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FINC5001 Practice Final Exam S1 2025

Question One                         30 Marks

Mataxis Textiles Ltd is a manufacturer of high-quality textiles has been in this line of business for the past 13 years. The CEO of Metaxis, Mr Angelo Georgiou, is concerned about the future of the industry and is considering diversifying the company’s operations into manufacturing consumer goods. To evaluate the new project Mr Georgiou has asked you to calculate the company’s cost of capital. Metaxis Textiles operates in a classical tax environment.

To assist you in this task you have been provided with the following information about the firm’s current financing structure:

Debt:

• $30 million revolving line of credit with an interest rate of 5.25% pa compounded quarterly.

• $60 million face value of corporate bonds with a coupon rate of 6%pa, semi-annual coupon payments and 10 years until maturity. The bonds are rated BB.

Equity:

• 50 million ordinary shares outstanding. The shares have a beta of 1.2. The next annual dividend on the shares is forecast to be $0.40 in exactly one year’s time. The dividend is expected to grow at 3% pa compounded annually in perpetuity.

• $12 million in retained earnings.

Market information:

• Current yield on BB rated bonds is 7.5% pa compounded semi-annually.

• Current government bond yield is 3.75% pa compounded semi-annually.

• Current return on the market index is 12% pa compounded annually.

• The corporate tax rate is 30%.

Required:

I. What is the weighted average cost of capital of Markon Textiles Ltd? Demonstrate your answer with calculations.        (20 marks)

II. Is this company cost of capital you have calculated an appropriate discount rate for evaluating the new consumer goods project the CEO is considering? Explain the factors that would influence the decision as to whether to use it for the new project.        (10 marks)

Question Two                           30 Marks

KPop Fanbase Ltd is considering investing in the development of new BLACKPINK merchandise. This project is similar in risk to the firm’s other merchandising projects. The CEO of KPop Fanbase, Ms Karen Choi, has appointed you to evaluate the proposal for the company’s investment committee. If the project proceeds, it is expected to have an operating life of three years before being replaced by new merchandise.

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 $1,200,000. The equipment can be depreciated on a straight-line basis to zero over a 6-year life. The equipment is expected to be sold for $600,000 (in nominal terms) at the end of the life of the project.

• The new project is expected to sell the following units each year:

Year 1 – 6,000 units

Year 2 – 12,000 units

Year 3 – 15,000 units

• The selling price of each unit (in nominal values) is expected to be $95 in the first year and rise by inflation each subsequent year.

• Variable costs of each unit (in nominal terms) forecast expected to be $85 in the first year and then decline by 3% pa each subsequent year.

• Fixed costs of $20,000 each year (in nominal terms) are expected to remain constant for the life of the project.

• The project requires an increase in inventories and accounts receivable of $70,000. Accounts payable will increase by $30,000. Both of these changes will be reversed at the end of the project. Both values are nominal amounts.

• The project is expected to increase the sale on the TWICE merchandise also sold by the firm. TWICE products sell for a profit margin net of tax (selling price minus fixed and variable costs and tax) of $19 per unit in real terms and each year 40,000 units are sold. The new BLACKPINK merchandise is expected to increase the number of TWICE units sold by 20% to 48,000 units per year.

• KPop Fanbase Ltd will finance part of this project with a loan of $600,000 from BankEast Ltd. The interest expense on the loan each year amounts to $30,000. These figures are nominal values.

• Four months ago, KPop Fanbase Ltd commissioned SuperMarketing Group to assess the market for this new product. The report was delivered two months later, and the figures given above are taken from that report. KPop Fanbase Ltd paid $40,000 to SuperMarketing Group for the report.

• Inflation is forecast to be 2% pa over the life of the project.

Additional Information:

• Company tax rate is 30%

• KPop Fanbase Ltd has previously used the company WACC of 10% pa compounded annually to evaluate merchandising projects. However, a colleague of yours believes that this project should be discounted by the risk-free rate of 3.5% pa compounded annually.

• KPop Fanbase Ltd operates in a classical tax system.

Required:

I. Calculate the net cash flows used to determine the NPV of the project. Present the cashflows in a table. Calculate the NPV of the project. Be careful to explicitly state any assumptions or items excluded from the cash flows.         (20 marks)

II. Should the company proceed with the project? How do the synergistic effects impact upon the decision? Discuss.     (10 marks)

Question Three                    20 Marks

Answer both of the following questions:

A. “It does not matter if you operate in an imputation or a classical tax system. The weighted average cost of capital should be calculated the same way!”

Required:

I. Is this statement correct? Discuss with reference to the models and theory you have examined in this unit.          (10 marks)

B. “All government bonds are suitable for use as a risk-free asset in the capital asset pricing model (CAPM).”

Required:

II. Is this statement correct? Discuss with reference to the models and theory you have examined in this unit.           (10 marks)

Question Four 20 Marks

You have identified two companies you are considering creating a two-stock portfolio out of; Advanced Technologies Group (ATG) and Mataxis Textiles Ltd (MTX). A respected financial analyst has predicted the following possible outcomes for each company next year:

Furthermore, you have determined that the covariance between ATG and MTX is -0.01915

Required:

I. Calculate the expected return and standard deviation of returns of ATG and MTX. Show your calculations.            (5 marks)

II. Calculate the expected return and standard deviation of a portfolio comprised of 50% invested in ATG and 50% invested in MTX. Show your calculations.          (5 marks)

III. Is this portfolio the best outcome for a risk averse investor? Explain. (10 marks)