SECTION A – Answer ALL questions. Each question has only ONE correct answer. Each question carries equal weight.

1.       Which one of the following statements concerning a sole proprietorship is correct?

a.        The proprietorship pays taxes at the corporate tax rate.

b.        The ownership of the firm is easy to transfer to another individual.

c.        The ability to raise capital is limited by the owner's personal wealth.

d.        The company must pay income taxes separate from the taxes paid by the owner.

2.       Waitrose has sales of £820,000 and costs of £600,000. Interest expense is £36,000 and depreciation is £54,000. The tax rate is 21 percent. What is the net income?

a.        £102,670

b.        £102,700

c.        £115,000

d.        £189,250

3.     At the beginning of the year, a firm had total assets of £52,700, fixed assets of £33,200,     and current liabilities of £13,280. At the end of the year, the current assets are £15,000, the fixed assets are £34,100, and the current liabilities are £14,210. What is the change in net  working capital for the year?

a.        −£18,260

b.       −£5,430

c.       £9,110

d.       £12,450

4.     Glencore established a trust fund that provides £131,000 in college scholarships each year. The trust fund earns 6.25 percent and distributes only its annual income. How much money did Glencore contribute to establish this fund?

a.        £1,987,408

b.        £2,032,520

c.        £2,096,000

d.        £2,291,613

5.     You are considering two independent projects that have differing requirements. Project A    has a required return of 12 percent compared to Project B's required return of 13.2 percent. Project A costs £73,000 and has cash flows of £22,000, £50,000, and £13,000 for Years 1  to 3, respectively. Project B has an initial cost of £70,000 and cash flows of £13,000,           £19,000, and £41,500 for Years 1 to 3, respectively. Based on the NPV, you should:

a.        accept both Project A and Project B.

b.        reject both Project A and Project B.

c.        accept Project A and reject Project B.

d.        accept Project B and reject Project A.

6.       The weighted average cost of capital of Game Ltd is 10%. If Game Ltd has a capital        structure of 50 percent debt and 50 percent equity, a before-tax cost of debt of 5%, and a tax rate of 20%, what is the firm’s cost of equity capital?

a.        12%

b.        14%

c.        16%

d.       20%

7.       Calman Industries has 5 million shares outstanding at present with each share currently trading at £40 per share. Suppose the firm announces a 5-for-2 stock split, how many   shares will the company have following the split?

a.     25.0 million

b.      12.5 million

c.      2.0 million

d.      16.0 million

8.       Which of the following conditions might lead a financial manager to decide to expedite a positive net present value investment project?

a.     The risk-free interest rate increases.

b.      Uncertainty about future project value increases.

c.      The cash inflows generated by the project are lower than previously thought.

d.      Investment required for the project is expected to increase in the near future.

9.       Which of the following statements is false?

a.       Beta is the expected percent change in the excess return of the security for a 1% change in the excess return of the market portfolio.

b.       Beta represents the amount by which risks that affect the overall market are amplified for a given stock or investment.

c.        It is common practice to estimate beta based on the historical correlation and volatilities.

d.       Beta measures the diversifiable risk of a security, as opposed to its market risk, and is the appropriate measure of the risk of a security for an investor holding the

market portfolio.

10.     Which of the following is TRUE?

I. With perfect capital markets, a firm's WACC is independent of its capital structure and is equal to its equity cost of capital if the firm is unlevered.

II. Given a 35% corporate tax rate, for every £1 in new permanent debt that the firm issues, the value of the firm increases by £0.35.

III. A key assumption of Modigliani-Miller's Proposition I without taxes is that individuals can borrow on their own account at the same rate as the firm.

IV. Firms have an incentive to increase leverage to exploit the tax benefits of debt. But with too much debt, they are likely to risk default and incur financial distress costs.

A.  I and IV only

B.  II and IV only

C.  I, II and IV only

SECTION B – Answer ONE question

11.

a)   Happy Ltd is an all equity firm which intends to acquire all of the shares of Lucky Ltd, another all-equity firm. The consideration for the acquisition has been agreed at          £3,000,000. It is projected that the acquisition will result in synergies of about              £2,000,000. Happy Ltd currently has 500,000 shares outstanding each trading at £20. Lucky Ltd, on the other hand, has 200,000 shares outstanding, each trading at £10.

i.    Assuming the consideration for the acquisition is settled in cash, how much will the shareholders of Lucky Ltd gain from this transaction?         (20 marks)

ii.    Assuming the consideration is settled in cash, what is the value of the      combined firm after the acquisition?                                           (10 marks)

iii.    If the consideration is settled by using equity, what is the gain to the

shareholders of Happy Ltd considering the true cost of the acquisition?    (30 marks)

b)   Do all mergers and acquisitions create value for shareholders? Discuss . (40 marks)

12.

a)   James White has invested 70% of his money in share A and the remainder in share B. He evaluates their prospects as following:

What are the expected return and standard deviation of returns on his portfolio?     (20 marks)

b)   Assume the 1-year government bond yield is 3% and the expected return on FTSE-100 is 13%, what is the beta of shares A and B?                                             (30 marks)

c)   When does IRR (internal rate of return) method give us unreliable investment          decisions? Briefly discuss those situations.                                              (50 marks)

13. a)     Alpha Plc has just paid a dividend of $5.00 per share. The company plans to increase

its dividend by 10 percent next year and will then reduce the dividend growth rate by 2 percentage points per year until it reaches the industry average of 4 percent, after       which the company will keep that 4 percent constant growth rate, forever.

Alpha Ltd is financed by a mix of 70% equity and 30% debt, with a cost of debt of 6%.  Currently, risk free assets, in the form of long-term government bonds, provide a return of 3%. The market in which Alpha Ltd operates, provides an average return of 7% and Alpha’s Ltd’s level of systematic risk is 1.2.

i.    Determine an appropriate discount rate to be used in valuing the share price of Alpha Ltd. Explain your choice.                                                  (20 marks)

ii.    What is the share price of Alpha Ltd.                                          (50 marks)

b)     Explain the concept of terminal growth rate and discuss why it is impossible for firms with good management to have a terminal growth rate higher than industry or market growth rate forever.                                                                                 (30 marks)

SECTION C – Answer ONE question

14.   Discuss the assumptions of the capital asset relate to the "real world" investment decision

pricing model, and how these assumptions

(100 marks)

15.   Why should a financial decision maker such as a corporate treasurer or CFO be concerned

with market efficiency?

(100 marks)

16.    Discuss how capital structure decisions can send useful signals to financial markets and

shareholders.

(100 marks)

17.   Corporate managers sometimes use dividends as a tool for communicating with the market.