Strategic Financial Management June 2024

Description

Strategic Financial Management

June 2024 Examination

 

 

Question 1:

A manager in a bank appraising a project found from sensitivity analysis that a project is too risky with respect to the selling price assumed. To this the Director of the firm stated that he believed in scenario analysis to make a judgement about the risk of the project and asked the manager of the bank to consider scenarios rather than sensitivity. Was the Director right in his suggestion?    (10 marks)

Ans 1.

Introduction

In the dynamic realm of project appraisal and financial management, different analytical methods offer distinct lenses through which the viability and risk associated with projects can be scrutinized. Sensitivity analysis, a tool preferred by the bank manager, focuses on how changes in individual variables impact a project’s outcome, providing a microscopic view of risk pertaining to specific parameters like selling price. Conversely, the Director’s endorsement of scenario analysis suggests a shift towards examining the project under a broader spectrum. Scenario analysis evaluates the impact of varying conditions and combinations of variables, presenting a

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Question 2:

Nurta Pharmaceuticals current earnings per share is Rs. 20, which is distributed to its shareholders. The required rate of return for the shareholders is 20%, and the market price of the share is Rs. 100. Nutra Pharmaceuticals has three business opportunities.

Option 1 is to make a product that gives 25% return,

Option 2 is expansion of current product that would give 20%,

Option 3 is to produce a product that would give 15% return.

Assume all products are scale able, mutually exclusive and are funded only through equity. To fund the projects, the only option is to reduce the dividend payout to 50%, i.e dividend would reduce from Rs. 20 per share to Rs. 10 per share. The retained part of the dividend would be used to fund the selected project. Determine the growth rate (g = b*ROE) for each of the options and the new share price (assuming constant growth). Comment on the new share price for each of the model.  (10 marks)

Ans 2.

Introduction

In the dynamic landscape of corporate finance, companies like Nurta Pharmaceuticals are continually exploring strategic opportunities to enhance shareholder value through judicious investment decisions. This scenario encapsulates a critical decision-making process involving the reallocation of earnings to fund potential projects with varying rates of return. With a current earnings per share (EPS) of Rs. 20 and a dividend payout to shareholders, the company stands at a crossroads. The challenge lies in deciding between three mutually exclusive projects, each promising different returns, and thus necessitating a reduction in the dividend payout to 50%.

 

 

Question 3a:

Shaurya Ltd issues bonds with a face value of INR 100, coupon rate 5% (annual coupon payment) that matures in 4 years. Compute the Yield to Maturity (YTM) assuming the current market price of the bond is INR 96.   (5 marks)

Ans 3a.

Introduction:

The concept of Yield to Maturity (YTM) is central to understanding the valuation of bonds in financial markets. It represents the total return anticipated on a bond if the bond is held until its maturity date. The YTM calculation integrates not only the coupon payments received during the life of the bond but also the difference between the bond’s face value and its current market price. In essence,

 

Question 3b:

Based on the details given below, compute the profit or loss incurred in the transaction assuming Mohan purchases one call option contract of Asus Ltd:

Number of shares in the option contract: 100 shares

Strike price: Rs. 300

Option cost: Rs.2000

Current market price of Asus Ltd on option expiry date: Rs.350      (5 marks)

Ans 3b.

Introduction:

In the world of finance, options trading offers investors the opportunity to speculate on the price movements of underlying assets without actually owning them. One popular type of option is a call option, which gives the holder the right, but not the obligation, to buy a specific quantity of an underlying asset at a predetermined price, known as the strike price, on or before the expiration date. To understand the profit or loss incurred in purchasing a call option contract, we’ll delve into the