Question Paper Investment Banking & Financial Services – I (261) : April 2003 Part A : Basic Concepts (30 Points) • • • • 1.
Madnani Brokerage Services Pvt. Ltd. is a SEBI registered broker. Their base minimum capital is Rs.25 crore and they have an additional capital of Rs.15 crore. The maximum intraday trading limit in share dealings for Madnani Brokerage Services Ltd. as specified by SEBI is a. b. c. d. e.
2.
d. e.
BSE On-line Trading (BOLT) is a mixture of both quote and order driven system The NSE trading system is order driven while the OTCEI system is quote driven The trading on NSE commences every Thursday and concludes on the following Wednesday The National Securities Clearing Corporation (NSCC) assumes the counter-party risk in all trading deals made on the exchange None of the above.
A Hire Purchase or a Leasing Company desirous to accept public deposits should have a minimum capital adequacy ratio of a. b. c. d. e.
4.
Rs. 13.333 crore Rs. 133.33 crore Rs. 833.33 crore Rs.1333.33 crore There is no such maximum upper limit of intra-day trading specified by SEBI.
Which of the following statements is not true? a. b. c.
3.
This part consists of questions with serial number 1 - 30. Answer all questions. Each question carries one point. Maximum time for answering Part A is 30 Minutes.
9.0% 10.0% 10.5% 15.0% There is no such mandatory maintenance of capital adequacy requirement for a hire purchase or leasing company for accepting public deposits.
The following data pertains to Lavanya Leasing Services Ltd: P.V. of loan payments P.V. of lease payments P.V. of lease related tax shields P.V. of loan related tax shields P.V. of residual value
Rs.40,00,000 Rs.38,00,000 Rs.16,00,000 Rs.14,00,000 Rs.1,00,000
The operating advantage arising out of the lease transaction as per BHW model is a. b. c. d. e.
– Rs.2,00,000 – Rs.1,00,000 Nil Rs.1,00,000 Rs.2,00,000.
1
5.
IPO Lock-up is a. b.
c. d. e. 6.
Pulakit Industries Ltd. came up with a rights issue on March 1, 2003. The earliest Pulakit can come up with a bonus issue is a. b. c. d. e.
7.
Rs.12,500 and Rs.12,500 respectively Rs.25,000 and Rs.25,000 respectively Rs.25,000 and Rs.37,500 respectively Rs.50,000 and Rs.37,500 respectively Rs.50,000 and Rs.50,000 respectively.
Which of the following statements is false? a. b. c. d. e.
9.
May 1, 2003 August 1, 2003 November 1, 2003 March 1, 2004 August 1, 2004.
MindMart Plus Limited is issuing CPs worth Rs.2,00,00,000 for 6 months. The rating charges and stamp duty payable by MindMart is a. b. c. d. e.
8.
The restriction by the SEC prohibiting an issuing company from offering shares due to non-compliance with some statutory requirements The restriction by the SEBI prohibiting an issuing company from offering shares due to excessive road shows in which the issuing company and the lead managers lure the investors unethically A legally binding contract between the underwriters and insiders of the company not allowing them to sell any shares of a company for a certain specified period of time A situation in which there is not much trading activity in a stock after it is issued to the public A situation in which a company is postponing its public offering process due to unfavorable market conditions.
Jumbo CDs are issued by savings and loan associates in large volumes such as $100000 and above Asian Dollar CDs carry both floating and fixed interest rates based on the current level of the Singapore Inter-bank Offer Rate (SIBOR) and paid at New York clearing house In Installment CDs, target level for the amount is built-up in the account by allowing the customers to make a small initial deposit. Yankee CDs are issued by foreign banks such as Japanese, Canadian and US institutions in UK who usually have offices in UK cities Bear and Bull CDs, whose returns are linked to stock market performance, allow depositors to seek variable equity like returns.
Which of the following is / are true regarding accounting of a lease transaction in the books of lessor as per Accounting Standard 19 of the Institute of the Chartered Accountants of India? I.
a. b. c. d. e.
The lessor must record the finance lease as a receivable in the balance sheet at an amount equal to the net investment in the lease. II. The lessor must bifurcate the lease rental into two components - (i) the capital component; and (ii) the interest component. III. The pattern of recognizing the finance income must also reflect the uncertainties associated with the collectibility of lease rentals, expectations of the future rates of interest, etc. particularly for long-term leases. Only (I) above Only (III) above Both (I) and (II) above Both (I) and (III) above All (I), (II) and (III) above.
2
10. Meridian Financial Services Company Ltd, a company engaged in hire purchase earns Rs.1,00,000 as interest in the fiscal year 2002-03. The service tax payable on the interest earned by Meridian for the fiscal year 2002-03 is a. b. c. d. e.
Rs.2,000 Rs.2,500 Rs.3,000 Rs.5,000 Rs.7,500.
11. Which of the following statements is not true? a. b. c. d. e.
Use of collateral is efficient in case of Mortgage Backed Bonds whereas in case of CMOs it is relatively inefficient Cash flows are more predictable in Mortgage Backed Bonds whereas in Mortgage Pass Through Certificates it is relatively uncertain Treasury Bills have limited capital market investor spectrum whereas CMOs have wide investor spectrum across mortgage and capital markets Mortgage backed bonds are mostly AA or AAA rated whereas ratings of CMOs are mostly AAA Liquidity of Mortgage Backed Bonds is adequate whereas liquidity for Mortgage Pass Through Certificates is good especially for GNMAs.
12. Which of the following statement(s) is/are true regarding instruments in the international markets? I.
Foreign bonds are the bonds floated in the domestic market denominated in domestic currency by non-resident entities II. Yen denominated bonds issued in the US are Euro (dollar) bonds III. Euro commercial papers issued with maturity of upto one year are underwritten and secured IV. Note Issuance Facilities are underwritten and have maturity of upto one year a. b. c. d. e.
Both (I) and (II) above Both (I) and (III) above Both (I) and (IV) above Both (II) and (IV) above Both (III) and (IV) above.
13. Which of the following is/are feature(s) of Euro convertible bonds? I. II.
They are quasi-equity issues made outside domestic market They provide the holder with an option to convert the instrument from debt to equity III. Euro convertible bonds cannot be converted into GDRs. a. b. c. d. e.
Only (I) above Only (II) above Only (III) above Both (I) and (II) above Both (II) and (III) above.
14. Mr.Srikanth wanted to take a loan of Rs.2,50,000 from LIC Housing Finance. The aggregate value of the home is Rs.3,00,000. The building is 70% completed. The land component is estimated to be 25%. Mr.Srikanth contributed Rs.75,000 as borrower’s contribution. Cumulative disbursement made till this point is Rs.60,000. How much amount should be disbursed by LHF? a. b. c. d. e.
Rs.95,700 Rs.96,500 Rs.97,500 Rs.97,700 Rs.97,900. 3
15. M/s Novice Financial Services Ltd. (NFSL) has recently structured a five year leveraged lease transaction involving an investment cost of Rs.140 crore with itself as the equity participant and Arora commercial Bank as the loan participant funding the investment in the ratio of 2:5. The loan is to be repaid in the five equated annual installments of Rs.30.54 crores each. The gross yield of NFSL is 24% per annum. The amount of lease rental (per thousand per annum) payable at the end of every year for such a lease transaction is a. b. c. d. e.
300.05 ptpa 322.23 ptpa 329.23 ptpa 342.23 ptpa 346.23 ptpa.
16. Which of the following is not true with regard to Mortgage Backed Securitization and Asset Backed Securitization? a. b. c. d. e.
The former is backed by easily traceable immovable asset whereas the latter is backed by movable assets, which may not be easily traceable The former takes into consideration appreciation in the value of assets whereas the latter takes into consideration depreciation in the value of assets Legal hassles are relatively less in Asset Backed Securitization Mortgage Backed Securitization gives high yields to the investors whereas Asset Backed Securitization gives low yields to the investors None of the above.
17. Which of the following is/are true regarding Supplier Guarantee Factoring? a. b. c. d. e.
The customer places an import order with the distributor The distributor seeks the approval of the factor for extending credit to the customer The factor makes an advance payment to the distributor Both (a) and (b) above All (a), (b) and (c) above.
18. Which of the following is/are true regarding the appointment of intermediaries in a public issue of Rs.200 crs? I. II.
The maximum number of co-managers is 4. An associate company of the issuer company cannot be appointed as a consultant to the issue. III. Appointment of brokers to the issue is not mandatory as per SEBI guidelines. a. b. c. d. e.
Only (II) above Only (III) above Both (I) and (II) above Both (I) and (III) above All (I), (II) and (III) above.
19. While calculating the capital adequacy ratio for a primary dealer the risk weight (in terms of percent of market value) of a government security with a balance maturity of 4 years as on the date of reporting is a. b. c. d. e.
15 20 25 30 40.
4
20. Which of the following is/are true regarding public deposits of manufacturing companies? I. The company can accept public deposits to be repaid on notice. II. A security deposit received from an employee can be defined as a public deposit. III. Public deposit can be prepaid only after a period of 3 months from the date of deposit. a. b. c. d. e.
Only (I) above Only (III) above Both (I) and (III) above Both (II) and (III) above Both (I) and (II) above.
21. Which of the following statements is/are not true regarding promoter’s contribution in case of listed companies? I.
a. b. c. d. e.
Promoters have to ensure post-issue shareholding of 20% of the post-issue capital. II. Bonus shares issued out of revaluation reserves during the preceding 3 accounting years forms part of promoter’s contribution. III. The excess of promoter’s contribution in the proposed issue over the minimum specified contribution attracts a lock-in period of 3 years. Only (I) above Only (III) above Both (I) and (III) above Both (II) and (III) above None of the above.
22. In the absence of confiscation, the cash flows to an overseas investor are expected to be Rs.15 lakh. If the probability of confiscation in each year is 0.1, then the expected cash flow in year 6 after adjusting for this probability is a. b. c. d. e.
Rs.6.97 lakhs Rs.7.03 lakhs Rs.7.97 lakhs Rs.8.97 lakhs Rs.9.97 lakhs.
23. Consider the following data regarding the consumer finance provided by M/s. Ganga Finance Ltd.: Amount of loan EMI, payable monthly in advance Repayment period Effective rate of interest p.a.
Rs.2000 Rs.104 2 years 26.82%
If a borrower wishes to repay after making the 12th payment, the interest rebate as per the effective rate of interest method is a. b. c. d. e.
Rs. 96.80 Rs.118.80 Rs.126.20 Rs.127.40 Rs.148.20.
24. Under which of the following situations, replacement cost is a appropriate measure? I. When Economic value > Replacement cost > Realization value II. When Economic value > Realization value > Replacement cost III. When Replacement cost > Economic value > Realization value a. b. c. d. e.
Only (I) above Only (II) above All (I), (II) and (III) above Both (I) and (II) above Both (II) and (III) above. 5
25. Which of the following is/are not true regarding factoring? I.
a. b. c. d. e.
Credit insurance is more cost-effective than non-recourse factoring if the firms does not want help with regard to collection and finance. II. In bill discounting and invoice discounting notice of assignment is not necessary. III. In both factoring and forfaiting, the factor/forfaiter takes on the responsibilities of receivables accounting, etc. Only (I) above Only (III) above Both (II) and (III) above Both (I) and (II) above None of the above.
26. Which of the following is not an internal credit enhancement technique in case of securitisation? a. b. c. d. e.
Over collateralization Cash collateral Letter of credit Credit trenching Triggered amortization.
27. Which of the following is/are not true regarding the insurance provided on the bank deposits by the Deposit Insurance and Credit Guarantee corporation (DICGC)? I. II.
The maximum insurance cover is Rs.1,00,000 for each depositor. The premium payable for the insurance is at the rate of 3 paise per half-year for every 100 rupees. III. The premium is payable by the depositor.
a. b. c. d. e.
Only (I) above Only (III) above Both (I) and (III) above Both (II) and (III) above Both (I) and (II) above.
28. Sujana Gilts Ltd., a primary dealer in the Indian money market, participated in the T-Bills auction during the year. If the successful bids to be maintained by Sujana Gilts Ltd., is given as Rs.675 cr., then what is the commitment of Sujana Gilts Ltd., to aggregate bidding? a. b. c. d. e.
Rs.1,587.5 Rs.1,687.5 Rs.1,787.5 Rs.1,887.5 Rs.1,987.5.
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29. Consider the following extract of balance sheet of M/s. Z Ltd. for the year 2002: Rs. lakhs 90 30 60 60 40 90 10
Net worth Long term debt Current liabilities Fixed assets Inventory Receivables Cash
M/s. F Ltd. has agreed to factor the receivables of M/s. Z ltd. and give an advance of 80% of receivables. If 50% of the additional cash is utilized to reduce current liabilities the current ratio before and after factoring respectively will be a. b. c. d. e.
1.67; 3.67 2.33; 4.33 1.67; 4.33 2.33; 6.33 2.33; 1.92.
30. M/s. Niha Pharma Ltd. (NPL) has developed a medicine which needs to be commercialized. It requires Rs.5.6 crores to start production and market the same. It expects to generate revenues from the end of second year with a net profit margin of 20%. The revenues in the second year are expected to be Rs.40 crores with a growth rate of 20% p.a. Intelli Venture Fund (IVF) is interested in funding NPL and disinvest at the end of 5th year to earn a rate of return of 70% p.a.. Assume firms with comparable sales, profitability and risk profiles as NPL are trading at 13 times the earnings and that there is no further dilution in the equity stake of NPL. The percentage ownership of IVF in NPL to earn the desired yield is a. b. c. d. e.
8.24% 44.24% 46.91% 53.09% 55.76%. END OF PART A
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Part B : Problems (50 Points) • • • • • 1.
This part consists of questions with serial number 1 - 5 Answer all questions. Points are indicated against each question. Detailed workings should form part of your answer. Do not spend more than 110 - 120 minutes on Part B.
Mahesh Industries Ltd. (MIL) a small scale unit, is contemplating to sale and lease back an asset which was purchased at Rs.30 lakhs three years back by raising a term loan carrying an interest rate of 16% p.a. The remaining useful life of the asset is five years at the end of which it will have a salvage value of Rs.4 lakhs. The tax relevant rate of depreciation is 25%. MIL has approached two leasing companies for the same, the details of which are as follows: Company First Leasing Company
Lease quote (FLC)
Best Leasing Company (BLC)
Rs.24 ptpm payable quarterly in advance over a period of 5 years Rs.20 ptpm payable monthly in arrears over a period of 5 years
Additional Information: • FLC requires a gross yield of 24% p.a. on this lease transaction. Its cost of capital is 10% and is in the tax bracket of 20%. • BLC wishes to structure the sale and lease back in such a way that it earns an IRR of 2% over the cost of capital. Its cost of capital is 12% and is in the tax bracket of 30%. • MIL follows a debt equity ratio of 1.8:1. Its cost of equity is 19.04% and it is in the tax bracket of 30%. You are required to: a. Determine the maximum purchase price that FLC can pay for the asset. b. Determine the maximum purchase price that BLC can pay for the asset. c. Determine, of the two, which lease quote is more favorable to MIL. 2.
(2 + 6 = 8 = 16 points) Saubhagya Entertainment Ltd. is a leading producer of entertainment software. Saubhagya intends to expand its production expertise to meet the growing demand in the domestic and the international entertainment market. For this it wants to finance its expansion mainly through the ECB route. The company has received the following offer from the Citibank, New York. HSBC has agreed to provide guarantee cover on this loan. The terms and conditions of the loan is as follows: Amount
$ 40 million
Maturity
8 years
Drawdown
$ 20 million on January 01, 2003 $ 20 million on January 01, 2004
Interest
200 BP over LIMEAN payable annually
Management fee
20 BP
Underwriting fee
30 BP
Commitment fee
15 BP (payable at the beginning of the year)
Agency fee
$ 30000 per annum (payable at the beginning of the year)
Guarantee fee
60 BP (payable at the end of the year)
Amortization
4 equal installments at the end of 5th, 6th, 7th and 8th year
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The expected $ LIBOR and LIBID, as per a survey conducted by US Bond Research Institute, is as follows: Year
LIBOR (%)
LIBID (%)
2003
2.50
2.40
2004
3.00
2.85
2005
4.00
3.75
2006
3.75
3.55
2007
3.85
3.50
2008
3.10
3.00
2009
3.05
2.85
2010
3.00
2.75
2011
2.80
2.50
The future Rs/$ exchange rates as predicted by one of the leading forex analysts is as follows: Year
Rs./$
2003
48.13
2004
48.96
2005
49.57
2006
50.75
2007
50.98
2008
51.24
2009
51.86
2010
52.75
2011
53.48
Saubhagya has also received a loan proposal from IDBI for the same amount for 8 years @ 7.25%. You are required to advise Saubhagya on which route to opt for raising the required fund. Show all the relevant computations. 3.
(10 points) M/s Marigold Cements LTd. (MCL) is intending to expand its operations and requires Rs.200 lakhs for the same. MCL has planned to finance the expansion through a right issue during June 2003. The following relevant information has been extracted from the financial statements of MCL for the year ended March 2003: Particulars
Rs. lakhs
Equity share capital (15 lakh equity shares of Rs.10 each)
150
Reserves and surplus
50
14% Fully Convertible Debentures
50
10% Term loan from FIs
200
Earnings before interest and taxes
150
Effective tax rate
35%
The following additional information is available: i. MCL has issued 14% FCDs of the face value of Rs.100 each during January 2003. Each FCD of Rs.60 is converted into 2 equity shares of Rs.30 each during September 2003. The balance of Rs.40 will be converted into one equity share of Rs.40 at the end of June 2004. The interest is payable semiannually on March 31 and September 30 every year. The first interest payment is made on March 31, 2003 for a period of 3 months. 9
ii. Due to expansion the finance manager expects MCL’s EBIT to increase by 25% next year. iii. The equity shares of MCL are trading at 7 times its earings. You are required to determine a. The maximum rights ratio if MCL wishes not to dilute its EPS by more than 20% after the rights issue. b. Ex-rights price of the share of MCL assuming the rights ratio as calculated in (a) above. 4.
5.
(6 + 2 = 8 points) M/s Sunder Bank Ltd. offers traditional and non-traditional mortgage loans for purchase of residential properties. Under Pledged Account Mortgages, it requires the borrower to deposit certain amount in a savings account. It also required the borrower to make graduated payments, which increase at the rate of 5% p.a., for the first four years and equated payments thereafter which are equal to the EMIs under Traditional Mortgage. Mr. Prabhu has approached the bank for a home loan of Rs.10 lakhs for a period of 15 years. Assume under Pledged Account Mortgages the bank requires Mr. Prabhu to make equated monthly payments of Rs.8,765 during the first year. Assume the payments during a year are equal. You are required to: a. Determine the EMIs and the interest rate if the loan is given under Traditional Mortgage. b. Determine the amount of deposit to be made by the borrower in the pledged savings account under the Pledged Account Mortgages. Assume the deposit carries an interest of 6% p.a. compounded monthly and that the balance in the pledged savings account becomes zero at the end of the third year. (4 + 4 = 8 points) Parimal Papers is a medium sized paper mill based at Baroda. During the year 2002-03 it had a sales turnover of Rs.90 lakhs and expects it to increase by 10% during the year 2003-04. Currently Parimal follows credit terms of 2/10, net 60 days. 30% of the customers pay on the 10 day and the balance accepts the bills drawn by Parimal with a usance period of 60 days. However, only 90% of the bills receivable would be honored within 60 days and the balance pay within 90 days. Parimal Papers has a policy of availing short-term bank finance at an interest rate of 11% p.a. for funding 75% of the receivables and the rest is sourced from own funds of the company at an effective cost (in pre-tax terms) of 19% p.a. Parimal spends around Rs.85000 for the purpose of collection of dues, ledger administration and credit monitoring. Bad debts amount to 1% of the credit sales. The General Manager of Fantastic Financial Services, which offers both bill discounting and advance nonrecourse factoring for working capital financing to small and medium sized companies approached the Managing Director of Parimal Papers for availing working capital financing from them. The terms and conditions of Fantastic Financials under bill discounting option are as follows: •
Discount charge is 12% p.a.
•
On the 60th day, the payment day of the bills, the bank agrees to extend the time of unpaid bills to 90 days charging an interest of 2%, which the company would be collecting from the customers. The terms and conditions of Fantastic Financials under advance non-recourse factoring option are as follows: • •
Discount charge is 17% p.a. and commission is 1.5% Advance payment as proportion of factored receivables is 90%
• Agreed payment time is 45 days The Managing Director of Parimal Papers is unable to decide which alternative to opt for. You are required to evaluate the cost benefit analysis of existing working capital financing, bill discounting and factoring and suggest the alternative of working capital financing to the Managing Director of Parimal Papers. (Assume 360 days in a year) (8 points)
END OF PART B
10
Part C : Applied Theory (20 Points) • • • •
6.
7.
This part consists of questions with serial number 6 - 7. Answer all questions. Points are indicated against each question. Do not spend more than 25 -30 minutes on Part C.
The Commercial Paper market abroad is very dynamic and is seeing continuous innovations. Discuss the latest innovations in CPs in foreign markets. (10 points) Tata Finance Co. has launched Smart Fleet Card, a co-branded card with Bharat Petroleum Corporation Ltd., which aimed at truck fleet operators who can use them as pre-paid cards or credit cards to pay for fuel and lubricants at BPCL outlets. State the advantages of such co-branded cards to the partners of the card business. Also, state the factors a customer has to consider while choosing a co-branded card. (5 + 5 = 10 points) END OF PART C END OF QUESTION PAPER
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Suggested Answers Investment Banking & Financial Services – I (261) : April 2003 Part A : Basic Concepts 1.
2.
3.
4.
5.
6.
7.
8.
Answer : (d) Reason : The maximum intra-day trading limit for a broker as prescribed by SEBI is 33 1/3 times of the sum of the base minimum capital and additional capital. Hence the maximum intra-day trade limit for Madnani Brokerage Services Ltd. is 33 1/3 times of the sum of the base minimum capital and additional capital = 33 1/3 times of Rs.25 crore and Rs.15 crore = Rs.1333.2 crore. Hence (d) is the answer. Answer : (c) Reason : BSE On-line Trading (BOLT) is a mixture of both quote and order driven system. The NSE trading system is order driven while the OTCEI system is quote driven. The National Securities Clearing Corporation (NSCC) assumes the counter-party risk in all trading deals made on the exchange. The trading on NSE commences every Wednesday and concludes on the following Tuesday. Hence (c) is the answer. Answer : (d) Reason : A Hire Purchase or a Leasing Company to accept public deposits, should have a minimum capital adequacy ratio of 15%. Hence (d) is the answer. Answer : (d) Reason : The operating advantage arising out of the lease transaction as per BHW model is OA (L) = P.V. of lease related tax shields – P.V. of loan related tax shields – P.V. of Residual value = 1600000 – 1400000 – 100000 = Rs.100000. Hence (d) is the answer. Answer : (c) Reason : A legally binding contract that is set by the underwriters of an IPO to restrict certain individuals like the insiders from trading in the shares of the company is known as IPO lock-up. This is usually for a period of 180 days after the IPO. When the lock-up period expires, restricted people are permitted to sell their shares. Hence (c) is the answer. Answer : (d) Reason : As per the SEBI Guidelines, no bonus issue should be made within 12 months from the date of a rights issue. Hence if Pulakit Industries comes up with a rights issue on March 1, 2003, the earliest that it can come up with a bonus issue is March 1, 2004. Hence (d) is the correct answer. Answer : (e) Reason : CP is a short-term, unsecured usance promissory note issued at a discount to face value by wellknown or reputed companies, who carry a high credit rating and have a strong financial background. The various expenses related to CPs are brokerage expenses, rating charges and stamp duty. The rating charges of a CP issue are 0.5% per annum. The stamp-duty for a CP is as follows: Period Stamp duty Up to 3 months 0.125% Above 3 months – up to 6 months 0.250% Above 6 months – up to 9 months 0.375% Above 9 months – up to 1 year 0.500% Hence for a CP of 6 months, the rating charges will be (0.5%/12) x 6 = 0.250% and stamp duties will be 0.250%, both calculated on the face value of the CP. Hence, the rating charges of this CP of Rs.20000000 will be 0.250% of Rs.20000000 = Rs.50000 and stamp duties payable for this CP will be 0.250% of Rs.20000000 = Rs.50000. Hence, (e) is the answer. Answer : (d) Reason : Jumbo CDs are issued by savings and loan associates in large volumes such as $100000 and above. Asian Dollar CDs carry both floating and fixed interest rates based on the current level of the Singapore Inter-bank Offer Rate (SIBOR) and paid at New York clearing house. In Installment CDs, target level for the amount is built-up in the account by allowing the customers to make a small initial deposit. Yankee CDs are issued by foreign banks such as Japanese, 12
9.
Answer : Reason :
10. Answer : Reason :
11. Answer : Reason :
Canadian and European institutions in the US who usually have offices in US cities. Bear and Bull CDs, whose returns are linked to stock market performance, allow depositors to seek variable equity like returns. (d) is false and hence is the answer. (e) All of the following are true regarding accounting of a lease transaction in the books of lessor as per Accounting Standard 19 of the Institute of the Chartered Accountants of India which states that i. The lessor must record the finance lease as a receivable in the balance sheet at an amount equal to the net investment in the lease. ii. The lessor must bifurcate the lease rental into two components - (i) the capital component; and (ii) the interest component. iii. The pattern of recognizing the finance income must also reflect the uncertainties associated with the collectibility of lease rentals, expectations of the future rates of interest, etc. particularly for long-term leases. Hence (e) is the answer. (d) The service tax payable on the interest earned by the hire purchase companies is 5%. Therefore, service tax payable by Meridian for the fiscal year 2002-03 = 5% of Rs.100000 = Rs.5000. Hence (d) is the correct answer. (a) Use of collateral is inefficient in case of Mortgage Backed Bonds whereas in case of CMOs it is relatively efficient. Hence (a) is he answer. Cash flows are more predictable in Mortgage Backed Bonds whereas in Mortgage Pass Through Certificates it is relatively uncertain. Treasury Bills have limited capital market investor spectrum whereas CMOs have wide investor spectrum across mortgage and capital markets. Credit rating of Mortgage backed bonds are mostly AA or AAA whereas ratings of CMOs are mostly AAA. Liquidity of Mortgage Backed Bonds is adequate whereas liquidity for Mortgage Pass Through Certificates is good especially for GNMAs. Hence (a) is the answer.
12. Answer : (c) Reason : Foreign bonds are the bonds floated in the domestic market denominated in domestic currency by non-resident entities. Yen denominated bond issued in UK is a Euro (Yen) bond. Eurocommercial paper issued with maturity of upto one year are not underwritten and are unsecured. Note issuance facilities are underwritten and have maturity of upto one year. Therefore statements (I) and (IV) are true and statements (II) and (III) are false. Hence (c) is the right choice. 13. Answer : (d) Reason : A Euro convertible Bond is issued for investment in Europe. It is a quasi-equity issue made outside the domestic market and provides the holder with the option to convert the instrument from debt to equity. The Euro convertible Bonds can be converted into GDRs. Therefore statements (I) and (II) are true and statement (III) is false. Hence (d) is the right choice. 14. Answer : (c) Reason : Disbursement (RD) = AV × CC/100 × PC/100 + AV × LC/100 – BC – CM Given : AV = 3,00,000 PC = 70% LC = 25% CC = 1 – LC = 75% BC = Rs.75,000 CM = Rs.60,000 RD = 3,00,000 × 75/100 × 70/100 + 3,00,000 × 25/100 – 75,000 – 60,000 = Rs.97,500
13
15. Answer : (b) Reason : Amount of lease rental is the value of ‘L’ in the following: (L–30.54) PVIFA24,5 = 140 × L=
2 7
123.832 = 45.112 2.745
LR ptpa =
45.112 ×1, 000 = Rs.322.23 ptpa. 140
16. Answer : (d) Reason : Mortgage Backed Securitization is backed by easily traceable immovable asset whereas Asset Backed Securitization is backed by movable assets, which may not be easily traceable. Mortgage Backed Securitization takes into consideration appreciation in the value of assets whereas Asset Backed Securitization takes into consideration depreciation in the value of assets. Legal hassles are relatively less in Asset Backed Securitization. Mortgage Backed Securitization gives low yields to the investors whereas Asset Backed Securitization gives high yields to the investors. Hence (d) is the answer. 17. Answer : (d) Reason : In a Supplier Guarantee Factoring - The customer places an import order with the distributor, the distributor seeks the approval of the factor for extending credit to the customer and instead of making an advance payment to the distributor against the customer’s account that has been factored, the factor pays the supplier directly for the invoice value of the goods supplied. Hence (d) is the correct answer. 18. Answer : (d) Reason : According to SEBI, the number of co-managers cannot exceed the number of lead managers appointed for that issue. For an issue of Rs.200 crs, the maximum number of lead managers that can be appointed is 4 and hence co-managers for the issue cannot exceed 4. Hence, (I) is true. An associate company of the issuer company cannot be appointed either as lead manager or comanager but can be appointed as an underwritter or a consultant or an advisor to the issue. Hence (II) is not correct. Any member of any recognized stock exchange can be appointed as broker to the issue. Appointment of brokers to the issue is not mandatory according to SEBI. Hence , (III) is correct and the answer is (d). 19. Answer : (b) Reason : While calculating the capital adequacy ratio for a primary dealer the risk weight (in terms of % of market value) of a government security with a balance maturity of 4 years as on date of reporting is 20. 20. Answer : (b) Reason : According to the companies (Acceptance of Deposit) Rules, 1975, no deposit repayable on demand or on notice can be accepted by a company, a security deposit received from an employee cannot be termed as public deposit and a public deposit can be prepaid only after a period of 3 months from the date of deposit. Hence, only (III) is correct and (b) is the answer. 21. Answer : (d) Reason : According to SEBI guidelines, a promoter of listed company has to participate either to the extent of 20% of the proposed issue or ensure post issue shareholding of 20% of the post-issue capital. Hence, (I) is true. Bonus shares issued out of revaluation reserves during the preceding 3 accounting years are not included in the promoter’s contributions. Hence, (II) is not true. In case the promoter’s contribution in the proposed issue exceeds the minimum specified contribution such excess will attract only one-year lock-period. Hence, (III) is also not true and (d) is the answer. 22. Answer : (c) Reason : CF after considering probability of confiscation = (1 – p)tCFt = (1 – 0.1)6 × 15 = Rs.7.97 lakhs 14
23. Answer : (c) Reason : Effective rate of interest = 26.82 p.a. = (1.2682)1/12 – 1
= 2% p.m.
Total amount due = 104 x 12 = Rs.1,248 PV of installment due at the end of 12th month = (1.02) 104PVIFA2%,12 = Rs.1,121.80 Interest Rebate = 1,248 – 1,121.80 = Rs.126.20. 24. Answer : (d) Reason : Under situations (I) and (II), the loss suffered by the firm on deprivation is the replacement cost. Under situation (III), the firm will not be keen on replacing the deprived asset because replacement cost exceeds economic value. Hence the loss suffered by the firm if it is deprived of the asset is the economic value of the asset. Hence, only in (I) and (II) situations, RC is the appropriate measure and (d) is the answer. 25. Answer : (b) Reason : While the factor takes on the responsibilities of receivables accounting, monitoring and collections, the forfaiter does not assume any of these responsibilities. Hence, (III) is not true and the answer is (b). In invoice discounting the factoring arrangement is confidential which means there is no question of notice of assignment. Hence, (II) is true. Credit insurance takes the responsibilities of granting credit and bad debts and hence is similar to non-recourse in this respect. Thus for a firm which does not want the help with regard to collection and finance it is more cost effective than factoring. Hence, (I) is true. 26. Answer : (c) Reason : Letter of credit is provided by a third party for securitization structures with credit ratings below the level sought for the issue. Hence, this is an external credit enhancement technique and (c) is the answer. 27. Answer : (d) Reason : The Scheduled Commercial Banks, Cooperative Banks and Regional Rural Banks do accept deposits from general public as part of their normal banking activity. In order to protect the interest of the depositors, it was considered necessary to have the scheme of insuring the bank deposits. The scheme was originally undertaken by Deposit Insurance Corporation which was subsequently merged to become DICGC. As of now all banks have to take the insurance cover on the deposits accepted by them. The premium payable for the insurance is at the rate of 2.5 paise per half-year for every 1000 rupees and the same is paid by the bank on behalf of the depositors. The deposit will have an insurance cover for the actual amount of the deposit, subject to a maximum of Rs.1,00,000 for each depositor irrespective of the number and amount of deposits one has with a bank. Hence, (II) and (III) are not true and (d) is the answer. 28. Answer : (b) Reason : The minimum success ratio for the PDs is 40% for T-Bills. Since the successful bids to be maintained by the company is given as Rs.Rs.675 cr., the company’s commitment to aggregate bidding is given by Rs.675/0.4 cr. = Rs.1687.5 29. Answer : (b) Reason : On factoring, 80% of receivables is converted into cash. Given that 50% of cash received through factoring is utilized for reducing current liabilities, changed current assets = 40 + 90 x 0.2 + 10 +90 x 0.8 x 0.5 = Rs.104 lakhs. Changed current liabilities = 60 – 90 x 0.8 x 0.5 = Rs.24 lakhs Hence, post factoring current ratio = Pre-factoring current ratio =
104 = 4.33 24
40 + 90 + 10 = 2.33 60 15
Hence, (b) is the answer. 30. Answer : (b) Reason : Expected PAT during second year = 40 x 0.2 = Rs.8 crores Growth rate = 20% p.a. Required return of IVF = 70% p.a. Hence, the future value of investment of Rs.5.6 crores = 5.6(1.7)5 = Rs.79.512 crores. MV of NPL at the end of fifth year = 8(1.2)3 x 13 = Rs.179.712 crores. Percentage ownership of IVF in NPL =
79.512 = 44.24% 179.712
16
Part B : Problems 1.
a.
FLC : Required gross yield is 24% p.a. Let the purchase price be Rs.P lakhs The maximum purchase price is the value of P at which the following equation is equal to zero. – P + 0.024 × 12 × P × i/d4 PVIFAi,5 + 4PVIFi,5 = 0 at i = 24% – P + 0.024 × 12 × P × 1.146 × 2.745 + 4 × 0.341 = 0 – P + 0.906P + 1.364 = 0
b.
1.364 = Rs.14.511 lakhs. 0.094 Maximum purchase price of FLC = Rs.14.511 lakhs BLC : Required IRR = 12 + 2 = 14% At IRR, NPV(lease) = 0 – Initial Investment + PV of lease rentals – PV of tax on lease rentals + PV of DTS + PV of NSV = 0 A. Let initial Investment be Rs.B lakhs B. PV of lease rentals = 0.02 × 12 × i/i12 × PVIFA14,5 × B = 0.875B lakhs
P
=
C. D.
PV of tax on lease rentals = 0.02 × 12 × B PVIFA14,5 × 0.3 = 0.2472B lakhs PV of DTS WDV at the inception of lease = Rs.12.656 lakhs Year 1 2 3 4 5
Depreciation (Rs. lakhs) 3.164 2.373 1.780 1.335 1.001
PV (Rs. lakhs) 2.775 1.825 1.202 0.790 0.520 7.112
PV of DTS = 7.112 × 0.3 = Rs.2.134 lakhs E. PV of NSV = 4 PVIF14,5 = Rs.2.076 lakhs –A+B–C+D+E = 0 – B + 0.875B – 0.247B + 2.134 + 2.076 = 0 B c.
=
4.21 = Rs.11.317 lakhs. 0.372
Of the lease quoted, the lease quote at which NAL is more that will be favourable to lessee. NAL = Initial Investment – PV of LR + PV of TS on LR – PV of DTS – PV of ITS – PV of NSV Of the factors, the relevant factors for comparison are initial price of sale, present value of lease rentals, PV of tax on lease rentals and PV of interest tax shields foregone. Cost of capital of MIL =
1.8 1 ×16 × 0.7 + × 19.04 = 14 2.8 2.8 FLC: Rs. in lakhs
Relevant factors of NAL A. B.
Initial price of sale PV of lease rentals
C.
PV of tax shield on lease rentals
D.
PV of Interest shield (Note 1) NAL (apart from depreciation tax shield and NSV) = A–B+C–D
BLC Rs. in lakhs
14.511 0.024 × 12 × 14.511 × PVIFA16,5 × i/d4 = 15.025 0.024 × 12 × 14.511 × PVIFA14,5 × 0.3 = 4.304 4.420 × 0.3 = 1.326
11.317 0.02 × 12 × 11.317 × PVIFA16,5 × i/i12 = 9.527 0.020 × 12 × 11.317 × PVIFA14,5 × 0.3 = 2.797 3.014 × 0.3 = 0.904
2.464
3.683
17
As the sum of the relevant factors of NAL is more in case of BLC, BLC is more favourable Note 1: Interest tax shield Rs. in lakhs Year
Balance Outstanding
Interest @ 16%
Principal Portion
Adjusted Interest **
PV of Adjusted Interest
FLC
BLC
FLC
BLC
FLC
BLC
FLC
BLC
FLC
BLC
1
15.025
9.527
2.404
1.524
2.185
1.386
1.994
1.330
1.749
1.166
2
12.840
8.141
2.054
1.303
2.535
1.607
1.644
1.109
1.264
0.853
3
10.305
6.534
1.649
1.045
2.940
1.865
1.239
0.851
0.836
0.574
4
7.365
4.669
1.178
0.747
3.411
2.163
0.768
0.553
0.455
0.314
5
3.954
2.506
0.633
0.401
3.956
2.509
0.223
0.207
0.116
0.107
** Adjustment Factor: FLC
BLC
Equated Annual Installment
4.589
2.91
Actual annual payment
4.179
2.716
Adjustment factor
0.41
0.194
2. Year LIBOR LIBID LIMEAN Interest rate 2003 2.50% 2.40%
2.45%
4.45%
2004 3.00% 2.85%
2.93%
4.93%
2005 4.00% 3.75%
3.88%
5.88%
2006 3.75% 3.55%
3.65%
5.65%
2007 3.85% 3.50%
3.68%
5.68%
2008 3.10% 3.00%
3.05%
5.05%
2009 3.05% 2.85%
2.95%
4.95%
2010 3.00% 2.75%
2.88%
4.88%
2011 2.80% 2.50%
2.65%
4.65%
18
(Amount in million $) Upfront Drawdown
31.12.2003 31.12.2004
31.12.2005 31.12.2006 31.12.2007
31.12.2008
31.12.2009
31.12.2010
20.0000
20.0000
0.0000
0.0000
0.0000
0.0000
0.0000
0.0000
0.0000
Interesrt
0.0000
0.8900
1.9700
2.3500
2.2600
2.2700
1.5150
0.9900
0.4875
Amortization
0.0000
0.0000
0.0000
0.0000
0.0000
10.0000
10.0000
10.0000
10.0000
Management fee
0.0800
0.0000
0.0000
0.0000
0.0000
0.0000
0.0000
0.0000
0.0000
Underwriting fee
0.1200
0.0000
0.0000
0.0000
0.0000
0.0000
0.0000
0.0000
0.0000
Commitment fee
0.0300
0.0000
0.0000
0.0000
0.0000
0.0000
0.0000
0.0000
0.0000
Agency fee
0.0300
0.0300
0.0300
0.0300
0.0300
0.0300
0.0300
0.0300
0.0000
Guarantee fee
0.0000
0.1200
0.2400
0.2400
0.2400
0.2400
0.1800
0.1200
0.0600
Net Cash Flow in $
19.7400
18.9600
-2.2400
-2.6200
-2.5300
-12.5400
-11.7250
-11.1400
-10.5475
Exchange rate (Rs./$)
48.1300
48.9600
49.5700
50.7500
50.9800
51.2400
51.8600
52.7500
53.4800
928.2816 -111.0368
-132.9650
-128.9794 -642.5496
-608.0585
-587.6350
-564.0803
Net Cash Flow in million Rs.
950.0862
Effective cost of borrowing to Saubhagya is the IRR of the above cash flow = 7.48% As the company is getting the amount indegineously at cheaper rate of 7.25%, it should accept the loan from IDBI. Moreover, for a rupee loan taken from IDBI, there is no exchange risk involved as in the case of ECB. 3.
(a) EPS for the year 2002-2003: Particulars
Rs. lakhs 150.00 1.75 20.00 128.25 83.363 15
EBIT Interest on FCDs (0.25 x 0.14 x 50) Interest on Term loan (0.1 x 200) EBT EAT 128.25 x 0.65 Number of shares (in lakhs) 83.363 EPS (in Rs.) = 15
5.56
EAT for the year 2003-2004: Particulars Expected EBIT = 150 (1.25) Interest on FCDs (0.5 x 0.14 x 50 + 0.5 x 0.4 x 0.14 x 50) Interest on Term loan (0.1 x 200) EBT EAT Minimum required EPS = 5.56 x 0.8 = Rs.4.448 ∴ Maximum number of shares MCL can have =
105.69 = Rs.23.761 lakhs 4.448
Existing shares = 15 lakhs. Rs.50,00,000 × 2 = 1, 00, 000 Rs.100 Maximum number of shares through rights issue = 23.761 – [15 + 1] = 7.761 lakh shares Shares on conversion during September 2003 =
19
Rs. lakhs 187.50 4.90 20.00 162.60 105.69
Number of shares eligible for rights share: Existing shares Shares on conversion during September 2003 Shares to be converted during June 2004
15,00,000 1,00,000 50,000 16,50,000
16.5 = 2.1(approximately) 7.761 A shareholder owning 2.1 shares is entitled to one right share. Maximum rights ratio =
b.
Subscription price =
200 = Rs.25.77 7.761
Existing market price = 5.56 x 7 = Rs.38.92 Ex-rights price =
4.
a.
2.1× 38.92 × +25.77 = Rs.34.68. 2.1 + 1
First monthly payment under pledged account mortgages loan = Rs.8,765 From the fourth year, the EMI of PAMs are equal to EMIs under Traditional loans. During these four years, the installments increase at the rate of 5% p.a. Hence, EMIs from the fourth year under PAMs /EMIs under traditional loan = 8,765 × (1.05)3 = Rs.10,147 Interest rate under traditional loan is the value of r in the following: 10,147 PVIFAr,180 = Rs.10,00,000 PVIFAr,180 = 98.551 At r = 1%, PVIFA1%,180 = 83.322 At r = 0.5% PVIFA0.5%,180 = 118.504 By interpolation, r
b.
=
0.5 +
118.504 − 98.551 × 0.5 118.504 − 83.322
= 0.78% = 9.77%p.a. The amount to be drawn from savings account will be as follows:
(Rs.)
EMI under EMI under Drawings from Traditional PAM savings A/c Mortgage 1 10,147 8,765 1,382 2 10,147 9,203 944 3 10,147 9,663 484 4-15 10,147 10,147 – Amount to be deposited in savings account = 1382PVIFA0.5%,12 + 944PVIFA0.5%,12 PVIF0.5%, 12 + 484PVIFA0.5%, 12 PVIF0.5%, 24 = PVIFA0.5%, 12 [1382 + 944PVIF0.5%, 12 + 484PVIF0.5%, 24] = 11.619 [1382 + 944 × 0.942 + 484× 0.887] Year
= 5.
Rs.31,320.
Total sales = 90 x 1.1 = Rs.99 lakhs Cost of existing system: A. Cash Discount = 0.02 x 0.30 x 99 B. Bad debts = 0.01 x 99 C. Administration expenses
= Rs.0.594 lakhs = Rs.0.99 lakhs = Rs.0.85 lakhs 20
Average collection period = 0.3 x 10 + 0.7 [.90 x 60 + 0.1 x 90] = 47 days 47 47 + 0.19 x 0.25 x 99 x = Rs.1.68 lakhs 360 360 Total costs of existing partern of working capital finance = A + B + C + D = 4.114. Bill discounting is another way of financing debts in the form of bills. As management of bills receivable is maintained by the company all the costs other than costs of funds associated with in-house manaement have to be borne apart from the discount charge of bill discounting. Thus, Costs of bill discounting includes: E. Cash discount (same as above) = Rs.0.594 lakhs F. Bad debts (same as above) = Rs.0.99 lakhs G. Administrative expenses (same as above) = Rs.0.85 lakhs H. Discount charge = 0.12 x 0.7 x 99 x 60/360 = Rs.1.386lakhs Total costs of bill discounting = E + F + G + H = Rs.3.82 lakhs Costs of factoring: I. Commission = 0.015 x 99 = Rs.1.485 lakhs J. Discount = 0.17 x 45/360 x 99 x 0.90 = Rs.1.893 lakhs K. Cost of own funds = 0.19 x 45/360 x 99 x 0.10 = Rs.0.235 lakhs Total Costs of factoring = I + J + K = Rs.3.613 lakhs As factoring costs are less than that of existing system and bill discounting, factoring should be preferred.
D. Cost of own funds = 0.11 x 0.75 x 99 x
21
Part C: Applied Theory 6.
The CP market is continually seeing innovations. The following are a few innovations that are seen in foreign markets. Master note is a new financial paper issued by finance companies to bank trust departments and other permanent money market investors. In an arranged agreement, the investing firm notifies the issuing company as to how much paper it will purchase on that particular day, and issuing company in turn issues a paper on the maximum agreed amount. The interest on daily papers are pooled and are taken by the investors during the current month. Medium-term notes are unsecured obligations, papers with a maturity period of 9-10 months. These are issued by investment grade corporations at a fixed interest rate. These papers suit companies with substantial quantities of medium-term assets as these papers have longer maturities when compared to conventional CPs and IOUs. Asset-backed commercial paper gives credit at a lower interest rate to the corporates. This paper is nothing but, a pool of loans or credit receivables made into packages. These packages are issued in the form of a paper, and these loans or receivables are removed from the issuing companies’ balance sheet and are placed in a special-purpose entity (SPE). SPE issued the commercial paper to cover discount price and uses the proceeds for purchase of the receivables. The issuing customer usually services the underlying receivables, collects interest and principal payments and passes the funds to SPE. In the process a bank is chosen for servicing the receivables supporting the paper issue.
7.
Co-branded card is the card issued by a card issuer who has a strategic partnership with a commercial entity. For example, Standard Chartered-Railway credit card, Jet-Citibank, etc. Benefits to the partners: The card issuer can increase its customer base and can build loyalty. The merchant establishment gains in terms of brand image and business that might otherwise have not come its way. Customers benefit as they gain value from two organizations i.e. from the card issuer and the merchant establishment i.e. more value for same price. A customer has to opt for a co-branded card only when he is sure to derive the relevant benefit from it i.e. a customer can choose a Jet-Citibank card if he is a frequent flier and Bharat-Bob card can be opted by a person who spends substantial amounts on petrol. A customer opting for a co-branded card should also check whether the card offers true value for money. He should check whether a co-branded card is costing more than the normal card if so whether the card is giving the added benefits or not.
22