This document provides a workbook for students preparing for financial management examinations. It includes brief summaries of chapters from the textbook, questions and answers on basic concepts, frequently used formulas, practice problems and solutions, and model question papers. The goal is to help students effectively study and review important topics in financial management, such as time value of money, risk and return, security valuation, financial statement analysis, and capital budgeting. Students are advised to thoroughly study the textbook and use this workbook to test and reinforce their understanding.

1. Financial Management
WORKBOOK
The ICFAI University
# 52, Nagarjuna Hills, Hyderabad - 500 082

2. © 2005 The Icfai University Press. All rights reserved.
No part of this publication may be reproduced, stored in a retrieval
system, used in a spreadsheet, or transmitted in any form or by any
means – electronic, mechanical, photocopying or otherwise – without
prior permission in writing from The Icfai University Press.
ISBN : 81-7881-969-4
Ref. No. FMWB 11200502
For any clarification regarding this book, the students may please write to us giving the above
reference number of this book specifying chapter and page number.
While every possible care has been taken in type-setting and printing this book, we welcome
suggestions from students for improvement in future editions.

3. Preface
The ICFAI University has been upgrading its study material to make it more beneficial to the
students for self-study through the Distance Learning mode.
We are delighted to publish a workbook for the benefit of the students preparing for the
examinations. The workbook is divided into three parts.
Effective from April, 2003, the examinations for all the subjects of DBF/CFA (Level-I) consist of
only multiple choice questions.
Brief Summaries of Chapters
A brief summary for each of the chapters in the textbook is given for easy recollection of the
topics studied.
Part I: Questions on Basic Concepts and Answers (with Explanatory Notes)
Students are advised to go through the relevant textbook carefully and understand the subject
thoroughly before attempting Part I. In no circumstances should the students attempt Part I without
fully grasping the subject material provided in the textbook.
Frequently used Formulae
Similarly the formulae used in the various topics have been given here for easy recollection while
working out the problems.
Part II: Problems and Solutions
The students should attempt Part II only after carefully going through all the solved examples in
the textbook. A few repetitive problems are provided for the students to have sufficient practice.
Part III: Model Question Papers (with Suggested Answers)
The Model Question Papers are included in Part III of this workbook. The students should attempt
all model question papers under simulated examination environment. They should self score their
answers by comparing them with the model answers. Each paper consists of Part A and Part B.
Part A is intended to test the conceptual understanding of the students. It contains 40 questions
carrying one point each. Part B contains problems with an aggregate weightage of 60 points.
Please remember that the ICFAI University examinations follow high standards that demand
rigorous preparation. Students have to prepare well to meet these standards. There are no short-
cuts to success. We hope that the students will find this workbook useful in preparing for the
ICFAI University examinations.
Work Hard. Work Smart. Work Regularly. You have every chance to succeed. All the best.

4. Contents
PAPER I
Brief Summaries of Chapters 1
Part I: Questions on Basic Concepts and Answers (with Explanatory Notes) 10
Frequently Used Formulae 101
Part II: Problems and Solutions 108
Part III: Model Question Papers (with Suggested Answers) 333
PAPER II
Brief Summaries of Chapters 467
Part I: Questions on Basic Concepts and Answers (with Explanatory Notes) 480
Frequently Used Formulae 560
Part II: Problems and Solutions 570
Part III: Model Question Papers (with Suggested Answers) 749

5. Detailed Curriculum
Paper I
Introduction to Financial Management: Objectives, Functions and Scope, Evolution, Interface of
Financial Management with Other Functional Areas, Environment of Corporate Finance.
Indian Financial System:
a. Financial Markets: Money Market, Forex Market, Government Securities Market, Capital
Market, Derivatives Market, International Capital Markets.
b. Participants:
i. Financial Institutions: IDBI, IFCI, ICICI, IIBI, EXIM Bank, SFCs, SIDCs
ii. Insurance Companies: LIC, GIC
iii. Investment Institutions: UTI, Mutual Funds, Commercial Banks; Non-Banking
Financial Companies; Housing Finance Companies; Foreign Institutional Investors.
c. Regulatory Authorities: RBI, SEBI, IRA.
Time Value of Money: Introduction; Future Value of a Single Cash Flow, Multiple Flows and
Annuity, Present Value of a Single Cash Flow, Multiple Flows and Annuity.
Risk and Return: Risk and Return Concepts, Risk in a Portfolio Context, Relationship between
Risk and Return.
Leverage: Concept of Leverage, Operating Leverage, Financial Leverage, Total Leverage.
Valuation of Securities: Concept of Valuation, Bond Valuation, Equity Valuation: Dividend
Capitalization Approach and Ratio Approach, Valuation of Warrants and Convertibles.
Financial Statement Analysis: Ratio Analysis, Time Series Analysis, Common Size Analysis, Du
Pont Analysis, Funds Flow Analysis, Difficulties associated with Financial Statement Analysis.
Financial Forecasting: Sales Forecast, Preparation of Pro forma Income Statement and Balance
Sheet, Growth and External Funds Requirement.
Paper II
Sources of Long-Term Finance: Equity Capital and Preference Capital, Debenture Capital, Term
Loans and Deferred Credit, Government Subsidies, Sales Tax Deferments and Exceptions, Leasing
and Hire Purchase.
Cost of Capital and Capital Structure Theories: Cost of Debentures, Term Loans, Equity
Capital and Retained Earnings, Weighted Average Cost of Capital, Systems of Weighting,
Introduction to Capital Structure, Factors affecting Capital Structure, Features of an Optimal
Capital Structure, Capital Structure Theories: Traditional Position, MM Position and its Critique
Imperfections.
Dividend Policy: Traditional Position, Walter Model, Gordon Model, Miller & Modigliani
Position, Rational Expectations Model.
Estimation of Working Capital Needs: Objectives of Working Capital (Conservative vs.
Aggressive Policies), Static vs. Dynamic View of Working Capital, Factors affecting the
Composition of Working Capital, Interdependence among Components of Working Capital,
Operating Cycle Approach to Working Capital.
Financing Current Assets: Behavior of Current Assets and Pattern of Financing, Accruals, Trade
Credit, Provisions, Short-Term Bank Finance, Public Deposits, Commercial Paper, Factoring,
Regulation of Bank Credit.
Management of Working Capital:
a. Inventory Management: Nature of Inventory and its Role in Working Capital, Purpose of
Inventories, Types and Costs of Inventory, Inventory Management Techniques, Pricing of
Investments, Inventory Planning and Control;
b. Receivables Management: Purpose of Receivables, Cost of Maintaining Receivables, Credit
Policy Variables (Credit Standard, Credit Period, Cash Discount, Collection Program), Credit
Evaluation, Monitoring Receivables;
c. Treasury Management and Control;
d. Cash Management: Meaning of Cash, Need for and Objectives of Cash Management, Cash
Forecasting and Budgets, Cash Reports, Factors and Efficient Cash Management.
Capital Expenditure Decisions: The Process of Capital Budgeting, Basic Principles in Estimating
Costs and Benefits of Investments, Appraisal Criteria: Payback Period, Average Rate of Return,
Net Present Value, Benefit-Cost Ratio, Internal Rate of Return, Annual Capital Charge,
Infrastructure Decisions and Financing.
Current Developments.

6. Brief Summaries of Chapters
Introduction to Financial Management
• The financial goal of any firm including public sector firms is to maximize the wealth of the
shareholders by maximizing the value of the firm.
• The objective of financial manager is to increase or maximize the wealth of owners by
increasing the value of the firm which is reflected in its earning per share and market value of
the firm.
• Function of finance manager includes mobilization of funds, deployment of funds, control
over the use of fund, and balancing the trade-off between risk and return.
• The advantages of sole proprietorship are (i) easy and inexpensive set up. (ii) few
governmental regulations and (iii) no firm tax. Partnership firm is a business owned by two
or more persons. They are partners in business and they bear the risks and reap the rewards of
the business. A partnership firm is governed by the Indian Partnership Act, 1932. Hence
it is relatively free from governmental regulations as compared to the joint stock
companies. A group of persons working towards a common objective is a company. It
represents different kinds of associations, be it business or non-business.
• Corporate investment and financing decisions are circumscribed by a government regulatory
framework. The important elements of these framework are: (i) Industrials policy
(ii) Industrial licensing provisions and procedure (iii) Regulation of Foreign Collaborations
and Investment (iv) Foreign Exchange Management Act (v) Companies Act and (vi) SEBI.
Indian Financial System
• The economic development of a country depends on the progress of its various economic
units, namely the Corporate Sector, Government Sector and the Household Sector.
• The role of the financial sector can be broadly classified into the savings function, policy
function and credit function.
• The main types of financial markets are: money market, capital market, forex market and
credit market.
• The financial markets are further sub-divided into the Primary market and the Secondary market.
• A market is considered perfect if all the players are price takers, there are no significant
regulations on the transfer of funds and transaction costs, if any, are very low.
• The accounting equation: Assets = Liabilities, can be altered as
Financial Assets + Real Assets = Financial Liabilities + Savings.
• The main types of financial assets are deposits, stocks and debt.
• While designing a financial instrument, the issuer must keep the following in mind: cash
flows required, taxation rules, leverage expected, dilution of control facts, transaction costs to
be incurred, quantum of funds sought, maturity of plan required, prevalent market conditions,
investor profile targeted, past performance of issues, cost of funds to be borne, regulatory
aspects to abide by.
• While investing in a financial instrument, the investor must keep the following in mind: risk
involved, liquidity of the instrument, returns expected, possible tax planning, cash flows
required and simplicity of investment.
• Various financial intermediaries came into existence to facilitate a proper channel for
investment. The main ones are: stock exchanges, investment bankers, underwriters,
registrars, depositories, custodians, primary dealers, satellite dealers and forex dealers.

7. Time Value of Money
• Additional compensation required for parting with say Rs.1,000 now is called ‘interest’.
• There are two methods by which the time value of money can be taken care of compounding
and discounting.
• Under the method of compounding, we find the Future Values (FV) of all the cash flows at
the end of the time horizon at a particular rate of interest.
• Under the method of discounting, we reckon the time value of money now i.e. at time zero on
the time line. So, we will be comparing the initial outflow with the sum of the Present Values
(PV) of the future inflows at a given rate of interest.
• To determine the accumulation of multiple flows as at the end of a specified time horizon, we
have to find out the accumulations of each of these flows using the appropriate FVIF and sum
up these accumulations.
• Annuity is the term used to describe a series of periodic flows of equal amounts.
• To determine the present value, we have to first define the relevant rate of interest.
Risk and Return
• The risk associated with a common stock is interpreted in terms of the variability of its
return. The most common measures of riskiness of security are standard deviation and
variance of returns.
• Unsystematic risk is the extent of the variability in the security’s return on account of the
firm specific risk factors. This is also called diversifiable or avoidable risk factors.
• Systematic risk refers to factors which affect the entire market and hence the firm too. This is
also called non-diversifiable risk.
• If a portfolio is well diversified, the unsystematic risk gets almost eliminated. The
non-diversifiable risk arising from the wide movements of security prices in the market is
very important to an investor. The modern portfolio theory defines the riskiness of a security
as its vulnerability to market risk. This vulnerability is measured by the sensitivity of the
return of the security vis-á-vis the market return and is called beta.
• The concept of security market line is developed by the modern portfolio theory. SML
represents the average or normal trade-off between risk and return for a group of securities.
Here the risk is measured typically in terms of the beta values.
Application of Security Market Lines:
The ex post SML is used to evaluate the performance of portfolio manager; tests of
asset-pricing theories, such as the CAPM and to conduct tests of market efficiency.
The ex ante SML is used to identify undervalued securities and determine the consensus,
price of risk implicit in the current market prices.
Depending upon the value of alpha, using SML it is possible to estimate whether the scrip is
underpriced (it is then eligible to be purchased) or overpriced (it is then eligible to be sold).
Valuation of Securities
• Value of any security can be defined as the present value of the future cash streams i.e., the
intrinsic value of an asset should be equated to the present value of the benefits associated
with it.
• Book value is an accounting concept. Assets are recorded at historical costs and they are
depreciated over years. Book value includes intangible assets at acquisition cost minus
amortized value. The book value of debt is stated at the outstanding amount. The difference
between the book value of assets and liabilities is equal to shareholder’s funds or net worth
(which is equal to paid-up equity capital plus reserves and surplus).
• Replacement Value is the amount that a company would be required to spend if it were to
replace its existing assets in the current condition.
2

8. • Liquidation Value is the amount that a company could realize if it sells its assets after having
terminated its business. It is generally a minimum value which a company might accept if it
sells its business.
• Going Concern Value is the amount that a company could realize if it sells its business as an
operating one. Its value would always be higher than the liquidation value, the difference
accounting for the usefulness of assets and value of intangibles.
• Market Value of an asset or security is the current price at which the asset or the security is
being sold or bought in the market.
• Face Value: This is the value stated on the face of the bond and is also known as par value. It
represents the amount of borrowing by the firm which it specifies to repay after a specific
period of time i.e., at the time of maturity. A bond is generally issued at face value or par
value which is usually Rs.100 and may sometimes be Rs.1,000.
• Coupon Rate or Interest: A bond carries a specific rate of interest which is also called as the
coupon rate. The interest payable is simply the par value of the bond × Coupon Rate. Interest
paid on a bond is tax deductible for the issuer.
• Maturity: A bond is issued for a specific period of time. It is repaid on maturity. Typically
corporate bonds have a maturity period of 7-10 years whereas government bonds have a
maturity period up to 20-25 years.
• Redemption Value: The value which a bondholder gets on maturity is called redemption
value. A bond may be redeemed at par, at premium (more than par value) or at discount (less
than par value).
• Market Value: A bond may be traded in a stock exchange. Market value is the price at which
the bond is usually bought or sold in the market. Market value may be different from Par
Value or redemption value.
• One Period Rate of Return: If a bond is purchased and then sold one year later, its rate of
return over this single holding period can be defined as rate of return.
• Current Yield measures the rate of return earned on a bond if it is purchased at its current
market price and if the coupon interest is received.
• Coupon rate and current yield are two different measures. Coupon rate and current yield will
be equal if the bond’s market price equals its face value.
• Yield-to-Maturity (YTM): It is the rate of return earned by an investor who purchases a bond
and holds it till maturity. The YTM is the discount rate which equals the present value of
promised cash flows to the current market price/purchase price.
• Based on the bond valuation model, several bond value theorems have been derived which
state the effect of the following factors on bond values:
I. Relationship between the required rate of return and the coupon rate.
II. Number of years to maturity.
III. Yield-to-maturity.
• When the required rate of return (kd) is equal to the coupon rate, the value of the bond is
equal to its Par Value.
i.e., If kd = Coupon Rate;
then value of a bond = Par Value.
• When the required rate of return (kd) is greater than the coupon rate, the value of the bond is
less than its par value.
If kd > coupon rate; then value of a bond < par value.
• When the required rate of return (kd) is less than the coupon rate, the value of the bond is
greater than its par value.
i.e., if kd < coupon rate; then value of a bond > par value.
3

9. • When the required rate of return (kd) is greater than the coupon rate, the discount on the bond
declines as maturity approaches.
• When the required rate of return (kd) is less than the coupon rate, the premium on the bond
declines as maturity approaches.
• A bond’s price is inversely proportional to its yield to maturity.
• For a given difference between YTM and coupon rate of the bonds, the longer the term to
maturity, the greater will be the change in price with change in YTM.
• Given the maturity, the change in bond price will be greater with a decrease in the bond’s
YTM than the change in bond price with an equal increase in the bond’s YTM. That is, for
equal sized increases and decreases in the YTM, price movements are not symmetrical.
• For any given change in YTM, the percentage price change in case of bonds of high coupon
rate will be smaller than in the case of bonds of low coupon rate, other things remaining the
same.
• A change in the YTM affects the bonds with a higher YTM more than its does bonds with a
lower YTM. A warrant is a call option to buy a stated number of shares.
• The exercise price of a warrant is what the holder must pay to purchase the stated number of
shares.
• A convertible debenture, as the name indicates, is a debenture which is convertible partly or fully,
into equity shares. If it is partially converted, it is referred to as ‘partly convertible debenture’ and if
the debentures are converted into equity shares at the end of maturity fully, it is referred to as ‘fully
convertible debentures’. The option of conversion is either at the discretion of the investor, i.e.,
(optional) or compulsory (if it is specified).
• The conversion ratio gives the number of shares of stock received for each convertible
security. If only the conversion ratio is given, the par conversion price can be obtained by
dividing the conversion ratio multiplied by the face or par value of the convertible security.
• The conversion value represents the market value of the convertible if it were converted into
stock; this is the minimum value of the convertible based on the current price of the issuer’s
stock.
• Intrinsic value is the value of a stock which is justified by assets, earnings, dividends, definite
prospects and the factor of the management of the issuing company.
• According to the dividend capitalization approach, which is a conceptually sound approach,
the value of an equity share is the discounted present value of dividends received plus the
present value of the resale price expected when the equity share is sold.
• The E(P/E) ratio is formed by dividing the present value of the share by the expected
earnings per share denoted by E(EPS).
Financial Statement Analysis
• A financial statement is a compilation of data, which is logically and consistently organized
according to accounting principles.
• Financial Statement Analysis consists of the application of analytical tools and techniques to
the data in financial statements in order to derive from them measurements and relationships
that are significant and useful for decision making.
• The financial data needed in the financial analysis come from many sources.
• The important tools of analysis:
1. Ratio Analysis
– Comparative Analysis
– Du Pont Analysis
2. Funds flow Analysis.
4

10. • The analysis of a ratio can disclose relationships as well as bases of comparison that reveal
conditions and trends that cannot be detected by going through the individual components of
the ratio. The usefulness of ratios is ultimately dependent on their intelligent and skillful
interpretation.
• Financial ratios fall into three groups:
1. Liquidity Ratios
2. Profitability or Efficiency Ratios
3. Ownership Ratios
– Earnings Ratios
– Dividend Ratios
– Leverage Ratios
a. Capital Structure Ratios
b. Coverage Ratios.
• Liquidity implies a firm’s ability to pay its debts in the short run.
• Current Ratio:
Current Assets
The liquidity ratio is defined as:
Current Liabilities
Current assets include cash, marketable securities, debtors, inventories, loans and advances,
and pre-paid expenses. Current liabilities include loans and advances taken, trade creditors,
accrued expenses and provisions.
• Quick Ratio Quick-test (also acid-test ratio) is defined as:
Quick Assets Quick Assets − Inventories
= =
Current Liabilities Current Liabilities
Short − term bank borrowings
• Bank Finance to Working Capital Gap Ratio =
Working capital gap
where Working capital gap is equal to current assets less current liabilities other than bank
borrowings.
Net credit sales
• Accounts receivable turnover ratio =
Average accounts receivable
360
• Average collection period =
Average accounts receivable turnover
Average accounts receivable
=
Average daily sales
Cost of goods sold
• Inventory turnover =
Average inventory
Gross Pr ofit
• The Gross Profit Margin Ratio (GPM) is defined as:
Net Sales
Where net sales = Sales – Excise duty.
Net Pr ofit
• The Net Profit Margin ratio (NPM) is defined as:
Net Sales
Sales
• Asset turnover ratio is defined as:
Average assets
5

11. • Earning power is a measure of operating profitability and it is defined as:
Earning before interest and taxes
Average total assets
• Return on Equity
The Return on Equity (ROE) is an important profit indicator to shareholders of the firm. It is
Net income
calculated by the formula:
Average equity
• Ownership ratios are divided into three main groups. They are:
1. Earnings Ratios
2. Leverage Ratios
– Capital Structure Ratios
– Coverage Ratios
3. Dividend Ratios.
• The earnings ratios are Earnings Per Share (EPS), price-earnings ratio (P/E ratio), and
capitalization ratio. From earnings ratios we can get information on earnings of the firm and
their effect on price of common stock.
Net income (PAT)
• Earning Per Share (EPS) =
Number of outstanding shares
Market price of theshare
• Price earnings multiple =
Earnings per share
Earnings per share
• Capitalization rate =
Market price of the share
Debt
• Debt equity ratio =
Equity
Debt
• Debt-Asset ratio =
Assets
EBIT
• Interest coverage ratio =
Interest expense
• Fixed charges coverage ratio
Earning before depreciation, debt interest and lease rentals and taxes
=
Debt interest + Lease rentals + Loan repayment installment + Preference dividends
(1− tax rate) (1− tax rate)
• Debt Service Coverage Ratio
PAT + Depreciation + Other non − cash charges + Interest on term loan
=
Interest on term loan + Repayment of the term loan
• Dividend Pay-out Ratio
This is the ratio of Dividend Per Share (DPS) to Earnings Per Share (EPS)
Dividend per share
• Divident yield =
Market price of theshare
• Different types of comparative analysis are:
1. Cross-sectional analysis
2. Time-series analysis
a. Year-to-year change
b. Index analysis
3. Common-size analysis.
6

12. • Cross-sectional analysis is used to assess whether the financial ratios are within the limits,
they are compared with the industry averages or with a good player in normal business
conditions if an organized industry is not there.
• A comparison of financial statements over two to three years can be undertaken by
computing the year-to-year change in absolute amounts and in terms of percentage changes.
• When a comparison of financial statements covering more than three years is undertaken, the
year-to-year method of comparison may become too cumbersome.
• In the analysis of financial statements, it is often instructive to find out the proportion that a
single item represents of a total group or subgroup. In a balance sheet, the assets, the
liabilities and the capital are each expressed as 100%, and each item in these categories is
expressed as a percentage of the respective totals. Similarly, in the income statement, net
sales are set at 100% and every other item in the statement is expressed as a percentage of net
sales.
• Analyzing return ratios in terms of profit margin and turnover ratios, referred to as the
Du Pont System.
Funds Flow Analysis
• A funds flow statement is a statement which explains the various sources from which funds
are raised and the uses to which these funds are put.
• The major difference, however, between a true funds flow statement and a balance sheet lies
in the fact that the former captures the movements in funds, while the latter merely presents a
static picture of the sources and uses of funds.
• A funds flow statement would enable one to see how the business financed its fixed assets,
built up the inventory, discharged its liabilities, paid its dividends and taxes and so on.
Similarly, it would enable one to see how the business managed to meet the above capital
or revenue expenditure.
• The simplest funds flow statement for a period is the difference between the corresponding
balance sheet items at the beginning and the end of the period, such that all increases in
liabilities and decreases in assets are shown as sources of funds and all decreases in liabilities
and increases in assets are shown as applications of funds.
• FFS can also be prepared with the help of the two balance sheets (opening and closing) and
the profit and loss statement of the intervening period. Such a funds flow statement defines
funds as “total resources” and the sources of funds will always be equal to the uses of funds.
7

13. • A funds flow statement may be so prepared as to explain only the change in the working
capital (current assets and current liabilities) from the beginning of a period to the end of the
period.
• Sources of funds that increase cash are:
– A net decrease in any asset other than cash or fixed assets.
– A gross decrease in fixed assets.
– A net increase in any liability.
– Proceeds from the sale of equity or preference stock.
– Funds from operations.
• Uses of funds which decrease cash include:
– A net increase in any asset other than cash or fixed assets.
– A gross increase in fixed assets.
– A net decrease in any liability.
– A retirement or purchase of stock.
– Cash dividends.
• Gross changes in fixed assets is calculated by adding depreciation for the period to net fixed
assets at the ending financial statement date. From this figure, the net fixed assets at the
beginning of financial statement date is deducted.
• An increase in a current asset results in an increase in working capital.
• A decrease in a current asset results in a decrease in working capital.
• An increase in a current liability results in a decrease in working capital.
• A decrease in a current liability results in an increase in working capital.
Leverage
• Leverage is the influence which an independent financial variable has over a dependent/
related financial variable.
• Operating leverage examines the effect of the change in the quantity produced on the EBIT
of the company and is measured by calculating the Degree of Operating Leverage (DOL).
• A large DOL indicates that small fluctuations in the level of output will produce large
fluctuations in the level of operating income.
• DOL is a measure of the firm’s business risk. Business risk refers to the uncertainty or
variability of the firm’s EBIT. So, every thing else being equal, a higher DOL means higher
business risk and vice-versa.
• The financial leverage measures the effect of the change in EBIT on the EPS of the company.
Financial leverage refers to the mix of debt and equity in the capital structure of the
company. The measure of financial leverage is the Degree of Financial Leverage (DFL)
• If the management decides to finance a part of the total investment required of through debt
financing, the following two factors are important: The proportion of total investment which
the management decides to finance through debt (Debt Equity Ratio the firm aspires to) and
the interest rate on borrowed funds.
• The greater the tax rate, the more is the tax shield available to a company which is financially
leveraged.
• As the company becomes more financially leveraged, it becomes riskier, i.e., increased use of
debt financing will lead to increased financial risk which leads to: Increased fluctuations in
the return on equity and increase in the interest rate on debts.
• The greater the use of financial leverage, the greater the potential fluctuation in return
on equity.
8

14. • As the interest rate increases, the return on equity decreases. Even though the rate of return
diminishes, it might still exceed the rate of return obtained when no debt was used, in which
case financial leverage would still be favorable.
• A combination of the operating and financial leverages is the total or combined leverage.
Thus, the Degree of Total Leverage (DTL) is the measure of the output and EPS of the
company. DTL is the product of DOL and DFL
• There is a unique DTL for every level of output. At the overall break-even point of output the
DTL is undefined. If the level of output is less than the overall break-even point, then the
DTL will be negative. If the level of output is greater than the overall break-even point, then
the DTL will be positive. DTL decreases as the quantity of sales increases and reaches a
limit of one.
• DTL measures the changes in EPS to a percentage change in quantity of sales.
• DTL measures the total risk of the company since it is a measure of both operating risk and
total risk.
Financial Forecasting
• Financial forecasting is a planning process with which the company’s management positions
the firm’s future activities relative to the expected economic, technical, competitive and
social environment.
• There are three main techniques of financial projections. They are proforma financial
statements, cash budgets and operating budgets.
• Proforma statements are projected financial statements embodying a set of assumptions about
a company’s future performance and funding requirements.
• Cash budgets are detailed projections of the specific incidence of cash moving in and out of
the business.
• Operating budgets are detailed projections of departmental revenue and/or expense patterns,
and they are subsidiary to both proforma statements and cash flow statements.
• Sales Budget can be prepared by making a sales forecast, sales forecast can be made from
subjective and objective methods.
• Subjective methods use the judgments or opinions of knowledgeable individuals within
the company, ranging from sales representatives to executives.
• Objective methods are statistical methods which range in sophistication from relatively
simple trend extrapolations to the use of complicated mathematical models. More and more
companies are relying on computers to predict causal relationships.
9

15. Part I: Questions on Basic Concepts
Introduction to Financial Management
1. The financial goal of a public sector firm fully owned by the government is to
a Maximize the book value per share
b. Maximize the profits earned by the firm
c. Maximize the present value of stream of equity returns
d. Maximize the return on equity
e. Both (a) and (d) above.
2. Which of the following is not an objective of financial management?
a. Maximization of wealth of shareholders.
b. Maximization of profits.
c. Mobilization of funds at an acceptable cost.
d. Efficient allocation of funds.
e. Ensuring discipline in the organization.
3. Which of the following is not a function of a finance manager?
a. Mobilization of funds.
b. Deployment of funds.
c. Control over use of funds.
d. Manipulate share price of the company.
e. Maintain a balance between risk and return.
4. The market value of the firm is the result of
a. Dividend decisions
b. Working capital decisions
c. Capital budgeting decisions
d. Trade-off between cost and risk
e. Trade-off between risk and return.
5. Which of the following is related to the control function of the financial manager?
a. Interaction with the bankers for arranging a short-term loan.
b. Comparing the costs and benefits of different sources of finance.
c. Analysis of variance between the targeted costs and actual costs incurred.
d. Assessing the costs and benefits of a project under consideration.
e. Deciding the optimum quantity of raw materials to be ordered for procurement.
6. The minimum number of persons required to form a private limited company and a public
limited company respectively are
a. 2 and 5
b. 5 and 7
c. 2 and 7
d. 7 and 2
e. None of the above.
7. Which of the following is an advantage of a sole proprietorship?
a. Life of a firm is limited to the life of the owner.
b. Fund raising from outside is easy.
c. Limited personal liabilities.
d. Easy and inexpensive to set-up.
e. Expansion of Business is possible.

16. Part I
8. Which of the following is an advantage of partnership firms?
a. The life of the firm is perpetual.
b. Personal liabilities of the partners are limited.
c. Its ability to raise funds is virtually unlimited.
d. It is relatively free from Governmental regulations as compared to joint stock
companies.
e. None of the above.
9. The objective of financial management is to
a. Generate the maximum net profit
b. Generate the maximum retained earnings
c. Generate the maximum wealth for its shareholders
d. Generate maximum funds for the firm at the least cost
e. All of the above.
10. Which of the following statements represents the financing decision of a company?
a. Procuring new machineries for the R&D activities.
b. Spending heavily for the advertisement of the product of the company.
c. Adopting state of the art technology to reduce the cost of production.
d. Purchasing a new building at Delhi to open a regional office.
e. Designing an optimal capital structure by using suitable financial instruments.
11. The amount that can be realized by a company when it sells its business as an operating one
is termed as
a. Going concern value
b. Market value
c. Book value
d. Replacement value
e. Liquidation value.
12. Which of the following functions of the financial system facilitates conversion of investments
in stocks, bonds, debentures etc., into money?
a. Savings function.
b. Liquidity function.
c. Payment function.
d. Risk function.
e. Policy function.
13. The objective of financial management to increase the wealth of the shareholders means to
a. Increase the physical assets owned by the firm
b. Increase the market value of the shares of the firm
c. Increase the current assets of the firm
d. Increase the cash balance of the company
e. Increase the total number of outstanding shares of the company.
14. Which of the following is a function of the finance manager?
a. Mobilizing funds.
b. Risk return trade off.
c. Deployment of funds.
d. Control over the uses of funds.
e. All of the above.
11

17. Financial Management
Indian Financial System
15. A financial asset should necessarily have
a. A claim to a payment in the form of an instrument
b. An underlying asset, with a charge over it
c. Parting of money today with an expectation that it will be returned in future with some
addition to it
d. Both (a) and (c) above
e. All of (a), (b) and (c) above.
16. Which is/are the essential feature(s) of a Call Money Market?
a. Maturity periods of 1-15 days.
b. Market determined interest rates.
c. Low liquidity.
d. High agency costs.
e. Both (a) and (b) above.
17. The apex financial institution in India that promotes housing finance is
a. Housing & Urban Development Corporation (HUDCO)
b. Housing Development Finance Corporation Ltd. (HDFC)
c. Cooperative Housing Finance Society
d. National Housing Bank (NHB)
e. LIC Housing Finance Limited.
18. “Single Window Lending” refers to
a. An arrangement by which the lead bank in a consortium of banks releases the initial
requirements of the borrower
b. Loans given by commercial banks to the agricultural sector, which are subject to
efinance from NABARD
c. A specialized cell set up in scheduled banks exclusively for the purpose of industrial
loans
d. Priority sector lending by nationalized banks
e. Loans given by NBFCs to some sectors to which nationalized banks are not allowed to
give.
19. The difference(s) between Commercial Paper (CP) and Certificate of Deposit (CD) is/are
a. CP is secured while CD is unsecured
b. CPs can be issued by private sector companies while CDs can be issued by scheduled
banks
c. CP is sold at a discount and redeemed at face value whereas for CD the principal and
interest are payable upon maturity
d. Both (b) and (c) above
e. All of (a), (b) and (c) above.
20. The money lent in money market for a period of 2 to 15 days is referred to as
a. Call money
b. Demand loan
c. Term loan
d. Notice money
e. None of the above.
12

18. Part I
21. Which of the following are feature(s) of Gilt-edged securities?
a. Only repayment of principal is secured.
b. They are issued by non-governmental service organizations.
c. They are issued by government entities.
d. The repayments of both principal and interest are secured.
e. Both (c) and (d) above.
22. Which of the following provides liquidity to money market instruments by creating a
secondary market where they can be traded?
a. Discount and Finance House of India.
b. National Securities Depository Limited.
c. State Bank of India.
d. Reserve Bank of India.
e. Over the Counter Exchange of India.
23. Which of the following is an example of non-fund based activity of an NBFC?
a. Bill discounting.
b. Leasing.
c. Issue management.
d. Hire purchase.
e. Inter-corporate loans.
24. The minimum maturity period for a Certificate of Deposit is
a. Fifteen days
b. One month
c. Three months
d. Six months
e. No specific time limit is prescribed.
25. Statutory Liquidity Ratio (SLR) refers to the
a. Percentage of secret reserves which acts as a cushion for nationalized banks
b. Percentage of reserves banks are required to park with instruments approved by RBI
c. Ratio between current account and fixed account deposits of banks
d. Percentage of reserves banks are required to utilize only for forex transactions
e. Percentage of reserves meant for priority sector lending.
26. Public debt in the Indian economy is being managed by
a. SBI on behalf of Government of India
b. Ministry of Finance
c. RBI
d. All nationalized banks and term lending institutions
e. Ministry of Commerce and Trade.
27. In which of the following instances bought-out deal is more appropriate?
a. Companies do not wish to disclose information by way of public issue.
b. Promoters do not want to dilute their stake by going public.
c. Small projects require funds but costs of public issue are substantially high.
d. Foreign Institutional Investors offload their shares when market is down.
e. Board for Industrial and Financial Reconstruction (BIFR) offers a sick unit to existing
blue chips in that industry.
13

19. Financial Management
28. Which of the following is/are not a feature(s) of National Stock Exchange?
a. NSE was promoted by FIs at the bentest of GOI.
b. The trading is on-line in national network.
c. The volume of trading in it is less than that of BSE.
d. It has a debt market segment.
e. The weights to the stocks on NIFTY are based on total share holding.
29. Which of the following is/are not true in respect of PSU bonds?
a. There is no secondary market.
b. Market lot for trading purposes is minimum of Rs.10 crore.
c. They come under “approved investments” by RBI.
d. Both (a) and (b) above.
e. All of (a), (b) and (c) above.
30. Unit banking refers to the system
a. With a single bank having units at different places
b. With the overall operations of a bank conducted from a single office
c. Which deals with the units of UTI
d. Which deals with the units in small-scale sector
e. Either (a) or (b) above.
31. Which of the following is not a function performed by a financial system?
a. Savings function.
b. Liquidity function.
c. Risk function.
d. Social function.
e. Policy function.
32. The maturity period of a Certificate of Deposit (CD) issued by a bank is
a. Not less than 1 month and not more than 6 months
b. Not less than 2 months and not more than 9 months
c. Not less than 15 days and not more than 12 months
d. Not less than 4 months and not more than 12 months
e. Not less than 1 month and not more than 12 months
33. If in an order to buy/sell shares from a stock exchange is limited by a fixed price it is called
a. Limit order
b. Limited discretionary order
c. Stop loss order
d. Best rate order
e. None of the above.
34. ‘Gilt edged’ securities are the bonds issued by
a. Big corporates
b. Multinational corporates
c. Global corporations
d. Central government
e. Financial institutions.
14

20. Part I
35. Medium dated government securities have maturities ranging from
a. 1 to 3 years
b. 1 to 5 years
c. 3 to 5 years
d. 3 to 10 years
e. 5 to 10 years.
36. Which of the following maturity of T-Bills does not have a provision?
a. 30-day.
b. 91-day.
c. 182-day.
d. 364-day.
e. None of the above.
37. In secondary spot capital market, the delivery and payment is completed
a. On the same day of the date of contract
b. On the next day of the date of contract
c. Within four days from the date of contract
d. Within 2 days from the date of contract
e. Beyond fourteen days from the date of contract.
38. The primary capital market
a. Imparts liquidity and marketability to long-term financial instruments
b. Helps companies to raise funds to finance their projects
c. Provides an auction market for long-term securities
d. Operates through the medium of stock exchanges
e. Both (a) and (c) above.
39. In a private company maximum number of members permissible is
a. 5
b. 10
c. 25
d. 50
e. 100.
40. Banks borrow in call money market to
a. Give loans
b. Invest in high yielding securities
c. Meet the Cash Reserve Ratio (CRR)
d. Meet sudden demand for funds arising due to large payments and remittances
e. Both (c) and (d) above.
41. Which of the following is not a feature of Commercial Paper (CP)?
a. Purely secured instrument.
b. Maturity varies between 15 days and a year.
c. Buy-back facilities are available.
d. Negotiable by endorsement and delivery.
e. None of the above.
15

21. Financial Management
42. Which of the following is not a money market instrument?
a. Treasury bills.
b. Certificate of deposits.
c. Debentures.
d. Call money.
e. None of the above.
43. Private placement of shares can be made out of
a. Mutual funds quota
b. Promoters quota
c. Public quota
d. Financial institutions quota
e. All of the above.
44. An order to sell shares, where brokers are given a particular limit for sustenance of loss is
known as
a. Limited discretionary order
b. Limit order
c. Cancel order
d. Stop loss order
e. Best rate order.
45. Which of the following is not true with regard to commercial paper?
a. It is issued in multiples of Rs.5 lakhs.
b. The minimum amount to be invested by a single investor is Rs.20 lakhs.
c. The maturity period cannot exceed 1 year.
d. These are unsecured promissory notes.
e. The issuing company must have a high credit rating.
46. Which of the following enables a company to increase its paid-up share capital without
receiving any payment from the recipients of the shares?
a. Public issue.
b. Bonus issue.
c. Private placement.
d. Bought-out deal.
e. Rights issue.
47. In which of the following types of orders the members of stock exchange are not given any
price or time limit by the client for execution of order?
a. Limit order.
b. Best rate order.
c. Immediate or cancel order.
d. Limited discretionary order.
e. Open order.
48. Which of the following statements is false?
a. All scheduled banks except co-operative banks and regional rural banks are eligible to
issue CDs.
b. CDs can be issued to individuals.
c. CDs are issued at a discount to face value.
d. The maturity period of CDs issued by banks varies from 15 days to one year.
e. CDs are issued in multiples of one lakh subject to the minimum size of each issue of
Rs.50 lakh.
16

22. Part I
49. Which of the following methods of issuing additional shares does not result in an increase in
the net worth of the company?
a. Public issue.
b. Rights issue.
c. Bonus issue.
d. Private placement.
e. Bought-Out Deal.
50. The major categories of investors in primary market of government securities include
a. Reserve Bank of India
b. Financial institutions
c. Foreign financial institutions
d. Commercial banks
e. All of the above.
51. Which of the following is an asset of a bank?
a. Balances with other banks.
b. Savings deposits.
c. Demand and time deposits from other banks.
d. Refinance from NABARD.
e. None of the above.
52. The National Housing Bank extends refinance on housing loans to
a. Scheduled commercial banks
b. Co-operative banks
c. Housing finance companies
d. Apex cooperative housing finance societies
e. All of the above.
53. According to the guidelines of Money Market Mutual Funds, the minimum lock in period of
an investor’s investment is
a. Nil
b. 15 days
c. 30 days
d. 45 days
e. 60 days.
54. One of the important functions of a well developed money market is to channel savings into
productive investments like working capital. Which of the following is not a money market
instrument?
a. Corporate debentures.
b. Call money.
c. Treasury bills.
d. Commercial paper.
e. Certificate of deposits.
55. Which of the following is not a feature of a commercial paper?
a. They are transferable by endorsement and delivery.
b. They are issued in multiples of one lakh.
c. Their maturity varies from 15 days to one year.
d. They are unsecured in nature.
e. They normally have buy-back facility.
17

23. Financial Management
56. Which of the following is not an advantage of a bought out deal?
a. The promoters are assured of immediate funds.
b. The time consuming and costly public issue can be avoided.
c. It is easier to convince the wholesale investor rather than the general public.
d. The shares issued via bought out deal can be bought back by the company at any time.
e. It is the cheapest and quickest source of finance for small to medium sized companies.
57. If a company wants to raise funds through commercial paper market, the minimum fund
based working capital limit should be
a. Rs.1 crore
b. Rs.2 crore
c. Rs.3 crore
d. Rs.4 crore
e. Rs.5 crore.
58. In a Bought-Out Deal
a. Companies issue shares to the public
b. Companies issue shares to the existing shareholders
c. Mutual funds buy out a part of promoter’s share
d. A part of the equity of an unlisted company is bought by a sponsor/merchant banker
e. Financial institutions buy out a significant portion of share capital of a listed company.
59. Which of the following is not a financial asset?
a. Secured premium notes.
b. National defence gold bond.
c. Capital investment bond.
d. Bullion.
e. Special bearer bond.
60. Bills rediscounting facility is offered by
a. All public sector banks
b. Some co-operative banks
c. IDBI
d. All SFCs
e. Both (c) and (d) above.
61. Which of the following statements is/are true?
i. A cash credit is a running account.
ii. Cash credits may become long-term loans due to repeated roll-overs.
iii. Overdrafts are allowed only against the security of inventories.
a. Only (i) above.
b. Only (ii) above.
c. Only (iii) above.
d. Both (i) and (ii) above.
e. All of (i), (ii) and (iii) above.
62. Which of the following is not a money market instrument?
a. Treasury bill.
b. Commercial paper.
c. Convertible debenture.
d. Certificate of deposit.
e. Both (b) and (c) above.
18

24. Part I
63. Which of the following statements is true regarding issuance of Commercial Paper (CP)?
a. Corporates need prior approval of RBI for CP issue.
b. Underwriting of a CP issue is not mandatory.
c. Minimum size of a CP issue is Rs.10 lakhs.
d. CPs have to be backed by a bank guarantee.
e. CPs are issued in multiples of Rs.1 lakh.
64. Which of the following statements is/are true regarding the call money market?
a. Surplus funds of banks constitute a major component.
b. Major corporates participate as lenders.
c. Banks often borrow from it for maintenance of SLR and CRR.
d. Both (a) and (b) above.
e. All of (a), (b) and (c) above.
65. Which of the following statements is/are true regarding 91-day Treasury Bills?
a. They are also referred to as PSU bonds.
b. They are issued through auctions conducted by RBI.
c. They are risky instruments as their interest rates fluctuate widely.
d. They cannot be rediscounted with RBI.
e. None of the above.
66. CRISIL
a. Rates, Debentures and fixed deposits.
b. Was set up by the Industrial Development Bank of India.
c. Gives the highest rating of “P1” to short-term instruments.
d. Does not consider non-financial factors while valuing a company’s securities.
e. None of the above.
67. Which of the following is not a money market instrument?
a. Call Loans.
b. Commercial Papers.
c. Certificates of Deposit.
d. Treasury Bills.
e. None of the above.
68. Which of the following is a form of direct assistance by All India Financial Institutions?
a. Underwriting.
b. Subscribing to a company’s shares.
c. Bills Rediscounting.
d. All of the above.
e. Both (a) and (b) above.
69. Which of the following statements is not true?
a. The Industrial Credit and Investment Corporation of India has merged with ICICI bank.
b. The Industrial Development Bank of India is the apex term lending financial institution.
c. The Industrial Finance Corporation of India is an All India term lending financial
institution.
d. The Industrial Reconstruction Bank of India is the central agency for rehabilitation of
Industrial units declared sick by BIFR only.
e. None of the above.
19

25. Financial Management
70. Which one of the following was not an objective of Nationalization and greater
governmental control over major banks?
a. Achieving wider spread of bank credit.
b. Preventing misuse of resources of banks.
c. Reducing the influence of business houses on banks.
d. Bringing larger income to the government.
e. None of the above.
71. Private Banks
a. Should not be registered as public limited companies
b. Need not adhere to capital adequacy norms determined by RBI
c. Are covered by the Banking Regulation Act, 1949
d. Should not be listed on any stock exchanges
e. Both (a) and (d) above.
72. Which of the following are the reasons for low profitability of the Commercial Banks?
a. High incidence of bad debt.
b. Inefficient procedures.
c. Overstaffing.
d. Priority sector lending.
e. All of the above.
73. Gilt-edged securities
a. Have fairly active secondary market
b. Have low interest rates
c. Are subscribed mainly by commercial banks, provident funds and other institutional
investors
d. Are held by banks to satisfy their SLR requirements
e. All of the above.
74. Which of the following is not true?
a. There has been a general down trend in the nominal interest rates in the past few years.
b. Term finance rates have been higher than the working capital finance rates.
c. Interest rates in the organized sector in India are fixed by the government.
d. Interest rate policy of the government is designed to mobilize substantial savings.
e. Interest rate policy of the government is designed to facilitate government borrowing
cheaply.
75. Certificates of Deposits (CDs)
a. Are freely transferable by endorsement and delivery
b. Are issued at a discount stipulated by RBI
c. Are issued by RRBs
d. Have no fixed maturity
e. Have an active secondary market.
76. Which of the following statements is true?
a. IDBI’s deep discount bonds are zero coupon bonds.
b. When a company wants to raise a given amount of capital through a rights issue, the
subscription price should ideally be higher than the current market price.
c. Regional stock exchanges are unrecognized.
d. The rupee is convertible on the capital account.
e. The alpha (α) of a security measures the return on the market portfolio.
20

26. Part I
77. The changes in the banking structure through nationalization has resulted in
a. Deeper penetration into rural areas
b. Increase in deposits
c. Channelization of bank credit
d. Lower operational autonomy for banks
e. All of the above.
78. The following indirect financial assistance is extended by the financial institutions to help the
industrial units
a. Underwriting
b. Guarantee for foreign currency loans
c. Deferred payment guarantee
d. All of the above
e. None of the above.
79. Money market deals with
a. Mortgage loans
b. Certificate of deposits
c. Deposits with RBI under CRR
d. Fixed Deposit Receipts
e. Both (a) and (b) above.
80. In a well-functioning capital market, shareholders will vote for the goal of
a. Modifying the investment plan of the firm to help shareholders achieve a particular time
pattern of investment
b. Making shareholders as wealthy as possible by investing in real assets with positive net
present values
c. Inviting shareholders and giving them costly articles in annual general meetings
d. Having employees as shareholders
e. Choosing high or low risk projects to match shareholders risk preferences.
81. Capital markets differ from money market in that
a. Capital markets are regulated while money markets are not
b. The maturity of securities in the capital are long-term while in the money market it is
short-term
c. Limited companies which operate in capital markets cannot operate in money markets
d. Unorganized money markets are larger than unorganized capital market
e. Both (a) and (d) above.
82. Which of the following members would you not find in the secondary stock market?
a. Investors.
b. Stock Exchanges.
c. Stock Brokers.
d. Companies.
e. Underwriters.
83. In terms of the maturity of assets issued, which of the following markets have the shortest
maturity period?
a. Call Money Market.
b. Commercial Paper Market.
c. Treasury Bills Market.
d. Certificates of Deposit Market.
e. All of the above.
21

27. Financial Management
84. Which of the following is true regarding the issuance of commercial paper?
a. The minimum net worth of Rs.10 crore is required.
b. The maximum discount rate is 16%.
c. The minimum credit rating required is P1.
d. Prior approval of RBI for the issue is required.
e. Minimum investment by an individual is Rs.5 lakh.
85. The minimum maturity of treasury bills is
a. 14 days
b. 28 days
c. 45 days
d. 60 days
e. 90 days.
86. Which of the following statements is/are true regarding call money market?
i. Financial institutions and mutual funds can participate only as lenders in this market.
ii. The interest on call loan is regulated by Reserve Bank of India.
iii. The maximum maturity of notice money is 3 days.
a. Only (i) above
b. Only (ii) above
c. Both (i) and (ii) above
d. Both (i) and (iii) above
e. Both (ii) and (iii) above.
87. Which of the following is true regarding a Bought-Out Deal?
a. It involves direct selling of securities to a limited number of institutional or high net
worth individuals.
b. The costs involved in a bought-out deal are generally higher than the costs of a public
issue.
c. The company proposing to place its securities through this route can price its securities
to reflect the intrinsic value.
d. The procedural complexities are very high.
e. New companies cannot make bought-out deals.
88. The maximum number of persons in a private limited company is
a. 1
b. 2
c. 3
d. 7
e. 50.
89. The service of which of the following entities is generally not useful to the retail investors for
raising funds?
a. Merchant Banks.
b. Commercial banks.
c. Hire purchase finance companies.
d. Housing finance companies.
e. Nidhis.
22

28. Part I
90. Which of the following is not traded in the money market?
a. Commercial papers.
b. Certificate of deposits.
c. Treasury bills.
d. 6 months term deposits.
e. None of the above.
91. Which of the following is a function of the primary capital market?
a. To allow the Foreign Institutional Investors (FIIs) to invest in the Indian capital markets.
b. To allow the companies to raise funds to meet their short term funds requirements
through new securities.
c. To provide a market for trading with the outstanding long term securities.
d. To provide a market for trading with the existing short term securities.
e. None of the above.
92. In which of the following types of issue, new securities are offered to the existing
shareholders of the company on a pro rata basis?
a. Public issue
b. Rights issue
c. Bonus issue
d. Private placement
e. Both (b) and (c) above.
93. Which of the following is a disadvantage of Bought-Out Deals?
a. It is difficult to convince a wholesale investor.
b. The promoters of the company do not get the funds immediately.
c. It is a very time consuming procedure.
d. The issue expenses are more than that of a public issue.
e. Sponsor may exploit the situation.
94. Which of the following companies generally provide risk capital to the technology oriented
and high-risk business entities?
a. Lease finance companies.
b. Venture capital funding companies .
c. Commercial banks.
d. Hire purchase finance companies.
e. Insurance companies.
95. Which of the following is/are the characteristics of the money market instruments?
a. Long term maturity.
b. High liquidity.
c. Highly secured.
d. Issued by the Governments only.
e. Both (b) and (d) above.
96. Which of the following situations leads to the greatest increase in volatility in the call money
market?
a. Reduction in cash reserve ratio
b. Prepayment of term loans by a large number of borrowers
c. Entry of the financial institutions (FIs) into the market
d. Payment of large amount of advance taxes by the banks and FIs
e. Decrease in the demand for loanable funds in the economy.
23

29. Financial Management
97. Which of the following is/are correct with respect to the act(s) of the arbitrageurs in the
derivatives market?
a. To protect one’s position in the spot by taking suitable instrument(s) in the derivatives
market.
b. To protect one’s anticipated position in the spot by taking suitable instrument(s) in the
derivatives market.
c. To make profit from the subsequent price movements of any particular instrument in the
derivatives market.
d. To make risk free profits by simultaneously buying and selling different instruments in
different markets.
e. Both (a) and (b) above.
98. Which of the following results in a public limited company to have a significant advantage
over a proprietorship firm?
a. Limited liability.
b. Difficulty of transfer of ownership interest.
c. Limited life.
d. Inability to mobilize a lot of funds.
e. None of the above.
99. Which of the following is not a marketable instrument?
a. Commercial Paper.
b. Certificate of Deposit.
c. Inter Corporate Deposit.
d. Preference Shares.
e. Treasury Bills.
100. Which of the following functions is/are served by the primary capital market of an economy?
a. It allows the corporate houses to raise the long term capital by issuing new securities.
b. It offers a market to trade for the outstanding long term securities.
c. It offers a market to trade for the outstanding short term securities.
d. It offers an excellent exit route for the venture capital funding companies.
e. Both (a) and (d) above.
101. Which of the following functions of the financial system channelises the savings from the
savers to the producers in the economy?
a. Financial Intermediation function.
b. Liquidity function.
c. Payment function.
d. Risk function.
e. Policy function.
102. In which of the following markets, are the outstanding long-term financial instruments
traded?
a. Money market.
b. Forex market.
c. Primary capital market.
d. Secondary capital market.
e. Call money market.
24

30. Part I
103. Corporate investment and financing decisions are limited by a governmental regulatory
framework which seeks to
a. define avenues of investment available to business enterprises in different categories,
ownership and size-wise
b. Induce investment along certain lines by providing incentives, concessions and reliefs
c. Specify the procedures for raising funds from financial markets
d. Both (a) and (c) above
e. All of (a), (b) and (c) above
104. Which of the following entities issues the “Gilt edged” securities?
a. Multinational companies.
b. Reputed domestic companies.
c. Private sector enterprises.
d. Small scale companies.
e. Central and state governments.
105. Long dated government securities have maturities ranging from
a. Up to 1 year
b. 1 to 5 years
c. 5 to 8 years
d. 8 to 10 years
e. 10 to 30 years.
106. What is the maximum limit on the number of members in a private limited company?
a. 5.
b. 8.
c. 15.
d. 50.
e. Unlimited.
107. Which of the following regulations no more relevant in today’s business environment?
a. Foreign Exchange Regulation Act, 1973.
b. Monopolies and Restrictive Trade Practices Act, 1969.
c. Companies Act, 1956.
d. Income Tax Act, 1961.
e. SEBI Act, 1992.
Time Value of Money
108. Which of the following statement(s) is/are true for given values of ‘i’ and ‘n’?
a. Present Value Interest Factor is the reciprocal of Future Value Interest Factor.
b. Future Value Interest Factor Annuity is the reciprocal of Present Value Interest Factor
Annuity.
c. Capital recovery factor is a product of Future Value Interest Factor and reciprocal of
Future Value Annuity Factor.
d. Both (a) and (c) above.
e. Both (b) and (c) above.
109. The product of PVIF, FVIF, FVIFA and Capital Recovery Factor is
a. FVIF
b. PVIFA
c. PVIF
d. FVIFA
e. None of the above.
25

31. Financial Management
110. The nominal rate of interest is equal to
a. Real Rate + Risk Premium – Inflation
b. Real Rate + Risk Premium + Inflation
c. Real Rate – Risk Premium + Inflation
d. Real Rate – Risk Premium – Inflation
e. Real Rate.
111. The accurate doubling period n given a rate of return R can be calculated by
a. (1 + R)n = 2
b. 72/R
c. 0.35 + 69/R
d. All of the above
e. None of the above
112. The inverse of sinking fund factor is given by
1 − (1+ k) n
a.
k
1
b. − (1+ k) n
k
(1+ k) n 1
c. −
k k
k
d.
(1+ k) n − 1
(1+ k) n − 1
e. .
k
113. If P = principal amount, i = interest rate per annum, m = frequency of compounding per year,
n = number of years and A = accumulation at the end of the year n, then which of the
following expressions is correct?
mn
a. A = P(1 + i/n)
mn
b. P = A(1 + i/m)
m n
c. A = [P(1 + i/m) ]
mn
d. A = P(1 + i/m)
e. None of the above.
114. If ‘k’ is the rate of interest and ‘n’ the number of years, then the capital recovery factor is
given as
k(1+ k) n
a.
(1+ k) n − 1
(1+ k) n (k)
b.
(1+ k) n +1
(1+ k) n − 1
c.
k(1+ k) n
(1+ k) n (1+ k)
d.
(1+ k) n (k)
(1+ k) k (n)
e. .
(1+ k) n − 1
26

32. Part I
115. Which of the following statements is not true?
a. The more frequent the compounding, the higher the future value, other things being equal.
b. For a given amount, the greater the discount rate, the less is the present value.
c. Capital recovery is the inverse of FVIFA.
(1+ k) n − 1
d. PVIFA =
k(1+ k) n
e. All of the above.
116. An interest rate that has been annualized using compound interest is termed as
a. Simple interest rate
b. Annual interest rate
c. Discounted interest rate
d. Effective annual interest rate
e. Compounded interest rate.
117. When an investment pays only simple interest rate, this means
a. The interest rate is lower than on comparable investments
b. The future value of investment will be low
c. The interest earned is non-taxable to the investor
d. Interest is earned only on the original investment
e. Interest is earned on previously earned interest.
118. Cash flows occurring in different periods should not be compared unless
a. Interest rates are expected to be stable
b. The flows occur no more than one year from each other
c. High rates of interest can be earned on the flows
d. The flows have been discounted to a common date
e. Interest rates are expected to increase over a period of time.
119. Sinking fund factor is the reciprocal of
a. Future value interest factor
b. Present value interest factor
c. Future value interest factor of annuity
d. Present value interest factor of annuity
e. Capital recovery factor.
120. The present value interest factor of annuity is equal to
(1 + k) n − 1
a.
k(1+ k) n
FVIFA (k, n)
b.
FVIF (k, n)
c. FVIFA(k,n) x PVIF(k,n)
d. Reciprocal of sinking fund factor for k% and n years x PVIF (k,n)
e. All of the above.
121. Which of the following statements is true?
a. Increased frequency of compounding reduces the effective rate of interest.
b. According to Rule of 72, the period within which the amount will be doubled can be
obtained by dividing 72 by the interest rate and adding 0.35 to the value arrived at.
c. Effective interest rate is always more than or equal to the nominal interest rate.
d. An annuity is a lump sum payment.
e. A project is financially viable if the present value of the future cash inflows is positive.
27

33. Financial Management
122. Money has time value because
a. The individuals prefer future consumption to present consumption
b. A rupee today is worth more than a rupee tomorrow in terms of its purchasing power.
c. A rupee today can be productively deployed to generate real returns tomorrow
d. The nominal returns on investments are always more than inflation thereby ensuring
real returns to the investors
e. Both (b) and (c) above.
123. Which of the following equations is correct?
a. PV = FVn x FVIF(k, n)
n
b. PV = FVn ÷ (1 + k)
c. PV = FVn × PVIF(k, n)
n
d. FVn = PV × (1 + k)
e. FVA = {(1 + k)n – 1} ÷ k.
n
124. Which of the following statements is not true?
a. The Present Value Interest Factor for an Annuity (PVIFA) is equal to the product of the
future value interest factor for annuity and the present value interest factor.
b. The inverse of PVIFA factor is called the capital recovery factor.
c. The nominal rate of interest is equal to the effective rate of interest when the interest is
compounded annually.
d. The present value of cash flow stream of any periodicity can be calculated using FVIFA
tables.
e. The sinking fund factor is used to determine the amount that must be deposited
periodically to accumulate a specified sum at the end of a given time period.
125. Which of the following is not true?
a. The inverse of PVIFA factor is called the capital recovery factor.
b. The nominal rate of interest is equal to the effective rate of interest when the interest is
compounded annually.
c. The present value of interest factor for annuity is equal to the product of the inverse of
future value interest factor for annuity and the present value interest factor.
d. The present value of any cash flow stream can be calculated using PVIFA tables.
e. The sinking fund factor is used to determine the amount that must be deposited
periodically to accumulate a specified sum at the end of a given period at a given rate of
interest.
126. With an increase in the frequency of compounding
a. The nominal rate of interest becomes greater than the effective rate
b. The effective rate of interest increases at an increasing rate
c. The nominal rate of interest becomes equal to the effective rate of interest
d. The effective rate of interest increases at a decreasing rate
e. Both (a) and (d) above.
127. Sinking fund explains
a. The maturity value in year ‘t’ for an amount deposited in year ‘1’
b. The amount to be deposited annually to accumulate a predetermined sum in year ‘t’
c. The discounted value in year zero for an uneven series occurring in several years in future
d. The amount to be deposited in year zero for a periodical withdrawal in future for a
specified period
e. The effective rate of interest.
28

34. Part I
128. Which of the following statements is/are true?
i. The inverse of the PVIFA factor is sinking fund factor.
ii. The product of PVIF and FVIFA factors is PVIFA factor.
iii. The present value of a perpetuity is infinity.
a. All (i), (ii) and (iii) of the above.
b. Both (i) and (ii) of the above.
c. Only (i) of the above.
d. Only (ii) of the above.
e. Only (iii) of the above.
129. The nominal rate of interest
a. Is lesser than the effective rate of interest under inflationary conditions
b. Is equal to the effective rate of interest minus inflation
c. Does not consider risk premium
d. Is the real rate of interest plus inflation plus risk premium
e. Is also referred to as the prime lending rate.
130. When compounding of interests is done at intervals which are less than a year
a. The effective rate of interest will be the same as the nominal rate of interest
b. The effective rate of interest will be lesser than the nominal rate
c. The nominal rate of interest will be lesser than the effective rate
d. There is no difference between the effective and nominal rates in the first year
e. It cannot be ascertained as to which rate is more unless the frequency of compounding
is known.
131. If any investment (P) has to be doubled at an interest rate of k, then the doubling period ‘n’ is
exactly equal to
a. 72/k
b. 0.35 + 69/k
c. Log2/log (1 + k)
d. 2
e. Both (a) and (b) above.
132. Which of the following is/are true?
a. Inverse of FVIF is PVIF.
b. Inverse of FVIFA is PVIFA.
c. Inverse of capital recovery factor is FVIFA.
d. PVIFA is the product of inverse of FVIFA and PVIF
e. Both (a) and (d) above.
133. The relationship between effective rate of interest (r) and nominal rate of interest (i) is best
represented by
m
⎛ r ⎞
a. i = ⎜1+ ⎟ − 1
⎝ m⎠
m
⎛ i ⎞
b. r = ⎜1+ ⎟ − 1
⎝ m⎠
n
⎛ r⎞
c. i = ⎜ 1+ ⎟ − 1
⎝ n⎠
d. r = (1+m)i – 1
e. i = (1+r)m – 1.
29

35. Financial Management
134. If compounding is done twice in a year, the effective rate of interest is equal to
a. 2 × nominal rate of interest
b. Nominal rate of interest/2
c. (1 + nominal rate of interest/2)2 –1
2
d. ((1 + nominal rate of interest)/2)
e. (1 + nominal rate of interest/2) × 2.
135. Which of the following is/are true?
a. FVIF is the reciprocal of PVIF.
b. Product of FVIF and PVIFA is equal to FVIFA.
c. FVIFA is the reciprocal of PVIFA.
d. Both (a) and (b) above.
e. Both (a) and (c) above.
136. Time value of money considers
a. The preference of the individuals for future consumption to present consumption
b. Increase in purchasing power of rupee with the passage of time
c. The uncertainty of the future
d. The productivity of money to earn real returns over time
e. Both (c) and (d) above.
137. Which of the following statements is/are true with respect to Present Value Interest Factor of
Annuity (PVIFA)?
i. The cash flow is assumed to occur at the end of the period under consideration
ii. The cash flow is assumed to occur at the start of the period under consideration
iii. It is reciprocal to capital recovery factor.
a. Only (i) above.
b. Only (ii) above.
c. Only (iii) above.
d. Both (ii) and (iii) above.
e. Both (i) and (iii) above.
138. Which of the following may be considered as the correct reason for money having time
value?
a. It is the legal tender for carrying out any type of transaction.
b. In India, it is guaranteed by the union government.
c. Its purchasing power increases with the passage of time due to inflation.
d. Money can be productively invested to generate real returns over a period of time.
e. None of the above.
Risk and Return
139. A risk-free stock has a beta of
a. –1
b. Zero
c. 0.5
d. 1
e. Infinity.
30

36. Part I
140. Which of the following is not an assumption under CAPM?
a. Investors make their investment decisions on a single period horizon.
b. If the perceived risk is high, a risk-averse investor expects higher return.
c. The investor is not limited by his wealth and price of the asset.
d. Assets can be bought at the going market price.
e. CAPM is based on all the above assumptions.
141. If the slope of the Security Market Line is zero, which of the following is/are true?
a. Risk-free return = Market return.
b. Market return = Expected return.
c. Expected return = Risk-free return.
d. Both (a) and (c) above.
e. All of (a), (b) and (c) above.
142. Which of the following is not a non-diversifiable risk?
a. Lock-out in a company due to workers demanding a wage hike.
b. Slump in the industry.
c. Lack of strategy for the management in a company.
d. A change in the tax-structure for corporates in the Union Budget.
e. Both (a) and (c) above.
143. The amount of risk reduction depends on
a. Degree of correlation
b. Number of stocks in the portfolio
c. The market index movement
d. Both (a) and (b) above
e. All of (a), (b) and (c) above.
144. Which of the following is diversifiable risk?
a. Inflation risk.
b. Interest-rate risk.
c. Market risk.
d. Business risk .
e. Both (b) and (d) above.
145. If a person holds a diversified portfolio the risk a security adds would be
a. Specific risk
b. Systematic risk
c. Portfolio risk
d. Liquidity risk
e. Diversifiable risk.
146. Portfolio Beta
a. Is the risk of a diversified portfolio
b. Is the weighted average of individual security betas, weights being the proportions of
individual returns
c. Is the weighted average of individual security beta, weights being the proportions of the
investments in the respective securities
d. Both (a) and (b) above
e. Both (a) and (c) above.
31

37. Financial Management
147. Which is true regarding kj=rf + β (km – rf)?
a. rf can be the rate of return earned on gilt-edged securities.
b. β will be > 1 if the security is volatile.
c. Lower β would give a low risk premium.
d. There is a possibility that a zero beta exists.
e. All of the above.
148. The slope of the security market line denotes
a. The expected return by the investors
b. The market volatility
c. Beta of the security
d. The influence of unsystematic risk
e. The risk premium required.
149. If the security’s return plots below the SML, then, it can be said that
a. It is overpriced
b. The required rate of return is much lower than the actual rate of return
c. The investors would try to buy more of the security
d. It is a defensive security
e. Both (a) and (b) above.
150. A security is said to be aggressive when it
a. Has a beta of > 1
b. Plots on the upper part of SML
c. Gives below average returns
d. Both (a) and (b) above
e. Both (b) and (c) above.
151. Which of the following is not a non-diversifiable risk?
a. Interest rate risk.
b. Purchasing power risk.
c. Operating risk.
d. Market risk.
e. Political risk.
152. Risk-return trade-off implies
a. Increasing the profit of the firm through increased production
b. Not taking any loans which increases the risk of the firm
c. Not granting credit to risky customers
d. Taking decisions in such a way which optimizes the balance between risk and return
e. Minimizing all risks.
153. Which of the following is a specific risk factor?
a. Market risk.
b. Inflation risk.
c. Interest rate risk.
d. Financial risk.
e. None of the above.
32

38. Part I
154. Security Risk premium in the Capital Asset Pricing Model (CAPM) is given by
a. Rf
b. km – Rf
c. β (km – Rf)
d. βKm
e. β( Rf – km ).
155. The risk arising due to uncertainty about the time element and the price concession in selling
a security is called
a. Price risk
b. Market risk
c. Trading risk
d. Liquidity risk
e. Financial risk.
156. Standard deviation as a measure of risk is preferred because
a. Standard deviation considers every possible event and assigns each event equal weight
b. Standard deviation is a measure of dispersion around the median value
c. Standard deviation is a familiar concept and many calculators and computers are
programmed to calculate it
d. Standard deviation considers every possible event and assigns each event a weight equal
to its probability
e. Both (c) and (d) above.
157. Which of the following is not a diversifiable or specific risk factor?
a. Company strike.
b. Bankruptcy of a major supplier.
c. Death of a key company officer.
d. Unexpected entry of new competitor into the market.
e. Industrial recession.
158. Which of the following statements is true of beta?
a. Beta of a security is the slope of the Security Market Line (SML).
b. Beta of a security is a measure of the diversifiable risk of a security.
c. High beta of a security assures high return.
d. Beta of a security can never be negative.
e. Beta of a security is a measure of systematic risk of a security.
159. Which of the following is not an assumption of Capital Asset pricing Model (CAPM)?
a. Investors are risk-averse and use the expected rate of return and standard deviation of
return as appropriate measures of return and risk respectively.
b. Investors make their investment decisions based on a single period horizon i.e. the next
immediate time period.
c. Transaction costs in financial markets are low enough to ignore and assets can be
bought and sold in any unit desired.
d. Taxes do not affect the choice of buying assets.
e. Investors make their investment decisions based on multi-period horizon.
33

39. Financial Management
160. Ceteris Paribus, a security is to be bought if.
a. The required rate of return is less than expected rate of return
b. The required rate of return is greater than the expected rate of return
c. Security has a beta greater than one
d. The security has beta of less than one
e. The security has a large amount of floating stocks in the market.
161. Which of the following statements is true?
a. If one portfolio’s variance exceeds that of another portfolio, its standard deviation will
also be greater than that of the other portfolio.
b. For investment horizons greater than 20 years, long-term corporate bonds will
outperform common stocks.
c. Due to their short maturity, the average real rate of return for treasury bills
approximately equals their average nominal rate of return.
d. When inflation is expected to be low, the nominal risk premium on common stocks is
expected to be low.
e. Market risk can be eliminated in a stock portfolio through diversification.
162. Real rates of return are typically less than nominal rates of return due to
a. Inflation
b. Capital gains
c. Dividend payments
d. Deflation
e. Recession.
163. Real rates of return will be positive as long as
a. The nominal return is positive
b. The inflation rate is positive
c. The nominal return exceeds inflation rate
d. Inflation rate exceeds the real return
e. None of the above.
164. The major benefit of diversification is to
a. Increase the expected return
b. Increase the size of the investment portfolio
c. Reduce brokerage commissions
d. Reduce the expected risk
e. Increase the expected return over and above the risk-free rate of return.
165. Which of the following is not true?
a. Interest rate risk is the variability in a security’s return resulting from changes in interest
rates.
b. Market risk refers to the variability of returns due to a wide range of factors exogenous
to the securities themselves.
c. Inflation risk is the loss of purchasing power due to inflation.
d. As inflation rate increases the interest rate risk decreases.
e. Business risk is the risk of doing business in a particular industry.
34

40. Part I
166. What is the cost of a debenture if it is issued at face value of Rs.100. The coupon is 13%, the
maturity is 6 years, redemption is at 6% premium and realizable amount is Rs.97.50 and
Tax = Rs.38%.
a. 9.25%
b. 9.56%
c. 9.13%
d. 9.31%
e. 9.49%
167. Which of the following statements is true?
a. Interest rate risk refers to the variability of returns due to fluctuations in the securities
market.
b. Market risk refers to the reduction in purchasing power.
c. The interest rates on securities tend to go up with inflation.
d. Business risk refers to the risk due to debt financing.
e. Financial risk is associated with the secondary market in which a particular security is
traded.
168. Financial risk arises due to the
a. Reduction in purchasing power of the assets employed by the firm
b. Variability of returns due to fluctuations in the securities market
c. Changes in prevailing interest rates in the market
d. Leverage used by the company
e. Liquidity of the assets of the company.
169. The diversifiable risk includes the risk due to
a. Inflation
b. Industrial recession or slow down
c. Natural calamities
d. Strike in the company
e. Changes in economic policy.
170. Which of the following would reduce the applicability of Capital Asset Pricing Model
(CAPM)?
a. Investors having different time horizons for investments.
b. The presence of high transaction costs in the market.
c. The influence of taxes on the choice of assets.
d. The different expectations of the investors regarding the risk and return associated with
various securities.
e. All of the above.
171. Which of the following is a diversifiable risk factor?
a. An increase in inflation rate.
b. Unexpected entry of a new competitor in the market.
c. A change in economic policy of government.
d. Industrial recession.
e. Increase in international oil prices.
35

41. Financial Management
172. If a security is less risky than the market portfolio, then its beta would be
a. Negative
b. More than market beta
c. Equal to Zero
d. Less than 1
e. More than 1.
173. Which of the following statements is true?
a. Expected returns and ex post returns are same.
b. There are only two types of returns i.e., realized returns and historical returns.
c. Risk is a motivating force for an investor.
d. The objective of any investor is to maximize his returns as well as risk.
e. The investor compensates for the uncertainty in returns by requiring an expected return
that is sufficiently high to offset the risk or uncertainty.
174. Which of the following types of risks is/are not systematic risk?
a. Credit risk.
b. Interest rate risk.
c. Purchasing power risk.
d. Market risk.
e. Both (a) and (d) above.
175. The security market line shows the relationship between the
a. Expected rate of return and diversifiable risk
b. Realized rate of return and beta
c. Required rate of return and unsystematic risk
d. Expected rate of return and beta
e. Realized rate of return and systematic risk.
176. The risk that arises due to change in the purchasing power is called
a. Financial risk
b. Interest rate risk
c. Business risk
d. Market risk
e. Inflation risk
177. The risk aversion of an investor can be measured by
a. Risk-free rate of return
b. Market rate of return
c. Variance of the return from a security
d. The difference between the market rate of return and the risk-free rate of return
e. None of the above.
178. The risk of a portfolio of two securities increases if there is _______ between their returns.
a. Perfect positive correlation.
b. Perfect negative correlation.
c. Moderate positive correlation.
d. Moderate negative correlation.
e. Both (a) and (c) of the above.
36

42. Part I
179. Which of the following types of risk is not a diversifiable risk?
a. Business risk.
b. Financial risk.
c. Credit risk.
d. Purchasing power risk.
e. Technology risk.
180. Market portfolio contains
a. Frequently traded securities in the stock market
b. All the securities in proportion to their market capitalization
c. All securities listed in the specified group of a stock exchange
d. The securities having large volumes in terms of number of transactions and market
capitalization
e. None of the above.
181. Security market line shows the relationship between return on the stock and
a. Return on market portfolio
b. Risk-free rate of return
c. Standard deviation of the stock returns
d. Beta of the stock
e. Variance of the stock returns.
182. If a security’s return plots above the Security Market Line (SML), it means
a. Security is overpriced
b. Security is underpriced
c. Security’s beta is more than one
d. Security’s beta is less than one
e. Security’s beta is equal to zero.
183. Which of the following statements is true?
a. The Capital Asset Pricing Model (CAPM) establishes the relationship between an
asset’s return and its systematic risk.
b. The above relationship can be graphically plotted as the Security Market Line.
c. An undervalued security is a very desirable asset to own.
d. All of the above.
e. Both (a) and (b) above.
184. Characteristic line is the relationship between return on stock and
a. Return on market portfolio
b. Risk-free rate of return
c. Return on Government bond
d. Both (b) and (c) above
e. None of the above.
185. In booming (share) market, the companies are to be selected with Beta (β)
a. β=0
b. β>1
c. β<1
d. β=1
e. Beta is not relevant.
37

43. Financial Management
186. Which of the following is not an assumption of CAPM?
a. Capital markets are perfect.
b. Lending rate is more than borrowing rate.
c. No individual is capable of affecting market.
d. Homogenous expectations.
e. All the above are assumptions.
187. Systematic Risk Factor(s) involved in investing in bonds
a. Purchase-Power risk
b. Interest rate risk
c. Yield risk
d. Both (a) and (b) above
e. Both (b) and (c) above.
188. The slope of the Security Market Line (SML) changes with
a. Change in risk-free rate of return
b. Change in risk attitude of investors
c. Change in inflation
d. All of the above
e. Both (a) and (c) above.
189. The relationship between β of a security and required rate of return is represented by
a. Characteristic line
b. Security market line
c. Capital market line
d. All of the above
e. None of the above.
190. If investors expect the inflation rate to fall in future and they expect themselves to become
less risk-averse then
a. SML shifts up and the slope increases
b. SML shifts up and the slope decreases
c. SML shifts down and the slope increases
d. SML shifts down and the slope decreases
e. SML does not change as the above changes offset each other.
191. The return from an investment is calculated by using the formula
d t + (Pt − Pt − 1 )
a. where dt = dividend in year t; Pt–1 and dt = prices in the years t and t–1
Pt − 1
respectively
n
b. ∑ k j pi where ki = ith possible rate of return; pi = Probability associated with the
i =1
occurrence of the ith rate of return
c. Rf + β (Rm – Rf) where Rf = Risk-free rate of return; β = Beta coefficient of the
security; Rm = Return from the market portfolio
d. Both (a) and (b) above
e. All of (a), (b), and (c) above.
38

44. Part I
192. The required rate of return calculated as per Capital Asset Pricing Model (CAPM)
a. Is the minimum return required by the investor
b. Is the same as expected rate of return under equilibrium conditions
c. Depends on returns of market portfolio and risk-free rate of return
d. All of the above
e. CAPM does not define required rate of return.
193. Which of the following does not contribute to systematic risk?
a. Change in the interest rates.
b. Change in the level of government spending.
c. Emergence of a new competitor.
d. Change in the industrial policy.
e. Both (b) and (d) above.
194. Security Market Line (SML) cuts the Y-axis at
a. Expected rate of return on the market portfolio
b. Expected rate of return on individual security
c. Expected rate of inflation
d. Real rate of return on risk-free securities
e. Nominal rate of return on risk-free securities.
195. An equity share with beta greater than unity would be called
a. A defensive stock, because it is expected to decrease more than the market increases
b. An aggressive stock, because it is expected to increase more than the market increases
c. A defensive stock, because it is expected to increase more than the market decreases
d. An aggressive stock, because it is expected to decrease more than the market increases
e. A stock moving against the market.
196. Riskiness of a portfolio is a function of
a. Proportions invested in the components
b. Riskiness of the components
c. Correlation of the returns on the component securities
d. All of the above
e. Only (b) and (c) of the above.
197. Which of the following will cause an increase in the required rate of return?
a. Decrease in inflation.
b. Decrease in risk-free rate.
c. Increase in interest rate.
d. Decrease in risk aversion.
e. All of (a), (b) and (c) above.
198. The Security Market Line
a. Is also referred to as the Characteristic Line
b. Is a graphical representation of the Capital Asset Pricing Model
c. Has beta as its slope
d. Manifests the relationship between returns on the market and returns on the security
e. Measures the behavior of returns overtime.
39

45. Financial Management
199. If the slope of Security Market Line (SML) = 0, which of the following is/are true?
a. Expected rate of return is more than the market return.
b. Expected return is equal to risk-free rate of return.
c. Risk-free rate of return is equal to zero.
d. Expected return shall be beta times of the risk aversion.
e. Both (a) and (b) of the above.
200. Diversification can eliminate risk if the securities of a portfolio are
a. Perfectly positively correlated
b. Perfectly negatively correlated
c Weakly positively correlated
d. Weakly negatively correlated
e. Not correlated.
201. Systematic risk of a security is measured by
a. Standard deviation
b. Variance
c. Covariance
d. Beta
e. Correlation coefficient.
202. Which of the following instances relating to ABC Ltd., do not represent unsystematic risk?
a. An open offer for takeover of the company.
b. Workers declare strike in the company.
c. Company makes a breakthrough in process innovation.
d. Introduction of Minimum Alternative Tax.
e. Raid on the company for tax evasion.
203. If there is zero correlation among the securities in a portfolio, the resulting graph will be a(n)
a. Straight line with a slope of 45 degrees
b. Straight line with a negative slope of 45 degrees
c. Scattered
d. Ellipse
e. Hyperbola.
204. Which of the following is an example of systematic risk?
a. Risk of non-availability of a major raw material to a company making aluminium bars.
b. Death of the finance manager of a company providing financial services.
c. Unexpected entry of a multi-national company in the tea industry.
d. Reduction of tax rate by the government.
e. Sudden strike called by the workers of a jute manufacturing company demanding for the
wage revision.
205. Which of the following statements does not involve risk-return trade-off decision?
a. To increase the sales revenue through an aggressive advertisement campaign.
b. To improve the paying habit of the customers by framing an attractive credit terms.
c. To maximize profits by ensuring the maximum usage of the production facilities.
d. To maximize the profit by resorting to debt financing.
e. None of the above.
40

46. Part I
206. If a security’s return is plotted above the security market line, then
a. The risk free rate is equal to the required rate of return on the security
b. The security’s rate of return is more than the return on the market portfolio
c. The security’s beta is less than one and hence a conservative security
d. The security is said to be overvalued
e. The security is to be bought immediately.
207. Which of the following is/are an assumption(s) of CAPM?
a. Investors use the expected return and standard deviation of returns as the appropriate
measures of return and risk of the portfolios.
b. Investors are risk averse.
c. Investors agree with each other on the nature of return and the risk associated with each
instrument where investment may be made.
d. The assets can be bought and sold in any unit as desired by the investors.
e. All of the above.
208. If the rates of return from a security move perfectly in tandem with respect to the market
returns, then the beta for that security will be
a. Equal to 1
b. 0
c. Between 0 and 1
d. Greater than 1
e. Less than –1.
209. Which of the following is an example of non-systematic risk to a firm?
a. Volatility of interest rates.
b. Sudden increase in the rate of inflation.
c. The possibility of the imposition of surcharges by the government to reduce fiscal
deficit.
d. Sudden scarcity of cement in the market.
e. Non-availability of sufficient power supply to overall business sector.
210. If the return on a security lies below the security market line, then
a. The security is conservative security
b. The security is aggressive security
c. The risk free rate of return is more than the expected return from that security
d. The security is over priced
e. The security is under priced.
211. Which of the following relationships is represented by the Characteristic Regression Line
(CRL)?
a. The return from an equity share and the variance of its returns.
b. The return from an equity share and the return from the market index.
c. The return from an equity share and its beta.
d. The return from an equity share and the risk free rate of return.
e. The return from an equity share and the market risk premium.
41

47. Financial Management
212. What is the significance of the beta coefficient with respect to the risk of a security?
a. It indicates the unsystematic risk of the security.
b. It indicates the systematic risk of the security.
c. It indicates the total risk of the security.
d. It indicates the operating risk of the company that has issued the security.
e. It indicates the financial risk of the company that has issued the security.
213. Which of the following is an assumption of CAPM?
a. The investors are risk lovers.
b. The assets can be sold or bought in the lots of 100 units.
c. Transaction costs and taxes are of a significant amount.
d. Expectations of one investor is not same as that of the another in relation to the
expected returns from a security and the risks associated with it.
e. The investors considers the expected return and the standard deviation of returns as the
criteria for making investment.
Valuation of Securities
214. Which of the following is/are not feature(s) of bonds issued by a government agency?
a. They are secured.
b. They are issued at discount and redeemed at the face value.
c. The interest rate can be changed before the maturity of the bond if government wishes so.
d. Both (a) and (c) above.
e. Both (b) and (c) above.
215. If a 2-year redeemable bond is purchased and held till maturity, the rate of return earned is called
a. Coupon rate
b. Required rate of return
c. Yield to maturity
d. Current yield
e. Either (b) or (d) above.
216. When the required rate of return is equal to the coupon rate, value of the redeemable bond is
equal to its
a. Market value
b. Face value
c. Present value of the stream of interest inflows
d. Average of par value and maturity value
e. None of the above.
217. When the coupon rate is less than the required rate of return the discount on the bond ____ as
maturity approaches.
a. Decreases
b. Increases
c. Does not change
d. First decreases and then increases
e. First increases and then decreases.
42

48. Part I
218. Given the maturity, an increase in bond’s yield causes a price decrease that is ___ the price
increase caused by an equal size decrease in yield.
a. Higher than
b. Smaller than
c. Equal to
d. Greater than or equal to
e. Smaller than or equal to.
219. A change in YTM affects those bonds with a higher YTM ____ it affects bonds with a lower
YTM.
a. Less than
b. More than
c. Same as
d. Either of (a) or (c) above
e. Either of (b) or (c) above.
220. An investor would buy a bond if
a. The intrinsic value is lower than the market value
b. The intrinsic value is higher than the market value
c. The current market value is lower than the redemption value
d. The current market value is less than the face value
e. The required rate of return is equal to coupon rate of interest.
221. Nadir Shah purchases a bond today and sells 6 months before its maturity. The yield realized
is known as
a. Holding period return
b. Current yield if coupon interest is received
c. Yield to maturity
d. Both (a) and (b) above
e. All of (a), (b) and (c) above.
222. For abond held to maturity, YTM is not affected by
a. Annual interest payment
b. Discount rate
c. Redemption value
d. Number of years to maturity
e. Current market price of the bond.
223. Which of the following statements is false?
a. The required rate of return determines the premium or discount on the bond value.
b. If the YTM increases the bond’s market price decreases.
c. The coupon rate affects the YTM.
d. If the market price and face value are equal then coupon rate is more than YTM.
e. All of the above.
224. If the coupon rate of bond X is greater than bond Y with the same YTM and maturity
a. The bond X’s price will change more than Y for a change in YTM
b. The market price of bond Y is more than that of X
c. The current yield of both the bonds would be same
d. The bond Y’s price would change more than that of X for a change in YTM
e. Both (b) and (d) above.
43

49. Financial Management
225. The price of the share will increase if
a. The dividend decreases
b. The required rate of return increases
c. The growth rate increases
d. Both (b) and (c) above
e. All of (a), (b) and (c) above.
226. Prabhasa Constructions Ltd., is showing a low dividend yield and high price earnings ratio.
Then,
a. Price of its share is high
b. There is growth in the company
c. The investors in this share can expect capital gains
d. Both (a) and (b) above
e. All of (a), (b) and (c) above.
227. The book value approach is criticized because
a. It can be established easily
b. It values the firm’s share without any future projections
c. It is based on accounting figures which can be manipulated
d. Both (a) and (b) above
e. Both (b) and (c) above.
228. The factor(s) which affect(s) P/E ratio is/are
a. Growth rate
b. Debt proportion
c. Retention ratio
d. Quality of management
e. All of (a), (c) and (d) above.
229. The coupon rate on a bond is set equal to
a. Its yield to maturity
b. A percentage of its market price
c. A percentage of its maturity value
d. A percentage of its par value
e. A percentage of its issue price.
230. The amount a company can realize if it sold its business as an operating one is called
a. Market value
b. Book value
c. Replacement value
d. Liquidation value
e. Going concern value.
231. Which of the following statements is not true?
a. Ceteris Paribus, as the expected growth in dividend increases, the expected return
depends more on the capital gain yields, and less on dividend yield.
b. Ceteris Paribus, the price-earnings ratio increases as the expected growth rate in
dividend increases.
c. High dividend yield and low price-earnings ratio imply limited growth prospects.
d. Low dividend yield and high price-earnings ratio imply low growth prospects.
e. Low dividend yield and high price-earnings ratio imply considerable growth prospects.
44

50. Part I
232. Which of the following statements is false?
a. When required rate of return (kd) is equal to coupon rate (kc), the value of bond (V) is
equal to its par value (F).
b. When kd is greater than kc, V is less than F.
c. When kd is greater than kc, the discount on bond declines as maturity increases.
d. When kd is less than kc, the premium on the bond declines as maturity approaches.
e. None of the above.
233. Which of the following statements is false?
a. Market value is the amount that a company could realize if it sold its assets after
terminating its business.
b. Replacement value is the amount required to replace its existing assets in the current
condition.
c. Going concern value is the amount that a company could realize if it sold its business as
an operating one.
d. Book value is an accounting concept.
e. The difference between the book value of assets and liabilities is equal to shareholder’s
funds.
234. Which of the following is true?
a. The book value of a company is equal to the historic value of its assets.
b. Intangible assets cannot form part of the book value of a company.
c. The book value of debt is equal to the outstanding amount of debt.
d. The difference between book value of shareholders funds and the liabilities is equal to
the book value of the firm.
e. Book value is also known as liquidation value.
235. Which of the following statements is false?
a. A change in YTM affects a bond with a higher YTM more than a bond with lower YTM.
b. For a given difference between YTM and coupon rate, bonds with longer term to
maturity will have greater price change.
c. A bond’s price moves inversely proportional to YTM.
d. For any changes in YTM, the percentage price change in case of bonds of high coupon
rate will be smaller than bonds with low coupon rate.
e. None of the above.
236. If the maturity of a bond increases, the
a. Volatility of the bond decreases
b. Volatility of the bond increases
c. Volatility remains unaffected
d. Change in volatility depends on the required rate of return
e. None of the above.
237. When the required rate of return on a bond is less than the coupon rate, then
a. The value of the bond is equal to its par value
b. The discount on the bond declines as maturity approaches
c. The premium on the bond increases as maturity approaches
d. The value of the bond is greater than its par value
e. The value of the bond is less than its par value.
45

51. Financial Management
238. Which of the following statements is true?
a. The intrinsic value of a stock is equal to the discounted value of the stream of future
earnings per share.
b. The intrinsic value of a stock is equal to the present value of earnings per share plus the
net present value of future growth opportunities.
c. The intrinsic value of a stock is equal to the present market price per share less the
purchase price per share.
d. The intrinsic value of a stock is equal to the discounted value of the stream of future
dividends per share.
e. The intrinsic value of a stock is equal to the market capitalization divided by the number
of outstanding shares.
239. Which of the following statements is/are true regarding changes in bond prices?
a. The shorter the term to maturity the greater would be the price change with change in
yield to maturity.
b. With a change in YTM the percentage change in bond prices would be lower in case of
high coupon bonds than in the case of low coupon bonds.
c. The changes in bond prices move inversely to change in yield to maturity.
d. Both (b) and (c) above.
e. All of (a), (b) and (c) above.
240. If maturity of bond lengthens, what happens to the volatility of bond?
a. Volatility increases.
b. Volatility decreases.
c. Volatility sometimes increases, sometimes decreases.
d. Volatility remains unchanged.
e. None of the above.
241. Which of the following is true?
a. When the expected price earnings ratio exceeds the actual price earnings ratio of a
stock, the stock is overpriced.
b. When the expected rate of return is equal to the required rate of return, the stock is
correctly priced.
c. An overpriced stock should be purchased as it is undervalued.
d. All of the above.
e. Both (a) and (b) above.
242. When the required rate of return on a bond is greater than the coupon rate
a. The premium on the bond declines as maturity approaches
b. The discount on the bond declines as maturity approaches
c. The value of the bond is greater than its par value
d. The greater is its price change, in response to a given change in the required rate of return
e. None of the above.
243. In an ever changing scenario of interest rates in the bond market, if discount bonds and
premium bonds are sold at the same price, it indicates that
a. The bonds have approached maturity
b. The YTM = Coupon rate
c. The bonds are having the same coupon rate, same maturity value and same face value
d. The investors cost of funds are approximately equal
e. All of the above.
46

52. Part I
244. Coupon yield is equal to current yield, if and only if
a. The market interest rates are regulated
b. The market price of the bond is equal to the face value of the bond
c. The bonds are highly volatile
d. The market price is more than the par value
e. The face value is more than the market value.
245. What is the value of Beta when the required rate of return is 21.4%, the risk free rate is 6%
and the market return is 17%?
a. 1.2.
b. 0.8.
c. 1.3.
d. 1.4.
e. 1.5.
246. Which of the following is true regarding the value of a share?
a. The value of a share equals the discounted stream of future earnings per share.
b. The value of a share equals the present value of earnings per share plus the net present
value of future growth opportunities.
c. The value of a share is equal to the present market price per share less the purchase
price per share.
d. The value of a share equals the discounted stream of future dividends per share.
e. The value of a share equals the market capitalization divided by the number of
outstanding shares.
247. Which of the following is false regarding the value of a bond?
a. The value of a bond varies inversely with the interest rate.
b. Bonds of short maturity have less interest rate risk compared to the bonds of long maturity.
c. Bonds of high coupon have high interest rate risk compared to small coupon bonds.
d. The value of the bond will be equal to face value if the coupon rate is equal to the YTM.
e. The discount on the bond decreases as maturity approaches if the coupon rate is less
than the interest rate.
248. Yield to maturity of a perpetual bond is equal to
a. Interest/Face value
b. Interest/Market price
c. Interest/Average of face value and market price
d. Interest rate
e. (Interest + Annual Redemption)/Average Investment.
249. Which of the following statements is/are true regarding bond value theorems?
i. When the required rate of return is greater than the coupon rate, the premium on the
bond increases as maturity approaches.
ii. For a given difference between yield to maturity and coupon rate, the longer the term to
maturity, greater will be the change in price with the change in yield to maturity.
iii. The effect of a change in yield to maturity on the price of the bond is more in case of
lower yield bonds than in bonds with higher yields.
a. Only (i) above.
b. Only (ii) above.
c. Both (i) and (ii) above.
d. Both (ii) and (iii) above.
e. Both (i) and (iii) above.
47

53. Financial Management
250. Which of the following is most likely to result in a higher P/E ratio for a firm, other things
being equal?
a. Lower growth rate in dividends.
b. Reduction in the stock’s required rate of return.
c. Lower dividend yield.
d. Lower stock price.
e. Higher cost of insolvency.
251. Which of the following statements is correct regarding cash dividends on common stocks?
a. Dividend payments are guaranteed.
b. Dividends are the only form of return on investment.
c. Low dividend yields indicate out of favor stocks.
d. Dividend yields are based on current stock price.
e. None of the above.
252. The value of common stock is likely to decrease if
a. Investment horizon decreases
b. The growth rate of dividends increases
c. The discount rate increases
d. Dividends are discounted back to present
e. Dividends pay-out ratio remains constant.
253. The “g” in the constant-growth dividend discount model refers to
i. The annual growth rate of dividends
ii. The annual growth rate of stock price
iii. The annual growth rate of earnings per share
a. Only (i) above.
b. Only (ii) above.
c. Both (i) and (ii) above.
d. Both (i) and (iii) above.
e. All of (i), (ii) and (iii) above.
254. Which risk is associated with a particular security traded on the secondary market?
a. Interest rate risk.
b. Market risk.
c. Liquidity risk.
d. Financial risk.
e. Both (b) and (c) above.
255. Given the difference between YTM and coupon rate
a. The longer the term to maturity the lesser will be the change in price with change in
YTM.
b. The shorter the term to maturity the greater will be the change in price with change in
YTM.
c. The longer the term to maturity the greater will be the change in price with change in
YTM.
d. The term to maturity does not influence the change in price for any change in YTM.
e. The term to maturity influences the change in price for any change in YTM in an
unpredictable manner.
48

54. Part I
256. Which of the following is an external factor that influences the intrinsic value of a stock?
a. Earning power and profitability of the operations.
b. Dividends paid and payable in future.
c. Growth in earnings over time and expectations of the same in future.
d. Quality of management.
e. Growth rate of the industry to which the company belongs.
257. Current yield of a bond equals
a. Coupon rate when the price of the bond is greater than the face value of the bond
b. Coupon rate when the price of the bond is less than the face value of the bond
c. Coupon rate when price of the bond is equal to the face value of the bond
d. Yield to maturity (ytm) when the price of the bond equals the face value of the bond
e. Both (c) and (d) above.
258. Other things being equal, which of the following will cause an increase in the value of a
bond?
a. Decrease in the term to maturity.
b. Increase in the required rate of return on maturity.
c. Decrease in the discount on the bond on issue.
d. Increase in the premium on maturity of the bond.
e. Decrease in the coupon rate of the bond.
259. Which of the following is/are false when the required rate of return on a bond is more than
the coupon rate?
i. The discount on the bond decreases as the maturity approaches
ii. The market value of the bond is less than its par value
iii. The premium on the bond decreases as the maturity approaches
a. Only (i) above
b. Only (ii) above
c. Only (iii) above
d. Both (i) and (ii) above
e. Both (ii) and (iii) above.
260. Which of the following is not true with regard to the warrants issued by a company?
a. It is a call option to buy certain number of shares of the company that issued the same.
b. The warrant holder is entitled to receive dividends.
c. The warrant holder may sell the warrant at any point of time prior to the exercise date.
d. Warrants are generally issued with an objective to sweeten the public offer.
e. All are the above.
261. Which of the following is not true with regard to the multi period valuation model of equity
shares?
a. There is a pre-specified maturity period.
b. The value of an equity share is equal to the present value of its entire dividend stream.
c. The model can be applied to the instances of constant dividends and constant growth in
dividends.
d. The model can also be applied in case of variable growth in dividends.
e. The cost of equity of the company can vary from time to time.
49

55. Financial Management
262. Which of the following factors, other things remaining the same, will decrease the bond
value?
a. Increase in coupon rate.
b. Decrease in the yield of the bond.
c. Increase in maturity premium.
d. Increasing the term of the bond.
e. Increase in the yield of the bond.
263. The amount that a company may realize if it sells its business after having terminated the
same is called
a. Going concern value
b. Book value
c. Market value
d. Liquidation value
e. Replacement value.
264. Which of the following statements is true, if the required rate of return from a bond is more
than the coupon rate?
a. The intrinsic value of the bond is more than the par value of the bond.
b. The intrinsic value of the bond is less than the par value of the bond.
c. The discount on the bond increases as the maturity approaches.
d. The discount on the bond decreases as the term to maturity increases.
e. The premium on the bond decreases as the maturity approaches.
265. Which of the following factors are to be considered in the valuation of the equity shares of a
company through price-earning ratio approach?
a. Book value of the assets of the company.
b. Liquidation value of the assets of the company.
c. Growth rate of the earnings.
d. Number of equity shareholders.
e. Whether preference shares have been issued by the company.
Financial Statement Analysis
266. Long-term solvency is indicated by
a. Liquidity Ratio
b. Debt-equity Ratio
c. Interest Coverage Ratio
d. Return on Capital Employed
e. Both (b) and (d) above.
267. Current ratio is chiefly used to assess the
a. Effective utilization of capital
b. Application of debt
c. Liquidity position
d. Levels of inventory piled up in different forms
e. Prompt payment of long-term liabilities.
50

56. Part I
268. Which of the following indicates the Debt-Service Coverage Ratio (DSCR) of 1.5 of a firm?
a. The total obligations (i.e. interest plus repayment on the long-term loan) of the firm are
1.5 times its PBDIT.
b. The total obligations are 1.5 times its PAT.
c. The post-tax cash earnings are 1.5 times its total obligations.
d. The post-tax earnings after depreciation are 1.5 times its total obligations.
e. The total obligations are 1.5 times the equity earnings.
269. Which of the following is/are false statement(s) regarding common-size analysis?
a. It is used for comparing performance of a company in one year with that of another year.
b. The industry average is compared with the performance of a company.
c. All items in the financial statements are expressed as percentages of the respective totals.
d. Both (a) and (c) above.
e. Both (b) and (c) above.
270. A fixed charges coverage ratio of 4 signifies
a. Pre-tax operating income is 4 times all fixed financial obligations
b. Post-tax income plus depreciation is 4 times all financial obligations
c. Pre-tax income before lease rentals is 4 times all fixed financial obligations
d. Post-tax income less preference dividends is 4 times all fixed financial obligations
e. Post-tax income plus debt interest and lease rentals is 4 times all fixed financial
obligations.
271. Which of the following statement(s) is/are true?
a. Average collection period evaluates all aspects of credit policy.
b. All other things remaining the same, issue of new shares for cash will improve the
current ratio.
c. Ratio analysis is technique of planning and control.
d. Both (a) and (c) above.
e. All of (a), (b) and (c) above.
272. If a firm has realized its debtors and has paid-off its creditors to the same extent then
a. The current ratio will increase if it was less than 1 previously
b. The current ratio will decrease if it was more than 1 previously
c. The current ratio will increase if it was equal to 1 previously
d. Both (a) and (c) above
e. All of (a), (b) and (c) above.
273. Receivables turnover ratio of 10 means
a. The net credit sales for the year are 10 times the average receivables
b. Receivables are generated 10 times during the year
c. It takes 36 days to collect credit sales on an average
d. Both (a) and (c) above
e. All of (a), (b) and (c) above.
274. If the realized collection period is more than the terms of trade, it can be said that
a. The collection job is poor
b. The quality of debtors is poor
c. The average daily sales are low
d. Both (a) and (b) above
e. All of (a), (b) and (c) above.
51

57. Financial Management
275. Low assets turnover may indicate
a. Low assets
b. High costs of maintenance
c. Idle assets
d. Higher sales
e. Both (b) and (c) above.
276. A gross profit margin ratio may not indicate
a. Earning power
b. The efficiency of production
c. The efficiency of pricing
d. The gap between net sales and cost of goods sold
e. The balance left to meet the administration and financing expenses.
277. The long-term solvency positions are measured by
a. Coverage ratios
b. Earnings ratios
c. Structural ratios
d. Both (a) and (c) above
e. Both (a) and (b) above.
278. Dividend Pay-out Ratio is
a. A ratio between dividend paid and the number of equity shares
b. DPS divided by EPS
c. A ratio between PAT and the dividend paid
d. The percentage of equity earnings over EBIT
e. EPS divided by DPS.
279. Which of the following would affect the dividend yield directly?
a. Retention ratio.
b. Book value per share.
c. Face value of a share.
d. The cost of equity capital.
e. Debt-equity ratio.
280. While doing the time series analysis you found that the ROE is decreasing. Which of the
following may be a probable reason?
a. The net profit margin is increasing.
b. Assets turnover is decreasing.
c. The debt assets ratio is decreasing.
d. Both (a) and (b) above.
e. Both (b) and (c) above.
281. Which of the following is/are the problem(s) encountered in financial statement analysis?
a. Development of benchmarks.
b. Window dressing.
c. Price level changes.
d. Interpretation of results.
e. All of the above.
52

58. Part I
282. Equity multiplier is defined in Du Pont Analysis as
a. EPS/Market price of shares
b. EPS/Book value of shares
c. PAT/Net worth
d. Average assets/Average equity
e. None of the above.
283. Which of the following statements is true?
a. The income statement of a firm shows the value of its assets and liabilities over a
specified period of time.
b. The difference between the current and quick ratio is that inventory has been subtracted
from current liabilities.
c. The net working capital of a firm will increase when accrued wages are paid with cash.
d. The lower the times interest coverage ratio, the lower is the interest expense.
e. Other things being equal, a decrease in average accounts receivable will increase the
firm’s return on assets.
284. A common size balance sheet portrays the firm’s accounts as a percent of the
a. Industry’s assets
b. Firm’s net income
c. Firm’s total assets
d. Strongest competitor’s assets
e. Current assets.
285. An asset’s liquidity measures
a. Its potential for generating a profit
b. Its usefulness to the corporation
c. Its ease and cost of being converted into cash
d. Its proportion of equity financing
e. Its proportion of debt financing.
286. The current ratio is the ratio of
a. Current assets to total assets
b. Current liabilities to total liabilities
c. Current assets to current liabilities
d. Current liabilities to equity
e. Current assets to fixed assets.
287. If the current ratio is less than 1 then it can be definitely said that
a. The net working capital is negative
b. The net working capital is positive
c. The inventories are inadequate
d. The current assets other than inventories are inadequate
e. Cash in hand is inadequate.
53

59. Financial Management
Average Receivable x 365
288. 1 year = 365 days. The expression is known as
Annual Credit Sales
a. Receivables turnover ratio
b. Average collection period
c. Quick ratio
d. Current ratio
e. Leverage ratio.
289. If the debt-equity ratio of a company is 2:1 then it can be understood that for every
a. 2 rupees of equity there is 1 rupee of debt
b. 2 rupees of total assets there is 1 rupee of equity
c. 3 rupees of total assets there is 1 rupee of debt
d. 3 rupees of total assets there are 2 rupees of debt
e. 3 rupees of debt there are 2 rupees of equity.
290. Which of the following statements is true?
a. Liquidity implies a firm’s ability to pay its debt in the long run.
b. Working capital gap is equal to current assets plus total current liabilities.
c. The number of days it takes to collect accounts receivables is known as average
collection period.
d. Lesser the inventory turnover ratio, higher the efficiency of inventory management.
e. PE ratio is one of the most important profitability ratios.
291. How does financial statement analysis help in understanding financial statements?
a. Window dressing.
b. Price level changes.
c. Correlation among ratios.
d. Differences in accounting policies.
e. None of the above.
292. Working capital gap
a. Shows the degree of the firm’s reliance on long-term bank finance
b. Shows the degree of the firm’s reliance on shareholders funds
c. Is equal to current assets less current liabilities other than bank borrowings
d. Is equal to the total current assets
e. Is equal to current assets less current liabilities plus bank borrowings.
293. Which of the following is an efficiency ratio?
a. Asset turnover ratio.
b. Fixed charges coverage ratio.
c. Accounts receivable turnover.
d. Price-earnings ratio.
e. Debt-service coverage ratio.
294. Capitalization rate is calculated as
a. Total assets-to-debt ratio
b. Market price of the share to earnings per share
c. Earning per share to book value of the shares
d. Earning per share to market price of the shares
e. Total assets-to-equity ratio.
54

60. Part I
295. An interest coverage ratio of 2.25 indicates that
a. EBIT is 2.25 times the interest payable
b. EBT is 2.25 times the interest payable
c. EAT is 2.25 times the interest payable
d. Retained earnings are 2.25 times the interest payable
e. None of the above.
296. Which of the following is a liquidity ratio?
a. Debt-equity ratio.
b. Dividend pay-out ratio.
c. Net profit margin.
d. Interest coverage ratio.
e. Acid test ratio.
297. Which of the following is/are not a liquidity ratio?
a. Current ratio.
b. Quick ratio.
c. Average collection period.
d. Bank finance to working capital gap ratio.
e. Both (c) and (d) of the above.
298. Earnings Per Share (EPS) is equal to
a. Profit before tax/No. of outstanding shares
b. Profit after tax/No. of outstanding shares
c. Profit after tax/Amount of equity share capital
d. Profit after tax/Net worth
e. Profit after tax less equity dividends/No. of outstanding shares.
299. Current ratio indicates
a. Amount of cash with the company
b. Amount of current assets out of total assets of the company
c. Capacity to meet current liabilities
d. Ability to repay debt installments
e. None of the above.
300. Which of the following is not considered while determining the appropriate P/E ratio for a firm?
a. Industry growth rate.
b. Book value to earnings per share ratio.
c. Stability of earnings.
d. Size of the company.
e. Dividend pay-out ratio.
301. Which of the following is/are true regarding common size analysis?
a. It states items in the balance sheet as percentages of total assets.
b. It expresses items in balance sheet as an index relative to the base year.
c. It is the same as time series analysis.
d. It is done to find the intrinsic value of the company’s stock.
e. Both (a) and (c) above.
55

61. Financial Management
302. Days’ Sales Outstanding
a. Is the ratio of receivables outstanding to average daily sales
b. Is similar to the Average Collection Period
c. If higher, indicates an efficient credit policy
d. Both (a) and (b) above
e. Both (a) and (c) above.
303. A high inventory turnover ratio
a. Could mean that inventory could have increased even when net sales remained constant
b. Is generally an indicator of efficient inventory management
c. Could also be an indicator of over trading
d. All of the above
e. Only (b) and (c) above.
304. When current assets and current liabilities increase by the same amount
a. The current ratio remains the same
b. The current ratio increases, if it is greater than 1
c. The current ratio decreases, if it is greater than 1
d. The current ratio becomes 1:1
e. None of the above.
305. The basic ratio for measuring the firm’s ability to meet its interest charges is the
a. Cash flow coverage ratio
b. Interest coverage ratio
c. Debt service coverage ratio
d. Acid test ratio
e. None of the above.
306. The starting point of Du Pont chart is
a. Return on equity
b. Return on investment
c. Return on total assets
d. Return on fixed assets
e. None of the above.
307. Return On Investment (ROI) and Return On Equity (ROE) are exactly 0.25. This indicates that
a. ROE has been calculated wrongly
b. ROI pertains to the previous year
c. The firm has no debt in their capital structure
d. The firm does not pay income taxes
e. Both (c) and (d) of the above.
308. The market value to book value ratio is 2. This indicates that
a. The book value is understated
b. There is heavy speculation in the market
c. The firm has doubled the wealth of the shareholder
d. The net wealth of shareholder is reduced to half
e. Accounts are not being maintained properly.
56

62. Part I
309. In the Du Pont chart the left apex term is
a. Earnings Per Share (EPS)
b. Return on equity
c. Net profit to total assets
d. Operating profit before interest and taxes to total assets
e. Net profit margin.
310. The use of debt in a project increases ROE if the firm
a. Has more outside liabilities than equity
b. Has more assets than equity
c. Pays more taxes than interest
d. Has an asset turnover more than 2
e. Earns higher return than the rate of interest on debt.
311. Interest coverage ratio of 6 indicates
a. Sales are 6 times of interest
b. Profit after tax is 6 times of interest
c. Profit before tax is 6 times of interest
d. Earning before interest and taxes is 6 times of interest
e. Profit after tax is equal to 1/6 th of interest.
312. In the context of financial statements analysis, cross-sectional analysis involves comparison
between
a. Two divisions of a company
b. Historical and current data
c. A company and its competitor
d. A company and the industry
e. None of the above.
313. Earning Power measures the
a. Profitability of equity funds invested in the firm
b. Operating performance of the firm
c. Efficiency of production as well as pricing
d. Efficiency of fixed assets employed
e. Efficiency of total assets employed.
314. The current ratio and quick ratio of BCC Ltd. are nearly the same. This suggests that
a. The company has got a sizeable investment in inventory
b. The liquidity position of the company is unclear
c. The company has got a low investment in inventory
d. The quick assets of the company are low
e. The company is a highly profitable one.
315. The leverage ratio used in ROE analysis is
a. Sales ratio
b. Profit margin
c. Total assets to net worth
d. Tangible net worth to total assets
e. Long-term debt to equity ratio.
57

63. Financial Management
316. Which of the following is/are true with respect to earning power?
a. It measures operating profitability of the firm.
b. It measures the efficiency of the capital employed.
c. It is not influenced by the financial structure of the firm.
d. All of (a), (b) and (c) above.
e. Both (a) and (c) above.
317. Earnings per share divided by book value is equal to
a. Net worth
b. Return on equity
c. Net profit
d. Net worth/Net profit
e. Reciprocal of return on equity.
318. For assessing the future market value of a company, it is best to depend on
a. Turnover ratios
b. Earnings ratios
c. Efficiency ratios
d. Profitability ratios
e. Liquidity ratios.
319. Dividend yield is equal to
a. Dividend Rate
b. Dividend per share/Face value of the share
c. Dividend per share/Earnings per share
d. Dividend per share/Retained earnings per share
e. Dividend per share/Market value per share.
320. Which of the following is a liquidity ratio?
a. Return on equity.
b. Return on investment.
c. Acid-test ratio.
d. Debt-equity ratio.
e. Debt-asset ratio.
321. In common size analysis the items in the income statement are expressed as percentage of
a. Total assets.
b. Net sales.
c. Total expenses.
d. Gross sales.
e. Total fixed assets.
322. Which of the following ratios indicates the capital structure?
a. Debt-assets ratio
b. Inventory turnover ratio
c. Total asset turnover ratio
d. Return on equity
e. Return on assets.
58

64. Part I
323. Which of the following ratios indicates the ability of a firm to service the financial charges?
a. Dividend pay-out ratio.
b. Fixed charges coverage ratio.
c. Net profit margin ratio.
d. Inventory turnover ratio.
e. Acid test ratio.
324. In which of the following situations, price earnings ratio is applied?
a. To determine the financial risk of a business entity.
b. To determine the expected market value of the shares of a company.
c. To assess the earning potential of a company in the near future.
d. To examine the operational efficiency of a company.
e. To check how efficiently the assets are utilized by a firm.
325. How can a company lower its debt-to-total assets ratio in its capital structure?
a. Borrowing more funds from the market by issuing debentures.
b. Using short-term funds against the fixed assets of longer life.
c. Using long-term funds against the current assets of the company.
d. Planning for a rights issue.
e. Borrowing more funds from the financial institutions.
326. The reserves and surplus at the base year is set at 100 percent whereas for the subsequent
years, it may be less than or more than 100 percent. Which types of analysis is supposed to be
carried out?
a. Cross-sectional analysis.
b. Year-to-year change analysis.
c. Index number trend analysis.
d. Common size analysis.
e. Expected annual income analysis.
327. A cement manufacturing company has a debt-to-equity ratio of 1.6 compared with the
industry average of 1.4. This means that the company:
a. Will never experience any difficulty with its creditors
b. Has more borrowing capacity than the other companies in the industry
c. Will be viewed as having high creditworthiness
d. Has greater than average financial risk when compared to companies in the same
industry
e. Has a better ability to meet its financial commitments towards its stakeholders.
328. High asset turnover ratio indicates
a. Large amount of investment in the fixed assets
b. Large amount of investment in the current assets
c. Large amount of sales value in comparison to total assets
d. Inefficient utilization of the assets
e. High debt-equity ratio.
329. A 15% debenture of face value Rs.100 of 8 years to maturity is trading at a premium of 9%.
Realized amount Rs.95 and tax rate is 40%. What is the yield?
a. 10.21%.
b. 10.44%.
c. 10.76%.
d. 10.54%.
e. 10.12%.
59

65. Financial Management
330. Which of the following methods of financial statement analysis is based on the inter-
relationships among various components of the financial statements?
a. Common size analysis.
b. Time series analysis.
c. Index analysis.
d. Du Pont analysis.
e. Cross-sectional analysis.
331. In which of the following methods of financial statement analysis, the items in the income
statement are expressed as percentages of total sales?
a. Common size analysis.
b. Time series analysis.
c. Index number trend analysis.
d. Du Pont analysis.
e. Cross-sectional analysis.
Funds Flow Analysis
332. The meaning of “fund” in funds flow statement is
a. Cash
b. Net working capital
c. Gross working capital
d. Profit
e. Either (a) or (b) above.
333. Which of the following change(s) does/do not appear in a Cash Flow Statement?
a. Issue of equity shares.
b. Conversion of all FCDs into equity shares.
c. Bonus issue of equity shares.
d. Both (b) and (c) above.
e. All of (a), (b) and (c) above.
334. Which of the following is true with respect to sources and uses of funds?
a. Depreciation and decrease in NWC are sources of funds.
b. Depreciation and decrease in NWC are uses of funds.
c. Depreciation is a source of fund but decrease in NWC is a use of fund.
d. Depreciation is a use of fund but decrease in NWC is a source of fund.
e. Depreciation and increase in NWC are uses of funds.
335. Which of the following is true?
a. Depreciation is a use of funds.
b. Increase in liability is a source.
c. Decrease in an asset, other than cash is a use.
d. Increase in bills payable is a use.
e. Increase in equity is a use.
336. Which of the following items represent potential use of funds?
a. Sale of land and building at loss.
b. Dividend proposed and not yet declared.
c. Sale of trade marks and patent rights.
d. Net loss from operations.
e. Amortization of goodwill.
60

66. Part I
337. Which of the following represents cash from operations?
a. Net profit + non-cash expenses.
b. Net profit + decrease in current liabilities.
c. Net profit + increase in current assets.
d. Net profit.
e. Earnings before interest, depreciation and tax + decrease in current assets.
338. Which of the following is/are true regarding funds flow statement?
a. Amortization of preliminary expenses is a use of funds.
b. Increase in provision for taxation decreases working capital.
c. Cash or credit sales at a profit increases the working capital.
d. Both (a) and (b) above.
e. Both (b) and (c) above.
339. Which of the following is a source of fund?
a. Increase in cash.
b. Increase in accrued expenses.
c. Decrease in reserve.
d. Dividend payment.
e. All of the above.
340. Which of the following is not a use of funds?
a. Increase in Fixed Assets.
b. Buy-back of shares.
c. Decrease in working capital.
d. Increase in depreciation.
e. Both (c) & (d) only.
341. Which of the following is not a benefit of funds flow statement analysis for an organization?
a. Detection of imbalances.
b. Divisional performance appraisal.
c. Evaluation of firm’s financing.
d. Evaluation of the quality of firm’s top management.
e. Planning of future financing.
342. Which of the following is not a method of sales forecasting?
a. Jury of Executive Opinion.
b. Sales force estimate.
c. Trend analysis via extrapolation.
d. Ratio analysis.
e. Regression analysis.
343. Which of the following assumptions is true while calculating the external funds requirements?
a. The assets of the firm will increase proportionately to cost of goods sold.
b. Net profit margin will increase at a constant rate.
c. Dividend pay-out ratio and debt-equity ratio will remain constant.
d. External issue of equity will be resorted to.
e. Net profit margin will increase at an increasing rate.
61

67. Financial Management
344. Which of the following is a source of working capital in a funds flow statement drawn on
working capital basis?
a. Net Income.
b. Dividends.
c. Taxes.
d. Increase in short-term loans.
e. Decrease in receivables.
345. Which of the following is a source of cash in a funds flow statement drawn on cash basis?
a. Dividend payment.
b. Increase in fixed assets.
c. Increase in receivables.
d. Repayment of short-term bank loan.
e. Depreciation.
346. Which of the following is not an item of current liabilities?
a. Sundry creditors.
b. Hire purchase dues.
c. Fixed deposit made for 18 months.
d. Unclaimed dividends.
e. Advances from customers.
347. Which of the following is not a source of funds?
a. Increase in owner’s equity.
b. Decrease in plant and machinery.
c. Payment of dividends.
d. Decrease in debtors.
e. Sale of investments.
348. Which of the following will not result in an increase in net working capital?
a. Increase in cash.
b. Decrease in creditors.
c. Decrease in bank borrowings.
d. Decrease in inventory.
e. Decrease in bills payable.
349. Which of the following is not a source of fund?
a. Increase in share capital.
b. Increase in working capital.
c. Increase in a long-term liability.
d. Increase in profits.
e. Increase in depreciation.
350. An increase in which of the following is considered as a source of funds while preparing
funds flow statement on a working capital basis?
a. Issue of share capital.
b. Increase in working capital.
c. Repayment of a term loan.
d. Purchase of fixed assets.
e. None of the above.
62

68. Part I
351. Which of the following appears as a use in a funds flow statement?
a. Taxes.
b. Increase in equity.
c. Increase in long-term loans.
d. Decrease in fixed assets.
e. Decrease in working capital.
352. Which of the following is a use of funds?
a. Decrease in current liabilities.
b. Increase in current assets.
c. Increase in cash.
d. All of the above.
e. Both (a) and (c) of the above.
353. Which of the following is not a source of fund?
a. Increase in profits.
b. Increase in liabilities.
c. Increase in share capital.
d. Increase in assets.
e. Increase in depreciation.
354. Which of the following sources/uses of funds is not considered while preparing funds flow
statement on a working capital basis?
a. Issue of share capital.
b. Payment of dividend.
c. Depreciation.
d. Purchase of fixed assets.
e. Purchase of raw materials.
355. Which of the following increases the cash flow from operations?
a. Increase in debtors.
b. Increase in inventory.
c. Decrease in prepaid expenses.
d. Decrease in income tax paid in advance.
e. Both (c) and (d) above.
356. Which of the following alternatives result(s) in an increase in working capital?
a. Issue of bonus shares.
b. Issue of equity shares.
c. Conversion of debentures to equity.
d. Both (a) and (c) above.
e. All of (a), (b) and (c) above.
357. Which of the following can be considered as a use of cash?
a. Increase in provisions.
b. Increase in prepaid expenses.
c. Increase in taxes due, but not paid.
d. Decrease in investments.
e. Decrease in current assets.
63

69. Financial Management
358. Which of the following is not shown by a funds flow statement on cash basis?
a. The sources of cash.
b. The uses of cash.
c. Decrease in cash .
d. The net change in working capital.
e. Increase in cash.
359. Which of the following is true with respect to funds flow statement of a company?
a. It helps to judge the quality of management.
b. It shows whether the ownership pattern of the business entity has been changed.
c. It cannot be manipulated by the unscrupulous promoters.
d. It fails to identify the operational ineffectiveness in a business entity.
e. It identifies whether short-term fund is used for the procurement of long-term asset.
360. Which of the following statements shows the source of funds while making funds flow
analysis on total resources basis?
a. Retirement of high cost debt.
b. Installation of a capital asset.
c. Conversion of debentures into equity shares.
d. Selling an old car today in order to buy a new one after three months.
e. Buying back the equity shares.
361. Which of the following is not a source of fund in a funds flow statement on cash basis?
a. A gross decrease in fixed assets.
b. A gross increase in fixed assets.
c. A net increase in current liabilities.
d. Sale of any fixed asset.
e. Funds from the operations.
362. Which of the following is not a use of funds flow analysis for an organization?
a. Planning for the future financing strategy.
b. Identification of imbalances with respect to the sources and uses of funds.
c. Divisional performance appraisal.
d. Assessment of the firm’s financing.
e. Assessment of the market leadership for the products of the company.
363. Which of the following statements is/are true with respect to funds flow statement?
a. It shows the changes in the ownership patterns of the company.
b. It shows the sources and uses of funds at any particular date in a year.
c. It can be considered as a snapshot picture for the operations of the business.
d. It cannot be manipulated by means of window dressing.
e. It indicates how the business financed its fixed assets.
364. A funds flow statement is also known as
a. Balance sheet
b. Profit and loss statement
c. Income statement
d. Proforma statement
e. Statement for the changes in financial position.
64

70. Part I
Leverage
365. Degree of total leverage can be applied in measuring change in
a. EBIT to a percentage change in quantity
b. EPS to a percentage change in EBIT
c. EPS to a percentage change in quantity
d. DFL to a percentage change in DOL
e. Quantity to a percentage change in EBIT.
366. DFL becomes zero when
a. The firm does not have to pay any tax
b. EBIT is just equal to the sum of interest and dividend components
c. The firm does not earn any operating profit
d. The interest component equals the preferred dividend
e. DFL will never become zero.
367. The firm is now operating at the BEP. Then
a. The DTL will increase if the quantity produced increases
b. The DTL will be negative if the quantity increases
c. The DTL will start decreasing as the quantity increases
d. The DTL will not be affected by quantity unless the fixed costs also change
e. The DTL at the BEP is undefined.
368. The measure of business risk is
a. Operating leverage
b. Financial leverage
c. Total leverage
d. Working capital leverage
e. Debt-equity ratio.
369. The value of EBIT at which EPS is equal to zero is known as
a. Break even point
b. Financial break even point
c. Operating break even point
d. Overall break even point
e. None of the above.
370. Which of the following is not a leverage ratio?
a. Debt-asset ratio.
b. Debt-equity ratio.
c. Debt service coverage ratio.
d. Fixed charges coverage ratio.
e. Bank finance to working capital gap ratio.
371. Degree of financial leverage is a measure of relationship between
a. EPS and EBIT
b. EBIT and quantity produced
c. EPS and quantity produced
d. EPS and sales
e. EPS and interest payment.
65

71. Financial Management
372. Operating leverage examines
a. The effect of the change in the quantity on EBIT
b. The effect of the change in EBIT on the EPS of the company
c. The effect of the change in output to the EPS of the company
d. The effect of change in EPS on the output of the company
e. The effect of change in EPS on the EBIT of the company.
373. Which of the following statements is not true?
a. Each level of EBIT has a distinct DFL.
b. DFL is undefined at financial breakeven point.
c. DFL will be negative when the EBIT level goes below the financial breakeven point.
d. DFL will be positive for all values of EBIT that are above the financial breakeven point.
e. DOL (Degree of Operating Leverage) is undefined at level of output below the financial
breakeven point.
374. Which of the following is the expression for operating leverage?
a. Contribution/EBIT.
b. EBT/Contribution.
c. Contribution/EAT.
d. Quantity/EBIT.
e. Contribution/Quantity.
375. Which of the following statements regarding Degree of Financial Leverage is false?
a. Each level of EBIT has a distinct DFL.
b. DFL is undefined at financial break-even point.
c. DFL is negative when EBIT is below financial break-even point.
d. DFL starts declining as EBIT increases.
e. With the help of DFL one can understand the impact of the change in output on EBIT of
the company.
376. Which of the following statements is true?
a. Degree of Total Leverage (DTL) measures the changes in EPS to a unit percentage
change in EBIT.
b. DTL measures the total risk of the company.
c. DTL measures the variability of EBIT for a given error in forecasting the total quantity sold.
d. The sum of operating and financial leverage is called total leverage.
e. The DTL is equal to one at the overall break-even point of output.
377. If the degree of operating leverage is 2 and the degree of financial leverage is 1.5, it means that
a. 1% change in sales will result in 1.5 percent change in EBIT
b. 1% change in EBIT will result in 2% change in EPS
c. 1% change in EPS will be caused by 3.5% change in sales
d. 1% change in EPS will be caused by 3% change in EBIT
e. 1% change in sales will result in 3% change in EPS.
378. If DOL represents degree of operating leverage and DFL represents degree of financial
leverage, degree of total leverage can be defined as
a. DOL + DFL
b. DOL – DFL
c. DOL × DFL
d. DOL/DFL
e. None of the above.
66

72. Part I
379. Which of the following statements is false about financial leverage?
a. It measures the effect of change in EBIT on the EPS.
b. Each level of EBIT has a distinct DFL.
c. At financial break even point DFL is zero.
d. If EBIT is less than the financial break even point, DFL will be negative.
e. If EBIT is more than the financial break even point, DFL will be positive.
380. Which of the following statements is true if the Degree of Financial Leverage (DFL) of a firm
is zero?
a. The firm does not pay preference dividend.
b. The firm does not pay taxes.
c. The firm does not pay interest.
d. The EBIT of the firm is zero.
e. None of the above.
381. Which of the following is/are true regarding the Degree of Operating Leverage (DOL)?
a. Each level of output has a unique DOL.
b. DOL is undefined at operating break even point.
c. DOL is positive beyond the operating break even point.
d. Both (a) and (b) above.
e. All of (a), (b) and (c) above.
382. If we observe the behavior of DOL, in general, we find the following
a. Unique DOL for each level of output.
b. DOL is well defined at operating break even point.
c. DOL is positive beyond the operating break even point.
d. Both (a) and (b) above.
e. Both (a) and (c) above.
383. Operating Leverage is the response of changes in
a. EBIT to the changes in sales
b. EBIT to the changes in selling price
c. EPS to the changes in EBIT
d. Production to the changes in sales
e. None of the above.
384. Operating Leverage
a. Exists because of the presence of fixed expenses like interest payments
b. Measures the responsiveness of earnings per share to variability in earnings before
interest and taxes
c. Is undefined at the operating break even point
d. All of the above
e. None of the above.
385. The operating break even point
a. Is that point below which the degree of financial leverage is negative
b. Is that quantity produced and sold at which the profit after tax is zero
c. Is that value of earnings before interest and taxes at which earnings per share is zero
d. Is that quantity produced and sold at which the profit before interest and taxes is zero
e. Both (a) and (d) above.
67

73. Financial Management
386. The use of preference share capital as against debt finance
a. Reduces DFL
b. Increases DFL
c. Increases financial risk
d. Has no effect on either financial risk or financial leverage
e. Both (a) and (c) above.
387. Which of the following is true of the Degree of Operating Leverage (DOL)?
a. DOL is negative beyond the operating break even point, implying that an increase in the
quantity sold leads to a decrease in EBIT.
b. DOL is positive beyond the operating break even point and as the level of quantity
increases, DOL will also increase.
c. DOL is undefined at the operating break even point.
d. All of the above.
e. Both (b) and (c) above.
388. When the firm changes the technology leading to increase in fixed costs, it
a. Increases DOL
b. Decreases DOL
c. Decrease operating break even point
d. Loses all abandonment value
e. Decreases DFL.
389. The Degree of Financial Leverage (DFL)
a. Measures financial risk of the firm
b. Is zero at financial break even point
c. Increases as EBIT increases
d. Is undefined below financial break even point level
e. Both (a) and (d) above.
390. Operating leverage measures the sensitivity of the ____________ to changes in quantity.
a. Earnings per share
b. Profit after tax
c. Earnings before interest and taxes
d. Profit before tax
e. Dividend per share.
391. If Degree of Financial Leverage (DFL) becomes zero, then
a. The firm does not pay preference dividend
b. The firm does not pay taxes
c. The firm does not pay interest
d. The firm does not earn any operating profit
e. Both (b) and (d) above.
392. The degree of operating leverage below the operating break even point will be
a. 1
b. 0
c. Less than zero
d. Either (b) or (c)
e. Undefined.
68

74. Part I
393. If the output is less than the operating break-even point, then the degree of operating leverage
will be
a. Greater than 1
b. Less than –1
c. Equal to Zero
d. Less than Zero
e. None of the above.
394. Which of the following is true with regard to the Degree of Operating Leverage (DOL) for a
company?
a. Irrespective of the level of output, DOL of a company remains same.
b. DOL of a company is positive above the operating break-even point.
c. DOL of a company is positive below the operating break-even point.
d. DOL of a company is negative above the operating break-even point.
e. DOL is zero at the operating break-even point.
395. Which of the following is true with regard to the Degree of Financial Leverage (DFL)?
a. DFL helps to measure the business risk of any corporate entity.
b. DFL can be used to analyze the implications of retiring debts by using the proceeds of
preference capital.
c. DFL is applied by a corporate house for its production and sales planning.
d. DFL is used to estimate the revised EPS following a change in sales volume.
e. DFL is used assess the change in EBIT owing to any change in sales volume.
396. At operating break-even point, which of the following is true?
a. Sales revenue just covers the fixed cost.
b. Sales revenue is just equal to the variable cost.
c. Fixed cost is same as that of the variable cost.
d. EBIT is zero.
e. EBIT is positive.
397. Other things remain the same, what will be the impact on the Degree of Operating Leverage
(DOL) of a firm, if it issues equity shares in lieu of debentures?
a. DOL will increase.
b. DOL will decrease.
c. DOL will remain the same.
d. DOL will become zero.
e. Cannot be predicted.
398. Which of the following results from the early repayment of the debenture capital by a firm?
a. The degree of operating leverage increases.
b. The degree of operating leverage decreases.
c. The degree of financial leverage increases.
d. The degree of financial leverage decreases.
e. The degree of total leverage remains unchanged.
69

75. Financial Management
399. If the degree of total leverage of a firm is zero, then which of the following statements will
always be valid?
a. The firm does not produce and sale any output.
b. The firm does not have any interest burden in a strict sense.
c. The firm has never issued any preference share.
d. The firm does not bear any fixed cost burden.
e. The contribution is zero.
400. Which of the following is true with respect to the Degree of Operating Leverage (DOL)?
a. DOL is same for any level of output of the firm.
b. DOL is well defined at the operating break-even point.
c. DOL measures the business risk of a company.
d. DOL assesses the impact on the profitability of the company against the changes in the
interest rate.
e. Using the concept of DOL, one may judge the possibility of committing default by a
company with respect to the payment of interest.
401. If a company appoints a number of skilled managers with a very high amount of
compensation package, which of the following conditions may occur immediately after the
appointment?
a. The operating break-even point of the company will come down.
b. The company will be able to reach the financial break-even point easily.
c. The degree of operating leverage will be zero.
d. The degree of total leverage will reduce to zero.
e. The degree of total leverage will increase.
402. What will be impact on the operating leverage of a firm, if it proceeds for additional borrowings?
a. It will increase.
b. It will decrease.
c. It will remain unchanged.
d. It will increase or decrease depends on the cost of borrowings.
e. Cannot be analyzed.
Financial Forecasting
403. The major assumption in trend analysis via extrapolation is
a. The erratic movements which occurred in the previous years will reoccur in the coming years
b. Sales for the coming period will increase by the average growth rate of the concerned
industry
c. Sales for the coming period will change to the same degree as sales changed from the
prior period to the current period
d. Sales in the coming period will increase by the general economic growth rate, after
adjusting for the erratic events
e. Both (a) and (c) above.
404. Sustainable growth rate refers to the rate
a. Which can be maintained without resorting to external finance
b. The firm uses for its internal purposes like project appraisal, etc.
c. Which can be maintained only with external borrowing
d. By which the firm expects its sales to increase in the coming years
e. By which the assets of the firm have been increasing in the past several years.
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76. Part I
405. The credit extended by the suppliers of goods and services is
a. Long-term sources of finance
b. Short-term sources of finance
c. Spontaneous source of finance
d. Both (a) and (c) above
e. Both (b) and (c) above.
406. The starting point of the financial forecasting exercise is the
a. Sales forecast
b. Forecast of labor cost
c. Forecast of material cost
d. Forecast of operating expenses
e. Cash flow statement.
407. The percent of sales method of financial forecasting assumes that
a. The future relationship between the manufacturing costs only and sales will be similar
to their historical relationship
b. The future relationship between the selling and administrative costs only and sales will
be similar to their historical relationships
c. All the cost elements change by the same percentage as the change in sales
d. All the cost elements will bear the same relationship with sales as in the past
e. Only the variable cost elements will bear the same relationship with sales as in the past.
408. The starting point in the preparation of pro forma income statement is the projection of
a. The amount of sales for the next year
b. The amount of raw material to be purchased in the next year
c. The quantum of product to be manufactured in the next year
d. Anticipated EPS for the next year
e. None of the above.
409. Which of the following is not an objective method of sales forecasting?
a. Sales force estimates.
b. Extrapolation and trend analysis.
c. Regression analysis.
d. Sustainable growth rate.
e. None of the above.
410. Which of the following is/are objective method(s) of sales forecasting?
a. Jury of executive opinion.
b. Sales force estimate.
c. Market survey.
d. Regression analysis.
e. Both (b) and (d) above.
411. Given that all the other factors are constant, the external funds requirement is
a. Directly related to growth rate of sales
b. Inversely related to growth rate of sales
c. Inversely related to dividend pay-out ratio
d. Directly related to net profit margin ratio
e. Cannot be determined with certainty.
71

77. Financial Management
412. The basic assumption in percent of sales method for preparation of pro forma income statement is
a. Similar relationship between future costs and sales to their historical relationship exists
b. Cost elements are unchanged
c. Sales increase by ten percent
d. Both (a) and (b) above
e. Both (b) and (c) above.
413. Which of the following methods is preferred to prepare pro forma income statement?
a. Percent of sales method.
b. Budgeted expense method.
c. Combination of above two methods.
d. Time series projection method.
e. None of the above.
414. Which of the following is not a subjective model of sales forecasting?
a. Trend analysis.
b. Sales force estimates.
c. Regression analysis.
d. (a) and (c) only.
e. All of (a), (b) and (c) above.
415. Growth with internal equity will increase with the
a. Increase in debt ratio
b. Decrease in dividend pay-out ratio
c. Decrease in profit margin
d. Increase in assets to sales ratio
e. Both (a) and (d) above.
416. The growth rate of sales that can be sustained by a firm without raising external equity
increases with
a. An increase in net profit margin
b. A decrease in the debt to equity ratio
c. A decrease in the retention ratio
d. An increase in the assets to sales ratio
e. Both (a) and (d) above.
417. Which of the following is not an assumption for estimating the sustainable growth rate?
a. The assets of the firm will increase proportionately with the increase in sales .
b. The company will maintain the same capital structure.
c. The profitability of the company will remain same.
d. The company will pay the same amount of dividend.
e. None of the above.
418. While preparing proforma financial statement by using budgeted expense method,
a. The method of extrapolation is applied to assess the total expenses of the company in
proportion to increase in sales
b. The items related to various expenses are projected on the basis of the anticipated changes
c. The future cost-sales ratio is assumed to be prevailed as per historical relationship
d. A regression equation may be framed to project the costs during the future years
e. All the expenses are increased by a fixed percentage.
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78. Part I
419. Which of the following is/are subjective method(s) of sales forecasting?
a. Jury of executive opinion.
b. Sales force estimate.
c. Regression Method.
d. Time Series Projection Method.
e. Both (a) and (b) above.
420. Calculate the DTIL from the following information
Quantity sold = 6,000 Units
S.P/Unit = Rs.500
Variable Cost/unit = Rs.200
Fixed Expenses = Rs.8,00,000
Interest = Rs.80,000
Preference Dividend = Rs.60,000
Tax rate = 40%
a. 2.119
b. 3.416
c. 2.195
d. 2.519
e. 2.159.
421. In relation to the preparation of the proforma income statement by using budgeted expense
method,
a. The future relationship between various costs to sales is assumed to follow historical
relationship
b. The estimation of the various items are made on the basis of the expected developments
c. A extrapolation using trend analysis is always made to assess the total expenses of the
company
d. A regression equation is always modeled to project the amount of future expenses
e. None of the above.
73

79. Part I: Answers on Basic Concepts (with Explanatory Notes)
Introduction to Financial Management
1. (c) The financial goal of any firm including public sector firms is to maximize the wealth of
the shareholders by maximizing the value of the firm.
2. (e) Ensuring discipline in the organization is a function of human resource management.
3. (d) The objective of a finance manager will be to maximize the wealth of the owners by
increasing the value of the firm which is reflected in the Earnings Per Share (EPS) of the firm
and the market price of the shares. He does not manipulate the share price of the company.
4. (e) Decision making in order to achieve the objectives in all areas of management including
financial management involves the balancing of the trade-off between risk and return.
5. (c) Analysis of variance between the targeted costs and the actual costs incurred is related to
‘control’ because it helps management to take timely corrective action to ensure the planned
results are achieved.
6. (c) According to Section 3(1)(iii) of Companies Act, 1956 the minimum number of persons
required to form a private and public limited company are 2 and 7.
7. (d) The advantages of sole proprietorship are (i) easy and inexpensive set up. (ii) Few
governmental regulations and (iii) no firm tax.
8. (d) Partnership firm is a business owned by two or more persons. They are partners in
business and they bear the risks and reap the rewards of the business. A partnership firm is
governed by the Indian Partnership Act, 1932. Hence it is relatively free from governmental
regulations as compared to the joint stock companies.
9. (c) The objective of financial management is to increase the wealth of the owners by
increasing the value of the firm, which is reflected in the EPS of the firm and the market
price of the shares.
10. (e) An optimal capital structure can satisfy the return expectations of the stakeholders at a
lower cost that will result in share price of the company to a healthier one. It is a financing
decision. While the cases mentioned in the other alternatives are the investment decisions as
these may bring return to the company over a period of time.
11. (a) The amount that a company can realize if it sells its business as an operating one is called
going concern value. Replacement value indicates the value that a company would be
required to spend if it were to replace its existing assets in the present situation. Liquidation
value is the amount that a company could realize by selling its assets following the
termination of its business. Market value of an asset is the current market price at which it
may be sold or bought in the market.
12. (b) The liquidity function of the financial system facilitates conversion of investment in stocks,
bonds etc., into money. Savings function leads to the flow of savings from the savers to the
consumers of an economy while payment function facilitates the payment of dues in an easy
and convenient way. Risk function provides the required tools for the protection against life,
health and income risks whereas policy function enables the regulating authorities of a country
to take suitable policy measures to influence the policy variables in the macro-economy.
13. (b) According to the objective of financial management to increase the wealth of the
shareholders means to increase in the market value of the shares issued by the firm. Increasing
the physical assets or current assets of the company may not provide adequate returns to the
shareholders, if it is done through incremental borrowing. Increasing cash balance imparts more
liquidity to a company but decreases the returns on investments. Increase in the total number of
outstanding shares of the company does not make any impact on the total value of the firm.
14. (e) All the functions as specified in the given options are the salient functions of a finance manager.
Indian Financial System
15. (e) Financial assets represent a claim to the payment of a sum of money sometime in the
future and/or periodic payment in the form of interest or dividend.
16. (e) The call money loans are of short-term in nature with maturity period of 1-15 days. Any
amount can be lent or borrowed at a convenient interest rate, which is acceptable to both the
borrower and the lender. These loans are highly liquid, as they are repayable on demand.

80. Part I
17. (d) The National housing bank is set up in July, 1988 as an apex level housing finance
institution as a wholly owned subsidiary of the RBI.
18. (a) Single window lending refers to an arrangement by which the lead bank in a consortium
of banks releases the initial requirements of the borrower and also takes documentation on
behalf of all the banks.
19. (b) Commercial paper is an unsecured, short-term promissory note issued mainly by
companies, mostly on the discount basis whereas certificate of deposit is a title to a time
deposit with a commercial bank, which can be negotiated. All the scheduled banks, other
than regional rural banks and scheduled co-operative banks are eligible to issue CDs.
20. (d) The money that is lent for one day in call money market is known as call money and if it
exceeds one day (but less than 15 days) is referred as notice money.
21. (e) Gilt-edged securities are securities issued by the Government of a country for which
repayments of principal as well as interest are totally secured, being first charge on the
nation’s purse.
22. (a) DFHI was established as a company under the Companies Act 1956, to provide liquidity
to money market instruments by creating a secondary market where they can be traded.
23. (c) Issue management is a function related to issue of securities and does not involve any
fund-based activity.
24. (a) The minimum maturity period for a certificate of deposit is 15 days.
25. (b) Statutory Liquidity Ratio is the percentage of reserves banks are required to maintain
specified reserves in the form of government securities, specified bonds and approved
securities.
26. (c) Public debt in the economy is being managed by RBI.
27. (c) In a bought out deal a company, initially places its equity shares, with a sponsor/
merchant banker who in turn offloads the shares at the appropriate time, by offering to the
public at a later date. Bought out deals come to the rescue of promoters of small projects.
28. (c) The Volume of trading is more than that of BSE.
29. (d) There is a fairy large secondary market for PSU bonds. The market lot for PSU bonds for
the purposes of trading is a minimum of Rs.5 crore. Such investments come under approved
investments.
30. (b) In unit banking system, the bank conducts its overall operations from a single office.
31. (d) The functions performed by a financial system are savings function, payment function,
liquidity function, risk function and policy function.
32. (c) The maturity period for the certificate of deposits issued by a bank is not less than 15 days
and not more than 12 months.
33. (a)Limit order is an order fixed by a fixed price. It may or may not include brokerage.
34. (d) Securities issued by the central Government are usually referred to as `gilt-edged’
securities as repayments of principal as well interest are totally secured, being first charge on
the nation’s purse.
35. (e) Long dated Government securities have maturities exceeding 10 years from the issue date,
medium dated securities have maturities ranging from 5-10 years.
36. (a) There are 5 types of T-bills based on the maturities. 14 days, 28 days, 91 days, 182 days,
364 days. However, at present (since May, 2001) there are only two types of treasury bills
issued by the government, 91 days and 364 days.
37. (d) Presently, in the secondary capital market, delivery and payment has to take place within
two days from the date of contract.
38. (b) Primary market creates long-term instruments through which corporate entities borrow
from capital markets. Companies in order to meet the financial requirements of its projects
raise capital through issue of securities in the primary market.
39. (d) According to Section 3 of Companies Act, 1956 the min and max members permissible in
a private company are 2 and 50 respectively.
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81. Financial Management
40. (e) Banks borrow in call money market to:
i. Fill the temporary gaps, or mismatches that arise, as the banks normally lend out
the deposits they mobilize.
ii. Meet the cash reserve ratio requirements, which they should maintain with the RBI.
iii. Meet sudden demand for funds, which may arise due to large payments and
remittances.
41. (a) Commercial papers are short-term, unsecured promissory notes issued at a discount to
face value by well-known companies that are financially strong and carry a high credit rating.
42. (c) Debentures are long-term instruments which are issued in the capital markets.
43. (b) Private placement market financing is a direct sale by a public limited company or a
private limited company of its securities to a limited number of sophisticated investors like
UTI, LIC, GIC, etc., through investment bankers. Private placement can be made out of
promoter’s quota but it cannot be made with unrelated investors.
44. (d) In stop loss order a particular limit is given for sustenance of loss. If the price falls below
that, broker is authorized to sell immediately to stop further occurrence of losses.
45. (b) The minimum amount to be invested by a single investor is Rs.5 lakh in a commercial paper.
46. (b) Bonus shares are shares issued by companies to their existing shareholders in the ratio of
existing shares from profits in lieu of dividends. The shareholders do not have to make any
additional payment for these shares.
47. (e) When the client does not fix any time or price limit for execution of order, it is called an
open order.
48. (e) CDs are issued in multiples of 1 lakh subject to the minimum size of each issue of
Rs.5 lakh.
49. (c) Bonus shares are shares issued by companies to their existing shareholders in the ratio of
existing shares from profits in lieu of dividends. The shareholders do not have to make any
additional payment for these shares.
50. (e) All the given alternatives are major categories of investors in primary market of
government securities.
51. (a) Savings deposits, demand and time deposits from other banks and refinance from
NABARD liabilities of a bank as the bank owes to somebody.
52. (e) The National housing bank is set up in July, 1988 as an apex level housing finance
institution as a wholly owned subsidiary of the RBI. It extends refinance to all the above.
53. (a) As per the new guidelines on money market mutual funds, the minimum lock-in period is
reduced to nil from 15 days (earlier 30 days).
54. (a) Call money, Treasury bills, Commercial paper, Certificates of deposits are all money market
instruments where the function of money markets is to channel savings into short-term productive
investments like working capital. A corporate debenture is a capital market instrument.
55. (b) Commercial papers are issued in multiples of 5 lakh.
56. (d) In a bought out deal a company, initially places its equity shares, which are offered to the
public at a later date to a sponsor/ merchant banker who in turn offloads the shares at the
appropriate time. Bought out deals come to the rescue of promoters of small projects. They
cannot be bought back by the company.
57. (d) As per the latest guidelines, if any private or public sector company wants to raise money
through CP market, its fund based working capital limit should not be less than 4 crore, and
tangible net worth not less than 4 crore as the latest audited statement.
58. (d) In a bought out deal a company, initially places its equity shares, which are offered to the
public at a later date to a sponsor/ merchant banker who in turn offloads the shares at the
appropriate time. Bought out deals come to the rescue of promoters of small projects.
59. (d) Financial asset represents a claim to the payment of a sum of money sometime in the
future/or periodic payment in the form of interest. Bullion is not a financial asset as it does
not meet the above requirements.
60. (c) IDBI finances industries directly and also support State Financial Corporations and State
Industrial Development corporations by providing refinance and through the bills
rediscounting scheme.
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82. Part I
61. (d) Cash credits and overdrafts are running accounts, from which the borrower can withdraw
funds as and when needed up to a credit limit sanctioned by his banker. Cash credit is given
against the security of commodity stocks, OD’s are allowed on personal or on joint current
accounts.
62. (c) Convertible debenture is a capital market instrument.
63. (b) No prior approval of RBI is needed for CP issues; minimum size of CP issue is 5 lakh.
CP’s are purely unsecured as they are backed by the credit of the issuing company; they are
issued in multiples of 5 lakhs. Underwriting of CP is not mandatory.
64. (e) The call money market forms a part of the national money market, where day-to-day
surplus funds, mostly of banks are traded.
65. (b) Treasury bills are short-term instruments issued by the government to tide over short-term
liquidity shortfalls. The RBI acts as an agent for issuing the T-bills and it issues them either
by tender or by tap.
66. (a) CRISIL is a rating agency, which rates equity, debentures and fixed deposits. Equity
rating has not picked up in India.
67. (e) Call loans, Commercial papers, Certificates of deposits, Treasury bills are all short-term
money market instruments.
68. (b) Direct assistance is provided All India financial institutions by subscribing to the
company’s shares.
69. (b) The Industrial Development bank of India is an apex financial institution to coordinate the
functioning of all other financial institutions.
70. (d) Options (a) to (c) were objectives of Nationalization of Banks but not option (d).
71. (c) As per the guidelines laid by the RBI a private bank will be governed by the provisions of
RBI Act, 1934, and the banking regulation Act, 1949 and other relevant statutes.
72. (e) All the given alternatives are reasons for low profitability of commercial banks.
73. (e) Securities issued by the Central Government are called Gilt-edged securities.
74. (c) The RBI fixes interest rates in the organized sector, based on the market.
75. (a) CDs are freely transferable by endorsement on delivery, they are issued at discount rate
freely determined by the issuing bank and the market, or carry a coupon rate, they are issued
by scheduled banks excluding RRB’s, they have fixed maturity ranging from 15 days to
1 year for banks 1-3 years for financial institutions and they have no secondary market.
76. (a) A deep discount bond does not carry any coupon rate but is issued at a steep discount over
its face value. It is also referred to zero coupon bond. The Industrial Development Bank of
India issued deep discount bonds in 1996 which have a face value of Rs.2 lakh and a maturity
period of 25 years. The bonds were issued at Rs.5,300.
77. (e) The changes in the banking structure through nationalization has resulted in all the above.
78. (d) The financial institution provides indirect financial assistance to industrial units by
providing underwriting facility, guarantee for foreign currency loans, guarantee for deferred
payment, etc.
79. (b) Money market deals with short-term instruments with the objective of meeting the
working capital requirements. Certificate of deposit is a money market instrument.
80. (b) Investing in real assets with positive net present values is an optimum decision in well
developed capital markets.
81. (b) Money market deals with all transactions in short-term instruments with a period of
maturity of one year or less whereas capital markets deal market deals with transactions
related to long-term instruments with a period of maturity of above one year.
82. (e) The role of underwriters is restricted to only the primary market.
83. (a) Call money market is a very short-term market with maturity period ranging from 1-15 days.
84. (e) As per the latest audited statement corporates, primary dealers, satellite dealers and all
India Financial Institutions are eligible to issue commercial paper. The minimum net worth
required is Rs.4 crore, the minimum credit rating is P-2 and there is no maximum discount
rate prescribed.
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83. Financial Management
85. (a) There are 5 types of T-bills based on the maturities. 14 days, 28 days, 91 days, 182 days, 364
days. However, only 91 days and 364 days treasury bills are issued in India since May, 2001.
86. (c) The interest rate on call loan is largely subjected to be influenced by the forces of supply
and demand for funds. The money that is lent for one day in call money market but not for
more than 15 days is referred as notice money.
87. (c) In a bought out deal a company initially places its equity shares, which are to be offered
to the public at a later date, to the sponsor / merchant banker, who in turn offloads the shares
at the appropriate time. A company proposing to place its securities through this route can
price its securities to reflect the intrinsic value.
88. (e) The maximum number of persons can form a private limited company are 50.
89. (a) Merchant banks are generally engaged in several services like, management, underwriting
and marketing of new issues; project promotion services and project finance; syndication of
credit and other facilities; leasing including project leasing; corporate advisory services; etc.
These services are generally not useful for the retail investors. While the other entities as
mentioned in the other alternatives generally deal with the retail investors for raising funds
from them as well as for lending to them.
90. (d) A term deposit made by a depositor is held for a specific term or maturity with a bank as
mutually agreed by both the parties; it is not marketable. All other instruments as mentioned
in the other alternatives are marketable instruments in the money market.
91. (a) Primary capital markets help in the creation of new long term securities. These long term
securities are issued by the companies to raises funds for meet their long term financing
requirements. It neither helps for trading with the outstanding long term as well as the short
term securities. But it allows the FII to invest in the Indian capital markets.
92. (e) In rights issue as well as bonus issue, new securities are offered to the existing
shareholders of the company on the ratio of existing shares held by the investors i.e. on a pro
rata basis. But in public issue, the shares are directly issued to the general public while in
private placement; the securities are issued to few selected entities as decided by the
management of the company.
93. (e) Since, in a bought-out-deal, the shares are initially offered to the sponsor and the sponsor
has the discretion to offload the shares to the public at an appropriate time in future as per the
discretion of the sponsor. The sponsor may exploit the situation where the promoter of the
company may be in the dire need for funds by offering a substantially low price and may also
misuse its discretion to divest the shares in favor of the public. All these facts may affect the
interests of the promoters of the company. The points as stated in the other options are not
correct with respect to bought out deals.
94. (b) Venture capital funding companies generally provide risk capital to the technology
oriented and high risk business entities. Lease finance companies allows their customers to
use the capital as per the terms of the leases while hire purchase companies allows their
clients to procure the capital assets against the payment of the regular hire rentals.
Commercial banks are engaged in the business of raising funds mainly through deposits and
lending the same while insurance companies undertake the pure risks of their clients against
the payment of the upfront premium.
95. (b) The characteristics of the money market instruments are the short term maturity and easy
liquidity. These are generally issued by the government – union as well as the state, Public sector
enterprises, banks and financial institutions, reputed corporate entities from the public sector as
well as the private sector, etc. The CPs issued by the private companies are not at all secure one.
96. (d) The volatility in the call money market increases with the reduction of the liquidity in the
market. It generally comes down with the following reasons:
• Increase in Cash Reserve Ratio (CRR)
• Larger amount borrowed by several borrowers following an increase in demand for the
loanable funds
• Withdrawal of funds by the banks and financial institutions suddenly to meet their
respective corporate requirements
Payment of a large amount of advance taxes by the banks and FIs will lead to the reduction in
liquidity in the system thereby increases the volatility in the call money market. Hence, the
option (d) is the answer.
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84. Part I
97. (d) The options (a) and (b) represent the acts of hedgers who are interested to minimize their
risk in a volatile market. The option (c) represents the act of the speculators who wants to
make profits from the price movements in a volatile market through speculation. The option
(d) represents the act of the arbitrageurs who take the opportunity of improper pricing in
different markets and imparts a better efficiency in the system.
98. (a) A public limited company is said to be in a significant advantage owing to its limited
liability. If the company turned to an insolvent one, the members don’t have any further
liability to bail out whereas in a proprietorship firm, the liability of the owner is unlimited.
However, for a public limited company, the ownership can be easily transferred and
resources can be mobilized with a unlimited life. But for a proprietorship company, these
advantages are not available to a proprietorship company
99. (c) Inter Corporate deposits are not traded in the market. The instruments as mentioned in the
other options are traded in the respective financial markets.
100. (a) Primary market allows the corporate houses to raise long term funds by issuing new
securities like, shares – equity and preference as well as debentures. The venture capital
funding companies generally dilute their stakes in a company by selling their holdings in any
company to the investors through secondary capital market route.
101. (a) Financial Intermediation function encourages the household sector to save money through
the various channels in the financial system like, banks, insurance companies, capital
markets, etc. These funds are ultimately channelised to the productive sector that needs
money. The other functions do not play any role in this context.
102. (d) The long term financial instruments – equity shares, preference shares and debts - are
traded in the secondary market that have been issued earlier. Primary capital market allows
the corporate houses to raise the long term capital by issuing new securities. Money market
and forex market deal with the short term debt instruments and the transactions related to the
foreign exchange respectively. So, the option (d) is the answer.
103. (e) All of (a), (b) and (c) are included in the regulatory framework.
104. (e) The word “Gilt edged securities” signifies the government securities that can be issued
only by the government – central as well as state.
105. (e) Long dated government securities have maturities ranging from 10 to 30 years
106. (d) In a private limited company, the maximum number of members is limited to 50 only.
107. (a) Foreign Exchange Regulation Act, 1973 has been replaced by Foreign Exchange Management
Act, 2000 in order to facilitate the external trade and payments as well as to promote an orderly
maintenance of the foreign exchange market in India. So, the option (a) is correct.
Time Value of Money
108. (d) The future value of a single cash flow compounded annually is given as FV = PV (1 + k)n
and the present value of a sum (FVn) receivable after n years at a rate of interest k is given as
PV = FVn/(1+ k)n . Hence present value interest factor is the reciprocal of future value
interest factor.
Capital recovers factor
1 k k (1+ k) n 1
FVIF x = (1 + k)n x = =
PVIFA (1+ k) n − 1 (1+ k) n − 1 PVIFA
109. (a)
1
PVIF =
(1+ k) n
FVIF = (1 + k)n
⎡ (1+ k) n − 1 ⎤
FVIFA = ⎢ ⎥
⎣ k ⎦
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85. Financial Management
⎡ (1+ k)n ⎤
CRF = ⎢ ⎥
⎣ (1+ k) − 1 ⎦
n
1 ⎡ (1+ k) n − 1 ⎤ k(1 + k) n
Product of the above x (1+ k) n x ⎢ ⎥x
(1+ k) n ⎦ (1+ k) −1
n
⎣ k
= (1 + k)n = FVIF.
110. (b) Nominal or market rate of interest = Real rate of interest + Expected rate of inflation +
Risk premiums to compensate for uncertainty.
111. (a) The accurate doubling period n given a rate of return R, of an amount A will be
n
A x FVIF (r, n) = 2A = (1 + R) = 2.
112. (e) Sinking fund represents the amount that has to be invested at the end of every year for a
period of n years at the rate of interest k, in order to accumulate Re.1 at the end of the period.
n
It is given by k/(1 + k) – 1.
113. (d) The generalized for shorter compounding periods is given as
mxn
FVn = PV (1 + k/m)
Where,
FVn = future value after n years
PV = cash flow today
k = nominal rate of interest
m = number of times compounding is done during a year
n = number of years for which compounding is done
114. (a) Manipulating the relation between PVAn, A, k and n we get the equation:
n n
A = PVAn {k (1 + k) / (1 + k) – 1}
n
Where {k (1 + k) /(1 + k) n – 1} is known as the capital recovery factor.
115. (c) Capital recovery factor is the inverse is PVIFA.
116. (d) Effective rate of interest is the rate of interest per annum under annual compounding that
produces the same result.
117. (d) When an investment pays only simple interest, it means that interest is paid only on the
original investment as simple interest is calculated as a percentage of rate of interest on the
original amount.
118. (d) Cash flows obtained in various periods can be compared only after discounting each one
to a common date.
119. (c) The expression k / (1 + k)n – 1 is called the sinking fund factor which is the reciprocal of
the future value interest factor annuity.
120. (e) The present value of annuity A receivable at the end of every year for a period of n years
at a rate of interest k is equal to
PVAn = A x PVIFA k, n
Where, PVIFA is called the present value interest factor annuity and is given as
n n
{(1 + k ) – 1/ k ( 1 +k ) }.
FVIFA (1 + k) n −1 1
= x = PVIFA
FVIF k (1 + k) n
(1 + k) n − 1 1 (1 + k) n − 1
FVIFA x PVIF = x = = PVIFA
k (1 + k)n k (1 + k)n
FVIFA x PVIF = PVIFA
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86. Part I
121. (c) The general relationship between effective and nominal rate of interest is given by
m
r = (1 + k/m) –1
Where,
r = effective rate of interest
k = nominal rate of interest
m = frequency of compounding per year
Hence effective interest rate is always more than or equal to nominal interest rate.
122. (e) Money has time value because in an inflationary period, a rupee today has a higher
purchasing power than a rupee in the future, money can be employed productively to
generate real returns and since future is characterized by uncertainty, individuals prefer
current consumption to future consumption.
123. (e) Only ‘e’ is correct. For alternatives (b), (c) and (d), the effective result is ‘a’, where ‘a’ is
the amount.
124. (d) The present value of cash flow stream of any periodicity can be calculated by using
PVIFA tables.
125. (c) The present value interest factor for annuity is equal to the product of the future value
interest factor for annuity and the present value interest factor.
126 (d) The general relationship between effective and nominal rate of interest is given by
m
r = (1 + k/m) –1
Where,
r = effective rate of interest
k = nominal rate of interest
m = frequency of compounding per year
With an increase in m the effective rate of interest increases but at a decreasing rate.
127. (b) Sinking fund represents the amount that has to be invested at the end of every year for a
period of n years at the rate of interest k, in order to accumulate Re.1 at the end of the period.
128. (d) (i) The inverse of FVIFA is sinking fund factor.
Therefore (i) is false
1 (1+ k) n − 1
= x
(1+ k) n k
(1+ k) n − 1
= = PVIFA
k(1+ k) n
Therefore (ii) is true.
value of perpetuity
(iii) PV of perpetuity = .
interest rate
Hence it is not infinity. Therefore (iii) is false.
129. (d) Nominal or market rate of interest = Real rate of interest + Expected rate of inflation + Risk
premiums to compensate for uncertainty.
130. (c) When compounding is done more than once in a year the effective rate of interest is
greater than the nominal rate of interest.
131. (e) The doubling period is the time taken for the amount invested to be doubled for a given
rate of interest. The doubling period can be calculated approximately by using rule of 72
according to which doubling period is 72/rate of interest or by using rule of 69 according to
which doubling period is 0.35 + 69/rate of interest.
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87. Financial Management
132. (a)
1 1
PVIF = n
=
(1+ k) FVIF
(1+ k) n − 1
FVIFA =
k
1
PVIF =
(1+ k)n
1 k
x PVIF = x (1+ k) n
FVIFA (1+ k) −1
n
k(1+ k) n 1
= =
(1+ k) n − 1 PVIFA
(1+ k) n − 1 1
PVIFA = ×
k (1+ k) n
PVIFA is product of FVIFA and PVIF.
Inverse of capital recovery factor is PVIFA, and inverse of IVIFA is sinking fund.
Therefore only (b), (c) and (d) are false. (a) is true.
133. (b) The general relationship between effective and nominal rate of interest is given by
m
r = (1+ i/m) – 1
where,
r = effective rate of interest
i = nominal rate of interest
m = frequency of compounding per year.
134. (c) The general relationship between effective and nominal rate of interest is given by
m
r = (1 + k/m) – 1
where,
r = effective rate of interest
k = nominal rate of interest
m = frequency of compounding per year
When compounding is done twice a year
2
r = (1 + k/2) – 1.
1
135. (d) FVIF = (1 + k)n =
PVF
(1+ k) n − 1
PVIFA =
k(1+ k) n
(1+ k) n − 1
FVIF x PVIFA = = FVIFA
k
only (a) and (b) are true.
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88. Part I
136. (e) Individual preference of present consumption to future consumption, gradually decreasing
purchasing power of money, uncertainty of the future and the possibility of the productive
deployment of money to generate real returns in future are the factors behind the time value of
money. Hence, the alternatives (c) and (d) both are correct and so the option (e) is the answer.
137. (e) For the calculation of the present value interest factor of an annuity (PVIFA), it is
assumed that the cash flow will occur at the end of the period under consideration. PVIFA is
also reciprocal to the capital recovery factor. Hence, the option (e) is the correct one.
138. (d) Being a legal tender and having the government guarantee do not have any role in relation
to the time value of money. The purchasing power of money gradually decreases due to
inflation and so the individuals prefer to spend money, rather than saving the same without
any suitable incentives. But money may be productively invested to generate higher returns
in future. Hence the option (d) is the correct one.
Risk and Return
139. (b) β measures the relative risk associated with any individual portfolio as measured in
relation to the risk of the market portfolio. It is the measure of non-diversifiable or systematic
risk of an asset relative to that of the market portfolio. A risk-free stock has a β of zero.
140. (c) CAPM is based on one of the assumption that the investor is limited only by his wealth
and the price of the asset.
141. (e) The graphical representation of the CAPM models is the SML. The SML equation is given by
E (r) = Rf + βj (Rm – Rf). The SML intersects the vertical axis at the risk-free rate of return Rf
and (Rm – Rf) is the slope of the SML. When the slope of SML is zero then
Risk-free rate = Expected return and risk-free rate = Market return.
Hence all the given statements are true.
142. (e) Non-diversifiable risks are those risks which cannot be managed or reduced.
Lockout in a company due to workers demanding a wage hike and lack of strategy for the
management in a company can be managed and hence are diversifiable risks. Slump in the
industry and change in the corporate tax structure are non-diversifiable risks as they cannot
be managed or diversified.
143. (d) The amount of risk depends on (i) degree of correlation-the lower the degree of positive
correlation, the greater is the amount of risk reduction that is possible and (ii) number of
stocks in the portfolio – as the number of stocks increases, the diversifying effect of each
additional stock diminishes.
144. (d) Business risk is the risk of doing business in a particular industry or environment and
hence can be diversified.
145. (b) If a person holds a diversified portfolio the unsystematic risk is diversified, and the only
risk a security adds would be systematic risk i.e the non-diversifiable risk which is a part of
total risk from various sources like interest rate risk, inflation risk, financial risk, etc.
146. (e) Beta measures the relative risk associated with any individual portfolio as measured in
relation to the risk of the market portfolio. Hence it is a risk of diversified portfolio and is the
weighted average of individual security beta, weights being in proportions of the investments
in the respective securities.
147. (e) The equation represents the CAPM which establishes a linear relationship between the
required rate of return of a security and its systematic or undiversifiable risk or beta. Hence
all the above statements are true.
148. (e) SML intersects the vertical axis at the risk free rate of return Rf and Km – Rf, i.e., risk
premium is the slope of the SML.
149. (a) If the security’s return plots below the SML, it is said that it is overpriced and unattractive
because it is expected to produce a return lower than stock with similar betas.
150. (d) The securities with beta > 1 and plotting on the upper part of the SML are classified as
aggressive securities, and those with beta < 1 and plotting on the lower part of SML are
classified as defensive securities.
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89. Financial Management
151. (c) Operating risk is the risk of doing business in a particular industry or environment and it
gets transferred to the investors who invest in that business. Hence it is a diversifiable risk.
152. (d) Trade off between risk and return implies taking decisions in such a way which optimizes
the balance between risk and return.
153. (d) Financial risk is the risk arising from the use of debt capital and hence a specific risk factor.
154. (c) The CAPM is represented by
kj = Rf + βj (km – Rf)
Explicit measures of security risk premium is the product of beta for a particular security j
and the market risk premium Km – Rf.
Hence risk premium = β j (Km – Rf)
155. (d) A security which can be bought or sold quickly without significant price concession is
considered liquid. Hence the risk arising due to uncertainty about the time element and the
price concession in selling a security is called liquidity risk.
156. (e) Standard deviation considers every possible event and assigns each event a weight equal
to its probability. It is a very familiar concept and many calculators and computers are
programmed to calculate it. It is a measure of dispersion around the expected (or average)
value. Standard deviation is obtained as a square root of the sum of squared differences
multiplied by their probabilities. This facilitates comparison of risk as measured by standard
deviation and expected returns as both are measured in the same costs. This is why standard
deviation is preferred as a measure of risk.
157. (e) Industrial recession cannot be attributed to a specific risk factor. It is related to the general
economy. Hence is a non-diversifiable risk.
158. (e) Beta measures the relative risk associated with any individual portfolio as measured in
relation to the risk of the market portfolio. Hence it is a measure of systematic risk of a security.
159. (e) CAPM assumes that investors make their investments based on single period horizon, i.e.
the next immediate time period.
160. (a) To gain from a security it has to be bought only when the required rate of return is less
than the expected rate of return.
2
161. (a) Variance = (Standard deviation)
Hence if one portfolio’s variance exceeds another portfolio, its standard deviation will also be
greater than that of the other portfolio.
162. (a) Nominal rate of return = Real rate of return + Inflation
Hence real rates of return are typically less than nominal rates of return due to inflation.
163. (c) Nominal rate of return = Real rate of return + Inflation.
Hence when nominal rate of return is more than inflation, real rate of return is positive and when
nominal rate of return is less than inflation, real rate of return will be negative.
164. (d) Through diversification the loss arising from one security is compensated by a gain
arising from some other security. Hence the expected risk can be reduced.
165. (d) Interest rates go up with inflation as inflation is directly related to interest rates.
(106 − 97.50)
13(1 − 0.38) +
166. (d) Kd = 6 = 0.0931
106 + 97.50
2
∴ Kd% = 9.31%.
167. (c) Interest rate is directly related to inflation hence interest rates of securities tend to go up
with inflation.
168. (d) Financial risk arises from the use of debt capital or leverage used by the company. The
more the company resorts to debt financing, the greater is the financial risk.
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90. Part I
169. (d) Strike in the company is specific to the company and can be diversified.
170. (e) The CAPM model assumes that investors have single period time horizon, low transaction
costs in the market, taxes do not affect the choice of buying assets and that all investors agree
on the nature of return and risk associated with each investment. Hence all the statements
would reduce the applicability of CAPM.
171. (b) Unexpected entry of a new competitor in the market is risk specific to a particular
industry and hence diversifiable.
172. (d) Beta measures the relative risk associated with any individual portfolio as measured in
relation to the risk of the market portfolio. Hence, if a security is less than the market
portfolio, then its beta would be less than 1.
173. (e) Realized return is ex-post return, the two types of returns are realized or historical return
and expected return, the objective of any investor is to maximize his returns and minimize
risk, return is the motivating factor for an investor. The investor compensates for the
uncertainty in returns by requiring an expected return that is sufficiently high to offset the
risk or uncertainty.
174. (a) Systematic risk is non-diversifiable risk. Credit risk is diversifiable.
175. (d) The SML equation is
E(r) = Rf + βj (km – Rf)
It shows the relationship between the expected rate of return and beta.
176. (e) With rise in inflation there is reduction of purchasing power, hence inflation risk is also
referred to as purchasing power risk and affects all securities.
177. (d) Because investors are risk averse they will expect a risk premium to compensate them for
the additional risk assumed in investing in a risky asset.
Risk premium = Required rate of return – Risk-free rate.
178. (a) When there is perfect positive correlation the loss in one security cannot be compensated
by a gain in another. Hence, the risk of a portfolio of two securities increases if there is
perfect positive correlation.
179. (d) With a rise in inflation there is reduction of purchasing power, this is referred as
purchasing power risk. It is related to the general economy and cannot be diversified.
180. (b) Market portfolio contains all the securities in proportion to the market capitalization.
181. (d) The graphical representation of the CAPM model is the SML. The SML equation is given
by E(r) = Rf + βj (km – Rf)
Hence it shows the relationship between return on the stock and beta of the stock.
182. (b) When a security plots above the SML it means the security is undervalued or priced too
low because its average rate of return is inappropriately high for the level of risk it bears.
183. (d) All the given alternatives are true.
184. (a) The CRL i.e. the characteristic regression line is a graphic representation of the market
model. It is given as kj = αj + βj km + ej. This explains the relationship between return on
stock kj and return on market portfolio.
185. (b) Beta measures the relative risk associated with any individual portfolio as measured in
relation to the risk of the market portfolio. In a booming market the share prices tend to be on
a rise. Hence those companies whose β>1 are to be selected.
186. (b) CAPM assumes that individuals can borrow and lend freely at a risk less rate of interest.
187. (d) Systematic risks are risks which cannot be diversified. Purchasing power risk and interest
rate risk are undersifiable risk whereas yield risk can be diversified.
188. (a) The graphical representation of the CAPM model is the SML. The SML equation is given
by E(r) = Rf + βj (km – Rf).
Where (km – Rf) is the slope of the SML. Hence it changes with change in the risk-free rate of
return.
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91. Financial Management
189. (b) The graphical representation of the CAPM model is the SML. The SML equation is given
by E(r) = Rf + βj (km – Rf). Hence the relationship between beta of the security and the
required rate of return is represented by the security market line.
190. (d) If investors expect the inflation rate to fall in future and they expect themselves to become
less risk averse then SML shifts down and the slope decreases.
191. (e) All the given alternatives are used to calculate the return from an investment.
192. (d) As per CAPM model the required rate of return = Risk-free rate + Risk premium.
Hence all the above statements are true.
193. (c) Emergence of a new competitor is a un- systematic risk which can be diversified as it can
be attributable to that particular industry. Hence it does not contribute to systematic risk.
194. (e) As per the CAPM assumptions, any individual security’s expected return and beta
statistics should lie on the SML. The SML intersects the vertical axis at the risk-free rate of
return Rf = 236.
195. (b) As per the CAPM assumptions, any individual security’s expected return and beta
statistics should lie on the SML. Those with beta greater than one and plotting on the upper
part of the SML are classified as aggressive securities as they earn above average returns with
higher risks.
196. (d) Riskiness of a portfolio is the function of all the above factors.
197. (c) Prices of security move inversely with the interest rates. Hence, increase in interest rate
will cause an increase in the required rate of return.
198. (b) The graphical representation of the CAPM model is the SML. The SML equation is given
by E(r) = Rf+ βj (km – Rf).
It shows the relationship between return on the stock and beta of the stock.
199. (b) The graphical representation of the CAPM model is the SML. The SML equation is given
by E(r) = Rf + βj (km – Rf).
The SML intersects the vertical axis at the risk free rate of return Rf and (km – Rf) is the slope of
the SML. Hence when SML = 0, the expected rate of return is equal risk-free rate of return.
200. (b) When the securities in the portfolio are negatively correlated the loss in one security can
be offset by a gain in another security. Hence by diversification we can eliminate risk.
201. (d) Beta measures the relative risk associated with any individual portfolio as measured in
relation to the risk of the market portfolio. It is a measure of systematic risk of a security.
202. (d) Introduction of minimum alternative tax cannot be diversified. Hence it does not represent
unsystematic risk.
203. (c) When there is zero correlation between the securities in a portfolio it means that there is
no relationship among the different securities. Hence the graph will be scattered.
204. (d) Reduction of tax rate by the government will affect all the companies in the market and so
can be considered as a systematic risk. While the factors mentioned in the other options will
affect a particular company or the companies belonging to a particular industry. Hence, these
factors may be termed as non-systematic risk.
205. (c) A finance manager is required to examine whether the opportunity is worth more than the
cost thereafter he must take a decision by duly balancing the risk and return associated with
that decision. An aggressive advertisement campaign may increase the sales revenue but
improper appeal may cost a company too for the advertisement cost. An attractive credit term
may improve the sales turnover but may inability to implement the same may cost the
company in some other way. A borrowing firm enjoys tax shield against the payment of
interest to its lenders but a risk of failure to make such payment may result in the risk of
insolvency. But to maximize profit through maximum usage of the production facilities is not
a risk, as it leads to the reduction in cost per unit of production, to the finance manager of any
manufacturing company.
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92. Part I
206. (e) If a security’s return plots above the Security Market Line (SML) then the return on the
security is more than the required rate of return on the security according to the SML. A
greater return means a lesser price of the security than its intrinsic value that implies the
security is under priced and hence that should be bought immediately to book profit in future
as its price increases.
207. (e) The assumptions of CAPM are as follows:
• Investors use the expected return and standard deviation of returns as the appropriate
measures of return and risk of the portfolios
• Investors are risk averse
• Investors agree with each other on the nature of return and the risk associated with each
instrument where investment may be made
• The assets can be bought and sold in any unit as desired by the investors
Hence, the option (e) is the correct choice.
208. (a) Beta of security represents the relationship between the rates of return from a security as
well as from the market. It shows the responsiveness of the security to the general market and
indicates how extensively the return of the security will vary with the changes in the market
return. As the rates of return from a security move perfectly in tandem with respect to the
market returns, then the beta for that security will be equal to unity.
209. (d) Volatility of interest rates, sudden increase in the rate of inflation, the imposition of
surcharge and the non-availability of electricity affect the profitability of all the companies in
the market almost in the same manner. But a sudden scarcity of cement affects only those
companies, which use cement as one of their inputs like; construction companies, housing
sector, etc.
210. (d) As the return on a security lies below the security market line, the security is over priced
as the expected return is less than the required return. The statements as stated in the options
(a), (b) and (c) are not related to the security market line.
211. (b) The equation for the Characteristic Regression Line (CRL) is given as:
K j = α j + β jk m + e j
The CRL is plotted by plotting Kj along the Y-axis and Km along X-axis.
212. (b) The beta coefficient of a security indicates the systematic risk of a security while the
unsystematic risk is estimated by deducting it from total risk i.e. variance of returns from that
security. The total risk and financial risk of a company, not for a security, is measured by the
total leverage and financial leverage of the company at a certain level of operations. There is
no measurement called the operating risk of a company.
213. (e) The salient features for the assumptions of CAPM are:
• The investors are risk averse
• The assets can be sold or bought in any small number of units
• Transaction costs and taxes are negligible
• Expectations of one investor is same as that of the another in relation to the expected
returns from a security and the risks associated with that
• The investors consider the expected return and the standard deviation of returns as the
criteria of investment. Hence, the option (e) is correct.
Valuation of Securities
214. (c) The bonds issued by the government are secured. T-Bills are issued at a discount and
redeemed at a face value and Government buy term bonds carry a coupon rate of interest.
Interest rate cannot be changed before the maturity of the bond.
215. (c) The rate of return earned by an investor, who purchases a bond and holds it till maturity,
is called the yield to maturity.
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93. Financial Management
216. (b) This is the theorem showing the effect on the bond values influenced by the relationship
between the required rate of return and the coupon rate. When the required rate of return is
equal to the coupon rate, the value of the bond is equal to its par value.
217. (a) This is a bond theorem showing the effect of the number of years to maturity on the bond
values. When the coupon rate is less than the required rate of return the discount on the bond
decreases as maturity increases.
218. (b) This is the theorem showing how YTM determines a bonds market price and vice versa,
as bond’s price will fluctuate in response to the change in market interest rates. For equal
sized increases and decreases in the YTM, the price movements are not symmetrical.
219. (b) This is the bond theorem showing how YTM determines a bond’s market price. A change in
YTM affects those bonds with a higher YTM more than it affects bonds with a lower YTM.
220. (b) When the intrinsic value or the present value of a bond is higher than the market value, it
implies that the bond is under priced. Hence, an investor would buy a bond.
221. (a) The rate of return earned by an investor who purchases a bond and does not hold till
maturity is called the holding period return.
222. (e) For a bond held to maturity YTM is the discount rate which equals the present value of
promised cash flows, and hence is not affected by the current market price of the bond.
223. (d) Bond’s price moves inversely proportional to its yield to maturity. When market price and
face value are equal, the coupon rate is equal to the YTM.
224. (d) Since coupon rate of bond Y is relatively less, the bond Y’s price would change more
than that of X for a change in YTM.
225. (c) The price of the share is given by P = D/k – g. Other things being equal as the expected growth in
dividends increases, the expected return increases.
226. (e) Low dividend yield and high price earnings ratio imply considerable growth prospects.
High dividend yield and low price earning ratio imply limited growth prospects.
227. (e) The book value per share is the net worth of the company (paid-up equity capital plus
reserves and surplus) divided by the number of outstanding equity shares. This approach is
criticized because it values the firm’s share without any future projections and it is based on
accounting figures which can be manipulated.
228. (e) The factors which effect the P/E ratio are growth rate, stability of earnings, size of the
company, quality of management, dividend pay-out ratio and debt preperation.
229. (d) The interest rate payable on a bond = Par value x Coupon rate. Hence the coupon rate is
set on equal to a percentage of its par value.
230. (e) The amount a company can realize if it sold its business as an operating one is called
going concern value.
231. (d) Low dividend yield and high price earnings ratio imply considerable growth prospects.
Hence the statement given is not true.
232. (e) All the given statements are true.
233. (a) Market value of an asset or security is current price at which the asset or the security is
being sold or bought in the market. The amount that a company could realize if it sold its
assets after terminating its business is liquidation value.
234. (c) Assets are recorded at historical costs and they are depreciated over years, book value
may indicate intangible assets at acquisition cost minus amortized value. It is stated as
outstanding amount. The difference between the book value of assets and liabilities is equal
to shareholder’s funds or net worth.
235. (a) This is a bond theorem showing how YTM determines a bond’s market price. A change in
the YTM affects the bond with a lower YTM more than it does bonds with higher YTM.
Hence statement (a) is false.
236. (b) Longer the maturity of the bond , the greater its price change in response to a given
change in the required rate of return. Hence if the maturity of the bond increases, the
volatility of the bond increases.
237. (d) This is the bond theorem showing the effect on the bond values influenced by the relationship
between the required rate of return and the coupon rate. When the required rate of return on a
bond is less than the coupon rate then the value of the bond is less than the face value.
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94. Part I
238. (d) The intrinsic value of a stock is equal to the discounted value of the stream of future
dividends per share. It is given by
P0 = D1/(1 + g) + P1/(1 + ke)
Where,
D1 is the expected dividend a year hence,
P1 is the expected price of the share
Ke is the required rate of return.
239. (d) All the statements are related to the bond value theorem showing the how YTM
determines the prices of the bonds. Statement (d) is false because the longer the term to
maturity, the greater will be the change in price with change in YTM.
240. (a) Longer the maturity of the bond, the greater its price change in response to a given change
in the required rate of return. Hence if the maturity of the bond increases, the volatility of the
bond increases.
241. (b) When the expected rate of return is equal to the required rate of return the value of the
bond is equal its par value. Hence it is rightly priced.
242. (b) When the required rate of return on a bond is greater than the coupon rate the discount
then the value of the bond is less than the par value. This discount on the bond declines as
maturity approaches.
243. (a) The discount or premium on a bond declines as maturity approaches. Hence if discount
bonds and premium bonds are sold at the same price, it indicates that the bonds have
approached maturity.
244. (b) When the required rate of return is equal to the coupon rate, the value of the bond is equal
to its par value.
245. (d) ke = Rf + β (Rm – Rf)
ke − R e 21.4 − 6
∴β= = = 1.40.
Rm − Rf 17 − 6
246. (d) The value of a share is its economic value as a going concern, taking into account its
characteristics, the nature of its business and the investment environment. The value of the
share equals the present value of earnings per share plus the net present value of future
growth opportunities.
247. (c) Interest rate risk is the variability in a security’s return resulting from changes in the level
of interest rates. Bonds with low coupon rate have high interest rate risk as the return on the
bond is less than the actual interest at that period.
248. (b) Yield to maturity of a perpetual bond i.e., bonds with no maturity is equal to the interest
divided by the market price.
249. (b) When the required rate of return on a bond is greater than the coupon rate the discount then
the value of the bond is less than the par value. This discount on the bond declines as maturity
approaches. For a change in YTM, the percentage price change in case of bonds of high coupon
rate will be smaller than in the case of bonds of low coupon rate. Hence only (ii) is true.
250. (c) P/E = MPS/EPS.
When there is low dividend yield the EPS decrease and hence the
P/E ratio tend to increase.
251. (d) Dividend yield = Dividend paid/Current market price. Thus, we can conclude that
dividend yield is based on current stock price.
252. (c) The value of common stock increases with increase in growth rate of dividend. The value
of common stock decreases with increase in investment horizon. If dividend pay-out ratio
remains constant the value of the stock would also remain the same. The value of common
stock, other thing remaining same, decreases with the increase of discount rate.
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95. Financial Management
253. (a) The value of a share when dividend increase at a constant, compound rate is given by
P0 = D1/k – g
Where,
P0 is the current market price of the equity share
D1 is the expected dividend a year hence
D1 = D0 (1 + g) where D0 is the last paid dividend
k is the expected rate of return or the required rate of return
g = annual growth rate.
254. (e) A security traded in the secondary market in subject to market risk and liquidity risk.
255. (c) For a given difference between YTM and coupon rate of the bonds, the longer the term to
maturity, the greater will be the change in the price with change in YTM. This is because, in
case of long maturity bonds, a change in YTM is cumulatively applied to the entire series of
the coupon payments and the principal payment is discounted at the new rate for the entire
number of years to maturity; whereas in case of short-term maturity bonds, the new YTM is
applied to comparatively few coupon payments and also the principal payment is discounted
for only a short period of time.
256. (e) Growth rate of the industry to which the company belongs is an external factor that
influences the intrinsic value of a stock.
257. (e) Current yield measures the rate of return earned on a bond if it is purchased at its current
market price and if the coupon interest is received. Coupon rate and current yield will be
equal if the bond’s market price equals its face value. Yield to maturity and current yield will
be equal when price of the bond equals the face value.
258. (d) Intrinsic value of bond = C x PVIFA(k,n) + F x PVIF(k,n)
where, C is the coupon payment on the bond, F is the amount payable at maturity, k is the
discount rate or the required rate of return and n is the number of years of maturity to the bond.
From the above expression of the intrinsic value of a bond, we can see that other things being
equal if the amount payable at maturity (F) increases, the value of bond also increases
correspondingly. While decreasing the term to maturity and the coupon rate of the bond as
well as increasing the required rate of return on the bond will decrease the intrinsic value of
the bond. The discount on the bond at the time of issue does not have any role to play in this
context. Hence, the alternative (d) is correct.
259. (d) When the required rate of return on a bond is more than the coupon rate the intrinsic value
of the bond is less than its par value; hence the bonds are sold at a discounts on its par value.
The amount of discount on the bond decreases as the maturity approaches. The question of
premium on the bond price does not arise in this case. Hence, the alternative (c) is true.
260. (b) The warrant holder is not at all entitled to receive any dividend from the company that
issued the same. While the features as stated in the other alternatives are the regular features
of the warrants generally issued by the companies. Hence, the option (b) is the correct choice.
261. (a) The salient features of the multi-period valuation model are as follows:
• Cash flows to the investors in the form of dividends over an infinite duration are considered.
• The value of an equity share is equal to the present value of its entire dividend stream
over an infinite duration
• The model can be applied to the instances of constant dividends and constant growth in
dividends
• The model can also be applied in case of variable growth in dividends
• It assumes that the cost of equity of the company will remain constant.
Hence, the option (a) is the answer.
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96. Part I
262. (e) If the market interest rate increases, the value of the bond will also be adjusting itself in
such a way that the yield of the bond matches with the market interest rate. Hence as the
interest rate increases, the value of the bond will also decreases correspondingly in order to
keep in pace with that of the new rate of interest. The factors as mentioned in the other
options increase the value of the bonds
263. (d) In going concern value, the assets of the company are sold as the operating assets and
their values are generally higher than any other criterion of measurement. Book value is an
accounting concept that is historical cost minus depreciation. Market value of any asset is the
value at which that is generally bought and sold in the market. Replacement value is the
amount that a company is required to spend if it decides to replace the existing assets by new
one. But liquidation value is the amount that a company may realize by selling the assets on
terminating its business.
264. (b) If the required rate of return from a bond is more than the coupon rate the value of the
bond will be less than the par value of the bond as the bond value adjusts itself against the
movement of the interest rates. The discount rate on the bond decreases as maturity
approaches, if the required rate of return from a bond is more than the coupon rate. The
premium on the bond decreases as the maturity approaches, if the required rate of return is
less than the coupon rate.
265. (c) In the valuation of the equity shares of the company through price-earning ratio approach,
the growth rate of the company is considered only. Book value and the liquidation value of
the company do not have any role in this context. Maturity of the debentures and issue of
preference shares do not affect the valuation process for the company under this method.
Financial Statement Analysis
266. (b) Debt equity ratio indicates the relative contributions of creditors and owners, which
indicate the long-term solvency.
267. (c) Liquidity implies a firm’s ability to pay its debts in the short run. This ability can be
measured by the use of current ratio.
268. (c) Debt service coverage ratio = PAT + Depreciation + Other non-cash charges + Interest on
term loan/Interest on term loan + Repayment of the term loan 1.5 indicates that the firm has
post-tax earnings which are 1.5 times the total obligation (interest and loan repayment) in the
particular year to the financial institution.
269. (d) The common size analysis is used for inter company comparison because the financial
statements of a variety of companies can be recast into the uniform common size format
regardless of the size of individual companies. In the balance sheet, the assets as well as the
liabilities and capital are each expressed as 100 percent and each item in these categories is
expressed as a percentage of the respective totals.
270. (a) Fixed charges coverage ratio measures debt servicing ability comprehensively. The fixed
charges coverage ratio of 4 signifies that its pre-tax operating income is 4 times all fixed
financial obligation.
271. (b) The current assets increase as a result of increase in cash balance, hence the current ratio
increases.
272. (c) Current ratio = Current assets/Current liabilities
The firm’s current assets are converted into cash to provide funds for the payment of current
liabilities. So CA will not change while CL will decrease.
273. (e) The receivable turnover ratio shows how many times accounts receivable (debtors) turn
over during a year. It is defined as Net credit sales/Average accounts receivable.
274. (d) If the realized collection period is more than the average collection period it would reflect
that collection job is poor, customers are facing financial problems, and in spite of careful
collection efforts there is difficulty in obtaining prompt payments.
275. (c) Assets turnover ratio highlights the amount of assets that the firm used to produce its total
sales. Low ratio indicates idle or improperly used assets.
276. (a) Gross profit margin = Gross profit/Net sales
This shows the profit relative to sales. It may be used as an indicator of the efficiency of the
production operation and the relation between production costs and selling prices.
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97. Financial Management
277. (d) Coverage ratios give the relationship between the financial charges of a firm and its
ability to serve them. Structural ratios measure the long term solvency of a firm.
278. (b) Dividend pay out ratio is the ratio of DPS to EPS. It indicates what percentage of total
earnings is paid to the shareholders.
279. (a) Dividend yield exists for only those firms which declare dividends. Hence the retained
earnings directly affect the dividend yield.
280. (e) ROE = Net income/Average equity.
281. (e) All the given alternatives are problems encountered in financial statement analysis.
282. (d) According to the Du Pont Analysis
Equity multiplier = (Average assets/Average equity) = 1/1 – (Debt to assets ratio).
283. (e) The accounts receivable is used in the evaluation of liquidity of receivables. Other things being
equal, a decrease in the average accounts receivable will increase the firm’s return on assets.
284. (c) A common size balance sheet portrays the firm’s accounts as a percent of the firm’s total assets.
285. (c) Liquidity of an asset implies the speed at which it can be converted into cash. It measures
the ease and cost of being converted into cash.
286. (c) Current ratio = Current assets/Current liabilities. It is a measure of a firm’s liquidity.
287. (a) The net working capital = Current assets – Current liabilities.
A current ratio of less than 1 implies that the firm’s current liabilities are more than the current
assets. Hence, a current ratio of less than 1 implies that the net working capital is negative.
288. (b) Average collection period = Average accounts receivable/Average daily sales
= Average accounts receivable x 365/Average credit sales
Average collection period indicates the speed of collections.
289. (d) The total assets comprises of debt and equity. If the debt equity ratio is 2:1 then the total
assets will be 3. Hence, for every 3 rupees of total assets there is 2 rupees of debt and 1 rupee
of equity.
290. (c) Liquidity implies a firm’s ability to pay its debt in the short run. Working capital gap is
equal to current assets less total current liabilities other than bank borrowings. Higher the
inventory turnover ratio higher the efficiency of inventory management. PE ratio is one of the
most important ownership ratios. Only statement (c) is true.
291. (c) Financial statement analysis helps to know the correlation among ratios.
292. (c) Working capital gap is equal to the current assets less current liabilities other than bank
borrowings.
293. (a) Asset turnover ratio highlights the amount of assets that the firm used, to produce its total
assets. It measures the efficiency of the firm’s activities and its ability to generate profits.
294. (d) Capitalization rate = Earning per share/Market price of the share
295. (a) Interest coverage ratio = EBIT/Interest expense
It is the measure of a firm’s ability to handle financial burdens. An interest coverage ratio of
2.25 indicates that the EBIT is 2.25 times the interest payable.
296. (e) Acid test ratio or quick ratio = Quick assets/Current liabilities
It is a measure of liquidity of a firm.
297. (c) Average collection period is a turnover ratio Average collection period is defined as the
number of days it takes to collect accounts receivable.
298. (b) Earnings per share = Profit after tax/Number of outstanding shares
299. (c) Current ratio = Current assets/Current liabilities. It is a measure of a firm’s liquidity, i.e.,
the ability to pay its debts.
300. (b) In determining the appropriate PE ratio for a firm the factors to be considered are growth rate,
stability of earnings, size of the company, quality of management and dividend pay-out ratio.
301. (a) In common size analysis, each item in the balance sheet is expressed as a percentage of
their respective totals.
302. (a) Days sales outstanding is the ratio of receivables outstanding to average daily sales.
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98. Part I
303. (e) Higher the inventory turnover ratio, greater the efficiency of inventory management. Since
inventory turnover ratio is a measure of the adequacy of goods available to sell in comparison to
the actual sales orders a high inventory turnover ratio may indicate over trading.
304. (c) When current ratio is greater than one, a similar increase in current assets and current
liabilities will result in the decrease in current ratio.
305. (b) Interest coverage ratio measures the firm’s ability to handle financial burdens. This ratio
tells how many times the firm can cover or meet the interest payments associated with debt.
Interest coverage ratio = EBIT/Interest expense.
306 (c) Analyzing return ratios in terms of profit margin and turnover ratios, referred to as the
Du Pont system. The starting point of Du Pont chart is return on total assets.
307. (e) Return on equity = Net income/Average equity
Return on investments = EBIT/Total assets
Hence it means that the firm does not have any debt in its capital structure as average
equity = Total assets and that the firm does not pay taxes as EBIT = Net income.
308. (c) The ratio of market value to book value indicates the contribution of a firm to the wealth
of the society. Hence Market value = 2 x Book value, indicates that the firm has doubled the
wealth of the shareholder.
309. (e) Analyzing return ratios in terms of profit margin and turnover ratios, is referred to as the
Du Pont system. In the Du Pont chart the left apex term is net profit margin.
310. (e) Debt is used in the capital structure only when the interest paid on such debt is less than
the return. Such use of debt increase. Return on equity if the firm earns higher return than the
rate of interest on debt.
Return on equity = Net income/Average equity
311. (d) Interest coverage ratio measures the firm’s ability to handle financial burdens. This ratio
tells how many times the firm can cover or meet the interest payments associated with debt.
Interest coverage ratio = EBIT/Interest expense. Hence interest coverage ratio of 6 indicates
EBIT is 6 times of interest.
312. (d) In the context of financial statement analysis, cross sectional analysis involves
comparison between a company and an industry. The industry averages or the standard
player’s averages are used as benchmarks.
313. (b) Earning power = EBIT/Average total assets
It is a measure of the operating business performance which is not affected by interest
charges and tax payments.
314. (c) Current ratio = Current assets/Current liabilities
Quick ratio = Current assets – Stock/Current liabilities
Hence when the current ratio and quick ratio are nearly the same it means that the company
has got low investment in inventory.
315. (c) According to the Du Pont analysis
Return on Equity = Net profit margin x Asset turnover ratio x Asset – Equity ratio
Leverage ratios measure the long-term solvency of a firm. Total assets to net worth is the
leverage ratio used in ROE analysis.
316. (d) Earning power is a measure of operating profitability and it is defined as Earnings before
interest and tax/Average total assets. It does not consider the effect of financial structure and
tax rate.
317. (b) ROE = Net income/Average equity or ROE = EPS/ Book value.
318. (b) Earning ratios helps in getting the information on earnings of the firm and their effect on
price of common stock. Hence for assessing the future market value of the company, it is best
to depend on earnings ratio.
319. (e) Dividend Yield = dividend per share/Market price per share. It gives current return on
investment.
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99. Financial Management
320. (c) Debt-equity ratio and debt-asset ratio are leverage ratios for a company. Return on equity
and return on investment represents the profitability ratios of a business entity. Acid test ratio
indicates the liquidity status of a company.
321. (b) In common size analysis the items in the income statement are expressed as percentage of
net sales.
322. (a) Debt asset ratio indicates the capital structure of a company. Inventory turnover ratio and
total asset turnover ratio are the turnover ratios that indicate how efficiently the assets are
utilized by a company. While return on equity and return on assets are the profitability ratios
of a business entity.
323. (b) Dividend pay out ratio indicates the amount of dividend paid out of net profit earned by
the company. Net profit margin represents the amount of profit as a percentage of total sales.
Inventory turnover ratio implies how efficiently the inventories are used by a company while
acid test ratio shows the liquidity status for a company. But fixed chares coverage ratio
represents the ability of a firm to meet its financial obligations to make service the debts as
well as to pay the lease rentals.
324. (b) The financial risk of a firm may be estimated by using the leverage and coverage ratios
while the earning potential of a company may be evaluated through the profitability ratios.
The operational and the level of efficiency in utilizing the assets may measured by using the
turnover ratios. But price-earnings ratio is used to determine the expected market price per
share of the company. One may project the EPS of a company for the next few years and
thereafter by assuming the continuity of the same P/E multiple, the future market price per
share may be calculated.
325. (d) If the company resorts to external borrowings by issuing debentures or from the financial
institutions, the debt-to-total assets will go up. Using short-term funds for the long-term
purposes and vice-versa does not serve the purpose and may lead to the liquidity mismatch.
However, further issue of the equity shares through rights issue will increase the share capital
that may be used to retire the old debt – partially or wholly – thereby reducing the debt-
equity ratio.
326. (c) In index number trend analysis, every figure for the first year is considered as 100 percent
while the corresponding figures for the subsequent years are mentioned as a percentage of the
first year figure. In cross-sectional analysis, the relevant figures are presented for more than
one companies while in year-to-year change analysis, the respective ratios or data as
required, are presented without making any change. In commonsize analysis, every element
in the balance sheet is presented as a percentage of the total asset or total liabilities whereas
the figures of the income statement are presented as a percentage of the sales value. There is
no analysis called as expected annual income analysis.
327. (d) As the debt-equity ratio of the company is higher than the other companies in the same
industry, the company can be termed to have a higher than average financial risk in
comparison to the other companies in the same industry for the higher debt burdens. So, its
borrowing capacity is less compared to its peers. It has the higher probability to experience
some difficulties with its creditors in future. The creditworthiness of the company is at low
level owing to the higher interest burden and also its ability to meet the financial
commitments towards its stakeholders.
328. (c) Asset turnover of a company is defined as the ratio between the sales value and total
assets. High asset turnover is possible only when a company can generate a high sales
volume in comparison to the amount invested in the fixed assets and current assets.
109 − 95
15 (1 − 0.40) +
329. (d) Kd = 8 = 0.1054
109 + 95
2
∴Kd = 10.54%
330. (d) In Du Pont analysis, the return on equity (ROE) is expressed as the product among net
profit margin (NPM), total assets turnover ratio (TATR) and the equity multiplier (EM). But
in the other cases, the interrelationships among three ratios are not observed.
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100. Part I
331. (a) In commonsize analysis, the income statement is expressed as a percentage of total sales.
In index number trend analysis, every figure for the first year is considered as 100 percent
while the corresponding figures for the subsequent years are mentioned as a percentage of the
first year figure. In cross-sectional analysis, the relevant figures are presented for more than
one company while in year-to-year change analysis, the respective ratios or data as required,
are presented without making any change. In Du Pont analysis, the return on equity of the
company is analyzed.
Funds Flow Analysis
332. (e) Funds in funds flow statement represent either net working capital or cash.
333. (d) Conversion of all FCDs into equity shares, and bonus issue of equity shares does not
result in any inflow or outflow of cash. Hence they do not appear in the cash flow statement.
334. (a) Depreciation is an appropriation of profits hence it is a source of funds. Decrease in net
working capital may be because of the increase in current liabilities; hence it is a source of fund.
335. (b) Increase in liability results in inflow of cash through loan or credit. Hence it is a source of
fund.
336. (d) Net income from operations is a source of funds whereas net loss from operations is a use
of funds.
337. (a) Cash from operations is obtained by adding all non-cash expenses like depreciation the
profit after tax or the net profit.
338. (e) Increase in provision for taxation results in increase in current liabilities and cash or credit
sales at a profit increase the current assets.
339. (b) Increase in accrued expenses result in increase in current liabilities which is a decrease in
working capital, hence a source.
340. (e) Decrease in working capital is a source of fund. Increase indepreciation is also a source of
fund.
341. (d) Funds flow statement is a statement which explains the various sources from which funds
were raised and the uses to which these funds were put. Hence evaluation of the quality of
firm’s top management is not a benefit of funds flow statement analysis.
342. (d) Ratio analysis is a tool for financial analysis.
343. (c) The following assumptions are made will calculating the external fund requirement
– The assets of a firm will increase proportionately to sales.
– Net profit margin is constant.
– Dividend pay-out ratio and debt equity ratio will remain constant.
– External issue of equity ratio will remain constant.
344. (a) The net income increases the cash balance, and hence is a source of working capital as an
increase in current asset increases the working capital or vice versa.
345. (e) Depreciation is an appropriation made to profits. It is a non-fund expenditure, and it is a
source of internal finance.
346. (c) Current liabilities includes liquid items of duration less than a year. Hence fixed deposit
made for 18 months is not an item of current liabilities.
347. (c) Payment of dividend is a use of fund.
348. (d) Decrease in inventory result in decrease in current assets and hence will not result in an
increase in net working capital.
349. (b) Increase in working capital is a use of fund.
350. (a) Issue of share capital results in inflow of cash or funds in the form of capital, hence it is a
source of funds.
351. (a) Taxes result in outflow of cash. Hence it is a use of fund.
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101. Financial Management
352. (b) Decrease in current liabilities is a source of funds and increase in current assets is an
applications of funds.
353. (d) Increase in asset is because of use of some source to purchase then asset, hence it is a use
of fund.
354. (c) Depreciation is a source of long-term internal finance which can be used for purchase of a
new asset. It is not considered while preparing funds flow statement on a working capital basis.
355. (d) Decrease in prepaid expenses result in decrease of Current Assets and decrease in income
tax paid in advance result in increase of in cash available for business operations.
356. (b) Issue of equity shares result in inflow of capital in the form cash and the current assets
increase resulting in an increase of net working capital.
357. (b) Increase in prepaid expenses is an application of cash.
358. (d) A funds flow statement on cash basis does not show the net change in working capital.
359. (e) Funds flow statements are not helpful for the judgements of the following matters:
The quality of management
The ownership pattern of the company
The operational efficiency of the company
It also may be manipulated by the unscrupulous managers of any corporate entity. However, it
may be used to detect whether short-term fund is used for the procurement of the long term asset.
360. (d) Retirement of high cost debt, the installation of a capital asset and buy back of the equity
shares – are the examples of the uses of funds by a business entity. Conversion of debentures
into equity shares is a matter of capital restructuring that does not lead to any financial
transaction. But selling an old car today to buy a new one after three months leads to the
inflow of cash to a company that may be used for the next quarter which may be considered
as a source of funds to the company.
361. (b) A gross increase in fixed assets is not considered as a source of fund, but as an use of
funds while making funds flow analysis on cash basis. The conditions mentioned in the other
options increase cash balance of a company and hence can be termed as the source of funds
for the company.
362. (e) Funds flow analysis can be studied in order to detect the imbalances in regards to the
sources and uses of funds as well as for the planning for the future financing strategies. But
the assessment of the market leadership for the products of the company are not reflected in
the funds flow statements.
363. (e) The features related to the funds flow statements are as follows:
• It does not show the changes in the ownership patterns of the company
• It does not show the sources and uses of funds at any particular date in a year, that is
shown in the balance sheet of the company
• It cannot be considered as a snapshot picture for the operations of the business
• It can also be manipulated by means of window dressing. Hence, the option (e) is correct.
364. (e) A funds flow statement is known through different terms one of them is mentioned in the
given option (e). A balance sheet states the financial position of a company as on a particular
date while profit and loss statement or income statement shows the financial performance of
a company during a year or a particular time period. Proforma statements are prepared to
project the financial position (proforma balance sheet) of a company and the financial
performance (proforma income statement) of a company in future.
Leverage
365. (c) Degree of total leverage is a combination of the operating and financial leverages. Thus, it is a
measure of the output and EPS of the company.
DOL = % Change in EBIT / % Change in output
DFL = % Change in EPS / % Change in EBIT
Hence DTL = DOL x DFL = % Change in EPS / % Change in output.
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102. Part I
366. (c) DFL is use to know the impact of a change in EBIT on EPS of the company. DFL is zero
when the firm does not earn any operating profits.
367. (e) When the firm is operating at BEP, DTL is undefined.
368. (a) Greater the DOL, the more sensitive is EBIT to a given change in unit sales, i.e. the
greater is the risk of exception losses if sales become depressed. DOL is therefore a measure
of the firm’s business risk.
369. (b) Financial Break Even Point is the level of EBIT at which EPS of the company is zero and
DFL is undefined.
370. (e) Leverage ratios measure the long-term solvency of a firm. Bank finance to working
capital gap ratio shows the degree of firm’s reliance on short-term bank finance for financing
the working capital gap. It is a liquidity ratio.
371. (a) DFL = % Change in EPS/% Change in EBIT.
372. (a) Operating leverage examines the effect of the change in the quantity produced on the
EBIT of the company.
Δ EBIT
DOL =
Δ Output
373. (e) DOL is negative at the level of output below the operating breakeven point.
374. (a) Operating leverage examines the effect of the change in the quantity produced on the
EBIT of the company. Operating leverage = Contribution/EBIT
375. (e) With the help of DFL one can understand the impact of the change in EBIT on EPS of the
company.
376. (b) DTL is the product of DOL and DFL and hence measures the total risk of the company.
377. (e) DTL = DOL x DFL or % Change in EPS/% Change in output = 1.5 x 2 = 3.
i.e., one percent change in output will lead to 3% change in EPS.
378. (c) The combination of operating and financial leverages is the total or combined leverage.
The degree of total leverage is the measure of output and EPS of the company.
379. (c) At financial break even point DFL is undefined, i.e., it is equal to infinity.
380. (d) EBIT
EBIT
DFL =
EBIT − I − DP (I − t)
EBIT – I – Dp/(1 – t) x DFL = 0
If DFL is zero then EBIT must be zero.
381. (e) Operating leverage examines the effect of the change in the quantity produced on the
EBIT of the company. All the above are true regarding the degree of operating leverage.
382. (e) By calculating the DOL for various levels of output we find that there is unique DOL for
each level of output, DOL is positive beyond the operating break even point, DOL is
undefined at the operating break even point.
383. (a) DOL = % Change in EBIT/% Change in output.
384. (c) By calculating the DOL for various levels of output we find that there is unique DOL for
each level of output, DOL is positive beyond the operating break even point, DOL is
undefined at the operating break even point.
385. (d) The operating BEP is that quantity which is produced and sold at which EBIT is zero.
386. (b) EBIT
EBIT
DFL =
EBIT − I − (DP ) /(1 − t)
If preference share capital increases then the Dp increases, which in turn increases the DFL.
97

103. Financial Management
387. (c) By calculating the DOL for various levels of output we find that there is unique DOL for
each level of output, DOL is positive beyond the operating break even point, DOL is
undefined at the operating break even point.
388. (a) Q (S – V) = contribution
Q(S − V)
DOL =
Q(S − V) − F
Increase in fixed costs then DOL increases.
389. (a) Financial leverage refers to the mix of debt and equity in the capital structure of the
company. As the company becomes more financially leveraged, it becomes riskier, i.e
increased use of debt financing will lead to increased financial risk.
390. (c) DOL = % Change in EBIT/% Change in quantity
Operating leverage measures the sensitivity of the earnings before interest and tax to change
in quantity.
391. (e)
EBIT
DFL =
EBIT − I − (DP ) /(1 − t)
When DFL is zero EBIT is also zero. Hence the firm does not earn profits, so tax liability is
zero.
392. (c) The degree of operating leverage below the operational break even point will be negative.
393. (d) If the output is less than the operating break even point, then DOL will be negative.
394. (b) The following statements are correct with respect to the Degree of Operating Leverage
(DOL) for the operations of a company:
• Each level of output has a distinct DOL
• DOL is always negative below the operating break even point
• DOL is always positive above the operating break even point
• DOL is undefined at the operating break even point.
Hence, the option (b) is the answer.
395. (b) The following points are true with respect to the DFL of a company:
• DFL helps to measure the financial risk of any corporate entity
• DFL can be used to analyze the implications of retiring debts against the proceeds of the
issue of the preference capital.
• DOL is applied by a corporate entity for its production and sales planning
• DFL is used to relate the percentage change in EPS against every percentage change in
EBIT.
Hence, the option (b) is the correct choice.
396. (d) At the operating break even point, the EBIT is zero i.e. the sales revenue of the company
just covers the fixed and variable costs incurred by the company. Hence, the operating break
even point can be expressed in quantity of sales or value of sales.
397. (c) The DOL of a company depends on the contribution margin, sales quantity and the fixed
costs. It is not at all related to the interest expenses of the company. Hence, the issue of
equity shares in lieu of debentures will not affect the DOL of a company.
398. (d) If a firm retires its debentures prematurely, its interest burden will come down that will
decrease the financial leverage and total leverage of the company. It does not have any
impact on the operating leverage of the company. So, the option (d) is correct.
98

104. Part I
399. (e) As the degree of total leverage for the firm is zero, the contribution received by the firm
by selling its product will also be zero or the EBIT for the firm is zero. So the option (e) is
the answer. The conditions mentioned in the other options are not true, as any of such
conditions cannot make the DTL to zero.
400. (c) DOL measures the business risk of the company by assessing the change in EBIT owing
to a change in the level of production and sales volume. DOL has a distinct value at every
level of output of a firm while it is undefined at the operating breakeven point. The concept
of the degree of financial leverage is used to assess the conditions as mentioned in the option
(d) and (e). So, the option (c) is correct.
401. (e) Appointment of the managers at a very high compensation package will increase the fixed
cost of the company thereby decreasing the denominator of the DOL, DFL and DTL. As a
result of this, these leverages will go up. So, the operating break-even point and the financial
breakeven point will increase. So, the option (e) is correct
402. (c) If a firm goes for additional borrowings, its operating leverage will not be changed as the
degree of operating leverage does not depend on interest expenses.
Financial Forecasting
403. (c) In the trend analysis via extrapolation, the past trend in sales is identified and this trend is
projected into the future. Hence, it is assumed that sales for the coming period will change to
the same degree as sales changed from the prior period to the current period.
404. (a) Sustainable growth is the rate which can be maintained without resorting to external
finance.
405. (e) The credit extended by the suppliers of goods and services is short-term source of finance
or spontaneous source of finance.
406. (a) Financial forecasting is a planning process with which the company’s management
positions the firm’s future activities relative to the expected economic, technical, competitive,
and social environment. Sales forecast provides the basis around which the firm’s planning
process is centered.
407. (d) The percent of sales method assumes that the future relationship between various
elements of costs to sales will be similar to their historical relationship.
408. (a) The starting point in the preparation of pro forma operating statement is a projection of
the unit and rupee volume of sales.
409. (a) Objective methods are statistical methods which range in sophistication from relatively
simple trend extrapolations to the use of complicated mathematical models. Sales force
estimates is not based on the above. It is a subjective model.
410. (d) Objective methods are statistical methods which range in sophistication from relatively
simple trend extrapolations to the use of complicated mathematical models. Regression
analysis is more objective than any other model.
411. (a) EFR = A/S (S) – L/S (S) – mS (1 – d)
This equation highlights that the amount of external financing depends on the firm’s
projected growth in sales.
412. (d) The percent of sales method assumes that the future relationship between various
elements of costs to sales will be similar to their historical relationship and the cost elements
remain unchanged.
413. (c) To prepare the pro forma income statement the percent of sales method is used in the
estimation of cost of goods sold and budgeted expense method is used for estimating the
value of various items on the basis of expected developments in the future period.
414. (d) The methods which use the judgments or opinions of knowledgeable individuals within
the company are called the subjective methods. Regression analysis and trend analysis are
objective methods of financial forecasting.
99

105. Financial Management
m(1 − d) A/E
415. (b) g =
A/SO − m (1 − d) A/E
The above equation depicts the rate of growth without resorting to external financing. When
there is decrease in the dividend payout ratio then the growth increases.
m(1 − d) A/E
416. (a) g =
A/SO − m (1 − d) A/E
The above equation depicts the rate of growth without resorting to external financing.
When the net profit margin increases the growth rate also increase.
417. (d) The assumptions for the sustainable growth rate are as follows:
• The assets of the firm will increase proportionately to sales
• Net profit margin is constant
• Dividend pay-out ratio, not the amount of dividend and debt-equity ratio will remain
constant
• External issue of equity will not be resorted to
Therefore, the alternative (d) is the correct choice.
418. (b) The trend analysis, through the method of extrapolation and regression analysis are used
for the projection of sales volume of the company. The future relationship between various
costs to sales is assumed to follow historical relationship in case of percent of sales method.
But in budgeted expense method, the estimation of the various items is considered on the
basis of the expected changes to be happened in the market for the preparation of the
proforma income statement. Hence, the option (b) is the answer.
419. (e) In Jury of Executive opinion method, the personal judgements of many senior executives
from different fields are taken into account while in sales force estimates method, the
personal judgement of the sales personnel operating at the ground level are considered. But
mathematical tools and techniques are applied in the methods mentioned in the options (c)
and (d). Hence, the option (e) is answer.
Q (S − V)
420. (c) DTL =
Dp
Q (S − V) − F − I −
(1 − t )
6000 (500 - 200)
= = 2.195.
60,000
6000 (500 - 200) − 8,00,000 − 80,000 −
(1- 0.40 )
421. (b) The future relationship between various costs to sales is assumed to follow historical
relationship in case of percent of sales method. But in budgeted expense method, the
estimation of the various items are considered on the basis of the expected developments in
the context of the preparation of the proforma income statement. Trend analysis and
regression analysis are used for the projection of sales volume of the company. Hence, the
option (b) is the answer.
100

106. Frequently Used Formulae
Time Value of Money
1. Nominal interest rate = Real rate of interest or return + Expected rate of inflation + Risk
premiums to compensate for uncertainty.
2. Future Value of a single cash flow = FVn = PV(1 + k)n
Where FVn – Future Value of the initial flow ‘n’ years hence
PV – Initial cash flow
K – Annual rate of interest
n – Life of investment.
3. Doubling Period
(i) Rule of 72: 72/number of years
69
(ii) Rule of 69: 0.35 +
interest rate
4. Future value for shorter compounding periods
mxn
⎛ k⎞
FVn = PV ⎜1 + ⎟
⎝ m⎠
m – number of times compounding is done during a year
n – number of years for which compounding is done.
5. Relationship between Effective and Nominal rates of interest:
m
⎛ k⎞
r = ⎜1 + ⎟ – 1
⎝ m⎠
r – Effective rate of interest
k – Nominal rate of interest
m – Frequency of compounding per year.
⎡ (1 + k) n − 1 ⎤
6. Future value of Annuity FVAn = A ⎢ ⎥
⎣ k ⎦
A = Amount deposited/invested at the end of every year for ‘n’ years.
K = Rate of interest
n = Time horizon
FVAn = Accumulation at the end of ‘n’ years.
k
7. Sinking Fund Factor =
(1 + k) n − 1
8. Present Value of a single flow
FVn
PV =
(1 + k) n
9. Present value of an annuity
⎡ (1 + k) n − 1 ⎤
PVAn = A × ⎢ n ⎥
⎣ k(1 + k) ⎦

107. K(1 + k) n
10. Capital Recovery Factor =
(1 + k) n − 1
11. Present value of Perpetuity
P∞ = A x PVIFA k,∞ .
Risk and Return
1
⎡ 1 n ⎤2
1. Standard deviation = σ = ⎢ ∑ (rit − ri )2 ⎥
⎣ (n − 1) t =1 ⎦
2. Variance = σ 2
Σ(x1 − x1 )(x 2 − x 2 )
3. Covariance = σ12 =
(n − 1)
σ12
4. Coefficient of correlation = ρ12 =
σ1 x σ 2
n n
5. Variance of portfolio = σ 2 =
p ∑ σi2 Wi2 + ∑ σ2j Wj2 +2 ∑ Covij Wi Wj
i=t j=t
6. Systematic risk of a security = βi2 σ m
2
σ im
7. β =
σ2
m
8. Unsystematic risk = σi2 (1 − ρim ).
2
Valuation of Securities
n
C1 C2 Cn C
1. V0 (or P0) =
(1 + k) 1
+
(1 + k) 2
+ .. +
(1 + k) n
= ∑ (1 + k)t
t
t =1
Where,
V0 = Value of the asset at time zero
P0 = Present value of the asset
Ct = Expected cash flow at the end of period t
k = Discount rate or required rate of return on the cash flows
n = Expected life of an asset.
2. Instrinsic value or the present value of a bond:
n
1 F
V0 (or P0) = ∑ (1 + k t
+
(1 + k d )n
t =1 d)
V0 = I (PVIFA(k d ,n) ) + F (PVIF(k d ,n) )
Where,
V0 = Intrinsic value of the bond
P0 = Present value of the bond
I = Annual interest payable on the bond
F = Principal amount (par value) repayable at the maturity time
n = Maturity period of the bond
kd = Cost of Capital.
102

108. 3. The bond values with semi-annual interest
2n
I/2 F
V0 = ∑ (1 + k / 2) t
+
(1 + k d / 2)2n
= I/2 (PVIFA(k d / 2,2n) ) + F(PVIFA(k d / 2,2n) )
t =1 d
Where,
V0 = Value of the bond
I/2 = Semi-annual interest payment
F = Par value of the bond payable at maturity
kd/2 = Required rate of return for the half-year period
2n = Maturity period expressed in half-yearly periods.
4. One period rate of return
⎛ Pr ice gain or loss ⎞ ⎛ Coupon int erest ⎞
⎜ during holding period ⎟ + ⎜ (if paid) ⎟
= ⎝ ⎠ ⎝ ⎠
⎛ Purchase price at the beginning of ⎞
⎜ the holding period ⎟
⎝ ⎠
Coupon interest
5. ∴ Current Yield =
Current Market Price
n
1 F
6. P0 = ∑ (1 + k t
+
(1 + k d )n
t =1 d)
7. As trial and error method calculations are too tedious the following approximation formula
can be employed to find out the approximate YTM on a bond.
I + (F − P) / n I + (F − P) / n
YTM or
0.4F + 0.6P (F + P) / 2
Where,
YTM = Yield to maturity
I = Annual interest payment
F = Par value or redemption value of the bond
P = Current market price of the bond
n = Years to maturity.
8. Conversion value = Conversion Ratio x Stock’s Current Market Price.
9. The value of convertible is determined as follows:
n
C (Pn ) x Conversion ratio
∑ (1 + r)t + (1 + r)n
t =1
Where,
C = Coupon
r = Required rate of return
Pn = Expected price of equity share on conversion
n = Number of years to maturity.
103

109. 10. According to single period valuation model
D1 P1
P0 = +
(1 + k e ) (1 + k e )
Where,
P0 = Current market price of the share
D1 = Expected dividend a year hence
P1 = Expected price of the share a year hence
ke = Required rate of return on the equity share.
11. According to multi-period valuation model
∞
D1 D2 D∞ D
P0 =
(1 + k e ) 1
+
(1 + k e ) 2
+ ... +
(1 + k e ) ∞
= ∑ (1 + kt t
t =1 e)
Where,
P0 = Current market price of the equity share
D1 = Expected dividend a year hence
D2 = Expected dividend two years hence
D∞ = Expected dividend at infinite duration
ke = Expected rate of return or required rate of return.
12. Valuation with Constant Dividends
Assume that the dividend per share is constant year after year, whose value is D, then value
of share is determined as follows:
D D D
P0 = + + ... +
(1 + k e ) 1
(1 + k e ) 2
(1 + k e )∞
The above on simplification becomes
D
P=
ke
13. Valuation with Constant Growth in Dividends
It is assumed that dividends tend to increase over time because business firms usually grow
over time. Therefore, if the growth of the dividends is at a constant compound rate than:
Dt = D0(1 + g)t
Where,
Dt = Dividend for year t
D0 = Dividend for year 0
g = Constant compound growth rate.
The valuation of the share where dividend increases at a constant, compound rate becomes
D1 D (1 + g) D1 (1 + g) 2
P0 = + 1 + + .....
(1 + k e ) (1 + k e ) 2 (1 + k e )3
On simplification
D1
P0 =
ke − g
14. Valuation with Variable Growth in Dividends
Some firms have a super normal growth rate followed by a normal growth rate. If the
dividends move in line with the growth rate, the price of the equity share of such firm would be
104

110. D1 D (1 + g a ) D1 (1 + g e ) n −1 D n (1 + g n ) n −1 D n (1 + g n ) 2
P0 = + 1 + + + + .....
(1 + k e ) (1 + k e )2 (1 + k e ) n (1 + k e ) n +1 (1 + k e ) n + 2
Where,
P0 = Price of the equity share
D1 = Expected dividend a year hence
ga = Super normal growth rate of dividends
gn = Normal growth rate of dividends.
15. Book Value = Net worth (Paid-up equity capital + Reserves + Surplus)
÷ Number of outstanding equity shares.
16. Liquidation value per share is equal to:
⎛ Value realized from liquidating ⎞ ⎛ Amount to be paid to all the ⎞
⎜ ⎟−⎜ ⎟
⎝ all the assets of the firm ⎠ ⎝ Creditors and preference shareholders ⎠
Number of outs tan ding equity shares
17. P/E Ratio = Expected earnings per share x Appropriate price – Earnings ratio
The expected earnings per share is:
Expected PAT − Pr eference dividend
Number of outs tan ding equity shares
PV per share
18. E(P/E) =
E(EPS)
D 1 D / E(EPS)
19. E(P/E) = × or
k − g E(EPS) (k − g)
Financial Statement Analysis
Ratios Definition
LIQUIDITY
Current Assets
Current Ratio
Current Liabilities
Current Assets − Inventor
Quick Ratio
Current Liabilities
Cost of GoodsSold or Sales
Inventory Turnover
Average Inventory
LEVERAGE
Total Debt
Debt-equity Ratio
Net worth
Total Debt
Debt-asset Ratio
Total Assets
EBIT
Interest Coverage Ratio
Interest
PROFITABILITY
Gross Pr ofit
Gross Profit Margin
Net Sales
105

111. Net Pr ofit
Net Profit Margin
Net Sales
Net Income
Return on Equity
Average Equity
EBIT
Earning Power
Average Total Assets
Sales
Assets Turnover
Average Assets
Leverage
ΔY / X
1. LY/LX =
ΔX / X
Where,
LY/LX – Measure of the leverage which dependent Y has with independent X
ΔX – Change in X
ΔY – Change in Y
ΔX
– Percentage change in X
X
ΔY
– Percentage change in Y.
Y
2. Total Revenue = Quantity Sold(Q) x Selling Price (S)
Hence,
EBIT = Q x S – Q x V – F = Q(S – V) – F
[Q(S − V) − F − I] (1 − T) − D P
EPS = [(EBIT – I) (1 – T) – DP]/N =
N
Where,
N = Number of Equity Shareholders.
3. DOL = Percentage change in EBIT / Percentage change in Output
ΔEBIT / EBIT
=
ΔQ / Q
EBIT = Q(S – V) – F
Substituting for EBIT, we get
DOL = [Q(S – V)] / [Q(S – V) – F].
4. DFL = (Percentage change in EPS) / (Percentage change in EBIT)
DFL = ( Δ EPS/EPS) / ( Δ EBIT/EBIT)
Substituting Eq.(ii) for EPS we get
EBIT
DFL =
DP
EBIT − 1 −
(1 − T)
106

112. 5. DTL = % change in EPS / % change in output
= ( Δ EPS / EPS) ( Δ Q/Q)
DTL = DOL x DFL
= {[Q(S – V)]/[Q(S – V) – F]} x {[Q(S – V) – F]/ Q(S – V) – F – I – [Dp/1–T)]}
Q(S − V)
=
DP
Q(S − V) − F − I −
(1 − T)
6. The overall break even point is that level of output at which the DTL will be underfined and
EPS is equal to zero. This level of output can be calculated as follows:
DP
F +1+
(1 − T)
Q =
(S − V)
Financial Forecasting
A L
1. EFR = (ΔS) − (ΔS) − mS1 (1 − d)
S S
Where,
EFR = External financing requirement
A/S = Current assets and Fixed assets as proportion of sales
ΔS = Expected increase in sales
L/S = Spontaneous liabilities as proportion of sales
m = Net profit margin
S1 = Projected sales for next year
d = Dividend pay-out ratio.
m(1 − d)A / E
2. g= .
A / S0 − m(1 − d)A / E
107

113. Part II: Problems
Indian Financial System
1. If 182-day T-Bills are issued at a discounted price of Rs.96.52, then the yield is
a. 6.98%
b. 7.13%
c. 7.23%
d. 7.58%
e. 8.05%.
2. If 364-day T-bills of face value Rs.100 are issued at a yield of 11.50%, then the issue price is
a. Rs.88.50
b. Rs.89.69
c. Rs.89.71
d. Rs.89.78
e. Rs.89.88.
3. If the bid received by RBI from a bank for a 364-day T-Bill having a face value of Rs.100 is
Rs.88.24, and the bank calculates yield based on 365-day year, the yield to the bank will be
a. 11.760%
b. 11.792%
c. 13.291%
d. 13.327%
e. 13.364%.
4. Mr. B purchases a 91-day T-bill on 12.06.99 at Rs.98.12. The bill has a maturity of 61 days.
The yield realized by Mr. B by holding the bill till maturity is
a. 5.87%
b. 6.10%
c. 7.54%
d. 7.69%
e. 11.46%.
Time Value of Money
5. X deposited Rs.1,00,000 on retirement in a bank which can be withdrawn Rs.16,274 annually
for a period for 10 years. What is the interest rate?
a. 14%.
b. 20%
c. 10%
d. 8%.
e. 18%.
6. Vision Ltd., an NBFC offers car loans with two schemes. Scheme A offers 10% discount on
cash payment. Scheme B asks for a down payment of Rs.18,000 and Rs.4,100 per month for
5 years.
If the cost of the car is Rs.2.5 lakhs and the required rate of return is 9%, which of the
following represents the present value of cash inflows of both the Schemes?
a. Rs.2,50,000; Rs.2,17,000.
b. Rs.2,25,000; Rs.2,17,000.
c. Rs.2,25,00;Rs.2,17,182.
d. Rs.2,25,0000; Rs.2,17,582.
e. Rs.2,35,000; Rs.2,17,500.

114. Part II
7. Mr. Rohit is considering two options for investing Rs.5,000 for 4 years. In the first option, he
will get an assured return of Rs.7,000 plus percentage gain on the sensex at the end of 4th
year over today’s closing index. The second option assures him an interest rate of 15% p.a.
compounded annually. Today’s closing index = 4000, Sensex at the end of 4th year = 5000.
What amount will Rohit receive at he end of 4th year, if he is considering, the two options
independently?
a. Rs.8,250; Rs.8,545.
b. Rs.8,250; Rs.8,745.
c. Rs.8,545; Rs.8,745.
d. Rs.8,645; Rs.8,845.
e. Rs.8,745; Rs.8,845.
8. Which of the following alternatives gives the highest return assuming an interest of 14% per
annum?
a. Rs.1,00,000 now.
b. Rs.2,00,000 after 6 years.
c. Rs.15,000 p.a. in perpetuity
d. Rs.1,000 per month for a year and Rs.95,000 at the end of the year.
e. Rs.18,000 per year for the next 10 years.
9. How much amount should be deposited today in order to receive Rs.5,000 next year, and
which grows at the rate of 4% forever? Assume that the discount rate is 14% per annum.
a. Rs.50
b. Rs.500
c. Rs.5,000
d. Rs.50,000
e. Rs.5,00,000.
10. Hi-tech Ltd., offers a scheme under which an investor has to deposit Rs.1,500 per year for a
period of 10 years. After he can get back Rs.23,905 at the end of 10th year. What is the
irrelevant interest rate.
a. 10%
b. 12%
c. 13%
d. 14%
e. 20%
11. Ms. Sunita needs Rs.1,00,000 after 10 years. She can receive the required amount at the
desired time under two schemes. Under scheme A, she has to invest Rs.10,000 at the end of
every year for the first four years. Under scheme B, she has to invest Rs.5,000 at the end of
every year for the first 8 years. What are the implied interest rates in both the schemes?
a. 12.69%, 16.87%.
b. 12.85%, 16.79%.
c. 12.36%, 16.61%.
d. 12.69%, 16.97%.
e. 12.41%, 16.54%.
12. Ms. Kusum has retired recently. She received Rs.5 lakh as her retirement benefits, which she
had invested in a bank at 15% rate of interest. If she expects to live independently for another
15 years, how much money she can withdraw at the end of every year so as to leave a nil
balance in her account at the end of maturity?
a. Rs.40,65,040.
b. Rs.85,514.
c. Rs.61,448.
d. Rs.10,509.
e. Rs.4,064.
109

115. Financial Management
13. Mr. Amol wants to have an annual income of Rs.60,000 starting from the 11th year, which
should increase to Rs.90,000 from the 16th year and should continue till perpetuity. At 15% rate
of interest, how much should he invest amount annually for 10 years to get the desired returns?
a. Rs.24,592.
b. Rs.99,486.
c. Rs.14,687.
d. Rs.5941.4.
e. Rs.1,23,411.
14. Mr. Rajan Lal requires a sum of Rs.10 lakh at the end of 5 years from now for his son’s
education. He is considering the following alternatives to accumulate the funds required:
i. Deposit a fixed sum in bank at the beginning of every year for five years, which will
fetch him on maturity an amount equal to Rs.10 lakh. Bank pays him interest at the rate
of 12% p.a.
ii. Buy a plot now by borrowing the amount required to buy it and sell it after 5 years so
that it realizes Rs.10 lakh. He has identified an area in which the market price is expected
to grow at the rate of 24% per annum. The purchase price is repayable in 5 equal
installments at the beginning of each year, the first installment being paid now. The loan
carries interest at the rate of 18% p.a.
What is the outflow of funds required for Mr. Rajan Lal under both the options?
a. 1.00 lakh; 0.90 lakh.
b. 1.41 lakh; 0.92 lakh.
c. 1.42 lakh; 0.95 lakh.
d. 1.45 lakh; 0.95 lakh.
e. 1.47 lakh; 0.97 lakh.
15. Mr. Chandramouli Singh is considering to take a life insurance policy of LIC for 20 years.
The insurance agent is advising him to take a money back policy. The scheme offers money
back at the end of 5th, 10th, 15th and 20th year to the extent of 25%, 25%, 25% and 25% of
the insured amount. The premium he will have to pay is Rs.62 annually for every Rs.1,000
insured. The insurance agent also, informs him that he will get a minimum bonus to the
extent of 40% at the end of the insurance term. Mr. Singh is of the opinion that the premium
for the money back policy is on the higher side. If the banks are offering a rate of 11% on the
long-term deposits, what is the effective return (K) on the policy and advise Mr. Singh.
a. K = –2.56% and it is advisable for Mr. Singh to go for policy
b. K = 2.56% and it is advisable for Mr. Singh to go for policy
c. K = 2.56 % and it is not advisable for Mr. Singh to go for policy
d. K = –2.56% and it is not advisable for Mr. Singh to go for policy
e. None of the above.
16. Mr. Farooq is considering to purchase a commercial complex that will generate a net cash
flow of Rs.4,00,000 at the end of one year. The future cash flows are expected to grow at the
rate of 4% per annum. Mr. Farooq’s required rate of return is 12%. How much sould Mr. Farooq
pay for the complex if it produces cash flows forever.
a. Rs.20,00,000
b. Rs.50,000
c. Rs.5,00,000
d. Rs.50,00,000
e. Rs.2,00,000.
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116. Part II
17. Mr. Prasad is considering to purchase a commercial complex that will generate a net cash
flow of Rs.4,00,000 at the end of one year. The future cash flows are expected to grow at the
rate of 4% per annum. Mr. Prasad’s required rate of return is 12%. Mr. Prasad would be
willing to pay the amount of ________ for the complex if he wishes to sell it at the end of
four years at Rs.40 lakh, net of transaction costs.
a. Rs.49,58,921
b. Rs.38,26,958
c. Rs.1,56,13,927
d. Rs.1,61,51,256
e. Rs.1,82,77,509.
18. Modern Textiles Ltd., has to redeem debentures worth Rs.1 crore by paying Rs.30 lakh at the
end of 8th year, Rs.30 lakh at the end of 9th year and Rs.40 lakh at the end of 10th year
from now. How much amount should the firm deposit in a sinking fund account at the
end of every year for 7 years in order to meet the aforementioned payments? (Assume that
the interest rate earned on the deposit account is 8% per annum).
a. Rs.49,73,803
b. Rs.4,97,380
c. Rs.9,55,410
d. Rs.95,541
e. Rs.9,550.
19. The present value of cash flows of Rs.950 per year forever at an interest rate of 8% and 10%
are _________ and _____________ respectively.
a. Rs.9,375 and Rs.7,500
b. Rs.8,500 and Rs.9,670
c. Rs.11,875 and Rs.9,500
d. Rs.7,345 and Rs.9,450
e. Rs.9,150 and Rs.8,965.
20. The present value of Rs.4,500 receivable in 7 years at a discount rate of 15% is __________.
a. Rs.975
b. Rs.1150
c. Rs.1692
d. Rs.1890
e. Rs.1555.
21. The present value of an annuity of Rs.8,000 starting in 7 years time lasting for 7 years at a
discount rate of 10% is ______
a. Rs.16,000
b. Rs.21,964
c. Rs.24,750
d. Rs.16,875
e. Rs.15,700.
22. The present value of an annuity of Rs.550 starting after 1 year for 6 years at an interest rate of
12% is ______.
a. Rs.5,435
b. Rs.4,712
c. Rs.2,261
d. Rs.2,795
e. Rs.5,195.
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117. Financial Management
23. The present value of an annuity of Rs.1,300 starting immediately and lasting until 9th year at
a discount rate of 20% is _______
a. Rs.5,755
b. Rs.4,586
c. Rs.6,798
d. Rs.6,288
e. Rs.5,915.
24. The present value of a perpetuity of Rs.800 starting in the beginning of year 3 at a discount
rate of 18% is ___
a. Rs.24,160
b. Rs.2,796
c. Rs.3,191
d. Rs.2,831
e. Rs.1,794.
25. _____ is the present worth of operating expenditures of Rs.4,00,000 per year which are
assumed to be incurred continuously throughout in 8 year period if the effective annual rate
of interest is 12%.
a. Rs.15,75,000
b. Rs.19,87,200
c. Rs.14,27,995
d. Rs.15,67,813
e. Rs.18,27,500.
26. Kiran Automobiles purchases a machinery for Rs.8,00,000 by making a down payment of
Rs.1,50,000 and remainder in equal installments of Rs.1,50,000 for six years. The rate of
interest to the firm is ______.
a. 10% approximately
b. 11% approximately
c. 8% approximately
d. 14% approximately
e. 6% approximately.
27. Ten years from now Mr. X will start receiving a pension of Rs.8,000 a year. The payment will
continue for sixteen years. If his interest rate is 10%, now the worth of pension is ______.
a. Rs.24,160
b. Rs.18,760
c. Rs.21,365
d. Rs.23,414
e. Rs.20,775.
28. Assume that a deposit is to be made at year zero into an account that will earn 8%
compounded annually. It is desired to withdraw Rs.6,000 after three years from now and
Rs.7,000 after six years from now. The size of the year zero deposit that will produce these
future payments is _______.
a. Rs.8,400
b. Rs.9,650
c. Rs.11,000
d. Rs.9,174
e. Rs.8,120.
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118. Part II
29. _______is the minimum amount which a person should be ready to accept today from a
debtor who otherwise has to pay a sum of Rs.4,000 today Rs.5,000, Rs.7,000 and Rs.8,000
and Rs.10,000 at the end of year 1, 2, 3 and 4 respectively from today. The rate of interest
may be taken at 14%.
a. Rs. 29,540
b. Rs. 28,409
c. Rs. 25,000
d. Rs. 18,750
e. Rs. 25,088.
30. The present value of the investment Rs.7,500 due in 10 years discounted @10 percent annual
rate is _______.
a. Rs.1,009.10
b. Rs.2,038.95
c. Rs.2,891.57
d. Rs.3,195.80
e. Rs.6,610.75.
31. The fixed deposit scheme of ICICI Bank offers the following interest rates.
Period of deposit Rate per annum
58 days to 187 days 12.0%
188 days to < 1 year 12.5%
I year and above 13.0%
An amount of Rs.1,00,000 invested today will grow in 3 years to __________
a. Rs.1,55,000
b. Rs.1,44,200
c. Rs.1,67,500
d. Rs.1,52,000
e. Rs.1,45,000.
32. What is the doubling period according to the ‘Rule of 69’ if the interest rate is 18%?
a. 4.45 yrs.
b. 4.90 yrs.
c. 5.67 yrs
d. 5.28 yrs.
e. 4.18 yrs.
33. If you deposit Rs.10,000 today at 12% rate of interest, in how many years does this amount
grow to Rs.80,000 (Use ‘Rule of 72’)?
a. 6 years
b. 12 years
c. 18 years
d. 14 years
e. 24 years.
34. What is the future value of Rs.20,000 invested now for a period of 5 years at an interest rate
of 8%?
a. Rs.29,380.
b. Rs.41,350.
c. Rs.30,710.
d. Rs.20,700.
e. Rs.28,000.
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119. Financial Management
35. What is the future value of the following series of payments @ 5% rate of interest at the end
of 5 years?
At the end of 1st year = Rs.2,000
2nd year = Rs.3,000
3rd year = Rs.4,000
4th year = Rs.5,000
5th year = Rs.6,000
a. Rs.14,750.
b. Rs.12,516.
c. Rs.21,559.
d. Rs.16,041.
e. Rs.15,000.
36. The present value of Rs.20,000 to be received after five years from now assuming 6% time
preference for money is ______.
a. Rs.14,940
b. Rs.16,776
c. Rs.12,551
d. Rs.11,500
e. Rs.20,740.
37. The present value of the following cash flows assuming a discount rate of 8% is _______
Year Cash flows
1 Rs.30,000
2 Rs.20,000
3 Rs.10,000
4 Rs.10,000
a. Rs.60,210
b. Rs.35,165
c. Rs.41,210
d. Rs.50,500
e. Rs.46,785.
38. Mr. A has to receive Rs.9,000 per year for 6 years. The present value of the annuity is
______, assuming that he can earn interest on his investment @12% p.a.
a. Rs.22,750
b. Rs.15,650
c. Rs.36,999
d. Rs.18,975
e. Rs.32,515.
39. The amount of equal annual payment to be made for a loan of Rs.4,00,000, taken for a period
of 4 years @10% rate of interest is _________.
a. Rs.64,009.60
b. Rs.63,091.48
c. Rs.71,568.10
d. Rs.1,26,183
e. Rs.1,76,000.
40. A company offers to pay you Rs.4,025 annually for 8 years if you deposit Rs.20,000 today with
the company. The interest rate earned will be ______.
a. 13%
b. 16%
c. 18%
d. 12%
e. 22%.
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120. Part II
41. An investment company offers to pay Rs.25,959 at the end of 10 years to investors who
deposit annually Rs.1,000. The implied interest rate is __
a. 12%
b. 14%
c. 16%
d. 18%
e. 20%
42. If you deposit Rs.20,000 today at 12% rate of interest, in how many years will this amount
grow to Rs.80,000 using rule of 72.
a. 10 years
b. 12 years
c. 14 years
d. 16 years
e. 18 years.
43. Payment of a 9-years annuity of Rs.10,000 will begin 7 years hence. The value of this
annuity now if the discount rate is 12%?
a. Rs.44,315.
b. Rs.27,000.
c. Rs.35,675.
d. Rs.13,400.
e. Rs.22,975.
44. X deposits Rs.1,00,000 on retirement in a bank which pays 10% annual interest. How much
can be draw annually for a period of ten years if PVIFA @10% is 6.145.
a. Rs.16,273.79
b. Rs.18,797.10
c. Rs.20,000
d. Rs.11,567.15
e. Rs.15,850.
45. At the time of his retirement Mr. Swamy is given a choice between two alternatives.
i. An annual pension of Rs.20,000 as long as he lives.
ii. A lump sum payment of Rs.1,50,000. If Mr. X expects to live for 15 years and rate of
interest is 15%, which alternative should he select.
a. Option (i) only.
b. Option (ii) only.
c. Both (a) and (b) above
d. Either (a) or (b)
e. None of the above.
46. A person can save Rs. ________ annually to accumulate Rs.4,00,000 by the end of 10 years,
if the saving earns an interest of 12 percent.
a. 22,795
b. 18,500
c. 25,700
d. 21,350
e. 19,475.
115

121. Financial Management
47. Ram expects to receive Rs.1,000 annually for 3 years, each receipt occurring at the end of the
year. What is the present value of this stream of benefits if the discount rate is 10%?
a. Rs.3,568.50.
b. Rs.2,486.85.
c. Rs.3,541.19.
d. Rs.2,796.71.
e. Rs.3,119.18.
48. Andhra Bank has opened a scheme to all individuals/firms. A lump sum deposit is remitted
and the principal is received with interest at the rate of 12 percent p.a. in 12 monthly
installments. The interest is compounded at quarterly intervals. The amount of initial deposit
to receive a monthly installment of Rs.1000 for 12 months is _________.
a. Rs.19,709
b. Rs.21,756
c. Rs.18,494
d. Rs.11,256
e. Rs.10,764.
49. A intends to invest Rs.600 at the end of each of the next eight years at an interest rate of 11
percent. Determine the amount A will have at the end.
a. Rs.7,384
b. Rs.7,304
c. Rs.7,117
d. Rs.6,957
e. Rs.6,845.
50. On a contract, there are two options.
Option 1: Receiving Rs.25,000 six years from now
Option 2: Receiving Rs.50,000 twelve years hence.
What is the implied discount rate that equates these two amounts?
a. 10.3%.
b. 11.3%.
c. 12.25%.
d. 13.52%.
e. 13.75%.
51. The present value of the wages receivable for the next thirty years for C is Rs.400000. If C
saves 10% of his salary and invests the same at an interest rate of 12% what is the value of
the savings after 30 years.
a. Rs.11,18,375
b. Rs.12,00,020
c. Rs. 9,85,645
d. Rs.11,98,400
e. Rs. 9,69,725.
52. An asset appreciating at 10 percent approximately doubles in 7 years. Calculate the
approximate present value of an asset that pays Rs.1 a year in perpetuity beginning from year 8.
a. Rs.6
b. Rs.7
c. Rs.5
d. Rs.8
e. Rs.4.
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122. Part II
53. If an insurance firm X uses an interest rate of 5% in its calculations, what must Mr.Cohen
pay at the outset for an annuity providing him Rs.10,000 per year? (Assume annual payments
are at the end of each of the 15 years). What would be the purchase price if the interest rate
were 10%?
a. Rs.1,10,679; Rs.76,050.
b. Rs.1,10,967; Rs.75,060.
c. Rs.1,03,800; Rs.76,061.
d. Rs.1,03,880; Rs.75,071.
e. Rs.1,04,760; Rs.76,070.
54. Mr. X wants to buy a house which would cost him Rs..8, 00,000. SFCL has offered to
provide 90% finance for a period of 8 years. Mr. X has to bring in 10% of the cost of the
house at the time of purchase. He will borrow the amount of his contribution from one of his
relatives and will pay back his relative Rs.40,000 and Rs.50,000 (which include the amount
borrowed and the interest) at the end of the first year and the second year respectively. The
amount borrowed from SFCL has to be repaid along with interest in equated monthly
installments of Rs.12,800 each, payable at the end of every month over a period of 8 years. If
Mr. X borrows 90% of the purchase price from SFCL Ltd., and the rest from his relative, the
effective rate of interest per annum involved is
a. 15.36%
b. 16.75%
c. 17.89%
d. 18.00%
e. 18.75%.
55. If the interest rate is 10 percent calculate the present value of an asset that pays Rs.10 a year
in perpetuity, and the approximate present value of an asset paying Rs.1 every year for each
of the next seven years.
a. Rs.100 and Rs.5
b. Rs.100 and Rs.50
c. Rs.10 and Rs.50
d. Rs.10 and Rs.5
e. Rs.100 and Rs.7.
56. Mr. Prakash deposits Rs.100 at the beginning of every month in the recurring deposit scheme
of Hyderabad Bank for five years. If the bank offers an interest rate of 12 percent per annum
compounded monthly, the amount accumulated by the end of five years is (round off your
answer to the nearest integer)
a. Rs.7,624
b. Rs.6,121
c. Rs.8,167
d. Rs.8,249
e. Rs.8,538.
57. In order to buy a car woth Rs.5,00,000, you are planning to take loan of Rs.400,000 from a
Commercial Bank. The loan is to be repaid along with interest in equated monthly
installments of Rs.9,000 within a period of 5 years, payable at the end of every month.
However, the margin money of Rs.100,000 is to be borrowed from a local money lender that
is to be repaid with interest at a rate of 20 percent by the end of the year. What is the implicit
cost of your borrowed funds?
a. 12.41%.
b. 12.91%.
c. 13.31%.
d. 13.71%.
e. 14.11%.
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123. Financial Management
58. The money invested in Kisan Vikas Patra today doubles in eight years and six months. What
is the approximate rate of interest per annum as per the “Rule of 69”?
a. 8.08%.
b. 8.23%.
c. 8.47%.
d. 8.53%.
e. 8.68%.
59. Setwin Corp Ltd., has taken a loan of Rs.5 lakh from Sec’bad Bank at 12 percent per annum
compounded annually. If the loan is to be repaid along with interest in 5 equated annual
installments (where the first installment is to be paid after one year from today and the
interest is calculated on the diminishing balances), what should be the amount of installment?
(Round off your answer to the nearest Rs.100).
a. Rs.1,47,400
b. Rs.1,38,700
c. Rs.1,55,300
d. Rs.1,23,800
e. Rs.1,25,300.
60. In order to buy a car, on January 1, 2007, presently available at a price of Rs.2,50,000, you
started to deposit your money in the monthly recurring deposit scheme of a bank from January
31, 2004. The bank offers a rate of interest of 12 percent per annum compounded monthly. If
the car price is expected to go up by 4 percent per annum, how much amount should you
deposit every month in that scheme? (Round off your answer to the nearest integer)
a. Rs.5,828
b. Rs.6,178
c. Rs.6,528
d. Rs.6,670
e. Rs.7,028.
61. If the rate of return from a security is 6 percent per annum, what is the doubling period under
the ‘Rule of 72’?
a. 11.85 years.
b. 11.87 years.
c. 12 years.
d. 13 years.
e. 15 years.
62. The nominal rate of interest is 6 percent per annum. What is the effective rate of interest, if it
is compounded quarterly?
a. 6.00%.
b. 6.06%.
c. 6.14%.
d. 6.24%.
e. 6.36%.
63. If long term rate of interest offered by a bank is 6.19 percent per annum. What is the doubling
period under the “Rule of 69”?
a. 11.15 years.
b. 11.50 years.
c. 11.85 years.
d. 12.15 years.
e. 12.50 years.
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124. Part II
64. You are planning to buy a car after 5 years that is presently available at a price of
Rs.2,50,000. If the price is expected to go up by 20 percent by that time, how much amount
should you deposit at the beginning of every year at a rate of 6 percent per annum in order to
make your plan a success?
a. Rs.71,225.
b. Rs.67,193.
c. Rs.53,220.
d. Rs.50,207.
e. Rs.45,038.
65. Hyderabad Finance Ltd., offers a deposit scheme where the investor is required to deposit
Rs.100 at the end of every month for a period of 4 years 2 months in order to get an amount
of Rs.7,500 at the end of 5 years. What is the effective rate of interest?
a. 11.30%.
b. 12.30%.
c. 13.30%.
d. 14.30%.
e. 15.30%.
66. Mr. Sadhu plans to buy a house for a price of Rs.5 lakh. State Bank of India offers loan at a
rate of 9 percent per annum quarterly compounded for 80 percent of the purchase price of the
house. How much will be the equated monthly installments, if Mr. Sadhu plans to repay the
loan with interest in the next ten years?
a. Rs.5,041.
b. Rs.5,142.
c. Rs.5,242.
d. Rs.5,342.
e. Rs.5,442.
67. If a loan of Rs.3,00,000 is to be repaid in 6 annual installments with a coupon rate of 12% p.a.
then the equated annual installment will be
a. Rs.71,967
b. Rs.72,975
c. Rs.74,005
d. Rs.75,995
e. Rs.76,004.
68. A person took a loan of Rs.10,000 on January 1, 2003. At the end of every month he has to
pay Rs.1,000 for 12 months so that his loan will be totally repaid by December 31, 2003. The
implied interest rate per annum is (approximately)
a. 20%
b. 25%
c. 28%
d. 30%
e. 35.1%.
69. The difference between the effective rate of return of a bond with a coupon rate of 12%
when compounded monthly and quarterly is
a. 0.03%
b. 0.10%
c. 0.13%
d. 0.19%
e. 0.45%.
119

125. Financial Management
70. If the annual cash inflow for a bond is Rs.200, the present value of the bond, if the inflows
continue for 5 years at a required rate of 11%, is
a. Rs.639
b. Rs.739
c. Rs.839
d. Rs.869
e. Rs.939.
71. The fixed deposit scheme of Nagarjuna Bank offers 10% interest for a three-year deposit. If
the compounding is done semi-annually, then effective annual interest rate is
a. 10.00%
b. 10.25%
c. 10.38%
d. 10.50%
e. None of the above.
72. An income stream provides Rs.2000 for first three years and Rs.3000 for next three years, if
interest rate is 14%, then the present value of income stream is
a. Rs.8650.85
b. Rs.8860.50
c. Rs.9403.20
d. Rs.9624.25
e. Rs.9345.00.
73. Mr. Naresh deposited Rs.1000 every month in a bank for five years, if the interest rate is 12%
p.a. compounded monthly, then the accumulated amount he will get after 5 years is
a. Rs.44,955
b. Rs.67,200
c. Rs.81,600
d. Rs.83,264
e. Rs.96,000.
74. Tripti Foods Ltd., had taken a loan of Rs.500 lakh from a bank. The loan is to be repaid in ten
equal annual installments. If the annual interest rate is 16%, then each installment is
a. Rs.102.78 lakh
b. Rs.103.46 lakh
c. Rs.111.43 lakh
d. Rs.113.50 lakh
e. Rs.132.13 lakh.
75. Mr. Pandit expects to receive from his friend an amount of Rs.2000 per annum for 10 years.
If his required rate of return is 12% p.a. what is the present value of these cash inflows?
a. Rs.20,000.
b. Rs.15,000.
c. Rs.11,300.
d. Rs.10,500.
e. Rs.10,000.
120

126. Part II
76. If a bank agrees to pay 9 percent per annum for a certain sum of money deposited with it, and
if the interests are paid semi-annually, then the effective rate of interest is
a. 18.00% p.a.
b. 9.00% p.a.
c. 9.20% p.a.
d. 10.00% p.a.
e. 12.00% p.a.
77. A loan of Rs.5,00,000 is to be repaid in 10 equal annual installments. If the loan carries a rate of
interest of 12% p.a., the equated annual installment is
a. Rs.75,000
b. Rs.80,000
c. Rs.88,496
d. Rs.95,496
e. Rs.1,00,000.
78. If the effective annual rate of interest is 17.87%, then on a debt that has quarterly payments,
what is the nominal annual rate?
a. 16.78%.
b. 18.92%.
c. 20.93%.
d. 21.00%.
e. 22.36%.
79. If a share of a stock provided a 19.5% nominal rate of return while the real rate of return was
14%, then the inflation rate was
a. 4.83%
b. 7.18%
c. 8.54%
d. 10.12%
e. 26.24%.
80. If a borrower promises to pay Rs.20,000 eight years from now in return for a loan of
Rs.12,550 today, what effective annual interest rate is being offered?
a. 1.59%.
b. 5.00%.
c. 6.00%.
d. 7.00%.
e. 7.42%.
81. Rs.10,000 is borrowed to be repaid in four equal annual payments with 8% interest.
Approximately, how much principal is amortized with the first payment?
a. Rs.800.
b. Rs.2219.
c. Rs.2500.
d. Rs.3281.
e. Rs.3300.
121

127. Financial Management
82. If the nominal rate of interest is 10% p.a. and the frequency of compounding is 4 times a year
then the effective interest rate is
a. 10.38%
b. 10.40%
c. 10.42%
d. 10.44%
e. 10.46%.
83. The future value of a regular annuity of Re.1.00 earning a rate of interest of 12% p.a. for
5 years is equal to
a. Rs.6.250
b. Rs.6.353
c. Rs.6.425
d. Rs.6.538
e. Rs.6.625.
84. Rs.100, 180-day T-bills is currently selling at Rs.95. The yield on the bills, assuming 365-day
year is
a. 10.00%
b. 10.50%
c. 10.67%
d. 10.88%
e. 11.25%.
85. What real rate of return is earned by a one year investor in a bond that was purchased for
Rs.1000, has a 12% coupon and was sold for 980 when the inflation rate was 6%?
a. 2%.
b. 4%.
c. 6%.
d. 10%.
e. 16%.
86. The amount that has to be invested at the end of every year for a period of 6 years at a rate of
interest of 15% in order to accumulate Rs.1000 at the end of 6 years is equal to
a. Rs.112.42
b. Rs.114.24
c. Rs.114.42
d. Rs.112.44
e. Rs.112.24.
87. If rate of interest is 16% and maturity period of a loan is 15 years, the sinking fund factor will
be equal to
a. 0.01558
b. 0.01935
c. 0.9735
d. 1.0667
e. 1.9357.
88. If the nominal rate of interest compounded quarterly is 18%, then the effective rate of interest
will be equal to
a. 16.6%
b. 16.7%
c. 16.8%
d. 16.9%
e. 19.25%.
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128. Part II
89. The present value of Rs.10,00,000 receivable after 60 years, at a discount rate of 10% is
a. Rs.3,284
b. Rs.6,898
c. Rs.18,649
d. Rs.39,440
e. Rs.48,376.
90. If the interest rate on a loan is 1.5% per month, the effective annual rate of interest is
a. 18%
b. 18.63%
c. 18.79%
d. 19.15%
e. 19.56%.
91. According to the ‘Rule of 69’, doubling period of an investment at an interest rate of 16% is
a. 4.2 years
b. 4.5 years
c. 4.7 years
d. 5.0 years
e. 5.2 years.
92. If the return on a security is 6%, then what is the doubling period according to the Rule of 69
for investments in that security?
a. 5.75 years.
b. 11.50 years.
c. 11.58 years.
d. 11.85 years.
e. None of the above.
93. If the interest rate is 12% p.a., the amount to be invested today to earn an annuity of Rs.1,000
for five years commencing from the end of first year is
a. Rs.6,353
b. Rs.5,672
c. Rs.4,037
d Rs.3,605
e. Rs.3,037.
94. If the rate of interest is 10%, the amount that should be deposited now so that a constant
annual income of Rs.10,000 can be withdrawn indefinitely is
a. Rs.9,00,909
b. Rs.1,10,000
c. Rs.1,00,000
d. Rs.90,000
e. Cannot be determined.
95. If the nominal rate of interest is 16% and compounding is done quarterly, the effective rate of
interest will be
a. 17.52%
b. 16.99%
c. 16.00%
d. 15.12%
e. 12.49%.
123

129. Financial Management
96. M/s. Lee Ltd., has Rs.10,00,000 worth of debentures to be redeemed after five years from
now. If the interest rate is 14% p.a., the amount that has to be invested every year in a sinking
fund to retire the above bonds is
a. Rs.6,61,010
b. Rs.3,43,308
c. Rs.2,91,284
d. Rs.1,51,284
e. Rs.1,34,330.
97. ICI Ltd., promises to double your investment in 4 years 9 months. The rate of interest
promised by ICI according to the ‘Rule of 69’ is
a. 13.14%
b. 13.53%
c. 14.53%
d. 15.16%
e. 15.68%.
98. As per the ‘Rule of 72’, in how many years will the amount deposited today at an interest rate
of 16% double?
a. 4.50 years.
b. 4.60 years.
c. 4.62 years.
d. 4.95 years.
e. None of the above.
99. The amount that should be deposited now so that a constant monthly income of Rs.1,000 can
be withdrawn indefinitely, if the rate of interest is 12% p.a. is
a. Rs.90,000
b. Rs.1,00,000
c. Rs.1,15,000
d. Rs.9,00,900
e. Insufficient information.
100. The amount to be invested today to earn an annuity of Rs.1000 for five years commencing
from the end of two years from today if the interest rate is 12% per annum is
a. Rs.3,219
b. Rs.5,993
c. Rs.2,874
d. Rs.3,873
e. Rs.4,873.
101. How much is a Rupee worth today, if you can expect to receive it a year from now, with no
risk of default?
a. Less than Re.1.
b. Re.1.
c. More than Re.1.
d. Zero.
e. Data insufficient.
124

130. Part II
102. As per ‘Rule of 69’ in how many years will the amount deposited today at an interest rate of
15% become double?
a. 4.62 years.
b. 4.60 years.
c. 4.95 years.
d. 4.49 years.
e. None of the above.
103. The IDBI deep discount bond offers investors Rs.2,00,000 after 25 years, for an initial
investment of Rs.5,500. The interest rate implied in the offer is
a. 14.8%
b. 15%
c. 15.5%
d. 16.5%
e. Not possible to determine from the given data.
104. Mr.Dhanasekhar borrows from Sind Bank Limited Rs.5,00,000 to be repaid within five years
at an interest rate of 15% per annum on the opening balances of every year. The equated
annual payment to be made by him, so that by the end of five years the entire amount of
principal and interest would be repaid, is
a. Rs.1,25,000
b. Rs.1,75,000
c. Rs.1,49,165
d. Rs.1,00,000
e. Rs.2,48,633.
105. Ms. D Positor has placed a deposit of Rs.5000 with Acceptor Ltd., at 15% p.a. interest
compounded semi-annually. In three years her investment will grow to
a. Rs.7,250
b. Rs.7,344
c. Rs.7,500
d. Rs.7,604
e. Rs.7,716.
106. How much should a company invest at the beginning of each year at 14% so that it can
redeem debentures of Rs.10 lakhs at the end of year 10?
a. Rs.45,363.
b. Rs.48,195.
c. Rs.51,714.
d. Rs.65,236.
e. Rs.71,535.
107. The probability that stock X will rise by 25% is 30% and the chance that it declines by 5% is
70%. The expected return and standard deviation of stock X are ________ and ________,
assuming return on X and Y is 1% currently.
a. Expected return = 4%, standard deviation = 13.75%
b. Expected return = 4%, standard deviation = –13.75%
c. Expected return = – 4%, standard deviation = 13.75%
d. Expected return = 11%, standard deviation = 93.1%
e. Expected return = –11%, standard deviation = 93.1%.
125

131. Financial Management
108. There is a 40% chance that stock A will rise by 20% and the probability for it decline by 8%
is 60%. The expected return and standard deviation of stock X are ________ and ________,
assuming return on X and Y is 1% currently.
a. Expected return = 4%, standard deviation = –13.75%
b. Expected return = 3.0%, standard deviation = 19.02%
c. Expected return = 3.2%, standard deviation = 13.72%
d. Expected return = –3.0%, standard deviation = –19.02%
e. Expected return = 4%, standard deviation = 19.02%.
109. The standard deviation of stock X and Y are 13% and 13% respectively. If the correlation
coefficient between X and Y is 0.5% then the covariance is ________.
a. 0.0084
b. 0.0090
c. 0.0087
d. 0.0088
e. 0.01.
110. For XYZ Ltd., if the market and stock returns are – 0.5 and 6.83, with beta value as 0.584
then value of alpha from the equation of characteristic line is _____.
a. 7.22
b. 7.02
c. –7.02
d. –7.22
e. 7.12.
111. Given the risk-free rate is 12% and the expected return on the market portfolio is 18%. The
following are the expected returns for three stocks with their betas:
Expected return (%) Expected beta
Stock I 19 1.5
Stock II 18.5 0.75
Stock III 22 1.4
Based on these expectations, which of the following statements is true?
a. Stock I and II are overvalued whereas stock III is undervalued.
b. Stock I is overvalued whereas stock II and III are undervalued.
c. Stock I and II are undervalued whereas stock III is overvalued.
d. Stock I and III are undervalued whereas stock II is overvalued.
e. Stock I, II and III are undervalued.
112. The standard deviation of Greaves Ltd. stock is 24% and its correlation coefficient with the
market portfolio is 0.5. The expected return on the market is 16% with a standard deviation
of 20%. If the risk-free return is 6%, the required rate of return on Greaves Ltd., scrip is
________.
a. 12%
b. –12%
c. 11%
d. 11.5%
e. –11%.
126

132. Part II
113. Mr. Ramesh has the following scrips in his portfolio:
Industries Beta Proportion (%) of investment
Ballarpur Industries 0.95 15
GE Shipping 1.1 20
SBI 1.25 30
Ahmedabad Electric Co. 0.8 5
BSES 1.05 20
Bombay Dyeing 0.7 10
The required rate of return (%) on his portfolio is ______, if risk-free return is 4% and return
on market is 14%.
a. 14.575
b. 14.570
c. –14.575
d. 14.757
e. 14.857.
114. The risk-free return is 10% and the market return is 15%. Stock A has a beta of 1.2 and is
currently selling for Rs.30. If the expected dividend on the stock is Rs.4, then the growth
rate of the company is ______.
a. 2.16
b. 2.11
c. 2.33
d. 2.67
e. 2.70.
115. The shares of Sumanta Ltd. are expected to provide the following returns in different scenarios:
Scenario Probability Expected Return
Recession 0.3 –10%
Low growth 0.4 5%
High growth 0.3 20%
The standard deviation is:
a. 11.0%
b. –11.0%
c. 11.62%
d. –11.62%
e. 12.0%.
116. Consider stock P and Q. The expected return on stock P and stock Q are 10% and 20%
respectively. If standard deviation of stock P is 2% and stock Q is 5%, the expected return
and standard deviation of a portfolio combining these two stocks in equal proportion are
_____ if their correlation coefficient is 0.4.
a. E(r) = 15% and standard deviation is 3.04%
b. E(r) = 11% and standard deviation is 2.76%
c. E(r) = 18.5% and standard deviation is 5.31%
d. E(r) = 16.0% and standard deviation is 4.75%
e. E(r) = 14.8% and standard deviation is 2.98%.
117. ______ is the equilibrium price of a share for which beta is 1, current dividend is Rs.2.5 per
share, growth rate is 6%, risk free return is 9% and return on market is 18%.
a. Rs.22
b. Rs.21.01
c. Rs.22.08
d. Rs.44
e. Rs.44.02.
127

133. Financial Management
118. ABC Ltd., has following dividend per share and the market price per share for the period
2002 and 2003.
Year DPS Market Price
2002 1.53 Rs.37.25
2003 1.53 28.75
The annual rate of return for year 2003 is _____.
a. 18.7%
b. –18.7%
c. 28.7%
d. –28.7%
e. –27.1%.
119. Surana Industries has following dividend per share and the market price per share.
Year DPS Market Price
2002 2.00 200.00
2003 2.00 280.00
The annual rate of return for the year 2003 is ___.
a. 58%
b. –41%
c. –58%
d. –56%
e. 41%.
120. The following information of Ram and Co. Ltd., is available in respect of the return from
security X under different economic conditions:
Condition Economic Return Probability
Good 18% 0.1
Average 15% 0.4
Bad 12% 0.3
Poor 5% 0.2
The expected return of the security and the risk associated with that are ______ and
_________.
a. 18% and 7.8%
b. 14% and 8.6%
c. 15% and 7.9%
d. 19% and 6.4%
e. 12.4% and 4.1%.
121. The market price of the share of ABC Ltd., and XYZ Ltd., are Rs.200 each. The total annual
return expected under different economic condition are as follows:
Condition Probability ABC Ltd XYZLtd
Economic Rs. Rs.
Good 0.3 200 250
Average 0.4 210 230
Bad 0.2 220 190
Poor 0.1 240 160
Using the above data the expected return and standard deviation are _________ and ______
in case of 10 shares of ABC Ltd.
a. Rs.2200 and120.35%
b. Rs.2120 and 116.62%
c. Rs.2050 and 89.75%
d. Rs.2100 and 110%
e. Rs.2360 and 135.45%.
128

134. Part II
122. Using the data of problem 121, the expected return and standard deviation are _______ and
__________, in case of 10 shares of XYZ Ltd.
a. Rs.2365 and 136.98%
b. Rs.2200 and 128.71%
c. Rs.2210 and 291.38%
d. Rs.2400 and 250.41%
e. Rs.2760 and 215.75%.
123. Assume Rf is 7%, Km is 16% for a security X and has a beta factor of 1.4, the required return
of the security is _________.
a. 21.6%
b. 20.0%
c. 17.4%
d. 19.6%
e. 23.2%.
124. A security Y has a beta factor of 1.0 and Rf is 9% and Km is 15%, then the required return of
the security is __________.
a. 17%
b. 16%
c. 18%
d. 14%
e. 15%.
125. If a security Z has a beta factor of 2.3 and Rf is 11% and Km is 17%, then the required return
of the security is _________.
a. 33.12%
b. 20.61%
c. 24.80%
d. 25.8%
e. 27.6%.
126. The risk-free rate is 8% and the required return on the market portfolio is 18% of security A.
The required return of security A is ________ if the Beta is 2.6.
a. 39.2%
b. 28.76%
c. 34.0%
d. 41.3%
e. 25.55%.
127. The standard deviation of return of security Y is 15 and of market portfolio is 10. The beta of
Y is _________ if Corym = –0.25.
a. 0.375
b. –0.375
c. 0.295
d. –0.295
e. –0.475.
128. From the following data beta of security x is ___.
σx = 15, σm = 12 and Corxm = + 0.72.
a. 1.00
b. 0.88
c. 0.73
d. 0.90
e. 1.06.
129

135. Financial Management
129. An investor is seeking the price to pay for a security, whose standard deviation is 4.00
percent. The correlation coefficient for the security with the market is 0.8 and the market
standard deviation is 3.2 percent. The return from the government securities is 6.2 percent
and from the market portfolio is 9.8 percent. The investor knows that, by calculating the
required return, he can then determine the price to pay for the security The required return on
security is _________.
a. 11.57%
b. 10.21%
c. 12.31%
d. 9.8%
e. 12.56%.
Based on the following information, Answer Questions 130 to 133.
The expected return on the market portfolio and the risk-free rate of return are estimated to be
15% and 11% respectively. XYZ Ltd., has just paid a dividend of Rs.3 per share with annual
growth rate of 9%. The sensitivity index β of XYZ Ltd., has been found to be 1.2.
130. The equilibrium price for the shares of XYZ Ltd., is Rs.__________.
a. 31.47
b. 48.08
c. 26.39
d. 39.41
e. 34.57.
131. If the risk Premium further increases by 2%, then the change in price is Rs.________.
a. 25.00
b. 29.50
c. 35.54
d. 24.32
e. 26.00.
132. If the expected growth rate in dividends increases to 12%, then the new price is Rs._______.
a. 61.50
b. 88.42
c. 57.90
d. 62.35
e. 60.15.
133. The change in price is Rs._____ if market sensitivity index of XYZ Ltd., becomes 1.5.
a. 31.57
b. 48.72
c. 35.44
d. 29.72
e. 40.87.
134. The following data relate to two securities, A and B
A B
Expected return 32% 27%
Beta factor (β) 1.5 0.7
Assume: Rf = 20% and Km = 28%.
Find out whether the securities, A and B are correctly priced?
a. Only security A is not correctly priced.
b. Only security B is not correctly priced.
c. Both security A and B are not correctly priced.
d. Both Security A and B are correctly priced.
e. Data provided is insufficient.
130

136. Part II
Based on the following information Answer Questions 135 to 137.
Following information is provided concerning the returns on the shares of Zeenath Ltd., and
on the market portfolio, according to the various conditions of the economy.
Condition of Prob. of condition Return on Return on market
economy occurring Zeenath Ltd.
(1.) 0.2 10% 5%
(2.) 0.4 15% 16%
(3.) 0.4 20% 18%
135. The current risk-free interest rate is 9 percent. The coefficient of correlation between the
returns on Zeenath Ltd., is __________.
a. 1.02
b. 0.86
c. 0.65
d. 0.89
e. 0.31.
136. The beta factor for Zeenath Ltd., is _________.
a. 0.81
b. 0.75
c. 0.94
d. 0.69
e. 1.02.
137. Is Zeenath Ltd., efficiently priced according to the CAPM and the information given above?
a. Share price is lower and not efficiently priced.
b. Share price is higher and efficiently priced.
c. Share price is equal to expected return.
d. Share price is higher and not efficiently priced.
e. Share price is lower and efficiently priced.
Based on the following information Answer Questions 138 to 139.
The following are the different state of economy, the probability of occurrence of that state
and the expected rate of return from security M and N in these different states:
State Probability Rate of return
Security M Security N
Recession 0.20 –0.25 0.30
Normal 0.50 0.30 0.40
Boom 0.30 0.70 0.50
138. The expected returns for these two securities are ___________ and _____________
a. 31%, 41%
b. 27%, 35%
c. 35%, 27%
d. 30%, 32%
e. 24%, 29%.
139. The standard deviations for Security M and Security N are ________ and ________.
a. 28%, 10%
b. 22.4%, 9%
c. 32.92%, 7%
d. 25.1%, 8%
e. 23.2%, 7.5%.
131

137. Financial Management
140. The following in available in respect of securities X and Y.
Security β Expected return
X 2.8 42.00%
Y 2.6 40.40%
Are these securities correctly priced?
a. Both securities are not correctly priced.
b. Both Securities are correctly priced.
c. Security X is correctly priced.
d. Security Y is correctly priced.
e. Data provided above is insufficient.
141. A certain equity stock consists of following information:
Price at the beginning of the year Rs.60.00
Dividend paid at the end of the year Rs. 2.40
Price at the end of the year Rs. 69.00
Then, the rate of return on this stock is _______
a. 15%
b. 16%
c. 17%
d. 18%
e. 19%.
142. The following information in provided for security A Rf = 8%, β = 1.4, Km = 14%, if last paid
dividend is Rs.2.00, current purchase price is Rs.14 and growth rate is 9% then the
equilibrium price is __________
a. 27.11%
b. 29.46%
c. 30.93%
d. 19.21%
e. 32.77%.
143. Security X expects an income of Rs.18.5 when market purchase price is Rs.64. What is the
expected return is?
a. 28.9%.
b. 26.4%.
c. 25.2%.
d. 21.8%.
e. 19.7%.
144. If Correlation coefficient between X and Y is 0.9, standard deviation of X and Y are 0.17 and
0.18 respectively, then the covariance between stocks X and Y is ___________
a. 0.021
b. 0.027
c. 0.015
d. 0.017
e. 0.020.
132

138. Part II
145. Ms. Annie has the following scrips in his portfolio
Beta Proportion of investment (%)
Reliance 0.75 20
Satyam 0.9 25
GE 1.2 30
Raymonds 1.1 25
The expected return on his portfolio is _____ if risk free return is 6% and return on market is 15%.
a. 13.5%
b. 12.9%
c. 15.09%
d. 12.4%
e. 13.9%.
146. The risk-free return is 20% and market return is 25%. Stock A has a beta of 1.4 and is
currently selling for Rs.40. If the expected dividend on the stock is Rs.10, the growth rate of
the company is _______.
a. 0.02%
b. 0.2%
c. 2%
d. 20%
e. 1.2%.
147. There are two stocks A and B, about which the following information is given:
Expected return on stock A = 15%
Expected return on Stock B = 25%
Standard deviation of Stock A = 3%
Standard deviation of Stock B = 6%
The expected return and standard deviation of a portfolio combining these stocks in equal
proportion are _________ and ___________, if their correlation coefficient is 0.6.
a. 20% and 4.08%
b. 19% and 5%
c. 23% and 7%
d. 16.5 and 3%
e. 18.9 and 5.55%.
148. __________ is the equilibrium price of a share for which:
Beta =2
Current dividend = Rs.4.5 per share
Growth rate = 9%
Risk free return = 13%
Return on market = 16%
a. Rs.42.75
b. Rs.37.95
c. Rs.36.95
d. Rs.49.05
e. Rs.35.07.
133

139. Financial Management
149. If an investor is contemplating an investment in a security X which has the following
probability distribution of possible return then find
i. The expected value of return
ii. Standard deviation of return
Probability 0.1 0.2 0.4 0.2 0.1
Possible Return −10% 5% 20% 35% 50%
a. 18% ; 15.33%
b. 20% ; 16.43%
c. 21% ; 15.43%
d. 21% ; 16.43%
e. 22% ; 16.34%.
150. The beta of a security of SK Ltd., is 1.77. The variance of the security’s returns is 23.43(%)2.
The market return has the following probability distribution:
Projected Market Return Probability
15% 30%
12% 40%
8% 30%
The value of the correlation coefficient between market return and the security’s return is
a. 0.996
b. 0.812
c. 0.723
d. –0.123
e. –0.191.
151. Portfolio Z has an expected return of 15 percent and a standard deviation of 16 percent.
Treasury bills are risk free offering an interest of 5%. If you borrow at the treasury bill rate
an amount equal to your initial wealth and invest everything in portfolio Z, calculate the
expected return and the standard deviation of the investment.
a. 10% and 8%
b. 25% and 32%
c. 20% and 30%
d. 20% and 16%
e. 22% and 28%.
152. If the following pairs are the only available alternatives to a rational investor which one will
he choose in each pair for investing purposes?
Rate of return Standard deviation
A 18 20
B 14 20
C 15 18
D 13 8
E 14 16
F 14 10
a. A, D and E
b. A, C and F
c. A, Can’t say and F
d. A, C and Can’t say
e. A, Can’t say Can’t say.
134

140. Part II
153. There are two firms S and T in the stock exchange each accounting for half of the market
portfolio having an expected rate of return of 23% and 13% respectively. Likewise the
standard deviations of returns on their stocks are 40% and 24% with a correlation of 0.80.
Calculate the expected rate of return and the standard deviation of the return on the market
portfolio.
a. 17% and 29.5%
b. 20% and 32%
c. 18% and 30.5%
d. 19% and 32.5%
e. 17% and 31.5%.
154. For the current year, Alpha entertainment Inc. paid a dividend of 19 percent on its equity
shares which have a face value of Rs.10 and are being quoted for Rs.20. The risk free rate of
return is 8 percent, return on market portfolio is 10 percent and beta of the stock of the
company is 1.2. What is the return required by equity holders?
a. 12.00%.
b. 9.60%.
c. 10.40%.
d. 12.40%.
e. 13.20%.
155. What is the expected yield on the market portfolio at a time when treasury bills yield 5% and
a stock with a beta of 1.25 is expected to yield 14%?
a. 7.2%
b. 9.0%.
c. 10.8%
d. 12.2%
e. 17.5%.
156. An investor is supposed to get Rs.40,000 as maturity proceeds after nine years from now
against an investment of Rs.20,000 made today. What is the effective annual interest yield?
a. 5.00%.
b. 6.00%.
c. 7.00%.
d. 8.00%.
e. 9.00%.
157. The net worth and total debt (carrying an average interest rate of 8 percent) of Subsonic
Industries Ltd. amount to Rs.150 lakh and Rs.250 lakh respectively. The net profit of the
company after deducting a marginal tax rate of 20 percent is 24 lakh. The return on
investment of Subsonic Industries is
a. 3.00%.
b. 5.00%.
c. 12.50%.
d. 20.00%.
e. 33.33%.
135

141. Financial Management
158. The stocks of Suburban Travellers’ Ltd., are currently trading at Rs.50 per share and are
expected to pay a dividend of Rs.2.00 per share in this year. The stock price expected one
year hence has the following probability distribution:
Probability 0.35 0.40 0.25
Price (Rs.) 52 56 62
Ignoring the time value of the dividend income, the expected return from that stock for a
holding period of one year is (round off your answer to the nearest integer)
a. 12%.
b. 13%.
c. 14%.
d. 15%.
e. 16%.
159. The projected returns from the equity shares of Suburban Traders Ltd. for the next one year
are as follows:
Probability 0.30 0.45 0.25
Projected Returns 10 percent 16 percent 20 percent
What is the expected risk (in terms of standard of deviation) for the equity shares of
Suburban Traders Ltd.?
a. 3.16%.
b. 3.36%.
c. 3.56%.
d. 3.76%.
e. 3.96%.
160. The correlation coefficient between the returns on the equity shares of Surya Rashmi Ltd.,
and the market return is 0.90. The variance of return on equity shares of the company is 49%2
and the same for the market is 36%2. Presently the government securities are traded at a
return of 5.5 percent while the market return is 12 percent. What is required rate of return
from the equity shares of the above company?
a. 5.50%.
b. 6.50%.
c. 6.83%.
d. 12.00%.
e. 12.33 %.
161. The expected returns for the next one year from the shares of Eastern Sugars Ltd. (ESL) vis-à-
vis the returns from the market portfolio under different situations are projected as follows:
Probability 0.20 0.50 0.30
ESL Share 12 16 22
Market Portfolio 10 12 20
What should be the Beta coefficient for the equity shares of ESL?
a. 0.875
b. 1.000
c. 1.125
d. 1.250
e. 1.375.
136

142. Part II
162. If the risk-free rate of return is 6 percent, the beta of a share is 1.25 and the difference
between the return on market portfolio and the risk free rate is 8 percent, then according to
the CAPM approach, the required rate of return on the share is
a. 8%.
b. 10%.
c. 15%.
d. 16%.
e. 20%.
163. For a company, the net profit margin is 12 percent, debt-equity ratio is 2.00 and the total asset
turnover is 1.67. What is the return on equity for that company?
a. 3.34%.
b. 20%.
c. 24%.
d. 30%.
e. 60%.
164. If the retention ratio is 40% and the P/E ratio is 10, the dividend yield for the company is
a. 4%.
b. 6%.
c. 10%.
d. 12%.
e. 15%.
165. The price of the equity shares of Nectar Systems is expected to appreciate from Rs.25 to
Rs.28 during the coming year. The dividend expected by the end of the year is Rs.3 per share.
The expected return from that stock is:
a. 12.00%.
b. 15.00%.
c. 20.00%.
d. 24.00%.
e. 28.00%.
166. If the beta of a stock is 1.50 while the standard deviation of the return on the market index is
12 percent, then the covariance of returns of the stock and the returns on the market index is
a. 144%2
b. 180%2
c. 216%2
d. 252%2
e. 288%2.
167. The shares of SMS Ltd., are presently trading at a price of Rs.20 per share. The expected
dividend by the end of the year is Rs.1.00 per share while the price appreciation is projected
by the analysts as follows:
Price (Rs.) 21 23 25
Probability 0.3 0.4 0.3
What is the expected return from the shares of SMS Ltd.?
a. 10%.
b. 15%.
c. 20%.
d. 25%.
e. 30%.
137

143. Financial Management
168. On September 30, 2003, the BSE sensex was at 3700 points. With the expectation of a bullish
trend in the near future, an analyst projected the expected value of sensex by the end of next
six months as:
Sensex 3978 4163 4348
Probability 0.3 0.4 0.3
What is the expected annualized return from the market? (Round off your answer)
a. 15%.
b. 20%.
c. 25%.
d. 30%.
e. 35%.
169. The shares of Saboo Ltd., are presently trading at a price of Rs.30 per share. The expected
dividend by the end of the year is Rs.1.00 per share while the price appreciation is projected
by the analysts as follows:
Price (Rs.) 32 35 38
Probability 0.3 0.4 0.3
What is the standard deviation of return from the shares of Saboo Ltd.?
a. 5.75%.
b. 7.75%.
c. 9.75%.
d. 11.75%.
e. 13.75%.
170. The shares of SMS Ltd., is presently trading at a price of Rs.10 per share. The expected
dividend by the end of the year is Rs.1.00 per share while the appreciations of the share price
of SMS vis-à-vis the BSE sensex (Presently at 3800) are projected by the analysts as follows:
Price (Rs.) 10 11 12
Sensex 4370 4750 5130
Probability 0.3 0.4 0.3
What is the beta value for the shares of SMS Ltd.?
a. 0.50.
b. 1.00.
c. 1.25.
d. 1.50.
e. 1.75.
171. The present market price of a security which paid a dividend of Rs.5 is Rs.50. If the required
rate of return is 15% the price expected after one year is
a. Rs.52.50
b. Rs.55.00
c. Rs.57.50
d. Rs.62.50
e. Rs.67.50.
172. If the expected rate of return on a portfolio consisting of two securities is 18.8% and the return on
one security, which constitutes 30% of the portfolio is 16%, the return on the other security is
a. 17%
b. 18%
c. 19%
d. 19.8%
e. 20%.
138

144. Part II
173. If the coefficient correlation between x and y is 0.4, the covariance between them is 0.8 and
standard deviation of y is 0.2, variance of x would be
a. 0.01
b. 0.1
c. 1
d. 10
e. 100.
174. The stock of Golden Technologies Ltd., is currently quoting at Rs.80 per share in the market.
The expected stock price for the next year is as follows:
Probability 0.20 0.50 0.20 0.10
Price 120 140 160 180
The expected return from investing in the stock is
a. 50%
b. 60%
c. 70%
d. 80%
e. 100%.
175. If the covariance of returns of a stock and market is 514.92(%)2 and standard deviation of the
return on the market is 16.25%, then the Beta of the stock is
a. 0.80
b. 1.00
c. 1.25
d. 1.63
e. 1.95.
176. If a share of Reliance is purchased for Rs.5,000 at the beginning of the year and company
paid a dividend of Rs.15 per share for the year, and it is sold at the end of the year at
Rs.6,000, the yield on such an investment is
a. 20.30%
b. 21.30%
c. 21.89%
d. 21.95%
e. 22.30%.
2
177. The covariance of returns of security A and market is (+) 177.85(%) and the variance of
market returns is 121(%)2, then the beta of A is
a. 1.30
b. 1.41
c. 1.47
d. 1.53
e. 1.60.
178. Study the following table:
Probability 0.25 0.35 0.25 0.15
Return on ABC% 15 18 20 13
The expected return from ABC stock is
a. 17.00%
b. 18.00%
c. 19.00%
d. 19.76%
e. 20.15%.
139

145. Financial Management
179. Mr. Anil purchased 100 stocks of Futura Informatics Ltd., for Rs.21 on March 15, and sold
for Rs.35 on March 14 next year. If the company paid a dividend of Rs.2.50 per share, then
Anil’s holding period return is
a. 11.90%
b. 45.40%
c. 66.70%
d. 78.60%
e. None of the above.
180. The 182-day annualized T bills rate is 9% p.a., the return on market is 15% p.a. and the beta
of stock B is 1.5. The required rate of return from investment in stock B is
a. 17% p.a.
b. 18% p.a.
c. 19% p.a.
d. 20% p.a.
e. 24% p.a.
181. If a stock is purchased for Rs.120 per share and held for one year, during which time Rs.15
per share dividend is paid and the price decreases to Rs.115, the nominal rate of return is
a. 6.33%
b. 8.33%
c. 9.33%
d. 10.33%
e. 11.00%.
182. Consider the following data:
Probability 0.25 0.35 0.20 0.1 0.1
Return (%) 19 12 18 20 24
The expected return is
a. 15.00%
b. 15.15%
c. 16.00%
d. 16.15%
e. 16.95%.
183. The risk-free rate of return is 8%; the expected rate of return on market portfolio is 15%. The
beta of Ecoboard’s equity stock is 1.4. The required rate of return on Ecoboard’s equity is
a. 15.4%
b. 16.8%
c. 17.2%
d. 17.8%
e. 23.0%.
184. If the covariance of return from a stock and the market is (+)221(%)2 and the variance of
return from market is 121(%)2, the beta of the stock is
a. 1.62
b. 1.82
c. 1.92
d. 2.00
e. 2.10.
140

146. Part II
185. If a security generates a cash flow of Rs.6.25 at the end of a holding period of 1 year, the
price of the security at the beginning of 1 year was Rs.125 and the price of security at the end
of 1 year is Rs.150 then the rate of return from the security is
a. 10%
b. 15%
c. 20%
d. 25%
e. 30%.
186. Following is the probability distribution of rates of return of a stock:
Return (%) 10 15 20 25
Probability 0.20 0.10 0.50 0.20
The expected rate of return from the stock is
a. 12.5%
b. 15.8%
c. 16.6%
d. 18.5%
e. 19.2%.
187. If the risk-free rate of return, market return and the required rate of return by investor are 8%,
15%, 18% respectively, the beta of the corresponding security will be
a. Less than one
b. One
c. 1.429
d. More than one
e. Cannot be determined with the above data.
188. The probability distribution and corresponding rates of return for a company are given below:
Probability 0.2 0.25 0.25 0.3
Rate of Return (%) 10 12 15 18
The expected return is equal to
a. 13.41%
b. 13.70%
c. 13.75%
d. 14.15%
e. 14.25%.
189. If the expected return on a stock is 18%, risk-free rate is 6% and return on the market
portfolio is 12%, then the beta of the stock is
a. 0.5
b. 1.0
c. 1.2
d. 1.5
e. 2.0.
190. The covariance of the return from a stock with the return from the market is 7.40 and the
variance of the market portfolio is 4.80. What is the beta of the stock?
a. 1.54.
b. 3.40.
c. 4.80.
d. 6.10.
e. None of the above.
141

147. Financial Management
191. If Rf = 8%, β = 1.5, Rm = 12%, then the expected rate of return E(r) according to CAPM is
equal to
a. 10%
b. 14%
c. 18%
d. 24%
e. 26%.
192. If the return on a stock increases by 8% when the return on market increases by 12%
increases, then the beta of the stock is
a. 1.50
b. 1.20
c. 0.80
d. 0.75
e. 0.67.
193. If risk-free rate of return is 10%, return on market portfolio is 14% and return on a stock is
16%, then the beta of the stock is
a. 0.80
b. 1.00
c. 1.20
d. 1.30
e. 1.50.
194. If the covariance between the market return and the return on the stock is 225(%)2 and the
2
variance of return on the market is 200(%) , then the beta of the stock is
a. 0.89
b. 0.98
c. 1.125
d. 1.215
e. 1.521.
195. The return on a share varies by 20% when the return on market portfolio varies by 10%. The
beta (β) of the share is
a. β = 0.2
b. β = 0.1
c. β = 0.5
d. β = 2.0
e. Cannot be determined. More information is required.
196. The current market price of a security is Rs.75. If the probability that the market price a year
hence would be Rs.85 is twice the probability that it would be Rs.90, what is the expected
rate of return on the security? (Ignore dividends)
a. 12.55%
b. 15.53%
c. 20%
d. 20.55%
e. 17.55%.
142

148. Part II
Valuation of Securities
197. A financial institution issues two types of bonds with one and three years’ maturity
respectively. The first, which pays Rs.10,000 a year hence, is now selling for Rs.8,929. The
second, which pays Rs.100 next year, Rs.100 after two years and Rs.1,100 at the end of third
year is now offered at Rs.997.18. The implied interest rates of these two bonds are _______
and _______.
a. 12.0%, 10.1%
b. 10.1%, 12.0%
c. 12.1%, 10.0%
d. 10.0%, 12.1%
e. 10.0%, 12.0%.
198. SPIC Ltd., currently pays a dividend of Rs.3 per share which is expected to grow at an annual
rate of 14% for 3 years and 11% p.a. for next 3 years after which it will grow at 4% p.a.
forever. What amount should be paid for the stock, if the rate of return required by the equity
investors is 16%?
a. Rs.16.51.
b. Rs.52.58.
c. Rs.21.56.
d. Rs.38.09.
e. Rs.6.31.
199. The profit after tax for a firm is Rs.20,000. The dividend pay-out ratio is 50%. If the growth
rate of the earnings is 4% and the scrip trades at 2.5 times its EPS in the market, the required
rate of return by equity shareholders is ________, if the number of outstanding shares is
5000.
a. 26.0%
b. 24.8%
c. 24.0%
d. 45.6%
e. 45%.
200. A bond with a face value of Rs.100 provides 12% annual return and pays Rs.105 at the time
of maturity, which is 10 years from now. If the investors required rate of return is 13%, at
what price should the company issue the bond?
a. Rs.634.84.
b. Rs.34.55.
c. Rs.96.087.
d. Rs.573.27.
e. Rs.130.63.
201. The shares of Zenith Ltd., are currently priced at Rs.25. The risk-free rate of return is 8%,
while the market return is 20%. With the company having paid Rs.2 as the current dividend
and the company having a growth rate of 8%, then what is value of the share ________, if its
beta is 0.7.
a. Rs.25.71
b. Rs.22.0
c. Rs.25.77
d. Rs.19.5
e. Rs.43.1.
143

149. Financial Management
202. A company is offering a bond with the issue price Rs.100, coupon rate (annual payment) of
12% with maturity period 5 years. If the bond is to be redeemed at par and the investor faces
a 30% tax on income and a 10% capital gains tax, the effective yield to maturity for the
investor is ________.
a. 8.22%
b. 8.40%
c. 8.0%
d. 8.11%
e. 6.70%.
203. A company has paid Rs.3 as the current dividend. The growth rate of dividend paid by the
company is 8%, if the cost of equity is 12%, the price of the company’s share three years
hence, is _______.
a. Rs.100
b. Rs.118.01
c. Rs.110.01
d. Rs.102.04
e. Rs.120.
204. Mr. Ramchandran is thinking of investing in the equity shares of Duplex Pharma Ltd. The
face value of the shares is Rs.10. He requires a return of 25% on his investment. Duplex
Pharma Ltd., declared a dividend of Rs.5.00 per share for the current year and it is expected
that the dividends of the company will grow at the rate of 30% for the next five years and
after that at 20% forever. The maximum price at which Mr. Ramachandran may buy the
shares of the company is _______.
a. 117.04
b. 98.88
c. 159.23
d. 102.44
e. 174.17.
205. An AAA rated bond of face value Rs.1,000 is currently quoting in the market at Rs.1,062.
The coupon rate of the bond is 14% payable semi annually. The remaining maturity of the
bond is five years and the principal is repayable at two equal installments at the end of the 4th
and 5th year from now. The yield to maturity of the bond is ________.
a. 10%
b. 12.16%
c. 16.08%
d. 6.08%
e. 14.20%.
206. Mr. Rajan Tiwari is planning to invest in the equity stocks of Xerox India Limited. The
current share price is Rs.150 per share. Xerox has declared a dividend of Rs.10 per share for
the current year. Mr. Tiwari is of the opinion that the dividend per share will remain at the
same level for the next two years, after which it will grow at the rate of 25% per annum in the
third and fourth years. From the fifth year onwards, dividends are expected to grow at a
normal rate of 12% per annum. If the required rate of return of Mr. Tiwari is 14% per annum,
do you suggest him to purchase the share at the current price.
a. Intrinsic value of the stock is Rs.551.98 and it is recommended to purchase the share
b. Intrinsic value of the stock is Rs.551.98 and it is not recommended to purchase the share
c. Intrinsic value of the stock is Rs.517.83 and it is recommended to purchase the share
d. Intrinsic value of the stock is Rs.517.83 and it is not recommended to purchase the share
e. Intrinsic value of the stock is Rs.150 and it is recommended to purchase the share.
144

150. Part II
207. The current price of a Boeing share is Rs.50. The company is expected to pay a dividend of
Rs.2.50 per share increasing with an annual growth rate of 5%. If an investor’s required rate
of return is 12%, advice the person whether he should buy the share or not.
a. Return provided by the share investment is 14 % as against the required rate of return of
12%. Therefore, the investor can buy the share.
b. Return provided by the share investment is only 10% as against the required rate of
return of 12%. Therefore, the investor need not buy the share.
c. Return provided by the share investment is only 11% as against the required rate of
return of 12%. Therefore, the investor need not buy the share.
d. Return provided by the share investment is only 10.5% as against the required rate of
return of 12%. Therefore, the investor can buy the share.
e. Return provided by the share investment is only 15 % as against the required rate of
return of 12%. Therefore, the investor need not buy the share.
208. Vishnu Ltd., has just paid a dividend of Rs.16 per share. As a part of its major reorganization
of its operations, it has stated that it does not intend to pay any dividend for the next two
years. In three years time it will commence paying dividend at Rs.12 per share and the
directors have indicated that they expect to achieve dividend growth at 14% p.a. thereafter.
If the reorganization does not take place, dividend will be paid in the next two years and the
expected dividend growth will remain at the present level of 8% p.a. The firm’s cost of equity
is 18% (i.e., the return expected by the equity investors) and will be unaffected by the
reorganization. The value of firm’s shares in both the situations are_______and________.
Moreover, advice the directors to which process they should adopt for?
a. Rs.114.83 and Rs.166.67. Hence, the price in the proposed situation is higher and so the
directors may adopt the reorganization process.
b. Rs.172.8 and Rs.215.45. Hence, the price in the proposed situation is higher and so the
directors may adopt the reorganization process.
c. Rs.172.8 and Rs.3.00. Hence, the price in the proposed situation is higher and so the
directors may adopt the reorganization process.
d. Rs.114.83 and Rs.119.70. Hence, the price in the proposed situation is higher and so the
directors may adopt the reorganization process.
e. Rs.114.83 and Rs.119.70. Hence, the price in the proposed situation is higher and so the
directors should not adopt the reorganization process.
209. Zoom Technologies Ltd., had paid dividend at Rs.4 per share last year. The growth of the
dividends from the company is estimated to be 5% p.a. The estimated market price of the
equity share is_____, if the estimated growth rate of dividends rises to 8%. Given that, the
required rate of return of the equity investors is 18.5%.
a. Rs.25.10
b. Rs.41.1
c. Rs.31.1
d. Rs.37.8
e. Rs.33.33.
210. Broom Technologies Ltd., had paid dividend at Rs.4 per share last year. The estimated
growth of the dividends from the company is to be 5% p.a. The estimated market price of the
equity share is_______, if the estimated growth rate of dividends falls to 3%. Given that, the
required rate of return of the equity investors is 18.5%.
a. Rs.12.30
b. Rs.35.8
c. Rs.26.58
d. Rs.24.67
e. Rs.10.45.
145

151. Financial Management
211. Kotak Ltd., has provided following information.
Equity share capital (Rs.20 each) Rs.80,00,000
Reserves and Surplus Rs.15,00,000
15% Secured loans Rs.45,00,000
12.5% Unsecured loans Rs.20,00,000
Fixed assets Rs.50,00,000
Investments Rs.15,00,000
Operating profit Rs.35,00,000
Tax rate 50%
P/E ratio 17.5
The value of equity shares from the above information is __________.
a. Rs.5
b. Rs.55.1
c. Rs.45.87
d. Rs.56.35
e. Rs.25.48.
212. Vishaka Mining Company’s iron ore reserves are being depleted and its cost of recovering a
declining quantity of iron ore are raising each year. As sequel to it, the company’s earnings and
dividends are declining, at a rate of 6% per year. If the previous year’s dividend (D0) was Rs.10
and the required rate of return is 7.5%, the current price of the equity share of the company
is_________.
a. Rs.57.5
b. Rs.45.41
c. Rs.69.6
d. Rs.40.55
e. Rs.44.21.
213. Septuple Ltd., has been growing @20% per year and this trend is expected to continue for 5
more years. Thereafter, it is likely to grow @10%. The investors expect a return of 12%. The
dividend paid by the firm per share for the last year (D0) corresponding to period 0 (T0) is
Rs.5. The price at which an investor may be ready to buy the shares of the company at the
end of period T0 (i.e., now) is_______.
a. Rs.361.86
b. Rs.394.30
c. Rs.418.84
d. Rs.428.22
e. Rs.464.16.
146

152. Part II
Based on the following information, Answer Questions 214 and 215.
Sundaram Finance Ltd. has an investment opportunity available which will involve a capital outlay
in each of the next 2 years and which will produce benefits during the following 3 years. A
summary of the financial implications of this investment is given below:
Year Cash flow
(Rs. ’000)
1 (2,000)
2 (2,000)
3 200
4 2,300
5 4,100
Sundaram Ltd., currently has 1,00,000 shares in issue. The dividend just paid was Rs.25 per share.
In the absence of the above investment, dividends are expected at this level for the next 3 years,
but will then demonstrate perpetual growth of 15 percent p.a. Sundaram Finance Ltd. is currently
all equity financed and the required rate of return of the equity investor is estimated to be 18
percent. The only possible way of financing the investment is, therefore, to reduce the dividend
payments made in the next 2 years. Cash received form the new investment is therefore, to reduce
the dividend payments made in the 10% will also be maintained because of other operations.
214. The present market price is _________.
a. Rs.909.33
b. Rs.731.22
c. Rs.797.95
d. Rs.506.25
e. Rs.637.95.
215. The market price after the investment has been accepted is______, assuming the market knows
the dividend changes that will result from the investment using a dividend valuation model.
a. Rs.156.21
b. Rs.109.25
c. Rs.117.06
d. Rs.637.14
e. Rs.125.61.
216. A software company is currently paying a dividend of Rs.5.00 per share. The dividend is
expected to grow at a 16% annual rate for three years, then at 11% rate for the next three
years, after which is expected to grow at a 6% rate forever. The present value of the share
is______if the capitalization rate is 9%.
a. Rs.260.2
b. Rs.243.5
c. Rs.211.89
d. Rs.200.67
e. Rs.254.45.
217. Vimta Labs, a chemical company has been expected to grow at 12% per year for the next 4
years and then to grow indefinitely @6%. The required rate of return on the equity shares is
12%. Assume that the company paid a dividend of Rs.2 per share last year (D0 = 2). The
market price of the shares today is_______.
a. Rs.62.10
b. Rs.34.56
c. Rs.43.18
d. Rs.58.21
e. Rs.39.54.
147

153. Financial Management
218. A Pharmaceutical company has been growing at a rate of 15% per year in recent years. This
abnormal growth is expected to continue for another 4 years; then it is likely to grow at the
normal rate (gn) of 8%. The required rate of return on the shares of the investment community is
12%, and the dividend paid per share last year was Rs.6 (D0 = Rs.6). At –––– price as an
investor, be ready to buy the shares of this company now (t = 0).
a. Rs.205.95
b. Rs.120.11
c. Rs.177.77
d. Rs.200.05
e. Rs.210.89.
219. An automobile company recently paid a dividend of Rs.3.00 per share and it is a fairly risky
company with a cost of equity of 25%. A summary of dividends and earnings per share is
given below:
Years Dividends Earnings
2002 Rs.3.00 Rs.5.50
2001 2.80 4.50
2000 2.70 5.00
1999 2.40 4.00
1998 2.30 3.50
Any new investment by XYZ Ltd., is expected to yield a return comparable to the cost of
equity. The estimation of growth rate g based on dividends is________.
a. 6.00%
b. 6.86%
c. 6.20%
d. 6.26%
e. 6.36%.
220. An automobile company recently paid a dividend of Rs.3.00 per share and it is a fairly risky
company with a cost of equity of 45%. A summary of dividends and earnings per share is
given below:
Years Dividends Earnings
2003 Rs. 3.00 Rs. 5.50
2002 2.80 4.50
2001 2.70 5.00
2000 2.40 4.00
1999 2.30 3.50
Any new investment by XYZ Ltd. is expected to yield a return comparable to the cost of equity.
The estimation of growth rate g and share price based on earnings are_______and_______.
a. 10%, Rs.12.90
b. 13.2%, Rs.15.35
c. 20.45%, Rs.14.72
d. 12.8%, Rs.24.01
e. 14.21%, Rs.21.55.
148

154. Part II
221. Ms. Sheetal has invested her savings in a company from whom dividends are expected to
grow @20% for 15 years and thereafter @7% forever. The value of the equity share
is____. Given that the current dividend per share is Re.1 and present value during next
15 years @9% required rate of return is Rs.34.96.
a. Rs.250.78
b. Rs.261.70
c. Rs.233.33
d. Rs.167.54
e. Rs.189.31.
222. If Gemini Ltd., is foreseeing a growth rate of 12% per annum in the next 2 years. The growth
rate is likely to 10% for the third and fourth year. After that, the growth rate is expected to
stabilize at 8% per annum. Given that, the present value of dividend stream for first 2 years
is Rs.3.08 and for next 2 years is Rs.3.11. If the last dividend paid was Rs.1.50 per share and
the investor’s required rate of return is 10%, the intrinsic value per share of Gemini Ltd., as
of date________.
a. Rs.90.20
b. Rs.20.89
c. Rs.16.87
d. Rs.28.70
e. Rs.15.77.
223. The Star Company is contemplating a debenture issue on the following terms:
Face value = Rs. 100 per debenture
Term to maturity = 7 years
Coupon rate of interest:
Years 1-2 = 5% p.a.
3-4 = 13% p.a.
5-7 = 16% p.a.
The current market rate of interest on similar debentures is 15% p.a. The company proposes
to price the issue so as to yield a (compounded) return of 16% p.a. to the investors. The issue
price is_______. Assume the redemption on debenture at a premium of 10%.
a. Rs.82.3
b. Rs.115.67
c. Rs.108.21
d. Rs.69.06
e. Rs.78.23.
224. A Rs.5000 bond matures in 20 years and offers a 10% coupon rate. The required rate of
return is 11%. The bond’s value is________.
a. Rs.4601.5
b. Rs.4000.21
c. Rs.5655.45
d. Rs.3897.25
e. Rs.5675.4.
149

155. Financial Management
225. A bond of Rs.15,000 with a 20% coupon rate matures in 8 years and currently sells at 75%. Is
this bond a desirable investment for an investor whose required rate of return is 11%?
a. Bond is available at a price higher than its present value of returns, the investment in
bond is not desirable.
b. Bond is available at a price lower than its present value of returns, the investment in
bond is desirable.
c. Bond is available at a price higher than its present value of returns, the investment in
bond is desirable.
d. Bond is available at a price lower than its present value of returns, the investment in
bond is not desirable.
e. None of the above.
226. A Bharat company’s iron ore reserves are being depleted and its cost of recovering a
declining quantity of iron ore are raising each year. As sequel to it, the company’s earnings
and dividends are declining, at a rate of 6% per year. If the previous year’s dividend (D0) was
Rs.14 and the required rate of return is 18%, the current price of the equity share of the
company is____.
a. Rs.51.09
b. Rs.54.83
c. Rs.53.61
d. Rs.57.55
e. Rs.54.21.
227. The profit after tax for a firm is Rs.10,000. The dividend pay-out ratio is 25%. If the growth
rate of the earnings is 2% and the scrip trades at 1.5 times its EPS in the market share. The
required rate of return by equity shareholders is ____________, is the number of outstanding
shares in 2500.
a. 18.0
b. 18.5
c. 19.0
d. 19.5
e. 20.0.
228. A bond with a face value of Rs.50 provides 8% annual return and pays Rs.75 at the time of
maturity, which is 10 years from now. If the investors required rate of return is 12%, at
______ price should the company issue the bond.
a. Rs.39.43
b. Rs.46.75
c. Rs.40.37
d. Rs.31.41
e. Rs.48.29.
229. The shares of Enron Ltd., are currently priced at Rs.50. The risk free rate of return is 10%,
while the market return is 15%. With the company having paid Rs.2 as the current dividend
and the company having a growth rate of 10%, then the share value is______, if its beta is 0.7
a. Rs.55.54
b. Rs.51.24
c. Rs.46.09
d. Rs.48.89
e. Rs.62.85.
150

156. Part II
230. A textile company is offering a bond with the following features:
Issue Price = _______________
Coupon rate (annual payment) = 15%
Maturity = 5 years
If the bond is to be redeemed at par and the investor faces a 45% tax on income and a 11%
capital gains tax, 11% is the effective yield to maturity for the investor.
a. Rs.89.79
b. Rs.85.00
c. Rs.85.70
d. Rs.86.00
e. Rs.87.25.
231. A company has paid Rs.5 as the current dividend the growth rate of the company is 10%. If
the cost of equity is 15%,_______will be the price of the company’s share three years hence.
a. Rs.146.4
b. Rs.155.06
c. Rs.187.44
d. Rs.208.09
e. Rs.171.05.
232. A company’s share 5 years hence is Rs.157.45. It has paid Rs.2 as the current dividend. The
growth rate of the company is 16%. The cost of equity is___________.
a. 19.75%
b. 27.03%
c. 18.75%
d. 25.54%
e. 19.09%.
233. Ms. Meena Gupta is planning to invest in the equity stocks of Reliance India Limited. The
Current share price is Rs.250 per share. Reliance has declared a dividend of Rs.20 per share
for the current year. Ms. Meena is of the opinion that the dividend per share will remain at
the same level for the next two years, after which it will grow at rate of 25% per annum in the
third and fourth years. From the fifth year onwards dividends are expected to grow at a
normal rate of 14% per annum. If the required rate of return of Ms. Meena is 16% per annum,
do you suggest her to purchase the share at the current price?
a. Rs.1048.62 per share and recommended.
b. Rs.1100 per share and not recommended.
c. Rs.986.97 per share and not recommended.
d. Rs.587.54 per share and not recommended.
e. Rs.698.31 per share and recommended.
234. A bond of face value Rs.1,000 is currently quoting in the market at Rs.1062. The coupon rate
of the bond is 14% payable semi-annually. The remaining maturity of the bond is five years
and the principal is repayable at two equal installments at the end of the 4th and 5th year
from now. The yield to maturity of the bond is 12.16%. what would be the new price of the
bond, if the YTM for similar type of bonds increases by 2% .
a. Rs.1,000
b. Rs.1,015.67
c. Rs.995.29
d. Rs.1,078.52
e. Rs.955.54.
151

157. Financial Management
235. Beta Company has provided following information
Earning per share = Rs.6.5
Dividend payout ratio (D/P) = 25%
No. of outstanding shares = 1000
Then the Dividend per share for the Beta Company is___________.
a. Rs.2.015
b. Rs.2.530
c. Rs.1.451
d. Rs.1.625
e. Rs.1.110.
236. _________ is the value of an asset if the annual cash inflow is Rs.1,000 per year for the next
5 years and the discount rate is 15%
a. Rs.2,500
b. Rs.3,500
c. Rs.3,352
d. Rs.2,481
e. Rs.3,705.
237. Mr. Rajath Sharma purchased Rs.1,000 per value bond for Rs.950. The coupon payment on
this bond is Rs.90 i.e., 9% one year later be sells the bond for Rs.900. The rate of return of
Mr. Rajath for this one year period is______________.
a. 4.21%
b. Rs.–4.21%
c. 3.48%
d. –3.48%
e. 14.7%.
238. XYZ Company has provided following information
Annual interest payment = Rs.60
Par value of the bond = Rs.995
Current market price = Rs.700
Years to maturity = 5 years
The approximate YTM on a bond is ________
a. 13%
b. 13.5%
c. 14%
d. 14.5%
e. 15%.
239. Mahindra Company Ltd., is expected to grow at the rate of 8.9% per annum and dividend
expected a year hence is Rs.4.00. If the rate of return is 15%, the share price of today is_____
a. Rs.60.49
b. Rs.67.86
c. Rs.65.57
d. Rs.71.23
e. Rs.54.37.
240. A pharmaceutical company has provided the following information:
No. of outstanding shares = 10,000
Preference dividend = 7,500
Present value per share = Rs.27.85
Growth rate = 10%
Expected PAT = Rs.25,500
152

158. Part II
The expected price earning ratio is ________
a. 15.47
b. 20.18
c. 18.24
d. 25.56
e. 15.89.
241. Mr. X is planning to buy an equity share, hold it for 2 years and then sell it. The expected
dividend at the end of year 1 is Rs.8 and Rs.9 at the end of year 2. The expected selling price
of the share at the end of year 2 is Rs.180. The value of the share today taking 10% discount
rate is ______________.
a. Rs.189.11
b. Rs.170.12
c. Rs.124.55
d. Rs.163.470
e. Rs.175.24.
242. A company is presently paying dividend of Rs.9 per share and is expected not to deviate from
this in future. The value of the share is _______, if the required rate of return is 15%.
a. Rs.6
b. Rs.60
c. Rs.600
d. Rs.0.6
e. Rs.0.06.
243. A Firm X presently pays a dividend of Rs.1.6 per share and the market price per share is
Rs.30. The company expects the dividend to increase at a 20% annual rate the first 4 years, at
a 13% rate the next 4 years and then grow the dividend at a 7% rate there after. This phased
growth pattern is in keeping with the expected life cycle of earnings. What is the stock's
expected return on investment?
a. 13.22%.
b. 14.44%.
c. 15.28%.
d. 15.48%.
e. 16.95%.
244. Delphi Products Corporation currently pays a dividend of Rs.2 per share and this dividend is
expected to grow at a 15% annual rate for 3 years then at a 10% for the next 3 years, after
which it is expected to grow at a 5% rate forever.
(i) What value would you place on the stock if an 18% rate of return were required?
a. Rs.32.52.
b. Rs.22.02.
c. Rs.32.70.
d. Rs.22.64.
e. Rs.35.00.
245. A firm is currently all financed by common stock, but intends to issue 5% risk free debt
substituting half of the existing equity. The expected return is 10 percent with P/E of 10 and a
Beta of 1.0. If the operating profit of the company is expected to remain constant what is the
increase (percentage) in EPS and the revised P/E ratio?
a. 25% and 10.
b. 50% and 10.
c. 40% and 3.3.
d. 50% and 6.67.
e. 75% and 3.3.
153

159. Financial Management
246. The market price of a share is Rs.10 per share and the total outstanding shares are 2,50,00,000.
Common stock is to repurchased through the issue of Rs.160 million debt. What is the
increase/decrease in the market price of the stock and what is the market value of the firm?
a. Increase by Rs.2 and Rs.410 million.
b. Decrease by Rs.3 and Rs.160 million.
c. Unchanged and Rs.410 million.
d. Unchanged and Rs.250 million.
e. Increase by Rs.5 and Rs.250 million.
247. For K Inc., dividends are estimated to grow by 5% every year up to and including year 4.
From the fifth year onwards all of its earnings will be paid out as dividends. Calculate the
existing stock price if the market capitalization rate is 8% and the succeeding year’s dividend
is Rs.10. Assume EPS of Rs.15.
a. 223.05
b. 227.91
c. 213.12
d. 203.05
e. 232.91.
248. A multinational corporation is expected to pay a dividend of Rs.20 per share at the end of the
year. Consequently if the stock is expected to sell at Rs.125, determine the current share price
with the capitalization rate being 10%
a. 145.92
b. 131.82
c. 128.72
d 135.92
e. 133.82.
249. For F Inc., dividends are estimated to grow by 5% every year. If it were to distribute all of its
earnings as dividends, it can maintain a dividend stream of Rs.18 per share. Calculate what is
the market paying per share for growth opportunities if the market cap rates is 8% and the
succeeding year's dividend is Rs.10.
a. 109.63
b. 145.83
c. 122.93
d. 102.73
e. 333.33.
250. Silicon Wafer Company presently pays a dividend of Re.1. This dividend is expected to
grow at a 20% rate for 5 years and at 10% per annum thereafter. The present market price per
share is Rs.20. Using a dividend discount model approach to estimate capital costs, what is
the company's expected, or required, return on equity?
a. 17.56%.
b. 18.10%.
c. 18.59%.
d. 19.00%.
e. 19.38%.
154

160. Part II
251. A financial analyst tracking an MNC manufacturing white goods has developed the following
estimates:
Dividend in the current year Rs.6
Dividend Growth Rate
First Four years 20%
Next Four Years 13%
Afterwards 7%
Current Market Price Rs.30
What is the expected return on the stock?
a. 12.85%.
b. 20.00%.
c. 32.57%.
d. 38.97%.
e. None of the above.
252. The following information is given with respect to Foren Kapital Services Ltd.
Current dividend = Rs.2.00 per share
Constant rate of growth in dividends = 5 percent
Expected return from the market index = 12 percent
Beta of the stock = 1.50
Risk free rate of return = 6 percent
The present market price per share will be approximately equal to
a. Rs.14
b. Rs.16
c. Rs.20
d. Rs.21
e. Rs.30.
253. The salient features of the bonds of Saranya Capital Services Ltd., are as follows:
Face value Rs.100
Current market price Rs.114
Coupon rate 12 percent
Maturity period 5 years
The current yield of the bonds is
a. 10.53%.
b. 10.83%.
c. 11.33%.
d. 13.68%.
e. 12.00%.
254. If the dividend payout ratio is 0.30 and capitalization rate is 8.00 percent, then the dividend
yield is
a. 2.40%.
b. 2.67%.
c. 3.75%.
d. 5.00%.
e. 26.67%.
155

161. Financial Management
255. Consider the following data for the deep discount bonds issued by a financial institution:
Face value and maturity value = Rs.1,00,000
Maturity Period = 20 years
The approximate yield to maturity = 8 percent.
The issue price of the bond is
a. Rs.21,455
b. Rs.22,565
c. Rs.23,675
d. Rs.24,785
e. Rs.25,945.
256. If 91-day T-bills (Face value Rs.100) are issued at a price of Rs.98.48, then the percentage
yield is
a. 5.2%.
b. 5.6%.
c. 6.0%.
d. 6.2%.
e. 6.5%.
257. Bright Metals Ltd., issued fully convertible debentures with a face value of Rs.100 each. The
coupon rate is 9 percent and the interest is payable half yearly over a period of three years. After
three years, each bond will be converted into 10 equity shares of face value Rs.10 per share
which is expected to fetch a dividend of Rs.1.00 per share every year. Presently, the yield on
the risk-free securities is 5 percent per annum. The bondholders of the company need 3
percent more as the risk premium while the expected return to the equity shareholders will go
up by an additional risk premium of 4 percent. The intrinsic value of these fully convertible
debentures is: (Round off your answer to the nearest integer).
a. Rs.83
b. Rs.98
c. Rs.118
d. Rs.129
e. Rs.136.
258. The bonds of Charity Company are presently selling at a premium of 8 percent against its
face value as well as the maturity value of Rs.100. The current yield on these bonds is 8.33%.
The coupons are paid semi-annually. If the bonds are to mature 3 years hence, what should be
the annualized yield to an investor of today by the approximation method?
a. 5.58%.
b. 5.88%.
c. 6.18%.
d. 6.48%.
e. 6.78%.
259. AG Corporation recently paid a dividend of Rs.2.00 per share that is expected to grow at a rate
of 15 percent per annum for the next three years and thereafter, the dividend amount is expected
to remain constant. If your expected rate of return is 10 percent, how much amount are you
ready to pay to buy a share of this company? (Round off your answer to the nearest integer)
a. Rs.17
b. Rs.22
c. Rs.26
d. Rs.29
e. Rs.35.
156

162. Part II
260. The following figures are collected from the annual report of Mardin Clothes Ltd.:
Return on investment = 12 percent
Number of outstanding equity shares = 1,00,000
Net worth = Rs.25 lakh
Total debt = Rs.40 lakh
Average cost of debt = 9 percent
Applicable tax rate = 40 percent
The earning per share for Mardin Cloths Ltd., is
a. Rs.2.00
b. Rs.2.26
c. Rs.2.52
d. Rs.2.73
e. Rs.2.99.
261. The issue price of the savings bonds of a bank, is Rs.5000 and the maturity value is Rs.7,000
after a period of 5 years and 4 months. What is the effective yield from those bonds?
a. 6.01%.
b. 6.31%.
c. 6.51%.
d. 6.71%.
e. 6.91%.
262. Round Table Ltd., recently paid a dividend of Rs.2.50 per share that is expected to grow by a
constant rate of 8 percent in each year. If the investor needs a return of 16 percent, what is the
intrinsic value of the equity share?
a. Rs.15.63.
b. Rs.31.25.
c. Rs.33.75.
d. Rs.40.00.
e. Data Insufficient.
263. Super Cement Ltd., issued debentures at a coupon rate of 12 percent per annum that are
presently selling at 8 percent premium on the face value. What is the current yield of these
debentures?
a. 8.00%.
b. 11.11%.
c. 12.00 %.
d. 13.34%.
e. 15.00%.
264. RBI sold a 91day T-bill of face value Rs.100 at a yield of 6 percent. What was the issue price?
a. Rs.94.34.
b. Rs.96.15.
c. Rs.97.46.
d. Rs.98.53.
e. Rs.100.00.
265. The perpetual preference shares of Magnum Ltd., were issued at a coupon rate of 10 percent
that is presently selling at 25 percent premium to the face value. If the required yield
increases by one percent, at what premium or discount to the face value will the preference
shares be traded? (Round off your answer)
a. Premium of 43%.
b. Premium of 25%.
c. Premium of 11%.
d. Discount of 5%.
e. Discount of 11%.
157

163. Financial Management
266. Supersonic Industries Ltd. recently paid Rs.4.00 per share as dividend for the last year. Its
dividend is expected to grow by 15 percent every year for the next three years, thereafter it
will continue a normal growth rate of 6 percent per annum. If the required rate of return is
16 percent, what is the intrinsic value of the equity share of Supersonic Industries Ltd.?
a. Rs.35.
b. Rs.41.
c. Rs.47.
d. Rs.53.
e. Rs.59.
267. The bonds of Supreme Industries Ltd. (issued at a coupon rate of 10 percent) are presently
selling at 5 percent discount on the face value. These bonds will be redeemed after a period
of five years and six years in two equal installments. SIL has an effective tax rate of 40
percent. What is the realized yield to an investor as of now?
a. 10.73%.
b. 11.00%.
c. 11.28%.
d. 11.54%.
e. 11.81%.
268. Khadi Group issued bonds having a maturity premium of 10 percent and a coupon rate
of 9 percent. The bonds are presently trading at par. The yield to maturity of the bond
to an investor as of now, by approximation method, is 12 percent, what will be the
approximate maturity period for the bonds?
a. 2.78 years.
b. 3.78 years.
c. 4.78 years.
d. 5.78 years.
e. Data insufficient.
269. If the expected price earnings ratio and earnings per share are 33.3 and Rs.7.5 respectively
and the required rate of return and current dividend are 15% and Rs.20 respectively, the
growth rate of the stock is
a. 3.75%
b. 4.25%
c. 6.47%
d. 8%
e. 8.2%.
270. If the current yield on a bond is 9% and its face value is Rs.1,000 with a coupon rate of 7%
its current market price is
a. Rs.700
b. Rs.778
c. Rs.845
d. Rs.1,175
e. Rs.1,285.
271. Price of a 10% debenture of face value Rs.1000 with five years to maturity if the market
interest for similar type of debenture is 12% is
a. Rs.927.50
b. Rs.981.50
c. Rs.1,000.00
d. Rs.1,075.50
e. None of the above.
158

164. Part II
272. A Rs.100 par value bond quoting at the market at Rs.87.52 will mature after 7 years. If the
discount rate is 15%, the coupon rate on the bond is
a. 10%
b. 10.5%
c. 11.5%
d. 12%
e. 12.5%.
273. The equity stock of X Ltd., is currently selling for Rs.20. The next expected dividend is
Rs.2.00. The investors’ required rate of return on the stock is 14%. The expected dividend
growth rate for X Ltd., is
a. 3.25%
b. 4.00%
c. 5.00%
d. 5.75%
e. 25.00%.
274. A Rs.1000 face value bond bearing a coupon rate of 12% will mature after 3 years. If the
discount rate is 10%, the value of the bond is
a. Rs.948.23
b. Rs.984.56
c. Rs.1,049.44
d. Rs.1,072.21
e. None of the above.
275. If the stock of Fasttrack Ltd., is trading at the market at Rs.70, the next expected dividend is
Rs.3.50 and required rate of return on the stock is 20%, then the expected growth rate in
dividend is
a. 8%
b. 10%
c. 12%
d. 15%
e. 20%.
276. Stock of XYZ company has declared a dividend of Rs.10 per share. Its dividends are
expected to grow at 10% per annum, if the required rate of return is 15%, the intrinsic value
of XYZ company shares is
a. Rs.180.00
b. Rs.73.33
c. Rs.220.00
d. Rs.230.00
e. Rs.400.00.
277. The coupon rate on a bond of face value Rs.1,000, presently trading at Rs.900, is 15%. The
current yield on the bond is
a. 15.00%
b. 15.79%
c. 16.67%
d. 17.89%
e. None of the above.
159

165. Financial Management
278. If the current dividend for a security is Rs.3.00 per share, current price is Rs.41.25 per share
and the rate of return required by the shareholders is 18%, then the expected growth rate of
the security will be equal to
a. 8.00%
b. 9.25%
c. 10.00%
d. 10.50%
e. 10.73%.
279. An investor purchases a 8% bond having a face value of Rs.1000, and maturity of 5 years
for Rs.900. An year later he sells it for Rs.960 in the market. The holding period gain of the
investor is
a. 6.67%
b. 8.88%
c. 14.00%
d. 14.58%
e. 15.55%.
280. A perpetual preference share pays an annual dividend of Rs.15.00 on a face value of Rs.100
and the rate of return required by investors on such investments is 20%. What should be the
market price of the preference share?
a. Rs.15.00.
b. Rs.20.00.
c. Rs.47.50.
d. Rs.75.00.
e. None of the above.
281. If the next year’s expected dividend is Rs.2.60, growth rate of dividend is 10% and required
return on the stock is 18%, then the intrinsic value of the stock will be
a. Rs.24.00
b. Rs.30.50
c. Rs.32.50
d. Rs.36.00
e. Rs.52.50.
282. A bond of face value Rs.1000 and remaining maturity 3 years pays 15% interest annually. If
the yield to maturity is also 15%, then the market price of the bond should be
a. Rs.977.90
b. Rs.1,000.00
c. Rs.1,023.30
d. Rs.1,072.30
e. None of the above.
283. If current year’s dividend is Rs.2.40, growth rate for the company is 10% and the required
return on the stock is 16%, then the intrinsic value of the stock will be
a. Rs.44.00
b. Rs.40.00
c. Rs.24.00
d. Rs.16.50
e. Rs.15.00.
160

166. Part II
284. The issue price of a deep discount bond having a face value of Rs.1,00,000 and maturity of
25 years at an effective yield of 15% p.a. is, approximately
a. Rs.2,500
b. Rs.2,700
c. Rs.3,000
d. Rs.3,200
e. Rs.3,300.
285. If the current dividend ( D0 ) of ABC’s share is Rs.2.00 and the growth rate of dividends is
8%, then the value of ABC’s share at the required rate of return of 15% is
a. Rs.16.00
b. Rs.26.80
c. Rs.28.57
d. Rs.30.86
e. Rs.40.00.
286. If the current yield of a bond bearing interest at 12.00% is 15.00%, the price is
a. Rs.80
b. Rs.85
c. Rs.97
d. Rs.112
e. Rs.115.
287. A bond has face value of Rs.100, maturity period of 4 years, coupon rate of 15% payable
annually, and redemption at 5% premium on maturity. At a required rate of return of 18%,
what would be the market price of the bond?
a. Rs.94.53.
b. Rs.96.75.
c. Rs.98.35.
d. Rs.94.60.
e. Rs.94.45.
288. What is the price of stock of company XYZ Ltd., that pays Rs.10 as annual dividends, having
a required rate of return of 20% and zero growth rate in dividends?
a. Rs.10.
b. Rs.15.
c. Rs.50.
d. Rs.200.
e. Rs.250.
289. How much should be paid for a Rs.1000 bond with 10% coupon per annum and five years to
maturity if the current interest rate is 12%?
a. Rs.927.50.
b. Rs.981.40.
c. Rs.1000.00.
d. Rs.1075.82.
e. Rs.1100.00.
161

167. Financial Management
290. What constant growth rate in dividends is expected for a stock valued at Rs.32 if the next
year’s dividend is forecast at Rs.2.00 per share and the appropriate discount rate is 13%?
a. 5.00%.
b. 6.25%.
c. 6.75%.
d. 7.25%.
e. 15.38%.
291. If a Rs.1000 par value bond with a coupon of 12% p.a. is currently yielding 14%, with five
years to maturity, the price of the bond is
a. Rs.920.00
b. Rs.930.50
c. Rs.931.00
d. Rs.1,000.00
e. Rs.1,120.00
292. The following information pertains to the shares of Sky Lark International Ltd.:
Dividend expected a year hence = Rs.3.20
Expected rate of return on the equity shares = 12%
Growth rate in dividends = 4%
The current market price of the shares is
a. Rs.36
b. Rs.38
c. Rs.40
d. Rs.42
e. Rs.44.
293. For a bond which is now trading at 10% discount to its face value of Rs.1000, with a coupon
of 10% p.a., the current yield is
a. 11.11%
b. 12.00%
c. 9.00%
d. 10.00%
e. 13.00%.
294. If the current stock price is Rs.154, the dividend last declared is Rs.15 and the growth rate in
dividend is 10%, the required rate of return is (assume the stock is correctly priced)
a. 18.76%
b. 19.02%
c. 20.71%
d. 21.00%
e. 22.00%.
Financial Statement Analysis
Based on the following information, Answer Questions 295 and 296.
295. Sigma Ltd., has equity of Rs.8,40,000 and retained earnings of Rs.12,60,000. The face value
of its shares is Rs.10 and the current market price is Rs.20. It has preference share capital of
Rs.6,00,000 at 15%. If it had a profit after tax of Rs.9,00,000 this year and paid Rs.3,36,000
by way of equity dividends, which of the following represents the dividend yield and
return on equity respectively for Sigma Ltd.?
a. 0.05%, 2.65%.
b. 20%, 38.6%.
c. 4%, 40%.
d. 10.5%, 32.1%
e. 0.25%, 1.11%.
162

168. Part II
296. In the above question, consider that, if a person has bought the share of Sigma Ltd. last year
at Rs.18, the one-year holding period yield on this stock is _______ .
a. 100%
b. 11%
c. 33.3%
d. 18%
e. 20%.
297. Siekay Ltd., provided the following information:
Net credit sales = Rs.2,00,000 Net profit margin = 10%
Collection = 180 days Gross profit margin = 25%
period
Stock turnover = 1.25 Net profit to investment = 4%
ratio
Receivables = 2
Turnover ratio
Fixed assets = 0.9 Debt assets ratio = 0.5
turnover ratio
Face value of = Rs.10
each share
Additional information:
Long-term debt = 2,00,000
Short-term debt = 50,000
Using the above information of Siekay Ltd. What is earning per share of the company?
a. Rs.0.75.
b. Rs.0.80.
c. Rs.0.85.
d. Rs.0.90.
e. Rs.1.00.
298. The following details are given of a manufacturing organization:
Capital turnover (cost of goods sold to equity) = 2 times
Debtors collection period = 2 months
Inventory turnover = 6 times
Creditors payment period = 73 days
Fixed assets turnover = 4 times
Gross profit margin @20% = Rs.60,000
Reserves and surplus = Rs.20,000
Long-term liabilities = Rs.60,000
Other current assets = Rs.81,500
Opening stock is Rs.5,000 less than closing stock
What are the current assets of this firm? (Assume that all sales are credit sales)
a. Rs.80,000.
b. Rs.81,000.
c. Rs.1,74,000.
d. Rs.82,000.
e. Rs.82,500.
163

169. Financial Management
299. In response to complaints about high prices, a supermarket runs the following advertisement
campaign: “If you pay your child Rs.7.50 for a milk chocolate and cajole him to buy Rs.25
worth of groceries, your child makes twice as much on the trip as we do”. You have collected
the following information about the supermarket for latest financial year:
Sales Rs.225.00 lakh
Net income Rs.33.75 lakh
Total assets Rs.40,00 lakh
Total debt Rs.17.00 lakh
Which of the following statements is true?
a. The claim is incorrect.
b. The claim is correct.
c. Data is insufficient.
d. Depends on different individual perceptions.
e. False complaint.
300. The summarized financial statements of Max Value Co. Ltd., for year 1 and year 2 are given
below:
Profit & Loss A/c
Year 1 Year 2
(Rs.) (Rs.) (Rs.) (Rs.)
Sales: Cash 50,000 40,000
Credit 4,10,000 4,60,000 5,54,000 5,94,000
Cost of Sales 3,54,000 4,50,000
Gross Profit Margin 1,06,000 1,44,000
Expenses: Administration 32,050 40,000
Selling 20,000 22,500
Interest 17,500 25,000
Taxes 10,950 80,500 15,800 1,03,300
Net Profit 25,500 40,700
Balance Sheet
Year 1 Year 2
(Rs.) (Rs.) (Rs.) (Rs.)
Fixed Assets (Net) 1,49,300 2,15,000
Current Assets:
Stock 95,000 1,25,000
Debtors 70,000 97,000
Cash 12,000 14,000
1,77,000 2,36,000
Less: Current Liabilities 67,000 96,000
Net Current assets 1,10,000 1,40,000
Total Assets 2,59,300 3,55,000
Share Capital 80,000 80,000
Reserve & Surplus 31,300 72,000
Long-term Debt 1,48,000 2,03,000
Total Liabilities 2,59,300 3,55,000
You are required to comment on the liquidity and profitability position of the company.
a. Liquidity and profitability performance of the company are poor.
b. Liquidity position is increasing greatly and profitability is constant.
c. Liquidity of the company is being adversely affected and profitability position indicates
improving performance.
d. Liquidity and profitability performance of the company are improving.
e. Liquidity of the company indicates improving performance and profitability position is
being adversely affected.
164

170. Part II
301. Following are the financial highlights of ABC Industries Ltd.
(Amount in Rs.)
Particulars Year 3 Year 2 Year 1
Sales 14,553 13,404 8,730
Total income 15,161 13,740 9,020
Earnings Before Depreciation Interest and Tax (EBDIT) 3,318 2,887 2,233
Depreciation 855 667 410
Interest 728 503 300
Profit after tax 1,704 1,653 1,323
Equity dividend (%) 37.5 35 65
Dividend pay-out 350 327 299
Equity share capital (par value Rs.10) 933 932 458
Long-term debt 10,577 8,311 7,413
Net worth 12,369 11,983 8,471
Gross fixed assets 22,088 19,918 14,665
Net fixed assets 15,396 14,973 11,173
Total assets 28,156 24,388 19,536
Market capitalization 12,176 16,518 14,395
Number of employees 16,640 17,375 16,778
Based on the data given above, identify the correct statement.
a. The reducing interest coverage ratio during 2nd and 3rd year indicates that financial
burden has been increased whereas return on net worth remains unchanged in second
and third year.
b. The increasing interest coverage ratio during 2nd and 3rd year indicates that financial
burden has been increased whereas return on net worth remains unchanged in second
and third year.
c. The reducing interest coverage ratio during 2nd and 3rd year indicates that financial
burden has been increased whereas return on net worth is also increasing in second and
third year.
d. The reducing interest coverage ratio during 2nd and 3rd year indicates that financial
burden has been decreased whereas return on net worth remains unchanged in second
and third year.
e. The increasing interest coverage ratio during 2nd and 3rd year indicates that financial burden
has been increased where as return on net worth is also increasing in second and third year.
302. Consider the data given below and advice, if it is profitable for the company to issue 16%
debentures of Rs.2,00,000 with a ten year maturity.
Year 1 2
EBIT 53,950 81,500
Interest 17,500 25,000
Debt 1,48,000 2,03,000
Equity 1,11,300 1,52,000
a. Considered risky to invest in the debentures of the company
b. Considered highly profitable to invest in the debentures of the company
c. Considered less profitable to invest in the debentures of the company
d. Neither profitable nor risky to invest in the debentures of the company
e. Risky and profitable.
165

171. Financial Management
303. Universal Bank Ltd., provided the following information:
(Amount in Rs.)
Net profit 80.13 Cr
Proposed dividend 18.72 Cr.
Tax on dividend 3.43 Cr.
Number of equity shares outstanding 10.4 crore
Current market price Rs.28.00
Industry PE ratio 4.60
Expected growth rate of dividend 22%
Rate of return expected by equity investors 24%
Reserves and surplus 137.73
Calculate the intrinsic value of the bank shares using:
i. Dividend capitalization approach
ii. PE ratio approach.
a. 129.70, Rs.54.22
b. 109.79, Rs.34.12
c. 111.89, Rs.16.33
d. 100.79, Rs.21.61
e. 94.67, Rs.19.50.
304. Consider the following balance sheet and income statement of Sarkar & Sarkar Company.
Balance sheet
Liabilities Amount Assets Amount
(Rs.’000)
Share Capital 1,400 Net Fixed Assets 3,320
Reserves and Surplus 2,040
Long-term Debt @10% 2,000
Current Liabilities: Current Assets:
Accounts payable 320 Cash 400
Accruals 260 Accounts Receivable 1,300
Short-term Loans 1,100 1,680 Inventories 2,100 3,800
7,120 7,120
Income Statement
(Rs.’000)
Net sales:
Cash Sales 2,540
Credit Sales 10,140 12,680
Cost of Goods Sold 8,450
Gross Profit 4,230
Depreciation 480
Selling, General and Administrative expenses 2,230
Interest Expenses 460
Profit before Taxes 1,060
Taxes 318
Profit after Taxes 742
Which of the following represents the (i) Acid test ratio, (ii) Earning power and (iii) Debt
service coverage ratio, of the company? A loan repayment of Rs.200,000 is to be made.
a. 1.12, 21.0% and 2.95.
b. 1.112, 11.35% and 5.55.
c. 1.010, 23.35% and 5.05.
d. 0.012, 2.31% and 4.55.
e. 1.012, 21.35% and 2.55.
166

172. Part II
Based on the following information, Answer Questions 305 and 306.
The Balance sheet and the income statement for Liberty shoes Ltd., for the years 2003 and
2004 are given below. Answer question 305 and 306 based on the given data.
Rs.
2003 2004
Cash 2,00,000 1,60,000
Sundry debtors 3,20,000 4,00,000
Temporary investments 2,00,000 3,20,000
Stock 18,40,000 21,60,000
Prepaid expenses 28,000 12,000
Total current assets 25,88,000 30,52,000
Total assets 56,00,000 64,00,000
Current liabilities 6,40,000 8,00,000
Loans 16,00,000 16,00,000
Capital 20,00,000 20,00,000
Retained earnings 4,68,000 8,12,000
Statement of Profit for the Current Year
Rs.
Sales 40,00,000
Less cost of goods sold 28,00,000
Less interest 1,60,000
Net Profit 10,40,000
Less taxes @ 50% 5,20,000
Profit after taxes 5,20,000
Profit distributed 2,20,000
305. From the above information the return on total assets, return on capital employed, return on
equity funds for the year 2004 are ___________, __________ and _____________
respectively.
a. 8.12%, 27.20%, 18.5%
b. 13.6%, 8.12%, 18.5%
c. 18.5%, 8.12%, 13.6%
d. 8.12%, 18.5%, 13.6%
e. 8.12%, 18.6%, 18.5%.
306. Current ratio, acid test ratio of Liberty Shoes Ltd., for the year 2004 are ___________ and
____________ respectively.
a. 4.20, 1.0
b. 3.56, 1.4
c. 4.01, 1.2
d. 3.81, 1.1
e. 3.14, 1.5.
167

173. Financial Management
307. The Aditya Textiles provides the following information:
Long-term debts Rs.16,00,000
Equity funds Rs.28,12,000
EBIT Rs.12,00,000
Interest charge Rs. 1,60,000
Temporary investments Rs. 2,00,000
The debt equity ratio and interest coverage ratio are________ and _______.
a. 0.57, 7.5 times
b. 0.42, 6.7 times
c. 0.67, 8.6 times
d. 0.33, 7.1 times
e. 0.71, 5.9 times.
308. The following information is extracted from Kotari Ltd., financial statements:
Cost of goods sold Rs.28,00,000
Sales Rs.40,00,000
Average Debtors Rs. 3,60,000
Average Stock Rs.20,00,000
Average assets Rs.60,00,000
Net profit Rs.10,40,000
Activity ratios such as debtors turnover, stock turnover and total assets turnover are
_________, ___________ and ___________ respectively.
a. 12.0 times, 1.3 times, 0.67 times
b. 11.1 times, 1.4 times, 0.67 times
c. 11.1 times, 1.2 times, 0.63 times
d. 12.0 times, 1.3 times, 0.74 times
e. 12.5 times, 2.2 times, 0.12 times.
Based on the following information, Answer Questions 309 and 310.
The balance sheet of Aditi Enterprises company is given below.
Liabilities Amount Assets Amount
(Rs. in lakh) (Rs. in lakh)
Equity share capital 250 Fixed assets 400
General reserve 280 Investment 50
P&L A/c (current year) 30 Stock 460
Secured loans- long term 300 Debtors 460
Secured loans-short term 360 Cash in hand 10
Creditors 150 Misc. expenditure 20
(not written off)
Other liabilities 30
1400 1400
Additional information:
i. From Profit and Loss Account Rs.90 lakh was transferred to general reserve during the year.
ii. Interest cost amounted to Rs.120 lakh.
iii. Taxation @40%.
168

174. Part II
309. The debt equity ratio and interest coverage ratio of the XYZ company are _______ and ____.
Consider long-term loans are the only constituent of debt.
a. 0.22, 2.10
b. 0.54, 2.66
c. 0.67, 2.12
d. 0.12, 2.08
e. 0.11, 3.00.
310. The current ratio of the company is __________.
a. 1.45
b. 1.89
c. 1.76
d. 1.54
e. 1.67.
311. From the following information of XYZ company, the P/E ratio is ________________.
Rs.
Equity share capital 50,00,000
( Rs.20 each)
Reserves and surplus 5,00,000
Secured loans at 15% 25,00,000
Unsecured loans at 12.5% 10,00,000
Fixed assets 30,00,000
Investments 5,00,000
Operating profit 25,00,000
Income tax rate 50%
Market price/share 50
a. 0.08
b. 12.5
c. 12.0
d. 11.0
e. 11.5.
312. From the following information the market price of share of Mahati Film distributors
is ____________.
Profit after tax = 1,50,000
Number of shares = 50,000
P/E ratio = 8
Current ratio = 1.5
a. Rs.21
b. Rs.20
c. Rs.12
d. Rs.24
e. Rs.14.
169

175. Financial Management
Based on the following information, Answer Questions 313 and 314.
Sahiti Enterprise’s capital structure is as follows:
7% Preference shares, Re.1 each Rs. 6,00,000
Ordinary shares, Re.1 each Rs. 16,00,000
Rs. 22,00,000
The following information is relevant as to its financial year just ended:
Profit after taxation at 50% Rs.5,00,000;
Ordinary dividend paid 20%;
Depreciation Rs.1,20,000;
Market price of ordinary shares Rs.4;
Capital commitments Rs.2,40,000.
313. What are the earning yield and net cash flow of the company?
a. 7.16%, Rs.2,58,000.
b. 8.7%, Rs.6,42,000.
c. 6.8%, Rs.3,42,000.
d. 4.97%, Rs.3,00,000.
e. 5.7%, Rs.6,42,000.
314. What are the dividend yield on the ordinary shares and price/earnings ratio?
a. 5%, 12.0.
b. 5%, 13.97.
c. 4%, 19.3.
d. 4%, 13.7.
e. 5%, 14.5.
315. What are the long-term debt and total assets of Vishwa Fabricators Ltd., based on the
following data?
Owners equity Rs.1,00,000
Current debt to total debt 0.40
Total debt to owners equity 0.60
Fixed assets to owners equity 0.60
Total assets turnover 2 times
Inventory turnover 8 times
a. 1,00,000, 1,60,000
b. 84,000, 1,60,000
c. 32,000, 1,84,000
d. 40,000, 1,50,000
e. 36,000, 1,60,000.
316. The net sales of Apex Co., are Rs.15 crore. The EBIT of the company as a percentage of
sales is 12%. The capital employed of the company comprises of Rs.5 crore of equity, Rs.1
crore of 13% preference shares and Rs.3 crore of 15% debt capital. The company’s profit is
subject to tax at 40%. The return on equity for the company is __________________.
a. 13.0%
b. 12.0%
c. 12.6%
d. 13.6%
e. 12.4%.
170

176. Part II
317. Mayuri Distributors has made plans for the next year. The sales are expected to be
Rs.7,20,000It is estimated that the company will employ total assets of Rs.8,00,000, 50% of
the assets being financed by borrowed capital at an interest rate of 16% per year. The direct
costs for the year are estimated at Rs.4,80,000 and all other operating expenses are estimated
at Rs.80,000. The profit after tax is Rs.48,000. The goods will be sold to customers at 150%
of the direct costs. Income tax rate is assumed to be 50%. The net profit margin and assets
turnover are __________ and ________________:
a. 6.0 %, 0.7 times
b. 6.7%, 0.9 times
c. 5.4%, 1.0 times
d. 4.9%, 0.7 times
e. 6.2%, 0.5 times.
318. The return on assets and return on owner’s equity are ___________ and _______________.
a. 6%, 12%
b. 3%, 12%
c. 4%, 10%
d. 5%, 25%
e. 6%, 20%.
319. Kashyap Electricals has furnished the following details:
Current ratio 1.80
Liquid ratio 0.60
Fixed assets to proprietary fund 0.80
Bank overdraft Rs.1,20,000
Working capital Rs.2,40,000
There was no long-term loan or intangible asset.
What are other current Assets and Other Current liabilities of this firm?
a. Rs.1,40,000; Rs.1,80,000.
b. Rs.1,80,000; Rs.1,80,000.
c. Rs.1,80,000; Rs.3,00,000.
d. Rs.1,80,000; Rs.1,20,000.
e. Rs.1,20,000; Rs.1,80,000.
320. A company is presently working with Earnings Before Interest and Taxes (EBIT) of Rs.15
lakh. Its present borrowings are
Rs. in Lakh
15% term loan 50
Borrowing form bank @20% 33
Public deposit @14% 15
The sales of the company are growing and to support this the company proposes to obtain
additional borrowings of Rs.25 lakh. The increase in EBIT is expected to be 20%. Which of
the following statements is true?
a. The interest coverage ratio will fall and hence revised proposal is not desirable.
b. The interest coverage ratio will rise and hence revised proposal is not desirable.
c. The interest coverage ratio will rise and hence revised proposal is desirable.
d. The interest coverage ratio will fall and hence revised proposal is desirable.
e. There is no change in interest coverage ratio and hence revised proposal is not desirable.
171

177. Financial Management
Based on the following information, Answer Questions 321 and 322.
The capital of Growfast Co. Ltd. is as follows:
10% preference shares of Rs.50,00,000
Rs.10 each
Equity shares of Rs.100 each 70,00,000
1,20,00,000
Additional information:
Profit after tax (at 50%) 15,00,000
Depreciation 6,00,000
Equity dividend paid 10%
Market price per equity share 200
321. Using the above information the earning per share and price earnings ratio of Growfast Co. Ltd.
are ___ and_____.
a. Rs.13.50, 15 times
b. Rs.14.50, 12 times
c. Rs.14.29, 14 times
d. Rs.13.50, 15 times
e. Rs.12.00, 12 times.
322. Using the information in above question find the following:
i. Cover for the preference and equity dividends, and
ii. Net funds flow of Growfast Co. Ltd., are______and________ respectively.
a. (i). 1.20 times (ii). Rs.20 lakh
b. (i). 1.05 times (ii). Rs.11 lakh
c. (i). 1.21 times ii. Rs.21 lakh
d. (i). 1.25 times ii. Rs.21 lakh
e. (i). 1.14 times ii. Rs.14 lakh.
323. Following is the information relating to movement of inventory in three firms. Which of the
following is true regarding the Inventory Turnover Ratio (ITR)?
Firm A Firm B Firm C
Average inventory 10,00,000 15,00,000 20,00,000
Cost of goods sold 60,00,000 75,00,000 80,00,000
Expenses of management 5,00,000 7,50,000 10,00,000
a. ITR indicates that Firm A is having highest inventory turnover ratio. This Firm A able
to make relatively higher sales with lower inventories and thus making efficient use of
its working capital.
b. ITR indicates that Firm B is having highest inventory turnover ratio. This Firm B able
to make relatively higher sales with lower inventories and thus making efficient use of
its working capital.
c. ITR indicates that Firm C is having highest inventory turnover ratio. This Firm C able
to make relatively higher sales with lower inventories and thus making efficient use of
its working capital.
d. ITR indicates that both Firm A and C are having highest inventory turnover ratio. They
are able to make relatively higher sales with lower inventories and thus making efficient
use of their working capital.
e. ITR indicates that both Firm B and C are having highest inventory turnover ratio. They
are able to make relatively higher sales with lower inventories and thus making efficient
use of their working capital.
172

178. Part II
324. Following is the information relating to movement of inventory in three firms. Which of the
following is true regarding the average collection period?
(Rs.)
Firm A Firm B Firm C
Credit sales 66,00,000 83,25,000 89,60,000
Average receivables 13,20,000 24,97,500 35,84,000
Expenses of management 5,00,000 7,50,000 10,00,000
a. Firm C is following a relatively sound credit policy whereas Firm B and C are following
a liberal credit policy.
b. Firm B is following a relatively sound credit policy whereas Firm A and C are
following a liberal credit policy.
c. Firm A is following a relatively sound credit policy whereas Firm B and C are
following a liberal credit policy.
d. Firm A and B are following a relatively sound credit policy whereas Firm C is
following a liberal credit policy.
e. Firm B and C are following a relatively sound credit policy whereas Firm A is
following a liberal credit policy.
325. The profitability ratios of company X are given in comparison with the industry norms.
Which of the following statements are true?
Industry Standard Company X
Net Profit Ratio 3.3% 2.1%
Net Profit on Total Assets Ratio 6.6% 3.0 %
Net Profit on Net Worth 10.7% 4.8%
a. Profitability ratios indicate higher cost of production, assets are not properly managed
of the firm and the firm is not a leveraged firm.
b. Profitability ratios indicate lower cost of production, assets are properly managed of the
firm and the firm is a leveraged firm.
c. Profitability ratios indicate average cost of production, assets are not properly managed
of the firm and the firm is a leveraged firm.
d. Profitability ratios indicate no cost of production, assets are not properly managed of the
firm and the firm is a leveraged firm.
e. Profitability ratios indicate lower cost of production, assets are not properly managed of
the firm and the firm is not a leveraged firm.
326. Liquidity ratios of company X are given below. Comparison with the industry norms. Which
of the following statements are true?
Industry Standard Company X
Current ratio 2.4 2.67
Debtors turnover ratio 8.0 10.00
a. The ratios indicate that the firm is in worst liquidity position and is following stringent
credit policy.
b. The ratios indicate that the firm is in better liquidity position and is following liberal
credit policy.
c. The ratios indicate that the firm is in better liquidity position and is following stringent
credit policy.
d. The ratios indicate that the firm is in worst liquidity position and is following liberal
credit policy.
e. The ratios indicate that the firm has a very good liquidity position.
173

179. Financial Management
327. The activity ratios of the Firm ABC are given below in comparison with the industry norms.
Which of the following statements is true?
Industry Standard Company X
Stock turnover ratio 9.80 3.33
Assets turnover ratio 2.00 1.43
a. Ratios are indicating higher utilization of fixed assets.
b. Ratios are indicating under utilization of fixed assets.
c. Ratios are indicating average utilization of fixed assets.
d. Ratios are indicating no utilization of fixed assets.
e. None of the above.
328. The capital of XYZ Ltd., is as follows:
9% preference shares of Rs.10 each Rs.3,00,000
Equity shares of Rs.10 each Rs.8,00,000
The following further information is available:
Profit after tax Rs.2,70,000
Equity dividend paid 20%
Market price of equity shares Rs.40 each.
From the above information, the EPS and PE ratio are_________and__________.
a. Rs.4.77, 12.00
b. Rs.3.12, 10.80
c. Rs.3.33, 10.34
d. Rs.4.51, 12.56
e. Rs.3.04, 13.16.
329. JB Ltd., financial statements has furnished the information:
Cost of goods sold = 11 lakh
Administrative expenses = 0.35 lakh
Selling expenses = 0.25 lakh
Depreciation = 0.50 lakh
Sales = 15 lakh
Interest = 0.47 lakh
Income tax = 1.26
The operating ratio of the JB Ltd., is ________.
a. 71.26%
b. 80.67%
c. 77.33%
d. 67.54%
e. 51.90%.
174

180. Part II
330. JB Ltd., financial statements has following information:
Equity share capital 3,50,000
Preference share capital 2,00,000
Reserves and surplus 2,00,000
Long-term loan (12%) 1,00,000
Debentures (14%) 2,50,000
PBDIT 3,15,000
Interest 47,000
Sales 12,00,000
Deprecation 16,000
The Interest coverage ratio and return on capital employed are ________and __________.
a. 6.36 times, 27.18%
b. 3.67 times, 18.34%
c. 5.98 times, 24.06%
d. 4.90 times, 20.06%
e. 5.09 times, 19.18%.
331. From the following information, the Inventory is __________.
Current ratio = 2.6:1
Liquid ratio = 1.5:1
Current liabilities = Rs.40,000
a. Rs.55,000
b. Rs.44,000
c. Rs.22,000
d. Rs.1,64,000
e. Rs.1,04,000.
332. From the following information, the Inventory is __________.
Current ratio = 2.8
Liquid ratio = 1.5
Working capital = Rs.90,000
a. Rs.55,000
b. Rs.60,000
c. Rs.65,000
d. Rs.70,000
e. Rs.75,000.
333. Rama Industries has furnished the following details:
Inventory Rs.80,000,
Prepaid expenses Rs.2,000,
Quick ratio 2.5 to 1
Current liabilities Rs.50,000.
The current ratio is _____________.
a. 4.14
b. 4.10
c. 3.16
d. 5.20
e. 3.88.
175

181. Financial Management
334. Current liabilities of a company is Rs.30,000. If current ratio is 3:1 and quick ratio is 1:1, the
value of stock in trade is ____________.
a. Rs.20,000
b. Rs.30,000
c. Rs.40,000
d. Rs.50,000
e. Rs.60,000.
Based on the following information, Answer Questions 335 and 336.
Rajan & Co., supplies you the following information regarding the year ending 31st Dec, 2000.
Cash sales Rs.80,000
Credit sales Rs.2,00,000
Returns inward Rs.10,000
Opening stock Rs.25,000
Closing stock Rs.30,000,
335. Gross profit ratio is 25%. The inventory turnover ratio is_________.
a. 6.54 times
b. 7.36 times
c. 6.98 times
d. 5.55 times
e. 7.56 times.
336. If current ratio is 2.6:1 and current liabilities are Rs.40,000, the current assets are _________.
a. Rs.1,09,000
b. Rs.2,32,000
c. Rs.1,54,000
d. Rs.1,04,000
e. Rs.2,12,000.
337. When current assets are Rs.50,000, current ratio is 3:1.5 and quick ratio is 1.5:1.0, the current
liabilities and inventory are _____and ____.
a. Rs.37,500, Rs.12,500
b. Rs.45,000, Rs.11,000
c. Rs.47,000, Rs.13,000
d. Rs.25,000, Rs.12,500
e. Rs.23,500, Rs.14,500.
338. A trader purchases goods both on cash as well as on credit terms. The following particulars
are obtained from the books:
Total purchases 8,00,000
Cash purchases 2,80,000
Purchase returns 1,61,000
Creditors at the end 1,85,000
Bills payable at the end 60,000
Reserve for discount on creditors 8,000
The average payment period is _________.
a. 249 days
b. 256 days
c. 195 days
d. 245 days
e. 268 days.
176

182. Part II
339. Kalidas Electronics sells goods on cash as well as on credit. The following particulars are
extracted from their books of accounts:
Gross total sales 6,00,000
Cash sales 1,10,000
Sales returns 1,20,000
Debtors at the end 1,86,000
Bills receivable at the end 48,000
Provision for doubtful debts 3,000
Total creditors at the end 25,000
The average collection period is ________.
a. 210 days
b. 175 days
c. 115 days
d. 200 days
e. 231 days.
340. From the following information gross profit margin and net profit margin are _______.
Rs. Rs.
Sales 25,20,000 Fixed assets 14,40,000
Cost of sales 19,20,000 Net worth 15,00,000
Net profit 3,60,000 Debt 9,00,000
Inventory 8,00,000 Current liabilities 6,00,000
Other current assets 7,60,000
a. 23.81% and 14.29%
b. 25.56% and 18.90%
c. 20.34% and 12.45%
d. 22.75% and 20.01%
e. 19.06% and 15.33%.
341. Watson Ltd., provides the following information:
(Rs.)
Cash sales during the year 1,50,000
Credit sales during the year 2,70,000
Returns inward 20,000
Total debtors in the beginning 55,000
Total debtors at the end 45,000
Provision for bad and doubtful debts 5,000
The debtors turnover ratio and average collection period are _________and ________.
Assume 365 days in a year.
a. 3 times, 56 days
b. 4 times, 70 days
c. 5 times, 67 days
d. 5 times, 73days
e. 4 times, 90 days.
177

183. Financial Management
342. Sita Ltd., and Gita Ltd., are two firms operating in the same industry and maintain the
inventory at the same level in the beginning of the year. From the following details of these
firms relating to year 2002-03, comment on the average collection period comparing with the
industry norm of 80 days.
Sita Ltd. Gita Ltd.,
Sales 550 500
Debtors 182.60 88.88
Creditors 115 48
Gross profit 100 120
a. Gita Ltd., is not performing as good as Sita Ltd., since the collection period of Gita Ltd.,
is longer than the industry norm.
b. Sita Ltd., is not performing as good as Gita Ltd., since the collection period of Sita Ltd.,
is longer than the industry norm.
c. Sita Ltd., is not performing as good as Gita Ltd., since the collection period of Sita Ltd.,
is shorter than the industry norm.
d. Gita Ltd., is not performing as good as Sita Ltd., since the collection period of Sita Ltd.,
is longer than the industry norm.
e. Gita Ltd., is not performing as good as Sita Ltd., since the collection period of Sita Ltd.,
is shorter than the industry norm.
343. Sita Ltd., and Gita Ltd., are two firms operating in the same industry and maintain the
inventory at the same level in the beginning of the year. From the following details of these
firms relating to year 2002-03, comment on the average payment period comparing with the
industry norm of 75 days.
Sita Ltd. Gita Ltd.
Credit purchases 400 300
Debtors 182.60 88.88
Creditors 115 48
Gross profit 100 120
a. Gita Ltd. is able to pay its creditors in 53 days as against the industry norm of 75 days
whereas Sita Ltd. is taking 79 days to pay its creditors.
b. Gita Ltd. is able to pay its creditors in 79 days as against the industry norm of 75 days
whereas Sita Ltd. is taking 69 days to pay its creditors.
c. Gita Ltd. is able to pay its creditors in 80 days as against the industry norm of 75 days
whereas Sita Ltd. is taking 119 days to pay its creditors.
d. Gita Ltd. is able to pay its creditors in 73 days as against the industry norm of 75 days
whereas Sita Ltd. is taking 59 days to pay its creditors.
e. Gita Ltd. is able to pay its creditors in 58 days as against the industry norm of 75 days
whereas Sita Ltd. is taking 105 days to pay its creditors.
344. Sheetal Industries Ltd., has the following capital structure:
5% preference share of Rs.100 each Rs.10,00,000
Ordinary shares of Rs.10 each Rs.30,00,000
The following information are available for financial year just concluded:
Profit after taxation Rs.15,00,000
Market price of Ordinary share Rs.40
Dividend paid on equity shares Rs. 2
The dividend yield on the ordinary shares and the earnings yield are _______ and _______.
a. 11%, 12.8 times
b. 7.9%, 21 times
c. 12%, 18.9 times
d. 5%, 12.08 times
e. 12%, 25.1 times.
178

184. Part II
Based on the following information, Answer Questions 345 and 346.
The following information relative to the Alpha Pneumatic Ltd.:
Current ratio 4.0
Acid-test ratio 2.80
Gross Profit Margin 30%
Tax 40%
Average collection period 75 days
EPS Rs.2.52
Net worth to long-term debt ratio 3.975
Inventory turnover ratio 6.452
Current liability Rs.15.5 lakh
Financial expenses Rs.3 lakh
Interest on long-term debt 15%
Selling and administrative expenses as a percentage of sales 10%
345. The profit after tax of Alpha Pneumatic Ltd., is –––––.
a. Rs.21 lakh
b. Rs.18.77 lakh
c. Rs.24.0 lakh
d. Rs.12.0 lakh
e. Rs.20.0 lakh.
346. In the above question, consider the following new information
What are the fixed assets of Alpha Pneumatic Ltd.?
a. Rs.50 lakh.
b. Rs.51 lakh.
c. Rs.53 lakh.
d. Rs.54 lakh.
e. Rs.55 crore.
347. In 2003 W Inc., raised a fresh capital of Rs.200 million and invested on an average over a
period of six months. The total assets as at the beginning of 2003 was Rs.12,000. As at the
end of 2003 the fixed assets were Rs.10000, current assets were Rs.4,000 and other assets
were Rs.2,500. If the EBIT is Rs.1200, interest is Rs.400, depreciation is Rs.750 and the tax
payable is Rs.280 @35%. Compute the Return on Assets with the above data if the firm were
all equity financed. All figures in millions.
a. 6.35
b. 6.48
c. 6.41
d. 6.45
e. 6.54.
348. The Income Statement of A for the year ended 2004 is;
Sales Rs.5000
Costs Rs.4000
Net income Rs.1000
Balance sheet for the years 2003 and 2004;
2003 2004 2003 2004
Assets Rs.2500 Rs.3500 Debt Rs.1000 Rs.1400
Equity Rs.1500 Rs.2100
If the sales increases by 10 percent in and all other items including debt correspondingly
increase, what is the value of the balancing item?
a. 1,190.
b. 890.
c. 1,490.
d. 1,290.
e. 1,250.
179

185. Financial Management
349. M maintains a profit margin of 4 percent and a sales to assets ratio of 3. The debt equity ratio
is 1.0, the interest payments and taxes being Rs.10,000 each and the EBIT being Rs.40,000.
Compute the Return on equity and the Return on the assets.
a. 24% and 12%
b. 13% and 15%
c. 15% and 13%
d. 12% and 15%
e. 11% and 12%.
350. Z Inc., in its latest balance sheet reveals a cash balance of Rs.300, inventories Rs.2,000,
accounts receivables Rs.2,400, plant and property worth Rs.15,000, long term debt Rs.4,000,
short term debt Rs.2,000, accounts payables Rs.1,500, capital leases Rs.500 and common equity
Rs.6,500 among others. Determine the Net working capital, the Current ratio and the Debt ratio.
a. 1300, 1.38 and 0.41
b. 1200, 1.34 and 0.41
c. 1400, 1.36 and 0.43
d. 1250, 1.35 and 0.43
e. 1300, 1.36 and 0.43.
351. An US firm has sales of Rs.6 million, an asset turnover ratio of 5 for the year and net profits
of Rs.150,000.
i. Find the firm's return on assets/earning power.
ii. New equipment which the firm is planning to install will increase the investment in
assets by 18% and is expected to increase the net profit margin from 2.5% now to 3.5%
there will not be any change in sales. What I will be the return on assets after the
installation of the new equipment?
a. 12%; 13.5%.
b. 12.2%; 13.7%.
c. 12.5%; 14.2%.
d. 12.5%; 14.8%.
e. 12.8%; 14.5%.
352. The operating income of a firm is Rs.1500. The number of shares outstanding are 1000 at a
market price of Rs.10 per share. The firm plans to issue debt for Rs.2500 and buy back with
the proceeds 250 shares. The cost of debt is 10 percent. As the debt holders are of the opinion
that the fresh issue is not without risk they demand a return of 2.5% over and above the risk
free rate. Determine the return on assets and the return on equity.
a. 12.5% and 12.5%
b. 15.0% and 16.67%
c. 17.5% and 12.5%
d. 15.5% and 10.0%
e. 17.5% and 10.0%.
353. Troma Ltd., has achieved sales of Rs..40 million and a net profit of Rs..5 million in the
current year. The following figures are obtained from the current year’s Balance Sheet:
Paid-up equity share capital Rs.5 million
Reserves and surplus Rs.3 million
Long-term loans Rs.8 million
Current liabilities and provisions Rs.4 million
If the company wants to increase the return on equity by 7.5 percentage points next year then
by how much should the net profit margin change, other ratios remaining the same?
a. Increase by 1.5%.
b. Decrease by 2.0%.
c. Increase by 2.0%.
d. Decrease by 1.5%.
e. Increase by 3.2%.
180

186. Part II
354. The Profit After Tax for a toy manufacturing company is Rs.140 million. The company has a
paid-up equity capital of Rs.250 million and reserves and surplus worth Rs.150 million. The
tax paid by the firm is Rs.60 million. The total assets base of the firm is Rs.600 million. If the
firm is not having any interest expense, the return on equity and the return on investment for
the firm are
a. 20.10% and 33.33%
b. 25.00% and 32.00%
c. 35.00% and 33.33%
d. 33.33% and 40.00%
e. 30.09% and 40.33%.
355. Using the following information, complete the balance sheet. Assume 360 days in a year
Long-term debt to net worth 0.4
Total asset turnover 3.5
Average collection period 15 days
Inventory turnover 6
Gross profit margin 15%
Acid test ratio 1:1
Cash (vii) – Notes and Payables 75,000
Accounts receivable (vi) – Long term debt (i) –
Inventory (v) – Common Stock 150,000
Plant and Equipment (iv) – Retained earnings 75,000
Total Assets (iii) – Total liabilities and equity (ii) –
a. Rs.90,000; Rs.370,000; Rs.370,000; Rs.122,625; Rs.192,750; 56,800; Rs.18,250
b. Rs.90,000; Rs.390,000; Rs.390,000; Rs.121,245; Rs.193,375; Rs.56,875; Rs.18,125
c. Rs.90,000;Rs.360,000;Rs.360,000; Rs.122,245; Rs.139,375; 55,750; Rs.18,125
d. Rs.75,000; Rs.350,000; Rs.350,000; Rs.121,750; Rs.193,425; 55,750; Rs.18,125
e. Rs.78,200; Rs.370,000; Rs.370,000; Rs.121,570; Rs.193,425; 55,750; Rs.18,520.
356. Given as at the end of 2003: Sales Rs.1000, Costs Rs.750, Interest Rs.25 and Tax Rs.90.
Total assets are Rs.2600, Debt being Rs.500 and equity at Rs.2100. The finance manager
forecasts a 10 percent increase in sales and costs in the next year. The ratio of sales to
average assets remains at 0.40 and interest is expected to be at 5 percent of debt at the start of
the year. If the company pays out 50 percent of net income as dividends, compute the debt
ratio if the company is unwilling to make an issue of common stock.
a. 0.38
b. 0.27
c. 0.25
d. 0.28
e. 0.29.
357. M Inc., in its latest balance sheet reveals a cash balance of Rs.1000, inventories Rs.400,
accounts receivables Rs.350, plant and property worth Rs.20000, long term debt Rs.7000, short
term debt Rs.200, accounts payables Rs.350, capital leases Rs.1500 and common equity
Rs.8000 among others. Determine the Net working capital, the Current ratio and the Debt ratio.
a. 1300, 3.38 and 0.58
b. 1200, 3.18 and 0.52
c. 2400, 3.36 and 0.43
d. 2250, 3.35 and 0.63
e. 2500, 3.36 and 0.49.
181

187. Financial Management
358. The market value of Z’s shares is Rs.100000 at Rs.10 per share. The firm plans to issue debt
for Rs.3000 and buy back with the proceeds 300 shares. The cost of debt is 10 percent and
the number of shares outstanding are 1000. Calculate the EPS and the return on shares if the
operating income is Rs.1500 and Rs.2000.
a. 2.43, 2.43, and 19.1%, 24.3%
b. 1.67, 2.33, and 16.7%, 23.3%
c. 1.50, 1.50, and 20%, 20%
d. 2.33, 1.67, and 10%, 10.67%
e. 1.71, 2.43, and 17.1%, 24.3%.
359. If the dividend yield for a firm is 0.3, whose P/E multiple and EPS are 3 and Rs.6
respectively, the dividend per share of the firm is
a. 18.5
b. 6
c. 5.4
d. 0.6
e. 0.16.
360. If the return on equity is 25%, dividend pay-out ratio is 60% and dividend per share is Rs.3,
the EPS of the company is
a. Rs.15
b. Rs.10
c. Rs.5
d. Rs.3
e. Rs.1.5.
361. If the earning power of a firm is 0.3, the average of total assets are Rs.20,000 and interest
expense is Rs.1,500 then the interest coverage ratio will be
a. 1.2
b. 1.5
c. 3.0
d. 4.0
e. 4.5.
362. Which of the following is correct for a firm with EPS of Rs.1per share and a 30% pay-out ratio?
a. 30% of earnings will be ploughed back into the firm.
b. Dividends will equal Rs.0.7 per share.
c. Book value per share of equity will increase by Rs.0.7.
d. Retained earnings will be unchanged.
e. Book value per share of equity will decrease by Rs.0.3.
363. If the price earnings ratio is 12, asset turnover ratio is 0.9 and the dividend pay-out ratio is
0.6, then the dividend yield would be
a. 5.0%
b. 7.2%
c. 7.5%
d. 10.8%
e. Cannot be determined from the given data.
364. The capitalization rate of a company whose market price per share is Rs.28, net income is
Rs.2million and the number of outstanding shares is 0.56million is
a. 0.039
b. 0.078
c. 0.127
d. 0.156
e. 0.254.
182

188. Part II
365. The total debt-equity ratio of Indian Online Corp Ltd., is 4:3. Its total asset is Rs.3500 lakh
and its short-term debt is Rs.500 lakh. If total debt consists of long-term debt as well as short-
term debt, the amount of long-term debt is
a. Rs.500 lakh
b. Rs. 700 lakh
c. Rs.1000 lakh
d. Rs.1500 lakh
e. Rs.1600 lakh.
366. For Sandal Ltd., net profit margin is 7.50 percent while total assets turnover ratio is 1.20. If
return on equity for the company is worked out as 12 percent, then the debt-asset ratio is
a. 0.25
b. 0.33
c. 0.75
d. 1.33
e. 1.75.
367. The following information is related to Padmaja Industries Ltd.
Current liabilities and provisions Rs.70 lakh
Net sales Rs.350 lakh
Inventory turnover ratio 7
Current ratio 1.40
Receivables/Quick Assets Ratio 0.75
What is the amount of cash and bank balance? (Assume 360 days in a year)
a. Rs.8 lakh
b. Rs.10 lakh
c. Rs.12 lakh
d. Rs.15 lakh
e. Rs.17 lakh.
368. Garodia Textiles Ltd., sells its goods on credit only. The average collection period of the
company is 30 days. Its balance sheet shows debtors balances of Rs.20 lakh as on 01.04.2002
and of Rs.30 lakh as on 31.03.2003. What was its annual sales turnover for the year 2002-03?
(Assume 360 days in a year.)
a. Rs.250 lakh
b. Rs.300 lakh
c. Rs.360 lakh
d. Rs.450 lakh
e. Rs.750 lakh.
369. Madhav Organics Ltd., raised money from the debt market at a rate of 8 percent per annum
to achieve a total debt-equity ratio of 0.5. In the last year, if its Return On Investment (ROI)
is 14 percent, what will be its return on equity? (Assume the applicable tax rate as 40 percent)
a. 9.20 percent
b. 10.20 percent
c. 11.20 percent
d. 12.20 percent
e. 14.00 percent.
183

189. Financial Management
370. For Signus Jute, the current ratio is 2.75 while the acid test ratio is 2.00. What is the
percentage of inventories with respect to the current liabilities?
a. 20.00%.
b. 27.50%.
c. 40.00%.
d. 55.00%.
e. 75.00 %.
371. The sales turnover of a company is Rs.120 lakh while the amount of credit sales is 80 percent
of total sales. If the amount of receivables increases from Rs.8.50 lakh and Rs.11.50 lakh
during the year, what is its average collection period from its debtors?
a. 22.5 days.
b. 27.5 days.
c. 32.5 days.
d. 37.5 days.
e. 42.5 days.
372. Following figures are taken from the annual report of M/s TDG Ltd.:
Term Loan at a rate of 12 percent per annum to be repaid in 5 equal Rs.10 lakh
annual installments during the coming years
Debentures at a rate of 14 percent per annum to be repaid in 6 equal Rs.24 lakh
annual installments during the coming years
Perpetual Preference Shares at a rate of 15 percent p.a. Rs.20 lakh
Net Worth Rs.40 lakh
Applicable tax rate 40 percent
Depreciation Rs.5.44 lakh
Dividend per shares Rs.1.50
Number of outstanding shares 600,000
Dividend pay out ratio 100 percent
What is the fixed charges coverage ratio for TDG Ltd.?
a. 1.534.
b. 2.534.
c. 3.534.
d. 4.534.
e. 5.534.
373. The following information is related to Fast Track Hotels Ltd.:
Gross profit Rs.45 lakh
Gross profit margin 20 percent
Total assets turnover ratio 3
Total debt to equity ratio 1.50
Current assets Rs.35 lakh
Current ratio 2.50
What is outstanding amount of term loan in its balance sheet? (Assume term loan is the only
interest bearing borrowings made by the company)
a. Rs.22 lakh
b. Rs.25 lakh
c. Rs.28 lakh
d. Rs.31 lakh
e. Rs.34 lakh.
184

190. Part II
374. The capitalization rate of a company whose market price per share is Rs.28, net income is
Rs.20 lakhs and the number of outstanding shares is 5.6 lakhs is
a. 0.0390
b. 0.0780
c. 0.1275
d. 0.1565
e. 0.2545.
375. Given the equity-multiplier as 4.55, the debt-asset ratio of a firm, according to Du Pont
analysis is
a. 0.22
b. 0.78
c. 1.28
d. 1.56
e. Data insufficient.
376. If the dividend yield for a firm is 0.3, whose P/E multiple and EPS are 3 and Rs.6
respectively, the dividend per share of the firm is
a. 18.5
b. 6
c. 5.4
d. 0.6
e. 0.16.
377. If the earning power of a firm is 0.3, the average of total assets are Rs.20,000 and interest
expense is Rs.1,500 then the interest coverage ratio will be
a. 1.2
b. 1.5
c. 3.0
d. 4.0
e. 4.5.
378. If the stock velocity is 6, cost of goods sold is Rs.54,000 and closing stock is Rs.10,000, the
opening stock is
a. Rs.8,000
b. Rs.9,000
c. Rs.10,000
d. Rs.12,000
e. Rs.18,000.
379. If net profit margin is 7.50%, asset turnover ratio is 0.90 and debt-asset ratio is 0.75, then the
return on net worth is
a. 18%
b. 24%
c. 27%
d. 30%
e. 36%.
185

191. Financial Management
380. If the total asset turnover ratio is 1.5, the net profit margin is 20% and the total assets to net
worth ratio is 2, then the Return On Equity (ROE) is
a. 60% p.a.
b. 45% p.a.
c. 25% p.a.
d. 15% p.a.
e. 8% p.a.
381. Given debt-equity ratio = 3:2; total assets = 1500; short-term debt = 300. Assuming that total
debt consists only of long-term debt and short-term debt, the long-term debt is
a. 200
b. 300
c. 400
d. 500
e. 600.
382. If the interest coverage ratio is 3.5 the interest payment is Rs.12,000 then profit before tax is
a. Rs.10,000
b. Rs.20,000
c. Rs.30,000
d. Rs.42,000
e. Rs.50,000.
383. The current assets of ABC Ltd., are Rs.10 lakhs and its current liabilities are Rs.5 lakhs. The
composition of current assets is as follows:
Inventory Rs.5 lakh
Receivables Rs.3 lakh
Marketable securities Rs.1 lakh
Cash Rs.l lakh
The quick ratio for the company is
a. 2.00
b. 1.00
c. 0.50
d. 0.40
e. None of the above.
384. Suppose the net profit margin, total asset turnover ratio and debt/equity ratio are 5%, 2 and
1.5 respectively. The return on equity will be equal to
a. 6.66%
b. 7.50%
c. 10.0%
d. 15.0%
e. 25.0%.
186

192. Part II
385. Consider the following information relating to ABC Marketing (P) Ltd.
Inventory Rs.5.00 lakh
Debtors Rs.3.00 lakh
Cash Rs.0.20 lakh
Creditors Rs.2.00 lakh
What is the quick ratio of the company?
a. 1.60.
b. 2.50.
c. 2.20.
d. 4.10.
e. None of the above.
386. If net profit margin is 6%, asset turnover ratio is 3.0 and total asset to equity ratio is 1.5, then
return on equity is
a. 18%
b. 24%
c. 27%
d. 30%
e. 36%.
387. Consider the following information relating to NK Enterprises Ltd.:
Rs.
Dividend per share for year 2003-04 25.00
Face value per share 100.00
Price per share on April 04, 2003 80.00
Price per share on March 31, 2004 120.00
What is the dividend yield to an investor of NK Enterprises Ltd., who bought the company’s
share on April 04, 2003?
a. 20.83%.
b. 22.73%.
c. 25.00%.
d. 31.25%.
e. None of the above.
388. If the earnings per share is Rs.3.50 and return on equity is 30%, the book value per share is
a. Rs.11.67
b. Rs.10.50
c. Rs.1.05
d. Rs.0.12
e. Cannot be determined with the given data.
389. If ABC’s earnings before interest and taxes is 14.7% of net sales and total assets turnover
ratio is 2, then earnings power is
a. 9.80%
b. 22.05%
c. 29.40%
d. 39.20%
e. Insufficient data.
187

193. Financial Management
390. If the price earnings ratio is 12, and dividend pay-out ratio is 0.6, the dividend yield would be
a. 5.0%
b. 7.2%
c. 7.5%
d. 10.8%
e. None of the above.
391. In Du Pont analysis if equity multiplier is 4, then the debt to assets ratio is
a. 1.00
b. 0.80
c. 0.75
d. 0.60
e. 0.33.
392. Consider the following information on Magnets India Limited:
Number of shares outstanding 1,00,000
EBIT (Rs. lakhs) 20
PAT (Rs. lakhs) (before paying preference dividends) 10
P/E ratio 5
Current market price (Rs.) 20
The amount of preference dividend paid is
a. Rs.4.00 lakh
b. Rs.5.00 lakh
c. Rs.6.00 lakh
d. Rs.6.66 lakh
e. None of the above.
393. If a firm’s current ratio is 1.20, acid test ratio is 1.0, current liabilities are Rs.2,000 and
inventory turnover ratio is 6, then its cost of goods sold are _____
a. Rs.3,120
b. Rs.2,560
c. Rs.2,460
d. Rs.2,400
e. Rs.2,280.
394. The market value of Tata Steel share is Rs.150 (face value Rs.10), the company announces a
dividend of 40%, the dividend yield is
a. 40%
b. 4%
c. 8%
d. 2.67%
e. 26.67%.
395. Suppose the current assets and inventory are 140% and 20% of current liabilities, an increase
of 10% in current assets (without any increase in inventory) will increase the quick ratio by
a. 10%
b. 11.67%
c. 28.33%
d. 34.10%
e. None of the above.
188

194. Part II
396. Following is the balance sheet of Super Star Industries Ltd.
(Rs. in lakh)
Liabilities Assets
Equity capital 25 Land and Building 20
Long-term debt 15 Finished goods 30
Sundry creditors 10 Sundry debtors 10
Bills payable 10 Cash and Bank balance 10
Outstanding 10
payments
70 70
The quick ratio of the company is
a. 0.33
b. 0.67
c. 1.00
d. 1.33
e. 2.00.
397. If the current assets are 160% of current liabilities, an increase of 10% in current assets will
increase the current ratio by
a. 10%
b. 11.67%
c. 28.33%
d. 34.10%
e. None of the above.
398. If the net profit margin is reduced from 8% to 4% and the asset-equity ratio increases from
1.2 to 1.5, to leave the ROE unchanged from its original 14%, the asset turnover ratio must
a. Remain constant
b. Increase from 1.46 to 2.33
c. Decrease from 14.58 to 2.33
d. Increase from 4.76 to 9.60
e. None of the above.
399. Find ROI of a company given that the net operating profit margin is 5%, dividend pay-out
ratio is 40% and total assets turnover ratio is 2.
a. 5%
b. 40%
c. 20%
d. 10%
e. 15%.
400. The receivables of firm A constitute 60% of current assets. The current ratio of the firm
stands at 1.3, total assets turnover ratio is 1.2 and total assets are 2.5 times current assets. If
current liabilities of the firm are Rs.16 lakhs, the average collection period (in days) is
a. 72
b. 60
c. 54
d. 36
e. 80.
189

195. Financial Management
401. If the return on equity is 25%, dividend pay-out ratio is 60% and dividend per share is Rs.3,
the EPS of the company is
a. Rs.15
b. Rs.10
c. Rs.5
d. Rs.3
e. Rs.1.5.
402. If the average collection period of receivable varies between 20 days and 30 days for a
company whose sales are Rs.900 lakh, the level of receivable (Rs. in lakhs) varies between
a. 30 and 45
b. 30 and 50
c. 45 and 75
d. 50 and 75
e. None of the above.
403. If the ROE of a firm is 20%, cost of debt is 10%, debt-equity ratio is 1.5, what is the ROI, at
a tax rate of 35%?
a. 16.31%.
b. 18.31%.
c. 18.61%.
d. 16.81%.
e. 17.5%.
404. If net profit margin of a firm is 7%, asset turnover ratio is 2.5, and total assets to equity ratio
is 1.2, then the ROE for the firm is
a. 17.5%
b. 18%
c. 21%
d. 18.5%
e. 21.25%.
405. Exotica Ltd., requires Rs.10 crore for expansion. Internally generated funds that can be
utilized are Rs.1 crore. The balance amount is to be financed by issue of equity shares of
Rs.10 each at a premium of Rs.5. If issue costs are ignored, the number of shares to be
issued is
a. Rs.120.00 lakh
b. Rs.100.00 lakh
c. Rs.90.00 lakh
d. Rs.66.66 lakh
e. Rs.60.00 lakh.
190

196. Part II
Funds Flow Analysis
406. Balance sheet of Delta Ltd. is given below:
As on 31st March
Year 2 Year 1
(Rs.) (Rs.)
Assets
Current Assets:
Cash 6,200 4,800
Inventory 8,400 6,200
Accounts Receivable 4,700 5,800
Fixed Assets (Gross):
Land 15,000 15,000
Building 11,000 11,000
Machinery 14,000 13,000
59,300 55,800
Liabilities:
Creditors 7,100 8,300
Accounts Payable 5,800 5,600
Provision for Doubtful Debts 1,700 2,500
Capital 12,000 10,000
Reserves and Surplus 18,000 18,200
Sinking Fund 6,600 5,400
Accumulated Depreciation:
Building 4,200 3,000
Machinery 3,900 2,800
59,300 55,800
Notes:
Net profit for the year 2: Rs.5,000
Dividends paid during the year 2: Rs.4,000
Which of the following represents the change in working capital and total working capital
generated through funds flow analysis?
a. Rs.4,500, 9,500.
b. Rs.4,300, 9,500.
c. Rs.4,300, 9,300.
d. Rs.4,500, 9,300.
e. Rs.700, 9,500.
191

197. Financial Management
407. Given the following information about Rhombus Ltd., what would be the profit from
operations of the company?
i. Net profit for the last year was 1,24,000 after charging depreciation on fixed assets to
the tune of 1,40,000 and provision of tax Rs.20,000.
ii. Fixed assets worth Rs.20,000 were sold for Rs.24,000 and the profit is included in P&L
Account.
a. Rs.2,80,000
b. Rs.2,68,000
c. Rs.20,000
d. Rs.12,000
e. Rs.2,40,000.
408. The following are the extracts from the balance sheets of Thermo Pack Ltd. for the two
consecutive years ending:
Rs. in 000’s
200x Previous Year
Liabilities:
Share Capital 7,500 7,500
Reserves and Surplus 21,950 15,210
Unsecured Loans – 1,425
Provision for depreciation 1,199 1,029
Creditors 88,642 33,720
Other Liabilities 47,527 13,298
Provisions 27,847 17,805
1,94,665 89,987
Assets:
Gross Fixed Assets 11,056 9,362
Investments 25 25
Inventories 29,535 12,711
Sundry Debtors 71,950 32,904
Cash and Bank 44,222 16,062
Other Current Assets 1,440 611
Loans and Advances 36,437 18,312
1,94,665 89,987
Additional Information:
i. Net profit for the year end 200x is Rs.1,49,90,000.
ii. Cash dividends paid during the year are Rs.75,00,000 and dividend tax paid is
Rs.7,50,000.
Which of the following represents the funds from operations and change in working capital,
when computed on working capital basis?
a. Rs.15,160, 3,791.
b. Rs.10,710, 4,097.
c. Rs.18,981, 2,590.
d. Rs.11,027, 3,654.
e. Rs.27,189, 2,070.
192

198. Part II
409. Consider the following financial statements of Brew Company Ltd. for the year ending
March 31, 200 x and the previous year:
(Amount in Rs.)
Previous Year March 31, 200x
Assets:
Net fixed Assets 11,13,000 13,98,000
Current Assets:
Cash 1,40,000 81,000
Accounts Receivable 3,46,000 5,28,000
Inventories 4,32,000 3,83,000
Total 20,31,000 23,90,000
Liabilities:
Equity Capital 1,00,000 2,00,000
Retained Earnings 4,92,000 5,64,000
Long-term Debt 7,00,000 8,00,000
Current Liabilities:
Accounts Payable 4,13,000 5,27,000
Accruals 2,26,000 1,14,000
Bank Borrowings 1,00,000 1,85,000
Total 20,31,000 23,90,000
During the current year, depreciation was Rs.1,89,000 and dividends paid were nil. The net
change in cash position on cash basis is –––––.
a. Rs.61,000
b. Rs.27,500
c. Rs.1,05,000
d. Rs.59,000
e. Rs.44,300.
Based on the following information Answer Questions 410 to 412.
Given below are the Balance sheets of Dynamic Ltd.
As at 31st March 2003 As at 31st March 2004
Rs. Rs. Rs. Rs.
Fixed assets at cost 73,000 80,000
Addition during the year 7,000 17,000
80,000 97,000
Depreciation 35,000 45,000 46,000 51,000
Current Assets: Cash 12,000 16,000
Stock at cost 1,79,000 1,89,000
Trade debtors 1,31,500 1,38,700
3,22,500 3,43,700
Less current liabilities
Bank Overdraft 1,06,000 45,000
Trade creditors and provision 1,09,800 1,29,200
Proposed dividend 16,000 24,000
2,31,800 90,700 1,98,200 1,45,500
1,35,700 1,96,500
Represented by
Ordinary share capital 85,000 1,10,000
General reserve 15,500 27,500
Profit and loss A/c 35,200 48,500
8% Debenture – 10,500
1,35,700 1,96,500
193

199. Financial Management
410. The funds from operations is __________.
a. Rs.77,000
b. Rs.60,300
c. Rs.65,600
d. Rs.76,300
e. Rs.57,700.
411. The statement of change in working capital is ____________.
a. Increase in working capital of Rs.3,700
b. Decrease in working capital of Rs.3,700
c. Increase in working capital of Rs.3,900
d. Decrease in working capital of Rs.2,200
e. No change in working capital.
412. The total Amount of Sources is ________.
a. Rs.1,00,000
b. Rs.1,10,000
c. Rs.1,19,000
d. Rs.98,000
e. Rs.75,000.
Based on the following information Answer Questions 413 to 415.
Two divisions of Amazon Ltd., start the year 2003 with identical Balance sheets but the
position changed by the end of the year as shown below:
Division A Division B
Beginning Ending Beginning Ending
Current assets 5,75,000 5,50,000 5,25,000 5,25,000
Current liabilities 2,75,000 2,75,000 2,75,000 4,00,000
Working capital 3,00,000 2,75,000 2,50,000 1,25,000
Fixed assets (net) 2,00,000 6,00,000 2,50,000 5,00,000
Capital employed 5,00,000 8,75,000 5,00,000 6,25,000
Financed by:
Long-term debt – 2,50,000 – –
Equity capital and reserve 5,00,000 6,25,000 5,00,000 6,25,000
You have the following additional information:
a. Both the divisions have identical earning power.
b. Each division earns a net profit of Rs.60,000 after taxation @ 50%.
c. Depreciation amounts to Rs.40,000.
413. From the above information funds from operations are and for Division A and Division B.
a. Rs.1,00,000 and 1,00,000
b. Rs.1,60,000 and 1,90,000
c. Rs.1,90,000 and 1,90,000
d. Rs.95,000 and 95,000
e. Rs.3,15,000 and 1,60,000.
414. From the above information what are the amount of funds procured from the long-term
sources of Division A and Division B respectively?
a. Rs.2,50,000 and 65,000
b. Rs.65,000 and 65,000
c. Rs.2,50,000 and 2,50,000
d. Rs.3,15,000 and 65,000
e. Rs.3,15,000 and 2,50,000.
194

200. Part II
415. From the above information what are the changes in working capital of Division A and
Division B are respectively?
(Amount in Rs.)
Division A Division B
Beginning Ending Beginning Ending
Current assets 5,75,000 5,50,000 5,25,000 5,25,000
Current liabilities 2,75,000 2,75,000 2,75,000 4,00,000
Working capital 3,00,000 2,75,000 2,50,000 1,25,000
Fixed assets (net) 2,00,000 6,00,000 2,50,000 5,00,000
Capital employed 5,00,000 8,75,000 5,00,000 6,25,000
Financed by:
Long-term debt – 2,50,000 – –
Equity capital and reserve 5,00,000 6,25,000 5,00,000 6,25,000
a. Decrease in working capital for division A Rs.25,000 and working capital of Division B
has decreased by Rs.1,25,000.
b. Decrease in working capital of Rs.1,25,000 for Division A and increase in working
capital of Rs.1,25,000 for Division A.
c. No change in working capital for Both Division A and Division B.
d. Increase in working capital of Rs.1,25,000 for both Division A and Division B.
e. Decrease in working capital of Rs.1,25,000 for both Division A and Division B.
416. The following changes were noted in the financial statement of Orient Ltd during the
financial year 2003-04.
Rs. In Lakh
Increase in inventories 15
Decrease in debtors 25
Increase in cash 5
Decrease in other assets 5
Decrease in short-term 15
borrowings
Increase in creditors 5
Decrease in provisions 10
What is the proportion of total resources that are used to increase the assets of the firm?
a. 77.4%.
b. 45.6%.
c. 44.44%.
d. 41.56%.
e. 40.74%.
417. The summarized balance sheet of Symphony. as on 31.12.2003 and 31.12.2004 are as follows:
31.12.2003 31.12.2004
Assets Rs. Rs.
Fixed assets at cost 7,50,000 8,50,000
– Depreciation 2,00,000 2,00,000
Net fixed assets 5,50,000 6,50,000
Investments 80,000 60,000
Preliminary expenses 20,000 10,000
Current assets 2,50,000 3,00,000
9,00,000 10,20,000
195

201. Financial Management
31.12.2003 31.12.2004
Liabilities Rs. Rs.
Share capital 2,50,000 3,70,000
Capital reserve – 10,000
General reserve 1,70,000 2,00,000
P&L account 85,000 1,00,000
Debentures 2,00,000 1,40,000
Sundry creditors 1,00,000 1,10,000
Tax provision 65,000 50,000
Proposed dividend 30,000 36,000
Unpaid dividend – 4,000
9,00,000 10,20,000
During 2003, the company –
1. Sold one machinery for Rs.25,000, the cost of the machine was Rs.64,000 and
depreciation provided for it amounted to Rs.35,000.
2. Provided Rs.95,000 as depreciation.
3. Redeemed 30% of debentures at Rs.103.
4. Sold investment at profit and credited it to capital reserve.
5. Decided to value the stock at cost, where as earlier the practice was to value stock at
cost less 10%. The stock according to books on 31.12.2003 was Rs.54,000 and stock on
31.12.2004 was Rs.75,000 which was correctly valued at cost.
From the above information given, the funds from operations of the company are ______
a. Rs.2,30,800
b. Rs.2,35,800
c. Rs.2,70,800
d. Rs.3,26,800
e. Rs.3,36,800.
Based on the following information Answer Questions 418 to 419.
The following are the balance sheets of ABC Ltd., for the year 2003 and 2004.
Balance Sheet
Liabilities 31.12.03 31.12.04 Assets 31.12.03 31.12.04
Share capital 300 400 Fixed assets 575 630
General reserve 125 190 Investments 105 175
P & L A/c 50 85 Debtors 125 200
Term loans 200 140 Stock 170 200
Sundry creditors 60 80 Bank balance 5 20
Bank Overdraft 230 280 Other Advances 25 30
Other Liabilities 40 80
Total 1,005 1,255 1,005 1,255
Additional Information
1. Dividend has been proposed @25% of the share capital additional capital of Rs.100
lakh was brought in during the year 2004 and is eligible for dividend for the full year.
For 2004 the proposed dividend is included in other liabilities.
2. Depreciation on fixed assets has been provided to the extent of Rs.90 lakh.
418. The net increase in working capital is ________
a. Rs.20 lakh
b. Rs.15 lakh
c. Rs.30 lakh
d. Rs.35 lakh
e. Rs.23 lakh.
196

202. Part II
419. The funds from operations is ___________
a. Rs.250 lakh
b. Rs.255 lakh
c. Rs.260 lakh
d. Rs.270 lakh
e. Rs.265 lakh.
420. The following changes were noted in the financial statements of X Ltd.
Rs. in ’000
Increase in debtors 100
Decrease in bank 7
Decrease in stock 28
Increase in bills receivable 20
Decrease in creditors 28
Increase in bills payable 4
The proportion of total resources has been generated by an increase in liabilities is ______
a. 10.25%
b. 19.70%
c. 25.25%
d. 15.75%
e. 8.95%.
Based on the following information, Answer Questions 421 and 422.
The following are the balance sheets of Cod Ltd. for the years 2003 and 2004.
Balance Sheets
(Amount in Thousands)
Liabilities 31.12.03 31.12.04 Assets 31.12.03 31.12.04
Share capital 400 640 Goodwill 200 160
8% preference capital 200 180 Land and Building 400 340
General reserve 80 140 Plant and Machinery 160 400
P & L A/c 60 96 Debtors 300 500
Debentures 300 180 Stock 174 118
Sundry creditors 110 166 Bank balance 50 36
Bills payable 40 32 Bills receivable 40 60
Proposed dividend 84 100 Preliminary expenses 30 20
Provision for tax 80 100
Total 1,354 1,634 1,354 1,634
Additional Information:
1. Rs.70,000 income tax was paid during the year.
2. Final dividend of Rs.50,000 was paid during the year.
3. During the year assets of another company were purchased for a consideration of
Rs.100,000 payable in shares. The assets purchased were stock Rs.40,000 and
Machinery Rs.50,000.
4. Rs.120,000, 8% preference share capital was redeemed at a premium of 5%.
5. A part of plant costing of Rs.50,000 was sold for Rs.40,000. Depreciation on plant
Rs.40,000 for the current year has been provided.
6. The company depreciates land and building by Rs.20,000. Land costing Rs.40,000 was
sold for Rs.1,00,000.
7. Equity shares of Rs.20,000 were issued as bonus shares.
8. Rs.20,000, 10% debentures were redeemed by purchase in the open market @ Rs.95.
9. The company also made a right issue of equity shares during the years.
197

203. Financial Management
421. The funds from operations of the company is ______.
a. Rs.2,78,500
b. Rs.3,00,000
c. Rs.3,15,000
d. Rs.3,50,000
e. Rs.3,48,000.
422. The Net change in Working Capital (WC) is _________
a. Net increase in WC of Rs.1,02,000
b. Net decrease in WC of Rs.1,02,000
c. Net increase in WC of Rs.1,50,000
d. Net decrease in WC of Rs.1,50,000
e. No change in WC.
423. The changes in the Working Capital from the Balance sheet data given below is _______.
March.31, 2003 March. 31, 2004
Rs. Rs.
Capital and liabilities
Share capital 6,00,000 7,50,000
Trade creditors 2,12,000 1,40,000
P& L A/c 28,000 62,000
Total 8,40,000 9,52,000
Assets
Machinery 140,000 2,00,000
Stock in trade 2,42,000 2,72,000
Debtors 3,62,000 3,40,000
Cash 96,000 1,40,000
Total 8,40,000 9,52,000
a. Net decrease in Working Capital of Rs.1,24,000
b. Net increase in Working Capital of Rs.1,24,000
c. No change in Working Capital
d. Net decrease in Working Capital of Rs.1,46,000
e. Net increase in Working Capital of Rs.1,46,000.
424. Given below is the balance sheet for the years 2003 and 2004 for Rajivi Fabricators Ltd.,
31 Dec. 2004 31 Dec. 2003
(Rs.) (Rs.)
Assets
Good will 10,000 20,000
Cash 1,40,000 50,000
Debtors 1,80,000 1,96,000
Closing stock 2,40,000 1,74,000
Long term investments 20,000 30,000
Land 54,000 30,000
Preliminary expenses 6,000 10,000
6,50,000 5,10,000
198

204. Part II
31 Dec. 2004 31 Dec. 2003
(Rs.) (Rs.)
Liabilities
Trade creditors 90,000 1,00,000
Bills payable 70,000 40,000
Loans (Payable during 2003) 40,000 –
Share capital 3,00,000 2,50,000
P & L A/c 1,50,000 1,20,000
6,50,000 51,00,000
From the above Balance sheet, what is the net increase in Working Capital?
a. Rs.66,000.
b. Rs.80,000.
c. Rs.88,000.
d. Rs.1,66,000.
e. Rs.1,75,000.
425. Given below is the profit and loss a/c of M/s. Ram Kumar and Co., for the year ended
March 31, 2004 what is the funds from operations?
Profit and Loss A/c
(Rs.) (Rs.)
To Salaries 20,000 By Gross profit 4,00,000
To rent 6,000 By profit on sale of Machine 10,000
To commission 4,000 By Refund of tax 6,000
To Discount allowed 2,000 By dividend received 4,000
To provision for depreciation 28,000
To transfer to General reserves 40,000
To provision for tax 20,000
To loss on sale of investments 10,000
To discount on issue of debentures 4,000
To preliminary expenses 6,000
To selling expenses 40,000
To net profit 2,40,000
4,20,000 4,20,000
a. Rs.3,00,000
b. Rs.3,28,000
c. Rs.3,48,000
d. Rs.3,50,000
e. Rs.3,58,000.
426. The following is an extract taken from M/s. Agarwal Movers & Packers.
(Amount in Rs.)
31st Dec 2003 31st Dec 2004
Balance of profit and loss A/c 2,00,000 3,00,000
Additional information:
i. Depreciation charged on assets 20,000
ii. Preliminary expenses written off 10,000
iii. Amount transferred to dividend 30,000
equalization fund
iv. A plant having a book value of 1,30,000
Rs.1,20,000 was sold for
v. Interim dividend paid Rs.20,000
199

205. Financial Management
The funds from operations are Rs._______
a. 1,50,000
b. 1,70,000
c. 1,75,000
d. 2,00,000
e. 3,80,000.
Based on the following information, Answer Questions 427 and 428.
Given below are the Balance sheet of M/s. Padmaja Diary Products Ltd.,
2003 2004
Rs. Rs.
Building 2,00,000 3,00,000
Provision for depreciation 50,000 60,000
P & L A/c 80,000 1,60,000
Additional Information:
i. An additional building costing Rs.2,00,000 was purchased during the year.
ii. A part of building costing Rs.1,00,000 was sold for Rs.1,20,000; depreciation provided
on it was Rs.20,000.
427. The funds from operations of the company
a. Rs.30,000
b. Rs.2,00,000
c. Rs.70,000
d. Rs.1,20,000
e. Rs.80,000.
428. What are the sources of funds for the firm?
a. Purchase of building for Rs.2,00,000 and funds from operations of Rs.70,000.
b. Sale of building for Rs.1,20,000 and funds from operations of Rs.70,000.
c. Purchase of building for Rs.2,00,000 and sale of building for Rs.1,20,000.
d. Only funds from operations of Rs.70,000.
e. Purchase of building for Rs.2,00,000, sale of building for Rs.1,20,000 and funds from
operations of Rs.70,000.
Based on the following information, Answer Questions 429 and 430.
Extracts from balance sheets:
As on 31.3.03 As on 31.3.04
Rs. Rs.
Equity share capital 4,00,000 6,00,000
Share premium A/c 40,000 60,000
9% debentures 2,00,000 3,00,000
Additional Information:
9% debentures worth Rs.60,000 were redeemed during the year.
429. The total sources of funds of above balance sheet is Rs.________
a. 1,60,000
b. 1,90,000
c. 2,00,000
d. 2,50,000
e. 3,80,000.
200

206. Part II
430. Which of the following is the application of funds?
a. Rs.1,10,000 of equity shares
b. Rs.1,80,000 of cash
c. Rs.60,000of redemption of debentures
d. Rs.1,00,000 of redemption of debentures
e. Rs.40,000 of equity shares.
Based on the following information, Answer Questions 431 and 432.
Extracts of Balance sheet of M/s Vijaya Enterprises.
2003 2004
Rs. Rs.
Trade investments 1,00,000 1,40,000
Additional Information:
i. Rs.10,000 by way of dividend has been received during the year including Rs.4,000
from pre-acquisition profits which have been credited to Investments A/c.
ii. Investments costing Rs.20,000 have been sold during the year for Rs.20,000.
431. The source of funds is an Rs._________ realized from sale of trade investments.
a. 1,000
b. 20,000
c. 1,00,000
d. 1,10,000
e. 11,000.
432. The investments purchased during the year is __________.
a. Rs.50,000
b. Rs.40,000
c. Rs.12,000
d. Rs.64,000
e. Rs.70,000.
Based on the following information, Answer Questions 433 and 434.
Extract from the balance sheets:
31.3.03 31.3.04
Rs. Rs.
Provision for taxation (Non-current) 1,00,000 1,50,000
Profit and Loss A/c (cr.) 4,00,000 6,00,000
Additional Information:
Tax paid during the year is Rs.60,000
433. Funds from operations of Rs._______ is a source of funds.
a. 2,00,000
b. 2,55,000
c. 3,00,000
d. 3,10,000
e. 4,60,000.
201

207. Financial Management
434. In which of the following is an application of funds?
a. Tax paid Rs.60,000.
b. Provision of taxation Rs.50,000.
c. Provision for taxation Rs.75,000.
d. Tax paid Rs.85,000.
e. Tax paid Rs.55,000.
435. Extracts from balance sheets of Mr. Raj and Co. Ltd.
2003 2004
Rs. Rs.
Proposed dividend 1,60,000 2,00,000
Retained earnings 6,00,000 8,00,000
Additional information:
Dividend proposed during the year and debited to Retained earnings A/c is Rs.2,00,000.
The funds from operations is Rs.__________.
a. 1,00,000
b. 1,80,000
c. 2,00,000
d. 2,80,000
e. 4,00,000.
436. From the following Balance sheet of Surana Industries, the total sources from funds flow
statement is ________.
Dec. 31, Dec. 31,
2003 2004
Assets
Land and Building 1,00,000 1,00,000
Plant 48,000 68,000
Stock 18,000 14,000
Debtors 33,000 39,000
Cash at bank 8,000 18,000
Capital and liabilities
Capital 1,60,000 1,70,000
P&L appropriation A/c 29,000 49,000
Creditors 18,000 10,000
Mortgage – 10,000
a. Rs.10,000
b. Rs.20,000
c. Rs.30,000
d. Rs.25,000
e. Rs.40,000.
202

208. Part II
Based on the following information, Answer Questions 437 and 438.
Following is the balance sheet of Indian XL Ltd.
(Rs. in lakh)
Liabilities 2004
2003 Assets 2004 2003
Share capital 1090
1090 Fixed Assets 9,866 7984
Reserves 4918
3320 Less: depreciation 3854 3300
Loan Funds 5538
4590
11546
9000 6012 4684
Investments (long-term) 126 126
Current liabilities 2482 3066 Inventories 4150 3608
Provisions 924 654 Debtors 2314 1374
Cash and bank balance 1024 1688
Loan and advances 1326 1240
14952 12720 14952 12720
437. The Net change in working capital is ________.
a. Net increase in working capital of Rs.1218 lakh.
b. Net increase in working capital of Rs.1076 lakh.
c. Net decrease in working capital of Rs.2152 lakh.
d. Net decrease in working capital of Rs.1076 lakh.
e. No change in working capital.
438. The funds from operations are _________.
a. Rs.1,075 lakh
b. Rs.2,152 lakh
c. Rs.2,200 lakh
d. Rs.2,255 lakh
e. Rs.2,260 lakh.
Based on the following information, Answer Questions 439 and 440.
The following are the balance sheets of Pasachim Corporation Ltd as on 31st March, 2003
and 2004.
Liabilities 2003 2004 Assets 2003 2004
Rs. Rs. Rs. Rs.
Share capital: (paid-up) Land and Buildings 30,000 25,000
11% cumulative – 15,000 Plant and Machinery 15,000 25,000
Preference shares
Equity shares 55,000 60,000 Sundry debtors 20,000 24,000
General Reserves 2,000 2,000 Stock 30,000 35,000
P & L A/c 1,000 1,200 Bank 1,200 3,500
9% debentures 6,000 7,000 Cash 300 500
Provision for taxation 3,000 4,200
Proposed dividend 5,000 5,800
Current liabilities 24,500 17,800
96,500 1,13,000 96,500 1,13,000
203

209. Financial Management
439. Net increase in working capital is ______.
a. Rs.19,100
b. Rs.13,350
c. Rs.23,900
d. Rs.22,250
e. Rs.18,200.
440. What is the funds from operations generated?
a. Rs.10,200
b. Rs.18,000
c. Rs.27,100
d. Rs.16,950
e. Rs.25,850.
Based on the following information, Answer Questions 441 and 443.
Given below are the following balance sheets of Kamakshi Combines Ltd.,
Liabilities 31.3.03 31.3.04 Assets 31.3.03 31.3.04
Rs. Rs. Rs. Rs.
Share capital 70,000 74,000 Cash 9,000 7,800
Debentures 12,000 6,000 Debtors 14,900 17,700
Reserve for doubtful debts 700 800 Stock 49,200 42,700
Land 20,000 30,000
Trade creditors 10,360 11,840 Good will 10,000 5,000
Profit and loss A/c 10040 10560
1,03,100 1,03,200 1,03,100 1,03,200
Additional Information:
i. Dividend paid Rs.3,500
ii. During the year, land was purchased for Rs.10,000.
441. What is the change in working capital is ______.
a. Net increase in working capital of Rs.7,000
b. Net decrease in working capital of Rs.7,500
c. Net increase in working capital of Rs.6,900
d. Net decrease in working capital of Rs.6,480
e. Net increase in working capital of Rs.7,250.
442. What are the the funds from operations?
a. Rs.10,700.
b. Rs.11,920.
c. Rs.9,020.
d. Rs.8,780.
e. Rs.9,180.
204

210. Part II
443. What are the total sources of funds with funds for Kamakshi Combines for the year 2003-
2004?
a. Rs.20,000.
b. Rs.20,500.
c. Rs.21,000.
d. Rs.19,500.
e. Rs.19,000.
444. The data on the current assets and current liabilities of Best Flavur Ltd., for the financial year
2004-05 are given below (in terms of Rs. lakh):
Debtors Cash balance Inventory Current liabilities
Beginning 100 70 30 60
Ending 120 60 45 55
The change in net working capital of the company is
a. Rs.15 lakh
b. Rs.20 lakh
c. Rs.25 lakh
d. Rs.30 lakh
e. Rs.50 lakh.
445. Current assets and current liabilities of Metals and Steel Ltd., are Rs.36 lakh and Rs.23 lakh
respectively. If the company purchased raw materials worth of Rs.2.00 lakh on credit, took a
long-term loan of Rs.25 lakh from a financial institution and purchased capital equipment,
and converted preferential shares (having face value of Rs.7 lakh) into equity, what would be
the new Net Working Capital (NWC)?
a. Rs.13 lakh
b. Rs.15 lakh
c. Rs.11 lakh
d. Rs.9 lakh
e. Rs.7 lakh.
446. For M/s Tubes and Cap Ltd., the total current assets is Rs.6 lakh and the current ratio is 1.5.
The company repaid its outstanding debentures worth of Rs.30 lakh prematurely after making
a rights issue and sold its products on credit for an amount of Rs.2.50 lakh. What is the
impact on its net working capital?
a. Rs.2.00 lakh.
b. Rs.2.50 lakh.
c. Rs.5.00 lakh.
d. Rs.6.00 lakh.
e. No Change.
447. For the years 2004 and 2005, the following figures have been arrived at:
Increase in notes payable = Rs.28,000
Decrease in provision for taxes = Rs.2,500
Increase in creditors = Rs.76,500
Decrease in provision for dividends = Rs.40,000
The change in NWC (NWC = Net Working Capital) is
a. Decrease by Rs.86,000
b. Decrease by Rs.62,000
c. Decrease by Rs.11,000
d. Increase by Rs.11,000
e. Increase by Rs.62,000.
205

211. Financial Management
448. Current liabilities are Rs.10,000 and current assets are Rs.15,000. If debtors realized Rs.3,000
and Rs.6,000 worth preference shares got converted into equity, the impact on Working
Capital (WC) would be
a. Decrease of Rs.3,000 in WC
b. Increase of Rs.3,000 in WC
c. No change in WC
d. Increase of Rs.9,000 in WC
e. Decrease of Rs.9,000 in WC.
449. The provisions made by YSR Manufacturing Co. Ltd., have increased by Rs.30,000 during
the last year and the trade loans have decreased by Rs.50,000. Ignoring changes in all other
assets and liabilities, the net change in the funds flow of the company will be
a. Increase of Rs.20,000
b. Increase of Rs.30,000
c. Increase of Rs.50,000
d. Decrease of Rs.20,000
e. None of the above.
450. If the outstanding wages payable of PNB Financial Services Ltd. decreased by Rs.55,000 and
inventories increased by Rs.40,000, the amount of net working capital of PNB Financials will
a. Increase by Rs.15,000
b. Decrease by Rs.15,000
c. Increase by Rs.95,000
d. Decrease by Rs.95,000
e. Increase by Rs.40,000.
451. In an analysis it has been found that receivables realized are Rs.10,000, debentures converted
into equity are Rs.10 lakhs and the current ratio before the above changes is 1.51. The net
working capital after the above changes
a. Increases by Rs.1,00,000
b. Reduces by Rs.1,00,000
c. Increases by Rs.11,00,000
d. Reduces by Rs.11,00,000
e. Does not change.
Leverage
Based on the following information, Answer Questions 452 and 454.
Use the following data given and solve the following question:
Total sales 1,45,000 units
Selling price Rs.23
Fixed cost Rs.2,80,000
Variable cost Rs.17
Debt Rs.10,00,000 @11% interest rate
Equity Rs.20,00,000
Face value of each share Rs.10
Tax rate applicable 45%
206

212. Part II
452. The firm’s sales have to come down by what so that the earnings before taxes is equal to zero?
If EBIT doubles, what is the new level of EBT amount?
a. Rs.16,36,000, Rs.11,80,000.
b. Rs.18,40,000, Rs.10,70,000.
c. Rs.22,68,000, Rs.1,10,000.
d. Rs.20,35,300, Rs.5,90,000.
e. Rs.14,95,000, Rs.6,00,000.
453. The operating and combined leverages are –––– and –––––.
a. 1.475, 1.814
b. 0.412, 1.119
c. 1.675, 2.098
d. 1.086, 1.475
e. 1.230, 0.097.
454. If the asset turnover of the industry is 0.75, does the firm have a high or low degree of asset leverage?
a. 0.99 and the firm is considered to have a low degree of asset leverage.
b. 1.00 and the firm is considered to have a high degree of asset leverage.
c. 1.11 and the firm is considered to have a high degree of asset leverage.
d. 1.10 and the firm is considered to have a high degree of asset leverage.
e. 0.65 and the firm is considered to have a low degree of asset leverage.
455. Use the following data given and solve the following question:
EBIT Rs.5,90,000
Interest @ 11% Rs.1,10,000
No. of shares outstanding 2,00,000
Tax rate applicable 45%
If another firm has the same ROI, same total assets as this firm and no debt, what is the
difference between EPS of the two firms and which one has the higher EPS?
a. Rs.0.09 and firm I has a higher EPS.
b. Rs.1.00 and firm II has a higher EPS.
c. Rs.0.01 and firm II has a higher EPS.
d. Rs.0.24 and firm I has a higher EPS.
e. Rs.0.06 and firm I has a higher EPS.
Based on the following information, Answer Questions 456 and 457.
456. The share capital of a company is Rs.8,00,000 with shares of face value Rs.10. It has a debt
capital of Rs.5,00,000 at 12% interest rate. The sales of firm are 2,50,000 units per annum at
a selling price of Rs.5 per unit and the variable cost per unit is Rs.3. The fixed costs amount
to Rs.1,00,000 and the company pays tax @50%. If the sales increase by 20%, the degree of
operating leverage at the two levels is.
a. 1.20 in old level and 1.15 in new level
b. 1.25 in old level and 1.20 in new level
c. 1.30 in old level and 1.35 in new level
d. 1.25 in old level and 1.30 in new level
e. 1.00 in old level and 1.15 in new level.
207

213. Financial Management
457. What is the degree of financial leverage at the two levels for the firm mentioned in the above
question?
a. 1.076 in old level and 1.036 in new level.
b. 1.076 in old level and 1.136 in new level.
c. 1.176 in old level and 1.036 in new level.
d. 1.176 in old level and 1.116 in new level.
e. 1.176 in old level and 1.136 in new level.
458. Using the following information, the percentage change in earning per share of the two levels
of ABC Ltd. is ––––––.
Old level New level
Net profit (Rs.) 1,70,000 2,20,000
Number of shares 80,000 80,000
Sales 2, 00,000 2,50,000
units units
a. 29.4% increase
b. 29.4% decrease
c. 0.77% increase
d. 0.77% decrease
e. 27.7% increase.
459. Consider three different firms given below:
A B C
Operating leverage 1.14 1.23 1.33
Financial leverage 1.27 1.3 1.33
Which one of the combinations should be chosen for the combined leverage to be maximum
and what are your inferences?
a. The combined leverage is highest for the firm C and indicates that this firm is working
under high risky situation.
b. The combined leverage is highest for the firm B and indicates that this firm is working
under lesser risky situation.
c. The combined leverage is highest for the firm C and indicates that this firm is working
under lesser risky situation.
d. The combined leverage is maximum for A and indicates that this firm is working under
lower risky situation.
e. The combined leverage is highest for the firm C and indicates that this firm is working
under no risky situation.
460. The DOL for Mainstar Ltd., is ––––– for the following information:
Number of units produced 50,000
Selling price per unit Rs.50
Variable cost per unit Rs.20
Fixed cost per unit at current level of sales Rs.15
208

214. Part II
The new DOL is ––––– if the variable cost were Rs.30 per unit.
a. DOL = 4, New DOL = 2
b. DOL = 3, New DOL = 3
c. DOL = 2, New DOL = 4
d. DOL = 1, New DOL = 5
e. DOL = 5, New DOL = 1.
461. The degree of operating leverage is 1.2 and sales revenue is Rs.144 lakh of a company. The
annual interest burden is Rs.10 lakh and preference dividend payable is Rs.4.2 lakh. The total
variable costs to sales ratio is 60%. The fixed expenses of the company is –––––.
a. Rs.9.6 lakh
b. Rs.0.96 lakh
c. Rs.96 lakh
d. Rs.0.09 lakh
e. Rs.1.96 lakh.
462. The High Gear Company and the Low Gear Company have provided you with the following
information:
HG Ltd. LG Ltd.
Sales (in units) 20,000 20,000
Price per unit 50 50
Variable cost per unit 20 25
Fixed financing cost 1,00,000 50,000
Fixed operating cost 4,00,000 3,00,000
Which firm do you consider to be more risky and why?
a. LG Ltd. is riskier as both DOL and DFL are higher.
b. HG Ltd. is riskier as both DOL and DFL are higher.
c. LG Ltd. is riskier as both DOL and DFL are lower.
d. HG Ltd. is riskier as both DOL and DFL are lower.
e. Both HG Ltd. and LG Ltd. are riskier.
463. The degree of operating leverage is 2.5 and degree of financial leverage is 1.6 of a firm then
the percentage change in EPS is ––––– if quantity increases by 5%.
a. 2%
b. 0.20%
c. 0.02%
d. 20%
e. 0.002%.
209

215. Financial Management
Based on the following information, Answer Questions 464 and 465.
The following information is available regarding Nagarjuna Fertilizers Ltd.
PBDIT Rs.825.26 cr.
Depreciation Rs.5.96 cr.
Effective tax rate 30%
EPS Rs.3.647
Book value Rs.28.74 per share
Number of outstanding shares Rs.33.146 cr.
D/E ratio 1.4:1
464. The degree of financial leverage of the company is –––––––.
a. 47.4
b. 4.74
c. 7.44
d. 4.77
e. 74.4.
465. What is the financial break even point of Nagarjuna Fertilizers Ltd. and its significance?
a. Rs.646.61cr. and it is the level of EBIT, which recovers the total interest burden
b. Rs.64.66 cr. and it is the level of EBIT, which will not recover the interest burden
c. Rs.64.66 cr. and it is the level of PBDIT
d. Rs.646.6 cr. and it is the level of PBDIT
e. Rs.6,466 cr. and it is the level of PAT.
466. Alex Distilleries Ltd., have a financial leverage of 4 and operating leverage of 5. The interest
payment on borrowings during the year was Rs.300 lakh. The variable cost of production as a
percentage of sales is 75%. The tax rate applicable for the company is 45%. The variable
cost and fixed cost are –––––––––––.
a. Rs.6,000 lakh and Rs.1,600 lakh
b. Rs.600 lakh and Rs.160 lakh
c. Rs.60 lakh and Rs.16 lakh
d. Rs.6 lakh and Rs.1.6 lakh
e. Rs.0.6 lakh and Rs.0.16 lakh.
467. The following estimates are made of ELXI India Ltd. for the year 2000-01:
i. The degree of operating leverage is expected to be 1.30.
ii. Fixed costs are estimated to be Rs.2.50 lakh.
iii. Interest on Rs.30 lakh debt will be paid @15% p.a.
iv. The EPS of the company is expected to be Rs.2.
The degree of total leverage for the company is ––––––––.
a. 5.62
b. 3.71
c. 2.54
d. 4.70
e. 2.83.
210

216. Part II
468. What would be the percentage decline in sales, which would wipe out profit before tax is, if
the degree of total leverage is 3 and the EPS of the company is expected to be Rs.2.
a. 33.33%
b. 41.33%
c. 55.35%
d. 12.09%
e. 47.87%.
469. The following figures relate to ABHI Ltd.,
(in Rs. lakh)
AB Ltd.
Sales 7,000
Variable cost 600
Contribution 2500
Fixed costs 1400
EBIT 800
- Interest 200
Profit before tax 300
The combined leverage of the company is _____.
a. 8.33
b. 7.52
c. 6.88
d. 5.43
e. 7.17.
470. The Zee Ltd. Provided following information:
Output (units) 1,20,000
Fixed costs 14,000
Variable cost per unit (Rs.) 0.40
Interest on borrowed funds (Rs.) 8,000
Selling price per unit (Rs.) 1.20
The Degree of Operating Leverage (DOL) of the firm is _____________.
a. 1.17
b. 1.31
c. 1.21
d. 1.11
e. 1.01.
471. The XYZ Ltd., provided following information:
Output (units) 30,000
Fixed costs 28,000
Variable cost per unit (Rs.) 2.50
Interest on borrowed funds (Rs.) 16,000
Selling price per unit (Rs.) 7.00
The Degree of Financial Leverage (DFL) of the firm is __________.
a. 0.895
b. 1.055
c. 1.176
d. 1.145
e. 1.705.
211

217. Financial Management
472. The LMN Ltd., provided following information:
Output (units) 2,00,000
Fixed costs 3,500
Variable cost per unit (Rs.) 0.04
Interest on borrowed funds (Rs.) –
Selling price per unit (Rs.) 0.11
The Degree of Combined Leverage (DCL) of the firm is ____________.
a. 1.00
b. 1.72
c. 1.85
d. 1.33
e. 1.36.
473. A Zenith Corporation Ltd., has sales of Rs.5,00,000, variable cost of Rs.3,00,000 and fixed cost
Rs.1,50,000 and long term loan 1,50,000 at 10% rate of interest. The operating, financial and
combined leverages are ___________, _________ and ___________ respectively.
a. 3.00, 1.24. 3.72
b. 4.00, 1.24. 4.96
c. 4.00,1,42, 5.68
d. 4.00, 1.50, 6.00
e. 4.20, 1.42, 5.96.
474. Kumar Corporation has estimated that for a new product its break-even point is 3,000 units if
the item is sold for Rs.12 per unit; the cost accounting department has currently identified
variable cost of Rs.8 per unit. The degree of operating leverage for sales volume of 4,500
units and 5,000 units are ________ and _______.
a. 4, 4
b. 3, 2.5
c. 3, 5
d. 7, 1
e. 6, 2.
475. The following information is available in respect of two firms Tata Ltd. and Gemini Ltd.:
(Rs. in lakh)
Tata Ltd. Gemini Ltd.
Sales 1000 2000
– Variable cost 300 800
Contribution 700 1200
– Fixed cost 150 400
EBIT 550 800
– Interest 50 100
Profit before tax 500 700
Comment on their relative risk position through operating leverage for both the firms.
a. Operating leverage is lower in case of Gemini Ltd. and hence it has higher degree of
operating or business risk.
b. Operating leverage is lower in case of Tata Ltd. and hence it has higher degree of
operating or business risk.
c. Operating leverage is same for both the companies and hence no business risk.
d. Operating leverage is higher in case of Tata Ltd. and hence it has higher degree of
operating or business risk.
e. Operating leverage is higher in case of Gemini Ltd. and hence it has higher degree of
operating or business risk.
212

218. Part II
476. The following information is available in respect of two firms Maruthi Ltd. and Ford Ltd.:
(Rs. in lakh)
Maruthi Ltd. Ford Ltd.
Sales 3500 7000
– Variable cost 1200 2300
Contribution 2300 4700
– Fixed cost 1150 2400
EBIT 1150 2300
– Interest 150 300
Profit before tax 1000 2000
Comment on their relative risk position through financial leverage for both the firms.
a. Financial leverage is lower in case of Ford Ltd. and hence it has higher degree of
financial risk.
b. Financial leverage is lower in case of Maruthi Ltd. and hence it has higher degree of
financial risk.
c. Financial leverage is same for both the companies and hence both firms have same
financial risk.
d. Financial leverage is higher in case of Maruthi Ltd. and hence it has higher degree of
financial risk.
e. Financial leverage is higher in case of Ford Ltd. and hence it has higher degree of
financial risk.
477. The following information is available for Navkar and Co.
Rs.
EBIT 20,20,000
Profit before tax 13,20,000
Fixed costs 7,00,000
The percentage change in EPS is _______, if the sales are expected to increase by 5%.
a. 16.02%
b. 24.87%
c. 25.50%
d. 10.25%
e. 14.09%.
478. The combined leverage and operating leverage of a company are 3.5 and 2.25 respectively.
The financial leverage is ___________.
a. 1.56
b. 2.56
c. 3.00
d. 3.50
e. 4.00
479. The combined leverage and operating leverage of a company are 4.5 and 2.75 respectively.
The PV ratio is __________.
Additional information:
• Equity dividend is Rs.2 per share
• Interest payable is Rs.63,000
• Sales is Rs.20,00,000
a. 10%
b. 15.87%
c. 21.6%
d. 22.41%
e. 30%.
213

219. Financial Management
Based on the following information, Answer Questions 480 and 481.
A simplified income statement of Nile Ltd. is given below.
Income Statement of the Nile Ltd. for the year ending 31st March, 2003
Rs.
Sales 50,000
Variable cost 7,000
Fixed cost 5,000
EBIT 38,000
Interest 10,000
Taxes (30%) 9,400
Net income 8,600
480. The operating leverage is___________.
a. 1.13
b. 1.36
c. 0.87
d. 0.66
e. 0.51.
481. Use the data in the above problem and find the financial leverage of Nile Ltd?
a. 1.36.
b. 1.87.
c. 2.25.
d. 1.08.
e. 3.50.
482. The operating leverage from the following data is ___________.
Sales Rs.50,000
Variable cost 60%
Fixed costs Rs.12,000
a. 2.65
b. 2.21
c. 2.50
d. 1.45
e. 2.08.
483. The financial leverage from the following data is _______.
Rs.
Net worth 25,00,000
Debt/Equity 3:1
Interest rate 12%
Operating profit Rs.2,00,000
a. 2.43
b. 2.16
c. 1.82
d. 1.56
e. 2.11.
484. Sheetal Ltd., has an average selling price of Rs.10 per unit. Its variable unit costs are Rs.4
and fixed costs amount to Rs.1,10,000. If finances all its assets by equity funds. It pays 40%
tax on its income. Arc Ltd., is identical to Sheetal Ltd., except in respect of the pattern of
financing. The latter finances its assets 40% by equity and 60% by debt, the interest on which
amounts to Rs.5,000. The combined leverage at Rs.2,00,000 sales for both the firms are
_______ and _______.
a. 9, 18
b. 12, 24
c. 10, 20
d. 8, 16
e. 4, 16.
214

220. Part II
Based on the following information, Answer Questions 485 and 486.
Following data under situations I and II and financial plans P and Q are provided.
Installed Capacity 2,000 units
Actual production and sales 55% of the capacity
Selling price Rs.20 per unit
Variable cost Rs.10 per unit
Fixed cost: Under Situation I – Rs.5,000; Under Situation II – Rs.8,000.
Capital Structure:
Financial Plan P Q
Equity 5,000 7,000
Debt (Rate of interest at 20%) 6,000 3,000
Total 11,000 10,000
485. The operating leverages of situation I and situation II from the above information are ______
and _______.
a. 1.83 and 3.67
b. 1.2 and 1.3
c. 1.8 and 1.5
d. 1.8 and 1.3
e. 1.2 and 1.5.
486. The financial leverages of Plan P and Plan Q under situation II are:
a. 1.02 and 1.65
b. 1.21 and 1.43
c. 1.67 and 1.25
d. 1.04 and 1.09
e. l1.65 and 1.02.
487. You are a Finance Manager in ICICI Ltd., The degree of operating leverage of your
Company is 4.0 and the degree of financial leverage is 2.0. Your Managing Director has
found that the degree of operating leverage and the degree of financial leverage of your
nearest competitor HDFC Ltd., are 5.0 and 3.0 respectively. In his opinion, the HDFC Ltd., is
better than that of ICICI Ltd., because of higher value of degree of leverages. Do you agree
with the opinion of your Managing Director.
a. The Managing Director’s opinion about HDFC Ltd., is wrong. Therefore, ICICI Ltd.,
carries more business risk and financial risk as compared to HDFC Ltd.
b. The Managing Director’s opinion about HDFC Ltd., is correct. Therefore, ICICI Ltd.,
carries less business risk and financial risk as compared to HDFC Ltd.
c. The Managing Director’s opinion about HDFC Ltd., is wrong. Therefore, ICICI Ltd.,
carries less business risk and financial risk as compared to HDFC Ltd.
d. The Managing Director’s opinion about HDFC Ltd., is correct. Therefore, ICICI Ltd.,
carries no business risk and financial risk as compared to HDFC Ltd.
e. The Managing Director’s opinion about HDFC Ltd., is wrong. Therefore, ICICI Ltd.,
carries no business risk and financial risk as compared to HDFC Ltd.
215

221. Financial Management
488. The following figures are available for Radhika & Co.,:
Net Sales: Rs.15 crores
EBIT as percentage of Net Sales: 12%
Capital employed:
• Equity: Rs.5 crores
• Preference shares of Rs.1 crore bearing 13% Rate of Dividends
• Debt @ 15% : Rs.3 crores
The applicable Income Tax to be taken as 40%.
Operating Leverage of the company is______.
Given that its combined leverage is 3.
a. 2.07
b. 2.56
c. 1.54
d. 1.89
e. 2.89.
489. The net sales of B Ltd., is Rs.30 crores. An earnings before interest and tax of the company
as a percentage of net sales is 12%. The capital employed comprises Rs.10 crores of equity,
Rs.2 crores of 13% Cumulative Preference Share capital and 15% debentures of Rs.6 crores.
Income tax rate is 40%. The operating leverage of the company is_________, given that
combined leverage is 3.
a. 2.56
b. 2.03
c. 1.889
d. 1.12
e. 2.78.
490. The Balance sheet of Beta Numeric Company is given below:
Liabilities Rs. Assets Rs.
Equity capital (Rs.10 per share) 90,000 Net Fixed Assets 2,25,000
10% Long-term debt 1,20,000 Current assets 75,000
Retained earnings 30,000
Current liabilities 60,000
3,00,000 3,00,000
Company’s total assets turnover ratio is 3, its fixed operating cost is Rs.1,50,000 and its
variable operating cost ratio is 50%. The Income tax rate is 50%. The combined leverage of
the company is __________.
a. 1.00
b. 2.00
c. 3.00
d. 2.56
e. 1.56.
216

222. Part II
491. _________is the degree of operating leverage for XYZ Company Ltd, given the following
information:
Quantity produced = 15,000
Variable cost per unit = Rs.350
Selling price per unit = Rs.500
Fixed cost = Rs.9,00,000.
a. 1.78
b. 1.67
c. 1.09
d. 1.88
e. 2.06.
Based on the following information, Answer Questions 492 and 493.
The Supreme & Co. Ltd., given the following information:
Equity earnings 2,30,000
Quantity produced (Q) 7500 units
Variable cost per unit (V) Rs.300
Selling price per unit (S) Rs.600
Number of equity share holders (N) 7,00,000
Fixed expenses (F) Rs.10,00,000
Interest (I) Rs.95,000
Preference dividend (Dp) Rs.35,000
Corporate tax (T) 40%
492. The Degree of total or combined leverage is_____
a. 1.45
b. 2.05
c. 1.09
d. 2.83
e. 1.22.
493. If degree of combined leverage for quantity of 5000 units is 9 and there is a 5% increase in
quantity. The affect on EPS is________.
a. 60%
b. 25%
c. 75%
d. 45%
e. 40%.
494. The following is the income statement of Dell Ltd. for the year 2000:
(Rs. in lakh)
Sales 30
– Variable cost 10
– Fixed cost 10
EBIT 10
– Interest 5
Profit before tax 5
– Tax at 40% 2
Profit after tax 3
– Preference dividend 1
Profit for equity share holder 2
The company has one lakh equity shares issued to the shareholders. The DCL is________
and if the sales level increases by 10% then the EPS is _________.
a. DCL is 1.0 and the new EPS would be 1.40
b. DCL is 2.2 and the new EPS would be 2.82
c. DCL is 4.06 and the new EPS would be 3.60
d. DCL is 6.0 and the new EPS would be 3.20
e. DCL is 2.60 and the new EPS would be 4.85.
217

223. Financial Management
495. If the degree of operating leverage of a company is increased by 30 percent while the degree
of financial leverage is decreased by 20 percent. What will be the change in the degree of
total leverage?
a. 2 percent increase.
b. 3 percent increase.
c. 4 percent increase.
d. 2 percent decrease.
e. 4 percent decrease.
496. The following information have been collected from the Annual Report of Garden
Restaurant, selling biriyanis in parcel packets:
Total sales = Rs.1400,000
Contribution ratio = 25 percent
Fixed expenses = Rs.150,000
Outstanding bank loan = Rs.400,000 @ 12.50 percent
Preference Share Capital = Rs.200,000 @ 15.00 percent
Applicable Tax rate = 40 percent
The Degree of Financial Leverage (DFL) for Garden Restaurant?
a. 1.33
b. 1.50
c. 1.67
d. 2.00
e. 2.33.
497. The degree of operating leverage (DOL) for the specific level of operations of a firm is 2.25.
If the sales turnover increases by 6 percent, what is the percentage change in EBIT?
a. 4.50 % increase
b. 9.00 % decrease
c. 13.50 % increase
d. 18.00 % decrease
e. Cannot be determined.
498. For ABC Corporation, the degree of operating leverage (DOL) is 3 and the degree of
financial leverage is 1.67. If the management targets to increase the EPS by 10 percent, by
how much percentage should the sales volume be increased? (Round off your answer to the
nearest value)
a. 1.67%
b. 2.00%
c. 3.00%
d. 5.00%
e. 10.00%.
499. Hyderabad Chemicals has never issued any preference share since its incorporation. Its
contribution margin is 20 percent against a selling price of Rs.500 per unit. The fixed
expenses for its operations is Rs.90,000 and the interest on term loan is Rs.75,000. What is its
overall break-even point?
a. 500 units.
b. 750 units.
c. 1,250 units.
d. 1,400 units.
e. 1,650 units.
218

224. Part II
500. For Phonetic Ltd., the selling price of the sandals is Rs.40 and contribution to sales ratio is 25
percent. Its income statement reveals its fixed costs as Rs.80 lakh, interest payment as Rs.30
lakh and preference dividend payment as Rs.12 lakh. If the applicable tax rate is 40 percent,
what is the output level at its overall break even point?
a. 9 lakh units.
b. 10 lakh units.
c. 11 lakh units.
d. 12 lakh units.
e. 13 lakh units.
501. If DFL of a firm is 1.61, EBIT is Rs.25,000 and the interest component is Rs.7,000, the
dividend on preference shares that the firm paid assuming a tax rate of 30% is
a. Rs.1,663
b. Rs.2,013
c. Rs.2,595
d. Rs.6,631
e. Rs.9,945.
502. The DTL of a firm whose total contribution is Rs.60,000 and fixed cost is Rs.30,000 and
pays an interest of Rs.10,000 assuming it does not pay any preferred dividend, is
a. 1
b. 1.5
c. 3
d. 3.25
e. 4.
503. A firm has a Degree of Total Leverage (DTL) of 3. If the sales increases by 10%, then the
EPS will increase by
a. 3.33%
b. 10%
c. 15%
d. 30%
e. Insufficient information.
504. If the percentage change in EBIT is 30% and percentage change in sales is 18%, then
a. DOL is 1.67
b. DFL is 1.67
c. DOL is 5.40
d. DFL is 0.60
e. DTL is 1.11.
505. What is the Degree of Operating Leverage (DOL) of Telco Ltd., given the following
information?
Quantity produced – 5000 units
Variable cost per unit – Rs.1,80,000
Selling Price per unit – Rs.3,25,000
Fixed cost – Rs.3cr.
a. 1.04
b. 2.50
c. 3.00
d. 1.85
e. 1.96.
219

225. Financial Management
506. If the DOL is 2.5 and DFL is 3.5, then DTL is
a. 1.40
b. 8.75
c. 9.25
d. 8.25
e. 8.65.
507. If Degree of Operating Leverage (DOL) and Degree of Financial Leverage (DFL) for a firm
are 3.5 and 1.20 respectively it means that a one percent change in output will lead to ______
percent change in EPS.
a. 4.20
b. 3.50
c. 2.92
d. 1.20
e. 0.34.
508. X Ltd., achieves a sales of Rs.20 lakhs for the year ended 2003-04. The variable cost ratio is
70% and fixed cost is Rs.5 lakhs. The company’s capital structure consists of 25,000 equity
shares, 2000 15% preference shares of face value Rs.100. If the corporate tax rate is 40%, the
financial break-even point for X Ltd., is
a. Rs.1.75 lakh
b. Rs.1.50 lakh
c. Rs.1.25 lakh
d. Rs.1.00 lakh
e. Rs.0.50 lakh.
509. If the current EPS is Rs.2.50, the DTL is 3.5 and the sales are expected to increase by 25%,
then the forecasted EPS for the next year is
a. Rs.2.50
b. Rs.3.13
c. Rs.3.86
d. Rs.4.69
e. Rs.7.00.
510. The total contribution earned by a company is Rs.100 lakhs and the EBIT is Rs.50 lakhs. The
Degree of Operating Leverage (DOL) of the company is
a. 0.50
b. 1.50
c. 2.00
d. 2.25
e. 3.30
511. Consider the following information relating to K R Marketing Ltd.:
Quantity produced : 5000 units
Total variable cost : Rs.10 lakh
Total sales revenue : Rs.25 lakh
What is the contribution per unit?
a. Rs.200.
b. Rs.300.
c. Rs.500.
d. Rs.700.
e. None of the above.
220

226. Part II
512. The financial analyst of MKJ Products Ltd., estimates that the EPS of the company increases
by 20% if the output is increased by 10%. The degree of total leverage of the company is
a. 1.0
b. 1.5
c. 2.0
d. 3.0
e. None of the above.
513. The contribution from a project is Rs.100 lakhs and EBIT is Rs.50 lakhs. What is Degree of
Operating Leverage?
a. 2.
b. 3.
c. 1.5.
d. 2.25.
e. None of the above.
514. If the contribution per unit is Rs.7 and fixed expenses are Rs.50,000, DOL at 50,000 units of
output is
a. 7.26
b. 2.26
c. 1.17
d. 1.26
e. 1.12.
515. The contribution from a project is Rs.100 lakhs and EBIT is Rs.50 lakhs. Degree of
Operating Leverage (DOL) is
a. 1.50
b. 2.00
c. 2.25
d. 3.00
e. Cannot be determined.
516. Given the fixed cost = Rs.20,000, the operating BEP in units = 2,500 and financial
BEP = Rs.4,000, the overall BEP in units is
a. 3,000
b. 4,000
c. 5,000
d. 6,000
e. 8,000.
Financial Forecasting
517. Using the following information, find out the external funds requirement for the firm to
maintain expected growth rate in sales is.
Sales Rs.28,00,000
Assets Rs.18,75,000
Liabilities Rs.2,50,000
Expected increase in sales 25% of sales
Net profit margin 12.5%
Dividend pay-out ratio 50%
Next year sales Rs.35,00,000
a. Rs.3,50,000
b. Rs.8,00,000
c. Rs.1,87,500
d. Rs.4,06,250
e. Rs.2,18,750.
221

227. Financial Management
518. The balance sheet of Performance Ltd. is given below:
Share capital 1,000 Fixed assets 2,500
Retained earnings 2,000 Inventories 1,000
Term loans 1,000 Receivables 750
Accounts payable 500 Cash 500
Provisions 250
4,750 4,750
The sales for the year were Rs.6,000. The company’s net profit margin was 7% and the company
pays-out 50% of its profits as dividends. If the next year’s sales are expected to be Rs.7,500. The
external funds requirement is –––––––.
a. Rs.800
b. Rs.775
c. Rs.745
d. Rs.738
e. Rs.770.
519. M.S.Shaw & Co., adopts a liberal pay-out ratio of 60%. Its sales during year 1 are Rs.60 lakh
and are expected to grow by 40% in year 2. During year 1, its asset turnover ratio is 3
and spontaneous liabilities are Rs.9 lakh. If the company expects to have excess funds
of Rs.1.50 lakh by the end of year 2, the net profit margin of the company during the
year 2 is –––––.
a. 17%
b. 17.53%
c. 0.17%
d. –17%
e. 17.93%.
520. Sayodhya Ltd., has provided the following information of the company:
• Sales for the year is Rs.45 lakh.
• Growth rate in sales for the next year is 25%.
• Dividend pay-out ratio is twice the growth rate in sales.
• Profit margin is 40% of growth rate in sales.
• Spontaneous liabilities are Rs.2.25 lakh Total assets are Rs.18 lakh.
The External Funds Required (EFR) for the company is ––––––.
a. Rs.1 lakh
b. Rs.1.125 lakh
c. Rs.0.11 lakh
d. Rs.0.012 lakh
e. Rs.2.5 lakh.
521. The balance sheet of a high growth company for the current year is as follows:
Equity capital 50.0 Fixed Assets 115.0
Reserves & Surplus 40.0 Inventories 50.0
Long-term loans 160.0 Debtors 150.0
Short-term bank borrowings 60.0 Cash 25.0
Provisions and other current liabilities 30.0
340.0 340.0
222

228. Part II
The sales and profit after tax for the current year are Rs.320 lakh and Rs.48 lakh
respectively. The company expects its sales to grow by 25% during the next year. 40% of
the incremental sales is expected to be financed by external funds. The maximum
dividends that can be declared assuming that the current net profit margin is maintained is
–––––––.
a. Rs.14.50 lakh
b. Rs.15.00 lakh
c. Rs.15.50 lakh
d. Rs.14.00 lakh
e. Rs.0.145 lakh.
Based on the following information, Answer Questions 522 and 523.
Answer the following questions from the following balance sheet of Parameshwar Printing Works
Ltd., for the last year:
Rs. lakh
Liabilities Assets
Share Capital 165 Net Fixed Assets 300
Reserves and Surplus 90 Current Assets:
Secured Loans 120 Inventories 140
Current Liabilities and Provisions: Sundry Debtors 120
Sundry Creditors 75 Cash and Bank Balances 10
Bank Finance for WC 90
Provisions 30
570 570
522. The turnover of the company for the last year was Rs.60 crore. The company earns a net
profit of 5% and pays-out 80% of profits as dividends. The maximum growth rate in sales
that can be achieved by the company without raising external equity is –––––.
a. 30.05%
b. 0.035%
c. 30.77%
d. 28.75%
e. 31.75%.
523. The amount of external funds to be raised by the company to achieve sales of Rs.75 crore in
the current year is –––––––.
a. 40
b. 37.2
c. 21.11
d. 26.25
e. 41.25.
Based on the following information, Answer Questions 524 and 525.
Mylavaram Manufacturers Ltd., Company had sales during last year of Rs.10 crore. For the
current year projections of the company
• Growth in sales by 25%.
• Profit margin of 8%.
• Dividend pay-out ratio of 50%.
• Equity share capital of Rs.200 lakh.
• Total assets and current liabilities worth Rs.650 lakh and Rs.150 lakh respectively.
223

229. Financial Management
524. The external funds required for the current year is –––––––.
a. Rs.75 lakh
b. Rs.1 crore
c. Rs.75 crore
d. Rs.0.75 lakh
e. Rs.1.75 lakh.
525. In the above question, what would be the sustainable growth rate without raising any external
finance, if the profit margin is 5%?
a. 8.67.
b. 14.29.
c. 11.09.
d. 34.39.
e. 21.63.
526. The following is the balance sheet of Laxmi Textiles Ltd.:
Rs. lakh
Liabilities: Assets:
Equity Capital 700Fixed Assets 1,800
Retained Earnings 500Inventories 800
Term Loan 1,000 Accounts Receivable 800
Short-term Bank Borrowing 400Cash and Bank 400
Accounts Payable 600
Provisions 600
3,800 3,800
Net sales for the current year are Rs.25 crore and projected sales for the next year are Rs.28
crore. The net profit margin is 8% and the dividend pay-out ratio is 30%. The applicable tax
rate for the company is 40%. The company is planning to raise the additional external fund
requirement for the next year equally from term loan and short-term bank borrowings are –––.
a. Rs.77.6 lakh and Rs.77.6 lakh
b. Rs.77.6 lakh and 155.2 lakh
c. Rs.155.2 lakh and Rs.77.6 lakh
d. Rs.155.2 lakh and 155.2 lakh
e. Rs.0.155 lakh and 0.388 lakh.
527. The following is the balance sheet of Biswal & Co. Pvt. Ltd. for the year:
Liabilities: Rs. Thousand Assets: Rs. Thousand
Share Capital 750 Fixed Assets 2,200
Reserve and Surplus 850 Inventories 900
Long-term Loan 1,000 Sundry Debtors 1,250
Short-term Borrowing 700 Cash and Bank 200
Sundry Creditors 950
Provisions 300
4,550 4,550
Sales for the last year were Rs.64,00,000. The sales for the current year are expected to
go up by 25%. The net profit margin of 5% and dividend pay-out ratio of 60% for the
last year are expected to remain the same in this year. The external funds requirement for
the current year is –––––––.
a. 6.65 thousands
b. 6.65 lakh
c. 0.665 lakh
d. 665 lakh
e. 66.5 lakh.
224

230. Part II
528. From the following information, the sustainable growth rate of the BOC India Ltd., is ––––.
(Amount in Rs.)
Profit & loss A/c 61,409
Income 2,401,484
Dividend Pay-out Nil
Total Assets 5,024,716
Net Worth 2,628,869
Current Sales 2,401,484
Sales 2,365,596
Depreciation 127,552
a. 3.09%
b. 2.39%
c. 2.24%
d. 1.19%
e. 3.22%.
529. The balance sheet of Excel Ltd., is given below:
(Amount in Rs.)
Share capital 2,000 Fixed assets 4,000
Retained earnings 3,000 Inventories 2,000
Term loans 2,000 Receivables 1,500
Accounts payable 1,000 Cash 1,000
Provisions 500
8,500 8,500
The sales for the year were Rs.12,000. The company’s net profit margin was 14% and the
company’s pays out 50% of its profits as dividends. If the next years sales are expected to be
Rs.15,000, the external funds requirement is ________.
a. Rs.525
b. Rs.550
c. Rs.575
d. Rs.675
e. Rs.625.
530. The Balance sheet of Dell Ltd., for the current year is as follows:
Rs. in lakh
Equity capital 75.00 Fixed Assets 250.00
Reserves and surplus 60.00 Inventories 50.00
Long term loans 200.00 Debtors 125.00
Short-term bank borrowings 80.00 Cash 50.00
Provisions and other current 60.00
liabilities
475.00 475.00
The sales and profit after tax for the current year are Rs.510 lakh and Rs.72 lakh respectively.
Dell expects its sales to grow by 30% during the next year. 50% of the incremental sales is
expected to be financed by external funds. The maximum dividends that can be declared is
______ assuming that the current net profit margin is maintained.
a. Rs.48.9 lakh
b. Rs.45.67 lakh
c. Rs.50.91 lakh
d. Rs.49.10 lakh
e. Rs.52.73 lakh.
225

231. Financial Management
531. Raj and Co., adopts a liberal payout ratio of 70%. Its sales during year 1 are Rs.75 lakh and is
expected to grow by 45% in year 2. During year 1 its asset turnover ratio is 4 and
spontaneous liabilities are Rs.12 lakh. If the company expects to have excess funds of
Rs.2.50 lakh by the end of year 2, the net profit margin of the company during year 2 is
______.
a. 15.10%
b. 18.75%
c. 16.54%
d. 13.29%
e. 16.95%.
532. Balance sheet of Raman Printing Works Ltd. for the last year:
(Rs. in lakhs)
Liabilities Amount Assets Amount
Share capital 200 Net fixed assets 400
Reserves and surplus 100 Current assets
Secured loans 150 Inventories 150
Current liabilities and Sundry debtors 110
provisions
Sundry creditors 90 Cash and bank 40
balances
Bank finance for 110
working capital
Provisions 50
700 700
The turnover of the company for the last year was Rs.85 crore. The company earns a net
profit of 7% and pay out 90% of profits as dividends. The maximum growth rate in sales that
can be achieved by the company without raising external equity is ________.
a. 13.68%
b. 24.24%
c. 18.71%
d. 30.79%
e. 28.11%.
533. For the data in above problem, the amount of external funds to be raised by the company is
_______ to achieve sales of Rs.100 crore in the current year.
a. –21.76
b. –0.67
c. 28.82
d. 20.55
e. 18.79.
534. Firm XYZ. has total assets worth Rs..800 million and spontaneous liabilities of Rs..250
million. Its sales, at present, are Rs..1,000 million. The net profit margin is 10% and the
dividend pay-out ratio is 40%. The sales are growing and, in the forthcoming period the
consequent growth in its assets will be financed entirely by an increase in its spontaneous
liabilities and an increase in its retained earnings without resorting to any external financing
in any form.
The growth rate that can be financed by the company without resorting to external finance is ____.
a. 13.45%
b. 12.25%
c. 11.34%
d. 10.89%
e. 9.56%
226

232. Part II
535. The following information is taken from the book of accounts of ABC Inc.
Equity capital at the beginning Rs. 100,000
Debt at the beginning Rs. 40,000
Sales in the previous year Rs. 500,000
Target earning retention rate 0.50
Target net profit margin 0.03
Target debt equity ratio 0.90
Target assets to sales 0.80
The sustainable growth rate is___________
a. 1.5%
b. 2.8%
c. 3.7%
d. 0.10%
e. 0.40%.
536. The assets to sales ratio of H Co., Inc. is 0.8 and the ratio of spontaneous liabilities to sales is
0.6 for the present year. Existing sales revenue is Rs.1,000. The company follows a retention
ratio of 0.4. If the company plans a 10% increase in sales without taking recourse to external
funds, what will be the profit margin?
a. 2.96.
b. 3.48.
c. 4.54.
d. 5.82.
e. 6.75.
537.The following information is available about Nirvan Inc.
Sales for the current year 20,000
Expected sales increase next year 15 %
Profit after tax this year 500
Dividend pay-out ratio 0.5
External funds requirement for the next year 500
Present level of spontaneous current liabilities 5000
What is the level of total assets of Nirvan now?
a. 14,000.
b. 12,250.
c. 11,250.
d. 10,450.
e. 10,250.
227

233. Financial Management
538. The balance sheet of Exotica Inc. as on December 31, 2002 is given below:
(Rs. in million)
Assets Liabilities Rs.
Fixed Assets 250 Share Capital 100
Inventories 150 Retained Earnings 70
Receivables 120 Long-term loans 180
Cash 30 Short-term Borrowings 100
Payables 60
Provisions 40
Total 550 Total 550
Sales for the year 1993 were Rs.600 million. For the year 2000 sales are expected to increase
by 20%. The profit margin and dividend payout ratio are expected to be 5% and 60%
respectively.
The external fund requirement for the year 2000 is __________.
a. 7.56 million
b. 16.54 million
c. 32.52 million
d. 75.6 million
e. 142.72 million.
539. Calculate the maximum sales growth that can be attained without additional external
financing when the following parameters are given for Alpha Enterprises:
Assets to sales ratio 0.75
Spontaneous liabilities to sales ratio 0.6
Profit margin 6%
Dividend pay-out ratio 0.55
Previous sales Rs.1,600
a. 12.9%
b. 15.6%
c. 18.2%
d. 20.2%
e. 21.9%.
540. The following information is taken from the book of accounts of Man Power Ltd.
Equity capital at the beginning Rs. 2,00,000
Debt at the beginning Rs. 20,000
Sales in the previous year Rs. 700,000
Earning retention rate 0.50
Net profit margin 0.07
Debt equity ratio 0.70
Assets to sales 0.65
The sustainable growth rate is__________
a. 10.08%
b. 12.67%
c. 8.71%
d. 0.109%
e. 1.090%.
228

234. Part II
541. The following information is available from the book of accounts of Gayathri Electrical Ltd.
Sales for the current year 100,000
Expected sales increase next year 25 %
Profit after tax this year 1500
Dividend pay-out ratio 0.5
External funds requirement for the next year 800
Present level of spontaneous current liabilities 7500
The level of total assets of the company now is __________.
a. 14,000
b. 14,450
c. 21,250
d. 17,050
e. 18,200.
542. __________is the maximum sales growth that can be attained without additional external
financing when the following information is provided by the Seven Hills Ltd., are:
Assets to sales ratio 0.60
Spontaneous liabilities to sales ratio 0.40
Profit margin 2%
Dividend pay-out ratio 0.50
Previous sales Rs. 900
a. 9.00%
b. 10.1%
c. 5.2%
d. 7.2%
e. 6.9%.
543. Tuff Cement finances its assets by taking debt as high as 66.67 percent of the value of the
assets. If the company plans to acquire a machine at a cost price of Rs.69 lakh, then the
minimum amount of retained earnings that can be used for this procurement is
a. Rs.69 lakh
b. Rs.46 lakh
c. Rs.23 lakh
d. Rs.13 lakh
e. Data insufficient.
544. Superlative Industries Ltd., has made the following projections:
Expected increase in Spontaneous Liabilities Rs.500 lakh
Expected increase in Assets Rs.1200 lakh
Expected net profit by the end of the year Rs.500 lakh
Expected pay-out ratio 40 percent
The amount of external funds required by the firm is
a. Rs.200 lakh
b. Rs.400 lakh
c. Rs.500 lakh
d. Rs.1200 lakh
e. Data insufficient.
545. The net profit margin for CompuSys is 10 percent at a sales level of Rs.120 lakh. It paid Rs.7.20
lakh as dividend. Both its total assets turnover ratio and debt-equity ratio are 1.5. The sustainable
growth rate by using internal equity will be (round off your answer to the nearest integer)
a. 4 percent
b. 18 percent
c. 29 percent
d. 33 percent
e. 61 percent.
229

235. Financial Management
546. For the year 2003-04, Bagaria Industrial Corporation Ltd., targeted to increase its sales
turnover to Rs.1560 lakh which is 30 percent more than the year 2002 – 03. The fixed assets
as well as the spontaneous liabilities of the company are expected to increase proportionately
with the increase in sales. The fixed assets are 66.67 percent of the total assets and 40 percent
of the current assets are financed by spontaneous liabilities. The annual report for the year
2002-03 indicates that the company maintained a total assets turnover ratio of 1.6 and
recorded a net profit margin of 8 percent while retained 40 percent of its total earnings. How
much amount of external funds should be required by the company in order to achieve the
targeted growth rate? (Round off your answer to the nearest integer.)
a. Rs.145 lakh
b. Rs.165 lakh
c. Rs.180 lakh
d. Rs.200 lakh
e. Rs.225 lakh.
547. For Mumbai Automobiles Ltd. (MAL), the total assets turnover ratio is 2 and the spontaneous
liabilities amount to 20 percent of total sales. MAL wants to maintain 100 percent dividend
pay-out ratio on its net profit. If it targets to increase the sales volumes by Rs.70 lakh, what
will be the amount of external funds requirements?
a. Rs.14 lakh.
b. Rs.21 lakh.
c. Rs.35 lakh.
d. Rs.49 lakh.
e. Rs.56 lakh.
548. For Chennai Automobiles Ltd. (CAL), the total assets turnover ratio is 2 and the debt-equity
ratio is 0.5. CAL uses to maintain 100 percent retention ratio. If its net profit margin is 8
percent, what is its sustainable growth rate without using any external funds?
a. 22.58%.
b. 25.58%.
c. 28.58%.
d. 31.58%.
e. 34.58%.
549. For Khazana Infocomm Ltd., (KIL), the net fixed assets at the end of the years 1 and 2 are
Rs. 4729 crore and Rs.4006 respectively. If the depreciation of KIL during the year 2 was
Rs.884 crore, what is its gross change in fixed assets?
a. Rs.161 crore.
b. – Rs.161 crore.
c. No Change.
d. Rs. 1285 crore.
e. – Rs.1285 crore.
550. The sales turnover of M/s Garodia Rubber is Rs.500 lakh. They are planning to increase it by
20 percent by the next year. Total assets of the company are Rs.320 lakh out of which
Rs. 120 lakh is financed by the spontaneous liabilities. Its net profit for the last year was
Rs.37.50 lakh while dividend paid was Rs.3. per share. If the number of outstanding shares is
500,000, what will be the amount of external funds requirements? (Assume net profit margin
and dividend pay-out ratio will be same)
a. Rs.5.00 lakh
b. Rs.7.00 lakh
c. Rs.9.00 lakh
d. Rs.11.00 lakh
e. Rs.13.00 lakh.
230

236. Part II
551. The following information is available for Super Growth Ltd.
Asset/Sales = 0.8
Spontaneous liabilities/sales = 0.3
Net profit margin = 8%
Dividend pay-out ratio = 20%
Last year’s sales = Rs.1500 lakh
The maximum sales growth that can be financed without raising external funds is
a. 12.2%
b. 13.5%
c. 14.7%
d. 15.3%
e. None of the above.
552. Carewell Products Ltd., provides the following information for the next year:
Expected increase in assets = Rs.8 lakh
Expected increase in spontaneous liabilities = Rs.3 lakh
Expected retained earnings = Rs.3 lakh
The external funds required for the firm is
a. Rs.2 lakh
b. Rs.3 lakh
c. Rs.5 lakh
d. Rs.8 lakh
e. Insufficient data.
553. If the expected increase in retained earnings is Rs.4.2 lakhs, D/E ratio is 1.5 and current level
of assets is Rs.5 crore, then the sustainable growth rate is
a. 2.1%
b. 5.4%
c. 7.5%
d. 9.0%
e. Cannot be determined.
554. Ikon International Ltd., expects its sales to increase by Rs.1,00,000 to Rs.11,00,000. If the net
profit margin is to be maintained at 6% and dividend pay-out ratio at 60% and A/S and L/S
are 0.8 and 0.4 respectively, the external fund requirement is
a. Rs.13,600
b. Rs.15,600
c. Rs.20,800
d. Zero
e. None of the above.
555. If net profit margin is 5%, the dividend pay-out ratio is 30%, asset to equity ratio is 1.5 and
asset to sales is 1.3, the rate of sustainable growth with internal equity will be
a. 4.21%
b. 4.28%
c. 5.26%
d. 5.30%
e. 6.31%.
231

237. Part II: Solutions
Indian Financial System
1. (c) Yield on a treasury bills is given as
(F − P) 365
k= x
P d
Where
K = yield
F = face value
P = price
D = maturity period in days.
100 − 96.52 365
K = x
96.52 182
Hence we get yield = 7.23%.
(F − P) 365
2. (c) Yield on a treasury bill is given as k = x
P d
Where
K = yield
F = face value
P = price
D = maturity period in days.
100 − P 365
0.1150 = x
P 364
Hence P = Rs.89.71
(F − P) 365 (100 − 88.24) 365
3. (e) Yield is given by k = x = x
P d 88.24 364
11.76 365
= x = 0.13327 x 1.0027 = 13.3636 or 13.364%.
88.24 364
(F − P) 365 100 − 98.12 365
4. (e) Yield, k = x = x ⇒ 11.46%.
P d 98.12 61
Time Value of Money
5. (c) PVO = R(PVIFAkn)
1,00,000 = 16,274(PVIFAk10)
Approximate k = 10%.
6. (c) PV of cash inflows in case of scheme A
= (Rs.2.5 lakh – 2.5 lakh x 10%) = Rs.2.25 lakh
PV of cash flows in case of Scheme B
= 18,000 + PVIFA(K,60) x 4,100
= [Where, K= (1.09)1/12 – 1 = 0.0072 i.e., 0.72%]
= Rs.18,000 + (48.581 x Rs.4,100)
= Rs.18,000 + Rs.19,9182.10 = Rs.2,17,182.10
Hence (c) is the answer.

238. Part II
7. (b) Option 1:
At the end of 4th year, he would get
⎛ 5, 000 − 4, 000 ⎞
= Rs.7,000 + Rs.5,000 x ⎜ ⎟ = (Rs.7,000 + 1,250) = Rs.8,250
⎝ 4, 000 ⎠
Option 2:
At the end of 4th year he would get = Rs.5,000 x FVIF(15%,4)
4
⎛ 15 ⎞
= Rs.5,000 ⎜1 + ⎟ = Rs.5,000 x 1.749 = Rs.8,745.
⎝ 100 ⎠
8. (c) (a) Present Value = Rs.1,00,000
(b) Present Value = Rs.2,00,000 x PVIF (14,6)
= Rs.2,00,000 ÷ (1.14)6 = Rs.91,117
15, 000
(c) Present Value = Rs. = Rs.1,07,143
0.14
(d) Present Value = Rs.(PVIFA(K,12) x 1,000) + (PVIF(14%,1) x 95,000)
[Where, K = (1.14)1/12 – 1]
= Rs.[(11.186 x 1,000) + 83,333] = Rs. 94,51945edfc
(e) Present Value = Rs.(PVIFA(14%,10) x 18,000) = 5.216 x 18,000 = Rs.93,888
Therefore, choice (c) gives the highest return.
9. (d) Let X be the amount to be deposited today
Then,
2
X = Rs. 5, 000 + 5, 000(1.04) + 5, 000(1.04) + .....α
2 3
(1.14) (1.14) (1.14)
=> Rs. ⎛ 5, 000 1
⎜ +
1.04
+
(1.04)2 ⎞
+ .........α ⎟
⎜ (1.14) (1.14)2 (1.14)3 ⎟
⎝ ⎠
The terms in the brackets represent a geometric progression of infinite terms with
1 1.04
initial term ‘a’ = and decreasing by r =
1.14 1.14
a
Hence, it is in the form of a, ar, ar2 ……..α terms and the sum of this series is given by .
1− r
Where, r < 1
1
Hence, Sum = 1.14 = 10
1.04
1−
1.14
Therefore, X = Rs.5,000 x 10 = Rs.50,000.
Hence, Rs.50,000 is to be deposited today to receive a sum of Rs.5,000 next year which
grows at the rate of 4% per year forever.
10. (a) 23,905 = 1500(FVIFAi,10)
∴ i = 10%
233

239. Financial Management
11. (b) The implied interest rate in the two schemes can be calculated as follows:
Scheme A:
[10,000 x FVIFA(i,4)] FVIF(i,6) = 1,00,000
If 13%, LHS = 100970.43
At 12%, LHS = 94335.46
100, 000 − 94335.46
i = 12 + x1 = 12.85%
100,970.43 − 94335.46
Scheme B:
[5,000 x FVIFA(i,8)] FVIF(i,2) = 1,00,000
At i= 17%. LHS = 1,01,115.54
At i = 16% LHS = 95807.35
1,00,000 − 95807.35
i= × 1 = 16.79%
10,1115.54 − 95807.35
Hence, answer is (b).
12. (b) Let the amount which she can withdraw annually be ‘X’. Then,
5,00,000 = X x PVIFA(15%, 15)
5,00,000
X = = 85,514.
PVIFA (15%,15)
13. (a) Let ‘X’ be the annual investment. Then,
⎡ 90, 000 ⎤
X x FVIFA(15%,10) = [60,000 x PVIFA(15%,5)] + ⎢ x PVIF(15%,5) ⎥
⎣ 0.15 ⎦
20.304X = 4,99,320 = Rs.24,592.
14. (b)
a. X x 1.12 x FVIFA(12,5) = 10
10
X= = 1.41
1.12 x 6.353
b. Amount to be borrowed = 10 x PVIF(24,5) = 10 x 0.341 = Rs.3.41 lakh
Installment to be paid is X.
X x 1.18 x PVIFA(18,5) = Rs.3.41
3.41
X= = 0.92
1.18 x 3.127
Hence (b) is the answer.
15. (c) Let the insured amount be Rs.1,000. Terminal value of cash outflows
= 62 x FVIFA(K,20)
Terminal value of cash inflows
= 250 x FVIF(K,15) + 250 x FVIF(K,10) + 250 x FVIF(K,5) + 250 + 400
Equating above two equations, we get
62 x FVIF(K,20) = 250 x FVIF(K,15) + 250 x FVIF(K,10) + 250 x FVIF(K,5) + 650
250 [FVIF(K,15) + FVIF(K,10) + FVIF(K,5)] + 650 – 62 x FVIFA(K,20) = 0
234

240. Part II
For K = 10%,
LHS = 250 [4.177 + 2.594 + 1.611] + 650 – 62 (57.275)
= 2,095.5 + 650 – 3551.05 = –805.55
For K = 2%,
LHS = 250[1.104 +1.219 + 1.346] + 650 – 62 x 24.297 = 60.836
60.836 60.834
Therefore, K = 2% + (10 – 2) % x =2+8x = 2.56%
60.836 +805.55 656.46
Therefore, the return from the policy is only 2.56%, whereas bank interest rate is 11%. So, it
is not advisable for Mr. Singh to go for the money back policy.
16. (d) If cash flows are expected for grow @ 4% p.a. forever, the present value of the cash flows
Cash flow at the end of one year
=
k − g
Where,
K = Mr. Farooq’s required rate of return = 12% p.a.
g = Annual growth rate in cash flows = 4% p.a.
4,00,000 4,00,000
Therefore, the amount to be paid by Mr. Farooq = = = Rs.50,00,000.
0.12 − 0.04 0.08
17. (b) If the complex is sold at the end of four years at Rs.40 lakh, then the present value of the
future cash flows will be:
Year Cash flow Rs. PVIF @ 12% PV (Rs. )
1 4,00,000 0.893 3,57,200
2 4,16,000 0.797 3,31,552
3 4,32,640 0.712 3,08,040
4 4,49,946 0.636 2,86,166
4 40,00,000 0.636 25,44,000
38,26,958
Hence, Mr. Farooq would be willing to pay Rs.38,26,958.
18. (c) The company has to accumulate a sum ‘S’ by the end of 7 years from now so that the
present value of the payment made at the end of 8th, 9th and 10th year is equal to S. Let X
be the amount saved per year
(Rs. in lakh)
30 30 40
0
Year 1 2 3 4 5 6 7 8 9 10
∴ X. FVIFA(8%, 7) = S
30 30 40
and S = + 2
+ = 85.251
1.08 (1.08) (1.08)3
X (8.923) = 85.251
85.251
or, X = = 9.5541 lakh (approximately) per year, i.e., Rs.9,55,410(approx) per year.
8.923
19. (c) The present value of perpetual stream of cash flows may be found by dividing the annual
cash flow by the discount rate i.e., annual cash flow ÷ r
So, the present value of stream of Rs.950 per annum @8% is = Rs.950/0.08 = Rs.11,875
The present value of stream of Rs.950 per annum @10% is = Rs.950/0.10 = Rs.9,500
20. (c) Present Value of Rs.4,500 receivable in 7 years @15% is
PV = Rs.4,500 x PVIF(15%, 7y) = Rs.4,500 x 0.376 = Rs.1692.
235

241. Financial Management
21. (b) Present Value of annuity of Rs.8,000 starting in 7 years time for 7 years @10%
Present Value = 8,000 x PVIFA (10%,7) x PVIF(10%, 6)
= 8,000 x 4.868 x 0.564 = Rs.21,964.
22. (c) Present Value of annuity of Rs.550 starting after 1 year for 6 year @12%
PV = 550 x PVIFA(12%, 6) = 550x 4.111 = Rs.2261.
23. (d) In this case Rs.1,300 would occur at present and annuity of Rs.1,300 would occur in the
beginning of each of next 8 years. So,
PV = Rs.1,300 + Rs.1,300 x PVIFA(20%, 8)
= Rs.1,300 + Rs.1,300 x 3.837 = Rs.6,288.
24. (c) Present Value of perpetuity of Rs.800 starting in year 3 @18%.
⎡ Rs.800 ⎤
PV = ⎢ ⎥ x PVIF(18%, 2) = 4444.44 x 0.718 = Rs.3,191.
⎣ 0.18 ⎦
25. (b) The present value of a future annuity can be found with the help of PVAF. In the given
situation, amount of Rs.4,00,000 is incurred in each of 8 years @12%. The present worth is
PV = Rs.4,00,000 x PVIFA(12%, 8) = 4,00,000 x 4.968 = Rs.19,87,200.
26. (a) In this case, the firm pays Rs.1,50,000 out of total cost of Rs.8,00,000 immediately. So
the amount of Rs.6,50,000 remains outstanding which is paid by way of annuity of
Rs.1,50,000 for 6 years. This can be presented as follows:
Rs.6,50,000 = 1,50,000 x PVIFA(r, 6y)
6,50, 000
PVAF (r,6y) = PVIFA (r.6y) = 4.333.
1,50, 000
In this PVIFA table, value of 4.355 for 6 years is found in 10% column. So, the effective rate
of interest is 10%, approximately.
27. (a) In this case, Mr. X shall receive first payment after 10 years from now and thereafter he
will receive 15 more payments. This annuity of Rs.8,000 (total 16 payments) can be
discounted by PVIFA(10%, 26y) to find out the present value of the annuity. But this present
value will be located in the beginning of year 11 from now or at the end of year 10 from now
this value can be further discounted by PVIF(10%, 10) to find out the present value as follows:
PV = Rs.8000 x PVAF(10%, 26) – Rs.8000 x PVAF(10%, 10)
= Rs.8000 x 9.16 – Rs.8000 x 6.14 = 73,280 – 49,120
= 24,160.
28. (d) Let the initial deposit be sum of the present values of the two later withdrawals by using
the present value table.
PV = FV x PVIF(r,n)
PV = Rs.6,000 x PVIF(8%,3) + Rs. 7,000 x PVIF(8%,6)
PV = Rs.6,000(0.794) + Rs.7,000(0.630)
PV = Rs.4,764 + Rs.4,410
PV = Rs.9,174
The amount of Rs.9,174 grows to a value of Rs.11,557 in three years; Rs.5,000 is with drawn
then, leaving Rs.6,557. This amount is left for another three years to compound to enabling
withdrawing the desired amount of Rs.7,000. Therefore, an amount of Rs.9174 deposited
today will result in the desired withdrawals.
236

242. Part II
29. (e) The minimum amount in this case is the Present Value of the series of amount due
discounted @14% as follows:
Year Amount due PVIF(14%, n) PV (Rs.)
0 4,000 1,000 4,000
1 5,000 0.877 4,385
2 7,000 0.769 5,383
3 8,000 0.675 5,400
4 10,000 0.592 5,920
25,088
The minimum acceptable amount is Rs.25,088.
FV 7,500
30. (c) Present Value = n
= = Rs.2,891.57.
(1+k) (1+0.10)10
31. (b) FVn = PV(1 + k)n
= 1,00,000(1 + 0.13)3 = 1,00,000 (1.13)3
= 1,00,000 (1.442) = Rs.1,44,200.
32. (e) Rate of interest = 18%
69 69
Doubling period = 0.35 + = 0.35 + = 0.35 + 3.83 = 4.18 years.
Interest rate 18
33. (c) According to Rule of 72:
72 72
Doubling period = = = 6 years.
Rate of interest 12
Hence, Rs.10,000 will double to Rs.20,000 in first 6 years; Rs.20,000 will double to
Rs.40,000 in the next 6 years i.e., 12 years, and Rs.40,000 will double to Rs.80,000 in next 6
years i.e., 18 years.
34. (a) FV = PV(1 + k)n = 20,000 (1 + 0.08)5 = 20,000 (1.08)5 = Rs.29,380.
35. (c) FVAn = A(1 + k)n – 1 + A(1 + k)n – 2 + A(1+ k)n – 3 + …
= 2,000 (1.05)4 + 3,000(1.05)3 + 4,000(1.05)2 + 5,000(1.05) + 6,000 = Rs.21,559.
36. (a) PV = FV x PVIF(6%, 5y) = 20,000 x 0.747 = Rs.14,940.
37. (a) Calculation of Present Value
Year Flows Cash PV factor @ 8% Flows PV of cash
(1) (2) (3) (4 = 2 x 3)
1 Rs. 30,000 0.926 27780
2 20,000 0.857 17,140
3 10,000 0.794 7,940
4 10,000 0.735 7,350
Total Rs.60,210
38. (c) PV = FV x PVIFA(k, n)
= 9,000 x PVIFA(12%, 6y) = 9,000 x 4.111 = Rs.36,999.
39. (d) PV = A x PVIFA(k, n)
PV 4,00,000
A= = = Rs.1,26,183.
PVIFA (k, n) 3.170
237

243. Financial Management
40. (d) PV = A x PVIFA(k, n)
20,000 = 4025 (PVIFA(i, n))
20,000
PVIFA(i, n) = = 4.968
4,025
From the Annuity discount tables, we find that for annuity discount factor 4.968 for a period
of 8 years, the rate of interest is 12%. Hence, the rate of interest earned on deposit is 12% p.a.
41. (e) PV = A x FVIFA(k, n)
25959 = 1,000(FVIFA(k,n))
25,959
FVIFA(k, n) = = 25.959
1,000
From the Annuity discount tables, we find that for annuity discount factor 25,959 for a
period of 10 years, the rate of interest is 20%. Hence, the rate of interest implied in the
offer is 20% p.a.
42. (b) According to ‘Rule of 72’
72 72
Doubling period = = = 6 years
Rate of interest 12
Therefore Rs.20,000 will double to 40,000 in first 6 years and further Rs.40,000 will
double to Rs.80,000 in another 6 years. We can say that Rs.20,000 will grow to Rs.80,000
in 12 years at 12% p.a.
43. (b) The first payment shall be received at the end of 7 years, and the last payment at the end
of 15 years to make 9 payments in all. This can be shown as:
Year
0 7 15
First payment Last payment
The present value discount factor for an annuity of 15 years @12% is 6.811. But as no
payment will be received for 6 years. We substract the present value discount factor for 6
years i.e., 4.111. Thus, the relevant present value factor of the annuity is:
PVIFA = 6.811 – 4.111 = 2.7.
Now we can calculate the present value of the annual payment of Rs.10,000 for 9 years
beginning 7 years hence @12% as below:
PV = 10,000 x 2.7 = Rs.27,000.
1,00,000 1, 00, 000
44. (a) R = Since PV0 = R (PVIFAk, n) = = Rs.16,273.79.
PVIFA 6.145
45. (b)
i. Present Value of Rs.20,000 received annually for 15 years at 15% per annum rate of
interest.
PV = 20,000 x 5.847 = Rs.1,16,940
ii. Present Value of lumpsum payment of Rs.1,50,000 is 1,50,000.
As, the present value of Rs.20,000 received annually for 15 years at 15% rate of interest
(Rs.1,16,940) is less than the present value of lumpsum (Rs.1,50,000) Mr. X should
select the second alternative.
1 1
46. (a) A = x 4,00,000 = x 4,00,000 = Rs.22,795.
FVIFA (12%, 10) 17.548
A A A A
47. (b) PVAn = + + +…
(1 + k) (1 + k) 2 (1 + k)3 (1 + k) n
1,000 1,000 1,000
= + + = Rs.2486.85.
1.10 (1.10 ) 2
(1.10 )3
238

244. Part II
48. (d) The effective interest rate per annum has to be calculated
m 4
⎛ k⎞ ⎛ 0.12 ⎞
r = ⎜1+ ⎟ −1 = ⎜1+ −1 = 12.55%
⎝ m⎠ ⎝ 4 ⎟⎠
The effective rate of interest per month is calculated as below:
= (1 + 0.1255)1/12 – 1 = (1.1255)1/12 – 1 = 0.00990. ⇒ 0.99%
The initial deposit can now be calculated as below:
⎡ (1+ k) n −1 ⎤ ⎡ (1+ 0.00990)12 − 1 ⎤
PVAn = A ⎢ n ⎥ = 1,000 ⎢ 12 ⎥
⎢ k(1+ k) ⎥
⎣ ⎦ ⎢ 0.00990(1+ 0.00990) ⎥
⎣ ⎦
⎡ 0.1254 ⎤
= 1,000 ⎢ ⎥ = 1,000 x 11.256 = Rs.11,256.
⎣ 0.01114 ⎦
49. (c) Amount receive at the end = 600 FVIFA(11%, 8 ) = Rs.7,117.
50. (c) Let the amount be P then and discount rate = K
P (1+K)6 = 25,000
P (1+K)12 = 50,000
So (1+K) 6 = 2 i.e., K = 12.25%.
51. (d) FV = 4,00,000 × 0.1 (1.12) 30 = 40,000 x 29.96 = Rs.11,98,400.
52. (c) present value of perpetuity = 1/.10 =10
so amount at the beginning of the year = 10/2 =Rs.5.
53. (c) Interest rate = 5%
Annuity per year = Rs.10,000
Initial payment = 10,000 × (PVIFA5%, 15) = 10,000 × 10.38 = Rs.1,03,800
at 10% it becomes 76,061
Similarly for other it will be Rs.2,890 and Rs.3,944.
54. (a) Financing by SFCL and relative of Mr. X
Let the interest rate be ‘r’.
Amount of finance from SFCL = 8,00,000 × 0.90 = Rs..7,20,000
Amount of finance from relative = Rs.80,000
Total amount of financing = Rs.7,20,000 + Rs..80,000 = Rs.8,00,000
Amount payable at the end of every month to SFCL = Rs.12,800
Number of months for which payments have to be made to SFCL = 8 × 12 = 96 months
Amount payable to relative:
At the end of one year (i.e., 12 months) = Rs.40,000
At the end of two years (i.e., 24 months) = Rs.50,000
40,000 50,000
∴ 8,00,000 = 12,800 PVIFA(r, 96) + +
(1+ r)12 (1+ r) 24
Let r = 1.2%,
96
(1.012) −1 40000 50000
∴ RHS = 12800× 96
+ 12
+
0.012(1.012) (1.012) (1.012) 24
= 12800 × 56.818 + 34665.2 + 37552.4 = Rs.7,99,488
Let r = 1.1%
239

245. Financial Management
(1.011)96 − 1 40000 50000
∴ RHS = 12800 × 96
+ 12
+
0.011(1.011) (1.011) (1.011) 24
= 12,800 × 59.104 + 35,078.9 + 38,454.1 = Rs..8,30,064.2
(1.2 −1.1)
∴ r = 1.1+ x (830064.2 − 800000) = 1.198%
(830064.2 − 799488)
∴ Effective interest rate per annum
= (1 + r)12 – 1 = (1.01198)12 – 1 = 0.1536 i.e. 15.36%.
55. (a) Present value of perpetuity = 10/0.10 = Rs.100
Present value of cash flow = Rs.1 × PVIFA(7, 10%) = 4.86 approx Rs.5.
56. (d) Monthly rate of interest is 12/12 = 1.0 percent = 0.01 = r (say)
Tenure of the scheme = 5 years = 60 months.
The maturity value of this recurring deposit plan will be
(1 + r ) (1.01)
n 60
−1 −1
= Rs.100 × × (1 + r ) = Rs.100 × × 1.01
r 0.01
= Rs.8248.67 ≈ Rs.8249 (approximately).
57. (e) Let the cost of funds be k.
(1 + k ) − 1 Rs.1, 20, 000
60
So, from the terms of the question, we get, Rs.9,000 × +
k (1 + k ) (1 + k )
60 12
At, k = 1%, the RHS = Rs.9000 × 44.955 + Rs.1,20,000 × 0.887 = Rs.5,11,035
At, k = 2 percent, the RHS = Rs.9000 × 34.761 + Rs.1,20,000 × 0.788 = Rs.4,07,409
By interpolation, we get k = 1.106%
So, the annualized cost of funds will be = {(1.01106)12 – 1} x 100 = 14.109 = 14.11 percent
(approximately).
58. (c) Eight years and six months = 8.5 years
According to the “Rule of 69”,
69
Doubling period = 0.35 +
Interest Rate
69
Or, 8.5 = 0.35 +
Interest Rate
69
Or, 8.15 =
Interest Rate
69
Or, Interest rate = = 8.4663% ~ 8.47%
8.15
Therefore, Interest rate = 8.47 percent.
59. (b) The amount of equated half yearly installment will be
Rs.5, 00, 000 Rs.5, 00, 000
= = = Rs.1,38, 696 ≈ 1,38, 700 (approximately).
PVIFA (12%,5 years) 3.605
60. (c) The maturity value of the deposit should be Rs.250,000 × (1.04)3 = Rs.281,216
Here, the installments are being deposited at the end of every month and the concept of
FVIFA may be applied in this case.
Now, the number of installments to be paid = 3 × 12 = 36 and so.
240

246. Part II
(1.01)
36
−1
FVIFA (1 percent, 36) = = 43.077
0.01
Rs.281, 216
Hence, the amount of each installment will be = = Rs.6528.24 ≈ Rs.6528
43.077
(approximately).
72 72
61. (c) The doubling period as per the “rule of 72” is = = 12 years .
Rate of Interest 6
62. (c) Nominal rate of interest is 6 percent p.a. compounded quarterly. So, the effective rate of
interest is:
⎧⎛
⎪ 6 ⎞
4 ⎫
⎪
r = ⎨⎜1 + ⎟ − 1⎬ × 100 percent = 6.14 percent (approx.).
⎩⎝
⎪ 4 × 100 ⎠ ⎪
⎭
63. (b) Under the ‘rule of 69’, the doubling period is
69
D = 0.35 + . Here the rate of interest is 6.19 percent.
Rate of Interest
69
Hence, the doubling period is D = 0.35 + = 0.35 + 11.147 = 11.497 = 11.5 years
6.19
(approx.).
64. (d) Value of the car by the end of 5 years will be = Rs.2,50,000 × 1.20 = Rs.3,00,000
Rs.3, 00, 000
So, the amount to be deposited at the beginning of every year is =
(1 + K ) x FVIFA ( 6%,5 years)
Rs.3, 00, 000
= = Rs.50,207.
5.637 × 1.06
65. (e) Let, the required rate of return be r per month
The present value of all the payments = Rs.100 × PVIFA (r, 50)
So, by the condition,
100 × PVIFA (r, 50) = 7,500 PVIF (r, 60)
or, PVIFA (r, 50) – 75 PVIF (r, 60) = 0
If r = 1.00 percent, left hand side = 39.196 – 75 × 0.550 = – 2.054 and at
r =2, left hand side = 31.424 – 75 × 0.305 = 8.549
r −1 0 + 2.054
By interpolation, we get, = or, r = 1.1937
2 − 1 8.549 + 2.054
⎧⎛ 1.1937 ⎞12 ⎫
⎪ ⎪
So, the effective annual rate of interest = ⎨⎜1 + − 1⎬ × 100 = 15.30 percent.
⎪⎝
⎩ 100 ⎟
⎠ ⎪
⎭
66. (a) Cost of the house = Rs.5,00,000 and the amount of loan = Rs.4,00,000
⎧⎛
⎪ 9 ⎞
4 ⎫
⎪
The effective rate of interest per annum = ⎨⎜1 + ⎟ − 1⎬ × 100 = 9.31 percent.
⎪⎝ 4 × 100 ⎠
⎩ ⎪
⎭
And so the effective rate of interest per month is
= {(1.0931) 1/12
}
− 1 × 100 = 0.74 percent
241

247. Financial Management
(1.0074)120 − 1 1.422
Now, PVIFA(0.0074%, 120) = = = 79.348
(0.0074) × (1.0074) 120 0.0074 × 2.422
Hence, the required amount of monthly installment is
Rs.400, 000
= = Rs.5041.10 or Rs.5041 (approx.).
79.348
67. (b) The present value of annuity A receivable at the end of every year for a period of n years
at a rate of interest k is equal to PVA n = A x PVIFA k, n
3,00,000 = A x PVIFA (12%, 6)
3, 00, 000
A = = 72,975 .
4.111
68. (e) 10,000 = 1,000 x PVIFA(12year, r)
10 = PVIFA (12year, r)
[10.575 − 10] 0.575
By interpolation we get = 2 + =2 + = 2.925% p.m
(10.575 − 9.954) 0.621
Hence interest rate per annum = 2.925 x 12 = 35.1%.
69. (c) The general relationship between the effective and nominal rate of interest is as follows:
r = (1 + k/m) m – 1
Where
r = effective rate of interest
k = nominal rate of interest
m = frequency of compounding per year.
r = (1 + 0.12/12)12 – 1= 12.68%
4
⎛ 0.12 ⎞
For quarterly compounding, ⎜1 + ⎟ −1 = 12.55%
⎝ 4 ⎠
∴ The difference between the monthly and quarterly compounding = 0.13%.
70. (b) The present value of an annuity A receivable at the end of every year for a period of n
years at a rate of interest k is given as PV = A x PVIFA (11%, 5 years)
PV = 200 x 3.696 = 739.2.
71. (b) The general relationship between the effective and nominal rate of interest is as follows:
= (1 + k/m)m – 1
Where,
r = effective rate of interest
k = nominal rate of interest
m = frequency of compounding per year.
r = (1 + 0.01/2)2 – 1 = 0.1025 or 10.25%.
72. (e)
Year Amount PVIFA PV
1-3 2000 2.322 4644
4-6 3000 1.567 4701
(3.889–2.32)
9345
242

248. Part II
12
⎛ 0.12 ⎞
73. (d) Effective Interest = ⎜1 + ⎟ = 1.1268 ~ 12.68%
⎝ 12 ⎠
0.1268
Applicable monthly interest = = 0.0106
12
⎡ (1.0106 )12 x 5 −1 ⎤
FV = 1000 x ⎢ ⎥ = 83263.98 ~ Rs.83,264
⎢ 0.0106 ⎥
⎣ ⎦
74. (b) The present value of annuity A receivable at the end of every year for a period of n years
at a rate of interest k is equal to
PVAn = A x PVIFAk,n
A = 500/PVIFA(16%,)10 = 500/4.833 = Rs.103.46 lakh.
75. (c) The present value of annuity A receivable at the end of every year for a period of n years
at a rate of interest k is equal to PVAn = A x PVIFAk – ,n
= 2,000 x PVIFA12%,10 = 20,00 x 5.65 = Rs.11,300.
m
76. (c) r = (1 + k/m) – 1
where,
r = effective rate of interest
k = nominal rate of interest
m = frequency of compounding per year
r = – 0.092 or 9.2%.
77. (c) The present value of annuity A receivable at the end of every year for a period of n years
at a rate of interest k is equal to
PVAn = A x PVIFAk,n
A = 5,00,000/PVIFA12%,10 = 5,00,000/5.65 = 88,495.57.
78. (a) r = (1 + k/m)m – 1
where,
r = effective rate of interest
k = nominal rate of interest
m = frequency of compounding per year
4
.1787 = (1 + k/4) – 1
k = 0.1678 or 16.78%.
79. (a) (1 + r) = (1 + R) (1 + a)
where,
r = nominal rate of interest,
R = real rate of interest and a is the rate of inflation.
Using the above formula we get inflation rate to be 4.83%.
80. (c) The present value (PV) of a sum (FVn) receivable after n years at a rate of interest (k) is
given by the expression PVn = FVn / FVIF(k,n)
12,550 = 20,000/FVIF(8,r)
FVIF(8, r) = 20,000/12,550 = 1.594. This factor is equal to
r = 6%.
81. (b) The future value of a regular annuity for a period of n years at a rate of interest of k is
given as
PVn = A x PVIFA(k,n)
10, 000
A = = 3019.21 ~ 3019 interest for 1st year = 800
PVIFA (8%,4)
The amount of principal amortized at the end of first year is Rs.2,219. ( 3019 – 800).
243

249. Financial Management
82. (a) r = (1 + k/m)m – 1
where,
r = effective rate of interest
k = nominal rate of interest
m = frequency of compounding per year
4
r = (1 + 0.10/4) – 1 = 0.1038 or 10.38%.
83. (b) The future value of a regular annuity for a period of n years at a rate of interest of k is
given as FVAn = A x FVIFA(k, n)= 1 x FVIFA 12 %, 5 = Rs.6,353.
(F − P) 365
84. (c) The yield on treasury bills k = ×
P d
where,
F = face value,
P = price
K = yield and
D = maturity period in days.
Hence yield on T-bill to be 10.67%.
85. (b) Coupon = Rs.120; Loss in value = 1000 – 980 = 20
170 − 20
Return = = 10%
1000
Real rate of interest = 10% – 6% = 4%.
86. (b) The future value of a regular annuity for a period of n years at a rate of interest of k is
given as
FVAn = A x FVIFA(k, n)
A = 1000/ FVIFA(15%, 6) = Rs.114.24.
n
87. (b) The sinking fund factor is given as k/(1 + k) – 1
15
By using the above formula we get 0.16/(1 + 0.16) – 1
Hence sinking fund factor = 0.01935.
88. (d) r = (1 + k/m)m –1
where,
r = effective rate of interest
k = nominal rate of interest
m = frequency of compounding per year
4
r = (1 + 0.18/4) – 1 = 0.169 or 16.9%.
89. (a) The Present Value (PV) of a sum (FVn) receivable after n years at a rate of interest k is
given by the expression
n
PV = FVn /(1 + k )
60
Hence present value is 10,00,000/(1 + 0.10) = 3,284.
90. (e) The general relationship between effective and nominal rate of interest is given by
m
r = (1 + k/m) – 1
where,
r = effective rate of interest
k = nominal rate of interest
m = frequency of compounding per year
When the interest rate on loan is 1.5% p.m, then it will be 1.5 x 12 = 18% p.a. compounded
monthly.
12
Hence the effective rate of interest = (1 + 0.18 / 12) – 1 = 19.56%.
244

250. Part II
91. (c) According to the ‘Rule of 69’ doubling period = 0.35 + 69/interest rate
Hence, the doubling period = 0.35 + 69/16 = 4.7 years.
92. (d) According to the ‘Rule of 69’ doubling period = 0.35 + 69/interest rate
Hence, the doubling period = 0.35 + 69/6 = 11.85 years.
93. (d) The present value of annuity is given
PVA n = A x PVIFA (k, n)
Hence the amount to be invested today to earn annuity of Rs.1000 will be
1,000 x PVIFA (12%, 5) = Rs.3,605.
94. (c) An annuity of infinite duration is known as perpetuity. The PV of such perpetuity can be
expressed as Pa = A x PVIFA(k, a) = A x 1/k
The amount to be deposited now to earn a constant annual income for an indefinite period
will be 10,000 x 1 / 0.10 = 1,00,000.
95. (b) The general relationship between effective and nominal rate of interest is given by
r = (1 + k/m)m – 1
r = (1 + 0.16/4)4 – 1 = 0.1699 or 16.99%.
96. (d) The future value of a regular annuity for a period of n years at a rate of interest is given
by the formula
A[(1+ k)n − 1]
FVAn =
K
where,
A = Amount deposited/invested at the end of every year for n years
k = Rate of interest (expressed in decimals)
n = Time horizon
FVAn = Accumulation at the end of n years
This can be rewritten as A = FVAn {k/(1+ k)n – 1}
Therefore, the amount to be invested every year will be A = 10,00,000{0.14/(1+ 0.14)5 – 1}
= 1,51,283.55 Rs.1,51,284.
97. (e) The doubling period according to ‘Rule of 69’ is given by 0.35 + 69/interest rate
= 0.35 + 69/r = 4.75
The rate of interest will be r = 15.68%.
98. (a) The doubling period as per Rule 72 is given as 72/interest rate. Hence the doubling period
here will be 72/16 = 4.5 years.
99. (b) An annuity of infinite duration is known as perpetuity. The PV of such perpetuity can be
expressed as = A x 1/k = 1,000 x 12 x 1/0.12 = 1,00,000.
100. (a) Amount to be earned today to earn an annuity of Rs.1,000 for five years commencing
from the end of two years
1000 x PVIF (12%, 2) + 1,000 x PVIF (12%, 3) + 1000 x PVIF (12%, 4) + 1,000 x PVIF (12%, 5)
+ 1000 x PVIF (12%, 6)
= 797 + 712 + 636 + 567 + 507 = 3,219.
101. (a) A rupee expected to be received one year from now with no risk of default would be
discounted at a lower rate and would be worth less than Re 1.
102. (c)The doubling period according to the rule of 69 is given as 0.35 + 69/interest rate
0.35 + 69/15.
Hence the doubling period will be r = 4.95 years.
245

251. Financial Management
103. (c) The future value of a single cash flow is given as FV = PV (1 + k)n
25
(1 + k) = 2,00,000/5500
k = 15.45% 15.5%.
104. (c) The present value of annuity is given
PVA n = A x PVIFA(k, n)
5,00,000 = A x PVIFA (15%, 5)
The equated annual payment A = 5,00,000/3.352 = 1,49,164.60 Rs.1,49,165.
105. (e) The generalized formula for shorter compounding periods is given as
mxn
FVn = PV (1 + k/m)
Where,
FV = future value for n years
PV = cash flow today
k = nominal interest rate per annum
m = number of times compounding is done during a year
n = number of years for which compounding is done
FVn = 5,000 (1 + 0.15/2)2x3 = 7,716.
106. (a) The future value of a regular annuity for a period of n years at a rate of interest is given
by FVAn = A x FVIFA(k, n)
A = 10,00,000 / FVIFA(14%, 10)
By using the future value interest factor annuity tables we get A = 10,00,000/19.337
= 51,714
Risk and Return
107. (a) Stock x = Rise by 25% means, return is 25%. Decline by 5% means return is –5%.
Return Probability Expected return on X
25% 30% = 0.30 rx = 25 % (0.3) + ( − 5)(0.70)
–5% 70% = 0.70 = 4%
∴ σX = (25 − 4) (0.30) + ( − 5 − 4)2 (0.70) = 189
2 2
∴ σX = 189 = 13.75% .
108. (c) Stock A
Return Probability Expected return on Y
20% 40% = 0.40 20(0.40) + (–8)(0.60) = 3.2%
–8% 60% = 0.60
∴ σ y 2 = (20 − 3.2) 2 (0.40) + ( − 8 − 3.2) 2 (0.60) = 188.16
∴ σ y = 188.16 = 13.72% .
109. (a) Co-variance between stocks x and y
= ρ xy σ x σ y .
Where,
ρ xy = Correlation coefficient between x and y.
σ x = Standard deviation of x
σ y = Standard deviation of y
Co-variance = 0.5 x 0.13 x 0.13 = 0.0084.
246

252. Part II
110. (e) The characteristic line for XYZ Ltd. will be in the form of
Rxyz = α + βR m
Where, Rxyz = Average stock return = K x
and Rm = Average market return = K m
Therefore,
α = 6.83 – (0.584 x – 0.5)
= 6.83 + 0.292 = 7.122.
111. (b) Required return on a stock
(Ri) = Rf + β (Rm – Rf)
Where, Rf = Risk-free return
Rm = Market return
Stock I:
RI = Required return
= 12 + 1.5 (18 – 12) = 21%
Since, the expected return is only 19%, this stock has been overvalued.
Stock II:
RII = Required return
= 12 + 0.75 (18 – 12) =16.5%
Since, the expected return is 18.5%, the stock has been undervalued.
Stock III:
RIII = Required return = 12 + 1.4 (18 – 12) = 20.4%
Since, the expected return is 22%, this stock has been undervalued.
112. (a) We have from CAPM,
Return on a stock (Rj) = Rf + β(Rm – Rf)
Where, Rf = Risk-free return
Rm = Market return
Covariance R j , R m
Also, we have β =
Variance R m
ρ jm , σ j σ m
=
σm 2
Where, ρ jm = correlation coefficient of the scrip with market portfolio.
σj = Standard deviation of the stock.
σ m = Standard deviation of the market portfolio
σ2 m = Variance of the market portfolio
Given,
ρ jm = 0.5
σj = 0.24
σ m = 0.20
σ2 m = (0.20)2 = 0.04
247

253. Financial Management
0.5 x 0.24 x 0.20
Hence, β = = 0.6
0.04
Given,
rf = 6%
rm = 16%
Hence,
rj = 6 + 0.6 (16 – 6) = 12%
Therefore, the return on Greaves Ltd. = 12%.
113. (a) The beta of Mr. Ramesh’s portfolio is the weighted average of the betas of individual
stocks in his portfolio.
Hence, β portfolio = 0.95 x 0.15 + 1.1 x 0.2 + 1.25 x 0.3 + 0.8 x 0.05 + 1.05 x 0.2 + 0.7 x 0.1
= 1.0575
Using CAPM Rf = 4% + 1.0575 (14 – 4)%
Return on portfolio = 14.575%.
114. (d) Using dividend capitalization model,
D1
We have, P =
Ke − g
Where,
Ke is the required rate of return on the stock A
Ke can be found out using CAPM, as
Ke = Rf + β(Rm – Rf)
Substituting the values of Rf, β and Rm
Ke = 10 + 1.2 (15 – 10) = 16%
Therefore, plugging the values of Ke, Po and D1
30 = 4
0.16 − g
∴ g = 2.67%.
115. (c)
Scenario ri (%) P [ri – E (r)]2 [ri – E(r)]2 P
Recession –10 0.3 225 67.5
Low growth 5 0.4 0 0
High growth 20 0.3 225 67.5
Expected return = –10(0.3) + 5(0.4) + 20(0.3) = 5%
σ = 135 = 11.62% .
116. (a) E(rp) = (10 x 0.5) + (20 x 0.5) = 15%
σp 2
= (2)2 (0.5)2 + (5)2 (0.5)2 + (2 x 0.4 x 2 x 5 x 0.5 x 0.5) = 9.25
σP = 9.25 = 3.04%.
117. (c) Ke = rf + β(rm – rf ) = 9 + 1(18 – 9) = 18%
2.5 (1.06)
Po = = Rs. 22.08.
0.18 − 0.06
248

254. Part II
D t + (Pt − Pt -1 )
118. (b) k =
Pt-1
1.53+ (28.75 − 37.25)
k = = –18.7%.
37.25
D t + (Pt − Pt -1 )
119. (e) k =
Pt-1
2.00 + (280.00 − 200.00) 2.00 + 80
k = = = 41%.
200.00 100
120. (e)
Eco. cond. Ki Pi k= ki x pi Pi (Ki – k )2+
Good 18% 0.1 0.018 0.1(0.18 – 0.124)2 = 0.00031
2
Average 15% 0.4 0.060 0.4(0.15 – 0.124) = 0.00036
2
Bad 12% 0.3 0.036 0.3(0.12 – 0.124) = 0.0000
2
Poor 5% 0.2 0.010 0.2(0.05 – 0.124) = 0.00098
0.124 0.0017
The average expected return = 0.124 or 12.4% (app)
σ = (0.00168)1/2 = 0.041 or 4.1%
The expected return and risk associated are12.4% and 4.1% respectively.
121. (b) 10 shares of ABC Ltd can be purchased for Rs.2000. The expected return and the
standard deviation may be found as follows.
Return (ki) Prob (Pi) k = Pi x ki (ki – k ) Pi(ki – k )2
10 x 200 0.3 600 –120 4320
10 x 210 0.4 840 –20 160
10 x 220 0.2 440 80 1280
10 x 240 0.1 240 280 7840
k =2,120 13,600
σ= Pi (k i − k) 2 = 13, 600 = 116.62
Expected return is Rs.2120.
Standard deviation is 116.62.
122. (c) 10 shares of XYZ Ltd. can be purchased for Rs.1000. The expected return and the
standard deviation may be found as follows:
Return (ki) Prob (Pi) k = Pi x ki (ki – k ) Pi(ki – k )2
10 x 250 0.3 750 290 25,230
10 x 230 0.4 920 90 3,240
10 x 190 0.2 380 –310 19,220
10 x 160 0.1 160 –610 37,210
k =2,210 84,900
σ= Pi (k i − k) 2 = 84,900 = 291.38%.
123. (d) Kj = Rf + βj (km – Rf) = 7% + 1.4(16% – 7%) = 19.6%.
124. (e) Kj = Rf + βj (km – Rf) = 9% + 1.0 (15% – 9%) = 15%.
125. (c) Kj = Rf + βj (km – Rf) = 11% + 2.3 (17% – 11%) = 24.8%.
249

255. Financial Management
126. (c) Kj = Rf + βj (km – Rf) = 8 + 2.6 (18 – 8) = 34%.
127. (b) σy = 15
σm = 10
Corym = –0.25
σ y σ m Corym 15 x 10 x ( − 0.25)
β = = = –0.375.
σ2
m
100
128. (d) The beta factor may be computed as follows:
σ x σ m Corxm 15 x 12 x 0.72
β = = = 0.90
σ2
m 144
129. (d) In order to calculate the required rate of return on the security i.e., Rs; its beta factor
should also be calculated
σs σ m Corsm 4 x 3.2 x 0.8 10.24
β= = = = 1.00.
σ2
m (3.2) 2
10.24
Now, the required rate of return, Rs can be calculated with the help of CAPM equation as
follows:
Rs = Rf + βj (km – Rf) = 6.2% + 1.00 (9.8% – 6.2%) = 9.8%
130. (b) Equilibrium price of shares of XYZ Ltd:
The required rate of return of XYZ Ltd may be found with the help of CAPM as follows:
Kj = Rf + βj (km – Rf) = 0.11 + 1.2 (0.15 – 0.11) = 0.158 or 15.8%
Now Ke = 15.8%
Do = Rs.3
g = 9%
D1 3(1.09) 3.27
Equilibrium price Po = = = = Rs.48.08.
Ke − g 0.158 − 0.09 0.068
131. (c) Here the risk premium is (Rm – Rf). If it further increases 2%,
New Ke = 0.11 + 1.2 (0.06) = 18.2%
D1 3(1.09)
Equilibrium price, Po = = = Rs.35.54.
Ke − g 0.182 − 0.09
132. (b) If expected growth in dividends increases to 12%
New g = 12%
D1 3(1.12)
Equilibrium Price, Po = = = Rs.88.42.
K e − g 0.158 − 0.12
133. (e) If market sensitivity index, β, becomes 1.5, then
Kj = Rf + βj (km – Rf) = 0.11 + 1.5 (0.15 – 0.11) = 17%
D1
Now equilibrium price,
Ke − g
3(1.09)
Po = = Rs.40.87.
0.17 − 0.09
250

256. Part II
134. (b) If the two securities A and B are correctly priced then the return required, based on their
levels of systematic risk and that calculated from the CAPM, will be the same as their
expected returns given above.
So, the required return can be ascertained with the help of CAPM equation as follows:
Security A:
KA = Rf + βA (km – Rf) = 20% + 1.5 (28% – 20%) = 32%
This is equal to the expected return of Security A.
Therefore, Security A is correctly priced.
Security B:
KB = Rf + βB (km – Rf) = 20% + 0.7 (28% – 20%) = 25.6%.
This return of 25.6% is less than the expected return of 27%. Therefore, Security B is not
correctly priced.
135. (d) The coefficient correlation between the returns on Zeenath Ltd can be ascertained as
follows:
Cov(s, m)
Cor(s, m) =
σs x σ m
Where Cov(s, m) = ∑ P(K s − K s ) (K m − K m )
The expected return on the Zeenath Ltd. Ks and Km are as follows:
K s = (0.2 x 10%) + (0.4 x 15%) + (0.4 x 20%) = 16%
K m = (0.2 x 5%) + (0.4 x 16%) + (0.4 x 18%) = 14.6%
Calculation of Standard Deviation and Correlation Coefficient
Probability (Km – k ) (K5 – ks ) P(K5 – ks )2 P((Km – k m )2 P(1)(2)
m
(1) (2)
0.2 –9.6 –6 7.2 18.43 11.52
0.4 1.4 –1 0.4 0.784 –0.56
0.4 3.4 4 6.4 4.624 5.44
14.0 23.83 16.4
Therefore, the standard deviation of the market portfolio,
σm is (23.83)1/2 = 4.88, σs is (14.0)1/2 = 3.74
Cov(s, m) 16.4
Cor(s, m) = = = 0.89.
σs x σ m 3.74 x 4.88
136. (d) From the above solution we get
Cov(s;m)
β=
σ2
m
16.4
beta factor (β) = Cov(s,m) = 0.68.
23.83
137. (a) From the above, we get
Rm = 14.6%, β = 0.68 and given that Rf = 9%
Ks = Rf + β(km – Rf) = 9% + 0.68 (14.6% – 9%) = 12.80%
The expected return on share of C Ltd. is 16% and is greater than the required rate of return
for its level of risk i.e., 12.8%. Therefore, the share price is lower as indicated by the CAPM
and is not efficiently priced.
251

257. Financial Management
138. (a) The expected returns RM and RN are just the possible returns multiplied by the associated
probabilities as follows:
RM = (0.20 x –0.25) + (0.50 x 0.30) + (0.30 x 0.70) = 31%
RN = (0.20 x 0.30) + (0.50 x 0.40) + (0.30 x 0.50) = 41%.
139. (c) The expected returns are first to be calculated:
RM = (0.20 x –0.25) + (0.50 x 0.30) + (0.30 x 0.70) = 31%
RN = (0.20 x 0.30) + (0.50 x 0.40) + (0.30 x 0.50) = 41%.
The standard deviation can now be calculated as follows:
σM = 0.20( − 0.25 − 0.31)2 + 0.50(0.30 − 0.31) 2 + 0.30(0.70 − 0.31) 2 = 0.1084 = 32.92%
σN = 0.20(0.30 − 0.41) 2 + 0.50(0.40 − 0.41) 2 + 0.30(0.50 − 0.41) 2 = 0.0049 = 7%.
140. (e) Since Risk free rate and expected return of market portfolio (RM) are not given, it is not
possible to find out whether both securities are correctly priced or not. Hence, data provided
was insufficient.
D t + (P1 − Pt −1 )
141. (e) K =
Pt −1
2.40 + (69.00 − 60.00)
K= = 0.19 or 19%
60.00
The rate of return on stock is 19%.
142. (b) Required rate of return = Rf + βx(km – Rf) = 8 + 1.4 (14 – 8) = 16.4%
Expected rate of return a year hence
D0 (1+ g) 2 (1+ 0.09)
= +g = + 0.09 = 24.57%
P0 14
Since at equilibrium, the required rate is equal to the expected rate, this can be solved as
follows:
2.18
0.164 = + 0.09
P0
2.18
∴ P0 = = Rs.29.46
0.074
Expected income Rs.18.5
143. (a) Expected return = = = 0.289 or 28.9%.
Market purchase price Rs.64
144. (b) Covariance between stocks X and Y = ρxyσxσy
where ρxy = 0.9
σx = 0.17
σy = 0.18
Covxy = 0.9 x 0.17 x 0.18 = 0.027.
145. (c) β portfolio = 0.75 x .20 + 0.9 x .25 + 1.2 x .30 + 1.1 x .25
= 0.15 + 0.225 + 0.36 + 0.275 = 1.01
Using CAPM = 6% + 1.01 (15 – 6)%
Return on portfolio = 15.09%.
146. (c) Using dividend capitalization model,
D1
P0 =
ke − g
252

258. Part II
ke = Rf + β (Rm – Rf) = 20 + 1.4 (25 – 20) = 27%.
Substituting the values ke, P0 and D1
10
40 = ⇒ 10.8 – 40g = 10 ⇒ 10.8 – 10 = 40g ⇒ 0.8 = 40g
0.27 − g
g = 0.02 or 2%.
147. (a) E(rp) = (15 x 0.5) + (25 x 0.5) = 7.5 + 12.5 = 20%
σ 2 = (3)2 (0.5)2 + (6)2(0.5)2 + (2 x 0.6 x 3 x 6 x 0.5 x 0.5) = 2.25 + 9 + 5.4 = 16.65
p
σp = 16.65 = 4.08%.
148. (d) ke = 13 + 2(16 – 13) = 19%
4.5 (1.09)
P0 = = Rs.49.05.
0.19 − 0.09
149. (b)
Return Probability RXP R – 20 (R – 20)2 x P
–10 0.1 –1 –30 90
5 0.2 1 –15 45
20 0.4 8 0 0
35 0.2 7 15 45
50 0.1 5 30 90
20 270
S.D 270 16.43
150. (a)
Cov(i,m) ρσ i σ m
β= 2
=
σ m σ2 m
Expected return from the market = Σpikm = 0.30 (15) + 0.40 (12) + 0.30 (8) = 11.70%
Risk for the market, σm = [Σpi (k m − k m ) 2 ]1/2
= [(15 – 11.70)2 (0.30) + (12 – 11.70)2 (0.40) + (8 – 11.70)2 (0.30)]1/2
= [3.267 + 0.036 + 4.107]1/2 = (7.41)1/2 = 2.72%.
Given σi2 = 23.43(%)2
∴ σi = 23.43 = 4.84%
ρ (4.84)(2.72)
i.e. 1.77 =
7.41
1.77 × 7.41
Therefore, ρ = = 0.996.
4.84 × 2.72
151. (b) Expected. Return = (2 x expected return on portfolio Z ) – (1 x Interest rate on treasury bils)
= (2 x 15) – 5 = 25%
Standard deviation = (2 x standard deviation of Z ) – (1 x standard deviation of T. Bills)
= (2 x 16) – 0 = 32
152. (c) In portfolio A and B - A as higher return for same risk
In portfolio C and D - can’t say depend on investor attitude
In portfolio E and F - F as lower risk for same return
253

259. Financial Management
153. (c) Expected Return = 0.5 x 23 + 0.5 x 13 =18%
Standard deviation = (w12σ12 + w2σ22 + 2 w1w2ρ12 σ1 σ2)1/2
= {(0.5)2(0.40) 2+(0.5)2 (0.24) 2 + 2 x 0.5 x 0.5 x 0.80 x 0.40 x 0.24}1/2 = 30.5%.
154. (c) Ke = Rf + β(Rm – Rf ) = 8 + 1.2(10 – 8) = 10.4%.
155. (d) Given Rf = Risk Free rate of return = 5%, Expected Yield = 14%, and β = 1.25
Expected Yield = Rf + β (Rm – Rf )
0.14 = 0.05 + 1.25 (Rm – 0.05)
Rm = 12.20%.
156. (d) Let, the effective annual rate of interest be r.
So, Rs. 20,000 × (1 + r)9 = Rs.40,000
Or, (1 + r)9 = 2
Or, r = 8.006 ≈ 8 percent (approximately).
Therefore, the effective annual rate of interest will be = 8 percent.
157. (c) Total asset of a company is financed by equity capital and total debt. So, the total asset of
Subsonic Industries = Rs.150 lakh + Rs.250 lakh = Rs.400 lakh.
The return on investment (ROI) of a company is defined as:
Earnings before Interest and Taxes 50
ROI = = = 0.125 = 12.50 percent.
Total Assets 400
Here, post-tax income = Rs.24 lakh and so the pre-tax earnings = Rs.30 lakh as the tax rate
= 20 percent.
Interest expenses = Rs.250 lakh × 8 percent = Rs.20 lakh.
Hence, the amount of earnings before interest and taxes = Rs.30 lakh + Rs.20 lakh = Rs.50 lakh.
158. (e) The expected return from a stock may be calculated as:
Dividend Income + Increase in price
=
Purchase price
Expected stock price after 1 yr = 0.35 x 52 + 0.4 x 56 + 0.25 x 62
= 56.1
56.1 − 50 + 2
expected return = = 16.2% ~ 16%
50
= 16 percent (approximately).
159. (d) Expected return from that equity share = 0.3 × 10 + 0.45 × 16 + 0.25 × 20
= 3 + 7.20 + 5.0 = 15.20 percent.
Expected risk may be calculated as: σ = ∑ P (R i i − R)
σ = {0.3 × (10 − 15.20) 2
+ 0.45 (16 − 15.20 ) + 0.25 ( 20 − 15.20 )
2 2
}
= ( 0.3 × 27.04 + 0.45 × 0.64 + 0.25 × 23.04 )
= (8.112 + 0.288 + 5.76 ) = 14.160 = 3.76 (approximately)
So, the required expected risk = 3.76.
254

260. Part II
160. (e) The expected rate of return from any security as per the Capital Asset Pricing Model can
be computed as:
kx= Rf + β x (km – Rf)
Now, the beta of a security may be computed as:
Cov(k j k m ) ρ jm σ j σ m 0.9 × 7 × 6
βx = = = = 1.05
Var(k m ) Var(k m ) 36
Therefore, kx= Rf + β x (km – Rf) = 0.055 + 1.05 x (0.12-0.055) = 12.325
Hence, the required rate of return as per CAPM = 12.33 percent.
161. (a) The expected return from the shares of ESL is kj = 12 × 0.20 + 16 × 0.50 + 22 × 0.30
= 2.40 + 8.00 + 6.60 = 17 percent
The expected return from the market portfolio is km = 10 × 0.20 + 12 × 0.50 + 20 × 0.30
= 2.00 + 6.00 + 6.00 = 14 percent.
Now, the variance of returns from the market portfolio is :
σ2 m = {0.20 (10 – 14)2 + 0.50 (12 – 14)2 + 0.30 (20 – 14)2}
= 0.20 × 16 + 0.50 × 4 + 0.30 × 36 = 3.2 + 2.0 + 10.8 = 16
The covariance of returns between the shares of ESL and the market portfolio is:
COV(kj,km) = {0.20(10 – 14)(12 – 17) + 0.50(12 – 14)(16 – 17) +0.30(20 – 14)(22 – 17)}
= {0.20 × (–4) × (–5) + 0.5 × (–2) × (–1) + 0.30 (20 – 14)(22 – 17)}
= (0.20 × 20 + 0.50 × 2 + 0.30 × 30) = 4 + 1 + 9 = 14
Cov (k j , k m ) 14
Now, beta is defined as the ratio between 2
= = 0.875
σm 16
Hence, the required value of beta = 0.875.
162. (d) According to the CAPM approach, the required rate of return on a share is
ke=Rf + β ( R m − R f ) = 6 + 1.25 × 8 = 6 + 10 = 16 percent.
163. (e) The Return on Equity (ROE) for a company may be stated as:
Net profit Net profit Sales Total Assets
ROE = = × ×
Networth sales Total assets Net worth
⎛ Debt ⎞
= Net profit margin × total assets turn over ratio × ⎜1 + ⎟
⎝ Equity ⎠
= 12 × 1.67 × 3 = 60 percent.
164. (b) Retention ratio = 40% so, the dividend payout ratio is 60 percent.
D E × 0.6 0.6 0.6
Now, dividend yield = = = = = 0.06 = 6 percent.
Po Po Po / E 10
D1 + (P1 − P0 )
165. (d) The expected return from the equity shares of Nectar systems is Ke =
P0
Here, D1 = Rs.3.00
P1 = Rs.28.00
P0 = Rs.25.00
3 + (28 − 25)
Therefore, the expected return on equity Ke = × 100% = 24 percent.
25
255

261. Financial Management
166. (c) Beta of a stock =
Covariance between the return on the stodk and the return from the market
Variance of returns from the market.
Here, the standard deviation of the returns from the market is
= 12 percent and so, the variance
= 144 percent2
But the beta coefficient is = 1.5
So, the required covariance is = 144 × 1.5 = 216 percent2.
167. (c) Return from each of the given scenarios may be obtained as
Price (Rs.) 21 23 25
Return 1 + ( 21 − 20 ) 1 + ( 23 − 20 ) 1 + ( 25 − 20 )
× 100 × 100 × 100
20 20 20
= 10 percent = 20 percent = 30 percent
Probability 0.3 0.40 0.3
So, the expected return is 10 × 0.30 + 20 × 0.40 + 30 × 0.30 = 3 + 8 + 9=20 percent.
168. (c) Returns from the market under various scenarios can be estimated as
Sensex 3978 4163 4348
3978 − 3700
× 2 × 100 ⎛ 4163 − 3700 ⎞ ( 4348 − 3700 ) × 2 ×100
Return 3700 ⎜ 3700 ⎟ × 2 × 100
⎝ ⎠ 3700
= 15 percent = 25 percent = 35 percent
Probability 0.3 0.4 0.3
Hence, the required expected return = 15 × 0.3 + 25 × 0.4 + 35 × 0.3 = 25 percent.
169. (b) Return from each of the given scenarios may be obtained as
Price (Rs.) 32 35 38
Return 1 + ( 32 − 30 ) 1 + ( 35 − 30 ) 1 + ( 38 − 30 )
× 100 × 100 × 100
30 30 30
= 10 percent = 20 percent = 30 percent
Probability 0.3 0.40 0.3
So, the expected return is 10 × 0.30 + 20 × 0.40 + 30 × 0.30 = 3 + 8 + 9=20 percent.
The expected return from the share of Saboo Ltd. is = 20 percent. So, the standard deviation
of returns from the shares of Saboo Ltd
= {0.3( 20 − 10) 2
+ 0.4 ( 20 − 20 ) + 0.30 (30 − 20) 2 =
2
} 2 × 0.3 × 100 = 7.75.
170. (b) Return from each of the given scenarios may be obtained as
Price (Rs.) 10 11 12
Return 1 + (10 − 10 ) 1 + (11 − 10 ) 1 + (12 − 10 )
× 100 × 100 × 100
10 10 10
= 10 percent = 20 percent = 30 percent
Probability 0.3 0.40 0.3
256

262. Part II
So, the expected return is 10 × 0.30 + 20 × 0.40 + 30 × 0.30 = 3 + 8 + 9=20 percent.
Expected return from the shares of SMS Ltd is = 20 percent
Returns from the market under various scenarios can be estimated as
Sensex 4370 4750 5130
4370 − 3800
× 100 ⎛ 4750 − 3800 ⎞ ( 5130 − 3800 ) × 100
Return 3800 ⎜ 3800 ⎟ × 100
⎝ ⎠ 3800
= 15 percent = 25 percent = 35 percent
Probability 0.3 0.4 0.3
Hence, the expected return = 15 × 0.3 + 25 × 0.4 + 35 × 0.3 = 25 percent.
And the expected return from sensex is = 25 percent
So, the variance on the market return can be calculated as
{
σ m 2 = 0.3 × (15 − 25 ) + 0.3 ( 25 − 25 ) + 0.3 ( 35 − 25 )
2 2 2
} = 60
Now, the covariance between the return from the share and return form the market can be
calculated as
= 0.30 ×(10 – 20)(15 – 25) + 0.4 × (20-20)(25 – 25) + 0.3(30 – 20)(35 – 25)
= 0.3 × 100 + 0.3 × 100 = 60
Hence, the beta value for the shares of SMS Ltd is
covariancr brtween the returns from the shares and market 60
= = = 1.00.
var iance on the market returns 60
171. (a) The general equation to calculate the rate of return k= [D1 + (P1 – Pt – 1)]/Pt – 1
where,
k = rate of return
P1 = price of the security at the time t
i.e., at the end of the holding period
Pt –1 = price of the security at time t – 1,
i.e., at beginning of the holding period or purchase price
Dt = income or each cash flows receivable from the security at the time
0.15 = [5 + (Pt – 50)]/50
Pt = 52.5.
172. (e) Expected rate of return K = Σ Pi Ki.
The expected rate of return for any asset is the weighted average return using the probability
of each rate of return as the weight.
0.188 = 0.30 x 0.16 + 0.70 x r
r = 0.14/0.7 = 0.2 or 20%.
173. (e)
rxy = Covariancexy /σx σy
0.4 = 0.8 / σx × 0.2
σx = 0.8/0.08 = 10
2 2
Variance = σ = 10 = 100.
257

263. Financial Management
n
174. (d) Expected rate of return K = ∑ Pi K i
t =1
Probability 0.20 0.50 0.20 0.10
Price 120 140 160 180
Rate of return 0.5 0.75 1.00 1.25
K = Pt – Pt –1 / Pt-1
Rate of return
= 0.20 x 0.5 + 0.50 x 0.75 + 0.20 x 1 + 0.10 x 1.25
= 0.1 + 0.375 + 0.2 + 0.125 = 0.80 or 80%.
175. (e)
Convariance (K j K m )
Beta =
Variance (K m )
Variance = (Standard deviation)2
β = 514.92/264.06 = 1.95.
176. (a) The general equation to calculate the rate of return k = [Dt + (Pt – Pt–1)]/Pt–1
Where k = Rate of return
Pt = Price of the security at the time t i.e. at the end of the holding period
Pt-1 = Price of the security at time t –1 i.e. at beginning of the holding period or
purchase price
Dt = Income or each cash flows receivable from the security at the time t
K = [15 + (1,000)]/ 5,000 = 20.30%.
Convariance (K J, K m ) 177.85
177. (c) Beta = = = 1.469 .
Variance (K m ) 121
n
178. (a) Expected rate of return K = ∑ Pi K i
t =1
= 0.25 x 0.15 + 0.35 x 0.18 + 0.25 x 0.20 + 0.15 x 0.13 = 0.17 or 17%.
179. (d) The general equation to calculate the rate of return k = [Dt + (Pt – Pt-1 )]/Pt-1
Where,
k = Rate of return
Pt = Price of the security at the time t i.e. at the end of the holding period
Pt – 1 = Price of the security at time t–1 i.e. at beginning of the holding period or purchase price
Dt = Income or each cash flows receivable from the security at the time t
K = [2.5 + (35 – 21)]/21 = 78.57.
180. (b) The CAPM is represented by
kj = Rf + βj (km – Rf)
Where,
kj = expected or required rate of return on security j
Rf = risk-free rate of return
βj = beta coefficient of security j
km = return on market portfolio
Required rate of return = 0.09 + 1.5 (0.15 – 0.09) = 0.18 or 18%.
258

264. Part II
181. (b) The general equation to calculate the rate of return k = Dt + (Pt – Pt-1)/Pt–1
k = [15 + (115 – 120)]/120 = 8.33%.
n
182. (e) Expected rate of return K = ∑ PiKi
t =1
k = 0.25 x 0.19 + 0.35 x 0.12 + 0.20 x 0.18 + 0.10 x 0.20 + 0.1 x 0.24
= 0.1695 or 16.95%.
183. (d) The CAPM is represented by
kj = Rf + βj (km – Rf)
Where,
kj = expected or required rate of return on security j
Rf = risk-free rate of return
βj = beta coefficient of security j
km = return on market portfolio
Require rate of return = 0.08 + 1.4 (0.15 – 0.08) = 0.178 or 17.8%.
184. (b)
Convariance (K J, K m )
Beta =
Variance (K m )
221
β = = 1.82 .
121
185. (d) The general equation to calculate the rate of return k = Dt + (Pt – Pt-1 )/Pt
6.25 + (150 − 125)
The rate of return = = 0.25 or 25%.
125
n
186. (d) Expected rate of return K = ∑ Pi K i
t =1
k = 0.10 x 0.20 + 0.15 x 0.10 + 0.20 x 0.5 + 0.25 x 0.20 = 0.185 or 18.5%.
187. (c) The CAPM is represented by
kj = Rf +βj (km – Rf)
0.18 = 0.08 + βj (0.15 – 0.08)
Beta = 1.429.
n
188. (d) Expected rate of return K = ∑ Pi K i
t =1
= 0.2 x 0.10 + 0.25 x 0.12 + 0.25 x 0.15 + 0.3 x 0.18
= 0.1415 or 14.15%.
189. (e) The CAPM is represented by
kj = Rf +βj (km – Rf)
0.18 = 0.06 + βj (0.12 – 0.06)
β =2
Convariance (K J, K m )
190. (a) Beta =
Variance (K m )
β = 7.4/4.8 = 1.54
259

265. Financial Management
191. (b) The CAPM is represented by
kj = Rf + βj (k m – R f)
= 0.08 + 1.5 (0.12 – 0.08) = 0.14 or 14%.
192. (e) βj = Non-diversifiable risk of asset or portfolio/Risk of market portfolio
0.08
= = 0.67.
0.12
193. (e) The CAPM is represented by
kj = Rf +βj (km – Rf)
0.16 = 0.10 + βj (0.14 – 0.10)
βj = 1.5.
Convariance (K J, K m )
194. (c) Beta =
Variance (K m )
β = 225/200 = 1.125.
195. (d) βj = Non-diversifiable risk of asset or portfolio/Risk of market portfolio
0.20
= = 2.
0.10
n
196. (b) Expected Price = ∑ Pi K i = 0.67 x 85 + 0.33 x 90 = 86.65
t =1
Rate of return k = Dt + (Pt – Pt-1)/Pt = 15.54%.
Valuation of Securities
197. (a) Assume K1 and K2 are the implied interest rates on Bonds I and II
Bond I:
Rs.10,000 PVIF(k ,1) = Rs.8,929
1
Rs.10,000
= Rs.8,929
1 + k1
(or )
Rs.8,929(1 + k1) = Rs.10,000
k1 = 12%
Hence, implied interest rate is 12%.
Bond II:
Rs.997.18 = Rs.100 PVIF(K 2 ,1) + Rs.100 PVIF(K 2 ,2) + Rs.1100 PVIF(K 2 ,3)
Rs.997.18 = Rs.100 + Rs.100 + Rs.1,100
(1 + K 2 )2 3
(1 + K 2 ) (1 + K 2 )
Solving, we get K2 = 10.1%.
Hence, implied interest rate on Bond II = 10.1%.
Hence answer is (a).
260

266. Part II
198. (d) Present value or intrinsic value of the stock
= PV of future dividend stream + PV of stock price at the end of the above normal growth period.
PV of future dividend stream is calculated as follows:
End of Dividend PV at 16%
Year (Rs. )
1 3(1.14) = 3.42 2.95
2 3(1.14)2 = 3.9 2.90
3 3(1.14)3 = 4.44 2.85
4 4.44(1.11) = 4.93 2.72
5 4.44(1.11)2 = 5.47 2.60
6 4.44(1.11)3 = 6.07 2.49
16.51
PV of stock price at the end of above normal growth period, i.e., at the end the year 6.
1 D7
= × where, K is the return required, by equity investors and g is the growth rate.
(1 + K) 6
K −g
Dividend for the year 7 = Rs.6.07 (1.04) = Rs.6.31.
Rs.6.31
Market price at the end of year 6 = = Rs.52.58
0.16 − 0.04
Rs.52.58
Present value of Rs.52.58 @16% = = Rs.21.58
(1.16 )6
Hence, total value of the stock = Rs.(16.51 + 21.58) = Rs.38.09.
Therefore, Rs.38.09 can be paid now to acquire the stock.
Profit after tax
199. (b) EPS =
No. of outstanding shares
Rs.20,000
EPS = = Rs.4
5,000
Hence, market price per share = P0
= Rs.4 x 2.5 = Rs.10
Since, dividend pay-out ratio = 50%
DPS = 50% x Rs.4 = Rs.2 = D0
Given, growth rate of earnings = g = 0.04
Required rate of return by equity share holders
D1
Ke = + g
P0
Where, D1 = Dividend at the end of the year = D0 (1 + g)
= Rs.2 (1 + 0.04) = Rs.2.08
Rs.2.08
Ke = + 0.04 = 0.248 or 24.8%.
Rs.10
200. (c) P0 = 12 x PVIFA(13%,10) + 105 x PVIF(13%,10) = Rs.96.087.
201. (a) Ke = 8 + 0.7 (20 – 8) = 16.4
Using CAPM
2(1.08)
P0 = = Rs.25.71
0.164 − 0.08
As the share is currently valued at Rs.25, it is marginally underpriced.
261

267. Financial Management
202. (b) Let the yield to maturity be ‘i’. Then,
100 = 12 x 0.7 x PVIFA(i,5) + 100 x PVIF(i,5)
Solving, we get i = 8.40%.
D4 D (1 + g) 4 3(1+0.08) 4
203. (d) P3 = = 0 = = Rs.102.04.
Ke − g Ke − g 0.12 − 0.08
204. (e) The maximum price at which the share can be bought = The intrinsic value of the share.
⇒ PV of dividend share till 5th year + The PV of the price at the end of the 5th year
5x1.30 5x1.302 5x1.303 5x1.304 5x1.305 ⎧5x1.305 x1.2⎫ 1
= + + + + +⎨ ⎬x
1.25 1.252 1.253 1.254 1.255 ⎩ 0.25 - 0.20 ⎭ (1.25)5
= 28.17 + 146.00 = 174.17.
205. (b) The required YTM is given by r in the following equation:
1,062 = 70 x PVIFAr,8 + 500 x PVIFr,8 + 35 x PVIFr,9 + 535 x PVIFr,10
For r = 6%,
RHS = 70 x (6.210) + 500 x (0.627) + 35 x (0.592) + 535 x 0.558 = Rs.1,067.45
For r = 7%
RHS = 70 x (5.971) + 500 x (0.582) + 35 x (0.544) + 535 x (0.508) = Rs.999.79
1,067.45 − 1,062 5.45
∴ r = 6% + (7 – 6)% x =6+1x = 6.08%
1,067.45 − 999.79 67.66
∴ Required rate = 6.08 x 2 = 12.16%
206. (a)
Year Dividend PV @ 14% PV (Div)
1 10.00 0.877 8.77
2 10.00 0.769 7.69
3 12.50 0.675 8.44
4 15.62 0.592 9.25
Σ = 34.15
D 4 (1+g) 15.62 (1.12) 17.4944
P4 = = = = 874.72
Ke − g 0.14 − 0.12 0.02
PV(P4) = 874.72 x 0.592 = 517.83
PV of CF = 34.15 + 517.83 = Rs.551.98 per share.
Since the intrinsic value of the stock is greater than the market price of Rs.150 per share
investment at current price is recommended.
207. (b) The investor may buy the share only if the rate of return provided by the share investment
is at least equal to the required rate of return.
The required rate of return of the investor is given as 12% and the rate of return from the
share investment may be calculated as follows:
D1 2.50
Ke = +g = + 0.05 = 0.10 or 10%
P0 50
As the rate of return provided by the share investment is only 10% as against the required
rate of return of 12%, the investor need not buy the share.
262

268. Part II
208. (b) Situation I (Present Position):
D0 (1+g) Rs.16 (1.08) 17.28
The share price is P0 = = = = Rs.172.8
Ke − g 0.18 − 0.08 0.10
Situation II (Proposed Position):
The share price after announcing the reorganization (assuming that the market believes the
Director’s Forecast of growth in dividends) is:
Share price at the end of year 2:
D3 Rs.12
The share price is P2 = = = 300
Ke − g 0.18 − 0.14
The present value of this price is = Rs.300 x (1/1.18)2 = Rs.215.45
Therefore, the price in the proposed situation is higher and so the directors may adopt the
reorganization process.
209. (b) In this case, the company has paid a dividend of Rs.4 during the last year. The growth
rate, g, is 5%. Then, the current year dividend (D1) with the expected growth rate of 5% will
D1
be Rs.4.20 the share price is Po =
Ke − g
Rs.4.20
= = Rs.31.1.
0.185 − 0.05
In case the growth rate rises to 8% then the dividend for the current year (D1) would be
Rs.4.32 and the market price would be:
D1 Rs.4.32
The share price P0 = = = Rs.41.1.
K e − g 0.185 − 0.08
210. (c) If the growth rate falls to 3% then the dividend for the current year (D1) would be Rs.4.12
and the market price would be:
D1 Rs.4.12
The share price is P0 = = = Rs.26.58
K e − g 0.185 − 0.03
211. (d) In the given situation, the value of the share can be ascertained on the basis of earnings of
the firm and the price-earning multiple as follows:
Value = EPS x P/E ratio.
The P/E ratio is given and the EPS may be ascertained as follows:
Operating profit i.e., EBIT 35,00,000
Less: Interest on 15% secured loans 6,75,000
Interest on 12.5% unsecured loans 2,50,000
Profit before tax (PBT) 25,75,000
Tax @50% 12,87,500
Profit after tax (PAT) 12,87,500
No. of equity shares (Rs.80,00,000/20) 4,00,000
Therefore, EPS (Rs.12,87,500/4,00,000) = 3.22
P/E ratio (given)
Therefore, value = EPS x P/E ratio = 3.21 x 17.5 = Rs.56.35
263

269. Financial Management
212. (c) In this case, the earnings and dividends are declining at a rate of 6% p.a. So, the growth
rate, g, may be taken as g = – 0.06
The dividend for the previous year was Rs.10 and taking growth rate, g as –0.06, the value of
D1 comes to Rs.10 (1 – 0.06) = Rs.9.40
D1
The value of the share as per constant growth model is P0 =
Ke − g
9.40 9.40
= = = 69.6.
0.075 − ( −0.06) 0.135
213. (c) Basic information:
Growth rate, g, for first 5 year 20%
Growth rate, g, for 6th year onwards 10%
Ke i.e., required rate of return 12%
Now, the value of share at different point of time can be ascertained as follows:
Present value of dividends for first 5 years
Year Dividend (Rs.) (g=20%) PVF @ 12% Present value (Rs.)
1 6 0.893 5.358
2 7.2 0.797 5.738
3 8.64 0.712 6.15
4 10.37 0.636 6.59
5 12.44 0.567 7.05
Total 30.88
Now the price at the end of year 5 (T5) :
D5 (1+g) Rs.12.44 (1+0.10)
The share price is P5 = = = Rs.684.2
Ke − g 0.12 − 0.10
Price at T0 (now) = PV of Rs.684.2 for 5 year + PV of all dividends
= (684.2 x 0.567) + (Rs.30.88) = Rs.418.84.
214. (e) The current market price of the share is the present value of expected future dividends
discounted at the required rate of return i.e., 18%. Since the company is expected to pay a
dividend of Rs.15 for the next three years and thereafter, the dividend will grow @10%. The
present market price with these parameters can be ascertained as follows:
The present value of the dividend for the three years:
Dividend per year = Rs.25
PVAIF (@18% 3 years) = 2.174
Therefore, PV of dividends = Rs.54.35
Price of share at the end of year 3:
D4 Rs.25(1+0.15)
The share price is P3 = = = Rs.958.3
Ke − g 0.18 − 0.15
Present value of this amount at 18% for 3 years:
= Rs.958.3.25 x PVF(18%, 3y) = Rs.958.3 x 0.609 = Rs.583.60
Present market price is (Rs.583.60 + Rs.54.35) = Rs.637.95.
264

270. Part II
215. (d) If the investment proposal is accepted then the present value of dividend will be as
follows:
Year Old div. Change in dividend. Net div. PVT @18% PV (Rs.)
1 25 –20 5 0.847 4.24
2 25 –20 5 0.718 3.59
3 25 2 27 0.609 16.44
4 28.75 23 51.75 0.516 26.70
5 33.06 41 74.06 0.437 32.36
Total 83.33
Price of share at the end of year 5:
D6 Rs.33.06 (1+0.15)
The share price is P5 = = = Rs.1267.3
Ke − g 0.18 − 0.15
Present value of this amount @18% for 5 years:
= Rs.1267.3 x PVF(18%, 5y) = Rs.1267.3 x 0.437 = Rs.553.81
Therefore, market price under situation II when the investment proposal is accepted is Rs. Is
(553.81 + Rs.83.33) = Rs.637.14.
216. (a) The present value of the share may be found by using the varying growth in dividends
model. The current dividend, Do, is Rs.5.00. This is expected to grow @16% for 3 years,
@11% for next 3 years and then @ 6% forever. This may be presented as follows:
3 Do (1+0.16)i 6 D3 (1+0.11)i − 3 1 ⎛ D6 (1+0.06) ⎞
Po Σ +Σ i −3
+ ⎜ ⎟
i=1 (1+0.09) i
(1+0.09) (1+0.09) ⎝ (0.09 − 0.06) ⎠
The equation may be solved as follow:
Year Dividend PVF (9%) PV
1 5.00 (1.16) = 5.8 0.917 Rs.5.31
2 5.8 (1.16) = 6.72 0.842 5.65
3 6.72 (1.16) = 7.79 0.772 6.01
4 7.79 (1.11) = 8.65 0.708 6.12
5 8.65 (1.11) = 9.60 0.650 6.24
6 9.60 (1.11) = 10.66 0.596 6.35
35.68
The value of the share at the end of 6 years may be found by using the constant growth model
as follows:
D6 (1+0.06) 10.66 (1.06)
P6 = = Rs.376.65
0.09 − 0.06 0.03
This value should be discounted @ 9% for six years to find out Po as follows:
376.65
P0 = = 376.65 x PVF(9%,6) = 376.65 x 0.596 = 224.5
(1+0.09)6
The current price of the share would be Rs.35.68 + 224.5= Rs.260.2.
265

271. Financial Management
217. (c) Current Dividend, D0 = Rs.2
Expected to grow @12% for 4 years and there after @15% infinitely.
Year Dividend PVF(12%,n) PV
1 2 (1.12) = 2.24 0.893 Rs.2.00
2 2.24 (1.12) = 2.50 0.797 1.99
3 2.50 (1.12) = 2.80 0.712 1.99
4 2.80 (1.12) = 3.13 0.636 1.99
7.97
The price at the end of year 4, P4, may be as follows:
D 4 (1+0.06) 3.13 (1.06)
P4 = = = Rs.55.29
0.12 − 0.06 0.06
This may be discounted @12% for 4 years to find out Po as follows:
P0 = P4 x PVF(12%, 4y) = 55.29 x 0.637 = Rs.35.21
The current market price of the share would be Rs.7.97 + 35.21 = Rs.43.18.
218. (a) Growth rate for 4 years 15%
Growth rate for 5 onwards 8%
Ke i.e., required rate of return 12%
Now, the value of shares are different point of time can be ascertained as follows:
Present value of dividends for first years:
Year Dividend PVF(14%, n) PV (Rs.)
1 D1 = 6 x (1.15) = 6.9 0.893 6.16
2 D2 = 6.9 (1.15) = 7.93 0.797 6.32
3 D3 = 7.93 (1.15) = 9.12 0.712 6.49
4 D4 = 9.12 (1.15) = 10.5 0.636 6.67
25.64
D 4 (1+0.08) 10.5 (1.08)
Price at the end of year 4, T4 is P4 = = = Rs.283.5
0.12 − 0.08 0.04
Current market price of the share: = PV of P4 for 4 years + PV of D1 to D4
= (283.5 x 0.636 + 25.64) = Rs.205.95.
219. (b) Estimation of growth rate, g, based on dividends:
The dividend for the year 1998 was Rs.2.30 and has grown to Rs.3 for 2002. So, dividends
have increased by Rs.0.70 over 4 years on the base value of Rs. 2.30. The growth rate, g, can
be calculated as follows:
2.30 x CVF(r, 4) = 3
CVF(r,4) = 1.304
In the CVF table, the values close to 1.304 for 4 years may be found in 6% (1.262) and 7%
(1.311). By interpolation, the exact rate comes to 6.16%. So, the value of growth rate, g is
6.86%.
220. (c) Estimation of g, based on earnings:
In the earnings basis, the ‘g’ is defined as b × r. The value of r is given as 45% and b is the
3.00
retention ratio i.e., 1 – = 0.545.
5.50
Now, g = 0.4545 x 0.45 = 20.45%
3.00 x1.2045)
Share price: Po = = 14.72
0.45 − 0.2045
266

272. Part II
221. (b) The value of the equity share at the end of 15th year depends upon the dividend for the
16th year (D16), Ke and growth rate, g as follows:
D16 = D15 (1+g) = Rs.16.49
D16 Rs.16.49
The share price P15 = = = Rs.824.50
Ke − g 0.09 − 0.07
This amount of Rs.824.50 is realizable after 15 years. Therefore, the present value of this
amount @ 9% is Rs.226.74 (i.e., Rs.824.50 x 0.275).
Now, the value of the share is the sum of the (i) present value of future dividend and (ii)
present value of expected price at the end of year 15 i.e.,
Value = Rs.34.96 + Rs.226.74 = Rs.261.70
D5
222. (a) P4 =
Ke − g
Where D5 is dividend in the fifth year, g is the growth rate and Ke is required rate of return.
Now D5 = D4 (1+g)
∴ D5 = Rs.2.28 (1+0.08) = Rs.2.46
2.46
P4 = = Rs.123
0.10 − 0.08
Present market value of P4 = 123 x PVIF(10%,4) = Rs.84.01
Hence the intrinsic value per share of Gemini Ltd. would be: (A+B+C) i.e.,
= Rs.3.08 + 3.11 + 84.01 = Rs.90.20
223. (a)
Year Coupon (Rs.) PVF@16% PV (Rs.)
1 5 0.862 4.31
2 5 0.743 3.71
3 13 0.641 8.33
4 13 0.552 7.17
5 16 0.476 7.61
6 16 0.410 6.56
7 16 0.354 5.66
43.35
The present value of the redemption amount of Rs.110 (i.e., Rs.100+Rs.10) @16% p.a. is
Rs.110 x 0.354 = Rs.38.94
Therefore, the present value of the debenture is Rs.43.35+Rs.38.94= Rs.82.29. The company
should issue the debentures at this value in order to yield a return of 16% to the investors.
224. (a) The annual interest payment is Rs.500. At the end of the year 20, the bondholder receives
Rs.500 interest payment and Rs.5000 per value.
The present value of the interest payments is obtained by using PVIFA @11% and 20
payments.
PV = Interest x PVIFA(11%,20y) = Rs.500 (7.963) = Rs.3981.5
The PV of the Rs.5,000 principal repayment is obtained by using the PV, single-payment
factor for 11% and 20 years.
PV = Amount x PVF (11%, 20y) = Rs.5000 (0.124) =620
Therefore, the bond’s value is Rs.4601.5
i.e., (Rs.3981.5 + 620.00).
267

273. Financial Management
225. (b) PV of bond = Interest x PVIFA(11%, 8y) + Face value x PVIF (11%, 8y)
= Rs.3,000 (5.146) + Rs.15,000(0.434) = Rs.21,948
Current price = Rs.15,000 x 75% = 11,250
Since, the bond is available at a price lower than its present value of returns, the investment
in bond is desirable.
226. (b) Earnings and dividends are declining of a rate of 6% p.a. So, the growth rate, g, may be
taken as g = –0.06.
The dividend for the previous year was Rs.14 and taking growth rate g, as –0.06, the value of
D1 comes to Rs.14(1–0.06) = Rs.13.16.
D1 13.16 13.16
P0 = = = =Rs.54.833.
K e − g 0.18 − ( − 0.06) 0.24
Profit after tax
227. (c) EPS =
No.of outstanding shares
Rs.10,000
EPS = = Rs.4
2,500
Hence market price per share = P0 = Rs.4 x 1.5 = Rs.6
Since dividend pay out ratio = 25%
DPS = 25% x Rs.4 = Rs.1 = D0
Given, growth rate of earnings = g = 0.02
D1
Required rate of return by equity shareholders = Ke = +g
P0
where, D1 = Dividend at the end of the year.
= D0 (1+g) = Rs.1 (1+0.02) = 1.02
1.02
Ke = Rs. + 0.02 = 0.19 or 19%.
6
228. (b) P0 = 4 x PVIFA(12%, 10) + 75 x PVIF (12%, 10)
= 4 x 5.650 + 75 x 0.322 = 22.60 + 24.15 = Rs.46.75.
229. (e) Ke = 10 + 0.7 (15 – 10) = 13.5, using CAPM
2 (1.10) 2.2
P0 = = = Rs.62.85.
0.135 − 0.10 0.035
230. (a) P0 = 15 x 0.55 x PVIFA(11, 5) + 100 x PVIF(11, 5)
= 8.25 x PVIFA(11, 5) + 100 x PVIF(11,5)
= 8.25 x 3.696 + 100 x 0.593 = Rs.89.79.
D4 D (1+g) 4 5(1+0.10) 4 7.32
231. (a) P3 = = o = = = Rs.146.4.
Ke − g Ke − g 0.15 − 0.10 0.05
D6
232. (e) P5 =
Ke − g
D0 (1+g)6 2 (1+0.16)6
Rs.157.45 = =
Ke − g K e − 0.16
4.87
Rs.157.45 =
K e − 0.16
157.45 (Ke – 0.16) = 4.87
157.45 Ke – 25.192 = 4.87
157.45 Ke = 4.87 + 25.192
30.062
Ke = = 0.1909.
157.45
268

274. Part II
233. (a)
Year Dividend PV@16% PV(Div)
1 20 0.862 17.24
2 20 0.743 14.86
3 25 0.641 16.025
4 31.25 0.552 17.25
Σ =65.375
D 4 (1+g) 31.25(1+0.14) 35.625
P4 = = = = Rs.1781.25
Ke − g 0.16 − 0.14 0.02
PV(P4) = 1781.25 x 0.552 = 983.25
PV of CF = 65.375 + 983.25 = Rs.1048.625 per share.
Since the intrinsic value of the stock is greater than the market price of Rs.250 per share,
investment at current price is recommended.
234. (c) The market interest rate increases by 2%, then the interest rate for similar type of bonds
will be (12.16% + 2%) 14.16%
Price of bond = 70 x PVIFA(7.08,8) + 500 x PVIF(7.08,8)+ 35 x PVIF(7.08,9) + 535 x PVIF(7.08,10)
= 70 x 5.953 + 500 x 0.579 + 35 x 0.540 + 535 x 0.505 =Rs.995.29.
Dividend per share (DPS)
235. (d) Dividend pay-out ratio (D/P) =
Earnings per share (EPS)
Hence, DPS = D/P x EPS = 0.25 x Rs.6.5 = Rs.1.625.
n Ct 5 1,000 5 1,000
236. (c) Vo = Σ t
=Σ t
= Σ = 1,000 (PVIFA15%,5y )
t=1 (1+k) t=1 (1+0.15) t=1 (1+k) t
= 1000 x 3.352 = Rs.3,352.
(900 − 950) + 90 −50 + 90
237. (a) Holding period return = = = 4.21% .
990 950
I + (F − P) / n 60 + (995 − 700) / 5 60 + 59 119
238. (d) YTM = = = = 0.145 (or) =14.5% .
0.4 F + 0.6 P 0.4 (995) + 0.6 (700) 398 + 420 818
D1 4.00 4.00
239. (c) P0 = = = = Rs.65.57.
K e − g 0.15 − 0.089 0.061
240. (a) The expected price-earning ratio (E(P/E)) ratio is formed by dividing the present value of
the share by the expected earnings per share denoted by E (EPS)
PV per share
∴E (P/E) =
E (EPS)
Expected PAT − Preference devidend 25,500 − 7,500
E (EPS) = = = 1.8
No.of outstanding shares 10, 000
27.85
E (P/E) = = 15.47 .
1.8
D1 D2 P2
241. (d) P0 = + +
(1+K e ) (1+K e ) 2 (1+K e ) 2
8 9 180 8 9 180
= + + = + + = 7.272 + 7.438 + 148.760 = Rs.163.470.
1.10 (1.10) 2 (1.10) 2 1.10 1.21 1.21
269

275. Financial Management
D 9
242. (b) P0 = = = Rs.60.
Ke 0.15
243. (e)
YEAR Dividend
1 1.6X1.20=1.92
2 1.92X1.20 =2.304
3 2.304X1.20 = 2.76
4 2.76X1.20 =3.317
5 3.317 X1.13=3.749
6 3.749 X1.13 = 4.236
7 4.236X1.13=4.78
8 4.78 X1.13=5.409
9 5.409 X1.07 = 5.78
Price at the end of 8 years = D9/K–g
Present value of dividend stream:
1.92 2.304 2.76 3.317 3.749 4.236 4.78 5.409 5.78
30 = + + + + + + + +
(1 + k) (1 + k)2 (1 + k)3 (1 + k)4 (1 + k)5 (1 + k)6 (1 + k)7 (1 + k)8 (1 + k)9 (k − g)
At K = 16% present value of cash flow = 33.42
At K = 17 % present value of cash flow = 29.82
33.42 − 30
So, K = 16 + x1 = 16.95 %.
33.42 − 29.82
244. (d)
Year Dividend 18%
1 2.3000000 0.847 1.948100
2 2.6450000 0.718 1.899110
3 3.0417500 0.609 1.852426
4 3.3459250 0.516 1.726497
5 3.6805175 0.437 1.608386
6 4.0485693 0.370 1.497971
7 4.2509977
PV of dividends 10.53
4.2509977
Price of the share = PV of dividends @18% + = 10.53 + 12.11 = Rs.22.64.
(1.18)6 x (0.18 − 0.05)
245. (d) EPS of the firm will increase by 50% as the market price will remains same
P/E ratio for unleveled firm x EPS = P/E ratio of levered firm x increased EPS
10 x EPS = = P/E ratio of levered firm x 1.5EPS
P/E ratio of levered firm =10/1.5 =6.67
246. (d) Debt of 160 million has been replaced with the equity so the market value of the firm
will be Rs.250 million and market price remains unchanged.
270

276. Part II
247. (d)
1 2 3 4 5
Dividend 10 10.5 11.025 11.57625
EPS 15 15.75 16.5375 17.36 18.23
Price at the year 4 = EPS5/ 0.8 187.5
PVIF 0.926 0.857 0.794 0.735
PV 9.26 8.9985 8.75385 176.02
Existing stock Price 203.02
248. (b) Current share price = 20/1.10+125/1.10 = Rs.131.82
249. (e) Market Price = 10/(0.08 – 0.05) = Rs.333.33
250. (b) Given dividend for year 0 D0 = 1
D1 = 1.20 D2 = 1.20(1.20) = 1.44, D3 = 1.44(1.20) = 1.728,
D4 = 1.728(1.20) = 2.0736, D5 = 2.0736(1.20) = 2.48 D6 = 2.48 x 1.10 = 2.73
Price at the end of 5 years = D6 / K – g
Required rate of return is the value of K in the following equation
P0 = 1.20 x PVIF (K, 1) + 1.44 x PVIF (K, 2) + 1.728 x PVIF (K, 3) + 2.0736 x PVIF (K, 4) + 2.48
PVIF (K, 5) +2.73/(K–0.10) x PVIF (K, 5)
By solving we can get
K = 18% L.H.S of the equation becomes 20.20 and K = 19% L.H.S = 17.83
So K= 18.10% (approx).
251. (d)
YEAR Dividend PVIF(36%) PVIF(40%)
1 6 x1.20=7.20 5.29 5.14
2 7.20 x1.20 =8.64 4.67 4.41
3 8.64 x1.20 = 10.37 4.12 3.78
4 10.37 x1.20 =12.44 3.64 3.24
5 12.44 x1.13=14.05 3.02 2.61
6 14.05 x1.13 = 15.88 2.51 2.11
7 15.88 x1.13=17.94 2.08 1.70
8 17.94 x 1.13=20.28 1.73 1.37
9 20.68 x 1.07 = 21.70
Price at the end of 8 years = D9/K – g
At K = 36% P8 = 74.82 and present value of cash flow = 33.41
At K = 40 % P8 = 65.75 and present value of cash flow = 28.83
By Interpolation,
33.41 − 30
K = 36 + × 4 = 38.97%.
33.41 − 28.83
252. (d) The required rate of return from that stock is ke = Rf + β (Rm – Rf)
= 6 + 1.50 × (12 – 6) = 15 percent
The growth rate of dividend is 5%
So, the price of the share can be calculated as:
D0 (1 + g ) 2 × 1.05
P= = = Rs.21.
ke − g 0.15 − 0.05
271

277. Financial Management
253. (a) The face value of these bonds is = Rs.100 while the amount of coupon payment is
= Rs.100 ×12 percent = Rs.12.
12
Current yield of the bond will be = ×100 = 0.10526 = 10.53 percent (approx).
114
Dividend per share (DPS) DPS EPS
254. (a) We know that dividend yield = = ×
Market price per share (MPS) EPS MPS
= Dividend pay out ratio × capitalization rate = 0.3 × 8 = 2.4 percent.
255. (a) Let the issue price of the bond be P
P × (1.08)20 = Rs.1,00,000
Rs.1, 00, 000
P= = Rs.21,455.
4.66096
256. (d) Yield on the T-bills may be calculated as:
F − P 365
k= ×
P d
where, F = Rs.100, P = Rs.98.48 and d = 91 days
100 − 98.48 365 1.52 365
Hence, k = × = ×
98.48 91 98.48 91
1.52 365
Or, k = ×
98.48 91
Or, k = 0.0619 (approximately)
Hence, the required yield on the T – bills will be = 6.19 percent = 6.2 percent
(approximately).
257. (a) Discount rate before conversion = 5 + 3 = 8 percent and the same after conversion will be
= 8 + 4 = 12 percent.
The expected cash flows from that instrument will be as follows:
Year 1 2 3 4 5 6
Cash flows 9 9 9 10 10 10
Here, the cash flows for the first three years will occur half-yearly where each installment is
of Rs.4.50 and it has been assumed that the holder of the instrument will hold all the shares
and will get the dividends. The intrinsic value of the debentures is = Present value of all the
above cash flows = Rs.4.50 × PVIFA (4%,6) +10 × {PVIF (12%,4) + PVIF (12%,5) + PVIF (12%,6)
+ ….}
⎧ ⎫
10 ⎪ 1 ⎪
⎪ ⎪ 10 1
= Rs.4.50 × 5.242 + ×⎨ ⎬ = Rs.4.5 × 5.24 + ×
(1.12 ) ⎪1 − 1 ⎪ (1.12 ) 0.12
4 3
⎪ 1.12 ⎪
⎩ ⎭
Hence, the required intrinsic value = Rs.82.90 = Rs.83 (approximately).
258. (c) Present market value of the bond is Rs.108 and the amount of coupon interest to be
received annually = Rs.108 × 8.33 percent = Rs.8.9964 = Rs.9
Hence, the amount of coupon payments to be received half-yearly = Rs.4.50 and the number
of coupons n = 2× 3 = 6.
So, the approximate half-yearly realized yield to an investor will be
I + (F − P) / n Rs.4.50 + (100 − 108 ) / 6
r= = = 0.03045 = 3.045%
(F + p) / 2 (100 + 108 ) / 2
So, the approximate annualized yield to an investor will be = {(1.03045) − 1} ×100
2
= 6.18 percent.
272

278. Part II
259. (d) The present value of the dividend stream to an investor is given as:
2 3
(1.15)3 (1.15)3
= Rs.2.00 ×1.15 + Rs.2.00 × ⎛ 1.15 ⎞ + Rs.2.00 × ⎛ 1.15 ⎞ + Rs.2.00 ×
⎜ ⎟ ⎜ ⎟ 4
+ Rs.2.00 × 5
+ ...
1.10 ⎝ 1.10 ⎠ ⎝ 1.10 ⎠ (1.10) (1.10)
⎛ 1 ⎞
= Rs.2.091 + Rs.2.186 + Rs.2.285 × ⎜ = Rs.29.41 = Rs.29 (approximately).
1 ⎟
⎜1− ⎟
⎝ 1.10 ⎠
260. (c) Total assets of the company = Rs.25 lakh + Rs.40 lakh = Rs.65 lakh and so the amount of
EBIT registered by the company = Rs.65 lakh × 12 percent = Rs.7.80 lakh.
Now, interest paid by the company against the debt capital = Rs.40 lakh × 9 percent =
Rs.3.60 lakh. Hence, the earnings before taxes is = Rs.7.80 lakh – Rs.3.60 lakh = Rs.4.20
lakh and the net profit for the company = Rs.4.20 lakh × 0.60 = Rs.2.52 lakh.
Therefore, the earnings per share will be = Rs.2.52.
261. (c) Let, the effective yield from those bonds be r . So, by the condition,
1
Rs.5,000 × (1 + r )
5
3 = Rs.7, 000
16
Or, (1 + r ) 3 = 1.4
Or, r = 6.51 percent (approximately).
D1
262. (c) The intrinsic value of the equity share of the company is = P0 =
k−g
Here, D1 = Rs.2.50 × 1.08 = Rs.2.70
K = 16 percent and of = 8 percent.
2.50 × 1.08 2.7
So, the required intrinsic value is P0 = = = Rs.33.75
0.6 − 0.08 0.08
263. (b) Let the face value of the debentures be Rs.100
So, the annual interest from each of these debentures is = Rs.12
Present selling price of these debentures is = Rs.100 × (1.08) = Rs.108.
12 100
Therefore, the current yield from each of these debentures = × 100 = = 11.11.
108 9
264. (d) Let the issue price be x
By the terms of the issue of the T-bills,
100 − x 365
6 percent = × × 100
x 91
6 × 91× x
or, = (100–x)
36, 500
or, 0.01496 x = 100 – x
100
or, x= = Rs.98.53.
1.01496
265. (c) Let the face value be Rs.100 and the amount of dividend per annum = 100 × 10% = Rs.10
Rs.10
So, the current yield = × 100 = 8 percent
Rs.125
Now, if the required yield increases by one percent, the market value will be
Rs.10
= = Rs.111.11
0.09
So, the premium on the price of the preference shares will be = 11.11 percent.
273

279. Financial Management
266. (d) Dividends for the next three years are as follows:
Year 1 2 3
Dividend (Rs.) 4 × 1.15 = 4.60 4 × 1.15 × 1.15 = 5.29 4 × (1.15)3 = 6.084
So, the required intrinsic value of the share is
4.60 5.29 6.084 6.084 × 1.06 1
= + + + ×
1.16 (1.16) 2
(1.16) 3 0.16 − 0.06 (1.16)3
= 3.97 + 3.93 + 3.90 + 41.32 = 53.12 ≈ Rs.53 (approx.).
267. (c) Let the face value of the bond be Rs.100 and the interest on the bond is Rs.10 per annum.
The present market price of the bond = Rs.95.
Let k be the effective yield on the bond.
So, from the condition of the present values of the cash inflows and outflows
Rs.95 = Rs.10 × PVIFA (k, 5) + Rs.50 PVIF (k, 5) + Rs.55 PVIF (k, 6)
At k = 11%, the right hand side
= 10 × 3.696 + 50 × 0.593 + 55 × 0.535 = 36.96 + 29.65 + 29.425 = 96.035
and at k = 12%, the right hand side
= 10 × 3.60 5 + 50 × 0.567 + 55 × 0.507 = 36.05 + 28.35 + 27.885 = 92.285
k − 11 95 − 96.035
By interpolation, we get =
12 − 11 92.285 − 96.035
1.035
or, k = 11 +
3.75
or, k = 11.28.
So, the required effective yield to the investor = 11.28 percent.
268. (a) Let the approximate maturity period for the bonds be n years and the face value of the
bonds be Rs.100.
The yield to maturity of the bonds is defined as, through approximation method
I + (F − P) / n
YTM =
(F + P) / 2
Here, we have, I = Rs.9.00, P = Rs.100 F = Rs.110 and YTM = 12 percent.
9 + (110 − 100 ) / n
⇒ 0.12 =
(110 + 100 ) / 2
9 + 10 / n 10
⇒ 0.12 = or 12.6 – 9 =
105 n
10
or, n = = 2.78 years.
3.6
269. (c)
D1 1
E(P/E) = x
k − g E(EPS)
D1 = D0 (1 + g)
20 (1 + g) 1
33.3 = x
0.15 − g 7.5
g = 6.47%.
274

280. Part II
Coupon interest
270. (b) Current Yield =
Current market price
Current yield 70
Current market price = = = 777.77 or Rs.778.
Coupon interest 0.09
271. (a) The intrinsic value or the present value of the bond is given by
V0 = I (PVIFk d ,n ) + F (PVIFk d ,n )
Where,
V = Intrinsic vale of the bond
I = annual interest payable on the bond
F = Principal amount (par value) repayable at the maturity time.
N = maturity period of the bond
Kd = cost of capital
Vo = 100 (PVIFA12%, 5) + 1000 (PVIF12%, 5) = 100 x 3.605 + 1000 x 0.567 = 927.5.
272. (d) The intrinsic value or the present value of the bond is given by
V0 = I (PVIFk d ,n ) + F (PVIFk d ,n )
87.52 = I (PVIFA15%, 7) + 100 (PVIF15%, 7)
I = 12% .
273. (b) The value of a share when dividend increase at a constant, compound rate is given by
P0 = D1/k – g
Where,
P0 = the current market price of the equity share
D1 = the expected dividend a year hence
D1 = D0 (1 + g) where D0 is the last paid dividend
k is the expected rate of return or the required rate of return
g = growth rate
By substituting the values in the above formula we get 20 = 2/0.14 – g
g = 0.04 or 4%.
274. (c) The intrinsic value or the present value of the bond is given by
V0 = I (PVIFk d ,n ) + F (PVIFk d ,n )
Value of the bond = 120 x PVIFA10%,3 + 1000 x PVIF10%, 3 = 1049.44.
275. (d) The value of a share when dividend increase at a constant, compound rate is given by
P0 = D1/k – g
Where,
P0 is the current market price of the equity share
D1 is the expected dividend a year hence
D1 = D0 (1 + g) where D0 is the last paid dividend
k is the expected rate of return or the required rate of return
g = growth rate
By substituting the values in the above formula we get 70 = 3.5/0.20 – g
g = 0.15 or 15%.
275

281. Financial Management
276. (c) The value of a share when dividend increase at a constant, compound rate is given by
P0 = D1/k – g
Where,
P0 is the current market price of the equity share
D1 is the expected dividend a year hence
D1 = D0 (1 + g) where D0 is the last paid dividend
k is the expected rate of return or the required rate of return
g = growth rate
P = 10 (1 + 0.10)/0.15 – 0.10 = 220.
Coupon interest 150
277. (c) Current yield = = = 16.67%.
Current market price 900
278. (c) The value of a share when dividend increase at a constant, compound rate is given by
P0 = D1/k – g
Where,
P0 is the current market price of the equity share
D1 is the expected dividend a year hence
D1 = D0 (1 + g) where D0 is the last paid dividend
k is the expected rate of return or the required rate of return
g = growth rate
41.25 = 3 (1 + g)/ 0.18 – g
g = 0.1 or 10%.
279. (e) If a bond is purchased and then sold one year later, its rate of return over this single period
can be defined as
Price gain or loss during the peiod + Coupon Interest (if paid)
Rate Return =
Purchase Price at the beginning of the holding period
Price gain = 960 – 900 = 60
Rate of return = (60 + 80) / 900 = 0.1555 or 15.55%.
Expected income
280. (d) Expected yield =
Current market price
Expected yield 15
Current market price = = = 75.
Expected income 0.20
281. (c) The value of a share when dividend increase at a constant, compound rate is given by
P0 = D1/k – g
P = 2.6/0.18 – 0.10 = 32.5.
282. (b) The intrinsic value or the present value of the bond is given by
V0 = I (PVIFk d ,n ) + F (PVIFk d ,n )
Value of the bond = 150 x PVIFA15%, 3 + 1000 x PVIF 15%, 3 = 1000.45
When the required rate is equal to its coupon rate, the value of the bond is equal to its par
value.
276

282. Part II
283. (a) The value of a share when dividend increases at a constant, compound rate is given by
P0 = D1/k – g
Where,
P0 is the current market price of the equity share
D1 is the expected dividend a year hence
D1 = D0 (1 + g) where D0 is the last paid dividend
k is the expected rate of return or the required rate of return
g = growth rate
The intrinsic value or the current market price = 2.4 (1 + 0.10)/ 0.16 – 0.10 = 2.64/0.06 = 44.
284. (c) Issue price = F (PVIFk d ,n )
1,00,000 x PVIF15%, 25 = 3,000.
285. (d) The value of a share when dividend increase at a constant, compound rate is given by
P0 = D1/k – g
D1 = D0 (1 + g)
Intrinsic value of the share = 2 (1 + 0.08)/0.15 – 0.08 = 30.857.
286. (a) Current yield = Coupon interest/Current market price
0.15 = 12/Current market price
Current market price = 80.
287. (a) The intrinsic value or the present value of the bond is given by
Vo = I (PVIFk d ,n ) + F (PVIFk d ,n )
Value of the bond = 15 x PVIFA18%,4 + 105 x PVIF18%,4 = 94.53.
288. (c) P0 = D1/k–g when g = 0, P0 = D1/k
P = 10/0.20 = 50.
289. (a) The intrinsic value or the present value of the bond is given by
Vo = I (PVIFk d ,n ) + F (PVIFk d ,n )
Value of the bond = 100 x PVIFA 10%,5 + 1,000 x PVIF10%, 5 = 360.5 + 567 = 927.50
290. (c) Po = D1/k–g
32 = 2 / 0.13 – g
g = 6.75%.
291. (c) The intrinsic value or the present value of the bond is given by
Vo = I (PVIFk d ,n ) + F (PVIFk d ,n )
Value of the bond = 120 x PVIFA14%,5 + 1,000 x PVIF14%, 5 = 930.96 or 931.
292. (c) Po = D1 / k – g = 3.2/ 0.12 – 0.04 = 40.
Coupon interest 100
293. (a) Current yield = = = 11.11%.
Current market price 900
294. (c) Po = D1 / k – g
D1 = D0 (1 + g)
154 = 15 (1 + 0.1)/k – 0.1
k = 20.71%.
277

283. Financial Management
Financial Statement Analysis
Rs.8,40,000
295. (b) Number of equity shares of the company = = Rs.84,000
Rs.10
15
Preference dividend paid = x Rs.6,00,000 = Rs.90,000
100
Dividend per share (DPS)
i. Dividend yield =
Market Price per share (MPS)
Rs.3,36,000
Where, DPS = = Rs.4
Rs.84,000
Rs.4
Hence, Dividend yield = = 20%
Rs.20
Net profit after preference dividend
ii. Return on equity =
Net worth
Rs.(9,00,000 − 90,000) Rs.8,10,000
= = = 0.386 = 38.6%.
Rs.(8,40,000 + 12,60,000) Rs.21,00,000
D t + (Pt − Pt −1 )
296. (c) Yield on stock =
Pt −1
Where,
Dt = Dividend received during the year ‘t’
Pt–1 = Share price during ‘t–1’ year
Pt = Share price during year ‘t’
Rs.4 + (Rs.20 − 18)
Therefore, yield on stock = = 33.3% .
Rs.18
297. (b) Given collection period = 180 days
Receivables turnover = 2
Therefore,
Net credit sales Rs.2,00,000
Accounts receivable = = = Rs.1,00,000
Receivable turnover 2
Net credit sales Rs.2,00,000
Stock = = = Rs.1,60,000
Stock turnover 1.25
Net profit = Rs.2,00,000 x 10% = Rs.20,000
Given net profit to investment = 4%
Rs.20,000
Total investment (or total assets) = = Rs.5,00,000
0.04
Sales Rs.2,00,000
Fixed assets = = = Rs.2,22,222
Fixed assets turnover 0.9
Hence, other current assets = Rs.5,00,000 – Rs.2,22,222 = Rs.2,77,778
Total liabilities including capital = Rs.5,00,000
Given, Debt Assets ratio = 0.5
Total Debt = Rs.2,50,000
Given, short–term debt = Rs.50,000
Long–term debt = Rs.2,00,000
278

284. Part II
Share capital (Liabilities – total debt) = Rs.2,50,000
Number of shares = 25,000 [2,50,000/10]
Gross profit = Total sales × Gross profit margin
= Rs.50,000
Cost of goods sold = Total sales – Gross profit
= Rs.1,50,000
PAT Rs.20, 000
EPS = = = Rs. 0.80 or 80 paise.
No. of Share Rs.25, 000
298. (c)
Gross profit Rs. 60,000
i. Sales = = = Rs. 3,00,000
Gross profit margin 20%
ii. Cost of goods sold = Rs.(3,00,000 – 60,000) = Rs.2,40,000
Cost of goods sold Rs.2,40,000
iii. Average stock = = = Rs.40,000
Inventory turnover 6
iv. Total stock = Rs.40,000 x 2 = Rs.80,000
Given, opening stock is Rs.5,000 less than closing stock.
Let opening stock = x
Closing stock = x + 5000
∴ x + x + 5000= 80,000
2x = 75000
x = 37,500
∴ Opening stock = Rs.37,500
Closing stock = 80,000 – 37,500 = 42,500
Closing stock = Rs.42,500
Opening stock = Rs.37,500
Rs.3,00,000 x 2
v. Accounts receivable = = Rs.50,000
12
(Assuming all sales are credit sales)
Sales Rs.3,00,000
vi. Fixed assets = = = Rs.75,000
Fixed assets turnover 4
Since, it is a manufacturing company.
Purchases on credit = Cost of goods sold + Increase in inventory
(Assuming all purchases are credit sales) = Rs.2,40,000 + Rs.5,000 = Rs.2,45,000.
Purchases x Creditors payment period
Creditors = = Rs.49,000
365
Cost of goods sold Rs.2,40,000
Equity = = = Rs.1,20,000.
Capital turnover 2
Balance Sheet
Liabilities Amount Assets Amount
Equity 1,20,000 Fixed Assets 75,000
Reserves & Surplus 20,000 Inventory 42,500
Long-term Liabilities 60,000 Current Assets (balancing figure) 81,500
Creditors 49,000 Accounts Receivable 50,000
2,49,000 2,49,000
279

285. Financial Management
299. (b) The appropriate measure to be used is net profit margin as Rs.25 worth of groceries
represent the sales of the company.
33.75
Net profit margin = = 15%
225
The profit that the company makes on a sales Rs.25 = 25 x 0.15 = Rs.3.75
As the child earns Rs.7.50, i.e., double of what the company earns, the claim is correct.
300. (c) To assess the liquidity position we need to calculate the current ratio and quick ratio.
Current assets
Current ratio =
Current liabilities
1,77,000
Current ratio (for year 1) = = 2.64
67,000
2,36,000
Current ratio (for year 2) = = 2.46
96,000
Current assets − Inventories
Quick ratio =
Current liabilities
82,000
Quick ratio (for year 1) = = 1.22
67,000
1,11,000
Quick ratio (for year 2) = = 1.16
96,000
Comment: The CR and QR for the two years can be considered healthy as CR is more than 2
and QR is more than 1. But as the ratios are decreasing, we can say that the liquidity of the
company is being adversely affected.
To assess the profitability position we need to calculate the gross profit margin and net profit
margin.
Gross profit
Gross profit margin = x 100
Sales
1,06,000
Gross profit margin (for year 1)= x 100 = 23%
4,60,000
1,44,000
Gross profit margin (for year 2)= x 100 = 24%
5,94,000
Net profit
Net profit margin = x 100
Sales
25,500
Net profit margin (for year 1) = x 100 = 5.5%
4,60,000
40,700
Net profit margin (for year 2) = x 100 = 6.9%
5,94,000
Comment: Though GPM for the two years is high, NPM is too low for the two years which
indicates very high operating expenses. Both the ratios are following an increasing trend
which indicates improving performance.
280

286. Part II
301. (a)
1. Interest Coverage Ratio
EBIT
(ICR) =
Interest
EBIT = Earnings before interest and tax = EBDIT – Depreciation
Year 3 = 3,318 – 855 = 2,463
Year 2 = 2,887 – 667 = 2,220
Year 1 = 2,233 – 410 = 1,823
EBIT
ICR =
Interest
2,463
ICR Year 3 = = 3.38
728
2,220
ICR Year 2 = = 4.41
503
1,823
ICR Year 1 = = 6.07
300
PAT Profit after tax
2. Return on Net Worth = =
NW Net worth
1,704
RON Year 3 = = 0.1378 = 13.78%
12,369
1,653
RON Year 2 = = 0.1379 = 13.79%
11,983
1,323
RON Year 1 = = 0.1561 = 15.61%
8,471
Comment 1: Financial risk was covered significantly during year 1, whereas, during
year 2 and year 3 it has declined. The reducing interest coverage ratio indicates that
financial burden has been increased.
Comment 2: From data, net worth increased significantly (by Rs.3,512 crore) i.e., by
41.46% from year 1 to year 2 whereas PAT has increased by only 24.9% and hence
RONW has decreased from 15.62% to 13.79%. Similarly, from year 2 to year 3 net
worth increased by 3.2% and PAT also increased by 3.08% and hence RONW remain
almost unchanged.
302. (a) The investors would be interested in the D/E ratio and the interest coverage ratio of Max
Value Co. under pre and post debenture issue.
Long-term debt
D/E ratio =
Net worth
1,48,000
D/E ratio (for year 1) = = 1.33
1,11,300
2,03,000
D/E ratio (for year 2) = = 1.34
1,52,000
4,03,000
New D/E ratio = = 2.65
1,52,000
(With issue of debentures)
EBIT
Interest Coverage Ratio (ICR) = (Net profit + interest + taxes)
Interest
281

287. Financial Management
53,950
ICR (for year 1) = = 3.08
17,500
81,500
ICR (for year 2) = = 3.26
25,000
81,500
New ICR(with EBIT of year 2) = = 1.43
57,000
The D/E ratio of the firm is low initially with the issue of debentures and without any change
in net worth D/E would increase to 2.65 which indicates high financial risk. The interest
coverage ratio is above 3 times in the two years but with the issue of debentures ICR will
decline to 1.43. Hence, it can be considered risky to invest in the debentures of the company.
Net profit Rs.80.13
303. (b) EPS = = = Rs.7.705
Number of outstanding shares 10.4
i. Dividend Capitalization Approach:
18.72
Pay–out ratio = = 23.36% = b
80.13
b x EPS(1+ g)
P0 =
Ke − g
Rs.0.2336 x 7.705 x 1.22
Given, Ke = 24% and g = 22% = = Rs.109.79
0.24 − 0.22
ii. PE Ratio Approach
28
P/E ratio = = 3.63
7.705
Expected EPS = Rs.7.705 x 1.22 = Rs.9.40
P0 = 9.4 x 3.63 = Rs.34.12.
304. (e)
CA − Inventories 3,800 − 2,100
i. Acid Test Ratio = = = 1.012
CL 1,680
EBIT PBT + I 1,060 + 460
ii. Earning Power = = = = 0.2135 i.e., 21.35%
Total assets Total assets 7,120
PAT + Depreciation + Interest
iii. Debt – Service Coverage ratio =
Interest + Loan repayment during the year
742 + 480 + 460 1,682
= = = 2.55(approx.)
460 + 200 660
305. (a)
Profit after tax Rs.5, 20, 000
i. Return on total assets (2004) = x100 = x100 = 8.12%
Total assets 64, 00, 000
EBIT
ii. Return on capital employed (2004) = x 100
Total Capital Employed
Rs.12,00,000
= x 100 = 27.20%
Rs.44,12,000
PAT Rs.5, 20, 000
iii. Return on equity funds (2004) = x100 = x100 = 18.5%.
Equity funds Rs.28,12, 000
282

288. Part II
Current Assets Rs.30,52,000
306. (d) i. Current ratio (2004) = = = 3.81
Current liabilities Rs.8,00,000
Liquid assets Rs.30,52,000 − 21,72,000
ii. Acid test ratio (2004) = = = 1.1.
Current liabilities Rs.8,00,000
Long − term debts Rs.16,00,000
307. (a) i. Debt equity ratio = = = 0.57
Equity funds Rs.28,12,000
EBIT Rs.12,00,000
ii. Interest coverage ratio = = = 7.5 times.
Interest charge Rs.1,60,000
Sales Rs.40,00,000
308. (b) i. Debtors Turnover = = = 11.1 times
Average debtors Rs.3,60,000
Cost of goods sold Rs.28,00,000
ii. Stock Turnover = = = 1.4 times
Average stock Rs.20,00,000
Sales Rs.40,00,000
iii. Total assets turnover = = = 0.67 times.
Average assets Rs.60,00,000
Debt Rs.300 lakh
309. (b) i. Debt equity ratio = = = 0.54
Equity Rs.560 lakh
EBIT Rs.320 lakh
ii. Interest coverage ratio = = = 2.66
Interest Rs.120 lakh
Working notes:
Debt:
Long-term loan = Rs.300 lakh + Short-term loan (360) = Rs.660 lakh
Equity:
Capital Rs.250 lakh
Reserve Rs.280 lakh
P&L A/c Rs.30 lakh
Rs.560 lakh
EBIT:
Rs.
Profit for the year (30 + 90) 120 lakh
Interest 120 lakh
120 × 40 80 lakh
Tax@ 40%
60
320 lakh
Current assets Rs.950 lakh
310. (c) Current ratio = = = 1.76.
Current liabilities Rs.540 lakh
Working notes:
(Rs. In lakh)
Current Assets Current Liabilities
Stock 460 Short term loan 360
Debtors 460 Trade Credit 150
Cash 10 Other Liabilities 30
930 540
283

289. Financial Management
311. (b)
(Rs.)
Operating profit 25,00,000
Less: Interest on
Secured loans @ 15% 3,75,000
Unsecured loans 1,25,000 5,00,000
Profit Before Tax (PBT) 20,00,000
Less: Income Tax @ 50% 10,00,000
Profit After Tax (PAT) 10,00,000
No. of equity shares 2,50,000
Profit after tax Rs.10,00,000
EPS = = = Rs.4
No.of equity shares Rs.2,50,000
P/E ratio = Market price per share/EPS = Rs.50/Rs.4 = 12.50.
312. (d) EPS = PAT/No. of shares = 1,50,000/50,000 = 3.00.
Price = (EPS) x (P/E) = (3.00 x 8) = Rs.24.
Rs.5,00,000 − 42,000/Rs.16,00,000
313. (a) i. Earning yield = EPS/Market price = = 7.16%.
Rs.4
ii. Net cash flow
(Rs.)
Profit after tax 5,00,000
+ Depreciation 1,20,000
– Dividend on pref. shares 42,000
– Dividend on equity shares 3,20,000
Net cash flow Rs.2,58,000
314. (b) i. Dividend yield on ordinary shares:
Dividend per share = 20% of paid-up value = Rs.0.20/20ps
Therefore, Dividend yield = (DPS/Market Price) x 100 = (0.20/4) x 100 = 5%
ii. Price/Earnings ratio = Market price/EPS = 4/0.2863 = 13.97.
315. (e)
Balance Sheet of XYZ Ltd.
Liabilities Rs. Assets Rs.
Owners equity 1,00,000 Fixed assets 60,000
Current debt. 24,000 Cash 60,000
Long-term debt. 36,000 Inventory 40,000
1,60,000 1,60,000
Working notes:
1. Total debt is 60% of owner equity and is therefore, Rs.60,000
2. Current debt is 40% of total debt and is therefore, Rs.24,000
3. Long-term debt is therefore, Rs.60,000 – 24,000 = Rs.36,000
4. Fixed assets are 60% of owners equity and are therefore, Rs.60,000.
284

290. Part II
5. Total Assets = Owners equity + Total debt
= Rs.(1,00,000 + 60,000) = Rs.1,60,000
6. Current Assets = Total assets – Fixed assets = Rs.(1,60,000 – 60,000) = Rs.1,00,000
7. Inventory:
Asset turnover = (Sales/Assets) = 2
Therefore, Sales = Rs.3,20,000
Inventory turnover = Sales/Inventory
Therefore, Inventory = Rs.40,000.
316. (d) The EBIT of the firm is 12% of sales i.e., 12% of Rs.15 crore and is therefore Rs.1.8
crore.
Amount
EBIT 1,80,00,000
Less: Interest 45,00,000
Profit before tax 1,35,00,000
Less: Tax @ 40% 54,00,000
Profit after tax 81,00,000
Less: Pref. Dividend 13,00,000
Returns for equity 68,00,000
PAT − Pref.Dividend Rs.68,00,000
Return on equity = x100 = x100 = 13.6%.
Equity Rs.5,00,00,000
PAT 48,000
317. (b) i. Net Profit Margin = x 100 = x 100 = 6.7%
Sales 7,20,000
Sales 7, 20, 000
ii. Assets Turnover = = = 0.9 times.
Total assets 8, 00, 000
PAT 48,000
318. (a) i. Return on assets = x 100 = x 100 = 6%
Total assets 8,00,000
PAT 48,000
ii. Return on owner’s equity = x100 = x 100 = 12%.
Equity 4,00,000
CA
319. (b) =1.8 ⇒ CA =1.8CL
CL
CA – CL = 2,40,000
1.8 CL – CL = 2,40,000
0.8CL = 2,40,000
CL = 3,00,000
⇒ CA =1.8 × 3,00,000
= 5,40,000
CA − Stock 5, 40, 000 − Stock
= 0.6 ⇒ = 0.6
CL 3, 00, 000
⇒ Stock = 3,60,000
285

291. Financial Management
Total CA = 5,40,000
Stock = 3,60,000
∴ Other current assets = 1,80,000
Total CL = 3,00,000
Bank OD (given) = 1,20,000
⇒ Other CL = 1,80,000.
320. (a)
(Rs. in lakh)
Existing Proposed
Earning Before Interest and Tax 15.00 18.00
Less: Interest
Term loan (15%) 7.50 7.50
Bank borrowing (20%) 6.60 11.60
Public deposit (14%) 2.10 2.10
Total interest 16.20 21.20
Loss after interest (1.20) (3.20)
Rs.15 lakh Rs.18 lakh
Interest coverage ratio = 0.925 = 0.849
Rs.16.20 lakh Rs.21.20 lakh
So, it appears that the interest coverage ratio will fall and hence revised proposal is not
desirable.
Net profit after preference dividend
321. (c) i. Earnings per share =
Number of equity shares
Rs.15,00,000 − Rs.5,00,000
= = Rs.14.29
Rs.70,000
Market price per share Rs.200
ii. Price earnings ratio = = = 14 times.
Earning per share 14.29
322. (d) i. The cover for the preference and equity dividends:
Profit after tax Rs.15,00,000
= = = 1.25 times
Preference dividend + Equity dividend Rs.5,00,000 + Rs.7,00,000
ii. The net funds flow:
Profit after tax = Rs.15,00,000
Add. Depreciation = Rs. 6,00,000
Rs.21,00,000
323. (a) Inventory turnover ratio:
Firm A Firm B Firm C
Cost of goods sold 60,00,000 75,00,000 80,00,000
Average inventory 10,00,000 15,00,000 20,00,000
= 6 times = 5 times = 4 times
The Inventory Turnover Ratio (ITR) indicates that firm A is having highest inventory
turnover of 6 times. So, this firm is able to make relatively higher sales with lower level of
inventories and thus is making an efficient use of its working capital.
286

292. Part II
324. (c) Average Collection Period:
Firm A Firm B Firm C
Average receivables 13, 20, 000 24,97,500 35,84,000
×360 = 66, 00, 000 ×360 = ×360 = ×360
Credit sales 83,25,000 89,60,000
= 72 days = 108 days = 144 days
The above calculations show that the number of days credit allowed by Firm A is 72 days, by
Firm B is 108 days and by Firm C is 144 days. It indicates that the Firm A is following a
relatively sound credit policy whereas B and C are following a liberal credit policy.
325. (a) The net profit ratio of the firm is lower than the industry standard and thus indicates
higher cost of production/higher operating expenses of the firm. The net profit to total assets
ratio is also less than the industry standard indicating that the total assets are
disproportionately higher and not properly managed. The ratio of net profit to Net worth is
also less than the industry standard indicating that the firm is not a leveraged firm.
326. (c) The current ratio of the firm is slightly higher than the industry standard indicating a
better position of the firm. However, the current assets may be proportionately higher due to
excessive stock maintained by the firm as reflected in the low stock turnover ratio. The firm
has Debtors turnover of 10 (i.e., the collection period is 36 days) as against the industry
average of 8 times (i.e., credit period of 45 days.) This indicates that the firm is following a
stringent credit policy. There may be a scope for making the credit policy more liberal so as
to attract more customers. So, there is a need for review of credit policy of the firm.
327. (b) The stock turnover ratio indicates that the firm is maintaining higher level of stock of 3.6
months (i.e.,12 ÷ 3.33) as against the stock of 1.22 months (12 ÷ 9.8) standard of the industry.
The assets turnover ratio of the firm also indicates that the assets of the firm are
comparatively higher indicating under utilization of fixed assets.
Profit after tax − preference dividend
328. (e) i. Earning Per Share (EPS) =
No.of equity shares
2,70,000 − 27,000
= = Rs.3.04
80,000
Market price 40
ii. PE ratio (or) Price earnings ratio = = = 13.16.
EPS 3.04
Operating expenses
329. (b) Operating ratio = x 100
Sales
Rs.25,000 + Rs.50,000
= Rs.11,00,000 + Rs.35,000 + x 100
Rs.15,00,000
Rs.12,10,000
= x 100 = 80.67%.
Rs.15,00,000
330. (a) Interest Coverage Ratio
Profit before interest + Tax Rs.2,99,000
= = = 6.36 times.
Interest Rs.47,000
Return on capital employed (ROCE):
Capital employed: Rs.
Equity share capital 3,50,000
Preference share capital 2,00,000
Reserves and surplus 2,00,000
Long-term loan (2%) 1,00,000
Debentures (14%) 2,50,000
11,00,000
Net profit before interest and tax Rs.2,99,000
ROCE = x100 = x100 = 27.18%.
Capital employed Rs.11,00,000
287

293. Financial Management
Curretn assets
331. (b) Current ratio =
Current liabilities
Current Assets
2.6 =
40,000
Current assets = 40,000 x 2.6 = Rs.1,04,000
Liquid assets = 40,000 x 1.5 = Rs.60,000
Inventory = Current assets – liquid assets = Rs.1,04,000 – 60,000 = Rs.44,000.
332. (c) Working capital = Current assets – Current liabilities
Let current liabilities be X So, current assets will be 2.8X
90,000 = 2.8X – X
90,000 = 1.8X
90,000
X= = Rs.50,000
1.8
So, current liabilities = Rs.50,000
Current assets = Rs.50,000 x 2.8 = Rs.1,40,000
Liquid assets = Rs.50,000 x 1.5 = Rs.75,000
Inventory = Rs.1,40,000 – 75,000 = Rs.65,000.
Quick (liquid) assets
333. (a) Quick Ratio =
Current liabilities
Liquid assets
2.5 =
50,000
Liquid assets = Rs.50,000 x 2.5 = Rs.1,25,000
Current assets = Liquid assets + Inventory + Prepaid expenses
= Rs.1,25,000 + 80,000 + 2,000 = Rs.2,07,000
Current assets 2,07,000
Current ratio = = = 4.14.
Current liabilities 50,000
Current assets
334. (e) Current ratio =
Current liabilities
Current assets
3 =
30,000
∴ Current assets = Rs.30,000 x 3 = Rs.90,000
Liquid assets
Quick ratio =
Current liabilities
Liquid assets
1 =
30,000
∴ Liquid assets = Rs.30,000
Current assets – Liquid assets = Stock-in-trade
(As there are no prepaid expenses)
or, Rs.90,000 – 30,000 = Stock-in-trade
Stock-in-trade = Rs.60,000
288

294. Part II
Cost of goods sold
335. (b) Inventory turnover =
Averageinventory at cost
Net sales = 80,000 + 2,00,000 – 10,000 = Rs.2,70,000
Cost of goods sold = Sales – Gross profit
= 2,70,000 – (25% of 2,70,000)
= 2,70,000 – 67,500 = Rs.2,02,500
25,000 + 30,000
Avg. Inventory = = Rs.27,500
2
Rs.2,02,500
Inventory turnover = = 7.36 times.
Rs.27,500
Current assets
336. (d) Current ratio =
Current liabilities
Current assets
2.6 =
40,000
Current assets = 2.6 x 40,000 = Rs.1,04,000.
337. (d) Current assets = Rs.50,000
Current assets
Current ratio =
Current liabilities
3 50,000 50,000 x 1.5
= = = Rs.25,000
1.5 Current liabilities 3
Quick assets = 25,000 x 1.5 = Rs.37,500
Inventory = Current assets – Quick assets
= 50,000 – 37,500 = Rs.12,500.
Trade creditors (Creditors + Bills payable)
338. (a) Average payment period =
Avg.daily purchases
Average daily purchases
Annual credit purchases (total purchases − cash purchases − purchase returns)
=
No.of working days in a year
359,000
= = 983.56
365
1,85,000 + 60,000
Average payment period = = 249.09 ~ 249
983.56
Trade debtors (Debtors + Bills receivable)
339. (e) Average collection period =
Sales per day
Net credit sales
Sales per day =
No. of working days
Trade debtors x No.of working days
or, Avg. collection period =
Net Credit sales
(1,86,000 + 48,000)
= x 365 = 231 days.
(6,00,000 − 1,10,000 − 1, 20,000)
289

295. Financial Management
340. (a) Gross profit ratio:
Gross profit = Sales – Cost of sales
= Rs.25,20,000 – Rs.19,20,000 = Rs.6,00,000
Rs.6,00,000
Gross profit ratio = x 100 = 23.81%
Rs.25,20,000
Net profit ratio:
Net profit Rs.3,60,000
Net profit ratio = x 100 = x 100 = 14.29%.
Sales Rs.25,20,000
Net credit annualsales
341. (d) i. Debtors turnover ratio =
Average trade debtors
Net credit annual sales = Rs.2,70,000 – Rs.20,000 = Rs.2,50,000
Rs.55,000 + Rs.45,000
Average trade debtors = = Rs.50,000
2
Rs.2,50,000
Debtors turnover ratio = = 5 times.
Rs.50,000
ii. Average collection period
Average trade debtors x No.of days in a year Rs.50,000 x 365
= = = 73 days.
Net credit annualsales Rs.2,50,000
342. (b) Average collection period:
365
x Avg. debtors
Credit sales
Sita Gita Ind. norm.
365 365
= x 182.60 x 88.88
550 500
= 121 days = 65 days 80 days
Hence, in debtors collections, Sita Ltd. is not performing as good as Gita Ltd. as the
collection period is longer than the industry norm.
343. (e) Average payment period :
365
x Avg. creditors
Credit purchases
Sita Ltd. Gita Ltd. Ind. norm.
365 365
= x 115 x 48
400 300
= 105 days = 58 days 75 days
Gita Ltd. is able to pay its creditors in 58 days as against the industry average of 75 days,
whereas Sita Ltd. is taking 105 days to pay its creditors.
Dividend 2
344. (d) i. Dividend yield on ordinary shares = x 100 = x 100 = 5%
Market price 40
EPS
ii. The earnings yield = x 100
Market price
(15,00,000 − 50,000) ÷ 3,00,000
= x 100 = 12.08 times.
40
290

296. Part II
CA
345. (b) Current ratio = =4
CL
CA − Inventory
or CA = 4CL = 4 x 15.5 = 62 lakh = Acid test ratio = = 2.80
CL
(or) CA – Inventory = 2.80 x 15.5 = Rs.43.4 lakh
Inventory = 62 – 43.4 = Rs.18.6 lakh
COGS
Inventory turnover ratio = = 6.452
Inventory
∴ COGS = Rs.120.01 lakh
120.01
Sales = = Rs.171.44 lakh
0.7
Sales = 6.452 x 18.6 = Rs.120 lakh
Gross profit
Gross profit margin = = 0.30
Sales
∴ Gross profit = 171.44 x 0.30 = Rs.51.43 lakh
Selling and administration expenses = 171.44 x 0.10 = Rs.17.14 lakh
Income Statement
(Rs. in lakh)
Sales 171.44
Cost of Goods Sold 120.01
Gross profit 57.43
Selling and Administration expenses 17.14
EBIT 34.29
Financial expenses 3.00
EBT 31.29
Tax @ 40% 12.52
PAT 18.77
CA
346. (c) Current ratio = =4
CL
or CA = 4CL = 4 x 15.5 = 62 lakh
CA − Inventory
Acid test ratio = = 2.80
CL
(or) CA – Inventory = 2.80 x 15.5 = Rs.43.3 lakh
(or Inventory) = 62 – 43.4 = Rs.18.6 lakh
COGS
Inventory turnover ratio = = 6.452
Inventory
or, COGS = 6.452 x 18.6 = Rs.120.01 lakh
120.01
∴ Sales = = 171.44
0.7
Accounts receivable x 365
ACP = = 75
Sales
Sales 171.44
Or, Accounts receivable = ACP x = 75 x = Rs.35.23 lakh
365 365
291

297. Financial Management
Cash = C.A – Inventory – Accounts Receivable = 62 – 18.6 – 35.23 = 8.17
3 Interest paid
Long-term debt = = Rs.20 lakh =
0.15 Rate of interest
Net worth
= 3.975
Long-term debt
∴ Net worth = 3.975 x 20 = Rs.79.5 lakh
Balance Sheet
Liabilities Amount Assets Amount
Net Worth 79.50 Fixed Assets 53.00
Inventory 18.60
Long term Debt 20.00 Accounts Receivable 35.23
Current Liability 15.50 Cash 8.17
115.00 115.00
EBIT − Tax 1200 − 280
347. (d) Return on Assets = = =0.0645.
Average Assets (12000 + 16500) / 2
348. (b) Net income for year 2005 = 1000 x 1.10 =Rs.1,100
Assets = 3500 x 1.10 =Rs.3850
Debt = 1400 x 1.10 = Rs.1540
Equity = 2100 + 1100 =Rs.3200
Balance = 3200 + 1540 –3850 =Rs.890.
349. (a) According to the Du Pont analysis
Return on equity = (Net profit/Sales) x (Sales/Average assets) x
(Average assets/Average equity).
Assets/equity = 1+D/E =1+1 =2
Return on equity = 4 x 3 x2 = 24% p.a.
PAT = 40000 –10000 =Rs.30000
Sales = 30000/0.04 = Rs.7,50,000
Average Assets = sales /3 = 2,50,000
Return on Assets = EBIT – Tax/ Average Assets = 40,000 – 14,000/2,50,000 = 12%.
350. (b) Net Working Capital = Total of Current Assets –Total of Current Liabilities
= (300+2000+2400)-(2000+1500)=Rs.1200
Current Ratio = Current Assets / Current Liabilities = 4700 / 3500 = 1.34
Debt Ratio = Total Debt / Total Liabilities = (4000+2000)/(4000+2000+1500+500+6500) = 0.41.
351. (d) Sales = Rs.6 m
Asset turnover = 5
Asset = sales / asset turnover = 6 / 5 = Rs.1.2m
Net Profits = Rs.0.15m
Return on assets = Net Profit / Assets = .15/1.2 = 0.125 = 12.5%
New Assets = 1.2 x 1.18 = Rs.1.416m; New Net profit = Rs.0.21 mm
0.21
Return on assets after installation of new equipment = = 14.8%.
1.416
292

298. Part II
352. (b) After issue of debt
Equity = Rs.7500 debt = Rs.2500, EBIT =1500
PAT = 1500 –2500X0.10 =Rs.1250
ROA = EBIT /TA = 1500/10000 =15%
ROE = PAT / Equity = 1250/7500 =16.67%.
Net profit 5
353. (a) At present Return on Equity (ROE) = = = 0.625 i.e. 62.5%
Equity 5+ 3
Return on equity (ROE) can also be computed as:
Net profit Sales Total assets
x x
Sales Total assets Equity
Given:
Net profit = Rs.5 million
Sales = Rs.40 million
Total liabilities = Total debt + Net worth
= Long-term loans + Current liabilities & provisions + Paid-up equity
share capital + Reserves & surplus
= (8 + 4) + (5 + 3) = Rs.20 million
Net profit 5
Existing net profit margin = = = 0.125 i.e. 12.5%
Sales 40
Total assets = Total liabilities = Rs.20 million.
Sales 40
Total asset turnover = = = 2.00
Total assets 20
Total assets 20
Total asset to equity ratio = = = 2.50
Net worth (5 + 3)
Existing ROE = 62.5%
Required ROE = 62.5% + 7.5% = 70%
ROE 70
∴ Required net profit margin = = = 14%
Sales Total assets 2.00 x 2.50
x
Total assets Net worth
∴ Change in net profit margin = 14% – 12.5% = 1.5% (increase).
EBIT* 200 1
354. (c) Return on investment = = = = 0.3333 i.e. 33.33%
Total assets 600 3
PAT 140 140
Return on equity = = = = 0.35 = 35%
Equity (250 + 150) 400
* Since there is no interest expense, EBIT = Profit before tax = Profit after tax + tax
= 140 + 60 = Rs.200 lakh.
355. (b) Net worth = 1,50,000+75,000 =Rs.2,25,000
Long term debt/net worth = 0.4, long term debt = 2,25,000X0.4 =Rs.90,000
Total Liabilities = 3,90,000 so total assets = Rs.3,90,000
Sales/Total Assets =3.5, so Sales = 3.5 x 3,90,000 =Rs.13,65,000
GP/Sales =0.15 so Cost of goods sold = 13,65,000 X 0.85 = Rs.11,60,250
Cost of goods sold / Inventory = 6, Inventory = 11,60,250/6 = Rs.1,93,375
Account receivable = Sales /360/15 = 56,875
Quick ratio = 1, (Cash + Account receivable)/ (Notes and payable) =1
So cash = 18,125.
293

299. Financial Management
356. (c)
2003 2004
Sales 1,000.00 1100
Cost 750.00 825
PBIT 250.00 275
Interest 25.00 25
PBT 225.00 250
Tax 90.00 100
PAT 135.00 150
Dividend – 75
Retained earning – 75
Assets at the beginning = 2600 average assets = 1100/0.40=2750
So total assets = 2750 x 2 =5500
Assets at 2000 = 5500 – 2600 =2900
Equity = 2100+75 =2175
Debt = 2900 –2175 = 725
Debt ratio = debt / assets = 725/2900 = 0.25
357. (b) CA = 1000 + 400+350 = Rs.1750
CL = 200+350 =Rs. 550
Net working capital = Rs.1,200 (1,750 – 550)
Current ratio = CA/CL = 1750/550 =3.18
Debt ratio = (Long term debt + lease payment) / (Long term debt + lease payment +Equity)
= (7,000+1,500)/(7,000+1,500+8,000)
= 8,500/16,500 =0.52.
358. (e)
1 2
Operating Income 1500 2000
Interest on debt @10% 300 300
Net income 1200 1700
No. of outstanding share after Buyback 700 700
EPS = net Income /no of share 1.71 2.43
Return on share = EPS / face value 17.1% 24.3%
359. (c) P/E ratio = 3, EPS =6 P = P/E X EPS = 18
Dividend Yield = dividend per share / Market price
So, Dividend per share = Dividend yield X market price = 0.3X18 = Rs.5.4.
360. (c) Dividend pay out ratio = DPS/EPS
DPS = Rs.3, Dividend pay out ratio = 0.60, EPS = DPS / Dividend payout =3/0.60 = Rs.5.
361. (d) EBIT = Total assets X Earning power = 20,000 X0.3 =6000 , Interest = Rs.1500
Interest coverage ratio = EBIT / Interest = 6000/1500 = 4.
362. (c) EPS = Rs.1 and dividend payout ratio = 30% retail earning ratio = 70% . So the Book
value per share will increase by Rs.0.7.
363. (a) Given P/E ratio = 12 , dividend payout ratio = 0.6 i.e. DPS/EPS = 0.6
Price per share = 12 X EPS = 12 X DPS/0.6
DPS/P i.e dividend Yield = 0.6/12 = 5%.
364. (c) Capitalization rate = Net Income /( price per share x No. of outstanding share)
= 2/(28 X 0.56) = 0.127.
294

300. Part II
365. (d) Here, the total debt-equity ratio is = 4:3 and the amount of total assets is Rs.3500 lakh.
4
So, the total amount of debt is = Rs.3500 lakh × = Rs.2000 lakh.
7
But the amount of short term debt is Rs.500 lakh.
Hence, the amount of long term debt = 2000 – 500 = Rs.1500 lakh.
366. (a) From Du Pont Analysis,
Net Profit Sales Total Assets
Return on Equity = × ×
Sales Total Assets Total Equity
Total Assets
Or, 12 percent = 7.5 percent × 1.20 ×
Total Equity
Total Assets
Or, 12 percent = 9 percent ×
Total Equity
Total Equity
Or, = 0.75
Total Assets
Hence, the debt-asset ratio for the company is 1 – 0.75 = 0.25.
Sales Rs.350 lakh
367. (c) Inventory = = = Rs.50 lakh
Inventory turnover ratio 7
Current assets = Current liabilities × current ratio = Rs.70 × 1.4 = Rs.98 lakh.
Quick assets = Current assets – Inventories = Rs.98 lakh – Rs.50 lakh = Rs.48 lakh
Receivables = Rs.48 lakh × 0.75 = Rs.36 lakh
So, the amount of cash and bank balance will be = Rs.98 lakh – Rs.50 lakh – Rs.36 lakh
= Rs.12 lakh.
Average accounts receivable
368. (b) Average collection period =
Average daily sales
S
Let the annual sales of the company is = S and so the amount of average daily sales =
360
Average accounts receivable
So, the average daily sales =
Average collection period
The average amount of account receivables for the company is : {20 + 30}/ 2 = Rs.25 lakh.
Hence,
S Rs.25 lakh
= Or, S = Rs.300 lakh.
360 30
369. (b) Let total amount of asset be = Rs.300 lakh where the amount of debt is Rs.100 lakh.
The amount of PBIT = Rs.300 × 14 percent = Rs.42 lakh
Interest expenses = Rs.100 lakh × 0.08 = Rs.8 lakh
Hence, PBT = Rs.34 lakh and PAT = Rs.34 × 0.6 = Rs.20.40 lakh
20.40
So, the return on equity = = 10.20 percent.
200
370. (e) For any company, current ratio is the ratio between the current assets and current
liabilities while the acid test ratio is the ratio between the current assets less inventories and
current liabilities. So, if the current ratio is 2.75 and the acid test ratio is 2.00, then it can be
said that the inventories constitute for 75 percent of the current liabilities.
295

301. Financial Management
371. (d) Sales turnover = Rs.120 lakh and so credit sales = Rs.120 × 0.8
= Rs.96 lakh
96
So, the average daily credit sales = = Rs.0.267 lakhs
360
And the average account receivables = ( 8.50 + 11.50 ) / 2 = Rs.10 lakh
Average accounts receivable
So, the required average collection period is =
Average daily credit sales
10
= = 37.5 days .
0.267
372. (a) Fixed charges coverage ratio =
Earnings before depreciation, interest and taxes
Loan repayment installemnt Pr eference dividends
Debt interest + +
1-tax rate l − tax rate
Here interest on term loan and debentures = 10 × 12% + 24 X 14% = Rs.4.56 lakhs.
10 24
Loan repayment installments = + = 2 + 4 = Rs.6 lakhs.
5 6
Preference dividends = 20 × 0.15 = Rs.3.00 lakhs.
The amount of dividend paid by the company = Rs.1.50 × 600,000 = Rs.9.00 lakh and so the net
profit of the company is = 9 + 3 = Rs.12 lakh. So, profit before tax = 12/(1 - 0.4 ) = Rs.20 lakh
Hence, the profit before interest, depreciation and taxes was = 20 + 5.44 + 4.56 = Rs.30 lakh
So, the required fixed charges coverage ratio is
30 30 30
= = = = 1.534.
6+3 4.56 + 15.00 19.56
4.56 +
1 − 0.4
373. (d) Gross profit = Rs.45 lakhs and gross profit margin = 0.2
45
So, the sales turnover = = Rs.225 lakhs
0.2
Sales 225
Total assets = = = Rs.75 lakhs.
Total assets turnover ratio 3
But, total assets = Total liabilities = Total Debt + Total equity
and the total debt equity ratio = 1.50
3
So, total debt = 75 × = Rs.45 lakhs.
2+3
2
and total equity = 75 × = Rs.30 lakhs
2+3
Current Assets 35
Now, the amount of current liabilities = = = Rs.14 lakhs
Current Ratio 2.5
So, the amount of term loan in its balance sheet = 45 – 14 = Rs.31 lakhs.
Earnings per share
374. (c) Capitalization rate =
Market price
Net income 20
EPS = = = 3.57
Number of outstanding shares 5.6
3.57
Capitalization rate = = 0.1275.
28
296

302. Part II
375. (b) Equity multiplier = 1/(1 – Debt to assets ratio)
4.55 = 1/(1 – Debt to assets ratio)
Debt to assets ratio = 0.78.
376. (c) Dividend yield = Dividend per share/Market price
Dividend yield = 0.3, EPS = 6, P/E = 3
MPS = EPS x P/E = 6 x 3 = 18
0.3 = DPS / 18
DPS = 0.3 x 18 = 5.4.
EBIT
377. (d) Interest coverage ratio =
Interest expense
EBIT = 0.3 x 20,000 = 6,000
Interest coverage ratio = 6,000/1,500 = 4.
378. (a) Stock velocity or inventory turnover ratio = Cost of goods sold/Average inventory.
6 = 54,000/(Opening stock + 10,000)/2
Opening stock = 8,000.
379. (c) According to the Du Pont Analysis Return on assets
= (Net profit/Sales) x (Sales/Average assets) x (Average assets/Average equity)
Equity multiplier = (Average assets/Average equity) = 1/(1– Debt to assets ratio)
Return on net worth = 7.5 x 0.9 x (1/1 – 0.75) = 27%.
380. (a) According to the Du Pont analysis Return on assets
Net profit Sales Average assets
= x x
Sales Average assets Average equity
Return on equity = 0.2 x 1.5 x 2 = 60% p.a.
381. (e) Total assets = 1,500. The total assets comprises of debt and equity
Debt – 3 implies 900 i.e. 1,500 x 3/5
Equity – 2 implies 600 i.e. 1,500 x 2/5
If the short-term debt is 300 then long-term debt would be 900 – 300 = 600.
382. (c) Interest coverage ratio = EBIT/interest expense
3.5 = EBIT/12,000
EBIT = 42,000
EBT = EBIT – Interest
EBT = 42,000 – 12,000 = 30,000.
383. (b) Quick ratio = (Current assets – Inventory)/ Current liabilities
Current assets = Inventories + Receivables + Marketable securities + Cash
Quick ratio = (10 – 5)/5 = 1.
384. (e) According to the Du Pont Analysis Return on equity = (Net profit/Sales) x (Sales/Average
assets) x (Average assets/Average
equity).
ROE = 5 x 2 x 2.5 = 25%
Debt/equity = 1.5 (3/2) implies total assets of 5. Debt/assets = 3/5 or 0.6
Equity multiplier = (Average assets/Average equity) = 1 / (1 – debt to assets ratio) = 2.5.
385. (a) Quick ratio = (Current assets – Inventory)/ Current liabilities = 3 + 0.2/2 = 1.6.
297

303. Financial Management
386. (c) According to the Du Pont Analysis Return on equity = (Net profit/Sales) x (Sales/Average
assets) x (Average assets/Average
equity)
ROE = 6 x 3 x 1.5 = 27%.
387. (d) Dividend yield = Dividend per share/Market price of the share = 25/80 = 31.25%.
388. (a) ROE = EPS/Book value of the share
Book value = 3.5/ 0.3 = Rs.11.67.
389. (c) Earning power = EBIT/Average total assets
Asset turnover = Sales/Average assets
(Assume sales to be 100)
2 = 100/Average assets
Average assets = 50
Earning power = 14.7/50 = 0.294 or 29.4%.
390. (a) PE ratio = Market price/Earnings per share
Dividend pay-out ratio = Dividend per share/ Earnings per share
Dividend yield = Dividend per share/ Market price per share
Dividend yield = Dividend pay-out ratio x 1/PE ratio = 0.6 x 1/12 = 0.05 or 5%.
391. (c) Equity multiplier = 1/(1 – Debt to assets ratio)
4 = 1/(1 – Debt to assets ratio)
Debt to assets ratio = 0.75.
392. (c) Intrinsic value of a share = Expected EPS x PE ratio
20 = EPS x 5
EPS = 4
Expected EPS = (Expected PAT – Preference dividend)/Number of shares
4 = (10, 00,000 – Preference dividend)/1,00,000
Preference dividend = 6,00,000.
393. (d) As current liabilities is 2,000,
Quick assets = 2,000
1.2 = 2,000 + stock / 2,000
Stock = 400
Inventory turnover = Cost of goods sold/Average inventory
6 = COGS/40
Cost of goods sold = 2,400.
394. (d) Dividend yield = Dividend per share / Market price of the share
Dividend per share = 4% of 10
Dividend yield = 4/150 = 2.666%.
395. (b) Let the current liabilities be 100
Then the current assets will be 140 and the stock will be 20
Quick ratio = 120/100 = 1.2
After an increase of 10% in current assets the figure changes to 154 i.e .(140 + 14)
Quick ratio = 134 / 100 = 1.34
Increase in Quick ratio = (1.34 – 1.2)/1.2 = 11.67%.
396. (b) Quick ratio = Current assets – Stock/Current liabilities = (50 – 30)/30 = 20/30 = 0.67.
298

304. Part II
397. (a) Current ratio = Current assets/Current liabilities = 160/100 = 1.6.
After an increase of 10% in current assets the figure changes to 176, i.e. (160 + 16).
Current ratio = 176 / 100 = 1.76
Increase in current ratio = (1.76 – 1.6) / 1.6 = 10%.
398. (b) Return on equity = Net profit margin x Asset turnover ratio x Asset – Equity ratio
0.14 = 0.08 x Asset turnover ratio x 1.2
Asset turnover ratio = 1.46
When the net profit margin and asset-equity ratio are changed and ROE remains unchanged
then 0.14 = 0.04 x Asset turnover ratio x 1.5
Asset turnover ratio = 2.33.
399. (d) Return on investments = EBIT/Total assets
Net profit margin = Net profit / Sales,
Total assets turnover = Sales/Average total assets
Return on investments = Net profit margin x Total assets turnover = 0.05 x 2 = 0.1 or 10%.
400. (a) Average collection period = Average accounts receivable/Average daily sales
Current ratio = CA/CL
CA = 1.3 x 16,00,000 = 20,80,000.
Average accounts receivable = 60% of 20,80,000 = 12,48,000.
Asset turnover ratio = Sales/Average assets
Sales = 1.2 x 52,00,000 = 62,40,000
Average daily sales = 62,40,000/360 = 17,333
Average collection period = 12,48,000/17,333 = 72 days.
401. (c) Dividend pay-out ratio = Dividend per share/Earnings per share
0.6 = 3/Earnings per share
Earnings per share = 3/0.6 = 5.
402. (d) Average collection period = Average accounts receivable/Average daily sales
Average daily sales = 9,00,000/360 = 2,50,000
When the average collection period is 20 days Average accounts receivable will be
2,50,000 x 20 = 50,00,000
When the average collection period is 30 days Average accounts receivable will be
2,50,000 x 30 = 75,00,000.
403. (b) ROE = [(ROI + (ROI – r ) D/E)] (1 – t)
0.2 = [(ROI + (ROI – 0.1) 1.5)] (1 – 0.35)
ROI = 18.304 or 18.31%.
404. (c) Return on equity = Net profit margin x Asset turnover ratio x Asset to Equity ratio
ROE = 0.07 x 2.5 x 1.2 = 0.21 or 21%.
405. (e) Number of shares = Capital required/Issue price = 9 crore/15 = 60 lakh.
Capital required = Total requirement – Funds generated internally.
299

305. Financial Management
Funds Flow Analysis
406. (c)
i. Schedule of Changes in the Working Capital:
Working Capital Charge
Year 2 Year 1 Increase Decrease
Current Assets :
Cash 6,200 4,800 1,400 –
Inventory 8,400 6,200 2,200 –
Accounts receivable 4,700 5,800 – 1,100
(A) 19,300 16,800
Current Liabilities:
Creditors 7,100 8,300 1,200 –
Accounts Payable 5,800 5,600 – 200
Provisions for Doubtful Debts 1,700 2,500 800 –
(B) 14,600 16,400
Working Capital (A–B) 4,700 400
Change in Working Capital 4,300
5,600 5,600
ii. Sources and applications of working capital:
Rs.
Sources of funds:
Profit from operations (see Note 1: PAT + depreciation during year 2) 7,300
Issue of capital 2,000
Total working capital generated 9,300
Applications:
Purchase of machinery 1,000
Payment of dividend 4,000
Total working capital used 5,000
Net change in working capital 4,300
9,300
Note: 1
Profit from operations:
Net profit 5,000
Depreciation on buildings 1,200
Depreciation on machinery 1,100
7,300
Hence the change in working capital is Rs.4,300
and total working capital generated is Rs.9,300.
407. (a) Rs.
Net profit for the year 1,24,000
Add: Depreciation 1,40,000
Add: Provision for Taxation 20,000
2,84,000
Less: profit on sale of fixed assets 4,000
Profit form operations 2,80,000
300

306. Part II
408. (a) Provision for depreciation for 200 x = 1,199 – 1,029 = 170
Rs.
Net profit = 14,990
Add: Provision for depreciation for 200 x = 170
Funds from operation = 15,160
Sources and uses of funds statement on working capital basis:
Sources: Rs.
Funds from operation = 15,160
15,160
Uses :
Increase in fixed asset = 1,694
Cash dividend = 7,500
Tax on dividend = 750
Repayment of loan fully = 1,425
11,369
Increase in working capital = 3,791
15,160
Hence, funds from operations is 15,160 and increase in working capital is 3,791.
409. (d) Cash Basis
Amount Rs. Amount Rs.
Sources of cash:
Increase in equity capital operations: 1,00,000
Net profit (Increase in retained earnings + dividend paid) 72,000
Depreciation 1,89,000 2,61,000
Increase in long-term debt 1,00,000
Increase in current liabilities
Accounts payable 1,14,000
Bank borrowings 85,000 1,99,000
Decrease in current assets other than cash
Inventories 49,000
Total cash generated 7,09,000
Uses of Cash:
Increase in gross fixed assets (Increase in net fixed assets +
depreciation for the year) 4,74,000
Increase in current assets other than cash
Accounts receivable 1,82,000
Decrease in current liabilities
Accruals 1,12,000
Total cash used 7,68,000
Net change in cash position = 7,68,000 – 7,09,000 = 59,000.
410. (b)
Amount (Rs.)
Increase in P&L A/c (48,500 – 35,200) 13,300
+ Transfer to general reserve 12,000
+ Proposed dividend 24,000
+ Depreciation for current year (46,000 – 35,000) 11,000
Funds from operations 60,300
301

307. Financial Management
411. (d)
Schedule of change in working capital
2003 2004 Inc in W.C Dec in W.C
I. Current Assets
Stock 1,79,000 1,89,000 10,000 –
Debtors 1,31,500 1,38,700 7,200 –
II. Current Liabilities
Creditors 1,09,800 1,29,200 – 19,400
17,200 19,400
Net decrease in working capital 2,200
412. (d) From solution 63 and 64. We get
Funds from operations = Rs.60,300
Decrease in working capital = Rs.2,200
Funds flow statement – March 31st, 2004.
Sources Amount Application Amount
Funds from operation 60,300 Purchase of fixed assets 17,000
Issue of share capital 25,000 Repayment of bank overdraft 61,000
Issue of Debentures 10,500 Purchase of investment 4,000
Decrease in working capital 2,200 Payment of dividend 16,000
98,000 98,000
413. (a) Funds from operations:
Div. A (Rs.) Div. B (Rs.)
Profit after tax 60,000 60,000
+ Depreciation 40,000 40,000
1,00,000 1,00,000
414. (d)
Div. A (Rs.) Div. B (Rs.)
Increase in capital & Reserves 1,25,000 1,25,000
Less current year profit 60,000 60,000
Issue of share capital 65,000 65,000
+ long term debt 2,50,000 –
Funds procured 3,15,000 65,000
415. (a) Change in Working Capital:
Working capital Div. A (Rs.) Div. B (Rs.)
Increase – –
Decrease 25,000 1,25,000
302

308. Part II
416. (c) Total Uses:
Rs. In lakhs
Decrease in liabilities 25
Decrease in provisions 10
Decrease in short term borrowings 15
Increase in Assets: 20
Increase in Inventories 15
Increase n cash 5
Total uses (Total sources) 45
20
Proportion of resources used in increasing the assets = = 44.44%.
45
417. (b) Funds form operations:
Profit and loss adjustment account
To loss on sale of Fixed Assets 4,000 By balance b/d 85,000
Depreciation 95,000 Open stock adjustment 6,000
Premium on redemption of 1800 ⎡ 10 ⎤
debentures ⎢54, 000 × 90 ⎥
⎣ ⎦
Preliminary expenses 10,000 Funds from operation 2,35,800
Provision for tax 50,000 (Balancing figure)
Proposed dividend 36,000
Transfer to general reserve 30,000
Balance c/d 1,00,000
3,26,800 3,26,800
418. (b) Schedule of change in working capital
Amount in lakh
31.12.03 31.12.04 Inc. in WC Dec. in WC
I. Current Assets
Bank 5 20 15 –
Debtors 125 200 75 –
Stock 170 200 30 –
Others 25 30 5 –
II. Current Liabilities
Creditors 60 80 – 20
Bank Overdraft 230 280 – 50
Other liabilities 40 80 – 40
Total 125 110
Net increase in Working Capital 15
419. (e) Funds from operations:
Profit and loss adjustment account
Particulars Amount Particulars Amount
(Rs.) (Rs.)
To proposed dividend 75 By balance b/d 50
To depreciation 90 By funds from operations 265
To transfer to General reserve 65 (Balancing figure)
To balance c/d 85
315 315
303

309. Financial Management
420. (a) Sources of funds:
Rs. in lakh
Increase in liabilities:
Increase in bills payable 4
Decrease in assets:
Bank 7
Stock 28
Total sources 39
4
Proportion of sources arising due to increase in liabilities = = 0.1025 or 10.25%.
39
421. (e) Funds from operations obtained from the profit and loss adjustment a/c.
Particulars Amount Particulars Amount
To preliminary expenses 10,000 By balance b/d 60,000
To depreciation on plant 40,000 By profit on sale of land 60,000
and building
To depreciation on land & 20,000
building
To loss on sale of plant 10,000 By funds from operations 3,48,000
To goodwill return off 40,000 (Balancing figure)
To premium paid on preference 6,000
shares
To transfer to general reserve 80,000
To provision for tax 90,000
To preference dividend 16,000
To dividend 50,000
To balance c/d 96,000
4,68,000 4,68,000
422. (a) Schedule of change in Working Capital
31.12.03 31.12.04 Inc. WC Dec. WC
I. Current Assets:
Bank 50 36 – 14
Debtors 300 500 200 –
Stock 174 118 – 56
Bills receivable 40 60 20 –
II Current Liabilities:
Creditors 110 166 – 56
Bills payable 40 32 8 –
Total 228 126
Net inc. in W.C 102
423. (b)
Schedule of changers in working capital
2003 2004 Increase in Decrease in
working capital working capital
Rs. Rs.
Current Assets:
Cash 96,000 1,40,000 44,000 –
Debtors 3,62,000 3,40,000 – 22,000
Stock in trade 2,42,000 2,72,000 30,000
7,00,000 7,52,000
304

310. Part II
2003 2004 Increase in Decrease in
working capital working capital
Rs. Rs.
Current liabilities:
Trade creditors 2,12,000 1,40,000 72,000
2,12,000 1,40,000
Working capital (CA – 4,88,000 6,12,000
CL)
Net increase in W.C 1,24,000 1,24,000
6,12,000 6,12,000 1,46,000 1,46,000
424. (b) Statement showing changes in working capital
2003 2004 Increase in Decrease in
working capital working capital
Rs. Rs.
Current Assets:
Cash 50,000 1,40,000 90,000
Debtors 1,96,000 1,80,000 16,000
Closing stock 1,74,000 2,40,000 66,000
4,20,000 5,60,000
Current liabilities:
Trade creditors 1,00,000 90,000 10,000
Bills payable 40,000 70,000 30,000
Loans (payable during – 40,000 40,000
2003)
1,40,000 2,00,000
W.C (CA – CL) 2,80,000 3,60,000
Net increase in W.C 80,000 80,000
3,60,000 3,60,000 1,66,000 1,66,000
425. (b) Calculation of Funds from operations
Adjusted P & L A/c
To provision for depreciation 28,000 By opening balance –
To transfers to general reserves 40,000 By profit on sale of machine 10,000
To provision for tax 20,000 By refund of tax 6,000
To loss on sale of investment 10,000 By dividends received 4,000
To discount on issue of debentures 4,000 By funds from operations 3,28,000
To preliminary expenses 6,000 (balancing figure)
To closing balance 2,40,000
3,48,000 3,48,000
426. (b) Adjusted profit and loss A/c
To depreciation 20,000 By opening balance 2,00,000
To preliminary expenses 10,000 By profit on sale of plant 10,000
To dividend equalization fund 30,000 By funds from operations 1,70,000
To interim dividend 20,000 (balancing figure)
To closing balance 3,00,000
3,80,000 3,80,000
305

311. Financial Management
427. (c) Provision for depreciation A/c
Rs. Rs.
To Building A/c 20,000 By balance b/d 50,000
To balance c/d 60,000 By adjusted p/L A/c 30,000
80,000 80,000
Building A/c
To balance b/d 2,00,000 By cash (sales) 1,20,000
To cash purchases 2,00,000 By provision for depreciation 20,000
To adjusted p/l A/c 40,000 By balance c/d 3,00,000
(profit on sale)
4,40,000 4,40,000
Adjusted profit and loss A/c
To provision for 30,000 By balance b/d 80,000
depreciation A/c
To balance c/d 1,60,000 By building A/c (profit on sale) 40,000
By funds form operations
(balancing figure) 70,000
1,90,000 1,90,000
428. (b) Sale of building for Rs.1,20,000 and funds from operations of Rs.70,000 are sources of funds.
429. (e) Equity Share Capital A/c
Rs. Rs.
To balance c/d 6,00,000 By balance b/d 4,00,000
By cash issue (balancing figure) 2,00,000
6,00,000 6,00,000
Share Premium A/c
Rs. Rs.
To balance c/d 60,000 By balance b/d 40,000
By cash issue of shares 20,000
(balancing figure)
60,000 60,000
9% debentures A/c
Rs. Rs.
To debenture redemption 60,000 By balance b/d 2,00,000
To balance c/d 3,00,000 By cash issue 1,60,000
3,60,000 3,60,000
Sources of funds:
Rs.
Issue of equity share – 2,00,000
Share premium – 20,000
Issue of debentures – 1,60,000
3,80,000
430. (c) Redemption of debentures Rs.60,000 is an application of funds.
306

312. Part II
431. (b) Trade Investments A/c
Rs. Rs.
To balance b/d 1,00,000 By dividend (Pre-acquisition) 4,000
To cash purchases 64,000 By cash sale 20,000
(balancing figure) By balance c/d 1,40,000
1,64,000 1,64,000
Rs.20,000 realized from sale of trade investments is a source of funds.
432. (d) Investments purchased during the year for Rs.64,000 is an application of funds.
433. (d) Provision for taxation A/c
Rs. Rs.
To cash (tax paid) 60,000 By balance b/d 1,00,000
To balance c/d 1,50,000 By adjusted P/L A/c 1,10,000
(balancing figure)
2,10,000 2,10,000
Adjusted Profit and Loss A/c
Rs. Rs.
To cash provision for tax 1,10,000 By opening balance 4,00,000
To Closing Balance 6,00,000 By funds from operations 3,10,000
(balancing figure)
7,10,000 7,10,000
Funds from operations of Rs.3,10,000 is a source of funds.
434. (a) Tax paid Rs.60,000 is an application of funds.
435. (e) Proposed Dividend A/c
Rs. Rs.
To cash dividend paid 1,60,000 By balance b/d 1,60,000
(balancing figure)
To balance c/d 2,00,000 By adjusted P/L A/c 2,00,000
3,60,000 3,60,000
Adjusted P/L A/c
Rs. Rs.
To proposed dividend A/c 2,00,000 By opening balance 6,00,000
To closing balance 8,00,000 By funds from operations 4,00,000
(balancing figure)
9,60,000 9,60,000
307

313. Financial Management
436. (e)
Schedule of changes in working capital
2003 2004 Increase in Decrease in
W.C W.C
Rs. Rs. Rs. Rs.
Current Assets:
Cash at bank 8,000 18,000 10,000 –
Debtors 33,000 39,000 6,000 –
Stock 18,000 14,000 – 4,000
59,000 71,000
Current liabilities:
Creditors 18,000 10,000 8,000
18,000 10,000
Working capital (CA – CL) 41,000 61,000
Net increase in W.C 20,000 20,000
67,000 61,000 24,000 24,000
Funds flow statement
Sources Rs. Applications Rs.
Issue of capital Purchase of plant
(1,70,000 – 1,60,000) 10,000 (68,000 – 48,000) 20,000
Mortgage 10,000 Net increase in W.C 20,000
Funds from operations 20,000
40,000 40,000
The total sources of funds from funds flow statement is Rs.40,000.
437. (a) Schedule of changes in working capital (W.C)
(Rs. in lakh)
2003 2004 Increase in Decrease in
W.C W.C
Current assets:
Inventories 3608 4150 542
Debtors 1374 2314 940
Cash and bank balances 1688 1024 664
Loans and advances
(Assumed to be short- term) 1240 1326 86
7910 8814
Current liabilities:
Current liabilities 3066 2482 584
Provisions (Assumed to be 654 924 270
current liabilities)
3720 3406
Working capital (CA – CL) 4190 5408 1218
Net increase in W.C 1218
5408 5408 2152 2152
308

314. Part II
438. (b) Calculation of funds from operations
Rs.
Reserves in the beginning of 2003 3320
Reserves at the end of 2004 4918
Profit for the year (4918– 3320) 1598
Add: Depreciation (3854– 3300) 554
(or)
Funds From Operates 2,152
439. (e) Schedule of changes in working capital:
2003 2004 Increase Decrease
in W.C in W.C
Currents Assets: Rs. Rs. Rs. Rs.
Sundry debtors 20,000 24,000 4,000
Stock 30,000 35,000 5,000
Bank 1,200 3,500 2,300
Cash 300 500 200
51,500 63,000
Current liabilities
Current liabilities 24,500 17,800 6,700
Working capital (CA – CL) 27,000 45,200
Net increase in W.C 18,200 18,200
45,200 45,200 18,200 18,200
440. (a) Calculation of funds from operations:
Closing balance of P/L Account in 2004 1,200
Add: Non-fund and Non-operating items debited to P/L A/c:
Provision for taxation 4,200
5,400
Proposed dividend 5,800
Less: Opening balance of P/L A/c 1,000
Funds from operations 10,200
Alternatively:
Adjusted P & L A/c
Rs. Rs.
To provision for taxation 4,200 By balance b/d 1,000
To proposed dividend 5,800 By funds from operations
To balance c/d 1,200 (balancing figure) 10,200
11,200 11,200
Funds from operations are Rs.10,200 from above calculations.
441. (d) Schedule of changes in working capital
2003 2004 Increase in WC Decrease in WC
Current Assets: Rs. Rs. Rs. Rs.
Cash 9,000 7,800 – 1,200
Debtors 14,900 17,700 2,800 –
Stock 49,200 42,700 – 6,500
73,100 68,200
Current liabilities
Trade creditors 10,360 11,840 – 1,480
Reserve for doubtful debts 700 800 – 100
11,060 12,640
Working capital (CA – CL) 62,040 55,560
Net decrease in WC – 6,480 6,480
62,040 62,040 9,280 9,280
309

315. Financial Management
442. (c) Calculation of funds from operations:
Closing balance of P/L A/c (2004) 10,560
Add: Non fund and non-operating items which have
already been debited to p/l A/c:
Good will written off 5,000
Dividend paid 3,500
19,060
Less: Opening balance of P/L A/c (2003) 10,040
Funds from operations 9,020
(or)
Alternatively:
Adjusted P&L A/c
To dividend paid 3,500 By balance b/d 10,040
To good will written off 5,000 By funds from 9,020
(10,000 – 5,000) operations
To balance c/d 10,560
19,060 19,060
443. (d) Net change in W.C and funds from operations.
Sources Rs. Applications Rs.
Issue of share capital 4,000 Redemption of Debentures 6,000
(74,000 – 70,000) (12,000 – 6,000)
Funds from operations 9,020 Purchase of land 10,000
(30,000 – 20,000)
Net decrease in W.C 6,480 Payment of dividend 3,500
19,500 19,500
So total sources of funds with funds from operations are Rs.19,500.
444. (d) Change is net working capital can be calculated as:
(120 + 60 + 45 – 55) –(100 + 70 +30 – 60) = 170 – 140 = Rs.30 lakh.
445. (a) In this case, purchase of capital equipment (a long-term asset) by taking loan (a long-term
liability) does not have any impact on the net working capital. Purchases of raw materials
will increase raw material but simultaneously there is an equal increase in current liability as
that was purchased on credit. Hence there is no impact on net working capital. Conversion of
preferential shares into equity only changes the capital structure of the company. Therefore,
the net working capital of the company will be Rs.36 lakh – Rs.23 lakh = Rs.13 lakh. Hence,
the answer is (a).
446. (e) Here, the repayment of the debentures prematurely by using the proceeds of the rights
issue does not make any impact on the net working capital as neither of the facts is related to
the working capital. Selling products on credit reduces the amount of inventory in the
company but also simultaneously increases the volume of debtors in the balance sheet of the
company. Therefore, it makes a resultant impact of zero.
447. (b) Change in net working capital = Increase in current assets – Increase in current liabilities
Increase in current assets = 2,500 + 40,000 = 42,500
Increase in current liabilities = 28,000 + 76,500 = 1,04,500
Hence change in working capital = (62,000) or decrease by 62,000.
448. (c) When the debtor’s receivable decreases, the cash balance increase the net effect being
zero. When preference shares get converted into equity there is no effect on the net working
capital.
310

316. Part II
449. (a) Rs.
Decrease in current liabilities = 50,000
Increase in Provisions = 30,000
Net decrease in current liabilities = 20,000
Net change in funds flow statement decrease of 20,000
450. (c) Rs.
Decrease in current liabilities = 55,000
Increase in current assets = 40,000
Change in working capital = Current assets – Current liabilities
Hence the increase in working capital = 95,000
451. (e) Receivables realized has no effect on the current asset position as receivables balance
decrease and the cash balance increase. Debentures converted into equity will not result in any
inflow or outflow of funds. Hence there will be no change in the working capital position.
Leverage
452. (b) Turnover of the firm = Rs.23 x 1,45,000 = Rs.33,35,000
Total cost = Rs.17 x 1,45,000 + Rs.2,80,000 = Rs.27,45,000
EBIT = Rs.(33,35,000 – 27,45,000) = Rs.5,90,000
Interest charges = Rs.10,00,000 x 0.11= 1,10,000
If the earning before taxes is equal to zero.
EBIT should be equal to the interest charges.
Let this happen at a sales level of X units.
Profit function π = (SP – VC)Q – FC;
Where, π stands for EBIT.
Then, (Rs.23 – Rs.17) X – Rs.2,80,000 = Rs.1,10,000
Rs.3,90,000
X = = 65,000 units
Rs.6
or
Re quired EBIT + Fixed cos t 1,10, 000 + 2,80, 000
Sales required = = = 65,000 units
Contribution per unit 6
Therefore, the sales should come down by 80,000 units, i.e., (1,45,000 – 65,000) or 80,000 x
Rs.23 = Rs.18,40,000, so that EBIT is equal to zero.
If EBIT doubles, the new level of EBIT would be equal to Rs.2 x 5,90,000 = Rs.11,80,000.
New level of EBT = EBIT – I = Rs.11,80,000 – Rs.1,10,000 = Rs.10,70,000.
453. (a) Turnover of the firm = Rs.(23 x 1,45,000) = Rs.33,35,000
Total cost = Rs.(17 x 1,45,000) + Rs.2,80,000 = Rs.27,45,000
EBIT = Rs.(33,35,000 – 27,45,000) = Rs.5,90,000
Interest charges = Rs.10,00,000 x 0.11 = Rs.1,10,000
Q(P − V) 1, 45, 000(23 − 17)
Degree of operating leverage = = = 1.475
Q(P − V) − F 1, 45, 000(23 −17) − 2,80, 000
EBIT
The degree of financial leverage is since preferred dividend is zero.
EBIT − I
5,90,000
Hence, DFL = = 1.23
5,90,000 − 1,10,000
Combined leverage = DOL x DFL = 1.475 x 1.23 = 1.814
Hence, degree of operating leverage and combined leverage are 1.475 and 1.814.
311

317. Financial Management
454. (c) Turnover of the firm = Rs.23 x 1,45,000 = Rs.3,35,000
Total sales Rs.33,35,000
The asset turnover of the firm is *
= = 1.11
Total assets Rs.(10,00,000 + 20,00,000)
Since, the asset turnover of the industry is 0.75, the firm is considered to have a high degree
of asset leverage.
*(Assuming that the firm has no other liabilities Debt + Equity = Total Assets)
455. (d)
Firm I:
EBIT = Rs.5,90,000
Less: Interest = Rs.1,10,000
EBT = Rs.4,80,000
Tax rate = 45%
Net earnings = Rs.4,80,000(1 – 0.45) = Rs.2,64,000
No. of shares outstanding = 2,00,000
2,64,000
EPS = = Rs.1.32
2, 00, 000
Firm II:
EBIT = Rs.5,90,000
Less: Interest charges = 0
EBT = Rs.5,90,000
Tax rate = 45%
Net earnings = Rs.5,90,000(1 – 0.45) = Rs.3,24,500
Since both firms have the same total assets and firm II has no debt, equity of firm I would be
Rs.30,00,000. Therefore, the number of shares outstanding would be 3,00,000.
3, 24,500
EPS = = Rs.1.08
3, 00, 000
Difference in EPS = Rs.1.32 – 1.08 = Rs.0.24.
Firm I which has a levered capital structure has a higher EPS because of the tax shield benefit
associated with interest on debt.
456. (b)
Old level New level
A Sales (at Rs.5/unit) 2,50,000 units 2,50,000 + 0.2 x 2,50,000
= Rs.12,50,000 = 3,00,000 units
= Rs.15,00,000
B. Variable cost (Rs.3/unit) Rs.7,50,000 Rs.9,00,000
C. Contribution (A –B) Rs.5,00,000 Rs.6,00,000
D. Fixed Cost Rs.1,00,000 Rs.1,00,000
E. Operating Profit (EBIT) = (C – D) Rs.4,00,000 Rs.5,00,000
F. Less: Interest(at 12%) Rs.60,000 Rs.60,000
G. Less: Tax @ 50% Rs.1,70,000 Rs.2,20,000
H. Net profit Rs.1,70,000 Rs.2,20,000
I. EPS
Net Profit Rs.1,70,000 Rs.2,20,000
=
No.of Shares 80,000 80,000
= Rs.2.125 = Rs.2.75
J. Operating Leverage
Contribution Rs.5, 00, 000 Rs.6, 00, 000
=
Operating profit Rs.4, 00, 000 Rs.5, 00, 000
= 1.25 = 1.2
Operating leverages at the two levels are 1.25 in old level and 1.2 in new level.
312

318. Part II
457. (e)
Old level New level
A. Sales (at Rs.5/unit) 2,50,000 units 2,50,000 + 0.2 x 2,50,000
= Rs.12,50,000 = 3,00,000 units =Rs.15,00,000
B. Variable cost (Rs.3/unit) Rs.7,50,000 Rs.9,00,000
C. Contribution (A – B) Rs.5,00,000 Rs.6,00,000
D. Fixed Cost Rs.1,00,000 Rs.1,00,000
E. Operating profit (EBIT) = (C – D) Rs.4,00,000 Rs.5,00,000
F. Less: interest (at 12%) Rs.60,000 Rs.60,000
G. EBT Rs.3,40,000 Rs.4,00,000
H. Less: Tax @ 50% Rs.1,70,000 Rs.2,20,000
I. Net profit Rs.1,70,000 Rs.2,20,000
J. EPS
Net profit Rs.1, 70, 000 Rs.2, 20, 000
=
No.of Shares 80, 000 80, 000
K. Financial leverage
Operating profit Rs.4, 00, 000 Rs.5, 00, 000
=
Profit before tax Rs.3, 40, 000 Rs.4, 40, 000
= 1.176 = 1.136
The financial leverage at old level in 1.176 and new level is 1.136.
Net Profit
458. (a) Earning per share =
No.of Shares
Rs.1,70,000
At old level = = Rs.2.125
80,000
Rs.2,20,000
At new level = = Rs.2.75
80,000
2.75
Percentage increase in EPS = x 100 = 129.4 = 129.4 – 100 = 29.4% increase.
2.125
459. (a)
A B C
Combined leverage 1.14 x 1.27 1.23 x 1.3 1.33 x 1.33
= Operating leverage x Financial leverage = 1.4478 = 1.599 = 1.7689
The combined leverage is highest for firm C and a high degree of leverage indicates that the
firm is working under high risky situation.
Q(S − V) 50,000(50 − 20) 15,00,000
460. (c) DOL = = = =2
Q(S − V) − F 50,000(50 − 20) − 7,50,000*
7,50,000
Note: *15 x 50,000 = 7,50,000
50,000(50 − 30) 10, 00, 000
New DOL = = = 4.
50,000(50 − 30) − 7,50,000 2,50, 000
313

319. Financial Management
461. (a) Degree of Operating Leverage (DOL) = 1.2
Q(P − V)
= 1.2
Q(P − V) − F
Where,
144(0.4)
Q(P – V) = Sales (1 – Variable costs to sales ratio) = = 1.2
144(0.4) − F
57.6 = 69.12 –1.2F
1.2F = 69.12 – 57.6
1.2F = 11.52
11.52
F = = 9.6.
1.2
Fixed expenses of the company = Rs.9.6 lakh.
462. (b) Riskiness of the firms, given the information can be assessed by calculating financial,
operating and total leverage.
Q(P − V)
DOL =
Q(P − V) − F
20, 000(50 − 25)
LG Ltd. = = 2.5
20, 000(50 − 25) − 3, 00, 000
20, 000(50 − 20)
HG Ltd. = =3
20, 000(50 − 20) − 4, 00, 000
EBIT
DFL =
DP
EBIT − I −
1− t
(20, 000 x 25) − 3, 00, 000
LG Ltd. = = 1.33
2, 00, 000 − 50, 000
(20, 000 x 30) − 4, 00, 000
HG Ltd. = =2
2, 00, 000 − 1, 00, 000
DTL = DOL x DFL
LG Ltd. = 3.325
HG Ltd. = 6
Hence, for the same level of expectations, HG Ltd. is riskier as both DOL and DFL are higher.
463. (d) DOL = 2.5
DFL = 1.6
DTL = 2.5 x 1.6 = 4
∴ Increase in EPS = DTL x Change in Q = 4 x 5% = 20%.
464. (b)
Rs in crore
PBDIT 825.26
(–) Depreciation 5.96
Profit Before Interest and Tax (PBIT) 819.30
Profit After Tax (PAT) = EPS x Number of shares
= Rs.3.647 x 33.146 cr. = Rs.120.88 cr.
314

320. Part II
PAT Rs.120.88 cr.
PBT = = = Rs.172.69 cr.
1− T 1 − 0.30
∴ Interest charges = PBIT – PBT = Rs.646.61cr.
EBIT Rs.819.3 cr. Rs.819.3 cr.
DFL = = = = 4.74.
EBIT − I Rs.819.3 cr. − Rs.646.61 cr. Rs.172.69 cr.
465. (a)
PBDIT Rs.825.26 cr.
(–) Depreciation Rs.5.96 cr.
Profit Before Interest and Tax (PBIT) Rs.819.30 cr.
Profit After Tax (PAT) = EPS x Number of shares = Rs.3.647 x 33.146 cr. = Rs.120.88 cr.
PAT Rs.120.88 cr.
PBT = = = Rs.172.69 cr.
1− T 1 − 0.30
∴ Interest charges = PBIT – PBT = Rs.646.61 cr.
Financial break even point is that level of EBIT at which EPS = 0.
Therefore,
EBIT – I = 0
EBIT – 646.61 = 0
EBIT = Rs.646.61 cr.
Significance: It is the level of EBIT which recovers the total interest burden.
EBIT
466. (a) DFL = =4
EBIT − I
or EBIT = 4(EBIT – 300)
1,200
or EBIT = = Rs.400 lakh
3
Contribution
DOL = =5
EBIT
Contribution = 5 x 400 = Rs.2,000 lakh
∴ Contribution = 25% sales
2,000
or Sales = = Rs.8,000 lakh
0.25
∴ Variable cost = 8,000 – 2,000 = Rs.6,000 lakh
Fixed Cost = Contribution – EBIT
= 2000 – 400 = Rs.1,600 lakh.
Contribution
467. (e) DOL = 1.30 =
Contribution − Fixed cost
(or) 1.30 (Contribution – 2.50) = Contribution
(or) 1.30 Contribution – 1.30 x 2.50 = Contribution
(or) (1.30 –1.00) Contribution = 1.30 x 2.50
1.30 x 2.50
(or) Contribution = = Rs.10.83 lakh
0.30
EBIT = Contribution – Fixed Cost = 10.83 – 2.50 = Rs.8.33 lakh
EBIT 8.33
DFL = = = 2.175
EBIT − I 8.33 − 30 x 0.15
DTL = DOL x DFL = 1.30 x 2.175 = 2.83.
315

321. Financial Management
468. (a) If a decline in sales causes the profit before tax to be zero then profit after tax and EPS
will also be zero.
ΔEPS/EPS ΔS ΔEPS/EPS
DTL = or =
ΔS/S S DTL
If such a situation arises then,
ΔEPS = 0 – 2.0 = –2.0
ΔEPS −2.00
∴ = = –1.00
EPS 2.00
ΔS −1.00
∴ = = – 0.3333
S 3.00
i.e., a decline in sales by 33.33%.
Contribution Rs.2,500 lakh
469. (a) Operating Leverage (OL) = = = 3.125
EBIT Rs.800 lakh
EBIT Rs.800 lakh
Financial Leverage (FL) = = = 2.66
PBT Rs.300 lakh
Combined Leverage of AB Ltd. = OL x FL = 3.125 x 2.66 = 8.33.
Q(S − V)
470. (a) Degree of Operating Leverage (DOL) =
Q(S − V) − F
1,20,000 (1.20 − 0.40) 96,000
= = = 1.17
1,20,000 (1.20 − 0.40) − 14,000 82,000
(or)
Contribution
Degree of Operating Leverage (DOL) =
EBIT
Zee Ltd.
Output (units) 1,20,000
Selling price per unit (Rs.) 1.20
Variable cost per unit 0.40
0.80
Total contribution Rs.96,000
– Fixed costs 14,000
EBIT 82,000
– Interest 8,000
74,000
96, 000
DOL = = 1.17.
82, 000
471. (c)
XYZ Ltd.
Output (units) 30,000
Selling price per unit (Rs.) 7.00
Variable cost per unit 2.50
Contribution per unit (Rs.) 4.50
Total contribution (Rs.) 1,35,000
– Fixed costs 28,000
EBIT 1,07,000
– Interest 16,000
Profit Before Tax (PBT) 91,000
EBIT 1,07,000
Degree of Financial Leverage (DFL) = = = 1.176.
PBT 91,000
316

322. Part II
472. (d)
LMN Ltd.
Output (units) 2,00,000
Selling price per unit (Rs.) 0.11
Variable cost per unit 0.04
Contribution per unit (Rs.) 0.07
Total contribution (Rs.) 14,000
– Fixed costs 3,500
EBIT 10,500
– Interest –
Profit Before Tax (PBT) 10,500
Contribution 14,000
DOL = = = 1.33
EBIT 10,500
EBIT 10,500
DFL = = = 1.00
PBT 10,500
DCL = DOL x DFL = 1.33 x 1.00 = 1.33
473. (c)
Rs.
Sales 5,00,000
– Variable cost 3,00,000
Contribution 2,00,000
– Fixed cost 1,50,000
EBIT 50,000
– Interest @ 10% on 1,50,000 15,000
PBT 35,000
Contribution 2,00,000
Operating leverage = = =4
EBIT 50,000
EBIT 50,000
Financial leverage = = =1.42
PBT 35,000
Combined leverage = 4 x 1.42 = 5.68.
474. (b) Statement of Operating Leverage
Particulars 4500 units 5000 units
Sales @ Rs.12 per unit 54,000 60,000
Variable cost @ 8 per unit 36,000 40,000
Contribution 18,000 20,000
Fixed cost: 3000 x (Rs.12 – 8) 12,000 12,000
EBIT 6,000 8,000
Contribution 18,000 20, 000
Operating leverage = = ; = 3; 2.5
EBIT 6000 8, 000
317

323. Financial Management
Contribution Rs.700 lakh
475. (e) Operating leverage of Tata Ltd. = = = 1.27
EBIT Rs.550 lakh
Contribution Rs.1200 lakh
Operating leverage of Gemini Ltd. = = = 1.5
EBIT Rs.800 lakh
The operating leverage is higher in case of Gemini Ltd. and hence it has higher degree of
operating or business risk.
EBIT Rs.1150 lakh
476. (c) Financial leverage of Maruthi Ltd. = = = 1.15
PBT Rs.1000 lakh
EBIT Rs.2,300 lakh
Financial leverage of Ford Ltd. = = = 1.15
PBT Rs.2,000 lakh
Both the companies have same degree of financial leverage. Hence, both the firms have same
financial risk.
477. (d) In order to find out the % change in EPS as a result of % change in sales, the combined
leverage should be calculated as follows:
Rs.20,20,000 + Rs.7,00,000
Operating leverage = Contribution/EBIT = = 1.34
20,20,000
Rs.20,20,000
Financial leverage = EBIT/Profit before tax = = 1.53
Rs.13,20,000
Contribution
Combined leverage = = OL x FL = 1.34 x 1.53 = 2.05
Profit before tax
The combined leverage of 2.05 implies that for 1% change in sales level, the % change in
EPS would be 2.05%. So, if the sales are expected to increase by 5%, then the % increase in
EPS = 5 x 2.05 = 10.25%.
478. (a) Combined leverage = 3.50
Operating leverage = 2.25
Combined leverage = Financial leverage x Operating leverage
Hence, Financial Leverage = Combined leverage
Operating leverage
3.50
Financial leverage = = 1.56.
2.25
Combined leverage 4.50
479. (d) Financial leverage = = = 1.63
Operating leverage 2.75
EBT + Interest
Financial leverage =
EBT
EBT + 63,000
1.63 =
EBT
1.63 EBT = EBT + 63,000
1.63EBT – EBT = 63,000
EBT = 1,00,000
EBIT = EBT + Interest
= 1,00,000 + 63,000 = 1,63,000
318

324. Part II
Contribution
Operating leverage =
EBIT
Contribution = Operating leverage x EBIT = 2.75 x 1,63,000 = 4,48,250
Contribution 4,48,250
P/V ratio = x 100 = x 100 = 22.41% .
Sales 20,00,000
Contribution
480. (a) Operating leverage =
Earnings Before Interest and Tax (EBIT)
Contribution = Sales – Variable Cost = Rs.50,000 – Rs.7,000 = Rs.43,000
EBIT = Sales – Variable Cost – Fixed Cost = 38,000
Rs.43,000
Operating leverage = = 1.13
Rs.38,000
EBIT
481. (a) Financial leverage =
EBT
EBT = EBIT – Interest = Rs.38,000 + 10,000 = Rs.28,000
Rs.38,000
Financial leverage = = 1.36.
Rs.28,000
482. (c) Rs.
Sales 50,000
–Variable cost @ 60% 30,000
Contribution 20,000
–Fixed cost 12,000
Operating profit 8,000
Contribution 20,000
Operating leverage = = = 2.50 .
Operating profit 8,000
483. (c)
Net worth Rs.25,00,000
Debt/Equity 3:1
Hence, Debt Rs.75,00,000
EBIT 20,00,000
–Interest @12% on 75,00,000 9,00,000
PBT 11,00,000
EBIT 20,00,000
Financial leverage = = = 1.82.
PBT 11,00,000
484. (b) Operating statements of 2 firms
Sheetal Ltd. Arc Ltd.
Sales 2,00,000 2,00,000
– Variable cost @ 4/- 80,000 80,000
Contribution 1,20,000 1,20,000
– Fixed cost 1,10,000 1,10,000
EBIT 10,000 10,000
– Interest – 5,000
Profit before tax 10,000 5,000
– Tax @40% 4,000 2,000
Profit after tax 6,000 3,000
319

325. Financial Management
Calculation of leverages:
Sheetal Ltd. Arc Ltd.
1, 20, 000 1, 20, 000
Operating leverage = = 12 = 12
10, 000 10, 000
10, 000 10, 000
Financial leverage = = 1 = 2
10, 000 5, 000
Combined leverage = 12 x 1= 12 12 x 2 = 24.
Contribution
485. (a) Calculation of operating leverage =
EBIT
Rs. Rs.
Situation I Situation II
Sales (2000 units @Rs.20 per unit) x 0.55 22,000 22,000
Less: Variable Cost (2000 units @Rs.10 per unit) x 0.55 11,000 11,000
Contribution 11,000 11,000
Less: Fixed costs 5,000 8,000
EBIT 6,000 3,000
11,000 11,000
Operating leverage =1.83; = 3.67.
6,000 3,000
EBIT
486. (c) Calculation of financial leverage =
PBT
Rs. Rs.
Financial Plan A B
EBIT in situation II 3,000 3,000
Less: Interest on debt 1,200 600
PBT 1,800 2,400
3, 000 3, 000
Financial leverage = 1.67 = 1.25.
1,800 2, 400
487. (c)
Particulars ICICI Ltd. HDFC Ltd.
Contribution 4 5
1. Operating leverage =
EBIT
EBIT 2 3
2. Financial leverage =
EBT
Contribution 8 15
3. Combined leverage =
EBT
1. The operating leverage of ICICI Ltd. is 4 and of HDFC Ltd. is 5. It means change in the
level of sales will have more impact on EBIT of HDFC Ltd. than that of ICICI Ltd. The
volume of fixed cost may be higher in case of HDFC Ltd. than that of ICICI Ltd. The
business risk of HDFC Ltd. is also more as compared to ICICI Ltd.
2. The financial leverage of ICICI Ltd. is 2, and of HDFC Ltd. is 3. It means the interest
burden of HDFC Ltd. is higher than ICICI Ltd. Financial risk of HDFC Ltd. is higher as
compared to ICICI Ltd.
3. The degree of combined leverage of ICICI Ltd. is 8 and that of HDFC Ltd. is 15. It
means any change in sales will show more impact on EPS in case of HDFC Ltd.
In view of the above, the Managing Director’s opinion about HDFC Ltd. is wrong.
Therefore, ICICI Ltd. carries less business risk and financial risk as compared to HDFC Ltd.
320

326. Part II
488. (d)
Rs. in lakh
Net Sales 1500
EBIT (12% of net sales) 180
Less: Interest (Rs.300 lakh x 15/100) 45
EBT 135
Less: Tax @40% 54
EAT 81
Less: Preference dividend (Rs.100 lakh x 13/100) 13
Earnings available to equity share holder 68
Calculation of operating leverage:
EBIT 180
Financial leverage = = = 1.588
⎛ Dp ⎞ ⎛ 13 ⎞
EBT − ⎜ ⎟ 135 − ⎜ ⎟
⎝1− T ⎠ ⎝ 1 − 0.4 ⎠
Combined leverage = 3 (given)
Combined leverage = Operating leverage x Financial leverage
3 = Operating leverage x 1.588
Operating leverage = 3/1.588 = 1.89.
489. (c)
Rs. in crore
Net sales 30.00
EBIT (12% of Net Sales) 3.60
15
Less: Interest on 15% debentures (Rs.6 crores x ) 0.90
100
EBT 2.70
Less: Tax @ 40% 1.08
EAT 1.62
Less: Preference dividend (Rs.2 crore x 13/100) 0.26
Earnings available to equity share holders 1.36
Calculation of operating leverage:
EBIT 3.6 3.60
Financial leverage = = = = 1.588
D 0.26 2.267
EBIT − I − P 3.6 − 0.9 −
(1- T) (1 − 0.4)
Combined leverage = 3 (given).
Combined leverage = Operating leverage x Financial leverage
3 = Operating leverage x 1.588
Operating leverage = 3/1.588 = 1.889.
490. (e) Calculation of Sales:
Sales Sales
= = Sales turnover ratio = =3
Total assets 3,00,000
Sales = 3 x 3,00,000 = Rs.9,00,000
321

327. Financial Management
Calculation of leverages:
Rs.
Sales 9,00,000
Less: Variable Cost (50% of sales) 4,50,000
Contribution 4,50,000
Less: Fixed operating cost 1,50,000
EBIT 3,00,000
Less: Interest (1,20,000x10/100) 12,000
EBT 2,88,000
Less: Tax @ 50% 1,44,000
EAT 1,44,000
Contribution 4,50,000
1. Operating leverage = = =1.50
EBIT 3,00,000
EBIT 3,00,000
2. Financial leverage = = =1.04
EBT 2,88,000
3. Combined leverage = operating leverage x financial leverage = 1.50 x 1.04 = 1.56
Q(S − V) 15,000 (500 − 350)
491. (b) DOL = =
Q(S − V) − F 15,000 (500 − 350) − 9,00,000
22,50, 000 22,50, 000
= = = 1.67.
22,50, 000 − 9, 00, 000 13,50, 000
Q (S − V) 7500 (600 − 300)
492. (b) DTL = =
Dp 35, 000
Q (S − V) − F − I − 7500 (600 − 300) − 10, 00, 000 − 95, 000 −
(1 − T) (1 − 0.4)
22,50, 000
= = 2.05
22,50, 000 − 10,95, 000 − 58,333.3
493. (d) Percentage change in EPS = DTL x Percentage change in Q. = 9 x 5% = 45%.
Contribution 20, 00, 000
494. (d) DOL = = =2
EBIT 10, 00, 000
EBIT 10, 00, 000
DFL = = = 3.
Dp 1, 00, 000
EBIT − Interest − 10, 00, 000 − 5, 00, 000 −
(1 − t) 0.6
DCL = DOL x DFL = 2 x 3 = 6
If the sales level increases by 10%, then the EPS would increase by 10% x DCL i.e., 10% x 6
= 60% and the new EPS would be 60% higher than the existing EPS. The existing EPS is
Rs.2 (i.e., Rs.2,00,000 ÷ 1,00,000). The new EPS would be Rs.2 + 60% i.e., Rs.3.20.
495. (c) The Degree of Total Leverage (DTL) is defined as the product between the Degree of
Operating Leverage (DOL) and the Degree of Financial Leverage (DFL).
The resultant DTL’ will be = 1.3 DOL × 0.8 DFL = 1.04 DTL
Hence DTL’ = 1.04 DTL Hence the DTL will increase by 4 percent.
322

328. Part II
496. (d) For Garden Restaurant, the amount of contribution = Rs.14,00,000 × 25 percent
= Rs.350,000.
EBIT = Rs.350,000 – Rs.150,000 = Rs.200,000
Interest on bank loan = Rs.400,000 × 12.50 percent = Rs.50,000
Preference Dividends = Rs.200,000 × 15 percent = Rs.30,000.
So, the degree of financial leverage (DFL) will be:
EBIT 200, 000 200, 000
DFL = = = = 2.00
Dp 30, 000 200, 000 − 100, 000
EBIT − I − 200, 000 − 50, 000 −
1− T 1 − 0.4
The required degree of financial leverage (DFL) = 2.00.
497. (c) According to the concept of the operating leverage, the percentage change in EBIT is
equal to the degree of operating leverage multiplied by the percentage increase in sales
turnover = 6 × 2.25 = 13.50 percent.
498. (b) The Degree of Total Leverage (DTL) is the product between the Degree of Operating
Leverage (DOL) and the degree of financial leverage. So, the DTL = 3 × 1.67 = 5.00.
Therefore, as per the concept of DTL, in order to increase the EPS by 10 percent, the sales
volume should be increased by 10/5 = 2.00 percent.
DP
F+I+
499. (e) The overall break-even point for any company is Q = 1− t
(S − V)
For Hyderabad chemicals, S–V = Rs.500 × 20% = Rs.100,
F = Rs.90,000 and I = Rs.75,000 while DP = 0.
90, 000 + 75, 000
Hence, Q = = 1,650.
100
500. (e) The overall break even point of any company is defined as:
F + I + D P /(1 − T)
Q* =
(S − V)
Here, F = Rs.80 lakh, I = Rs.30 lakh, DP = Rs.12 lakh, T = 40 percent and
(S–V) = Rs.40 × 25% = Rs.10.
12
80 + 30 +
So, Q* = 1 − 0.4 = 80 + 30 + 20 = 13 lakh units.
10 10
501. (a) EBIT
EBIT
DFL =
EBIT − I − D (I − t)
25, 000
1.6 =
25, 000 − 7, 000 − D p /(1 − 03)
Dp = 1663.
502. (c) Q (S – V)
Q(S- V)
DTL =
Q(S − V) − F − I − D p /(1 − 0.3)
DTL = (60,000)/(60,000) – 30,000 – 10,000 = 3
323

329. Financial Management
503. (d) DTL = % change in EPS/% change in output
3 = % change in EPS / 0.10
Change in EPS = 30%.
504. (a) DOL = % Change in EBIT/% Change in Quantity = 0.3/0.18 = 1.67.
505. (a) Q (S – V)/Q(S – V) – F
DOL = [5,000(3,25,000 – 1,80,000)]/ [5,000(3,25,000 – 1,80,000)] – 3 crore = 1.043.
506. (b) DTL = DOL x DFL = 2.5 x 3.5 = 8.75.
507. (a) DTL = DOL x DFL or % Change in EPS/% Change in output = 3.5 x 1.2 = 4.2
i.e. one percent change in output will lead to 4.2 % change in EPS.
508. (e) Financial BEP = Dp/1– t = 2000 x 100 x 0.15/(1– 0.4) = 50,000.
509. (d) DTL = % Change in EPS / % Change in output
3.5 = Change in EPS/0.25
Change in EPS = 87.5%.
EPS next year = 2.5 + 87.5% of 2.5 = 2.5 + 2.187 = 4.687 4.69
510. (c) DOL = Contribution/EBIT = 100/50 = 2.
511. (b) Contribution = S – V
Sales per unit = 500
Variable cost per unit = 200
Contribution per unit = S – V = 500 – 200 = 300.
512. (c) DTL = % Change in EPS/% Change in output = 0.20/0.10 = 2.
513. (a) DOL = Contribution/EBIT = 100/50 = 2.
514. (c) Q (S – V)
Q(S − V) − A
DOL = = 50,000 x 7/50,000 x 7 – 50,000 = 1.166 or 1.67% 1.17%.
Q(S − V) − F
515. (b) DOL = Total contribution/EBIT
Contribution = Q (S – V)
100
DOL = =2
50
F + I + D p /(1 − t)
516. (a) Overall BEP (Q) =
S− V
Financial BEP = Dp/ 1– t + I
Operating BEP= F/S–V
S–V= 20,000/2,500 = 8
Overall BEP = (20,000 + 4,000)/8 = 3,000.
324

330. Part II
Financial Forecasting
⎡A L⎤
517. (c) External Fund Requirement (EFR) = ⎢ − ⎥ ΔS – MS1(1 – d)
⎣ S S⎦
A L
Where, and are assets and current liabilities as a percentage of sales respectively.
S S
ΔS = Expected increase in sales
M = Net profit margin
S1 = Next year sales
d = Dividend pay-out ratio
Substituting the value
⎡ Rs.18,75,000 Rs.2,50,000 ⎤
EFR = ⎢ Rs.28,00,000 − Rs.28,00,000 ⎥ 0.25 x 28,00,000 – 0.125 x Rs.35,00,000 x 0.5
⎣ ⎦
= Rs.(4,06,250 – 2,18,750) = Rs.1,87,500.
518. (d) M = 0.07
d = 0.5
Total assets = 4,750
4,750
A/S = = 0.792
6,000
L = 750(Spontaneous liabilities)
750
L/S = = 0.125
6,000
S1 = 7,500
ΔS = 1,500
⎛A L⎞
EFR = ⎜ − ⎟ (ΔS) – mS1(1 – d) = (0.79 x 1,500 – 0.125 x 1,500) – (0.07 x 7500 x 0.5)
⎝ S S⎠
= Rs.738.
519. (b) Projected Sales = 60 x 1.4 = Rs.84 lakh
NS
Given =3
TA
TA
∴ = 0.333
NS
d = 0.6 and
SL 9
= = 0.15
NS 60
EFR = – Rs.1.5 lakh, as the company can generate its own excess funds.
⎡ TA SL ⎤
i.e., ⎢ − ⎥ ΔS – mS1(1 – d) = EFR
⎣ NS NS ⎦
4.392 – 33.6m = –1.5
33.6
M = 5.892
m = 0.1753 or 17.53%.
325

331. Financial Management
⎡A L⎤
520. (b) EFR = ⎢ − ⎥ ΔS – mS1(1 – d)
⎣ S S⎦
Where,
A = Total Assets = Rs.18 lakh
L = Spontaneous liabilities = Rs.2.25 lakh
S = Sales in the current year = Rs.45 lakh
S1 = Projected sales = Rs.45 x 1.25 = Rs.56.25
M = Profit margin = 0.4 x 0.25 = 0.1
D = Dividend pay out = 2 x 0.25 = 0.5
⎡ 18 2.25 ⎤
EFR = ⎢ − ⎥ 45 x 0.25 – 0.10 x 56.25 x (1– 0.5) = 3.9375 – 2.8125 = Rs.1.125 lakh.
⎣ 45 45 ⎦
521. (a) Increment in Sales = 0.25 x 320 = Rs.80 lakh
External funds required = 80 x 0.4 = Rs.32 lakh
S1 = 320 + 80 = 400
A L
EFR = ΔS – ΔS – mS1(1 – d)
S S
340 30 48
32 = x 80 – x 80 – x 400(1 – d)
320 320 320
32 = 85 – 7.5 – 60(1 – d)
60(1 – d) = 45.5
45.5
1–d = = 0.758
60
d = 1 – 0.758 = 0.2416
∴Maximum dividend payable = d x Net profit
48
Total dividends = 0.2416 x x 400 = Rs.14.50 lakh.
320
570
0.05(1 − 0.80) x
m(1 − d)A/E 255 0.0224
522. (c) g = = = = 0.3077 or 30.77%.
A/S0 − m(1 − d)A/E 570 570 0.0726
− 0.05(1 − 0.80)
6,000 255
523. (e) S0 = 6,000, S1 = 7,500 and L = 75 + 30 = 105
A L
EFR = (ΔS) – (ΔS) – mS1(1 – d)
S S
570 105
= x 1,500 – (1500) – 0.05 x 7,500 x 0.20
6,000 6,000
= 142.50 – 26.25 – 75.0 = 41.25.
⎡A L⎤
524. (a) EFR = ⎢ − ⎥ ΔS – mS1(1 – d)
⎣S S⎦
A
= 650/1,000 = 0.65
S
L
= 150/1,000 = 0.15
S
L = Sundry Creditors + Provisions
ΔS = 250
m = 8%, S1 = 1,250 lakh and d = 50%
EFR = (0.65 – 0.15)250 – 1,250 x 0.08 x 0.5) = Rs.75 lakh.
326

332. Part II
m(1 − d)A/E
525. (b) g =
A/S0 − m(1 − d)A/E
650
0.05(1 − 0.5)
200 0.08125 0.08125
= = = = 1429 i.e. 14.29%.
650 650 0.65 − 0.08125 0.56875
− 0.05(1 − 0.50)
1000 200
526. (a) Given
A =
Rs.3,800 lakh
S =
Rs.2,500 lakh
L =
600 + 600 = 1,200 lakh
S1 =
Rs.12,800 lakh
m =
0.08
d =
0.3
⎡A L⎤
EFR = ⎢ − ⎥ ΔS – mS1(1 – d)
⎣ S S⎦
⎡ 3,800 1,200 ⎤
= ⎢ − ⎥ x 300 – 0.08 x 2,800 x (1 – 0.30)
⎣ 2,500 2,500 ⎦
= (1.52 – 0.48) x 300 – 0.08 x 2,800 x 0.70
= 312 – 156.8 = Rs.155.2 lakh
EFR is to be raised equally from term loan and short-term bank borrowings.
155.2
Amount to be raised through term loan = = Rs.77.6
2
Amount to be raised through short-term bank borrowings = Rs.77.6 lakh.
527. (b) Given,
m = 0.05
d = 0.6
S0 = 6,400
S1 = 6,400(1.25) = 8,000
L = 950 + 300 = 1,250
A = 4,550
⎡A L⎤ ⎡ 4,550 1,250 ⎤
EFR = ⎢ − ⎥ ΔS – mS1(1 – d) = ⎢ − ⎥ 1,600 – 0.05 x 8,000(1 – 0.60)
⎣S S⎦ ⎣ 6,400 6,400 ⎦
= 825 – 160 = 665
i.e., Rs.6,65,000 or Rs.6.65 lakh.
528. (b) The sustainable growth rate can be calculated as follows:
61, 409
Net profit margin (m) = = 0.02557
24, 01, 484
Dividend pay-out (d) = 0
Total Assets (A) = 50,24,716
Net Worth = 26,28,869
Current Sales (S0)* = 24,01,484
Sustainable Growth Rate (g)
m(1 − d) A/E
=
A/S0 − m(1 − d)A/E
0.02557 (1- 0) 50, 24, 716/26, 28, 869
=
(50, 24, 716/24, 01, 484) - 0.02557.1.(50, 24, 716/26, 28, 869)
0.04887 0.04887
= = = 0.0239 or 2.39%.
2.09234 − 0.04887 2.04347
327

333. Financial Management
529. (d) m = 0.14
d = 0.5
Total Assets = 8,500
8,500
A/S = = 0.70
12, 000
L = 1500 (spontaneous liabilities)
1,500
L/S = = 0.125
12, 000
S1 = 15,000
ΔS = 15,000 – 12,000 = 3,000
A L
EFR = – (ΔS) – m.S1(1 – d)
S S
= (0.70 – 0.125)3000 – (0.14 x 15,000 x 0.5) = 1725 – 1050 = Rs.675.
530. (b) Increment in sales = 0.30 x 510 lakhs = 153 lakhs
External fund required = 153 x 0.50 = 76.5 lakhs
S1 = 510 + 153 = 663
A L
EFR = ΔS – (ΔS) – m.S1(1 – d)
S S
475 60 72
76.5 = x 153 – x 153 – x 663(1 – d)
510 510 510
76.5 = 142.5 – 18 – 93.6(1 – D)
93.6(1 – d) = 48.
48
1–d= = 0.512
93.6
∴ Maximum dividend payable = d x net profit
72
Total dividends = 0.488 x x 663 = Rs.45.67 lakh.
510
531. (e) S1 = Projected sales = 75 x 1.45 = Rs.108.75 lakhs.
NS
Given =4
TA
TA
∴ = 0.25
NS
d = 0.7
SL 12
= = 0.16, ΔS = 108.75 – 75 = 33.75.
NS 75
EFR = –Rs.2.5 lakh, as the company can generate is own excess funds
⎡ TA SL ⎤
i.e., ⎢ − ⎥ ΔS – mS1(1 – d) = EFR
⎣ NS NS ⎦
= (0.25 – 0.16)33.75 – m x 108.75(1 – 0.7) = –2.5
= 3.03 – m32.62 = –2.5
3.03 + 2.5 = m32.62
5.53 = m32.62 = 0.1695 or 16.95%.
700
0.07(1 − 0.90) ×
m(1 − d)A/E 300
532. (b) g= =
A/S0 − m(1 − d)A/E 700/8,500 − 0.07(1 − 0.90)700/300
0.016 0.016
= = = 0.2424 or 24.24%.
0.082 − 0.016 0.066
328

334. Part II
533. (c) S0 = 8,500
S1 = 10,000
L = 90 + 50 = 140
A L
EFR = ΔS – (ΔS) – m.S1(1 – d)
S S
700 140
= x 1,500 – x 1500 – 0.07 x 10,000 (1– 0.90) =123.52 – 24.70 – 70
8,500 8,500
EFR = 28.82.
534. (b) We know,
A L
EFR = (ΔS) − (ΔS) – mS1 (1 – d)
S S
S1 = S + ΔS
A L
∴ EFR = (ΔS) − (ΔS) – m (S + ΔS) (1 – d)
S S
Given:
Sales (S) = Rs.1000 million
Total Assets (A) = Rs.800 million
Spontaneous liabilities (L) = Rs.250 million
Net profit margin (m) = 0.10
Dividend pay-out ratio (d) = 0.40
EFR = 0 (by the problem)
800 250
∴0 = (ΔS) − (ΔS)
1, 000 1, 000
– (0.10) (1000 + ΔS) (1 – 0.40)
or 0 = 0.80 ΔS – 0.25 ΔS – (0.10)(0.60) (1000 + ΔS)
or 0 = (0.80 – 0.25) ΔS – 0.06 (1000 + ΔS)
or 0 = 0.55 ΔS – 0.06 ΔS – 60
or 0.49 ΔS = 60
60
or ΔS = = 122.45 i.e. Rs.122.45 million
0.49
∴ Growth rate in sales that can be achieved without raising external funds
ΔS 122.45
= = = 0.1225 i.e. 12.25%.
S 1, 000
m(1 − d) A / E
535. (c) g =
A / S − m(1 − d) A / E
Here m =0.03, d = 1–0.5 = 0.5, D/E = 0.9 so A/E = 1+D/E = 1+0. 90 = 1.90, A/S0= 0.80
0.03(1 − 0.5)(1.90)
g= ; So, g =3.7%
0.80 − 0.03(1 − 0.5)(1.90
536. (c) The external financing requirement can be found out with the help of the equation
E F R A L m(1 + g)(1 − d)
= − −
S S S g
If EFR = 0
(A / S − L / S)g
Then, m =
1 + g)(1 − d)
(0.8 − 0.6) x 0.10
So m = = 4.54%
(1.10) (0.4)
329

335. Financial Management
(A − L)
537. (e) EFR = x ΔS − mS1 (1 − d)
S
Where A = total assets, L = spontaneous liabilities, m = profit margin ratio,
d = dividend payout ratio, S = sales, S 1 is increased sales and Δ S= change in sales
Here L = 5000, m = 500/20000 = 0.025 and EFR = 500
S = 20000, S 1 = 23000 and Δ S= 3000
By putting the values in the equation,
we get A i.e. total assets = 10,250.
(A − L)
538. (d) EFR = x ΔS − mS1 (1 − d)
S
Here L = 100, m = 0.05, d = 0.60 so= Rs.600million, A = Rs.550 million ΔS =Rs. 120
million
(550 − 100)
So EFR = x120 − 0.05(1 − 0.6) = Rs. 75.6 million.
600
(A − L)
539. (e) EFR = x ΔS − mS1 (1 − d)
S
So, 0 = (0.75–0.60) S0g – 0.06X S0(1+g)(1–.55)
0.15Sog = 0.027So(1 + g)
0.15g = 0.027 + 0.027g
So, g = 21.9.
m(1 − d) A / E
540. (a) g =
A / So − m(1 − d) A / E
Here m = 0.07, d = 1–0.5 = 0.5, D/E = 0.7 so A/E = 1+D/E = 1+0.70 = 1.70, A/S0 = 0.65
⎡ 0.07 (1 − 0.5) (1.70) 0.0595 ⎤
g=⎢ = ⎥ = 0.1008 or 10.08%
⎣ 0.65 − 0.07 (1 − 0.5) (1.70) 0.5835 ⎦
So g =10.08%.
(A − L)
541. (b) EFR = x Δ S − mS1 (1 − D)
S
Where A = total assets, L = spontaneous liabilities, m = profit margin ratio,
d = dividend payout ratio, S = sales, S 1 is increased sales and Δ S= change in sales
Here L = 7500, m = 1500/100,000 = 0.015 and EFR = 800
S = 100,000, S 1 = 1,25,000 and Δ S= 25000
By putting the values in the equation,
We get A i.e. total assets = 14,450.
(A − L)
542. (c) EFR = x Δ S − mS1 (1 − D)
S
So 0 = (0.60–0.40) S0g – 0.02 x S0(1+g)(1–0.50)
So, g = 5.2%
543. (c) The amount of debt used to finance the cost of any asset is equal to 66.67 percent of the
66.67 2
value of the asset. So, the debt asset ratio is = = .
100 3
330

336. Part II
544. (b) The amount of external funds required by a company is given by : Expected increase in
assets – Expected increase in spontaneous liabilities – Expected retained earnings.
Here, the expected retained earnings of the company is Rs.500 lakh × 60 percent = Rs.300
lakh. Hence, the required figure is Rs.1200 lakh – Rs.500 lakh – Rs.300 lakh = Rs.400 lakh.
A
m (1 − d )
545. (b) Sustainable growth rate g = E
A A
− m (1 − d ) .
So E
12
Here, net profit = × 100 = 10 percent
120
7.2
Dividend pay-out ratio d = = 0.6
12
A D+E D
Debt-equity ratio = 60:40 = 1.50 and so the asset-equity ratio = = = 1 + = 2.50
E E E
S A 1
Total asset turnover ratio = = 1.5 so = = 0.67
A S 1.50
0.1× 0.4 × 2.5 0.10 0.10
So, g = = = = 0.1754 (approximately) = 17.54 percent.
0.67 − 0.1× 0.4 × 2.5 0.67 − 0.10 0.57
Therefore, the required sustainable growth rate = 17.54 percent = 18 percent (approximately).
1, 560
546. (a) The amount of sales in the year 2002-03 was = Rs.1, 200 lakh
1.30
1, 200
Total assets in the last year was = = Rs.750 lakh and the amount of current assets
1.60
= Rs.750 lakh × 33.33 percent = Rs.249.975 lakh ≈ Rs.250 lakh.
The amount of spontaneous liabilities = Rs.250 lakh × 40 percent = Rs.100.
The amount of External Funds Requirements (EFR) is given by:
A L
EFR = ( ΔS) − ( ΔS) − mS1 (1 − d )
S S
1 100
EFR= × 360 − × 360 − 0.08 × 1560 × 0.4
1.6 1, 200
A 1
Here, = = A/S = 1/1.6, L/S = 100/1200 ΔS = Rs.1560 lakh – Rs.1200 lakh = Rs.360
S 1.6
lakh, S1 = Rs.1560 lakh, m = 8 percent and (1 – d) = 0.4
So, EFR = 225 – 30 – 49.92 = Rs.145.08 lakh = Rs.145 lakh (approximately)
Therefore, the required amount of external funds requirements = Rs.145 lakh.
547. (b) The external funds requirements is given by
⎛A L⎞
EFR = ⎜ − ⎟ × ΔS − S1 m (1 − d)
⎝ S S⎠
A 1 L
For MAL, = = 0.5, = 0.20 d = 100% and Δs = Rs.70 lakh
S 2 S
So, EFR = (0.50 – 0.20 ) × Rs.70 lakh = Rs.21 lakh.
331

337. Financial Management
A
m (1 − d )
548. (d) Substainable growth rate of = E
A A
− m (1 − d )
So E
d
For CAL, m = 8 percent, d = 0, A/E = 1 + = 1 + 0.5 = 1.5
E
A/So = 0.5
0.08 × 1× 1.5
So, the required sustainable grow the rate of =
0.50 − 0.08 × 1× 1.5
0.12
= = 0.3158 = 31.58 percent
0.5 − 0.12
549. (a) Gross change in fixed assets = Rs.4006 crore + Rs.884 crore – Rs.4729 crore = Rs.161 crore
550. (e) External funds requirements (EFR) of any firm is given by
⎛A L ⎞
EFR = ⎜ − ⎟ × ΔS − MS, ×(1 − d)
⎝ So So ⎠
Here, A= Rs.320 lakhs, L= Rs.120 lakhs, So = Rs.500 lakhs, ΔS = 500 × 20% = Rs.100
lakhs, S, (500+100) = Rs.600 lakhs.
The net profit margin of Garodia Rubber is m = 37.50/500 = 7.5 percent = 0.075
The amount of dividend paid was = Rs.3.00 × 500,000 = Rs.15 lakh. Hence, the dividend pay
15
out ratio was d = = 0.40 or 40 percent.
37.50
⎛ 320 120 ⎞
So, the required EFR = ⎜ − ⎟ × 100 − 0.075 × 600 × (1 − 0.4)
⎝ 500 500 ⎠
200
= × 100 − 45 × (1 − 0.4) = 40 − 27 = Rs.13 lakhs.
500
551. (c) The external financing requirement can be found out with the help of the equation
EFR A L m(1+ g) (1 − d)
= − −
S S S g
0.08 (1+ g) (0.8) 0.08 (1+ g) (0.8)
= 0.8 – 0.3 – = 0.8 – 0.3 –
g g
g = 14.67%.
552. (a) The external financing requirement can be found out with the help of the equation
EFT A L m(1+ g) (1 − d)
= = − − = 8 – 3 – 3 = 2 lakh.
S S S g
553. (e) As the net profit margin “m” is not given the growth rate cannot be determined.
554. (a) EFR = A/S (ΔS) – L/S Δ S) – m S1 (1–d)
= 0.8 x 1,00,000 – 0.4 x 1,00,000 – 0.06 x 11,00,000 x 0.4 = 13,600.
555. (a)
m(1 − d) A/E
g= = 1.3 – 0.05 (1– 0.3) (15) = 4.21%.
A/SO − m (1 − d) A/E
332

338. Part III: Model Question Papers (with Suggested Answers)
The model question paper consists of two parts – A and B. Part A is intended to test the
conceptual understanding of the students. It contains 40 multiple-choice questions carrying one
point each. Part B contains problems with an aggregate weightage of 60 points. Students are
requested to note that this is an indicative format of the question paper in general and that the
ICFAI University reserves the right to change, at any time, the format and the pattern without any
notice. Hence, the students are advised to use the model question papers for practice purposes
only and not to develop any exam-related patterns out of these model question papers.
The suggested answers given herein do not constitute the basis of evaluation of the students’
answers in the examination. These answers have been prepared by the faculty members of the
ICFAI University with a view to assist the students in their studies. And, they may not be taken as
the only answers for the questions given.
Model Question Paper I
Time: 3 Hours Total Points: 100
Part A: Basic Concepts (40 Points)
Answer all the questions. Each question carries one point.
1. Which of the following is not a systematic risk?
a. Fluctuation in interest rates.
b. Decline in the purchasing power of money.
c. Risk of the government increasing the tax rates.
d. Risk of non-availability of major raw materials of a company.
e. Industrial recession.
2. Which of the following is not a marketable instrument?
a. Commercial paper.
b. Certificate of deposit.
c. Term deposit.
d. Corporate debentures.
e. Treasury bills.
3. Security market line shows the relationship between required rates of return on the securities and
a. Variance of the security returns
b. Beta of the securities
c. Risk-free rate of return
d. Standard deviation of security returns
e. Returns on the market index.
4. If a security’s return plots above the security market line, then
a. The security’s beta is less than one
b. The security’s rate of return is more than the return on the market portfolio
c. The risk-free rate is equal to the return on the market portfolio
d. The security is underpriced
e. The security is overpriced.

339. Financial Management
5. Which of the following is a function of the primary capital market?
a. Providing a market for trading outstanding long-term securities.
b. Providing a market for trading outstanding short-term securities.
c. Helping companies to raise funds for long-term uses by creating new securities.
d. Imparting liquidity to existing long-term securities held by investors.
e. All of the above.
6. Which of the following is not a use of funds?
a. Increase in fixed assets.
b. Increase in accrued expenses.
c. Decrease in provisions.
d. Payment of taxes.
e. None of the above.
7. Which of the following is a source of cash?
a. Increase in fixed assets.
b. Increase in depreciation.
c. Increase in inventory.
d. Decrease in term loans.
e. Decrease in bank borrowings.
8. Other things being equal, which of the following will cause an increase in bond value?
a. Decrease in coupon rate.
b. Increase in yield to maturity.
c. Decrease in the amount repayable at maturity.
d. Increase in the amount repayable at maturity.
e. None of the above.
9. The amount that a company can realize if it sells its business as an operating one is called
a. Going concern value
b. Replacement value
c. Market value
d. Book value
e. Liquidation value.
10. Which of the following is true when the required rate of return on a bond is less than the coupon
rate?
a. The discount on the bond decreases as the maturity approaches.
b. The premium on the bond decreases as the maturity approaches.
c. The value of the bond is equal to its par value.
d. The value of the bond is less than its par value.
e. The discount on the bond increases as the maturity approaches.
11. If the degree of financial leverage of a firm is zero, then which of the following statements is
true?
a. The firm has no interest expense.
b. No preference dividend is payable by the firm.
c. The EBIT of the firm is zero.
d. No tax is payable by the firm.
e. None of the above.
334

340. Part III
12. Which of the following is false with regard to the Degree of Operating Leverage (DOL)?
a. Each level of output has a distinct DOL.
b. DOL is negative above the operating break even point.
c. DOL is negative below the operating break even point.
d. DOL is positive above the operating break even point.
e. DOL is undefined at the operating break even point.
13. Which of the following is/are the objective method(s) of sales forecasting?
a. Jury of executive opinion.
b. Sales force estimate.
c. Trend analysis.
d. Both (a) and (b) above.
e. None of the above.
14. Which of the following is a liquidity ratio?
a. Debt-equity ratio.
b. Debt-asset ratio.
c. Acid-test ratio.
d. Return on equity.
e. Return on investment.
15. Current ratio indicates the
a. Capacity to meet the long-term obligations
b. Percentage of current assets in total assets
c. Percentage of cash in the current assets
d. Capacity to meet the current obligations
e. Percentage of current liabilities in total liabilities.
16. According to the dividend discount model, the current value of a stock is equal to the
a. Present value of all expected future dividends
b. Sum of all future expected dividends
c. Next expected dividend, discounted to the present
d. Discounted value of all dividends growing at a constant rate
e. Future value of all past declared dividends.
17. Which of the following equity concepts would you expect to be least important to a financial
analyst?
a. Par value per share.
b. Additional paid-up capital.
c. Retained earnings.
d. Net common equity.
e. Cost of equity.
18. Financial risk refers to the
a. Risk of owning equity securities
b. Risk faced by equity holders when debt is used
c. General business risk of the firm
d. Possibility that interest rates will increase
e. Possibility that interest rates will decrease.
335

341. Financial Management
19. A DOL of + 2 would mean
a. If there is an increase of 10% in quantity EBIT will increase by 20%
b. If there is an increase of 10% in fixed costs the EBIT will increase by 20%
c. The business risk of the firm is –2%
d. The effect on EBIT will be very great for a given % change in quantity
e. None of the above.
20. Which is false w.r.t External Fund Requirement?
a. If the NP margin increases EFR decreases.
b. If the Dividend Pay-out Ratio increases EFR increases.
c. If the A/S increases EFR increases.
d. If the growth rate increases EFR increases.
e. The growth rate is the growth rate of the earnings.
21. Which of the following statements is true?
a. Risk-return trade-off means minimizing the risks of a firm and increasing returns.
b. The profit maximization goal takes into account the variability associated with risk.
c. Every decision involving finance should balance between risk and return necessarily.
d. The goal of both Financial Management and that of the firm is wealth minimization only.
e. The profit maximization principle serves as a good measure to compare two firms.
22. The kj in kj = Rf + βj (km – Rf) is
a. The expected rate of return
b. The required rate of return
c. The rate which induces the investor to purchase the security
d. Both (a) and (b) above
e. All of (a), (b) and (c) above.
23. Funds from operation is
a. EBIT
b. PAT + DEP
c. EBDIT
PAT + Non-cash charges
d.
1 − Tax rate
e. PAT + INT(1 – Tax Rate).
24. Which of the following risks can be diversified away?
a. Interest rate risk.
b. Market risk.
c. Business risk.
d. Inflation risk.
e. None of the above.
25. What is the maximum maturity period for which companies can accept deposits?
a. 1 year.
b. 2 years.
c. 3 years.
d. 4 years.
e. 5 years.
336

342. Part III
26. The yield curve depicts the current relationship between
a. Bond yields and default risk
b. Bond maturity and bond ratings
c. Bond yields and maturity
d. Promised yields and default premiums
e. Bond yields and bond duration.
27. The value of common stock is likely to decrease if
a. The investment horizon decreases
b. The growth rate of dividends increases
c. The discount rate increases
d. Dividends are discounted back to the present
e. Discount rate decreases.
28. Increases in the risk-free rate will
a. Reduce the market risk premium
b. Increase the stock’s risk premium
c. Reduce the stock’s beta
d. Increase the stock’s expected return when beta <1
e. Increase the stock’s beta.
29. When the firm is operating at overall BEP
a. It cannot meet its fixed costs
b. The DTL is ∞
c. The EPS will be 1
d. The DFL will be –ve
e. The DTL is 0.
30. The techniques of financial forecasting are
a. Pro forma statements
b. Delphi technique
c. Operating budgets
d. Both (a) and (c) above
e. All of the above.
31. Technical insolvency is a position when
a. The current assets are not equal to current liabilities
b. The firm cannot honor current liabilities including short-term bank borrowings in spite
of earning profits
c. The firm cannot make interest payments to the debt holders
d. The firm defaults for two accounting periods consecutively in paying its current liabilities
e. The firm cannot declare dividends in spite of good profits.
32. The leverage is measured as a
a. % change of an independent variable for a unit change in the dependent variable
b. % change of a dependent variable as a ratio to the percentage change in the independent
variable
c. Ratio between the changes in two variables
d. Ratio between the percentage change of the independent variable over that of dependent
variable
e. None of the above.
337

343. Financial Management
33. Your CEO feels that the company’s short-term bank borrowings are increasing disproportionately,
whereas you think otherwise. Which of the following ratios would you like to use along with debt
equity ratio to present your view?
a. Current ratio.
b. Fixed charges coverage ratio.
c. Interest coverage ratio.
d. Both (a) and (b) above.
e. All of (a), (b) and (c) above.
34. The numerator of receivables turnover ratio can be
a. Gross sales
b. Net credit sales
c. Net sales
d. All of the above
e. None of (a), (b) and (c) above.
35. Which of the following is true regarding valuation of securities?
The basic concept involved in the valuation of any security is
a. The FV of future cash flow streams
b. The yearly returns in the form of dividend/interest alone are taken for
calculating the PV.
c. The PV of future cash flow streams discounted at the required rate of return.
d. The PV of future cash flow streams discounted at the firm’s cost of capital.
e. Both (c) and (d) above.
36. Commercial Paper is
a. A demand promissory note
b. Issued for fixed maturities
c. Issued at discount to face value
d. Both (b) and (c) above
e. All of (a), (b) and (c) above.
37. Forecasting inconsistencies can be minimized by
a. Allowing managers to establish their own forecasts
b. Establishing a standardized economic forecast to be used by the firm, year in, year out
c. Generating current economic forecasts that are used throughout the firm
d. Following economic forecasts given by the finance ministry
e. None of the above.
38. The stability of a firm’s operating income is the focus of
a. Financial leverage
b. Weighted average cost of capital
c. Capital structure
d. Business risk
e. Individual components of cost of capital.
338

344. Part III
39. Sinking Fund Factor is equal to
1
a.
FVIFA
1
b.
FVIF
PVIF
c.
PVIFA
d. Both (b) and (c) above
e. Both (a) and (c) above.
40. Which of the following is a disadvantage of bought-out deals?
a. It is more expensive than public issue.
b. It involves a time consuming procedure.
c. It is difficult to convince a wholesale investor.
d. Promoters are not assured of immediate funds.
e. Sponsors may misuse their power.
Part B: Problems (60 Points)
Solve all the problems. Points are indicated against each problem.
41. Mr. Anand Suman is considering investment in the shares of ATCO Ltd. He has the
following expectations of return on the stock. The variance of the market returns is 42.2 (%)2
approximately.
Return (%)
Probability
ATCO Market
0.35 30 25
0.30 25 20
0.15 40 30
0.20 20 10
The yield on 182-day T-bills is 10% p.a.
Which of the following statements is true?
a. The risk associated with shares of ATCO Ltd. is more than the market risk.
b. The standard deviation of the returns on the shares of ATCO Ltd., is greater than the
standard deviation for the market returns by 0.30% (approximately).
c. The probability distribution of the market returns is wider than the probability
distribution of ATCO Ltd.
d. Both (a) and (b) above.
e. Both (b) and (c) above.
(3 points)
42. The beta of a security of SK Ltd., is 1.77. The variance of the security’s returns is 23.43(%)2.
The market return has the following probability distribution:
Projected Market Return Probability
15% 30%
12% 40%
8% 30%
The value of the correlation coefficient between market return and the security’s return is
a. 0.996
b. 0.812
c. 0.723
d. – 0.123
e. – 0.191.
(3 points)
339

345. Financial Management
43. The current risk-free rate is 10% and the expected return on the market portfolio is 15%. The
expected returns for four scrips are listed together with their expected betas.
Scrip Expected Expected
return (%) beta
1. AB Ltd. 17.0 1.3
2. CD Ltd. 14.5 0.8
3. EF Ltd. 15.5 1.1
4. GH Ltd. 18.0 1.7
Based on the above data, in which of the securities will a rational investor not invest in?
a. AB Ltd.
b. CD Ltd.
c. EF Ltd.
d. GH Ltd.
e. Both AB Ltd. and GH Ltd.
(2 points)
44. Using the following information determine the increase in the EPS of the firm if the EBIT of
the firm increases by 2%?
Sales Rs.120 lakh
Variable cost 70%
Fixed cost Rs.12 lakh
Net worth Rs.10 lakh
Debt-Equity ratio 2:1
Interest rate 16%
Tax rate 35%
a. 0.897%
b. 1.154%
c. 2.001%
d. 2.308%
e. 3.897%.
(2 points)
45. The following data is available about Brooke Ltd.
Sales Rs.30 lakh
Selling price per unit Rs.150
Variable cost per unit Rs.80
Fixed operating costs Rs.10,00,000
The company has the following capital structure:
Equity capital (Shares of Rs.10 each) Rs.2,00,000
Debt Rs.5,00,000
The interest on debt is paid at the rate of 15%. The degree of total leverage for the firm is
a. 4.31
b. 3.81
c. 3.53
d. 2.92
e. 1.23.
(2 points)
340

346. Part III
46. The DFL of Mountaintop Ltd. is 3. The company pays an annual interest of Rs.1,50,000 to its
debenture holders and does not have any preference shares on its books. The tax rate
applicable to the firm is 45%. If the company’s EBIT falls by Rs.22,500, the percentage fall
in its EPS will be
a. 20%
b. 25%
c. 30%
d. 39%
e. 40%.
(2 points)
47. The following information is related to Tip Top Traders Pvt. Ltd.
(Rs. in lakh)
Sales for the year (2000-2001) 80
Purchases for the year (2000-2001) 50
Inventory as on 31-03-2001 15
Inventory as on 31-03-2000 10
The gross profit margin for the company is
a. 34.56%
b. 43.75%
c. 55.67%
d. 57.34%
e. 59.78%.
(2 points)
48. The following information is available about Vectra Ltd.
Current liabilities Rs.49,000
Stock Rs.42,500
Average Collection Period 2 months
The gross profit for the company is Rs.60,000 and the gross profit margin is 20%. Cash in hand is
63% of debtors. The entire sales are on credit basis. The current ratio of the company is
a. 1.50
b. 1.98
c. 2.03
d. 2.53
e. 3.33.
(3 points)
49. Mr. Srinivas is considering investment in Bond X which has a coupon rate of 12%, maturity
period of 5 years and a par value of Rs.100. The bond is presently traded in the market at a
price of Rs.95 and it is redeemable at par on maturity. The approximate YTM of the bond is
a. 12.4%
b. 13.3%
c. 14.6%
d. 15.1%
e. 16.3%.
(2 points)
341

347. Financial Management
50. Imperial Industries Ltd., has total assets worth Rs.800 lakh and spontaneous liabilities of
Rs.250 lakh. Its sales, at present, are Rs.1,000 lakh. The net profit margin is 10% and the
dividend pay-out ratio is 40%. The sales are growing and, in the forthcoming period the
consequent growth in its assets will be financed entirely by an increase in its spontaneous
liabilities and an increase in its retained earnings without resorting to any external financing in
any form.
The growth rate that can be financed by the company without resorting to external finance is
a. 13.45%
b. 12.25%
c. 11.34%
d. 10.89%
e. 9.56%.
(3 points)
51. The balance sheet and profit and loss account of India Infotech Ltd. for the financial year
April 01, 2003 to March 31, 2004 are given below.
Balance Sheet for India Infotech Ltd. as on
March 31, 2004
(Rs. in lakh)
Liabilities March 2004 March 2003 Assets March 2004 March 2003
Shareholders’ Fund 3307 3307 Fixed Assets
Reserves & Surplus 80185 54136 Gross block 28403 16892
Current liabilities 8414 4283 Depreciation 13632 8309
Provisions 8183 4213 Net block 14771 8583
Capital work-in-progress 5696 1488
Investments
Investment in subsidiary 1383 75
Current assets
Sundry debtors 13618 8452
Cash & Bank balances 43608 40505
Loan & advances 21013 6836
Total 100089 65939 Total 100089 65939
Profit & Loss Account for the year ended
March 31, 2004
(Rs. in lakh)
Income
Software development products 88232
Other Income 3914
92146
Expenditure
Software development & others 54258
Profit before interest, depreciation and tax 37888
Interest —
Depreciation 5323
Profit before tax 32565
Provision for tax 3970
Profit after tax 28595
Extraordinary income 757
Profit after tax & extraordinary income 29352
Dividend 2976
Dividend tax 327
Amount transferred to reserves 26049
342

348. Part III
The total cash used during the period April 2003-March 2004 is
a. Rs.12,116
b. Rs.32,776
c. Rs.34,560
d. Rs.39,673
e. Rs.42,776.
(3 points)
52. Knit Fabric India Ltd. (KFIL) is a leading producer of cotton textiles. KFIL has over 200
employees on its rolls. The management of the company is planning to launch a pension
scheme for its employees with 15 years of service left. It has been proposed that KFIL would
create a fund for the purpose and each employee will be required to contribute to this fund a
fixed sum of Rs.10,000 per annum at the end of each year for 15 years. The contributions to
the fund will earn a 9% rate of interest per annum compounded annually. After retirement
each employee will get Rs.60,000 at the end of every year for 20 years which is paid from
this fund. As the employee’s annual contribution is not adequate for the planned payment,
KFIL will contribute a lump sum amount per employee to the fund at the time of retirement
of the employee.
The contribution to be made by each employee is
a. Rs.2,93,609
b. Rs.2,54,101
c. Rs.5,47,710
d. Rs.60,000
e. Rs.4,87,710.
(2 points)
53. In the above problem, the lump sum amount per employee to be contributed by KFIL at the
time of retirement of the employee is
a. Rs.60,000
b. Rs.1,50,000
c. Rs.2,54,101
d. Rs.2,93,609
e. Rs.3,12,000.
(2 points)
54. National Electricals Ltd. has achieved sales of Rs.40 crore and a net profit of Rs.5 crore in
the current year. The following figures are obtained from the current year’s balance sheet:
Paid-up equity share capital Rs.5 crore
Reserves and surplus Rs.3 crore
Long-term loans Rs.8 crore
Current liabilities and Rs.4 crore
provisions
If the company wants to increase the return on equity by 7.5 percentage points next year then
by how much should the net profit margin change, other ratios remaining the same?
a. Increase by 1.5%.
b. Decrease by 2.0%.
c. Increase by 2.0%.
d. Decrease by 1.5%.
e. Increase by 3.2%.
(3 points)
343

349. Financial Management
55. Suraj lent Rs.30,000 to his friend Akash. Akash will repay the loan in five equal annual
installments of Rs.10,000 each, with the first installment to be received at the end of one year
from now. The approximate rate of return that Suraj will receive on the loan is
a. 10%
b. 12%
c. 14%
d. 20%
e. 22%.
(2 points)
56. The degree of operating leverage at a specific level of operations of a firm is 2.50. If the sales
increase by 4% then the percentage change in EBIT will be
a. –10.0%
b. 2.5%
c. 4.0%
d. 5.0%
e. 10.0%.
(1 point)
57. If the effective rate of interest is 10.25% per annum and the nominal rate of interest is
compounded twice a year, then the nominal rate of interest per annum is
a. 9.00%
b. 10.00%
c. 10.50%
d. 11.00%
e. 12.00%.
(2 points)
58. If the approximate doubling period according to the rule of 69 is 6.1 years, then the interest
rate is
a. 7%
b. 9%
c. 11%
d. 12%
e. 14%.
(1 point)
59. Given Total debt-equity ratio = 5:4; total assets = Rs.4,500; short-term debt = Rs.600 and
total debt consists only of long-term debt and short-term debt, the long-term debt is equal to
a. Rs.1,567
b. Rs.1,900
c. Rs.2,167
d. Rs.2,500
e. Rs.2,833.
(2 points)
344

350. Part III
60. Mr.Rajsinha is 70 years old and he is expecting that he will live for another ten years. His
total savings are Rs.1,00,000, which he has deposited in a bank. He wants to spend his
savings equally over these ten years. If the interest earned on these deposits is 10% per
annum, the annual withdrawal made over the defined period such that the account balance
becomes zero at the end of 10 years is
a. Rs.38,550
b. Rs.20,000
c. Rs.18,550
d. Rs.16,273
e. Rs.6,275.
(1 point)
61. Consider the following data regarding the bonds issued by Zeta Ltd. on July 15, 2001 to be
redeemed on July 15, 2008:
Face value of the bond Rs.100
Issued at a discount of 10%
Redeemable at a premium of 10%
Interest payable semi-annually 8% p.a.
Current market price as on July 15, 2003 Rs.95
The yield to maturity of the bond to a prospective investor is
a. 9.27%
b. 10.80%
c. 12.24%
d. 12.66%
e. 13.55%.
(2 points)
62. A Ltd., and B Ltd., are two companies that manufacture computer hardware. The most recent
dividend paid by these two companies is Rs.1.80 per share and the required rate of return for
both the companies is 11%. The intrinsic value of the share of A Ltd., is Rs.34.12. The
dividends of B Ltd., are expected to grow at a rate of 8% annually for 3 years, followed by
“x%” annual growth rate from year 4 to infinity. The price of the security of A Ltd., is greater
than the price of the share of company B by Rs. 7.60. The value of “x” is
a. 1%
b. 2%
c. 3%
d. 4%
e. 5%.
(3 points)
63. The networth of M/s. Ashok Ltd. is Rs.10,00,000. The company has the policy of retaining
50% of its earnings. If the company earns 10% on its net worth the growth rate in dividends is
a. 8%
b. 7%
c. 6%
d. 5%
e. 4%.
(2 points)
345

351. Financial Management
64. The following data pertain to Mehta & Co.:
Cost of goods sold = Rs.80 lakh
Inventory turnover = 4
Closing stock = Rs.25 lakh
The opening stock is
a. Rs.5 lakh
b. Rs.10 lakh
c. Rs.15 lakh
d. Rs.20 lakh
e. Rs.25 lakh.
(1 point)
65. Mr.Shyam plans to send his son abroad for higher education 15 years hence. Presently the
expenditure on the same is Rs.5,00,000 and this is growing at a rate of 3 percent per annum.
If the rate of interest is 8 percent per anum then, how much should Mr. Shyam invest at the
end of each year for the next 15 years in order to finance the expenditure on his son’s higher
education after 15 years?
a. Rs.28,690.
b. Rs.76,187.
c. Rs.7,34,426.
d. Rs.8,50,755.
e. Rs.9,50,825.
(2 points)
66. Asita borrowed an amount of Rs.41,000 from a bank to be repaid in five equal annual
installments. If the rate of interest is 7% p.a. on the reducing balances, the amount of
principal amortized in the first payment is
a. Rs.2,870
b. Rs.7,130
c. Rs.10,000
d. Rs.12,345
e. Rs.13,130.
(2 points)
67. Consider the following data regarding M/s. X Ltd.:
Operating profit Rs.1,00,000
Profit after tax Rs.50,000
10% Preference shares Rs.1,00,000
Degree of total leverage 4
Tax rate 20%
If EBIT has to increase by 10%, sales have to be increased by
a. 10%
b. 8%
c. 5%
d. 4%
e. 2.5%.
(2 points)
346

352. Part III
68. The stock of Titan Housing Ltd., a housing finance company, sells for Rs.50 per share. The
dividend it is likely to pay after one year is Rs.2.50 per share and the price of the share after
one year is likely to be Rs.55. The return at the end of one year on the basis of the likely
dividend and price per share, will be
a. 5%
b. 10%
c. 15%
d. 20%
e. 25%.
(1 point)
69. The net worth and total debt of Modern Threads Ltd. are Rs.300 lakh and Rs.500 lakh
respectively. The EBIT of the company is Rs.160 lakh. The earning power of the company is
a. 12%
b. 15%
c. 18%
d. 20%
e. 24%.
(1 point)
70. The doubling period of the Kisan Vikas Patra is 7 years and 8 months. What is the rate of
interest according to the Rule of 69?
a. 9.28 %.
b. 9.43 %.
c. 9.58%.
d. 9.73%.
e. 9.88%.
(1 point)
347

353. Financial Management
Model Question Paper I
Suggested Answers
Part A: Basic Concepts
1. (d) Systematic risks affect the overall economy. Hence all companies are affected by it. Any
risk which is company specific is not a systematic risk. All alternatives other than (d) are
systematic risks.
2. (c) A term deposit is held for a specific term or maturity with a bank; it is not marketable. All
other alternatives except (c) represent marketable instruments.
3. (b) The security market line shows the relationship between required rates of return on the
securities and beta of the securities.
4. (d) If a security’s return plots above the Security Market Line (SML) then the return on the
security is more than the required rate of return on the security according to the SML. A
greater return means a lesser price of the security than its intrinsic value. Hence the security
is underpriced.
5. (c) Primary capital markets help in the creation of new long-term securities. These long-term
securities are issued by the companies to raises funds for fulfilling their long-term
requirements.
6. (b) A decrease in a liability or an increase in asset is a use of fund. Alternative (b) represents an
increase in a liability, which is a source of fund.
7. (b) Depreciation is a non cash expense. All other alternatives involve the use of cash. Hence
for understanding the funds flow as flow of cash, depreciation represents a source of cash.
8. (d) Intrinsic value of bond = C PVIFA(k,n) + F PVIF(k,n)
Where, C = coupon payment on the bond
F = amount payable at maturity
k = discount rate
n = number of years to maturity.
From the expression of intrinsic value of bond we can see that other things being equal if the
amount payable at maturity increases then the value of bond increases.
9. (a) The amount that a company can realize if it sells its business as an operating one is called
going concern value.
10. (b) When the required rate of return on a bond is less than the coupon rate, the intrinsic value
of the bond is more than its par value, hence there exists a premium above its par value. This
premium on the bond decreases as the maturity approaches. All other alternatives except (b)
are false.
EBIT
11. (c) Degree of Financial Leverage (DFL) =
Dp
EBIT − I −
1− t
EBIT
When, DFL = 0, =0
Dp
EBIT − I −
1− t
or EBIT = 0
∴ All other alternatives except (c) are false.

354. Part III
12. (b) The following are true with regard to the Degree of Operating Leverage (DOL)
– Each level of output has a distinct DOL.
– DOL is negative below the operating break even point.
– DOL is positive above the operating break even point.
– DOL is undefined at the operating break even point.
13. (c) Trend analysis is an objective method of sales forecasting.
14. (c) Debt-equity ratio and debt-asset ratio are leverage ratios. Return on equity and return on
investment are profitability ratios. Acid-test ratio is a liquidity ratio.
15. (d) Current ratio indicates the capacity to meet current obligations.
16. (a) According to the dividend discount model, the value of an equity share is the discounted
present value of dividends received plus the present value of resale price expected when the
equity share is sold.
17. (a) The value stated on the face of the share is called the face value or the par value. The par
value of the share is least important to a financial analyst because no corporate benefits are
calculated on the par value.
18. (b) Financial risk arises when companies resort to financial leverage or use of debt financing.
The more the company resorts to debt financing, the greater is the financial risk.
19. (a) DOL=Percentage change in EBIT/Percentage change in quantity.
Hence a DOL of +2 indicates that a 10% increase in quantity will lead to a 20% increase
in EBIT.
20. (e) External financing requirement can be found out with the help of the following equation:
EFR = (A/S) (∆S) – (L/S) (∆S) – m S1 (1 – d)
The equation highlights that the amount of external financing depends on the firm’s
projected growth in sales and not on growth rate in earnings.
21. (c) Decision-making in all areas of management including financial management involves
the balancing of the trade off between risk and return. A finance manager has to decide
whether any opportunity is worth more than its cost and whether additional burden of debt
can be safely borne.
22. (d) The CAPM is represented by kj = Rf + βj (km – Rf)
Where,
kj = expected or required rate of return on security j
Rf = risk-free rate of return
βj = beta coefficient of security j
km = return on market portfolio
23. (b) Funds from operations are not expressed directly in the income statement. In order to get
funds from operations, depreciation has to be added back to the profit after taxes.
24. (c) Business risk refers to the risk of doing business in a particular industry or environment
and it gets transferred to the investors who invest in the business or company. Since this risk
is specific to a company it can be diversified.
25. (e) At present the maximum maturity period for which companies can accept deposits is 60
months or 5 years. Earlier it used to be 36 months.
26. (c) The yield curve depicts the current relationship between yield of the bond and the term to
maturity of the bond.
27. (c) The value of common stock decreases with the increase of discount rate, other things
remaining the same.
349

355. Financial Management
28. (d) The CAPM is represented by kj = Rf + βj (km – Rf)
Where,
kj = expected or required rate of return on security j
Rf = risk-free rate of return
βj = beta coefficient of security j
km = return on market portfolio
The expected rate of return has a direct relationship to the risk-free rate of return. Hence if there
is an increase in the risk-free rate and β < 1 then the stock’s expected return also increases.
29. (b) When DTL is calculated for various levels of output then we find that at the overall break
even point of output the degree of total leverage is undefined.
30. (e) All the given techniques are used for financial forecasting.
31. (b) A situation in which a firm can no longer honor its financial obligations. Although its
assets may exceed its total liabilities, thereby indicating a positive net worth, the company
simply does not have sufficient liquidity to pay its debts.
32. (b) Leverage is the influence which an independent financial variable has over a
dependent/related financial variable. When leverage is measured between two financial
variables it explains how the dependent variable responds to a particular change in the
independent variable.
33. (a) Liquidity implies a firm’s ability to pay its debts in the short run. Here the firm’s short-
term liquidity has to be found out. Hence current ratio can be used which is commonly used
to measure the liquidity.
34. (b) Receivables turnover ratio measures the speed with which inventory is converted into sales
and accounts receivable converted into cash. It is given as Net credit sales/Average accounts
receivable.
35. (c) The basic concept involved in the valuation of any security is that the value of a security
is the present value of future cash streams discounted at the required rate of return i.e. the
intrinsic value of an asset is equal to the present value of the benefits associated with it.
36. (d) Commercial papers are short-term, unsecured promissory notes issued at a discount to
face value by well-known companies that are financially strong and carry a high credit rating.
37. (c) Inconsistencies in forecasting can be minimized by generating current economic forecasts
that are used throughout the firm.
38. (d) Business risk refers to the uncertainty or variability of the firm’s EBIT or the operating
income. So, everything else being equal, a higher degree of operating leverage DOL means
higher business risk and vice versa.
k
39. (e) Sinking Fund Factor =
(1 + k) n − 1
(1 + k)n − 1
FVIFA =
k
1
Hence Sinking Fund Factor =
FVIFA
PVIF 1 k (1 + k) n k
= x = = Sinking Fund Factor.
PVIFA (1 + k) (1 + k) n − 1 (1 + k) n − 1
n
Hence, both (a) and (c) are correct. Therefore, option (e) is the answer.
40. (e) Since in a bought-out deal, the shares are initially offered to the sponsor and the sponsor
has the discretion to offload the shares to the public at an appropriate time, it may misuse its
discretion to disinvest the shares in favor of the public; this may affect the interests of the
promoters of the company.
350

356. Part III
Part B: Problems
41. (c)
Expected return for ATCO
= 30(0.35) + 25(0.30) + 40(0.15) + 20(0.20) = 28%
Variance of returns for ATCO Ltd.
= (30 – 28)2 (0.35) + (25 – 28)2 (0.30) + (40 – 28)2 (0.15) + (20 – 28)2 (0.20)
= 38.50 (%)2.
The variance of market returns is given to be 42.2 (%)2.
Hence, the variance of market returns is more than the variance of returns on a security of
ATCO Ltd.
In other words, risk associated with market returns is more than the risk associated with
ATCO Ltd. Hence option (a) is wrong.
Standard deviation (ATCO) Ltd.= 38.50 = 6.20%
Standard deviation for market returns = 42.20 = 6.50% (approximately)
Hence the standard deviation of the returns on the shares of ATCO Ltd. is lesser than the
standard deviation for the market returns by 0.30% (approximately).
The market returns have a wider probability distribution than the returns on the shares of
ATCO Ltd. (as clearly indicated by the higher standard deviation of the market returns).
42. (a)
Cov(i,m) ρσi σ m
β= =
σ2
m σ2m
Expected return from the market = Σpikm
= 0.30 (15) + 0.40 (12) + 0.30 (8) = 11.70%
Risk for the market, σm = [Σpi (k m − k m ) 2 ]1/2
= [(15 – 11.70)2 (0.30) + (12 – 11.70)2 (0.40) + (8 – 11.70)2 (0.30)]1/2
= [3.267 + 0.036 + 4.107]1/2 = (7.41)1/2 = 2.72%.
Given σi2 = 23.43(%)2
∴ σi = 23.43 = 4.84%
ρ (4.84)(2.72)
i.e. 1.77 =
7.41
1.77 × 7.41
Therefore, ρ = = 0.996.
4.84 × 2.72
43. (d) Risk-free rate (rf) = 10%,
Market return (rm) = 15%
Scrip Expected Return (%) Required return (%) = rf + β j (rm − rf )
AB Ltd. 17.0 10 + 1.3(15 – 10) = 16.5
CD Ltd. 14.5 10 + 0.8(15 – 10) = 14.0
EF Ltd. 15.5 10 + 1.1(15 – 10) = 15.5
GH Ltd. 18.0 10 + 1.7(15 – 10) = 18.5
On the basis of the above information, we find that the expected return in case of GH Ltd. is
less than the required rate of return. Hence it is not advisable to buy the security of GH Ltd.
351

357. Financial Management
44. (d) Total debt = Debt-equity ratio x Net worth = 2 x 10 = Rs.20 lakh.
Interest = 20 x 0.16 = Rs.3.20 lakh.
Preference dividend = 0.
EBIT = Sales – variable costs – fixed costs
= 120 – 120 (0.70) – 12 = Rs.24 lakh.
EBIT 24
DFL = = = 1.154.
DP 24 − 3.20 − 0
EBIT− Interest −
(1 − t)
Hence, if EBIT increases by 2%, EPS will increase by 2.308%.
Sales 30 lakh
45. (a) Q = = = 20,000 units.
Selling price per unit 150
Q(S − V)
DTL =
Dp
Q(S − V) − F − I −
(1 − t)
20, 000(150 − 80)
= = 4.31.
20, 000(150 − 80) − 10, 00, 000 − 75, 000 − 0
46. (c) It is given that DFL = 3.
EBIT EBIT
Also, DFL = =
EBIT − I EBIT − 1,50,000
3 EBIT – 4,50,000 = EBIT
EBIT = Rs.2,25,000.
22,500
Fall in EBIT (percentage) = = 10%.
2,25,000
Hence, the EPS will fall by (10 x 3) = 30%.
47. (b) Gross Profit margin
Sales − Cost of goods sold
=
Sales
Cost of goods sold
= Opening stock + Purchases – Closing stock
= 10 + 50 – 15 = Rs.45 lakh.
80 − 45
Gross Profit Margin = = 0.4375 = 43.75%.
80
Gross Profit
48. (d) Gross Profit margin =
Sales
Gross Profit 60000
Therefore, Sales = = = Rs.3,00,000.
Gross Profit Margin 0.20
Debtors
Average Collection Period =
Daily credit sales
352

358. Part III
Debtors = Daily credit sales x Average collection period
3, 00, 000 3, 00, 000
= x 2= = Rs.50,000.
12 6
Cash in hand = 0.63 x 50,000 = Rs.31,500.
Current assets = Debtors + Stock + Cash in hand
= 50,000 + 42,500 + 31,500 = Rs.1,24,000.
Current assets 1,24,000
Current Ratio = = = 2.53.
Current liabilities 49,000
49. (b) Interest payment on the bond, C = Rs.12.00
Maturity period, n = 5 years
Market price, P = Rs.95
Redemption value, F = Rs.100
Approximate YTM, r
F−P 100 − 95
C+ 12 +
= n = 5 = 0.1333 i.e. 13.33%.
F+ P 100 + 95
2 2
Alternative Method:
95 = 12 PVIFA(r,5) + 100 PVIF(r,5)
r = 13% RHS = 12 PVIFA(13%,5) + 100 PVIF(13%,5)
= 12 (3.517) + 100 (0.543)
= 96.504
r = 14% RHS = 12 PVIFA(14%,5) + 100 PVIF(14%,5)
= 12 (3.433) + 100 (0.519)
= 93.096
(14 − 13)
∴ r = 13 + × (96.504 – 95.000) = 13.44%.
(96.504 − 93.096)
50. (b) We know,
A L
EFR = ( ∆S) − (∆S) – mS1 (1 – d)
S S
S1 = S + ∆S
A L
∴ EFR = (∆S) − (∆S) – m (S + ∆S) (1 – d)
S S
Given:
Sales (S) = Rs.1000 lakh
Total Assets (A) = Rs.800 lakh
Spontaneous liabilities (L) = Rs.250 lakh
Net profit margin (m) = 0.10
Dividend pay-out ratio (d) = 0.40
EFR = 0 (by the problem)
353

359. Financial Management
800 250
∴0 = (∆S) − (∆S) – (0.10) (1000 + ∆S) (1 – 0.40)
1, 000 1, 000
or 0 = 0.80 ∆S – 0.25 ∆S – (0.10)(0.60) (1000 + ∆S)
or 0 = (0.80 – 0.25) ∆S – 0.06 (1000 + ∆S)
or 0 = 0.55 ∆S – 0.06 ∆S – 60
or 0.49 ∆S = 60
60
or ∆S = = 122.45 i.e. Rs.122.45 lakh
0.49
∴ Growth rate in sales that can be achieved without raising external funds
∆S 122.45
= = = 0.1225 i.e. 12.25%.
S 1, 000
51. (d) Funds Flow Analysis – Cash Basis
Uses of Cash
Payment of dividend tax 327
Payment of dividend 2,976
Increases in non-current assets:
Fixed assets (gross block) 11,511
Capital work-in-progress 4,208
Investment in subsidiary 1,308 17,027
Increases in current assets other than cash:
Sundry debtors 5,166
Loans & Advances 14,177 19,343
Total cash used 39,673
52. (c) Future value of contributions at the end of 15 years (per employee)
1. Amount contributed per annum = Rs.10,000
2. FVIFA (9%, 15 years) = 29.3609
3. Accumulated sum at the end of 15 years (FV of Annuity) = 1 × 2 = Rs.2,93,609.
Sum required at the end of 15 years to pay pension in the years 16 through 35
4. Pension per annum for 20 years (from year 16 to 35) = Rs.60,000
5. PVIFA (9%, 20 years) = 9.1285
6. Sum required at the end of the 15th year is the required contribution to be made by
each employee = 4 × 5 = Rs.5,47,710.
53. (c)
7. Sum accumulated at the end of 15 years from employee’s contribution
= Rs.2,93,609
8. Amount to be contributed by the company (6 – 7) = Rs.2,54,101.
354

360. Part III
Net profit 5
54. (a) At present Return on Equity (ROE) = = = 0.625 i.e. 62.5%
Equity 5+ 3
Net profit Sales Total assets
Return on Equity (ROE) can also be computed as: x x
Sales Total assets Equity
Given:
Net profit = Rs.5 crore
Sales = Rs.40 crore
Total liabilities = Total debt + Net worth
= Long-term loans + Current liabilities & provisions + Paid-up equity share capital +
Reserves & surplus
= (8 + 4) + (5 + 3) = Rs.20 crore
Net profit 5
Existing net profit margin = = = 0.125 i.e. 12.5%
Sales 40
Total assets = Total liabilities = Rs.20 crore.
Sales 40
Total asset turnover = = = 2.00
Total assets 20
Total assets 20
Total asset to equity ratio = = = 2.50
Net worth (5 + 3)
Existing ROE = 62.5%
Required ROE = 62.5% + 7.5% = 70%
ROE 70
∴ Required net profit margin = = = 14%
Sales Total assets 2.00 x 2.50
x
Total assets Net worth
∴ Change in net profit margin = 14% – 12.5% = 1.5% (increase).
55. (d)
10000 x PVIFA(k,5) = 30,000
PVIFA(k,5) = 3.
Looking at PVIFA tables
PVIFA(18,5) = 3.127
PVIFA(20,5) = 2.991
By interpolation,
3.127 − 3
k = 18 + 2 x = 19.87% or approximately 20%.
3.127 − 2.991
Percentage change in EBIT
56. (e) DOL =
Percentage change in sales
or Percentage change in EBIT = DOL × Percentage change in sales
= 2.50 × 4 = 10%.
m
⎛ r ⎞
57. (b) e = ⎜1 + ⎟ − 1
⎝ m⎠
Where, e = effective rate of interest
r = nominal rate of interest
m = number of times compounding is done in a year.
355

361. Financial Management
∴ Given: e = 10.25% and m = 2
2
⎛ r⎞
∴ 0.1025 = ⎜1 + ⎟ −1
⎝ 2⎠
2
⎛ r⎞
or 1.1025 = ⎜1 + ⎟
⎝ 2⎠
r 1.1025
∴ 1+ =
2
or r = ( 1.1025 – 1)2 = 0.10 i.e. 10%.
58. (d) Rule of 69:
69
Doubling period = 0.35 +
Interest rate (i)
Given: Doubling period = 6.1 years.
69
Therefore, 0.35 + = 6.1
i
69
or = 5.75
i
69
or i = = 12%.
5.75
Total debt 5
59. (b) =
Equity 4
Adding 1 to both sides of the equation we get:
Total debt 5
+ 1= + 1
Equity 4
Total debt + Equity 5 + 4
or =
Equity 4
Total assets 9
or =
Equity 4
4 4
∴ Equity = x total assets = x 4,500 = Rs.2,000.
9 9
Now, total assets = Total debt + Equity = Rs.4,500
Total debt + 2,000 = 4,500
Total debt = 2,500
Long-term debt = Total debt – Short-term debt = 2,500 – 600 = Rs.1,900.
60. (d) Let Equated annual withdrawal be ‘X’
X. PVIFA(10,10%) = Rs.1,00,000
X × 6.145 = 1,00,000
CIF = 1,00,000/6.145 = Rs.16,273.393.
356

362. Part III
61. (b) The YTM is the value of ‘i’ in the following:
95 = 4PVIFAi,10 + 110PVIFi,10
At i = 5%, RHS = 98.428
At i = 6%, RHS = 90.82
98.428 − 95
i = 5+ = 5.4 = 10.8% (approximately).
98.428 − 90.82
62. (c) IV of A Ltd. = Rs.34.12
Price of B Ltd. = 34.12 – 7.60 = Rs.26.52
Price = PV of dividends + PV of IV
1.8(1.08) 1.8(1.08)2 1.8(1.08)3 1.8(1.08)3 (1+ x)
= + + + = 26.52
1.11 (1.11)2 (1.11)3 (k − g)(1.11)3
1.658(1 + x)
= 1.751 + 1.704 + 1.658 + = 26.52
0.11 − x
1.658(1 + x)
= 21.407
0.11 − x
1.658 + 1.658x = 2.355 – 21.407x
23.065x = 0.6968x = 0.03 = 3%.
63. (d) Let net worth = Rs.10,00,000
Year 1
Rs.
Total earnings = 1,00,000
(10% of Rs.10, 00, 000)
Less: Retained earnings (50%) = 50,000
Dividends distributed = 50,000
Year 2
Rs.
Earnings on net worth = 1,05,000
(Rs.1,00, 000 + 10 % of Rs.50, 000)
Less: Retained earnings (50%) = 52,500
Dividends distributed = 52,500
Growth in dividends
(Dividends in 2nd year – Dividends in 1st year/ Dividends in 1st year) x 100
= (Rs.52, 500 – Rs.50, 000) / Rs.50, 000
= Rs.2, 500/Rs.50, 000
= 5%.
357

363. Financial Management
Cost of Goods sold
64. (c) Inventory turnover = =4
Average Inventory
Now,
COGS = Rs.80 lakh, hence average inventory will be = Rs.20 lakh
But the amount of closing stock = Rs.25 lakh
Therefore the amount of opening stock will be = (20 x 2) – 25 = Rs.15 lakh.
65. (a) At the end of 15 years, the amount of expenditure will be = Rs, 5,00,000 x (1.03)15
= Rs.7,78,983.71
7, 78, 983.71
So the required amount of annual installment will be =
FVIFA (8%,15 years)
7, 78,983.71
= = 28,689.74 = Rs.28,690.
27.152
66. (b) Let the equal annual installment be A.
41,000 = A x PVIFA(7%,5)
41, 000
Therefore A = = Rs.10, 000 .
4.1
Every installment comprises an interest component and a principal component.
The interest component in the first installment of Rs. 10,000 = 0.07 x 41,000 = Rs. 2,870.
Hence the amount of principal amortized by the first installment = 10,000 – 2,870 = Rs. 7,130.
67. (c) Change in EBIT with respect to change in sales is known by Degree of operating
leverage.
Degree of Total leverage
Degree of operating leverage =
Degree of Financial leverage
EBIT
DFL =
Dp
EBIT − I −
1− T
PAT = Rs.50,000
Given tax rate = 20%,
50, 000
PBT = = Rs.62, 500
0.8
Given EBIT = Rs.1,00,000,
Interest = 1,00,000 – 62,500 = Rs.37,500
1, 00, 000 1,00,000
DFL = = =2
0.1x1,00,000 50,000
1,00,000 − 37,500 −
1 − .2
4
DOL = =2
2
Hence, if EBIT has to increase by 10%, sales have to be increased by 5%.
68. (c) Holding period return is given as
Pt − Pt −1 + D t
r=
Pt −1
Here Pt = Rs.55, Pt–1 = Rs.50, Dt = Rs. 2.50
55 − 50 + 2.50
So, r = × 100 = 15 percent .
50
358

364. Part III
EBIT 160 160
69. (d) Earning power = = = = 0.2
Total Assets 300 + 500 800
Hence, earning power of the company = 20%.
8
70. (b) 7 years and 8 months = 7 = 7.67 years
12
69
According to the Rule of 69, Doubling period = 0.35 +
Rate of Interest
69 69
Or, 0.35 + = 7.67 or, =7.32
k k
Or, k = 9.426 ≈ 9.43
Hence, the required rate of interest = 9.43 percent.
359

365. Model Question Paper II
Time: 3 Hours Total Points: 100
Part A: Basic Concepts (40 Points)
Answer all the questions. Each question carries one point.
1. Which of the following is not the reason for money having time value?
a. Money can be productively deployed to generate real returns over time.
b. In an inflationary period the purchasing power of money declines over time.
c. Future is uncertain and individuals prefer to have the money today than sometime in
future.
d. Money in the form of currency is a legal tender guaranteed by the government.
e. None of the above.
2. The minimum number of persons required to form a public limited company is
a. 2
b. 4
c. 6
d. 7
e. 8.
3. The objective of financial management to increase the wealth of the shareholders means an
a. Increase in the physical assets owned by the shareholders due to any reason whatsoever
b. Increase in the cash in hand of the shareholders due to any reason whatsoever
c. Increase in the bank account balance of the shareholders due to any reason whatsoever
d. Increase in the market value of the shares of the firm held by the shareholders
e. Increase in the total number of shares of various companies held by the shareholders.
4. Which of the following is not a function of the finance manager?
a. Deployment of funds.
b. Risk-return trade off.
c. Giving proposals for investment in various technical projects.
d. Mobilization of funds.
e. Control over the use of funds.
5. Which of the following is not true with regard to the sole proprietorship firm?
a. It is easy and inexpensive to establish the firm.
b. There is no tax on the income of the firm.
c. Life of the firm is perpetual.
d. Raising funds from the public is not possible.
e. The personal liabilities of the proprietor are unlimited.
6. Which of the following functions of the financial system facilitates conversion of investments
in stocks, bonds, debentures, etc. into money?
a. Savings function.
b. Liquidity function.
c. Payment function.
d. Risk function.
e. Policy function.

366. Part III
7. In which of the following markets short-term financial instruments are traded?
a. Primary market.
b. Secondary market.
c. Capital market.
d. Money market.
e. None of the above.
8. In which of the following types of issue, new securities are offered to the existing
shareholders of the company on a pro rata basis?
a. Public issue.
b. Rights issue.
c. Bonus issue.
d. Private placement.
e. None of the above.
9. Which of the following is not a diversifiable risk in the context of investment in stocks?
a. Company strike.
b. Bankruptcy of major supplier.
c. Bankruptcy of major customer.
d. Unexpected entry of new competitors into the market.
e. Industrial recession.
10. Which of the following is not an assumption in the CAPM?
a. Investors use the expected return and standard deviation of returns as the appropriate
measures of return and risk of the portfolios.
b. Investors are risk averse.
c. Investors do not agree with each other on the nature of return and the risk associated
with each investment.
d. The assets can be bought and sold in any unit desired.
e. Transaction costs are low.
11. Which of the following represents the amount that can be realized by a company if it
terminates its business and sells all its assets?
a. Book value.
b. Liquidation value.
c. Replacement value.
d. Going concern value.
e. Market value.
12. When the required rate of return on a bond is greater than its coupon rate the
a. Premium on the bond increases as the maturity approaches
b. Premium on the bond declines as the maturity approaches
c. Discount on the bond increases as the maturity approaches
d. Discount on the bond declines as the maturity approaches
e. Discount on the bond remains constant till the maturity.
361

367. Financial Management
13. Which of the following ratios indicates the capital structure?
a. Debt-assets ratio.
b. Price-earnings ratio.
c. Total asset turnover ratio.
d. Return on equity.
e. None of the above.
14. At the time of the bond being sold, the bond price has fallen by an amount exceeding the
coupon payment. Then
a. It earns a holding period return
b. Current yield can be measured
c. The holding period return will be negative
d. Both (b) and (c) above
e. None of the above.
15. Which of the following ratios does not affect the ROE in Du Pont analysis?
a. Debt assets ratio.
b. Assets turnover ratio.
c. Return on assets ratio.
d. Net profit margin.
e. Assets to equity ratio.
16. As per Funds Flow Statement prepared on cash flow basis
a. The increase in prepaid expenses is a source
b. The increase or decrease in cash balance will be equal to the difference between the
opening and closing cash balance
c. The figures w.r.t. increase or decrease in assets include cash
d. Funds from operations is equal to the PAT + DEP
e. The total of sources and uses of funds is the same as that of total resources basis.
17. DOL will be equal to
a. ΔContribution/ΔProfit or Loss before tax
b. ΔEBIT/ΔPAT
c. ΔEBIT/ΔQTY
d. ΔSales/ΔEBIT
e. None of the above.
18. Which of the following is true with reference to funds flow statement?
a. It is the same as balance sheet.
b. It only represents how the firm is meeting its revenue expenditure.
c. It is also called statement of financial expansion and replacement.
d. It is more concerned with depicting cash flow position.
e. It is prepared on the basis of B/S and P&L a/c.
19. The numerator of Inventory turnover ratio can be
a. Total assets
b. Current assets
c. Cost of goods sold
d. Either (a) or (c) above
e. None of the above.
362

368. Part III
20. Which of the following statements is true?
a. The face value of a bond is the amount realized by the firm on its issue.
b. The coupon rate of the bond varies with the interest rate fluctuations in the economy.
c. The amount the bondholder gets on maturity is the redemption value.
d. The bond is generally redeemed at market value at that time.
e. The redemption value of a bond represents the amount borrowed by the firm.
21. Which of the following is true if the effective rate of interest = r, nominal rate = k and
frequency of compounding = m?
a. ((1 + r) − 1)m = k .
b. r = (1 + k/m) − 1.
m
c. (1 + k/m) − 1 = r.
m
d. r = (1 + k) .
e. None of the above.
22. The variance of a stock’s returns can be calculated as the
a. Average value of deviations from the mean
b. Average value of squared deviations from the mean
c. Square root of average value of deviations from the mean
d. Sum of the deviations from the mean
e. Square root of the sum of the deviations from the mean.
23. Which of the following would not be considered a money market instrument?
a. Treasury bill with 91 days until maturity.
b. Commercial paper with 180 days until maturity.
c. Certificate of deposit with 365 days until maturity.
d. A repurchase agreement, backed by government securities, with less than one week
until maturity.
e. None of the above.
24. Which of the following risks can be classified as a non-diversifiable risk?
a. Industrial disputes in a company.
b. Bankruptcy of the customers of a company.
c. Unexpected entry of a new competitor to a company.
d. Major changes in tax rates.
e. Resignation of a key officer of a company.
25. Which of the following will not permit a higher internal growth rate, other things being
equal?
a. A higher plowback ratio.
b. A higher spontaneous liabilities-to-assets ratio.
c. A higher return on equity.
d. A higher return on assets.
e. None of the above.
26. Some part of the total risk is non-diversifiable because
a. Certain macro level factors like economy, politics affect all the securities
b. Securities will all be more or less similar in business and finance risks
c. Securities are perfectly positively correlated
d. Certain amount of risk is inherent in every investment because return is uncertain
e. Securities are selected from certain industries which are highly risky.
363

369. Financial Management
27. Interest coverage ratio takes EBIT as the numerator because
a. After tax the funds may not be sufficient to pay interest
b. Interest payment is not affected by tax
c. The firm has to earn the interest to be paid also, before tax
d. To facilitate inter-firm comparison
e. None of the above.
28. Which of the following analysis can be helpful in inter-firm comparison?
a. Index analysis.
b. Common size analysis.
c. Cross-sectional analysis.
d. Time series analysis.
e. Comparative analysis.
29. Which of the following statements is/are false?
i. The coupon rate remaining the same, the current yield will increase with increase in the
market price of the bond.
ii. Current yield is equal to the coupon rate if the market price is equal to the face value of
the bond.
iii. Current yield is equal to the coupon rate if the bond is trading at its face value.
a. Only (i) above.
b. Both (i) and (ii) above.
c. Both (i) and (iii) above.
d. Both (ii) and (iii) above.
e. All of (i), (ii) and (iii) above.
30. Which of the following statements is false?
a. Spontaneous sources of finance can finance unlimited current assets.
b. Spontaneous sources are created in the normal course of business.
c. Provision for taxes is a spontaneous source of finance.
d. Spontaneous sources of finance are literally cost-free.
e. Spontaneous sources do not mean immediate drain of cash resources, that is why
they are treated as a source of finance.
31. If the fixed costs of the firm are increased, then
a. DOL will increase while DTL will decrease
b. DOL will decrease while DTL will increase
c. DOL and DTL will decrease
d. DOL and DTL will increase
e. None of the above.
32. Funds Flow Statement shows
a. Changes in working capital
b. Changes in cash position
c. Changes in capital structure
d. Both (a) and (b) above
e. All of (a), (b) and (c) above.
364

370. Part III
33. Which of the following is the most significant ratios to the owners of the company?
a. Earnings per share.
b. Dividend pay-out ratio.
c. Debt-equity ratio.
d. Interest coverage ratio.
e. All of the above.
34. Which of the following assumptions is/are true while calculating the external funds
requirement?
a. The assets of the firm will increase proportionately to cost of goods sold.
b. Net profit margin will increase at a constant rate.
c. Dividend pay-out ratio will remain constant.
d. Fixed assets will increase proportionately to sales while current assets remain constant.
e. The current liabilities will increase proportionately to sales.
35. The FVIFA tables are constructed to give the values of
a. Deferred annuities
b. Annuity dues
c. Capital recovery factors
d. Both (a) and (b) above
e. Both (a) and (c) above.
36. Which of the following will increase the present value of an annuity, other things being
equal?
a. Increasing the interest rate.
b. Decreasing the interest rate.
c. Decreasing the number of payments.
d. Decreasing the amount of the payment.
e. None of the above.
37. A times interest earned ratio of 3.5 indicates that the firm
1
a. Pays 3 times its earnings in interest expense
2
b. Earns notably more than its interest obligations
c. Has defaulted on its debt obligations
d. Has low tax liability
e. Does not earn more than its interest obligations.
38. Which of the following is most likely to result in a higher P/E ratio for a firm, other things
being equal?
a. Lower growth rate in dividends.
b. Reduction in the stock’s required rate of return.
c. Lower dividend yield.
d. Lower stock price.
e. Higher EPS.
39. If the slope of the line measuring a stock’s historic returns against the market’s historic
returns is positive, then the stock
a. Has a beta greater than 1.0
b. Has no unique risk
c. Is a good investment
d. Has a positive beta
e. Has a negative beta.
365

371. Financial Management
40. Standard Deviation is a superior measure of risk because
a. It takes into account the negative deviations from mean only
b. It is often used by statisticians to measure variability
c. It measures the dispersion around the expected value
d. It is a square root of the squared deviations from the mean which ensures that the effect
of major deviations is more
e. Both (c) and (d) above.
Part B: Problems (60 Points)
Solve all the problems. Points are indicated against each problem.
41. A money lender has borrowed Rs.3,00,000 at an interest rate of 10% per annum compounded
annually to be repaid in 5 equated annual installments (each annual installment will be paid at
the end of the year). He has also borrowed Rs.5,00,000 at an interest rate of 12% per annum
compounded annually to be repaid in 5 equated annual installments (each annual installment
will be paid at the end of the year). He lends the total funds borrowed at an interest rate of 15%
per annum compounded annually which will be repaid by the borrower in 5 equated annual
installments (each annual installment will be paid by the borrower at the end of the year). The
surplus cash flow that will be left with the money lender at the end of every year for a period of
5 years is
a. Rs.10,000
b. Rs.13,456
c. Rs.16,456
d. Rs.20,832
e. Rs.23,456.
(3 points)
42. The dividends on the equity shares of Sun Industries Ltd. (SIL) have been experiencing a
growth rate of 12% per annum in the recent years, which is considered to be above normal. The
above normal growth rate in dividends is expected to continue for four years after which the
growth rate will reduce to 5% per annum which will continue indefinitely. The company has
recently announced a dividend of Rs.2.00 per share. The required rate of return on the equity
shares is 15%.
The present value of the dividend stream payable during the period of above-normal growth
rate is
a. Rs.7.49
b. Rs.8.90
c. Rs.9.08
d. Rs.10.56
e. Rs.11.00.
(2 points)
43. ACE Ltd., paid a dividend of Rs.2 per share last year. The estimated growth rate of the
dividends is 5% p.a. The required rate of return of the equity investors is 15.5%. The
percentage change in the intrinsic value of the share if the estimated growth rate in dividends
rises to 8% is
a. 32%
b. 33%
c. 35%
d. 44%
e. 46%.
(2 points)
366

372. Part III
44. Western Industries Ltd., has total assets worth Rs.900 lakh and spontaneous liabilities
amounting to Rs.300 lakh. Presently, it has a sales level of Rs.1,200 lakh. The company has a
net profit margin of 4% and has dividend pay-out ratio of 50%. It is anticipating a growth in
sales. The growth in its assets will be financed by an increase in its spontaneous liabilities
and retained earnings. The increase in sales that the company can achieve without resorting
to any external finance is
a. Rs.169 lakh
b. Rs.156 lakh
c. Rs.150 lakh
d. Rs.94 lakh
e. Rs.50 lakh.
(2 points)
45. Modi Enterprises Ltd., is in the trading business. The projected sales of the company for the
next financial year is Rs.195 lakh which is 20% more than the sales in the current financial
year. The assets of the company entirely consist of fixed assets and current assets, and these
will change in direct proportion with sales. The ratio of fixed assets to current liabilities is
2.5. The current liabilities entirely consist of spontaneous liabilities and these will change in
direct proportion with sales. The current ratio of the company is 1.50, the total asset turnover
is 1.30, the net profit margin is 4% and the dividend pay-out ratio is 65%. The external funds
required by the company are equal to
a. Rs.16.02 lakh
b. Rs.12.10 lakh
c. Rs.10.19 lakh
d. Rs.9.87 lakh
e. Rs.8.76 lakh.
(3 points)
46. The gross profit of the MICA Ltd., is Rs.36 lakh. The gross profit margin ratio of the firm is
20%. If the inventory turnover ratio for the firm is 5, the amount of inventories maintained
by the firm is
a. Rs.36 lakh
b. Rs.23 lakh
c. Rs.20 lakh
d. Rs.19 lakh
e. Rs.15 lakh.
(2 points)
47. The sales for a company are Rs.180 lakh and the asset turnover ratio is 2. The current ratio
for the firm is 2.20 and the amount of current liabilities and provisions is Rs.30 lakh. The net
fixed assets for the company are
a. Rs.14 lakh
b. Rs.18 lakh
c. Rs.24 lakh
d. Rs.26 lakh
e. Rs.28 lakh.
(2 points)
367

373. Financial Management
48. The total debt of Rama Ltd., consists of term loan from SBI and current liabilities. The total
debt equity ratio for Rama Ltd., is 2:1. The company has a net worth of Rs.30 lakh. The
current ratio for the firm is 2.20 and the current assets of the firm are Rs.66 lakh. The amount
of term-loan borrowed by the company is
a. Rs.60 lakh
b. Rs.40 lakh
c. Rs.35 lakh
d. Rs.30 lakh
e. Rs.15 lakh.
(2 points)
49. The long-term capital structure of United Enterprises Ltd. (UEL) consists of net worth, term
loan and preference shares. The net worth amounts to Rs.150 lakh, term loan amounts to
Rs.100 lakh and preference shares amount to Rs.100 lakh. The term loan carries an interest
rate of 13% and the preference shares carry a dividend rate of 12%. The tax rate applicable to
the company is 40%.
The level of EBIT at which EPS is zero is
a. Rs.23 lakh
b. Rs.30 lakh
c. Rs.33 lakh
d. Rs.45 lakh
e. Rs.47 lakh.
(1 point)
50. The operating break even point and financial break even point of a company are 50,000 units
and Rs.1,50,000 respectively. The contribution per unit is Rs.10. The sales quantity at which
the EPS of the firm will be zero is
a. 65,000 units
b. 69,000 units
c. 70,000 units
d. 72,000 units
e. 75,000 units.
(2 points)
51. The variable cost per unit and selling price per unit for JET Ltd., is Rs.30 and Rs.50
respectively. The present sales of the company are Rs.900 lakh and the company has fixed
costs of Rs.300 lakh. The percentage change in sales quantity required to increase EBIT by
30% is
a. 5%
b. 6%
c. 7%
d. 5%
e. 12%.
(2 points)
368

374. Part III
52. Toss Ltd., is presently selling 1,00,000 units of its product. The selling price per unit is Rs.25
and the variable cost per unit is Rs.15. The fixed costs for the company are Rs.5,00,000. The
financial break even point for the company is Rs.1,50,000. The percentage change in EBIT
required to increase EPS by 20% is
a. 10%
b. 12%
c. 14%
d. 20%
e. 21%.
(3 points)
53. The contribution per unit for Can Ltd., is Rs.20. The fixed costs for the company amount to
Rs.300 lakh. The long-term capital structure of UEL consists of net worth, term loan and
preference shares. The company has an interest obligation of Rs.13,00,000 on the term loan.
It has preference shares worth Rs.100 lakh which carry a dividend rate of 12%. Currently the
firm is selling 18 lakh units. The tax rate applicable to the company is 40%. The percentage
change in sales quantity required to increase EPS by 40% is
a. 3%
b. 4%
c. 3%
d. 2%
e. 1.5%.
(2 points)
54. An investor is seeking a price to pay for a security, whose standard deviation is 3.00%. The
correlation coefficient for the security with the market is 0.8 and the market standard
deviation is 2.2%. The return from government securities is 5.2% and from the market
portfolio is 9.8%. The required rate of return on the security as per CAPM is
a. 9.87%
b. 10.21%
c. 11.23%
d. 12.10%
e. 15.09%.
(2 points)
55. The risk-free rate of return is 8%. The shares of Eastern Pharmaceuticals Ltd. (EPL) have a
beta of 1.5 and the return on the market portfolio is 16%. The company has recently paid a
dividend of Rs.3.00 per share and the dividends are expected to grow at the rate of 5%. The
current market price of the equity share of EPL is Rs.15.75 per share. Assume that the
CAPM is applicable. Currently the share price is not at equilibrium. If the market adjusts
in such a way that the share is valued at its equilibrium price then what will be the change
in the market value of an investment in 1000 shares of the company?
a. Rs.4,321.
b. Rs.5,250.
c. Rs.6,567.
d. Rs.6,600.
e. Rs.6,989.
(2 points)
369

375. Financial Management
56. The gross profit margin for the company is 23%. The current sales of the company are
Rs.40,00,000. The operating expenses for the company are Rs.6,80,000 and the tax rate
applicable to the firm is 46%. If the EPS for the company is Rs.12.96, the number of
outstanding equity shares for the company are
a. 5,000
b. 10,000
c. 13,000
d. 14,000
e. 15,000.
(2 points)
57. Vijay Finance, is offering a pension scheme for people who are at the age of 40 years.
According to the scheme the individuals who subscribe will have to deposit Rs.15,000 per
year for 20 years. At the end of 20 years, every subscriber will receive a specific sum plus an
annuity of Rs.75,000 for a period of 25 years. If the depositors wish to earn 11% rate of
return, the minimum amount to be paid by Vijay finance at the end of 20 years is
a. Rs.1,18,007
b. Rs.3,31,395
c. Rs.6,31,650
d. Rs.9,63,045
d. Rs.15,94,695.
(2 points)
58. Chandra Textiles presently pays a dividend of Rs.3 per share. The dividend is expected to
grow at the rate of 4% for the next four years then at 3% for next three years, after that if it
expected to grow at a rate of 1% forever. If the required rate is 10% the value one can pay
now if the holding period is (a) infinite and (b) 3 years respectively is
a. Rs.55.58, Rs.55.58
b. Rs.38.54, Rs.38.54
c. Rs.46.75, Rs.46.75
d. Rs.38.75, Rs.30.75
e. Rs.38.75, Rs.46.75.
(2 points)
59. Pacific Ltd., is a toy manufacturing company. The Degree of Operating Leverage and the
Degree of Financial Leverage for the company are 1.1 and 1.5 respectively. The company has
a debt of Rs. 6 crore on which interest is paid at 10% p.a. It has a preference capital of Rs. 4
crore on which preference dividend is payable at 10 % p.a. The variable cost to sales ratio is
40%. The tax rate applicable to the firm is 50%.
The sales revenue and the fixed costs of the firm are
a. Rs.7.7 crore and Rs.40 lakh
b. Rs.7.0 crore and Rs.42 lakh
c. Rs.7.7 crore and Rs.42 lakh
d. Rs.8.0 crore and Rs.50 lakh
e. Rs.9.6 crore and Rs.40 lakh.
(3 points)
370

376. Part III
60. Consider the following data regarding the companies M/s. X Ltd. and M/s. Y Ltd.
Particulars X Ltd.(Rs.) Y Ltd.(Rs.)
Sales 32,00,000 30,00,000
Net profit after tax 1,23,000 1,58,000
Equity capital (Rs.10
10,00,000 8,00,000
share)
General reserves 2,32,000 6,42,000
Long-term debt 8,00,000 6,60,000
Creditors 3,82,000 5,49,000
Bank credit (short term) 60,000 2,00,000
Fixed assets 15,99,000 15,90,000
Inventories 3,31,000 8,09,000
Other current assets 5,44,000 4,52,000
The management of company X declared a dividend of 6% and company Y declared a
dividend of 8% for the current year.
Which of the following statements is/are false?
i. Asset utilization of company X is more than company Y.
ii. Company Y retains larger proportion of its income in the business than Company X.
iii. Company X is using the shareholders money more profitable than Company Y.
a. Only (i) above
b. Only (ii) above
c. Only (iii) above
d. Both (i) and (ii) above
e. All (i), (ii) and (iii) above.
(3 points)
61. The probability distributions of returns of Micorsun Ltd. and the market returns are given below:
Probability 0.40 0.25 0.15 0.20
Microsun Ltd. (in %) 3 4 5 7
Market return (in %) 6 9 8 7
The covariance of market returns and returns from Microsun Ltd., is 0.4625(%)2. If the
market return is zero, the return earned by Microsun Ltd., will be
a. 1.595%
b. 1.900%
c. 2.103%
d. 5.695%
e. 6.598%.
(2 points)
62. Mr. Jaswant has planned to purchase a flat, whose present cost is Rs.15 lakhs. He has
approached City Home Finance, which has agreed to finance 80% of the cost of the flat. As
he, presently, has Rs.1 lakh only which is not sufficient to purchase the flat, he deferred his
plan of purchase for three years and deposited the amount he had in a bank. Mr. Jaswant
planned to save annually at the start of the year for the next three years and purchase the flat
with the bank finance of 80%, at the end of three years. The rate of interest that can be earned
on the bank deposits is 8% p.a. and the cost of the flat is expected to escalate by 5% p.a. The
amount that Mr. Jaswant has to save annually, the first deposit being made today, is
a. Rs.0.630 lakh
b. Rs.0.795 lakh
c. Rs.0.859 lakh
d. Rs.1.248 lakh
e. Rs.1.348 lakh.
(3 points)
371

377. Financial Management
63. If the return on assets is 10% and the debt to assets ratio is 1:3, the return on equity is
a. 16.19 %
b. 15.89 %
c. 15.00 %
d. 14.02 %
e. 13.26 %.
(2 points)
64. If the interest rate is 9% per annum, how much should Mr. Ashish invest today in a bank
scheme that would fetch him an annuity of Rs.2,000 for a period of 6 years commencing
from the beginning of fourth year?
a. Rs.6,352.18.
b. Rs.6,926.38.
c. Rs.7,554.42.
d. Rs.8,232.32.
e. Rs.10,655.50.
(2 points)
65. Presently the current assets and current liabilities of BSN Ltd. are Rs.10 lakh and Rs.5 lakh
respectively. In the current year fixed assets worth Rs.2 lakh were purchased, new shares are
issued for Rs.5 lakh, bills receivable worth Rs.10,000 were dishonored and Rs.10,000 cash is
collected from customers. The current ratio will
a. Increase by 0.60
b. Decrease by 0.60
c. Increase by 0.25
d. Increase by 0.75
e. Have no change.
(1 point)
66. Consider the following:
Provision for contingencies = Rs.30,000
Loans and advances (given) = Rs.20,00,000
Stipulated amount for
provident fund = Rs.10,00,000
Short-term investments = Rs.30,00,000
The following changes have occurred during the year:
Increase in provision for contingencies = Rs.20,000
Increase in the stipulated amount for provident fund = Rs.10,00,000
Loan and advances (taken) = Rs.10,00,000
Decrease in short-term investments = Rs.20,00,000
After considering the above changes, the new net working capital will be
a. – Rs.50,000
b. Rs.9,50,000
c. Rs.19,70,000
d. Rs.39,70,000
e. Rs.49,50,000.
(2 points)
372

378. Part III
67. ABBA Ltd., has issued fully convertible debentures of face value Rs.100 each with a coupon
rate of 10% p.a. The debentures will be converted into 2 equity shares at a price of Rs.50
each at the end of four years from the date of issue. After two years the share price decreased
to Rs.40. The value of the convertible after two years from the date of issue at the required
rate of return of 12% is
a. Rs.80.68
b. Rs.81.25
c. Rs.93.97
d. Rs.96.60
e. Rs.111.62.
(1 point)
68. Consider the following data regarding M/s. Amar Labs Ltd., for the year 2002-2003:
Rs. lakh
Retained earnings 20
Interest earned on investments 6
Amortization of copy rights written off 5
Depreciation 4
Dividends 10
Preliminary expenses written off 5
Funds from operations of M/s. Amar Labs Ltd., during the year was
a. Rs.50 lakh
b. Rs.41 lakh
c. Rs.38 lakh
d. Rs.21 lakh
e. Rs.20 lakh.
(1 point)
69. Consider the following data:
Rs. lakh
Closing balance of accounts receivables 25
Operating balance of accounts receivables 15
Average collection period (days) 25
Credit sales are 80% of sales
Assuming 365 days in year, the total sales amount to
a. Rs.234 lakh
b. Rs.243 lakh
c. Rs.292 lakh
d. Rs.365 lakh
e. Rs.456 lakh.
(1 point)
70. Bank A pays interest at 10 percent p.a. compounded semi-annually. Bank B compounds
interest on monthly basis. If Bank B wishes to pay the same effective rate of interest as that
of A, the annual rate of interest it should quote is
a. 9.80%
b. 10.00%
c. 10.25%
d. 10.75%
e. 11.00%.
(1 point)
373

379. Financial Management
Model Question Paper II
Suggested Answers
Part A: Basic Concepts
1. (d) The fact that money in the form of currency is a legal tender guaranteed by the
government does not justify its time value. All other alternatives than (d) justify its time
value.
2. (d) The minimum number of persons required to form a public company is 7.
3. (d) According to the objective of financial management to increase the wealth of the
shareholders means increase in the market value of the shares of the firm held by the
shareholders.
4. (c) Giving investment proposals on technical projects is not the function of a finance
manager. All other alternatives relate with functions of a finance manager.
5. (c) Life of a sole proprietorship firm is not perpetual; it is limited to the life of the proprietor.
6. (b) The liquidity function of the financial system facilitates conversion of investment in
stocks, bonds, etc. into money.
7. (d) Short-term financial instruments are traded in money market.
8. (b) In rights issue, new securities are offered to the existing shareholders of the company on a
pro rata basis.
9. (e) Industrial recession is not a diversifiable risk in the context of investment in stocks
because it affects all companies in general. All other alternatives state those risks which are
company specific and which can be diversified away.
10. (c) CAPM assumes that the investors agree on the nature of return and risk associated with
each investment.
11. (b) The amount that can be realized by a company if it terminates its business and sells all its
assets (i.e. liquidation) is called liquidation value.
12. (d) When the required rate of return on the bond is greater than the coupon rate, the discount
on the bond declines as the maturity approaches.
13. (a) Debt-assets ratio indicates capital structure.
14. (c) Current yield = Coupon interest/Market price of the bond. Since we do not know the
market price of the share and coupon payment, we cannot determine the current yield of the
bond. Holding period return = (Profit or loss + Current interest)/Purchase price. Since the
numerator is less than zero, the holding period return will be negative.
15. (c) According to the Du Pont Analysis,
ROE = Net profit margin x Assets turnover ratio x Equity multiplier
Where Equity multiplier = Average assets/ Average equity (or) 1/(1 – Debt to Assets ratio).
Hence return on assets ratio will not affect the ROE in Du Pont analysis.
16. (b) The simplest funds flow statement for a period, may merely be the difference between the
corresponding cash balance at the beginning and at the end of the period. Here, all increases
and decreases are classified as sources and uses of funds and if sources exceed uses there is
an increase in cash to that extent, if uses exceed sources there is a decrease in cash to that
extent.
17. (c) Operating leverage examines the effect of change in the quantity produced on the EBIT of
the company and is measured as Percentage change in EBIT/Percentage change in output.
18. (e) A funds flow statement can be prepared with the help of the two balance sheets (opening
and closing) and the profit and loss statement of the intervening period. Such a funds flow
statement defines funds as total resources and the sources of funds will always be equal to the
uses of funds.
19. (c) The inventory turnover ratio measures how fast the inventory is moving through the firm
and generating sales. It is given as Cost of goods sold/Average inventory.

380. Part III
20. (c) The value which the bondholder gets on redemption is called the redemption value.
The value that is stated on the face of the bond is known as the face value or the par value.
The coupon rate on the bond is fixed. Market value is the price at which the bond is usually
bought or sold. The face value represents the amount of borrowing of the firm.
21. (c) The general relationship between effective and nominal rate of interest is given by
r = (1 + k/m)m – 1
where,
r = effective rate of interest
k = nominal rate of interest
m = frequency of compounding per year.
22. (b) The variance of an asset’s rate of return can be found as the sum of the squared deviation
of each possible rate of return from the expected rate of return multiplied by the probability
that the rate of return occurs.
23. (e) Money market deals with all transactions in short-term instruments with a period of
maturity of one year or less. All the above are money market instruments.
24. (d) Major changes in the tax rates cannot be diversified as it is related to the general economy
as a whole.
25. (b) Higher spontaneous liabilities to assets ratio mean that the liabilities are more than the assets
and the assets cannot meet the liability requirements. This does not permit higher internal growth
rate.
26. (a) Non-diversifiable risk is that part of total risk (from various sources like interest rate risk,
inflation risk, financial risk, etc.) that is related to the general economy or the stock market as a
whole and hence cannot be eliminated by diversification.
27. (c) Interest coverage ratio is a measure of a firm’s ability to handle financial burdens. This
ratio tells how many times the firm can cover or meet the interest payments associated with
debt.
Interest coverage ratio = EBIT/Interest expense
EBIT is the source of interest payments.
28. (b) Common size statements are very helpful for inter-firm comparison because the financial
statements of a variety of companies can be recast into the uniform common size format
regardless of the size of individual accounts.
Coupon amount
29. (a) Current yield =
Market price
Coupon amount
Coupon rate =
Face value
∴ Current yield = Coupon rate implies that market price = face value. Further this means that
the bond is trading at its face value.
Hence both (ii) and (iii) are true.
The coupon rate remaining the same, current yield will decrease if the market price
increases. So statement (i) is incorrect. Hence (a) is the answer.
30. (a) The sources of finance which arise from the normal course of business operations are
referred to as spontaneous sources of finance. These sources can be used to finance current
assets to some extent.
Q (S − V)
31. (d) DOL =
Q (S − V) − F
Q (S − V)
DTL =
Q (S − V) − F − I − Dp / (1 − T)
Increase in fixed assets reduces the value of the denominators in both the equations and
hence it increases both DOL and DTL.
375

381. Financial Management
32. (e) A funds flow statement is a statement which explains the various sources from which
funds were raised and the uses to which these funds were put. Hence it shows changes in all
the above.
33. (e) All the given alternatives are ownership ratios which will help the shareholders (owners)
in analyzing his present and future investment in a firm.
34. (c) External funds requirement is equal to
A L
(ΔS) − ( ΔS) − mS1 (1 − d )
S S
Where,
EFR = External financing requirement.
A/S = Current assets and fixed assets as
a proportion of sales.
ΔS = Expected increase in sales.
L/S = Spontaneous liabilities as a
proportion of sales.
m = Net profit margin.
S1 = Projected sales for the next year.
d = Dividend pay-out ratio.
The above equation assumes that the dividend pay-out ratio remains constant. Hence, the answer
is (c).
In the above equation the assets of the firm are assumed to increase proportionately to sales
and not cost of goods sold. Hence, (a) is not true. Similarly, net profit margin is assumed to
be constant. Hence, (b) is also not true. Fixed assets, current assets and spontaneous liabilities
are assumed to increase proportionately to sales. Hence, (d) and (e) are also not true.
35. (a) If the equal amounts of cash flow occur at the end of each period over the specified time
horizon, then this stream of cash flows is defined as regular annuity or deferred annuity. The
FVIFA tables are constructed to give the values of deferred annuities.
(1+ k)n − 1
36. (b) PVIFA =
k (1+k)n
Hence a drop in interest rate increases the PVIFA.
37. (b) Interest coverage ratio or the times interest earned ratio is a measure of a firm’s ability to
handle financial burdens. This ratio tells how many times the firm can cover or meet the
interest payments associated with debt.
Interest coverage ratio = EBIT/Interest expense
A ratio of 3.5 indicates that the firm earns more than its interest obligations.
38. (b) The price earnings ratio is calculated by taking the market price of the stock and dividing
it by earnings per share. When there is a reduction in the stock’s required rate of return then
the market price of the share increases and as a result the P/E ratio also increases.
39. (d) When the slope of the line measuring the stock’s historic returns against the market’s
historic return is positive, then the stock must have a positive beta. A positive slope of the
line shows positive relationship between stock and market returns.
40. (d) Standard deviation is obtained as a square root of the sum of squared differences
multiplied by their probabilities. This facilitates comparison of risk as measured by standard
deviation and expected returns as both are measured in the same costs. This is why standard
deviation is preferred to variance as a measure of risk.
376

382. Part III
Part B: Problems
41. (d) Equated annual installment to be paid by the money lender on the borrowing of
Rs.3,00,000
3,00,000 3,00,000
= = = Rs.79,135 (approx.)
PVIFA (10%,5) 3.791
Equated annual installment to be paid by the money lender on the borrowing of Rs.5,00,000
5,00,000 5,00,000
= = = Rs.1,38,696 (approx.)
PVIFA (12%,5) 3.605
Equated annual installment to be received by the money lender on the amount lent by him
(3,00,000 + 5,00,000) 8,00,000
= = = Rs.2,38,663 (approx.)
PVIFA (15%,5) 3.352
Excess cashflow receivable by the money lender every year
= Annual cash inflow – Annual cash outflow
= 2,38,663 – (79,135 + 1,38,696) = Rs.20,832.
∴ The surplus cash flow receivable by the money lender at the end of every year for 5 years
= Rs.20,832.
42. (a) Dividend stream during the period of abnormal growth:
D1 = 2.00 (1.12)
D2 = 2.00 (1.12)2
D3 = 2.00 (1.12)3
D4 = 2.00 (1.12)4
Present value of the dividends payable during the period of above-normal growth
2(1.12) 2(1.12)2 2(1.12)3 2(1.12)4
= + + + = Rs.7.49.
1.15 (1.15)2 (1.15)3 (1.15)4
D0 (1 + g) 2 × (1 + 0.05)
43. (d) Share Price = = = Rs.20.
ke − g 0.155 − 0.05
When the growth rate rises to 8%, share price will be
D0 (1 + g) 2 × (1 + 0.08)
= = = Rs.28.80.
ke − g 0.155 − 0.08
Percentage change in the share price when the growth rate increases to 8%
28.80 − 20
= = 0.44 i.e. 44%.
20
A L
44. (e) EFR = ΔS − ΔS – mS1 (1 – d)
S S
S1 = Projected sales = S + ΔS
EFR = 0
∴0 = ⎛ 900 ⎞ ΔS – ⎛ 300 ⎞ ΔS
⎜ ⎟ ⎜ ⎟
⎝ 1200 ⎠ ⎝ 1200 ⎠
– (0.04) (S + ΔS)(1 – 0.50)
or, 0 = 3 ΔS – 1 ΔS – (0.04)(0.50)(1200 + ΔS)
4 4
377

383. Financial Management
or, 0 = 1 ΔS – 0.02 (1200 + ΔS)
2
or, 0.02 (1200 + ΔS) = 0.5ΔS
or, 24 + 0.02 ΔS = 0.5ΔS
or, 24 = 0.48ΔS
24
or, ΔS = = 50
0.48
∴ The company can increase sales by Rs.50 lakh without using any external financing.
45. (a) External funds requirement is given by
EFR = A (ΔS) – L (ΔS) – m (S + ΔS) (1 – d)
S S
Net profit margin (m) = 4% = 0.04
Dividend pay-out ratio (d) = 65% = 0.65
Sales (S) = 1.30
Total assets (A)
A= 1 = 1
S S/A 1.30
Current assets Fixed assets
Given: = 1.50; Also, = 2.5
Current liabilities Current liabilities
FA + CA = 2.50 +1.50
CL CL
FA + CA A
or = 4.00 or = 4.00
CL CL
S
= 1.30 (given)
A
S A S
x = 1.30 × 4.00 or = 5.20
A CL CL
CL 1
∴ =
S 5.20
The current liabilities entirely consist of spontaneous liabilities (L).
∴ L= 1
S 5.20
Projected Sales 195
Present Sales (S) = = = Rs.162.50 lakh
1+ g 1.20
Growth in sales (ΔS) = Projected sales – Present sales
= 195 – 162.50 = Rs.32.50 lakh.
Putting the values computed above in the formula for EFR, we get
1 1
EFR = (32.50) – (32.50)– (0.04) (195) (1 – 0.65)
1.30 5.20
= Rs.16.02 lakh.
378

384. Part III
Gross Profit
46. (a) Gross Profit Margin =
Sales
Gross Profit 36,00,000
Therefore, Sales = = = Rs.180 lakh.
Gross Profit Margin 0.20
Sales
Inventory Turnover Ratio =
Inventory
Sales 180 lakh
Inventory = = = Rs.36 lakh.
Inventory Turnover Ratio 5
Sales 180
47. (c) Total assets = = = Rs.90 lakh
Assets Turnover Ratio 2
Current assets = Current ratio x Current liabilities
= 2.20 × 30 = Rs.66 lakh
Net fixed assets = Total assets – Current assets
= 90 – 66 = Rs.24 lakh.
48. (d) Total debt-equity ratio = 2 x Net worth
= 2 x 30 lakh = 60 lakh.
Current Assets
Current ratio =
Current Liabilities
Current assets
Therefore, current liabilities =
Current ratio
66
Current liabilities = = Rs.30 lakh.
2.20
Term Loan = Total Debt – Current Liabilities
= 60 – 30 = Rs.30 lakh.
49. (c) At the financial break even point, EPS = 0.
The amount of EBIT at the financial break even point
Dp
= I+
1− t
100(0.12)
= 100 (0.13) + = Rs.33 lakh.
1 − 0.40
50. (a) At the overall break even point, EPS = 0,
Dp
F+I+
(1− T)
Sales quantity at the overall break even point = Q =
(S − V)
Dp
Given, Financial break even point = I +
(1 − T)
= Rs.1,50,000.
F
Operating break even point = = 50,000.
(S − V)
Also given that contribution per unit (i.e. S – V) = 10.
Therefore, fixed costs (F) = 10 x 50,000 = Rs.5,00,000.
5,00,000 + 1,50,000
Hence, Sales quantity at the overall break even point =
10
= 65,000 units.
379

385. Financial Management
Q(P − V)
51. (d) Degree of operating leverage =
Q(P − V) − F
900
Present sales quantity = = 18 lakh units
50
18 (50 − 30)
∴ DOL = =6
18(50 − 30) − 300
DOL = Percentage change required in EBIT
Percentage change in sales
∴ Percentage change in quantity sold required to increase EBIT by 30%
Percentage change required in EBIT 30
= = = 5% increase.
DOL 6
EBIT
52. (c) DFL =
⎛ DP ⎞
EBIT − ⎜ I +
⎜ (1 − T) ⎟
⎟
⎝ ⎠
Dp
Financial breakeven point = I + = 1,50,000 (given).
(1 − T)
EBIT = Q (S – V) – F = 1,00,000 (25 – 15) – 5,00,000 = Rs.5,00,000.
DFL = 5,00,000 = 1.43.
5,00,000 −1,50,000
Required change in EPS
DFL =
Change in EBIT
i.e., 1.43 = 20%
Change in EBIT
Therefore, the percentage change in EBIT required to increase EPS by 20% is
20%
= 13.99% i.e., 14% approximately.
1.43
53. (c) Degree of Total Leverage (DTL) = Q(P − V)
Dp
Q(P − V) − F − I −
1− t
18×20 360 40
= = =
100 (0.12) 360 − 300 − 13 − 20 3
18×20 − 300 −13 −
1− 0.40
Percentage changein EPS
DTL =
Percentage change in quantity
or, Percentage change in quantity required
Percentage change required in EPS
=
DTL
∴ Percentage change in sales quantity required to increase EPS by 40%
40 3
= = 40 x = 3% increase.
⎛ 40 ⎞ 40
⎜ ⎟
⎝ 3⎠
380

386. Part III
Cov(i,m) ρσi σm
54. (b) β = = where ρ is the correlation coefficient between the security and the
σ2
m σm2
market returns.
0.80 × 2.2 × 3 5.28
β= = = 1.09.
(2.2)2 4.84
As per CAPM, required rate of return
= rf + β j (rm − rf ) = 5.2% + (9.8% – 5.2%)1.09 = 10.21%.
55. (b) According to CAPM
kj = Rf + βi (km – Rf)
Given: Rf = 8%, βi = 1.5, km = 16%
∴ Required rate of return of the share of EPL is = 8 + 1.5(16 – 8) = 20%
Current market price per share = Rs.15.75
It is given that presently the market price of the share is not at equilibrium.
The market will adjust itself in such a way that the share is valued at its equilibrium price.
Let the equilibrium price be P0.
3(1.05)
∴ 0.20 = + 0.05
P0
or, 0.15 = 3.15
P0
3.15
or, P0 = − = Rs.21
0.15
∴ The market price will increase from Rs.15.75 per share to Rs.21 per share. For an investment
in 1000 shares of the company the change in market value = 1000 (21 – 15.75) = Rs.5,250
(increase).
Gross Profit
56. (b) Gross Profit Margin = .
Sales
Therefore, Gross profit = Gross profit margin x Sales = 0.23 x 40,00,000 = Rs.9,20,000.
Profit before tax = Gross profit – Operating Expenses
= 9,20,000 – 6,80,000 = Rs.2,40,000.
Profit after tax = Profit before tax – taxes
= 2,40,000 – 0.46 x 2,40,000 = Rs.1,29,600.
EPS = Profit after tax
Number of outstanding shares
1,29,600
i.e., 12.96 =
Number of outstanding shares
Therefore, Number of outstanding shares = 10,000.
57. (b) According to the given information subscribers will deposit Rs.15,000 for 20 years and
after 20 years scheme will pay Rs.75,000 at the end of every year for 25 years plus Rs. ‘X’ at
the end of 20 years from now.
The discount rate is 11%.
Therefore the data can be fit into a equation as
15,000 × FVIFA(11%, 20) = X + 75,000 PVIFA(11%, 25)
15,000 × 64.203 = X + 75,000(8.422)
9,63,045 = X + 6,31,650
X = The amount which will be returned = Rs.3,31,395.
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387. Financial Management
58. (b)
(Amount in Rs.)
End of year Dividend Present value of dividends at 10 %
1 3(1.04) 3.12 × 0.909 = 2.84
2
2 3(1.04) 3.24 × 0.826 = 2.68
3
3 3(1.04) 3.37 × 0.751 = 2.53
4
4 3(1.04) 3.50 × 0.683 = 2.39
5 3.50(1.03) 3.605 × 0.621 = 2.24
2
6 3.50(1.03) 3.713 × 0.564 = 2.09
3
7 3.50(1.03) 3.824 × 0.513 = 1.96
16.73
Year 8 dividend = Rs.3.824 (1.01) = Rs.3.862
3.862
Therefore Market price at the end of year seven = = Rs.42.51
0.1 − 0.01
Present value of Rs.42.91 at 10% discount rate = Rs.42.51 × 0.513 = Rs.21.81
Intrinsic value if the holding period is infinite = Rs.21.81 + Rs.16.73 = Rs.38.54
Market value at the end of year 3
3.5 3.605 3.713 3.824 + 42.51
= + + +
1.1 (1.1) 2 (1.1)3 (1.1) 4
= 3.182 + 2.978 + 2.788 + 31.646 = Rs.40.594
PV of MP = 40.594 x 0.751 = Rs.30.49
PV of dividends to be received at the end of year
1, 2 and 3 is Rs.(2.84 + 2.68 + 2.53) = Rs.8.05
Total value = 30.49 + 8.05 = Rs.38.54.
59. (c) Let S represent Sales,
V represent Variable costs,
and F represent Fixed costs.
Sales − Variable Costs
Degree of Operating Leverage = = 1.1
(Sales − Variable Costs) − Fixed Costs
S − 0.4S
i.e. = 1.1
(S − 0.4S) − F
i.e. 0.6 S = 0.66S –1.1F
i.e. 0.06 S – 1.1F = 0. ---- (Equation 1)
Degree of Financial Leverage =
⎛ ⎞
⎜ (Sales − Variable Costs) − Fixed Costs ⎟
⎜ ⎟ = 1.5.
⎜ (Sales − Variable Costs) − Fixed Costs − Interest payment − Preference dividend ⎟
⎜ 1- tax rate ⎟
⎝ ⎠
(S − 0.4S) − F
i.e. = 1.5
40,00,000
(S − 0.4S) − F − 60,00,000 −
1 − 0.50
382

388. Part III
0.6S − F
= 1.5
0.6S − F − 60,00,000 − 80,00,000
i.e. 0.6S – F = 0.9S – 1.5 F – 210,00,000
i.e. 0.3S – 0.5F = 210,00,000. -------(Equation 2)
Multiplying equation 1 by 0.3 and multiplying equation 2 by 0.06, and solving the resultant
equations, we get
0.018 S – 0.33 F = 0
0.018 S – 0.03 F = 12,60,000.
– 0.30 F = –12,60,000
i.e. F = Rs. 42,00,000.
1.1 × 42,00,000
Putting the value of F in equation 1, we get S = = Rs. 770,00,000.
0.06
60. (c) Efficiency in the utilization of assets is measured by asset turnover ratio.
Asset turnover ratio = sales/total assets
Asset turnover ratio (company X) = Rs.32,00,000/Rs.24,74,000 = 1.29 times
Asset turnover ratio (company Y) = Rs.30,00,000/Rs.28,51,000 = 1.05 times
So asset utilization of company X is greater than company Y.
Hence statement (i) is correct.
Payout ratio determines the amount that is paid-out by the company and (1 – paid-out) gives
the amount retained.
(Amount in Rs.)
X Y
Dividends declared 0.06 × 10 × 1,00,000 0.08 × 10 × 80,000
= Rs.60,000 = Rs.64,000
Net profit Rs.1,23,000 Rs.1,58,000
Retained earnings Rs.63,000 Rs.94,000
R E as % of N P 51.2% 59.5%
Hence company Y retains larger proportion of its income & statement ii is also true.
Utilization of shareholders money is determined by return on net worth.
(Amount in Rs.)
X Y
Net worth 12,32,000 14,42,000
Net profit 1,23,000 1,58,000
RONW 9.98% 10.96%
Hence, company Y utilizes shareholders funds more profitably than company X.
61. (c)
k a = 0.40 x 3 + 0.25 x 4 + 0.15 x 5 + 0.20 x 7 = 4.35%.
k m = 0.40 x 6 + 0.25 x 9 + 0.15 x 8 + 0.20 x 7 = 7.25%.
COVsm
β=
σ2
m
σ 2 = (6 – 7.25)2 0.4 + (9 – 7.25)2 0.25 + (8 – 7.25)2 0.15 + (7 – 7.25)2 0.2
m
= 0.625 + 0.766 + 0.084 + 0.0125 = 1.4875
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389. Financial Management
0.4625
β= = 0.31
1.4875
The alpha factor helps us in computing the rate of return that the security will earn when
market return is zero.
α = k A − β A k m =4.35% – (0.31) 7.25% = 2.1025 %.
Hence, the security will earn a return of 2.1025% when the market return is zero.
62. (a) 1(1.08)3 + X FVIFA8%,3 (1.08) = 15(1.05)3 × 0.2
3.473 − 1.260
X= = Rs.0.630 lakh
3.506
Hence, statement (iii) is not true and the answer is (c). Hence the sales revenue for the firm is
Rs.7,70,00,000 and the fixed costs are Rs.42,00,000.
63. (c) According to Du Pont Analysis
Return on Equity (ROE) = Return on assets×Equity multiplier
1 1
Where, Equity Multiplier = = = 3/2.
1 − Debt to assets ratio 1 − 1/3
Hence, Return On Equity = 0.10 x 3/2 = 0.15
or 15%.
64. (c) Amount that Ashish should invest = Rs 2,000 x PVIFA(9%,6 years) x PVIF(9%,2 years)
= 2,000 x 4.486 x 0.842 = Rs. 7,554.42.
65. (a) Present current ratio = Rs.10lakh/Rs.5lakh = 2.
Fixed assets purchases of Rs.2 lakh will decrease the current assets to Rs.8 lakh. Issue of
new shares for Rs.5 lakh will increase cash at bank, and the current assets to Rs.13 lakh.
Bills receivables dishonored will increase debtors (one form of current assets) and decrease
bills receivables. As a result there will be no change in the amount of current assets. Cash
worth Rs.10,000 collection from customers will increase one constituent of current assets,
and i.e., debtors (decrease another constituent of current assets) and, hence, will have no
change.
So the new current ratio = Rs.13lakh/Rs.5lakh = 2.60.
66. (a) Change in WC = (current assets + increase in current assets)
– (current liabilities + increase in current liabilities)
Increased provision for contingencies (CL) = 30,000 + 20,000 = Rs.50,000
Loans and advances (given) (CA) = 20,00,000
Stipulation for provident fund (CL) = 10,00,000 + 10,00,000 = Rs.20,00,000
Short-term investments (CA) = 30,00,000 – 20,00,000 = Rs,10,00,000
New loans and advances taken (CL) = Rs.10,00,000
New net WC = 20,00,000 + 10,00,000 – 50,000 – 20,00,000 – 10,00,000
= – Rs.50,000.
67. (a) Value of the convertible = PV of cash inflow
10 10 + 40 × 2
= + = 8.929 + 71.747 = Rs.80.68.
1.12 (1.12) 2
68. (c) Funds from operations = Retained earnings – interest earned + amortization
+ depreciation + dividends + P/E W. off
= 20 – 6 + 5 + 4 + 10 +5 = Rs.38 lakh.
384

390. Part III
Receivables balance
69. (d) Average collection period =
Average daily credit sales
Sales
Average daily credit sales =
365
Receivables balance
∴ Average collection period = x 365
Credit sales
Average collection period=25 days (given)
25 + 15
Average Receivables balance = = Rs.20 lakh.
2
20
∴ 25= x 365
Credit sales
20 x 365
or Credit sales = = Rs.292 lakh.
25
292
∴ Total sales = = Rs.365 lakh.
0.8
(1.10)2
70. (a) Effective rate of interest of Bank A = 1 + = 10.25%
2
Nominal rate of interest of Bank B = [(1.1025)]1/12 − 1] × 12 = 9.80.
385

391. Financial Management
Model Question Paper III
Time: 3 Hours Total Points: 100
Part A: Basic Concepts (40 Points)
Answer all the questions. Each question carries one point.
1. The quick ratio is a type of
a. Leverage ratio
b. Coverage ratio
c. Profitability ratio
d. Liquidity ratio
e. Turnover ratio.
2. In common size analysis the items in the income statement are expressed as percentage of
a. Total assets
b. Net sales
c. Total expenses
d. Current assets
e. Current liabilities.
3. A funds flow statement is also known as
a. Profit and loss account
b. Income statement
c. Balance sheet
d. Cash budget
e. Statement of changes in financial position.
4. Which of the following is not shown by a funds flow statement on cash basis?
a. The sources of cash.
b. The uses of cash.
c. The net change in cash.
d. The net change in working capital.
e. None of the above.
5. In a funds flow statement on working capital basis, a short-term loan taken by the
organization
a. Is shown as a source of working capital
b. Is shown as a use of working capital
c. Is shown as an increase in cash
d. Is shown as a decrease in cash
e. Does not have any effect on working capital as it causes an equal increase in a current
asset (cash) and a current liability (short-term loan).
6. Which of the following is true with regard to a funds flow statement?
a. It shows the level of sources and uses of funds on a specific date.
b. It shows how the change in owners equity takes place.
c. It shows a snapshot picture of the affairs of a business.
d. It shows the movement of funds through the business over a period of time.
e. None of the above.

392. Part III
7. The operating break even point represents the quantity produced and sold for which the
a. Sales revenue is equal to the variable cost
b. Sales revenue is equal to the fixed cost
c. Fixed cost is equal to the variable cost
d. EBIT is zero
e. EBIT is negative.
8. Which of the following is not true with regard to the Degree of Financial Leverage (DFL)?
a. Each level of EBIT has a distinct DFL.
b. DFL is zero at the financial break even point.
c. DFL is negative below the financial break even point.
d. DFL is positive above the financial break even point.
e. None of the above.
9. Which of the following is/are statistical method(s) of sales forecasting?
a. Jury of executive opinion.
b. Sales force estimates.
c. Regression analysis.
d. Both (a) and (b) above.
e. None of the above.
10. Which of the following is not true with regard to a private company?
a. The minimum number of persons required to form a private company is 2.
b. The minimum number of directors required in a private company is 2.
c. A private company cannot issue shares for subscription to public.
d. There is no limit on the number of members in a private company.
e. None of the above.
11. Which of the following is not traded in the money market?
a. Treasury bills.
b. Certificates of deposit.
c. Commercial paper.
d. Debentures.
e. None of the above.
12. Which of the following players can act as a borrower as well as a lender in the call money
market?
a. LIC.
b. SBI Mutual Fund.
c. State Bank of India.
d. PFC (Power Finance Corporation)
e. NABARD.
13. The objective of financial management is to
a. Maximize the revenues
b. Minimize the expenses
c. Maximize the return on investment
d. Minimize the risk
e. Maximize the wealth of the owners by increasing the value of the firm.
387

393. Financial Management
14. Which of the following is a part of the control function of the finance manager?
a. Negotiating with the banks and financial institutions for loans.
b. Negotiating with the merchant banks for issue of shares and debentures.
c. Reporting on the performance of individual departments within the organization.
d. Appraisal of investment proposals given by various departments.
e. Deciding on the manner of deployment of funds in various assets.
15. Which of the following is not true with regard to valuation of bonds?
a. An increase in the required rate of return, other things remaining the same, will decrease
the bond value.
b. An increase in the number of years to maturity, other things remaining the same, will
increase the present value of the face value of the bond payable at maturity.
c. An increase in the coupon rate, other things remaining the same, will increase the bond value.
d. An increase in the face value of the bond payable at maturity, other things remaining the
same, will increase the bond value.
e. An increase in yield to maturity will occur if the amount payable at maturity increases,
other things remaining the same.
16. If the beta of a stock is equal to zero, which of the following is/are true according to CAPM?
i. Slope of SML is zero.
ii. Risk-free rate of return is equal to the required rate of return of the given stock.
iii. Stock will lie on the SML.
a. Only (i) above.
b. Only (ii) above.
c. Both (i) and (ii) above.
d. Both (ii) and (iii) above.
e. All of (i), (ii) and (iii) above.
17. The intrinsic value of a share of a firm
a. Is its economic value
b. Is arrived at, treating the firm as a going concern
c. Is based on the nature of business
d. Is based on the investment environment
e. All of the above.
18. The capital structure ratios measure the
a. Financial risk
b. Business risk
c. Market risk
d. Operating risk
e. Firm’s total risk.
19. Supraja Chemicals is a company in which a major percentage of shareholders consist of
people who have invested their retirement benefits in the shares. Then which of the ratios
would make the investors happy?
a High interest coverage ratio.
b. High dividend pay-out ratio.
c. High dividend yield.
d. Both (b) or (c) above.
e. Both (a) and (b) above.
388

394. Part III
20. DTL is not affected by
a. Tax Rate
b. EBIT
c. Number of Equity Shares
d. Debt Proportion
e. None of the above.
21. The difference between hypothecation and pledge is
a. Pledge of assets is made for long-term borrowings while hypothecation is for short-term
borrowings
b. Goods are in the possession of the borrower in hypothecation and of the lender in pledge
c. Hypothecation is for short-term borrowings and pledge is for long-term borrowings
d. Both (a) and (c) above
e. None of (a), (b) and (c) above.
22. The percent of sales method of financial forecasting assumes that
a. The future relationship between the manufacturing costs only and sales will be similar
to their historical relationship
b. The future relationship between the selling and administrative costs only and sales will
be similar to their historical relationships
c. All the cost elements change by the same percentage as the change in sales
d. All the cost elements will bear the same relationship with sales as in the past
e. Only the variable cost elements will bear the same relationship with sales as in the past.
23. Which of the following is true with regard to the basis used for preparing a funds flow
statement?
a. It can be prepared on total resources basis.
b. It can be prepared on cash basis.
c. It can be prepared on working capital basis.
d. Both (b) and (c) above.
e. All of (a), (b) and (c) above.
24. The dividend capitalization approach assumes
a. That the first dividend is to be paid a year hence
b. 100% dividend pay-out ratio
c. Dividends are paid every year
d. Both (a) and (c) above
e. All of (a), (b) and (c) above.
25. Which of the following is/are not true?
a. The probability of death, sometime in future, of a human being is 1.
b. Boom, Depression and Normal periods