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CERTIFIED PUBLIC ACCOUNTANTS (CPA) INTERMEDIATE LEVEL
FINANCIAL MANAGEMENT

THURSDAY: 23 April 2026. Afternoon Paper. Time Allowed: 3 hours.

This paper consists of five (5) questions. Answer ALL questions. Marks allocated to each question are shown at the end of the question. Show ALL your workings. Do NOT write anything on this paper.

QUESTION ONE
(a) Corporate governance is an important mechanism for ensuring accountability and transparency in organisations.
Required:
Discuss FOUR principles of good corporate governance. (4 marks)
(b) Highlight FOUR roles played by financial institutions in the financial system. (4 marks)

Source of Finance Amount (Sh.“000”)
Ordinary share capital (Sh.10 par) 40,000
12% Preference share capital (Sh.100 par) 10,000
10% Debentures (Sh.1,000 par) 30,000
Retained earnings 20,000

Additional Information:
1. The ordinary shares are currently trading at Sh. 45 each.
2. The company paid a dividend of Sh.3.00 per share last year. Dividends are expected to grow at a constant rate of 8% per annum.
3. The preference shares were issued at par and are currently trading at Sh.105.
4. The debentures have a 10-year maturity period and are currently trading at Sh.950. The debentures are redeemable at par on maturity.
5. The corporate tax rate is 30%.
Required:
Determine the weighted average cost of capital (WACC) of Pendo Ltd. using market value weights. (6 marks)

(d) (i) Explain TWO reasons why an individual would prefer to receive a specific sum of money today rather than the same amount at a future date. (2 marks)

(ii) An investor plans to save for a child’s education by depositing equal annual amounts into a savings account at the end of each year for the next eight years. The target sum is Sh.4,000,000 and the account earns compound interest at 12% per annum.

Required:
Calculate the annual deposit required to achieve the target amount. (4 marks)
(Total: 20 marks)

QUESTION TWO
(a) Outline FOUR factors that could influence the working capital requirements of a firm. (4 marks)
(b) Zeta Traders Ltd. reports the following information for the year ended 31 December 2025: Average inventory: Sh.6,000,000
Average receivables: Sh.6,000,000 Annual cost of sales: Sh.36,000,000 Annual credit sales: Sh.48,000,000 Credit allowed to customers: 45 days Credit received from suppliers: 30 days
Assume a year consists of 360 days.
Required:
(i) Calculate the inventory holding period. (4 marks)
(ii) Calculate the receivables collection period. (2 marks)
(c) The following summary financial data belongs to Twima Ltd. for the year ended 31 March 2026:
Item Sh.“000”
Sales (all on credit) 50,000
Cost of goods sold 35,000
Net profit after tax 4,000
Total assets 40,000
Inventory 8,000
Accounts receivable 6,000
Current liabilities 10,000

Additional information:
1. The industry average for the total assets turnover is 1.5 times.
2. The industry average current ratio is 2.5:1.
Required:
(i) Calculate Twima Ltd.’s net profit margin, total assets turnover and current ratio. (6 marks)
(ii) Evaluate the company’s performance in terms of efficiency and liquidity relative to the industry averages.
(4 marks)
(Total: 20 marks)
QUESTION THREE
(a) Explain FOUR determinants of capital structure in a company. (4 marks)

(b) Omega Manufacturing Ltd. plans to raise Sh.40,000,000 to finance an expansion programme. The finance director is considering two financing plans:
Plan I: Issue of ordinary shares only.
Plan II: 50% debt financing at an interest rate of 12% and 50% equity financing.

Additional information:
1. Expected earnings before interest and tax (EBIT) is Sh.10,000,000.
2. Corporate tax rate is 30%.
3. Existing ordinary shares outstanding are 2,000,000.
4. New ordinary shares can be issued at Sh.20 per share.

Required:
(i) Calculate earnings per share (EPS) under each financing plan. (5 marks)

(ii) The board of directors of Omega Manufacturing Ltd. is concerned about the impact of leverage on shareholders’ value.
Evaluate THREE effects of financial leverage on shareholders’ wealth. (3 marks)

(c) An investor is considering a portfolio consisting of two assets, asset X and asset Y. The expected returns and standard deviations for the assets are as follows:

Item Asset X Asset Y
Expected return 18% 12%
Standard deviation 24% 16%

The correlation coefficient between the returns of the two assets is +0.4. The investor intends to invest 60% of their funds in asset X and 40% in asset Y.

Required:
(i) Calculate the expected return of the portfolio. (2 marks)
(ii) Calculate the risk (standard deviation) of the portfolio. (4 marks)
(iii) Explain how a correlation coefficient of -1.0 would affect the portfolio risk. (2 marks)
(Total: 20 marks)

QUESTION FOUR
(a) In relation to Islamic Finance:

(i) Explain the term “Gharar” as used in Islamic Finance. (2 marks)

(ii) Summarise THREE benefits of Islamic Finance compared to traditional finance. (3 marks)
(b) Malipela Industries Ltd. is planning to invest in one of two mutually exclusive projects, Project Alphan and Project Betan, aimed at improving production efficiency. The projects are expected to commence immediately and the estimated after-tax cash flows are as follows:

Year Project Alphan
(Sh. “000”) Project Betan
(Sh. “000”)
0 (8,000) (8,000)
1 3,500 1,000
2 3,500 2,500
3 3,500 4,000
4 3,500 6,000

Additional information:
1. The company’s required rate of return is 14% per annum.
2. The cash flows provided are incremental after-tax cash flows and include all relevant operating cash flows.
3. Both projects have no salvage value at the end of year 4.
4. Working capital effects have already been incorporated in the cash flows above.
5. Assume that all cash flows occur at the end of each year, except the initial outlay which occurs at year 0.
Required:
(i) Compute the Net Present Value (NPV) for each project. (4 marks)
(ii) Compute the Internal Rate of Return (IRR) for each project (to two decimal places). (5 marks)

(iii) Advise management on which project to select, providing justification based on your findings in (b) (i) and
(b) (ii) above. (2 marks)

(c) Pandora Ltd. issued a 14% coupon bond with a face value of Sh. 1,000 and twelve years to maturity. The current market required rate of return for similar bonds is 10%.

Required:
Determine the value of the bond assuming that interest is paid semi-annually. (4 marks)
(Total: 20 marks)

QUESTION FIVE
(a) Discuss how the digitisation of financial systems and the emergence of blockchain technology could affect corporate financing decisions over the next decade. (4 marks)

(b) Evaluate THREE advantages of adopting a residual dividend policy. (6 marks)
(c) Amarak Ltd. earned Sh.12,000,000 after tax during the year ended 31 December 2025.

Additional information:
1. The company has 3,000,000 ordinary shares in issue.
2. The company plans to distribute 40% of its earnings as dividends.

Required:
(i) Calculate the dividend per share of the company. (2 marks)

(ii) Calculate the retention ratio of the company. (2 marks)
(d) Zidika Ltd. is reviewing its cash management policy. The company’s annual cash requirements are Sh.12,000,000 which are spread evenly throughout the year. The company holds idle funds in marketable securities that earn an annual interest rate of 12%. The cost of converting securities into cash is Sh.450 per transaction.

Additional information:
1. The company applies the Baumol cash management model in determining its optimal cash balance.
2. Assume 365 days in a year.

Required:
(i) Determine the optimal cash conversion size for the company. (2 marks)
(ii) Determine the total annual cost associated with the company’s cash management policy. (2 marks)
(iii) The average cash balance. (1 mark)
(iv) The number of transfers required in a year. (1 mark)
(Total: 20 marks)
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