Assignment

M.COM SEMESTER-II
Advanced Financial Management and Policy
Code : MCCC 204
UPC 324101204

M.M. : 100

Attempt any two questions in all.

All questions carry equal marks.

Q1. ‘The profit maximization is not an operationally feasible criterion of financial decision
making.’ Do you agree? Illustrate your views.

Further,
A ball pen manufacturer currently produces 500,000 units of ball pens in a year and
expects output levels to remain steady in the future. It buys its ink cartridge from an
outside supplier at a price of Rs.3per unit. The plant manager believes that it would be
cheaper to make these ink cartridges rather than buy them. Direct in-house production
costs are estimated to be only Rs.2.50 per cartridge. The necessary machinery would
cost Rs.5,00,000 and would be obsolete after 10 years. This investment could be
depreciated to zero for tax purposes using a 10-year straight-line depreciation schedule.
The plant manager estimates that the operation would require Rs.1,00,000 of inventory
and other working capital upfront (year 0), but argues that this sum can be ignored since
it is recoverable at the end of the 10 years. Expected proceeds from scrapping the
machinery after 10 years are Rs.50,000. If the company pays tax at a rate of 40% and
the opportunity cost of capital is 15%, what is the net present value of the decision to
produce the cartridges in-house instead of purchasing them from the supplier? Also
calculate payback period and profitability index based on the information given above.

Q2. The capital structure of XYZ Ltd is given as under as on 31/03/2021:

12% Debentures Rs.10,00,000

15% Preference shares Rs.10,00,000
Equity shares (face value: Rs 10 per share) Rs.25,00,000
Retained Earnings Rs.5,00,000
Rs.50,00,000

Additional information:

(i) Rs.100 per debenture redeemable at par has Rs.3 floatation cost and maturity of
10 years. The market price per debenture is Rs.110.
(ii) Rs.100 per preference share redeemable at par has Rs.2 floatation cost and 10
years of maturity. The market price per preference share is Rs.105.
(iii) Equity share has Rs.4 floatation cost and market price per share of Rs.25. The
company has paid the following dividend in the last five years
 Year ending Dividend
31/03/2017 Rs.2,
31/03/2018 Rs.2.20
31/03/2019 Rs.2.5
31/03/2020 Rs. 3
31/03/2021 Rs.3.25
(iv) Corporate tax rate applicable is 30%.
Calculate Weighted Average Cost of Capital (WACC) using:

a) book value weights, and

b) Market value weights.

Q3. Big Ltd is planning to acquire Small Ltd. The following are the financial data of the
two companies

Big Ltd. Small Ltd.

Profit After Tax (PAT) Rs.80,000 Rs.16,000
Number of equity shares 20,000 8,000
EPS Rs.4 Rs.2
Market Price per share Rs.80 Rs.20
The acquisition is expected to bring an economic advantage in the form of 25% increase
in PAT. It has been agreed the share exchange ration will be based in the proportion of
their market prices. You are required to calculate the following

i. The number of new shares to be issued by Big Ltd to the shareholders of Small
Ltd.
ii. The value firm post- merger, if the price -earning ratio of Big Ltd remains the
same at its pre-merger level.
iii. The economic gains/losses accruing to shareholders on both Big Ltd. and Small
Ltd.
iv. The minimum share exchange ratio acceptable to shareholders of Small Ltd.
v. The maximum share exchange ratio acceptable to shareholders of Big Ltd.
vi. The maximum number of shares that can be exchanged without diluting the EPS.

Q4. A company currently has an annual sales of Rs.60,00,000 with a gross profit ratio of
30%, fixed cost Rs.5,00,000 and average collection period of 30 days. The current level
of bad debts is 1% of the total sales. The company is receiving the requests to follow
more liberal policies. The following details have been collected by the company
regarding increase in sales and bad-debts cost.

Credit Increase in Increase in sales Bad-debts as %

policy credit period (Rs.) from current of total sales
(days) sales
A 10 3,00,000 1.2
B 15 4,25,000 1.4
C 30 5,00,000 1.7
D 45 6,00,000 2.3
If the applicable tax rate is 30% and expected return on investment is 10% would you
suggest a change from the current level? If yes, which plan should be the preferred
plan? Assume 360 days in a year for your calculations.