BMCF5103/JAN2010-F/FA

INSTRUCTIONS:

1. THERE ARE SEVEN (7) QUESTIONS IN THIS PAPER. 2. ANSWER FIVE (5) QUESTIONS ONLY.

Question 1

According to agency theory, a managers personal goals may compete with shareholder wealth maximisation. Discuss some actions that might align managements and shareholders interest.

[TOTAL: 20 MARKS]

Question 2

a.

Explain efficient portfolio in detail. [10 marks]

b.

Discuss and compare Capital Asset Pricing Model and Arbitrage Pricing Model. [10 marks] [TOTAL: 20 MARKS]

Question 3

a.

Discuss why increasing the dividend payout will cause two opposing effects on a firm's stock price. [10 marks]

b.

Discuss TWO(2) theories of share repurchase. [10 marks] [TOTAL: 20 MARKS]

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Question 4

Anton Oliver proposes to invest in share AA and BB. He expects a return of 13% from AA and 9% from BB. After looking back at the past variability of the two shares, he decides that the standard deviation of returns is 9% for AA and 6% for BB. The correlation coefficient between the two returns is 0.3

a.

Compute the expected return and standard deviation of the following portfolio

Portfolio 1 2 3 4 5

Percentage in AA 0 50 25 75 100

Percentage in BB 100 50 75 25 0

[12 marks] b. Suppose Anton can borrow and lend at an interest rate of 5%. Sketch his investment opportunities set. [8 marks] [TOTAL: 20 MARKS]

Question 5

a.

The semistrong form of the efficient market hypothesis implies that prices reflect not just past prices but all other published information. To analyse this semistrong form of the efficient market, researchers have measured how rapidly security prices respond to different item of news such as dividend increase announcements and share repurchase announcements. To test the level of market efficiency, researchers use the event study methodology. Discuss. [10 marks]

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b.

Analysis of past monthly movements in KCH's stock price has produced the following estimates: = -0.45% and = 0. 5. If the market index subsequently rises by 5% one month and KCH's stock price rises by 3%, what is the abnormal change in KCH's stock price? [5 marks]

c.

If the abnormal return for a stock during the first week is +5% and during the second week is +3%, what is the abnormal return for the two-week period? [5 marks] [TOTAL: 20 MARKS]

Question 6

a.

Explain the Hamada equation. [4 marks]

b.

A firm has zero debt in its capital structure. Its overall cost of capital is 10%. The firm is considering a new capital structure with 60% debt. The interest rate on the debt would be 8%. Assuming there are no taxes, what would be its cost of equity capital with the new capital structure? [8 marks]

c.

ABC Bhd is trying to determine its optimal capital structure. The companys capital structure consists of debt and common stock. Currently the debt ratio (debt/assets) is 20% and equityto-assets ratio is 80%. The risk-free rate is 6% and the market return is 11% ,the companys cost of equity is 12% and its tax rate is 40%. What would be ABC Bhds estimated cost of equity if it were to change its capital structure to 50% debt and 50% equity? [8 marks] [TOTAL: 20 MARKS]

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Question 7

a.

According to the famous MMs Proposition 1: The market value of any firm is independent of its capital structure. Illustrate how the value of unlevered firm must be equal to the value of levered firm. [12 marks]

b.

Discuss at least FOUR (4) advantages of leasing. [8 marks]

[TOTAL: 20 MARKS]

QUESTION PAPER ENDS HERE