# CA Final Question Papers Group I

# Strategic Financial Management

# November 2009

Total No. of Questions — 5]

Time Allowed : 3 Hours

Maximum Marks : 100

Answer all questions.

Wherever appropriate, suitable assumption should be made by the candidates.

Working notes should form part of the answer.

Marks

1. (a) M/s ABC Ltd. is to acquire a personal computer with modem and a printer. Its price is Rs. 60,000. ABC Ltd. can borrow Rs. 60,000 from a commercial bank at 12% interest per annum to finance the purchase. The principal sum is to be repaid in 5 equal year-end installments.

ABC Ltd. can also have the computer on lease for 5 years.

The firm seeks your advise to know the maximum lease rent payable at each year end. Consider the following additional information:

(i) Interest on bank loan is payable at each year end.

(ii) The full cost of the computer will be written off over the effective life of computer on a straight-line basis. This is allowed for tax purposes.

(iii) At the end of year 5, the computer may be sold for Rs. 1,500 through a second – hand dealer, who will charge 8% commission on the sale proceeds.

(iv) The company’s effective tax rate is 30%.

(v) The cost of capital is 11%.

Suggest the maximum annual lease rental for ABC Ltd. :

PV Factor at 11%

Year PVF

1 0.901

2 0.812

3 0.731

4 0.659

5 0.593

12 (0)

(b) A mutual fund made an issue of 10,00,000 units of Rs. 10 each on January 01, 2008. No entry load was charged. It made the following investments:

Rs.

50,000 Equity shares of Rs. 100 each @ Rs. 160

7% Government Securities

9% Debentures (Unlisted)

10% Debentures (Listed) 80,00,000

8,00,000

5,00,000

5,00,000

98,00,000

During the year, dividends of Rs, 12,00,000 were received on equity shares. Interest on all types of debt securities was received as and when due. At the end of the year equity shares and 10% debentures are quoted at 175% and 90% respectively. Other investments are at par.

Find out the Net Asset Value (NAV) per unit given that operating expenses paid during the year amounted to Rs. 5,00,000. Also find out the NAV, if the Mutual fund had distributed a dividend of Re. 0.80 per unit during the year to the unit holders.

8 (0)

2. (a) An investor holds two stocks A and B. An analyst prepared ex-ante probability distribution for the possible economic scenarios and the conditional returns for two stocks and the market index as shown below:

Economic scenario Probability Conditional Returns %

A B Market

Growth

Stagnation

Recession 0.40

0.30

0.30 25

10

–5 20

15

–8 18

13

–3

The risk free rate during the next year is expected to be around 11%. Determine whether the investor should liquidate his holdings in stocks A and B or on the contrary make fresh investments in them. CAPM assumptions are holding true.

10 (0)

(b) What are the limitations of Credit Rating? 4 (0)

(c) Following Financial data are available for PQR Ltd. for the year 2008 :

(Rs. in lakh)

8% debentures

10% bonds (2007)

Equity shares (Rs. 10 each)

Reserves and Surplus

Total Assets

Assets Turnovers ratio

Effective interest rate

Effective tax rate

Operating margin

Dividend payout ratio

Current market Price of Share

Required rate of return of investors 125

50

100

300

600

1.1

8%

40%

10%

16.67%

14

15%

You are required to:

(i) Draw income statement for the year

(ii) Calculate its sustainable growth rate

(iii) Calculate the fair price of the Company’s share using dividend discount model, and

(iv) What is your opinion on investment in the company’s share at current price?

8 (0)

3. (a) Closing values of BSE Sensex from 6th to 17th day of the month of January of the year 200X were as follows :

Days Date Day Sensex

1

2

3

4

5

6

7

8

9

10

11

12 6

7

8

9

10

11

12

13

14

15

16

17 THU

FRI

SAT

SUN

MON

TUE

WED

THU

FRI

SAT

SUN

MON 14522

14925

No Trading

No Trading

15222

16000

16400

17000

No Trading

No Trading

No Trading

18000

Calculate Exponential Moving Average (EMA) of Sensex during the above period. The 30 days simple moving average of Sensex can be assumed as 15,000. The value of exponent for 30 days EMA is 0.062.

Give detailed analysis on the basis of your calculations.

6 (0)

(b) XYZ company has current earnings of Rs. 3 per share with 5,00,000 shares outstanding. The company plans to issue 40,000, 7% convertible preference shares of Rs. 50 each at par. The preference shares are convertible into 2 shares for each preference shares held. The equity share has a current market price of Rs. 21 per share.

(i) What is preference share’s conversion value?

(ii) What is conversion premium?

(iii) Assuming that total earnings remain the same, calculate the effect of the issue on the basic earning per share (a) before conversion (b) after conversion.

(iv) If profits after tax increases by Rs. 1 million what wIll be the basic EPS (a) before conversion and (b) on a fully diluted basis?

8 (0)

(c) What is the impact of GDRs on Indian Capital Market? 6 (0)

4. (a) You have been provided the following Financial data of two companies:

Krishna

Ltd. Rama

Ltd.

Earnings after taxes

Equity shares (outstanding)

EPS

P/E ratio

Market price per share Rs. 7,00,000

Rs. 2,00,000

3.5

10 times

Rs. 35 Rs. 10,00,000

Rs. 4,00,000

2.5

14 times

Rs. 35

Company Rama Ltd. is acquiring the company Krishna Ltd., exchanging its shares on a one–to–one basis for company Krishna Ltd. The exchange ratio is based on the market prices of the shares of the two companies.

Required:

(i) What will be the EPS subsequent to merger?

(ii) What is the change in EPS for the shareholders of companies Rama Ltd. and Krishna Ltd.?

(iii) Determine the market value of the post-merger firm. PE ratio is likely to remain the same.

(iv) Ascertain the profits accruing to shareholders of both the companies.

10 (0)

(b) An investors is considering the purchase of the following Bond:

Face value

Coupon rate

Maturity Rs. 100

11%

3 years

(i) If he wants a yield of 13% what is the maximum price he should be ready to pay for?

(ii) If the Bond is selling for Rs.97.60, what would be his yield?

4 (0)

(c) 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% p.a. Determine the estimated market price of the equity share if the estimated growth rate of dividends (i) rises to 8%, and (ii) falls to 3%. Also find out the present market price of the share, given that the required rate of return of the equity investors is 15.5%. 6 (0)

5. (a) M/s Omega Electronics Ltd. exports air conditioners to Germany by importing all the components from Singapore. The company is exporting 2,400 units at a price of Euro 500 per unit. The cost of imported components is S$ 800 per unit. The fixed cost and other variables cost per unit are Rs. 1,000 and Rs. 1,500 respectively. The cash flows in Foreign currencies are due in six months. The current exchange rates are as follows:

Rs/Euro

Rs/S$ 51.50/55

27.20/25

After six months the exchange rates turn out as follows:

Rs/Euro

Rs/S$ 52.00/05

27.70/75

(1) You are required to calculate loss/gain due to transaction exposure.

(2) Based on the following additional information calculate the loss/gain due to transaction and operating exposure if the contracted price of air conditioners is Rs.25,000:

(i) the current exchange rate changes to

Rs/Euro

Rs/S$ 51.75/80

27.10/15

(ii) Price elasticity of demand is estimated to be 1.5

(iii) Payments and receipts are to be settled at the end of six months.

12 (0)

(b) A study by a Mutual fund has revealed the following data in respect of three securities:

Security σ(%) Correlation with

Index, Pm

A

B

C 20

18

12 0.60

0.95

0.75

The standard deviation of market portfolio (BSE Sensex) is observed to be 15%.

(i) What is the sensitivity of returns of each stock with respect to the market?

(ii) What are the covariances among the various stocks?

(iii) What would be the risk of portfolio consisting of all the three stocks equally?

(iv) What is the beta of the portfolio consisting of equal investment in each stock?

(v) What is the total, systematic and unsystematic risk of the portfolio in (iv) ?