CULTY OF

MMERCE &
NAGEMENT
UDIES
MBA KELANIYA
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University of Kelaniya, Sri Lanka,

Master of Business Administration Degree Examination

UNIVERSITY OF KELANIYA
Faculty of Commerce and Management Studies
201612017 Academic Year - Year I - First Semester
Corporate Finance - MB A 52093 (R)

Saturday zl't April 20 18

No of pages 06

Instructions to candidates

1. Do NOT open this paper until instructed by the supervisor.

2. You must NOT write in your answer booklet until

instructed by the supervisor.

3. Time allowed Three hours (03).

4. Number of questions seven (07).

-
5. Answer any five (05) questions. Write answering sequence
in the first page.

6. Begin each answer on a separate page in the answer

booklet. Submit all workings.

Page 1 of 6
Question 0l
a) Distinguish between Finance and Financial Management

(06 Marks)
b) What are the major functions of the financial manager?

(04 Marks)
c) Briefly explain goal of the Financial Management
(04 Marks)
d) If a firm attempts to maximize its stock price, is this good or bad for society? Comment.
(04 Marks)
e) State how agency problems arise in a listed company

(02 Marks)

(Total20 Marks)

Question 02
a) Clearly distinguish between systematic and unsystematic risk by providing two examples
for each type ofrisks.
(06 Marks)
b) Stock A and B have the following probability distributions of possible future returns.

Probability A return (%) B returu(%)

0.1 (I s) (20)
0.2 0 10

0.4 5 20

0.2 10 30

0.1 25 50

(i) Calculate the expected rate of return for stock A and B

(iD Calculate the standard deviation of expected return for stock A and B

(iii) Which company do you recommend for an investment

(10 Marks)

Page 2 of 6
c) Assume that risk-free rate of retum is 8 percent, the required rate of return on the market
is 13 percent, and stock XYZ has a beta coefficient of 1.5.
(i) What is stock XYZ's required rate of return?
(ii) What is the stock XYZ's required rate of return if the beta increases to 2?
(04 Marks)

(Totalz0 Marks)

Question 03
a) Payback method may accept a project with negative NPV but discounted payback prevents
you from accepting a project with negative NPV. Do you agree? Illustrate your answer.

(05 Marks)
b) XY Ltd purchased a special machine one year ago at a cost of Rs. 12,000,000. At that time
the machine was estimated to have a useful life of 6 years and no salvage value. The annual

cash operating cost is approximately Rs. 20,000,000. A new machine has just come on the

market which will do the same job but with an annual cash operating cost of only Rs.
17,000,000. this new machine costs Rs. 21,000,000 and has an estimated life of five years
with zero salvage value. The old machine can be sold for Rs. 10,000,000 to a scrap dealer.
Straight-line depreciation is used, and the company's income tax rate is 40 percent.
Assuming a cost of capital of 8 percent after tax, calculate:
(i) the initial investment
(ii) the incremental cash flow after taxes
(iii) the NPV of the new investment
(iv) the IRR on the new investment
(v) Give your recommendation to XY Ltd
(15 Marks)

(TotalzD Marks)

Question 04
a) Mr. Silva has obtained a bank loan amounting to Rs. 1,000,000 which is payable over 5

years in monthly installments. If the bank charges 12% interest per annum,
(i) Calculate the monthly installment

Page 3 of 5
 (ii) Prepare the loan amortization schedule for first 5 months

(l0Marks)
b) A firm gets a cash flow of Rs 2 mn at the end of every j,ear for an infinite period. If the
required return of the company is 10%, what is the value of those cash flows today?

(05 Marks)
c) Suppose you are planning to buy a house worth Rs. 4,500,000 in 5 years. For this purpose,

you decided to deposit an equal amount at the end of each month in a bank account. If the
bank pays an annual interest of l2Yo, how much you should deposit at the end of each
month?

(05 Marks)

(Total20 Marks)

Question 05
a) What is a derivative instrument and how they are important?

(05 Marks)
b) "Ceylon Petroleum Corporation (CPC) made oil price hedging deals with several banks in
2007. The instrument that they used for these transactions are zero cost collar hedging
instrument". Explain the "zero cost collar hedging instrument.
(05 Marks)
c) Anish is bearish about the market and spot price Nifty Stands at Rs. 1250. He decides to
buy one three month Nifty put option contract with a strike price of Rs. 1245 ata premium
of Rs. 15. Three months later the index closes at Rs. 1225.What is his pay off position?
(03 Marks)
d) Assume that Mr. X holds 1000 shares of HLL. He plans to sell the shares three months
later as he would need the money to get his daughter married. Today HLL trades atRs.232

in the spot market. Mr. X worried about a fall in price of Hl,I,three months later, when he

would actually need the money. He could of course sell the shares today and get Rs. 232
for them, however he does not want to lose on the possibility of an increase in share price
three months later. How can he ensure that he gets profits from a price increase but does

not suffer losses from a price decrease?

(07 Marks)

(Total20 Marks)
Page 4 of 6
Question 07
a) Foreign exchange rate of two currencies is the rate at which one currency will be exchanged

for another. Which is in essence relative value of currencies and Sri Lanka recently
experienced depreciation of local currency. What are the factor which affect depreciation

of currency value?
(05 Marks)

b) Forward Rate Agreements (FRA) are used by importers/exporters in fixing exchange rates.
Suppose an importer is having USD 1 million obligation after nine months. Current
LKR/USD rate is 157. Expected inflation in Sri Lanka during next year is forecasted to be
tr2Yo and that of USA is expected tobe 4Yo.

(D Calculate the USD/LKR exchange rate the importer agree in FRA.

(03 Marks)
(iD If actual exchange rate is 150 on LKR/USD basis, has the importer benefited in this

ageement?
(02 Marks)

c) Mr. Susantha is a marketing execute in Consumer Products PLC (CPL). Being young
executive he saved part of his salary and invest in equity market. He started investing in
the Colombo Stock Exchange in 2010.

Even though some research reports did not recommend buying CPL shares ,large part of
his investments are in CPL. Surangawas one among group of friends who subscribed every

initial public offering until the market started crashing. However, he was confident that he
made the right decision claiming it is short-term situation in the market. By end of 2011,
Susantha had lost 80% of his investments.

(i) Explain two cognitive errors demonstrated by Mr. Susantha.

(05 Marks)
(iD "Emotional Biases can be mitigated, however Cognitive Errors can't be avoided"
Do you agree with this statement. Justify your answer.
(05 Marks)

(Total20 Marks)

Page 5 of 6
Question 06
a) Merging and acquisition is a value creation process that happens in an economy. List five
benefits of mergers and acquisitions.

(05 Marks)
b) Company B is to acquire company Q. Company B has market capitalization ofRs 10 billion
and that of company Q is Rs 2 billion. Share price of company B is Rs 50. Board of
directors of the company B believe it is fair to give 30%o of merged firm's ownership to
shareholders of company Q. If the merged firm worth Rs 14 billion, calculate economic
advantage remained with owners of company Q.
(05 Marks)
c) Mr. Kamal is planning to start a business of assembling ornamental item for export
purpose. In project feasibility study, he has gathered following information.

Amount per unit (Rs.)

Estimated cost per unit of production is:

Raw Material 100

Direct Lhbour 30
Overheads (exclusive of depreciation) 60
Total cost 190

Additional Info rmati on

Selling Price 220

Level of activity 150,000 unit per annum

Raw Material in stock Average 4 weeks

Work in progress (assum e 50o labour and 100% material) Average 2 weeks

Finish goods in stock Average 2 weeks

Credit allowed by suppliers Average 4 weeks
Credit allowed to debtors Average 8 weeks
Lag in payment of wages Average 2 weeks
Cash at bank is expected to be 400,000
Calculate how much Mr. Kamal has to invest as working capital. (10 Marks)

(Totalz0 Marks)

Page 5 of 6