Question Paper Investment Banking and Financial Services-I (261) : April 2006Section A : Basic Concepts (30 Marks) This section consists of questions with serial number 1 - 30. Answer all questions. Each question carries one mark. Maximum time for answering Section A is 30 Minutes.

1.

Which of the following statements are true? I. The purchaser of interest-only portion of the STRIP invests in the security with a yield potential of high-coupon collateral. II. The purchaser of principal-only portion of STRIP expects the interest rates would continue fall and the borrower of the mortgage loan would resort to large-scale prepayments. III. Both interest-only securities and principal-only securities are neutral to the changes in interest rates. IV. The return to the investors of interest-only security and principal-only securities move in the same direction. (a) (b) (c) (d) (e) Both (I) and (II) above Both (II) and (IV) above (I), (II) and (III) above (II), (III) and (IV) above All (I), (II), (III), and (IV) above.

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2.

A net lease where the title of the asset passes to the lessee upon exercising a purchase option or payment of guaranteed residual is called (a) (b) (c) (d) (e) Sale and leaseback Close-ended lease Leveraged lease Cross-border lease Open-ended lease.

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3.

In India, under SEBI regulations venture capital undertaking means a domestic company, I. II. Whose shares are listed on a recognized stock exchange. Which is engaged in the business of providing services, production or manufacture of articles or things. III. Whose activities do not include the activities of negative lists provided by Central Government. (a) (b) (c) (d) (e) Only (I) above Only (II) above Only (III) above Both (II) and (III) above All (I), (II) and (III) above.

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4.

Which of the following is/are true with respect to differential shares? I. The differential shares are a class of shares that carry varying voting rights with fluctuating rates of dividend. II. The issue of differential shares acts as a take over defense for the company. III. Mostly, the companies utilize this route as an aid to maximize the wealth of the shareholders. (a) (b) (c) (d) (e) Only (I) above Only (II) above Only (III) above Both (I) and (II) above All (I), (II) and (III) above.

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5.

Which of the following CDs carry both fixed and floating interest rates? (a) (b) (c) (d) (e) Asian Dollar CDs Installment CDs Rising Rate CDs Thrift CDs Yankee CDs.

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6.

Which of the following is not true for LYONS? (a) This is a zero coupon bond, which is convertible into the common stock of the issuer (b) The issuer gets the tax advantage even if he is not paying any interest till maturity (c) If the investor of such securities choose to convert, he will get all accrued and unpaid part of the interest (d) By issuing such an instrument, the company earns a lump sum in the initial period, for which it does not have to meet immediate out flow of interest (e) Issuance of this stock helps the issuer to take advantage of convertible debt without too much dilution of common stock.

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7.

A loan that can be extended after a pre-set period is called (a) (b) (c) (d) (e) Term loan Revolving credit facility Evergreen facility Back-stop facility Swingline.

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8.

Which of the following is/are not the objective(s) of International Organization of Security Commissions? I. Cooperating and promoting high standards of regulation in order to maintain just, efficient and sound markets. II. Exchanging information on their respective experiences in order to promote the development of international markets. III. Providing mutual assistance to promote the integrity of the markets. (a) (b) (c) (d) (e) Only (I) above Only (II) above Both (I) and (III) above Both (II) and (III) above All (I), (II) and (III) above.

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9.

The Takeover Code under SEBIs regulatory purview is triggered when the acquirer obtains (a) (b) (c) (d) (e) 10% equity stake in a company 15% equity stake in a company 20% equity stake in a company 25% equity stake in a company 33% equity stake in a company.

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10.

Which of the following political risks are covered by Export Credit and Guarantee Corporation? I. II. III. IV. (a) (b) (c) (d) (e) War, civil war, revolution or civil disturbance in the buyers country. Cancellation of valid license or new import restrictions. Default or insolvency of any agent of exporter or of the collecting bank. Loss occurring outside India due to any other reasons that are not insured. Both (I) and (II) above Both (II) and (III) above (I), (II) and (III) above (I), (II) and (IV) above All (I), (II), (III) and (IV) above.

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11.

NZ is a US based company. It wants to raise funds from India through Indian Depository Receipts. What is the profitability requirement for NZ according to SEBI Act, 1992? (a) It has been making profits for the last three years preceding to issue and has been declaring dividend of not less than five percent each year for the said period (b) It has been making profits for the last three years preceding to issue and has been declaring dividend of not less than ten percent each year for the said period (c) It has been making profits for the last five years preceding to issue and has been declaring dividend of not less than five percent each year for the said period (d) It has been making profits for the last five years preceding to issue and has been declaring dividend of not less than ten percent each year for the said period (e) It has been making profits for the last five years preceding to issue and has been declaring dividend of not less than fifteen percent each year for the said period.

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12.

Which of the following is not true with respect to private placement? (a) Unlike the public issue market, an existing company is not required to have a dividend track record for three years (b) This route is available for the listed companies only (c) Private placement deals can be successfully closed in 4 to 6 weeks, hence it is faster mean to raise funds (d) In private placement, there is greater flexibility in working out the terms of issue (e) The issue expenses in case of private placement is as low as 2 percent of the total issue amount as compared to 10 to 12 percent in case of public issue.

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13.

Which of the following is not true with respect to bonus issue according to SEBI guidelines? (a) The bonus issue is made out of free reserves built out of genuine profits or share premium collected in cash only (b) Bonus shares cannot be issued out of revaluation reserves and they cannot be capitalized (c) The bonus issue is not made unless the partly-paid shares are made fully paid (d) A company which announces its bonus issue must implement the proposal within a period of three months from the date of such approval (e) Issue of bonus shares after any public/right issue is subject to the condition that no bonus issue shall be made which will dilute the value of rights of the holder of debenture, convertible fully or partly.

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14.

Parker Ltd. wants to issue the CPs of 15 months of maturity. The discount rate used to issue the CPs is I. II. III. IV. (a) (b) (c) (d) (e) The prevailing market rate of CP. As per the credit rating achieved. As per the discretion of the company. The company cannot issue the CPs. Only (II) above Only (III) above Only (IV) above (I), (II) and (III) above All (I), (II), (III) and (IV) above.

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15.

Following is the data pertaining to a finance company Tier-1(% of total assets) Tier-2(% of total assets) Risk Weighted Assets(% of total assets) 6.98% 4.66% 76.87%

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The total assets of the company stands to Rs.250 crores. The Capital Adequacy Ratio of the company is (a) 11.64% 30.75%. 16. (b) 12.14% (c) 15.14% (d) 20.75% (e)< Answer >

Under advance factoring arrangement, India Factors Limited (IFL) has agreed to advance a sum of Rs. 15 lakh for 90 days against the receivables of XYZ Limited. The advance carries the interest of 16% p.a. compounded quarterly and the factor commission is 2% of the value of factored receivables. Interest is collected in arrear and commission is collected upfront. Total receivables of the XYZ Limited are Rs.18,75,000. What is the annualized cost of funds made available to XYZ Limited? (a) 16.00% (b) 16.77% : : : : (b) Rs.7,500 (c) 17.44% (d) 17.79% (e) 18.00%. Consider the following data regarding a traditional loan? Tenure of loan Rate of Interest Loan amount Payment pattern (a) Rs.8,993 10 years 12% p.a. Rs.10,00,000 Equated monthly installments (c) Rs.4,347 (d) Rs.12,500 (e) Rs.13,164.

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The principal amount repaid in the first installment is In which of the following lease agreement has a third party, a lender, to it? (a) (b) (c) (d) (e) Back to back short term lease Leveraged lease Operating lease Full service lease Sale and lease back.< Answer >

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19.

Consider the following data relating to a manufacturing company: Cost of leased asset Rate of depreciation Fixed asset turnover ratio Sales for the year : Rs.25 lakh : 25% :2 : Rs.150 lakh

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Instead of leasing if, the company had purchased the asset, its fixed asset turnover ratio would have been (a) 1.00 20. (b) 1.15 (c) 1.25 (d) 1.50 (e) 2.00.< Answer >

A company has issued Pass Through Certificates (PTCs) backed by a pool of property receivables aggregating to Rs.315.86 lakh. The equated monthly payment to be made to PTC holder are as follows: During the first 12 months During the next 12 months During the next 6 months (a) 18.56% (b) 17.56% (e) Data is insufficient. : : : Rs.16 lakh p.m. Rs.12 lakh p.m. Rs.8 lakh p.m. (d) 19.56%

Calculate the promised rate of return to the investor. (c) 16.56%

21.

Which of the following is true for break even lease rental? (a) (b) (c) (d) (e) A large upfront payments decrease the break even rental A higher tax relevant rate of depreciation increases the break even rental A longer primary lease period increases the break even rental Higher cost of capital increases the break even rental A higher net salvage value increases the break even rental.

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22.

Mr. Shah has deposited Rs.2,00,000 with an NBFC at the interest of 11.5% p.a. with the maturity of 36 months. After 17 months he wants to withdraw the deposit. The interest will be paid to Mr. Shah at the rate of (a) 10% p.a. (b) 10.5% p.a. (e) No interest will be paid to him. (c) 11% p.a. (d) 11.5% p.a.

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23.

Which of the following is/are true for Advance Factoring? I. Advance factoring alters the current ratio of the firm. II. This arrangement results in the creation of current liability. III. It simply rearranges the current assets by replacing receivables with cash and factor dues. (a) (b) (c) (d) (e) Only (I) above Only (II) above Only (III) above Both (I) and (II) above All (I), (II) and (III) above.

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24.

In which lease transaction, the leasing company invests in the equipment by borrowing a large chunk of investment with full recourse to the lessee and without any recourse to it? (a) (b) (c) (d) (e) Leveraged lease Single investor lease Tripartite lease Bipartite lease Sale and lease back.

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25.

Greenland finance company has the total assets of Rs. 10 crore and net owned funds are Rs.2 crore. The maximum amount it can borrow is (a) Rs.4 crore (d) Rs.15 crore (b) Rs.10 crore (e) Rs.20 crore. (c) Rs.12 crore

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26.

Which clause of the lease agreement entitles the lessor to terminate the agreement and be indemnified by the lessee for all expenses incurred on account of the action of the lessee? (a) (b) (c) (d) (e) Description clause Equipment delivery clause Ownership clause Surrender clause Exemption clause.

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27.

Which of the following statements is true with respect to Real Estate Investment Trusts (REIT)? (a) (b) (c) (d) (e) The most prominent form of lending by REITs is the construction/developmental lending To retain their special tax status, REITs have to distribute 50% of their income to shareholders REITs are not allowed to raise finance through debt as they are equity investment vehicles Indirect equity investments in REITs by investor usually lack liquidity According to the federal laws, REIT can only be infinite life trusts.

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28.

Which of the following statements is false regarding REPOs? (a) REPO is a combination of spot and forward transaction (b) In a REPO both cash and security get simultaneously exchanged (c) The backward leg of the transaction provides the fundamental basis for determining the REPOinterest rate (d) REPO serves as a collateralized fixed-rate loan for a short period (e) REPO market can be used for hedging risks with an advantage over the forward market.

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29.

Which arrangement is designed to protect both the borrower and the lender against volatile interest rates in real estate financing? (a) (b) (c) (d) (e) Gap loans Bow ties Direct joint ventures Direct development and syndication Mini-perms.

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30.

A fixed deposit with an NBFC cannot be withdrawn within (a) (b) (c) (d) (e) 2 months from its acceptance 3 months from its acceptance 4 months from its acceptance 6 months from its acceptance 9 months from its acceptance.

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END OF SECTION A

Section B : Problems (50 Marks) 1. This section consists of questions with serial number 1 5. Answer all questions. Marks are indicated against each question. Detailed workings should form part of your answer. Do not spend more than 110 - 120 minutes on Section B.

Following is the details related to the customers of Priya Bank: (Amount Rs.) Name of customer Mr. Vrajesh Ms. Reshmi Mr. Biswajit Mr. Jignesh Mr. Nishith Mr. Raju Mr. Amit Mr. Vinod Mr. Amar Saving Account Branch-1 Branch-2 15,000 15,000 25,000 5,000 18,000 17,500 44,500 3,500 8,500 6,800 23,000 8,000 Current Account Branch-1 Branch-2 2,500 23,000 5,500 5,500 5,000 5,000 93,200 12,000 9,000 Fixed deposits Branch-1 Branch-2 5,000 55,000 37,000 1,10,000 1,10,000 54,000 65,000 17,000 7,000 85,000 7,500 22,000 (Amount Rs.) Name of customer Mr. Vrajesh Ms. Reshmi Mr. Biswajit Mr. Jignesh Mr. Dhaval Mr. Hitesh Mr. Dipen Ms. Purvi Mr. Narendra You are required to Saving Account Branch-1 Branch-2 25,000 4,000 32,000 21,000 7,500 14,000 52,000 25,000 2,500 7,500 18,500 19,000 23,000 12,000 26,500 Current Account Branch-1 Branch-2 9,000 8,000 9,000 14,800 27,500 12,500 5,000 10,000 14,500 13,500 Fixed deposits Branch-1 Branch-2 35,000 45,000 12,000 36,000 23,000 65,000 1,00,000 50,000 32,000 19,000 9,000 10,000 8,000

Following is the details related to the customers of Divya Bank:

a.Compute the semi annual insurance premium payable by Priya Bank for the total deposits accepted above. b. Compute the semi annual insurance premium payable by Divya Bank for the total deposits accepted above. c.Compute the extent to which Mr.Vrajeshs total deposits at various banks are insured. d. ist, which deposits the Deposit Insurance and Credit Guarantee Corporation (DICGC), insures and which it does not. As per the guideline given by DICGC, premium paid by the banks to insure deposits is 10 paise per Rs.100 p.a. (3 + 3 + 1 + 2 = 9 marks) < Answer > 2. Pushti Ltd. had a turnover of Rs.750 lakhs in 2005-2006 and expects an increase of 25% in the next year. The credit term of Pushti Ltd. is 1/10 net 30 days but it has been observed that none of the customers pay within the ten days and avail the early discount. As per the records, on an average only 75% of the customers pay within 30 days, 20% of the customers pay within 45 days and rest of the customers pay within 60 days. 1.5% of the total sales

turns as bad debts. Pushti Ltd. avails short-term finance from PVS Finance Ltd for funding 35% of receivables at 20% p.a. 30% of receivables from DPS Finance at 22% p.a. The post-tax cost of funds of Pushti Ltd. is 17.50%. The administrative expenses for credit recovery are Rs.1.5 lakhs. PVS has given an offer of non-recourse factoring service to Pushti Ltd., the terms of which are as follows: Discount charge Commission Advance Payment Agreed payment time 22% 2.5% 80% of factored receivables 27 days

Alternatively, the company can change its credit term to 2/10 net 45. The company expects that due to this change 25% of the customers will avail discount and out of the remaining 75% will pay within 30 days, 20% will pay within 45 days and rest will pay within 60 days. The company will also increase the administrative expenses for credit recovery to 2 lakhs, as a result of this bad debts will come down to 1.00% of the total sales, rest of things are expected to remain same. The variable cost to sales ratio of Pushti Ltd. is 0.65 and the tax rate applicable to the company is 30%. As a financial analyst you are required to a. b. Compute the minimum increase in the sales to make factoring a viable option. Advise Pushti Ltd. in selection of the alternatives whether it should remain with the same policy, adopt factoring or go for new policy. The company has the policy to appraise the alternatives on the basis of cost to sales ratio associated with various alternatives. Assume that the sales will remain at break-even level for factoring option. (Clearly state your assumptions.) (7 + 6 = 13 marks) < Answer > 3. Goodwear Ltd. (GL), a Mumbai based textile manufacturer, following is the relevant information: Sales turnover Net profit margin : : Rs. 800 crore 12%

GL is contemplating to sale and lease back an asset purchased two years back by raising a term loan carrying an interest rate of 15% p.a. The current book value of the asset is Rs.75 lakh and it still has an economic life of four years. The asset can be depreciated for the calculation of Income Tax at the rate of 30% and is expected to have a salvage value of Rs.15 lakh at the end of its economic life. The marginal tax rate of the firm is 35%. Its debt to equity ratio is 0.7:1 and the cost of equity is 20%. GL has approached Gujarat Leasing Ltd.(GLL) for a sale and lease back arrangement. GLL has agreed for the same. The lease rentals are Rs.25 ptpm payable quarterly in arrears for a period of four years. The cost of capital for GLL is 13% and it is in the tax bracket of 30%. You are required to calculate the maximum purchase price of the asset which, GLL can pay and state whether the sale price is acceptable to GL or not. Show all the relevant calculations. (11 marks) < Answer > 4. Consider the following information with respect to MKS Projects Limited. Particulars Equity capital: Issued and fully paid (10,00,000 shares of Rs.10 each) Reserves & surplus Long-term debt Market price per share Earnings per share Rs. 1,00,00,000 1,80,00,000 3,50,00,000 Rs.20 Rs.4

Effective corporate tax rate

33%

Out of the total long-term debt of Rs.3,50,00,000 the company wishes to redeem a loan of Rs.30,00,000 carrying an interest rate of 10% by making a rights issue. You are required to a. Calculate the number of right shares, rights ratio and dilution in EPS if the shareholders expect the subscription price to be 20% below the existing market price. b. Calculate the ex-rights price of the shares and the corresponding P/E ratio if rights issue is made based on point (a) above. c. Calculate the change in wealth of a shareholder who owns 1000 shares in MKS Projects Limited. i. If he sells his rights ii. If he allows his rights to expire. (2 + 2 + 2 = 6 marks) < Answer > 5. Franklin Venture Fund is a leading venture capital fund. The fund invests in untested projects; it also provides mezzanine financing to the companies, which are planning public offering of their equity. The time horizon of all the investments made by this fund is one year. The fund has received an investment proposal from Windenergy Ltd. The company is an existing profit making company involved in the non-conventional energy generation projects. The management of the company is at the opinion that this sector has a huge growth potential and has very good prospects for profit. Therefore they propose to increase its capacity by 50%. And they have furnished the fund requirement of Rs.75 crore to the finance department of the company. Following are the information furnished by the finance department of the Windenergy Ltd. for Franklin Venture Fund: The current EPS of the company is Rs.15 Growth in EPS (%) 0 10 20 30 40 P/E Ratio 11 12 15 18 Probability 0.10 0.20 0.25 0.30 0.15 Probability 0.25 0.30 0.35 0.10

The target return on any investment made by Franklin Venture Fund is 45%. The Fund has the policy to invest in any proposal only if the probability of achieving the target return is 75%. You are required to find the price at which Franklin Venture Fund should invest in the Windenergy Ltd. (Clearly state your assumptions.) (11 marks) < Answer > END OF SECTION B

Section C : Applied Theory (20 Marks) This section consists of questions with serial number 6 - 7. Answer all questions.

Marks are indicated against each question. Do not spend more than 25 -30 minutes on section C. 6. With the increase in the average purchasing power among the Urban Indians, demand for cars are increasing and hence the car financing schemes. Many players are operating in this market and competition is increasing with each passing day. Onus always is lying now on giving some attractive scheme to lure the customers. Can you discuss some of the latest car financing schemes currently available in the Indian market? (10 marks) < Answer > 7. With the ever increasing dynamism in the market, new and new instruments and mechanisms are coming into play in the retail debt market in India. Discuss the broad trends in the retail debt markets in India and the different investment products available for retail participation. (10 marks) < Answer > END OF SECTION C END OF QUESTION PAPER

Suggested Answers Investment Banking and Financial Services-I (261) : April 2006Section A : Basic Concepts1. Answer: (a) Reason: The following statements are true: The purchaser of interest-only portion of the STRIP invests in the security with a yield potential of high-coupon collateral. The purchaser of principal-only portion of STRIP expects the interest rates would continue fall and the borrower of the mortgage loan would resort to large-scale prepayments. Both interest-only security and principal-only security have large impact associated with a small change in interest rates. The return to the investors of Interest only security and Principal only securities move in the opposite direction. Hence (a) is the correct answer. Answer: (e) Reason: A net lease, where the title of the asset passes to the lessee upon exercising a purchase option or payment of guaranteed residual is called open-ended lease. Hence (e) is the correct answer.< TOP >

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Answer: (d) Reason: In India, under SEBI regulations venture capital undertaking means a domestic company Whose shares are not listed on a recognized stock exchange. Which is engaged in the business of providing services, production or manufacture of article or things. Whose activities do not include the activities of negative lists provided by Central Government. Hence (d) is the correct answer. Answer: (d) Reason: The following are true with respect to differential shares: The differential shares are a class of shares that carry varying voting rights with fluctuating rates of dividend. The issue of differential shares acts as a take over defense the company. Mostly, the companies utilize this route as a precautionary measure and not as an aid to maximize the wealth of the shareholders. Hence (d) is the correct answer. Answer: (a) Reason: Asian Dollar CDs carry both fixed and floating interest rates. Hence (a) is the correct answer. Answer: (c) Reason: If the investor of such securities choose to convert, he will have to forgo all accrued and unpaid part of the interest. All other statements are correct. Hence (c) is the correct answer. Answer: (c) Reason: A loan that can be extended after a pre-set period is called Evergreen facility Hence (c) is the correct answer. Answer: (b) Reason: Following are the objectives of International Organization of Security Commissions: Cooperate and promote high standards of regulation in order to maintain just, efficient and sound markets. Exchange information on their respective experiences in order to promote the development of domestic markets. Provide mutual assistance to promote the integrity of the markets. Hence (b) is the correct answer. Answer: (b) Reason: The Takeover Code under SEBIs regulatory preview is triggered when the acquirer obtains 15% equity stake in a company. Hence (b) is the correct answer.

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10. Answer: (d) Reason: Default or insolvency of any agent of exporter or the collecting bank is the risk which is not covered by ECGC. Hence (d) is the correct answer. 11. Answer: (d) Reason: The company who wants to raise funds through IDR, has been making profits for the last five years preceding to issue and has been declaring dividend of not less than ten percent each year for the said period. Hence (d) is the correct answer. 12. Answer: (b) Reason: The private placement route is also available for the unlisted companies. All other options are correct for private placement. Hence (b) is the correct answer. 13. Answer: (d) Reason: A company which announces its bonus issue must implement the proposal within a period of six months from the date of such approval. All other statements are correct. Hence (d) is the correct answer. 14. Answer: (c) Reason: Commercial Paper has the maximum maturity of one year. Therefore the company cannot issue the CP for 15 months. Hence (c) is the correct answer. 15. Answer : (c) Reason : Tier I capital = 250 0.0698 = 17.45 Tier II capital = 250 0.0466 = 11.65 Risk weighted assets = 250 0.7687 = 192.175 CAR = (17.45+11.65)/192.175 = 15.14% 16. Answer : (c) Reason : Advance provided Less: commission

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15.00 lakhs 0.375 lakhs Rs.14.625 lakhs Discount charge 0.600 lakhs Effective rate per quarter : 0.60/14.625 = 4.10% Annualized rate = [(1.041)4 1] 100 = 17.44%. Hence (c) is the correct answer.

17. Answer : (c)10, 00, 000 = Rs.14, 347 PVIFA1%,120 Reason : EMI = Interest content in the first 0.12 12 =Rs.10,000

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Principal part = 14,347 10,000 = Rs.4347 18. Answer : (b) Reason : Leveraged lease has the third party attached, a lender , to it. 19. Answer : (d) Reason : Fixed asset turnover ratio = 2 2 = Sales/Fixed Assets Let fixed assets be x 2 = 150/x x = Rs.75 lakh If the asset is bought , Fixed Assets = Rs.100 lakh FA turnover = 150/100 = 1.5 20. Answer: (d) Reason: Define Im as the monthly rate of return implied by the cash flow stream. 315.86 = 16 PVIFA (Im,12) + [12 PVIFA(Im,12) PVIF(Im,12)] +[ 8 PVIFA(Im,6 ) PVIF(Im,24)] The equation is satisfied by Im = 1.5% (By trial and error) Annualized return is : I = (1+Im)12 1 = (1.015)12 1 = 19.56% Hence (d) is the correct answer. 21. Answer: (d) Reason: - A large upfront payment increases the break even rental. - A higher tax relevant rate of depreciation decreases the break even rental. - A longer primary lease period decreases the break even rental. - Higher cost of capital increases the break even rental. - A higher net salvage value decreases the break even rental. Hence (d) is the correct answer. 22. Answer: (b) Reason: A fixed deposit with a NBFC cannot be withdrawn within 3 months from its acceptance. Subsequent to 3 month period deposit is withdrawn after 12 months but before the date of maturity is eligible for interest at the rate which is one percent point less than the contracted date. Therefore Mr. Shah will receive the interest @ of 11.5-1 = 10.5%. Hence (b) is the correct answer.< TOP > < TOP >

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23. Answer: (c) Reason: Following are true for advance factoring: Advance factoring does not alter the current ratio of the firm. This arrangement does not result in the creation of current liability. It simply rearranges the current assets by replacing receivables with cash and factor dues. Hence (c) is the correct answer. 24. Answer: (a) Reason: In Leveraged lease transaction, the leasing company invests in the equipment by borrowing a large chunk of investment with full recourse to the lessee and without any recourse to it. Hence (a) is the correct answer. 25. Answer: (e) Reason: The finance company cannot borrow more than ten times its net owned funds. Hence (e) is the correct answer. 26. Answer: (b) Reason: Equipment delivery clause of the lessee agreement entitles the lessor to terminate the agreement and be indemnified by the lessee for all expenses incurred on account of the action of the lessee. Hence (b) is the correct answer. 27. Answer: (a) Reason : The most prominent form of lending by REITs is the construction/developmental lending. To retain their special tax status, REITs have to distribute 95% of their income to shareholders. There can be mortgage REITs. Indirect equity investments in REITs by investor are highly liquid. REIT can be infinite life trusts or finite life. Hence only (a) is true. 28. Answer : (c) Reason : By definition REPO short for repurchase of securities. Following are the features of REPO: REPO is a combination of spot and forward transaction In a REPO both cash and security get simultaneously exchanged The forward leg of the transaction provides the fundamental basis for determining the REPO-interest rate REPO serves as a collateralized fixed-rate loan for a short period REPO market can be used for hedging risks with an advantage over the forward market. Hence (c) is the correct answer. 29. Answer : (b) Reason: A bow tie is designed to protect both the borrower and the lender against volatile interest rates. 30. Answer : (b) Reason : A fixed deposit with a NBFC cannot be withdrawn within 3 months from its acceptance. Hence (b) is the correct answer.

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Section B : Problems1. I. Client wise total deposits with Priya Bank: Name of customer Mr. Vrajesh Ms. Reshmi Mr. Biswajit Mr. Jignesh Mr. Nishith Mr. Raju Mr. Amit Mr. Vinod Mr. Amar Total Total Deposits 90,000 69,500 2,20,000 95,000 88,000 74,000 1,07,000 1,00,000 72,500 Maximum insured amount 90,000 69,500 1,00,000 95,000 88,000 74,000 1,00,000 1,00,000 72,500 7,89,000

II.

Therefore, the insurance premium paid by the bank = 7,89,000 0.0005 = Rs.394.5 Client wise total deposits with Divya Bank: Name of customer Mr. Vrajesh Ms. Reshmi Mr. Biswajit Mr. Jignesh Mr. Dhaval Mr. Hitesh Mr. Dipen Ms. Purvi Mr. Narendra Total Total Deposits 1,18,000 88,000 75,300 79,000 25,4500 54,500 80,500 35,000 72,500 Maximum insured amount 1,00,000 88,000 75,300 79,000 1,00,000 54,500 80,500 35,000 72,500 6,84,800

Therefore, the insurance premium paid by the bank = 6,84,800 0.0005 =Rs.342.40 III. The maximum amount that is insured at each bank is Rs.1,00,000. Hence, the insured deposits of Mr. Vrajesh is Priya Bank : 90,000 Divya Bank : 1,00,000 Total Rs.1,90,000 against the total deposits of Rs.2,08,000. IV. The DICGC insures all deposits such as savings, fixed, current, recurring, etc. deposits except the following types of deposits (i) Deposits of foreign Governments (ii) Deposits of Central/State Governments (iii) Inter-bank deposits (iv) Deposits of the State Land Development Banks with the State co-operative bank (v) Any amount due on account of and deposit received outside India (vi) Any amount, which has been specifically exempted by the corporation with the previous approval of Reserve Bank of India.< TOP >

2.

Cost of In-house Management 937.50 Sales prediction = 750 1.25 Average collection period = (0.75 30)+(0.20 45)+(0.05 60) 34.50 days Cost of owned funds: Pre-tax cost = 17.50/0.70 = 25% Therefore, 7.75 Cost = 937.50 (34.50/365) 0.35 0.25 Cost of funds from PVS Finance Ltd: 6.20 937.5 (34.50/365) 0.35 0.20 Cost of funds from DPS Finance Ltd: 5.85 937.5 (34.50/365) 0.30 0.22 Administrative expenses 1.50 14.06 Bad debts = 937.5 0.015 Total cost 35.36 Alternative I. Benefits associated with factoring: Suppose, increase in the sales because of factoring service is S Therefore the incremental contribution will be 0.35S. The company will save the above mentioned costs if, it goes for factoring service. Hence, the benefit is Rs. 35.36+0.35S lakh. Cost associated with factoring: New sales 937.5+S 12.19+0.013S Discount charge = (937.5+S) (27/365) 0.80 0.22 23.44+0.025S Commission = (937.5+S) 0.025 3.47+0.0037S Cost of own funds = (937.5+S) (27/365) 0.20 0.25 Total cost 39.10+0.0417S Now, the minimum increase in the sales 39.10+0.0417S = 35.36+0.35S S = Rs.12.13 lakh. Therefore the minimum sales should be Rs.949.63 to make factoring option viable. The total cost factoring = Rs.39.61 lakh. Alternative II In-house Management as per new credit term: 4.69 Discount = 937.50 0.25 0.02 Average collection period 28.38 days = 0.25 10+0.75[0.75 30+0.20 45+0.05 60] Cost of owned funds 6.37 937.50 (28.38/365) 0.35 0.25 Cost of funds from PVS Finance Ltd: 5.10 937.5 (28.38/365) 0.35 0.20 Cost of funds from DPS Finance Ltd: 4.81 937.5 (28.38/365) 0.33 0.22 Administrative expenses 2.00 9.38 Bad debts = 937.5 0.01 Total cost 32.35 Comparison among the alternatives on the basis of cost to sales: In-house Management 35.36/937.50 =3.77% Factoring 39.61/949.63 =4.17% In-house Management with new credit term 32.35/937.50 =3.45%

Hence, the company is advised to go for In-house management with new credit term because it has the lowest cost

associated with it.< TOP >

3.

Let the sales price be Rs.x lakhs. GLL (Lessor) point of view A. Initial investment = Rs.x lakhs B. PV of lease rentals = 0.025 12 i/i4 xPVIFA(13,4) = Rs.0.93xlakhs C. PV of tax on LR = 0.025 12 2.9744x 0.3 = Rs.0.27x lakhs D. Depreciation tax shield: (Rs. lakhs) Year 1 2 3 4 Depreciation 22.5 15.75 11.03 7.72 PVIF @ 13% 0.8850 0.7831 0.6930 0.6133 PV 19.91 12.33 7.64 4.73 44.62

PV of DTS = 44.62 0.3 = Rs.13.39 lakhs E. PV of net salvage value = 15 PVIF(13,4) = 15 0.6133 = Rs.9.20 lakhs The sale price is the value of x in the equation of net cash flow to lessor = 0 A + B C + D + E = 0 x + 0.93x 0.27x +13.39 + 9.20 = 0 x = Rs.66.44 lakh. GL (Lessee) point of view A. Let initial outflow be Rs.y lakhs B. PV of LR payable = 0.025 12 i/i4 yPVIFA(15,4) = Rs.0.90y lakhs COC = [15 0.65 0.7/1.7] + [20 1/1.7] = 15.78% C. PV of tax shield on LR = 0.025 12 yPVIFA(15.78,4) 0.35 = Rs.0.30y lakh D. PV of DTS: (Rs. lakhs) Year 1 2 3 4 Depreciation 22.5 15.75 11.03 7.72 PVIF @ 15.78% 0.8637 0.746 0.6443 0.5565 PV 19.43 11.75 7.10 4.29 42.58

E.

PV of DTS = 42.58 0.35 = Rs.14.90 lakhs. According to Suggested Framework, the amount displaced is assumed to be equal to the PV of lease rentals. Effective annual installment = 0.90y/2.855 = Rs.0.315y lakhs (Rs. lakhs) Year 1 2 3 4 Loan o/s 0.900y 0.720 y 0.513 y 0.275 y Interest 0.135 y 0.108 y 0.077 y 0.041 y Principal Content 0.180 y 0.207 y 0.238 y 0.274 y Effective Annual Rental 0.315 y 0.315 y 0.315 y 0.315 y Actual Rental 0.300 y 0.300 y 0.300 y 0.300 y Adjusted Interest 0.120 y 0.093 y 0.062 y 0.026 y

PV of interest tax shield = [0.120 y PVIF(15.78,1) + 0.093 y PVIF(15.78,2) + 0.062 y PVIF(15.78,3) + 0.026 y PVIF(15.78,4)] 0.35 = 0.2274y 0.35 = Rs.0.08y lakhs F. = 15 0.5565 = Rs.8.35 lakhs The minimum acceptable price will be the value of y in the equation NAL = 0 NAL = A B + C D E F 0 = y 0.90y + 0.30y 14.90 0.08y 8.35 y = Rs.72.66 lakhs. As the minimum acceptable price to GL is higher than the maximum payable by GLL, lease deal can not be struck. PV of net salvage value< TOP >

4.

a.

Market price per share Earnings per share Subscription price

= = = = = =

Rs.20 Rs.4 20% below the existing market price Rs.1630, 00, 000 16

Number of right shares

1,87,500

Rights ratio Existing shares = 10,00,000 Number of additional equity shares proposed to be issued as rights shares = 1,87,500 3 rights shares for every 16 shares held. Dilution in EPS: EPS = Rs.4PAT No. of shares 10, 00, 000 EPS = PAT = 40,00,000 Effect of rights issue on EPS PAT PBT Add: Interest saved as a result of redemption of loan = 4= PAT

= = = =

Less: 33% TaxPAT

40,00,000 59,70,149 3,00,000 62,70,149 20,69,149 42,01,000

EPS =

Number of shares 42, 01, 000 = Rs.3, 54

=b.

10, 00, 000 + 1, 87, 500

Ex-rights price of the share

N P0 S2

= = = =

NP0 + S N +1Number of existing shares required for a rights share Cum-rights market price per share Subscription price at which rights shares are issued.

=

16 20 + 16 3 = Rs.19.37 = Rs.19.37 16 + 1 3

Market price 19.37 = = 5.47 EPS 3.54 P/E ratio =

c.

i.

If a shareholder who owns 1000 shares sells his rights. Market value of original shareholding @ Rs.20 = 1000 20 = 20,000P0 S

Value realized from the sale of rights R = N + 1

20 16

16 + 1 = 3

= 0.6315

1000 0.6315 Post-rights market value of the holding 1000 19.37 ii. If he allows his rights to expire Current market value of the investment Market value after the rights issue @ 1,000 19.37 Change in Wealth5.Growth in EPS (%) 0 0 0 0 10 10 10 10 20 20 20 20 30 30 EPS 15 15 15 15 16.5 16.5 16.5 16.5 16.8 16.8 16.8 16.8 19.5 19.5 P/E Ratio 11 12 15 18 11 12 15 18 11 12 15 18 11 12 Price 165.00 180.00 225.00 270.00 181.50 198.00 247.50 297.00 184.80 201.60 252.00 302.40 214.50 234.00 Probability EPS 0.1 0.1 0.1 0.1 0.2 0.2 0.2 0.2 0.25 0.25 0.25 0.25 0.3 0.3

= =

631.57 19,370.00 20,001.57

= = =

20,000 19,370 630< TOP >

Probability P/E 0.25 0.3 0.35 0.1 0.25 0.3 0.35 0.1 0.25 0.3 0.35 0.1 0.25 0.3

Joint Probability 0.025 0.03 0.035 0.01 0.05 0.06 0.07 0.02 0.0625 0.075 0.0875 0.025 0.075 0.09

30 30 40 40 40 40

19.5 19.5 21 21 21 21

15 18 11 12 15 18 Average price

292.50 351.00 231.00 252.00 315.00 378.00 4972.80 248.64

0.3 0.3 0.15 0.15 0.15 0.15

0.35 0.1 0.25 0.3 0.35 0.1

0.105 0.03 0.0375 0.045 0.0525 0.015

(Price Avg. Price) -83.64 -68.64 -23.64 21.36 -67.14 -50.64 -1.14 48.36 -63.84 -47.04 3.36 53.76 -34.14 -14.64 43.86 102.36 -17.64 3.36 66.36 129.36

(Price Average Price)2 2 6995.65 4711.45 558.85 456.25 4507.78 2564.41 1.30 2338.69 4075.55 2212.76 11.29 2890.14 1165.54 214.33 1923.70 10477.57 311.17 11.29 4403.65 16734.01 Standard deviation

(Price Average Price)2 Prob. 174.89 141.34 19.56 4.56 225.39 153.86 0.09 46.77 254.72 165.96 0.99 72.25 87.42 19.29 201.99 314.33 11.67 0.51 231.19 251.01 2377.79 48.76

The probability required to achieve the target return should be more than 75%. Let x be the divestment price Value of Z should be 0.67x -

Z=

0.67 0.67

x 248.64 48.76 x 215.97

Target return 45%215.97 P

i.e.

P

0.45

P 148.94. Hence, Franklin Venture Fund should invest at the rate of 148.94 per share.< TOP >

Section C: Applied Theory6.

The different car schemes available are: Margin Money Scheme: Margin Money scheme is the most popular of all car finance schemes. The finance

offered is based on the total value of the car. The amount financed can vary from 90% of the car value to 70%, as per the financier's eligibility criteria. The balance amount has to be paid by the customer as margin amount or down payment. Interest is charged only on the amount financed. The repayment of the loan is made by EMls at the end of each month through post-dated cheques, which are collected at the time of signing the contract. Both, banks and finance companies (NBFCs) offer this scheme. One Advance Installment Scheme: This is a variation of the Margin Money scheme where the financier collects an additional Installment in the form of the first months EMI along with the margin / down payment. The scheme has become a standard scheme, with most financiers pushing it as their favorite. The balance EMls are paid at the start of subsequent months through post-dated cheques. Multiple Advance Installment Scheme: The financier finances the full amount, i.e.,100% of the cars value. 3, 4, 5, 6 or even more EMIs are paid upfront (advance EMIs) depending upon the finance tenure. The balance EMIs are paid at the start of subsequent months. The repayment ends earlier than the finance tenure, corresponding to the number of installments that have been paid in advance.Security Deposit Scheme: Under this scheme, you get 100% of the cars value as the finance amount, on keeping a security deposit with the financier. The security deposit may vary from 15% to 35% of the finance amount. The security deposit earns an interest, simple or compound, throughout the finance tenure. One EMI is to be paid initially and the balance EMIs are paid at the start of subsequent months by post-dated cheques. The security deposit, along With this interest earned on the deposit, is refunded to the customer at the end of finance tenure. Customized Schemes - Staggered Installments: Most financiers are offering savvy schemes to lure salaried employees, who have more or less a structured career growth and can plan their cash flows well in advance. The finance schemes are tailored to suit individual requirements. A yuppie executive can get a scheme that matches his career path and increasing salary. Installments can be lower at the beginning and can gradually increase towards the end of the finance tenure. Schemes are also possible for higher initial payments, which reduce in amount towards the latter part of the finance tenure, thus decreasing the finance burden. The scheme is very suitable for customers who have a lump sum amount in hand today, and who want a comfortable repayment pattern for the future. The companies also keep bringing out new schemes and change existing schemes on a regular basis.< TOP >

7.

Traditionally, fixed deposits of companies used to be the biggest avenue for retail investors. Within this category, it was the deposits of finance companies (NBFCs) which were most popular with investors and mobilizers alike with investors because of the higher interest rates offered (typically 1-2% higher and additional incentives like gold coin etc.) and with mobilizers because of the high commissions. In South India, nidhi companies benefit and chit funds were quite popular due to the high returns offered. The last 3 years have been times of dramatic upheaval in the retail debt market. The key events relate to defaults by many of the issuers especially the finance companies and the benefit companies. Prominent default cases include the CRB group of companies, Lloyds Finance, and most recently the Kuber group of companies. The market was also rocked by the US 64 problem when for a brief period of time investors were scared and withdrawing money from the scheme. The reasons for default by manufacturing companies are related to the overall decline in profitability due to increased competition, dumping of imports, sharp fall in commodity prices and general slowdown in the economy. The reasons for defaults in finance companies are related to their investments. Most NBFCs had invested in real estate (either directly or builder financing), stock market, promoter funding and other illiquid investments. In addition, they had invested in 100% depreciation leases (often fictitious sale and leaseback transactions) to obtain tax shields. They witnessed widespread defaults in their lending portfolio, huge losses in investment portfolio and often were disallowed tax shields by the income tax authorities. In the wake of credit problems, the RBI came down heavily on these companies and investors stopped investing in their FDs, which further aggravated their liquidity crisis. Ironically, the loss of business and the losses they faced resulted in their so-called tax shield being irrelevant. All these resulted in a huge flight to safety. This can be seen from the increase in popularity of institutional bond issues (i.e ICICI Safety Bonds and lOBI Flexi Bonds) and the sharp increase in the collection of Government sponsored small savings schemes and postal schemes (In FY 99, small savings collections were about Rs.320bn as against about Rs.91bn 5 years ago). While it is difficult to obtain data to support the feeling that nationalized banks have also received larger amounts of money, empirical experience on the ground does point towards that trend.

Despite the US 64 problem and the consequent loss of image suffered by UTI, it continued to' collect large quantum of funds from retail investors. Many retail investors thought that the UTI was the lesser evil especially after the Finance minister and a host of government officials came out openly in support of UTI. Apart from UTI, private sector mutual funds also witnessed substantial increase in collections albeit from low bases. We expect the prominence of mutual funds to increase due to the tax concessions given for mutual fund investing in the Finance Bill for 1999. It must be noted that there are few tradable instruments available for investment by retail investors. Most of the available products are different kinds of schemes that are largely illiquid. The different investment products available for retail participation are listed below:

Products from banks Fixed/term deposits Recurring deposits Savings deposits Contributory and Voluntary provident fund Small savings schemes of government Public Provident Fund (PPF) scheme Tax free Relief Bonds Small savings schemes from Department of Posts National Savings Scheme (NSS) National Savings Certificates (NSC) Postal fixed deposits Indira Vikas Patra Kisan Vikas Patra Savings oriented life insurance schemes Company fixed deposits Bonds of development financial institutions Debentures of private sector companies Debentures of infrastructure companies Debentures of state government backed entities Unit Trust of India Unit Scheme 64 (US 64) Guaranteed return monthly income schemes Income/bond funds Other Mutual funds Guaranteed return monthly income schemes Income/bond funds Mutual benefit companies Nidhi companies Collective schemes (plantation/livestock etc.)< TOP >

< TOP OF THE DOCUMENT >

Question Paper Investment Banking and Financial Services-I (261): October 2006Section A : Basic Concepts (30 Marks) This section consists of questions with serial number 1 - 30. Answer all questions. Each question carries one mark. Maximum time for answering Section A is 30 Minutes.

1.

Which of the following is not a variable of Economic Risks for sovereign risk rating purpose? (a) Resource endowments and degree of diversification (b) Public sector fiscal balances (c) Living standards, income and wealth distribution (d) Public debt and interest burden (e) Trends in price inflation. A Moonshot is (a) A stock that is favorite among the traders (b) An IPO that makes disproportionately large gains in the stock price on the first day of trading (c) A situation where the activity in a market is unusually low due to the anticipation of a crisis by the investors (d) A stock which has the largest market capitalization in the stock exchange on a particular day (e) A stock whose bid price is equal to the ask price. Which of the following risks is not covered by Export Credit and Guarantee Corporation (ECGC)? (a) Insolvency of the buyer (b) Cancellation of valid import license (c) Causes inherent in the nature of the goods (d) War, civil war, revolution or civil disturbances in the buyers country (e) Failure of the buyer to make the payment within a specified period. Which of the following is/are true with respect to detachable equity coupons/warrants? I. Detachable equity coupons/warrants issued by the companies entitle the holder to buy a stated number of equity shares of the issuing company at a stated price at any time during the initial defined period. II. Detachable equity coupons/warrants can be issued with non-convertible debentures or with any other debt or equity instruments. III. The warrants attached to the instruments cannot be traded as individual securities. (a) Only (I) above (b) Both (I) and (II) above (c) Both (I) and (III) above (d) Both (II) and (III) above (e) All (I), (II) and (III) above.

< Answer >

2.

< Answer >

3.

< Answer >

4.

< Answer >

5.

Which of the following is/are not true with respect to Multi-currency loans? Multi-currency loans are loans denominated in one currency with an option to borrow in one or more other currencies. II. Multi-currency loans are being increasingly used as businesses attempt to take advantage of growing economies. III. Multi-currency loans are framed to eliminate currency risk. (a) Only (II) above (b) Only (III) above (c) Both (I) and (III) above (d) Both (II) and (III) above (e) All (I), (II) and (III) above. I.

< Answer >

6.

Which of the following securities are eligible for Repo transaction? I. Government of India bonds in demat form. II. Treasury bills in demat form. III. PSU bonds in demat form. (a) (b) (c) (d) (e) Only (I) above Only (II) above Only (III) above Both (I) and (III) above All (I), (II) and (III) above.

< Answer >

7.

Which of the following statements is/are true with respect to interest rate risk to the lenders? I. In an administered rate scenario, the scope to manage this risk is very low. II. Cost based pricing of the loan can protect the lenders against this risk. III. Credit risk is invariably reflected in the interest rate risk. (a) (b) (c) (d) (e) Only (I) above Only (II) above Both (I) and (II) above Both (I) and (III) above All (I), (II) and (III) above.

< Answer >

8.

Which of the following is not true for treasury bills? (a) (b) (c) (d) (e) Treasury bills are raised to meet the short-term requirements of Government Treasury bills enable the RBI to perform open market operations Investors prefer treasury bills because of high liquidity and assured return Treasury bills are eligible for meeting CRR requirements Treasury bills are issued at discount and redeemed at par.

< Answer >

9.

Which of the following is/are true with respect to switch deals? I. Switch deals involve simultaneous purchasing and selling of different securities by a person. II. This is used to change the composition of portfolio without significant costs. III. Generally, this facility is used by the RBI to increase or decrease the money supply in the system. (a) (b) (c) (d) (e) Only (I) above Only (II) above Only (III) above Both (I) and (II) above All (I), (II) and (III) above.

< Answer >

10.

Which of the following defaults may be charged under Minor Defaults? Publication of information in the advertisement and other printed matter that does not confirm with the prospectus. II. Violation of government regulations on advertisement on capital issue. III. Non disclosure to SEBI of allocation of responsibilities to the lead manager before the opening of the issue. IV. Investors grievances not handled properly. (a) (b) (c) (d) (e) Only (I) above Only (III) above Both (I) and (II) above Both (III) and (IV) above (I), (II) and (IV) above. I.

< Answer >

11.

Which of the following is/are true with respect to the guidelines for stock buy-back, issued by SEBI? I. The company shall not issue any shares including by way of bonus shares till the date of closure of the offer made under the stock repurchase program. II. The company shall not withdraw the offer to buy-back after the draft letter of the offer is filed with the board. III. The company can buy-back the locked-in shares and non-transferable shares by passing the resolution in board meeting. (a) (b) (c) (d) (e) Only (I) above Both (I) and (II) above Both (I) and (III) above Both (II) and (III) above All (I), (II) and (III) above.

< Answer >

12.

Which of the following is not true for LYONS? (a) (b) (c) (d) (e) This is a zero coupon bond, which is convertible into the common stock of the issuer The issuer gets the tax advantage even if he is not paying any interest till maturity If the investor of such securities choose to convert, he will get all accrued and unpaid part of the interest By issuing such an instrument, the company earns a lump sum in the initial period, for which it does not have to meet immediate out flow of interest Issuance of this stock helps the issuer to take advantage of convertible debt without too much dilution of common stock.

< Answer >

13.

The insurance premium paid on the deposits accepted by the bank is to be paid by the banks at (a) (b) (c) (d) (e) The end of January and July The end of March and September The end of April and October The end of May and November The end of June and December.

< Answer >

14.

For public deposits the issuing company is required to maintain the liquid asset for the deposits maturing before 31st March next. The amount should be deposited or invested before 30th April. For this purpose the permitted investment(s) is/are I. II. III. IV. (a) (b) (c) (d) (e) Deposits held with any Indian bank, free from any lien. Unencumbered securities of central or state government. Unencumbered securities approved by Indian Trust Act,1882. Unencumbered bonds issued by HDFC. Only (II) above Only (III) above Both (II) and (IV) above (II), (III) and (IV) above All (I), (II), (III) and (IV) above.

< Answer >

15.

The Executive Committee of International Organization of Security Commissions consist of (a) (b) (c) (d) (e) 12 members 14 members 15 members 18 members 19 members.

< Answer >

16.

Which of the following guideline(s) issued by the RBI is/are correct for bank participation in equipment leasing? I. II. A commercial bank can undertake directly the business of equipment leasing and hire purchase. The bank can also set up a subsidiary to transact the business of equipment leasing and hire purchase and such other activities incidental thereto where, the bank must not hold less than 51% of the paid up share capital of the subsidiary. III. Investment of a bank in the share capital of its subsidiary company (engaged in equipment leasing) together with the investment of the bank in the share capital of other companies carrying on the business of equipment leasing cannot in the aggregate exceed 10% of its paid up share capital and reserves. (a) (b) (c) (d) (e) Only (III) above Both (I) and (II) above Both (I) and (III) above Both (II) and (III) above All (I), (II) and (III) above.

< Answer >

17.

A company has issued Pass Through Certificates (PTCs) backed by a pool of property receivables aggregating to Rs.315.86 lakh. The equated monthly payment to be made to PTC holder are as follows: During the first 12 months During the next 12 months During the next 6 months : : : Rs. 16 lakh p.m. Rs. 12 lakh p.m. Rs. 8 lakh p.m.

< Answer >

The promised rate of return to the investor is (a) (b) (c) (d) (e) 18. 18.56% 17.56% 16.56% 19.56% 20.56%.< Answer >

Which of the following is a short-term loan extended at the time of completion of project to provide a bridge finance until the developer can obtain financing of a more permanent nature? (a) (b) (c) (d) Gap loans Bow ties Direct joint ventures Direct development and syndication

(e)19.

Mini-perms.< Answer >

Mr. Prashant has the accumulated saving of Rs. 72,000 for five years with NHB. He requires a loan for a new accommodation, which is of 842 square feet. What will be the maximum amount of loan disbursed to him under Home Loan Account Scheme? (a) (b) (c) (d) (e) Rs.72,000 Rs.1,08,000 Rs.1,44,000 Rs.2,16,000 Rs.2,88,000.

20.

Which of the following is considered as an asset under Wealth Tax Act? (a) (b) (c) (d) (e) Residential house for residential purpose or allotted by a company to its officers for residence whose gross annual salary is less than Rs. 5,00,000 p.a. House held as stock-in-trade House used for own business or profession A let out house property for 100 days in the previous year A commercial complex.

< Answer >

21.

A fixed deposit with an NBFC cannot be withdrawn within (a) (b) (c) (d) (e) 2 months from its acceptance 3 months from its acceptance 4 months from its acceptance 6 months from its acceptance 9 months from its acceptance.

< Answer >

22.

Which of the following is/are not true regarding the difference between venture capital and bought out deal? I. Participation in management of VC undertaking is high in case of VCF where as it is low in case of bough out deals. II. Exit from the investments takes 7 to 10 years in case of venture capital, while in case of bough out deals exit is done immediately after the expiry of lock in period. III. Regulations on venture capital investments are very high as compared to bought out deals. (a) (b) (c) (d) (e) Only (III) above Both (I) and (II) above Both (I) and (III) above Both (II) and (III) above All (I), (II) and (III) above.

< Answer >

23.

Which of the following is/are not true for back-to-back short term lease contract? Under this arrangement, a series of renewable leases are structured such that the total duration of short-term leases equate to the maximum of economic life of the asset. II. This arrangement has the characteristics of both the finance lease and operating lease. III. Under this arrangement, each short-term lease is a cancelable lease. (a) (b) (c) (d) (e) Only (III) above Both (I) and (II) above Both (I) and (III) above Both (II) and (III) above All (I), (II) and (III) above. I.

< Answer >

24.

Under advance factoring arrangement India Factors Limited (IFL) has agreed to advance a sum of Rs. 15 lakh for 90 days against the receivables of XYZ Limited. The advance carries the interest rate of 16% p.a. compounded quarterly and the factor commission is 2% of the value of factored receivables. Interest and commission are collected upfront. Total receivables of the XYZ Limited are Rs.18,75,000. What is the annualized cost of funds made available to XYZ Limited? (a) (b) (c) (d) (e) 16.00% 16.75% 16.98% 17.75% 18.25%.

< Answer >

25.

Every NBFC accepting fixed deposits has to maintain a set of registers in respect of all deposits. These registers should be kept at the registered office of the company and should be maintained for next (a) (b) (c) (d) (e) 5 calendar years following the financial year 7 calendar years following the financial year 8 calendar years following the financial year 10 calendar years following the financial year 12 calendar years following the financial year.

< Answer >

26.

Expert Ltd. is a leasing company. Following are the relevant information for a lease transaction undertaken by it: Lease rental receivable for the next five years Lease rental receivable over the lease term Cost of leased equipments Net owned funds : : : : 2.25 cr. 3.25 cr. 2.75 cr. 11.00 cr.

< Answer >

The amount drawn as cash credit for this transaction from the bank is (a) (b) (c) (d) (e) 27. Rs.1.90 crore Rs.1.83 crore Rs.1.53 crore Rs.1.43 crore Rs.1.33 crore.< Answer >

A net lease where the title of the asset passes to the lessee upon exercising a purchase option or payment of guaranteed residual is called (a) (b) (c) (d) (e) Sale and leaseback Close-ended lease Leveraged lease Cross-border lease Open-ended lease.

28.

Which of the following are the salient features of a capital lease? I. II. III. IV. (a) (b) (c) (d) (e) This lease is non-cancelable for a specified period usually referred to primary period. This lease is fully amortized over the primary lease period. In this lease, the lessor is responsible for repairs, maintenance and insurance of the asset. The risk of obsolescence is shifted from lessor to lessee. Both (I) and (III) above Both (II) and (III) above (I), (II) and (IV) above (II), (III) and (IV) above All (I), (II), (III), and (IV) above.

< Answer >

29.

Following is the information pertaining to a lease transaction: Initial cost : Rs.60 lakh Lease quote : Rs.444/Rs.1,000 payable annually PV of lease rentals : Rs.58.87 lakh Lease term : 3 years Cost of debt : 17% Cost of capital : 12% What will be the principal amount to be paid at the end of third year as per the displaced debt amortization schedule in a lease? (a) Rs.16.46 lakh (b) Rs.19.46 lakh (c) Rs.20.81 lakh (d) Rs.22.78 lakh (e) Rs.24.58 lakh.

< Answer >

30.

Jain Financial Services Ltd. (JFSL) has recently structured a six year leveraged lease transaction involving an investment cost of Rs.150 crore with itself as the equity participant and Syndicate Bank as the loan participant funding the investment in the ratio of 1:4. The loan carries an effective rate of interest of 14% and is to be repaid in the six equated annual installments. The gross yield of JFSL is 20% per annum. The amount of loan repayment to Syndicate bank at the end of every year for such a lease transaction is (a) (b) (c) (d) (e) Rs.34.83 crore Rs.35.41 crore Rs.30.86 crore Rs.34.55 crore Rs.35.86 crore.

< Answer >

END OF SECTION A

Section B : Problems (50 Marks) This section consists of questions with serial number 1 5. Answer all questions. Marks are indicated against each question. Detailed workings should form part of your answer. Do not spend more than 110 - 120 minutes on Section B.

1

Mr. Vrajesh, the finance manager of Excellent Financial Services Ltd., seeks your advice on how to classify the prospective lessees into good and bad categories. He believes that the two most important ratios helpful in discriminating between the good and the bad categories are i. ii. Current Ratio (CR) Return on Equity (RoE)

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Mr. Vrajesh provides you with the following data relating to 12 accounts Good customers Client number 1 2 3 4 5 6 CR 1.90 2.00 1.80 2.30 2.10 1.90 ROE (%) 17 19 22 25 12 13 Bad customers Client number 7 8 9 10 11 12 CR 1.10 1.30 1.20 1.70 1.50 1.00 ROE (%) 12 -2 10 9 8 11

You are required to determine the discriminant function that can be used for segregating the good and bad categories. (10 marks) 2 Mobilis Computech Ltd. (MCL), Bangalore, is planning to invest in some state of art equipments as a part of its expansion plan. The equipment will cost Rs.200 lakh exclusive of central or sales tax and will have an economic life of five years. The company can purchase the equipment from a local vendor. Given the huge amount of investment, the company is thinking of leasing the equipment from Shah Financial Services (SFS) of Ahmedabad. SFS uses the gross yield on investment as the basis of pricing its investments. The gross yield on five year lease investment is 1.4% over the pre-tax cost of funds. The cost of debt and equity for SFS are 15 %( pre-tax) and 21% respectively. The company maintains the debt to equity ratio of 3:1. The marginal tax rate applicable to the company is 35% and the applicable surcharge is 10%. Applicable sales tax is 10%. SFS collects 1% of investment cost as front ended management fees and incurs 0.5% as initial direct cost. The applicable rate of depreciation for the equipment is 22%. Expected salvage value of the equipment at the end of fifth year will be 5% of the cost of equipment. The finance manager of MCL has asked you to calculate a. b. The lease rental payable to SFS in arrears for the first year if the rentals are stepped up by 10% per annum, so that it will meet the gross yield requirement. The viability of leasing option if, MCL has the post-tax required return of 18% and cost of debt is 15%. The company is under the tax bracket of 30%. (Use BHW model).< Answer >

(4 + 6 = 10 marks) 3 On September 30, 2006 Arvee Denim has come out with an issue of 12% partially convertible debenture of Rs.100 each at par to finance its acquisition plan with an expected amount of Rs.10 crore. The convertible part of the debenture (Part A) of Rs.50 will be converted into 1 equity shares of Rs.10 each at a premium of Rs.40 each after 36 months from the date of allotment. The non-convertible portion of debenture (Part B) of Rs.50 will be redeemed after 6 years. Interest will be paid semi-annually. Additional information and projections are as follows: Year (ending) EPS Bonus March 2005 2.00 March 2006 2.45 March 2007 3.10 March 2008 4.68 2:7 March 2009 5.30 2:7< Answer >

Month (2009)

April

May

June

July

August

September

October

November

Average P/E ratio (expected)

10.23

10.45

10.10

10.54

11.63

12.00

11.49

11.21

Dynamic Finance Limited (DFL) is planning to subscribe to the issue to deploy its cash surplus. As finance officer of DFL you are required to advise DFL whether to subscribe to the above issue or not. The required rate of return of DFL is 18% p.a. compounded semi-annually. (For the purpose of calculation of P/E, the average of the ratio for 6 months prior to the conversion date shall apply) (8 marks) 4 Software industry is at boom in India. Considering this a young group has decided to expand their company to an IT park namely Softscience City Pvt. Ltd. The estimated cost of the full project will be Rs.25 crore. This investment will be required at the beginning of the financial year 2007-08.The group is able to invest Rs.12.5 crore as equity in the project. The equity will have the face value of Rs.10 each. For the remaining portion of investment they have proposed IDFC Private Equity Ltd. The group has given two investment options to IDFC Private Equity Ltd. i. ii. Straight equity investment. Fully convertible Debentures. These debentures will carry the coupon rate of 15% and will have the share of 10% of the profit before taxes until they are converted. These debentures will be converted into equity at the end of 4 years at the P/E multiple of 10 on the average earning per share of the first four years. If there is any loss in any year, that negative earnings and that year, both will be excluded for averaging.< Answer >

Considering above two options IDFC Private Equity Ltd. has shown its interest for investment with the time horizon of 6 years. It is expected that IDFC Private Equity Ltd. will exit at the trailing P/E of 14 through the route of IPO. The company proposes to maintain a dividend payout ratio of 10% for all 6 years. The expected EBIT for the company is as follows:

Probability Year2007-08 2008-09 2009-10

0.2

0.6

0.2

Amount (Rs. in crore) 1.00 2.25 5.00 1.25 2.75 6.00 1.50 3.00 7.00

2010-11 2011-12 2012 -13

8.25 12.50 16.00

9.25 14.00 16.50

10.00 15.25 17.00

Recently the Finance Minister of India has declared that after the financial year 2008-09 IT parks will not be given any tax benefits and after that the company will fall under the tax bracket of 30%.Currently the company is not required to pay any taxes. Being the financial analyst of IDFC Private Equity Ltd. you are required to select the investment option, if the IDFC Private Equity Ltd. has the required rate of return of 30%. (14 marks) 5 During past one year, following companies came out with IPOs. The initial offer price and Current Market Price (CMP) of one share and number of shares offered by these companies are given below: Company Prime Focus Ltd. Deccan Aviation Ltd. Unity Infraprojects Ltd. Gangotri textile Ltd. Patel Engineering Ltd. RPL Lokesh Machines Ltd. Opto Circuit Ltd. Inox Leisure Ltd. BOB Ltd. Punj Lloyd Ltd. PVR Cinema Ltd. Triveni Engineering Ltd. H T Media Ltd. Yes Bank Ltd. Offer price (in Rs.) 417 148 675 41 440 60 140 270 120 230 700 225 48 530 45 CMP (in Rs.) 284.00 83.20 432.50 36.35 308.45 63.55 138.25 352.95 132.00 194.30 718.00 231.00 73.15 391.30 78.00 No. of shares offered (in lakh) 100.00 245.46 34.43 134.00 106.00 4500.00 30.00 40.00 165.00 710.00 91.72 74.00 500.00 69.95 700.00 Value of index at the time of offer 3177.50 3388.90 3246.90 3388.90 3634.25 3345.50 3454.80 3402.55 2982.75 2833.10 2812.30 2706.70 2620.05 2367.80 2254.50< Answer >

The current value of index is 3050.30. You are required to calculate the wealth relative and comment on the same. (8 marks) END OF SECTION B

Section C : Applied Theory (20 Marks) This section consists of questions with serial number 6 - 7. Answer all questions. Marks are indicated against each question. Do not spend more than 25 -30 minutes on section C.

6

State government ratings include those in the public domain such as ratings of state government guaranteed borrowings by State Electricity Boards, Irrigation Corporations and Road Development Corporations and one time credit assessments undertaken at the specific request of investors and entrepreneurs setting up infrastructure projects in different states. With more state governments accessing the debt market for infrastructure and treasury requirements credit rating has become an important consideration in lending and investment decisions. Being a financial

< Answer >

analyst which factors will you consider to rate the State Governments? (10 marks) 7 Information Technology (IT) plays vital role in the development of the financial service industry. Explain how IT is helpful to the financial service industry and also discuss the key IT challenges faced by the financial services industry today? (10 marks) END OF SECTION C END OF QUESTION PAPER< Answer >

Suggested Answers Investment Banking and Financial Services-I (261): October 2006Section A : Basic Concepts1. Answer : (c) Reason : Following are the variables of Economic Risks for sovereign risk rating purposes: Resource endowments, degree of diversification Public sector fiscal balances Public debt and interest burden< TOP >

Trends in price inflation. Living standards, income and wealth distribution is a variable of Political Risk for sovereign risk rating purposes. Hence (c) is the correct answer. 2. Answer : (b) Reason : Moonshot is the term used to describe a situation where the IPO makes disproportionately large gains in the stock price on the first day of trading. The price of the IPO skyrockets over double or triple in value on the first day of its trading. The term is also used to describe any stock that makes incredibly large price leaps during the trading session. In the context of the question, (b) is the correct answer. Answer: (c) Reason: 4. Risks arising due to causes inherent in the nature of the goods are not covered by ECGC. All other risks are covered by ECGC. Hence (c) is the answer.< TOP > < TOP >

3.

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Answer: (b) Reason: The warrants attached to the instruments can be traded freely as individual security. Hence (b) is the correct answer. Answer: (b) Reason: Certain currency risks are inherent in the multi-currency loans. extent represent a natural expansion of Euro dollar loans. Hence (b) is the correct answer. Multi-currency loans to some

5.

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6.

Answer: (e) Reason: All the mentioned securities are eligible for Repo transaction. Hence (e) is the correct answer.

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7.

Answer: (d) Reason : In an administered rate scenario, the scope to manage this risk is very low as regulator fixes the interest rates leaving little to manage. Hence (I) is true. Cost based pricing of the loan cannot protect the lenders against this risk since in the increasing rate scenario, the cost of loans tend to go up. Hence (II) is not true. Credit risk is invariably reflected in the interest rate risk as in an increasing rate scenario; the default rate tends to go up. Hence (III) is also true. Therefore (d) is the correct answer. Answer: (d) Reason: Treasury bills are eligible for SLR. All other options are correct. Hence (d) is the correct answer. Answer : (d) Reason: Switch deals do not have any impact on the money supply. Hence statement III is incorrect and (d) is the correct answer. Answer : (e) Reason: Non disclosure to SEBI of allocation of responsibilities to the lead manager before the opening of the issue is a general default. All other statements are correct for minor defaults. Hence (e) is the correct answer. Answer : (b) Reason: The company shall not buy-back the locked-in shares and non-transferable shares till the shares become transferable as per SEBI guideline. All other statements are correct. Hence (b) is the correct answer. Answer : (c) Reason: If the investor of such securities choose to convert, he will have to forgo all accrued and unpaid part of the interest. All other statements are correct. Hence (c) is the correct answer. Answer : (e) Reason: The premium paid on the deposits accepted by the bank is to paid by the banks at the end of June and December. Hence (e) is the correct answer. Answer : (d) Reason: For public deposits the issuing company is required to maintain the liquid asset for the deposits maturing before 31st March next. The amount should be deposited or invested before 30th April. For this purpose the permitted investment are Deposits held with a schedule bank, free from any lien. Unencumbered securities of central or state government. Unencumbered securities approved by Indian trust act. Unencumbered bonds issued by HDFC. Hence (d) is the correct answer. Answer: (e) Reason: The Executive Committee of International Organization of Security Commissions consists of 19 members. Hence (e) is the correct answer. Answer : (e) Reason: All the statements regarding bank participation in equipment leasing are correct. Hence (e) is the correct answer.

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8.

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9.

< TOP >

10.

< TOP >

11.

< TOP >

12.

< TOP >

13.

< TOP >

14.

< TOP >

15.

< TOP >

16.

< TOP >

17.

Answer : (d) Reason: Define Im as the monthly rate of return implied by the cash flow stream. 315.86 = 16*PVIFA (Im,12) + [12 * PVIFA(Im,12) *PVIF(Im,12)] +[ 8 * PVIFA(Im,6 ) *PVIF(Im,24)] The equation is satisfied by Im = 1.5% (By trial and error) Annualized return is : I = (1+Im)12 1 = (1.015)12 1 = 19.56% Hence (d) is the correct answer. Answer : (e) Reason: Mini-perms is a short-term loan extended at the time of completion of project to provide a bridge finance until the developer can obtain financing of a more permanent nature. Hence (e) is the correct answer. Answer : (d) Reason: Under Home loan account scheme the maximum amount of loan that can be disbursed is as follows: Built up area Maximum amount of loan Up to 430 sq. ft four times of amount saved Up to 860 sq. ft three times of amount saved Exceeding 860 sq. ft two times of amount saved Therefore loan to Mr. P = 72000 * 3 = Rs. 2,16,000. Hence (d) is the correct answer. Answer : (d) Reason: A let out hose property for a minimum of 300 days in the previous year is not considered as an asset under Wealth Tax Act. Therefore a let out house property for 100 days in the previous year is considered as an asset. Hence (d) is the correct answer. Answer : (b) Reason: A fixed deposit with a NBFC cannot be withdrawn within 3 months from its acceptance. Hence (b) is the correct answer. Answer : (a) Reason: Regulations on venture capital investments are low as compared to bought out deals. All other differences are correct. Hence (a) is the correct answer. Answer : (a) Reason: This arrangement resembles a finance lease in the sense that each short-term lease is a non-cancelable lease. Hence statement III is wrong and alternative (a) is the answer.

< TOP >

18.

< TOP >

19.

< TOP >

20.

< TOP >

21.

< TOP >

22.

< TOP >

23.

< TOP >

24.

Answer : (e) Reason: Rs. lakhs 15.000 0.375 14.625 Less: Discount charge 0.600 Funds made available 14.025 Effective rate per quarter : 0.6/14.025 = 4.28% Annualized rate = [(1.0428)4 1] * 100 = 18.25%. Hence (e) is the correct answer. Advance provided Less: Commission

< TOP >

25.

Answer : (c) Reason: Every NBFC accepting fixed deposits has to maintain a set of registers in respect of all deposits. These registers should be kept at the registered office of the company and should be maintained for next 8 calendar years following the financial year. Answer : (d) Reason: 0.75*[LR(5) / LR(T)] * C =0.75* 2.25/3.25 * 2.75 = Rs.1.43 cr Hence (d) is the correct answer. Answer : (e) Reason: A net lease, where the title of the asset passes to the lessee upon exercising a purchase option or payment of guaranteed residual is called open-ended lease. Hence (e) is the correct answer. Answer : (c) Reason: Capital lease is also known as finance lease. The salient features are as follows: These lease is non-cancelable for a specified period usually referred as primary period. This lease is fully amortized over the primary lease period. In this lease, the lessee is responsible for repairs, maintenance and insurance of the asset. The risk of obsolescence is shifted from lessor to lessee. Hence (c) is the correct answer. Answer : (d) Year Loan o/s in the beginning 1 58.87 2 42.24 3 22.78 Hence (d) is the correct answer. Interest content 10.01 7.18 3.87 Capital content 16.63 19.46 22.78 (Rs. lakhs) Rental 26.64 26.64 26.64

< TOP >

26.

< TOP >

27.

< TOP >

28.

< TOP >

29.

< TOP >

30.

Answer : (c) Reason : Loan amount = 0.8150 = 120 crore Equity contribution = 30 crore

< TOP >

120Equated annual installment = PVIFA(14%, 6) Hence (c) is the correct answer.

= Rs.30.86 crore .

Section B : Problems1.

Let the following notations be used : X : Current ratio Y : RoE The discriminant function is : Zi = a Xi + bYi Client No. 1 2 3 4 5 6 7 8 9 10 11 12 Xi 1.90 2.00 1.80 2.30 2.10 1.90 1.10 1.30 1.20 1.70 1.50 1.00 19.8i

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Yi 17 19 22 25 12 13 12 -2 10 9 8 11 156

(Xi - X ) 0.25 0.35 0.15 0.65 0.45 0.25 -0.55 -0.35 -0.45 0.05 -0.15 -0.65

(Yi - Y ) 4 6 9 12 -1 0 -1 -15 -3 -4 -5 -2

(Xi - X )2 0.0625 0.1225 0.0225 0.4225 0.2025 0.0625 0.3025 0.1225 0.2025 0.0025 0.0225 0.4225 1.97= 156 12 = 13

(Yi - Y )2 16 36 81 144 1 0 1 225 9 16 25 4 558

(Xi - X ) (Yi - Y ) 1 2.1 1.35 7.8 -0.45 0 0.55 5.25 1.35 -0.20 0.75 1.30 20.80

XX =X1 =n

=1

19.8 12 = 1.65

YY =Y1 =

i

n

Xn1

= =

12 6 = 2.00 7.8 6 = 1.30

Yn1

1

=

108 6 = 1848 6 =8

XX2 =n2

2

YY2 = n2

2

=

dx = X1 X 2 = 0.70

dy = Y1 Y2 = 10

1 1 ( Xi X)2 = 11 x1.97 = 0.1791 X 2 = n 1 1 1 ( Yi Y)2 = 11 x 558 = 50.727 Y 2 = n 1

XY

1 1 (Xi X) (Yi Y ) = 11 x 20.80 = 1.891 = n 1

Y 2 .d x XY .d Y (50.727 x 0.70) (1.891x10) 16.5989 = = (0.1791 x 50.727) (1.891) 2 5.509 = 3.013 X 2 . Y 2 XY 2 a = 0.4673 X 2 .d Y XY .d X (0.1791x10) (1.891x 0.70) = = = 0.085 5.5093 X 2 . Y 2 XY 2 (0.1791 x 50.727) (1.891) 2 b =

The discriminant function is: Zi = 3.013 Xi + 0.085Yi.

2.

a.

Required gross yield = Pre-tax cost of debt = Cost of equity = Applicable tax rate =

Pre-tax cost of funds + 1.4% 15% 21% 0.35(1.10) = 0.3851 21 + 3

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15(1 0.385) 4 = 12.17% Marginal cost of capital = 4 Pre-tax cost of capital = 12.17/ (1-0.385) = 19.79% Required gross yield = 19.79 + 1.4 = 21.19% Assuming an investment of Rs.1000, Management fees 0.01(1000) = Rs.10 Initial direct cost 0.005(1000) = Rs.5 If the lease rental receivable in the first year is given as x and it is stepped up by 10% each year, the rentals to be charged for 5 year period will be,10 + xPVIF( 21.19,1) + 1.1xPVIF( 21.19,2) + (1.1) xPVIF( 21.19,3) + (1.1) xPVIF( 21.19,4) + (1.1) xPVIF( 21.19,5)2 3 4

=1005

b.

10+3.43x = 1005 x = Rs.290 (approximately) In case of a lease, sales tax of 10% will be applicable. Hence the value of the equipment will be Rs 200(1.10) = Rs.220. Using BHW model FA(L) = PV of loan payments PV of lease payment PV of loan payments = Rs.220 PV of lease payments =63.8PVIF(15,1) + 70.18PVIF(15,2 ) + 77.20PVIF(15,3) + 84.92PVIF(15, 4 ) + 93.41PVIF(15,5 )

=Rs.254.29 lakh PV of management fees = 220(0.01) = Rs.2.2 lakh Hence FA(L) = 220-254.29-2.2 = (-) Rs.36.49 OA(L) = PV of lease related tax shields PV of loan related tax shields PV of residual value PV of lease rentalsYear 1 2 3 4 5 Lease Rentals 63.80 70.18 77.20 84.92 93.41 Total = 236.09(0.3) = Rs.70.83 lakh PV @18% 54.07 50.40 46.99 43.80 40.83 236.09

PV of tax shield on lease rentals

Debt service charge = Repayment scheduleYear 1 2 3

220 = Rs.65.63 lakh PVIFA (15,5)Debt service charge 65.63 65.63 65.63 Interest content 33.00 28.11 22.48 Capital content 32.63 37.52 43.15

Loan outstanding 220 187.37 149.85

4 106.69 5 57.07 PV of loan related tax shieldYear 1 2 3 4 5 Interest content 33.00 28.11 22.48 16.00 8.56

65.63 65.63

16.00 8.56PV 20.69 14.19 9.48 6.03 3.47 53.86

49.63 57.07

Depreciation Tax shield 48.40 24.42 37.75 19.76 29.45 15.58 22.97 11.69 17.92 7.94 Total PV of residual value = 220(0.05)/(1.18)5 = Rs.4.81 lakh OA(L) = 70.83 53.86 4.81 = Rs.12.16lakh Now, FA(L) +OA(L) = -36.49 +12.16 = (-)Rs24.33 lakh Hence, lease option should be rejected. 3.

a. b.

PV of interest payments 6 PVIFA (9%,6) + 3PVIFA(9%,6) PVIF(9%,6) = Rs.34.94 Bonus adjusted EPS Year (ending) March March March March March 2005 2006 2007 2008 2009 EPS 2.00 2.45 3.10 6.02 8.76 4 Rate of growth implicit = 2.00(1+g) = 8.76, g = 44.67% Projected EPS in September 2009 = 8.76(1+0.4476/2) =Rs.10.72 Average P/E ratio between April.2009 and September 2009 = (10.23+10.45+10.10+10.54+11.63+12)/6 = 10.825 Therefore projected market price of share after 36 months = 10.72 10.825 = Rs.116.04 PV of this market price = 116.04 PVIF (9%,6) = Rs.69.19 PV of non-convertible portion redeemed after 7 years = 50PVIF (9%, 12) = Rs.17.78 Intrinsic worth of the share = (A) + (B) + (C) = 34.94+69.19+17.78= Rs.121.91 DFL should invest, as intrinsic worth is more than the issue price.

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c.

4.

The expected EBIT for the next six years is as follows (Rs. crore) 2007-08 1.25 2008-09 2.70 2009-10 6.00 2010-11 9.20 2011-12 13.95 2012 -13 16.50 a. Straight equity investment of Rs.12.5 crore (Rs. in lakh) 2007-08EBIT 125 EAT 125.0 Dividend inflow to IDFC 6.25

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2008-09 270 270.0 13.50 2009-10 600 420.0 21.00 2010-11 920 644.0 32.20 2011-12 1395 976.5 48.83 2012 -13 1650 1155 57.75 EPS for the 6th year =1155/250 =4.62 Hence the per share inflow from IPO will be Rs.64.68 The NPV of the equity investment by IDFC (Rs. in lakh) Initial Outflow 2007-08 2008-09 2009-10 2010-11 2011-12 2012 -13 Inflow through IPO NPV Investment in FCD by IDFC Debentures are converted after 4 years therefore EPS for 4 years will be Year EBIT Interest EBT 10% contribution Tax EAT 2007-08 125 187.5 (62.5) 2008-09 270 187.5 82.5 8.25 74.25 2009-10 600 187.5 412.5 41.25 111.37 259.88 2010-11 920 187.5 732.5 73.25 197.78 461.47 Conversion price of FCD at the end of 4 years is calculated as follows: Average EPS for first 4 years = (0.594+2.079+3.692)/3 = 2.12 Conversion price of FCD = 2.12* 10 = Rs.21.22 No. shares to be issued = 58.906or 59 lakh shares Now, the EPS at the end of 6th year = 1155/(125+59)=6.28 Therefore the per share inflow from IPO will be Rs.87.92 The NPV of the debt investment by IDFC is calculated as follows:Cash flow through interest Cash flow through participation in EBT Cash flow through dividend Cash flow (1250) 6.25 13.50 21.00 32.20 48.83 57.75 8085.00 PV @ 30% (1250) 4.81 7.99 9.56 11.27 13.15 11.96 1675.02 483.76

b.

EPS 0.594 2.079 3.692

Total inflow

PV @ 30%

Initial Outflow 2007-08 2008-09 2009-10 2010-11 2011-12 2012 -13 Inflow through IPO

(1250) 187.50 195.75 228.75 260.75 31.33 37.05 5187.28

(1250) 144.23 115.83 104.12 91.30 8.44 7.68 1074.68296.28

187.50 187.50 187.50 187.50

8.25 41.25 73.25 NPV

31.33 37.05

As the NPV from the option of equity investment is higher than the option of FCDs, IDFC Private Equity should invest in the option of equity investment.5.

To calculate the wealth relative we have to find the returns on the IPOs for the past one year and return on the market index as follows:Company Offer price 417 148 CMP No. of shares offered in lakh 100 245.46 Value of index at the time of offer 3177.5 3388.9 Returns Return on index -4.00 -9.99

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Prime Focus Ltd Deccan Aviation Ltd. Unity Infraprojects Ltd. Gangotri textile Ltd. Patel Engineering Ltd. RPL Lokesh Machines Ltd. Opto Circuit Ltd. Inox Leisure Ltd. BOB Ltd. Punj Lloyd Ltd. PVR Cinema Ltd. Triveni Engineering Ltd. H T Media Ltd. Yes Bank Ltd

284 83.2 432.5 36.35 308.45 63.55 138.25 352.95 132 194.3 718 231 73.15 391.3 78 Total

-31.89 -43.78 -35.93 -11.34 -29.90 5.92 -1.25 30.72 10.00 -15.52 2.57 2.67 52.40 -26.17 73.33 -18.18

675 41 440 60 140 270 120 230 700 225 48 530 45

34.43 134 106 4500 30 40 165 710 91.72 74 500 69.95 700n

3246.9 3388.9 3634.25 3345.5 3454.8 3402.55 2982.75 2833.1 2812.3 2706.7 2620.05 2367.8 2254.5

-6.06 -9.99 -16.07 -8.82 -11.71 -10.35 2.26 7.67 8.46 12.69 16.42 28.82 35.30 34.64

1 + 1/ N riti =1 n

Wealth realtive can found out by the formulae = Where N = number of IPO in the sample rit = Returns on the IPO rmt = Returns on the market1 + 1 / 15 ( 18.18)

1 + 1/ N rmti =1

= 1 + 1 / 15 (34.64) = -0.064. Wealth relative is less than 1. Hence IPOs have underperformed the market.

Section C: Applied Theory6.

We can assess the credit quality of the state government on the basis of following factors: Economic Risk The overall objective of Economic Risk Assessment is to provide a means of evaluating a states economic strength and weakness. In general terms, where its strength outweighs its weakness it will present low economic risk and where its weakness outweighs its strength it will present relatively higher economic risk. Economic Structure

< TOP >

A states economic structure is of fundamental importance to its financial strength, debt carrying capacity and future prospects. Key factors:

Economic and Social Infrastructure Per Capita Income Natural Resource Endowments Employment Growth & Quality of Workforce

Economic Policies Demographics & Social Infrastructure Traditional demographic indicators such as per-capita income, poverty levels, degree of urbanization, literacy rates, vital-statistics, employment rate etc. are very important to be analyzed. Economic Infrastructure Infrastructure availability examined includes the following:

Power Irrigation Transport

Communication Industrialization The level of industrial activity and their nature have significant impact on the economic development of a state. For instance primary industrial activity such as mining and metals are particularly susceptible to economic downturns as compared to high technology industries, which offer more value-added products. Banking The availability of good banking infrastructure enables the growth of savings and investment within the state and the availability of credit to facilitate economic activity. Agriculture Agriculture is important as it lays the foundation for secondary and tertiary sector growth and is therefore an active determinant of tax revenues and future economic potential.