Aditya Jain Notes

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QUESTION NO.1
Solution:
Working Notes:
(i) Calculation of Tax Benefit on Depreciation
Year Opening WDV Depreciation Closing WDV Tax Shield
1 1000000 250000 750000 82500
2 750000 187500 562500 61875
3 562500 140625 421875 46406
4 421875 105469 316406 34805
5 - - - -
(ii) Calculation Of Profit & Loss On Sale Of Asset:

Original Cost 10,00,000
Less:Depeciation Till Date 6,83,594_
WDV 3,16,406
Less:Sale Value 67,000__
Loss On Sale Of Asset 2,49,406
Tax Saving On Loss 2,49,406 x 33% =Rs.82,304
(iii) PV of cash outflow under Borrowing Option
Year Investment/Salvage Tax Benefit on Dep. PVF @ 8.04% PV
0 (1000000) - 1.00 (1000000)
1 - 82500 0.925 76313
2 - 61875 0.857 53027
3 - 46406 0.793 36800
4 - 34805 0.734 25547
5 - 82304 0.679 55885
5 67000 - 0.679 45493___
(706935)
(iv) PV of cash outflow under Leasing Option

Year Lease Rental after Tax [email protected]% PV
1-5 270000(1-0.33) = (180900) 3.988 (721429)
Note:Kd = Interest Rate x ( 1- Tax Rate) = 12 x ( 1 - .33) = 8.04%
(a)Since PV of cash outflows is least in case of Borrowing option hence it shall be

more advantageous to go for the same.
(b)Tutorial Note:We have to calculate that figure, at which Present Value Of Cash
Outflow under Loan Option must be equal to Present Value Of Cash Outflow under
Lease Option.
Once that figure is found we must caalculate Sensitivity using this equation:
Change
Sensitivity (%) =  100
Base
(i)Sensitivity to Borrowing Rate

Sensitivity to Borrowing Rate can be calculated by determining the rate of borrowing
(post tax) at which PV of cash flows shall be equal under both options i.e. IRR.
Let us discount the cash flow using discount rate of 10%.
PV of Cash Outflow Under Borrowing Option

Year Investment/Salvage Tax Benefit on Dep. PVF@10% PV
0 (1000000) - 1.00 (1000000)
1 - 82500 0.909 74993
2 - 61875 0.826 51109
3 - 46406 0.751 34851
4 - 34805 0.683 23772
5 - 82304 0.621 51111
5 67000 - 0.621 41607__
(722557)
PV of cash outflow under Leasing Option
Year Lease Rental after Tax PVAF@10% PV

1-5 270000(1-0.33) = (180900) 3.79 (685611)
NPV @ 8.04% = 706935 - 721429 = -14494
NPV @ 10% = 722557 - 685611 = 36946
Using IRR Formula:= 8.04 + -14494/-14494-36946 x (10-8.04) = 8.55%
Sensitivity of Borrowing Rate =
Alt 1 (As Per ICAI): 8.55 - 8.04/8.55 =5.96%

Alt 2 : 8.55 - 8.04/8.04 =6.34%
(ii)Sensitivity of Residual Value

Let R be Residual Value at which PV of cash flow shall be equal under both options.
PV of cash outflow under Borrowing Option
Year Investment/Salvage TaxBenefit [email protected]% PV
0 (1000000) - 1.00 (1000000)
1 - 82500 0.925 76313
2 - 61875 0.857 53027
3 - 46406 0.793 36800
4 - 34805 0.734 25547
5 - (316406-R)0.33 0.679 70897 - 0.224R
5 R - 0.679 0.679 R______
(737416)+0.455R
Accordingly (737416) + 0.455R = (721429)
R = 35136
Sensitivity of Residual Value =35136-67000/67000x100 = 47.56% [ Note 1]
Note 1:What 47.56% indicate ? It indicate that if residual value falls from 67000 to
35136 i.e fall of 47.56% , Present Value Of Cash Outflow of both Loan and Lease
Option will be same.
(iii)Sensitivity of Initial Outlay
Initial Outlay will be 1014494 for NPV to be 0

Sensitivity of Initial Investment
=1014494-1000000/1000000 x100=1.4494%[ Note 2]
Note 2:What 1.4494% indicate ? It indicate that if initial outflow rise from 10,00,000
to 1014494 i.e rise of 1.4494% , Present Value Of Cash Outflow of both Loan and
Lease Option will be same.
QUESTION NO.2
Solution:
(a) Expected return on Market Index Using Arbitrage Pricing Theory
Small cap growth = 4.5 + 0.80 x 6.85 + 1.39 x (-3.5) + 1.35 x 0.65 = 5.9925%
Small cap value = 4.5 + 0.90 x 6.85 + 0.75 x (-3.5) + 1.25 x 0.65 = 8.8525%
Large cap growth = 4.5 + 1.165 x 6.85 + 2.75 x (-3.5) + 8.65 x 0.65 =
8.478%
Large cap value = 4.5 + 0.85 x 6.85 + 2.05 x (-3.5) + 6.75 x 0.65 = 7.535%
Expected return on market index
= 0.25 x 5.9925 + 0.10 x 8.8525 + 0.15 x 7.535 + 0.50 x 8.478 = 7.7526%
(b) Portfolio’s return Using CAPM
Small cap growth = 4.5 + 6.85 x 0.80 = 9.98%

Small cap value = 4.5 + 6.85 x 0.90 = 10.665%
Large cap growth = 4.5 + 6.85 x 1.165 = 12.48%
Large cap value = 4.5 + 6.85 x 0.85 = 10.3225%
Expected return on market index

= 0.25 x 9.98 + 0.10 x 10.665 + 0.15 x 10.3225 + 0.50 x 12.45 = 11.33%
(c) Let us assume that Mr. Nirmal will invest X1 in small cap value stock and (1-X1)
in large cap growth stock.
Since Portfolio Beta should be 1 and we know that Portfolio Beta is weighted Average
Beta of individual security ,we have therefore ,
0.90 x X1 + 1.165 x (1- X1) = 1

 0.90 X1 + 1.165(1 – X1) = 1
 0.90 X1 + 1.165 – 1.165 X1 = 1
 0.165 = 0.265 X1  X1 = 62 .3%
therefore X1 i.e Weights of small cap value stock =62.3% and

Weights of large cap growth stock is 37.70
QUESTION NO.3
Solution:
(i)Loan Alternative:
Calculation of loan installment:
Rs. 10,00,000 /1+PVAF (12%, 4) =Rs. 10,00,000 / (1 + 3.038) = Rs. 2,47,647
Calculation of Present Value of Outflows (Amount in Rs.)

(1) (2) (3) (4) (5) (6) (7) (8)
End of Debt Interest Dep. Tax Saving Cash outflows PV factors PV
year Payment [(3)+(4)]x0.3 (2)-(5) @ 10%
0 2,47,647 0 0 0 2,47,647 1.000 2,47,647

1 2,47,647 90,282 1,60,000 75,0851,72,562 0.909 1,56,859
2 2,47,647 71,398 1,60,000 69,4191,78,228 0.826 1,47,216
3 2,47,647 50,249 1,60,000 63,0751,84,572 0.751 1,38,614
4 2,47,647 26,305* 1,60,000 55,8921,91,755 0.683 1,30,969
5 0 0 1,60,000 48,000(48,000) 0.621 (29,808)
7,91,497
Less: Salvage Value Rs. 2,00,000 x 0.621 1,24,200
Total Present Value of Outflow 6,67,297
Leasing Decision:
Calculation of Present Value of Outflows
Yrs. 1-5 Rs. 2,40,000 x (1 - 0.30) x 3.790 = Rs. 6,36,720
Decision: Leasing option is viable.
Working Notes:
Working Notes-Bifurcation Table
Opening Interest Principal Closing

Year Balance @12% Instalments Repayment Balance
Rs. Rs. Rs. Rs. Rs.
0 10,00,000 - 2,47,647 2,47,647 752353
1 752353 90282 2,47,647 1,57,365 594988
2 594988 71398 2,47,647 176248 418740
3 418740 50249 2,47,647 197398 221342
4 221342 26305* 2,47,647 221086 0
* Rounding Off
(ii) From Lessor’s Point of View

First of all we shall calculate Weighted Average Cost of Capital (WACC) of the lessor
and to calculate the same we require cost of equity which shall be computed as
follows:
Overall Beta Of the proxy company = 1.3 X 3 / [ 3 + 1 (1 - 0.3) ] = 1.054
Now Equity Beta Of Given Company

or 1.054 = Equity Beta x 2/ [ 2 + 1 (1 - 0.3)]
or Equity Beta =1.423
Cost of Equity = 0.07 + 1.423 x (0.125 - 0.07) = 14.83%
WACC = 14.83x 2/3 + 9% (1- 0.30) x 1/3 = 9.89% + 2.10% = 11.99% say 12.00%
Computation of NPV (Rs.)

Cost of Machine (10,00,000)
PV of Post tax lease Rental (Rs. 2,40,000 x 0.7 x 3.605) 6,05,640
PV of Depreciation tax shield (Rs. 1,60,000 x 0.3 x 3.605) 1,73,040
PV of salvage value (Rs. 2,00,000 x 0.567) 1,13,400
8,92,080
NPV (-) 1.07.920
Decision - Leasing proposal is not viable.
QUESTION NO.4
Solution:
(a) Expected Return using CAPM
(i)Before Merger
Share of Bull Ltd. 8% + 1.50 (13% -8%) =15.50%
Share of Bear Ltd. 8%+ 0.60(13%-8%) =11.00%
(ii)After Merger
Beta of merged company shall be weighed average of beta of both companies as
follows: 7011729336 [Registered Students] 8 CA Aaditya Jain
2/3 x 1.50 + 1/3 x 0.60 = 1.20
Thus, expected return shall be:8%+ 1.20 (13%-8%) = 14%
(b)Impact of merger on Mr. X

After merger his % holding in merged company shall be:
2/3 x 4% + 1/3 x 2% = 3.33 %
The value of Mr. X’s holdings before merger was:
Bull Ltd. 4%x Rs.1000 crore Rs.40 crore
Bear Ltd. 2% x Rs.500 crore Rs.10 crore
Rs.50 crore
To compute the value of holding of Mr. X, after merger first we have to compute
the value of merged entity as follows:
Bull Ltd. 15.50% x Rs. 1000 crore Rs.155 crore
Bear Ltd. 11% x Rs. 500 croret Rs.55 crore
Synergy Benefits Rs. 7 crore__
Rs. 217 crore
Market Capitalization of Merged Entity = 217 crore/.14 = Rs.1550 crore
Value of Mr. X’s holding = Rs. 51.67 crore. (Rs. 1550 crore x 3.33%)
QUESTION NO.5
Solution:
CAPM = Rf + Beta x (Rm –Rf) According
Return of ABC = Rf + 1.2 (Rm – Rf) = 19.8
Return of XYZ = Rf + 0.9 (Rm – Rf) = 17.1
19.8 = Rf + 1.2 (Rm – Rf) ———(1)
17.1 = Rf + 0.9 (Rm – Rf) ———(2)
Deduct (2) from (1)
2.7 = 0.3 (Rm – R f) or Rm – Rf = 9 or Rf = Rm – 9
Substituting in equation (1)
19.8 = (Rm – 9) + 1.2 (Rm – Rm+ 9)
19.8 = Rm - 9 + 10.8
19.8 = Rm + 1.8
Then Rm = 18% and Rf = 9%
Security Market Line= Rf + Beta x (Market Risk Premium) = 9% + Beta x 9%
QUESTION NO.6
Solution:
(a)Let the weight of stocks of Economy A is expressed as w, then
(1- w) x 10.0 + w x 15.0 = 10.5 i.e. w = 0.1 or 10%.
(b)Variance of portfolio shall be:

(0.9)2 (0.16)2 + (0.1)2(0.30)2+ 2(0.9) (0.1) (0.16) (0.30) (0.30) = 0.02423
Standard deviation is (0.02423)1/2 = 0.15565 or 15.6%.
(c)The Sharpe’s ratio will improve by approximately 0.04, as shown below:

Expected Return  Risk Free Rate Of Return
Sharpe Ratio =
Standard Deviation
10  3
Investment only in developed countries: =0.437
16
10.5  3
With inclusion of stocks of Economy A: =0.481
15.6
QUESTION NO.7
Solution:
Since security market line is graphical present of CAPM. Accordingly,
Rs = Rf + B x (Rm - Rf)
Where Rs = Return from security ; B = Beta of security ;Rm = Market
Return ;Rf = Risk free Rate of Return
Thus, Rx = 9.40 = Rf + 0.80 (Rm - Rf)
and Ry = 13.40 = Rf + 1.30 (Rm - Rf)
Solving equation (1) & (2) we can find Rf = 3% and Rm = 11%
(i) Thus,claim of Mr. A is not correct. The correct rate is 11%.
(ii) Risk Free Rate of Return is 3%.
Note:Since the two securities X and Y are correctly priced on Security Market Line
(SML),the given expected return 9.40% and 13.40% must be CAPM return.
QUESTION NO.8
Solution:
(b) Working Notes
Calculation of Interest Payment on 9% Debentures PVAF (9%,6) = 4.486
Annual Installment = 22.50 crore/4.486 = Rs. 5.0156 crore
Year Balance Principal
OutstandingInterest Installment Repayment Balance
1 22.5000 2.025 5.0156 2.9906 19.5094
2 19.5094 1.756 5.0156 3.260 16.2494
3 16.2494 1.462 5.0156 3.554 12.6954
4 12.6954 1.143 5.0156 3.8726 8.8228
Statement showing Value of Equity (Rs Crore)
Particulars 2013-14 2014-15 2015-16 2016-17

EBIT 48.0000 57.0000 68.0000 82.0000
Less:
Interest on 9% Debentures 2.0250 1.7560 1.4620 1.1430
Interest on 8% Loan 12.8000 12.8000 12.8000 12.8000
EBT 33.1750 42.4440 53.7380 68.0570
Tax @35% 11.6113 14.8554 18.8083 23.8200
EAT 21.5637 27.5886 34.9297 44.2370
Dividend @12.5% of EAT 2.6955 3.4490 4.3660 5.5300
Retained Earning 18.8682 24.1396 30.5637 38.7070
Balance b/f Nil 18.8682 43.0078 73.5715
Balance c/f 18.8682 43.0078 73.5715 112.2785
Equity Share Capital (Crore) 82.5000 82.5000 82.5000 82.5000
Value of Equity 101.3682 125.5078 156.0715 194.7785
In the beginning of 2013-14 equity was Rs. 82.5000 crore which has been grown to Rs
194.7785 over a period of 4 years. In such case the compounded growth rate shall be
as follows:(194.7785/82.5000)¼ - 1 = 23.96%
This growth rate is slightly higher than 20% as projected by Mr. Smith.
If the condition of VenCap for 18 shares is accepted the expected share holding after
4 years shall be as follows:
No. of shares held by Management 6.00 crore
No. of shares held by VenCap at the starting stage 2.25 crore
No. of shares held by VenCap after 4 years 4.05 crore
Total holding 6.30 crore
Thus, it is likely that Mr. Smith may not accept this condition of VenCap as this may
result in losing their majority ownership and control to VenCap. Mr. Smith may accept
their condition if management has further opportunity to increase share ownership
through other forms.
QUESTION NO.9
Solution:
Statement showing NPV of the motor bike if operated 3 years
Particulars Year Cash Flows(Rs.)PVF @ 10% PV of Cash Flows(Rs.)
Initial Investment 0 (1,00,000) 1.00 (1,00,000)
Cash Flows 1 42,000 0.909 38,178
2 40,000 0.826 33,040
3 35,000 0.751 26,285
NPV (2,497)
Statement showing NPV of the motor bike if operated 2 years
Cash Flows 1 42,000 0.909 38,178
2 80,000 0.826 66,080
NPV 4,258
Statement showing NPV of the motor bike if operated 1 year
Cash Flows 1 1,04,000 0.909 94,536
NPV (5,464)
Recommendation: Thus, from above it is clear that the preferable life of bike is 2
years.
QUESTION NO.10
Solution:
When Bike is replaced after 1 year
Year Particulars Amt PVF@10% PV Of Cash Outflow
0 Cost Of Bike 55,000 1 55,000
1 Road Taxes 3,000 0.909 2727
1 Petrol 30,000 0.909 27,270
1 Resale Price (35,000) 0.909 (31,815)
PV of Cash Outflow 53,182

0 Cost Of Bike 55,000 1 55,000
1 Road Taxes 3,000 0.909 2727
1 Petrol 30,000 0.909 27,270
2 Road Taxes 3,000 0.826 2,478
2 Petrol 35,000 0.826 28,910
2 Resale Price (21,000) 0.826 (17346)
PV of Cash Outflow 99,039
0 Cost Of Bike 55,000 1 55,000
1 Road Taxes 3,000 0.909 2727
1 Petrol 30,000 0.909 27,270
2 Road Taxes 3,000 0.826 2,478
2 Petrol 35,000 0.826 28,910
3 Road Taxes 3,000 0.751 2,253
3 Petrol 43,000 0.751 32,293
3 Resale Price (9,000) 0.751 (6759)__
PV of Cash Outflow 1,44,172
Computation of EAC[Equated Annual Cost ]

Year Total Outflow (Rs.) PVAF@ 10% EAC (Rs.)
1 53,182 0.909 58,506
2 99,039 1.735 57,083
3 1,44,172 2.486 57,993
Thus, from above table it is clear that EAC is least in case of 2 years, hence bike
should be replaced every two years.
QUESTION NO.11.
Solution:
1. Calculation of NPV
=- 50,00,000 + [2,00,000 (30- 16.50)- 10,00,000] PVIAF(12%,5)
=- 50,00,000 + [2,00,000 (13.50)- 10,00,000]3.605
=- 50,00,000 + [27,00,000- 10,00,000]3.605
=- 50,00,000 + 61,28,500 = 11,28,500
Measurement of Sensitivity Analysis

(a) Sales Price:-
Let the sale price/Unit be S so that the project would break even with 0 NPV.
:. 50,00,000 = [2,00,000 (S- 16.50)- 10,00,000] PVIAF(12%,5)
50,00,000 = [2,00,000S - 33,00,000- 10,00,000] 3.605
50,00,000 = [2,00,000S - 43,00,000] 3.605
13,86,963 = 2,00,000S - 43,00,000
56,86,963 = 2,00,000S
S =28.43 which represents a fall of (30 - 28.43)/30 or 0.0523 or 5.23%
(b) Sales volume:-
Let V be the sale volume so that the project would break even with 0 NPV.
:. 50,00,000 = [V (30- 16.50)- 10,00,000] PVIAF(12%,5)
50,00,000 = [V (13.50)- 10,00,000] PVIAF(12%,5)
50,00,000 =[ 13.50V- 10,00,000] 3.605
13,86,963 =13.50V - 10,00,000
23,86,963 =13.50V
V = 1,76,812 which represents a fall of (2,00,000 - 1,76,812)/2,00,000 or 0.1159 or
11.59%
(c)Variable Cost:-
Let the variable cost be V so that the project would break even with 0 NPV.
:. 50,00,000 = [2,00,000(30- V)- 10,00,000] PVIAF(12%,5)
50,00,000 =[ 60,00,000- 2,00,000 v - 10,00,000] 3.605
50,00,000 =[ 50,00,000- 2,00,000 V] 3.605
13,86,963 =50,00,000 - 2,00,000 v
36,13,037 = 2,00,000V
V =18.07 which represents a fall of (18.07- 16.50)/16.50 or 0.0951 or 9.51%
(d) Value of expected sales volume

( 1,75,000 X 0.30) + ( 2,00,000 X 0.60) + ( 2,25,000 X 0.10) =
1,95,000
NPV = [195000 X 13.50 - 10,00,000] 3.605- 50,00,000 = 8,85,163
Further NPV in worst and best cases will be as follows:

Worst Case:
[1,75,000 X13.50- 10,00,000] 3.605- 50,00,000 =- 88,188
Best Case:
[2,25,000 X 13.50 - 10,00,000] 3.605 - 50,00,000=23,45,188
Thus there are 30% chances that there will be a negative NPV and 70% chances of
positive NPV. Since acceptable level of risk of Unnat Ltd. is 20% and there are
30% chances of negative NPV hence project should not be accepted.
QUESTION NO.12
Solution:
(i) Security A has a return of 8% for a risk of 4, whereas B and F have a higher risk for
the same return. Hence, among them A dominates.
For the same degree of risk 4, security D has only a return of 4%. Hence, D is also
dominated by A.
Securities C and E remain in reckoning as they have a higher return though with higher
degree of risk.
Hence, the ones to be selected are A, C & E.
(ii)
Note:Assuming returns from securities are independent means correlation between
securities is 0
Option 1-Invest 75% in A & 25% in C

Risk Of Portfolio 42  .752  122  .252  2  4  12  .75  .25  0 = 4.24%
=
Return Of Portfolio = .75  8  .25  12  9%
Option 1-Invest 100% in E

Risk = 5 %
Return = 9 %
Decision:For the same 9% return the risk is lower in A & C. Hence, it will be preferable.
QUESTION NO.13
Solution:
(i) First we shall find out the probability the venture capital project survives to the end
of six years.
Probability Project survives :
(1–0.28)(1–0.25)(1–0.22)(1–0.18)(1– 0.18)(1–0.10) = 0.72×0.75×0.78 ×0.82×0.82
×0.90=0.255
Thus, probability of project will fail = 1 – 0.255 = 0.745
(ii) Next using CAPM we shall compute the cost of equity to compute the Present
Value Of Cash Flows
Ke= Rf + Beta x (Rm – Rf) = 6% +7 (8% – 6%) = 20%
(iii) Now we shall compute the net present value of the project
The present value of cash inflow after 6 years(Rs.600 Crore ×PVF(20%,6 yrs)
(600 x .335) Rs. 201 Crore
Less:- Present value of Cash outflow Rs. 45 Crore
Rs.156 Crore
Net Present Value of project if it fails (Rs. 45 Crores)
And expected NPV = (0.255)(156) + (0.745)(-45) Rs.6.255 Crores
Since expected NPV of the project is positive it should be accepted.
QUESTION NO.14
Solution:
Spot rate 1 US $ = Rs.48.0123 or
40,00,000
It can also be calculated in following manner: = 48.0123
83,312
Forward Premium on US$ = [(48.8190 - 48.0123)/48.0123] x 12/6 x 100 = 3.36%
Interest rate differential = 12% - 8% = 4% (Negative Interest rate differential)
Since the negative Interest rate differential is greater than forward premium there is a
possibility of arbitrage inflow into India.
The advantage of this situation can be taken in the following manner:
1.Borrow US$ 83,312 for 6 months
Amount to be repaid after 6 months
= US $ 83,312 (1+0.08 x 6/12) = US$86,644.48
2.Convert US$ 83,312 into Rupee and get the principal i.e.Rs.40,00,000
Interest on Investments for 6 months - Rs. 40,00,000/- x 0.06= Rs. 2,40,000/-
Total amount at the end of 6 months = Rs. (40,00,000 + 2,40,000) = Rs.42,40,000/-
Converting the same at the forward rate = Rs. 42,40,000/ Rs. 48.8190 = US$ 86,851.43
Hence the gain is US $ (86,851.43 - 86,644.48) = US$ 206.95 OR
Rs.10,103 i.e., ($206.95 x Rs. 48.8190)
Expected Rate spot after 180 days
Future rate for 1 US $ (xi) Probability(pi) Xipi
Rs. 48.7600 25% 12.19
Rs. 48.8000 60% 29.28
Rs. 48.8200 15% 7.323__
48.7930
Converting the amount of investment and interest at the expected forward rate as
follows:
= Rs. 42,40,000/ Rs. 48.7930= US$ 86,897.71
Hence the gain is US $ (86,897.71 - 86,644.48) = US$ 253.23 OR

Rs. 12,356 i.e., ($253.23 x Rs.48.7930)
Since the expected gain is more in case of uncovered interest arbitrage the arbitrageur
should go for same. However this gain is slightly higher than the Covered Interest
Arbitrage hence he may not go for uncovered interest arbitrage as there as also chances
of actual spot rate may not turn out favourable.
QUESTION NO.15
Solution:
Individual Basis Interest Amt. after 91 days
Conversion in £
Holland
€ 725,000 x 0.02 x 91/360 = € 3,665.28 € 728,665.28 £502,414.71
(728,665.28 x 0.6895)
Switzerland
CHF 998,077 x 0.005 x 91/360=
CHF 1,261.46 CHF 999,338.46 £432,651.51
(999,338.46/2.3098)
UK
£ 75,000 x 0.01 x 91/36 = £ 189.58 £ 75.189.83 £ 75,189.83__
Total GBP at 91 days £ 1.010.256.05
Swap(Convert) to Sterling
Sell € 7,25,000 (Spot at 0.6858) buy £ £ 4,97,205.00
Sell CHF 9,98,077(Spot at 2.3326) buy £ £ 4,27,881.76
GBP amount of UK £ 75,000.00__
£ 1,000,086.76
Interest (£ 1,000,086.76 x 0.05375 x 91/360) £ 13,587.98
Total GBP at 91 days £ 1,013,674.74
Less: Total GBP at 91 days as per individual
basis £ 1,010,256.05
Net Gain £ 3,418.69
Working Notes:Calculation Of Forward Rates
Spot Rate 1 € = £0.6858- 0.6869

Add:Swap Pts 0.0037 -0.0040
Forward Rate 1 € = £0.6895- 0.6909
Spot Rate 1£ = CHF 2.3295- 2.3326
Deduct:Swap Pts 0.0242 -0.0228
Forward Rate 1£ =CHF 2.3053-2.3098
QUESTION NO.16
Solution:
(i) Return of a US Investor
 Ending Price  Initial Price   1919  2028 
   100 =    100 = -5.37%
 Initial Price   2028 
(ii) Return of Mr. X

Initial Investment (Rs.) 1.58 Crore
Applicable Exchange Rate on 1.1.20x1 Rs. 62.25
Equivalent US$ US$ 2,53,815.26
Purchase Price of Standard & Poor Index 2028
No. of Standard & Poor Indices Purchased 125.16
Ending Price of Standard & Poor Index 1919

Proceeds realised in US$ on sale of Standard & Poor Index
US$ 2,40,182.04
Applicable Exchange Rate on 1.1.20x2 Rs. 67.25
Proceeds realised in INR on sale of Standard
& Poor Index Rs. 1,61,52,242
 161,52,242  158,00,000 
Rate of Return    100 = 2.23%
 158,00,000 
(iii) Rate of Return had the amount been invested in India

Initial Investment (Rs.) 1.58 Crore
Purchase Price of Indian Index 7395
No. of Standard & Poor Indices Purchased 2136.58
Let Ending Price of Indian Index X
Then to be indifferent with return in International Market
 2136.58  X  1.58 
   100
 1.58 
Price of Indian Index to be indifferent 7559.90 say 7560
QUESTION NO.17
Solution:
(i) Current future price of the index = 5000+5000 (0.09-0.06) x 4/12= 5000+ 50=
5,050
Price of the future contract = 50 x 5,050 =Rs. 2,52,500
(ii) No. Of contract =10,10,000/2,52,500× 1.5= 6 contracts

Index after three months turns out to be 4500
Therefore Future price of Index after 4 month will be
= 4500 + 4500 (0.09-0.06) x 1/12 = 4,511.2512
Therefore, Gain from the short futures position is = 6 x (5050–4511.25) x 50 =
Rs.1,61,625
(iii) To use CAPM we require risk-free rate of return, beta of portfolio and
Market Return. Since risk-free rate of return and beta of portfolio is given first we shall
calculate market return as follows:
Change in Index Value = 4500-5000 = -500
Return from Index = -500 / 5000 x 100 = -10% for 3 months
Dividend yield on index p.a. = 6% and for 3 months shall be 1.5%.
Thus return to investor for investment in index for three months
= -10%+1.5% = -8.5%
Now we can use CAPM to compute expected return for 3 months:
Expected Return = Rf + Beta (Rm – Rf)
= 2.25% + 1.50(- 8.5 - 2.25%) = 2.25% + 1.50 (-10.75%) = -13.875%
The expected value of portfolio (without hedging) after 3 months will be:
Rs. 10,10,000 [1+(-0.13875)] = Rs.8,69,862.25
The expected value of portfolio (with hedging) after 3 months will be:
[ as per ca institute suggested answer ]
= Expected Value of portfolio (without hedging) + Gain from the future Index
= Rs.8,69,862.25 + Rs.1,61,625 = Rs.10,31,487.25
Note:We have ignored TVM For Gain From Future Index 161625 in above
solution.Student can consider this and accordingly discount 161625 for 1 month.
QUESTION NO.18
Solution:
(a)Computation Of Fair Future Price
Fair Future Price = 2290  e90/365(0.0416  0.0175) = 2303.65
(b)Gain/loss on Long Position after 28 days

= Actual Future Price - Fair Future Price
= 2450 - 2290  e 28/365(0.0416  0.0175) = 155.76
(c)Gain/loss on Long Position at maturity

= Actual Future Price - Fair Future Price
= 2470.00 - 2290  e90/365(0.0416  0.0175) i.e 2303.65 already calculated = 166.35
QUESTION NO.19
Solution:
Number of Contract
X Ltd.
Buy 1,00,000 x 22.00 = 22,00,000
Sell 1,00,000 x 21.56 = 21,56,000
Loss - 44000__
A Ltd.
Sell 50,000 x 40.00 = 20,00,000
Buy 50,000 x 41.20 = 20,60,000
Loss -60,000__
Index
Sell No. Of Contracts x 1000 = No. Of Contracts x 1000
Buy No. Of Contracts x 985 = No. Of Contracts x 985
Profit [Note 1] No. Of Contracts x 15__
Note 1 :Why Profit and not loss ? Since buying price is less than selling price,hence
index position must indicate profit.
From above we have
- 44000 - 60,000+ No. Of Contracts x 15 = -114500
or No. Of Contracts = -700
Note: Negative (-) sign indicates the sale (short) position
Computaion Of Beta of X Ltd.

Total Value Of Net Future Contract To Be Taken
No. Of Index Future Contract 
Value Of One Future Index Position
1,00,000  22  Beta X  50,000  40  2
or  700 contracts 
1000
or Beta X = 1.5
QUESTION NO.20
Solution:
Working Notes:
Total Annual Export Sales Rs.50 crore
Cash Received in Advance (20%)Rs. 10 crore
Balance on credit (80%) Rs.40 crore
Bad Debts 0.6% x Rs. 40 crore Rs.0.24 crore
Average Export Debtors
Rs. 40 crore x 78/360 Rs. 8.67 crore
Proposal I - Factoring Services
[Tutorial Note:Non-Recourse means in the event of default the loss is borne by the
factor.i.e if there are bad debts, it will be borne by the factor.]
Due to non-recourse factoring agreement there will be saving of bad debt. A Ltd. can
choose one option out of these options:
(a)Using Factoring Services (Debt Collection) only.
(b)Using Factoring and Finance Services i.e. above services in combination of cash
advance.
Since, cash advance rate is lower by 0.25% (2.00% - 1.75%), A Ltd. should take
advantage of the same.
Particulars Amount (Rs.)
Annual Factoring Commission (2% x Rs. 40 crore) (0.80 crore)
Saving of Administrative Cost 0.60 crore
Saving of Bad Debts 0.24 crore
Interest Saving on 80% of Debtors
(Rs. 8.67 crore x 80% *x 0.25% p.a) 0.01734 crore
Net Saving to A Ltd. 0.05734 crore
*Why 80% ? Since 20% is kept as reserve.
Proposal II - Insurance of Receivables

Particulars Amount (Rs.)
Insurance Premium (0.45% x Rs. 40 crore) (0.180 crore)
Saving of Bad Debts (85% x Rs. 0.24 crore) 0.204 crore
Interest Saving on 75% of Debtors (0.5% x 75% x Rs. 8.67 crore)0.03251 crore
Net Saving to A Ltd. 0.05651 crore
Decision: Since saving in Factoring is marginally higher it should be accepted i.e we

should accept Proposal No. 1.
QUESTION NO.21
Solution:
Working Notes:
Calculation of Cost of Equity
Do(1  g) 1.40(1  .06)

Ke   g or Ke   .06 = 13%
Po 21.20
Where P0 = Rs.22.60 - Rs.1.40 = Rs.21.20
(a)NPV of the Project

NPV = PV Of Cash Inflow - Initial Outflow
CF1
NPV   Initial Outflow
Ke - g
15.30 crore
NPV   Rs. 150 crore
.13 - .04
NPV = Rs.170 crore - Rs. 150 crore = Rs. 20 crore
Decision:Since NPV is positive we should accept the project.
(b)MPS of the Project After Right Issue [ When Money Is Arranged Through
Right Issue]
=
Existing MPS  Existing Share  Right Share Price  Right Shares  Synergy or NPV
Existing No. Of Share  New Number Of Right Share Issued
21.20  50 crore  15  10 crore  20
= Rs. 20.50
50 crore  10 crore
or
Number of equity shares After Right Issue
=50 crore (Existing) +10 crore(Right Issue) = 60 crore
Market Value of Company After Right Issue
= Existing Value + PV of earnings from Expansion
= 21.20 x 50 crore + Rs. 170 = Rs. 1060 crore + Rs. 170 crore = Rs. 1230 crore
1230 crore
Price Per Share After Right Issue= = Rs. 20.50
60 crore
(c)Number of New Equity Shares To be Issued

Let n be the number of new equity shares to be issued then such shares are to be issued
at such price that new shareholders should not suffer any immediate loss after
subscribing shares. Accordingly,

Outfow must be equal to inflow or in other words value sacrificed must be equal to
value received i.e
150 crore = MPS After Issue x New No. Of Equity Share
 Total Market Value After New Issue 
or 150 crore =   xn
 Total No. Of Equity Shares After New Issue 
 1230 crore 
or 150 crore =  x n or n = = 6.9444 crore
 50 crore  n 
Issue Price Per Share =Rs. 150 crore/6.9444 =Rs.21.60
(d)Benefit from expansion to EXISTING Shareholder

Right Issue
Before Right Issue :
Shareholder's Current Wealth (Rs.21.20 x 50 crore) Rs.1060
After Right Issue :
Value of 60 crore shares @ Rs. 20.50 1230
Cash paid to subscribe Right Shares (Rs. 15 x 10 crore) (150) Rs.1150
Net Gain Rs. 20__
Fresh Issue
Before Issue
Shareholder's Current Wealth (Rs.21.20 x 50 crore) Rs.1060
After Issue :
Value of existing 50* crore shares @ Rs.21.60 Rs.1080
Net Gain Rs. 20_
* Why not 56.9444 ? As question ask to calculate gain for existing shareholder only.
QUESTION NO.22
Solution:
(a) Theoretical Value of a Right =
MPS Ex Right - Offer Price
No. Of Shares In Respect Of Which One Right Shares Are Issued
48.33 - 40.00
= 1.67
5
(b) Theoretical Value of One Share of Stock After Right Issue
MPS Cum Right x Existing Share  Offer Price x New Right Share
=
Existing Share  Right Share
50 x 5  40
= = 48.33
5 1
(c) Theoretical value of a right when the stock sells ex-rights at £50
MPS Ex Right - Offer Price
=
No. Of Shares In Respect Of Which One Right Shares Are Issued
50  40
= = 2.00
5
Note:Avoid using following formula for calculating value of a right :
MPS Before Right - MPS After Right as it will make this part 0 .
(d)
(1) No. of Shares Purchased = £1,000/£50 =20 shares
Value when price rises to 60 = 20 x £60 = £1,200
Retutn = £1,200 - £1,000 = £200
(2) No. Of Right Purchased = £1,000 / £2 = 500 rights

New Value of Right = 500 X £4* = £2,000
Return = £2,000-£1,000 = £1,000
Working Notes : Theoretical Value Of Right

MPS Ex Right - Offer Price 60  40
= = £4
No. Of Shares In Respect Of Which One Right Shares Are Issued 5
QUESTION NO.23
Solution:
Working Notes:
Ke using CAPM :6% + 1.5 x 4% = 12%
Calculation Of Growth Rate:
EPSLATEST = EPSBASE (1 + g)n-1  14 = 12.20 (1 + g)5-1 OR g = 3.5%
Note:Why EPS is taken for calculating Growth Rate?
As it is clearly written in question that In the opinion of MD of SRK Ltd.,if current
dividend policy is maintained, annual growth in Earning and Dividends will be no
better than the annual growth in earnings over the past years.
1.Market Price of Share if there is no change in Dividend Policy:
D1 D 0 (1  g) 8.20  (1  .035)
P0  = = =Rs.99.85
Ke  g Ke  g .12  .035
2.Market Price of Share if there is change in Dividend Policy:
D1 D 0 (1  g) EPS0 (1 - b)(1  b  r) 14.00(1 - .50)(1  .50  .15)
P0  =   
Ke  g Ke  g Ke  b  r .12  .50  .15
QUESTION NO.24
Solution:
(i)
(a)EffectiveAnnualized Net Cost under Factoring option (With Recourse)
Particulars Rs.
Average level of Receivables = 40,00,000 x 12 x 45/360 60,00,000
Factoring commission = 60,00,000 x 2/100 1,20,000
Factoring reserve = 60,00,000 x 25/100 15.00.000
Amount available for advance =
Rs. 60,00,000-(1,20,000 + 15,00,000) 43,80,000
Factor will deduct his interest @ 10% :
43,80,000x10x45/100x360 Rs. 54,750
Advance to be paid = (Rs. 43,80,000 - Rs. 54,750) 43,25,250
(b)Annual Cost Of Factoring to the firm :

Factoring commission (Rs. 1,20,000 x 360/45) 9,60,000
Interest charges (Rs. 54,750 x 360/45) 4,38,000_
Total 13,98,000
Firm’s Savings on taking Factoring Service:
Cost of credit administration saved (Rs. 50,000 x 12) 6,00,000
Net cost to the Firm (Rs. 13,98,000 - Rs. 6,00,000) 7,98,000
Effective annualized net cost to the firm =
Rs. 7,98,000x100/43,25,250 18.45%
(ii) Effective Annualized Cost under Discount option

Since Champak Ltd. is offering a discount of 2% for payment in 10 days the customer
who opts for this option instead of 45 days are paying 35 days earlier. Accordingly,
98(1 + d) = 100 i.e.d = 2.04 %
By using following formula of simple interest the effective annual cost of discount
option can be found as follows:
2.04% x 360/35 = 20.98%
(ii) (a) Effective Annualized Net Cost under Factoring option (Without Recourse)
Particulars Rs.
Average level of Receivables = 40,00,000 x 12 x 45/360 60,00,000
Factoring commission = 60,00,000 x 3/100 1,80,000
Factoring reserve = 60,00,000 x 25/100 15,00,000
Amount available for advance =Rs. 60,00,000-(1,80,000 + 15,00,000)43,20,000
Factor will deduct his interest @ 10%:
43,20,000x10x45/100x360 Rs. 54,000
Advance to be paid = (Rs. 43,20,000 - Rs. 54,000)
Rs.42,66,000
(b)Annual Cost Of Factoring to the firm :

Factoring commission (Rs. 1,80,000 x 360/45) 14,40,000
Interest charges (Rs. 54,000 x 360/45) 4,32,000
Total 18,72,000
Firm’s Savings on taking Factoring Service: Rs.

Cost of credit administration saved (Rs. 50,000 x 12) 6,00,000
Cost of Bad Debts (Rs. 4,80,00,000 x 1.5/100) avoided 7,20,000_
Total 13,20,000
Net cost to the Firm (Rs. 18,72,000 - Rs. 13,20,000) 5,52,000
Effective rate of interest to the firm =
5,52,000x100/42,66,000 12.94%
Effective Annualized Cost under Discount option
The effective annual cost of discount option is 20.98% (as computed above)
QUESTION NO.25
Solution:
(i) Reduction of beta to 0.85
Existing Beta = 1.15
Desired Beta = .85
Objective:Risk Decrease
(a) Using Risk Free

Reduction in beta through change in composition of risk free securities whose beta is
zero
Desired Beta = W1 x Existing Beta + W2 x Beta of risk free which is 0
0.85 = W1 x 1.15 + (1 - W1) x 0
W1 = 0.85/1.15 = 0.739
So, W2 = 1 – 0.739 = 0.261
Thus, Rs. 3.695 crores (Rs. 5 crores x 0.739) shall remain invested in portfolio and
remaining Rs. 1.305 crores shall be invested in risk free securities (say Treasury bills)
(b) Using Index Futures
Alt 1:
No. of Stock Index Futures to be short [ Why short? Since we are already long and
we are required to decrease risk ,hence opposite position]
Existing Beta  Current Value of Portfolio Required To Be Hedged
=
Value Of One Index Future Contract
1.15  1.305 crore
= = 4.76 or say 5 contracts
21,000  150
Thus, instead of swapping Rs. 1.305 crore to risk free securities, the portfolio manager
Mr. A can also reduce beta to 0.85 by selling 4.76 or 5 stock index futures.
Alt 2:
Current Value Of Portfolio  Existing Beta - Desired Beta 

No. Of Contract 
500,00,000  1.15 - .85
 = 4.76 or say 5 contracts
21000  150
(ii) Increasing beta to 1.45

Existing Beta = 1.15
Desired Beta = 1.45
Objective:Risk Increase
(a) Using Risk Free

Beta shall be increased by investing additional amount in equity shares.Additional
Amount Required may be borrowed at Risk Free Rate.
Desired Beta = W1 x Existing Beta + W2 x Beta which is 0
1.45 = W1 x 1.15 + (1 - W1) x 0
W1 = 1.45/1.15 = 1.26
This can be achieved by:
(i) Holding on Rs.5 crore worth of shares
(ii) Selling short Risk Free Securities of Rs.1.30 crores (0.26 X Rs.5 crores) i.e.
borrowing Rs.1.30 crores and using proceeds to buy Rs.1.30 crores of additional
shares.
(b)Using Index Futures
Alt 1:The number of contracts to be bought [Why bought? Since we are already long
and we are required to increase risk ,hence same position]
1.15  1.30 crore
= = 4.746 or say 5 contracts
21,000  150
Alt 2:
Current Value Of Portfolio  Desired Beta - Existing Beta 
No. Of Contract 
500,00,000  1.45 - 1.15
 = 4.76 or say 5 contracts
21000  150
QUESTION NO.26
Solution:
(a)By entering into an FRA, firm shall effectively lock in interest rate for a specified
future in the given it is 6 months. Since, the period of 6 months is starting in 3 months,
the firm shall opt for 3 x 9 FRA locking borrowing rate at 5.94%.
In the given scenarios, the net outcome shall be as follows:
If the rate turns out to be 4.50%If the rate turns out to be 6.50%
FRA Rate 5.94% 5.94%
Actual Interest Rate 4.50% 6.50%
Loss/ (Gain) 1.44% (0.56%)
FRA Payment/(Receipts) €50 m x 1.44 x 1/2 €50m x 0.56% x 1/2
=€360,000 = (€140,000)
Interest after 6 months on =€50m x 4.5% x 1/2 = € 50m x 6.5% x 1/2
€50 Million at actual rates = €1,125,000 = €1,625,000
Net Out Flow € 1,485,000 €1.485,000
Thus, by entering into FRA, the firm has committed itself to a rate of 5.94% as
follows:
Euro 1,485,000 12
  100 = 5.94 %
Euro 500,00,000 6
(b)Since firm is a borrower it will like to off-set interest cost by profit on Future
Contract.
Accordingly, if interest rate rises it will gain hence it should sell interest rate futures.
Amount Of Borrowing Duration Of Loan
No. of Contracts = 
Contract Size 3 months
Euro 500,00,000 6
 = 2000 Contracts
Euro 50,000 3
The final outcome in the given two scenarios shall be as follows:
If the interest rate If the interest rate
turns out to be 4.5% turns out to be 6.5%
Future Course Action :
Sell to open 94.15 94.15
Buy to close 95.50 (100- 4.5) 93.50 (100 - 6.5)
Loss/ (Gain) 1.35% (0.65%)
Future Cash Payment
(Receipt) €50 000x 2000x €50,000x2000x
1.35% x 3/12 0.65% x 3/12
= €337,500 = (€162,500)
Interest for 6 months on €50 €50 million x 4.5% €50 million x 6.5%
million at actual rates x 1/2 x 1/2
= €11,25,000 = €16,25,000
€1,462,500 €1,462,500
Euro 14,62,500 12
Thus,the firm locked itself in Interest rate Euro 500,00,000  6  100 = 5.85%
Note:TVM is ignored while calculating interest rates.
QUESTION NO.27
Solution:
(a) Hard Capital Rationing situation is due to factors external to the orgnaisation. In
other words It implies a situation where in an entity could not raise funds beyond a
certain point due to external circumstances. On the contrary, when an entity is unable
to raise funds beyond a certain limits due to reasons internal to the organization is the
case of Soft Capital Rationing. These limitations may be due to any reason such as
budgetary ceiling, difficulty in planning and control etc. Since in the given case the
limitation of loan upto Rs. 30 crore is due to company's management own unwillingness
to take loan at expensive rate, it will be a case of Soft Capital Rationing.
(b)Computation of Equivalent Annuities
Project X Project Y Project Z
NPV (Rs. Crore) (1) 5.50 7.20 6.50
Life (2) 6 years 7 years Indefinite
PVAF@12% (3) 4.111 4.564 8.33 [Note 1]
Equivalent Cash Inflow
(Rs. Crore) [(1)/(3)] 1.34 1.58 0.780
Ranking II I III
Since equivalent cash inflow is maximum in case of Project Y, same should be accepted.
1 Annual Cash Flow
Note 1:Calculated as ,Remember Perpetual Formula
.12 Discount Rate
(c)Note:Its written in question that the given project is indivisible.

If the projects are not repeated in the future it shall be decided on the basis of NPV as
follows: (Rs. Crore)
Combinations Investments NPV Possible/NotPossible Ranking
X 30.80 5.50 Possible IV
Y 38.00 7.20 Possible II
Z 25.60 6.50 Possible III
XY 30.80+38.00 = 68.80 12.70 Not Possible[Note 2] -
YZ 38.00+25.60 = 63.60 13.70 Not Possible[Note 2] -
XZ 30.80+25.60= 56.40 12.00 Possible I
Note 2:Why Not Possible? Since maximum amount available for investment is Rs. 60
crore.
Thus combination XZ should be accepted as it results in maximum NPV.
Now let us consider the aspect of Government support to evaluate the project Y as
follows:
•New NPV = Rs. 7.20 Crore + Rs. 7 crore = Rs. 14.20 crore
Treatment Of Cash Subsidy:
•Grant of Cash Subsidy = Rs. 7.00 crore
•Subsidized Loan 50% (Rs. 38 crore - 7 crore) = Rs. 15.50 crore
•Tax benefit on Interest (Rs. 15.50 crore x 8% x 30%) 0.372
•Saving on Interest (Rs. 15.50 crore x 2%) 0.310
•Tax benefit foregone on Interest (Rs. 15.50 crore x 2% x 30%)(0.093)
0.589
PVAF @ 10% for 8 years 5.335
Present Value of Benefits Due To Subsidy(0.589 x 5.335) 3.1423
Revised NPV = New NPV + Present Value of Benefits Due To Subsidy
= Rs. 14.20 crore + Rs. 3.1423 crore = Rs. 17.3423 crore
Since Revised NPV of Project Y is more than combination XZ, same should be accepted.
QUESTION NO.28
Solution:
Bank will buy from customer at the agreed rate of Rs. 65.40. In addition to the same
if bank will charge/ pay swap difference and interest on outlay funds.
(a) Swap Difference
Bank Buys at Spot Rate Of Today Rs. 65.22
Bank Sells at Forward Rate (65.27 + 0.15) Rs. 65.42
Swap Loss per US$ Rs. 00.20
Swap loss for US$ 1,00,000 Rs. 20,000
(b)Interest on Outlay Funds

Bank Buying Rate Today Rs. 65.22
Bank Buying Rate as per contract Rs. 65.40
Extra Outlay of Funds per US$ Rs. 00.18
Interest on Outlay fund for US$ 1,00,000 for 31 days Rs. 275.00
(US$100000 x 00.18 x 31/365 x 18%)
(c)Charges for early delivery

Swap loss Rs. 20,000.00
Interest on Outlay fund for US$ 1,00,000 for 31days Rs. 275.00___
Rs. 20.275.00__
(d)Net Inflow to Mr. X
Amount received on sale (Rs. 65.40 x 1,00,000) Rs. 65,40,000
Less: Charges for early delivery payable to bank (Rs. 20,275)__
Rs. 65.19.725__
QUESTION NO.29
Solution:
To decidewhether the XY Ltd. should go for the option of demerger i.e. floating two
companiesfor Furniture Manufacturing business and Real Estate we should
compare their values.
Working Notes:
(i)Calculation of Discounting Rates
(a)For Furniture Manufacturing

Market Value of Debt (Secured Loan) Rs. 600.00 crore
Market Value of Equity (Rs. 118.40 x 50 crorex 55%) Rs. 3256.00 crore
Total Rs.3856.00 crore
Gearing Levels
Equity Debt
3256.00 crore/3856.0 Rs. 600.00 crore/3856.00
= 84.44% =15.56%
Since this level of gearing differs from the gearing level of industry we will first calculate
overal beta and then its equity beta. Assuming Debt to be risk free let us de-gear the
beta as follows:
.70
Overall Beta = 1.30  0 = 1
.70  .30(1 - .30)
Therefore for our Furniture Manufacturing division we have
.8444
1 = Equity Beta   0 or Equity Beta = 1.129
.8444  .1556(1 - .30)
Cost of Equity using CAPM (Ke) = 5.50% + 1.129(14% - 5.50%) =15.10%

100  131
13(1  .30) 
15
Cost of Debt using Short Cut Method (Kd)= 100  131 = 6.09%
2
WACC of Furniture Manufacturing Division
15.10% x 84.44% + 6.09% x 15.56% = 13.70%
Real WACC
(1+Inflation Rate) (1 +Real Rate)=(1+Nominal Rate)
or (1+ .03)(1+Real Rate) = (1 + 0.1370)
or Real Rate = 10%
(b)For Real Estate

Market Value of Debt (Secured Loan) 655.00
[500/100 x 131]
Market Value of Equity (Rs. 118.40 x 50 crore x 45%) 2,664.00
Total 3,319.0
Gearing Levels
Equity Debt
2664/3319 = 80.27% 655/3319
= 80.27% =19.73%
Since this level of gearing is almost equal to the gearing level of industry the beta of
industry shall be the beta of Real Estate Division and Cost of Equity using CAPM will
be:
Ke = 5.50% + 0.90(14% - 5.50%) =13.15%
WACC of Real Estate Division

13.15% x 80.27% + 6.09% x 19.73% = 11.76%
Real WACC
(1+Inflation Rate) (1 +Real Rate)=(1+Nominal Rate)
(1+ .03)(1+Real Rate) = (1+01176)
Real Rate = 8.5%
(ii) Calculation of Value of Both Division

(a) Furniture Manufacturing
Year 12 3 4 5
6&Onwards
Operating Profit before Tax 450 480 500 520 570 600
Allocated HO Overheads 60 60 60 60 60 60
Depreciation 100 80 70 80 80 80
290 340 370 380 430 460
Less: Tax@30% 87 102 111 114 129 138
203 238 259 266 301 322
Add: Depreciation 100 80 70 80 80 80
303 318 329 346 381 402
Less: One Time Cost 80
223 318 329 346 381 402
PVF@10% 0.909 0.826 0.751 0.683 0.621
PV 202.71 262.67 247.08 236.32 236.60
Terminal Value— 402/.10 x0.621=2496.42

Total Value of Furniture Manufacturing Division (Infinite Period)=Rs.3681.80 crore
Total Value of Furniture Manufacturing Division (15 years)
= Rs.1185.38 crore+ Rs.402 crore x 3.815 = Rs.2719.01 crore
(b) Real Estate Business

Year 1 2 3 4 56&Onwards
Operating before TaxProfit 320 400420 440 460 500
Allocated
OverheadsHO 60 60 60 60 60 60
Depreciation 50 50 50 50 50 50
210 290 310330 350 390
Less: Tax@30% 63 87 93 99
105 117
147 203 217231 245 273
Add: Depreciation 50 50 50 50 50 50
197 253 267281 295 323
Less: One Time Cost 80
117 253 267 281 295 323
[email protected]% 0.9220.8490.7830.7220.665
PV 107.87 214.80 209.06 202.88 196.18
Terminal Value=323 / 0.085 x 0.665 = 2527.00
Total Value of Furniture Manufacturing Division (Infinite Period)=Rs.3457.79 crore
Total Value of Furniture Manufacturing Division (15 years)
= Rs.930.79 crore + Rs.323 crore x 4.364 = Rs.2340.36 crore
Summary
Total of two divisions (Infinite Period)
= Rs. 3681.80 crore + Rs. 3457.79 crore - Rs. 1255.00 crore =Rs. 5884.59crore
Total of two divisions (15 years horizon)
= Rs. 2719.01 crore + Rs. 2340.36 crore - Rs. 1255.00 crore =Rs. 3804.37crore
Current Market Value of Equity = Rs. 118.40 x 50 crore = Rs. 5920.00crore
Decision: Since the total of the two separate divisions with both time horizons (Infinite
and 15 years) is less than the Current Value of Equity demerger is not advisable.
QUESTION NO.30
Solution:
Suppose if Mr. X deposits this amount with bank the accumulated amount would
have been:907.60(1+0.11)5 = Rs. 1529.36
Total Return = Rs. 1529.36 - Rs. 907.60 = Rs. 621.76
Decomposition of Rs. 621.76
Interest Amount (Rs. 85 X 5) Rs. 425.00
Capital Gain (Rs. 1000 - Rs. 907.60) Rs. 92.40
Interest on Interest Accumulated (Balancing Figure) Rs. 104.36
Alternative Answer
Interest of First Rs. 85 coupon amount reinvested for 4 years [Note 1]Rs.44.04
Interest of Second Rs. 85 coupon amount reinvested for 3 years Rs. 31.25
Interest of Third Rs. 85 coupon amount reinvested for 2 years Rs. 19.73
Interest of Fourth Rs. 85 coupon amount reinvested for 1 years Rs. 9.35
Interest of Fifth Rs. 85 coupon amount reinvested for 0 years Rs. 0___
Rs. 104.37
Note 1 :Rs. 85 (1+0.11)4 =Rs.129.04,in this basic interest is Rs. 85,and interest on
interest part is Rs. 44.04 [ 129.04 - 85 ] , likewise other figures can be calculated.
Note 2 :Whenever question is silent, we always assume reinvestment rate and discount
rate to be same.
QUESTION NO.31
Solution:
(i)Computation of tax rate
EBIT = Rs. 245 lakh
Interest = Rs. 218.125 lakh
PBT = Rs. 26.875 lakh
PAT = Rs. 17.2 lakh
Tax paid = Rs. 9.675 lakh
Tax rate = Rs. 9.675 /26.875 = 0.36 =36%
(ii)Computation for increase in working capital

Working capital (2009) = Rs. 44 lakh
Increase in 2010 = Rs. 44 X 0.08 = Rs. 3.52 lakh
It will continue to increase @ 8% per annum
(iii)Weighted average cost of capital
Present debt = Rs. 1934 lakh
Interest cost = Rs. 218.125 lakh / Rs. 1934 = 11.28 %
Equity capital = 75 lakh X Rs. 66 = 4950 lakh
4950 1934
Ko = 16   11.28(1  .36)  = 13.54%
1934  4950 1934  4950
(iv)As capital expenditure and depreciation are equal, they will not influence the free
cash flows of the company.
(v) Computation of free cash flows upto 2012

Year 2010 2011 2012 2013 2014
Rs. Rs. Rs. Rs. Rs.
EBIT (1-t) 169.344 lakh 182.89 lakh 197.52 lakh 213.32 lakh 230.39
lakh
Increase in working capital
3.52 lakh 3.80 lakh 4.11 lakh 4.43 lakh 4.79 lakh
Debt repayment - - - - 1934 × 0.30
= 580.2 lakh
Free cash flows 165.824 lakh 179.09 lakh 193.41 lakh 208.89 lakh -354.6 lakh
PVF @ 13.54% 0.8807 0.7757 0.6832 0.6017 0.53
PV of free cash flow @ 13.54%
146.10 lakh 138.97 lakh 132.10 lakh 125.75 lakh -187.93 lakh
Present value of free cash flows upto 2014 = Rs. 354.99 lakh
Note:Interest had not been deducted as we are calculating value of firm.Refer Project
NPV concept of capital budgeting.
Note:Repayment Of Debt is taken as given in question as per ICAI while calculating

Cash Flow.However student may ignore this.
(vi)Cost of capital
Debt = 0.7 X Rs. 1934 = Rs. 1353.8 lakh
Equity = Rs. 4950 lakh
4950 1353.8
Ko = 16   11.28(1  .36)  = 14.11%
1353.8  4950 1353 .8  4950
(viii)Continuing value
 240.336  1
 
 .1411  .06  (1  .1354)5 = Rs. 1,571.00 lakh
Value of the firm

= PV of free cash flows upto 2005 + continuing value
= Rs. 354.99 lakh + Rs.1,571.00 lakh = 1925.99
Value of the Equity
Value Of Firm– Value of outstanding debt = 1925.99- 1353.8 = Rs. 572.19 lakh
572.19 Lakhs
Fair Value per equity share = = Rs. 7.6292
75 Lakhs
Actual Value per equity share = Rs. 66
Decision:The share price is overvalued in the market.
QUESTION NO.32
(a)Profit/Loss to TM Fincorp. in terms of basis points. [Ans:25 bp]
(b)The settlement amount.(Assume 360 days in a year)Ans-=Rs.6,30,032
QUESTION NO.33
Solution:
(Million USS)
With Swap Year 0 Year 1
Invest Rs. 500 crore at spot rate of 1US$ = Rs. 50 (10.00) -
Amount Received at year end 1 :Rs. 740 crore
Sell Rs. 500 crore at agreed rate of Rs. 50 10.00
Sell Rs.240 crore at 1US$ = Rs 54 4.44
Interest on US$ loan @8% for one year - (.800)_
(10.00) 13.644
Net result is a net receipt of USS 3.644 million
Without the swap Year 0 Year 1
Invest Rs. 500 crore at spot rate of 1US$ = Rs. 50 (10.00) -
Amount Received at year end 1 :Rs. 740 crore
Sell Rs. 740 crore at 1US$ = Rs. 54 - 13.704
Interest on US$ loan @8% for one year - (.800)
(10.00) 12.904
Net result is a net receipt of US$ 2.904 million.
Decision: Since the net receipt is higher in swap option the company should opt for
the same.
QUESTION NO.34
Solution:
Interest and Commission due from Sleepless = Rs. 50 crore (0.10+0.002) = Rs. 5.10
crore
Net Sum Due to Sleepless in each of Scenarios (Rs. Crore)
Scenario 1
Year PLR Sum due to Sleepless NetSum Due

1 10.2550 (10.25 +0.8)% = 5.525 5.10-5.525 =- 0.425 0.909 -0.38633
2 10.550 (10.50 +0.8)% = 5.650 5.10-5.650 =-0.550 0.826 -0.4543
3 10.7550 (10.75 + 0.8)% = 5.775 5.10-5.775 =-0.675 0.751 -0.50693
4 1150 (11.00 + 0.8)% = 5.9005.10-5.900 =-0.800 0.683 -0.5464
1.89395
Scenario 2
1 8.7550 (8.75 + 0.8)%= 4.7755.10 -4.775 = 0.325 0.909 0.295425
2 8.8550 (8.85 + 0.8)%= 4.8255.10-4.825 = 0.275 0.826 0.22715
3 8.8550 (8.85 + 0.8)%= 4.8255.10-4.825 = 0.275 0.751 0.206525
4 8.8550 (8.85 + 0.8)%= 4.8255.10 -4.825 = 0.275 0.683
0.187825
0.916925
Scenario 3
1 7.2050 (7.20 +0.8)%= 4.00 5.10-4.00= 1.10 0.909 0.9999
2 7.4050 (7.40 +0.8)%= 4.10 5.10-4.10= 1.00 0.826 0.826
3 7.6050 (7.60 + 0.8)%= 4.20 5.10-4.20 = 0.90 0.751 0.6759
4 7.7050 (7.70 +0.8)%= 4.25 5.10-4.25= 0.85 0.683 0.58055
3.08235
Decision:
For Sleepless :Since the NPV of the proposal is positive in Scenario 2 (Best Case)
and Scenario 3 (Most likely Case) the proposal of swap can be accepted.
For NoBank : However, if management of NoBank is of strong opinion that PLR are
likely to be more than 10% in the years to come then it can reconsider its decision.
QUESTION NO.35
Solution:
Working Notes:
Annual Cash Flow 40,00,000
Value of B Ltd. As Per Cash Flow= = = £ 35 555 556
Discount Rate 0.1125
35,555,556
Value Per Share of B Ltd. As Per Cash Flow = =£ 7.111
5,000,000
29,750,000
Book Value per share of B Ltd. = = £5.95
5,000,000
Note:Total Book Value = Reserve & Surplus 24,750,000 +Share Capital 5,000,000
=Rs. 29,750,000
Annual Cash Flow 6,000,000
Value of A Ltd. = = = £48,000,000
Discount Rate .125
12,000,000
Value of Combined Entity = = £100,000,000
.12
Value of Synergy*= Value of Combined Entity - Individual Value of A Ltd.and B Ltd.
= £100,000,000 - (£48,000,000 +£35,555,556)
= £16,444,444
*Since Maximum Price Per Share is required ,Synergy is required.
(i)Minimum price per share B Ltd. should accept from A Ltd. is £5.95 (current book
value).
(ii)Maximum price per share A Ltd. shall be willing to offer to B Ltd. is
16,444,444
=35,555,556 + = £10.40
5,000,000
(iii)Value As Per MPS=£4;
Value As Per BVPS=£5.95;
Value As Per Cash Flow= £7.11
Floor Value of per share of B Ltd. shall be £4 (current market price) and it shall not
play any role in decision for the acquisition of B Ltd. as it is lower than its current
book value as no company will want to sell its company lower than its book value.
QUESTION NO.36
Solution:
(a) Dirty Price
= Clean Price + Interest Accrued
12 292
= 99.42 + 100   = 109.1533
100 360
(b) First Leg (Start Proceed)
Dirty Price 100  Initial Margin
= Nominal Value  
100 100
109.1533 100  2
= 500,00,000   = Rs.5,34,85,133.333 [Note 1]
100 100
Note 1 :This amount will be received by BANK A from BANK B.Bank A Will sell its
12% GOI Bonds 2017 security to BANK B.
(c) Second Leg (Repayment at Maturity)

 No.Of Days 
Start Proceed  1  Repo Rate  
 360 
= Rs.5,34,85,133.333 x (1+ 0.0525×14/360) = Rs.535,94,332.1465 [Note 2]
Note 3:This amount will be paid by BANK A to BANK B.Bank A will repurchase its
12% GOI Bonds 2017 security from BANK B.This whole process is known as REPO
(Repurchase)Transaction.
Note 4: Assume Face Value To Be Rs. 100
Note 5 :Assume 360 days in a year
QUESTION NO.37
Solution:
Existing Market Value is 190 X .32m shares $60.8m
NPV of new investment $1.1m
[PV of Cash Inflow - PV of Cash Outflow i.e 81.1-80]
Value Received From issue of new share $15.0m
Outflow on Issue costs of 4% $(0.6)m
Present value benefit due to early redemption $0.598m_
Total Market Value $76.898m
Working Note:
1.No. Of Equity Share = 8000000/25 = 3,20,000
2.Present value benefit due to early redemption
Outflow if there is early redemption :
Payment to Debenture holder 5.000
Penalty charge 0.350
5.350
Outflow if there is no early redemption :
Present Value Of Interest £750,000 per year ($5m X 15%) X 3.791 2.843
PV of repayment in year 5 $5m X 0.621
3.105
5.948
Present value benefit from early redemption = 5.948-5.350 0.598
QUESTION NO.38
Solution:
Let annual inflow after management expenses be X.Then
Duration Of Bond
1  Interest Interest Interest Maturity Value 

= B 1  1
 2
2
 ............n 
n
n
n

o  (1  Kd) (1  Kd) (1  Kd) (1  Kd) 
1  X X X  100 
or 5.5 = 100 1  1
2
2
 ............7 
7

 (1  .08) (1  .08) (1  Kd) 
19.228x  408.10
or 5.5=
100
or X = 7.38 i.e. 7.38% (Post Management Expenses)
Return before management expenses =7.38 /.90 = 8.20%
QUESTION NO.39
Solution:
EVA = Income earned – (Cost of Capital x Total Investment)
Total Investments or Total Capital Employed
Particulars Amount
Working capital Rs. 20 lakhs
Property, plant, and equipment Rs. 80 lakhs
Patent rights Rs. 40 lakhs
Total Rs. 140 lakhs
Cost of Capital 15%
EVA = Rs. 12 lakh – (0.15 x Rs. 140 lakhs) = Rs. 12 lakh – Rs. 21 lakh = -Rs. 9 lakh
Thus H Ltd. has a negative EVA of Rs. 9 lakhs.
QUESTION NO.40
Solution:
In order to hedge itself the company would go short on future at current future price of
Rs.18.50. Thus company shall be sure of realizing price of Rs.18.50 in 6 months.
Quantity to wheat to be hedged 440000 kg
Size of Future Contract 2000 kg
No. of Future Contracts to be sold (440000/2000)220
Future Price Rs. 18.50
Exposure in Future (Rs.18.50X220X2000) Rs. 8140000
6 months later company would cancel its future position by buying Futurecontract
and sell goods in Spot Market
Buying price of Future Contract Rs.17.55
Amount Bought (440000x Rs.17.55) Rs.77,22,000
Gain/ Loss on Future Contracts Rs.4,18,000
Spot Price Rs.17.50
Actual Selling Rs.77,00,000
Effective Selling Amount Rs.81,18,000
Effective Selling Price Rs.18.45
QUESTIONS NO.41
Solution:
The current market prices of the two bonds may be estimated to be:
(i) Zero coupon Bonds

Maturity Value 100
= = $ 41.73
(1  Kd) n (1  .06)15
12% gilt with a semi-annual coupon

6 6 100
 ......  
(1  .03)1 (1  .03)30 (1  .03)30
= 6 x PVAF(3%,30) + 100 x PVF (3%, 30)
= 6 x 19·6004 + 100 x 0·4120
= 117·60 + 41·20
= $ 158·80
(ii) If interest rates increase by 1%

Zero coupon Bonds
Maturity Value 100
= = $ 36.25
(1  Kd) n (1  .07)15

6 6 100
 ......  
(1  .035)1 (1  .035)30 (1  .035)30
= 6 x PVAF(3.5%,30) + 100 x PVF(3.5%,30)
= 6 x 18·3920 + 100 x 0·3563
= 110·35 + 35·63
= $ 145·98
(iii) If interest rates decrease by 1%:

Zero coupon Bonds
Maturity Value 100
= = $48·10
(1  Kd) n (1  .05)15

6 6 100
 ......  
(1  .025)1 (1  .025)30 (1  .025)30
= 6 x PVAF(2.5%,30) + 100 x PVF (2.5%, 30)
= 6 x 20·9303 + 100 x 0·4767
= 125·58 + 47·67
= $ 173·25
QUESTION NO.42
Solution:
Value of Bond if Conversion is opted
= Rs. 100 x PVAF (11%, 4) + Rs. 1017.98 [Note] x PVF (11 %,4)
= Rs. 100 x 3.102 + Rs. 1017.98 x 0.659 = Rs. 310.20 + Rs. 670.85 = Rs. 981.05
[Note:Rs. 33.50 x (1+.05)4 x 25 = Rs. 33.50 x 1.2155 x 25 = Rs. 1017.98]
Since above value of Bond is based on the expectation of growth in market price
which may or may not come true as per expectations. In such circumstances the
redemption at premium still shall be guaranteed and bond may be purchased at its
floor value computed as follows:
Value of Bond if Redemption is opted

= Rs. 100 x PVAF (11%, 4) + Rs. 1050 x PVF (11%,4)
= Rs. 100 x 3.102 + Rs. 1050 x 0.659 = Rs. 310.20 + Rs. 691.95 = Rs. 1002.15
Decision:Minimum Price Mr.A be ready to pay for bond is Rs.1002.15,as it is the

guaranteed amount which will be received irrespective of change in equity market.It
may be noted here that fluctuation in equity market is much more than bond
market.Normally Bond price remain constant as we receive guaranteed amount.Hence
seller of this bond will also not like to sell this bond at a price lower than this.
QUESTION NO.43
Value of Value of Value of Total value Revaluation
buy – Total No.
Solution: hold Conservative aggressive of Action of units in
Portfolio Portfolio Constant
strategy aggressive
(Rs.) (Rs.) Ratio Plan
(Rs.) portfolio
Stock (Rs.)
Portfolio
NAV
(Rs.)
40.00 2,00,000 1,00,000 1,00,000 2,00,000 - 2500

25.00 1,25,000 1,00,000 62,500 1,62,500 - 2500
1,25,000 81,250 81,250 1,62,500 Buy 750
units 3250
36.00 1,80,000 81,250 1,17,000 1,98,250 - 3250
1,80,000 99,125 99,125 1,98,250 Sell 496.53
units 2753.47
32.00 1,60,000 99,125 88,111.04 1,87,236.04 - 2753.47
38.00 1,90,000 99,125 1,04,631.86 2,03,756.86 - 2753.47
1,90,000 1,01,878.43 1,01,878.43 2,03,756.86 Sell 72.46
units 2681.01
37.00 1,85,000
1,01,878.50 99,197.37 2,01,075.87 - 2681.01
42.00 2,10,000
1,01,878.50 1,12,602.42 2,14,480.92 - 2681.01
43.00 2,15,000
1,01,878.50 1,15,283.43 2,17,161.93 - 2681.01
50.00 2,50,000
1,01,878.50 1,34,050.50 2,35,929- 2681.01
2,50,000
1,17,964.50 1,17,964.50 2,35,929Sell 321.72
units 2359.29
52.00 2,60,000 1,17,964.50 1,22,683.08 2,40,647.58 - 2359.29
Hence, the ending value of the mechanical strategy is Rs.2,40,647.58 and buy & hold
strategy is Rs.2,60,000.
or
(a)Buy and Hold Strategy (Do nothing Policy)

2,00,000
No. of Units purchased = = 5000 units
40
Before Rebalancing After Rebalancing
When NAV= Rs. 40
Portfolio Value = Rs. 2,00,000 Rs. 2,00,000
When NAV= Rs. 25

Portfolio Value (5000 units × Rs. 25) = Rs. 1,25,000 Rs. 1,25,000
When NAV= Rs. 36

Portfolio Value (5000 units × Rs. 36) =Rs. 1,80,000 Rs. 1,80,000
When NAV= Rs. 32

When NAV= Rs. 38

When NAV= Rs. 37

When NAV= Rs. 42

When NAV= Rs. 43
When NAV= Rs. 50

When NAV= Rs. 52

(b)Constant Ratio Plan

1,00,000
No. of Equity Fund Units purchased = = 2500 units
40
Investment in Bonds = Rs. 1,00,000
When NAV= Rs. 40

Equity =Rs. 1,00,000
Bonds =Rs. 1,00,000
Portfolio Value =Rs. 2,00,000
When NAV= Rs. 25 (37.5% decrease)

No. of units= 2500

Equity =Rs. 62,500 Equity =Rs. 81,250
Bonds =Rs. 1,00,000 Bonds =Rs. 81,250
Portfolio Value =Rs. 1,62,500 Portfolio Value =Rs. 1,62,500
Action: Sell Bonds of Rs. 18,750

Buy Equity Fund Units of Rs. 18,750,i.e. 750 units
When NAV= Rs. 36 (44% increase)

No. of units= 3250

Equity =Rs. 1,17,000 Equity =Rs. 99,125
Bonds =Rs. 81,250 Bonds =Rs. 99,125
Portfolio Value =Rs. 1,98,250 Portfolio Value =Rs. 1,98,250
Action: Buy Bonds of Rs. 17,875

Sell Equity of Rs. 17,875, i.e. 496.53 units
When NAV= Rs. 32 (11% decrease)

No. of units= 2753.47

Equity =Rs. 88,111.04 Equity =Rs. 88,111.04
Bonds =Rs. 99,125.00 Bonds =Rs. 99,125.00
Portfolio Value =Rs. 1,87,236.04 Portfolio Value Rs. 1,87,236.04
When NAV= Rs. 38 (18.75% increase)


Equity =Rs. 1,04,631.86 Equity =Rs. 1,01,878.43
Bonds =Rs. 99,125.00 Bonds =Rs. 1,01,878.43
Portfolio Value =Rs. 2,03,756.86 Portfolio Value =Rs. 2,03,756.86
Action: Buy Bonds of Rs. 2,753.43

Sell Equity of Rs. 2,753.43, i.e. 72.46 units
When NAV= Rs. 37 (2.63% decrease)


Equity =Rs. 99,197.37 Equity =Rs. 99,197.37
Bonds =Rs. 1,01,878.43 Bonds =Rs. 1,01,878.43


Bonds =Rs. 1,01,878.43 Bonds =Rs. 1,01,878.43


Bonds =Rs. 1,01,878.43 Bonds =Rs. 1,01,878.43


Bonds =Rs. 1,01,878.43 Bonds =Rs. 1,17,964.50
Action: Buy Bonds of Rs. 16,086.07
Sell Equity of Rs. 16,086, i.e. 321.72 units
When NAV= Rs. 52 (4% increase)


Bonds =Rs. 1,17,964.50 Bonds =Rs. 1,17,964.50
QUESTION NO.44
Solution :
Tutorial Note:
1.Since we are not given Equity Beta Of XYZ & ABC,we will first calculate overall
beta of Proxy Entity and then using it we will calculate equity beta of XYZ & ABC.
2.XYZ expects that after acquisition the annual earning of KLM will increase by
10%.[This line has no relevance for solution]
Overall Beta for the proxy company = 1.1 × 4 / [ 4 + 1 (1 – 0.3) ] = 0.9362
0.9362 = Equity Beta of XYZ × 2/ [ 2 + 1 (1 - 0.3)]

Equity Beta of XYZ = 1.264
0.9362 = Equity Beta of ABC × 3/ [ 3 + 1 (1 - 0.3)]

Equity Beta of ABC = 1.155
XYZ ABC
Rs.1025 crore Rs.106 crore
No. of Share (1)
Rs.10 Rs.10
= 102.50 crore = 10.60 crore
Current share price (2) Rs.129.60 Rs 55
Market Values (3) = (1) × (2) Rs.13284 crore Rs.583 crore
Equity beta (4) 1.264 1.155
Portfolio Beta after Merger i.e Beta of combined entity is weighted average Beta of
combined firm =1.264  +1.155  = 1.26
QUESTION NO.45
Solution:(Rs. Crore)
Qtrs. Sensex Sensex Return (%) Amount Payable Fixed Return Net (5)-(4)
(1) (2) (3) (4) (Receivable) (5)
0 21,600 - -
1 21,860 1.2037* 4.8148** 4.6000*** - 0.2148
2 21,780 -0.3660 -1.4640 4.6000 6.0640
3 22,080 1.3774 5.5096 4.6000 - 0.9096
4 21,960 -0.5435 -2.1740 4.6000 6.7740
* 21860-21600/21600 = 1.2037 % and like wise

** Rs. 400 crore x 1.2037 % = Rs. 4.8148 and like wise
***Rs. 400 crore x 1.15% = Rs. 4.6000 and like wise
QUESTION NO.46
Solution:
(i) An efficient portfolio shall consist of the market portfolio and risk free securities.
Accordingly, let x be the proportion of total funds invested in market portfolio then
7.5% = X x 8% + (1 - X) X 5%
or 7.5% = 8x + 5 - 5x
or 2.5 = 3x
or x = 5/6 i.e. 83.33%
Thus, 83.33% total funds should be invested in market portfolio and balance 16.67%
in Risk Free Securities.
(ii) Risk of above Portfolio = 6% x .8333 = 5%
(iii)Let Y be the proportion of investment in market portfolio then investment in risk

free securities (1 - Y), then
10% = Y X 8% + (1 - Y) 5%
or 10% = 8Y + 5% - 5Y
or 5% = 3Y
or Y = 1.6667
Thus, borrow 66.67 % of owned fund at risk free rate of interest of 5% which comes
to Rs. 100000 X 66.67 % = Rs. 66,670
Now invest total fund of Rs. 1,66,670 in the market portfolio.
Risk of above Portfolio = 6% x 1.6667 = 10 %
QUESTION NO.47
Solution:
Hint:MS Stones is B Ltd. i.e Target Firm & Tripati Tiles Ltd. is A Ltd. i.e Acquiring
Firm
(a)First of all we shall compute PV of Cash Inflows as follows:
Present Value = 200 crore (1-0.30)/0.12-0.04= Rs. 1750 Crore
Market Value of Liabilities = Rs. 780 Crore + Rs. 40 Crore = Rs. 820 Crore
Net Asset Value = Rs. 1750 Crore - Rs. 820 Crore = Rs. 930
Since, the Tripati Tiles is offering Rs. 950 Crore, more than Net Asset Value of Rs. 930
Crore, the company should go further with decision of divesture of tile business.
QUESTION NO.48
Solution:
(i)Expected Return on X Ltd.’s Share
Average % Annual Capital Gain : 95 ( 1+ g)4 = 197 or g = 20 %
Average % dividend yield: 10% + 12% + 8% + 10% + 10% /5 = 10%
Therefore, expected return on share of X Ltd. = 20% + 10% = 30%
(ii)Expected Return on Market Index

Average Annual % Capital Gain
1490( 1+ g)4 = 2182 or g = 0.10 i.e. 10%
Average % of dividend yield = 16% + 15% + 16% + 10% + 18%/5 = 15%
Thus, expected return on Market Index = 10% + 15% = 25%
(iii) Return from Central Govt. Securities

15% + 15% + 16% + 14% + 15%/5 = 15%
Thus, Risk Free Rate of Return = Rf = 15%
(iv) Beta Value of X Ltd.
30% = 15 % + Beta x ( 25 - 15 ) or Beta = 1.5
QUESTION NO.49
Solution
Note:CONTRACTED RATE MEANS IT IS ALREADY ADJUSTED WITH ALL
TYPES OF MARGIN.
Note:IMPORTER MEANS HE MUST PAY $ ..MEANS HE WILL BUY $ FROM
BANK ..HENCE MUST HAVE ENTERED INTO PURCHASE CONTRACT
FROM BANK ..MEANS BANK ENTERED INTO SALE CONTRACT OF
DOLLAR
(i)The contract is to be cancelled on 30-10-2010 at the spot buying rate of US$ 1
= Rs. 41.5000
Less: Margin Money 0.075% = Rs. 0.0311
= Rs. 41.4689 or Rs. 41.47
US$ 20,000 @ Rs. 41.47 = Rs. 8,29,400
US$ 20,000 @ Rs. 42.32 = Rs. 8,46,400
The difference in favour of the Bank/Cost to the importer Rs. 17,000
(ii) The Rate of New Forward Contract
Spot Selling Rate US$ 1 = Rs. 41.5200
Add: Premium @ 0.93% = Rs. 0.3861
= Rs. 41.9061
Add: Margin Money 0.20% = Rs. 0.0838
= Rs. 41.9899 or Rs. 41.99
QUESTION NO.50 Write a short note on

(a) Factors that affect Bond’s Duration
(b) Process of Portfolio Management
(c) Benefits of International Portfolio Investment
(d) Benefits of Debit Card
(e) Factors affecting the selection of Mutual Funds
(f) Project Appraisal in inflationary conditions
(g) Bought Out Deals (BODs)
(h) Financial Engineering
(i) Non-compete fee in mergers and acquisitions.
(j) Meaning of open interest and its relevance in the stock market.
(k) Exposure Netting.
(l) Timing of Investment Decisions as per Dow Jones Theory
(m) Elliot Wave Theory
(n) Lintner’s Model of actual dividend behaviour
(o) Necessary conditions to introduce ‘Commodity Derivative’
(p) ‘Starting point and end point of an organisation is money’
(q) Benefits of Real Estate Investment Trusts (REITs)
(r) Chop Shop Method of Valuation
Solution:
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INDIA’S BEST FINANCE FACULTY

(ii) Calculation Of Profit & Loss On Sale Of Asset:

(iv) PV of cash outflow under Leasing Option

(a)Since PV of cash outflows is least in case of Borrowing option hence it shall be

(i)Sensitivity to Borrowing Rate

PV of Cash Outflow Under Borrowing Option

Year Lease Rental after Tax PVAF@10% PV

Alt 1 (As Per ICAI): 8.55 - 8.04/8.55 =5.96%

Alt 2 : 8.55 - 8.04/8.04 =6.34%

(ii)Sensitivity of Residual Value

Initial Outlay will be 1014494 for NPV to be 0

Expected return on market index

= 0.25 x 5.9925 + 0.10 x 8.8525 + 0.15 x 7.535 + 0.50 x 8.478 = 7.7526%

(b) Portfolio’s return Using CAPM

Small cap growth = 4.5 + 6.85 x 0.80 = 9.98%

Expected return on market index

0.90 x X1 + 1.165 x (1- X1) = 1

therefore X1 i.e Weights of small cap value stock =62.3% and

Calculation of Present Value of Outflows (Amount in Rs.)

0 2,47,647 0 0 0 2,47,647 1.000 2,47,647

Decision: Leasing option is viable.

Opening Interest Principal Closing

(ii) From Lessor’s Point of View

Now Equity Beta Of Given Company

Cost of Equity = 0.07 + 1.423 x (0.125 - 0.07) = 14.83%

Computation of NPV (Rs.)

Decision - Leasing proposal is not viable.

(b)Impact of merger on Mr. X

(b)Variance of portfolio shall be:

(c)The Sharpe’s ratio will improve by approximately 0.04, as shown below:

Statement showing Value of Equity (Rs Crore)

Particulars 2013-14 2014-15 2015-16 2016-17

When Bike is replaced after 2 year

Computation of EAC[Equated Annual Cost ]

Measurement of Sensitivity Analysis

(d) Value of expected sales volume

Further NPV in worst and best cases will be as follows:

Option 1-Invest 75% in A & 25% in C

Option 1-Invest 100% in E

Hence the gain is US $ (86,897.71 - 86,644.48) = US$ 253.23 OR

Spot Rate 1 € = £0.6858- 0.6869

(ii) Return of Mr. X

Ending Price of Standard & Poor Index 1919

(iii) Rate of Return had the amount been invested in India

(ii) No. Of contract =10,10,000/2,52,500× 1.5= 6 contracts

(b)Gain/loss on Long Position after 28 days

(c)Gain/loss on Long Position at maturity

Computaion Of Beta of X Ltd.

Proposal II - Insurance of Receivables

Decision: Since saving in Factoring is marginally higher it should be accepted i.e we

Do(1  g) 1.40(1  .06)

(a)NPV of the Project

Decision:Since NPV is positive we should accept the project.

(c)Number of New Equity Shares To be Issued

subscribing shares. Accordingly,

(d)Benefit from expansion to EXISTING Shareholder