General:

Students at this level need to have firm grip over the concepts and jargons of finance for measuring projects, valuing share prices, opting for type of finance and managing various risks. The only way to acquire it is to refer to good books dealing with practical scenarios.

Most of the students, probably due to lack of practice, could not organize their answers and lots of scribbling, cutting and overwriting were noticed that caused a bad impression on examiners.

Q.1

(a)

Generally, students had reasonable understanding of hedging foreign exchange exposure like forward cover, lead payment with borrowed funds, future contract, taking speculation risk and money market hedging etc. However, many of them had problem in understanding the standard form of presenting forex rates as given in the question.

(b)

In this part surprisingly most students restricted their evaluation to forward cover and did not evaluate the other options although they had demonstrated their understanding of those methods in part (a).

Q.2

(a)

This was the easiest question of the paper requiring evaluation of project on the basis of pay-back period, NPV, IRR and PI. Common mistakes were: 

• Incorrect incremental cash flows
• Calculation of pay-back period on discounted cash flow
• Knowledge of interpolation was lacking. Some students tried it with both positive NPVs.
• Effects of taxation were either ignored or incorrectly calculated 

The question was also attempted in haste and disorganized manner with supporting schedules appearing like a rough work. These kinds of questions require practicing as there was  very limited involvement of complex theories. In case of project or business valuation or capital budgeting, development of detailed cash flow is very important and essential, and require some extra efforts on practicing the cash flows.

(b)

No comments were offered on the information regarding too many firms entering and leaving the market. It actually depicts that risk of failure is high and therefore the required rate of return will be higher in such situation.

Q.3

(a)

This was a simple share valuation question given with very limited to-the-point case details. It was done well by most of the students. The common mistakes were:

• Non-recurring cash flows (like sale proceeds of part of a business and redundancy costs) were accounted for in annual earnings of the companies. 

• Instead of using existing PE multiple of Nordik, as instructed in the question, it was recalculated using various assumptions resulting in incorrect valuation of the company.

(b)

In this part, the students while calculating the required swap ratio used the post merger share price of Prodco as calculated in part (a). They ignored the fact, that when the swap ratio will change, the number of outstanding shares and therefore their market price will also change.

Q.4

The question consisted of six small parts containing simple requirements like ascertaining discounting rate, calculating free cash flow, discounting cash flows, valuation of share and computation of dividend growth. Students did have the knowledge but many of them were unable to arrange their thoughts properly and jumbled up all the concepts they knew. Very few could attempt all parts correctly. Some common mistakes noticed were: 

• ‘k_eg’ was suggested as the appropriate rate to discount in part (a) whereas WACC was the best option in the given case. 

• Proper distinction between free cash flow to the company (available to service both equity and debt providers) and free cash flow to equity holders (available to service equity holders) could not be made and at times same answer was given in both cases.

• Cash flow is an easy topic in Accounting but while attempting part (b) and (e) many students ignored the change in working capital

Q.5

Almost 50% of the students knew the concepts of “equivalent annual cost” and secured good marks. The others either did not know the concept or jumbled up the figures. Mainly they erred in computing the tax loss on disposal of machine. Some of the students made the mistake of taking the effect of tax in the same year instead of next year.

Q.6

It was a simple question. Majority of the student accurately carried out the valuations  but most of them could not comment properly on the methods used. The methods that could be used were

Historic cost method

Net realizable value

Replacement cost

PE multiple

Accounting rate of return

Discounted cash flow

However lot of students also used the dividend growth model, which was not applicable as it was a case of majority acquisition and the acquirer was not looking for dividend stream. Some students restricted their answers to calculations only. The reply should have included brief comments on each proposed method.