Question 1

Company Y plans to diversify into an activity where Company X has an equity beta of 1.6, a debt beta of zero

and gearing of 50% (debt/debt plus equity).

The risk-free rate of return is 5% and the market portfolio is expected to return 10%.

The rate of corporate income tax is 30%.

What would be the risk-adjusted cost of equity if Company Y has 60% equity and 40?bt?

Options :

A : 11.6%

B : 11.9%

C : 9.1%

D : 13%

Answer: B

Question 2

M is an accountant who wishes to take out a forward rate agreement as a hedging instrument but the company treasurer has advised that a short-term interest rate future would be a better option. Which of the following is true of a short-term interest rate future?

Options :

A : It can be tailored to the exact reeds of the company.

B : It interest rates have gone down the price of the future will have fallen.

C : It must be kept for ne whole duration of the contract

D : The date is flexible and the position can be closed quickly and easily.

Answer: C

Question 3

Company C is a listed company. It is currently considering the acquisition of Company D. The original

founder of Company C currently owns 52% of the shares.

Alternative forms of consideration for Company D being considered are as follows:

• Cash payment, financed by new borrowing

• issue of new shares in Company C

Which of the following is an advantage of a cash offer over a share-for exchange from the viewpoint of the

original founder of Company C?

Options :

A : A share for share exchange would result in a significant change in control of Company C whereas a cash offer would not

B : A share-for-share exchange would require the approval shareholders in Company C but a cash offer would not.

C : A share-for-share exchange would require the approval of the Competition Authorities but a cash offer would not.

D : A cash offer would result in a lower gearing ratio therefore reduce the weighted overage cost of capital whereas a cash offer would not

Answer: A

Question 4

Company J is in negotiations to acquire Company K and believes it can turn around Company K's

performance to match its own.

The following information is available for the two companies:

Select the maximum price for each share that Company J should place on Company K during negotiations.

Options :

A : $1.7

B : $2.0

C : $3.0

D : $3.2

Answer: C

Question 5

A company has a covenant on its 5% long term corporate bond.

• Covenant - The earnings must not fall below $7 million

The bond has a nominal value of $60 million.

It is currently trading at 80% of its nominal value.

The projected earnings before interest and taxation for next year are $11.5 million.

The company retains 80% of its earnings. It pays tax at 20%.

Advise the Board of Directors which of the following covenant conditions will apply next year?

Options :

A : The earnings will be = $7.28 million (The covenant will not be breached).

B : The earnings will be = $11.50 million (The covenant will not be breached).

C : The earnings will be = $6.80 million (The covenant will be breached).

D : The earnings will be = $5.44 million (The covenant will be breached).

Answer: C

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