QUESTION

EBIT 50000
Ke 0.125
Ki 0.1
Debt ₹ 200,000
P0 ₹ 100
Show how increase or decrease in debt by ₹1,00,000 affects the value of firm and overall cost of capital as per Net I

SOLUTION
Debt 200,000 300,000 100000
EBIT 50000 50000 50000
Less: Interest ₹ 20,000 ₹ 30,000 ₹ 10,000
Net Income ₹ 30,000 ₹ 20,000 ₹ 40,000

S=NI/Ke ₹ 240,000 ₹ 160,000 ₹ 320,000

Add: Debt 200,000 300,000 100,000
Value of the Firm (S+D) ₹ 440,000 ₹ 460,000 ₹ 420,000

Ko=Ki*D/V + Ke*S/V ₹ 0.1136 ₹ 0.1087 ₹ 0.1190

overall cost of capital as per Net Income Approach.
QUESTION
EBIT 50000
Ko 0.125
Ki 0.1
Debt ₹ 200,000
P0 ₹ 100
Show how increase or decrease in debt by ₹1,00,000 does not affect the value of firm and overall cost of capital bu

SOLUTION
Debt 200,000 300,000 100000
EBIT 50000 50000 50000
Less: Interest ₹ 20,000 ₹ 30,000 ₹ 10,000
Net Income ₹ 30,000 ₹ 20,000 ₹ 40,000

V=EBIT/Ko ₹ 400,000 ₹ 400,000 ₹ 400,000

Less: Debt 200,000 300,000 100,000
Value of Equity (V-D) ₹ 200,000 ₹ 100,000 ₹ 300,000

Ke=Ko+(Ko-Ki)*D/S ₹ 0.1500 ₹ 0.2000 ₹ 0.1333

Ko=Ki*D/V + Ke*S/V ₹ 0.1250 ₹ 0.1250 ₹ 0.1250

rm and overall cost of capital but affects the cost of equity as per Net Operating Income Approach.
QUESTION
Sales (units) 25,000
Interest per annum 30,000
Selling price per unit 24
Tax rate 30%
Variable cost per unit 16
Number of equity shares 10,000
Fixed cost per annum 80,000
Calculate EPS, Operating Leverage, Financial Leverage and Combined Leverage.

SOLUTION
Sales 600000 EPS Net Income / Number of Equity Shares
Less: Variable Cost 400000 6.3
Contribution 200000
Less: Fixed Cost 80,000 OL Contribution / EBIT
EBIT 120,000 1.666667
Less: Interest 30,000
EBT 90,000 FL EBIT / ( EBIT - I )
Less: Taxes @ 30% 27000 1.333333
Net Income 63,000
CL Contribution / ( EBIT - I )
2.222222
me / Number of Equity Shares

tion / ( EBIT - I ) or OL * CL
2.222222
QUESTION
A firm proposes to purchase a machine costing ₹ 3,50,000. Installation charges are ₹ 1,50,000.
Salvage value is ₹ 1,60,000. Working capital required at the time of installation is ₹ 2,00,000.
Discount rate is 15%.
Cash flows over a period of 5 years are ₹ 2,00,000, ₹ 2,00,000, ₹ 1,80,000, ₹ 1,60,000 and ₹ 1,20,000.
Calculate Net Present Value of the proposal and suggest whether to purchase this machine or not.

SOLUTION
CASH OUTFLOWS CALCULATION OF NET PRESENT VALUE

Cost of the machine 350000 Year Cash Inflo PVF @ 15%

Add: Installation Charges
Add: Working Capital
Cash Outflows
150000 1 200000 0.869565
200000 2 200000 0.756144
700000 3 180000 0.657516
4 160000 0.571753
5 480000 0.497177
PV of Cash Inflows
Less: Cash outflows
Net Present Value
and ₹ 1,20,000.
chine or not.

ET PRESENT VALUE

PV @ 15%
173913
151228.7
118352.9
91480.52
238644.8
773620.1
700000
73620.05
QUESTION
A company belongs to a risk class for which the approximate capitalization rate is 10%.
It currently has outstanding 25,000 shares selling at ₹100 each.
The firm is contemplating the declaration of a dividend of ₹5 per share at the end of the current financial year
It expects to have a net income of ₹2,50,000 and has a proposal for making new investments of ₹5,00,000.
Show that under the MM assumptions, the payment or non-payment of dividend does not affect the value of th

SOLUTION

Number of Shares 25000

Price of the Share (P0) 100
Ke 0.1
DPS ₹ 5 or ₹0
Investment Outlay ₹ 500,000
Earnings ₹ 250,000

DIVIDEND IS PAID DIVIDEND IS NOT PAID

VALUE OF FIRM = n * P0 = 2500000 VALUE OF FIRM

P0 = 1/(1+ke)*(P1+D1) P0
P1 = (P0 * (1+ke)) - D1 P1
₹ 105

Dn*P1 = I - (E - nD1) Dn*P1

₹ 375,000

Dn = I - [ E - nD1 ] / P1 Dn
3571.42857143

nP0 = 1 / ( 1 + ke ) * [ ( n + Dn ) * P1 - I + E ] nP0
₹ 2,500,000.00
e current financial year.
ments of ₹5,00,000.
ot affect the value of the firm.

Dn*P1

DIVIDEND IS NOT PAID

VALUE OF FIRM = n * P0 = 2500000

= 1/(1+ke)*(P1+D1)
= (P0 * (1+ke)) - D1
₹ 110

= I - (E - nD1)
₹ 250,000

= [ I - nD1 ] / P1
2272.72727272727

= 1 / ( 1 + ke ) * [ ( n + Dn ) * P1 - I + E ]
₹ 2,500,000.00
QUESTION
EPS 50
DPS 0 5 10 15 20 25 30 35
r 0.16
ke 0.12

Calculate the price of the share as per the Walter Model under different assumptions of DPS.
What is the optimum dividend policy in case of the above example?
SOLUTION
Share Price as Per Walter Model = [ D + r/ke (E-D) ] / ke

EPS 50 50 50 50 50 50 50 50
DPS 0 5 10 15 20 25 30 35
r 0.16 0.16 0.16 0.16 0.16 0.16 0.16 0.16
ke 0.12 0.12 0.12 0.12 0.12 0.12 0.12 0.12

Share Price 555.5556 541.6667 527.7778 513.8889 500 486.1111 472.2222 458.3333

Optimum Dividend Policy In this example the optimum dividend policy is the ZERO dividend, as the compan
 40 45 50

50 50 50
40 45 50
0.16 0.16 0.16
0.12 0.12 0.12

444.4444 430.5556 416.6667

ZERO dividend, as the company is growth company and company should not pay any dividend.
QUESTION

Expected Dividend 18
Current Market Price of the Share 200
Growth Rate 0.16

Preference Dividend Rate 0.15

Face value of Redeemable Preference Share 100
Maturity Period (Years) 5
Preference shares are redeemable at par
Market price 110

Interest rate on iredeemable debenture 0.15

Face value of debenture 500
Tax rate (%) 30
Market price 480

Funds Book Value

Equity Share Capital (₹ 100 per share) 4,500,000
Reserves and Surpluses 500,000
15% Preference Share Capital (₹ 100 per share) 2,000,000
15% Debentures (₹ 500 per share) 3,000,000
Total 10,000,000
SOLUTION

Ke = ( D1 / P0 ) + g
0.25
Kr 0.25

Kp = [ Dp + ( RV - SV ) / Nm ] / [ (RV + SV ) / 2 ]
=(15+(100-110)/5)/((100+110)/2)
0.12381

Kd = I (1-t) / SV
= 75 ( 1 - 0.30 ) / 480
0.109375

Funds Book Value Market Value MV WeightCost of Cap

Equity Share Capital (₹ 100 per share) 4,500,000 8100000 0.575284 0.25
Reserves and Surpluses 500,000 900000 0.06392 0.25
15% Preference Share Capital (₹ 100 per share) 2,000,000 2200000 0.15625 0.12381
12% Debentures (₹ 500 per share) 3,000,000 2880000 0.204545 0.109375
Total 10,000,000 14,080,000 1
W*K MV * K
0.143821 2025000
0.01598 225000
0.019345 272381
0.022372 315000
0.201519 2837381 =28,37,381 / 1,40,80,000
0.201519
QUESTION
A proforma cost sheet of a company provides you the following particulars-
Cost elements Amount per unit (₹)
Raw material 100
Direct labor 40
Overheads 60
Total 200
Additional information-
(i) Selling price ₹250 per unit
(ii) Level of activity 1,04,000 units of production per annum
(iii) Raw material in stock Average 4 weeks
(iv) Work-in-progress Average 2 weeks
(v) Finished goods in stock Average 4 weeks
(vi) Credit allowed by suppliers Average 4 weeks
(vii) Credit allowed to debtors Average 8 weeks
(viii) Lag in payment of wages Average 2 weeks
(ix) Cash at bank is expected to be 10% of gross working capital.
Production is carried on evenly throughout the year (52 weeks) and wages and overheads accrue similarly.
25% of sales are on cash basis. You are required to prepare a statement of working capital requirement.
 SOLUTION
Estimated Current Assets
Raw Material 800000
Work-in-Progress 600000
Finished Goods 1600000
Debtors 2400000
Cash at Bank 600000
Estimated Current Assets (A) 6000000
Estimated Current Liabilities
Creditors 800000
Wages 160000
Estimated Current Liabilities (B) 960000
Working Capital (A-B) 5040000

eads accrue similarly.

apital requirement.