FACULTY OF INFORMATION TECHNOLOGY
BACHELOR OF BUSINESS INFORMATION TECHNOLOGY
END OF SEMESTER EXAMINATIONS
BBIT 1204: BUSINESS FINANCE
DATE: Monday, 16th March 2020 Time: 2 Hours
INSTRUCTIONS
1) This paper consists of FIVE questions
2) Answer Question ONE (COMPULSORY) and any other TWO
QUESTION ONE
a) What is meant by the term “capital flight”? (2 marks)
b) Outline THREE (3) functions of a financial manager in a contemporary corporate set-up (3 marks)
c) Discuss FIVE (5) problems encountered by sole traders in a bid to raise finances. (5 marks)
d) Referring to business finance context, discuss THREE (3) problems that might exist in the
relationships between shareholders and provider of funds. (3 marks)
e) What is venture capital? (1 marks)
f) Why is the market for venture capital not yet well developed in Kenya or your country? (4 marks)
g) Kisuko Limited is considering the purchase of a new machine. Machines MacK2 is available which
costs Sh.7, 000,000 in the market. The cash flow after taxation of the machine is as follows:
Year MacK2
Sh. (000
1 600
2 1,800
3 2,000
4 3,000
5 2,400
Required;
i. Compute the net present value of the machine using 12% required rate of return. (8 marks)
ii. Assuming that the machine represents a project: Compute the internal rate of return of
Kisuko Limited expects to earn from the project. (4 marks)
(Total: 30 marks)
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QUESTION TWO
a) Using example, define financial intermediation? (1 marks)
i. Identify any four services that financial intermediaries provide. (2 marks)
b) What is meant by the term weighted average cost of capital and marginal weighted average cost
of capital? (3 marks)
c) Xafaricom Company Ltd. is in the Telecommunications Industry. The company’s statement of
financial position as at 31 March 20X0 is as shown below:
Liability and Owners Sh.’000’ Assets Sh.’000’
Current liabilities 12,500 Current assets 32,500
18% debentures (sh.1,000 par) 16,000 Net fixed assets 42,875
10% preference shares 6,250
Ordinary shares (Sh.10 par) 12,500
Retained earnings 28,125 _____
75,375 75,375
Additional information;
The debentures are now selling at Sh.950 in the market and will be redeemed 10 years from now. By
the end of last financial period, the company had declared and paid Sh.5.00 as dividend per share. The
dividends are expected to grow at an annual rate of 10% in the foreseeable future. Currently, the
company’s shares are trading at Sh.38 per share at the local securities exchange.
The preference shares were floated in 20X5 and their prices have remained constant. Most banks are
lending money at an interest of 22% per annum. The Corporation tax rate is 40% per annum.
Required:
i. Calculate the market weighted cost of capital for this firm. (12 marks)
ii. The book-value weights should be used discreetly when computing weighted cost of capital.
Why? (2 marks)
(Total: 20 marks)
QUESTION THREE
a) List and explain three factors that should be taken into account by a businessman in making the
choice between financing by short-term and long-term sources. (6 marks)
b) Lenza Ltd has six projects available for investment as follows:
Project Initial cost Sh.’M’ NPV @ 15% cost
of capital
1 60 21
2 15 9
3 20 9
4 55 15
5 30 20
6 40 -2
The firm has Sh.100 M available for investment.
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Required:
i. Identify which projects should be undertaken. Using P.I and NPV ranking, comment on your
answer. (6 marks)
c) Nguuni Ltd has estimated that the standard deviation of its daily net cash flows is Sh.2, 500. The
firm pays Sh.50 in transaction costs to transfer funds into and out of this money market. The rate
of interest in the money market is 7.465% p.a. Nguuni Ltd uses the Miller-Orr Model to set its target
cash balances.
Required;
(i) What is Nguuni’s target cash balance? (2 marks)
(ii) What are the lower and upper cash limit? (2 marks)
(iii) What are the Nguuni’s decision rules? (2 marks)
(iv) Determine Nguuni’s expected average cash balance. (2 marks)
(Total: 20 marks)
QUESTION FOUR
(i) Explain fully the effect of the use of debt capital on the capital structure of a company. (3 marks)
(ii) Mwetu General Hardware Company sells plumbing fixtures on terms of 2/10 net 30. Its financial
statements for the last three years are as follows:
20X8 20X9 20X0
Sh’000’ Sh’000’ Sh’000’
Cash 30,000 20,000 5,000
Accounts receivable 200,000 260,000 290,000
Inventory 400,000 480,000 600,000
Net fixed assets 800,000 800,000 800,000
1,430,000 1,560,000 1,695,000
Accounts payable 230,000 300,000 380,000
Accruals 200,000 210,000 225,000
Bank loan, short term 100,000 100,000 140,000
Long term debt 300,000 300,000 300,000
Common stock 100,000 100,000 100,000
Retained earnings 500,000 550,000 550,000
1,430,000 1,560,000 1,695,000
Additional information:
Sales 4,000,000 4,300,000 3,800,000
Cost of goods sold 3,200,000 3,600,000 3,300,000
Net profit 300,000 200,000 100,000
Required
(i) For each of the three years, calculate the following ratios: Acid test ratio, Average collection
period, Inventory turnover, total debt/equity, Net profit margin and return on assets. (9 marks)
(ii) From the ratios calculated above, comment on the liquidity, profitability and gearing positions
of the company. (8 marks)
(Total: 20 marks)
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QUESTION FIVE
a) Your business just closed a Sh.2, 000, 000 business loan that is to be repaid in Eight (8) equal
end-of year repayments. The interest rate on the loan is 14%.
Required:
(i) Prepare an amortization schedule for the loan. (8 marks)
b) Distinguish between a credit policy and a working capital policy. (2 marks)
c) List and explain five sources of business finance (5 marks)
d) Highlight two features of capital budgeting decisions (2 marks)
e) The dividend per share of Misai Limited as at 31 December 2018 was Sh.2.50. The company’s
financial analyst has predicted that dividends would grow at 20% for five years after which growth
would fall to a constant rate of 7%. The analyst has also projected a required rate of return of 10%
for the equity market. Misai’s shares have a similar risk to the typical equity market.
Required:
i. Calculate the intrinsic value of shares of Misai Ltd. As at 31 December 2018. (3 marks)
(Total: 20 marks)
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