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Solution to CA FINAL SFM NOV 15 by

CA PRAVIIN MAHAJAN

Q1a A bank enters into a forward purchase TT covering an export bill for Swiss francs 1,00,000 at 32.4000 due on
25th April and covered itself for same delivery in the local inter bank market at 32.4200. However on 25th
March, exporter sought for cancellation of contract as the tenor of the bill is changed
In singapore market, swiss Francs were quoted against US dollars as under :

5 Marks

Spot
USD 1 = Sw.Fcs 1.5076/1.5120
One month forward
1.5150/1.5160
Two month forward
1.5250/1.5270
Three month forward
1.5415/1.5445
And in the inter bank market US dollars were quoted as under:
Spot
USD 1 = 49.4302/.4455
Spot/April
.4100/.4200
Spot/May
.4300/.4400
Spot/June
.4500/.4600
Calculate the cancellation charges payable by the customer if exchange margin required by the bank is 0.10%
on buying and selling
Comment - Simple ques of Cancellation of forward contract . DONE IN CLASS
Ans

Bank made forward contract to purchase SF 1,00,000 @ 32.40 on 25th april. On 25th march customer
approached bank to cancell contract. For cancellation bank will sell 1,00,000 $ to customer at one month
forward rate
For cancellation Bank will sell SF 1,00,000 at

49.42 +

32.6531

0.1
100

x 49.42

1
1.5150

Statement of cancellation charges payable by customer


Purchase of 1,00,000 SF by bank @ 32.40

b.

32,40,000

Sale of 1,00,000 SF @ 32.6531


32,65,310
Gain to bank payable by customer
25,310
The following data is available for a bond
Face value
1,000
Coupon rate
11%
Years to maturity
6
5 marks
Redemption value
1,000
Yield to maturity
15%
(Round off your answer to 3 decimals )
Calculate the following in respect of the bond
1. Current market price 2.
Duration of the bond 3.
Volatality of the bond
4. Expected market price if increase in required yield is by 100 basis points
5. Expected market price if decrease in required yield is by 75 basis points
1

CA PRAVIIN MAHAJAN SFM CLASSES

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Solution to CA FINAL SFM NOV 15 by


Comment : Simple question of bond duration. Q38,
Ans.
Year
1
2
3
4
5
6
1.
2.

3.
4.

5.

c.

CA PRAVIIN MAHAJAN

pg 8.7. DONE IN CLASS

Statement of Expected MP and duration of bond


Cash flows
Factor15%
PV Year PV x year
11
0.870
9.57 1
9.57
11
0.756
8.316 2
16.632
11
0.658
7.238 3
21.714
11
0.572
6.292 4
25.168
11
0.497
5.467 5
27.335
11 + 1000
0.432
436.752 6
2620.512
473.635
2720.931
Current market price of bond is present value of all future cash outflows in form of interest
and redemption value i.e 473.635
Duration of bond

volatality of bond



2720.931
=
473.635

1 +

5.74 years
5.74
1.15

= 4.99%

For 1% change in ytm there is 4.99% change in price.


If YTM increases, market price decreases
IF YTM increases by 100 basis points i.e 1% MP will decrease by 4.99%
So MP will be 473.635 0.0499 of 473.635 = 450
If YTM decrease by 75 basis points i.e 0.75%, MP will increase by 4.99 x 0.75= 3.7425 %
473.635 + 3.7425 % of 473.635 = 491.36

Mr Dayal is interested in purchasing equity share of ABC Ltd which are currently selling @ 600 each. He
expects that price of share may go upto 780 or may go down to 480 in three months. The chances of
occuring such variations are 60% and 40% respectively. A call option on shares of ABC Ltd can be excersised at
the end of three months with a strike price of 630.
1. What combination of share and option should Mr dayal select if he wants a perfect hedge?
2. What should be the value of option today (the risk free rate is 10% p.a)
5 marks
3. What is the expected rate of return on option.
Comment : It is the simple question of binomial model same as Q 42 of derivatives of our

book. Since probability of high price and low price is given, so vl use risk neutralisation model. But
hedge ratio is computed acc to binomial model. DONE IN CLASS

CA PRAVIIN MAHAJAN SFM CLASSES

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Solution to CA FINAL SFM NOV 15 by


Ans

1.

Hedge ratio

2.

Value of option

780 630
780 480

CA PRAVIIN MAHAJAN

= 0.5 or 50%

. +
1+
(780 630 ) 0.6 +
(1 + 0.025)

3.

0 0.4

87.80

expected rate of return on option=



x 100

(780 630 ) 0.6


87.8

0 0.4

2.5
3

x 12 = 10%

or
(

{[(0.6 780) + (0.4 480) ]


87.80

630 }

87.80

x 100 =

x 100

263% loss

Or
Expected rate of return on call is computed when call is exercised. When call is not exercised
rate of return is 0. Entire amount paid ir registered as a loss
[(780 630) 87.8
87.8

x 100 = 70.84%

XYZ an indian firm, will need to pay JAPANESE YEN (JY) 5,00,000 on 30th June. In order to hedge the risk .
involved in foreign currency transaction, the firm is considering two alternative methods i.e forward market
cover and currency options contract.
On 1st april, following quotations (JY/INR) are made available
Spot
3 months forward
1.9516/1.9711
1.9726/1.9923
The prices for forex currency option are as follows
Strike price
JY 2.125
Call option (June)
JY 0.047
Put option (June)
JY 0.098
For excess or balance of JY covered, the firm would use forward rate as future spot rate
You are required to recommend cheaper hedging alternative for XYZ.

5 marks

Comment : This is the question of currency option with INDIRECT QUOTE. Q 91 c, pg 3.23 . If students
are habitual of coverting direct quote into indirect quote, answer will not be correct. So it is
utmost importance that student should be able to do and read indirect quote as it is. DONE IN CLASS
Ans

XYZ, an indian firm has to buy 5,00,000 JY on 30th june


Since quote is JY/, relevant rate is bid rate
Co. has 2 options
3

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Solution to CA FINAL SFM NOV 15 by

CA PRAVIIN MAHAJAN

1. Hedge through currency options


Call option gives right to buy
Put option gives right to sell
Since co. has to buy JY (sell ) so co. will buy put option
JY to be bought 5,00,000
Re to be sold

5,00,000
2.125

= 2,35,294.12

Premium JY 0.098 / sold


Statement of payment
Premium payable in JY
2,35,294.12 x 0.098
Premium payable in
23,059 / 1.9516
paid for purchase of 5,00,000 JY
Total payment

23,059 JY
11,815
2,35,294.12
2,47,109.12

2. Hedge through forward market


Co. will book a forward contract today to buy 5,00,000 JY on 30th june @ JY 1.9726/
Co. will pay 5,00,000/1.9726 = 2,53,472.57
Q2a The following information is provided relating to the acquiring Company Eltd and the target company H ltd.
Particulars
Number of shares (FV 10 each)
Market capitalisation
PE ratio (Times)
Reserves and surplus in
Promoters Holding (No. of shares)

E Ltd
20 lakhs
1000 Lakhs
10.00
600.00 Lakhs
9.50 Lakhs

H Ltd
15 lakhs
1500 Lakhs
5.00
330.00 Lakhs
10.00 Lakhs

The Board of directors of both the companies have decided to give a fair deal to the shareholders. Accordingly,
the weights are decided as 40%, 25% and 35% respectively for earnings, book value and market price of share
of each company for swap ratio.
Calculate the following:

10 Marks

1.
2.
3.
4.
5.

Market price per share, earning per share and Book value per share
Swap ratio
Promoters holding percentage after acquisition
EPS of E Ltd after acquisition of H Ltd
Expected market price per share and Market capitalisation of E Ltd after acquisition assumingPE ratio
of E ltd remains unchanged
6. Free flow market capitalisation of merged firm.
Comment : Simple question of Merger and acquisition. Q8 pg 4.3. DONE IN CLASS

CA PRAVIIN MAHAJAN SFM CLASSES

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Solution to CA FINAL SFM NOV 15 by


Ans

1.

CA PRAVIIN MAHAJAN

MP per share
E
H

Mkt cap / no. of shares


1000 lakh/20 lakh
=
1500 lakh/ 15 lakh
=

50
100

Exch ratio 2:1

EPS

MP/PE ratio
50/10
100/5

5
20

Exch Ratio 4:1

E
H
Book Value per share
E
H

sh cap + Res & sur / No. of shares


1000 + 600 / 20
=
80
1500 + 330 / 15
=
122

2.

Swap ratio

3.

Promoters holding percentage after acquisition


Shares of E ltd after acquisition
Shares held by promoters of E ltd before acq
Shares issued to promoters of H ltd In acq
Total promoters holding

5.

6.

Exch ratio 1.525:1

WEarn ExchEarn + WBV ExchBV + WMP ExchMP


0.4 x 4 + 0.25 x 1.525 + 0.35 x 2
= 2.68125 : 1
No. of shares issued
=
15 lakh x 2.68125 = 40.21875 lakh

% of promoters holding after acq


4.

=
=

Post merger EPS

60.21875 lakh
9.50 lakh
10 x 2.68125 = 26.8125 lakh
36.3125 lakh
36.3125
60.21875

= 60.30%

earnings after acq/ No. of sh after acq

5 20 + 20 15
60.21875

= 8.6424

Post merger MP assuming PE ratio after Merger of E is same i.e 10


=
Post merger PE x Post merger EPS
=
10 x 8.6424
=
86.424
Post merger Market cap
=
86.424 x 60.21875
=
5204.345 lakh
Free float market cap of merged firm = Total market cap Promoters holding
= 5204.345 - 36.3125 x 86.424
=
2066.0735 lakh

Q2b Mr A will need 1,00,000 after 2 years for which he wants to make one time necessary investment now. He
has a choice of 2 types of bonds. Their details are below:
Bond X
Bond Y
Face value
1000
1000
6 Marks
Coupon
7% payable annually 8% payable annually
Years to maturity
1
4
Current price
972.73
936.52
Current yield
10%
10%
Advise Mr A whether he should invest all his money in one type of bond or he should buy both the bonds and
if, so, in which quantity. Assume that there will not be any call risk or default risk
5

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Solution to CA FINAL SFM NOV 15 by

CA PRAVIIN MAHAJAN

Comment : Very simple question of BOND IMMUNISATION. Extensively covered in class


Q46, pg 8.8. DONE IN CLASS
Ans

duration of liability is 2 years


1070 0.9091
972.73

Duration of bond X
Duration of Bond Y

= 1 yr

80 x 0.909 x 1 + 80 x 0.826 x 2 + 80 X 0.751 x 3 + 1080 x 0.683 x 4


936.52
72.72 + 132.16 + 180.24 + 2950.56
936.52

3335.68
936.52

= 3.562

For immunisation Duration of liablity portfolio i.e 2 should match with duration of bond portfolio
Duration of bond portfolio is weighted average of duration of each bond in portfolio
W X D X + WY D Y = 2
X . 1 + (1 - x ) 3.562 = 2
X + 3.562 - 3.562 x = 2
2.562x = 3.562 2
X =

1.562
2.562

= 0.61

Thus investment in Bond X is 61% and in Bond Y is 39%


Q3a On 1st April, 2015 an investor has a portfolio consisting of eight securities as shown below
Security
Market price
No. of shares
value
A
29.40
400
0.59
B
318.70
800
1.32
C
660.20
150
0.87
D
5.20
300
0.35
E
281.90
400
1.16
F
275.40
750
1.24
G
514.60
300
1.05
H
170.50
900
0.76
The cost of capital for the investor is 20% p.a continuosly compounded. The investor fears a fall in the
prices in the prices of the shares in the near future. Accordingly, he approaches you for the advice to protect
the interest of his portfolio.
You can make use of the following information
1. The current Nifty value is 8500
8 Marks
2. Nifty futures can be traded in units of 25 only
3. Futures for may are currently quoted at 8700 and Futures for june are being quoted at 8850
You are required to calculate :
i.
The beta of his portfolio
6

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Solution to CA FINAL SFM NOV 15 by


ii.

CA PRAVIIN MAHAJAN

The theoretical value of the futures contracts expiring in may and june
(Given e0.03= 1.03045, e0.04= 1.04081, e0.05 = 1.05127)
The number of Nifty contracts that he would have to sell if he desires to hedge until june in each
of the following cases:
(A) His total portfolio
(B) 50% of his portfolio
(C) 120% of his portfolio

iii.

Comment : Lengthy but very simple and basic question of Derivatives.


Q97 pg2.9. similar to May 13. DONE IN CLASS
Ans

i.

Statement of Portfolio
Security

Market price

A
B
C
D
E
F
G
H

29.40
318.70
660.20
5.20
281.90
275.40
514.60
170.50

No. of
shares
400
800
150
300
400
750
300
900

Portfolio =

ii.

9,81,100.3
9,94,450

Theoretical value of futures

= CMP ert

value of May futures

=
=
=
=
=
=
=
=

Value of June futures

iii.

Value
of share
11,760
2,54,960
99,030
1560
1,12,760
2,06,550
1,54,380
1,53,450
9,94,450

value

Value x

0.59
1.32
0.87
0.35
1.16
1.24
1.05
0.76

6938.4
2,21,815.2
86,156.1
546
1,30,801.6
2,56,122
1,62,099
1,16,622
9,81,100.3

= 0.99

8500 e0.20 x 2/12


8500 e0.03
8500 x 1.03045
8758.825
8500 e0.20 x 3/12
8500 e0.05
8500 x 1.05127
8935.795

Current market price of june future 8850


Each nifty contract is of 25 units
No. of contracts to be sold if

CA PRAVIIN MAHAJAN SFM CLASSES

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Solution to CA FINAL SFM NOV 15 by


A. Full hedge is needed
Value of Nifty futures sold
No. of Nifty units sold
No. of NIFTY contracts
B. 50% hedge is needed
Value of Nifty futures sold
No. of Nifty units sold
No. of NIFTY contracts
C. 120% hedge is needed
Value of Nifty futures sold
No. of Nifty units sold
No. of NIFTY contracts
b.

CA PRAVIIN MAHAJAN

=
=
=

9,81,100.3 x 0.99 = 9,71,289.297


9,71,289.297 / 8850 = 109.75
109.75 / 25 = 4.39

=
=
=

9,81,100.3 x 0.99 x .5 = 4,85,644.65


4,85,644.65 / 8850 = 54.875
109.75 / 25 = 2.195

=
=
=

9,81,100.3 x 0.99x 1.2 = 9,71,289.297


11,65,547.156 / 8850 = 131.7
131.7 / 25 = 5.268

The finance manager of ABC corporation is analyzing firms policy regarding computers which are now being
leased on yearly basis on rental amounting to 1,08,000 per year. The computers can be bought for
5,00,000. The purchase would be financed by 16% and the loan is repayable in 4 equal annual installments.
On account of rapid technological progress in the computer industry, it is suggested that a 4-year economic
life should be used instead of a 10-year physical life. It is estimated that the computers would be sold for
2,00,000 at the end of 4 years.
8 marks
The company uses the straight line method of depreciation . Corporate tax rate is 35%.
a. Whether the equipment be bought or be taken on lease.
b. Analyze the financial viability from the point of view of the lessor, assuming 14% cost of capital.
c. Determine the minimum lease rent at which lessor would break even.
Comment : Lengthy but simple question of leasing

Q5 Pg 7.2. DONE IN CLASS


Ans

ABC corporation is analysing its policy of leasing or purchasing a computer costing 5,00,000
If computers are taken on lease
Company will pay annual lease rent of 1,08,000
Statement of cash outflow if asset is taken on lease
Particulars
Amount
period
factor
PV
16(1-0.35)=10.4%
Lease Rent
1,08,000
1-4e
3.143
3,39,444
Tax saving on lease rent
(37,800)
1-4e
3.143
(1,18,805)
PV of cash outflow
2,20,639
If asset is purchased
Co. will purchase the asset by borrowing from bank @ 16%, repayable in 4 equal annual installments
Amount of each installment
Installment x factor = loan
Inst x 2.798 = 5,00,000
8

CA PRAVIIN MAHAJAN SFM CLASSES

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Solution to CA FINAL SFM NOV 15 by

Installment
1,78,699
1,78,699
1,78,699
1,78,699

iii.

Inst = 1,78,699
Statement of Principal and interest
Interest
Principal
loan o/s
80,000
98699
4,01,301
64,208
1,14,491
2,86,810
45,890
1,32,809
1,54,001
24,698
1,54,001
-

PV
5,61,651
(25,368)
(18,428)
(11,934)
(5,817)

5,00,000 2,00,000
x
4

0.35 26,250
2,00,000

1-4e

3.143

(82,504)

4e

0.673

(1,34,600)
2,83,000

Since cash outflow is lower if asset is taken on lease, so leasing is better


Evaluation of proposal from point of view of lessor if expected rate of return is 14%
Statement of NPV
Particulars
Amount
period
Factor14%
Pv
Asset purchased
5,00,000
0
1
(5,00,000)
Lease rent recd
Net of tax 1,08,000 x .65 70,200
1-4e
2.914
2,04,563
Tax sav on depn
26,250
1-4e
2.914
76,493
Salvage value
2,00,000
4e
0.592
1,18,400
(1,00,544)
Since NPV is negative, so leasing is not feasible
Minimum lease rentals for lessor to break even at 14%
Statement of NPV
Particulars
Amount
period
Factor14%
Pv
Asset purchased
5,00,000
0
1
(5,00,000)
Lease rent recd
Net of tax X x .65
0.65x
1-4e
2.914
1.8941x
Tax sav on depn
26,250
1-4e
2.914
76,493
Salvage value
2,00,000
4e
0.592
1,18,400
0
1,94,893 + 1.8941x = 5,00,000
X =

tax sav on int


28,000
22,473
16,062
8644

Statement of cash outflow if asset is purchased


Particulars
Amount
period
factor 10.4%
Installment
1,78,699
1-4e
3.143
Tax saving on interest 28,000
1e
0.906
22,473
2e
0.820
16,062
3e
0.743
8,644
4e
0.673
Tax saving on dep
Salvage value

Ii.

CA PRAVIIN MAHAJAN

3,05,107
1.8941

= 1,61,083

CA PRAVIIN MAHAJAN SFM CLASSES

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Solution to CA FINAL SFM NOV 15 by


Q4a

CA PRAVIIN MAHAJAN

XYZ ltd, a company based in India, manufactures very high quality modern furniture and sells to a
small number of retail outlets in India and Nepal. It is facing tough competition. Recent studies on
marketability of products have clearly indicated that customer is now more interested in variety and
choice rather than exclusivity and exceptional quality. Since the cost of quality wood in India is very
high, the company is reviewing the proposal for import of woods in bulk from Nepalese supplier.
The estimate of net Indian and Nepalese currency (NC) cash flows for this proposal is shown below:
Net cash flows (in Millions)
Year
0
1
2
3
NC
-25,000
2,600
3,800
4,100
Indian
0
2,869
4,200
4,600
The following information is relevant :
8 marks
i.
XYZ evaluates all investments by using discount rate of 9% p.a. All nepalese customers are
invoiced in NC. NC cash flows are converted to Indian () at the forward rate and discounted
at the Indian rate.
ii.
Inflation rates in Nepal and India are expected to be 9% and 8% p.a respectively. The current
exchange is 1 = NC 1.6
Assuming that you are the finance manager of XYZ Ltd, calculate the NPV and Modified IRR of the
proposal.
You may use the following values with respect to discount factor 1 @ 9%
Year
1
2
3
Present Value
0.917
0.842
0.772
Future Value
1.188
1.090
1
Comment : Simple question of fischer effect, foreign exchange.

Q122, Pg 3.35, May 13. DONE IN CLASS


Ans

Question is silent if nepalese and Indian cash flows are real or money cash flows. So it can be
assumed Cash flows given are Real cash flows . Alternatively it can be assumed that cash
flows given are Money cash flows

Assuming cash flows Given are Real cash flows


Statement of Money cash flows

NC Real CF
-25,000
2600
3800
4100

Inflation9%
1
1.09
(1.09)2
(1.09)3

NC Money CF
-25,000
2834
4515
5310

Real CF
0
2869
4200
4600

Inflation8%
1
1.08
(1.08)2
(1.08)3

Money CF
0
3099
4899
5795

Statement of conversion of NC cash flows into cash flows


Year
NC CF
Rate
Indian CF
0
-25,000
1.6
-15,625
1
10

2834

1.09

1.6 x 1.08

1755

CA PRAVIIN MAHAJAN SFM CLASSES

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Solution to CA FINAL SFM NOV 15 by

4515

1.6 x (1.08)2

5310

1.6 x (1.08)3

Cash Inflows

(1.09)3

2770
3228

Statement of NPV
Amount
period
15,625
0

Factor 9%
1

PV
(15,625)

1755
3099
4854

0.917

4451

2770
4899
7669

0.842

6457

3228
5795
9023

0.772
NPV

6966
2249

Alternatively Assuming Cash flows given are Money cash flows


Year
0
1

Statement of conversion of NC cash flows into cash flows


NC CF
Rate
Indian CF
-25,000
1.6
-15,625
2600

1.09

1.6 x 1.08

1610
2331

(1.09)2

3800

1.6 x (1.08)2

4100

1.6 x (1.08)3

Particulars
Cash Flows
Cash Inflows

11

(1.09)2

Particulars
Cash Flows

II

CA PRAVIIN MAHAJAN

(1.09)3

2492

Statement of NPV
Amount
period
15,625
0

Factor 9%
1

PV
(15,625)

1610
2869
4479

0.917

4107

2331
4200
6531

0.842

5499

2492
4600
7092

0.772
NPV

5475
(544)

CA PRAVIIN MAHAJAN SFM CLASSES

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Solution to CA FINAL SFM NOV 15 by

CA PRAVIIN MAHAJAN

Modified IRR
IRR assumes that all intermediate cash flows of project are reinvested at the rate of IRR. To rectify this flaw of
IRR Modified IRR is computed. Modified IRR assumes that all positive cash flows are reinvested at cost of
capital
(If cash flows given are Real cash flows)
-

Compute future value of cash flows assuming cash flows are reinvested at cost of capital
Invested for remaining period in the project

Maturities

4854 earned at the end of 1st year invested for 2 years 4854 (1.09)2
7669 earned at the end of 2nd year invested for 1 year 7669 (1.09)
9023 earned at the end of 3rd year not reinvested

5766
8359
9023
23,148

Investment(1+r)N = Sum of all maturities


15,625 (1+r)3 = 23,148
R
R

23,148

15,625

- 1

14%

(If cash flows given are money cash flows)


Invested for remaining period in the project
4479 earned at the end of 1st year invested for 2 years 4479 (1.09)2
6531 earned at the end of 2nd year invested for 1 year 6531 (1.09)
7092 earned at the end of 3rd year not reinvested
-

Maturities
5321
7119
7092
19532

Investment(1+r)N = Sum of all maturities


15,625 (1+r)3 = 19,532
R
R

=
=

19,532

15,625

- 1

7.73%

Q4b Mr X on 1.7.2012 during the initial public offer of a mutual fund invested 1,00,000 at face value of 10. On
31.03.2013, the MF declared a dividend of 10% when Mr X calculated that his holding period rate of return
was 115%. On 31.3.2014, MF again declared a dividend of 20%. On 31.3.2015, Mr X redeemed all his
investment which had accumulated to 11,296.11 units when his holding period return was 202.17%
Calculate The NAV as on 31.03.2013, 31.03.2014, 31.03.2015

8 marks

Comment : This is a typical ques of Mutual Fund which is Q2 of our book.


This ques also came in nov 13, Q1d P21. Only difference is that in this ques Holding period rate of return is
given instead of annual yield, making this ques much simpler
Ans:
12

CA PRAVIIN MAHAJAN SFM CLASSES

9871 255 244

Solution to CA FINAL SFM NOV 15 by

CA PRAVIIN MAHAJAN

1.07.12--------9 m----------31.03.13--------------12 M-----------31.03.14------------12m-----31.3.15


10,000 units @10
10% div
20% div
HPRR 115%
HPRR 202.17%
11,296.11 units
NAV on 31.03.13
HPRR on 31.03.13
=

115%

+ ( )

= 1.15

1 + ( 10)
10

= 1.15

Cl NAV (NAV on 31.03.13)

= 20.5

NAV on 31.03.14
All dividend received is reinvested
Units purchased on 31.03.13

10,000
20.5

= 487.80

Total units on 31.03.13

= 10,487.80

Dividend received on 31.03 14

= 10,487.8 x 10 x 0.2 = 20,976

Total units on 31.03.14

11,296.11 units

Units purchased on 31.03.14

11,296.11 10,487.8 = 808.31

NAV on 31.03.14

20,976
808.31

= 25.95

NAV on 31.03.15
HPRR on 31.03.15

202.17%

Value of investment on 1.7.12


Return on investment
Value of investment on 31.03.15
Number of units on 31,03,15

NAV on 31.03.15

=
=

1,00,000
2,02,170
3,02,170
11,296.11
3.02,170
11,296.11

= 26.75

Q5a ABC Ltd., a US Firm will need 5,00,000 in 180 days. In this connection, the following information is available:
Spot rate 1 = $ 2.00
180 days forward rate of as of today is $ 1.96
Interest rates are as follows
US
UK
180 days deposit rate
5.0%
4.5%
180 days borrowing rate
5.5%
5.0%
A call option on that expires in 180 days has an exercise price of $ 1.97 and a premium of $ 0.04
ABC Ltd. has forecasted the spot rates for 180 days as below:
13

CA PRAVIIN MAHAJAN SFM CLASSES

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Solution to CA FINAL SFM NOV 15 by

CA PRAVIIN MAHAJAN

Future rate
Probability
$ 1.91
30%
$1.95
50%
$ 2.05
20%
Which of the following strategies would be cheaper to ABC Ltd?
i.
ii.
iii.
iv.

8 Marks

Forward contract
A money market hedge
A call option contract
No hedging option
Comment : Simple question of currency options.Q95 pg 3.24. DONE IN CLASS

Ans

US firm has to buy 5,00,000 after 180 days


$

Since quote is , relevant rate is Ask rate


Company has following options
1. Hedge through currency options
Company will buy call options today, to buy 5,00,000 after 180 days @ $ 1.97 / .
Statement of payment
Premium paid ($ 0.04 / )
Amount paid ( 5,00,000 x 0.04 )

20,000 $

Due date
EP
MP

$ 1.97 /
1.91 x 0.30 + 1.95 x 0.5 + 2.05 x 0.20
= $ 1.958
MP < EP , call will not be exercised
US firm will purchase from market @ $ 1.958 /
Amount paid 5,00,000 x 1.958

2. Money market hedge


Process ($ borrow, deposit )
1. Deposit present value of 5,00,000 , co. will deposit
5,00,000
1.0225
2. To deposit 4,88,998 co. will borrow $
$ to borrowed is ascertained is ascertained by converting
4,88,998 @ spot rate of $ 2 /
$ borrowed 4,88,998 x 2 =
3. $ payable after 180 days @ 5.57
9,77,996 x 1.0275
14

CA PRAVIIN MAHAJAN SFM CLASSES

9,79,000 $
9,99,000 $

4,88,998

$ 9,77,996

$ 10,04,891
9871 255 244

Solution to CA FINAL SFM NOV 15 by

CA PRAVIIN MAHAJAN

3.. Forward market hedge


Co. will book a forward contract today to buy 5,00,000 after 180 days
@ 1.96 /
$ payable 5,00,000 x 1.96
$ 9,80,000
4.. No Hedging
Co. will buy 5,00,000 after 180 days at spot after 180 days of
$ 1.958 /
$ payable 5,00,000 x 1.958

$ 9,79,000

Since amount payable is least if no hedging is done, so no hedging is better.


Q5b On 1st April, an open ended scheme of Mutual fund had 300 lakh units outstanding with Net assets
value (NAV) of 18.75, At the end of April, it issued 6 lakh units at openning NAV plus 2% load, adjusted for
dividend equalisation. At the end of May, 3 lakh units were repurchased at openning NAV less 2% exit load
adjusted for dividend equalisation. At the end of june, 70% of its available income was distributed.
In respect of april-june quarter, the following additional information are available:
in lakh
Portfolio value appreciation
425.47
Income of april
22.950
8 MARKS
Income for May
34.425
Income for June
45.450
You are required to calculate
i.
Income available for distribution
ii.
Issue price at the end of april
iii.
Repurchase price at the end of May and
iv.
NAV as on 30th June.
COMMENT : Childish question of mutual fund. QUES BASED ON NAV AND ENTRY AND EXIT LOAD.
DONE IN CLASS
Ans

i.

ii.

iii.

iv.

15

Income available for distribution is income of april, may and june


22.95 + 34.425 + 45.45 = 102.825
Income distributed
=
102.825 x 0.7 = 71.9775
Issue price at the end of april
=
Op NAV + 2%
= 18.75 + 0.02 x 18.75
=
19.125
Repurchase price
=
Op NAV 2 %
= 18.75 0.02 x 18.75
=
18.375
th
NAV as on 30 June
Value of Net assets on 1st April 300 lakh x 18.75
+ cash received on issue of 6 lakh units 6 x 19.125
- cash paid on repurchase of 3 lakh units 3 x 18.375

CA PRAVIIN MAHAJAN SFM CLASSES

5625 lakh
114.75 lakh
(55.125 lakh)
9871 255 244

Solution to CA FINAL SFM NOV 15 by

CA PRAVIIN MAHAJAN

+ Income of april, may and june


- income distributed
+ appreciation in value of portfolio
Net assets at end of june (after adj of changes in cash and
Appreciatin in value of investments
No. of units at the end of june 300 + 6 3
NAV at end of june

102.825lakh
(71.9775 lakh)
425.47 lakh
6140.9425
303 lakh
20.267

Q6a XYZ Ltd wants to purchase ABC Ltd by exchanging 0.7 of its share for each share of ABC Ltd. relevant financial
data are as follows:
Equity share outstanding
10,00,000
4,00,000
EPS ))
40
28
Market price per share ()
250
160
10 MARKS
i.
ii.

Illustrate the impact of merger on EPS of both the companies


The management of ABC Ltd has quoted a share exchange ratio of 1:1 for merger. Assuming PE
ratio of XYZ Ltd will remain unchanged after the merger, what will be the gain from merger for
ABC Ltd
What will be the gain / loss to the share holders of XYZ Ltd?
Determine the maximum exchange ratio acceptable to shareholders of XYZ Ltd

iii.
iv.

Comment : Again utmost simple ques of Merger. Examiner aiways use one point in ques, which we
extensively discussed and proved in class, i.e PE ratio after merger is given
Ans

i.

Exchange ratio proposed by XYZ Ltd 0.7:1


No. of shares issued to shareholders of ABC Ltd = 4,00,000 x 0.7 = 2,80,000
Statement of Impact On EPS of share holders of both companies
XYZ
ABC
Pre Merger EPS
40
28
Post Merger EPS
40 x 10 lakh + 28 x 4 lakh
1 x 0.7 x 40
12.80 lakh
= 28
= 40
Thus if exchange ratio is 0.7:1, Post and pre merger EPS of share holders of both companies
will remain same

ii.

If exchange ratio is 1:1 and PE ratio of XYZ remain same


No. of share issued
4,00,000
512
14

Post merger EPS

= 36.57

EPS to Share holder of ABC


1 x 1 x 36.57 = 36.57
EPS of shareholder of ABC increases by 36.57 28 = 8.57 per share
Total increase in EPS 4 lakh x 8.57 = 34.28 lakh
Post merger MPS
16

Post merger PE x Post Merger EPS

CA PRAVIIN MAHAJAN SFM CLASSES

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Solution to CA FINAL SFM NOV 15 by


=

250
40

CA PRAVIIN MAHAJAN

x 36.57

228.5625

Post merger Price to SH of ABC = 1 X 1 X 228.5625


=
228.5625
Wealth of Share holder of ABC also increased by (228.5625 160) = 68.5625 per share
Total increase in wealth 4 lakh x 68.5625 = 274.25 lakh
iii.

Gain or loss to shareholder of XYZ (if exchange ratio is 1:1)


Pre merger EPS
40
Post merger EPS
36.57
Reduction in EPS per share
3.43
Total reduction in earnings
3.43 x 10 lakh = 34.30 lakh
Pre merger MPS
Post Merger MPS
Reduction in MPS per share
Reduction in total wealth of SH of XYZ

iv.

250
228.5625
21.4375
10 lakh x 21.4375 = 214.375 lakh

Maximum exchange ratio acceptable to Share holders of XYZ


Post Merger PE
6.25
Post mrger Value of Firm
=
Total earnings x Post merger PE
=
512 lakh x 6.25
=
3200 lakh
Value Retained by XYZ (its pre merger value)
=
10 lakh x 250
=
2500 lakh
Value given to SH of ABC
=
3200 2500 lakh
=
1300 lakh
Shares given to ABC
=
1300 / 250 = 5.2 lakh
Max exchange ratio

5.2
4

= 1.3 :1

Q6b X Ltd is a shoes manufacturing company, it is all equity financed and has a paid up capital of 10,00,000 ( 10
per share)
X Ltd has hired Swastika consultants to analyse the future earnings . The report of Swastika consultants states
as follows:
i.
The earnings and dividend will grow at 25% for the next 2 years
ii.
Earnings are likely to grow at the rate of 10% from 3rd year and onwards
iii.
Further , if there is a reduction in earnings growth, DP ratio will increase to 50%
The other data related to the company are as follows:
6 MARKS
Year
EPS()
Net Dividend per share()
Share price ()
2010
6.30
2.52
63.00
2011
7.00
2.80
46.00
2012
7.70
3.08
63.75
2013
8.40
3.36
68.75
2014
9.60
3.84
93.00

17

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Solution to CA FINAL SFM NOV 15 by

CA PRAVIIN MAHAJAN

You may assume that the tax rate is 30% ( not expected to change in future) and post tax cost of capital is
15%.
By using the dividend valuation model , calculate
i.
Expected market price per share
ii.
PE Ratio.
Comment : Simple question of dividend. Based on current market price is present value of all
future dividends

Ans i.

Current market price is present value of all future dividends

Year
2015
2016
2017

Statement of EPS and Dividend


EPS
9.6 (1.25) = 12
12(1.25) = 15
15 (1.1) = 16.5

Year
2015 - 1
2016 - 2
2017 - 3 2

Dividend per share


3.84(1.25) = 4.8
4.8 (1.25) = 6
50% of 16.5 = 8.25

Statement of CMP
Cash flow
Factor 15%
4.8
0.870
6
0.756
8.25
=
0.15 0.10

165

0.756

PV
4.176
4.536
124.74
133.452

ii.

18

PE ratio

133.452
9.6

= 13.90125 times

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