CONFIDENTIAL BWFF3193
G
UNIVERSITI UTARA MALAYSIA
FINAL SEMESTER EXAMINATION
FIRST SEMESTER SESSION 2009/2010
CODE/COURSE NAME : BWFF3193 SEMINAR IN FINANCE
DATE 118 NOVEMBER 2009 (WEDNESDAY)
TIME + 9:00 am - 11:30 am (2 % HOURS )
VENUE : DMS
INSTRUCTIONS;
1. This examination paper contains FOUR (4) questions on ELEVEN (11) printed pages excluding
the cover page.
2, This examination paper also contains a TEN (10)-page ATTACHMENT in APPENDIX 1,
3. Answer ALL questions in the spaces provided
MATRIC NO : =
(Gn words) (Gn numbers)
IDENTIFICATION CARD NO:
LECTURER :
GROUP: TABLE NO:
DO NOT OPEN THIS EXAMINATION PAPER UNTIL YOU ARE TOLD TO DO SOBWFF3193.
Matric No:
QUESTION 1 (40 MARKS)
Please refer to the case GAINESBORO MACHINE TOOLS CORPORATION, which has
been distributed to you a week ago. For ease of reference, a copy of the case is attached as
APPENDIX 1.
‘A. What are the main issues of the case?
(4 marks)
B. What are the alternative dividend decisions that Swenson must make?
(8 marks)BWRF3193
Matric No:
C. What are the implications of different payout levels for Gainesboro’s financing need?
(8 marks)
D. —_ Whatrisks does the firm face in structuring a dividend policy?
(6 marks)E. How might Gainesboro’s stockholders and creditors react if no dividends are paid in
2005?
(8 marks)
F, What should Swenson recommend to the board of directors with regard to a long-term
dividend payout policy for Gainesboro Machine Tools Corporation? Justify your answer.
(6 marks)QUESTION 2 (30 MARKS)
‘A. Should the firm’s goal of stockholders’ wealth maximizat
short-run goal? Justify your answer.
be thought as a long-run or
(5 marks)
B. Explain what is meant by the statement, “The use of current liabilities as opposed to long-
term debt subjects firm to a greater risk of illiquidity.”
(S marks)BHFF3193
Matric Ne
C. Its often said that anyone with a pencil can calculate financial ratios, but it takes a brain
to interpret them, What kinds of things should an analyst keep in mind when evaluating
the financial statements of a given firm?
(5 marks)
D. __“Itis impossible for firms that have a zero net working capital to be bankrupt.”
What is your response to this statement?
(5 marks)BWFF3193
Matric No:
E. Critically evaluate the following statement.
“With the assumption that other things remain the same, firms with stable sales are able to
carry relatively high debt ratios.”
(5 marks)
F. What are some ways that managers could signal to outsiders about their forecasts for a
bright earnings future of a firm?
(S marks)BWFF3I93
Matric Ne
QUESTION 3 (26 MARKS)
Galileo Corporation, established in 2000, has managed to earn a consistently high rate of
return on its investment. Currently, the management of the company is considering the
manufacture of a packaging material for its products. The company’s Research and
Development teams have come up with two altematives: synthetic material, which would
have a lower startup cost, and a biodegradable material, which would cost more to produce
initially but would have greater economies of scale. At the initial presentation, the project
leaders of both teams presented their cash flow proposals. However, since the products are
mutually exclusive, the firm can only fund one proposal.
In resolving this dilemma, you, the assistant finance officer who recently graduated with a
Bachelor of Finance degree, has been assigned the task to analyse the costs ané benefits of
the two proposals and presenting your findings to the board of directors. You know that the
‘boasd of directors has historically had a strong preference for using payback period and
accounting rate of return approaches in deciding between competing projects.
After obtaining the cash flow estimates for each project (refer to Table 1 and 2), you realise
that the various capital budgeting techniques, when applied to the series of cash flows,
provide inconsistent results, The project with a shorter payback period has a lower
accounting rate of retum (ARR), but a higher intemal rate of return (IRR). You wonder
how you can convince the board that the IRR, ARR and Payback Period can often lead to
incorrect decisions. On the other hand, you are convinced that the net present value (NPV)
method will always add the most value to a company’s wealth.
Table 1
‘Synthetic Material YearO -Year1 Year? Year3 Year4 Year
‘Net Cash Flow (RM) -800,000 600,000 400,000 300,000 200,000 200,000
Payback period 15 years
‘Acctg rate of retum (ARR) 45%
Internal rate of retum (IRR) 42.91%
Table2
Biodegradable Material Year Year! Year? Year3 Year4 Year
‘Net Cash Flow (RM) 100,000,000 350,000 400,000 500,000 650,000 700,000
Payback period 25 years
‘Acctg rate of retum (ARR) 64%
Internal rate of retum (IRR) 36.63%BWPF3193
Matrie No:
‘A. Explain the argument you should make to the Board of Directors on why the Payback
Period is not an appropriate capital budgeting technique in this case?
G marks)
B. if the Board prefers to have a 50% accounting rate of retum, which project should be
accepted? What is wrong with this decision?
B marks)
C. How should you convince the Board that the IRR measure could be misleading?
(4 marks)BWRFS193,
Matric No:
D. Calculate each project's NPV, assuming the firm’s cost of capital is 12%? Which project
will you recommend to the Board of Directors?
(6 marks)
E, How should you convince the Board that the results based on the NPV method is the one to
choose?
(4 marks)BWEF3193.
Matric No:
QUESTION 4 (10 MARKS)
Wednesday August 26, 2009
ASIAN MARKETS FALL AS INVESTORS STAY ON SIDELINES.
By LEONG HUNG YEE
‘Analysts: Lack of leads to spur buying interest
PETALING JAYA: Most Asian markets including Bursa Malaysig traded lower
yesterday with some of them suffering sharp losses as investors stayed at the
sidelines.
Analysts said the flat close on Wall Street overnight and a “lack of catalysts” to
‘warrant any significant buying activity contributed to the weakness on the local
bourse.
“Additionally, weak earnings reported by Chinese commodity firms weighed in
to a notable extent. Oil prices too are drifting lower today (yesterday) with
concerns over an economic recovery surfacing again,” an analyst said.
‘The analyst said investors were waiting at the sidelines for Bank Negara to
announce the quarterly gross domestic product (GDP) figures and overnight
policy rate (OPR),
A. Referring to the above article, critically elaborate on the causes that might have triggered
the Asian market to behave as said.
(6 marks)
10BWEFSI93.
Maric
B, From your point of view, do you consider this market behaves defensively or
aggressively? Justify your answer.
(4 marks)
END OF EXAMINATION PAPER.
uAPPENDIX 1
GAINESBORO MACHINE TOOLS CORPORATION
In mid-Septémber 2005, Ashley Swenson, chief financial officer (CFO) of Gainesboro
Machine Tools Corporation, paced the floor of her Minnesota office. She needed to
submit a recommendation to Gainesboro's board of directors regarding the company’s
ividend policy, which had been the subject of an ongoing debate among the firn's
senior managers. Compounding her problem was the uncertainty surtounding the
receat impact of Hurricane Katrina, which had caused untold destruction across the
southeastern United States. In the weeks after the storm, the stock market had spi-
taled downward and, along with it, Gainesboro’s stock, which had fallen 18 percent,
to $22.15. In response to the market shock, a spate of companies had announced plans
to buy back stock. While some were motivated by a desire to signal confidence in
their companies as well as in the U.S. financial markets, still others had opportunistic
reasons. Now, Ashley Swenson’s dividend-decision problem was compounded by the
dilemma of whether to use company funds to pay shareholder dividends ot to buy
back stock.
Background on the Dividend Question
‘After years of waditionally strong eamings and predictable dividend growth, Gainesboro
had faltered in the past five years. In response, management implemented two extensive
restructuring programs, both of which were accompanied by net losses. For three years
in a row since 2000, dividends had exceeded tarnings. Then, in 2003, dividends were
decreased to a level below earnings. Despite extraordinary losses in 2004, the board of
rectors declared a small dividend. For the first (W6'quarters of 2005, the board declared
1no dividend. But in a special letter to shareholders, the board committed itself to resuming
payment ofthe dividend as soon as possiblo—ideally, sometime in 2005.
In a related matter, senior management considered embarking on a campaign of
corporate-image advertising, together with changing the name of the corporation to
“Gainesboro Advanced Systems Internation, Inc” Management believed that the name
change would help improve the investment community's perception of the company,
' Overall, management's view was thas Gainesboro was a resurgent company that
demonstrated great potential for growth and profitability. The restructurings had
revitalized the company's operating divisions. In addition, the newly developed
machine tools designed on state-of-the-art computers showed signs of being well
received in the market, and promised to render the competitors’ products obsolete,
‘Many within the company viewed 2005 #s the dawning of a new era, which, in spite
of the company’s recent performance, would tum Gainesboro into a growth stock. The
company had n0 Moody's or Standard.& Poor's rating because it had no bonds out-
standing, but Valve Line rated it an “A” company.
Out of this combination of « troubled past and a bright future arose Swenson's
dilemma. Did the market view Gainesboro as a company on the wane, a blue-chip
stock, or a potential growth stock? How, if at all, could Gainesboro affect that per-
ception? Would a change of name help to positively frame investors’ views of the
firm? Did the company's investors expect capital growth or steady dividends? Would
a stock buyback instead of a dividend affect investors’ perceptions of Gainesboro in
any way? And, if those questions could be answered, what were the implications for
Gainesboro's future dividend policy?The Company
Gainesboro Corporation was founded in 1923 ia Concord, New Hampshire, by two
‘mechanical engineers, James Gaines and David Scarboro. The two men had gone to
school together and were disenchanted with their prospects'at mechanics at a farm-
‘equipment manufacturer.
In its early years, Gainesboro had designed and manufactured a number of
machinery parts, including metal presses, dies, and molds. In the 19408, the com-
‘pany's large manufacturing plant produced armored-vehicle and tank parts and mis-
cellaneous equipment forthe war effort, including tiveters and welders. After the war,
the company concentrated on the production of industrial presses and molds, for
plastics as well as metals. By 1975, the company had developed a reputation as an
innovative producer of industrial machinery and machine tools.
In the early 1980s, Gainesboro entered the new fcid of computer-aided design and