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An exam instruction for the finance i and ii modules of the m.sc. International accounting and finance program. It includes details about the exam format, instructions for candidates, and questions covering various finance topics such as internal rate of return, payback period, discounted cash flows, and investment appraisal. Candidates are required to answer all questions from section a, one question from section b, and one question from section c.
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an d
Calculators must not be used to store text and/or formulae nor be capable of communication. Invigilators may require calculators to be reset. All answers are to be written in the spaces provided in ink. If more space is required the answer can be continued on the back of the page where the question appears (scrap pages for additional workings are attached to the back of the test). Please write clearly as illegible writing cannot be marked. Failure to follow these requirements will lead to a deduction of marks.
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Finance Int. Banking & Fin Int. Accounting & Fin
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c) Determine its payback period and discounted payback period. Briefly interpret your results.
Q2. Use the incremental rate of return to determine which of the following two mutually exclusive investments, A and B, should be adopted given a required rate of return of
10 per cent. Explain briefly why your choice is consistent with the goal of value maximisation.
Investment Outlay NCF (Years 1 →
Approximate IRR A ‐50,000 14,916 15 per cent B ‐70,000 20,741 14.7 per cent
b) The development agency provides loans on a subsidised basis and the interest rate for the company on commercial terms would have been 12 per cent. Determine the present value of the subsidy being offered to the company.
Q4. An individual intends contributing £5,000 per annum to a pension fund for the next twenty years. The pension fund promises a minimum annual rate of return of 5 per cent per annum on all contributions and the pension to be received depends in part on the capital accumulated in the fund. The pension also depends on the assumed retirement period. If the retirement period for calculating the pension is 15 years determine the annual pension payment. It is anticipated that the capital in pension fund continues to earn 5 per cent as it is run down over the 15 year period. To simplify assume that all payments into and out of the pension fund occur at year end.
iii. What rate of return is the company expected to earn on its investments?
b) An evaluation of the prospects of Dragon plc suggest the dividends per share over the next three years will be £10, £ and £20 respectively. From year three onwards dividends are expected to grow at 6 per cent per annum. If the required rate of return is 14 per cent determine a value for the shares.
Q7. The expected rate of return on security X is 20 per cent and its standard deviation is
18 per cent whereas the expected return on security Y is 30 per cent with a standard deviation of 27 per cent. Determine the expected rate of return and risk of a portfolio made up of 60 per cent of X and 40 per cent of Y, if the correlation of the returns on these securities is +0.3.
b) Determine the limiting value of the portfolio’s standard deviation as the number of shares included in the portfolio increases.
Q9. Portfolios X and Y are efficient portfolios and the expected return and risk on these portfolios are as follows
Portfolio Expected Return
Standard Deviation Bet a X 10 per cent 8 per cent 0. 0 Y 14 per cent 16 per cent 0. 0
a) What is the expected rate of return and risk of the market portfolio?
(2 marks)
Q10. The expected rates of return in securities X and Y, the market portfolio and the risk free asset are given below, along with the standard deviations of these returns.
Asset Expected Return Standard Deviation Security X 16 per cent 20 per cent Security Y 22 per cent 30 per cent Market Portfolio 14 per cent 12 per cent Risk Free Asset 6 per cent 0
a) Assuming that the returns are explained by the capital asset pricing model specify the betas for securities X and Y, and the correlation of the returns of X with those of the market portfolio.
b) Specify the composition of an efficient portfolio that will produce an expected return of 16 per cent. Contrast the risk of this portfolio, both the standard deviation of returns and beta, with the risk of security X.
