PART 1: FINANCIAL FORECASTING

Problem 1: Quota Corporation is thinking of purchasing a new machine. With this new machine, the
company expects sales to increase from P8,000,000 to P10,000,000. The company knows that its assets,
accounts payable, and accrued expenses vary directly with sales. The company’s profit margin on sales is
8 percent, and the company plans to pay 40 percent of its after-tax earnings in dividends. The company’s
current balance sheet is given below.
Balance Sheet
(In millions)
Current Assets P3
Fixed Assets 12
Total Assets 15

Accounts Payable 4
Accruals 1
Long term debt 3
Common Stock 2
Retained Earnings 5
Total Liabilities and Stockholder’s equity 15
Required:
1. How much is the additional fund needed by QC?
2. How much is the additional fund needed by QC if profit margin rises from 8 percent to 10
percent?
3. How much is the additional fund needed by QC if profit margin remained at 8% but the dividend
payout would be reduced from 40 to 20 percent?

Problem 2: At year-end 2018, total assets for LeiLo Company were P1.2 million and accounts payable
were P375,000. Sales, which in 2018 were P2.5 million, are expected to increase by 25 percent in 2019.
Total assets and accounts payable are proportional to sales, and that relationship will be maintained.
LeiLo typically uses no current liabilities other than accounts payable. Common stock amounted to
P425,000 in 2018, and retained earnings were P295,000. LeiLo plans to sell new common stock in the
amount of P75,000. The firm’s profit margin on sales is 6 percent; 60 percent of earnings will be
retained.
Required:
1. How much is the total debt of LeiLo for 2018?
2. How much new long term debt financing should LeiLo obtain in 2019?

PART 2: FINANCING ACTIVITIES

Problem 1: (Leverage) Assume the following information for Bulacan Corporation:
Sales (10,000 @ P100.00) P 1,000,000
Variable Costs (10,000 @ P60.00) 600,000
Contribution Margin P 400,000
Fixed Costs 200,000
Operating Income P 200,000
Interest 50,000
Income before taxes P 150,000
Taxes (30%) 45,000
Net Income P 105,000
Required:
 1. Compute the company’s degree of operating leverage and degree of financial leverage.
2. If total sales will increase by 10% what would be the percentage change in operating income and
net income would be?

Problem 2: (Cost of Debt and Preferred Stock): Compute the cost of capital for the following scenario:
a. A P1,000 par value bond to be issued at par with a coupon interest rate of 10%. The bonds will
mature in ten years and the corporate tax rate is 30%.
b. A P1,000 par value bond with a market price of P970 and a coupon interest rate of 10%.
Flotation costs for a new issue would be approximately 5%. The bonds mature in ten years and
the corporate tax rate is 34%.
c. A P1,000 par value bond with a market price of P 1,150 and a stated rate of 10%. Flotation cost
for a new issue would be approximately 10%. The bonds will mature in 5 years and the
corporate tax rate is 30%.
d. A 10% P100 par value preference shares with a market price of P120 but subject to a flotation
cost of 5%.
e. Preference shares that currently pays dividend at P15 per share has a market value of P60 but
subject to a 10% flotation cost, which is considered to be tax deductible. Corporate tax rate is at
30%.

Problem 3: (Gordon’s Growth Model) Tarlac Ltd. shares is selling at P1.50. Dividend for next year is
P20.00 per share. Future dividend is expected to grow at a constant rate of 3%. Issuance cost is expected
to be at 10%.
Required:
1. What is the cost of capital?
2. What is the cost of capital if the dividend of P20.00 was declared this year?

Problem 4: (CAPM) Assuming that the risk-free rate (rf) is 8 percent, and the expected return for the
market (rm) is 12 percent, compute the expected return of a security if beta is:
1. 0 (risk free)
2. 0.5
3. 1.0 (market portfolio)
4. 2.0

Problem 5: (CAPM) The prevailing risk-free rate of return is 8 percent, the required rate of return on the
market is 13 percent, and stock X has a beta coefficient of 1.5.
Required:
1. What is stock X’s required rate of return?
2. What if the beta increases to 2?
3. What if the risk-free rate decreases to 6 percent, assuming the beta is still 1.5?

Problem 6: Carter Company issues a P1,000, 8 percent, 20-year bond whose net proceeds are P940. The
tax rate is 40 percent. It also has preferred stock that pays a P13 dividend per share and sells for P100
per share in the market. The flotation (or underwriting) cost is 3 percent, or P3 per share. The market
price of the Carter Company’s common stock is P40. The dividend to be paid at the end of the coming
year is P4 per share and is expected to grow at a constant annual rate of 6 percent. If the company will
be selling new common stock, the flotation cost is expected to be 10%. the following capital structure
for the Carter Company:
Mortgage bonds (P1,000 par) P 20,000,000
 Preferred stock (P100 par) 5,000,000
Common stock (P40 par) 20,000,000
Retained earnings 5,000,000
Total P 50,000,000
Required: Compute the weighted average cost of capital.

Problem 7: The Gamma Products Corporation has the following capital structure, which it considers
optimal:
Bonds, 7% (now selling at par) P 300,000
Preferred stock, P5.00 240,000
Common stock 360,000
Retained Earnings 300,000
P 1,200,000
Dividends on common stock are currently P3 per share and are expected to grow at a constant rate of 6
percent. Market price share of common stock is P40, and the preferred stock is selling at P50. Flotation
cost on new issues of common stock is 10 percent. The interest on bonds is paid annually. The
company’s tax rate is 40 percent.
Required:
1. The cost of bonds;
2. The cost of preferred stock;
3. The cost of retained earnings (or internal equity);
4. The cost of new common stock (or external equity); and
5. The weighted average cost of capital.

PART 3: CAPITAL BUDGETING

Problem 1: Marawi Company is considering the purchase of a new 400-ton stamping press. The press
costs P 360,000, and an additional P40,000 is needed to install it. An old press that were purchased five
years ago and cost P 500,000 was depreciated for 5 years with a salvage value of P 50,000, however its
current market value of P 75,000. The press will be depreciated straight-line to 0 over a five-year life.
The press will generate no additional revenues, but it will reduce cash operating expenses by P140,000
annually. The press will be sold for P120,000 after five years. An inventory investment of P60,000 is
required during the life of the investment. Also, the new stamping press requires a removal cost of P
30,000 after five years. Marawi is in the 40 percent tax bracket and the company’s cost of capital is at
12%.
Required:
1. Determine the company’s investment cost.
2. Assuming that the old press has a current market value of P 30,000 instead of P 75,000, what is
the new investment cost?
3. Referring to the original data, what is the investment’s annual after tax cash flow and terminal
value?
4. Referring to the original data, determine the following:
a. Net Present Value
b. Profitability and Net Present Value Index
c. Accounting Rate of Return
d. Payback Period and Payback Reciprocal

Problem 2: Laguna Corporation is considering the introduction of a new product, Dried Tawilis that were
developed at a Research and development cost of P1M over past 3 years. A New machine to produce
Dried Tawilis would be purchased and cost P2M. It will be used for 15 years, with salvage value of
P50,000, however it will be depreciated linearly to P0 over 10 years. Dried Tawilis needs to undergo a
special treatment which can be done using excess capacity of an old machine, which currently runs at a
cost of P30,000 (regardless of how much it is used). The Operating cost of producing dried tawilis is
estimated to be at P40,000 per year, this would lead to an increase in total Sales of P400,000, but
cannibalisation would lead existing sales of regular dried goods to decline causing a decrease in
contribution margin by P20,000. Working Capital of P250,000 is needed over the life of the project.
Laguna is subject to Tax rate of 34% and the company’s Opportunity cost of capital is at 10%.
Required:
1. Determine all relevant cash flows.
2. Determine the project’s net present value and profitability index
3. Determine the project’s Accounting Rate of Return and Payback Period.

Problem 3: Chesapeake Chandlery is considering the development of on-line sales of its boating
products. The necessary inventory and distribution capabilities are already in place; however, the
company would invest P800,000 to develop the necessary on- line storefront. The investment would
have an expected economic life of six years with an expected salvage value of P25,000 at the end of its
life. (Ignore salvage value in the computation of annual depreciation). At the end of the fourth year, the
firm anticipates it would spend P80,000 for on- line advertising and updating of its Web site. This
amount would be fully deductible for tax purposes in the year incurred. Management requires that
investments of this type be recouped in four years or less. The pretax increase in income is expected to
be P175,000 in each of the first four years and P132,000 in each of the next two years. The company’s
discount rate is 10 percent; its tax rate is 30 percent; and the investment would be depreciated for tax
purposes using the straight-line method with no consideration of salvage value over a period of five
years.
Required:
1. Determine all relevant cash flows.
2. Determine the project’s net present value and profitability index
3. Determine the project’s Accounting Rate of Return and Payback Period.

Problem 4: A machine can reduce annual cost by P40,000. The cost of the machine is 223,000 and the
useful life is 15 years with zero residual value.
Required:
1. Compute internal rate of return of the machine.
2. Is it an acceptable investment if cost of capital is 16%?

Problem 5: Tail Span Company has gathered the following data on a proposed investment project:
Cost of the investment P 1,200,000
Life of the project 10 years
Annual Cash inflows P 200,000
Discount Rate 10%
The present value factors for 10 periods are as follows:
Periods 9% 10% 11%
PV of 1 10 .422 .385 .352
PV of an Annuity of 1 10 6.41 6.14 5.88
Required: What is the internal rate of return?
Problem 6: The following data pertain to an investment that is being considered by the management of
Weathersby Company:
Cost of the investment P 56,865
Life of the project 5 years
Annual Cash inflows P 15,200
Discount Rate 10%
The present value factors for 5 periods are as follows:
Periods 9% 10% 11%
PV of 1 5 .68 .64 .62
PV of an Annuity of 1 5 3.88 3.79 3.69
Required: What is the internal rate of return?

Problem 7: John’s Clothing Store is considering a new product line: umbrellas and rain gear. The new
product line would require an investment of P20,000 in equipment and fixtures and P40,000 in working
capital. Store managers expect the following pattern of net cash inflows from the new product line over
the life of the investment.
Year Annual After Tax Cash Flow Salvage Value
1 P 5,000 P 40,000
2 9,000 30,000
3 16,000 25,000
4 18,000 20,000
5 15,000 15,000
6 14,000 10,000
7 12,000 5,000
Required:
1. Compute the payback period for the proposed new product line. If John’s requires a four-year
pretax payback on its investments, should the company invest in the new product line?
2. Compute the bail-out period for the proposed new product line.

Problem 8: Assume the following information for a particular investment:

Investment Costs 150,000
Annual Operations:
Year Cash Inflow Salvage value
1 70,000 60,000
2 75,000 50,000
3 80,000 40,000
4 85,000 30,000
Required:
1. Compute the investment’s payback period.
2. Compute the investments Bail-Out Period.

Problem 9: Buy-Rite Pharmacy has purchased a small auto for delivering prescriptions. The auto was
purchased for P9,000 and will have a 6-year useful life and a P 3,000 salvage value. Delivering
prescriptions (which the pharmacy has never done before) should increase gross revenues by at least P
5,000 per year. The cost of these prescriptions to the pharmacy will be about P 2,000 per year. The
pharmacy depreciates all assets using the straight-line method. Tax rate is 40%.
Required:
1. The payback period for the auto is:
 2. The payback reciprocal for the auto is:

Problem 10: BackInSoon, Inc., has estimated that a proposed project's 10-year annual net cash benefit,
received each year end, will be P 2,500 with an additional terminal benefit of P 5,000 at the end of the
tenth year.
Required: Assuming that these cash inflows will result to a net present value of P 10,000 using
BackInSoon's required rate of return of 8 percent. Calculate the initial cash outlay.

PART 4: WORKING CAPITAL MANAGEMENT

Problem 1: Jackson Electricals is one of the largest dealers of generators in Phoenix and sells about 5,000
of them a year. The cost of placing an order with their supplier is P765, and the inventory-carrying costs
are P170 for each generator.
Required:
1. Using the tabular method and the following order sizes, compute the EOQ of the generators (50,
100, 150, 200, 250)
2. Using the formula method, compute the EOQ and the total ordering cost and total carrying cost.
3. Assuming that the normal lead time is 3 days and a 250-working days, what is the company’s
reorder point?
4. In relation to the previous item, what is the reorder point if the maximum lead time is 5 days?

Problem 2: An automobile manufacturer uses about 60,000 pairs of bumpers (front bumper and rear
bumper) per year, which it orders from a supplier. The bumpers are used at a reasonably steady rate
during the 240 working days per year. It costs $3.00 to keep one pair of bumpers in inventory for one
month, and it costs $25.00 to place an order. A pair of bumpers costs $150.00.
Required:
1. What is the EOQ?
2. What is the total annual expense of ordering the EOQ every time?
3. How many orders will be placed per year?
4. What is the total annual expense of ordering 600 pairs of bumpers every time? How much is
saved per year by ordering the EOQ?
5. Compute the re-order point considering that the Normal and Maximum lead time of the company
supplier is 4 days and 8 days respectively.

Problem 3: A company’s current credit sales amounted to P300,000 and collectible within 30 days.
Contribution margin ratio is 30% and the company’s cost of capital is 10%.
Required:
1. How much is the investment in accounts receivable and the related cost of such investment?
2. Management is considering relaxing its credit terms which is expected to result in a 20% increase
in sales, however, it will increase the collection period to 45 days. How much is the new
investment in accounts receivable and the related cost of such investment?
3. Is management plan viable?

Problem 4: Dharma Putra Corporation, which has idle capacity, provides the following data:
Selling price per unit $80
Variable cost per unit $50
Fixed cost per unit $10
Annual credit sales 300,000 units
Collection period 2 months
Rate of return 16%
The corporation is considering a change in policy that will relax its credit standards. The following
information applies to the proposal:
 Sales will increase by 20 percent.
 Collection period will go to 3 months.
 Bad debt losses are expected to be 3 percent of the increased sales.
 Collection costs are expected to increase by $20,000.
Required: Determine if Dharma Putra Corporation should offer the new terms?

Problem 5: Lie Dharma Putra Corporation is considering liberalizing its credit policy to encourage more
customers to purchase on credit. Currently, 80 percent of sales are on credit and there is a gross margin of
30 percent. Other relevant data are:
                                                  Currently                   Proposal
Sales                                          $300,000                   $450,000
Credit sales                                $240,000                   $360,000
Collection expenses                  4% of credit sales      5% of credit sales
Bad Debt Expense 1.5% of credit sales 2% of credit sales
Accounts receivable turnover    4.5                              3
Required: Determine if Lie Dharma Putra Corporation should offer the new terms?

Problem 6: Romblon Rug’s Repair Corporation is trying to decide whether it should relax its credit
standards. The firm repairs 72,000 rugs per year at an average price of P32 each. Bad debt expenses are
1% of sales, the average collection period is 40 days and the variable cost per unit is P28. Romblon
expects that if it does relax its credit standards, the average collection period will increase to 48 days and
that bad debts will increase to 1 1/2 % of sales. Sales will increase by 4,000 repairs per year while fixed
collection cost will increase from P 24,000 to P 32,000 per year. The firm has a required rate of return on
equal risk investments of 14%.
Required: What is the net benefit or cost if Romblon will relax its credit standards?

Problem 7: It takes Laguna Corporation about 2.5 days to receive payment from the mail, another 1.5
days to process it and 3 days for the checks to clear the banking system. Therefore, a lockbox system is
being considered. It is expected that the system will reduce the float time to 5 days. Average daily
collections are $500,000. The rate of return is 12 percent. Annual service charge is expected to be
P100,000.
Required:
1. How much collection float (in days) does the firm currently have?
2. Should Laguna utilize the lockbox system?

Problem 8: Benta Inc. is a retail mail order company that currently uses a central collection system that
requires all checks to be sent to its Quezon City headquarters. An average of 5 days is required for mail
checks to be received, 4 days to process and 1.5 days for the checks to clear through its banks. A
proposed lockbox system would reduce the mail and process time to 3 days and check clearing time to 1
day. Benta Inc. has an average daily collections of P100,000.
Required:
1. If Benta Inc. should adopt the lockbox system, what would the increase in its average cash
balance be?
2. If the company’s investment rate is 15% and the lockbox system will have a service charge of P
80,000 annually, should Benta adopt the lockbox system?

Problem 9: Tagaytay Company has an agreement with China Bank in which the bank handles $3 million
in collections a day and requires a $700,000 compensating balance and a service charge of P 50,000
annually. Tagaytay is thinking of canceling the agreement and dividing its western region so that two
other banks will handle its business instead. Bank A will handle $1 million a day of collections, requiring
a compensating balance of $300,000 and annual service charge of P 40,000, and bank B will handle the
other $2 million a day, asking for a compensating balance of $500,000 and an annual service charge of P
60,000. Tagaytay’s financial manager anticipates that collections will be accelerated by 1/4 day if the
western region is divided. The company’s rate of return is 14 percent.
Required: Should Tagaytay cancel the agreement and divide its western region?

Problem 10: Cavite Corporation needs P 1,000,000. The following are the different options that the
company has in order to raise such funds:
1. Loan with interest at maturity of 21%
2. Loan with interest, taken in advance, at the rate of 18%
3. Loan with interest of 17% at maturity, and a required compensating balance of 20%
4. Loan with interest of 16% discounted, and a compensating balance of 15%
5. Loan with interest of 18% at maturity, and a 15% compensating balance that earns 4%
6. Loan with interest of 15% discounted, and a 30% compensating balance that earns 5%
Required: Compute the cost of financing under each of the independent arrangement.

Problem 11: Compute the cost of foregoing the discount under the following terms:
1. 2/10, n/30 2. 4/15, n/40 3. 3/20, n/60 4. 1/15, n/45

Problem 12: Tres Bigotilyos Inc. needs to pay a supplier’s invoice of P60,000 and wants to take a cash
discount of 2/10 net 40. The firm can borrow the money for 30 days at 11% per annum with a 9%
compensating balance. Assume 360-day year.
Required:
1. What is the amount Tres Bigotilyos must borrow to pay the supplier within the discount period
and cover the compensating balance?
2. Assuming Tres Bigotilyo borrows the money on the last day of the discount period and repays it
30 days later, what is the effective interest rate on the loan?
3. If Tres Bigotilyo fails to take the discount and pays on the 40 th day, what is cost for not taking the
discount?

Problem 13: Suppose that the interest rate on Treasury bills is 8%, but every sale of bills cost you P20.
Your firm pays out cash at a rate of P 105,000 per month.
Required: Compute for the optimal capital transaction size and the average cash balance.

Problem 14: You estimate a cash need for $4 million over a one month period where the cash account is
expected to be disbursed at a constant rate. The opportunity interest rate is 6 percent per annum or 0.5
percent for a one-month period. The transaction cost each time you borrow or withdraw is $100.
Required: Compute for the optimal capital transaction size and the average cash balance.