! "#is section consists o$ %uestions &it# serial num'er 1 ( 30) ! Ans&er all %uestions) ! *ac# %uestion carries one mar) ! Ma+imum time $or ans&ering Section A is 30 Minutes) 1) ,#ic# o$ t#e $ollo&ing is true- (a) *$$ecti.e rate o$ interest is al&ays lo&er t#an t#e nominal interest rate (') "#e e$$ecti.e rate o$ interest increases &it# increase in t#e $re%uency o$ compoun/ing (c) "#e nominal interest rate increases &it# increase in t#e $re%uency o$ compoun/ing (/) "#e e$$ecti.e an/ nominal interest rates are e%ual i$ t#e $re%uency o$ compoun/ing is less t#an $our (e) "#e $re%uency o$ compoun/ing /oes not a$$ect t#e e$$ecti.e an/ nominal interest rates) 0 Ans&er 1 2) ,#o among t#e $ollo&ing players in t#e international capital marets collect t#e rupee /i.i/en/s on t#e un/erlying s#ares an/ repatriate t#e same to t#e /epository in 2S /ollars3$oreign e%uity- (a) 4ea/ Managers (') 2n/er&riters (c) Custo/ians (/) Corporate 'orro&ers (e) 4en/ers) 0 Ans&er 1 3) ,#ic# o$ $ollo&ing statements are true regar/ing issuance o$ Commercial 5aper (C5)- 6) "#ey normally #a.e a 'uy'ac $acility) 66) Corporate nee/ prior appro.al o$ 7B6 $or C5 issue) 666) C5s are issue/ in multiples o$ 7s)1 la#) 68) 2n/er&riting o$ a C5 issue is not man/atory) (a) Bot# (6) an/ (66) a'o.e (') (6)9 (66) an/ (666) a'o.e (c) Bot# (6) an/ (666) a'o.e (/) Bot# (6) an/ (68) a'o.e (e) All (6)9 (66)9 (666) an/ (68) a'o.e) 0 Ans&er 1 :) 6n a $ore+ maret i$ an in.estor &ants to #e/ge #is $ore+ payments an/ #a.e minimum ris9 &#ic# o$ t#e $ollo&ing s#oul/ t#e in.estor pre$er- (a) Sell t#e $ore+ $utures (') *nter into a $or&ar/ contract to purc#ase t#e re%uire/ $ore+ (c) *nter into a call option to purc#ase t#e re%uire/ $ore+ (/) Buy $ore+ $utures (e) *nter into a put option to sell t#e re%uire/ $ore+) 0 Ans&er 1 5) All ot#er t#ings 'eing t#e same9 &#ic# o$ t#e $ollo&ing &ill result in an increase in stoc price- 6) "#e $irm;s 'eta /ecreases) 66) "#e $i+e/ assets increase) 666) "#e retention ratio increases) 68) <et pro$it margin /ecreases) (a) =nly (6) a'o.e (') =nly (66) a'o.e (c) =nly (666) a'o.e (/) Bot# (6) an/ (68) a'o.e (e) (6)9 (66) an/ (666) a'o.e) 0 Ans&er 1 >) 7ecently t#e 7e'el Furniture Company #as 'een $acing pro'lems) As a result9 its $inancial situation #as /eteriorate/) 7e'el approac#e/ t#e C#arminar Ban $or a loan9 'ut t#e loan o$$icer insiste/ t#at t#e current ratio (currently 0)?) 'e impro.e/ to at least close to 1)0 'e$ore t#e 'an &oul/ e.en consi/er maing t#e loan) ,#ic# o$ t#e $ollo&ing actions &oul/ 'e t#e most appropriate to impro.e t#e ratio in t#e s#ort run an/ &oul/ liely 'e t#e least costly to 7e'el- (a) 2sing some cas# to pay o$$ some long(term an/ s#ort(term lia'ilities 0 Ans&er 1 (') 5urc#asing some a//itional ra& materials on cre/it t#ere'y creating an a//itional accounts paya'le (c) 5aying o$$ some notes paya'le &it# cas# to re/uce t#e $irm;s /e't (/) Selling some $i+e/ assets $or cas# (e) Collect some current accounts recei.a'le) ?) "#e tra/ers in a $utures e+c#ange9 &#o ten/ to carry positions $or longer perio/ o$ time are no&n as (a) 5osition tra/ers (') @ual tra/ers (c) Scalpers (/) Ae/gers (e) Floor 'roers) 0 Ans&er 1 B) Ao& can in.estors re/uce t#e .aria'ility o$ returns in t#eir in.estment port$olio- 6) By a//ing per$ectly correlate/ securities to t#eir port$olio) 66) By a//ing securities to t#eir port$olio t#at are not per$ectly correlate/) 666) By a//ing some mutual $un/s to t#eir port$olio) (a) =nly (6) a'o.e (') =nly (66) a'o.e (c) =nly (666) a'o.e (/) Bot# (66) an/ (666) a'o.e (e) All (6)9 (66) an/ (666) a'o.e) 0 Ans&er 1 C) ,#ic# o$ t#e $ollo&ing 'on/s &ill #a.e t#e greatest percentage increase in .alue i$ all interest rates /ecrease 'y 1 percent- (a) 20(year9 Dero coupon 'on/ (') 10(year9 Dero coupon 'on/ (c) 20(year9 10 percent coupon 'on/ (/) 20(year9 5 percent coupon 'on/ (e) 10(year9 5 percent coupon 'on/) 0 Ans&er 1 10) 6$ t#e stoc;s current 53* ratio e+cee/s t#e e+pecte/ 53*9 t#en &#ic# o$ t#e $ollo&ing statements is3are true- 6) Stoc is o.erprice/) 66) 6t is time to 'uy t#e stoc) 666) "#e stoc is correctly price/) (a) =nly (6) a'o.e (') =nly (66) a'o.e (c) =nly (666) a'o.e (/) Bot# (66) an/ (666) a'o.e (e) Bot# (6) an/ (66) a'o.e) 0 Ans&er 1 11) 6$ t#e net present .alue (<58) o$ an in.estment is positi.e9 t#e impact on Bene$it Cost 7atio (BC7)9 <et Bene$it Cost 7atio (<BC7)9 6nternal 7ate o$ 7eturn (677) an/ cost o$ capital (E) &oul/ 'e (a) 677 F E an/ <BC7 1 1 (') 677 F E an/ BC7 1 1 (c) 677 1 E an/ <BC7 1 1 (/) 677 1 E an/ BC7 1 1 (e) <BC7 1 BC7 an/ E 1 677) 0 Ans&er 1 12) ,#ic# o$ t#e $ollo&ing is a $eature o$ secure/ premium notes (S5<)- (a) 6t is a in/ o$ non(con.erti'le /e'enture &it# an attac#e/ &arrant (') 6t is con.erti'le /e'enture &it# options (c) "#e &arrants attac#e/ to t#e S5< gi.es t#e #ol/er t#e rig#t to apply $or one pre$erence s#are (/) 6t is partly con.erti'le /e'enture &it# attac#e/ &arrants (e) 6t is an e+ample o$ participating pre$erence s#ares) 0 Ans&er 1 13) ,#ic# o$ t#e $ollo&ing is $alse regar/ing pri.ate placement o$ securities- (a) 6t in.ol.es selling out a signi$icant portion o$ securities to an in.estor or a group o$ in.estors (') 5ri.ate placement is ma/e &it# a .ie& to mae a pu'lic issue &it#in an agree/ time $rame (c) 6t in.ol.es $e&er proce/ural /i$$iculties (/) 6t ena'les t#e companies to #a.e $aster access to $un/s (e) 5ri.ate placement is not restricte/ to e%uity only) 0 Ans&er 1 1:) "#e term Gagency costs; in t#e conte+t o$ capital structure means (a) "#e commission paya'le 'y a company to its purc#asing agents (') "#e commission paya'le 'y a company to its selling agents (c) "#e e+penses incurre/ in /istri'ution o$ t#e pro/ucts o$ t#e company (/) "#e costs on account o$ restricti.e co.enants impose/ on a company 'y its len/ers (e) "#e /i.i/en/s pai/ 'y a company to its s#are#ol/ers) 0 Ans&er 1 15) ,#en #ig# /egree o$ uncertainty is associate/ &it# t#e $uture cas# $lo&s o$ a $irm 0 Ans&er 1 (a) "#e $irm s#oul/ in.est all t#e cas# in e%uity s#ares (') "#e $irm s#oul/ maintain a/e%uate cas# 'alance or #a.e an o.er/ra$t arrangement &it# a 'an (c) "#e $irm s#oul/ postpone t#e loan repayments &#ic# $all /ue a$ter t#e current perio/ (/) "#e $irm s#oul/ mae less cas# sales (e) "#e $irm s#oul/ maintain #uge cas# 'alance an/ #a.e an o.er/ra$t arrangement &it# a 'an) 1>) ,#ic# o$ t#e $ollo&ing proHects &ill you select t#at &ill gi.e t#e ma+imum a/.antage to t#e $irm- (a) 5roHect GA; &#ic# #as a positi.e internal rate o$ return (') 5roHect GB; &#ic# #as a <et Bene$it Cost 7atio less t#an one 'ut more t#an Dero (c) 5roHect GC; &#ic# #as a cost o$ capital #ig#er t#an t#e internal rate o$ return (/) 5roHect G@; &#ic# #as t#e #ig#est annual capital c#arge compare/ to all ot#er proHects (e) Bot# (c) an/ (/) a'o.e) 0 Ans&er 1 1?) ,#ic# o$ t#e $ollo&ing &ill cause a /ecrease in t#e net operating cycle o$ a $irm- (a) 6ncrease in t#e a.erage collection perio/ (') 6ncrease in t#e a.erage payment perio/ (c) 6ncrease in t#e $inis#e/ goo/s storage perio/ (/) 6ncrease in t#e ra& materials storage perio/ (e) 6ncrease in t#e &or(in(progress perio/) 0 Ans&er 1 1B) ,#en t#e realiDe/ yiel/ approac# is applie/ $or $in/ing out t#e cost o$ e%uity capital9 one o$ t#e implicit assumptions is t#at (a) 7etaine/ earnings #a.e no cost (') "#e e%uity s#are#ol/ers re%uire a premium o.er t#e return re%uire/ 'y 'on/#ol/ers (c) "#e e%uity s#are#ol/ers re%uire a premium o.er t#e return re%uire/ 'y pre$erence s#are#ol/ers (/) "#e e%uity s#are#ol/ers re%uire a premium o.er t#e ris($ree rate o$ return (e) "#e e%uity s#are#ol/ers &ill continue to e+pect t#e same returns $rom t#e s#are as in t#e past) 0 Ans&er 1 1C) ,#ic# o$ t#e $ollo&ing can 'e sai/ to 'e a spontaneous source o$ $inancing current assets- (a) Accrue/ &ages an/ salaries (') Commercial paper (c) 5u'lic /eposits (/) Cas# cre/it (e) "erm loan) 0 Ans&er 1 20) ,#ic# o$ t#e $ollo&ing is3are true regar/ing aggressi.e approac# to in.estment in current assets- (a) "#e in.estment in current assets $or a gi.en le.el o$ sales $orecast &ill 'e #ig#er (') A company $ollo&ing t#is approac# is su'Hecte/ to a #ig#er /egree o$ ris t#an a company $ollo&ing conser.ati.e approac# (c) "#e turno.er o$ current assets &ill 'e less (/) "#e current assets un/er t#is approac# are generally $inance/ 'y long(term sources (e) "#e current ratio in t#is approac# is generally #ig#) 0 Ans&er 1 21) ,#ic# o$ t#e $ollo&ing statements is true &it# respect to t#e ABC system o$ in.entory management- (a) "#e GA; category items are t#ose &#ic# #a.e t#e lo&est rupee in.estment (') Category GA; items are t#ose &#ic# #a.e t#e #ig#est rupee in.estment (c) Category GA; items are t#ose &#ic# #a.e t#e least count in terms o$ num'ers (/) 2nit cost un/er category GA; item is .ery costly (e) 2nit cost un/er category GA; item is .ery c#eap) 0 Ans&er 1 22) Consi/er t#e $ollo&ing =pening stoc o$ $inis#e/ goo/s F 7s)29B29000 Closing stoc o$ $inis#e/ goo/s F 7s)29509000 Cost o$ pro/uction F 7s)591>9B00 Selling a/ministration an/ $inancial e+pen/itureF 7s) 29C50 Custom an/ e+cise /uty F 7s) 59000 Finis#e/ goo/s storage perio/ (in /ays) $or t#e company assuming 3>0 /ays in a year is (a) 3C /ays (') 153 /ays (c) 1?2 /ays (/) 1C2 /ays (e) 3>5 /ays) 0 Ans&er 1 23) 6$ t#e cum(rig#t price per s#are is 7s):B9 t#e t#eoretical .alue o$ t#e rig#t is 7s)2 an/ su'scription price at &#ic# t#e rig#ts are issue/ is 7s)2> per s#are9 t#e num'er o$ e+isting s#ares re%uire/ $or a rig#t s#are is 0 Ans&er 1 (a) 5 (') 10 (c) 15 (/) 20 (e) 25) 2:) "#e operating e+posure (a) 7epresents t#e e+posure t#at arises $rom t#e nee/ o$ a $irm to con.ert .alues o$ $oreign currency /enominate/ assets an/ lia'ilities into /omestic currency .alues (') 7epresents t#e e+posure t#at arises $rom $oreign currency /enominate/ transactions &#ic# a $irm is committe/ to complete (c) 7epresents t#e e+posure o$ current pro$its o$ a $irm to t#e mo.ements in e+c#ange rates (/) 7epresents a notional e+posure9 as t#ere is no real gain or loss arising out o$ e+c#ange rate mo.ements (e) Arises out o$ t#e economic conse%uences o$ e+c#ange rate mo.ement on t#e .alue o$ a $irm) 0 Ans&er 1 25) ,#ic# o$ t#e $ollo&ing is a part o$ t#e $inancing /ecision o$ a company- (a) 5rocuring ne& mac#ineries $or t#e 7 I @ acti.ities (') Spen/ing #ea.ily $or t#e a/.ertisement o$ t#e pro/uct o$ t#e company (c) A/opting state(o$(t#e(art tec#nology to re/uce t#e cost o$ pro/uction (/) 5urc#asing a ne& 'uil/ing at @el#i to open a regional o$$ice (e) @esigning an optimal capital structure 'y using suita'le $inancial instruments) 0 Ans&er 1 2>) 6$ a security;s return is plotte/ a'o.e t#e security maret line9 t#en (a) "#e ris $ree rate is e%ual to t#e re%uire/ rate o$ return on t#e security (') "#e security;s rate o$ return is more t#an t#e return on t#e maret port$olio (c) "#e security;s 'eta is less t#an one an/ #ence it is a conser.ati.e security (/) "#e security is sai/ to 'e o.er.alue/ (e) "#e security is to 'e 'oug#t imme/iately) 0 Ans&er 1 2?) ,#ic# o$ t#e $ollo&ing are not a source o$ long(term $inance- (a) *%uity s#ares (') @e'entures (c) 5re$erence s#ares (/) Commercial papers (e) 7eser.es an/ surplus) 0 Ans&er 1 2B) ,#ic# o$ t#e $ollo&ing issues is consi/ere/ un/er tec#nical aspects o$ proHect appraisal- (a) 5ast an/ present consumption tren/s (') A.aila'ility o$ t#e re%uire/ %uality an/ %uantity o$ ra& materials an/ ot#er inputs (c) 6mpact o$ t#e proHect on t#e /istri'ution o$ income in t#e society (/) 5rice an/ cross(elasticity o$ /eman/ (e) 5ro/uction constraints) 0 Ans&er 1 2C) ,#ic# o$ t#e $ollo&ing &ill /ecrease &it# an increase in t#e interest rate- (a) Future 8alue 6nterest Factor (') Future 8alue 6nterest Factor $or Annuity (c) Capital 7eco.ery Factor (/) 5resent 8alue 6nterest Factor $or a 5erpetual Annuity (e) 6n.erse o$ 5resent 8alue 6nterest Factor $or Annuity) 0 Ans&er 1 30) ,#ic# o$ t#e $ollo&ing is an assumption in t#e economic or/er %uantity mo/el- (a) Carrying cost per unit increases as t#e num'er o$ units or/ere/ increases (') @eli.ery o$ t#e material taes place &it#in a certain time as t#e or/er is place/ (c) 5urc#ase price per unit o$ t#e ra& material increases as t#e num'er o$ units or/ere/ /ecreases (/) =r/ering cost is constant (e) 6n.entory le.el /uring t#e year .aries as per t#e 'oom p#ase an/ recessionary p#ase in 'usiness) 0 Ans&er 1 *<@ =F S*C"6=< A Section B : 5ro'lems (50 Mars) "#is section consists o$ %uestions &it# serial num'er 1 J 5) Ans&er all %uestions) Mars are in/icate/ against eac# %uestion) @etaile/ &orings s#oul/ $orm part o$ your ans&er) @o not spen/ more t#an 110 ( 120 minutes on Section B) 1) "#e e%uity s#ares o$ Cargil 6n/ustries 4t/)9 a $oo/ processing company9 are presently tra/ing at 7s)C> per s#are) "#e company #as recently pai/ a /i.i/en/ o$ 7s)3)00 per s#are) A security analyst #as proHecte/ t#e $ollo&ing in$ormation $or t#e ne+t year: Kou are re%uire/ to a) Fin/ out t#e e+pecte/ return an/ ris $or t#e e%uity s#ares o$ t#e company) ') Fin/ out t#e e+pecte/ return an/ ris $or t#e maret) (5 L : F C mars) 0 Ans&er 1 2) Sonal *nterprises 4t/) (S*4)9 a tra/ing concern9 #a/ t#e $ollo&ing receipts o$ an item9 co/e/ "F059 o.er t#e last %uarter: "#e opening 'alance o$ t#e item in January &as 7s)5:9000 an/ t#e closing 'alance o$ t#e item in Marc# &as 7s)C09000) "#e purc#ase price o$ t#e item is 7s)1B per unit an/ t#e carrying cost is 25M o$ t#e a.erage in.entory .alue per annum) "#e cost $or placing an or/er is $i+e/ an/ it is 7s)C00 per or/er) "#e purc#ase price per unit o$ t#e item #as not c#ange/ in t#e last %uarter an/ it is not e+pecte/ to c#ange in t#e ne+t si+ mont#s9 &#ic# is t#e planning perio/) "#eir supplier9 7e//y 6n/ustries 4t/) (764)9 #as o$$ere/ a /iscount o$ 2)5M on or/er siDes o$ >9000 units an/ a'o.e) 6t is assume/ t#at t#e /eman/ $or t#e item is e.enly /istri'ute/ o.er t#e entire year) Kou are re%uire/ to $in/ out t#e $ollo&ing: a) "#e economic or/er %uantity o$ t#e item) ') "#e optimal or/er siDe $or t#e item) Clearly s#o& t#e rele.ant costs an/ 'ene$its in.ol.e/) 6gnore ta+es) (5 L ? F 12 mars) 0 Ans&er 1 3) "#e e%uity capitaliDation rate o$ Ayus#i 6n/ustries 4t/) is 12 percent) "#e company #as 509000 s#ares outstan/ing &#ic# #a.e a maret price o$ 7s)200 eac#) "#e company e+pects a net income o$ 7s)?9009000 at t#e en/ o$ one year an/ plans to /eclare a /i.i/en/ o$ 7s)> per s#are at t#at time) "#e company also plans to in.est 7s)109009000 in a proHect a$ter one year) 6t is assume/ t#at t#e assumptions un/erlying t#e Mo/igliani( Miller mo/el on /i.i/en/ policy are applica'le) Kou are re%uire/ to s#o& t#at t#e Mo/igliani(Miller mo/el on /i.i/en/ policy #ol/s goo/ irrespecti.e o$ &#et#er /i.i/en/s are pai/ or not) (C mars) 0 Ans&er 1 :) Mr) 5ras#ant is planning to purc#ase a #ouse &#ic# costs 7s)B9009000) Ae #as contacte/ t&o #ousing $inance companies .iD9 Metro Aousing Finance 4t/) (MAF4) an/ <ort#ern Finance Company 4t/) (<FC4)) MAF4 #as o$$ere/ 100M $inancing $or a perio/ o$ ? years) Mr) 5ras#ant #as to repay t#e loan along &it# interest in e%uate/ mont#ly installments o$ 7s)1B9500 eac#9 paya'le at t#e en/ o$ e.ery mont# o.er a perio/ o$ ? years) <FC4 #as o$$ere/ to pro.i/e C0M $inance $or a perio/ o$ B years) Mr) 5ras#ant #as to 'ring in 10M o$ t#e cost o$ t#e #ouse at t#e time o$ purc#ase) Ae &ill 'orro& t#e amount o$ #is contri'ution $rom one o$ #is relati.es an/ &ill pay 'ac #is relati.e 7s):09000 an/ 7s)509000 (&#ic# inclu/e t#e amount 'orro&e/ an/ t#e interest) at t#e en/ o$ t#e $irst year an/ t#e secon/ year respecti.ely) "#e amount 'orro&e/ $rom <FC4 #as to 'e repai/ along &it# interest in e%uate/ mont#ly installments o$ 7s)129B00 eac#9 paya'le at t#e en/ o$ e.ery mont# o.er a perio/ o$ B years) Kou are re%uire/ to $in/ out t#e e$$ecti.e rates o$ interest $or 'ot# t#e $inancing alternati.es an/ a/.ise Mr) 5ras#ant accor/ingly) Scenario =ptimistic <ormal 5essimistic 5ro'a'ility 30M :0M 30M 5roHecte/ s#are price 7s)110)00 7s)105)00 7s)CC)00 5roHecte/ /i.i/en/ 7s):)00 7s)3)00 7s)3)00 5roHecte/ maret return 15M 12M BM Mont# January Fe'ruary Marc# 7eceipts (7s)) >39000 ?29000 B19000 Suggeste/ Ans&ers Financial Management (MB211): July 2005 Section A : Basic Concepts (11 mars) 0 Ans&er 1 5) Central 6n/ustries 4t/) (C64) is consi/ering in.esting in a lat#e mac#ine) "#ere are t#ree mac#ines o$$ere/ 'y t#ree /i$$erent manu$acturers) "#e price %uotations an/ operational costs $or t#e t#ree mac#ines are gi.en 'elo&: "#e cost o$ capital $or t#e company is 15M) Kou are re%uire/ to $in/ out t#e mac#ine t#at s#oul/ 'e selecte/ $or in.estment 'y C649 using a suita'le appraisal criterion) (C mars) 0 Ans&er 1 *<@ =F S*C"6=< B Section C : Applie/ "#eory (20 Mars) "#is section consists o$ %uestions &it# serial num'er > ( B) Ans&er all %uestions) Mars are in/icate/ against eac# %uestion) @o not spen/ more t#an 25 (30 minutes on section C) >) Brie$ly e+plain t#e .arious sources o$ ris to any $inancial asset (> mars) 0 Ans&er 1 ?) Brie$ly e+plain t#e p#enomena o$ o.ertra/ing an/ un/ertra/ing in t#e conte+t o$ &oring capital management an/ t#e precautionary measures $or pre.enting t#e same) (? mars) 0 Ans&er 1 B) @iscuss t#e signi$icance o$ collection program in t#e management o$ recei.a'les) (? mars) 0 Ans&er 1 *<@ =F S*C"6=< C *<@ =F N2*S"6=< 5A5*7 Manu$acturers *astern *ngineering 4t/) (**4) ,estern *ngineering 4t/) (,*4) Sout#ern 6n/ustries 4t/) (S64) Cost o$ mac#ine (7s)) B9009000 129009000 1B9009000 Annual cost o$ operations (7s)) 19>09000 19209000 19009000 2se$ul li$e (years) 5 B 10 1) Ans&er : (') 7eason : "#e interest rate usually speci$ie/ on an annual 'asis in a loan agreement or security is no&n as t#e nominal rate o$ interest) 6$ compoun/ing is /one more t#an once a year9 t#e actual rate o$ interest pai/ (or recei.e/) is calle/ 0 "=5 1 e$$ecti.e interest rate) *$$ecti.e interest rate &oul/ 'e #ig#er t#an t#e nominal interest rate) "#e e$$ecti.e rate o$ interest increases &it# increase in t#e $re%uency o$ compoun/ing) For e+ample9 t#e e$$ecti.e rate o$ interest un/er %uarterly compoun/ing &ill 'e more t#an t#e e$$ecti.e rate o$ interest un/er semiannual compoun/ing) Aence option (') is correct) 2) Ans&er : (c) 7eason : Custo/ians #ol/ t#e un/erlying s#ares an/ collect rupee /i.i/en/s on t#e un/erlying s#ares an/ repatriate t#e same to t#e /epository in 2S /ollars3$oreign e%uity) Aence (c) is t#e ans&er) 4ea/ managers un/ertae acti.ities lie preparation o$ o$$er circular9 mareting t#e issues etc) 2n/er&riters o$ t#e issue 'ear interest rate or maret riss mo.ing against t#e issuer 'e$ore t#ey #a.e place/ 'on/s or /epository receipts) 0 "=5 1 3) Ans&er : (/) 7eason : C5s are normally issue/ in multiples o$ 7s)5 la#s) Aence9 666 is not true) "#e issuance o$ C5s /oes not re%uire t#e appro.al o$ 7B6) Aence9 66 is not true) 2n/er&riting o$ a C5 issue is not man/atory an/ t#e issuers generally #a.e a 'uy 'ac $acility) Aence9 6 an/ 68 are true an/ t#e ans&er is (/)) 0 "=5 1 :) Ans&er : (c) 7eason : Call option is a contract t#at con$ers t#e rig#t9 'ut not an o'ligation to t#e #ol/er to 'uy an un/erlying asset at a price agree/ on a speci$ic /ate or 'y a speci$ic e+piry /ate) 6n t#e gi.en case9 t#e in.estor is intereste/ to #e/ge #is $ore+ payments an/ #a.e a minimum ris position) Aence9 it is 'etter $or #im to enter into a call option to purc#ase t#e re%uire/ $ore+ at an agree/ price on t#e e+pecte/ $uture /ate) "#us i$ t#e e+c#ange rate 'e#a.es against t#e e+pectation t#e in.estor s#all not e+ercise #is rig#t an/ t#e loss t#at &ill 'e incurre/ &ill 'e only t#e premium pai/ 'y #im to t#e &riter o$ t#e option) Aence9 t#e ans&er is (c)) "#oug# payment can 'e #e/ge/ t#roug# purc#asing t#e $ore+ $utures or entering into a $or&ar/ contract to purc#ase9 t#ere is no /o&nsi/e limit to t#e loss t#at can 'e incurre/ 0 "=5 1 5) Ans&er : (a) 7eason : 6ncrease in stoc price is /irectly relate/ to /i.i/en/s (or /ecrease in retention ratio) an/ /ecrease in re%uire/ rate o$ return (or /ecrease in 'eta)) Aence9 6 &ill increase t#e stoc price &#ile 66 /oes not /etermine t#e stoc price an/ 666 /ecreases t#e stoc price) "#e correct ans&er is (a)) 0 "=5 1 >) Ans&er : (') 7eason : "o impro.e t#e current ratio 7e'el Furniture Company is e.aluating t#e $ollo&ing alternati.es: (i) 2sing some cas# to pay o$$ some long term an/ s#ort term lia'ilities J 6t &ill $urt#er /eteriorate t#e current ratio as t#e amount o$ current assets re/uce/ is more t#an t#e amount o$ current lia'ilities) (ii) 5urc#asing some a//itional ra& materials on cre/it an/ t#ere'y creating an a//itional accounts paya'le J Current assets an/ current lia'ilities increase 'y same amount an/ as t#e e+isting ratio is less t#an t#e one t#e increase in t#e 'ot# t#e components &ill impro.e t#e current ratio) (iii) 5aying o$$ some notes paya'le &it# cas# J Current assets an/ current lia'ilities &ill /ecrease 'y t#e same amount an/ as t#e e+isting ratio is less t#an one t#e /ecrease in 'ot# t#e components &ill $urt#er re/uce t#e current ratio) (i.) Selling $i+e/ assets $or cas# J "#is &ill /e$initely impro.e t#e current ratio) (.) Collect some accounts recei.a'le J "#e components o$ t#e current assets &ill c#ange 'ut t#is &ill not c#ange t#e current ratio) 0 "=5 1 Aence9 o$ t#e $i.e alternati.es9 ii an/ i. &ill impro.e t#e current ratio 'ut ii is least costly an/ t#e ans&er is (')) ?) Ans&er : (a) 7eason : "#e tra/ers in a $utures e+c#ange9 &#o ten/ to carry positions $or longer perio/s are no&n as Gposition tra/ers;) 0 "=5 1 B) Ans&er : (e) 7eason : 8aria'ility o$ returns o$ a port$olio is re/uce/ 'y a//ing securities to t#e port$olio) "#e re/uction &oul/ 'e more i$ t#e securities #a.e negati.e correlation) Aence9 all t#e t#ree statements are true an/ t#e ans&er is (e)) 0 "=5 1 C) Ans&er : (a) 7eason : 4onger t#e term to maturity9 #ig#er &ill 'e t#e price c#ange) =$ t#e 20(year Dero coupon 'on/ an/ 10(year Dero coupon 'on/9 price c#ange is #ig# in case o$ 20 year 'on/) Smaller t#e coupon rates #ig#er are t#e price c#ange &it# a c#ange in K"M) Aence9 o$ (a)9 (c) an/ (/)9 t#e c#ange in price is #ig#er in case o$ (a)) 0 "=5 1 10) Ans&er : (a) 7eason : 6$ t#e e+pecte/ 53* e+cee/s t#e current 53*9 t#e stoc is sai/ to 'e currently o.erprice/ an/ it is time to sell t#e stoc) Aence9 only 6 is correct) 0 "=5 1 11) Ans&er : (/) 7eason : ,#en <58 is positi.e 9t#e 6nternal rate o$ return is greater t#an t#e cost o$ capital an 'ene$it cost ratio is greater t#an 1) Aence option (/) is correct) ,#en <58 is positi.e 677 cannot 'e e%ual to cost o$ capital) An/ <BC7 is not greater t#an 1)cost o$ capital is not greater t#an 677) "#ere$ore option (a)9 (')9(c)an/ (e) are incorrect) 0 "=5 1 12) Ans&er : (a) 7eason : S5< is a in/ o$ non(con.erti'le /e'enture &it# an attac#e/ &arrant) 6t is neit#er a con.erti'le or partly con.erti'le /e'enture nor any option can 'e attac#e/ to it) "#e &arrants attac#e/ to t#e S5< /oes not gi.es #ol/ers t#e rig#t $or t#e pre$erence s#ares) 6t is also not an e+ample o$ participating pre$erence s#ares) "#ere$ore only option (a) is correct) 7est is incorrect) 0 "=5 1 13) Ans&er : (') 7eason : 5ri.ate placement o$ securities in.ol.es selling out a signi$icant portion o$ securities to an in.estor or a group o$ in.estor an/ 6t in.ol.es $e&er proce/ural /i$$iculties) 6t ena'les t#e companies to #a.e $aster access to $un/s) 5ri.ate placement is not restricte/ to e%uity only it can 'e $or any ot#er in/ o$ securities) But pri.ate placements are not ma/e &it# a .ie& to mae pu'lic issue) Aence ' is t#e ans&er) 0 "=5 1 1:) Ans&er : (/) 7eason : Agency cost are cost on account o$ restriction impose/ 'y cre/itors on t#e $irm in t#e $orm o$ some protecti.e co.enants) Commission paya'le 'y t#e company to its purc#asing an/ selling agents9 t#e e+penses incurre/ in /istri'ution o$ t#e pro/ucts o$ t#e company9 or t#e /i.i/en/s pai/ 'y t#e company /oes not come un/er t#e agency cost) 0 "=5 1 15) Ans&er : (') 7eason : 6n.esting all cas# in s#ares &oul/ 'e more risier) 5ostpone o$ loan repayment an/ maing less cas# sales is also /angerous) "#e $irm s#oul/ eit#er maintain a/e%uate cas# 'alance or #a.e an o.er/ra$t arrangement &it# a 'an) "#e $irm s#oul/ not eep #uge cas# 'alance as i/le) 0 "=5 1 1>) Ans&er : (') 7eason : 5roHect B &ill gi.e t#e ma+imum a/.antages to t#e $irm &#ic# #as a <et 'e$it cost ratio is less t#an 1 'ut more t#an Dero) So proHect GB; s#oul/ 'e selecte/) "#e 677 o$ t#e proHect s#oul/ 'e #ig#er t#an t#e cost o$ capital) 5roHect GC; is opposite to t#at) So it s#oul/ not 'e selecte/) 5roHect GA; #as a positi.e 677) 6t is not clear &#et#er it is more t#an or less t#an t#e cost o$ capital o$ t#e proHect) So it s#oul/ not 'e selecte/) For t#e selection annual capital c#arge s#oul/ 'e lo&est9 'ut in case o$ proHect G@; it is #ig#est 0 "=5 1 compare/ to ot#er pro/ucts) So it s#oul/ not 'e selecte/) Aence option G'; is correct) 1?) Ans&er : (') 7eason : 6ncrease in t#e a.erage collection perio/9 increase in t#e $inis#e/ goo/s storage perio/9 increase in t#e ra& materials storage perio/ an/ increase in t#e &or(in process perio/ all result in increasing t#e operating cycle o$ t#e $irm) =nly increase in t#e a.erage payment perio/ /ecreases t#e net operating cycle o$ t#e $irm) Aence option (') is correct) 0 "=5 1 1B) Ans&er : (e) 7eason : 6n t#e realiDe/ yiel/ approac# one o$ t#e implicit assumptions is t#at t#e e%uity s#are#ol/ers &ill continue to e+pect t#e same returns $rom t#e s#are as in t#e past) Aence option (e) is t#e correct ans&er) 0 "=5 1 1C) Ans&er : (a) 7eason : Spontaneous lia'ilities generally occur /uring t#e normal course o$ 'usiness operations &#ere a company &ill usually #a.e a rea/y access to certain sources $or $inancing its current assets) But a company is re%uire/ to tae proper initiati.e $or t#e sources o$ $inance as mentione/ in t#e ot#er options to $inance its current assets) 0 "=5 1 20) Ans&er : (') 7eason : 6n aggressi.e approac# company generally su'Hecte/ to #ig#er /egree o$ ris t#an t#e company $ollo&ing conser.ati.e approac#) Aence option (') is correct) "#e turno.er o$ current asset &ill 'e #ig#) "#e current assets un/er t#is approac# is generally not $inance/ 'y long term sources) "#e in.estment in current assets $or a gi.en le.el o$ sales $orecast is not #ig#) 0 "=5 1 21) Ans&er : (') 7eason : Category GA; items are t#ose &#ic# #a.e t#e #ig#est rupee in.estment) 6t /oes not necessary t#at per unit cost un/er category GA; item s#oul/ 'e .ery costly or .ery c#eap) 6t is also not necessary t#at category GA; items s#oul/ least count in terms o$ num'ers) Aence option (') is t#e correct ans&er) 0 "=5 1 22) Ans&er : (c) 7eason : A.erage stoc o$ $inis#e/ goo/s F F 7s)29>>9000 Cost o$ sales F =pening stoc o$ $inis#e/ goo/s L Cost o$ pro/uction L Selling a/ministration o$ $inancial e+pen/iture L Custom an/ *+cise /uly J Closing stoc o$ limite/ goo/s) F 29B29000 L 591>B00 L 29C50 L 59000 J 29509000 F 7s)595>9?50 @aily cost o$ sales F F 15:>)52 "#e $inis#e/ goo/s storage perio/ F F F 1?2 /ays) 7s)29B29 000 29 509 000 2 L 595>9?50 3>0 A.erage stoc o$ $inis#e/ goo/s @aily cos t o$ sales 29 >>9 000 15:>)52 0 "=5 1 23) Ans&er : (') 7eason : "#eoretical .alue o$ rig#t F =r 2 F =r 2< L 2 F22 o 5 S < 1 O L :B 2> < 1 O L 0 "=5 1 =r 2< F 20 < F 10 2:) Ans&er : (') 7eason : =perating e+posure is a result o$ economic conse%uences rat#er t#an accounting conse%uences o$ e+c#ange rate mo.ements on t#e .alue o$ a $irm) 0 "=5 1 25) Ans&er : (e) 7eason : An optimal capital structure can satis$y t#e return e+pectations o$ t#e stae#ol/ers at a lo&er cost t#at &ill result in s#are price o$ t#e company to a #ealt#ier one) 6t is a $inancing /ecision) ,#ile t#e cases mentione/ in t#e ot#er alternati.es are t#e in.estment /ecisions as t#ese may 'ring return to t#e company o.er a perio/ o$ time) 0 "=5 1 2>) Ans&er : (e) 7eason : 6$ a security;s return plots a'o.e t#e security maret line (SM4) t#en t#e return on t#e security is more t#an t#e re%uire/ rate o$ return on t#e security accor/ing to t#e SM4) A greater return means a lesser price o$ t#e security t#an its intrinsic .alue t#at implies t#e security is un/er price/ an/ #ence t#at s#oul/ 'e 'oug#t imme/iately to 'oo pro$it in $uture as its price increases) 0 "=5 1 2?) Ans&er : (/) 7eason : Commercial papers are issue/ $or a perio/ o$ 15 /ays to one year 'y t#e repute/ companies to $inance t#eir &oring capital re%uirements) *%uity capital an/ reser.es an/ surplus are perpetual capital &it# an in$inite maturity perio/ &#ile pre$erence s#ares an/ /e'entures are generally issue/ $or a long term) Aence9 (/) is t#e ans&er) 0 "=5 1 2B) Ans&er : (') 7eason : 5ast an/ present consumption tren/s9 5rice an/ cross(elasticity o$ /eman/ an/ pro/uction constraints are t#e issues to 'e consi/ere/ maret aspects o$ proHect appraisal) 6mpact o$ t#e proHect on t#e /istri'ution o$ income in t#e society is issue to 'e consi/ere/ un/er economic aspects o$ proHect appraisal) A.aila'ility o$ t#e re%uire/ %uality an/ %uantity o$ ra& materials an/ ot#er inputs is t#e issue relating tec#nical aspects o$ proHect appraisal) Aence alternati.e (') is t#e ans&er) 0 "=5 1 2C) Ans&er : (/) 7eason : 5resent .alue $actor $or a perpetual annuity F ) Aence it /ecreases &it# an increase in t#e interest rate) Aence (/) is t#e correct option) Future 8alue 6nterest Factor F ) Aence it increases &it# increase in t#e interest rate) Future 8alue 6nterest Factor For Annuity (F86FA) F ) F86FA also increases &it# increase in t#e interest rate) Capital 7eco.ery Factor F ) 6t is t#e in.erse o$ 586FA9 &#ic# /ecreases &it# increase in interest rate) "#ere$ore9 Capital 7eco.ery Factor increases &it# increase in t#e interest rate) 6n.erse o$ 586FA is capital reco.ery $actor9 &#ic# increases &it# increase in t#e interest rate) Aence9 options (a)9 (')9 (c) an/ (e) are incorrect) 1 i (1L i)n (1 i)n 1 i L O n n i(1 i) (1 i) 1 L L O 0 "=5 1 30) Ans&er : (/) 7eason : "#e assumptions o$ t#e economic or/er %uantities are as $ollo&s: 0 "=5 1 ! Constant or uni$orm /eman/ o$ t#e pro/uct t#roug#out t#e year ! Constant unit price o$ t#e ra& material ! Constant carrying cost o$ t#e material ! Constant or/ering cost ! 6nstantaneous /eli.ery o$ t#e materials) ! Aence9 t#e option (/) is t#e correct c#oice) Section B : 5ro'lems 1) a) *+pecte/ rate o$ return $rom t#e s#are F Ppii F 1B)?5 (0)30) L 12)5 (0):0) L >)25 (0)30) F 12)5M 7is $or t#e s#are F F Q(1B)?5 J 12)50)2 (0)30) L (12)50 J 12)50)2 (0):0) L (>)25 J 12)50)2 (0)30)R132 F Q11)?1C L 0 L 11)?1CR132 F :)B:M ') *+pecte/ return $rom t#e maret F Ppim F 15 (0)30) L 12 (0):0) L B (0)30) F 11)?0M 7is $or t#e maret9 Sm F QPpi (m ( )2R132 F Q(15 J 11)?0)2 (0)30) L (12 J 11)?0)2 (0):0) L (B J 11)?0)2 (0)30)R132 F Q3)2>? L 0)03> L :)10?R132 F (?):1)132 F 2)?2M) 0 "=5 1 2) a) *conomic or/er %uality (*=N) F 2sage (2) /uring t#e planning perio/: 2sage in t#e last %uarter F =pening 'alance L "otal receipts J closing 'alance F 5:9000 L (>39000 L ?29000 L B19000) J C09000 F 7s)1B09000) 2sage in t#e last %uarter (in units) F F 109000 units 2sage (2) in t#e planning perio/ o$ ne+t si+ mont#s F 109000 T 2 F 209000 units Fi+e/ cost per or/er9 F F 7s)C00 (gi.en) 2nit price 5 F 7s)1B (gi.en) Carrying cost $or t#e entire year F 25M Carrying cost $or t#e planning perio/ o$ si+ mont#s9 C F F 12)5M *conomic or/er %uantity (*=N) F F :9000 units Scenario =ptimistic <ormal 5essimistic 5roHecte/ rate o$ return F 1 5 @ 5 0 1 1 O L F 0)1B?5 1 C> 110 : L O F 0)125 1 C> 105 3 L O F 0)0>25 1 C> CC 3 L O i)e)9 1B)?5M i)e)9 12)5M >)25M 5ro'a'ility 0)30 0):0 0)30 Q 2 R13 2 Ppi (i O ) m 5)C 2F2 1B 1B09000 2 25 1B (0)125) 2TC00T 209000 ') 4et t#e *=N 'e /enote/ as NU an/ let t#e minimum re%uire/ or/er siDe $or getting t#e /iscount 'e /enote/ ) <et incremental 'ene$it9 VW F 2@ L F ( NU F :000 units ($rom a'o.e) F >000 units (gi.en) @iscount per unit9 @ F 5rice per unit T 5ercentage o$ /iscount F F 7e) 0):5 @iscount earne/ o.er t#e entire planning perio/ F 2@ F 209000 T 0):5 F 7s)C9000 Sa.ings in or/ering cost F F F F 7s)1500 6ncrease in carrying cost F F F 7s)20B1)25 <et incremental 'ene$it9 VW F C9000 L 19500 J 20B1)25 F 7s)B:1B)?5 (gain) "#us &e $in/ t#at t#ere is a gain o$ 7s)B:1B)?5) Aence t#e optimal or/er siDe s#oul/ 'e >9000 units) 0 "=5 1 3) 8alue o$ t#e $irm &#en /i.i/en/s are pai/: 4et : 5rice per s#are a$ter one year F 51 5rice per s#are no& F 50 @i.i/en/ per s#are a$ter 1 year F @1 50 F &#ere G; is t#e e%uity capitaliDation rate) =r 200 F =r 51 F 1)12 T 200 J > F 7s)21B Since /i.i/en/s &ill 'e pai/ t#e company &ill #a.e to issue ne& s#ares in or/er to raise t#e amount o$ $un/s use/ in paying /i.i/en/s) 4et n1 an/ 51 'e t#e num'ers o$ s#are to 'e issue/ a$ter one year an/ 51 'e t#e price per s#are a$ter 1 year respecti.ely) Amount to 'e raise/: n151 F 6n.estment J (*arnings J @i.i/en/s pai/) F 109009000 J (?9009000 J 509000 T >) F 7s)>9009000
fm f X O N 2 NU 2
fm O f X O 2 NU)5C 2 N (5 @)C NX 100 1B (2)5)
fm f X O N 2 NU 2 )C00 >9000 209000 :9000 209000
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fm O f X O 2 NU)5C 2 N (5 @)C ( ) 2 (:9000) (1B) (0)125) 2 (>9000) (1B 0):5) 0)125 O O 1 1 @ 5 1 L L 1 > 5 1)12 L
<um'er o$ ne& s#ares to 'e issue/ (n1) F 8alue o$ t#e $irm F F F 7s)19009009000) ,#ere9 n F <um'er o$ s#ares outstan/ing no&) 8alue o$ t#e $irm &#en /i.i/en/s are not pai/: 5rice per s#are at t#e en/ o$ year 1: 50 F 200 F 51 F 200 T 1)12 F 7s)22: Amount to 'e raise/ $rom t#e issue o$ ne& s#ares) n151 F 109009000 J ?9009000 F 7s)39009000 <um'er o$ ne& s#ares to 'e issue/ (n1)F F 8alue o$ t#e $irm F F F 7s)19009009000 (&#ere Gn; is t#e num'er o$ s#ares outstan/ing no&) From a'o.e &e see t#at .alue o$ t#e $irm remains t#e same 'ot# in t#e cases &#en /i.i/en/s are pai/ an/ /i.i/en/s are not pai/) "#ere$ore it is pro.e/ t#at MM mo/el on /i.i/en/ policy #ol/s goo/) 0 "=5 1 :) Cost o$ #ouse F 7s)B9009000 Financing 'y MAF4: 4et t#e interest rate per mont# 'e Gr; <um'er o$ mont#s $or &#ic# payments #a.e to 'e ma/e to MAF4 F ? T 12 F B: Amount paya'le at t#e en/ o$ e.ery mont# to MAF4 F 7s)1B9500 B9009000 F 1B9500 586FA(r9 B:) or 586FA F F :3)2:3 For9 r F 1)?M9 586FA F F ::)5:B >9 009 000 21B 1 1 e (n n ) 5 6 * 1 L OL L >9 009 000 509 000 21B (109 009 000 ?9 009 000) 21B 1)12 L O O f c fm[[ 1 39 009 000 5 39 009 000 22: 1 1 e (n n ) 5 6 * (1 ) L OL L 39 009000 509 000 22: (109 009 000 ?9 009000) 22: 1)12 L O O f f f mf 1B500 B00000 B: B: 0)01?(1)01?) (1)01?) O1 For9 r F 1)BM9 586FA F F :3)1:1 r F F 1)?C3M *$$ecti.e interest rate F (1 L r)12 J 1 F (1)01?C3)12 J 1 F 23)??M p)a) (appro+)) Financing 'y <FC4 an/ relati.e o$ Mr) 5ras#ant : 4et t#e interest rate 'e Gr;) Amount o$ $inance $rom <FC4 F B9009000 T 0)C0 F 7s)?9209000 Amount o$ $inance $rom relati.e F 7s)B09000 "otal amount o$ $inancing F 7s)?9209000 L 7s)B09000 F 7s)B9009000 Amount paya'le at t#e en/ o$ e.ery mont# to <FC4 F 7s)129B00 <um'er o$ mont#s $or &#ic# payments #a.e to 'e ma/e to <FC4 F B T 12 F C> mont#s Amount paya'le to relati.e : At t#e en/ o$ one year (i)e) 12 mont#s) F 7s):09000 At t#e en/ o$ t&o years (i)e) 2: mont#s) F 7s)509000 B9009000 F 129B00 586FA (r9 C>) L 4et r F 1)2M9 7AS F 12B00 T F 12B00 T 5>)B1B L 3:>>5)2 L 3?552): F 7s)?9CC9:BB r F 1)1M 7AS F 12B00 T F 12B00 T 5C)10: L 350?B)C L 3B:5:)1 F 7s)B300>:)2 r F 1)1 L T (B00000 J B300>:)2) F 1)1CBM *$$ecti.e interest rate per annum F (1 L r)12 J 1 F (1)011CB)12 J 1 F 0)153> i)e) 15)3>M) ,e $in/ $rom a'o.e t#at i$ Mr) 5ras#ant 'orro&s C0M o$ t#e cost o$ t#e #ouse $rom <FC4 an/ 'orro&s t#e remaining amount $rom #is relati.e #e $aces a lesser e$$ecti.e rate o$ interest (15)3>M per annum ) t#an t#e e$$ecti.e rate o$ interest (23)??M per annum)#e $aces i$ #e 'orro&s 100M o$ t#e cost o$ t#e #ouse $rom MAF4) Aence #e s#oul/ 'orro& C0M o$ t#e cost o$ t#e #ouse $rom <FC4 an/ t#e remaining amount $rom #is relati.e) 0 "=5 1 5) Supplier: *astern *ngineering 4t/) (**4) Cost o$ t#e mac#ine F 7s)B9009000 Annual cost o$ operation F 7s)19>09000 "#e present .alue o$ t#e annual cost o$ operation F 7s) 19>09000 T 586FA (15M9 5) F 7s) 19>09000 T 3)352 F 7s) 593>9320 Aence t#e present .alue o$ costs F 7s) B9009000 L 593>9320 F 7s)1393>9320 "#e annual capital c#arge &ill 'e F 7s) B: B: 0)01B(1)01B) (1)01B) O1 (:3)2:3 ::)5:B) (:3)1:1 ::)5:B) (1)B 1)?) 1)? T O O O L 12 (1 r)2: 509000 (1 r) :09000 L L L C> 12 2: C> (1)012) 50000 (1)012) :0000 0)012(1)012) (1)012) 1 L L O C> 12 2: C> (1)011) 50000 (1)011) :0000 0)011(1)011) (1)011) 1 L L O (?CC:BB B300>:)2) (1)2 1)1) O O 1393>9320 586FA(15M95) F F 7s)39CB9>>3 (appro+) Supplier : ,estern *ngineering 4t/) (,*4) Cost o$ t#e mac#ine F 7s)129009000 Annual cost o$ operation F 7s) 19209000 "#e present .alue o$ t#e annual cost o$ operation F 7s) 19209000 T 586FA (15M9 Byears) F 7s)19209000 T :):B? F 7s)593B9::0 Aence9 t#e present .alue o$ cost F 7s) 129009000 L 7s) 593B9::0 F 7s)1?93B9::0 "#e annual capital c#arge &ill 'e F F Supplier: Sout#ern 6n/ustries 4t/) (S64) Cost o$ t#e mac#ine F 7s) 1B9009000 Annual cost o$ operation F 7s)19009000 "#e present .alue o$ t#e annual cost o$ operations F 19009000 T 586FA (15M910) F19009000 T 5)01C F 7s) 59019C00 Aence9 t#e present .alue o$ Costs F 1B9009000 L 59019C00 F 239019C00 "#e annual capital c#arge F F "#e annual capital c#arge is least $or t#e lat#e mac#ine manu$acture/ 'y ,*4) Aence lat#e mac#ine manu$acture/ 'y ,*4 s#oul/ 'e selecte/) 0 "=5 1 Section C: Applie/ "#eory >) "#e riss &#ic# arise out o$ /i$$erent sources an/ a$$ect in.estments in securities an/ port$olios are gi.en 'elo&: 6nterest 7ate 7is 6nterest rate ris is t#e .aria'ility in a securityYs return resulting $rom c#anges in t#e le.el o$ interest rates) =t#er t#ings 'eing e%ual9 security prices mo.e in.ersely to interest rates) "#is ris a$$ects 'on/#ol/ers more /irectly t#an e%uity in.estors) Maret 7is Maret ris re$ers to t#e .aria'ility o$ returns /ue to $luctuations in t#e securities maret) All securities are e+pose/ to maret ris 'ut e%uity s#ares get t#e most a$$ecte/) "#is ris inclu/es a &i/e range o$ $actors e+ogenous to securities t#emsel.es lie /epressions9 &ars9 politics9 etc) 6n$lation 7is ,it# rise in in$lation t#ere is re/uction o$ purc#asing po&er9 #ence t#is is also re$erre/ to as purc#asing po&er ris an/ a$$ects all securities) "#is ris is also /irectly relate/ to interest rate ris9 as interest rates go up &it# in$lation) Business 7is "#is re$ers to t#e ris o$ /oing 'usiness in a particular in/ustry or en.ironment an/ it gets trans$erre/ to t#e in.estors &#o in.est in t#e 'usiness or company) Financial 7is Financial ris arises &#en companies resort to $inancial le.erage or t#e use o$ /e't $inancing) "#e more t#e company resorts to /e't $inancing9 t#e greater is t#e $inancial ris) 4i%ui/ity 7is "#is ris is associate/ &it# t#e secon/ary maret &#ic# t#e particular security is tra/e/ in) A security &#ic# can 'e 'oug#t or sol/ %uicly &it#out signi$icant price concession is consi/ere/ li%ui/) "#e greater t#e uncertainty a'out t#e time element an/ t#e price concession9 t#e greater t#e li%ui/ity ris) Securities &#ic# #a.e rea/y marets lie treasury 'ills #a.e lesser li%ui/ity risc) 0 "=5 1 ?) =.er(tra/ing an/ 2n/er(tra/ing 1393>9320 3)352 1?93B9 ::0 586FA(15M9B) 7s)1?93B9::0 7s)39B?9 :3C(appro+) :):B? F 239019C00 586FA(15M910) 7s)239019C00 7s):95B9>3?(appro+) 5)01C F =.er(tra/ing: =.ertra/ing is a situation &#ic# is t#e opposite o$ un/er(tra/ing) "#e symptoms o$ o.er(tra/ing can 'e notice/ $rom t#e /isproportionately #ig# turno.er o$ assets compare/ to t#e .olume o$ sales) 6n t#e conte+t o$ &oring capital o.er(tra/ing can 'e notice/ $rom #ig# turno.er o$ current assets compare/ to similar companies) ,#ile increase in t#e turno.er o$ current assets is generally consi/ere/ to 'e a .irtue9 /isproportionately #ig# turno.er is in/icati.e o$ less amount o$ cas# in.este/ in current assets &#ic# can create pro'lems o$ li%ui/ity at t#e time o$ maing payments $or current o'ligations) "#e pro'lem o$ o.er( tra/ing can 'e restate/ as one o$ un/ercapitaliDation) 5recautionary measures $or o.er(tra/ing can 'e taen 'y initially re/ucing t#e sales to a le.el commensurate &it# t#e amount o$ assets an/ a $inal solution lies in increasing t#e asset 'ase t#roug# a//itional $inances raise/ t#roug# t#e issuance o$ s#ares an/3or o'taining loan $un/s) 2n/er(tra/ing: A situation o$ un/er(tra/ing arises in a company &#en t#e .olume o$ sales is muc# less t#an t#e amount o$ assets employe/) "#is 'ecomes apparent &#en t#e per$ormance o$ t#e company is compare/ against similar companies) 2n/er(tra/ing also in/icates t#at $un/s o$ t#e company are loce/ up in current assets resulting in a lo&er turno.er o$ &oring capital) Anot#er &ay o$ stating un/er(tra/ing is t#at a company is o.er capitalise/ compare/ to t#e .olume o$ sales) As t#is &oul/ result in lo&er turno.er9 t#e company #as to tae precautionary measures suc# as altering capital structure so t#at t#e /e't(e%uity ratio comes /o&n9 #astening t#e collection process9 re/ucing t#e le.els o$ in.entory to reasona'le le.els compare/ to t#e sales $orecast an/ pro/uction plans) 2nless t#ese measures are taen9 t#e rate o$ return on e%uity is liely to come /o&n as a result o$ &#ic# t#e maret price o$ t#e company can 'e a/.ersely a$$ecte/) 2nless a company taes precautionary measures once it o'ser.es symptoms o$ o.er or un/er(tra/ing9 it may run into serious &oring capital pro'lems as outline/ a'o.e) 0 "=5 1 B) Signi$icance o$ collection program in t#e management o$ recei.a'les "#e collection e$$ort o$ a company is /eci/e/ 'y t#e collection policy9 &#ic# is a part o$ t#e o.erall cre/it policy o$ t#e company) "#e o'Hecti.e o$ collection policy is to ac#ie.e timely collection o$ recei.a'les9 t#ere'y releasing $un/s loce/ up in recei.a'les $or a longer perio/ t#an t#ey s#oul/ #a.e 'een un/er t#e cre/it terms an/ to minimiDe 'a/ /e't losses) "#e collection program consists o$ t#e $ollo&ing: ! Monitoring t#e state o$ recei.a'lesZ ! @espatc# o$ letters to customers &#ose /ue /ate is approac#ing ! "elegrap#ic an/ telep#onic a/.ice to customers aroun/ t#e /ue /ate ! "#reat o$ legal action to o.er/ue accounts ! 4egal action against o.er/ue accounts) ,#ile $ormulating t#e collection policy a company s#oul/ recon &it# t#e $actor t#at a .ery rigorous collection policy may act as an irritant to customers9 t#ere'y Heopar/iDing t#e goo/ customer relations 'uilt o.er t#e years) Furt#er9 t#e sales o$ t#e company may /ecline as customers &it# some o.er/ues may $ear to place $urt#er or/ers) Ao&e.er9 t#e amount o$ recei.a'les an/ 'a/ /e't losses &ill re/uce to a certain e+tent as t#e company increases t#e collection e+pense associate/ &it# collection programs) "#e general pattern o$ t#e relations#ip 'et&een collection e+penses incurre/ an/ 'a/ /e't losses &ill 'e suc# t#at initial increase may not #a.e percepti'le impact &#ile su'se%uent amounts up to a certain le.el &ill #a.e a pronounce/ impact in re/ucing 'a/ /e't losses) "#is is /epicte/ in t#e $orm o$ a grap# 'elo&) "#e amount o$ e+penses incurre/ 'eyon/ t#e saturation point are liely to #a.e .ery little impact on 'a/ /e't losses) Figure 1 : Be#a.ior o$ 'a/ /e't losses3collection e+penses Similarly9 /eli'erate la+ity on t#e part o$ t#e company in t#e rigor o$ collection e$$ort is liely to increase sales9 increase a.erage collection perio/9 increase 'a/ /e't losses an/ to some e+tent re/uce collection e+penses) =nce again9 t#e incremental $inancial 'ene$its in t#e $orm o$ t#e cost o$ $un/s release/ 'y a re/uction in t#e le.el o$ recei.a'les an/ t#e re/uction in 'a/ /e't losses #a.e to 'e compare/ &it# t#e incremental costs associate/ &it# a//itional collection e+penses an/ policy c#ange is &arrante/ only &#en t#e incremental net 'ene$its are positi.e)