PREFACE To all readers, Tam proud to present this Book along with Team Expert. I have spent time writing this with a student perspective in mind. Each chapter has broken down core concepts and expanded on them with diagrams and tables, as and whien possible, It is my goal to help each and every folder of this book to be able to fight against the ods and win. Victory presents itself with the backing of knowledge, practice and expertise. This book provides a valuable window on the subject and covers the necessary components chapter By chapter. The challenges in this subject are Goth difficult and interesting. People are working on them with enthusiasm, tenacity, and dedication to develop new methods of analysis and provide new solutions to Keep up with the ever-changing threats. In this new age of global interconnectivity and interdependence, it is necessary to stay relevant, for both professionals and students, This book is a good step in that direction and would not have been possible without my team, my colleagues, my students and everyone that fias supported me in my journey as a CA professional. For any feedback or questions based on the material covered within the book, please fee fre to contact me-via email, (CA Prashant Sarda © caprashantsarda@gmail.com 8007766008About the Author: FIRST in Nanded district and 10" in LATUR Board in XI commerce 45 AIR 11 at CA Foundation level #5 “The Best Paper Award” for Economics at CA Foundation level # Recipient of ‘Dhirubhai Ambani Scholarship “for 3 years 4 15+ years of teaching experience Special Thanks Rohini Bhosure, Divya Gandhi Ria Shah Designed By : Jasmin Tamboli & Mayur DhanwaniCAPITAL STRUCTURE festa re MANAGEMENT OF WORKING CAPITAL CAPITAL BUDGETINGCongratulations to Stars of CA, Prashant Sarda's Intermediate FM: Rekha Sutar ~ All India 1* Ranker > Abhijeet Mutha — All India 14" Ranker >Purva Katariya — Alll India 17" Ranker Harsha Bhattad- All India 23" Ranker » Ameya Vaze- 92 Marks > Atul Pandit- 90 Marks >Mayuri Katare-89 Marks » Shipchandler Khuzema- 89 Marks >Purva Darda- All India 32” Ranker >Madhu Hiremath ~ All India 32% Ranker >Harshada Bhatawdekar ~ Alll India 38” Ranker >Sumit Agrawal — All India 38” Ranker >Shraddha Somani ~ Alll India 39" Ranker > Juhi Munot ~ All India 39” Ranker >Kedar Kale ~ All India 49 Ranker > Tamanna Mali- 87 Marks Renu Mulay - 85 Marks >Naman Oswal - 85 marks > Akash Mehta — 84 Marks >Tanveer Kaur- 82 Marks > Aditya Mehta- 81 Marks > Ameya Limaye- 81 Marks >Hrishikesh Chauvan- 80 Marks > Gurpreet Singh — All India 23 Ranker >& many more... > Devashish Kannawar — All India 49" Ranker[Feo wan asrccrs or rimanciat wanacement Etfectve Utlzation af Funds ‘CA Prashant Sarda Long term objective Short term objective Maximizing profits of firm Pentel © Lene“ hue fA" keeneALC uy Cen) Sonne) does not consider the affect of future Itrecognses effete ofall future cash cash flows, dividend decisions, EPS ete low, dividends, EPS ete prot 28 Afi with wealth maximisation objective may pay regular dividends tolte Sharonaters 1ognses time pattern of return oc on shor dine Focus on Masham Long Tr Ssmaamenemnonbmrcoasts ope ae recognises he riokroun Retort, | Is comparatively easy o determine he offers no lear r specie relationship tar Sanna Nes att taatonanp betean fal Tetveon trancisdeesion and Sect memete cee rtrs decision and profits. ‘share market price. Ess Cae ee dos Lads to systematics decisions using the Toso ura tools and techniques of capital budgeting, (@) postponing repacement expenditure Risk Return Trade-off, Leverage Effet ot, Fee ‘Thr or varus foun the pic othe red see eran te snp 9. fw ote labore, heh tobe Hanapedby on rparaaien an acontmuns be es, the Fisher dc agar hohe nse ond fib co eew et nearer alt of : ath rd rotor wi pute he fem alte above oar are rt sl monogram reste usten wou ane nara ase 0 pon ce caus aa fry enasenue et al ‘rem sbigton Stuer lang paral fray ave sat ve many ne pi ue thn ma peer shan eerie trav the sation, fers be se oats and ay become alert hsouaney bay rs aly fae to peywato dabs ond ar coon hana ate Join us - (G) iamprashantsarda| (J tme/caprashantsarda | @/@) carrashantsarda 2Cee comerinon © caprashantsarda@am: ‘As the name suggest, “worth of a rupee received today is different from the worth of a rupee to be received in future.” Reasons for time preference of money (Relevance of Time Value of Money) > Risk © Preference of present consumption “® Investment opportunities _-® Inflation varies Sa eres “ aie rian Rey os Grrr ncion ei ey join us - (G) iamprashantsarda| (J tme/caprashantsarda | € / @) carrashantsardaec Gz Operating Leverage or Degree ‘oF eperating Leverage (DOL) ‘Combined Leverage or Dagree of combined Leverage (O81) Taking advantage of both nant BT iree reonturerinenneny Cee king advantage of pm ro Pentel © Leni“ hur fA" keeneoan Cece) rooney Cee ‘CA Prashant Sarda CE CUCL DRACO ‘STANDPOINT FoR YOUR DESTINY (Se oT Fa Sonne a cs CA-G TE Carts | DOL = impacie of steal by FLT coast : CA GATE Test Series Prato een For Test Syllabus & Other Details Contact No. 7888066008 Email Id - info@cagate in . For Video Lectures, Pendrives & Test Series visit Follow us on : WWW.MYEDUNEEDS.COM Youu } Expert Academy, Office No. SB, 2nd Floor, Prestige Point, Bajirao Road, PUNE - 411002 CA PRASHANT SARDA Join us - (G) iamprashantsarda| (J tme/caprashantsarda | @P/@) carrashantsarda 5QD Rt a ty Caan oaetpie Comer Eee eGo CA Prashant Sarda TT - Nature of Industry (small / large scale) ‘¢ Capital structure as the name says, itis the structure of, capital chosen by a company. — Gestation period (Time required to settle the business) + Certainty of profits (more - debt & less - equity) ‘= It refers to the mix of sources from where the long term funds required in a business may be raised. + Quantum of Return on Investment (ROI to be compared to cost of funds) «= In other words, it refers to proportion of debt, preference — Lending policy of bank (liberal strict) capital and equity capital. + Monetary and fiscal policy of govt CAPITAL STRUCTURE ‘Moderate | Moderate | Notdiluted Structure Structure Highest | Lowest | Notailuted When cost of funds Wafer rom company to company. neal ite) te minimum and || appropriate capt structure more relevant. eam || Major feature Fees atzo || 1)Profitaitty 2)Flexibitty 3) Conservation maximum. 4) Solvency 5) Control join us - (Q) iamprashantsarda| €) t.melcaprashantsarda | €)/@ carrashantsarda 6‘CA Prashant Sarda een Peat bananas Renee Flexibility eeu) Ce Join us - (G) iamprashantsarda| (J t.meicaprashantsarda | @/@) carrashantsarda 7CAPITAL STRUCTURE ails} Soe Peery Pernt Petes ( (NI) approach ar ome |Miller (MM) approach TRADITIONAL THEORY 1) Kd ig always Hess than Ke 2) Kd and Ke vary with change im debt equity Cost of capital 2) Ke Is more steoper y and higher: ‘than increase inka x Debt / Equity Mix General Assumpti eran Neer Cee Cee 4) Only two sources of fund i.e, debt and equity 2) No change in total capital employed 3) Capital structure can be changed 4) No retained earnings 5) No losses 66) No change in fixed cost of operations 7) No taxes. 8) No difference in investors expectations Rane huaeo rnd Assumptions Diagram Steps © iamprashantsarda| J tmelcaprashantsarda | €)/@) carrashantsarda 8Assumptions: Diagram 4) Kis always less than Ke 2) Kd remains constant at ll cry Coe eee rae Steps Jt (Veer 2) EBT = EBIT Interest MODIGLIANI & MILLER APPROACH yea: Cepmr¥.4 3) Value of Fem (V) = 4) Value of Debt (0) 5)S=V-D 4) Markt captaliss value of firm a8 a whole without lving any importance to Gee {__,, Debt/Equity Mit 4) kis always less than Ke 2) Kd remains constant at all levels of debt-oquity mix 43)ke increases as debt content increases. {4) Market capitalises value of frm as a whole without any importance to debt-quity mix ‘5)Capital Market is perfect, investors are free to buy or sell securities, no transaction cost, investors can personally borrow without restrictions on ‘same terms as the firms do, 66) Same risk class classification -if2 firms have same capital employed and ‘same EBIT. < Cost of capital a Debt/ Equity Mix “this theory is a copy of NO! Approach ~Adaltionally it states ‘that {a} If2 firms belong to same risk class ie, thoir ‘capital employed is same ‘and their EBIT is also ‘same, then thelr market price per share should also be the same. (b) fat any moment, the market price per share is not same, arbitrage process will make it Fite © Lene “hue fA" heuer me)DIGLIANI & MILLER Neer FXO ON AU, 1) Value of levered company = Value of an unievered company oes PV of Interest Taxshield or, Vg=Vu+TB {i) Cost of Equity in a levered Financial Indifference company (Keg) = BEP Point Debt Kou + (eu Ka) aay y EDs eae ey —> tis cost of raising an additional rupee of capital. —P> The word marginal means Let the EBIT be for plan A and Plan B, additional. Lot the EBIT be" Plan A Plane > We compute cost of only (Ke Intrest)(1=1)-PD _ | (X-tnorost)(1-1) PO. __(K- Interest (1 -1)-PD additional / New capita. No. of equity shares ‘No. of equity share No. of equity shares © iamprashantsarda| J t.melcaprashantsarda | P/Q carrashantsarda 10,Itrefers to the idea that a company chooses how much debt financt how much equity finance to use by balancing the costs and benefits, Itprimarity deals withthe two concepts -cost of financial distross and agency costs. It states that there Is an advantage te financing with debt, the tax benefits of debt and there is @ cost of financing with debt, the costs of bankruptcy costs of debt and non-bankruptcy costs, financial distress smanding terms, bondholderistockholder like staff leaving, supplier's power struggle, etc), Marginal benefit of further increase In debt declines as debt increases, the marginal cost increases, $0 that afirm that is optimizing its ‘overall value will focus on this trade-off when choosing how much dé and equity to use for financing. ‘These disputes generally give birth to agency problems that in turn give rise to the agency costs 1ey costs may affect the capital structure ofa firm. There may be two types of conflicts -shareholders-manager conflict and fobt holders contlict. The: shareholder Pentel © Lene“ ure fA" keene [oery Cece) Co The introduction of a dynamic Trade- off theory of capital structure makes the predictions of this theory alot more accurate and thoughtful ofthat in practice, ree oma 20d on Asymmetic Information, whieh ‘fore tos stuation In which ferent parse have diferent information, Pecking order theory suagests that managers ‘may une various sources for rising of fan in ‘he Yllowing order = intemal = 4) Use internal financing first. 2) Issue debt next 23) Issue of now equity shares at last 14Cee Eee QD CHAPTER-4- COST OF CAPITAL fl en aaa Poe £ t Cost of Debt (k,) Cost of Preference Share (K,) ‘CA Prashant Sarda lrredeemabte Debt lredeamable Cost of External Equity Praterence hi (hah iseue of Eeuiny Cost of Retained eaming (Kr) Ke f + + Keats Ke (tp) Rao Kena aemiahes Redeemable Preference ‘Share ee t k,n HG9+ RV_NPI, D+ (RV NPB 199 . RV = NPVI2 With growth | without growth (tap) ator personal tax t + t + t Dwain eponen Steines? gama ce Anosh) faring Pee, | Rae Apache rg EES EPS, Der Fi, p10 x FS sgh RR 0 K=R+ BIRR) tedemable value Pie cument market price| _P, PD, = Preference dividend BisDiidendintimet | y= Dividend of Next year (ea.enaney * . or) (ogee ae) R (R= Maret Risk Premium Fite © Lene“ hureae en fA" keue me>WEIGHTED AVERAGE ren COST OF CAPITAL (WACC) Coe) Qa en ‘CA Prashant Sarda Using Book value weights “ua wit sad rs carved rom book || Twos ved ar ded rom > usetintven aces cturaneee’ | [> yaa amen souesortnanes a porbcote of account eee “Aes cles wie erat vain) Lp Abays colt wis for waa ae ataee| cece ene See) Fcenteeet aerate eer of WACC or K, ; Book value or|Proportion | Individual cost Product Source of Finance | “Market Value (%) ofcapital | (Prop. x Individual Cost) Equity capital wi ke kex W1 Preference Capital w2 kp kpx W2 Retained earning* w3 kr krx W3 Debt w4 kd kdx W4 Total Total of above K, = WACC ‘Note : In case of book value method, we consider retained earnings but in case of market value method, retained earnings are considered only when Kr is not equal to Ke. © iamprashantsarda| J t.melcaprashantsarda | P/Q carrashantsarda 13,remy Cer | + Notattectedby accounting poiies Market valves 3 Untstedtcompanies not available for Not reliable when shares are not setvaly traded | consistent with definition of cst of nd are afected by speculations. capital Le, to manta market value ‘ot ahares, cot of eaptal rate of fatum should be earned by company. Lotrue reflection of firm's capital aay Ono ey Advantages Disadvantages, Affected by accounting plies. Firm sts thelr capital structure in tors of book value Does not truly reprsent the ‘opportunity cost of capital Caleulations ar sim Less uctuations in book value Useful when markst prices are not aval Many investors uso book value walghts for thelr analysis, [ey Cece) Ce ‘CA Prashant Sarda {@. WHAT DO YOU UNDERSTAND BY CAPITAL. ‘STRUCTURE? HOW DOES IT DIFFER FROM FINANCIAL STRUCTURE? ‘Ans: Capital structure refers tothe combination of debt ‘equity which a company uses t finance Is long term operations ts the lng term financing of the ‘company representing long term source of capital ‘owner's equity and fong term debts but fxcludes current lables, “Whereas nancial structure isthe entire lft hand sid of Balance sheet representing all the long {erm and short term sources of capital, ‘Thus we may say capital structure is only # part of financial structure Joinus - () iamprashantsarda| (J tme/caprashantsarda | @/@) carrashantsarda 14,CHAPTER-S~ MANAGEMENT OF WORKING CAPITAL == The Working Capital as the nam forday today working of company. Suggests is the capital required ‘= We estimate the working capital so that required working capital in company shouldbe sufficient for coming period, = Theworking capital can be estimated as: oan cry Cee Ce eee ‘CA Prashant Sarda Particulars: ‘Computation. [current Assets Raw matria stock WAP, Stock Finished good stock Sundry debtors Cash Bank balance Raw material ater Sub-Total A ‘Curent Liabilties “Trade Creditors ‘outstanding wag Outstanding overheads Net Working Capital 3) Note: tf nothing is given always assume WIP is complate 100% w.8 raw material & 50% Wirt conversion cost Le, wages and overheads Deak ka Based on concept ‘Time with growah in sales Joinus - () iamprashantsarda| (J tme/caprashantsarda | P/Q carrashantsarda 15,WORKING Conservative ‘Approach Higher level of Investment in CA, Le. more liquidity, lesserrisk and lessor profits ee ITO ITAL loderate Approach Moderate or reasonable investment In Ale, moderate liquidity, moderate risk and moderate profs. Lesser level of investment in C.A. ‘ee lesser liquidity, higher risk and higher profs. UA ota Level of Investment Conservative) policy psu we + |, Literest Profit) Moderat Liquiait Policy 4 Moderate We Loan| Moderate Profit Moder ‘Aggressive Poliey [> Hawley) we Loan: Profit? Anite © Lene “Lurene tPA" keene ere Cec Cer < Moderate inca. ‘Aggressive ‘Output ‘APPROACHES FOR WC ESTIMATION Total Gross Approach Consider al costs ie, casi and'non eash expenses also) Cash Cost Approach ust chango in approach only 3 components will change Yor working capital estimation viz, WP stock, finished (oeds stock and debtors, sororities aunty tr 7CONCEPT OF OPERATIN ‘materials, WP, finished goods, debtors and thereat 1 ano oxplainedthrough tho following dagram:» (Gross operating =RM storage period + Cea I ods Lerner Pen ry eee Net Operating Cycle = Gross oporating cycle + Creditors payment period 365 Days Wet Operating Cycle Period @ wf X Net Operating Cycle Period Sates Working capital required (Ged of normal approseh! — 365 Working capital required Cash Costof Sales {Dine on cn coo apron x Net Operating Cycle Period Cash Cost of Sales No, of eperating cycles per annum Components of operating cycle canbe calcul ‘Avg. stock of Raw Marais ‘Reg cost of RW consumed day ‘vg stock of WIP Rag cost of Production aay 3) FG. storage pevod= Ava stock of 6 " 1 Pero cost of goods sold aay ‘Avg. Accounts Racevable ‘Avg. Credit Sales [aay ‘Avg. Accounts Paya ‘aug. Creat Purchases day 1) Raw material storage period = 2) WLP storage period 4) Debtors collection period Cine Cece Coe Pe arse w Gouna Production policy (Production? = WC") reduction process (Labour intens Length of manufacturing process (Length t= WC") [Nature of business (Manufacturing = WC) Credit potcy towards Debtors (Liberal! = WC") Market standing (Newly stated = WC") Inventory policy (High storage = WC) Market conditions (Buyer's market = WCT) Inflationary conditions hifaionary condition = WC") Business Cycle (Peak or boom conditions = WC1) FUNCTIONS OF TREASURY MANAGEMENT ‘cash management (by forecasting cash requirements) ‘Currency management (mainly for imports & exports) Financing management. (capital structure) Bank Liston (for borrowing at cheapest possible cos) Corporate Finance (for raising of funds) CO OT) the maximum amount of ance given from banker’ side fr financing working capital of company. ‘Thar are 3 methods for computing MPBF given by tandon committee are: 75% of (CA-CL) (73% ofca) «cL. I) (75% of uctuating CA) - CL (where fluctuating CA= Total CA-Core CA) ent el © Lemieeen “ hurieeeenn fA" kere aneCU (Cline Cece) FACTORS TO BE ANALYSED BEFORE Ceo CREDIT IS GRANTED TO A CUSTOMER eee ee ‘CA Prashant Sarda BNC noch VARIOUS SOURCES OF CREDIT RATING ee > Trade refrences | Bank references | creat nuteau reports (Specialised agency to provide creat information) Past experiences in dealing Published nancial statment, (in case of puble Ra. companies) Salesman’ interview and report. EEUEEVE E)EE (EE EEUEEVE EU EE IEE COST OF MAINTAINING RECEIVABLES > interest on investment nance cost (or Vc, and FC Le, Total cost) [> aaministraton cost (Keeping records, ete) ‘Select the policy with higher net benefit [+ betinquency cost raminders, phone, calls, te) {> collection cost (contacting customers, cheque collection) L-+ detauiting cost (ad Debs, Legal Charges et) inus - () iamprashantsarda| (J tme/caprashantsarda | € / @) carrashantsardaPe cry reonturerinenneny ‘The cash shouldbe managed such that we should carry sufficlent eash balance for business cotinine ee ley cash should not be exces cash has oppertunity cost and cash should net be in shortage good fui wil be hampered payment arent made cnn Ths, ane manager | yaa Baum E68 model oF eptmom Cash elas hesimptone Intows and outlows ee forcatd Rime eo eonore {2 Pied Tnanedon cor per taeacton FORMAT OF CASH BUDGET IS AS UNDER {3 Fa urn cou per opeo {eeemancanay PS ia eee eee foe a Cash sales were, pet “Catecton tom Debtors ese ea eer creases eae ‘oontpertaneacion”” B «Issue of shares ! Debenture / Preference Shares | \n mtarest rete perrupes/p.a® | nvestment should ensure sulficiency of cash. Houses cash budget for management of cash wherein future cash Subsctal A) Millor Or Cash Management Model ees ‘Assumption: Stochastic (uneven) cashout flow. Cash Purchases ve Payment to eredtors ‘| “Taxes paid ‘Subsota () a + lovestnent excess cash cash balance touches upper ‘Surplus (Defic AB) lik lt «+ trennuas atime inves and gt ine witha ‘Opening balance of cash bank ‘Closing balance ofeash/ bank (©+D) Joinus - (G) iamprashantsarda| (J tme/caprashantsarda | P/Q) carrashantsarda 19)GeO tin Matin creat) Ma cheque Bening Tat ) rw poved iow) proceesing Yost) processing fe comin Sa ah, aa 7 aw] 4) Concentration Banking and 2} Lock box ayetem imate ee ‘sn each ety where we have erry tection agent how Pim Infoeal bank ofthat ey. “+ We can thon transfer the ‘smount tH ‘and manage ‘cheque deposit joinus - (Q) iamprashantsarda| J t.meicaprashantsarda | J / QD caprashantsarda 20,ORE CHAPTER-6- CAPITAL BUDGETING = — ‘are used to evaluate capital expenditure decision, > The capital expenditure declsions are very Important for fnanel! manager mainly Becauss {i)They are reversible in nature Jo section evtaria: Lesser the pay beck pris bet the projec. =a) ORE a Poet 2 hounds sre a wc tne nay Sia WO ca HOV Oar or "> Aa thename nuggets, ts exactly oppose ot |] Onginalinvestmant-Scrap Value, tens wetng 3 payback nse + cones ‘Average Annual Cash FIOWS 59 Selection etarla Higher the ARR, better the project Intl Investment gs a a V) Discounted Cash Flow methods No, of years Join us - (G) iamprashantsarda| (J tme/caprashantsarda | P/Q carashantsarda 24(PO) aa ows oath tons Iinaeats by investing the project ost today how much a Zpojects he projects ith higher NPV wil be > indicates that for every 1 rapes invested in the project ion itera Higher the Ber the profect Sup Spi Det iis tne rat ot atm sven bythe projet IRR ~ Stat te + sDifensinnte Important points to remember ———, Arta gen Prot income (0 hoy otereome 1 Sxmss 15 Deprecten (9 Tovea0vonPar rate (w Dapecaten Lilet labled lal expose at gan Eten (Ay oa epee ae (9 Oars lelegl eels €l [oar] cry Cee Ce eee ‘CA Prashant Sarda nie © Lem “hue fA" keene meee1. LIQUIDITY RATIOS * ake ning anor det servis = Net Profit ater txton = Non Cash operating opens eatonandotersmorsatone Non-operating austen ere on gems Join us - (G) iamprashantsarda| (J tme/caprashantsarda | @/@ carrashantsarda 23,5, PROFITABILITY RATIO BASED ON SALESory Neer Coy Cee eee sted ‘CA Prashant Sarda set oS Ratios red in general —m [Reysrvaronetoknm oo] Eortyparshon es) and fey [Pehstigndaentstne'") seatat tot Pex anes, uit een Eteieetias ero To Sod etcteaererray cae mea Prati loay Hered iene Ermer? i REL =—— Se OTHER RATIOS ra So oe ee ou Ear a real Absences hus =e Join us - (©) iamprashantsarda| € tmelcaprashantsarda | €)/@) carrashantsarda_ 25,CA Prashant Sarda COWRA Oy ae ECE ‘Tocalelte the return on equty using the DuPont model, simply multiply te te componeats net prot mara Pires 7. Financial data ae badly dlatrtedby nfo, 9 Timely rato analyse provide clues but not conclusions, These ars tools inthe hands of expertsCece) reontuneriennen POTS Ge Eerie ‘CA Prashant Sarda Return on investment (ROI) represents the earning power of the company. PT Wa TATU OPIUB LIC) Itis a process of determining, interpreting and presenting int po cra Eo SS - rs for Evaluating Sod joinus - (Q) iamprashantsarda| J t.melcaprashantsarda | P/Q carrashantsarda 27,min 1. General State of Economy (Depression & Prosperity» Dividend) 2. tate of capital markat (Easy access Dividend?) 3. Legal restrictions (Bylaw 8 order) 4, Contractual restietions (By lenders) 5 Tax Polley (Corporate Tex & DDT) oa 4, Desire of sharoholders (Goneraly dividend expectationst because of ‘Strength Indication. ) Uncertainty) 6) Need for curent income 2. Financial needs of company (Most important amongst all 3: Nature of earnings (Stable income = Dividend *) 4. Desire of control (Control desir = Dividend) 5, Liquidity Postion (Liquiciys= Dividends) [ey Neer Cee Cee “Dividend Rate ‘¢0ividend Payout ‘Dividend Yel “¢Eaming Vil + BS ‘Captalieation Rate Ke)" MPS Whore, DPS= Dividend per share FV = Face value [EPS = Eaming per share [MPS =Market price per share PIE = Price Earning Alternative to Dividend ‘= Stock Split ‘= Reverse Stock Split = Bonus Shares ‘= Buy Back of Shares ‘= Right Shares Join us - ©) iamprashantsarda| J tmelcaprashantsarda | €) / @) carrashantsarda Pricing of buy- back Buy back Price = SXF Uere,S =o of shares outstanding before brack = oman hart ce Nn of share ova back Right Shares :- p- Manes Net were, M = Cumatght markt pice N= Nov of oa snare ened t purchase one ght hare 5 F'Stiscrpon price of naw share Value of right alone = Ex-ight price (-) Subscription Price Value of right alone oF old share ent ‘io purchase right Value of right por share = Cumight Price (2) Exigh Price Value of right per sh or 28)oan cry a lend Pol ey eee reo) D, = D,+{(EPS x Target Payout) -D] xAf Ko= Cost of Equity capital (1-b)= Dividend Payout ratio R =Internal rate of return Ke= Cost of equity capital jw ee Ohm Ceviaend cc Rerto br =Growth Rate Condon: If > Ke + Payout of dividend shouldbe minimum I1R.< Ke-» Payout of dividend shouldbe maximum & R= Ke » Dividend Payaut can be ary where between 0-100% Whore, Py=Prevaling Markst price of share 5, Traditional or Graham & Dodd Model 1, =Dividend of next period al ond of period one Where, P= Market Price ‘mz multiplier E = Eaming per share ,an =No. of shares tobe issued 1 Elnvestment amount required numberof shares Joinus - ()iamprashantsarda| (J tme/caprashantsarda | P/Q carrashantsarda 29CHAPTEI rT ok cecal erences ‘© Application of various possible probabilities to cash flows: Stops: 1) Multiply cash flows with the probabilities to got expected cash flows, 2) Use expected cash flows to calculate NPV or IRR. {@ Varying the discounting rate or Risk adjusted discount rate: ‘Important Points- 4 Asituation were actual measured by assigning 2 Joint probably Is proba 13, Standard dovistion measures how much the actual data var tof two events happening together 95 from expected data, Standard Devistion J X-K)° when Probabity isnt given 7 ils a mean or expected value ‘ils no of yeare Standard Deviations /Sip(yax)e_ When Probably is gen 4. Square of Standard deviation is called a variance. 5. Coefficient of variance (CV Isa relative measure of devition useful for ‘comparison of isk oftwo projects, with diferent expacted NPVs. cys Sander Devaton Higher the CV, higher the relative riskiness. {2 Howto incorporate risk in capital budgeting? ‘Ans:-Higher the rg, higher the discounting rate. Rishy Projects = Discounting Rats Less ky Projects = Discounting Rate, Pentel © Lene“ hue fA" keene ere Cee) Ce ee © Adjusting the cash flows or certainty equivalent approach (CEC) 1) Risky cash flow x Certainty equivalent factor to arrive a iskless cash flows 2) Rishoss cash flow are than discounted at ak ree rate (RF) to {get the present value 3) NPVs then ealeutated PV of cash inflows -PV of Gash outiows Bi Certainty equivalent co-ticient = Risens cash Hos © Sensitivity Analysis: Stops = 1 Senay analysis computes a the rato of downward change in input avameter othe value of ital parameter. 2 Each input vari is considered separately & alter are arsumed 35 constr 2. The extent of change nan input parameter that would result in aro NPV Is computed 4 The extn of change so determined is exorossed as percentage. 5:This process repeate oral eis varies to eat hl seni. ita variably to undergo a change beyond the levels std the rolect i reviewed afresh Mos (y= SEARS® x00 ‘¢tmportant Points: The lower the change in MOS, higher isthe seni ofthe project to that nut parameter. 2.This le beeause a small change in input parameter may en to 2 reversal of projet. Eg HMY wore to bacon zo wth 1% chang in ied cos relive to 10% ange insy sen, taproot insadio bore seat a faed ont 30,Cece Coc Eerie Cas Potential Value Low Capital Be Output Pe Ratio employed er] er concn Comet Reo Cy join us - (O) iamprashantsarda| J t.meicaprashantsarda | P/Q carrashantsarda 31My Notes: