代写辅导接单-FINC 2011

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FINC 2011 Practice Final Exam – S1 2024 Page 1 of 15

You should be able to complete this practice

final exam in 120 minutes plus 10 minutes of

reading time.

FINC 2011 Practice Final Exam – S1 2024 Page 2 of 15

Question 1 (20 marks)

Answer BOTH of the following two questions:

A) Most traditional finance theory assumes that investors behave ‘rationally’, for

example, that investors are mean-variance optimisers. How does behavioural

finance challenge this notion? Explain. (10 marks)

Solution:

Traditional finance theory suggests that investors can make choices between

different investment options using only mean return and standard deviation. And

that most investors are risk averse (that is they require higher returns to

compensate for higher risk). This approach underlies theories such as portfolio

theory and therefore models such as the capital asset pricing model (CAPM).

Behavioural finance however makes use of psychology to better understand how

investors DO actually behave. For example, behavioural finance provides

insights into ‘irrational’ behaviour such as prospecting theory, investor beliefs

about probabilities, and unconscious herding behaviour. Each of these theories

challenge the traditional view of the mean-variance optimisers.

Students should elaborate on these points to get full marks.

Mark allocation:

- 3 marks for explaining how mean-variance optimisers underlies core

finance theory

- 2 marks for citing an example of a traditional theory (ie portfolio theory or

CAPM)

- 3 marks for explaining how behavioural finance provides alternative

theories on investor behaviour

- 2 marks for citing an example of behavioural finance theory (ie prospecting

theory, investor beliefs about probabilities, and unconscious herding

behaviour)

FINC 2011 Practice Final Exam – S1 2024 Page 3 of 15

B) Explain the relationship between Markowitz Portfolio Theory and the Capital

Asset Pricing Model (CAPM) (10 marks)

Solution:

The CAPM model is derived from the assumptions that underlie portfolio theory.

The equilibrium position determined above (question iii) demonstrates that all

rational investors will hold some combination of the risk free asset and risky

portfolio M. Since risky portfolio M therefore is the market portfolio then

investors will only face MARKET RISK or SYSTEMATIC RISK. Thus, the CAPM

determines that the required return on any risky asset (that comprises part of

portfolio M) must be a function of its market risk (rather than total risk since the

unsystematic risk has been diversified away). Therefore the CAPM equation

uses only market risk.

Ri = Rf + ß (Rm – Rf)

Mark allocation:

3 marks for identifying that CAPM is derived from portfolio theory

3 marks for identifying investors in CML face only market risk

4 marks for identifying that CAPM uses only market risk to determine the

required return for individual securities

FINC 2011 Practice Final Exam – S1 2024 Page 4 of 15

Question 2 (25 marks)

START A NEW BOOKLET

Advanced Technologies Group (ATG) has performed well in recent years and financial

analyst, Mr Smythe predicts the following possible outcomes for the company next year:

State Probability Return

Very Good 0.1 30%

Good 0.3 20%

Average 0.4 10%

Bad 0.2 -30%

a) Calculate the expected return and standard deviation of returns on ATG Ltd. (5 marks)

ATG data

Expected Return

7.00%

SD

19.519%

Mark allocation:

- 2 marks for calculating the expected return

- 3 marks for calculating the standard deviation

FINC 2011 Practice Final Exam – S1 2024 Page 5 of 15

b) Another company listed on the ASX, CDM Ltd, has been recommended by Mr Smythe.

The expected return and standard deviation of this stock is:

E(R

i

) σ

CDM 7% 6%

The correlation between and ATG and CDM = 0.9

You are considering investing in both stocks in an equally weighted portfolio. Calculate

the expected return and standard deviation of the portfolio. (10 Marks)

Solution:

CDM data

Expected Return

7%

SD

6%

Portfolio data

Expected Return

0.07

Var

0.01569519

SD

12.53%

Mark allocation:

- 4 marks for calculating the expected return

- 6 marks for calculating the standard deviation

c) Is the portfolio the best outcome for the investor? Explain (10 marks)

Solution:

Both securities offer the same return but ATG has a much higher standard

deviation. Therefore the inclusion of ATG in a portfolio with CDM offers a

suboptimal outcome. Here the best choice is 100% in CDM

Students should elaborate on this although given time constraints please accept

brief answers here

Mark allocation:

FINC 2011 Practice Final Exam – S1 2024 Page 6 of 15

- 4 marks for comparing the portfolio to the individual security returns and

standard deviations

- 6 marks for recognising and discussing that 100% on CDM is the optimal

choice

FINC 2011 Practice Final Exam – S1 2024 Page 7 of 15

START A NEW BOOKLET

Question 3 (35 marks)

Lighthouse Manufacturing Ltd (LML) is considering investing in developing a new

advanced manufacturing process for assembling lights components. This process is

similar in risk to the methods they currently use. The CEO of LML, Mr Michael Brown,

has appointed you to evaluate the proposal for the investment committee. If the project

proceeds, it is expected to have an operating life of four years before being replaced by

newer techniques.

To assist you in evaluating the project the following information has been prepared:

• The new project requires new equipment to be purchased immediately. The cost

of the new equipment is $1,250,000. The equipment can be depreciated on a

straight-line basis to zero over the life of the project. The equipment is expected

to be sold for $100,000 at the end of the life of the project.

• The new project will run in a factory that has experienced a contamination

problem. Legal requirements mean that if we do not proceed with the project it

will cost the firm $400,000 in four years to clean it up. However, if we proceed

with the project we will need to clean it immediately at a cost of $300,000.

• The new project is expected to generate sales of 100,000 light components in the

first year of operation with an average selling price of $8 per unit.

• The operating costs of the project in the first year are forecast to be $5 per unit.

• Sales revenue and costs are forecast to grow in line with inflation (which is

expected to be 3% pa each year over the life of the project).

• The project requires an increase in inventories and accounts receivable of

$2 00,000. Accounts payable will increase by $100,000. Both of these changes

will be reversed at the end of the project.

• The new project requires the use of specialised equipment owned by Lighthouse

Manufacturing Ltd, but currently leased out to another firm for $120,000 per

annum before tax. The lease has 4 years remaining and if the project proceeds

the lease will need to be cancelled. There are no penalties incurred by breaking

the lease.

• Six months ago Lighthouse Manufacturing Ltd commissioned Perth Consulting

to assess the market for this new manufacturing process. The report was

delivered two months later and the figures given above are taken from that report.

Lighthouse Manufacturing Ltd paid $120,000 Perth Consulting for the report.

FINC 2011 Practice Final Exam – S1 2024 Page 8 of 15

Additional Information:

Extract from balance sheet

Liabilities

Debentures ($100 par, 8% p.a. semi-annual coupon) $3,000,000

Preference Shares ($1 par, 10% p.a. cumulative) $9 00,000

Equity

Ordinary shares ($1 par) $8,000,000

• An interest payment in relation to the debentures has just been made, and they

mature in six years from today. The current yield on similar risk debentures in

the marketplace is 5.50% p.a.

• The preference shares are trading on the market at $1.30 and a dividend has

just been paid.

• Forecasts in relation to market returns are as follows: expected rate on 10-year

Commonwealth Bonds = 3.50% p.a. compounded annually; expected return on

the market portfolio = 12.0% p.a. compounded annually.

• LML has an ordinary share equity beta of 1.4

• The ordinary shares of LML are trading on the market at $1.50 each.

• The company tax rate is 30%

• LML operates in a classical tax system

FINC 2011 Practice Final Exam – S1 2024 Page 9 of 15

Required:

i) What is the appropriate discount rate that should be used to evaluate the project?

Explain your decision. (10 marks)

Solution:

Price No. Mkt Value

Weights

Return

B/T

Return A/T

Debt $112.63 30000 $3,378,907.64 20% 5.57563% 3.90294%

Preference shares $1.30 900000 $1,170,000.00 7.07% 7.69231% 7.69231%

Ordinary Shares $1.50 8000000 $12,000,000.00 72.51% 15.40000% 15.40000%

Total

$16,548,907.64

WACC

12.50763312%

Mark allocation:

- 1 mark for calculating the market value of the bonds

- 1 mark for calculating the market value of the preference shares

- 1 mark for calculating the market value of the ordinary shares

- 1 marks for calculating the effective rate on bonds

- 2 marks for calculating the required return on the preference shares

(div/price) – note this does NOT need to be grossed up

- 2 marks for calculating the required return on the equity (using CAPM)

- 2 marks for calculating the after-tax WACC (using classical tax formula)

ii) Calculate the net cash flows used to determine the NPV of the project. Present

the cashflows in a table. (20 marks)

FINC 2011 Practice Final Exam – S1 2024 Page 10 of 15

Solution:

Initial outlay $ 1,250,000.00

Cleanup costs $ 50,349.73

Initial sales 100000

Initial Selling price $8

Initial Cost of production -$5

Forecast inflation 3.00%

Working Capital $ 100,000.00

Before Tax Lease Payments $ 120,000.00

Salvage Value $ 100,000.00

Year

0 1 2 5 6

Outlay -$1,250,000.00

Clean-up costs -$50,349.73

Revenue

$800,000.00 $824,000.00 $848,720.00 $874,181.60

Operating Expenses

-$500,000.00 -$515,000.00 -$530,450.00 -$546,363.50

Depreciation

-$312,500.00 -$312,500.00 -$312,500.00 -$312,500.00

Taxable Income

-$12,500.00 -$3,500.00 $5,770.00 $15,318.10

Tax

$3,750.00 $1,050.00 -$1,731.00 -$4,595.43

Working Capital -$100,000.00

$100,000.00

A/T Lease payments

-$84,000.00 -$84,000.00 -$84,000.00 -$84,000.00

Salvage

$100,000.00

Tax on salvage

-$30,000.00

Net Cash Flows -$1,400,349.73 $219,750.00 $226,050.00 $232,539.00 $409,222.67

FINC 2011 Practice Final Exam – S1 2024 Page 11 of 15

Mark allocation:

- 4 marks for calculating the clean-up costs ($300000-($400000/((1+0.12056)^4))

- 1 mark for calculating the revenue

- 1 mark for calculating the operating costs

- 1 marks for calculating the growth in revenue/costs

- 2 marks for calculating depreciation

- 2 marks for calculating the working capital outlay

- 1 mark for working capital recovery in year 6

- 2 marks for calculating the opportunity cost of lease

- 2 marks for EXPLICITLY identifying the sunk cost

- 2 marks for proper format of information in table

- 2 marks for net cash flows

FINC 2011 Practice Final Exam – S1 2024 Page 12 of 15

iii) Calculate the NPV of the project. Advise whether you should recommend the

project. Explain your decision. (5 marks)

Solution:

NPV

-

$607,753.77

No the project should not be accepted as the NPV is negative which indicates

that taking on the project would reduce shareholder wealth by $607,753.77,

which is not consistent with the corporate objective of maximising shareholder

wealth.

Mark allocation:

- 2 marks for calculating the NPV

- 3 marks for rejected the project and stating it has a negative impact on

shareholder wealth

FINC 2011 Practice Final Exam – S1 2024 Page 13 of 15

START A NEW BOOKLET

Question 4 (20 marks)

Modigliani and Miller (M&M) hypothesized that both dividend policy and capital structure

policy are irrelevant in determining the value of a firm. Outline the arguments they used

to reach their positions, including the assumptions underlying those arguments. With

reference to relevant academic literature, discuss why the M&M hypotheses might not

hold in practice.

Solution:

Outline assumptions of perfect capital market (5 marks):

1. No costs of trading shares

2. No costs of issuing shares

3. All market participants have the same information

4. No personal or corporate taxes

5. Individuals borrow and lend at the same rate as the company.

Students need to be able to reproduce proofs of both dividend and capital structure

irrelevance arguments (for example those on pp. 354-356 and pp .394-396) OR use

their own variation on these proofs. (10 marks)

Students then need to illustrate at least one example each of how relaxing the

assumptions above might affect make dividend AND capital structure policy relevant. (5

marks)

FINC 2011 Practice Final Exam – S1 2024 Page 14 of 15

THIS IS THE END OF YOUR EXAM

FINC 2011 Practice Final Exam – S1 2024 Page 15 of 15

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