An important skill in your treasurer’s toolkit is being able to recognise, calculate and comment on interest rate risk. So if your examiner asks you to ‘evaluate’, they require your words of explanation. Correct calculations on their own are not enough. To pass your exam, you need to practise writing commentaries as well.
Evaluate = often calculate + always comment.
A rise in interest rates could hurt your business in at least two important ways:
This ‘double whammy’ scenario was tested in a recent exam. We will look at this question in detail, to discover some important tips to help you pass your own exam. Extracts are set out here.
TEE operates a chain of petrol stations in the UK. You have recently been appointed as treasurer and one of your first tasks is to review the financial risks that the company faces.
TEE has only floating-rate debt consisting exclusively of bank borrowings:
Required:Evaluate the extent of TEE’s exposure to a rise in interest rates. Your answer should include calculations of the impact of a 2% rise in interest rates on TEE’s interest cost, revenue and cost of sales; value of cash and cash equivalents; profit after tax; and ability to meet the debt covenant.
Certificate in Risk Management (CertRM), October 2013, Q1(a), extracts
Most candidates drove off by producing substantially correct and complete calculations based on further data in the question that is not reproduced above.
The examiner reported happily1: “The sensitivity analysis was generally well attempted.”
Key correctly calculated figures are set out in the table below:
Following that excellent tee shot, candidates were well placed to achieve a match-winning score. Sadly, they didn’t.
The examiner continued disappointedly: “However, many answers simply contained numerical analysis, without commenting on the significance of the results and identifying the key risks in the given scenario.”
It’s not clear why so many candidates didn’t write any commentaries. Perhaps they interpreted the requirement to ‘evaluate’ as meaning the same as ‘calculate’. That is never the case. It’s quite true that evaluation does indeed normally include calculating. But evaluation importantly, and always, includes writing words.
The words the examiner wanted were not complicated. To plan any commentary, a good place to start is always with the largest monetary effects. Then move on to write about their consequences.
Look again at the key calculated figures in the table above. Which adverse change is the largest? Now, the following outline evaluation is quick to write, and it scores marks very efficiently:
This kind of outline can, of course, be expanded further, as your exam timing allows.
To finish, let’s think briefly about potential variations on our TEE petrol stations scenario. There are two important factors that might differ in another case:
Stay out of the ‘no words’ sand trap by reading your question requirements carefully, and practise writing evaluations. Keeping your eye on the question ball will take you a fair way towards grand slam success in your exams.
“Strong numerical skills are insufficient to pass this paper. It is also important to be able to explain and draw conclusions from the results of any numerical analysis undertaken.”
CertRM Examiner’s Report, October 2013
Download previous articles from this series and other useful study information from the Exam tips area of the student site at study.treasurers.org/examtips
Doug Williamson FCT is an experienced coach and tutor. As a former chief examiner, he is uniquely qualified to help you to ace your ACT exams, having read and carefully marked great numbers of exam scripts