Esc-Clermont Mastère programme

Mastere, 1st semester

Course : Accounting and finance

Teacher : André Cabannes

 

Please write your name in this box :

 

 

 

 

Final exam

December, 2007

 

1 hour 30 minutes, 10 questions, each worth the same number of points. Write your answers on this document in the blank space below each question.

 

 

Question 1: A firm starts its second accounting period with the following balance sheet:

Assets

 

Debit

Credit

Equipment

50

 

Cum dep

 

10

Stocks

50

 

Clients (Steve)

40

 

Cum provisions

 

20

Cash

10

 

Total

150

30

 

Liabilities

 

Debit

Credit

Capital

 

100

Cum P&L

 

20

Suppliers (Mary)

 

-

Total

 

120

The first transaction of its second accounting period is this: It sells goods, valued at 30 in its stocks, for a selling price of 50, without any credit, to John.

Does it have to open a new account named “John account” ? (explain)

 

Answer: No, because John paid with cash. So no need to record that John would owe us money. We just debit the cash account of the amount he pays us. (And of course we credit Sales.)

 

Question 2: What is the “(elementary) Income Statement” corresponding to the transaction of question 1, and what is the Balance Sheet after the transaction.

 

 

Elementary income statement:

 

                                        Debit         Credit

 

Sales                                                      50

Opening stocks                     50

Purchases                               -

Closing stocks                                        20

Other costs                             -

Profit                                                      20

 

 

Balance sheet

 

Assets

Equipment                            50

Cum dep                                                10

Stocks                                  20

Clients                                  40

Cum prov                                               20

Cash                                    60

Total                                  170              30

 

Liabilities

Capital                                                 100

Cum P&L                                              40

Suppliers                                                   -

Total                                                    140

 

 

 

 

Question 3:  Then, the firm buys on credit from Cathy a piece of equipment to develop its manufacturing process. The machine costs 40.

 

What are the two accounts into which this transaction will be posted? (explain the posting)

 

Equipment:                   debit 40

Cathy:                         credit 40

 

What is the elementary Income Statement for this transaction?

 

No movements pertaining to an income statement are caused by this transaction. No sales, and no consumption.

 

 

What is the Balance Sheet after it?

 

Assets

Equipment                            90

Cum dep                                                10

Stocks                                  20

Clients                                  40

Cum prov                                               20

Cash                                    60

Total                                  210              30

 

Liabilities

Capital                                                 100

Cum P&L                                              40

Suppliers                                                40

Total                                                    180

 

 

 

Question 4: Consider the following year end documents of a firm.

 

 

 

What is the Capital Employed in 2003, and in 2004? (Capital Employed = all liabilities recording what belongs to shareholders or to debt holders that we must remunerate)

 

For simplicity, we shall use the definition of CE using only the year end figures (no averaging between beginning and end of the year):

 

CE 2003 = 300 +   70 + 50 + 100 = 520

CE 2004 = 300 + 100 + 50 + 100 = 550

 

 

ROCE = (return before interest and taxes)/Capital Employed.  What is the ROCE in 2003, and in 2004?

 

ROCE 2003 = 70 / 520 = 13,5%

ROCE 2004 = 90 / 550 = 16,4%

 

 

 

 

Question 5: A manufacturer of furniture has the following income statement, split by product lines :

 

 

(It looses money.)

 

For what pairs of unit prices would it make money? (explain your solution, and, if you want, draw a graphic)

 

 

If chairs are priced at zero, tables must be sold at 400 or more.

 

If tables are priced at zero, chairs must be sold at 100 or more.

 

In the plane of prices (chairs, tables), these two points (0, 400) and (100, 0) determine a straight line.

 

Any point on or above this line is OK.

 

 

 

For instance, chairs at 60 and tables at 200 are OK (or even tables at 160).

 

 

 

 

Question 6: Consider a security S which can be purchased today. In one year, it will have a value X which is random (depending upon the state of the economy). The possible values of X, with their respective probabilities, are given in the following table:

 

Possible outcomes

90 €

100 €

110 €

120 €

130 €

140 €

Probabilities

10%

15%

25%

25%

15%

10%

 

If a money management fund purchases S today, for a price P, how will it record this transaction in its accounting system? (Debit and Credit.) 

 

 

If the money management fund pays cash, then it will credit its cash account, and debit one of its security accounts.

 

 

 

What is the expected value of S in one year? (Explain your calculations.)

 

We can apply the formula learned in class (weighted average of the possible outcomes, weighted with their respective probabilities), or more simply we can see that the distribution is symmetrical around 115 euros, therefore this must be the mean.

 

 

What is the standard deviation of the value of S in one year? (Explain your calculations.)

 

Apply the formula: square root of the expected value of the squared deviation around the mean.

 

The six possible squared deviations are

 

(90 – 115)2

(100 – 115)2

(110 – 115)2

(120 – 115)2

(130 – 115)2

(140 – 115)2

 

We compute their weighted average, weighted with their respective probabilities.

 

This yields the variance:  205 squared euros

 

And the standard deviation is:  14,3 euros

 

 

 

Question 7: In the euro zone, in early December 2007, the rate of return of a risk free security is 4%. What is the price today of a risk free security that will be worth 115€ in one year?

 

 

115 / (1 + 4%) = 110,58 euros

 

 

 

Is S (of question 6) risk free?

 

No, because its value next year is a random variable with some variability around its mean.

 

 

 

Question 8: Suppose S (of question 6) sells today for a price P = 90€. What is the expected profitability of S?

 

 

(115 – 90) / 90 = 27,8%

 

 

 

Question 9: We are considering making an investment I, which will produce the following cash flows in the future for us:

 

(mio euros)

year 0

year 1

year 2

year 3

year 4

 

 

 

 

 

 

Future cash flows

 

50

100

130

80

 

Suppose this investment has the same risk pattern as S above, i.e. its opportunity cost of capital is r = 27,8%. What is the Present value of the stream of future cash flows of I? (Show your calculations)

 

 

The present value of the first cash flow in one year is 50 / ( 1 + 27,77%) = 39,13

 

The present value of the second cash flow in two years is 100 / ( 1 + 27,77%)2 = 61,25

 

The present value of the third cash flow in three year is 130 / ( 1 + 27,77%)3 = 62,31

 

The present value of the fourth cash flow in four years is 80 / ( 1 + 27,77%)4 = 30,01

 

 

The complete PV is : 192,70 million euros

 

 

 

 

Question 10 : If we can generate these cash flows with an initial cash flow C0 of 150 million euros (this one is a cash flow out), what is the IRR of the investment?

 

You could use Excel and find IRR = 42,0%

 

You could also try various discounting factors:

 

30% -> npv = 34,8 million euros

40% -> npv = 4,9

50% -> npv = -17,9

 

and then use an interpolation between 40% and 50%.