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important questions of corporate finance

Week 2

Question 3: What are the three important questions of corporate finance? Please briefly explain them and indicate how they are related to the areas in the balance sheet of a company

Week 3

Question 3: You are the new CFO of Risk Surfing Ltd, which has current assets of $ 7 920, net fixed assets of $17 700, current liabilities of $4 580 and long term debts of $5 890. Required:

  1. Calculate owners’ equity and build a balance sheet for the company?
  2. How much is net working capital of the company?
  3. Calculate the return on assets of the company given that Return on Equity

is 30%?

  1. What is the PE of the company if total number of ordinary shares

outstanding is 2000 and market price of each share is $12?

Week 4

Question 2. You are a young personal financial adviser. Molly, one of your clients approached you for consultation about her plan to save aside $450,000 for her child’s higher education in United States 15 years from now. Molly has a saving of $120,000 and is considering different alternative options:

Investment 1: Investing that $120,000 in a saving account for 15 years. There are two banks for her choice. Bank A pays a rate of return of 8.5% annually, compounding semi-annually. Bank B pays a rate of return of 8.45 annually, compounding quarterly.

Investment 2: Putting exactly an equal amount of money into ANZ Investment Fund at the end of each month for 15 years to get 330 000 she still shorts of now. The fund is offering a rate of return 7% per year, compounding monthly.

Required: Work on question a, b and c only
a) Identify which Bank should Molly choose in Investment 1 by computing the

effective annual interest rate (EAR)? (2 marks)

b) Calculate the amount of money Molly would accumulate in Investment 1 after 15 years is she chooses Bank B? (2 marks)

c) How much is the annual interest rate, assuming compounding annually Molly should aims at if she chooses to invest her $120 000 in a saving account to get the 450,000 fund ready in just 10 years from now? (2 marks)

week 5

Question 2. You are a young personal financial adviser. Molly, one of your clients approached you for consultation about her plan to save aside $450,000 for her child’s higher education in United States 15 years from now. Molly has a saving of $120,000 and is considering different alternative options:

Investment 1: Investing that $120,000 in a saving account for 15 years. There are two banks for her choice. Bank A pays a rate of return of 8.5% annually, compounding semi-annually. Bank B pays a rate of return of 8.45 annually, compounding quarterly.

Investment 2: Putting exactly an equal amount of money into ANZ Investment Fund at the end of each month for 15 years to get 330 000 she still shorts of now. The fund is offering a rate of return 7% per year, compounding monthly.

Required: Work on questions d and e only


d) Calculate the monthly payment Molly needs to contribute into ANZ Investment Fund to get $330,000 after 15 years in Investment 2?

e) In investment 2, if Molly changes to contribute $1200/month to that super fund at the beginning of each month, how much money she would have in ANZ Investment fund after 15 years?

f) Molly is offered an investment that will pay $12 000 each year forever. What is present value of this investment if the rate of return 14% applies?

Week 6

Question 3: You are an active investor in the securities market and you have established an investment portfolio of two stock A and B five years ago. Required:

State of economy Probability Rate of returns
Mild Recession 0.35 – 5%
Growth 0.45 15%
Strong Growth 0.20 30%
  1. a)  If your portfolio has provided you with returns of 9.7%, -6.2%, 12.1%, 11.5% and 13.3% over the past five years, respectively. Calculate the geometric average return of the portfolio for this period?
  2. b)  AssumethatexpectedreturnofthestockAinyourportfoliois14.6%.The risk premium on the stocks of the same industry are 5.8%, the risk-free rate of return is 5.9% and the inflation rate was 2.7. Calculate beta of this stock using Capital Asset Pricing Model (CAPM)?
  3. c)  Assumethatyoubought200stockBinyourportfoliofortotalinvestment of $1200, now the market price of the stock is $75, the dividend paid for this stock is $2 each year. How much is the capital gain of this stock?
  4. d)  Assume that the following data available for the portfolio, calculate the expected return, variance and standard deviation of the portfolio given stock A accounts for 45% and stock B accounts for 55% of your portfolio?

A B

Expected return 12.5% 18.5%

Standard Deviation of return 15% 20%

Correlation of coefficient (p) 0.4

Week 7

Question 3: Blooming Ltd. currently has the following capital structure:

Debt: $2,500,000 par value of outstanding bond that pays annually 12% coupon rate with an annual before-tax yield to maturity of 10%. The bond issue has face value of $1,000 and will mature in 25 years.

Ordinary shares: 65,000 outstanding ordinary shares. The firm plans to pay a $7.50 dividend per share in the next financial year. The firm is maintaining 3% annual growth rate in dividend, which is expected to continue indefinitely.

Preferred shares: 40 000 outstanding preferred shares with face value of $100, paying fixed dividend rate of 14%.

Company tax rate is 30%
Required: Complete the following tasks: Only work on questions a, b and c

  1. a)  Calculate the current price of the corporate bond?
  2. b)  Calculate the current price of the ordinary share if the average return of the

shares in the same industry is 9%?

  1. c)  Calculate the current value of the preferred share if the average return of the

shares in the same industry is 12%?

Week 8

Question 2: Bunnings Ltd is considering to invest in one of the two following projects to buy a new equipment. Each equipment will last 5 years and have no salvage value at the end. The company’s required rate of return for all investment projects is 8%. The cash flows of the projects are provided below.


Equipment 1 Equipment 2
Cost $186,000 $195,000
Future Cash Flows Year 1
Year 2

Year 3
Year 4 Year 5
86 000
93 000
83 000
75 000
55 000
97 000 84 000 86 000 75 000 63 000

Required:

  1. a)  Identify which option of equipment should the company accept based on Profitability Index?
  2. b)  Identify which option of equipment should the company accept based on discounted pay back method if the payback criteria is maximum 2 years?
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