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fundamentals corporate finance

Questions and Answers of Fundamentals Corporate Finance

Future value: Your aunt is planning to invest in a bank CD that will pay
Future value: Ted Rogers is investing $7,500 in a bank CD that pays a 6 percent annual interest rate. How much will the CD be worth at the end of five years?
Future value: Chuck Tomkovick is planning to invest $25,000 today in a mutual fund that will provide a return of 8 percent each year. What will the value of the investment be in 10 years?
You are planning to take a spring break trip to Cancun your senior year. The trip is exactly two years away, but you want to be prepared and have enough money when the time comes. Explain how you
Compound growth is exponential over time. Explain.
If you were given a choice between investing in a savings account that paid quarterly interest and one that paid monthly interest, which one should you choose if they both offered the same quoted
Explain the difference between future value and present value.
Explain what is meant by the phrase “a dollar today is worth more than a dollar tomorrow.”
A European call option on shares has three months to expiry. The current share price is £3 and the exercise price of the option is £2.50. The standard deviation of the share is 20 per cent, and the
The following are the closing prices of options on the shares of Gilling plc on 10 March 2014.Calls Puts Exercise Price Apr Jun Sep Apr June Sep Gilling 800 36.5 53.5 62.5 9.0 20.0 31.5(*825) 850
The current price of a company’s shares is 420.5p and the price of a call option with a strike price of 420p with six months to maturity is 50.5p. The value of a put option with the same strike
The current price of a share is 38p, and a call option written on this share with six months to run to maturity has an exercise price of 40p. If the risk-free rate of interest is 10 per cent per
Find the present value of the exercise price given that the value of the call is 19p, the value of the put is 5p and the current market price of the underlying share is 30p.
Find the value of the call option given that the present value of the exercise price is 10p, the value of the put option is 15p and the current value of the share on which the option is based is 25p.
What is the difference between traditional and exchange traded options?
On 1 March the ordinary shares of Gaymore plc stood at 469p. The traded options market in the shares quotes April 500p puts at 47p. If the share price falls to 450p, how much, if any, profit would an
Give two examples where companies can issue call options (or something similar).
Explain why option value increases with the volatility of the underlying share price. List the factors that determine option value.
You take out contracts to sell a call option and buy a put option, both at the exercise price of 55p, exercisable one year hence. The cost of the put is 7p and the cost of the call is 1p. The current
Which of the following options is ‘out of the money’?(a) A three-month call option with an exercise price of 240p on a share currently trading at 230p.(b) A three-month put option with an
Which of the following options has intrinsic value at the start of the contract?(a) A three-month call option with an exercise price of 230p on a share currently priced at 240p.(b) A three-month put
By now your head may be spinning with all the terms and concepts introduced. It is therefore a good time to take stock of what you should know.1 Define a call option and a put option.2 What is the
Why conventional net present value analysis is not sufficient for appraising projects.
The various applications of option theory in investment and corporate finance.
How option values can be estimated.
How options can be used to reduce risk.
The main factors determining option values.
The basic types of option and how they are employed.
Do you think your selected company’s shares are undervalued or overvalued?
How can you explain any discrepancies?
How does this compare with other companies in the same sector?
What is the P:E ratio of your selected company?
How can you explain this?
What discrepancy do you find between the NAV and the market value?
What is its depreciation policy?
What is the company’s policy towards asset revaluation?
What proportion of current assets is accounted for by stocks and debtors?
What is the relative size of tangible fixed and intangible fixed assets?
What is the composition of the assets, i.e. the relative size of fixed and current assets?
AB is a telecommunications consultancy based in Europe that trades globally. It was established 15 years ago. The four founding shareholders own 25 per cent of the issued share capital each and are
(a) The directors of Oscar plc are trying to estimate its value under its current strategy using a Shareholder Value Analysis framework. The last reported annual sales of Oscar plc were £30
The most recent statement of financial position for Vadeema plc is given in the following table. Vadeema is a stock market-quoted company that specialises in researching and developing new
Lazenby plc has been set up to exploit an opportunity to import a new product from overseas. It has issued two million ordinary shares of par value 25p, sold at a 25 per cent premium. Its projected
The Board of Directors of Rundum plc are contemplating a takeover bid for Carbo Ltd, an unquoted company which operates in both the packaging and building materials industries. If the offer is
Amos Ltd has operated as a private limited company for 80 years. The company is facing increased competition, and it has been decided to sell the business as a going concern.The financial situation
What is the free cash flow for the following firm?Operating profit (after depreciation of £2m) 5 £25m Interest paid 5 £1m Tax rate 5 £30%Investment expenditure 5 £3m
Navenby has a value of £13.25 million, but a major part of this reflects the eventual resale value of the assets. What final asset value would enable investors to just break even?
XYZ plc, which is unquoted, earns profit before tax of £80 million. It has issued 100 million shares. The rate of Corporation Tax is 30 per cent.A similar listed firm sells at a P:E ratio of 15:1.
For D.S. Smith plc, identify:(i) the value of the whole firm, i.e. enterprise value;(ii) the value of its total liabilities;(iii) the value of the owners’ equity
Using the Innogy example, distinguish between the value of a whole company and the value of the equity stake. When would these two measures coincide?
To identify and explain the key value drivers.
To explain and critically evaluate shareholder value analysis (SVA).
To explore different valuation methods for valuing unquoted companies.
To identify and explain different valuation methods of intangible assets.
To explain and critically evaluate the limitations of different valuation methods.
To stress that valuation is an imprecise art, requiring a blend of theoretical analysis and practical skills.
To provide an understanding of the main methods of fundamental analysis and valuation of companies and shares.
Netherby plc manufactures a range of camping and leisure equipment, including tents. It is currently experiencing severe quality control problems at its existing fully depreciated factory in the
The managing director of Lavipilon plc wishes to provide an extra return to the company’s shareholders and has suggested making either:(i) a two-for-five bonus issue (capitalisation issue) in
Burnsall plc is a listed company which manufactures and distributes leisurewear under the brand name Paraffin.It made sales of 10 million units worldwide at an average wholesale price of £10 per
Shaw Holdings plc has 20 million ordinary shares of 50p in issue. These shares are currently valued on the Stock Exchange at £1.60 per share. The directors of Shaw Holdings believe the company
Cambridge Castings Ltd plans a major expansion to modernise its manufacturing plant, thereby improving productivity and reducing unit costs. The existing capital base is fairly evenly divided between
The ordinary shares of Anglia Paper Company are currently trading at £3.20. Existing shareholders are offered one new share at £2 for every three held.(i) What is the theoretical ex-rights
What is the effect of a sale-and-leaseback on a firm’s balance sheet?
What is the market value of a warrant that gives the right to buy one new share for every four shares held, given the market price per share is £8, and the exercise price is £5?
A bond with nominal value of £100 and coupon rate of 8.3 per cent has market value of £110.What is:(a) its flat yield?(b) its yield to maturity in three years?
What is the yield to maturity on a zero-coupon bond issued at £50, repayable at par of £100, in 10 years’ time?
In a share split, e.g. ‘2-for-1’, what is the effect on:the number of shares issued?the shareholders’ capital in the balance sheet?the firm’s assets?its market value – per share? In total?
What is the TERP in the following case?Pre-announcement share price = £5.Rights issue of 1-for-6 at £3.50 issue price.
The basic structure would be a five-year lease with the option to renew at the end of the five-year term for an additional five-year term at negligible rental. LEE would be responsible for
Amalgamated Effluents plc, a chemical company currently in legal difficulties over its pollution record, is considering a proposal to acquire new equipment to improve waste generation. The equipment
Raphael Ltd is a small engineering business which has annual credit sales of £2.4 million. In recent years, the company has experienced credit control problems. The average collection period for
Haverah plc is a manufacturer and distributor of denim garments. It employs a highly aggressive working capital policy and uses no long-term borrowing. Highlights from its most recent accounts appear
What is the monthly interest payment on the following HP contract?Total purchase cost of equipment = £100,000 Down-payment = 15 per cent Interest rate = 7.5 per cent Equal monthly payments over four
A trader receives from a customer a Bill of Exchange set to mature in six months, and decides, after two months, to sell it to a bank. The face value is £200,000 and the bank discounts the Bill for
A bank offers a client a choice between two financing options over a one-year period:Option 1: a bullet loan for the full year of £500,000 to be repaid at end year with interest fixed at 12 per cent
A supplier offers you the following trade credit terms: ‘3/15: net 45’.If you delay payment until day 45, what effective annual interest rate are you paying for additional trade credit?
What is the tax-adjusted interest rate when the nominal rate is 9 per cent for:(i) a firm paying tax at 20 per cent?(ii) a tax-exhausted firm?
What are the main differences between an operating lease and a finance lease?
What is the monthly payment on the following HP contract?Total cost of equipment = £40,000 Down-payment = 30, Interest rate = 10, Hire period = 4 years
Summarise the benefits of factoring for a small firm.
Which are normally more expensive for firms – overdrafts or term loans? Why?
What do you think are the main considerations a banker makes in assessing an application for a loan or overdraft?
What is the true annual interest rate paid when a firm delays payment under the following credit terms: ‘11 2 >15: net 40’?
Trade credit is often called ‘spontaneous finance’ or ‘automatic finance’. Can you see why?
(a) The Treasurer of Ripley plc is contemplating a change in financial policy. At present, Ripley’s statement of financial position shows that fixed assets are of equal magnitude to the amount of
International Golf Ltd operates a large warehouse, selling golf equipment direct to the public by mail order and to small retail outlets. The cash position of the company has caused some concern in
(a) Discuss:(i) The significance of trade creditors in a firm’s working capital cycle, and(ii) the dangers of over-reliance on trade credit as a source of finance.(b) Keswick plc traditionally
Torrance Ltd was formed to produce a new type of golf putter. The company sells the putter to wholesalers and retailers and has an annual turnover of £600,000. The following data relate to each
Salford Engineers Limited, a medium-sized manufacturing company, has discovered that it is holding 180 days’stock while its main competitors are holding only 90 days’ stock.Required(a) Discuss
Hunslett Express Company specifies payment from its customers at the end of the month following delivery. On average, customers take 70 days to pay. Sales total £8 million per year and bad debts
What are the main differences in the assumptions underlying the Baumol and Miller–Orr cash models?
Specify the basic formula for calculating the cost of cash discounts.
Micrex Computers Ltd was established in 1999 to sell a range of computer software to small businesses. Since its incorporation, the business has grown rapidly and demand for its products continues to
Hercules Wholesalers Ltd has been particularly concerned with its liquidity position in recent months. The most recent income statement and statement of financial position of the company are as
(a) Explain, with the use of a numerical example, the meaning of the term ‘cash operating cycle’ and its significance in relation to working capital management.(b) Delcars plc own a total of ten
(a) (i) Discuss the theories, or arguments, which suggest that financial analysis can be used to forecast the probability of a given firm’s failure; and(ii) explain why such an analysis, even if
Why isn’t the return point midway between the two?
How are the limits set?
As interest rates increase, it obviously becomes more attractive to transfer smaller quantities. Try reworking the Bizarre problem, assuming a doubling of the interest rate to 12 per cent p.a.

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