QUESTION ONE

a) Based on the Danga Capital Berhad bond issuance (refer to the table below), answer
the following questions (assuming the par value of the bond is RM1,000):

i. How much is the total coupon payment per year in RM and how many units are
issued by the issuer?
(4 marks)
4.94% x 1000 = RM49.40 ✓ (2 marks)
1,500,000,000/1000 = 1,500,000 units ✓ (2 marks)

ii. The bond is rated as AAA by the Rating Agency Malaysia (RAM). How does
the rating affect the price of the bond and investor?
(3 marks)
Each point = 1 mark
• An entity rated AAA has a strong capacity to meet its financial
obligations.
• The entity is resilient against adverse changes in circumstances,
economic conditions and/or operating environments.
• Since the default risk is lower, this bond has a high price.
• Good rating shows the bond is stable and the issuer is able to pay the
coupon.
 • Other relevant answers.

iii. Why bond’s yield-to-maturity (YTM) is important and what is the relationship
between the bond price and the YTM?
(3 marks)
Each point = 1 mark
• YTM is the return on the bond if the investor holds the bond until it
matures. It is used as a good indicator of how strong the stock market
and how much the interest gained for each dollar invested.
• There is a negative/inverse relationship between the YTM and the price.
• The higher the yield, the lower the price.
• Other relevant answers.

b)
i. RedTick Incorporation is a start-up company. It plans to pay no dividends over
the next five years because it must reinvest all earnings in the company to
finance growth. The company plans to begin dividends of RM3 per share
starting in year 6, then the dividend is expected to grow at 10 per cent per year
for the next three years, and 6 per cent per year in perpetuity beyond that. If the
required return on RedTick’s stock is 15 percent, what should be today’s stock
price?
(7 marks)
1. Dividends at 10% growth:
𝐷1−5 = RM0
𝐷6 = RM3
𝐷7 = RM3 X (1+10%) = RM3.30
𝐷8 = RM3.30 X (1+10%) = RM3.63
𝐷9 = RM3.63 X (1+10%) = RM3.99

2. PV of Dividends at 10% growth:

𝑅𝑀3.30
PV of 𝐷7 = (1+15%)7 = RM1.24 ✓ (1 marks)

𝑅𝑀3.63
PV of 𝐷8 = (1+15%)8 = RM1.18 ✓ (1 marks)

𝑅𝑀3.99
PV of 𝐷9 = (1+15%)9 = RM1.13 ✓ (1 marks)

Total = RM1.24 + RM1.18 + RM1.13 + = RM3.55 ✓ (1 marks)

3. PV of Dividends at 6% growth:
𝐷10 = RM3.99 X (1+6%) = RM4.22
 𝑅𝑀4.22
𝑃10 = = RM46.88 ✓ (1 marks)
15%−6%
𝑅𝑀46.89
PV of 𝑃10 = (1+15%)9 = RM13.32 ✓ (1 marks)

Total = RM4.22 + RM13.32 = RM17.54 ✓ (1 marks)

ii. Describe the THREE (3) major differences between common stock and
preferred stock
(3 marks)
Each point = 0.5 mark
Common Stock Preferred Stock
Maturity No maturity No maturity but PS often
has a written plan for
retirement or an option to
retire is retained by the
issuing firm
Dividend Depending on the board Priority to receive fixed
of director’s decision dividend rate
Liquidation Not priority (depending Priority to claim on the
on the remaining assets liquidated assets of the
left) firm
Voting rights Has voting rights No voting rights
• Other relevant answers.
QUESTION 2
You are attending an interview session for a post of finance officer at Ukay Budiman
Corporation (UBC). During the interview, the director of UBC have raised his concern on how
to set an appropriate benchmark to evaluate the company’s investment. As for now, UBC needs
to purchase a new office building to support its business expansion. Therefore, a certain amount
of capital is needed to finance its purchase. The company is planning to finance through bond
and stock issues. For bond, UBC plans to issue a 15-year bond with an 8 percent annual coupon,
and RM1,000 par value at a price of RM990 per unit. However, the flotation cost per bond
issuance is 5 percent of its par value. The whole issuance of bond will amount to total par value
of RM12,000,000. For stock issue, UBC plans to issue 1,500,000 additional shares. UBC stock
is currently selling for RM11 per share with a flotation cost of RM2.20 per share. An
investment consultant has indicated that the UBC’s beta is estimated to be 1.25. At current
economic condition, the risk-free rate is equal to 6.5% and the average market return is 13
percent. The corporate tax rate is 25 percent.
Based on the current scenario, you are required to calculate

a. The total amount of financing that UBC plans to get.

Bond: RM12,000,000/1000 = 12,000 units

Need Proceeds per unit of bond issue = RM990 – (0.05 x RM1,000)= RM940

Total financing from bond = RM940 x 12,000 units =RM11,280,000

Shares : 1,500,000 shares will be issued at RM11 with flotation cost of RM2.20 per share

Net proceed per share issue = RM11 – RM2.20 = RM8.80

Total financing from share issued = RM8.80 x 1,500,000 shares =RM13,200,000

So.. total financing = RM11,280,000 + RM13,200,000 =RM24,480,000

(4 marks)

b. The proportion of debt and equity in UBC’s target capital structure.

Proportion of debt = RM11,280,000/RM24,480,000 = 46%

Proportion of equity = RM13,200,000/RM24,480,000 =54%

(2 marks)

c. The after-tax cost of debt

RM940 = RM80 (PVIFA15,YTM) + RM1,000 (PVIF15,YTM)

Approx. YTM = 80 + (1000 -940)/15 = 84 = 0.0866 @8.66%

(1000 + 940)/2 970
 After-tax cost of debt = 8.66% (1-0.25) = 6.495%
(3 marks)

d. The cost of newly issues common stock

Cost of equity = 6.5% + 1.25 (13% -6.5%) = 14.625%

(2 marks)

e. UBC’s weighted average cost of capital (WACC)

WACC = 0.46 (6.495%) + 0.54 (14.625%) = 2.99% + 7.90% = 10.89%

(2 marks)

f. Supposed you are eyeing an investment with a beta of 0.96, can you use the same
WACC to evaluate this investment? Please explain your answer

 Using the WACC as our discount rate is only appropriate for projects that have the
SAME RISK as the firm’s current operations

 If we are looking at a project that does NOT have the same risk as the firm, then we
need to determine the appropriate discount rate for that project.

 Therefore, if the investment that is under consideration having lesser risk than the firm,
we need to adjust the WACC downwards to match with the respective risk of the
investment

(4 marks)

g. Comment on the statement below:

“A firm that uses one discount rate for all projects may over time increase the risk of
the firm while decreasing its value “

By using one discount rate is being used to evaluate all projects, ignoring the risk of the
projects, there are possibilities to incorrectly rejected positive NPV projects and incorrectly
accepted negative NPV projects. This will inappropriately increase the risk of the firm without
increasing its value.

(3 marks)
Answer Question THREE (25 marks)

a)

Find terminal value (TV) or future value at required rate of return.

Project X : TV = $200(FVIF12%,3) + $600(FVIF12%,2) + $800(FVIF12%,1) + $1,400

= $200(1.4049) + $600(1.2544) + $800(1.12) + $1400
= $280.98+752.64+896+1400
= 3329.62
PV= 2000 ; FV=3329.62
PV = FV (PVIF I,n)
i= (FV/PV)1/n -1
= (3329.62/2000) ¼ -1
= 0.1359 @ 13.59%.............2.5m

Project Y: TV = $2,000(FVIF12%,3) + $200(FVIF12%,2) + $100(FVIF12%,1) + $75

= $2,000(1.4049) + $200(1.2544) + $100(1.12) + $75
= $3,247.68.
PV= 2000 ; FV=3247.68
PV = FV (PVIF I,n)
i= (FV/PV)1/n -1
= (3247.68/2000) ¼ -1
= 0.1288 @ 12.88%...........2.4 m

Decision: The better project is X because it has a higher MIRR = 13.59%.....1 marks

b) Explain TWO (2) advantages of MIRR over IRR……………4 marks

1. IRR assumes that the cash flow from each project are reinvested at the IRR, the MIRR assume that
cashflows are reinvested at required rate of return/cost of capital/ other explicit rate. Reinvestment at
IRR is generally not correct, the MIRR is generally a better indicator of a project’s true
profitability….2 marks
2. The MIRR eliminate the multiple IRR problem and it can be compared with cost of capital when
deciding to accept or reject projects…2 marks

c)

1. Initial outlay…5m

Cost – 25,000
Modified -5000
Depreciable asset = (30,000)
NWC = (20000-5000) = (15,000)

Proceed of sales of old asset---Selling Price + 20,000

Tax effect – Kos belian – total depreciation
28,000 – (28,000/8)*2
= 21,000 ( Book value)
-Salvage value 20,000…Loss 1000
- Tax saving = 1000* 0.28 = 280

1
Total Initial outlay: ( 24,720)

2. Annual cash flow….4 m

Revenue 5,000
Cost saving 1200
-Depreciation ….. 30,000/6= 5000…new; old machine = 28,000/8=3500..incremental Depreciation of
(1500)
EBT = 4700
Tax (28%) = (1316)
EAT = 3384
+ depreciation = 1500
Cash flow = 4884

3. Terminal value:..3m

Salvage value 2000

Tax effect = fully depreciated- no book value…28% x2000 = (560)
Recapture NWC = +15,000
Total =16,440

4. Decision: 3m

NPV= 4884 (PVIFA 15%,5) + (4884+16,440) (PVIF 15%,6) – 24,720

=16,372.14 +9218.37 -24,720
= 870.51

_Decision: Should replace the old machine because NPV is positive

2
QUESTION 4
OPOKONO Bhd. Produces water pump components which sell for P=RM120. OPOKONO’s
fixed costs are RM220,000; 6,000 components are produced and sold each year; EBIT is
currently RM65,000; and OPOKONO’s assets (all equity financed) are RM500,000.
OPOKONO estimates that it can change its production process, adding RM400,000 to
investment and RM50,000 to fixed operating costs.
This change will (1) reduce variable costs per unit by RM10, and (2) increase output by 2,000
units, but (3) the sales price on all units will have to be lowered to RM115 to permit sales of
the additional output.
OPOKONO has tax loss carry-forwards that affect its tax rate to be zero. OPOKONO uses no
debt, and its average cost of capital is 10%.
a) Should OPOKONO make the change?
b) Would OPOKONO’s degree of operating leverage (DOL) increase or decrease if it
made the change? What happen to its breakeven point?

ANSWERS
a. (1) Determine the VC per unit at present:
EBIT = P(Q) – F – V(Q)
RM65,000 = RM120(6,000) - RM220,000 – V(6,000)
6,000V = RM435,000
V = RM72.50
(2 marks)
(2) Determine the new EBIT level if the change is made:
New EBIT = P2(Q2) – F2 – V2(Q2)
= RM115(8,000) - RM270,000 – RM62.50(8,000)
= RM150,000
(2 marks)
(3) Determine the incremental EBIT:
EBIT = RM150,000 – RM65,000
= RM85,000
(2 marks)
(4) Estimate the approximate rate of return on the new investment:
ROA = EBIT / Investment
 = RM85,000 / RM400,000 = 21.25%
Since the ROA exceeds OPOKONO’s average cost of capital 10%, this analysis suggest
that OPOKONO should go ahead and make the investment.
(2 marks)

b. DOL = Q(P - V)
Q(P - V) - F
DOLold = 6,000(RM120 – RM72.50) = 4.385
6,000(RM120 – RM72.50) - RM220,000
DOLnew = 8,000(RM115 – RM62.50) = 2.800
8,000(RM115 – RM62.50) - RM270,000
This indicates that operating income will be less sensitive to changes in sales if the
production process is changed; thus, the change would reduce risks. However, the
change would increase the breakeven point. Still, with a lower sales price, it might be
easier to achieve the higher new breakeven volume.
(2 marks)
Old: QBE = F/ (P-V) = RM220,000 = 4,631.58 units
RM120 – RM72.50
New: QBE = F/ (P2-V2) = RM270,000 = 5,142.86 units
RM115 – RM62.50

(2 marks)
Question 4b: EBIT-EPS Analysis

PROPOSAL A PROPOSAL B
Interest Expense RM25,000 RM50,000
Preferred Annual Dividend RM6,000 RM1,500
Retained Earnings RM180,000 RM150,000
Number of Common Shares Outstanding 220,000 100,000
Number of Preferred Shares Outstanding 80,000 50,000

(i) What is the EPS under Financing Proposal A and B, if the firm predicts EBIT of
RM300,000 and has a tax rate of 24 percent?
(ii) Based on the information given in the table, at about what EBIT level should the
financial manager be indifferent to either proposal?

ANSWERS:
(i) Calculate the EPS with the formula:
EBIT - Interest)( 1 - tax rate) - PD
EPSA =
# of common shares outstandin g

($300,000-$25,000)(1-0.24)-$6,000
= 220,000

= 0.923
(1.5 marks)
EBIT - Interest)( 1 - tax rate) - PD
EPSB =
# of common shares outstandin g

($300,000-$50,000)(1-0.24)-$1,500
= 100,000

= 1.885
(1.5 marks)
(ii)

At EBIT =RM67,872.81 EPS is the same for both plans.

(3 marks)
PROPOSAL A
(RM67,872.81 - RM25,000)(1-0.24) - RM6,000 = 0.12
220,000

(1 mark)
PROPOSAL B
(RM67,872.81 - RM50,000)(1-0.24) - RM1,500 = 0.12
100,000
(1 mark)
QUESTION 5

a) Recently, the Board of Directors of KJP Berhad has declared a dividend of RM3.00 per share
payable on Friday 24th June to the holders of record as of 3rd June 2022. Ali buys 200 shares of
KJP Berhad shares on 27th May for RM10 per share. Is Ali entitled to receive the dividends
declared? Explain your answer.
(5 marks)

Yes, Ali is entitled to receive the dividend declared since he purchased the share before ex-
dividend date. The ex-dividend date is 30th May (Monday)

b) What is a stock dividend and how is it similar to a stock split?

(5 marks)

Stock dividend is another type of dividend by paying in shares of stock. The effect of stock
dividend is to increase the number of shares that each owner holds. A stock dividend is similar
to stock split since it creates additional shares and reduces the value per share. Therefore,
stock split and stock dividends have same impacts on the company and the shareholders.

c) JP Berhad is planning to pay dividends of RM550,000. There are 275,000 shares outstanding
with an earnings per share of RM6. The share should sell for RM45 after the ex-dividend date.
Instead of paying dividend, the management decides to repurchase stocks.
(i) What should be the repurchase price?
(3 marks)
Proposed dividend per share RM550,000/275,000 = RM2.00
Repurchased price = RM45 + RM2 = RM47

(ii) How many shares should be repurchased?

(2 marks)
RM550,000/RM47 = 11,702.