MBA 906: Financial Strategy and Governance
ASSIGNMENT 1: BASIC FINANCIAL CONCEPTS (25% WEIGHT)
Released date: 25th of May, 2022
Submission Date: 29th of May, 2022 (20% plenty for late submission)
Submission: Moodle course site
Financial Management Decisions (10 MARKS)
1. What are the major financial management decisions? For each type of decision, give an example of a business transaction that would be relevant.
2. Give five examples of ways in which manager’s goals can differ from those of shareholders.
3. Suppose you own stock in a company. The current price per share is $25. Another company has just announced that it wants to buy your company and will pay $35 per share to acquire all the outstanding stock. Your company’s management immediately begins fighting off this hostile bid. Is management acting in the shareholders’ best interests? Why or why not?
Time Value of Money (15 MARKS)
1. You are considering two separate investments. Both investments pay 7 percent interest. Investment A pays simple interest and Investment B pays compound interest. Which investment should you choose, and why, if you plan on investing for a period of 5 years?
2. You would like to retire in 30 years as a millionaire. If you have $15,000 today, what rate of return do you need to earn to achieve your goal?
3. You’ve been saving up to buy your dream house. The total cost will be $2 million. You currently have about $0.3 million. If you can earn 4.5 percent on your money, how long will you have to wait?
4. You have 40 years left until retirement and want to retire with $2 million. Your salary is paid annually, and you will receive $40,000 at the end of the current year. Your salary will increase at 3 percent per year, and you can earn an 11 percent return on the money you invest. If you save a constant percentage of your salary, what percentage of your salary must you save each year?
Comparing Investment Criteria (25 MARKS)
Consider the following two mutually exclusive projects:
| Year | Cash Flows (A) | Cash Flows (B) |
| 0 | -$300,000 | -$40000 |
| 1 | 20,000 | 19,000 |
| 2 | 50,000 | 12,000 |
| 3 | 50,000 | 18,000 |
| 4 | 390,000 | 10,500 |
Whichever project you choose, if any, you require a 15 percent return on your investment.
1. If you apply the payback criterion, which investment will you choose? Why?
2. If you apply the discounted payback criterion, which investment will you choose? Why?
3. If you apply the NPV criterion, which investment will you choose? Why?
4. If you apply the IRR criterion, which investment will you choose? Why?
5. If you apply the profitability index criterion, which investment will you choose? Why?
6. Based on your answers in (a) through (e), which project will you finally choose? Why?
Capital Budgeting (25 MARKS)
Corporation ABC is considering a four-year project to improve its production efficiency. Buying a new machine press for $560,000 is estimated to result in $210,000 in annual pretax cost savings. The press falls in the MACRS five-year class, and it will have a salvage value at the end of the project of $80,000. The press also requires an initial investment in spare parts inventory of $20,000, along with an additional $3,000 in inventory for each succeeding year of the project. If the company’s tax rate is 35 percent and its discount rate is 9 percent, should the company buy and install the machine press? MACRS Rates: 20%, 32%, 19.20%, 11.52%
Risk and Return (25 MARKS)
Explain what CAPM tells us and how to practically use CAPM beta for investment decisions.
Consider the following information about three stocks:
| State of Economy | Probability of State of Economy | Expected returns of Stock A | Expected returns of Stock B | Expected returns of Stock C |
| Boom | 35% | 24% | 36% | 55% |
| Normal | 50% | 17% | 13% | 9% |
| Bust | 15% | 0% | -28% | -45% |
a. If your portfolio is invested, 40 percent each in stock A and stock B and 20 percent in stock C, what is the portfolio expected return and the standard deviation and variance.
b. You own a stock portfolio invested 25 percent in Stock Q, 20 percent in Stock R, 15 percent in Stock S, and 40 percent in Stock T. The betas for these four stocks are .84, 1.17, 1.11, and 1.36, respectively. What is the portfolio beta?
c. A stock has an expected return of 13.5 percent, its beta is 1.17, and the risk-free rate is 5.5 percent. What must the expected return on the market be?
