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# Cover Type B

## TO BE RETURNED AT THE END OF THE EXAMINATION.

THIS PAPER MUST NOT BE REMOVED FROM THE EXAM CENTRE.
NAME:

_______________________

## STUDENT NUMBER: _______________________

TUTORS NAME:

_______________________

TUTORIAL TIME:
_______________________
_____________________________________________________________________

MID-SEMESTER EXAM
SPRING SEMESTER 2009
SUBJECT NAME

SUBJECT NO.

: 25300

DAY/DATE

## TIME ALLOWED : 10 minutes reading time followed by 2 hours exam time

START/END TIME : 12 pm - 2:10 pm
NOTES/INSTRUCTIONS TO CANDIDATES:
1.
Write your details at the top of this exam paper. Include your tutorial details to
ensure your marked exam paper will be returned in your nominated tutorial.
2.
All questions are compulsory.
3.
The paper is marked out of 30.
Part A: 15 multiple-choice questions worth 1 mark each (total 15 marks).
Part B: 5 short answer questions worth 3 marks each (total 15 marks).
4.
Use a pencil to indicate your answers to Part A on the General Purpose
Answer Sheet. Ensure you correctly enter your name and student number on
this sheet. Neatly write your answers to Part B in the space provided on the
exam paper. Show all workings.
5.
Financial calculators are allowed.
6.
A single sheet of A4 paper containing any form of information in any format
on both sides is permitted.

Page 1

## PART A: MULTIPLE CHOICE QUESTIONS (15 MARKS)

1. You would like to have enough money saved to receive a \$75,000 per year
perpetuity that starts exactly four years from today. How much would you
need to invest today to achieve this goal? The interest rate is 11% p.a.
a)
b)
c)
d)
e)

\$681,818
\$449,135
\$498,540
\$404,626
\$390,000

2. Suppose that interest rates and the firms required rate of return increase. This
would NOT change the capital budgeting choices a firm would make if it:
a)
b)
c)
d)
e)

## uses payback period analysis.

uses net present value analysis.
uses internal rate of return analysis.
uses profitability indexes.
uses both net present value and internal rate of return analysis

## 3. If an investor purchases shares cum-rights, it means that:

a) the investor will not participate in the rights issue.
b) the investor will participate in the rights issue.
c) the investor will participate in the rights issue without having to pay the
subscription price.
d) the investor has to buy the right on the market
e) the investor cannot sell the right separately.

4. Outback Industries Ltd just paid a dividend of \$1.00 per share. The dividends
are expected to grow at 20% per year for the next four years and then grow 6%
per year thereafter. Calculate the expected dividend in year 5.
a)
b)
c)
d)
e)

\$1.00
\$1.07
\$1.48
\$2.20
\$1.91

Page 2

5. An appropriate capital budgeting process requires that the following steps are
taken in which order?
I.
II.
III.
IV.
a)
b)
c)
d)
e)

collection of data
evaluation and decision making
search for and discovery of investment opportunities

IV, I, III, II
IV, I, II, III
IV, II , I , III
II , IV, I , III
IV, I, III only

6. When a security is sold in the financial markets for the first time, then:
a)
b)
c)
d)
e)

## funds flow from the borrower to the investor

funds flow to the issuer from the investor
it represents a secondary transaction to the underwriter
it is an asset for the borrower
funds flow from investor to investor

7. You have just purchased a government bond for \$2,100 that promises to pay
\$110 per year over the next six years. The market price of the bond has just
increased to \$2,300. A likely reason for this is:
a)
b)
c)
d)
e)

## the face value of the bond has been increased.

the bond is perceived by the market to be more risky now than before.
interest rates, in general, have increased.
interest rates, in general, have decreased.
the coupon payment has been reduced

8. Assuming that a firm has no capital rationing constraint and that a firm's
investment alternatives are not mutually exclusive, the firm should accept all
investment proposals
a)
b)
c)
d)
e)

## for which it can obtain financing.

that have a positive net present value.
that have positive cash flows.
that provide returns greater than the after-tax cost of debt.
that have positive IRRs

Page 3

9. Under a sole proprietorship, the owner has ________ for business debts.
a)
b)
c)
d)
e)

unlimited liability
limited liability
no liability
liability equal to the profits for the year
liability that is limited to the amount of interest

a)
b)
c)
d)
e)

## At the same time as the final payment.

One period before the final payment.
One period before the first payment.
One period after the first payment.
At the same time as the first payment.

11. Which of the following features of a bond is not necessarily constant for the
life of the bond?
a)
b)
c)
d)
e)

## The coupon rate

The coupon payment
The face value
The yield to maturity
All of the above

## 12. The reason cash flow is used in capital budgeting is because

a) cash rather than income is used to purchase new machines.
b) cash outlays need to be evaluated in terms of the present value of the resultant
cash inflows.
c) to ignore the tax shield provided from depreciation ignores the cash flow
provided by the machine which should be reinvested to replace old worn out
machines.
d) cash is more important than profits in capital budgeting
e) all of these.

Page 4

13. Upon maturity, the _________ must pay the bill's owner the face value.
a)
b)
c)
d)
e)

drawer
acceptor
primary market
discounter
borrower

14. A credit card has an interest rate of 18 percent p.a. and charges interest
monthly. The effective rate on this card is:
a)
b)
c)
d)
e)

## 18 percent per month

12.18 percent p.a.
11.96 percent p.a.
18 percent p.a. compounded annually
19.56 percent p.a.

15. Marble Books Ltd. is expected to pay an annual dividend of \$1.80 per share
next year. The required return is 16 percent and the growth rate is 4 percent.
What is the expected value of this stock five years from now?
a)
b)
c)
d)
e)

\$15.00
\$15.60
\$16.80
\$18.25
\$18.98

Page 5

## PART B: SHORT ANSWER QUESTIONS (15 MARKS)

Neatly write your answer to each question in the space provided. Show all working
because if you make a mistake then you may still receive some marks.
Question 1 (3 marks)
a)

Exactly eighteen months ago BHP Ltd issued a bond with a 15-year maturity.
The bonds face value is \$2 million and the coupon rate is 8.5% p.a. paid halfyearly. The bond matures on 24 March 2023 and the YTM. is 10.25% p.a.
compounded half-yearly. What is the current bond price? (2 Marks)

FV = 2,000,000
PMT = (0.0852) * 2000000
= 85000
n = 13 * 2 = 27
i = 0.10252 = 0.05125

PV

= 85000

11.05125 27
.05125

+ 2000000(1. 05125)27

= 1,228,344 + 518,761.5
= 1,747,106 (to the nearest whole dollar)

[Note: the bond is trading at a discount because the YTM is greater than the coupon
rate. So you shouldve expected to get a bond price of less than \$2 million even
before you started the calculations]

b)

## Give one example of a covenant that might appear in a loan agreement.

(1 mark)
Just two of an infinite number of answers:
Must maintain a minimum liquidity ratio of 4
Must not exceed a leverage ratio of 55%

Page 6

Question 2 (3 marks)
You wish to accumulate \$70,000 in fifteen years time by investing a certain number
of equal-sized amounts of money every three months. You make the first investment
in six months time and the final investment is made in ten years time. If the interest
rate is 8% p.a. compounded quarterly, what is the dollar amount of your equal-sized
investments?

Converting the time periods to quarters and writing the amounts on a timeline gives:
Note the first investment is made in 6 months time = 2 quarters.

PMT

PMT

70,000

|___|___|___________________|_____________|___
0

40

60

i = 8% 4 = 0.02
n = 39
Converting all money to quarter 60 (i.e. 15 years) we have that 70,000 equals the
future value of 39 payments.
1. 0239 1
70,000 = PMT
1.02
0.02
PMT = 808.90

Page 7

20

Question 3 (3 marks)
TGV Ltd requires short-term finance of approximately \$500,000 for a period of 120
days. TGV Ltd has prepared a bill and has requested National Australia Bank (NAB)
to act as the acceptor. The bill has a \$500,000 face value and a maturity of 120 days.
The appropriate market rate is 4.72% p.a.
a) What is the cash inflow for TGV today? (1 mark)

500000
1 + 0.0472

120
365

= 492,359.66

b) An investor purchases the bill in a) above and sells it in 90 days time. If market
rates have risen to 5.31%, what is the sale price? (1 mark)

500000
1 + 0.0531

30
365

= 497,827.29

## c) Do bills have an explicit interest rate? Explain. (1 mark)

No. Bills are discount securities and therefore the difference between the current price
and the face value represents the interest.

Page 8

Question 4 (3 marks)
Cal.I.Fornia Ltd (CIF) is listed on the Australian Securities Exchange (ASX) and you
want to calculate CIFs theoretical share price. This year CIF paid a dividend of
\$0.20 but due to the Global Financial Crisis they will not pay a dividend for the next
two years. They will pay a dividend of \$0.50 in year 3 and year 4, and in year 5 the
dividend will be \$0.80. Dividends are then predicted to increase by 3% each year
thereafter. If the required return is 9.25% what is CIFs current share price?

0.20

0.50

0.50

0.80

|______|______|______|______|______|___
0

| g = 3% p.a.
The current share price is the present value of all future dividends. The dividend paid
this year, D0, is ignored in the calculation.
D3 and D4 are both discounted to time zero:
0.50
0.50
+
= 0.3834 + 0.3510 = 0.7344
3
1.0925
1.09254
The present value of D5 and after can be valued using the constant growth formula
which will give a price at year 4.
5

0.80
=
0.0925 0.03
= 12.80

4 =

## P4 is then discounted to time 0 as follows:

12.80(1.0925)-4 = 8.9851
Now, we can add up all the time zero amounts:
P0 = 0.7344 + 8.9851 = \$9.72

## Or, writing the entire value as a single equation:

0.50
0.50
12.80
+
+
3
4
1.0925
1.0925
1.09254
= \$9.72

P0 =

Page 9

Question 5 (3 marks)
One Star Productions is considering two mutually exclusive investment proposals. The
companys benchmark payback period is two years and the required rate of return is
14%. The two projects cash flows appear in the following table:
Project
Alpha
Omega
a)

Year 0
-20,000
-30,000

Year 1
25,000
5,000

Year 2
0
5,000

Year 3
-5,000
30,000

Calculate the payback period for each project and state which project would you
select using the payback method. (1 mark)

## Payback PeriodAlpha = 20,000/25,000 = 0.8 years

Payback PeriodOmega = 2 + 20,000/30,000 = 2.67 years
Project Alpha is acceptable because its payback period is less than 2 years.

b)

Calculate the NPV of each project and state which project would you select
using the NPV decision criteria. (1 mark)

NPVAlpha = 20000 +

25000

NPVOmega = 30000 +

1.14
5000
1.14

5000
1.14 3
5000

= \$1,445.03

+ 1.14 2 +

30000
1.14 3

= \$1,517.55

Neither project is acceptable using the NPV because both have a negative NPV.

c)

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