MAFA Review - Pattabhi Ram

V. Pattabhi Ram

For those who have despaired of getting through MAFA (management accounting and financial analysis), the November 2008 paper should have come as a relief.

Question 1 (20 marks) — on capital budgeting: A question on capital budgeting after a long time.

Has inflation in it, suggesting that money discount rates are to be applied. All cash flows and discount rates are to be taken as being in money terms unless stated otherwise. Compute cash flows associated with continuing with existing operations only. Compute cash flows associated with running with new machine. Ascertain incremental cash flows and discount at 20 per cent.

If NPV (net present value) is positive, get new machines else continue with old machine. Whether the given labour cost of existing machine is of three years ago or is as of today is unclear. It could be considered as of now because the number stacks up with that on retrenchment pay. Other numbers begin three years ago. That’s a novelty for sure.

A lengthy but not difficult question that requires a few assumptions to be clearly stated.

Question 2(a) (12 marks) — on mergers and acquisition: Numbers identical to problem that are solved in classes to explain the art associated with deciding swap ratio. Five quick ratios need to be computed. Based on that, the financially stronger company is to be identified. Based on given swap ratio EPS of merged entity is to be computed. To ascertain the gain for the target company, the adjusted EPS needs to be computed.

In computing market price PEM of acquiring company is to be taken. To assess the gain for the target company, the adjusted market price is to be computed. If one forgets that he can kiss his marks goodbye.

Question 2(b) (8 marks) — on mutual funds: Similar to a question that appeared in May 2005. Should be easy to solve. Reinvestment dividend has to be converted to units at given NAV. For bonus scheme there will be no dividend.

Question 3(a) (6 marks) — on international finance: Identical to a question that appeared in a former exam even the number and exchange rates are unchanged. Is 18 per cent per annum cheap? Or is 2 per cent per annum plus 2 per cent LC charge plus currency appreciation/depreciation cheap? This is the crux of the question. The exchange rates are heavily dated.

Question 3(b) (6 marks) — on portfolio management: Basic question on risk, return and dominance. Anyone who has read the subject should not have difficulty cracking it.

Question 3(C) (8 marks) — on international finance: Short notes on GDR and interest rate swaps. Easy to write

Question 4(a) (8 marks) — on leasing: Elementary question on leasing vs. borrowing and buy decision. The present value method can be adopted. The after-tax cost of debt is the appropriate discount rate under this method. The short-cut method can be used to arrive at present value of borrow and buy option.

Question 4(b) (6 marks): Question on CAPM

Elementary question requiring computation of cost of equity using CAPM. Finding out fair market price using dividend valuation model with cost of equity from CAPM.

Question 4(c) (6 marks) — international finance: Short notes on financial engineering. Nice question but unsure how many would have written it with élan. No offence meant.

Question 5(a) (6 marks) — international finance: Very interesting question on triangular arbitrage, normally worked in most classes. Use cross-rate concept to arrive at the fair exchange rate and compare it with actual rate to decide arbitrage. Alternatively progress with the given dollars convert to rupees, then to pound and back to dollar to check arbitrage gain. Further convert dollar to pound, then to rupees and then to dollars to check arbitrage gains. Yes, two checks need to be done.

Question 5(b) (8 marks) — financial services: An old exam question on factoring with numbers changed. The question had also appeared in PCC earlier. Straight arithmetic. Would have been done in most classes being an exam question.

Question 5(c) (6 marks) — on greenfield privatisation: Relevant practical question in today’s context.

Question 6(a) (5 marks) — on derivatives: Involves computing fair future price. The cost of carry model is to be applied. Either continuous compounding is to be done or calculation can be through just adding cost and deducting revenue. Some issues arise in this question. Borrowing rate for 1 month is said to be 15 per cent per annum where as the contract period is 3 months. You may have to assume same rate. Further dividend yield is given as 25 per cent. Dividend yield is a percent on current market price. At that rate the arbitrage is huge. Given the fact that face value is given, perhaps the questioner means 25 per cent on face value. At that rate the numbers are reasonable. An easy question but for the above needless confusion.

Question 6(b) (5 marks) — on bond valuation: Very simple question. Need to identify the discount rate. Computation of YTM, intrinsic value and current yield should be a walk through.

Question 6(c) (10 marks): Theory question on assumptions of CAPM and on forward vs. futures. Both should be cake walks. While one question (20 marks) can be considered lengthy, it’s conceptually easy to solve. With one question being a novelty (12 marks) from an exam perspective it’s a question that would have been done in most classes. With 22 marks coming from questions nearly identical to those in past exams, I guess a student cannot really complain. 90 out of 120 marks are from problem solving which is as it should be. All the chapters barring risk analysis have been covered which is one nice way of setting a paper. In retrospect, a balanced paper one in which a can score lots of marks.