EXAMINATION : INTERMEDIATE LEVEL

SUBJECT : FINANCIAL MANAGEMENT

CODE : B1
EXAMINATION DATE : THURSDAY, 9TH MAY, 2024

TIME ALLOWED : THREE HOURS (2:00 P.M. - 5:00 P.M.)

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GENERAL INSTRUCTIONS

1. There are TWO Sections in this paper. Sections A and B which comprise a total
of SIX questions.

2. Answer question ONE in section A.

3. Answer any FOUR questions in Section B.

4. In total answer FIVE questions.

5. Marks are shown at the end of each question.

6. Show clearly all your workings in respective answers where applicable.

7. State clearly any assumptions made in your answers where applicable.

8. Calculate your answers to the nearest one decimal point where necessary.

9. Graph papers and mathematical tables will be provided where applicable.

10. This question paper comprises 7 printed pages.

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Questions & Answers May 2024 1

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SECTION A
Compulsory Question
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QUESTION 1
(a) The current assets and current liabilities of Majengo Co. Ltd at the end of December 2023
are as follows:

Current Assets (TZS.) Current Liabilities (TZS.)

Inventory 5,700,000 Account payables 1,137,000
Account receivables 6,575,000 Short-term loan 6,819,000
Total 12,275,000 7,956,000

For the year ended December 2023, Majengo Co. Ltd had domestic and foreign sales of
TZS.40 million, all on credit, while cost of sales was TZS.26 million. Trade payables were
related to both domestic and foreign suppliers.

For the year ending December 2024, Majengo Co. Ltd forecasts that credit sales will
remain at TZS.40 million while cost of sales will fall to 60% of sales. The company expects
current assets to consist of inventory and trade receivables, and current liabilities to consist
of trade payables and the company’s short-term loan.

Majengo Co. Ltd plans to achieve the following target working capital ratio values for the
year ending December 2024:
Inventory days: 60 days
Trade receivables days: 75 days
Trade payables days: 55 days
Current ratio: 1.4 times

REQUIRED:
(i) Discuss whether profitability or liquidity is the primary objective of working capital
management. (4 marks)
(ii) Calculate the cash collection cycle of Majengo Co. Ltd at the end of December
2023 and explain whether a cash collection cycle should be positive or negative.
(4 marks)

(iii) Calculate the target quick ratio (acid test ratio) and the target ratio of sales to net
working capital of Majengo Co. Ltd at the end of December 2024.
(4 marks)

(iv) Evaluate the current assets and current liabilities positions for December 2023 and
December 2024 and discuss how the working capital financing policy of Majengo
Co. Ltd would change. (4 marks)

(b) Explain two advantages and two disadvantages of using trade credit as short-term financing
option compared to overdraft facility. (4 marks)
(Total: 20 marks)

Questions & Answers May 2024 2

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SECTION B
There are FIVE questions. Answer ANY FOUR questions
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QUESTION 2

(a) Chomoza Co. plans to buy a new machine to meet expected demand for a new product,
Soya-Bread. This machine will cost TZS.25,000,000 and will last for four years, at the end
of which it will be sold for TZS.500,000 net of tax. The project calls for an immediate
increase in working capital amounting to TZS.4,000,000. Chomoza Co. expects demand
for Soya-Bread to be as follows:

Year 1 2 3 4
Demand (units) 35,000 40,000 50,000 25,000

In the first year of operations the selling price for Soya-Bread is expected to be TZS.1,200
per unit and the variable cost of production is expected to be TZS.800 per unit. Incremental
fixed production overheads of TZS.2,500,000 will be incurred in year one. Selling prices
and costs in subsequent years are expected to be as follows:

Details Year
2 3 4
Selling price of Soya-Bread TZS. 1,250 1,300 1,400
Fixed production overhead TZS. 3,000,000 3,500,000 3,500,000

Other information

Chomoza Co. has cost of capital of 8% while the project cost of capital (project required
rate of return) is estimated at 10%. Chomoza Company pays tax at an annual rate of 30%
one year in arrears. Depreciation is not tax allowable.

REQUIRED:

Calculate the Net Present Value (NPV) of buying the new machine and comment on the
viability of the project. (9 marks)

(b) Despite the theoretical limitations of the payback method of investment appraisal, it is the
method most used in practice. Discuss this statement. (5 marks)

(c) Using the concept of indifference curve, explain preferably with a support of graph how
investors with different attitude toward risk choose assets with different combinations of
risk and return. (6 marks)
(Total: 20 marks)

Questions & Answers May 2024 3

QUESTION 3

(a) Financial statements analysis attempts to assess an enterprise’s efficiency and

performance. Thus, financial statements analysis and interpretation are essential to
measuring business units’ efficiency, profitability, financial soundness, and future
prospects.

REQUIRED:

As a financial analyst:

(i) Explain the significance of financial statements analysis in assessing a company’s

financial performance and its overall health. (2 marks)

(ii) Discuss the key financial ratios and metrics you would use to analyze a company’s
profitability, liquidity and solvency. (6 marks)

(b) Element Ltd operates a hotel in Morogoro and the following are its results for the last three
years with its year end being 31st December:

2021 2022 2023

Revenue increase/(decrease) -5% 4% 12%
Non-current assets increase/(decrease) 40% 10% 2%
Gross profit 60% 61% 66%
Net profit 23% 25% 21%
Return on capital employed 12% 15% 10%
Current ratio 1.4:1 1.6:1 1.8:1
Acid ratio 0.6:1 1.0:1 0.9:1
Debt to equity ratio 1:2 1:2.27 1:2.30
Dividend cover 4 times 8 times 10 times

REQUIRED:

(i) Using the above given information, comment on the performance of Element Ltd
from the year 2021 to 2023. (9 marks)

(ii) Comment on the use of gross profit ratio in the service industry. (3 mark)
(Total: 20 marks)

Questions & Answers May 2024 4

QUESTION 4
(a) ABC Ltd, is a manufacturing company that is considering how to finance the acquisition of
equipment costing TZS.600,000,000 with an operating life of five years. There are two
financing options:

Option 1
The machine could be leased for an annual lease payment of TZS.124,000,000 per year,
payable at the start of each year.

Option 2

The machine could be bought for TZS.600,000,000 using a bank loan charging interest at an
annual rate of 7% per year. At the end of five years, the machine would have a scrap value
of 10% of the purchase price. If the machine is bought, maintenance costs of TZS.20,000,000
per year would be incurred.

Ignore taxation.

REQUIRED:
(i) Discuss the attractions of leasing as a source of both short-term and long-term finance.
(4 marks)

(ii) Evaluate whether ABC Ltd. should use leasing or borrowing as a source of finance,
explain the evaluation method which you use. (6 marks)

(b) Prospero Company Ltd. is considering whether or not to invest in three widely different
projects to be located in Dar es Salaam, Tanga and Morogoro. The company has no capital
rationing problem. Each project is considered to have its own distinct beta factor. An
assessment has been made of data for risk/returns for each project as follows:

Project Dar Tanga Moro

Expected Return 14% 12% 17%
Estimated correlation of returns with the market 0.62 0.75 0.58
Standard deviation of returns 3.7% 4.1% 6.5%

The expected market return is 15% and the standard deviation of market returns is 4.8%. The
risk-free rate of return is 8%.

REQUIRED:
(i) Calculate and interpret the beta factor for each project. (5 marks)

(ii) Use the Capital Asset Pricing Model (CAPM) to establish the economic viability of
each project. (5 marks)
(Total: 20 marks)

Questions & Answers May 2024 5

QUESTION 5

(a) Discuss any four (4) practical considerations by a company in setting its dividend policy.
(10 marks)

(b) The Finance Director of Nikope company, a listed company on the stock exchange, wishes
to assess the effect of the introduction of debt finance on the company’s Cost of Equity,
Value of the Company and Market Value of Equity. The current cost of capital is 27.8%.

The following financial data are provided for Nikope Company:

Value
Millions of TZS.
Ordinary shares (TZS.750 par value) 30
Reserves 66
Current earnings before interest and taxes 100

The following additional information is also available:

• Current share price is TZS.252.
• Number of ordinary shares in Issue: 1,000,000.
• Maximum amount of debt to be raised: 10% of TZS.60,000,000 with 5-year maturity.
• The corporate tax rate is 30%.
• Earnings are not expected to change significantly for the foreseeable future.

REQUIRED:

(i) Using Miller and Modigliani’s Model in a world with corporate tax, estimate the impact
of raising TZS.60,000,000 on Nikope overall value, value equity share price and cost
of equity. (8 marks)

(ii) Advise the Finance Director on the appropriate course of action highlighting any key
assumptions. (2 marks)
(Total: 20 marks)

Questions & Answers May 2024 6

QUESTION 6
(a) A company may have important non-financial objectives, which limit the achievement of
financial objectives.
REQUIRED:
With examples, discuss how such non-financial objectives within a company influence or
constrain the attainment of financial objectives. (6 marks)

(b) Moral hazard and earning retention are recognized as key factors contributing to agency
conflicts within organizations.
REQUIRED:
Explain how these two factors can give rise to the agency conflict in an organization.
(4 marks)
(c) You are working as the Finance Director of Semesi Company, a company specialized in
manufacturing electronic products. The Managing Director of Semesi Company has
approached you for advice. On 31st December 2025, the company will be replacing its three
existing industrial computers with brand new industrial computers.
The Managing Director wishes to know whether to replace these new industrial computers
every one year, two years or three years. He has gathered the following background
information:
Purchase cost (New Industrial Company): TZS.308 million
Description After 1 Year of After 2 Years After 3 Years
Ownership of Ownership of Ownership
Resale values for each industrial
computer (assumed to be received
in cash on the last day of the year TZS.196m TZS.117.6m TZS.50.4m
to which they relate)

Annual running costs for each

industrial computer (assumed to be TZS.184.8m TZS.212.8m TZS.257.6m
paid on the last day of the year to
which they relate)

The company uses a discount rate of 10% in appraisal of such investments.

For the purpose of advice to be given to the Managing Director, taxation and inflation can
be ignored.

REQUIRED:
Using appropriate calculations, advise the Managing Director of the optimal replacement
policy for the new industrial computers. (10 marks)
(Total: 20 marks)

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Questions & Answers May 2024 7