Question Book PDF

Handcrafted with love for students CA AAKASH SINGHVI
FINANCIAL MANAGEMENT
CA – INTERMEDIATE CA AAKASH SINGHVI
QUESTION BOOK
S No. Chapter Name Page No.

1 Cost of Capital 2 - 10
2 Leverages 11 – 16
3 Investment Decision 17 - 25
4 Risk Analysis in Capital Budgeting 26 – 29
5 Dividend Decision 30 – 36
6 Capital Structure 37 - 43
7 Financial Analysis & Planning – Ratio Analysis 44 – 52
8 Working Capital Management 53 - 65
ABOUT AUTHOR:
CA Aakash Singhvi who is extremely passionate of teaching has within a span of one year taught over 2,600+
students with a heart whelming response from students of all 3 levels.
His area of expertise are Strategic Financial Management (CA Final), Financial Management (CA Inter) & BCK
(CA Foundation).
He is an alumnus of Loyola College, Chennai. After Clearing his CA, he worked with Capital First Ltd. As a fund
Manager and got hands on experience in the field of Finance.
Edition 2020:
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AUTHOR.
1
COST OF CAPITAL
Question 1
A company issues Rs.10,00,000, 12% Debentures of Rs.100 each. The debentures are redeemable after
the expiry of fixed period of 7 years. The company is in 35% tax bracket. Required:
i.Calculate the cost of Debt after tax, if Debentures are issued at –

(a) Par (b) 10% Discount (c) 10% Premium
ii.If brokerage is paid at 2%, what will be the cost of debentures, if issue is at par?
Question 2
A company is considering raising funds of Rs.100 Lakhs by one of the two alternative methods, viz 14%
institutional term loan and 13% non-convertible debentures. The term loan option would attract no
major incidental cost. The debentures would be issued at a discount of 2.5% and would involve cost of
issue of Rs.1 Lakh. Advice the company as to the better option based on effective cost of capital.
Assume tax rate of 50%.
Question 3
If R Energy is issuing preferred stock at Rs.100 per share, with a stated dividend of Rs.12 and a
flotation cost of 3% then, what is the cost of preference share?
Question 4
A Company issued 40,000, 12% redeemable preference share of Rs.100 each at a premium of Rs.5
each, redeemable after 10 years at a premium of Rs.10 each. The floatation cost of each share is Rs.2.
You are required to calculate cost of preference share capital ignoring dividend tax.
Question 5
A Company has paid dividend of Rs.1 per share (of face value of Rs.10 each) last year and it is
expected to grow @ 10% next year. Calculate the cost of equity if the market price of share is Rs.55.
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Question 6
ABC Company’s Equity share is quoted in the market at Rs.25 per share currently. The company pays a
dividend of Rs.2 per share and the investor’s market expects a growth rate of 6% per year. You are
required to:
i. Calculate the company’s Cost of Equity Capital.

ii. If the Anticipated Growth Rate is 8% p.a., calculate the indicated Market price per share.
iii. If the company issues 10% Debentures of face value of Rs.100 each and realizes Rs.96 per
Debenture while the Debenture are redeemable after 12 years at a premium of 12%. What will be
the cost of debenture? (Tax = 50%)
Question 7
Pogo Ltd has an EPS of Rs.9 per share. Its Dividend payout ratio is 40%. Its Earnings and Dividends
are expected to grow at 5% per annum. Find out the cost of Equity Capital under various approaches, if
its Market Price is Rs.36 per share.
Question 8
GTAYCT Ltd is a large company with several thousand shareholders. An investor buys 100 shares of
the company at the beginning of the year at a market price of Rs.225. The par value of each share is
Rs.10. During the year, the company pays a dividend at 25%. The price of the share at the end of the
year is Rs.267.50. Calculate the total return on the investment. Suppose the investor sells the shares
at end of the year, what would be the cash inflows at the end of the year.
Question 9
Calculate the Cost of Equity Capital of H Ltd whose Risk-Free Return equals 10%. The firm’s beta is
1.75 and the Return on the Market Portfolio is 15%.
Question 10
MP Ltd retains Rs.7,50,000 out of its current earnings. The expected rate of return to the
shareholders, if they had invested the funds elsewhere is 10%. The brokerage is 3% and the
shareholders come in 30% tax bracket. Calculate the cost of retained earnings.
Question 11
The following details are provided by the Global limited:
Particulars Amount (Rs.)

3
Equity Share Capital 65,00,000

12% Preference Share Capital 12,00,000
15% Redeemable Debentures 20,00,000
10% Convertible Debentures 8,00,000
The cost of equity capital for the company is 16.30% and income tax rate for the company is 30%. You
are required to calculate the Weighted Average Cost of Capital (WACC) of the company.
Question 12
The capital structure of All in one Ltd. Is - Equity Capital Rs.5 lakhs, Reserves and Surplus Rs.2 lakhs
and Debentures Rs.3 Lakhs. The Cost of Capital before tax are-
(a) Equity - 18%
(b) Debentures - 10%
You are required to compute the Weighted Average Cost of Capital (WACC), assuming a tax rate of
35%.
Question 13
PC Ltd. Has the following capital structure on October 31, 2015:

Equity Share Capital (2 Lakh Shares of Rs.10 each) 20,00,000
Reserves and Surplus 20,00,000
12% Preference Shares 10,00,000
9% Debentures 30,00,000
Total 80,00,000
The market price of Equity share is Rs.30. It is expected that the company will pay next year a
dividend of Rs.3 per share, which will grow at 7% forever. Assume 40% income tax rate. You are
required to compute the weighted average cost of capital using market value weights.
Question 14
The capital structure of Super Ltd. is as under:

11% preference shares 2,25,000
Equity shares (face value: Rs.10 per share) 5,00,000
Total 10,00,000
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Additional information:
(a) Rs.100 per debenture redeemable at par has 2% floatation cost and 10 years of maturity. The
market price per debenture is Rs.105.
(b) Rs.100 per preference share redeemable at par has 3% floatation cost and 10 years of maturity.
The market price per preference share is Rs.106.
(c) Equity share has Rs.4 floatation cost and market price per share of Rs.24. The next year expected
dividend is Rs.2 per share with annual growth of 5%. The firm has a practice of paying all earnings in
the form of dividends.
(d) Corporate income-tax rate is 35%.
Required: Calculate the weighted average cost of capital using market value weight.
Question 15
Geeta Ltd. Has furnished the following information:
Earnings per share (EPS) Rs.4

Dividend payout ratio 25%
Market price per share Rs.40
Rate of tax 30%
Growth rate of dividend 8%
The company wants to raise additional capital of Rs.10 lakhs including debt of Rs.4 lakhs. The cost of
debt (before tax) is 10% up to Rs.2 lakhs and 15% beyond that.
Compute the after-tax cost of equity and debt and the weighted average cost of capital (WACC).
Question 16
Golmaal Ltd. Has in issue 5 lakhs Rs.1 ordinary share whose current ex-dividend market price Rs.1.50
per share. The company has just paid a dividend of 27 paise per share and dividends are expected to
continue at this level at some time. If the company has no debt capital, what is the weighted average
cost of capital?
Question 17
Marco Ltd, wishes to raise additional finance of Rs.10 lakhs for meeting its investment plans. It has
Rs.2,10,000 in the form of retained earnings available for investment purposes. The further details
are as follows:
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1. Debt/Equity mix 30%/70%

2. Cost of debt- upto Rs.1,80,000 10% (Before tax)
3. Beyond Rs.1,80,000 16% (Before tax)
4. Earnings per share Rs.4
5. Dividend payout 50% of earnings
6. Expected growth rate in dividend 10%
7. Current market price per share Rs.44
8. Tax rate 50%
You are required:
(a) To determine the pattern for raising the additional finance.
(b) To determine the post –tax average cost of additional debt.
(c) To determine the cost of retained earnings and cost of equity and
(d) Overall weighted average after tax cost of additional finance.
Question 18
The following is the capital structure of a company:
Source of Capital Book Value (Rs.) Market Value (Rs.)

Equity Share @ Rs.100 each 80,00,000 1,60,00,000
9% cumulative Preference Shares Rs.100 20,00,000 24,00,000
11% Debentures 60,00,000 66,00,000
Retained Earnings 40,00,000 -
Total 2,00,00,000 2,50,00,000
The current market price of the company equity share is Rs.200. For the last year the company
had paid equity dividend at 25% and its dividend is likely to grow 5% every year. The corporate
tax rate is 30% and shareholders income tax rate is 20%. You are required to calculate:
i) Cost of capital for each source of capital.
ii) Weighted average cost of capital on the basis of book value weight.
iii) The weighted average cost of capital on the basis of market value weight.
Question 19
Pooja Ltd has the following book value capital structure:

Equity Capital (in shares of Rs.10 each, fully paid up-at par) 15 crores
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11% Preference Capital (in shares of Rs.100 each, fully paid up-at par) 1 crore
Retained Earnings 20 crores
13.5% Debentures (of Rs.100 each) 10 crores
15%Term Loans 12.5 crores
The next expected dividend on equity shares per share is Rs.3.60 the dividend per share is expected
to grow at the rate of 7%. The market price per share is Rs.40.
Preference stock, redeemable after 10 years, is currently selling at Rs.75 per share.
Debentures, redeemable after 6 years, are selling at Rs.80 per debenture.
The Income tax rate for the company is 40%.
Required:
i) Calculate the current weighted average cost of capital using:
a) Book value proportions; and
b) Market value proportions
ii) Define the weighted marginal cost of capital schedule for the company, if it raises Rs.10 crores
next year, given the following information:
a) The amount will be raised by equity and debt in equal proportions;
b) The company expects to retain Rs.1.5 crores earnings next year;
c) The additional issue of equity shares will result in the net price per share being fixed at Rs.32;
d) The debt capital raised by way of term loans will cost 15%for the first Rs.2.5 crores and 16%
for the next 2.5 crores.
Question 20
The Sneha Limited has following capital structure at 31st December 2015, which is considered to be
optimum:
Particulars Amount (Rs)

13 % Debenture 3,60,000
11% Preference Share Capital 1,20,000
Equity Share Capital (2,00,000 shares) 19,20,000
The company’s share has a current market price of Rs.27.75 per share. The expected dividend per
share in next year is 50% of the 2015 EPS. The EPS of last 10 years is as follows. The past trends are
expected to continue.
Year 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015
EPS (Rs) 1.00 1.120 1.254 1.405 1.574 1.762 1.974 2.211 2.476 2.773
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The company can issue 14% new debenture. The company’s debenture is currently selling at Rs.98. The
new preference issue can be sold at a net price of Rs.9.80, paying a dividend of Rs.1.20 per share. The
company’s marginal tax rate is 50%.
i) Calculate the after-tax cost
a) Of new debts and new preference share capital,
b) Of ordinary equity, assuming new equity comes from retained earnings.
ii) Calculate the marginal cost of capital.
iii) How much can be spent for capital investment before new ordinary share must be sold?
(Assuming that retained earnings available for next year’s investment is 50% of 2015 earnings.)
iv) What will be marginal cost of capital (cost of fund raised in excess of the amount calculated in
part(iii) if the company can sell new ordinary shares to net Rs.20 per share? The cost of debt and
of preference capital is constant.
Question 21
Taranjeet Limited has the following book value capital structure:
Particulars Amount (Rs. In Milns)

Equity Share Capital (150 million shares, Rs.10 par) 1,500
Reserves and Surplus 2,250
10.5% Preference Share Capital (1 million shares, Rs.100 par) 100
9.5% Debentures (1.5 million debentures, Rs.1,000 par) 1,500
8.5% Term Loans from Financial Institutions 500
The debentures of ABC Limited are redeemable after three years and are quoting at Rs.981.05 per
debenture. The applicable income tax rate for the company is 35%.
The current market price per equity share is Rs.60. The prevailing default-risk free interest rate on
10-year GOI Treasury Bonds is 5.5%. The average market risk premium is 8%. The beta of the
company is 1.1875.
The preferred stock of the company is redeemable after 5 years is currently selling at Rs.98.15 per
preference share.
Required:
i) Calculate weighted average cost of capital of the company using market value weights.
ii) Define the marginal cost of capital schedule for the firm if it raises Rs.750 million for a new
project. The firm plans to have a debt of 20% of the newly raised capital. The beta of new project is
1.4375. The debt capital will be raised through term loans, it will carry interest rate of 9.5% for the
first 100 million and 10% for the next Rs.50 million.
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Question 22
Hrithik Ltd. has the following book value capital structure as on March 31, 2015.

Equity Share Capital (2,00,000 shares) 40,00,000
11.5% Preference Shares 10,00,000
Total 80,00,000
The equity shares of the company are sold for Rs.20. It is expected that the company will pay next
year a dividend of Rs.2 per equity share, which is expected to grow by 5% p.a. forever. Assume a 35%
corporate tax rate.
Required:
i) Compute weighted average cost of capital of the company based on the existing capital structure.
ii) Compute the new WACC, if the company raises an additional Rs.20 Lakhs debt by issuing 12%
debentures. This would result in increasing the expected equity dividend to Rs.2.40 and leave the
growth rate unchanged, but the price of equity share will fall to Rs.16 per share.
Question 23
RBML is proposing to sell a 5-year bond of Rs.5,000 at 8% rate of Interest per annum. The bond
amount will be amortized equally over its life. What is the bond’s present value for an investor if he
expects a minimum rate of return of 6%? Also Calculate Effective Rate of Return?
Question 24
Determine the cost of Capital of Best Luck Limited using the Book Value (BV) and Market Value (MV)
weights from the following information:
Sources Book Value (Rs.) Market Value (Rs.)

Equity Shares 1,20,00,000 2,00,00,000
Retained Earnings 30,00,000 -
Preference Shares 36,00,000 33,75,000
Debentures 9,00,000 10,40,000
Additional Information:
I. Equity: Equity Shares are quoted at Rs.130 per share and a new issue priced at Rs.125 per share
will be fully subscribed; floatation costs will be Rs.5 per share.
II. Dividend: During the previous 5 years, Dividends have steadily increased from Rs.10.60 to Rs.14.19
per share. Dividend at the end of the current year is expected to be Rs.15 per share.
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III. Preference Shares: 15% Preference shares with Face Value of Rs.100 would realize Rs.105 per
share.
IV. Debentures: The company proposes to issue 11 year, 15% debentures but the yield on debentures
of similar maturity and risk class is 16%; floatation cost is 2%.
V. Tax: Corporate tax rate is 35%. Ignore Dividend tax.
Question 25
Mr. Mehra had purchased a share of Alpha ltd. For Rs.1,000. He received dividend for a period of five
years at the rate of 10%. At the end of the fifth year, he sold the share of Alpha Ltd for Rs.1,128.
You are required to compute the cost of equity as per realized yield approach.
10
LEVERAGES
Question 1:
X Limited has estimated that for a new product its break-even point is 20,000 units if the item is sold
for Rs.14 per unit and variable cost Rs.9 per unit. Calculate the Degree of Operating leverage for sales
volume 25,000 units and 30,000 units.
Question 2:
A Firm has Sales of Rs.40 lakhs, Variable Cost of Rs.25 lakhs, Fixed cost of Rs.6 lakhs, 10% Debt of
Rs.30 lakhs, and Equity Capital of Rs.45 lakhs.
Required: Calculate Operating and Financial Leverage.
Question 3:
Calculate the operating leverage, Financial Leverage and Combined Leverage for the following firms
and interpret the results:
Particulars P Q R
Output (units) 2,50,000 1,25,000 7,50,000
Fixed Cost (Rs.) 5,00,000 2,50,000 10,00,000
Unit Variable Cost (Rs.) 5.00 2.00 7.50
Unit Selling Price (Rs.) 7.50 7.00 10.00
Interest Expense (Rs.) 75,000 25,000 -
Question 4:
Following information are related to five firms of the same industry:
Firm Change in Revenue Change in Change in EPS

Operating Income
M 28% 26% 32%
N 27% 34% 26%
P 25% 38% 23%
Q 23% 43% 27%
R 25% 40% 28%
You are required to calculate
1) Degree of Operating Leverage and 2) Degree of Combined Leverage, of all firms.
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Question 5:
The following summaries the percentage changes in operating income, percentage changes in revenues
and beta’s for four pharmaceutical firms.
Firm Change in Change in Beta

Revenue Operating Income
PQR Ltd. 27% 25% 1.00
RST Ltd. 25% 32% 1.15
TUV Ltd. 23% 36% 1.30
WXY Ltd. 21% 40% 1.40
Required:
1) Calculate the degree of operating leverage for each of these firms. Comment also.
2) Use the operating leverage to explain why these firms have different beta.
Question 6:
Consider the following information for Omega Ltd.
Particulars Rs. (in Lacs)

EBIT (Earnings before Interest and Tax) 15,750
EBT (Earnings Before Tax) 7,000
Fixed Operating Costs 1,575
Calculate Percentage change in earnings per share, if sales increase by 5%.
Question 7:
You are given two financial plans of a company which has two financial situations. The detailed
information is as under:
Particulars Details
Installed capacity 10,000 units
Actual production and sales 60% of installed capacity
Selling price per unit Rs.30
Variable cost per unit Rs.20
Fixed cost – Situation ‘A’ = Rs.20,000
Situation ‘B’ = Rs.25,000
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Capital structure of the company is as follows –
Particulars Financial Plans

XY (Rs.) XM(Rs.)
Equity 12,000 35,000
Debt (Cost of debt 12%) 40,000 10,000
52,000 45,000
You are required to calculate Operating Leverage and Financial Leverage of both the plans. Also
Comment which is a better plan?
Question 8:
Z Limited is considering the installation of a new project costing Rs.80,00,000. Expected annual Sales
revenue from the project is Rs.90,00,000 and its variable costs are 60% of sales. Expected annual
Fixed cost other than interest is Rs.10,00,000. Corporate Tax rate is 30%. The company wants to
arrange the funds through issuing 4,00,000 Equity Shares of Rs.10 each and 12% debentures of
Rs.40,00,000.
You are required to:
(i) Calculate the Operating, Financial and Combined Leverages and Earnings Per Share
(ii) Determine the likely level of EBIT, if EPS is Rs.4, or Rs.2 or Rs.0.
Question 9:
A Company had the following Balance Sheet as on March 31, 2017.
Equity & Liabilities Amount (Rs.) Assets Amount (Rs.)

Equity Share Capital of 40,00,000 Fixed assets 1,28,00,000
Rs.10 each
Reserves and capital 8,00,000 Current Assets 32,00,000
Current Liabilities 32,00,000
1,60,00,000 1,60,00,000
The additional information given is as under:
Fixed cost per annum (excluding interest) Rs.32,00,000

Variable Operating Cost ratio 70%
Total asset turnover ratio 2.5
Income Tax rate 30%
Calculate the following and comment:

(i) Earnings per share (EPS)
(ii) Operating Leverage
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(iii) Financial Leverage

(iv) Combined Leverage
Question 10:
The following information related to YZ Company Ltd for the ended 31st March –
Equity Share Capital of Rs.10 Rs. 50 Lakhs Financial Leverage 1.49

each
12% bonds of Rs. 1,000 each Rs. 37 Lakhs Profit – Volume Ratio 27.55%
Sales Rs. 84 Lakhs Income tax rate applicable 40%
Fixed cost (excluding interest) Rs. 6.96 Lakhs
Calculate – a) Operating Leverage b) Combined Leverage c) Earnings per share (up to 2 decimal points)
Question 11:
A Company operates at a production level of 5,000 units. The contribution is Rs.60 per unit. Operating
Leverage is 6, Combined leverage is 24. If tax rate is 30%, what would be its Earnings After Tax?
Question 12:
From the following financial data of Company, A and Company B.
Prepare their Income Statements.
Particulars Company A (Rs.) Company B (Rs.)

Variable Cost 56,000 60% of sales
Fixed Cost 20,000 ?
Interest Expenses 12,000 9,000
Financial Leverage 5:1 -
Operating Leverage - 4:1
Income Tax Rate 30% 30%
Sales ? 1,05,000
Question 13:
From the following details of X Ltd. Prepare the Income Statements for the year ended
31stDecember, 2017.
Financial Leverage 2 times

Interest Rs. 2,000
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Operating Leverage 3 times

Variable cost as a Percentage of sales 75%
Income Tax rate 30%
Question 14:
The following Details of RST Ltd for the year ended 31.03.2015 are given below
Operating Leverage 1.4 Times

Combined Leverage 2.8 Times
Income Tax Rate 30%
Fixed Cost (Excluding Interest) Rs.2.04 Lakhs
Sales Rs.30.00 Lakhs
12% Debentures of Rs.100 each Rs.21.25 Lakhs
Equity Share Capital of Rs.10 each Rs.17 Lakhs
a) Calculate Financial Leverage.

b) Calculate P/V Ratio and Earnings Per Share.
c) If the company belongs to an industry, whose assets turnover is 1.5, does it have a high or low
assets Leverage?
d) At what level of sales, the Earnings Before Tax (EBT) of the company will be equal to Zero?
Question 15:
Delta Ltd. Currently has an equity share capital of Rs.10,00,000 consisting of 1,00,000 equity share of
Rs.10 each. The company is going through a major expansion plan requiring to raise funds to the tune
of Rs.6,00,000. To finance the expansion the management has following plans:
Plan I – Issue 60,000 Equity shares of Rs.10 each

Plan II – Issue 40,000 Equity shares of Rs.10 each and the balance through long term borrowing at
12% interest p.a
Plan III – Issue 30,000 Equity Shares of Rs.10 each and 3,000, 9% Debentures of Rs.100 each
Plan IV – Issue 30,000 Equity Shares of Rs.10 each and the balance Through 6% Preference shares.
The EBIT of the company is expected to be Rs.4,00,000 p.a assume corporate tax rate of 40%
Required:
i. Calculate EPS of Each of the Above Plans.
ii. Ascertain financial Leverage in each plan.
15
Question 16:
The net sales of A ltd. Is Rs.30 crores. Earnings Before Interest and Tax of the company as a % of
net sales is 12%. The capital Employed Comprises of Rs.10 crores of Equity, Rs.2 crores of 13%
Preference Share Capital and 15% Debentures of Rs.6 crores. Income-tax rate is 40%.
i. Calculate the Return on Equity for the company and indicate its segments due to the presence of
Preference Share Capital and Borrowing (Debentures)
ii. Calculate WACC for the above company.
iii. Calculate the Operating Leverage of the company given that combined leverage is 3.
Question 17:
The Capital structure of ABC ltd as at 31.03.2015 consisted of Ordinary share capital of Rs.5,00,000
(face Value Rs.100 each) and 10% Debentures of Rs.5,00,000 (Rs.100 each). In the year ended with
March 2015, Sales decreased from 60,000 units to 50,000 units. During this year and in the previous
year, the selling price was Rs.12 per unit; variable cost stood at Rs.8 per unit and fixed expenses were
at Rs.1,00,000 p.a. the income tax rate was 30%.
You are Required to calculate the following:

i. The percentage of decrease in Earnings per share.
ii. The degree of Operating leverage at 60,000 units and 50,000 units.
iii. The degree of Financial leverage at 60,000 units and 50,000 units.
Question 18:
A firm has sales of Rs.75,00,000 variable cost is 56% and fixed cost is Rs.6,00,000. It has a debt of
Rs.45,00,000 at 9% and equity of Rs.55,00,000.
i. What is the Firms Return on Investment (ROI)?

ii. Does it have a favorable financial leverage?
iii. If the firm belongs to an industry whose capital turnover is 3, does it have a high or low capital
turnover?
iv. What is the operating, financial and combined leverages of the firm?
v. If the sales are increased by 10% by what percentage EBIT will increase?
vi. At what level of sales, the EBT of the firm will be equal to zero?
vii. EBIT increases by 20% by what percentage EBT will increase?
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INVESTMENT DECISIONS
SIMPLE PAYBACK PERIOD METHOD:
Question 1:
A) A project has an initial investment of Rs.1,00,000. It will produce cash flows after tax of
Rs.25,000 per annum for seven years. Compute the payback period for the project.
B) Project A has an initial investment of Rs.10,00,000. Its cash flows for five years are Rs.3,00,000,
Rs.3,60,000, Rs.3,00,000, Rs.2,64,000 and Rs.2,40,000. Determine the payback period.
DISCOUNTED PAYBACK PERIOD METHOD:
Question 2:
Project M has an initial investment of Rs.10,00,000. Its cash flows for five years are Rs.3,00,000,
Rs.3,60,000, Rs.3,00,000, Rs.2,64,000 and Rs.2,40,000. Determine payback period assuming a discount
rate of 10% p.a.
AVERAGE OR ACCOUNTING RATE OF RETURN METHOD:
Question 3:
A) Compute Average Rate of Return (ARR) if cost of asset is Rs.2,00,000, useful life = 5 years, cash
flows after taxes (CFAT) = Rs. 86,000 p.a.
B) Project Q requires an investment of Rs.10 Lakhs and yields profit after tax and depreciation as
follows
Year 1 2 3 4 5
Profit after tax & depreciation 50,000 75,000 1,25,000 1,30,000 80,000
At the end of 5 years, the plant can be sold for Rs.80, 000. You are required to calculate ARR
NPV & PI METHOD - BASICS:
Question 4:
PQR Company is evaluating an investment proposal of Rs. 3,06,000 with expected cash flows as-
Year 1 2 3 4
CFAT 1,00,000 1,20,000 1,50,000 1,00,000
The Company’s Cost of Capital is 10% (take upto 3 decimals). Compute the Net Present Value (NPV) &
Profitability Index (PI) for this project.
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INTERNAL RATE OF RETURN METHOD:
Question 5: (ill. 8 SM)
A company proposes to install a machine involving a capital cost of Rs. 3,60,000. The life of the
machine is 5 years and its salvage value at the end of the life is nil. The machine will produce the net
operating income after depreciation of Rs. 68,000. p.a. The company’s tax rate is 45%. Calculate
Internal Rate of Return of the proposal. The PV factors for 5 years is as under.
Discounting factor 14% 15% 16% 17% 18%

Cumulative factor 3.43 3.35 3.27 3.20 3.13
MIX OF NPV, PI, IRR & ARR:
Question 6:
P Limited is considering to purchase a New plant worth of Rs. 80,00,000. The expected Net Cash
Flows after taxes and before depreciation are as follows (in Rs. Lakhs):
Year 1 2 3 4 5 6 7 8 9 10
Net Cash Flows 14 14 14 14 14 16 20 30 20 8
The after tax of Cost of Capital is 10%.
You are required to calculate –

i) Payback Period
ii) Net Present Value at 10% of Discount factor
iii) Profitability Index at 10% of Discount factor
iv) Internal rate of return with help of 10% and 15% discount factor
Question 7:
L Limited is considering investing in a project. The expected investment in the project will be Rs.
2,00,000, with project life of 5 years and No salvage value. The expected net cash inflows after
depreciation but before tax during the life of the project will be –
Year 1 2 3 4 5
Rs 85,000 1,00,000 80,000 80,000 40,000
The project will be depreciated at 20% on Original cost. The company is subject to 30% tax rate.
Calculate –
i) Payback Period,
ii) Average Rate of return (ARR)
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CAPITAL GAINS/LOSS ON SALE OF ASSET WITH WDV METHOD - NPV:
Question 8:
Magic Company is considering the proposal of taking up a new project which requires an investment of
Rs. 400 Lakhs on Machinery and other assets. The project is expected to yield the following Earnings
(before depreciation & other taxes) over the next 5 years.
Year 1 2 3 4 5
Earnings (Rs. in Lakhs) 160 160 180 180 150
The cost of raising the additional capital is 12% and assets have to be depreciated at 20% on ‘Written
Down Value’ basis. The scrap value at the end of the five years period may be taken as 0. Income Tax
applicable to the company is 50%.
Calculate the project’s NPV and advise the management to appropriate decision. Calculate the IRR of
the project using the PV of Rs.1 at 10%, 12%, 14% and 16% rates of interest. (up to 2 decimals)
NPV Vs PI Vs IRR - RANKINGS:
Question 9:
New thoughts company has two alternative proposals under consideration. Project A requires a capital
outlay of Rs. 12,00,000 and Project B requires Rs. 18,00,000. Both are estimated to provide a cash
flow for 5 years as project A Rs. 4,00,000 per year and Project B Rs. 5,80,000 per year. Cost of
Capital is 10%. (up to 2 decimals)
Show which of the two project is preferable from view point of –

i) NPV, ii) PV Index Method, iii) IRR Method
MUTUALLY EXCLUSIVE (EITHER THIS OR THAT) DECISION:
Question 10:
MM Ltd is considering the purchase of a new automatic machine which will carry out some operations
which are at present performed by manual Labour. A1 and A2, two alternative models are available in
the market, whose details are –
Particulars Machine – A1 Machine – A2

Cost of Machine Rs. 20,00,000 Rs. 25,00,000
Estimated working life 5 years 5 years
Estimated saving in direct wages p.a. Rs. 7,00,000 Rs. 9,00,000
Estimated saving in scrap p.a. Rs. 60,000 Rs. 1,00,000
Estimated additional cost of Indirect material p.a. Rs. 30,000 Rs. 90,000
Estimated additional cost of Indirect Labour p.a. Rs. 40,000 Rs. 50,000
Estimated additional cost of Repairs and maintenance Rs. 45,000 Rs. 85,000
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Depreciation is charged on Straight line method. Corporate tax rate is 30% and expected rate of
return may be 12%. PVF for Rs. 1 at 12 % 0.893, 0.797, 0.712, 0.636, 0.567, 0.505, you are required to
evaluate the alternatives by calculating the –
i) Payback period
ii) Accounting (Average) rate of return
iii) Profitability index or PV Index
Question 11:
The Star company limited is considering to select a machine out of two mutually exclusive machines.
The Company’s Cost of Capital is 12% and corporate tax is 30%. Other information is as follows –
Particulars Machine – A Machine – B

Cost of Machine Rs. 15,00,000 Rs. 20,00,000
Estimated life 5 years 5 years
Annual Income (Before tax and depreciation) Rs. 6,25,000 Rs. 8,75,000
(Take up to 2 decimals)
Depreciation is on SLM basis. Calculate –
i) Discounted payback period
ii) Net present value
iii) Profitability Index
CHOICE OF SYNERGY DECISION:
Question 12:
Spark Cooker Company is evaluating three investment situations:
a) Produce a new line of Aluminum skillets

b) Expand its existing cooker line to include several new sizes
c) Develop a new, higher quality line of cooker
Project Investment required PV of future cash flows

1 Rs. 2,00,000 Rs. 2,90,000
2 Rs. 1,15,000 Rs. 1,85,000
3 Rs. 2,70,000 Rs. 4,00,000
If Projects 1 and 2 are jointly undertaken, there will be no economies. The investments required and
Present values will simply be the sum of the parts. With Projects 1 and 3, economies are possible in
investment, because one of the Machines acquired can be used in both production processes.
The total investment required for Projects 1 and 3 combined is Rs. 4,40,000. If Projects 2 and 3 are
undertaken, there are economies to be achieved in marketing and producing the products, but not in
investment.
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The expected Present value of future cash flows for projects 2 and 3 is Rs. 6,20,000. If all three
projects are undertaken simultaneously noted will still hold. However, Rs. 1,25,000 extension on the
Plant will be necessary, as space is not available for all 3 projects. Which project(s) should be chosen?
INTERIM SUBSIDY – DEPRECIAITON & COMPUTATION OF CASH INFLOWS YEAR ON YEAR:
Question 13:
Unique Enterprises Ltd is considering the purchase of a new computer system for its R & D division,
which would cost Rs.35 Lakhs. The operation and maintenance cost (excluding depreciation) are Rs.7
Lakhs per annum. It is estimated that the useful life of the system would be 6 years at the end of
which the scrap value will be Rs. 1 Lakh. The tangible benefits expected from the system in the form
of reduction in design and draughtsman ship costs would be Rs. 12 Lakhs p.a. Besides the disposal of
the used Drawing Office Equipment and Furniture initially is expected to net Rs. 9 Lakhs.
Capital Expenditure in R&D is eligible for 100% write – off for tax purposes. The gains arising from
disposal of used assets may be considered tax – free. The Company’s tax rate is 50% and cost of
capital is 12%. After appropriate analysis of cash flows, advise the Company of the financial viability
of the proposal. (take upto 2 decimals)
MUTUALLY EXCLUSIVE Vs REPLACEMENT DECISION:
Question 14:
Gems Ltd has just installed machine R at a cost Rs. 2 Lakhs. The machine has a 5 year life with no
Residual value. The annual volume of production is estimated at 1,50,000 units, which can be sold at Rs.
5 per unit. Annual operating costs are estimated at Rs. 2 lakhs (excluding depreciation) at this output
level. Fixed costs are estimated Rs. 3 per unit for the same level of production.
The company has just come across another model Machine S, capable of giving the same output at an
annual operating cost of Rs. 1.80 Lakhs (excluding depreciation). There will be no change in fixed costs.
Machine S costs Rs. 2.50 Lakhs, its residual value will be nil after a useful life of 5 years.
Gems Ltd has an offer for sale of Machine R for Rs. 1,00,000. The cost of dismantling and removal will
be Rs. 30,000. As the Company has not yet commenced operations, it wants to dispose off Machine R
and install Machine S.
The Company will be a zero–tax Company for 7 years in view of incentives and allowances available.
Cost of capital is 14%. (PVAF @ 14%, 5 years = 3.432)
Advise whether the Company should opt for replacement. Will your answer be different if the
Company has not installed Machine R and is in the process of selecting either R or S?
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NPV ADVANCED PROBLEM:
Question 15:
MCL Ltd is a highly profitable company engaged in the manufacture of a power intensive products. As a
part of the diversification plans, it proposes to put up a windmill to generate
Electricity. The details of the scheme are-
i) Cost of windmill-Rs.300 Lakhs, cost of land-Rs.15 Lakhs, subsidy from state government to be
received at the end of the first year of installation-Rs.15 Lakhs.
ii) Estimated life is 10 years and the cost of capital is 15%. The company’s tax rate is 50%.
iii) Residual value of windmill will be nil. However, land value will go up to Rs.60 lakhs at the end of the
year 10.
iv) Cost of electricity to the consumer will be Rs.2.25 per unit in year 1. This will increase by Rs.0.25
per unit every year till year 7. After that it will increase by Rs. 0.50 per unit p.a.
v) Maintenance cost will Rs. 4 Lakhs in year 1 and the same will increase by Rs. 2 Lakhs every year.
vi) Depreciation will be 100% of the cost of the windmill in year 1 and the same will be allowed for tax
purpose.
vii) As windmills are expected to work based on wind velocity, the efficiency is expected to be 30%.
Gross electricity generate at this level will be 25 lakhs units per annum. 4% of this electricity
generated will be committed free to the state electricity board as per the agreement.
From the above you are required to calculate the NPV of the project. (Ignore tax on capital profits).
Use the following table –
Year 1 2 3 4 5 6 7 8 9 10
PVF 0.87 0.76 0.66 0.57 0.50 0.43 0.38 0.33 0.28 0.25
Question 16:
Your advice is sought for choice between two options under consideration.
(i) Purchase of Petrol Truck or (ii) Purchase of a battery – powered truck.
The comparative purchase and operating cost data are given below –
Particulars Year Petrol Truck Battery powered Truck

Purchase Cost 0 Rs. 1,50,000 Rs. 2,50,000
Operating Costs 1 Rs. 24,000 Rs. 12,000
2 Rs. 34,000 Rs. 12,000
3 Rs. 29,000 Rs. 12,000
4 Rs. 31,000 Rs. 12,000
5 Rs.0 Rs. 12,000
Assume an investment incentive of 100% Initial depreciation allowance, and a 50% incidence of
corporate tax. No depreciation is allowed in subsequent years. Taxes are promptly paid. A return of
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10% after tax is required. Would it be advisable to buy the petrol truck or the battery – powered
truck? (up to 2 decimals)
REPLACEMENT DECISION:
Question 17:
WX Ltd has a machine which has been in operation for 3 years. Its remaining estimated useful life is 8
years with no salvage value at the end. Its current market value is Rs. 2,00,000. The company is
considering a proposal to purchase a new model of machine to replace the existing machine. The
relevant information is as follows –
Particulars Existing Machine New machine

Cost of machine Rs. 3,30,000 Rs. 10,00,000
Estimated life 11 years 8 years
Salvage value - Rs. 40,000
Annual output 30,000 units 75,000 units
Selling price per unit Rs. 15 Rs. 15
Annual operating hours 3,000 3,000
Material cost per unit Rs. 4 Rs. 4
Labour cost per hour Rs. 40 Rs. 70
Indirect cash cost per annum Rs. 50,000 Rs. 65,000
The Company follows straight line method of depreciation. The corporate tax rate is 30% and WX Ltd
does not make any investment, if it yields less than 12%. Present value of Rs. 1 at 12% discount,
received at the end of 8th year is 0.404. Ignore capital gain tax.
Required – Advise WX Ltd whether the existing machine should be replaced or not.
EQUIVALNET ANNUAL COST DECISION – WHEN LIFE OF 2 PROJECTS ARE NOT EQUAL:
Question 18:
OM Company which is in the 40% tax bracket, has to purchase any one of the two machine L and M for
one of its factories. The following details are available in respect of the two machines–
Machine L M
Costs of Machine, including installation costs Rs. 20,00,000 Rs. 36,00,000
Useful Life 5 years 8 years
Net operating income (before depreciation) from Rs. 6,00,000 Rs. 8,40,000
use of the machine
Note – The appropriate discount rate for the company is 12%
(i). Using appropriate evaluation criterion which machine should be purchased. Assume cash flows to
perpetuity and that the cost of removal of the assets at the end of their useful life will be equal their
salvage values.
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(ii). Would your answer to (i) above be different, if net operating incomes of machine M were Rs.
8,80,000 instead of Rs. 8,40,000.
Question 19:
Queen Co. can buy either of two machines “Super Model” or “Economy Model”. These two machines are
designed differently, but have identical capacity and do exactly the same job. Super model costs Rs.
1,50,000 and will last for 3 years. It costs Rs. 40,000 per year to run. Economy Model costs only Rs.
1,00,000 but will last only for 2 years, and costs Rs. 60,000 per year to run. These are real cash flows.
The costs are forecasted in rupees of constant purchasing power. Ignore tax.
Opportunity Cost of Capital is 10%. Which machine should be bought?
PVAF 10% - for 3 years 2.486, for 2 years 1.735
RANKING IN NPV Vs IRR – ANALYSIS OF RANKING:
Question 20:
A firm can make investment in either of the following two projects. The firm anticipates its cost of
capital to be 10% and the net (after taxes) cash flows of the projects for five years are as follows (in
Rs. ‘000)
Year 0 1 2 3 4 5
Project A (500) 85 200 240 220 70
Project B (500) 480 100 70 30 20
The discount factor is as under –
Year 0 1 2 3 4 5
PVF (10%) 1 0.91 0.83 0.75 0.68 0.62
PVF (20%) 1 0.83 0.69 0.58 0.48 0.41
(i). Calculate the NPV and IRR of each project

(ii). State with reasons which project you would recommend
(iii). Explain the inconsistency in ranking of two projects.
CAPITAL RATIONING (DIVISIBLE & INDIVISIBLE PROJECTS):
Question 21:
Venture Ltd has Rs. 30 Lakhs available for investment in capital projects. It has the option of making
investment in projects 1, 2, 3 and 4. E ach project is entirely independents and has a useful life of 5
years. The expected present values of cash flows from the projects are as follows –
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Projects Initial Outlay PV of cash flows (Rs.)

1 8,00,000 10,00,000
2 15,00,000 19,00,000
3 7,00,000 11,40,000
4 13,00,000 20,00,000
Which of the above information should be undertaken? Compute in both Divisible and Indivisible
method using Capital Rationing.
Assume that cost of capital is 12% and risk-free rate is 10% per annum. Given compounded sum of Rs. 1
at 10% in 5 years is Rs. 1.611 and discount factor of Rs. 1 at 12% rate for 5 years is 0.567.
MODIFIED INTERNAL RATE OF RETURN (MIRR):
Question 22: (ILL. 9 SM)
An Investment of Rs.1,36,000 yields the following Cash Inflows (profits before Depreciation but after
tax) Determine MIRR (Modified Rate of Return) considering 8% as cost of Capital.
Year Amount (Rs.)

1 30,000
2 40,000
3 60,000
4 30,000
5 20,000
1,80,000
INTERIM PERIOD INVESTMENTS:

Question 23 (PP 4 SM):
Cello Ltd. Is considering buying a new machine which would have a useful economic life of five years, a
cost of Rs.1,25,000 and a scrap value of Rs.30,000 with 80% of the cost being payable scrap value of
Rs.30,000 with 80% of the cost being payable scrap value of Rs.30,000 with 80% of the cost being
payable at the start of the project and 20% at the end of the first year. The machine would produce
50,000 units p.a of a new product with an estimated selling price of Rs.3 p.u. Direct Costs would be
Rs.1.75 p.u and annual fixed costs, including depreciation calculated on a Straight Line Basis, would be
Rs.40,000 p.a
In the first year and the second year, special sales promotion expenditure, not included in the above
costs, would be incurred, amounting to Rs.10,000 and Rs.15,000 respectively.
Analyse, the Project using the NPV Method of investment appraisal, assuming the company’s cost of
Capital to be 10%.
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RISK ANALYSIS IN CAPITAL BUDGETING

EXPECTED CASH FLOWS & EXPECTED NPV
Question 1:
Probabilities for net cash flows for 3 years a project are as follows:
Year 1 Year 2 Year 3

Cash Flow Probability Cash Flow Probability Cash Flow Probability
(Rs.) (Rs.) (Rs.)
2,000 0.10 2,000 0.20 2,000 0.30
4,000 0.20 4,000 0.30 4,000 0.40
6,000 0.30 6,000 0.40 6,000 0.20
8,000 0.40 8,000 0.10 8,000 0.10
Calculate the expected net cash flows. Also calculate the present value of the expected cash flow,
using 10% discount rate. Initial Investment is Rs. 10,000.
STANDARD DEIVATION & CO-EFFICIENT OF VARIATION

Question 2:
Possible net cash flows of Projects A and B and their probabilities are given as below.
Discount rate is 10% for both the project initially investment is Rs. 10,000.
Situation Project A Project B

Cash Flows Probability Cash Flows Probability
I 8,000 0.10 4,000 0.10
II 10,000 0.20 20,000 0.15
III 12,000 0.40 16,000 0.50
IV 14,000 0.20 12,000 0.15
V 16,000 0.10 8,000 0.10
a) Calculate the expected Net Present Value for each Project.

b) Calculate Variance and Standard Deviation
c) Calculate Co-efficient of Variation
Question 3:
Shivam Ltd is considering two mutually exclusive projects A and B. Project A costs Rs. 36,000 and
project B Rs. 30,000. You have been given below the net present value probability distribution for
each project.
Project A Project B
NPV Estimates Probability NPV Estimates Probability
(Rs.) (Rs.)
15,000 0.20 15,000 0.10
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12,000 0.30 12,000 0.40

6,000 0.30 6,000 0.40
3,000 0.20 3,000 0.10
i) Compute the expected net present values of projects A and B.

ii) Compute the risk attached to each project i.e. standard deviation of each probability distribution.
iii) Compute the profitability index of each project.
iv) Which project do you recommend? State with reasons.
RISK ADJUSTED DISCOUNT RATE (RADR)

Question 4:
An Enterprise is investing Rs. 100 Lakhs in a project. The risk – free rate of return is 7%. Risk
premium expected by the management is 7%. The life of the project is 5 years. Following are the cash
flows that are estimated over the life of the project.
Year Cash Flow

(Rs. in lacs)
1 25
2 60
3 75
4 80
5 65
Calculate Net Present Value of the project based on Risk free rate and also on the basis of Risks
adjusted discount rate.
Question 5:
Determine the risk adjusted Net present value of the following projects –
Particulars X Y Z
Net Cash Outlays (Rs.) 2,10,000 1,20,000 1,00,000
Project Life 5 years 5 years 5 years
Annual cash inflow (Rs.) 70,000 42,000 30,000
Coefficient of variation 1.2 0.8 0.4
The Company selects the risk adjusted rate of discount, on the co-efficient of variation –
Coefficient of Variation 0.00 0.4 0.8 1.2 1.6 2.0 More

than 2
Risk – adjusted rate of Return 10% 12% 14% 16% 18% 221% 25%
PV factor 1 to 5 years at 3.791 3.605 3.433 3.274 3.127 2.864 2.689
Risk Adjusted rate of Discount
27
CERTAINITY EQUIVALENT METHOD FOR RISK ANALYSIS

Question 6:
If investment proposal is Rs. 45,00,000 and risk-free rate is 5%, calculate Net present value under
certainty equivalent technique.
Year Expected cash Flow Certainty Equivalent

(Rs.) Coefficient
1 10,00,000 0.90
2 15,00,000 0.85
3 20,00,000 0.82
4 25,00,000 0.78
Question 7:
The textile manufacturing company Ltd. is considering one of two mutually exclusive proposals,
Projects M and N, which require cash outlays of Rs. 8,50,000 and 8,25,000 respectively. The
Certainty – Equivalent (CE) approach is used in incorporating risk in capital budgeting decisions. The
current yield on Government bonds is 6% and this is the risk-free rate. The expected Net cash flows
and their Certainty Equivalents are as follows:
Year Project M Project N

Cash flow (Rs.) C.E. Cash flow (Rs.) C.E.
1 4,50,000 0.8 4,50,000 0.9
2 5,00,000 0.7 4,50,000 0.8
3 5,00,000 0.5 5,00,000 0.7
Required –
a) Which project should be accepted?
b) IF risk adjusted discount rate method is used, which project would be appraised with a higher rate
and why?
SENSITIVITY ANALYSIS
Question 8:
X Ltd is considering its new Product with the following details
Sr. No. Particulars Figures

1 Initial Capital cost Rs. 400 Cr
2 Annual Unit Sales 5 Cr
3 Selling price per unit Rs. 100
4 Variable cost per unit Rs. 50
5 Fixed costs per year Rs. 50 Cr
6 Discount rate 6%
7 No. of years 3
i. Calculate the NPV of the project
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ii. Find the impact on the project’s NPV of a 2.5% adverse variance in each variable.
Which variable is having maximum effect?
Question 9:
From the following details relating to a project, analyze the sensitivity of the project to changes in
initial project cost, annual cash inflow and cost of capital:
Particulars Figures
Initial Project Cost (Rs.) 1,20,000
Annual cash inflow (Rs.) 45,000
Project Life (years) 4
Cost of capital 10%
To which of the three factors, the project is most sensitive if the variable is adversely affected by
10%? (Use annuity factors: for 10% - 3.169 and 11% - 3.103)
SCENARIO ANALYSIS
Question 10:
XYZ Ltd. is considering a project “A” with an initial outlay of Rs. 14,00,000 and the possible three
cash inflow attached with the project as follows:
Particular Year 1 Year 2 Year 3

Worst case 450 400 700
Most Likely 550 450 800
Best Case 650 500 900
Assuming the cost of capital as 9%. Determine NPV in each scenario, if XYZ Ltd is certain about the
most likely result but uncertain about the third year’s cash flow what will be the NPV expecting worst
scenario in the third year.
29
DIVIDEND DECISIONS
Question 1:
Information relating to a company is given below-
Company A: Profit after tax Rs.2 crores, no of equity share outstanding 50 Lakhs of Rs.1 each, fully
paid up, shares prices are traded at Rs.24. dividend declared Rs.1 crore.
Required-
A) Earning per share

B) Dividend per share
C) Dividend rate
D) Dividend yield
E) Payout ratio
Question 2:
Two companies- X Ltd and Y Ltd are in the same industry with the same earnings per share for the
last five years. X Ltd has a policy of paying 40% of earnings as dividends, while the y Ltd pays a
constant amount of dividend per share.
There is disparity between the market prices of the shares of the 2 companies. The price of the X’s
share is generally lower than that of Y, even though in some years X paid more dividends than Y. the
data on earnings, dividends and market price for the companies are as under-
Year X Ltd Y Ltd

EPS (Rs.) DPS (Rs.) MPS (Rs.) EPS (Rs.) DPS (Rs.) MPS (Rs.)
2009 8.00 3.20 24.00 8.00 3.60 27.00
2010 3.00 1.20 17.00 3.00 3.60 25.00
2011 10.00 4.00 27.00 10.00 3.60 25.00
2012 8.00 3.20 23.00 8.00 3.60 25.00
2013 16.00 6.40 29.00 16.00 3.60 25.00
A) What are the reasons for the differences in the market prices of the company’s shares?
B) What can be done by the X Ltd to increase the market price of its share?
Question 3:
Sahu and Co earns Rs.6 per share having capitalization rate of 10% and has a return of investment at
the rate of 20%. According to Walter’s model, what should be the price per share at 30% dividend
payout ratio? Is this the optimum payout ratio as per Walter?
30
Question 4:
The following information pertains to M/s XY Ltd.
Particulars Figures
Earnings of the company Rs.5,00,000
Dividend payout ratio 60%
No. of shares outstanding 1,00,000
Equity capitalization rate 12%
Rate of return on investment 15%
i) What would be the market value per share as per Walter’s model?
ii) What is the optimum dividend payout ratio according to Walter’s model and the market value of the
company share at that payout ratio?
Question 5:
The Earnings Per Share of a company is Rs.10 and the rate of capitalization applicable to it is 10%. The
company has three options of paying dividend i.e. (i) 50%, (ii) 75% and (iii) 100%. Calculate the market
price of the share as per Walter’s Model if it can earn a return of (a) 15, (b) 10 and (c) 5 percent on
its retained earnings.
Question 6:
The following figures are collected from the annual report of XYZ Ltd.-

Net profit 30 Lakhs
Outstanding 12% preference shares 100 Lakhs
No. of equity shares 3 Lakhs
Return on investment 20%
What should be the approximate dividend payout ratio so as to keep the share price at Rs.42 by using
Walter model? Assume Ke = 16%.
Question 7:
Goldi locks Ltd. was started a year back with equity capital of Rs.40 lakhs. The other details are as
under:
31
Particulars Figures
Earnings of the company Rs.4,00,000
Price earnings ratio 12.50
Dividend paid Rs.3,20,000
Number of shares 40,000
(i) Find the current market price of the share. Use Walter’s model.
(ii) Find whether the company’s D/P ratio is optimal. Find P0 under optimal dividend Payout Ratio.
Question 8:
The following information is supplied to you:
Particulars Figures
Total Earnings 2,00,000
No. of equity shares (Rs.100 each) 20,000
Dividend paid 1,50,000
Price/Earnings ratio 12.50
i) Ascertain whether the company is the following an optimal dividend policy.

ii) Find out what should be the P/E ratio at which the dividend policy will have no effect on the value
of the share.
iii) Will your decision change, if the P/E ratio is 8 instead of 12.5?
Question 9:
The following information is collected from the annual reports of J Ltd
Particulars Figures
Profit before tax Rs.2.50 crore
Tax rate 40%
Retention ratio 40%
Number of outstanding shares 50,00,000
Equity capitalization rate 12%
Rate of return on investment 15%
What should be the market price per share according to Gordon’s model of dividend policy?
Question 10:
A company has invested Rs.500 lakhs in assets. There are 50 Lakhs shares outstanding. The Par value
per share is Rs.10/-. It earns a rate of 15% on its investment and has a policy of retaining 50% of the
earnings. If the appropriate discount rate of the firm is 10%, what is the price of its share using the
32
Gordon’s model? What will happen to the price of the share if the company has a payout of 80% or
20%?
Question 11:
Mr. A is contemplating purchasing of 1000 equity shares of a company. His expectation of return is
10% before tax by way of dividend with an annual growth of 5%. The company’s last dividend was Rs.2
per share. Even as he is contemplating, Mr. A, suddenly finds, due to budget announcement, dividends
have been exempted from tax in the hands of the recipient. But the imposition of dividend distribution
tax on the company is likely to lead to a fall in dividend of Rs.0.20 per share. A’s marginal tax rate is
30%. Required:
Calculate what should be Mr. A’s estimates of the price per share before and after the budget
announcement?
Question 12:
A firm had been paid dividend at Rs.2 per share last year. The estimated growth of the dividends from
the company is estimated to be 5% per annum. Determine the estimated market price of the equity
share if the estimated growth rate of dividends
i) Rises to 8%
ii) Falls to 3%.
Also find out the present market price of the share given at required rate of return of the equity
investors is 15.5%.
Question 13:
In December 2011 AB co. share was sold for Rs.146 per share. A long term earnings growth rate of
7.5% is anticipated. AB co. is expected to pay dividend of Rs.3.36 per share.
i) What rate of return an investor can expect to earn assuming dividends are expected to grow along
with earnings at 7.5% per year in perpetuity?
ii) It is expected that AB co. will earn about 10% in book equity and shall retain 60% of earnings. In
this case, whether there would be any change in growth rate and cost of equity?
Question 14:
X Ltd. is a shoes manufacturing co. It is all equity financed and has a paid-up capital of Rs.10 lakhs
(Rs.10 per share).
33
X Ltd. has hired Swastika consultants to analyze the future earnings.
The reports of Swastika consultants state as follows:
i) The earnings and dividends will grow at 25% for the next 2 years.
ii) Earnings are likely to grow at the rate of 10% from 3 year and onwards.
iii) Further if there is reduction in earning’s growth, dividend payout ratio will increase to 50%.
The other data related to the company is as follows:
Year EPS (Rs) Net DPS (Rs) Share Price (Rs)

2010 6.30 2.52 63
2011 7.00 2.80 46
2012 7.70 3.08 63.75
2013 8.40 3.36 68.75
2014 9.60 3.84 93
You may assume that the tax rate is 30% (not expected to change in future) and after-tax cost of
capital is 15%.
By using the dividend valuation model, Calculate
i) Expected market price per share

ii) P/E ratio
Question 15:
The following information regarding the equity shares of M Ltd. is given.

Market price Rs.58.33
Dividend per share Rs.5
Multiplier 7
According to the Graham & Dodd approach to the dividend policy, compute the EPS.
Question 16:
The dividend payout ratio of H Ltd. is 40% if the company follows traditional approach to the dividend
policy with a multiplier of 9, what will be the P/E ratio?
34
Question 17:
Given the last year’s dividend is Rs.9.80, speed of adjustment is 45%, target payout ratio 60% and EPS
for current year is Rs.20. Calculate the current year’s dividend.
Question 18:
What will be the dividend per share of City Pride Ltd. for the year 2017, given the following
information about the company?
Particulars Figures
EPS of 2016 Rs.3
DPS of 2016 Rs.1.2
Target payout ratio 0.6
Adjustment rate 0.7
Question 19:
RST Ltd. has a capital of Rs.10 lakhs in equity shares of Rs.100 each. The shares are currently quoted
at par. The company proposes to declare a dividend of Rs.10 per share at the end of current financial
year. The capitalization rate for the risk class of which the company belongs is 12%.
What will be the market price of the share at the end of the year if
i) A dividend is not declared?

ii) A dividend is declared?
iii)Assuming that the company pays the dividend and has net profit of Rs.5 lakhs and makes new
investments of Rs.10 lakhs during the period, how many new shares must be issue. Use the MM model.
Question 20:
X Ltd. has 8 lakhs equity shares outstanding at the beginning of the year. The current market price
per share is Rs.120. The board of directors of the company is contemplating Rs.6.4 per share as
dividend. The rate of capitalization, appropriate to the risk class to which the company belongs is
9.60%:
i) Based on M-M approach, calculate the market price of the share of the company, when the dividend
is-
a) Declared b) Not declared
35
ii) How many new shares are to be issued by the company, if the company desires to fund an
investment budget of Rs.3.20 crores by the end of the year assuming net income for the year will be
Rs.1.60 crores?
Question 21:
ABC Ltd. has 50,000 outstanding shares. The current market price per share is Rs.100 each. It hopes
to make a net income of Rs.5 lakhs at the end of the current year. The company’s board is considering
a dividend of Rs.5 per share at the end of the current financial year. The company needs to raise Rs.10
lakhs for an approved investment expenditure. The company belongs to a risk class for which the
capitalization rate is 10%.
Show how the M-M approach affects the value of firms if the dividends are paid or not paid.
36
CAPITAL STRUCTURE
NET INCOME APPROACH
Question 1: (Basic computation of WACC & Proving NI Approach)
The following data relates to 4 firms-
Firm A B C D
EBIT Rs.2,00,000 Rs.3,00,000 Rs.5,00,000 Rs.6,00,000
Interest Rs.20,000 Rs.60,000 Rs.2,00,000 Rs.2,40,000
Equity Capitalization Rate 12% 16% 15% 18%
Assuming that there are no taxes and Interest rate on Debt is 10%, determine the value and WACC of
each firm using the Net Income Approach. What happens if firm A borrows Rs.2,00,000 at 10% to
repay Equity Capital?
TRADITIONAL APPROACH
Question 2: (Proving Traditional Approach)
RST Ltd is expecting an EBIT of Rs.4 Lakhs for F.Y. 2015-16. Presently the company is financed
entirely by Equity Share Capital of Rs.20 Lakhs with equity capitalization rate of 16%. The company is
contemplating to redeem a part of the capital by introducing Debt Financing. The company has two
options to raise Debt: -
Option I - to the extent of 30%, Interest rate @ 10%, Ke @ 17%
Option II - to the extent of 50% of the total fund. Interest Rate @ 12%, Ke @ 20%
NET OPERATING INCOME APPROACH

Question 3: (Basic NOI Approach)
Alpha Ltd and Beta Ltd are identical except for capital structures. Alpha Ltd has 50% debt and 50%
equity, whereas Beta Ltd has 20% debt and 80% equity. (All percentages are in market value terms).
The borrowing rate for both companies is 8% in a no-tax world and capital markets are assumed to be
perfect.
a) If you own 2% shares of alpha ltd, what is your return if the company has net operating income of
Rs.3,60,000 and the overall capitalization rate of the company, Ko is 18%? Calculate the implied
required rate of return on equity?
b) Beta Ltd has the same net operating income as Alpha Ltd.
(i) What is the implied required equity return of Beta Ltd.?
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(ii) Why does it differ from that of Alpha Ltd.?
MODIGLIANI – MILLER (MM) APPROACH:

Question 4: (MM Arbitrage Process)
The data relating to two companies Karna Ltd. and Arjun Ltd., belonging to the same risk class, are as
follows-
Particulars Karan Ltd. Arjun Ltd.

Number of equity shares 90,000 1,50,000
Market price per share Rs.1.20 Rs.1.00
6% debentures Rs.60,000 NIL
Profit before Interest Rs.18,000 Rs.18,000
There are no taxes. Bheema is an investor holding 10% stake in Karan Ltd. What is the benefit/loss to
Bheema, if he switches his holding to Arjun Ltd.? When will this arbitrage process end?
Question 5: (MM Arbitrage Process When value of Unlevered Firm is more than value of Levered)
Following Data is available in respect of two companies having same business risk:
Capital Employed: Rs.2,00,000, EBIT = Rs.30,000
Sources Levered Company Unlevered Company

Debt (@ 10%) 1,00,000 Nil
Equity 1,00,000 2,00,000
Ke 20% 12.50%
Investor is holding 15% shares in Unlevered company. Calculate increase in annual earnings of investor
if he switches his holding from Unlevered to Levered Company.
Question 6: (MM Approach without tax – Computation of KEL)
Z Ltd.’s operating income (before interest and tax) is Rs.9, 00,000. The firm’s cost of debt is 10% and
currently employs Rs.30, 00,000 of debt. The overall cost of capital of firm is 12%.
Required: Calculate the cost of equity.
Question 7: (MM Approach without tax – Computation of KEL – with Debt Equity Ratio)
One-third of total market value of Hari Limited consists of loan stock, which has a cost of 10%.
Another company, Guru Limited is identical in every respect to Hari Limited, except that its capital
structure in all–equity, and its cost of equity is 16%. According to Modigliani and miller, if we ignored
taxation and tax relief on debt capital, what would be the cost of equity of Hari Limited?
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Question 8: (MM Approach with tax & Computation of Equity with reverse calc. & WACC)
PNR Ltd. and PXR Ltd. are identical in every respect except capital structure. PNR Ltd. does not
employ debts in its capital structure whereas PXR Ltd. employs 12% debentures amounting to
Rs.20,00,000.
The following additional information is given-
i) Income tax rate is 30%.

ii) EBIT Rs.5,00,000.
iii) The equity capitalization rate of PNR Ltd. is 20%.
iv) All assumptions Modigliani- miller approach is met.
Calculate:
a) Value of both the companies
b) Weighted average Cost of capital of both the companies.
Question 9: (MM Approach with tax & Computation of EBIT with reverse calc. & WACC)
RES Ltd. is an all equity financed company with a market value of Rs.25,00,000 and cost of equity (Ke)
21%. The company wants to buyback equity shares worth Rs.5,00,000 by issuing and raising 15%
perpetual debt of the same amount. Rate of tax may be taken as 30%. After the capital restructuring
and applying MM Model (with taxes),
You are required to calculate:
i) Market value of RES Ltd.

ii) Cost of equity (Ke)
iii) Weighted average cost of capital (using market weights) and comment on it.
Question 10: (MM Approach – Computing New Ke & WACC, unique Problem)
Zeta Ltd. is presently financed entirely by equity shares. The current market value is Rs.6,00,000. A
dividend of Rs.1,20,000 has just been paid. The new project will be financed by issuing Rs.5,00,000
debentures at 18% investment. This level of Capital Employed is expected to generate net cash
receipts of Rs.1,05,000 per annum indefinitely. Ignoring tax consideration-
a) Calculate the value of equity shares and the gain made by shareholders, if the cost of the equity
rises to 21.6%.
b) Prove that the weighted average cost of capital is not affected by gearing.
CHOOSING THE BEST ALTERNATIVE:
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Question 11: (Based on Project Cost)
XYZ Co. has a capital structure of 30% debt and 70% equity. The company is considering various
proposals costing less than Rs.30,00,000. The company does not want to disturb its present capital
structure. Assume tax rate is 50%. The cost of raising the debt and equity are as follows:
Project Cost Cost of Debt (before tax) Cost of Equity

Up to Rs.5 Lakhs 9% 13%
Above Rs.5 Lakhs and up to Rs.20 Lakhs 10% 14%
Above Rs.20 Lakhs and up to Rs.40 Lakhs 11% 15%
Above Rs.40 Lakhs and up to Rs.1 Crore 12% 15.55%
a) Compute the Ko (ie.WACC) of projects A and B, whose fund requirement are Rs.8,00,000 and
Rs.22,00,000 respectively.
b) If the projects are expected to yield after tax return of 12%, determine which projects are
acceptable.
c) Also, if Return on Capital Employed (ROCE) = 11%, determine under what condition the project
would be acceptable?
Question 12: (Based on EPS)
A company earns a profit of Rs.3 lakhs per annum after meeting its interest l liability of Rs.1 lakh 20
thousand on 12% debentures. The tax rate is 50%. The number of equity shares of Rs.10 each are
80,000 and the retained earnings amount to Rs.12 lakhs.
The company proposes to take up an expansion scheme for which a sum of Rs.4 lakh is required. It is
anticipated that after expansion, the company will be able to achieve the same return on investment as
at present. The funds required for expansion can be raised either through debt at the rate of 12% or
by issuing equity shares at par.
Required:
i) Compute the earnings through share, if:

a) The additional funds are raised as debt.
b) The additional were raised by issue of equity shares.
ii) Advice the company as to which source of finance is preferable.
Question 13: (Based on EPS)
India Ltd. requires Rs.50 lakhs for a new plant. This plant is expected to yield earnings before
interest and taxes of Rs.10 lakhs. While deciding about the financial plan, the company considers the
objective of maximizing earnings per share.
40
It has 3 alternatives to finance the project- By raising debt of Rs.5 lakhs or Rs.20 lakhs or Rs.30
lakhs and the balance in each case, by issuing equity shares. The company’s share is selling at Rs.150,
but it is expected to decline to Rs.125 in case the funds are borrowed in excess of Rs.20 lakhs. The
funds can be borrowed at the rate of 9% up to Rs.5 lakhs, at 14% over Rs.5 lakhs and up to Rs.20 lakhs
and 19% over Rs.20 lakhs. The tax rate applicable with the company is 40%.
Which form of financing should the company choose? Show EPS amount up to two decimal points.
EBIT – EPS INDIFFERENCE POINT:

Question 14: (Basic Problem of EBIT – EPS Indifference Point)
Calculate the level of earnings before interest and tax (EBIT) at which the EPS indifference point
between the following financing alternatives will occur.
i) Equity share capital of Rs.6 lakhs and 12% debentures of Rs.4 lakhs.
ii) Equity share capital of Rs.4 lakhs,14% preference share capital of Rs.2 lakhs and 12% debentures of
Rs.4 Lakhs.
Assume the corporate tax rate is 35% and par value of equity share is Rs.10 in each case.
Question 15: (EBIT – EPS Indifference Point with understanding the Decision making)
Alpha Ltd. requires funds amounting to Rs.80 lakhs for its new project. To raise the funds the
company has following two alternatives:
i) To issue equity shares of Rs.100 each (at par) amounting to Rs.60 lakhs and borrow the balance
amount at the interest @12% per annum or
ii) To issue equity shares of Rs.100 each (at par) and 12% debentures in equal proportion.
iii) The income tax rate is 30%.
Find out the point of indifference between the available two modes of financing and state which option
will be beneficial in different situation.
Question 16: (EBIT – EPS Indifference Point with Preference Shares)
X Ltd. is considering the following two alternative financing plans:
Particulars Plan I (Rs.) Plan II (Rs.)

Equity Shares of Rs.10 each 4,00,000 4,00,000
12% Debentures 2,00,000 NIL
Preference Shares of Rs.100 each NIL 2,00,000
Total 6,00,000 6,00,000
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The indifference point between the plans is Rs.2 lakh 40 thousand. Corporate tax rate is 30%.
Calculate the rate of dividend on preference shares.
Question 17: (Advanced EBIT-EPS Indifference with 3 Proposals & Financial BEP)
The management of Z Company Ltd. wants to raise its funds from market to meet out the financial
demands of its long-term projects. The company has various combinations of proposals to raise its
funds. You are given the following proposals of the company:
Proposals Equity Shares (%) Debts (%) Preference Shares (%)

P 100 - -
Q 50 50 -
R 50 - 50
i) Cost of debt and preference shares is 10% each.

ii) Tax rate -50%
iii) Equity shares of the face value of Rs.10 each will be issued at a premium of Rs.10 each
iv) Total investment to be raised is Rs.40 lakhs.
v) Expected earnings before interest and tax Rs.18 lakhs.
From the above proposals the management wants to take advice from you for appropriate plan after
computing the following:
(a) Earnings per share.
(b) Financial break-even-point.
(c) Compute the EBIT range among the plans for indifference. Also indicate if any of the plans
dominate.
Question 18: (EBIT-EPS Indifference, Analyzing the Decision, Computing Financial BEP)
ABC Ltd. wants to raise Rs.5 lakhs as additional capital. It has 2 mutually exclusive financial plans. The
current EBIT is Rs.17 lakhs which is likely to remain unchanged. Tax rate 50%. Other relevant
information is-
Present capital structure 3, 00,000 Equity shares of Rs.10 each and 10% bonds of Rs.20,00,000.
Current EBIT Rs.17,00,000.
Current EPS Rs.2.50.
Current market price Rs.25 per share.
Financial plan I 20,000 Equity shares at Rs.25 per share.
Financial plan II 12% Debentures of Rs.5,00,000.
What is the indifference level of EBIT? Identify the financial break-even levels. Which alternative
financial plan is better?
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Question 19: (Homework)
A new project is under consideration in Zip Ltd., which requires a capital investment of Rs.4.50 crores.
Interest on term loan is 12% and corporate tax rate is 50%. If the debt equity ratio insisted by the
financing agency is 2:1, calculate the point of indifference for the project.
Question 20: (Advanced Comprehensive Question) (PP. 3)
Yoyo Ltd. presently has Rs.36,00,000 in debt outstanding bearing an interest rate of 10%. It wishes to
finance an Rs.40,00,000 expansion programme and is considering 3 alternatives: additional debt at 12%
interest, preference shares with an 11% dividend and the issue of equity shares at Rs.16 per share.
The company presently has 8,00,000 shares outstanding and is in a 40% tax bracket.
a) If the earnings before interest and taxes are presently Rs.15,00,000, what would be earnings per
share for the three alternatives, assuming no immediate increase in profitability?
b) What are the approximate indifference point mathematically between debt and common?
c) Which alternative do you prefer? How much would EBIT need to increase before the next
alternative would be best?
Question 21 (ill 13 SM):
Question 22 (PP 5 SM):
43
FINANCIAL ANALYSIS & PLANNING

– RATIO ANALAYSIS
Question 1:
From the following information, Calculate the amount of Fixed Assets & Proprietors Funds.
a. Ratio of Fixed Assets to Proprietors Funds = 0.75,
b. Net Working Capital = Rs.6,00,000.
Question 2:
The following information related to beta Ltd for the year ended 31st March:
Particulars Figures
Net Working Capital Rs. 12,00,000
Fixed Assets to Proprietor’s Funds Ratio 0.75
Working capital Turnover ratio 5 times
Return on Equity 15%
There is no debt capital. You are required to calculate,
a) Proprietor’s Fund
b) Fixed Assets and
44
c) Net Profit Ratio
Question 3:
MNP Limited has made plans for the next year 2015-16. It is estimated that the company will employ
total assets of Rs.25,00,000. 30% of assets being financed by debt at an interest cost of 9% p.a. The
direct costs for the year are estimated at Rs.15,00,000 and all other operating expenses are
estimated at Rs.2,40,000. The sales revenue is estimated at Rs.22,50,000. Tax rate is assumed to be
40%. Required to calculate:
a) Net profit margin (After tax)

b) Return on Assets (After Tax)
c) Assets turnover, and
d) Return on equity
Question 4:
The total sales (all credit) of a firm are Rs.6,40,000. It has a gross profit margin of 15% and a current
ratio of 2.5. The firm’s current liabilities are Rs.96,000; inventories Rs.48,000 and cash Rs.16,000.
a) Determine the average inventory to be carried by the firm, if an inventory turnover of 5 times is
expected? (Assume a 360-day year)
b) Determine the average collection period if the opening balance of debtors is intended to be of
Rs.80,000? (Assume a 360-day year)
Question 5:
MN Ltd gives you the following information related for the year ending 31st March, 2016.
Current ratio 2.5:1 Current Market price per Rs.16

Equity share
Debt – Equity Ratio 1.00:1.50 Net working capital Rs.4,50,000
Return on Total Assets (After 15% Fixed assets Rs.10,00,000
tax)
Total Assets Turnover ratio 2 60,000 Equity Shares of Rs.10 each
Gross Profits Ratio 20% 20,000, 9% Preference Shares Rs.10 each
of
Stock Turnover ratio 7 Opening stock 3,80,000
a) Quick ratio
45
b) Fixed Assets Turnover ratio

c) Proprietary Ratio
d) Earnings per share
e) Price – Earnings ratio
Question 6:
The following accounting information and financial ratios of M Limited relate to the year ended 31st
March, 2016:
Particulars Figures
Inventory Turnover ratio 6 times
Creditors Turnover ratio 10 times
Debtors Turnover ratio 8 times
Current ratio 2.4 times
Gross profit ratio 25%
Total sales Rs.30,00,000; Cash sales 25% of credit sales; Cash purchases Rs.2,30,000; Working capital
Rs.2,80,000; Closing inventory is Rs.80,000 more than opening inventory.
a) Average inventory
b) Purchases
c) Average debtors
d) Average creditors
e) Average payment period
f) Average collection period
g) Current Assets
h) Current liabilities.
Question 7:
Following information relate to a concern.
Debtors Velocity 3 months Bills Receivable Rs. 25,000

Creditors Velocity 2 months Bills Payable Rs. 10,000
Stock turnover ratio 1.5 Gross Profit Rs. 4,00,000
Gross Profit Ratio 25% Fixed Assets to turnover ratio 4
Closing stock of the period is Rs.10,000 above the opening stock. You are required to compute-
a) Sales
b) Costs of goods sold
46
c) Sundry Debtors
d) Sundry Creditors
e) Closing stock
f) Fixed assets
Question 8:
The financial Statements of a Company contain the following information for the year ending 31st
March –

Cash 1,60,000
Sundry Debtors 4,00,000
Short Term investments 3,20,000
Stock 21,60,000
Prepaid expenses 10,000
Total current Assets 30,50,000
Current liabilities 10,00,000
Equity Share capital 20,00,000
Retained earnings 8,00,000
Statement of Profit for the year ended 31st March

Sales (20% Cash sales) 40,00,000
Less: Cost of goods sold 28,00,000
Profit before Interest & Tax 12,00,000
Less: Interest 1,60,000
Profit before Tax 10,40,000
Less: Tax @ 30% 3,12,000
Profit after Tax 7,28,000
Calculate –
a) Quick ratio
b) Debt-Equity Ratio
c) ROCE, and
d) Average Collection Period (Assuming 360-day year)
Question 9:
The capital structure of Beta Ltd. is as follows:
47

Equity share capital of Rs.10 each 8,00,000
9% preference share capital of Rs.10 each 3,00,000
11,00,000
Additional information: Profit (after tax at 35%), Rs.2,70,000: Depreciation, Rs.60,000: Equity
dividend paid, 20%; Market price of equity shares, Rs.40. You are required to compute the following,
showing the necessary workings:
a) Dividend yield on the equity shares

b) Cover for the preference and equity dividend
c) Earnings per share
d) Price-earnings ratio
Question 10:
From the following information, prepare a summarized balance sheet as at 31st March 2002:
Particulars Figures
Net working capital Rs.2,40,000
Bank overdraft Rs.40,000
proprietary ratio 0.75
Reserves and surplus Rs.1,60,000
Current ratio 2.5
Liquid ratio (quick ratio) 1.5
Question 11:
Using the following information, complete the following sheet given below:
Particulars Figures
Total debt to net worth 1.20
Total assets Turnover Ratio 2
Gross profit on sales 30%
Average collection period (assume 360 days in a year) 40 days
Inventory turnover ratio based on cost of goods sold and 3
year-end inventory
Acid test ratio 0.75
Balance sheet as on 31st March, 2016
Liabilities Rs. Assets Rs.

Equity and surplus 4 lakhs Plant and machinery and -
Reserves and surplus 6 lakhs other fixed assets
Current assets:
48
Total debt (Current liabilities) - Inventory -

Debtors -
Cash -
- -
Question 12:
From the following information, prepare Balance sheet of a firm:
Stock Turnover Ratio (based on 7 times Liquidity Ratio 1.25

Cost of goods sold)
Rate of Gross Profit to sales (all 25% Net Working Capital Rs.8,00,000
sales are on credit basis)
Sales to Fixed Assets 2 times Reserves and Surplus to Equity 0.25 times
Share Capital
Average Debt Collection Period 1.5 months Long term Debts Nil
Current ratio 2
Question 13:
The following figures and ratio pertain to ABG Company Limited for the year ending 31st March:
Annual Sales (credit) Rs.50,00,000 Current Ratio 1.5

Gross Profit Ratio 28% Debtors Collection Period 45 days
Fixed Assets Turnover Ratio 1.5 Reserves & Surplus to share 0.60:1
(based on Cost of Goods Sold) capital
Stock Turnover Ratio 6 Capital Gearing Ratio 0.5
(based on Cost of Goods sold)
Quick Ratio 1:1 Fixed Assets to net worth 1.2:1
Prepare the Balance Sheet as 31st March, based on the above information. Assume 360 days in a year.
Question 14:
The assets of SONA Ltd. consist of fixed assets and current assets, while its current liabilities
comprise bank credit in a ratio of 2:1. You are required to prepare Balance sheet of the Company as on
31st March, 2016 with the help of following information.
Particulars Figures
Share capital Rs.5,75,000
Working capital (CA-CL) Rs.1,50,000
Gross Margin 25%
Inventory Turnover 5 times
49
Average Collection Period 1.5 months

Current Ratio 1.5:1
Quick Ratio 0.8:1
Reserves and Surplus to bank & cash 4 times
Assume 360 days in a year.
Question 15:
Ganapati Limited has furnished the following ratios and information relating to the year ended 31st
March. 2017.
Particulars Figures
Sales Rs.60,00,000
Return on net worth 25%
Rate of income tax 50%
Share capital to reserves 7:3
Current ratio 2
Net Profit to sales 6.25%
Inventory Turnover (based on cost goods sold) 12
Cost of goods sold Rs.18,00,000
Interest on debentures Rs.60,000
Receivables Rs.2,00,000
Payables Rs.2,00,000
You are required to:
(a) Calculate the operating expenses for the year ended 31st March, 2017
(b) Prepare a balance sheet as on 31st March 2017 in the following format:
Balance Sheet as on March 31, 2016
Liabilities Amount (Rs.) Assets Amount (Rs.)

Equity Share Capital 4,00,000 Fixed Assets -
Reserves and Surplus 6,00,000 Current Assets:
Inventory -
Receivables -
Cash -
15% Debentures -
Payables -
- -
Question 16:
VRA has provided you the following information for the year ending 31st March-
50
Debt equity ratio 2:1 Income tax rate 35%

14% Long term Debt Rs.50,00,000 Capital Turnover Ratio 1.2 times
Gross Profit Ratio 30% Opening Stock Rs.4,50,000
Return on Equity 50% Closing Stock 8% of sales
You are required to prepare Trading and Profit and Loss Account for the Year ending 31st March.
Question 17:
With the following information given below prepare a trading A/c Profit and Loss A/c and Balance
sheet of ABC Company.
Particulars Figures
Fixed Assets Rs.40,00,000
Closing Stock Rs.4,00,000
Stock Turnover Ratio 10
Gross Profit Ratio 25%
Net Profit Ratio 20%
Net Profit to Capital 1/5
Capital Employed to Current liabilities 1/2
Fixed Assets of Capital 5/4
Fixed Assets / Total Current Assets 5/7
Question 18:
The following accounting information and financial ratios of PQR Ltd. relate to the year ended 31st
December, 2015.
Accounting Information:
Gross Profit 15% of sales
Net Profit 8% of sales
Raw Materials consumed 20% of works cost
Direct wages 10% of works cost
Stock of raw materials 3 months usage
Stock of finished goods 6% of works cost
Debt collection period (All sales are on credit) 60 days
Financial Ratios:
Fixed assets to sales 1:3
Fixed Assets to Current Assets 13:11
Current Ratio 2:1
Long – term loans to Current Liabilities 2:1
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Share Capital to reserves and Surplus 1:4
If value of fixed assets as on 31st December, 2014 amounted to 26 Lakhs. Prepare a Financial
Statement of PQR Limited for the year ended 31st December, 2015 and also the Balance sheet as on
31st December, 2015.
Question 19:
Explain the important ratios that would be used in each of the following situations:
i) A bank is approached by a Company for a loan of Rs.50 Lakhs for working capital purposes.
ii) A creditor interested in determining whether his claim is adequately secured.
iii) A shareholder who is examining his portfolio and who is to decide whether he should hold or sell his
holding in the company.
iv) A finance manager interested to know the effectiveness with which a firm uses its available
resources.
v) A rich investor interested in investing in Equity shares.
Question 20:
JKL Limited has the following Balance Sheets as on March 31, 2015 and March 31, 2016.
Rs. In Lakhs
Particulars March 31, 2016 March 31, 2015
Sources of Funds:
Shareholders’ Funds 2,377 1,472
Loan Funds 3,570 3,083
5,947 4,555
Applications of funds:
Fixed Assets 3,466 2,900
Cash and bank 489 470
Debtors 1,495 1,168
Stock 2,867 2,407
Other Current Assets 1,567 1,404
Less: Current Liabilities (3,937) (3,794)
5,947 4,555
The Income Statements of the JKL Ltd. for the year is as follows:
Particulars March 31, 2016 March 31, 2015

Sales 22,165 13,882
Less: Cost of goods sold 20,860 12,544
Gross profit 1,305 1,338
Less: Selling, general and administrative expenses 1,135 752
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Earnings Before Interest and Tax (EBIT) 170 586

Interest Expense 113 105
Profits before tax 57 481

Tax 23 192
Profits after tax 34 289

Required:
I) Calculate for the year 2015-16:

a) Inventory turnover ratio; b) Financial leverage; c) Return on capital employed (ROCE)
d) Return on Equity (ROE); e) Average Collection period.
II) Give a brief comment on the Financial Position of JKL Limited.
WORKING CAPITAL MANAGEMENT

Question 1:
The following information is provided by the DPS Limited for the year ending 31st March, 2020
Particulars Figures
Raw Materials storage period 50 days
Work – in – progress conversion period 18 days
Finished Goods storage period 22 days
Debt Collection period 45 days
Creditors payment period 55 days
Annual Operating cost (including depreciation of Rs. 2,10,000) Rs.21,00,000
(Assume 1 year = 360 days)
(i) Operating Cycle period

(ii) Number of operating cycles in a year
(iii) Amount of working capital required for the company on a cash cost basis.
(iv) The Company is a market leader in its project, there is virtually no competitor in the market.
Based on a market research it is planning to discontinue sales on credit and deliver products
based on pre – payments. Thereby, it can reduce its working capital requirement substantially.
Question 2:
53
The Trading and Profit and Loss Account of Beta Ltd. for the year ended 31st March, 2020 is given
below:
Particulars Amount Particulars Amount

(Rs.) (Rs.)
To opening stock: By Sales (Credit) 20,00,000
- Raw materials 1,80,000 By Closing Stock:
- Work – in – progress 60,000 - Raw Materials 2,00,000
- Finished Goods 2,60,000 - Work – in – progress 1,00,000
To Purchases (credit) 11,00,000 - Finished Goods 3,00,000
To wages 3,00,000
To Production Wages 2,00,000
To Gross Profit c/d 5,00,000
26,00,000 26,00,000
To Administration 1,75,000 By Gross Profit b/f 5,00,000
Expenses
To Selling Expenses 75,000
To Net Profit 2,50,000
5,00,000 5,00,000
The Opening and Closing balances of debtors were Rs.1,50,000 and Rs.2,00,000 respectively whereas
opening and closing creditors were Rs.2,00,000 and Rs.2,40,000 respectively.
You are required to ascertain the working capital requirement by operating cycle method.
Question 3:
Important Ratios of Raja Co. for a year are given below. Compute working capital required for the next
year.
Particulars Figures
Stock Velocity 4 Times
Debt Collection Period 2 months
Creditors Payment Period 73 days
Gross Profit – (20% of sales) Rs.2,00,000
Cash & Bank Balance 5 % of sales
Credit Purchase 25%
The firm expects an increase of 50% in sales in the next year. Assume 365 Days in a year.
Question 4:
The following information has been extracted from the records of a Company –
54
Product Cost Sheet Rs./Unit

Raw Materials 45
Direct Labour 20
Overheads 40
Total 105
Profit 15
Selling Price 120
Additional Information: -
a) Raw materials are in stock on an average of 2 months.

b) The materials are in process on an average for 4 weeks. The degree of completion is 50%.
c) Finished goods stock on an average is for one month
d) Time lag in payment of wages and overheads is 1.5 weeks.
e) Time lag in receipt of proceeds from debtors is 2 months.
f) Credit allowed by suppliers is one month.
g) 20% of the output is sold against cash.
h) The company expects to keep a cash balance of Rs.1,00,000.
i) Take 52 weeks per annum.
The company is poised for a manufacture of 1,44,000 units in the year. You are required to prepare a
statement showing the Working Capital requirements of the Company.
Question 5:
The following annual figures relate to MNP Limited:
Particulars Amount
Sales (at three months credit) Rs.90,00,000
Materials consumed (suppliers extend one and half Month’s credit) Rs.22,50,000
Wages paid (one month in arrear) Rs.18,00,000
Manufacturing expenses outstanding at the end of the Year (Cash expenses Rs.2,00,000
are paid one month in arrear)
Total Administrative expenses for the year (cash Expenses are paid one Rs.6,00,000
month in arrear)
Sales Promotion expenses for the year (paid quarterly in Advance) Rs.12,00,000
The Company sells its products on gross – profit of 25% assuming depreciation as a part of cost of
production. It keeps two month’s stock of finished goods and one month’s stock of raw materials as
inventory. It keeps cash balance of Rs.2, 50,000.
Assume a 5% safety margin, work out the working capital requirements of the company on cash cost
basis. Ignore work – in – progress.
Question 6:
55
A proforma cost sheet of a Company provides the following data:

Raw Material cost per unit 117
Direct Labour cost per unit 49
Factory overheads cost per unit (includes depreciation of Rs. 18 unit at 98
budgeted level of activity)
Total cost per unit 264
Profit 36
Selling price per unit 300
Following additional information is available:
Particulars Time Period

Average raw material in stock 4 weeks
Average work in progress stock (Material: 80%, Labour: 60%) 2 weeks
Finished goods in stock 3 weeks
Credit period allowed to debtors 6 weeks
Credit period availed from suppliers 8 weeks
Time lag in payment of wages 1 week
Time lag in payment of overheads 2 weeks
The Company sells one - fifth of the output against cash and maintains cash balance of
Rs.2,50,000.
Required:
Prepare a statement showing estimate of working capital needed to finance a budgeted activity level
of 78,000 units of production. You may assume that production is carried on evenly throughout the
year and wages and overheads accrue similarly.
Question 7:
PQ Limited wants to expand its business and has applied for a loan from a commercial bank for its
growing financial requirements. The records of the company reveal that the company sells goods in the
domestic market at GP of 25% not counting depreciation as part of the cost of goods sold. The
following additional information is also available for you –

Sales – Home at one month’s credit 1,20,00,000
Sales – Export at three month’s credit (Sale price 10% Below home price) 54,00,000
Material used (Suppliers extends two months credit) 45,00,000
Wages paid 0.5 month in arrear 36,00,000
56
Manufacturing Expenses (Cash) paid (one month in arrear) 54,00,000

Administrative expenses paid on month in arrear 12,00,000
Income Tax payable in four installments of which one falls in the next financial 15,00,000
year
The Company keeps one month’s stock of each Raw Materials and finished goods and believes in
keeping Rs.10, 00,000 available to it including the overdraft limit of Rs.5, 00,000 not yet utilized by
the Company. Assume a 15% margin for contingencies. Ignore Work-in Progress.
You are required to ascertain the requirement of the working capital of the company.
Question 8:
A newly formed company has applied to the Commercial bank for the first time for financing its
working capital requirements. The following information is available about the projections for the
current year:
Elements of Cost Per unit (Rs.)

Raw Material 40
Direct Labour 15
Overhead 30
Total cost 85
Profit 15
Sales 100
Other Information:
(a) Raw material in stock, average 4 weeks consumption, work–in–progress (completion stage, 50%) on
an average half a month. Finished goods in stock: on an average, one month.
(b) Credit allowed by suppliers is one month
(c) Credit allowed to debtors is two months
(d) Average time lag in payment of wages is 1.5 months and 4 weeks in overhead expenses.
(e) Cash in hand and at bank is desired to be maintained at Rs.50, 000
(f) All sales are on credit basis only.
Required:
Prepare statement showing estimate of working capital needed to finance an activity level of 96,000
units of production. Assume that production is carried on evenly throughout the year and wages and
overhead accrue similarly. For the calculation purpose 4 weeks may be taken as equivalent to a month
and 52 weeks in a year.
57
Question 9:
Following information relates to ABC Company for calendar year:
a) Projected sales – (in Rs. Lakhs)
Month August Septemb October Novembe Decemb

er r r
Sales 35 40 40 45 46
b) Gross Profit margin will be 20% on sales.
c) 10% of projected sales will be cash sales. Out of credit sales of each month, 50% will be collected
in the next month and the balance will be collected during the second month of sale.
d) Creditors will be paid in the first month following credit purchase. There will be credit purchase
only.
Wages and salaries will be paid on the first day of the first month. The amount will be Rs. 3
Lakhs each month.
e) Interim Dividend of Rs. 2 Lakhs will be paid in December 2016.
f) Machinery for Rs. 10 Lakhs will be purchased in September. Repayment by installment of Rs.
50,000 p.m. will start from October.
g) Administrative expenses of R.s 1,00,000 per month will be paid in the month of their incurrence.
h) Assume no minimum cash balance is required. Opening cash balance as on 1st October is estimated
at Rs. 10 Lakhs.
Prepare the monthly cash budget for the 3-month period (October to December).
Question 10:
Great Planners Ltd. Is a trading company, in respect of which you are required to prepare a cash
forecast statement, together with supporting schedules, for each of the 3 months of January to
march on the basis of the following information –
a) Sales department advises that sales for the current year estimated on the basis of actual sales
for the previous year of Rs. 180 Lakhs which were as follows – (Rs. In lakhs)
January 9.00 February 12.60 March 18.00

April 16.20 May 14.40 June 12.00
July 10.50 August 16.50 September 15.00
October 12.00 November 18.00 December 25.80
58
b) Sundry Debtor, as at 1st January would be at Rs. 11.40 Lakhs. The pattern of sales collection is:
50% in the month of sale, 40% in the first subsequent month, 9% in the second subsequent month
and 1% bad debt.
c) The company expects that it would realize by sale of Machinery Rs.1, 00,000 in February, and
capital expenditure during the month would amount to Rs.2, 00,000.
d) The normal expenditure, for the replacement of equipment, is estimated at Rs. 9,000 per month.
The items of equipment have an average estimated life of five years.
e) Ex-gratia payment to staff will be made in January Rs. 30,000 and March Rs. 45,000.
f) It is anticipated that cash dividends of Rs. 1, 20,000 will be paid in March.
g) Payment in respect of fixed and variable expenses for the first three months of January Rs. 4,
81,860, February Rs. 3, 56,400 and March Rs. 4, 75,200.
h) The purchase cost of goods averages to 50% of selling price. The cost of the stock on hand as 31st
December is Rs.25, 20,000 of which Rs.90, 000 is obsolete. It is anticipated that this latter stock
will be sold in March, at 75% of the normal selling price. The company wishes to maintain stock for
each month at a level of 3 subsequent months sales as determined by the sales forecast. All
purchases are paid in the immediately subsequent month. The liability on this account, as at 31st
December would be Rs.6, 95,000.
i) Income tax and Provident fund payments-January Rs.50, 000, March Rs.1, 00,000.
j) As on 1st January, the company has a bank loan of Rs.8,40,000 which, together with the simple
interest at the rate of 15% p.a. is payable on 31st March. The interest is due for the period
January to March.
k) The cash balance on 31st December was Rs.3, 00,000.
Question 11:
The following details are forecasted by a company for the purpose of effective utilization and
management of cash:
a) Estimated sales and manufacturing costs:
Month Sales (Rs.) Materials (Rs.) Wages(Rs.) Overheads (Rs.)

April 4,20,000 2,00,000 1,60,000 45,000
May 4,50,000 2,10,000 1,60,000 40,000
June 5,00,000 2,60,000 1,65,000 38,000
59
July 4,90,000 2,82,000 1,65,000 37,500

August 5,40,000 2,80,000 1,65,000 60,800
September 6,10,000 3,10,000 1,70,000 52,000
b) Credit terms:
i) Sales-20% sales are on cash, 50% of the credit sales are collected next month and the balance
in the following month.
ii) Credit allowed by suppliers is 2 months.
iii) Delay in payment of wages is ½ (one-half) month and of overheads is 1 (one) month.
c) Interest on 12% debentures of Rs.5,00,000 is to be paid half-yearly in June and December.

d) Dividends on investments amounting to Rs.25,000 are expected to be received in June, 2014.
e) A new machinery will be installed in June,2014 at a cost of Rs.4,00,000 which is payable in monthly
installments from July,2014 onwards.
f) Advance income – tax, to be paid in August, 2014, is Rs. 15,000
g) Cash Balance on 1st June, 2014 is expected to be Rs. 45,000 and the company wants to keep it at
the end of every month around this figure. The excess cash (in multiple of thousand rupees) is
being put in fixed deposit.
You are required to prepare monthly Cash budget on the basis of above information for four months
beginning from June, 2014.
Question 12:
The following information relates to Zeta Limited, a publishing company:
The selling price of a book is Rs. 15, and sales are made on credit through a book club and invoiced on
the last day of the month.
Variable costs of production per book are materials (Rs. 5), labour (Rs. 4) and overhead (Rs.2). The
sales manager has forecasted the following volumes:
Month Nov Dec Jan Feb Mar Apr May June July Aug
No. of 1,000 1,000 1,000 1,250 1,500 2,000 1,900 2,200 2,200 2,300
Books
Customers are expected to pay as follows:
One month after the sales 40%

Two months after the sales 60%
The company produces the books two months before they are sold and the creditors for materials are
paid two months after production.
60
Variable overheads are paid in the month following production and are expected to increase by 25% in
April, 75% of wages are paid in the month of production and 25%in the following month. A wage
increase of 12.5% will take place on 1st March.
The company is going through a restructuring and will sell one of its freehold properties in May for Rs.
25,000, but it is also planning to buy a new printing press in May for Rs. 10,000. Depreciation is
currently Rs. 100 per month, and will rise to Rs. 1,500 after the purchase of the new machine.
The Company’s corporation tax (of Rs. 10,000) is due for payment in March.
The company presently has a cash balance at bank on 31st December 2013, of Rs.1,500.
You are required to prepare a cash budget for 6 months from January to June.
Question 13:
A company’s annual requirement of material is 6,300 units. The following cost per order is Rs. 10 and
the carrying cost per unit is Rs. 0.26. The following is the discount schedule applicable to the company.
Lot Size Discount per unit (Rs.)

1 - 999 0
1,000 – 1,499 0.010
1,500 – 2,499 0.015
2,500 – 4,499 0.030
5,000 and above 0.050
You are required to calculate the Economic Order Quantity, considering the number of orders from 1
to 10.
Question 14:
Senapati Ltd uses inventory turnover as one of the performance measures to evaluate its production
manager. Currently, its inventory turnover (based on Cost of Goods sold + Average Inventory) is 10
times p.a. as compared with the industry average of 4. Average sales are Rs. 4,50,000 p.a. variable
cost of sales are 70% of sales and fixed costs are Rs. 10,000 p.a. carrying cost of inventory (excluding
financing costs) are 5 % p.a. Sales force have complained that low inventory levels resulting in lost
sales due to stock – outs reports as under –
Inventory Policy Inventory turnover Sales

Current 10 Rs. 4,50,000
A 8 Rs. 5,00,000
B 6 Rs. 5,40,000
C 4 Rs. 5,65,000
On the basis of the above estimates and assuming a 40% tax rate and an after – tax required return
of 20% on investment in inventory, which policy would you recommend?
61
Question 15:
A new customer has approached a firm to establish new business connection. The customer requires
1.5 month of credit. If the proposal is accepted, the sales of the firm will go up by Rs. 2,40,000 per
annum. The new customer is being considered as a member of 10% risk of non – payment group.
The cost of sales amounts to 80%. The tax rate is 30% and the desired rate of return is 40% (after
tax).
Should the firm accept the offer? Give your opinion on the basis of calculations.
Question 16:
A Company currently has an annual turnover of Rs. 50 Lakhs and an average collection period of 30
days. The company wants to experiment with a more liberal credit policy on the ground that increase in
collection period will generate additional sales.
From the following information, kindly indicate which policy the company should adopt:
Credit Average Collection Annual Sales

Policy Period (Rs. Lakhs)
A 45 days 56
B 60 days 60
C 75 days 62
D 90 days 63
Variable cost: 80% of sales

Fixed Cost: Rs. 6 lakhs per annum
Required (pre-tax) return on investment: 20%.

A year may be taken to compute of 360 days.
Question 17:
The current sales of Raja Ltd are Rs. 250 lakhs. It sells on terms of net 30 days and the average
collection period (ACP) is 40 days. Bad debts losses are 3% of sales. The cost of funds blocked in
receivables is reckoned at 18%. The variable costs are 80% of sales. Since the company has excess
capacity, it can expand its sales substantially without additional fixed costs. The management is
evaluating three alternative credit policies –
a) Policy A – This calls for relaxing the credit standards. It is expected to increase sales by Rs. 40
Lakhs. On the new sales, ACP will be 50 days and the bad debt loss is 15%.
b) Policy B – This involves changing the terms of credit from net 30 to net 45. This is expected to
raise sales by Rs. 15 lakhs, lengthen the ACP to 60 days and result in a bad debt loss of 4% on the
new sales.
62
c) Policy C – This calls for decreasing the rigors of collection effort. This is expected to push sales
up by Rs. 10 Lakhs, increase the ACP to 50 days and raise the Bad Debt loss to 4%.
Determine the most optimum policy for the company. Take 1 year = 360 days.
Question 18:
A trader whose current sale are Rs. 4,20,000 per annum and an average collection period of 30 days,
wants to pursue a more liberal policy to improve sales. A study made by a management consultant
reveals the following information:
Credit Increase in Increase in sales Present default

Policy Collection Period anticipated
I 10 days Rs. 21,000 1.5%
II 30 days Rs. 52,000 3%
III 45 days Rs. 63,000 4%
The selling price per unit is Rs. 3. Average cost per unit is Rs. 2.25 and variable cost per unit Rs. 2.
The current bad – debts loss is 1%. Required return on additional investment is 20%. Assume a 360
days year.
Which of the above policies would you recommend for adoption?
Question 19:
A Company has sales of R.s 25,00,000. Average Collection period is 50 days, bad debts losses are 5%
of sales and collection expenses are Rs. 25,000. The cost of funds is 15%. The Company has two
alternatives collection program.
Particulars Program I Program II

Average Collection period reduced to 40 days 30 days
Bad debt losses reduced to 4% of sales 3% of sales
Collection expenses Rs. 50,000 Rs. 80,000
Evaluate which program is viable.
Question 20:
The sales manager of AB Ltd suggests that if credit period is given for 1.5 months, sales may likely to
increase by R.s 1,20,000 per annum. Cost of sales amounted to 90% of sales. The risk of non – payment
is 5%. Income tax rate is 30%. The expected return on investment is Rs. 3,375 (after – tax). Should
the company accept the suggestion of sales manager?
63
Question 21:
A firm has a current sales of Rs. 2,56,48,750. The firm has unlimited capacity. In order to boost its
sales, it is considering the relaxation in its credit policy. The proposed terms of credit will be 60 days
credit against the present policy of 45 days. As a result, the bad debts will increase from 1.5% to 2%
of sales. The firm’s sales are expected to increase by 10%. The variable operating costs are 72% of
the sales. The firm’s Corporate tax rate is 35% and it requires an after – tax return of 15% on its
investment. Should the firm change its credit period.
Question 22:
A Company is presently having credit sales of Rs. 12 Lakhs. The existing credit terms are 1/10, net 45
days and average collection period is 30 days. The current bad debts loss is 1.5%. In order to
accelerate the collection process further as also to increase sales, the company is contemplating
liberalization of its existing credit terms to 2/10 , net 45 days. It is expected that sales are likely to
increase by 1/3 of existing sales, bad debts increase to 2% of sales and average collection period to
decline to 20 days. The contribution to sales ratio of the company is 22% and opportunity cost of
investment in receivables is 15% (pre – tax). 50 % and 80% of customers in terms of sales revenue are
expected to avail cash discount under existing and liberalization scheme respectively. The tax rate is
30%.
Should the company change its credit terms? (Assume 360 days in a year)
Question 23:
A firm has a total sale of Rs. 200 Lakhs of which 80% is on credit. It is offering credit terms of 2/40,
net 120 days. Past experience indicates that bad debts losses are around 1% of credit sales. The firm
spends about Rs. 2,40,000 per annum to administer its credit sales. These are avoidable as a factor is
prepared to buy the firm’s receivables. He will charge 2% commission. He will pay advance against
receivables to the firm at an interest rate of 18% after withholding 10% as reserve.
a) What is the effective cost of factoring? Consider year as 360 days.

b) If bank finance for working capital is available at 14% interest, should the firm avail of factoring
service?
Question 24:
Jaidev Ltd has total credit sales of Rs. 40 Lakhs p.a. and its average collection period is 90 days. The
past experience indicates that the bad debts losses around 3% of credit sales. Jaidev spends about
Rs. 1,00,000 per annum on administrating its credit sales.
It is considering availing the services of a factoring firm. It has received offer from Uday Ltd, which
agrees to buy the receivables of company. Uday will charge commission of 3% and also agrees to pay
advance against receivables at an interest rate of 18% p.a. after withholding 10% as reserve. Should
64
Jaidev accept Uday’s offer if the former’s ROI is 15%?

Assume 360 days in a year.
Question 25:
Ramana Ltd sells on credit terms 2/10 net 30. It has annual credit sales of Rs. 900 Lakhs, with a
variable cost 80% and bad debts of 0.75%. Past experience shows that 50% of the customers avail
cash discount and the remaining customers pay 50 days after the date of sale. Presently the company’s
investment in receivables are financed in the ratio of 2:1 by a mix of bank borrowings and own funds,
which cost 24% and 27% p.a. respectively. The company also incurs Rs. 16 Lakhs on credit collection
costs.
The company is considering a “Non – Recourse Factoring” arrangement with T- =factors Ltd on the
following terms –
a) 15% factor reserve

b) Guaranteed payment date = 24 days after the date of purchase
c) 22% Interest/Discount
d) 4% factoring commission.
Evaluate whether the factoring proposal is worthwhile, with suitable assumption wherever applicable.
65

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Handcrafted with love for students CA AAKASH SINGHVI

S No. Chapter Name Page No.

i.Calculate the cost of Debt after tax, if Debentures are issued at –

i. Calculate the company’s Cost of Equity Capital.

The following details are provided by the Global limited:

Particulars Amount (Rs.)

Equity Share Capital 65,00,000

(a) Equity - 18%

(b) Debentures - 10%

PC Ltd. Has the following capital structure on October 31, 2015:

Particulars Amount (Rs.)

The capital structure of Super Ltd. is as under:

Particulars Amount (Rs.)

(d) Corporate income-tax rate is 35%.

Geeta Ltd. Has furnished the following information:

Earnings per share (EPS) Rs.4

1. Debt/Equity mix 30%/70%

You are required:

(a) To determine the pattern for raising the additional finance.

(b) To determine the post –tax average cost of additional debt.

(d) Overall weighted average after tax cost of additional finance.

The following is the capital structure of a company:

Source of Capital Book Value (Rs.) Market Value (Rs.)

i) Cost of capital for each source of capital.

Pooja Ltd has the following book value capital structure:

Particulars Amount (Rs.)

Debentures, redeemable after 6 years, are selling at Rs.80 per debenture.

The Income tax rate for the company is 40%.

a) Book value proportions; and

b) Market value proportions

a) The amount will be raised by equity and debt in equal proportions;

b) The company expects to retain Rs.1.5 crores earnings next year;

Particulars Amount (Rs)

i) Calculate the after-tax cost

a) Of new debts and new preference share capital,

b) Of ordinary equity, assuming new equity comes from retained earnings.

ii) Calculate the marginal cost of capital.

Taranjeet Limited has the following book value capital structure:

Particulars Amount (Rs. In Milns)

Particulars Amount (Rs.)

Sources Book Value (Rs.) Market Value (Rs.)

Required: Calculate Operating and Financial Leverage.

Following information are related to five firms of the same industry:

Firm Change in Revenue Change in Change in EPS

1) Degree of Operating Leverage and 2) Degree of Combined Leverage, of all firms.

Firm Change in Change in Beta

Consider the following information for Omega Ltd.

Particulars Rs. (in Lacs)

Calculate Percentage change in earnings per share, if sales increase by 5%.

Capital structure of the company is as follows –

Particulars Financial Plans

You are required to:

A Company had the following Balance Sheet as on March 31, 2017.

Equity & Liabilities Amount (Rs.) Assets Amount (Rs.)

The additional information given is as under:

Fixed cost per annum (excluding interest) Rs.32,00,000

Calculate the following and comment:

(iii) Financial Leverage

Equity Share Capital of Rs.10 Rs. 50 Lakhs Financial Leverage 1.49

From the following financial data of Company, A and Company B.

Prepare their Income Statements.

Particulars Company A (Rs.) Company B (Rs.)

Financial Leverage 2 times

Operating Leverage 3 times