Office Use Only

Monash University
Faculty of Business and Economics
Department of Accounting and Finance
EXAM CODES:
TITLE OF PAPER:

COMMERCIAL BANKING AND FINANCE

EXAM DURATION:

3 hours

READING TIME:

10 minutes

THIS PAPER IS FOR STUDENTS STUDYING AT: (office use only - tick where applicable)
Berwick

Clayton

Peninsula

Distance Education

Caulfield

Gippsland

Sunway

Open Learning

Other (specify)

During an exam, you must not have in your possession, a book, notes, paper, calculator, pencil case,
mobile phone or any other material/item which has not been authorised for the exam or specifically
permitted as noted below. Any material or item on your desk, chair or person will be deemed to be in
your possession. You are reminded that possession of unauthorised materials in an exam is a
disciplinable offence under Monash Statute 4.1.
AUTHORISED MATERIALS
CALCULATORS

YES

NO

(If YES, only calculators with an 'approved for use' Faculty label are permitted)
OPEN BOOK

YES

NO

SPECIFICALLY PERMITTED ITEMS

if yes, items permitted are:

YES

NO

This paper consists of seven (7) questions and one (1) formula sheet
printed on a total of twenty three (23) pages.
Students must attempt to answer ALL questions.
Paper adds to 70 marks
STUDENT ID: ...

DESK NUMBER: .

PLEASE CHECK THE PAPER BEFORE COMMENCING. THIS IS A FINAL PAPER. THIS EXAMINATION
PAPER MUST BE INSERTED INTO THE ANSWER BOOK AT THE COMPLETION OF THE PAPER. NO
EXAMINATION PAPERS SHOULD BE REMOVED FROM THE EXAMINATION ROOM

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Answer all questions.

Answer Question 1 in the script book provided.
Answer all other questions in the spaces provided on the question paper.
Question One

Lending and Credit risk

Effective management of credit risk is fundamental to successful bank management.

(a) Define credit risk and its five components.
(b) Outline the six Cs of credit which should be investigated by a loan officer when he is
using the judgemental approach to assess a loan application. For each of these factors
comment on what information he would collect and what would encourage him to
recommend approval of the loan.
( 5 + 12 = 17 Marks)

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Question Two

Bank performance

(a) Monash banks financial statements for 2012 and 2013 are provided below:

Assets
Cash/liquidity
Loans etc
Premises etc
Total

Balance Sheet
2013
Liabilities
21,600,000 Current debt
Long term
264,000,000 289,200,000 debt
2,400,000
2,400,000 Equity
283,200,000 313,200,000 Total
2012
16,800,000

2012
148,800,000

2013
153,600,000

112,800,000 136,800,000
21,600,000
22,800,000
283,200,000 313,200,000

Income Statement
2012
2013
Interest revenue
12,000,000 12,480,000
Interest expense
-3,600,000 -4,032,000
Net interest
income
8,400,000 8,448,000
Non-interest
income
2,160,000 2,400,000
Non-interest
expense
-3,600,000 -3,600,000
Net non-interest
cost
1,440,000 1,200,000
Net operating
income
6,960,000 7,248,000
Tax (30%)
-2,088,000 -2,174,400
Net income
4,872,000 5,073,600
Using the data provided above, compute the 5 ratios in the Du Pont Model for 2012 and
2013. You may tabulate the ratios.
(b) Given the ratios you have calculated in Question Two (a), comment on the
performance of Monash Bank.
(c) What further information would help you make a more complete assessment?
(d) Distinguish between return on equity (ROE) and shareholder's rate of return.
(2.5 + 2.5 + 3 + 3 = 11 marks)

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Question Three

Banking Book

The core banking activities of a bank are deposits and loans.

(a) Contrast current deposits and fixed deposits in terms of maturity, minimum balance,
withdrawal and interest rates.
(b) Distinguish between the credit card outstandings and fully drawn term business
loans in relation to their purpose, maturity, repayment requirement, interest rates,
fees and collateral.
(2 + 3 = 5 Marks)
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Question Four

Capital Management

(a) In December 2013 XYZ Bank announced a decline in profit by 15% compared to its
previous years performance. At the same time, XYZ Bank also declared that it would
maintain its dividend payments like previous year. Suggest why XYZ Bank still maintains
its dividend payment despite a decline of 15% in its performance.
(b) Use the data below
(i) Calculate the internal capital generation rate for Bank XYZ.
(ii) Project Bank XYZ's simple capital ratio in one year's time.
Capital at start of year
Assets at start of year
Asset growth rate
Return on assets
Dividend payout ratio
Target capital ratio

$3,780 million
$54,100 million
15% per annum
1.2% per annum
55%
7%;

(c) Explain the meaning of the two numbers calculated in Question 4(b).
(d) Based on the calculation in Question 4 (b), should the bank increase or decrease external
capital and by how much?
(4+ 3+ 2+ 2 = 11 marks)

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Question Five

Derivatives and Off balance Sheet Business

(a) Explain three reasons why banks may become involved in market related derivative
transactions activities.
(b) Monash Bank has provided a letter of credit in support of an issue of mortgage backed
securities, but, due to a liquidity crisis in financial markets, the issuer finds it cannot sell
the securities. How will this affect Monash Bank?
(c) What payment (in dollars) would be made, and by whom, to settle an FRA (Forwardrate agreement) with the following conditions?

Nominal value $2,000,000

Term 90 days
FRA rate 8% per annum
Reference rate on the settlement date = 7% per annum
(3 + 2 + 2 = 7 marks)

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Question Two: Shareholders Wealth

Shareholders Wealth maximization refers to the maximization of the present value of
future cash flows accruing to the common shareholders.
(a)

In relation to this statement, explain with a mathematical model, why shareholders

wealth is said to depend on the value of expected future cash flow, the timing of
those cash flows and the perceived riskiness of the firm.

(b)

Assume a bank with 10 million outstanding shares pays perpetual annual dividends
of $2/share. If investors require 8% rate of return, what is the total shareholders
value of this bank.
(7 + 2 = 9 marks)
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Question Seven

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Answer ALL questions (10 x 1 = 10 marks). For each question, select the BEST answer of
the choices provided. All answers must be written on the space provided on page 22.
7.1

A bank with a positive interest-sensitive gap will have a decrease in net interest
income when interest rates in the market:
a.
b.
c.
d.

7.2

Which of the following factor(s) can affect banks' debt-equity mix decision from the
viewpoint of shareholders?
a.
b.
c.
d.

7.3

using debt reduces bank financial risk

interest on debt is tax deductible
using debt prevents the dilution of ownership
a and b
b and c

An agreement where two parties agree to exchange different currencies is known

as:
a.
b.
c.
d.
e.

7.6

increases in loans and decreases in deposits

decreases in loans and increases in deposits
increases in loans and increases in deposits
decreases in loans and decreases in deposits

From the viewpoint of bank shareholders, what is (are) the advantage(s) of using debt
to finance assets?
a.
b.
c.
d.
e.

7.5

dividend policy
ownership control
financial risk
all of the above

Which of the following is a source of funds?

a.
b.
c.
d.

7.4

rise
fall
stay the same
a bank with a positive interest-sensitive gap will never have a decrease in net
interest income

An interest rate swap

A currency swap
A swaption
A quality swap
None of the above

A bank is asset sensitive if its:

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a.
b.
c.
d.
7.7

If a trader buys a put option, he (she) will make a profit if the price of the underlying
asset:
a.
b.
c.
d.

7.8

Exercise the option.

Sell the option to another buyer.
Allow the option to expire.
All of the above.
A and B only.

Monash Bank is forecasting that interest rates are likely to be raised by the central
bank. How the bank could play the yield curve (use the cyclical approach) to cover
its position in its security investment.
a.
b.
c.
d.

7.10

increases
decreases
increases and then decreases
decreases and then increases

An option buyer can:

a.
b.
c.
d.
e.

7.9

loans and securities are affected by changes in interest rates.

interest-sensitive assets exceed its interest-sensitive liabilities.
interest-sensitive liabilities exceed its interest-sensitive assets.
deposits and borrowings are affected by changes in interest rates.

sell long term and buy short term security

buy long term and sell short term security
sell long term security only
buy short term security only

Forward contracts differ from futures contracts in which of the following ways:
a.
b.
c.
d.

less standardized than futures contracts

traded over-the-counter (OTC) between large dealer banks (rather than on an
organized exchange)
not marked-to-market daily as are futures contracts
all of the above

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Question Seven Answers:

Question No. Answers
7.1
7.2
7.3
7.4
7.5
7.6
7.7
7.8
7.9
7.10
(Total = 10 marks)

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Formulae
Compound Interest

PV S 1i

Effective Interest
m
j

i e 1 1
m

S FV

A PV

FV A 1 i

Bill Price
36500 Face Value
Price
36500 IR days
Annualised return
Sale Price Purchase Price
36500
R

Purchase Price
days held
Ordinary Annuity
n
PV R i 1 1i

FV R i 1 i 1
n

Perpetual Annuity
p Dividends/ R

Bond Price
P PV coupons PV face value
Asset Growth Model
C A1 AGR ROA1 D
CR1
A1 AGR
Internal capital generation rate
ICGR = [1/capital ratio] x ROA x (1-D)
Customer Profitability Analysis
net income before tax
Re turn on allocated capital
allocated capital
Interest rate risk
Gap$ = RSA - RSL
NII Gap$i

END OF EXAMINATION

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