SUGGESTED SOLUTIONS/ ANSWERS – SPRING 2017 EXAMINATIONS 1 of 6

STRATEGIC FINANCIAL MANAGEMENT [C3] – CHARTERED LEVEL

Marks
Question No. 1
M/s Irfan (Pvt.) Limited
Statement of Sources and Uses of Funds
for the year ended June 30, 2017
Rs. in million
Sources:
Working capital from operations (N-1) 868 ½
Share capital issued 500 ½
Sale of investment 650 ½
Sale of property, plant and equipment (PPE) 315 ½
Total funds provided 2,333 1
Uses:
Purchase of investment 650 ½
Payment to debenture holders 210 ½
Purchase of PPE (8,720 + 545 + 123 – 8,200) 1,188 1½
Payment of taxes 27 ½
Payment of dividend 93 ½
Total funds applied 2,168 1
Increase in working capital 165 1

N-1: Working Capital from Operations:

Rs. in million
Profit – June 30, 2017 980 ½
Add: Depreciation 203 ½
Loss on sale of PPE (545 – 315) 230 ½
Premium on redemption of Debentures (200 x 5%) 10 ½
Provision of taxation (52 + 27 – 42) 37 1
Transfer to reserve 100 ½
Provision of dividend 108 688 1
1,668 ½
Less: Profit – June 30, 2016 800 ½
Funds from Operations 868 1

Question No. 2
(a) (i) Economic Lot Size:
Rupees
Cash requirement 5,000,000 5,000,000 5,000,000 5,000,000 5,000,000 ½
Lot size 250,000 500,000 1,000,000 1,250,000 2,500,000 ½
Number of lots 20 10 5 4 2 1¼
Conversion cost per lot 5,000 5,000 5,000 5,000 5,000 ½
Total conversion cost 100,000 50,000 25,000 20,000 10,000 1¼
Average lot size 125,000 250,000 500,000 625,000 1,250,000 1¼
Interest cost 6,250 12,500 25,000 31,250 62,500 1¼
Total cost 106,250 62,500 50,000 51,250 72,500 1¼
Economic lot size = Rs.1,000,000 as at this size the total costs are minimum. ¼

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provided suggested answers on the basis of certain assumptions for general guidance of the students and there may be other possible answ ers/ solutions based on different assumptions and understanding. The ICMA Pakistan and its
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 SUGGESTED SOLUTIONS/ ANSWERS – SPRING 2017 EXAMINATIONS 2 of 6
STRATEGIC FINANCIAL MANAGEMENT [C3] – CHARTERED LEVEL
Marks
(ii) Optimal Conversion Amount:
2bt 50,000,000 ,000
C = = = 1,000,000, 000,000 = Rs.1,000,000 3
i 0.05

(b) There are four primary motives for maintaining cash balances:
 Transaction motives: This refers to the holding of cash to meet routine cash requirements to
finance the transactions which a firm carries on in the ordinary course of business. 1
 Precautionary motives: Precautionary motive of holding cash implies the need to hold cash to
meet unpredictable obligations. 1
 Speculative motives: It refers to the desire of a firm to take advantage of opportunities which
present themselves at unexpected moments and which are typically outside the normal
course of business. 1
 Compensating motives: Banks provide a variety of services to business firms, such as
clearance of cheque, supply of credit information; transfer of funds and so on. While for some
of these services banks charge a commission or fee, for others they seek indirect
compensation. Usually clients are required to maintain a minimum balance of cash at the
banks. Since this balance cannot be utilized by the firms for transaction purposes, the banks
themselves can use the amount to earn a return. Such balances are compensating balances. 1

Question No. 3
(a) Value per Share:
Total earnings = 600,000 x 4 = Rs.2,400,000 ½
Payout ratio = 600,000 ÷ 2,400,000 = 0.25 ¼
Retention ratio = 1 – 0.25 = 0.75 ¼
Growth = 0.20 x 0.75 = 0.15 ½

½
600,000 x 1.15
Value of the company = = 23,000,000
0.18  0.15
23,000,000
Value per share = = Rs.38.33 1
600,000

(b) Estimated Value per Share:

1.2  1.3  2.0
Industry average EPS = = Rs.1.50 ½
3

¼
0.45
Payout ratio of industry = = 0.30
1.5
Retention ratio = 1 – 0.30 = 0.70 ¼
g = 0.70 x 0.11 = 0.077 ½
Dividend (D1) = 600,000 x 1.15 = 690,000 ½
D2 = 600,000 x 1.323 = 793,800 ½
D3 = 600,000 x 1.521 = 912,600 ½

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stored in a retrieval system or transmitted in any physical/ or electronic form or by any other means including electronic, mechanical, photocopying, recording or otherwise without prior written permission of the ICMA Pakistan. The
suggested answers provided on and made available through the ICMA Pakistan’s website may only be referred, relied upon or treated as general guidelines and NOT a substitute for professional advice. The ICMA Pakistan has
provided suggested answers on the basis of certain assumptions for general guidance of the students and there may be other possible answ ers/ solutions based on different assumptions and understanding. The ICMA Pakistan and its
Council Members, Examiners or Employees shall not be liable in respect of any damages, losses, claims and expenses arising out of using contents of these suggested answers. It is clarified that the ICMA Pakistan shall not be liable
to attend or receive any comments, observations or critiques related to the suggested answers.
 SUGGESTED SOLUTIONS/ ANSWERS – SPRING 2017 EXAMINATIONS 3 of 6
STRATEGIC FINANCIAL MANAGEMENT [C3] – CHARTERED LEVEL
Marks
D4 = 600,000 x 1.749 = 1,049,400 ½
D5 = 600,000 x 2.011 = 1,206,600 ½
1,206,600 x 1.077
Terminal cash flow = = 17,801,482 1½
0.15  0.077
Today’s Value of Stock:
Rupees
Cash Flows PV Factors PV
690,000 0.870 600,300 ¼
793,800 0.756 600,113 ¼
912,600 0.658 600,491 ¼
1,049,400 0.572 600,257 ¼
1,206,600 0.497 599,680 ¼
17,801,482 0.497 8,847,337 ¼
11,848,178 ½

½
11,848,178
Value per share = = Rs.19.75
600,000

(c) Industry Average Price-Earnings Ratio:

P/E ratio – After revision, industry P/E ratio will be (18 ÷ 1.5) 12.00 ½
DJ Engines P/E ratio – Original assumption (38.33 ÷ 4.0) 9.58 ½
DJ Engines P/E ratio – Revised assumption(19.75 ÷ 4.0) 4.94 ½

There is positive correlation existed between the two calculated ratios which means that if the
price-earnings ratio of industry will increase, the price-earnings ratio of DJ Engines will also
increase and vice versa in the case of decrease. ½

(d) The stock price can easily be increased in this case by issuance of more dividends to
shareholders. The stock price has been calculated as: 1
D
(R  g)
But in case of lowering growth rate, this strategy will not be helpful for DJ Engines in increasing
the stock price. 1

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stored in a retrieval system or transmitted in any physical/ or electronic form or by any other means including electronic, mechanical, photocopying, recording or otherwise without prior written permission of the ICMA Pakistan. The
suggested answers provided on and made available through the ICMA Pakistan’s website may only be referred, relied upon or treated as general guidelines and NOT a substitute for professional advice. The ICMA Pakistan has
provided suggested answers on the basis of certain assumptions for general guidance of the students and there may be other possible answ ers/ solutions based on different assumptions and understanding. The ICMA Pakistan and its
Council Members, Examiners or Employees shall not be liable in respect of any damages, losses, claims and expenses arising out of using contents of these suggested answers. It is clarified that the ICMA Pakistan shall not be liable
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 SUGGESTED SOLUTIONS/ ANSWERS – SPRING 2017 EXAMINATIONS 4 of 6
STRATEGIC FINANCIAL MANAGEMENT [C3] – CHARTERED LEVEL
Marks
Question No. 4
(a) & (b): Optimal Capital Structure and Weighted Average Cost of Capital (WACC):
Market Market Debt- After tax
Before tax Common
Debt-to- Equity-to- Equity Cost of Leveraged
Cost of cost of equity WACC
Value Value Ratio ratio Debt beta
Debt (rd) (rs)
Ratio (wd) (we) (D/E) rd(1-T)
0.0 1.0 0.00 7.00% 4.83% 0.90 12.30% 12.30% 3
0.3 0.7 0.43 8.00% 5.52% 1.17 14.16% 11.57% 3
0.5 0.5 1.00 9.00% 6.21% 1.52 16.65% 11.43% 3
0.7 0.3 2.33 10.00% 6.90% 2.35 22.44% 11.56% 3
0.9 0.1 9.00 11.00% 7.59% 6.49 51.42% 11.97% 3
OR 1½ + 1½ + 3 + 3 + 3 + 3 = 15

The Company's optimal structure is that capital structure which minimizes the Company's
weighted average cost of capital.
Weighted average cost of capital of M/s Golden Enterprises Limited is minimized at a capital
structure consisting of 50% debt and 50% equity. At this Weighted average cost of capital
(WACC) of the company is 11.43%.

Question No. 5
(a) Theoritical Ex-Rights Price:
Rs. in million
Market value of shares in issue (50 million x Rs.110) 5,500 ½
Proceed from new shares (50 million x 3/5 x Rs.100) 3,000 ½
Total 8,500 ½
Number of shares in issue ex-rights
(Million shares)
Number of shares issued 50 ½
Number of rights shares (50 x 3/5) 30 ½
Total 80 ½
Theoritical ex-rights price (Rupees) (8,500 ÷ 80) 106.25 1

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stored in a retrieval system or transmitted in any physical/ or electronic form or by any other means including electronic, mechanical, photocopying, recording or otherwise without prior written permission of the ICMA Pakistan. The
suggested answers provided on and made available through the ICMA Pakistan’s website may only be referred, relied upon or treated as general guidelines and NOT a substitute for professional advice. The ICMA Pakistan has
provided suggested answers on the basis of certain assumptions for general guidance of the students and there may be other possible answ ers/ solutions based on different assumptions and understanding. The ICMA Pakistan and its
Council Members, Examiners or Employees shall not be liable in respect of any damages, losses, claims and expenses arising out of using contents of these suggested answers. It is clarified that the ICMA Pakistan shall not be liable
to attend or receive any comments, observations or critiques related to the suggested answers.
 SUGGESTED SOLUTIONS/ ANSWERS – SPRING 2017 EXAMINATIONS 5 of 6
STRATEGIC FINANCIAL MANAGEMENT [C3] – CHARTERED LEVEL
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(b) Rs. in million
(i) Take up the shares:
Wealth of M/s Alam & Co. – Before (2.0 million shares x Rs. 110) 220 1
Wealth of M/s Alam & Co. – After
Take up the shares (3.2 million shares x Rs. 106.25) 340 ½
Less: Cash paid to buy shares (1.2 million shares x Rs. 100) 120 ½
Total wealth 220 ½
(ii) Sell the rights (2.0 million shares x Rs. 106.25) 212.5 ½
Add: cash received from sale of rights (1.2 million shares x Rs. 6.25*) 7.5 ½
Total Wealth 220.0 ½
*Value of a right (Rs.106.25 – Rs.100) 6.25 1

(iii) Do nothing (2.0 million shares x Rs. 106.25) 212.5 1

Total Wealth 212.5
Therefore, total wealth under Option-3 is Rs.7.5 million less than Option-1 and 2. By doing
nothing you theoretically eventually forego the right to the new shares.

Question No. 6
(a) Return on Investment:
Rs. in million
Merger with Merger with
Khan Sugar Shan Sugar
Ltd. (Pvt.) Ltd.
Star Sugar Limited's required investment (N-5) 6,345 6,292 ¼
Net profit after tax 345 414 ¼
Synergy impact (N-2) 107.09 99 ¼
452 513 ½
Return on investment 7.13% 8.15% 1
Notes: Rs. in million
Khan Shan Sugar
Sugar Ltd. (Pvt.) Ltd.
N-1: Working of Maintainable Earnings:
Net profit after tax 345.00 414.00 ½
Add: Interest expense 27.60 34.50 1
Maintainable earnings 372.60 448.50 1
N-2: Impact of Synergy for Star Sugar Ltd.:
Net profit of Star Sugar Ltd. 966.00 966.00 ½
Maintainable earnings – Khan/ Shan Sugar Ltd. (N-1) 372.60 448.50 ½
1,338.60 1,414.50 ½
Synergy impact on profitability 8.00% 7.00%
Synergy Impact 107.09 99.02 1
N-3: Cost of Equity:
rs = rRF + (rM – rRF)â = 6 + (13 – 6) x 1 = 13% 1½

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suggested answers provided on and made available through the ICMA Pakistan’s website may only be referred, relied upon or treated as general guidelines and NOT a substitute for professional advice. The ICMA Pakistan has
provided suggested answers on the basis of certain assumptions for general guidance of the students and there may be other possible answ ers/ solutions based on different assumptions and understanding. The ICMA Pakistan and its
Council Members, Examiners or Employees shall not be liable in respect of any damages, losses, claims and expenses arising out of using contents of these suggested answers. It is clarified that the ICMA Pakistan shall not be liable
to attend or receive any comments, observations or critiques related to the suggested answers.
 SUGGESTED SOLUTIONS/ ANSWERS – SPRING 2017 EXAMINATIONS 6 of 6
STRATEGIC FINANCIAL MANAGEMENT [C3] – CHARTERED LEVEL
Marks
Rs. in million
Khan Shan Sugar
Sugar Ltd. (Pvt.) Ltd.
N-4: Total value of Khan/ Shan Sugar Ltd.:
 372.60 (N - 1) x 1.07 
Total value of Khan Sugar Ltd.  
 0.13 (N - 3)  0.07  6,645 – 2
 448.50 (N - 1) x 1.06 
Total value of Shan Sugar Ltd.  
 0.13 (N - 3)  0.06  – 6,792 2
N-5: Total Value of Equity:
Total value of companies (N-4) 6,645 6,792 ¼
Less: Long-term liabilities 300 500 ½
Value of equity 6,345 6,292 ½

Recommendation:
Star Sugar Limited should takeover Shan Sugar (Pvt.) Limited as it yields 8.15% return on
investment as compared to 7.13% return from Khan Sugar Limited. 1

Question No. 7

(a) Among the steps involved in implementing and maintaining an effective risk management policy
are:
 Identifying risks
 Ranking those risks
 Agreeing control strategies and risk management policy
 Taking action
 Regular monitoring
 Regular reporting and review of risk and control.
½ mark each = 03
A good risk management policy builds a sound framework for:
 Risk assessment and identification,
 Risk ranking,
 Action Plan,
 Assessment and review,
 Compliance and
 Feedback and Improvement
½ mark each = 03
(b) (i) The actual KIBOR is above the forward rate agreement (FRA) rate, therefore, the bank will
pay the difference as compensation to CASA Ltd. i.e., 0.25%. 1
CASA Ltd. will borrow at the best available rate, which is KIBOR + 1% i.e., 7.50%
1
(6.50% + 1%).
Net cost to CASA Ltd. = 7.50% – 0.25% = 7.25% 1
This amounts to 0.0725 x 3/12 x Rs.5 million = Rs.90,625. 1½

(ii) As the actual base rate is below the FRA rate, CASA Ltd. will pay compensation of 0.75% to
1
the bank.
CASA Ltd. will borrow at the best available rate i.e., 6.50% (5.50% + 1%). 1
Net cost to CASA Ltd. = 6.50% + 0.75% = 7.25% 1
This amounts to 0.0725 x 3/12 x Rs.5 million = Rs.90,625. 1½
THE END
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provided suggested answers on the basis of certain assumptions for general guidance of the students and there may be other possible answ ers/ solutions based on different assumptions and understanding. The ICMA Pakistan and its
Council Members, Examiners or Employees shall not be liable in respect of any damages, losses, claims and expenses arising out of using contents of these suggested answers. It is clarified that the ICMA Pakistan shall not be liable
to attend or receive any comments, observations or critiques related to the suggested answers.