BF PP 2017

UNIVERSITY OF MAURITIUS
FACULTY OF LAW AND MANAGEMENT
SECOND SEMESTER EXAMINATIONS
MAY 2017
BSc (Hons) Banking and Finance

BSc (Hons) Finance
PROGRAMME
BSc (Hons) Finance (Minor: Law)
BSc (Hons) International Business Finance
Level II & Fee-Paying
MODULE NAME BUSINESS FINANCE DECISION-MAKING

AND APPLICATIONS
Friday
DATE 26 May 2017 MODULE CODE DFA2035Y (3)
TIME 09.30 – 12.30 Hours DURATION 3 Hours
NO. OF 5 NO. OF QUESTIONS 3

QUESTIONS SET TO BE ATTEMPTED
INSTRUCTIONS TO CANDIDATES
This paper consists of 5 questions and 2 Sections.

Section A is Compulsory and carries 40 marks.
Answer ANY TWO (2) questions from Section B. Each question carries 30
marks.
Business Finance Decision-Making and Applications – DFA2035Y (3)
SECTION A (COMPULSORY)
Question 1 (40 marks)
i) Discuss the Modigliani-Miller irrelevancy theorem for corporate capital structure.

What assumptions underline the theorem. [10 marks]
ii) What the implications with the existence of bankruptcy costs and corporate taxes?
[10 marks]
iii) Discuss the departure from Modigliani-Miller proposition using the agency cost and
information asymmetry theory of capital structure. Support your answer by empirical
evidences. [15 marks]
iv) Using illustrative example, discuss the implications of the Debt Overhang Problem?
[5 marks]
SECTION B
Answer ANY TWO (2) questions.
i) Analyse the dividend policy in the context of Modigliani-Miller.

[10 marks]
ii) Discuss the Lintner model and its implications.
[7 marks]
iii) Analyse the extent to which information is a credible signal in dividend policy.
Support your answer with solid empirical evidences.
[8 marks]
iv) Fully explain the bird in the hand theory of Dividend Policy and discuss briefly the
implications. [5 marks]
i) ‘It is undeniable that there are synergic gains arising following a merger. However,
much of the literature has sought to determine whether, in the absence of synergy,
there is any other theoretical justification for a merger’. Discuss. [15 marks]
ii) Why may mergers fail? [8 marks]
iii) Briefly discuss the methods of financing of mergers. [7 marks]

Page 1 of 3
(A) Your division is considering two investment projects, each of which requires an up-
front expenditure of Rs 25 million. You estimate the cost of capital to be 10% and that
the investment will produce the following after tax cash flows (in millions of dollars):
Year Project A Project B
1 5 20
2 10 10
3 15 8
4 20 6
(a) What is the regular payback for each of the projects? [4 marks]
(b) What is the discounted payback for each of the projects?

[4 marks]
(c) If the two projects are independent and the cost of capital is 10%, which project(s)
should the firm undertake? [4 marks]
(d) If the two projects are mutually exclusive and the cost of capital is 18%, which
project(s) should the firm undertake? [4 marks]
(e) What is the IRR for each of the projects?

[4 marks]
(B) A 15 year security has a price of Rs340.4689. The security pays Rs 50 at the end of
each of the next 5 years, and then it pays a different fixed cash flow amount at the
end of each of the following 10 years. Interest rates are 9%. What is the annual cash
flow between Years 6 and 15? [5 marks]
(C) Suppose ABC motors sold an issue of bonds with a 12 year maturity, a Rs 1000 par
value, a 12% coupon rate and semiannual interest payments. Four years after the
bonds were issued, the going rate of interest on bonds such as these fell to 8%. At
what price should the bonds sell?
[5 marks]
Page 2 of 3
(A) You observe the following returns overtime:
Year Stock X (%) Stock Y (%) Market (%)
2010 14 13 12
2011 19 7 10
2012 -16 -5 -12
2013 3 1 1
2014 20 11 15
Assume that the risk free rate is 6% and the market premium is 5%.
(i) What are the betas of Stock X and Y? [4 marks]
(ii) What are the required rates of return for Stock X and Stock Y? [4 marks]
(iii) What is the required rate of return and the risk of a portfolio consisting of 80%
of Stock X and 20% of Stock Y? [5 marks]
(iv) If Stock Xs expected return is 22%, is Stock X under or overpriced?

[2 marks]
(B) The beta for Stock C is 0.4 whereas for Stock D is -0.5.
(i) If the risk free rate is 9% and the expected rate of return on an average stock is
13%, what are the required rates of return on Stock C and D?
[4 marks]
(ii) For Stock C, suppose the current price is Rs 25, the next expected dividend is
Rs 1.50 which is expected to grow at 4%. Is the stock in equilibrium? Explain
and describe what will happen if the stock is not in equilibrium.
[6 marks]
(iii) What does a negative Beta on Stock D indicate?
[5 marks]
END OF QUESTION PAPER
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UNIVERSITY OF MAURITIUS

FACULTY OF LAW AND MANAGEMENT

SECOND SEMESTER EXAMINATIONS

BSc (Hons) Banking and Finance

Level II & Fee-Paying

MODULE NAME BUSINESS FINANCE DECISION-MAKING

TIME 09.30 – 12.30 Hours DURATION 3 Hours

NO. OF 5 NO. OF QUESTIONS 3

This paper consists of 5 questions and 2 Sections.

Question 1 (40 marks)

i) Discuss the Modigliani-Miller irrelevancy theorem for corporate capital structure.

Answer ANY TWO (2) questions.

Question 2 (30 marks)

i) Analyse the dividend policy in the context of Modigliani-Miller.

Question 3 (30 marks)

ii) Why may mergers fail? [8 marks]

iii) Briefly discuss the methods of financing of mergers. [7 marks]

Question 4 (30 marks)

Year Project A Project B

(b) What is the discounted payback for each of the projects?

(e) What is the IRR for each of the projects?

Question 5 (30 marks)

(A) You observe the following returns overtime:

Year Stock X (%) Stock Y (%) Market (%)

2012 -16 -5 -12

(i) What are the betas of Stock X and Y? [4 marks]

(iv) If Stock Xs expected return is 22%, is Stock X under or overpriced?

END OF QUESTION PAPER

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