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business
fundamentals of corporate finance

Questions and Answers of Fundamentals Of Corporate Finance

2 The directors of Gross plc have made a 850p per share cash bid for Klinsmann plc, a company that is in a similar line of business. The summarised accounts of these two companies are as
3 Dangara plc is contemplating a takeover bid for another quoted company, Tefor plc. Both companies are in the leisure sector, operating a string of hotels, restaurants and motorway service stations.
4 Larkin Conglomerates plc owns a subsidiary company, Hughes Ltd, which sells office equipment. Recently, Larkin Conglomerates plc has been reconsidering its future strategy and has decided that
5 The directors of Fama Industries plc are currently considering the acquisition of Beaver plc as part of its expansion programme. Fama Industries plc has interests in machine tools and light
6 Europium plc is a large conglomerate which is seeking to acquire other companies. The Business Development division of Europium plc has recently identified an engineering company – Promithium plc
7 As a defence against a possible takeover bid the managing director proposes that Woppit make a bid for Grapper plc, in order to increase Woppit’s size and, hence, make a bid for Woppit more
Select one of the merger/takeover situations that has been given prominence recently in the media. Analyse your selected case under the following headings (indicative guidelines are provided).1
The closing spot rates and forward quotations on 9 November 2001 for GBP versus two other currencies were as shown below. Calculate the forward outrights. Closing rates Eurozone Canada 1.4406 1.4413
Use the Law of One Price and PPP to predict the relative local prices of a cup of coffee and the future sterling/dollar spot rate under the following conditions Price now in New York = $1.50 Price
If interest rates are higher in London than New York by 2.5 per cent p.a. and today’s spot rate is $1.4455 vs. £1 what would you expect the three-month forward quotation to be if IRP applied?
Langer plc is worried about a fall in the Australian dollar by 5 per cent, compared to the present A$2.75 per £1 that might inflict translation losses regarding its A$100 million assets located in
Now return to the introductory case on page 593. Can you now explain the apparently different impact of dollar appreciation on these two firms?
3 Work out the forward outrights from the exchange rates versus sterling given in the table below. Country/Currency Euro Closing market rates 1.6296-1.6320 Japan USA 175.16 175.28 1.4571 -1.4576
4 A selected bundle of goods costs £100 in the UK, and a similar bundle costs 1200 krona (DKR) in Denmark.People generally expect the rate of inflation to be 5 per cent in the UK and 3 per cent in
5 The respective interest rates in the USA and the UK are 9 per cent and 10 per cent respectively in annual terms.If the spot exchange rate is US$1.6000 to £1 what is the forward rate if IRP applies?
6 Assume you are the treasurer of a multinational company based in Switzerland. Your company trades extensively with the USA. You have just received US$1 million from a customer in the USA. As the
7 The following situation is observed in the money markets.Sterling: US dollar exchange rates:(a) Calculate both the interest and the exchange agios.(b) Using the figures provided, investigate
10 Exchange-traded foreign currency option prices in Philadelphia for dollar/sterling contracts are shown below:Option prices are in cents per £. The current spot exchange rate is
11 Hogan plc exports computer components valued at 28 million Australian dollars (AUD) to Dundee Proprietary in Australia on three months credit. The current spot exchange rate is A$2.80 vs. Because
Many companies experience accounting problems in recording overseas transactions and in translating foreign currency values into their accounts. Select a company involved in international trade.
Obtain the Annual Report and Accounts of any firm of your choice. Look at the five-year record provided, and work out the dividend cover each year and the annual rate of dividend per share increase
1 Tom plc follows a residual dividend policy. It has just announced earnings of £10 m and is to pay a dividend of 20p per share. Its nominal issued share capital is £5 m with par value of 50p. What
How many shares would an investor receive in lieu of cash dividends of £1,000 if offered:(i) a pro rata scrip alternative?(ii) an ESD of 20%?Share price is £20.(Answer in Appendix A at the back of
Re-work the Divicut example for the case where the returns on the investment are 1,080 rather than 1,200 in year 2.
Determine the required return by shareholders in the following case: Share price Past growth 1.80 (ex div) 3% EPS = 0.36 Dividend cover = 3 times
2 Insert the missing values in the following table:\ ke P. 8 g Do (i) 11% 8.00 3% ? (ii) 14% ? 4% 0.350 (iii) ? 5.00 6% 0.155 (iv) 12% 4.60 ? 0.250
5 Salas Ltd is an unquoted company that operates four divisions, all focused on single activities as shown in the table below. Salas identifies a proxy quoted company for each activity in order to
6 Megacorp plc, an all-equity financed multinational, is contemplating expansion into an overseas market. It is considering whether to invest directly in the country concerned by building a
7 PFK plc is an undiversified and ungeared company operating in the cardboard packaging industry. The Beta coefficient of its ordinary shares is 1.05. It now contemplates diversification into making
1 Define a call option and a put option.
2 What is the basic difference between European and American call options?3 Options are available on what types of asset?
4 In relation to the information on traded options in Table 12.1 explain why the following features were observed:(a) the lower the exercise price, the higher the value of a call;(b) the greater the
You take out options contracts to sell a call and buy a put, 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 share
Explain why option value increases with the volatility of the underlying share price. List the factors that determine option value.
What is the type of option available to Eurotunnel and what factors would you consider in assessing its value?
1 Give two examples where companies can issue call options (or something similar).
2 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
3 What is the difference between traditional and exchange traded options?
6 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
7 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.
8 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
9 The current price on British Sky Broadcasting 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
10 The following are the closing prices of options on the shares of BAT on Wednesday 10 March 2004.Refer to the table as required when answering this question.(a) Explain the fundamental reasons for
1 Choose two forms of financial contracting arrangement with option features and show how option pricing theory can help in analysing them.
2 Consider a major capital investment recently undertaken or under review. Does it offer an option? Could an option feature be introduced? What would the rough value of the option be?
How would you define treasury management?
What do you understand by the matching approach in financing fixed and current assets?
Take a look at the latest Annual Report of Cadbury Shweppes (www.cadburyschweppes.com).What does the Operating and Financial Review say about its treasury risk management policy?
Consider the following example of a company which plans to buy aluminium. It enters into a call option contract, paying an appropriate premium for the right to buy aluminium at $1,500/tonne in three
Define in your own words the main forms of derivatives – forwards, futures, swaps and options
Which areas of treasury management would you say are most neglected by smaller firms?
Explain why two firms in the same industry could have very different cash operating cycles.What are the financial implications?
Define overtrading. How does it arise and what are its consequences?
1 Atlas Ltd is a newly formed digital media company with a number of locations in the UK, France and Germany. The board of directors is currently discussing whether the finance function should be
2 What are the risks that a manufacturing company might encounter as a result of interest rate movements?Describe two financial instruments the company could use to reduce such risks.
4 (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
5 (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
6 Hercules Wholesalers Ltd has been particularly concerned with its liquidity position in recent months. The most recent Profit and Loss Account and Balance Sheet of the company are as follows:The
7 Micrex Computers Ltd was established in 1989 to sell a range of computer software to small businesses.Since its incorporation, the business has grown rapidly and demand for its products continues
Look at the annual reports of two companies in the same industry.What do they say about the treasury function and treasury or risk management policies? How do the two companies differ and what might
A survey of large UK companies (Pike et al., 1998) found that the normal credit period granted was 30 days, but the average credit period taken by customers was 46 days. Only 20 per cent of firms
What are the main elements in a firm’s credit policy?
What do you understand by carrying costs and ordering costs? How do they fit into the economic order quantity formula?
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.
1 Specify the basic formula for calculating the cost of cash discounts.
2 What are the main differences in the assumptions underlying the Baumol and Miller–Orr cash models?
3 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
4 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
5 Torrance Ltd was formed in 1988 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
6 (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
8 (a) The Treasurer of Ripley plc is contemplating a change in financial policy. At present, Ripley’s balance sheet shows that fixed assets are of equal magnitude to the amount of long-term debt
1 Sound credit management can play an important role in the financial success of a business.Required(a) Explain the role of the credit manager within a business.(b) Discuss the major factors a credit
2 If you are based in a firm where credit management is important, apply the above question to your organisation.
What is the true annual interest rate paid when a firm delays payment under the following credit terms: 11/15: net 40'?
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
5 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
4 Burnsall plc is a listed company which manufactures and distributes leisurewear under the brand name Paraffin. It made sales of 10 million units world-wide at an average wholesale price of £10 per
Consider the long-term financing of a company with which you are familiar. Evaluate each of the main sources of finance and suggest, with reasons, two methods of finance that are not currently used,
2 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
1 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 lease back 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 market price per share = £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 ten 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
What is the TERP in the following case?■ pre-announcement share price = £5.■ rights issue of 1-for-6 at £3.50 issue price
Criticise the following statement made by your marketing director:‘Well, we can always finance the new product development from our reserves.’
What impact might the events of 11 September 2001 have on corporate financing decisions?
7 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
4 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
3 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
2 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
1 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 small firm paying tax at 10 per cent?(ii) a tax-exhausted firm?
What are the main differences between an operating lease (OL) and a finance lease (FL)?
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?
Trade credit is often called ‘spontaneous finance’ or ‘automatic finance’. Can you see why?
8 Lancelot plc is a diversified company with three operating divisions – North, South and West. The operating characteristics of North are 50 per cent more risky than South, while West is 25 per
4 The all-equity financed Lasar plc has a Beta of 0.8. What rate of return should it seek on new investment:(i) with similar risk to existing activities?(ii) with 25 per cent greater risk compared to

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