Examination in the Master of Business Administration [Full-time MBA]

Module title: Financing the Enterprise

Semester: Winter Semester 2018
Lecturer: Prof. Dr. Zacharias Sautner
Examination date: XXX

Aids:
Open slide set with handwritten annotations.
Non-programmable calculators Casio fx 82 solar, Casio fx 85 MS, Casio fx 85 GT plus,
programmable calculators HP 17, HP 19 (and newer versions)
Reading / Preparation Time: 10 Minutes

Please enter your student ID (matriculation number) and your group!

Student ID

Please Note:

The exam consists of 3 questions which you have to answer. You have 90 minutes to complete the
examination. The maximum of points to be reached is 40.

Please provide your answers directly below the questions (i.e., in this document and not on a separate
answer sheet).

Please make appropriate assumptions if you think information is missing.

I wish you all the best for your examination!

Internal use only!

Question 1 2 3 Total
Possible points: 15 10 15 40
Points achieved:

Signature of corrector
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Question 1 (15 points)

CoolCar is a company that manufactures cars. In the current year, the firm reported operating earnings
before interest and taxes of $300 million (operating earnings does not include interest income), and
these earnings are expected grow at 5% a year in perpetuity. In addition, the firm has a cash balance of
$200 million on which it earned interest income of $30 million. The unlevered beta for other car
manufacturing firms is 1.30, and these firms have, on average, cash balances of 20% of firm value. If
CoolCar has a debt ratio of 25%, a tax rate of 30%, and a cost of debt of 8%, estimate the value of
the firm. (The risk free rate is 6% and you can assume a market risk premium of 5.5%).

Solution:

Unlevered beta of other car manufacturing firms with cash = 1.30

Unlevered beta corrected for cash=
βU 1.30
= = 1.625
1− Cash (1 − 20 % )
Firm Value

Levered Beta for Netsoft's operating assets=1.47

D 25%
β Levered = β U 1 + (1 − t ) = 1.625 1 + (1 − 0.3) = 2.004
E 75%

Cost of Equity for Netsoft: re = 6% + 2.004 × (5.5% ) = 17.02%

Cost of Capital for Netsoft = 17.02% × 0.75 + (1 − 0.3) × 8% × 0.25 = 14.165%
FCFFt +1 210 × (1.05)
Value of Operating Assets = = = $2,405 million
WACC − g t 0.14165 − 0.05

Value of Firm = $2405 mln + $200 = $2,605 mln

Question 2 (10 points)

As the winner of a breakfast cereal competition, you can choose one of the following prizes:

a) € 100,000 now.
b) € 180,000 at the end of five years.
c) € 11,400 a year forever.
d) € 6,500 next year and increasing thereafter 5 percent a year forever.

If the interest rate is 12 percent, which is the most valuable prize?

Solution:

NPV (a) = 100,000 (2.5 points)

NPV (b) = 180,000 / (1+0.12)5 = 102,136.83 (2.5 points)

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NPV (c) = 11,400 / 0.12 = 95,000 (2.5 points)

NPV (d) = 6,500 / (0.12 – 0.05) = 92,857.14 (2.5 points)

and the winner is… (b).

Question 3 (15 points)

The French government wants to pass a new law that would automatically award double voting rights
to long-term shareholders in French companies. Long-term shareholders are defined as shareholders
that have been holding their shares for at least two years. Discuss the costs and benefits of such a law.

Solution:

(Different answers possible; full points if answer is well-structured and well-reasoned)

Benefits (7.5 points)

• If managerial short-termism caused by investors with short horizons is a problem, this may lead
to better and more long-run decision making as long-term investors have more influence.
• Incentives to hold shares for the long term encourages better corporate governance as long-
term investors have better knowledge how to monitor effectively and are more likely to reap
the benefits from monitoring.
• …

Costs (7.5 points)

• It may preserve the interests of the dominant shareholders; in some cases the state or a family.
Dominant shareholders may use their extra power to take actions that are detrimental to the
interests of small shareholders (e.g., tunneling, expropriation). So rights of small shareholders
are weakened.
• May lead to a discount in the valuation of French firms as small shareholders feel expropriation.
• …