CA Final November 2024 Suggested Answers Paper 2 Advanced Financial Management

FOR CA FINAL EXAM PREPARATION

CA Final 2024
Suggested Answers ·
Paper 2 Advanced
Financial Management
EXAM YEAR TYPE

CA Final 2024 Suggested Answers
SUBJECT DATE

Paper 2 Advanced Financial Management November 2024

Notes · Sample Papers · Previous Year Papers · Mock Tests

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PAPER – 2 : ADVANCED FINANCIAL
MANAGEMENT
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e mPART I – Case Scenario based MCQs (30 Marks) l a
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aCase Scenario-I
Answer all Questions.

The company X Ltd. proposes to take over Y Ltd. The chief executive of a
company thinks that shareholders always look for the earnings per share.
Therefore, he considers maximization of the earnings per share as his
company’s objective. The following information is available in respect of X Ltd.
and Y Ltd.

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X Ltd. Y Ltd.
Net Profit
. co 80 Lakh 15.75 Lakh

em
P/E ratio 10.50 10

a s
gl choose the correct answer to the Question
Current market price per share ` 42 ` 85

no. 1 to 3 :
a
From the information given above,
(3 × 2 = 6 Marks)
1. If the company borrows funds @ 15% rate of interest and buys out Target
Company by paying cash, how much should he offer to maintain his EPS
assuming tax rate @ 30%.
A. 210 Lakhs
B. 315 Lakhs
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m D. 0 Lakhs
C. 150 Lakhs
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c. o se
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s em 2. Maximum exchange ratio which the company shouldla
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offer so that the

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company could keep EPS at current level is a
a A. 1:0.952
B. 1:2.125

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SUGGESTED ANSWER ADVANCED FINANCIAL MANAGEMENT

C. 1:2.023
D. 1:0.196
3. No. of shares to be issued by X Ltd.
A. 3.9375 lakhs
B. 1.7639 lakhs
C. 3.7485 lakhs
D. 0.3631 lakhs
Case Scenario-II
Based on the following information, choose the correct answer from the
following questions:
Situation Action Exercise Price Premium Spot Price
I Exercised 140 20 160
II Exercised 200 15 175
III Lapsed 300 25 400
From the information given above, choose the correct answer to the Question no. 4
to 6: (3 × 2 = 6 Marks)

4. In Situation III, the investor’s position and the amount of profit / loss is:
A. Put option, ` (25)
B. Call option, ` 75
C. Short position, ` 100
D. Long position, ` (100)
5. In Situation I, the investor’s position and the amount of profit or loss is :
A. Put option and ` 20
B. Call option and ` 0
C. Put option and ` 0
D. Call option and ` 20

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SUGGESTED ANSWER FINAL EXAMINATION: NOVEMBER 2024

6. In Situation II, the investor’s position and the amount of profit / loss is :
A. Put option and ` 10
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B.
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Call option and ` 10
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C.
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Put option and ` 25
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m option and ` 25
D. eCall
l a
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laScenario-III ag
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aThe following information is available in respect of Bond 1 and Bond 2
Case

Bond 1 Bond 2
Face value, redeemable value at par ` 1000 ` 1000
Coupon rate, payable annually (%) 6% 10%
Time to maturity (years) 5 3
An investor has the portfolio consisting of 75% of Bond 1 and 25% of Bond 2.

o m
c
The current YTMs prevailing in the market is 10%.
1 .
Year (n) :
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e 0.8264 0.7513 0.6830 0.6209
2 3 4 5

a s
gl choose the correct answer to the question no. 7
PVIF (10%, n) : 0.9091

to 10:
a
From the information given above,
(4 × 2 = 8 Marks)
7. New price of the portfolio if YTM changes from 10% of 10.5% based on the
duration is:
A. ` 870.12
B. ` 902.36
C. ` 1832.23
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c. o 8. What should be the price and duration of Bond - 2?
D. ` 1864.45
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las A. ` 826.43 and 2.49
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ag B. ` 1,000 and 2.74
C. ` 924.85 and 2.74
D. ` 1,000 and 2.49

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SUGGESTED ANSWER ADVANCED FINANCIAL MANAGEMENT

9. What should be the price and duration of Bond – 1?
A. ` 848.34 and 4.43
B. ` 811.09 and 4.38
C. ` 1,227.44 and 4.43
D. ` 658.15 and 3.90
10. What will be the price sensitivity of the portfolio?
A. -4.027
B. -2.491
C. -3.643
D. -3.981
Case Scenario-IV
Z Ltd. paid a dividend of ` 5 for the current year. The dividend is expected to
grow at 25% for the next 6 years and at 10% per annum thereafter. The return
of government bond is 13% per annum and market return is expected to be
around 20%. The correlation between market return and Z Ltd. share return is
0.3733. The standard deviation of market return and Z Ltd. shares is 12% and
18% respectively.
Round off to two decimal places.
From the information given above, choose the correct answer to the Question
no. 11 to 15: (5 × 2 = 10 Marks)
11. What is the intrinsic value of Z Ltd. shares?
A. ` 156.69
B. ` 303.14
C. ` 349.62
D. ` 341.30
12. What is the present value at the end of 4th year?
A. ` 23.71
B. ` 12.56

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SUGGESTED ANSWER FINAL EXAMINATION: NOVEMBER 2024

C. ` 6.53
D. ` 6.99
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13. What is the expected return of Z Ltd shares?
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A.
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15%
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B. e23.92%
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lC.a 16.92% ag
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a D. 16.5%
14. What is value in perpetuity at the start of the 6th year?
A. ` 156.69
B. ` 303.14
C. ` 349.62
D. ` 341.30
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c
15. If current market price of the shares is. ` 315 than stock is

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A. Over valued
B. Under valued
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C. Fairley valued
D. Cannot be determined
ANSWER TO PART – I CASE SCENARIO BASED MCQS
1. Option C
2. Option B
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3 Option A
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c. o 4. Option A se
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s em 5. Option B
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a
6. Option A
7. Option A
8. Option B

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SUGGESTED ANSWER ADVANCED FINANCIAL MANAGEMENT

9. Option A
10. Option C
11. Option A
12. Option C
13. Option C
14. Option B
15. Option A

PART – II DESCRIPTIVE QUESTIONS
Answer Question No.1 which is compulsory and any 4 out of the remaining 5
questions.
Working notes should form part of the respective answer.
Question 1
(a) Following is the data regarding Three Securities.

Stock Expected Std. Correlation with
Return (%) deviation the Market return
A 19% 2.50 0.840
B 13.50% 2.00 0.540
C 11.00% 0.80 0.975
Market risk - 1.20 -
Market rate of return 14.00% - -
Risk free* rate 9.00% - -
* In the Question Paper mistakenly it got typed as tree.
(i) Advise which of the above stocks are over, under or correctly valued in
the market?
(ii) What will be strategy you would like to recommend? (6 Marks)
(b) A firm is considering a proposal to set up a cement manufacturing plant
with an initial investment of ` 150 crore. The firm has the option to
abandon the project after one year by selling it to a competitor for ` 100
crore if the market conditions are unfavorable and the demand is low, the

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SUGGESTED ANSWER FINAL EXAMINATION: NOVEMBER 2024

project's value will decline by 60%. However, if the market conditions turn
out to be favorable and the demand for cement is high, the value of the
project at the end of year 1 will increase by 50%.
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Given that the risk free rate of interest as 8%, what will be the value of the

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s
abandonment option and the value of the project with abandonment

e
option?
m (4 Marks)
l a
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(c) This decision determines the division of earnings between payments to
shareholders and reinvestment in the company. What this decision is
called? What are other decisions falling in this strategy? Briefly explain.
(4 Marks)
Answer
(a) (i) To decide which of this security is over, under or correctly valued we
need to compute the Required Rate of Return of each Stock using
CAPM for which Beta shall be calculated as follows:
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0.840 X2.50
Beta of Stock A (βA) = = 1.75
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0.540eX2.00
1.20

Beta of Stock B (β ) =
l a s = 0.90

ag0.975 X0.80
B
1.20

Beta of Stock C (βC) = = 0.65
1.20
Required rate of return is given by CAPM
Rj = Rf + β (Rm-Rf)
For Stock A RA = 9% + 1.75 (14% - 9%) = 17.75%
Stock B RB = 9% + 0.90 (14% - 9%) = 13.50%

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Stock C RC = 9% + 0.65 (14% - 9%) = 12.25%

c. o Stock Required rate of Expected rate
em
Valuation
s
em la Valued
return % of return %

las A 17.75% 19.00% gUnder
aCorrectly Valued
ag B 13.50% 13.50%
C 12.25% 11.00% Over Valued

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SUGGESTED ANSWER ADVANCED FINANCIAL MANAGEMENT

(ii) Strategy

Stock Decision
A Buy
B Hold
C Sell

(b) Decision Tree showing pay off
Year 0 Year 1 Option Pay off

225 0

-150

60 100 - 60 = 40

First of all, we shall calculate probability of high demand (p) using risk
neutral method as follows:
8% = p x 50% + (1-p) x (-60%)
0.08 = 0.50 p - 0.60 + 0.60p
p = 068/1.10= 0.618 or 0.62
The value of abandonment option will be as follows:

Expected Payoff at Year 1

= p x 0 + [(1-p) x 40]

= 0.618 x 0 + [0.382 x 40]

= ` 15.28 crore
Since expected pay off at year 1 is ` 15.28 crore. Present value of
expected pay off will be:
15.28
1.08 = ` 14.15 crore
Thus, the value of abandonment option is ` 14.15 crore.

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SUGGESTED ANSWER FINAL EXAMINATION: NOVEMBER 2024

Value of Project with abandonment option -
(i) If PVF is not considered
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Expected Value of the Project without abandonment option

o m m
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= (0.618 x ` 225 crore + 0.382 x ` 60 crore) – ` 150 crore
=m s e
seValue of Project with abandonment Option
` 11.97 crore
l a
g la = ` 11.97 crore + ` 14.15 crore = ` 26.12 crore ag
a
Or
Expected Value of the Project without abandonment option
= (0.62 x ` 225 crore + 0.38 x ` 60 crore) – ` 150 crore
= ` 12.30 crore
Value of Project with abandonment Option

o m
c
= ` 12.30 crore + ` 14.15 crore = ` 26.45 crore

m .
e without abandonment option
(ii) If PVF is considered

l a s
Expected Value of the Project
= (0.618 x ` 225 croreg+ 0.382 x ` 60 crore)/1.08 – ` 150 crore
a
= - ` 0.028 crore OR - ` 0.03
Value of Project with abandonment Option
= - ` 0.028 crore + ` 14.15 crore = ` 14.122 crore OR ` 14.12 crore
Or
Expected Value of the Project without abandonment option

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= (0.62 x ` 225 crore + 0.38 x ` 60 crore)/1.08 – ` 150 crore

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c. o m
= ` 00.28 crore

em Value of Project with abandonment Option
l a se
las = ` 0.28 crore + ` 14.15 crore = ` 14.43 crore
a g
ag (c) The decision determines the division of earnings between payments to
shareholders and reinvestment in the company is called Dividend
Decision.

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SUGGESTED ANSWER ADVANCED FINANCIAL MANAGEMENT

The other key decisions falling within the scope of financial strategy are as
follows:
1. Financing decisions: These decisions deal with the mode of financing
or mix of equity capital and debt capital.
2. Investment decisions: These decisions involve the profitable utilization
of firm's funds especially in long-term projects (capital projects). Since
the future benefits associated with such projects are not known with
certainty, investment decisions necessarily involve risk. The projects are
therefore evaluated in relation to their expected return and risk.
3. Portfolio decisions: These decisions involve evaluation of investments
based on their contribution to the aggregate performance of the entire
corporation rather than on the isolated characteristics of the
investments themselves.
Question 2
(a) Mr. X invested ` 1,00,000 at a face value of ` 10 per unit in a dividend
reinvestment plan in a mutual fund during its initial public offering on
1st July, 2022. On 31stMarch, 2023, the mutual fund declared a dividend of
10%. At that time Mr. X calculated his holding period return to be 115%
On 31 March, 2024 the mutual fund declared a dividend of 20% and Mr. X
redeemed all his investment and calculated his holding period return to be
193.134%.
You are required to calculate
(i) The NAVs as on 31.03.2023 and 31.03.2024.
(ii) Calculate the total units redeemed. (6 Marks)
(b) PQ Ltd. expects sales of ` 100 lakhs in the year 1. The same will increase by
` 20 lakhs per year over the next four years. At the end of 5 years the
project would be wound up. The Deprecation will be charged at 20% p.a. on
straight line method. The expenses excluding the depreciation will be 40%
of the sales. There will be no salvage value of the plant. PQ Ltd. proposes to
invest in the plant an amount where the Net Present Value will be Zero.
Corporate Tax rate is 30%.
You are required to calculate the investment which can be made in the
plant. (8 Marks)

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SUGGESTED ANSWER FINAL EXAMINATION: NOVEMBER 2024

Answer
(a) (i) Yield for 9 months = 115%
m
m
Market value of Investments as on 31.03.2023
c. o
.co = 1,00,000 + (1,00,000 x 115%)
s em
em l a
s
la Therefore, NAV as on 31.03.2023 = (2,15,000-10,000)/10,000=` 20.50ag
= ` 2,15,000/-

ag (NAV would stand reduced to the extent of dividend payout, being
(` 1,00,000 x 10%) = ` 10,000
Since dividend was reinvested by Mr. X, additional units acquired:
` 10,000
= = 487.80 units
` 20.50
Therefore, total units as on 31.03.2023 = 10,000 + 487.80 = 10,487.80
m
Alternately, total
c. o 31.03.2023 = (2,15,000/20.50)
units as on

Dividend as on 31.03.2024se
= 10,487.80
m = 10,487.80 x 10 x 0.2 = ` 20,975.60
g la as on 31.03.2024
a
Market Value of Investment
= ` 1,00,000+` 1,00,000(193.134%)
= ` 2,93,134
Thus, NAV per Unit as on 31.03.2024 = ` (2,93,134-20,975.60) /
10,487.80
= ` 25.95

o m
c
(ii) Calculation of total numbers of Units redeemed
m .
c. o No. of Units issued on 31.03.2024 =
20,975.60

s em
= 808.31 units

em la + 808.31
25.95

las a
Thus, total number of units redeemed = 10487.80 g
ag = 11296.11 units

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SUGGESTED ANSWER ADVANCED FINANCIAL MANAGEMENT

(b) Working Notes:
(1) Expected Sales
Year Expected Sales
1 ` 100 lakhs
2 ` 120 lakhs
3 ` 140 lakhs
4 ` 160 lakhs
5 ` 180 lakhs

(2) Expected Expenses excluding Depreciation

Year Exp.
1 ` 40 lakhs
2 ` 48 lakhs
3 ` 56 lakhs
4 ` 64 lakhs
5 ` 72 lakhs

(3) Cash Inflow from the Project
Let P be the cost of the plant then chargeable depreciation for each
year shall be 0.20P. Accordingly, annual cash flow from the project
shall be computed as follows:
Year Expected Exp. Dep. Profit Tax @30% Profit
Sales ` lakhs (3) Before Tax After Tax
` lakhs
1 100 40 0.20P 60 - 0.20P 18 – 0.06P 42 – 0.14P
2 120 48 0.20P 72 - 0.20P 21.6 – 0.06P 50.4 – 0.14P
3 140 56 0.20P 84 - 0.20P 25.2 – 0.06P 58.8 – 0.14P
4 160 64 0.20P 96 - 0.20P 28.8 – 0.06P 67.2 – 0.14P
5 180 72 0.20P 108 - 0.20P 32.4 – 0.06P 75.6 – 0.14P

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SUGGESTED ANSWER FINAL EXAMINATION: NOVEMBER 2024

Year Profit Dep. Cash Inflow
After Tax Added Back
m
c. o
1 42 – 0.14P 0.20P 42 + 0.06P

o m50.40 – 0.14P m
c
m3. 58.80 – 0.14P e
2 0.20P 50.40 + 0.06P

e 4 67.20 – 0.14P
0.20P 58.80 + 0.06P
l a s
a s
l 5 75.60 – 0.14P
0.20P 67.20 + 0.06P
a g
ag 0.20P 75.60 + 0.06P
Total 294 + 0.30P

Since NPV will be Zero the required comes as follows:
Sum of Cash Inflows – Plant Cost = 0
294 + 0.30P – P = 0
P = 420
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Thus, the required investment to be made in plant shall be ` 420

em rate of 10% is applied, though
lakhs.

s
la using a rate other than 10%.
Alternative solution if a discount

a g
students may solve the question
Working Notes:
(1) Expected Sales

Year Expected Sales
1 ` 100 lakhs
2 ` 120 lakhs

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3 ` 140 lakhs

m 4 ` 160 lakhs
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c. o 5 ` 180 lakhs
se
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s em g la
la
(2) Expected Expenses excluding Depreciation

g a
a Year
1
Exp.
` 40 lakhs
2 ` 48 lakhs

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SUGGESTED ANSWER ADVANCED FINANCIAL MANAGEMENT

3 ` 56 lakhs
4 ` 64 lakhs
5 ` 72 lakhs

(3) Cash Inflow from the Project
Let P be the cost of the plant then chargeable depreciation for each
year shall be 0.20P. Accordingly, annual cash flow from the project
shall be computed as follows:
Year Expected Sales Exp. Dep. Profit Tax Profit
` lakhs ` lakhs (3) Before Tax After Tax
1 100 40 0.20P 60 - 0.20P 18 – 0.06P 42 – 0.14P
2 120 48 0.20P 72 - 0.20P 21.6 – 0.06P 50.4 – 0.14P
3 140 56 0.20P 84 - 0.20P 25.2 – 0.06P 58.8 – 0.14P
4 160 64 0.20P 96 - 0.20P 28.8 – 0.06P 67.2 – 0.14P
5 180 72 0.20P 108 - 0.20P 32.4 – 0.06P 75.6 – 0.14P

Year Profit Dep. Cash Inflow PVF PV of Cash Inflow
After Tax Added @ 10%
Back
1 42 – 0.14P 0.20P 42 + 0.06P 0.909 38.178 + 0.05454P
2 50.40 – 0.14P 0.20P 50.40 + 0.06P 0.826 41.6304 + 0.04956P
3 58.80 – 0.14P 0.20P 58.80 + 0.06P 0.751 44.1588 + 0.04506P
4 67.20 – 0.14P 0.20P 67.20 + 0.06P 0.683 45.8976 + 0.04098P
5 75.60 – 0.14P 0.20P 75.60 + 0.06P 0.621 46.9476 + 0.03726P
Total 216.8124 + 0.2274P

Since NPV will be Zero the required comes as follows:
Sum of Cash Inflows – Plant Cost = 0
216.8124 + 0.2274P – P = 0
P = 280.63
Thus, the required investment to be made in plant shall be ` 280.63 lakhs.

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SUGGESTED ANSWER FINAL EXAMINATION: NOVEMBER 2024

Question 3
(a) XY Ltd. is planning to expand its operations in view of growing demand for
m
c. o
its products. For this purpose, it is considering to borrow an amount of
m
co
` 100 crores for a period of 3 months in the coming 6 months' time from
. em
s
now. The current rate of interest is 8% per annum but due to inflation it

e m l a
s
may go up in 6 months' time. The company wants to hedge itself against

l athe likely increase in interest rate.
a g
ag The company's Bankers quoted an FRA (Forward Rate Agreement) at 8.20%
per annum.
You are required to calculate due to FRA:

(i) The actual interest rate if the Banker pays to XY Ltd. an amount of
` 9,78,952.52
(ii) The actual interest rate if XY Ltd. will pay to the Banker a sum of

m
` 9,80,872.98 (6 Marks)

. co
(b) On 20.10.2024, the balance in NOSTRO account with XYZ Bank in London

em
was GBP 80000 and the balance in overbought was GBP 50000. During the

l a s
day the following transactions have taken place.

Events
a g Amount (GBP)
DD Purchased 25,000
Purchased a bill on London 75,000
Sold forward TT 50,000
Forward purchased contract cancelled 25,000
Remitted by TT 42,500
Draft in London cancelled
o m 20,000

m What c
. balance
c. o m
steps would you take, if you are required to maintain a credit

s e
em
of GBP 10,000 in the NOSTRO account and keep as overbought position on

s
GBP 32,500?
g l a (8 Marks)

l a a
ag
Answer
(a) Final settlement amount shall be computed by using formula:
(N)(RR - FR)(dtm/DY)
=
[1 + RR(dtm/DY)]

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SUGGESTED ANSWER ADVANCED FINANCIAL MANAGEMENT

Where,
N = the notional principal amount of the agreement;
RR = Actual Reference Rate for the maturity specified by the contract
prevailing on the contract settlement date;
FR = Agreed-upon Forward Rate; and
dtm = maturity period in days or months of the forward rate agreement
DY = Total number of days or month in a year as per convention
Accordingly,
i. If Banker pays to XY Ltd. an amount of ` 9,78,952.52 then actual
interest shall be computed as follows:
(` 100 crore)(RR -0.082)(3/12)
` 9,78,952.52 =
[1 + RR(3/12)]
RR = 0.086
Thus, the actual interest rate happens to be 8.60% on the settlement
date.
ii. If XY Ltd. pays to Banker an amount of ` 9,80,872.98 then actual
interest shall be computed as follows:
(` 100crore)(RR -0.082)(3/12)
— ` 9,80,872.98 =
[1 + RR(3/12)]
RR = 0.078
Thus, the actual interest rate happens to be 7.80% on the settlement
date.
(b) Exchange Position:

Particulars Purchase GBP Sale GBP
Opening Balance Overbought 50,000 —
DD Purchased 25,000 —
Purchased bill on London 75,000 —
Forward Sales – TT — 50,000
Cancellation of Forward Contract — 25,000
Remitted by TT — 42,500

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SUGGESTED ANSWER FINAL EXAMINATION: NOVEMBER 2024

Draft on London cancelled 20,000 —
1,70,000 1,17,500
m
m c. o
Closing Balance Overbought — 52,500

c. o 1,70,000 1,70,000
s em
Cash m a
s e Position (Nostro A/c) l
g la Credit Debit ag
a Opening balance (credit) 80,000 —
Remitted by TT — 42,500
80,000 42,500
Closing balance (credit) — 37,500
80,000 80,000

m
The Bank has to sell spot TT GBP 27,500 to decrease the balance in Nostro
account to GBP 10,000.
c o
. position to GBP 25,000.
m
e position of GBP 32,500, it has to buy
This would bring down the overbought

a s
gl
Since the bank requires an overbought
forward GBP 7,500.
Question 4
a
(a) On January 1, 2023 an investor has a portfolio of 5 securities as given
below:

Security Price (Rs.) No. of shares Beta
A 612.65 3000 ?

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B 334.20 5000 1.15

m .
c. o 0.95em
C 454.45 6000 0.40

em
D 775.10 10000
l a s
las E 781.05 3000
a g 0.85

ag Portfolio beta is 0.859
The cost of capital to the investor is 10.5% р.а.

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SUGGESTED ANSWER ADVANCED FINANCIAL MANAGEMENT

You are required to calculate:
(i) The beta of Security A.
(ii) The theoretical value of the Nifty futures for February, 2023. Current
value of Nifty 6500.
(iii) The number of contract of Nifty the investor needs to sell to get a full
hedge until February, for his portfolio, if the current value of Nifty is
6500 and Nifty futures have a minimum trade lot requirement of 200
units. Assume that the Futures are trading at their fair value.
(iv) What will be new beta if 4 Future contracts are sold to the investors?
No. of days in a year be traded as 365 days
Given: In (1.105) = 0.0998, e.0.015858 =1.01598 and e0.01668=1.01682
(b) Economic Value Added (EVA) of ABC Lad was ` 31,10,000 (6 Marks)
Following is the capital structure of ABC Ltd. at the end of current financial
year
Equity (Share Capital + Reserves & Surplus) ` 170 lakhs
Debt (Coupon Rate 10%) ` 80 lakhs
Invested Capital ` 250 lakhs
Following data is given to estimate the cost of equity capital:
Beta of ABC Ltd. 0.90
Risk-free rate (i.e., current yield on Govt. Bonds) 8%
Average market risk premium 10%
Economic Value Added (EVA) of ABC Ltd was ` 31,10,000.
The applicable corporate income tax rate is 30%.
You are required to calculate the Profit After Tax of ABC Ltd. (4 Marks)

(c) Succession planning is a good way for companies to ensure that businesses
are fully prepared to promote and advance all employees - not just those
who are at the management or executive levels.
Do you agree? Justify. (4 Marks)

67

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SUGGESTED ANSWER FINAL EXAMINATION: NOVEMBER 2024

OR
(c) MN Bank entered into a plain Vamila Swap through an, OIS (Overnight
m
c. o
Index Swap) on a principal of ` 5 crores and agreed to receive MIBOR

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overnight floating rates for a fixed payment on the principal. The swap was

. em
s
entered into on Monday 2ndAugust and was to commence on 3rdAugust and

e m
run for a period of 7 days.
l a
a s
l8.00%, 8.25%, 8.15%, 7.90%, 7.95%, 8.15%. ag
g
Respective MIBOR rates for Tuesday to Monday were

a
MN Bank received ` 275 net of settlement.
Working is to be rounded off. Bank does not accept decimal values.
You are required to calculate the fixed rate and Interest under both legs
where Sunday is holiday. (4 Marks)
Answer
(a) (i) Calculation of beta of Security A
o m
. c
m
Let beta of Security A is β
Security Price No. of se
A

l a Value Weightage Beta Weighted Beta

ag
of the shares w Β i i
Stock
A 612.65 3,000 18,37,950 0.113 βA 0.113 β A
B 334.20 5,000 16,71,000 0.102 1.15 0.117
C 454.45 6,000 27,26,700 0.167 0.40 0.067
D 775.10 10,000 77,51,000 0.475 0.95 0.451
E 781.05 3,000 23,43,150 0.143 0.85 0.122

m
1,63,29,800 0.757 + 0.113 βA

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c. o
Since the Portfolio beta is 0.859, the beta of Security A shall be:
m
em
0.757 + 0.113 βA = 0.859
la se
las βA = 0.903 or 0.90
a g
ag (ii) Calculation of Theoretical Value of Future Contract
Cost of Capital = 10.5% p.a. Accordingly, the Continuously
Compounded Rate of Interest ln (1.105) = 0.0998

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SUGGESTED ANSWER ADVANCED FINANCIAL MANAGEMENT

For February 2023 contract, t = 58/365 = 0.1589
Further F= Sert
F= ` 6,500e(0.0998)(0.1589)
F= ` 6,500e0.015858
F= ` 6,500X1.01598 = ` 6,603.87
Alternatively, it can also be taken as follows:

= ` 6500 e
0.105×58/365

= ` 6500 e
0.01668

= ` 6500 x 1.01682 = ` 6,609.33
(iii) When total portfolio is to be hedged:
Value of Spot Position requiring hedging
= ×Portfolio Beta
Value of Future Contract
16329800
= ×0.859 = 10.62 contracts say 11 contracts
6603.87 × 200
Or
16329800
= ×0.859 = 10.61 contracts say 11 contracts
6609.33 × 200

(iv) Revised Portfolio Beta if 4 Future contracts are sold to investor:
16329800
4 = (βP` – 0.859) x
6603.87×200

βP` = 1.18
Or
16329800
4 = (βP` – 0.859) x
6609.33×200

βP` = 1.18
(b) To compute Profit after Tax (PAT) of ABC Ltd. first we shall compute Cost
of Equity, Cost of Debt and WACC as follows:
Cost of Equity (ke) as per CAPM
ke = 8% + 0.90 x 10% = 17%

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SUGGESTED ANSWER FINAL EXAMINATION: NOVEMBER 2024

Post Tax Cost of Debt (kd) = 10% (1 – 0.30) = 7.00%
170 80
m
WACC = 17% x + 7% x

c. o
250 250

o m m
c
= 11.56% + 2.24% = 13.80%

m . s e
e
EVA = Net
s
Operating Profit after Tax (NOPAT) – (Invested Capital x WACC)

g l a
g a
lNOPAT
` 31,10,000 = NOPAT – (` 2,50,00,000 x 0.1380)
a
a = ` 65,60,000
65,60,000
Operating Profit = = ` 93,71,429
0.70
Calculation of profit after Tax

Operating Profit ` 93,71,429
Less: Interest ` 8,00,000

m
c. o
Profit before Tax ` 85,71,429

em
Less: Tax @ 30% ` 25,71,429
Profit after Tax
l a s ` 60,00,000

a g
(c) Yes, I agree with this statement because Succession planning is the
process of identifying the critical positions within an organization and
developing action plans for individuals to assume those positions. A
succession plan identifies future need of people with the skills and
potential to perform leadership roles. Succession planning is an important
priority for family owned businesses as most of them are managed by a
non-family leader even though the ownership lies with the family. Taking
a holistic view of current and future goals, this type of preparation
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ensures that the right people are available for the right jobs today and in

m .
c. o
the years to come. It can also provide a liquidity event, which enables the
m
se
transfer of ownership in a going concern to rising employees.

s em Need for Succession Planning
g l a
gla 1. Risk mitigation – If existing leader quits, then a
searches can take six-
a nine months for suitable candidate to close. Keeping an organization
without leader can invite disruption, uncertainty, conflict and
endangers future competitiveness.

70

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SUGGESTED ANSWER ADVANCED FINANCIAL MANAGEMENT

2. Cause removal – If the existing leader is culpable of gross
negligence, fraud, willful misconduct, or material breach while
discharging duties and has been barred from undertaking further
activities by court, arbitral tribunal, management, stakeholders or any
other agency.
3. Talent pipeline – Succession planning keep employees motivated
and determined as it can help them obtaining more visibility around
career paths expected, which would help in retaining the knowledge
bank created by company over a period of time and leverage upon
the same.
4. Conflict Resolution Mechanism – This planning is very helpful in
promoting open and transparent communication and settlement of
conflicts.
5. Aligning – In family owned business succession planning helps to
align with the culture, vision, direction and values of the business.
OR
(c)

Day Principal (`) MIBOR (%) Interest (`)
Tuesday 5,00,00,000 8.00 10,959
Wednesday 5,00,10,959 8.25 11,304
Thursday 5,00,22,263 8.15 11,169
Friday 5,00,33,432 7.90 10,829
Saturday & Sunday (*) 5,00,44,261 7.95 21,800
Monday 5,00,66,061 8.15 11,179
Total Interest @ Floating 77,240
Less: Net Received 275
Expected Interest @ fixed 76,965
Thus, Fixed Rate of Interest 0.0802635
Approx. 8.03%

Alternatively, if students have assumed 360 days a year then solution
will be as follows:

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Day Principal (`) MIBOR (%) Interest (`)
Tuesday 5,00,00,000 8.00 11,111
m
m c. o
Wednesday 5,00,11,111 8.25 11,461

c o m
Friday . e
Thursday 5,00,22,572 8.15 11,325

e m 5,00,33,897 7.90 10,980
l a s
l a s
Saturday & Sunday (*) 5,00,44,877 7.95 22,103
a g
ag Monday
Total Interest @ Floating
5,00,66,980 8.15 11,335
78,315
Less: Net Received 275
Expected Interest @ fixed 78,040
Thus, Fixed Rate of Interest 0.0802697
Approx. 8.03%

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Question 5

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(a) PQR Ltd. is considering a project in US, which involve an initial investment

l a s
of ` 124.50 Crore. The project will have useful life of 5 years Current spot

g
exchange rate is INR/USD is 83. The risk free rate in US is 4.186% and the
a
same in India is 6.9768%. Cash inflows in USD from the project are as
follows:

Year 1 2 3 4 5
Cash inflow 30,00,000 40,00,000 50,00,000 60,00,000 70,00,000

PQR Ltd. is expecting net surplus of ` 1858.08 lakh to be received after
closure of the project. There is no salvage value. PQR Ltd. want to take a

m
forward cover to protect itself from exchange rate fluctuations.

m c. o 5
c. o
N 1 2 3 4

s em 0.714
em
PVIF (6.976%, n) 0.935 0.874 0.817 0.764
0.884 a0.849 0.815
s l
la ag 0.636 0.567
PVIF (4.186%, n) 0.959 0.921

ag PVIF (12%, n)
PVIF (15%, n)
0.893
0.870
0.797
0.756
0.712
0.658 0.572 0.497

72

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SUGGESTED ANSWER ADVANCED FINANCIAL MANAGEMENT

You are required to recommend the INR/USD rate for the forward cover?
(6 Marks)
(b) AMN Ltd. has surplus cash of ` 200 lakhs and wants to distribute 30% of it
to the shareholders. The company decides to buy back shares. The Finance
officer of the company estimates that it share price after repurchase is likely
to be 15% above the buyback price if the buyback route is taken. The
number of shares outstanding at present is 15 lakhs and the current EPS is
` 3.00.
Bought Back price is to be rounded off to one decimal point.
You are required to determine.
(i) The price at which the shares can be repurchased, if the market
capitalisation of the company should be ` 250 lakhs after buyback.
(ii) The number of shares that can be repurchased.
(iii) The impact of share repurchase on the EPS, assuming that net income
is the same. (4 Marks)
(c) Mohan buys 10,000 shares of X Ltd. @ ` 25 per share whose beta value is
1.5 and sells 5,000 shares of A Ltd. @ ` 40 per share having a beta value of
2. He obtains a complete hedge by buying 25 Nifty Futures. He closes out
his position at the closing price of the next day when the share of X Ltd. has
fallen by 4% and Nifty Futures has dropped by 2.50%. In the process he
suffered a loss of ` 16625.
You are required to determine
(i) The value of the Nifty future
(ii) Initial cash outlay
(iii) Cash inflow at the close out
(iv) Percentage Gain/loss to Shares of A Ltd. at the time of closure
(4 Marks)
Answer
(a) Let F be the recommended INR/USD rate for the forward cover.
Accordingly, year-wise equivalent cash inflows in Indian Rupees shall be
as follows:

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SUGGESTED ANSWER FINAL EXAMINATION: NOVEMBER 2024

Year Cash Inflow Cash Inflow
in USD Lakh in ` Lakh
m
c. o
1 30.00 30.00F
m
3 .
co em
2 40.00 40.00F

em
50.00 50.00F
l a s
la s4 60.00 60.00F
ag
ag 5 70.00 70.00F

Now let us compute Net Present Value of project assuming a discount
rate of 12% as follows:

Year PVF@12% Cash flow in ` Lakh PV in ` Lakh
0 1.00 - 12450.00 - 12450.00
1 0.893 30.00F 26.79F

om
2 0.797 40.00F 31.88F
. c50.00F
em 60.00F
3 0.712 35.60F
4 0.636
l a s 38.16F
5 0.567
a g 70.00F 39.69F
172.12F - 12450

Since expected surplus after closure of the project is ` 1858.08 Lakh, we
can compute the value of F as follows:
1858.08 = 172.12F – 12450
F = 83.13
Thus, for forward cover the rate of ` 83.13/ USD is recommended.
o m
m c
. then
c. o m
Alternatively, if students have assumed discounting rate as 15%

s e
em
answer will be as follows:

s g la forward cover.
la a Rupees shall be
Let F be the recommended INR/USD rate for the

ag Accordingly, year-wise equivalent cash inflows in Indian
as follows:

74

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SUGGESTED ANSWER ADVANCED FINANCIAL MANAGEMENT

Year Cash Inflow Cash Inflow
in USD Lakh in ` Lakh
1 30.00 30.00F
2 40.00 40.00F
3 50.00 50.00F
4 60.00 60.00F
5 70.00 70.00F

Now let us compute Net Present Value of project assuming a discount rate of
15% as follows:

Year PVF@15% Cash flow PV
in ` Lakh in ` Lakh
0 1.00 - 12450.00 - 12450.00
1 0.870 30.00F 26.10F
2 0.756 40.00F 30.24F
3 0.658 50.00F 32.90F
4 0.572 60.00F 34.32F
5 0.497 70.00F 34.79F
158.35F - 12450

Since expected surplus after closure of the project is ` 1858.08 Lakh, we can
compute the value of F as follows:

1858.08 = 158.35F – 12450

F = 90.36

Thus, for forward cover the rate of ` 90.36/ USD is recommended.

Alternative Solution if students have assumed that the discounting
rate 15% for the given cash inflows then applicable discounting rates
for the project is -
(1 + 0.06978) / (1 + Risk Premium) = (1 + 0.15)
Or, 1 + Risk Premium = 1.15/1.06978 = 1.0750

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Therefore, Risk adjusted dollar rate is = (1.0750 x 1.04186) -1 = 1.1199 – 1
= 0.12
m
m flow
Calculation of NPV
c. o
Yearc. o Cash PV Factor at 12% PV
s em
m US$ lakh
e1 l a
s
(US$ lakh)

l a ag
ag
30.00 0.893 26.79
2 40.00 0.797 31.88
3 50.00 0.712 35.60
4 60.00 0.636 38.16
5 70.00 0.567 39.69
172.12
Less: Investment 150.00

o mNPV 22.12

. c
em
Since PQR Ltd. is expecting a net surplus of ` 1858.08 lakh after the

a s
closure of the project the recommended rate of INR/ USD is (` 1858.08
l
g
lakh/ USD 22.12 lakh) ` 84.00.
a
(b) (i) Let P be the buyback price decided by AMN Ltd.
Market Capitalisation after Buyback
1.15P (Original Shares – Shares Bought Back)
 30% of 200 lakhs 
= 1.15P  15 lakhs -  = ` 250 lakhs
 P 
= 17.25 lakhs × P – 60 lakhs × 1.15
m
m
= 17.25 lakhs P – 69 lakhs
.co
c. o Again, 17.25 lakhs P – 69 lakhs
se
m
s em or 17.25 lakhs P = 250 lakhs + 69 lakhs
g la
gla a
a
319
or P = = ` 18.5 per share or ` 18.50
17.25

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SUGGESTED ANSWER ADVANCED FINANCIAL MANAGEMENT

(ii) Number of Shares to be Bought Back :-
60 lakhs
= 3.243243 lakhs (Approx.) or 3,24,324 share
18.5
(iii) Impact on EPS
Exiting EPS = ` 3.00
Number of Shares = 15 lakhs
Total Earning = ` 3.00 x 15 Lakh = ` 45.00 lakhs
Post Buyback number of Shares = 15,00,000 - 3,24,324 = 11,75,676
45,00,000
∴ Revised EPS = = ` 3.83 or ` 3.8
11,75,676

Thus, EPS of AMN Ltd. increases to ` 3.83 or Impact on EPS = ` 3.83 -
` 3.00 = ` 0.83 (Increase) or Impact on EPS = ` 3.8 - ` 3.0 = ` 0.8
(Increase)
(c) (i) Let N be the value of Nifty Future Contract then:
10000×25×1.50 -5000×40×2
= 25
N
N = - 1000
Since Mohan has bought Nifty Futures the above value shall be
considered as positive i.e. value of per one Nifty Future is ` 1000.
Alternatively, it can also be computed as follows:
5000×40×2 − 10000×25×1.50
= 25
N
N = 1000
Accordingly, the value of Nifty Future is ` 1000.
(ii) Initial Cash Outlay
= 10000 x ` 25 + 1000 x ` 25 – 5000 x ` 40
= ` 2,50,000 + ` 25,000 - ` 2,00,000 = ` 75,000
(iii) Cash inflow at the closeout
` 75,000 - ` 16,625 = ` 58,375

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SUGGESTED ANSWER FINAL EXAMINATION: NOVEMBER 2024

(iv) Percentage Gain/ loss to Shares of A Ltd. at the time of closure
Let the amount realised from the sale of share of A Ltd. is A.
m
m c. o
Accordingly, next day at the time of closing out the position will be as

c o
follows:
. x ` 25 (1 – 0.04) + 25 x ` 1000 x (1 – 0.025) - A = ` 58,375 em
m a s
seA = ` 2,06,000 l
10000

l a a g
ag Thus, percentage of loss to shares of A Ltd. = 2,06,000- 2,00,000
2,00,000
= 0.03 i.e. 3%
Alternative presentation-
Percentage Gain / Loss to shares of A Ltd. at the time of closure:

Loss suffered by Mohan when he closes out his ` 16,625

m
position at the closing price of the next day
Less:
. co
em
a. Loss suffered in purchase of shares of X Ltd.
(10,000 x 25 x 0.04)
l a s 10,000

a g (1,000 x 25 x 0.025)
b. Loss suffered in Nifty Futures 625 ` 10,625
Loss suffered in sale of shares of A Ltd. ` 6,000

Thus, percentage of loss to shares of A Ltd.= (6,000/2,00,000) x 100 = 0.03
i.e. 3%.
Question 6
(a) A Portfolio Manager (PM) has three mutual funds in has portfolio. Following

m
the details of these three mutual funds:

m .c o
c. o
Particulars Growth Balanced Regular Market
fund m
fund fund
s e
s em Average Return (%) 7.5 6.3
gla
5.4

gla Variance a 50.41
a Sharpe Ratio -0.15 -0.36 -0.48
Treynor’s Ratio -2 -3 -4.80

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The yield on 182 days Treasury bill is 9 per cent per annum.
You are required to calculate
(i) Variance of the Funds
(ii) Coefficient of Determination of the Funds (8 Marks)
(b) True Life Inc., a US based company, has won a contract to implement a
project in India. The project will require an initial investment of ` 8000
million. The whole project along with the equipment will be sold to the
Indian Government for ` 9600 million in one-year time. Since the Indian
Government will pay for the amount in Indian Rupee (`), the company is
worried about exposure due to exchange rate volatility.
(i) Construct a swap that will help the True Life Inc. to reduce the
exchange rate risk.
(ii) Assume that the Indian Government offers a swap at spot rate which is
INR/USD 80 in one year. The spot rate after one year is expected to be
INR/USD 84. Further, you may also assume that the True Life Inc., can
also take a USD loan at 6% per annum. ADVISE whether the company
should opt for this option or just do nothing. (6 Marks)
Answer
(a) (i) Variance of different Funds can be calculated by using Sharpe Ratio
as follows:
(a) Growth Fund
Let σG be the Standard Deviation of Growth Fund. Accordingly
7.50 -9.00
- 0.15 =
σG

σG = 10
Hence the variance of Growth Fund (σG)2 = 100
(b) Balanced Fund
Let σB be the Standard Deviation of Balanced Fund. Accordingly
6.30 -9.00
- 0.36 =
σB

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σB = 7.50
Hence the variance of Growth Fund (σB)2 = 56.25
m
m
(c) Regular Fund
c. o
.co
Let σR be the Standard Deviation of Regular Fund. Accordingly
s em
me - 0.48 = l a
s ag
5.40 -9.00

l a
ag
σR

σR = 7.50
Hence the variance of Growth Fund (σR)2 = 56.25
(ii) To determine the Coefficient of Determination we need the
Coefficient of Correlation which can be determined by computing β
using the Treynor Ratio as follows:
(a) Growth Fund

m
co
Let βG be the Beta of Growth Fund. Accordingly

.
em
7.50 -9.00
-2=
βG

l a s
βG = 0.75
a g
σGCorr.G,M
Since Beta =
σM

and σG = 10 and σM = 50.41 = 7.1
10Corr.G,M
Hence 0.75 =
7.10

m
Corr.G,M = 0.5325 or 0.53 and

m .co
c. o
Coefficient of Determination of Growth Fund = (0.5325)2 = 0.2836
m
se
or (0.53)2 = 0.28

s em (b) Balanced Fund
g la
gla a
Let β be the Beta of Balanced Fund. Accordingly
a
B

6.30 -9.00
-3=
βB

80

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βB = 0.90
σBCorr.B,M
Since Beta =
σM

and σB = 7.50 and σM = 50.41 = 7.1
7.50Corr.B,M
Hence 0.90=
7.10
Corr.B,M = 0.852 or 0.85 and
Coefficient of Determination of Balanced Fund = (0.852)2 = 0.7259
or (0.85)2 = 0.73
(c) Regular Fund
Let βR be the Beta of Regular Fund. Accordingly
5.40 -9.00
- 4.80 =
βR

βR = 0.75
σR Corr.R,M
Since Beta =
σM

and σR = 7.50 and σR = 50.41 = 7.1
7.50Corr.R,M
Hence 0.75=
7.10
Corr.R,M = 0.71 and
Coefficient of Determination of Regular Fund = (0.71)2 = 0.5041
or 0.50
(b) (i) The following swap arrangement can be entered by True Life Inc.
(1) Swap a US$ loan today at an agreed rate with any party to obtain
Indian Rupees (`) to make initial investment.
(2) After one year swap back the Indian Rupees with US$ at the
agreed rate. In such case the company is exposed only on the
profit earned from the project.

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SUGGESTED ANSWER FINAL EXAMINATION: NOVEMBER 2024

(ii) With the swap

Year 0 Year 1
m
c. o
(Million US$) (Million US$)
m
.co
Buy ` 8000 million at spot rate (100.00) -----

s em
m of 1 US$ = ` 80
e Swap ` 8000 million back at l a
a s
l agreed rate of ` 80
100.00
ag
ag Sell ` 1600 million at 1 US$ 19.05
= ` 84
Interest on US$ loan @6% for (6.00)
one year
(100.00) 113.05

Net result is a net receipt of US$ 13.05 million.

m
c. o
Without the swap

em (Million US$) (Million US$)
Year 0 Year 1

l a s
a g
Buy ` 8000 million at spot rate
of 1 US$ = ` 80
(100.00)

Sell ` 9600 million at 1 US$ 114.29
= ` 84
Interest on US$ loan @6% for (6.00)
one year
(100.00) 108.29

o m
c
Net result is a net receipt of US$ 8.29 million.
m Decision: Since the net receipt is higher in swap option the.company
c. o s em
em la
should opt for the same.

las a g
ag

82

m .
.co s e m
e m l a
l a s a g
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