CONFIDENTIAL

UNIVERSITI KUALA LUMPUR BUSINESS SCHOOL

LUQMANULHAKIM BIN HJ PAIMAN

62386113295

ENTREPRENUERIAL FINANCE
MBA (E)
MID TERM

INSTRUCTIONS TO CANDIDATES

1. Please read the instructions given in the question paper CAREFULLY.

2. Answer ALL questions. You MUST SHOW ALL CALCULATIONS FOR PARTIAL
CREDIT.
3. All questions must be answered in English (any other language is not allowed).

THERE ARE THREE (3) PAGES INCLUDING THIS PAGE

Question 1
a) Provide a detailed discussion on when does the agency problem occur in an
organization.
Agency problem occurs when one partner in a transaction (the principal /
shareholders) delegates authority to another (the agent / managers) and the
welfare of the principal is affected by the choices of the agent.
Conflicts arise when people (agents) who are entrusted to protect the interests of
another person (the principal) to use power or power for their own interests
instead.
It is a pervasive problem and is present in almost every organization, whether
business, church, club, or the government.
Organizations try to solve them with the launch measures such as screening
process difficult, incentives for good behavior and punishment for bad behavior,
regulatory bodies, and so on, but no organization can fully recover because the
cost to do so sooner or later exceed the value making. Also known as the main
problem of the agency.

b) Discuss the two main sources of agency problems with examples.

Two main sources agency problem are moral hazard and adverse selection. As
example Insurance companies generally have a variety of problems:
Adverse selection, people come in various types:
High risk / low risk, which is monitored / careless, healthy / unhealthy.
The customers do not know of a company.
Moral hazard, the person taking the action the company did not see:
Drive with caution / no, Training / not, work hard / no.

Customers do something companies do not.

c) Discuss the two types of agency conflicts and its implications
The delegation of authority from principal to agent is problematic because of interest
of principal cannot and agent may not be the same. the principal cannot perfectly
and costlessly monitor the action of the agent it incurring monitoring cost and
principal cannot perfectly and costlessly acquire information require to monitor agent
that will impose information asymmetry.

d) Suggest possible solutions to both types of agency conflicts in organizations.

The solution for conflict in organization:
i)
ii)
iii)

Organization mechanisms
Compensation arrangements tied to performance & partial ownership
Market mechanisms market for managers, external monitoring through
stock market and takeover (external control device of last resort)

e) Discuss Jensens Free Cash Flow (FCF) hypothesis and its implications for
managers as well as the modern corporation.
Free Cash Flows (FCF) are cash flows in excess of the amount needed to fund all
positive net present value projects. Payout of free cash flow to reduce agency costs
by reduce amount of resources under control of managers, prevent managers from
investing in negative NPV project and outside financing is subject to monitoring by
capital markets.
It a bonding mechanism which forces managers to pay out future cash flows by debt
creation without retention of the proceeds of the issue, disciplines to be efficient to
meet debt obligations, dividend also reduce FCF if managers require additional
capital and lastly its prevent unsound investment.

The FCF hypothesis theory prediction positive stock price reaction to unexpected
increase in payouts, increased tightness of constraints requiring the payout of future
FCF will result in positive stock price reaction. But the prediction not apply for firms
that had more profitable projects than cash flows to fund them and not suitable us for
growth firms.

The implication from Jensens FCF hypothesis is:

i)
ii)

Increasing short term debt reduces agency problems

Increasing overall debt reduces agency problems such as act as a

iii)
iv)
v)

disciplining tools.
Managers may be reluctant to increase debt due to job security threat.
Dividend payment reduce agency problems
M&As increase agency problems.

Question 2

You want to begin saving for your retirement. You plan to contribute RM 24,000 to
the account at the end of this year. You anticipate you will be able to increase your
annual contributions by 5% each year for the next 35 years.
a) What is the meaning and significance of the Time Value of Money concept?
The time value of money is one of the basic theory of financial management. This
theory states that the money you have now is more than a promise to receive the
same amount of money in the future. This may sound easy, but it supports the
concept of interest, and can be used to compare investments, such as loans,
bonds, mortgages, leases and savings.
The time value of money theory suggests that the dollar is in the bank today is
worth more than a credible promise or expectation of receiving one dollar at a
future date. You can invest the dollar today and get a return on investment, such
as interest or dividend payments.
Calculations involving the time value of money allows people to find and compare
the value of future payments. To do this, five numbers come into play: the interest
rate, the total duration or number of times interest or dividend payments are
made, payment, present value and future value. A formula that involves the
number of questions such as how many answers you need to deposit now to
have $ 10,000 in six years if the interest rate is 7 percent.
The time value of money tells us what the current value of an investment will
grow by a given date. This is the future. The difference between the present value
and future value depends on the length of compounding heavily involved in
investments and interest rates. The calculation of the future can tell you how
much money you will have in the next three years to come if you put $ 15,000 in
a savings account today to pay 5 percent interest compounded annually.
When an investor buys a bond or pay money into the account the benefits, they
exchanged money for the promise of more money on a certain date. Theory of

time value of money allows investors to use mathematical formulas known as the
risk-free rate of return, to calculate the value today that the money will come, and
decide whether it is worth investing.
Certain types of investments do not guarantee the payment after a certain period
of time. If payment is not guaranteed for the future, you need to adjust the value
based on the risks involved, and time.

b) If your expected annual return is 7%, how much do you expect to have in your
retirement account when you retire in 35 years?

34
33
32
31
30
29
28
27
26
25
24
23
22
21
20
19
18
17
16
15
14
13
12
11
10
9
8
7
6

Period

Payment

1
2
3
4
5
6
7
8
9
10
11
12
13
14
15
16
17
18
19
20
21
22
23
24
25
26
27
28
29

24000.00
25200.00
26460.00
27783.00
29172.15
30630.76
32162.30
33770.41
35458.93
37231.88
39093.47
41048.14
43100.55
45255.58
47518.36
49894.28
52388.99
55008.44
57758.86
60646.80
63679.14
66863.10
70206.26
73716.57
77402.40
81272.52
85336.14
89602.95
94083.10

Compound
@ 7%
9.978
9.325
8.715
8.145
7.6123
7.1143
6.6488
6.2139
5.8074
5.4274
5.0724
4.7405
4.4304
4.1406
3.8697
3.6165
3.3799
3.1588
2.9522
2.759
2.5785
2.4098
2.2522
2.1049
1.9672
1.8385
1.7182
1.6058
1.5007

Future value
RM239,472.00
RM234,990.00
RM230,598.90
RM226,292.54
RM222,067.16
RM217,916.40
RM213,840.67
RM209,845.95
RM205,924.19
RM202,072.29
RM198,297.72
RM194,588.73
RM190,952.68
RM187,385.25
RM183,881.79
RM180,442.65
RM177,069.55
RM173,760.66
RM170,515.71
RM167,324.53
RM164,196.68
RM161,126.70
RM158,118.53
RM155,166.01
RM152,266.00
RM149,419.53
RM146,624.56
RM143,884.42
RM141,190.51

5
4
3
2
1
0

30
31
32
33
34
35

98787.25
103726.62
108912.95
114358.60
120076.53
126080.35

Total Cash Flow in 35

years

Question 3

1.4026
1.3108
1.225
1.1449
1.07
1

RM138,559.00
RM135,964.85
RM133,418.36
RM130,929.16
RM128,481.88
RM126,080.35
RM6,192,665.9
2

a) You have just won a lucky draw prize worth RM 5 million. You can take your prize
money either as 5 payments of RM 1 million per year (starting today) or RM 2 million
paid today. If the interest rate is 5%, which option should you take?
OPTION 1
PERIOD
0
1
2
3
4

PAYMENT
1,000,0
00.00
1,000,0
00.00
1,000,0
00.00
1,000,0
00.00
1,000,0
00.00

DISCOUNTE CASH
D
FLOW
1
0.9524
0.907
0.8638
0.8227

TOTAL
RECEIVED TODAY

1,00
0,000.00
95
2,400.00
90
7,000.00
86
3,800.00
82
2,700.00
4,54
5,900.00

OPTION 2
DISCOUNTE CASH
D
FLOW

PERIOD

PAYMENT

2,000,0
1
00.00

TOTAL
RECEIVED TODAY

2,00
0,000.00
2,00
0,000.00

Based on calculation above we choose option 1 because higher value compare with
option 2.

b) Based on you answers above, how much payment would you require to opt for the
second option?

The second option will be opt if the payment received for today more than
RM4545900.
c) You have just finished your MBA and have received a promotion that requires you to
upgrade your lifestyle and thus purchase a new car. Your rich Uncle Tony Stark will
lend you the money as long as you agree to pay him back within 8 years. You offer to
pay him the rate of interest that he would otherwise get by putting his money in a
savings account. Based on your earnings and living expenses, you think that you will
be able to pay him back RM 24,000 in one year, and then RM 36,000 for the next 7
years after that. If Uncle Tony Stark would otherwise earn 5% per year on his
savings, how much can you borrow from him?
OPTION
PERIOD

PAYMENT

CASH
FLOW
-

24,

000.00

22,8
0.9524

57.60

0.907

52.00

0.8638

96.80

0.8227

17.20

0.7835

06.00

0.7462

63.20

0.7107

85.20

0.6768

64.80

36,

000.00

32,6

36,

000.00

31,0

36,

000.00

29,6

36,

000.00

28,2

36,

000.00

26,8

36,

000.00

25,5

36,

8
TOTAL
RECEIVED

DISCOUNTE
D

000.00
LOAN

24,3

221,2
42.80
[END OF QUESTION PAPER]