5.

1 AFM Additional Question April 2025

Chapter No. of
Chapter Name
No. Questions
3 Advanced Capital Budgeting 3
5 Security Valuation 3
6 Portfolio Management 3
8 Mutual Funds 2
9 Derivatives Analysis & Valuation 3
10 Interest Rate Risk Management 3
11 Foreign Exchange Exposure & Risk Management 1
12 International Financial Management 1
13 Business Valuation 1
14 Mergers, Acquisitions and Corporate Restructuring 2
Total 22
CA Mayank Kothari AFM Additional Questions

5.1
Chapter 8
AFM
Derivatives NEW ADDITIONAL QUESTIONS
Analysis & Valuation

Question 1 | Ch. 3. Advanced Capital Budgeting

A firm has an investment proposal, requiring an outlay of ₹12 Crore. The investment
proposal is expected to have two years economic life with no salvage value. In year 1, there
is a 0.7 probability that cash inflow after tax will be ₹7.50 crore and 0.3 probability that cash
inflow after tax will be ₹ 9 crore. The probability assigned to cash inflow after tax for the year
2 is as follows:
The cash inflow year 1 ₹7.50 ₹9.00
The cash inflow year 2 Probability Probability
₹3.60 0.10 ₹6.00 0.50
₹4.80 0.50 ₹7.50 0.30
₹6.60 0.40 ₹9.00 0.20
The firm uses a 15% discount rate for this type of investment.
Required:
i. Construct a decision tree for the proposed investment project.
ii. Calculate the expected net present value (NPV).
iii. What will be the best outcome and the probability of that occurrence?
iv. What net present value will the project yield if worst outcome is realized and What
is the probability of occurrence of this NPV?
v. Advice whether the project be accepted or not.
Note:
1. 15% discount factor 1 year 0.870; 2 year 0.756.
2. Carryout all calculations in ₹crore & round off them upto 2 decimal points.
RTP May 2025, StudyMat
Answer:
(i) The decision tree diagram is presented in the chart, identifying various paths and
outcomes, and the computation of various paths/outcomes and NPV of each path are
presented in the following tables:
CA Mayank Kothari AFM Additional Questions

Path No. Joint probability Year 1 x year 2

3.60Cr. 1 0.07
7.50Cr. 4.80Cr. 2 0.35
CASH 6.60Cr. 3 0.28
OUTLA
Y 12Cr. 6.00Cr. 4 0.15
80,000
9.00Cr. 7.50Cr. 5 0.09
R.r. 0.06
9.00Cr. 6
1.00

(ii) The Net Present Value (NPV) of each path at 15% discount rate is given below:
Path Year 1 Cash Flows Year 2 Cash Flows Total Cash Cash NPV
Inflows Inflows
(PV)
₹ ₹ ₹ ₹ ₹
1 7.50 × 0.870 = 6.53 3.60 × 0.756 = 2.72 9.25 (12) (-) 2.75
2 6.53 4.80 × 0.756 = 3.63 10.16 (12) (-) 1.84
3 6.53 6.60 × 0.756 = 4.99 11.52 (12) (-)0.48
4 9.00 × 0.870 = 7.83 6.00 × 0.756 = 4.54 12.37 (12) 0.37
5 7.83 7.50 × 0.756 = 5.67 13.50 (12) 1.50
6 7.83 9.00 × 0.756 = 6.80 14.63 (12) 2.63

Statement showing Expected Net Present Value ₹

z NPV (₹) Joint Probability Expected NPV
1 (-) 2.75 0.07 (-) 0.19
2 (-) 1.84 0.35 (-) 0.64
3 (-) 0.48 0.28 (-) 0.13
4 0.37 0.15 0.06
5 1.50 0.09 0.14
6 2.63 0.06 0.16
(-) 0.60

(iii) The best outcome will be path 6 when the NPV is at ₹2.63 crore. The probability of
occurrence of this NPV is 6% and hence expected NPV of ₹0.16 crore
(iv) If the worst outcome is realized the project will yield NPV of Negative ₹2.75 crore.
The probability of occurrence of this NPV is 7% and hence Negative NPV of ₹0.19
crore (path 1).
(v) The project should not be accepted because the expected NPV is negative ₹ 0.60
crore based on joint probability.
CA Mayank Kothari AFM Additional Questions

Question 2 | Ch. 3. Advanced Capital Budgeting

PQ Ltd. expects sales of ₹100 lakhs in the year 1. The same will increase by ₹20 lakhs per
year over the next four years. At the end of 5 years the project would be wound up. The
Deprecation will be charged at 20% p.a. on straight line method. The expenses excluding the
depreciation will be 40% of the sales. There will be no salvage value of the plant. PQ Ltd.
proposes to invest in the plant an amount where the Net Present Value will be Zero.
Corporate Tax rate is 30%.
You are required to calculate the investment which can be made in the plant.
Nov 24 (8 Marks)
Answer:
Working Notes:
(1) Expected Sales
Year Expected Sales
1 ₹100 lakhs
2 ₹120 lakhs
3 ₹140 lakhs
4 ₹160 lakhs
5 ₹180 lakhs

(2) Expected Expenses excluding Depreciation

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

(3) Cash Inflow from the Project

Let P be the cost of the plant then chargeable depreciation for each year shall be 0.20P.
Accordingly, annual cash flow from the project shall be computed as follows:
Expected Exp. ₹ Dep. Profit Tax @30% Profit After
Year Sales ₹ lakhs (3) Before Tax Tax
lakhs

1 100 40 0.20P 60-0.20P 18-0.06P 42-0.14P

2 120 48 0.20P 72 - 0.20P 21.6 – 0.06P 50.4 – 0.14P
3 140 56 0.20P 84 - 0.20P 25.2 – 0.06P 58.8 – 0.14P
4 160 64 0.20P 96 - 0.20P 28.8 – 0.06P 67.2 – 0.14P
CA Mayank Kothari AFM Additional Questions

5 180 72 0.20P 108 - 0.20P 32.4 – 0.06P 75.6 – 0.14P

Year Profit After Tax Dep. Added Back Cash Inflow

1 42 – 0.14P 0.20P 42 + 0.06P

2 50.40 – 0.14P 0.20P 50.40 + 0.06P
3 58.80 – 0.14P 0.20P 58.80 + 0.06P
4 67.20 – 0.14P 0.20P 67.20 + 0.06P
5 75.60 – 0.14P 0.20P 75.60 + 0.06P
Total 294 + 0.30P

Since NPV will be Zero the required comes as follows:

Sum of Cash Inflows – Plant Cost = 0
294 + 0.30P – P = 0
P = 420
Thus, the required investment to be made in plant shall be ₹420 lakhs.

Alternative solution if a discount rate of 10% is applied, though students may solve the
question using a rate other than 10%.
Working Notes:
(1) Expected Sales
Year Expected Sales
1 ₹100 lakhs
2 ₹120 lakhs
3 ₹140 lakhs
4 ₹160 lakhs
5 ₹180 lakhs

(2) Expected Expenses excluding Depreciation

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

(3) Cash Inflow from the Project

Let P be the cost of the plant then chargeable depreciation for each year shall be 0.20P.
Accordingly, annual cash flow from the project shall be computed as follows:
CA Mayank Kothari AFM Additional Questions

Expected Exp. Dep. Profit Before Tax Profit After

Year Sales ₹lakhs (3) Tax Tax
₹lakhs

1 100 40 0.20P 60-0.20P 18-0.06P 42-0.14P

2 120 48 0.20P 72 - 0.20P 21.6 – 0.06P 50.4 – 0.14P
3 140 56 0.20P 84 - 0.20P 25.2 – 0.06P 58.8 – 0.14P
4 160 64 0.20P 96 - 0.20P 28.8 – 0.06P 67.2 – 0.14P
5 180 72 0.20P 108 - 0.20P 32.4 – 0.06P 75.6 – 0.14P

Dep. Cash Inflow PVF @ 10% PV of Cash Inflow

Profit After
Year Added
Tax
Back

1 42 – 0.14P 0.20P 42 + 0.06P 0.909 38.178 + 0.05454P

2 50.40 – 0.14P 0.20P 50.40 + 0.06P 0.826 41.6304 + 0.04956P
3 58.80 – 0.14P 0.20P 58.80 + 0.06P 0.751 44.1588 + 0.04506P
4 67.20 – 0.14P 0.20P 67.20 + 0.06P 0.683 45.8976 + 0.04098P
5 75.60 – 0.14P 0.20P 75.60 + 0.06P 0.621 46.9476 + 0.03726P
Total 216.8124 + 0.2274P
Since NPV will be Zero the required comes as follows:
Sum of Cash Inflows – Plant Cost = 0
216.8124 + 0.2274P – P = 0
P = 280.63
Thus, the required investment to be made in plant shall be ₹280.63 lakhs.

Question 3 Case Scenario 1 | Ch. 3. Advanced Capital Budgeting

XYZ Ltd. is a mid-sized manufacturing company that produces industrial equipment. The
company is considering a new investment project—a state-of-the-art automated production
line, which is expected to improve production efficiency. The details of the same project are
as follows:
₹
Initial Cost of the project 10,00,000
Sales price/unit 60
Cost/unit 40
Sales volumes
Year 1 20000 units
Year 2 30000 units
Year 3 30000 units
CA Mayank Kothari AFM Additional Questions

The applicable discount rate is 10% p.a.

Based on above case scenario answer the following questions: MTP Nov 24
1. Sensitivity analysis helps to identify…………………..
(a) the exact profitability of the project
(b) the break-even point.
(c) the degree to which a change in each variable affects the NPV.
(d) the amount of investment required

2. The sale price per unit so that the project would break even with zero NPV shall be
approximately…………..
(a) ₹ 40.00
(b) ₹ 55.28
(c) ₹ 60.00.
(d) ₹ 44.74

3. The cost per unit so that the project would break even with zero NPV shall be
approximately…………..
(a) ₹ 40.00
(b) ₹ 55.28
(c) ₹ 60.00.
(d) ₹ 44.74

4. Overall …………in the sale volume will lead to the project to break even with zero
NPV.
(a) increase of 23.68%
(b) fall of 23.68%
(c) Increase of 31.03%
(d) fall of 31.03%

5. A/an …………in the initial outlay will lead to the project to break even with zero
NPV.
(a) increase of 23.68%
(b) fall of 23.68%
(c) Increase of 31.03%
(d) fall of 31.03%
CA Mayank Kothari AFM Additional Questions

Answer:
1. c
2. b
3. d
4. b
5. c

Question 1 Case Scenario 1 | Ch. 5. Security Valuation

The following information is available in respect of Bond 1 and Bond 2
Bond 1 Bond 2
Face value, redeemable value at par ₹1000 ₹1000
Coupon rate, payable annually (%) 6% 10%
Time to maturity (years) 5 3
An investor has the portfolio consisting of 75% of Bond 1 and 25% of Bond 2. The current
YTMs prevailing in the market is 10%.
Year (n) : 1 2 3 4 5
PVIF (10%, n) : 0.9091 0.8264 0.7513 0.6830 0.6209
From the information given above, choose the correct answer to the question no. 1 to 4
(4 × 2 = 8 Marks)
1. New price of the portfolio if YTM changes from 10% of 10.5% based on the
duration is:
1. ₹870.12
2. ₹902.36
3. ₹1832.23
4. ₹1864.45

2. What should be the price and duration of Bond - 2?

A. ₹826.43 and 2.49
B. ₹1,000 and 2.74
C. ₹924.85 and 2.74
D. ₹1,000 and 2.49

3. What should be the price and duration of Bond – 1?

A. ₹848.34 and 4.43
B. ₹811.09 and 4.38
C. ₹1,227.44 and 4.43
D. ₹658.15 and 3.90
CA Mayank Kothari AFM Additional Questions

4. What will be the price sensitivity of the portfolio?

A. -4.027
B. -2.491
C. -3.643
D. -3.981
Answer:
1 A
2 B
3 A
4 C

Question 2 Case Scenario 2 | Ch. 5. Security Valuation

Bank A is in need of fund for a period of 14 days. To meet this financial need on 20th September
2023 Bank A enters into an agreement with Bank B under which it will sell 10% Government of
India Bonds issued on 1st January 2023 @ 5.65% for ₹8 crore (Face value is ₹10,000 per
Bond).
The clean price of same Bond is ₹9,942 and the Initial Margin be 2% and the maturity date of
Bond is 31st December 2028. Consider 360 days in a year and interest is payable annually.
Based on above Case Scenario, answer the following questions:

1. The arrangement entered between Bank A and Bank B will be called ……….
(a) Call Money Arrangement
(b) Commercial Bill Arrangement
(c) Commercial Paper
(d) Repurchase Option

2. Dirty Price of the Bond will approximately be……………………….

(a) ₹10,353
(b) ₹10,670
(c) ₹10,499
(d) ₹10,816

3. The start proceeds of the transaction shall be approximately ……………….

(a) ₹8,38,36,804
(b) ₹8,36,53,000
(c) ₹8,58,36,804
(d) ₹8,48,52,585
CA Mayank Kothari AFM Additional Questions

4. The second leg of the transaction shall be approximately.……………….

(a) ₹8,38,36,804
(b) ₹8,36,53,000
(c) ₹8,58,36,804
(d) ₹8,48,52,585

5. The amount of Accrued Interest per Bond shall be approximately ……………

(a) ₹728
(b) ₹720
(c) ₹734
(d) ₹714
Answer:
1. d
2. b
3. b
4. a
5. a

Question 3 Case Scenario 3 | Ch. 5. Security Valuation

You are an investment analyst working for a financial advisory firm. You have been asked
to analyze the bond market's yield curve to assist your clients in making investment
decisions. The yield curve represents the relationship between the interest rates (yield)
and the time to maturity for debt securities, usually government bonds.
For simplicity, assume the following yield data for government bonds over various
maturities (measured in years):
Yield Curve Table
Maturity (Years) Yield (%)
1 Year 3.00%
2 Years 4.00%
3 Years 5.00%
5 Years 6.00%
7 Years 6.40%
10 Years 7.00%
15 Years 7.40%
30 Years 7.60%
Based on above case scenario answer the following questions:
1. The main characteristic of a normal yield curve is……………….
(a) Short-term yields are higher than long-term yields.
(b) Short-term yields are lower than long-term yields.
CA Mayank Kothari AFM Additional Questions

(c) Yields remain the same across all maturities.

(d) Yields fluctuate randomly over different maturities.

2. Based on the revised yield data, what is the yield spread between the 10-year
bond and the 1-year bond?
(a) 2.0%
(b) 3.5%
(c) 4.0%
(d) 5.0%

3. An inverted yield curve typically indicates………………

(a) Economic growth
(b) Economic uncertainty
(c) An upcoming recession
(d) Inflationary pressure

4. If an investor is looking to invest for 2 years starting 3 years from now, the
forward rate he would expect shall be………
(a) 7.41%
(b) 7.52%
(c) 7.76%
(d) 7.93%

5. If an investor is looking to invest for 2 years starting 5 years from now, the
forward rate he would expect shall be………
(a) 7.41%
(b) 7.52%
(c) 7.76%
(d) 7.93%

Answer
1. B
2. C
3. C
4. B
5. A
CA Mayank Kothari AFM Additional Questions

Question 1 Ch. 6. Portfolio Management

A Portfolio Manager (PM) has three mutual funds in has portfolio. Following the details of
these three mutual funds:
Particulars Growth fund Balanced fund Regular fund Market

Average Return (%) 7.5 6.3 5.4

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

The yield on 182 days Treasury bill is 9 per cent per annum.
You are required to calculate
(i) Variance of the Funds
(ii) Coefficient of Determination of the Funds
Nov 24 (8 Marks)
Answer:
(i) Variance of different Funds can be calculated by using Sharpe Ratio as follows:
(a) Growth Fund
Let σG be the Standard Deviation of Growth Fund. Accordingly
7.50 − 9.00
−0.15 =
σG
σG = 10
Hence the variance of Growth Fund (σG)2 = 100
(b) Balanced Fund
Let σB be the Standard Deviation of Balanced Fund. Accordingly
6.30 − 9.00
−0.36 =
σB
σB = 7.50
Hence the variance of Growth Fund (σB)2 = 56.25
(c) Regular Fund
Let σR be the Standard Deviation of Regular Fund. Accordingly
5.40 − 9.00
−0.48 =
σB

σR = 7.50
Hence the variance of Growth Fund (σR)2 = 56.25

(ii) To determine the Coefficient of Determination we need the Coefficient of Correlation

which can be determined by computing β using the Treynor Ratio as follows:
CA Mayank Kothari AFM Additional Questions

(a) Growth Fund

Let βG be the Beta of Growth Fund. Accordingly
7.50 − 9.00
−2 =
βG
βG = 0.75
σG Corr.G,M
Since Beta =
σM
and σG = 10 and σM = 50.41 = 7.1
10Corr.G,M
Hence 0.75 =
7.10
Corr.G,M = 0.5325 or 0.53 and
Coefficient of Determination of Growth Fund
= (0.5325)2 = 0.2836 or (0.53)2 = 0.28

(b) Balanced Fund

Let βB be the Beta of Balanced Fund. Accordingly
6.30 − 9.00
−3 =
βB
βB = 0.90
σB Corr.B,M
Since Beta =
σM
and σB = 7.50 and σM = 50.41 = 7.1
7.50Corr.B,M
Hence 0.90 =
7.10

Corr.B,M = 0.852 or 0.85 and

Coefficient of Determination of Balanced Fund
= (0.852)2 = 0.7259 or (0.85)2 = 0.73

(c) Regular Fund

Let βR be the Beta of Regular Fund. Accordingly
5.40 − 9.00
−4.80 =
βR
βR = 0.75
σR Corr.R,M
Since Beta =
σR
and σR = 7.50 and σR = 50.41 = 7.1
7.50Corr.R,M
Hence 0.75 =
7.10
CA Mayank Kothari AFM Additional Questions

Corr.R,M = 0.71 and

Coefficient of Determination of Regular Fund = (0.71)2 = 0.5041 or 0.50

Question 2 Case Scenario | Ch. 6. Portfolio Management

Z Ltd. paid a dividend of ₹5 for the current year. The dividend is expected to grow at 25% for
the next 6 years and at 10% per annum thereafter. The return of government bond is 13%
per annum and market return is expected to be around 20%. The correlation between market
return and Z Ltd. share return is 0.3733. The standard deviation of market return and Z Ltd.
shares is 12% and 18% respectively.
Round off to two decimal places.
From the information given above, choose the correct answer to the following questions:
Nov 24 5 x 2 = 10 Marks
1. What is the intrinsic value of Z Ltd. shares?
B. ₹156.69
C. ₹303.14
D. ₹349.62
E. ₹341.30

2. What is the present value at the end of 4th year?

B. ₹23.71
C. ₹12.56
D. ₹6.53
E. ₹6.99

3. What is the expected return of Z Ltd shares?

A. 15%
B. 23.92%
C. 16.92%
D. 16.5%

4. What is value in perpetuity at the start of the 6th year?

A. ₹156.69
B. ₹303.14
C. ₹349.62
D. ₹341.30
CA Mayank Kothari AFM Additional Questions

5. If current market price of the shares is ₹315 than stock is

A. Over valued
B. Under valued
C. Fairley valued
D. Cannot be determined
Answer:
1 A
2 C
3 C
4 B
5 A

Question 3 Case Scenario | Ch. 6. Portfolio Management

Two friend Mr. A and Mr. N were discussing about the risks of market. While Mr. A is sort
of risk averse, Mr. N is an aggressive investor and believes in taking risk.
Mr. N said we cannot diversify the market risk at all, and he quoted the Modern Portfolio
Approach. Both friends analyze the market data for the few months and came out with
expected returns on two stocks for a particular market.
Market Return Aggressive Defensive
7% 4% 9%
25% 40% 18%

Based on above scenario, answer the following questions:

I. The Beta of Defensive stock is…………
(a) 2
(b) 0.5
(c) 4
(d) 1

II. If the market return is equally likely to be 7% or 25% then expected return of Aggressive
stock shall be……..
(a) 18%
(b) 13.50%
(c) 22%
(d) 11%
CA Mayank Kothari AFM Additional Questions

III. The Alpha of the Defensive stocks is……………….

(a) -10%
(b) 22%
(c) 5.50%
(d) 12%

IV. The Modern Portfolio Theory was propounded by …………………

(a) William Sharpe
(b) Black Scholes
(c) Stephen Ross
(d) Harry Markowitz

V. As per Capital Market Line (CML) Theory the Portfolios lying on the CML over the
market portfolio are called ……………….
(a) Lending Portfolios
(b) Borrowing Portfolios
(c) Diversified Portfolios
(d) Risk- Free Portfolios
Answer:
I. b
II. c
III. c
IV. d
V. b

Question 1 Case Scenario | Ch. 8. Mutual Funds

Mr. X on 1.7.2021, during the initial offer of some Mutual Fund invested in 10,000 units
having face value of ₹10 for each unit. On 31.3.2022, the dividend paid by the M.F. was 10%
and Mr. X found that his annualized yield was 153.33%. On 31.12.2023, 20% dividend was
given. On 31.3.2024, Mr. X redeemed all his balance of 11,296.11 units when his annualized
yield was 73.52%.
Based on the above information answer the following questions:
I. NAV per unit of the Fund as on 31.03.2022 shall be approximately………………
(a) ₹19.50
(b) ₹20.50
(c) ₹21.50
(d) ₹22.50
CA Mayank Kothari AFM Additional Questions

II. Total number of units as on 31.03.2022 shall be approximately………….

(a) 10487.80 units
(b) 12585.65 units
(c) 9465.35 units
(d) 11575.40 units

III. Total Dividend received by Mr. X as on 31.03.2023 shall be ………………

(a) ₹20,625.50
(b) ₹20,870.45
(c) ₹20,975.60
(d) ₹21,565.75

IV. NAV per unit as on 31.03.2023 shall be approximately………………

(a) ₹24.65
(b) ₹24.85
(c) ₹25.95
(d) ₹26.45

V. NAV as on 31.03.2024 shall be approximately………………

(a) ₹20.50
(b) ₹25.95
(c) ₹26.75
(d) ₹27.20

Answer:
I. B
II. A
III. C
IV. C
V. C

Question 2 Case Scenario | Ch. 8. Mutual Funds

The Asset Management Company of the mutual fund (MF) has declared a dividend of 9.98%
on the units under the dividend reinvestment plan for the year ended 31st March 2021. The
investors are issued additional units for the dividend at the rate of closing Net Asset Value
(NAV) for the year as per the conditions of the scheme.
The closing NAV was ₹24.95 as on 31st March 2021. An investor Mr. X who is having 20,800
units at the year-end has made an investment in the units before the declaration of the
CA Mayank Kothari AFM Additional Questions

dividend at the rate of opening NAV plus an entry load of ₹0.04. The NAV has appreciated
by 25% during the year.
Assume the face value of the unit as ₹10.00.
Based on above Case Scenario, answer the following questions:
1. The Opening NAV of the Asset Management Company shall be …………
(a) ₹20.24
(b) ₹19.96
(c) ₹18.75
(d) ₹17.65

2. The Number of the units purchased shall be ………………….

(a) 18750
(b) 17500
(c) 20450
(d) 20000

3. Original amount of the investment shall be ………………

(a) ₹ 4,00,000
(b) ₹ 6,50,000
(c) ₹ 3,55,000
(d) ₹ 5,65,000

4. Which of the following statement about Expense ratio is/ are incorrect:
(i) It is the percentage of income that were spent to run a mutual fund.
(ii) It includes advisory fees, travel costs, registrar fees, custodian fees, etc.
(iii) It includes Brokerage costs for trading of Portfolio.
(iv) High Expense Ratio can seriously undermine the performance of a mutual fund
scheme.
(a) (i), (ii), (iii)
(b) (i), (iii)
(c) only (iii)
(d) only (i)

5. …………………considers and uses downside deviation instead of total standard

deviation in denominator.
(a) Expense Ratio
(b) Sharpe Ratio
(c) Treynor Ratio
CA Mayank Kothari AFM Additional Questions

(d) Sortino Ratio

Answer :
1. B
2. D
3. A
4. C
5. D

Question 1 | Ch. 9. Derivatives Analysis & Valuation

A firm is considering a proposal to set up a cement manufacturing plant with an initial
investment of ₹150 crore. The firm has the option to abandon the project after one year by
selling it to a competitor for ₹100 crore if the market conditions are unfavorable and the
demand is low, the project's value will decline by 60%. However, if the market conditions turn
out to be favorable and the demand for cement is high, the value of the project at the end of
year 1 will increase by 50%.
Given that the risk free rate of interest as 8%, what will be the value of the abandonment
option and the value of the project with abandonment option?
Nov 24 4 Marks
Answer:
Decision Tree showing pay off
Year 0 Year 1 Option Pay off

225 0

-150

60 100 - 60 = 40

First of all, we shall calculate probability of high demand (p) using risk neutral method as
follows:
8% = p × 50% + (1-p) × (-60%)
0.08 = 0.50 p - 0.60 + 0.60p
p = 068/1.10= 0.618 or 0.62
The value of abandonment option will be as follows:
Expected Payoff at Year 1
= p × 0 + [(1-p) × 40]
= 0.618 × 0 + [0.382 × 40]
= ₹15.28 crore
CA Mayank Kothari AFM Additional Questions

Since expected pay off at year 1 is ₹15.28 crore. Present value of expected pay off will be:
15.28
= ₹14.15Crore
1.08

Thus, the value of abandonment option is ₹14.15 crore.

Value of Project with abandonment option -
(i) If PVF is not considered
Expected Value of the Project without abandonment option
= (0.618 x ₹225 crore + 0.382 × ₹60 crore) – ₹150 crore
= ₹11.97 crore
Value of Project with abandonment Option
= ₹11.97 crore + ₹14.15 crore = ₹26.12 crore
Or
Expected Value of the Project without abandonment option
= (0.62 × ₹225 crore + 0.38 × ₹60 crore) – ₹150 crore
= ₹12.30 crore
Value of Project with abandonment Option
= ₹12.30 crore + ₹14.15 crore = ₹26.45 crore
(ii) If PVF is considered
Expected Value of the Project without abandonment option
= (0.618 × ₹225 crore + 0.382 × ₹60 crore)/1.08 – ₹150 crore
= - ₹0.028 crore OR - ₹0.03
Value of Project with abandonment Option
= - ₹0.028 crore + ₹14.15 crore = ₹14.122 crore OR ₹14.12 crore
Or
Expected Value of the Project without abandonment option
= (0.62 × ₹225 crore + 0.38 × ₹60 crore)/1.08 – ₹150 crore
= ₹00.28 crore
Value of Project with abandonment Option
= ₹0.28 crore + ₹14.15 crore = ₹14.43 crore

Question 2 | Ch. 9. Derivatives Analysis & Valuation

Mohan buys 10,000 shares of X Ltd. @ ₹25 per share whose beta value is 1.5 and sells
5,000 shares of A Ltd. @ ₹40 per share having a beta value of 2. He obtains a complete
hedge by buying 25 Nifty Futures. He closes out his position at the closing price of the next
day when the share of X Ltd. has fallen by 4% and Nifty Futures has dropped by 2.50%. In
the process he suffered a loss of ₹16625.
You are required to determine
(i) The value of the Nifty future
CA Mayank Kothari AFM Additional Questions

(ii) Initial cash outlay

(iii) Cash inflow at the close out
(iv) Percentage Gain/loss to Shares of A Ltd. at the time of closure
Nov 24 (4 Marks)
Answer:
(i) Let N be the value of Nifty Future Contract then:
1000 × 25 × 1.50 − 5000 × 40 × 2
= 25
N
N = - 1000
Since Mohan has bought Nifty Futures the above value shall be considered as positive
i.e. value of per one Nifty Future is ₹1000.
Alternatively, it can also be computed as follows:
5000 × 40 × 2 − 10000 × 25 × 1.50
= 25
N
N = 1000
Accordingly, the value of Nifty Future is ₹1000.
(ii) Initial Cash Outlay
= 10000 × ₹25 + 1000 × ₹25 – 5000 × ₹40
= ₹2,50,000 + ₹25,000 - ₹2,00,000 = ₹75,000
(iii) Cash inflow at the closeout
₹75,000 - ₹16,625 = ₹58,375
(iv) Percentage Gain/ loss to Shares of A Ltd. at the time of closure
Let the amount realised from the sale of share of A Ltd. is A.
Accordingly, next day at the time of closing out the position will be as follows:
10000 × ₹25 (1 – 0.04) + 25 × ₹1000 × (1 – 0.025) - A = ₹58,375
A = ₹2,06,000
2,06,000 − 2,00,000
Thus, percentage of loss to shares of A Ltd. =
2,00,000
= 0.03 i.e. 3%
Alternative presentation-
Percentage Gain / Loss to shares of A Ltd. at the time of closure:
Loss suffered by Mohan when he closes out his
₹16,625
position at the closing price of the next day
Less:
a. Loss suffered in purchase of shares of X Ltd.
10,000
(10,000 × 25 × 0.04)
b. Loss suffered in Nifty Futures (1,000 × 25 × 0.025) 625 ₹10,625
Loss suffered in sale of shares of A Ltd. ₹ 6,000
CA Mayank Kothari AFM Additional Questions

Thus, percentage of loss to shares of A Ltd.= (6,000/2,00,000) × 100 = 0.03 i.e. 3%.

Question 3 - Case Scenario | Ch. 9. Derivatives Analysis & Valuation

Based on the following information, choose the correct answer from the following questions:
Situation Action Exercise Price Premium Spot Price
I Exercised 140 20 160
II Exercised 200 15 175
III Lapsed 300 25 400

From the information given above, choose the correct answer to the Question no. 1 to 3:
Nov 24 (3 x 2 = 6 Marks)
1. In Situation III, the investor’s position and the amount of profit / loss is:
A. Put option, ₹(25)
B. Call option, ₹75
C. Short position, ₹100
D. Long position, ₹(100)

2. In Situation I, the investor’s position and the amount of profit or loss is :

A. Put option and ₹20
B. Call option and ₹0
C. Put option and ₹0
D. Call option and ₹20

3. In Situation II, the investor’s position and the amount of profit / loss is :
A. Put option and ₹10
B. Call option and ₹10
C. Put option and ₹25
D. Call option and ₹25
Answer:
1 A
2 B
3 A

Question 4 - Case Scenario | Ch. 9. Derivatives Analysis & Valuation

You as an investor had purchased a 4-month European Call Option on the equity shares of
X Ltd. for ₹10, of which the current market price is ₹132 per share and the exercise price
₹150. You expect the price to range between ₹120 to ₹190. The expected share price of X
Ltd. and related probability is given below:
CA Mayank Kothari AFM Additional Questions

Expected Price (₹) 120 140 160 180 190

Probability 0.05 0.20 0.50 0.10 0.15
Based on above case scenario answer the following questions:
1. Expected price of share of X Ltd. at the end of 4 months shall be…….
(a) ₹ 160.00
(b) ₹ 160.50
(c) ₹ 158.00
(d) ₹ 140.00

2. Suppose if the exercise price prevails at the end of 4 months the Value of Call
Option shall be…………
(a) ₹0
(b) ₹18
(c) ₹10
(d) ₹14

3. In case the option is held to its maturity, the expected value of the call option shall
be……………
(a) ₹0
(b) ₹18
(c) ₹10
(d) ₹14

4. In the given different scenarios of expected prices of share of X Ltd. at the time of
maturity the option shall be in-the-money in …………… scenarios.
(a) two
(b) three
(c) five
(d) In none of the scenario

5. In the given different scenarios of expected prices of share of X Ltd. at the time of
maturity the option shall be at-the-money in …………… scenarios.
(a) two
(b) three
(c) five
(d) In none of the scenario
CA Mayank Kothari AFM Additional Questions

Answer:
1. b
2. a
3. d
4. b

Question 1 | Ch. 10. Interest Rate Risk Management

XY Ltd. is planning to expand its operations in view of growing demand for its products. For
this purpose, it is considering to borrow an amount of ₹100 crores for a period of 3 months in
the coming 6 months' time from now. The current rate of interest is 8% per annum but due to
inflation it may go up in 6 months' time. The company wants to hedge itself against the likely
increase in interest rate.
The company's Bankers quoted an FRA (Forward Rate Agreement) at 8.20% per annum.
You are required to calculate due to FRA:
(i) The actual interest rate if the Banker pays to XY Ltd. an amount of ₹9,78,952.52
(ii) The actual interest rate if XY Ltd. will pay to the Banker a sum of ₹9,80,872.98
Nov 24 (6 Marks)
Answer:
Final settlement amount shall be computed by using formula:
N RR − FR dtm/DY
=
1 + RR dtm/DY
Where,
N = the notional principal amount of the agreement;
RR = Actual Reference Rate for the maturity specified by the contract prevailing on the
contract settlement date;
FR = Agreed-upon Forward Rate; and
dtm = maturity period in days or months of the forward rate agreement
DY = Total number of days or month in a year as per convention
Accordingly,
i. If Banker pays to XY Ltd. an amount of ₹9,78,952.52 then actual interest shall be computed
as follows:
₹100crore RR − 0.082 3/12
₹9,78,952.52 =
1 + RR 3/12
RR = 0.086
Thus, the actual interest rate happens to be 8.60% on the settlement date.
ii. If XY Ltd. pays to Banker an amount of ₹9,80,872.98 then actual interest shall be computed
as follows:
CA Mayank Kothari AFM Additional Questions

₹100crore RR − 0.082 3/12

−₹9,80,872.98 =
1 + RR 3/12
RR = 0.078
Thus, the actual interest rate happens to be 7.80% on the settlement date.

Question 2 Case Scenario 1 | Ch. 10. Interest Rate Risk Management

P Ltd. is planning to borrow an amount of ₹60 crores for a period of 3 months in the coming
6 month's time from now. The current rate of interest is 9% p.a., but it is likely to go up in 6
month’s time. The company wants to hedge itself against the likely increase in interest rate.
You as CFO has been asked to suggest both traditional as well as modern methods to hedge
interest rate risk.
Suppose the banker of P Ltd. has quoted the following Forward Rate Agreement (FRA) rates:
3×6 9.10% 9.15%
6×9 9.20% 9.30%
9 × 12 9.35% 9.45%
Based on the above information answer the following questions:
I. Suppose if P Ltd. agrees to adopt FRA method to hedge interest rate risk then the
interest rate……….. shall be applicable for the same agreement.
(a) 9.10% p.a.
(b) 9.30% p.a.
(c) 9.35% p.a.
(d) 9.45% p.a.

II. Suppose if the actual rate of interest after 6 months happens to be 9.60%, then the
settlement amount approximately ………….
(a) ₹733,855 shall be paid by P Ltd. to its Banker.
(b) ₹439,453 shall be paid by P Ltd. to its Banker.
(c) ₹439,453 shall be paid by Banker to P Ltd.
(d) ₹733,855 shall be paid by Banker to P Ltd.

III. Suppose if the actual rate of interest after 6 months happens to be 8.80%, then the
settlement amount approximately ………………
(a) ₹733,855 shall be paid by P Ltd. to its Banker
(b) ₹439,453 shall be paid by P Ltd. to its Banker.
(c) ₹439,453 shall be paid by Banker to P Ltd.
(d) ₹733,855 shall be paid by Banker to P Ltd.
CA Mayank Kothari AFM Additional Questions

IV. Which of the following technique is not the modern technique to hedge the interest
rate risk ………………
(a) Interest Rate Futures
(b) Interest Rate Options
(c) Interest Rate Swaps
(d) Forward Rate Agreement
May 2025 (RTP)
Answer:
MCQs
I (b)
II (c)
III (a)
IV (d)

Question 3 Case Scenario 2 | Ch. 10. Interest Rate Risk Management

Suppose you are a risk manager at a financial institution, and your company has loaned a
significant amount of ₹500 crore to a company X Ltd. for a period of 3 years at 6-month at
MCLR plus 200 bps. You are concerned about X Ltd.'s ability to repay the debt due to recent
market volatility. To protect your institution from potential default, you decide to purchase a
Credit Default Swap (CDS) from ABC Bank Ltd. for same notional amount at a premium quoted
at 1% per year through cash settlement.
On the respective reset dates for the same period actual MCLR interest rate comes out as
follows:
Reset MCLR
1 9.75%
2 10.00%
3 10.25%
4 10.35%
5 10.50%
6 10.60%

Based on above case scenario answer the following questions:

6. The primary purpose of a Credit Default Swap (CDS) is...................
(a) to increase the value of bonds.
(b) to protect against default risk of a debt obligation.
(c) to provide guaranteed profit to the buyer.
(d) to create a new form of loan.
CA Mayank Kothari AFM Additional Questions

7. Which of the following statements is true about CDS contracts?

(a) CDS contracts cannot be used for speculation.
(b) CDS contracts are governed by government regulations.
(c) CDS contracts are private agreements between two parties.
(d) CDS contracts eliminate all risks for the buyer.

8. Which organization publishes the guidelines and rules for conducting Credit
Default Swap transactions?
(a) Federal Reserve
(b) International Swap and Derivative Association (ISDA)
(c) Securities and Exchange Commission (SEC)
(d) World Trade Organization (WTO)

9. Assuming no default occurs the total premium your company will pay during the
designated loan period shall be........
(a) ₹5 crore
(b) ₹10 crore
(c) ₹15 crore
(d) ₹30 crore

10. Suppose if the lender defaults somewhere in the beginning of third year of loan
(after payment of interest upto 2 years) and the market value of a reference loans
falls to 75% of its par value, then ABC Bank will pay your company ...........in a cash
settlement.
(a) ₹15 crore
(b) ₹30 crore
(c) ₹125 crore
(d) ₹500 crore

Answer:
1. B
2. C
3. B
4. C
5. C
CA Mayank Kothari AFM Additional Questions

Question 1 | Ch. 11. Forex

Explain the various technique explicitly does not involve transaction costs and can
be used to offset the foreign exchange exposure completely or partially.
Answer:
Internal Techniques are those techniques explicitly do not involve transaction costs and
can be used to completely or partially offset the exposure. These techniques can be further
classified as follows:
(i) Invoicing in Domestic Currency: Sellers usually wish to sell in their own currency
or the currency in which they incur cost. This avoids foreign exchange exposure
but buyers' preferences may be for other currencies. Many markets, such as oil or
aluminum, in effect require that sales be made in the same currency as that quoted
by major competitors, which may not be the seller's own currency. In a buyer's
market, sellers tend increasingly to invoice in the buyer's ideal currency. The closer
the seller can approximate the buyer's aims, the greater chance he or she has to
make the sale.
(ii) Leading and Lagging: Leading and Lagging refer to adjustments at the time of
payments in foreign currencies. Leading is the payment before due date while
lagging is delaying payment post the due date. These techniques are aimed at
taking advantage of expected devaluation and/or revaluation of relevant currencies.
Lead and lag payments are of special importance in the event that forward contracts
remain inconclusive. When we take reverse the example-revaluation expectation-
it could be attractive for lagging.
(iii) Netting: Netting involves associated companies, which trade with each other. The
technique is simple. Group companies merely settle inter affiliate indebtedness for
the net amount owing. Gross intra-group trade, receivables and payables are netted
out. The simplest scheme is known as bilateral netting and involves pairs of
companies. Each pair of associates nets out their own individual positions with each
other and cash flows are reduced by the lower of each company's purchases from
or sales to its netting partner. Bilateral netting involves no attempt to bring in the
net positions of other group companies.
(iv) Matching: Although netting and matching are terms which are frequently used
interchangeably, there are distinctions. Netting is a term applied to potential flows
within a group of companies whereas matching can be applied to both intra-group
and to third-party balancing.
(v) Price Variation: Price variation involves increasing selling prices to counter the
adverse effects of exchange rate change. This tactic raises the question as to why
the company has not already raised prices if it is able to do so. In some countries,
price increases are the only legally available tactic of exposure management.
CA Mayank Kothari AFM Additional Questions

(vi) Asset and Liability Management: This technique can be used to manage balance
sheet, income statement or cash flow exposures. Concentration on cash flow
exposure makes economic sense but emphasis on pure translation exposure is
misplaced. Hence, our focus here is on asset liability management as a cash flow
exposure management technique.

Question 1 | Ch. 12. International Financial Management

PQR Ltd. is considering a project in US, which involve an initial investment of ₹124.50 Crore.
The project will have useful life of 5 years Current spot exchange rate is INR/USD is 83. The
risk free rate in US is 4.186% and the same in India is 6.9768%. Cash inflows in USD from
the project are as follows:
Year 1 2 3 4 5

Cash inflow 30,00,000 40,00,000 50,00,000 60,00,000 70,00,000

PQR Ltd. is expecting net surplus of ₹1858.08 lakh to be received after closure of the project.
There is no salvage value. PQR Ltd. want to take a forward cover to protect itself from
exchange rate fluctuations.

N 1 2 3 4 5

PVIF (6.976%, n) 0.935 0.874 0.817 0.764 0.714

PVIF (4.186%, n) 0.959 0.921 0.884 0.849 0.815

PVIF (12%, n) 0.893 0.797 0.712 0.636 0.567

PVIF (15%, n) 0.870 0.756 0.658 0.572 0.497

You are required to recommend the INR/USD rate for the forward cover?
Nov 24 ( 6 Marks)
Answer:
Let F be the recommended INR/USD rate for the forward cover. Accordingly, year-wise
equivalent cash inflows in Indian Rupees shall be as follows:
Year Cash Inflow in Cash Inflow in
USD Lakh ₹ Lakh

1 30.00 30.00F

2 40.00 40.00F

3 50.00 50.00F
CA Mayank Kothari AFM Additional Questions

4 60.00 60.00F

5 70.00 70.00F
Now let us compute Net Present Value of project assuming a discount rate of 12% as follows:
Year PVF@12% Cash flow in ₹ Lakh PV in ₹ Lakh

0 1.00 - 12450.00 - 12450.00

1 0.893 30.00F 26.79F

2 0.797 40.00F 31.88F

3 0.712 50.00F 35.60F

4 0.636 60.00F 38.16F

5 0.567 70.00F 39.69F

172.12F - 12450

Since expected surplus after closure of the project is ₹1858.08 Lakh, we can compute the
value of F as follows:
1858.08 = 172.12F – 12450
F = 83.13
Thus, for forward cover the rate of ₹83.13/ USD is recommended.
Alternatively, if students have assumed discounting rate as 15% then answer will be
as follows:
Let F be the recommended INR/USD rate for the forward cover. Accordingly, year-wise
equivalent cash inflows in Indian Rupees shall be as follows:
Year Cash Inflow in Cash Inflow
USD Lakh in ₹ Lakh

1 30.00 30.00F

2 40.00 40.00F

3 50.00 50.00F

4 60.00 60.00F

5 70.00 70.00F

Now let us compute Net Present Value of project assuming a discount rate of 15% as follows:
CA Mayank Kothari AFM Additional Questions

Year Cash flow in ₹ PV in ₹ Lakh

PVF@12%
Lakh

0 1.00 - 12450.00 - 12450.00

1 0.870 30.00F 26.10F

2 0.756 40.00F 30.24F

3 0.658 50.00F 32.90F

4 0.572 60.00F 34.32F

5 0.497 70.00F 34.79F

158.35F - 12450

Since expected surplus after closure of the project is ₹1858.08 Lakh, we can compute the
value of F as follows:
1858.08 = 158.35F – 12450
F = 90.36
Thus, for forward cover the rate of ₹90.36/ USD is recommended.

Alternative Solution if students have assumed that the discounting rate 15% for the
given cash inflows then applicable discounting rates for the project is -
(1 + 0.06978) / (1 + Risk Premium) = (1 + 0.15)
Or, 1 + Risk Premium = 1.15/1.06978 = 1.0750
Therefore, Risk adjusted dollar rate is = (1.0750 × 1.04186) -1 = 1.1199 – 1 = 0.12
Calculation of NPV
Year Cash flow US$ PV Factor at 12% PV (US$
lakh lakh)

1 30.00 0.893 26.79

2 40.00 0.797 31.88

3 50.00 0.712 35.60

4 60.00 0.636 38.16

5 70.00 0.567 39.69

172.12

Less: Investment 150.00

CA Mayank Kothari AFM Additional Questions

NPV 22.12

Since PQR Ltd. is expecting a net surplus of ₹1858.08 lakh after the closure of the
project the recommended rate of INR/ USD is (₹1858.08 lakh/ USD 22.12 lakh) ₹84.00.

Question 1 | Ch. 13. Business Valuation

The ABC Startup has the following expected profits under different scenarios along
respective probabilities:
Year Best Case Best Case Worst Case
Revenue Expenses Revenue Expenses Revenue Expenses
1 ₹100,00,000 ₹80,00,000 ₹100,00,000 ₹90,00,000 ₹100,00,000 ₹95,00,000
2 ₹120,00,000 ₹92,40,000 ₹110,00,000 ₹95,70,000 ₹102,00,000 ₹98,94,000
3 ₹144,00,000 ₹108,00,000 ₹121,00,000 ₹102,85,000 ₹104,04,000 ₹101,95,920
Probability 30% 60% 10%

You are required to suggest the value of ABC Startup using First Chicago Method
assuming that:
(i) Applicable discounting rate is 20%.
(ii) Startup is located in Tax-free Zone.
(iii) The multiple for Terminal is 10.
(iv) No depreciable assets are held by the ABC Startup.
Note:
1. Present Value Factor (PVF)
Year 1 2 3
PVF@20% 0.8333 0.6944 0.5787
2. Round off the calculation to whole numbers.
Answer:
Valuation of Startup under different scenarios:
(i) Best Case Scenario
Year 1 Year 2 Year 3
Revenue ₹100,00,000 ₹120,00,000 ₹144,00,000
Expenses ₹80,00,000 ₹92,40,000 ₹108,00,000
Cash Flow/Earnings ₹20,00,000 ₹27,60,000 ₹36,00,000
Terminal Value ₹3,60,00,000
PVF @ 20% 0.8333 0.6944 0.5787 0.5787
PV ₹16,66,600 ₹19,16,544 ₹20,83,320 ₹2,08,33,200
Value of Startup ₹2,64,99,664
CA Mayank Kothari AFM Additional Questions

(ii) Base Case Scenario

Year 1 Year 2 Year 3
Revenue ₹100,00,000 ₹110,00,000 ₹121,00,000
Expenses ₹90,00,000 ₹95,70,000 ₹102,85,000
Cash Flow/Earnings ₹10,00,000 ₹14,30,000 ₹18,15,000
Terminal Value ₹181,50,000
PVF @ 20% 0.8333 0.6944 0.5787 0.5787
PV ₹8,33,300 ₹9,92,992 ₹10,50,341 ₹105,03,405
Value of Startup ₹133,80,038
(iii) Worst Case Scenario
Year 1 Year 2 Year 3
Revenue ₹100,00,000 ₹102,00,000 ₹104,04,000
Expenses ₹95,00,000 ₹98,94,000 ₹101,95,920
Cash Flow/Earnings ₹5,00,000 ₹3,06,000 ₹2,08,080
Terminal Value ₹20,80,800
PVF @ 20% 0.8333 0.6944 0.5787 0.5787
PV ₹4,16,650 ₹2,12,486 ₹1,20,416 ₹12,04,159
Value of Startup ₹19,53,711
Value of ABC Startup as per First Chicago Method
= 0.30 × ₹2,64,99,664 + 0.60 × ₹133,80,038 + 0.10 × ₹19,53,711
= ₹79,49,899 + ₹80,28,023 + ₹1,95,371
= ₹1,61,73,293

Question 2 | Ch. 13. Business Valuation

Economic Value Added (EVA) of ABC Lad was ₹31,10,000
Following is the capital structure of ABC Ltd. at the end of current financial year
Equity (Share Capital + Reserves & Surplus) ₹170 lakhs
Debt (Coupon Rate 10%) ₹80 lakhs
Invested Capital ₹250 lakhs
Following data is given to estimate the cost of equity capital:
Beta of ABC Ltd. 0.90
Risk-free rate (i.e., current yield on Govt. Bonds) 8%
Average market risk premium 10%
Economic Value Added (EVA) of ABC Ltd was ₹31,10,000.
The applicable corporate income tax rate is 30%.
You are required to calculate the Profit After Tax of ABC Ltd.
Nov 24 ( 4 Marks)
CA Mayank Kothari AFM Additional Questions

Answer:
To compute Profit after Tax (PAT) of ABC Ltd. first we shall compute Cost of Equity, Cost of
Debt and WACC as follows:
Cost of Equity (ke) as per CAPM
= ke = 8% + 0.90 × 10%
= 17%
Post Tax Cost of Debt (kd)
= 10% (1 – 0.30)
= 7.00%
𝐖𝐀𝐂𝐂
170 80
= 17% × + 7% ×
250 250
= 11.56% + 2.24%
= 13.80%
EVA = Net Operating Profit after Tax (NOPAT) – (Invested Capital × WACC)
₹31,10,000 = NOPAT – (₹2,50,00,000 × 0.1380)
NOPAT = ₹65,60,000
Calculation of profit after Tax
Operating Profit ₹93,71,429
Less: Interest ₹8,00,000
Profit before Tax ₹85,71,429
Less: Tax @ 30% ₹25,71,429
Profit after Tax ₹60,00,000

Question 1 | Ch. 14. Mergers, Acquisitions & Corporate Restructuring

ICL is proposing to take over SVL with an objective to diversify. While ICL growth rate is 18%,
the SVL growth rate is 15%. Both the companies pay dividend regularly. The summarized Profit
& Loss Account of both the companies are as follows:
₹ in Crores
Particulars ICL SVL
Net Sales 9090 3000
PBlT 5960 1440
Interest 1500 50
Provision for Tax 2880 890
PAT 1580 500
Dividends 470 304.35
CA Mayank Kothari AFM Additional Questions

ICL SVL
Fixed Assets
Land & Building (Net) 1440 380
Plant & Machinery (Net) 1800 700
Furniture & Fixtures (Net) 60 3300 20 1100
Current Assets 1550 1160
Less: Current Liabilities
Creditors 460 260
Overdrafts 70 20
Provision for Tax 290 100
Provision for dividends 120 940 100 480
Net Assets 3910 1780
Paid up Share Capital (₹10 per share) 500 250
Reserves and Surplus 2100 2600 1320 1570
Borrowing 1310 210
Capital Employed 3910 1780

Market Price Share (₹) 175 98

Cost of Equity 25% 20%

ICL’s Land & Buildings are stated at current prices. SVL’s Land & Buildings are revalued three
years ago. There has been an increase of 7.65 per cent per year in the value of Land &
Buildings.
SVL is expected to grow @ 18 per cent each year, after merger.
ICL is interested to do justice to the shareholders of both the Companies. For the swap ratio
weights are assigned to different parameters by the Board of Directors as follows:
Net Worth Per Share* 25%
EPS (Earning per share) 30%
Share price as per Dividend Growth Model 20%
Market Price per share 25%
* After required adjustment.
You are required to suggest the swap ratio based on above weights and total number of shares.
Note: Round off calculations upto two decimal points.
Answer:
CA Mayank Kothari AFM Additional Questions

(i) Computation of Net Worth Per Share of SVL

Amount in ₹ Crores

Total Assets (Fixed assets + Current Assets) (₹Crores) 2260

Less: Liabilities (Current Liabilities + Borrowings) (₹Crores) 690

Net Assets Value (₹Crores) 1570

Current Value of Land after growing for three years @ 30% 474.05*
= 380 × 1.2475 (₹Crores)
Less: Book Value (₹Crores) 380.00

Increase in the Value of land (₹Crores) 94.50

Adjusted NAV (1570 + 94.05) (₹Crores) 1664.05

No. Shares (Crores) 25

Net Worth Per Share ₹66.56

* Alternatively, this value can also be computed as ₹475 Crores.

(ii) Computation of Net Worth Per Share of ICL
Share Capital + Reserves and Surplus = ₹2600 Crore
Total Number of Shares = 50 Crore
Net Worth Per Share = ₹2600 Crore/ 50 Crore = ₹52.00
(iii) Earning Per Share (EPS)
ICL SVL
PAT ₹1580 Crore ₹500 Crore
No. of Shares 50 Crore 25 Crore
EPS ₹31.60 ₹20.00

(iv) Share price as per Dividend Growth Model

ICL SVL
Total Dividend ₹ 470 Crore ₹ 304.35 Crore
No. of Shares 50 Crore 25 Crore
Dividend Per Share (D0) ₹9.40 ₹12.17
Expected Dividend (D1) ₹9.40 (1 + 0.18) ₹12.17 (1 + 0.15)
= ₹11.09 = ₹14.00
Value of Per Share as Growth Model 11.09/0.25-0.18 14.00/0.20-0.15
= ₹158.43 = ₹280
CA Mayank Kothari AFM Additional Questions

Calculation of Swap Ratio

Net Worth Per Share 1 : 1.28 i.e. 1.28 × 25% 0.32
EPS 1 : 0.63 i.e. 0.63 × 30% 0.19
Share price as per Dividend Growth Model 1 : 1.77 i.e. 1.77 × 20% 0.35
Market Price 1 : 0.56 i.e. 0.56 × 25% 0.14
Total 1.00
Swap ratio is for every one share of SVL, to issue 1 share of ICL. Hence, total
no. of shares to be issued 25 crores.

Question 2 Case Scenario – 1 | Ch. 14. Mergers, Acquisitions & Corporate

Restructuring
The company X Ltd. proposes to take over Y Ltd. The chief executive of a company thinks that
shareholders always look for the earnings per share. Therefore, he considers maximization of
the earnings per share as his company’s objective. The following information is available in
respect of X Ltd. and Y Ltd.
X Ltd. Y Ltd.
Net Profit 80 Lakh 15.75 Lakh
P/E ratio 10.50 15.75
Current market price per share ₹42 ₹85
From the information given above, choose the correct answer to the Question no. 1 to 3:
(3 × 2 = 6 Marks)
1. If the company borrows funds @ 15% rate of interest and buys out Target Company by
paying cash, how much should he offer to maintain his EPS assuming tax rate @ 30%.
A. 210 Lakhs
B. 315 Lakhs
C. 150 Lakhs
D. 0 Lakhs

2. Maximum exchange ratio which the company should offer so that the company could keep
EPS at current level is
A. 1:0.952
B. 1:2.125
C. 1:2.023
D. 1:0.196
CA Mayank Kothari AFM Additional Questions

3. No. of shares to be issued by X Ltd.

A. 3.9375 lakhs
B. 1.7639 lakhs
C. 3.7485 lakhs
D. 0.3631 lakhs
Answer:
1 C
2 B
3 A
CA Mayank Kothari AFM Additional Questions