced only a modest level of growth, but following the recent retirement of the chief executive, his replacement is keen to expand Balama’s operations.

The board of directors has recently agreed to support a proposal by the new chief executive that the company purchase new manufacturing equipment to enable it to expand its range of dairy products. The new equipment will cost N50 million, and the company is seeking to raise new finance to fund the expenditure in full. However, the board of directors is undecided as to how the new finance is to be raised. The directors are considering either a 1 for 5 rights issue at a price of N2.50 per share with a theoretical ex-rights price of N2.92 or a convertible loan of N50 million.

The loan will be secured against the company’s freehold land and buildings. The company’s share is presently quoted at a price of N3.00 per share.

Required:

a. Explain the terms ‘rights issue’ and ‘convertible loans’. (3 Marks)

b. Explain how the ‘theoretical ex-rights’ price of N2.92 is calculated and why the actual price might be different. Show your workings. (4 Marks)

c. Prepare a report for the board of directors that fully evaluates the two potential methods of financing the company’s expansion plans. (13 Marks)

(Total 20 Marks)

Login or create a free account to see answers

Login
Register

Find Related Questions by Tags, levels, etc.

Report an error
Report an error

You're reporting an error for "FM – Nov 2022 – L3 – Q2 – Financing Decisions and Capital Markets"

  • 15 Marks

PM – Nov 2024 – L2 – Q7b – Divisional Performance Measurement

Evaluating division performance using ROI and residual income methods with adjusted cost of capital.

Ngerige and Sons Limited has four operating divisions spread across four cities in Nigeria: Lagos, Kano, Gombe, and Enugu. These divisions are treated as investment centres for performance reporting purposes. The following information is available:

Particulars Lagos Kano Gombe Enugu
Divisional Investment (N) 10,000,000 4,000,000 3,000,000 7,000,000
Divisional Sales (N) 53,000,000 23,000,000 24,600,000 29,400,000
Divisional Variable Costs (N) 50,000,000 22,000,000 23,400,000 27,400,000
Specific Fixed Costs (N) 1,500,000 750,000 600,000 800,000

The company’s annual general fixed cost is N1,300,000, apportioned to divisions based on sales. The cost of capital for Ngerige and Sons Limited is 7.5%. Ignore taxation.

Required:

i. Evaluate the performance of the divisions using the following methods:

  • ROI method. (3 Marks)
  • Residual Income Method. (3 Marks)

ii. Re-evaluate the residual income situation for the company given an adjusted cost of capital of 10%. (3 Marks)

Login or create a free account to see answers

Login
Register

Find Related Questions by Tags, levels, etc.

Report an error
Report an error

You're reporting an error for "PM – Nov 2024 – L2 – Q7b – Divisional Performance Measurement"

  • 15 Marks

PM – May 2017 – L2 – SA – Q6 – Standard Costing and Variance Analysis

Advise on optimal replacement timing for AL Limited's machine based on cost-benefit analysis.

AL Limited, a manufacturing company based in Aba, produces a popular mortar coloring agent called Hadtone. Hadtone is packaged in five-litre cartons, sold at ₦300 each. Estimated maximum annual demand is 300,000 cartons, justifying one processing machine, replaced every three years though it has a four-year productive life.

  • Machine Details: Initial productive capacity aligns with maximum demand, decreasing by 15,000 units per annum. Maintenance costs in year one are ₦300,000, rising by ₦50,000 each subsequent year. Variable costs per carton (excluding maintenance) are ₦200.
  • Machine Depreciation: Straight-line method. Sale proceeds after one year are ₦8,000,000, reducing by ₦3,000,000 each following year.
  • Machine Cost Increase: Recent machine cost rise to ₦12,000,000 prompts reconsideration of replacement policy to optimize cash flow. Assume all costs/revenues except initial payment occur year-end; initial cost paid at purchase.

Requirements:

a. Calculate replacement frequency based on maximum capacity usage, including supporting calculations. Assume a 10% cost of capital. (12 Marks)

b. Itemize key assumptions made in the calculations. (3 Marks)

Login or create a free account to see answers

Login
Register

Find Related Questions by Tags, levels, etc.

Report an error
Report an error

You're reporting an error for "PM – May 2017 – L2 – SA – Q6 – Standard Costing and Variance Analysis"

  • 15 Marks

PM – May 2023 – L2 – SA – Q5 – Risk Assessment and Internal Control

Evaluate which project (A or B) the company should invest in, based on projected cash flows and cost of capital.

A company is considering whether or not to invest in any of the two projects where the initial cash investment would be ₦13,000,000 for Project A and ₦14,000,000 for Project B. The project would have a five-year life, and the estimated annual cash flows are as follows:

Project A

Year Cash inflows (₦) Cash outflows (₦)
1 6,000,000 3,000,000
2 8,000,000 4,000,000
3 10,000,000 4,000,000
4 9,000,000 3,000,000
5 6,000,000 3,000,000
Total 39,000,000 17,000,000

Project B

Year Cash inflows (₦) Cash outflows (₦)
1 10,000,000 5,000,000
2 9,000,000 4,000,000
3 8,000,000 3,000,000
4 8,000,000 3,000,000
5 4,000,000 2,000,000
Total 39,000,000 17,000,000

The company cost of capital is 10%.

The estimates of cash outflows are considered fairly reliable. However, the estimates of cash inflows are much more uncertain. Several factors could make the annual cash flows higher or lower than expected.

  • Factor 1: There is a 20% probability that government measures to control the industry will reduce annual cash inflows by 25%.
  • Factor 2: There is a 30% probability that another competitor will also enter the market; this would reduce the estimated cash inflows by 10%.
  • Factor 3: There is a 40% probability that demand will be stronger than expected. The company would not be able to supply more products to the market, but it would be able to sell at higher prices and cash inflows would be 5% higher than estimated.

Required:

a. Calculate the expected net present value of the two projects. (10 Marks)
b. Which of the projects will be more profitable? (5 Marks)

Login or create a free account to see answers

Login
Register

Find Related Questions by Tags, levels, etc.

Report an error
Report an error

You're reporting an error for "PM – May 2023 – L2 – SA – Q5 – Risk Assessment and Internal Control"

  • 15 Marks

PM – May 2024 – L2 – SC – Q5 – Divisional Performance Measurement

Calculation of transfer prices and performance appraisal in a holding company.

Zona Tango (ZT) plc is a holding company with four divisions, including Alba and Beta Divisions. Alba Division produces a component that it sells externally, and can also transfer to other divisions within the group.

Beta Division uses the components from Alba Division as a raw material for its final product. The division can also obtain the components from external suppliers. The components, when obtained from Alba Division, undergo further processing at a cost of ₦4.50 per unit before they are sold to the external market.

The Board of Directors, in order to implement a new Appraisal Review, has set up a performance scheme for the divisional managers. A performance target for the next financial year has been set, and the following budgeted information relating to the two divisions has been prepared:

Beta Division has asked Alba Division to quote a transfer price for units of the components.

Required:
a. Calculate the transfer price per unit which Alba Division should quote to Beta Division in order that its budgeted residual income target will be achieved. (3 Marks)
b. Calculate the selling price per unit which Beta Division should quote to the external market in order that its budgeted residual income target will be achieved, based on the transfer price quotation. State clearly your assumptions. (3 Marks)
c. Explain why the transfer price calculated in (a) may lead to sub-optimal decision-making from the point of view of ZT plc, taken as a whole. (5 Marks)
d. In what circumstances will a negotiated transfer price be used instead of a market-based price? (4 Marks)

Login or create a free account to see answers

Login
Register

Find Related Questions by Tags, levels, etc.

Report an error
Report an error

You're reporting an error for "PM – May 2024 – L2 – SC – Q5 – Divisional Performance Measurement"

  • 10 Marks

FM – May 2020 – L2 – Q3a – Simple interest and compound interest

Calculate the quarterly loan installment and prepare an amortization schedule for a loan with compound interest and equal quarterly payments.

Odapagyan Foods Ltd is borrowing GH¢500,000 to finance a project involving an expansion of its existing factory. It has obtained an offer from Sika Bank. The terms of the loan facility are as follows:

  • Annual interest rate: 22%
  • Duration: 2 years
  • Interest method: compound interest with quarterly compounding
  • Payment plan: equal installments at the end of each quarter

Required:

i) Compute the quarterly installment.
(3 marks)

ii) Prepare a loan amortization schedule to show the periodic interest charges, installment payments, principal payments, and balance of the loan at the end of each quarter.
(7 marks)

Login or create a free account to see answers

Login
Register

Find Related Questions by Tags, levels, etc.

Report an error
Report an error

You're reporting an error for "FM – May 2020 – L2 – Q3a – Simple interest and compound interest"

  • 20 Marks

FM – MAY 2016 – L2 – Q4 – Capital structure | Cost of capital

Discuss the reasons for pecking order in financing, factors influencing capital structure, and calculate the appropriate cost of capital for Pusher Mining Ltd’s new project.

a) The Directors of Moore Plastics Ltd have been deliberating on the company’s capital structure with a view to identifying an optimal financing mix. Opening the deliberation, the Board Chair remarked, “For the past 10 years, we have deployed a financing strategy of reinvesting as much profit as available. When profit is inadequate, we go for borrowing. New equity offers have been a last resort.”

Required:
i) Explain with THREE reasons why most managers tend to use financing strategies that follow the pecking order. (6 marks)
ii) Identify and explain TWO factors the directors of Moore Plastics Ltd should consider in redesigning the company’s capital structure. (4 marks)

b) Pusher Mining Ltd, a large listed company, operates five mineral concessions in Ghana and Ivory Coast. The company’s financial performance for the past five years has been impressive. The company’s recently published financial results indicate that it earned after-tax profit of GH¢250 million and paid dividends of GH¢50 million out of that profit.

Reserves at two of the five mineral concessions will be exhausted in two years’ time, and stakeholders fear this will adversely affect the company’s profitability. Nevertheless, the directors are aiming at maintaining the company’s dividend payment record. To achieve this, they want to pursue a new project in the oil industry to provide additional cash flows. Though the new project will be financed with existing equity and long-term debts, the directors are not sure what cost of capital to use in appraising the new project.

A summary of the company’s financial position before the new oil project follows:

Item GH¢m
Noncurrent assets 620
Current assets 425
Total assets 1,045
Equity
Stated capital 180
Income surplus 685
Shareholders’ fund 865
Liabilities
Current liabilities 20
Bank loans 40
Bonds 120
Total liabilities 180
Total equity and liabilities 1,045

Notes:

  1. Stated capital: Pusher has in issue 40 million ordinary shares of no par value, all of which are listed on the stock exchange. The current market value of the ordinary stock is GH¢5.5 per share. It is estimated that the market value of the ordinary stock will increase by 8% per annum. The equity beta is 1.25.
  2. Bank loans: These are fixed-rate loans from banks in Ghana. The after-tax cost of the loans is 14.5%.
  3. Bonds: These are 16% coupon bonds with a face value of GH¢100 each. The bonds are currently trading at GH¢98.1 each. In 10 years’ time, the bonds may be either converted into 10 ordinary shares or redeemed at face value at the choice of bondholders. Bondholders are assumed to be rational investors.

If the new oil project is implemented, Pusher Mining Ltd’s main competitor in the oil industry would be Cargo Oil Ltd. The estimated equity beta of the competitor is 1.80 and the market value of its equity stock is GH¢150 million. The long-term debt stock of the competitor is valued at GH¢100 million. The systematic risk of debt stocks is assumed to be zero. The risk-free return is 14% and the market return is 20%. The corporate tax rate is 25%.

Required:
Estimate the appropriate cost of capital Pusher Mining Ltd should use in appraising the new project in the oil industry. Show all relevant computations. (10 marks)

Login or create a free account to see answers

Login
Register

Find Related Questions by Tags, levels, etc.

Report an error
Report an error

You're reporting an error for "FM – MAY 2016 – L2 – Q4 – Capital structure | Cost of capital"

  • 10 Marks

FM – March 2023 – L2 – Q5a – Management of receivables and payables | Working Capital Management

Evaluate the net benefit or cost associated with the proposed change in Kanzo Food Stores Plc’s credit terms and recommend whether it should be adopted.

Kanzo Food Stores Plc (Kanzo) sells on credit terms of net 60 days. Kanzo’s new Chief Finance Officer (CFO) thinks that the company’s credit terms are too lengthy considering the industry average credit terms of net 45 days.

Kanzo’s annual credit sales revenue is GH¢500 million, and its receivables turnover days are 55 days. The CFO has proposed that the credit terms be revised to net 45 days. Although the tightening of the credit terms would cause annual sales revenue to drop by an estimated GH¢20 million, the CFO believes that the policy change would lower the receivables turnover days to 40 days, which would bring some savings on investment in accounts receivables.

Kanzo has a variable cost ratio of 65% and a cost of capital of 20%.

Required:
i) Compute the net benefit/cost associated with the proposed change in the credit terms and recommend whether the proposed change in the credit terms should be adopted. (10 marks)
ii) The CFO is considering investing funds that would be released from trade receivables in short-term marketable securities. Explain TWO (2) characteristics of marketable securities. (5 marks)

Login or create a free account to see answers

Login
Register

Find Related Questions by Tags, levels, etc.

Report an error
Report an error

You're reporting an error for "FM – March 2023 – L2 – Q5a – Management of receivables and payables | Working Capital Management"

  • 15 Marks

FM – April 2022 – L2 – Q5a – Management of receivables and payables

Evaluate the impact of a proposed change in credit policy on Poh-Poh Electronics Ltd’s profitability and recommend whether the policy should be implemented, along with advice on procedures for receivables collection.

Poh-Poh Electronics Ltd is a wholesale distributor of household electrical products of major electronic brands. The company currently sells on credit to all its customers. Although the credit term is net 20 days, the receivables turnover days have been 15 days. The company’s annual credit sales revenue is GH¢80 million, and its contribution margin ratio is 30%. Bad debt is 2% of sales revenue, and credit collection cost is GH¢50,000 per annum.

Management is considering extending the credit period to net 30 days. It is expected that the implementation of this proposal would attract new customers, and the annual revenue would increase by 20%. It is also expected that both the existing and the new customers will probably take the full 30 days credit. To mitigate the probable lengthening in the receivables turnover days, management proposes that the extension in the credit period be combined with the introduction of a cash discount policy of 2% on all payments made within the first 10 days of the credit period. It is expected that 30% of all customers will pay their accounts early to take the discount. Consequently, the receivables turnover days would increase to 24 days. While the bad debt will remain at 2% of sales revenue, the annual credit collection cost will increase to GH¢65,000.

The company’s cost of capital is 24%.

Required:
i) Evaluate the proposed change in the credit policy and recommend whether the proposed change should be implemented. (9 marks)
ii) Advise the management team on THREE (3) procedures for the collection of its receivables. (6 marks)

Login or create a free account to see answers

Login
Register

Find Related Questions by Tags, levels, etc.

Report an error
Report an error

You're reporting an error for "FM – April 2022 – L2 – Q5a – Management of receivables and payables"

  • 10 Marks

FM – April 2022 – L2 – Q1b – Capital structure

Calculate the capital structure of Boom Ltd and determine the earnings required to achieve a 25% return for equity holders.

Boom Ltd is into the provision of online conference call facilities which has become popular due to the rising trend in Covid-19 cases in Ghana. The company has 10 million issued shares currently at GH¢50 each, 3 million preference shares trading at GH¢25 each, and 5,000 bonds also trading at GH¢600 each.

Required:
i) Calculate the Capital Structure of the Company. (4 marks)
ii) How much should the company earn annually to achieve a return of 25% per annum on capital employed for equity holders if the dividend rate on preference shares per annum is 20% and the coupon on the bonds is 18%? In Ghana, interest paid on debt is tax deductible and corporate tax is at 25%. (6 marks)

Login or create a free account to see answers

Login
Register

Find Related Questions by Tags, levels, etc.

Report an error
Report an error

You're reporting an error for "FM – April 2022 – L2 – Q1b – Capital structure"

  • 25 Marks

FM – NOV 2018 – L2 – Q2 – Islamic Finance | Sources of finance: equity

Covers Islamic finance focusing on Riba, rights issue calculations and determining the cost of capital for projects.

a) Islamic financing is an emerging model of financing in the global financial markets.

Required:

i) Explain the term Riba in Islamic Finance.
(2 marks)

ii) Explain the THREE (3) perspectives from which Riba can be viewed as forbidden or unacceptable in Islamic Finance.
(3 marks)

b) The Board of Directors of Continental Bank Ghana Ltd (CBGL) decided through a Board resolution to raise additional capital through rights issue to meet the new capital requirement by Bank of Ghana. CBGL plans to issue 1 new share for every 3 shares held by existing shareholders at 10% discount to its existing market price. CBGL currently has 6 million shares in issue at a book value of 2 cedis per share. CBGL maintains a dividend payout ratio of 50% and earnings per share currently is 1.6 cedis. Dividend growth is 5% per annum and this is expected into the foreseeable future. CBGL’s cost of equity is 15%. The issue cost is 600,000 cedis.

Required:

i) Calculate the market price per share.
(2 marks)

ii) Calculate the capitalization of CBGL.
(2 marks)

iii) Calculate the rights issue price.
(2 marks)

iv) Calculate the theoretical ex-right price.
(2 marks)

v) Calculate the market capitalization after the rights issue.
(2 marks)

c) KAF is a manufacturer of consumer electronics based in Accra, Ghana. KAF finances its investments with a combination of equity and debt. Its equity capital comprises 10 million shares which are currently trading on the stock exchange at GH¢2.55 per share. Its equity beta is 2.1 currently. The return on the risk-free security is 12.5% while the equity risk premium is 10%.

Included in KAF’s debt stock are irredeemable bonds that have a total face value of GH¢10 million while their total market value is GH¢12 million. The annual coupon of the irredeemable bonds is 18% but is paid semiannually.

The directors of the company are considering two new investment opportunities, which are described below:

  • Project 1: This is an expansion project in the consumer electronics manufacturing industry. It involves the setting up of a new factory in the northern part of Ghana. KAF would finance it with existing capital.
  • Project 2: This involves the installation of a new factory to manufacture furniture for export to foreign markets. Although this investment is a completely new line of business, KAF plans to finance it with existing capital. The average equity beta for the furniture manufacturing industry is 1.52 and the average industry capital structure is 60% equity and 40% debt.

It is expected that KAF’s tax rate will remain at 22%.

Required:

i) Compute the cost of capital that should be used as a discount rate for appraising Project 1.
(5 marks)

ii) Compute the cost of capital that should be used as a discount rate for appraising Project 2.
(5 marks)

Login or create a free account to see answers

Login
Register

Find Related Questions by Tags, levels, etc.

Report an error
Report an error

You're reporting an error for "FM – NOV 2018 – L2 – Q2 – Islamic Finance | Sources of finance: equity"

Elevate your professional expertise across key business domains with our comprehensive training programs

Our offerings

Contact Info

  • +233203701923
    +233543919232
  • info@nbcinstitute.com

Customer

Get In Touch

Follow us on our social media and get daily updates.

Facebook-f Twitter Linkedin-in Envelope
error: Content is protected !!
Oops!

This feature is only available in selected plans.

Click here to view all plans

Click on the login button below to login if you’re already subscribed to a plan or click on the upgrade button below to upgrade your current plan.

Login
Upgrade Plan

If you’re not subscribed to a plan, click on the button below to choose a plan

Subscribe to a plan