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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.
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. Compute the minimum increase in the sales to make factoring a viable option.
b. 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 : Rs. 800 crore
Net profit margin : 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 Rs.
Equity capital: Issued and fully paid
(10,00,000 shares of Rs.10 each) 1,00,00,000
Reserves & surplus 1,80,00,000
Long-term debt 3,50,00,000
Market price per share Rs.20
Earnings per share 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 (%) Probability
0 0.10
10 0.20
20 0.25
30 0.30
40 0.15
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
Suggested Answers
Investment Banking and Financial Services-I (261) : April
2006
Section A : Basic Concepts
1. Answer: (a) < TOP >
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.
3. Answer: (d) < TOP >
Reason: Asian Dollar CDs carry both fixed and floating interest rates.
Hence (a) is the correct answer.
6. Answer: (c) < TOP >
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) < TOP >
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) < TOP >
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) < TOP >
Reason : Leveraged lease has the third party attached, a lender , to it.
19. Answer : (d) < TOP >
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) < TOP >
Reason: The finance company cannot borrow more than ten times its net
owned funds.
Hence (e) is the correct answer.
26. Answer: (b) < TOP >
Reason: A bow tie is designed to protect both the borrower and the lender
against volatile interest rates.
30. Answer : (b) < TOP >
⎛ 16 × 20 ⎞ + 16
⎜ ⎟
⎝3 ⎠ = Rs.19.37 = Rs.19.37
⎛ 16 + 1⎞
⎜ ⎟
= ⎝3 ⎠
Market price 19.37
= = 5.47
P/E ratio = EPS 3.54
c. i. If a shareholder who owns 1000 shares sells his rights.
Market value of original shareholding @ Rs.20 = 1000 × 20 = 20,000
P0 − S
Value realized from the sale of rights R = N + 1
20 − 16
= 0.6315
⎛ 16 + 1⎞
⎜ ⎟
= ⎝ 3 ⎠
1000 × 0.6315 = 631.57
Post-rights market value of the holding 1000 × 19.37 = 19,370.00
20,001.57
ii.
If he allows his rights to expire
Current market value of the investment = 20,000
Market value after the rights issue @ 1,000 × 19.37 = 19,370
Change in Wealth = 630
< TOP >
5.
(Price –Avg. Price) (Price – Average Price)2 (Price – Average Price)2 × Prob.
2
-83.64 6995.65 174.89
-68.64 4711.45 141.34
-23.64 558.85 19.56
21.36 456.25 4.56
-67.14 4507.78 225.39
-50.64 2564.41 153.86
-1.14 1.30 0.09
48.36 2338.69 46.77
-63.84 4075.55 254.72
-47.04 2212.76 165.96
3.36 11.29 0.99
53.76 2890.14 72.25
-34.14 1165.54 87.42
-14.64 214.33 19.29
43.86 1923.70 201.99
102.36 10477.57 314.33
-17.64 311.17 11.67
3.36 11.29 0.51
66.36 4403.65 231.19
129.36 16734.01 251.01
2377.79
Standard deviation 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 – 0.67
x -μ
≥ − 0.67
Z= σ
x − 248.64
≥ − 0.67
48.76
x ≥ 215.97
Target return ≥ 45%
215.97 − P
≥ 0.45
i.e. P
P ≤148.94.
Hence, Franklin Venture Fund should invest at the rate of 148.94 per share.
< 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 FD’s, 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 >
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.
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)
< Answer >
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. Straight equity investment.
ii. 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.
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:
State government ratings include those in the public domain such as ratings of state government < Answer >
6
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
analyst which factors will you consider to rate the State Governments?
(10 marks)
Information Technology (IT) plays vital role in the development of the financial service industry. < Answer >
7
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
Suggested Answers
Investment Banking and Financial Services-I (261): October
2006
Section A : Basic Concepts
1. Answer : (c) < TOP >
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
• 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) < TOP >
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.
3. Answer: (c) < TOP >
Reason: 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.
Reason: The warrants attached to the instruments can be traded freely as individual security.
Hence (b) is the correct answer.
5. Answer: (b) < TOP >
Reason: Certain currency risks are inherent in the multi-currency loans. Multi-currency loans to some
extent represent a natural expansion of Euro dollar loans.
Hence (b) is the correct answer.
6. Answer: (e) < TOP >
Reason: All the mentioned securities are eligible for Repo transaction. Hence (e) is the correct answer.
7. Answer: (d) < TOP >
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.
8. Answer: (d) < TOP >
Reason: Treasury bills are eligible for SLR. All other options are correct.
Hence (d) is the correct answer.
9. Answer : (d) < TOP >
Reason: Switch deals do not have any impact on the money supply. Hence statement III is incorrect and (d) is
the correct answer.
10. Answer : (e) < TOP >
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.
11. Answer : (b) < TOP >
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.
12. Answer : (c) < TOP >
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.
13. Answer : (e) < TOP >
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.
14. Answer : (d) < TOP >
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.
15. Answer: (e) < TOP >
Reason: All the statements regarding bank participation in equipment leasing are correct.
Hence (e) is the correct answer.
17. Answer : (d) < TOP >
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.
18. Answer : (e) < TOP >
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.
19. Answer : (d) < TOP >
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.
20. Answer : (d) < TOP >
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.
21. Answer : (b) < TOP >
Reason: A fixed deposit with a NBFC cannot be withdrawn within 3 months from its acceptance.
Hence (b) is the correct answer.
< TOP >
22. 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.
< TOP >
23. 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.
24. Answer : (e) < TOP >
Reason:
Rs. lakhs
Advance provided 15.000
Less: Commission 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.
25. Answer : (c) < TOP >
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.
26. Answer : (d) < TOP >
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.
28. Answer : (c) < TOP >
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.
29. Answer : (d) < TOP >
(Rs. lakhs)
Year Loan o/s in the beginning Interest content Capital content Rental
1 58.87 10.01 16.63 26.64
2 42.24 7.18 19.46 26.64
3 22.78 3.87 22.78 26.64
Hence (d) is the correct answer.
30. Answer : (c) < TOP >
∑X i
=
19.8 ∑Y i
=
156
X = n 12 = 1.65 Y = n 12 = 13
∑X 1
=
12 ∑Y 1
=
108
X1 = n1 6 = 2.00 Y1 = n1 6 = 18
∑X 2
=
7.8 ∑Y 2
=
48
X2 = n2 6 = 1.30 Y2 = n2 6 =8
dx = X1 − X 2 = 0.70 dy = Y1 − Y2 = 10
1 1
σ X 2 = n −1
∑ ( Xi −X)2 = 11 x1.97 = 0.1791
1 1
σ Y 2 = n −1
∑ ( Yi − Y)2 = 11 x 558 = 50.727
1 1
σ XY
∑ (X i − X) (Yi Y ) = x 20.80 = 1.891
= n −1 11
=1005
10+3.43x = 1005
x = Rs.290 (approximately)
b. 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 rentals
Year Lease Rentals PV @18%
1 63.80 54.07
2 70.18 50.40
3 77.20 46.99
4 84.92 43.80
5 93.41 40.83
Total 236.09
PV of tax shield on lease rentals = 236.09(0.3)
= Rs.70.83 lakh
1 + 1/ N ∑ rit
i =1
n
1 + 1/ N ∑ rmt
Wealth realtive can found out by the formulae = i =1
= 1 + 1 / 15 (34.64) = -0.064. Wealth relative is less than 1. Hence IPOs have underperformed the market.
Question Paper
Investment Banking and Financial Services-I (261): July 2006
Section 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 of 22 9/26/2008 7:15 PM
Suggested Answers with Examiner's Feedback file:///C:/Documents%20and%20Settings/neeraj/Desktop/Neeraj/IBFS/...
(b) The Executive Committee consists of 19 members and it looks after the day-to-day functioning
of the organization and strives to attain the objectives
(c) The Technical Committee consisting of 16 members, addresses major regulatory issues and
generates practical responses to these concerns
(d) The Emerging Market Committee endeavors the promotion and development of efficient
securities and futures market in developed countries
(e) The SRO Consultative Committee is constituted by the affiliate members of IOSCO and
enables SROs to provide constructive and substantial inputs to the regulatory initiatives of the
organization.
< Answer >
5. Divestitures involve sale of assets or business entities. The assets may be tangible like manufacturing
unit, product line, etc., or intangible assets like brand distribution network, etc. Sometimes the business
entity as a whole may be sold to third party. The reasons for divestitures are varied. Which of the
following may not be the reason for the planned divestiture?
(a) Strategic decisions to exit from a certain industry
(b) Poor business fit with the other company
(c) Severe competition
(d) Technological factors
(e) Increase in margins.
< Answer >
6. In case of Book Built issues, the minimum period for which bidding will be open is 3 working days.
The maximum period for which bidding will be open and the maximum number of days by which it
can be extended in case of a revision in the price band are
(a) 6 days and 2 days respectively
(b) 6 days and 3 days respectively
(c) 7 days and 2 days respectively
(d) 7 days and 3 days respectively
(e) 10 days and 4 days respectively.
< Answer >
7. Consider the following data of Spice Air Ltd.
Paid-up equity capital (10,00,000 shares of Rs.10 each) Rs.1,00,00,000
Retained earnings Rs.2,00,00,000
Earning power 20%
Interest Rs. 20,00,000
Total assets Rs.7,00,00,000
The tax rate applicable to the company is 35%. The P/E ratio of the company is 10. The company
proposes for a right issue of 2,00,000 shares at the subscription price of Rs.20. The value per share after
the right issue is expected to be
(a) Rs.63.33
(b) Rs.66.33
(c) Rs.68.33
(d) Rs.72.00
(e) Rs.73.67.
< Answer >
8. Private placement of securities is one of the most popular avenues of raising capital. Private placement
is a method of raising capital in which companies directly sell their securities to a limited number of
“sophisticated and discerning” investors. Which of the following is the feature of private placement?
(a) There are high entry barriers for the private placement market
(b) There is no need for registration of the offer document with SEBI
(c) The terms of the issue can not be negotiated between the issuers and the investors
(d) The transaction costs are very high
(e) Credit rating is mandatory in case of debt instruments.
< Answer >
9. A practical framework for Indian companies to acquire companies abroad, necessitates that Indian
companies be given a potent currency of comparable rights both in India and abroad. An ideal
mechanism would be Indian Depository Shares (IDSs). The significant advantages of IDSs is/are
I. Reduces the number of available potential targets, both in terms of quality and strategic fit.
II. Provide an engine for high velocity growth by increasing the flexibility to the merged/combined
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(c) High LTV are quoted in times of lower interest rates and easy market conditions
(d) High LTV are quoted only for newer and readily marketable properties
(e) An LTV of 90% means that the borrower would have to make a down payment of 10% of the
value of the property.
< Answer >
27. Which of the following is/are true with respect to finite-life Real Estate Investment Trust?
I. These trusts have specific life spans, between 3 and 10 years.
II. At the end of the specified life time the trust must be liquidated.
III.The finite life is intended to reduce the disparity between the market price of the REIT shares and
the underlying value of its real estate assets and thus warding off hostile takeovers.
(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 >
28. A finance company can also tap the money market through issue of Commercial Paper (CPs) subject to
the provisions of Non-Baking companies Directions, 1989. Which of the following is not the salient
feature of the issue of CPs by a finance company?
(a) The CPs are issued at discount and redeemed at par
(b) The discount rate is subject to the cap and can not be freely determined by the issuer
(c) The CPs can not have a maturity period of less than 3 months and more than 6 months
(d) The CPs will be in the form of usuance promissory note negotiable by endorsement and delivery
(e) The aggregate amount that can be raised through issue of CPs can not exceed 75% of the
company’s working capital limit fixed by the bankers to the company.
< Answer >
29. There are several strong reasons in favour of leasing over buying but there are some shortcomings
associated with the asset-based financing. Which of the following is/are true with respect to the
shortcomings associated with the asset-based financing?
I. Most of the equipment lease transactions are structured as finance leases, the flexibility of lessee
to disinvest is seriously undetermined.
II. Propelled by the dubious advantage of ‘Off Balance Sheet Financing’ or one firm can afford to
increase its exposure to leasing beyond reasonable limits.
III. In perfectly competitive financial market, the cost of leasing tends to be higher than the cost of
other forms of borrowings.
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END OF SECTION A
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The company also charges the processing fees lower by 25 basis points than the competitors. The
processing fee charged by the competitors is 1%.
Mr. Resham Jain, who is a well known stock broker in Ahmedabad, wants to buy a new car
launched by General Motors. The cost of the car is Rs.10,50,000. He wants the loan for the period
of four years. He has analyzed the finance schemes available in the market and selected the scheme
offered by the Optra Financial Services. But still he is not sure of his selection so he has given you
the scheme for further analysis and asked you to:
a. Calculate the flat rate of interest charged on the four year car loan.
b. Calculate the effective rate of interest on the completed transaction if Mr. Resham Jain opts to
prepay by 36th months. Optra Financial Services calculates the interest rebate according to
Rule of 78 method.
(2 + 6 = 8 marks)
< Answer >
3. Mr. Srinivas has taken a loan of Rs.5,00,000 from Angel Housing Finance Ltd., for purchasing an
apartment according to graduated payment mortgage scheme for 10 years.
Terms and conditions of the loan are as follows:
i. Tenure – 10 years
ii. Payment – Monthly
iii. Interest – 12% p.a. compounded monthly
iv. The borrower needs to make graduated monthly payments for 5 years with payments
increasing at a rate of 8% in the second, 7% in third year, 6% in fourth year and at a rate of
5% for the next year and thereafter the payments would be as equated monthly installments.
You are required to draw a payment schedule of the housing loan taken by Mr. Srinivas.
(5 marks)
< Answer >
4. Prime Engineering Ltd. has awarded National Bank a syndication mandate for US $ 600 million, 5
year facility. The bank underwrites US $ 200 million and 4 other Banks underwrite US $ 50 million
each.
The company agrees the following terms:
Tenure 5 years
Repayment Bullet Payment
Spread Payable annually at 100 Basis Points over LIBOR
Facility fee 25 Basis point per annum
Arrangement fee 50 Basis point payable upfront as under:
15 Basis point on amount of loan.
25 Basis point on amount underwritten.
10 Basis point on amount of commitment.
Each underwriter retains US $ 60 million and there are 15 participant banks with US $ 20 million
each.
Collin Bank is appointed Agent Bank with annual fee of US $ 20,000.
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6. Shah Financial Services Limited (SFSL) is a financial service company. It offers lease, hire < Answer >
purchase and bill discounting facilities to its customers. SFSL is well reputed for its
flexibility in structuring the lease rentals.
Under hire purchase plan, the company requires 25% of the cost of assets as down payment
and charges a flat rate of interest of 12%. The installments under the hire purchase plan are
required to be paid monthly in arrear over the period of 4 years. The lease rentals are so
structured so as to earn same IRR (after rounding off to the nearest percentage point) as on
hire deals.
SFSL was approached by Elgi Equipment Limited (EEL) for funding its investments in a
plant worth Rs.500 crore for its expansion program. The estimated life of the plant is 4 years
after which it is expected to have a salvage value of 15% of the cost of the asset. The relevant
rate of depreciation of the plant is 25% on WDV basis. EEL expects to generate a steadily
increasing cash flows and requests SFSL for a stepped up pattern of lease rentals, the
increase in rentals being 12% p.a. over a period of 4 years. The company allocates interest on
SOYD basis and is in the tax bracket of 30%.
Ignore interest tax.
You are required to calculate
a. The lease rentals to be charged by SFSL.
b. The gross yield on the lease transaction.
(10 + 4 = 14 marks)
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END OF SECTION B
Suggested Answers
Investment Banking and Financial Services-I (261): July 2006
Section A : Basic Concepts
1. Answer : (b) <
TOP
Reason: The money market is a wholesale debt market for a low risk, highly liquid short term >
instruments having the maturity ranging from a single day to a year.
Hence (b) is the correct answer.
2. Answer : (e) <
TOP
Reason: All are the risk associated with the money market instruments. >
Hence (e) is the correct answer.
3. Answer : (e) <
TOP
Reason: The specific objective of SD is to promote retail investment. All other statements are correct >
for PDs.
Hence (e) is the correct answer.
4. Answer : (d) <
TOP
Reason: The following are true with respect to the committees: >
The main purpose of President’s Committee is to achieve the objectives of IOSCO and meets
once in a year
The Executive Committee consists of 19 members and it looks after the day to day
functioning of the organization and strives to attain the objectives
The Technical Committee consisting of 16 members, addresses major regulatory issues and
generates practicle response to these concerns
The Emerging Market Committee endeavors the promotion and development of efficient
securities and futures market in developing countries
The SRO Consultative Committee is constituted by the affiliate members of IOSCO and
enables SROs to provide constructive and substantial inputs to the regulatory initiatives of the
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organization.
Hence (d) is the correct answer.
5. Answer : (e) <
TOP
Reason: Following may be the reasons for the planned divestiture: >
Strategic decisions to exit from a certain industry
Poor business fit with the other company
Severe competition
Technological factors
Shrinking margins
Continuous losses in a particular line of activity.
Hence (e) is the correct answer.
6. Answer : (d) <
TOP
Reason: In case of Book built issues, the minimum and maximum period for which bidding will be >
open is 3 – 7 working days extendable by 3 days in case of a revision in the price band.
Hence (d) is the correct answer.
7. Answer : (c) <
TOP
Reason: >
Paid-up equity capital (10,00,000 shares of Rs.10 each) Rs.100,00,000
Retained earnings Rs.200,00,000
Earning before interest and taxes: (700,00,000 0.20) Rs.140,00,000
Interest Rs.20,00,000
Profit before tax Rs.120,00,000
Profit after tax Rs.78,00,000
EPS Rs.7.8
Market price per share Rs.78
Number of existing shares required for a rights share 5
(10,00,000/2,00,000)
The value of share after the rights issue:
Rs. 68.33
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Section B : Problems
1. Mr. Vrajesh is having silver credit card so, maximum interest free period available is for 50 days. Therefore he
can pay the amount before 20th of May without paying any interest.
Here in this case Mr. Vrajesh has not made the payment due, on time. Therefore he is required to pay the interest
and the late payment charges. Calculation is as follows:
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f = 13.00%
b. A. Loan Amount = 10,50,000 0.80 = Rs.8,40,000
Installment = = Rs.26,602.8
B. PV of EMIs = 26,602.8
C. Processing fee = 0.0075 8,40,000 = 6,300
Total charge for credit = (26,602.8 48) – 8,40,000 = Rs.4,36,934.4
=1.927% p.m.
Now, we will calculate the annualized interest rate, i.e.
–1
=1.25739–1
=25.74% p.a.
< TOP >
st
3. Let the monthly installment in the 1 year be Rs. X
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\ X PVIFA1%12 + X (1.08) PVIFA1%,12 PVIF 1%, 12 + X(1.08) (1.07) PVIFA 1%,12 PVIF 1%,24 + X(1.08)
(1.07)(1.06) PVIFA 1%,12 PVIF 1%,36 + X(1.08) (1.07)(1.06)(1.05) PVIFA 1%,12 PVIF1%,48 + X(1.08)
(1.07)(1.06)(1.05)PVIFA 1%,60 PVIF1%,60 = 5,00,000
\ 11.2551X[1+(1.08 0.8874)+(1.1556 0.7876)+(1.2249 0.6989)+(1.2862 0.620)] + (1.2862X 0.5504
44.955) = 5,00,000
\ 11.2551X[1+0.9584+0.9102+0.8561+0.7974]+31.825X=5,00,000
\ 50.90X+31.83X=5,00,000
\ X=6043.76
Repayment schedule:
Year Graduated monthly payment made(Rs.)
1 6043.76
2 6572.26
3 6984.17
4 7403.22
5-10 7773.38
< TOP >
4. a.
Loan 600
Less: Arrangement fee 3
597
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6. IRR is the required rate on the hire transaction at which NPV (HP) is equal to zero.
– Loan amount + PV of hire rentals – PV of tax on finance charge = 0
A. Loan Amount = 500 0.75 = Rs.375 crore.
= 138.72
C. Allocation of finance charge:
Total charge for credit = 375 0.12 4 = Rs.180 crore.
(Rs. in crore)
Year SOYD factor Interest
1 510/1176 78.06
2 366/1176 56.02
3 222/1176 33.98
4 78/1176 11.94
PV of tax on finance charge
=[ ] 0.30
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[–375+(138.72 ) –
]=0
At 14%
LHS = –375 + (138.72 2.9137 1.0626) – 42.48
= 12.01
At 16%
LHS = –375 + (138.72 2.7982 1.0714) – 41.18
= –0.3
By interpolation
=15.95%
= 16% (rounded off)
Lease rentals during the first year of the lease term is the value of ‘L’ at which NPV (lease) at 16% = 0
A. Investment cost = Rs.500 crore
B. PV of lease rentals =
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B. PV of lease rentals =
C. PV of salvage value = 75
Gross yield is the value of ‘i’ in the following:
–500 + + 75 =0
At 23% LHS = 8.52
At 24% LHS = –1.65
By interpolation
= 23.84%.
<TOP>
8. Lead Manager
In the pre-issue process, the Lead Manager (LM) takes up the due diligence of company’s operations/
management/ business plans/ legal etc. Other activities of the LM include drafting and design of Offer documents,
Prospectus, statutory advertisements and memorandum containing salient features of the Prospectus. The BRLMs
shall ensure compliance with stipulated requirements and completion of prescribed formalities with the Stock
Exchanges, RoC and SEBI including finalization of Prospectus and RoC filing. Appointment of other
intermediaries viz., Registrar(s), Printers, Advertising Agency and Bankers to the Offer is also included in the
pre-issue processes. The LM also draws up the various marketing strategies for the issue.
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The post issue activities including management of escrow accounts, coordinate non-institutional allocation,
intimation of allocation and dispatch of refunds to bidders etc are performed by the LM. The post Offer activities
for the Offer will involve essential follow-up steps, which include the finalization of trading and dealing of
instruments and dispatch of certificates and demat of delivery of shares, with the various agencies connected with
the work such as the Registrar(s) to the Offer and Bankers to the Offer and the bank handling refund business. The
merchant banker shall be responsible for ensuring that these agencies fulfill their functions and enable it to
discharge this responsibility through suitable agreements with the Company.
The Registrar
The Registrar finalizes the list of eligible allottees after deleting the invalid applications and ensures that the
corporate action for crediting of shares to the demat accounts of the applicants is done and the dispatch of refund
orders to those applicable are sent. The Lead manager coordinates with the Registrar to ensure follow up so that
that the flow of applications from collecting bank branches, processing of the applications and other matters till
the basis of allotment is finalized, dispatch security certificates and refund orders completed and securities listed.
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Question Paper
Investment Banking and Financial Services-I (261) : January 2007
Section 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.
(a) Stock split, which is mutually agreed upon by the shareholders and the management
(b) Mutual decision between the management and the various stakeholders to wind up the company
(c) Share buy-back, mutually agreed between the Institutional investors and the promoters of the
company
(d) Separation of ownership and trading rights of brokers in a stock exchange
(e) Conversion of the debt into equity with the conversion ratio mutually decided between the
debenture holders and the management.
< Answer >
16. Which of the following is/are true with regard to Mortgage Pass-Through Securities?
I. In pass through securities the holder has the proportionate interest according to the securities held
in cash flow generated from the mortgage pool.
II. If it is sold, it is to be considered as an issuance of debt obligations of the originator of the
mortgages.
III. It promises that the cash flow from the underlying mortgages would be passed through to the
holder of the security in the form of monthly payments of interest, principal and prepayments.
(a) Only (I) above
(b) Only (II) above
(c) Both (I) and (III) above
(d) Both (II) and (III) above
(e) All (I), (II) and (III) above.
< Answer >
17. Akar Finance Ltd. has the net owned funds amounting to Rs. 5 crore. The maximum amount of
intercorporate deposit, the company can raise, is
(a) Rs. 5.0 crore
(b) Rs. 7.5 crore
(c) Rs. 10.0 crore
(d) Rs. 12.0 crore
(e) Rs. 15.0 crore.
< Answer >
18. Which of the following clauses of the lease agreement stipulates that the lessee shall not sell, assign,
pledge or otherwise encumber lien upon or against the equipment?
(a) Description clause
(b) Period clause
(c) Equipment delivery clause
(d) Ownership clause
(e) Surrender clause.
< Answer >
19. Amar Finance Ltd. has the policy of discounting the L/C backed bills of Rs.1000 of its clients at 20%.
The annual effective rate of interest implied by the bill with a usance period of 90 days is
(a) 22.75%
(b) 23.50%
(c) 24.00%
(d) 25.00%
(e) 25.75%.
< Answer >
20. Which of the following are false with respect to Leveraged Lease Transaction (LLT)?
I. The leveraged lease has the third party called lender attached to it.
II. The debt fund raised by the leasing company is without recourse to the lessee.
III. The trustee to the transaction remits the debt service component of the rental to the lender and the
balance to the lessor.
IV. LLT allows the lessee to claim tax shields on the depreciation.
(a) Both (I) and (III) above
(b) Both (II) and (IV) above
(c) (I), (II) and (III) above
(d) (II), (III) and (IV) above
(e) All (I), (II), (III), and (IV) above.
< Answer >
21. A lease where the relative magnitude of investment involved is quite high, is known as
(a) Capital lease
(b) Sale and leaseback
(c) Swap lease
(d) Big ticket lease
(e) Finance lease.
< Answer >
22. Mr. Pranav is intending to own a house worth of Rs.3,75,000. He is sanctioned 75% of the cost of the
house as loan. The interest rate on loan is 15% and tenure for the same is 20 years. The EMI payable by
him on this loan is
(a) Rs.3,003.47
(b) Rs.3,203.74
(c) Rs.3,530.74
(d) Rs.3,703.47
(e) Rs.3,803.47.
< Answer >
23. Money Market Mutual Fund is a special category of Mutual Fund,
(a) Which provides higher returns to an investor as compared to debt funds
(b) Which provides an investor the choice to invest for medium-term
(c) Where safety level of the investment is high
(d) Where liquidity is inadequate
(e) Which invests mainly in unrated paper to generate high returns.
< Answer >
24. Which of the following CDs carries both fixed and floating interest rates?
(a) Asian Dollar CD
(b) Installment CD
(c) Rising Rate CD
(d) Thrift CD
(e) Yankee CD.
< Answer >
25. If invoice discounting is not confidential in nature, the customers of the client are advised to make
payment directly to the factor. This facility, if offered with a non recourse feature, is known as
(a) Protected invoice discounting
(b) Bulk factoring
(c) Agency factoring
(d) Full factoring
(e) Old line factoring.
< Answer >
26. Consider the following extract of balance sheet of M/s. Patel Ltd. for the year ended March 31, 2006:
Particulars Rs. lakh
Net worth 180
Long term debt 60
Current liabilities 120
Fixed assets 120
Inventory 80
Receivables 180
Cash 20
M/s. Parikh Ltd. has agreed to factor the receivables of M/s. Patel Ltd. and has given 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) 1.67; 3.67
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 is the chairman of India Glass Ltd. which is a subsidiary of US Glass Inc. of US. Mr. Vrajesh is planning to modernize Answer
the bottling plant of the company. For which he will require some CNC machines. Germany is the technological leader in the world >
so; he has decided to buy the equipment form Computech Ltd., Germany. Details of the CNC machines are as follows:
• Cost of the machines is Rs.150 crore
• Life of the machines is 5 years
• Salvage value of the machines after 5 years will be nil.
• The machines are eligible for a tax relevant depreciation of 30% p.a.
Due to unavailability of sufficient funds to acquire the equipment, India Glass Ltd. has proposed to enter in to a cross border lease
agreement with UK based leasing company, Thomas Financial Services (TFS). TFS has agreed to lease the equipment for a period
of 5 years and the rentals will be payable every year in advance. TFS structures its lease transaction to earn 15% and the tax rate
applicable to TFS is 25%. Assume that the lease transaction in UK is treated as a ‘true lease’, in US it is treated as a sale and in
Germany it is treated as an installment sale.
You are required to
a. Determine the lease rentals of India Glass Ltd. to be paid to TFS.
b. Structure a double dip transaction involving the US Glass Inc. in such a way that the lease rentals payable by India Glass Ltd.
is lower than the lease rentals arrived at (a) above and also determine the lease rentals of such double dip transaction.
(Assume that the required rate of return and the effective tax rate of the US Glass Inc. are 15% and 25% respectively and the
company uses SOYD method of allocation of interest and the same pattern of lease rentals payments.)
(3 + 7 = 10 marks)
<
2. Pantaloon Retail Ltd. is proposing to expand its existing ‘Central’ chain of retail super markets in North and South India during the Answer
year 2006-07. It has estimated the cost of expansion to be around Rs.1000 crore. The company is considering the following two >
alternatives for financing the project:
I. Issue of 1 crore equity shares of face value of Rs.10 at a premium of Rs.1340 per share
II. 6-year Floating Rate Notes (FRN) of face value of Rs.5000.
Basis of Interest of FRN:
The rate of interest on these notes would be fixed at a mark up of 1.5% over SBI PLR at the beginning of each year from the
deemed date of allotment. The interest will be calculated on the outstanding principal amount every year. At any time during
the tenure of the bond, interest on these bonds will not be less than 9% or more than 12.25%.
Annual Payment of FRN:
For every Rs.5000 investment, the holder of the FRN would be paid an amount of Rs.1250 at the end of every year for the
first five years from the deemed date of allotment.
The amount of Rs.1250 would comprise of interest on the principal amount outstanding as at the beginning of every year
and part principal redemption. The annual payment will be adjusted first towards interest part and the balance towards
principal.
The last payment comprising principal outstanding and interest payable would be made at the end of year 6 from the date of
allotment.
Future Interest Rate Scenario:
At the time of issue, SBI PLR is 10.25%. Future SBI PLR as predicted by leading market analysts is as follows:
The data from the financial statements of Pantaloon Retail Ltd. for the year 2005-06 is given below:
Particulars Rs. in crore
Equity Capital (Face value: Rs.10) 2000.00
Reserves and Surplus 500.00
Term Loan @ 12% 400.00
EBIT 4300.00
Effective Tax Rate 23%
Dividend 30%
The following estimates are given by the VP Finance of Pantaloon Retail Ltd.:
• EBIT is expected to increase by 30% for the year ended 2006-07
• In future the dividend is expected to increase by 10% p.a.
• Issue expenses in case of equity and FRN would be 2.00% and 0.75% respectively
You are required to recommend the best alternative to fiancé the project based on the cost of funds to the company.
(10 marks)
<
3. Shah Exports Ltd. has proposed to expand its operations for which it requires funds of $5 million, net of issue expenses which Answer
amount to 2% of issue size. It proposed to raise the funds through GDR issue. The EPS of the company for the past few years are as >
follows:
Year 2001 2002 2003 2004 2005 2006
EPS Rs.10.00 Rs.57.50 Rs.64.00 Rs.67.50 Rs.53.45 Rs.56.25
At the end of the year 2002, the company announced a reverse stock split of 5:1. The company announced the bonus issue of one
share for every three shares held at the end of 2005. The current dividend payout ratio of the company is 25% and is expected to
remain same in the future. The past growth rate in dividends is expected to continue indefinitely. Other particulars are as follows:
• Three shares underlie each GDR.
• Underlying shares are priced at 5% discount to the market price.
• Expected exchange rate at the time of GDR issue is Rs.45/$.
• Current risk free rate is 6% and is expected to remain same.
• Beta of the stock is 1.12 and is expected to remain same.
• Risk premium is 9% and is expected to remain same.
You are required to compute
a. The number of GDRs to be issued.
b. The cost of GDRs to the company.
c. Gains/losses to the holder of 100 GDRs, if the company proposes a rights issue after the GDR issue in the ratio of 1:3 at a
subscription price of Rs.200 per share at the end of 2007. Assume the GDR holder exercises the rights and sells his entire
holding at the prevailing GDR price.
Assume the Rs/$ exchange rate at the time of rights issue and sale by GDR holder is Rs.46/$.
(4 + 2 + 4 = 10 marks)
<
4. ABN bank proposes to borrow on 7th January 2007 an amount of Rs.1 crore from B&P bank under repo for a period of 7 days at an Answer
interest rate of 7% p.a. The security for this transaction is CG2016 – 7.6%. The following information is related to the security: >
Interest payments : 7th April and 7th October
Current price of the security : Rs.99.81
On the same day, ABN bank also enters in repurchase transaction for 1 lakh, 182-day Treasury bill with Bank of Karnataka for 14
days at the interest rate of 5% p.a. Following is the information regarding 182-day Treasury bill:
Issue date : 15th December 2006
Maturity date : 14th June 2007
Current price : 96.81
You are required to compute the repurchase price for the CG2016 – 7.6% and 182-day Treasury bill.
(10 marks)
<
5. Aircommand Air Conditioners Ltd (AACL) has furnished the following information pertaining to its credit policy: Answer
• Projected sales >
• Credit policy of the company is 2/10 net 30. It has been observed that 25% of the customers avail the discount. Out
of the remaining, 25% of customers pay within 20 days, 50% of the customers pay within 30 days and the rest pay
within 50 days.
• The bad debts
• Administrative
• AACL has been financing its investments in receivables through a mix of bank finance and long-term unds in the
ratio of 3:1. The effective rate of interest on bank finance is 15% and the cost of long-tern funds is 18%.
The sales executives are responsible for following up collections and on an average spend 25% of their time on collection. The
finance manager of AACL has realized that if the sales executives are relieved from collection responsibilities, the annual sales
would increase by 10%. Therefore the company has approached Rescue Financial Services. Rescue Financial Services has offered
the following two schemes:
Recourse factoring: The factoring agreement provides for an advance payment of 75% of the value of factored receivables.
Advance carries the interest of 14% p.a. and the factoring commission is 1.5% of the value of the factored receivables. Both interest
and commission are collected upfront.
Non-recourse factoring: The factoring agreement provides advance payment of 70% of the value of factored receivables. Advance
carries a rate of interest of 15% p.a. and the factoring commission is 3% of the value of factored receivables. Both interest and
commission are collected upfront.
After the careful analysis of the sales ledger of AACL, Rescue Financial Services agreed to a guaranteed payment period of 30
days. The finance manager of AACL is not sure whether to go for any factoring or to continue with in-house management for the
receivables.
You are required to recommend with calculation to the finance manager of AACL for the selection of the best scheme. (Assume
360 days in a year)
(10 marks)
END OF SECTION B
Reason: The open market purchase of gilts will ease the liquidity of banks
If the interest rate structure is to be moved upwards, the prices of securities in the OMO can be set at
higher levels thereby signaling an upward movements in interest rates
The effort to cool the interest rate volatility through OMO may some time lead to an interest differential
loss to the RBI
IF the PLR is reduced , the CP rate may also come down
Cut in repo rates will result in bringing down the call rates and also other term money rates.
Hence (e) is the correct answer.
3. Answer : (c) < TOP >
Reason: A very tight liquidity position will increase the call rates while excess liquidity will give fairly low and
stable rates
If the liquidity crunch of the banks is passed on to the system, it may lead to high volatility in the call
rates
Call rates under normal liquidity conditions are the floor rate for the term money market
In a volatile call market situation, lending will return high yields, and by selling Inter-Bank
Participations, the bank will have more money to play in the call market
The floor rate for CDs is fixed by short term deposit rates and the ceiling for CDs is set by CPs.
Hence (c) is the correct answer.
4. Answer : (a) < TOP >
Reason: To enable participation of small level operators in the Liquidity Adjustment Facility (LAF) and also to
add further operational flexibility to the scheme, the minimum bid size for LAF is being reduced to Rs.5
crore.
Hence (a) is the correct answer.
5. Answer : (d) < TOP >
Reason: Mr. Shah is withdrawing his deposit at the beginning of the 12th month hence he will be given the
interest for 11 months. Now as per Rule 8(1) of the Companies (Acceptance of Deposits) Rules, 1975
he will be given the interest at the rate of 10% because he is withdrawing the amount before one year.
Therefore the interest will be 2,00,000 * 0.10 *11/12 = 18,333 (approx)
Hence the total amount that is to be refunded is 2,00,000 + 18,333 = Rs.2,18,333
Hence (d) is the correct answer.
6. Answer : (e) < TOP >
Reason: Any person aggrieved by an order of SEBI can file an appeal petition to the Central Government. Such
appeal has to be filed within 30 days from the date of communication of the order. If the appellant had
sufficient cause for not preferring the appeal within 30 days, the Central Government may extend the
period by further 15 days.
Hence (e) is the correct answer.
7. Answer : (d) < TOP >
Reason: If a deposit held in a name of a person individually and the same depositor also holds a deposit jointly
with another person then they are treated as two different deposits.
Name of depositor Joint account holder Maximum amount insured
Prashant – 1,00,000
Prashant Resham 1,00,000
Srinivas – 1,00,000
Nandgopal – 95,000
Kalyan Anuradha 82,000
Kalyan – 90,000
Total 5,67,000
Hence the insurance premium payable is 567000*0.05/100 = Rs.283.50
8. Answer : (d) < TOP >
Reason: The takeover code is triggered when the acquirer obtains 15% equity stake in a company. The code
makes it mandatory for the acquirer to make a public offer to acquire a further 20% of equity of the
target company.
Hence (d) is the correct answer.
9. Answer : (a) < TOP >
Reason: Following are true with respect to the registration of the offer document for an IPO:
Ten copies of the draft prospectus have to be filed with SEBI by the lead manager
The lead manager is required to simultaneously file the draft prospectus with all the stock exchanges
where listing is proposed
The lead manager should furnish to the Board, an in-principle approval of the stock exchanges for
listing of the securities within 15 days of filing of the draft offer document with the stock exchanges
SEBI would make the observation within the 21 days from the filing and in case no observations are
received within the stipulated period the offer document is deemed to have been cleared by SEBI
The draft prospectus filed will be treated as public document.
Hence (a) is the correct answer.
10. Answer : (b) < TOP >
Reason: In case of public issue by unlisted companies, securities, which have been issued to the promoters
during the preceding one year, at a price lower than the price at which equity is being offered to public
are not eligible for computation of promoter’s contribution.
All other statements are correct.
Hence (b) is the correct answer.
11. Answer : (e) < TOP >
Reason: Credit rating is mandatory for any debenture issue where the conversion period exceeds 18 months
Appointment of SEBI registered Debenture Trustee is mandatory if the maturity period of the
instrument exceeds 18 months
Creation of Debenture Redemption Reserve is mandatory if the maturity period of the instrument
exceeds 18 months
In case the non convertible portion of the PCD is to be rolled over, as compulsory option is to be given
to debenture holders to redeem and encash their debentures
No issue of FCDs having conversion period exceeding 36 months unless conversion is made optional
with put and call options
Hence (e) is the correct answer.
12. Answer : (b) < TOP >
Reason: Cash pay bonds are simple debt instruments, which pay interest in cash
Secured premium notes are issued at face value and do not carry any interest
The term of maturity for the deep discount bond is usually around 20 to 25 years
In third party convertible debt a warrant is issued with the debt, which allows the investor to subscribe
the equity shares of another company
If the investors of zero coupon convertible note, choose to convert into the common stock of the issuer,
they have to forgo all accrued and unpaid part of the interest.
Hence (b) is the correct answer.
13. Answer : (d) < TOP >
Reason: GDR may be at the request of investor converted into equity shares by cancellation of GDRs through
intermediation of the depository and the sale of underlying shares in the domesticmarket through the
local custodian.
All other statements are correct for GDRs.
Hence (d) is the correct answer.
14. Answer : (a) < TOP >
Reason: If the issuer wants to roll over its non convertible portion of PCDs, he will have to obtain fresh credit
rating within the period of 6 months prior to the date of redemption.
Hence (a) is the correct answer.
15. Answer : (d) < TOP >
Reason : Demutualization is the latest buzzword rocking the stock exchanges all over. This means that securities
exchanges will no longer be owned only by the members of these exchanges as hitherto. They will be
converted into public companies where ownership will be divorced from trading rights of brokers and
securities. Hence (d) is the correct answer.
16. Answer : (c) < TOP >
Reason: When the security is sold it is to be considered as a sale of asset and not as an issuance of debt
obligation of the originator of the mortgages. All other options are correct.
Hence (c) is the correct answer.
17. Answer : (c) < TOP >
Reason: The intercorporate deposits raised by a finance company cannot exceed two times the net owned funds
of it.
Hence (c) is the correct answer.
18. Answer : (d) < TOP >
Reason: Ownership clause of the lessee agreement stipulates that the lessee shall not sell, assign, pledge or
otherwise encumber lien upon or against the equipment.
Hence (d) is the correct answer.
19. Answer : (a) < TOP >
Reason: The following are true with respect to leveraged lease transaction:
The leveraged lease has the third party called lender attached to it.
The debt fund raised by the leasing company is with full recourse to the lessee and without any recourse
to the lessor.
The trustee to the transaction remits the debt service component of the rental to the lender and the
balance to the lessor.
Under this transaction the lessor claims tax shields on the depreciation.
Hence (b) is the correct answer.
21. Answer : (d) < TOP >
Reason: A lease where the relative magnitude of investment involved is quite high or very high, is called
Big ticket lease.
Hence (d) is the correct answer.
< TOP >
22. Answer : (d)
Reason: Amount sanctioned is = 3,75,000*0.75
= 2,81,250
2,81, 250 × 0.0125 × [1.0125]
240
EMI= 1.0125240 − 1
= Rs.3,703.47
Hence (d) is the correct answer.
< TOP >
23. Answer : (c)
Reason: MMMFs are a special category of Mutual Funds, where returns are lower since liquidity levels are high.
These provide an investor the choice to invest forshort-term. These invest mainly in high rated paper so
safety levels are quite high. Hence (c) is the correct choice.
24. Answer: (a) < TOP >
Reason: Asian Dollar CDs carry both fixed and floating interest rates.
Hence (a) is the correct answer.
25. Answer : (c) < TOP >
Reason: If invoice discounting is not confidential in nature, the customers of the client are advised to make
payment directly to the factor. This facility when offered with a non-recourse feature is known as
Agency Factoring. Hence (c) is the correct answer.
26. Answer : (c) < TOP >
Reason: On factoring, 80% of receivables is converted into cash. Given that 50% of cash received through
factoring is utilized for reducing current liabilities,
80 + 180 + 20
Pre-factoring current ratio = 120 = 2.33
Changed current assets = 80 +180 x 0.2 + 20 + 180 x 0.8 x 0.5 = Rs.208 lakhs.
Changed current liabilities = 120 – ( 180 x 0.8 x 0.5) = Rs.48 lakhs
208
Hence, post factoring current ratio = 48 = 4.33
Hence, (c) is the answer.
27. Answer : (a) < TOP >
Reason: The total charge for credit is calculated as Loan Amount × Flat rate of interest × number of years.
Hence, in the given question, flat rate of interest = 21600/(90000 × 2) = 12%.
28. Answer : (c) < TOP >
Reason: First Stage Financing is provided to companies that have expended their initial capital (often in
developing and market testing a prototype) and require funds to initiate full scale manufacturing and
sales. Hence (c) is the correct answer.
29. Answer : (e) < TOP >
Reason: 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.
30. Answer : (c) < TOP >
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.
Section B : Problems
1 In UK a lease transaction is treated as a true lease (lessor’s angle) < TOP >
Let Y be the lease rental receivable annually by US Glass from India Glass at which net cash flow to US
Glass is zero.
PV of lease rentals payable to TFS (outflow) = 42.13 PVIFA (15,5) × 1.15
= Rs.162.41 crore
PV of depreciation tax shield (inflow) = Rs.22.91 crore
Unexpired finance charges = (42.13×5) – 150 = Rs.60.65 crore
Allocation of Unexpired finance charges
Year SOYD factor Interest PVIF@15% PV of interest
1 5/15 20.22 0.8696 17.58
2 4/15 16.17 0.7561 12.23
3 3/15 12.13 0.6575 7.98
4 2/15 8.09 0.5718 4.62
5 1/15 4.04 0.4972 2.01
Total 44.42
PV of interest tax shield (inflow) = 44.42 × 0.25 = Rs.11.11 crore
PV of lease rentals receivable by
US Glass from India Glass (inflow) = Y × PVIFA(15,5) ×1.15
= Rs.3.855Y crore
PV of tax on finance income of US Glass
Unexpired finance charge = 5Y-150
Year SOYD factor Interest PVIF@15% PV of interest
1 5/15 1.6667Y–50 0.8696 1.45Y–43.48
2 4/15 1.3333Y–40 0.7561 1.01Y–30.24
3 3/15 1Y–30 0.6575 0.66Y–19.73
4 2/15 0.6667Y–20 0.5718 0.38Y–11.44
5 1/15 0.3333Y–10 0.4972 0.17Y–4.97
Total 3.66Y–109.86
PV of tax on interest income (outflow) = (3.66Y–109.86) × 0.25
= Rs.0.915Y–27.47 crore
Now,
–162.41 + 22.91 + 11.11 + 3.855Y – (0.915Y–27.47) = 0
Y=Rs.34.33 crore.
Therefore the rentals payable by India Glass to US glass is Rs.34.33 crore which is lower than the rental
payable to TFS if double dip transaction is not undertaken.
2 a. Computation of Cost of Funds under different alternatives for the year 2006-07 < TOP >
<
1. Which of the following functions of the financial system ensures a smooth flow of funds from Answ
savings to investments in order to stabilize the economy? er >
(a) Savings function
(b) Policy function
(c) Credit function
(d) Financial function
(e) Investment function.
<
2. Which of the following statements is not true regarding various types of bills of exchange? Answ
(a) Bill which is payable at a specified later date is called a usance bill er >
(b) Bill accepted by the drawee to accommodate the drawer without having received any
consideration is called an accommodation bill
(c) Bill drawn in India and made payable outside India is called a foreign bill
(d) Bill accompanied by the documents of title to goods such as lorry receipt or bill of lading is
called a clean bill
(e) Bill which arises out of supply of goods by manufacturing concerns is called a supply bill.
<
3. Which of the following statements is not true with respect to the lock-in requirements of the Answ
promoters’ contribution? er >
(a) The minimum contribution to be made by promoters’shall be locked-in for a period of three
years
(b) In case the promoters’ contribution in the proposed issue exceeds the minimum specified
contribution, such excess contribution will also attract lock-in period of three years
(c) The lock-in period commences from the date of allotment or from the date of
commencement of commercial production whichever is later
(d) The specification of shares for lock-in will follow reverse chronological order
(e) Shares issued to the promoter at a price lower than the current issue price during the
preceding 12 months period are required to be locked-in for a period of three years.
<
4. A CD that allows the investors to withdraw a certain amount of promised yields on selected yearly Answ
dates is called er >
(a) Installment CD
(b) Thrift CD
(c) Jumbo CD
(d) Declining rate CD
(e) Rising rate CD.
<
5. Which of the following is/are true with respect to credit rating? Answ
er >
I. A credit rating is a professional opinion given after studying all available information at a
particular point of time.
II. There is no privity of contract between an investor and a rating agency and the investor is free
to accept or reject the opinion of the agency.
III. Rating agency compensates the investor who has made an investment relying on the rating and
makes loss on investment.
(a) Only (I) above
(b) Only (III) above
(c) Both (I) and (II) above
(d) Both (II) and (III) above
(e) All (I), (II) and (III) above.
<
6. The instrument which provides the investor the option to convert the paper into flat interest paying Answ
instrument at the end of a particular period, is known as er >
(a) Mismatch FRNs
(b) Mini-max FRNs
(c) Flip-flop FRNs
(d) Capped FRNs
(e) VRN-structured FRNs.
<
7. Green shoe option is an arrangement wherein the issue would be over allotted to the extent of a Answ
maximum of _____% of the issue size. er >
(a) 10
(b) 15
(c) 20
(d) 25
(e) 30.
<
8. In a fixed price issue the issuing company can mention cap on the price band, which should not be Answ
more than ____ of the floor price. er >
(a) 10%
(b) 20%
(c) 25%
(d) 30%
(e) 35%.
<
9. In case of Book Built issues, the minimum period for which bidding will be open is 3 working days. Answ
The maximum period for which bidding will be open and the maximum number of days by which it er >
can be extended in case of a revision in the price band are
(a) 6 days and 2 days respectively
(b) 6 days and 3 days respectively
(c) 7 days and 2 days respectively
(d) 7 days and 3 days respectively
(e) 10 days and 4 days respectively.
<
10 Which of the following statements is not true with respect to the Indian Depository Receipts Answ
. (IDRs)? er >
(a) Through IDRs the Indian investors can own overseas stock
(b) IDRs issued by any company in any financial year shall not exceed 15% of its paid up
capital and free reserves
(c) IDRs shall not be redeemed into underlying equity shares before the expiry of six months
period from the date of the issue of the IDRs
(d) The issuing company shall not have pre-issue debt to equity ratio more than 2:1
(e) The issuing company has been making profits for at least five years preceding the issue and
has been declaring the dividend of not less than 10% each year for the said period.
<
11 Which of the following facilities does the RBI provide to the guilt funds? Answ
. er >
I. The gilt funds are given the facility of transfer of funds from one center to another under the
Remittance Facility Scheme of the RBI.
II. The gilt funds are also given the facility of clearing of cheques arising out of government
securities transactions, tendered at the RBI counters.
III. Gilt funds are given the facility to access the call money market as borrowers.
(a) Only (I) above
(b) Only (II) above
(c) Both (I) and (II) above
(d) Both (II) and (III) above
(e) All (I), (II) and (III) above.
<
12 Which of the following is not true with respect to deposit insurance provided by DICGC? Answ
. er >
(a) The deposit will have an insurance cover for the actual amount of the deposit subject to a
maximum of Rs.1,00,000
(b) For this purpose the deposits of a depositor at different branches are clubbed together
(c) Individual deposits and joint deposits held by a person are clubbed together for this purpose
(d) The premium payable for the insurance is at the rate of 5 paise per half year for every
hundred rupees
(e) The premium is paid at the end of December and June.
<
13 An adjustment made for offsetting the market risk to save the borrower or the lender from the Answ
. transaction price movements in a repo transaction, is called er >
(a) Haircut
(b) Hairoff
(c) Hairon
(d) Hair adjustment
(e) Centric adjustment.
<
14 Which of the following is not true with respect to repo? Answ
. er >
(a) The amount of activity in the repo market will increase the turnover of the money market,
resulting in an enhanced liquidity and depth in the market
(b) As a tool of financing the repo would cause an increase in the turnover in the debt market
(c) Repo enables the traders to take convenient positions to go short or long in the market,
which results in incresed activity of the debt market
(d) Institutions and corporates see repo as an expensive way of financing
(e) Repo is also useful to the Central Bank in the way they can use them as a part of their open
market operations.
<
15 Which of the following is not true with respect to 364-Day T-Bills? Answ
. er >
(a) The RBI does not discount these bills
(b) The RBI does not participate in the auction of these bills
(c) Auction of these bills takes place every fortnight
(d) The auction amount of a bill is conveyed 3 days before the date of auction
(e) The yield on these bills can be used as a benchmark for determining the interest rate of
floating rate bonds.
<
16 Which of the following is/are not true with respect to Shibosai Bonds? Answ
. er >
I. These are privately placed bonds issued in the Japanese markets.
II. The qualifying criteria are stringent for this bond as compared to Samurai or Euro Yen bonds.
III. These bonds are offered to a different market segment that consists of institutional investors
including banks.
IV. The eligibility criteria, amount, maturity and redemption as well as the coupon rate and issue
price all are governed by Japan’s Ministry of Finance guidelines.
(a) Only (II) above
(b) Only (III) above
(c) Both (I) and (III) above
(d) (I), (II) and (III) above
(e) All (I), (II), (III) and (IV) above.
<
17 Belgian Dentist is the term used to describe Answ
. er >
(a) The institutional investors who make market specific investment
(b) The institutional investors who make market and industry specific investment
(c) The institutional investors who make time specific investment
(d) The lenders who are mainly the banks in case of Euroloans
(e) The high net worth individuals who subscribe to the equity of the corporates in case of
GDRs.
<
18 A lease which does not provide a purchase option to the lessee at the end of the lease period and the Answ
. asset reverts back to the lessor is called er >
(a) Walk away lease
(b) Wet lease
(c) Big ticket lease
(d) Master lease
(e) Lease line.
<
19 Which of the following is true for break even lease rental from the view point of lessee? Answ
. er >
(a) A large upfront payments decreases the break even rental
(b) A higher tax relevant rate of depreciation increases the break even rental
(c) A longer primary lease period increases the break even rental
(d) Higher cost of capital increases the break even rental
(e) A higher net salvage value increases the break even rental.
<
20 Under which of the following types of factoring, the factor purchases the receivables on the Answ
. condition that the loss arising on account of irrecoverable receivables will be born by the client? er >
(a) Recourse factoring
(b) Non-recourse factoring
(c) Maturity factoring
(d) Advance factoring
(e) Full factoring.
<
21 Which of the following is not the functions of a factor? Answ
. er >
(a) Sales ledger administration
(b) Credit protection
(c) Long term funding
(d) Advisory services
(e) Collection.
<
22 Mr. Prashant has accumulated savings of Rs.83,000 for five years with NHB. He requires a loan for Answ
. a new accommodation, which is of 862 square feet. What will be the maximum amount of loan er >
disbursed to him under Home loan account scheme?
(a) Rs. 83,000
(b) Rs. 1,66,000
(c) Rs. 2,49,000
(d) Rs. 3,32,000
(e) Rs. 4,15,000.
<
23 Which of the following statements is/are not true? Answ
. er >
I. For investors seeking low exposure to interest rate risk, the shorter tranche CMOs are best
suited.
II. The shorter tranches must be retired before longer tranches receive principal payments.
III. The shorter tranches have a form of call protection.
IV. For the long term investors who want to avoid reinvestment risk, the longer tranche CMOs are
ideal investment vehicles.
(a) Only (I) above
(b) Only (III) above
(c) Both (I) and (III) above
(d) (I), (II) and (III) above
(e) All (I), (II), (III) and (IV) above.
<
24 Ms. Riddhi is intending to own a house worth Rs.3,75,000. She is sanctioned 75% of the cost of the Answ
. house as loan. The interest rate on loan is 15% and tenure for the same is 20 years. The EMI er >
payable by her is
(a) Rs.3,003.47
(b) Rs.3,203.74
(c) Rs.3,530.74
(d) Rs.3,703.47
(e) Rs.3,803.47.
<
25 A leasing company which is formed as a subsidiary of a manufacturing company for leasing the Answ
. products of the parent company, is called er >
(a) Captive leasing company
(b) Common leasing company
(c) Formal leasing company
(d) Extended leasing company
(e) Integrated leasing company.
<
26 I-Let Ltd. is a leasing company. Following are the relevant information for a lease transaction Answ
. undertaken by the company: er >
Lease rental receivable for the next five years : Rs.2.50 crore
Lease rental receivable over the lease term : Rs.3.50 crore
Cost of leased equipments : Rs.2.75 crore
Net owned funds : Rs.11.00 crore
The amount drawn as cash credit for this transaction from the bank is
(a) Rs.1.90 crore
(b) Rs.1.83 crore
(c) Rs.1.53 crore
(d) Rs.1.47 crore
(e) Rs.1.33 crore.
<
27 Which of the following is not true with respect to drawing refinance assistance by the companies Answ
. from NHB? er >
(a) The companies should be registered with NHB to carry on the business of housing finance
(b) The companies should be providing long term finance for construction / purchase / repair /
upgradation of housing units
(c) The companies should invest at least 75% of capital employed in the form of long term
housing finance
(d) The companies should have net owned fund of at least Rs.20 crore
(e) The companies should have net non-performing assets not more than 5% of the net
advances.
<
28 A company has issued Pass Through Certificates (PTCs) backed by a pool of property receivables Answ
. aggregating to Rs.350.00 lakh. The equated monthly payments to be made to PTC holder are as er >
follows:
During the first 12 months : Rs. 18 lakh p.m.
During the next 12 months : Rs. 14 lakh p.m.
During the next 6 months : Rs. 10 lakh p.m.
Calculate the promised rate of return to the investor.
(a) 15.56%
(b) 17.66%
(c) 24.16%
(d) 29.33%
(e) 34.33%
<
29 Which of the following statements is true with respect to Real Estate Investment Trusts (REITs)? Answ
. er >
(a) The most prominent form of lending by REITs is the construction/developmental lending
(b) To retain their special tax status, REITs have to distribute 50% of their income to
shareholders
(c) REITs are not allowed to raise finance through debt as they are equity investment vehicles
(d) Indirect equity investments in REITs by investor usually lack liquidity
(e) According to the federal laws, REITs can only be infinite life trusts.
<
30 I-Lend Finance Limited has the policy of discounting the L/C backed bills of its clients at the rate of Answ
. 18% p.a., when the value of a bill is Rs.1000. er >
The annual effective rate of interest implied by the above bill with a usance period of 90 days is
(a) 18.00%
(b) 20.21%
(c) 22.75%
(d) 23.50%
(e) 24.00%.
END OF SECTION A
Particulars P Q R S T U
T-Bills 4000 3200 4800 3000 3600 4400
Government
4800 3200 4000 3600 2600 4000
Securities
END OF
SECTION C
END OF QUESTION
PAPER
Suggested Answers
Investment Banking and Financial Services-I (261): April 2007
Section A : Basic Concepts
1. Answer : (b) < TOP >
Reason: Policy function of a financial system ensures smooth flow of funds from
savings to investments in order to stabilize the economy. Hence,
alternative (b) is answer. Savings function ensures mobilization of
savings to provide a potentially profitable and low risk outlet. Credit
function ensures the savings transform into the necessary credit for
investment and spending purposes.
Hence, option (b) is the correct answer.
2. Answer : (d) < TOP >
Reason: The following statements is true with respect to the lock-in requirements
of the promoters’ contribution:
• The minimum promoters’ contribution shall be locked-in for a
period of three year
• In case the promoters’ contribution in the proposed issue exceeds
the minimum specified contribution, such excess contribution will
also attract lock-in period of one years
• The lock-in period commences from the date of allotment or from
the date of commencement of commercial production whichever is
later
• The specification of shares for lock-in will follow reverse
chronological order
• Shares issued to the promoter at a price lower than the current issue
price during the preceding 12 month period are required to be
locked-in for a period of three years.
Hence (b) is the correct answer.
4. Answer : (e) < TOP >
Reason: The following are true with respect to the credit rating:
• A credit rating is a professional opinion given after studying all
available information at a particular point of time.
• There is no privity of contract between an investor and a rating
agency and the investor is free to accept or reject the opinion of the
agency.
• Rating agency does not compensate the investor who has made an
investment relying on the rating and makes loss on investment.
Hence (c) is the correct answer.
6. Answer : (c) < TOP >
Reason: The instrument which provides the investor the option to convert the
paper in to flat interest paying instrument at the end of particular period,
is known as Flip-flop FRNs.
Hence (c) is the correct answer.
7. Answer : (b) < TOP >
Reason: Green shoe option is an arrangement wherein the issue would be over
allotted to the extent of a maximum of 15 % of the issue size.
Hence (b) is the correct answer.
8. Answer : (b) < TOP >
Reason: In a fixed price issue the issuing company can mention cap on the price
band, which should not be more than 20% of the floor price.
Hence (b) is the correct answer.
9. Answer : (d) < TOP >
Reason: In case of Book built issues, the minimum and maximum period for
which bidding will be open is 3 – 7 working days extendable by 3 days
in case of a revision in the price band.
Hence (d) is the correct answer.
10. Answer : (c) < TOP >
Reason: Through IDRs the Indian investors can own overseas stock.
IDRs issued by any company in any financial year shall not exceed 15%
of its paid up capital and free reserves.
IDRs shall not be redeemed in to underlying equity shares before the
expiry of one year period from the date of the issue of the IDRs
The issuing company shall not have the pre-issue debt to equity ratio
more than 2:1
The issuing company has been making profits for at least five years
preceding the issue and has been declaring the dividend of not less than
10% each year for the said period.
Hence (c) is the correct answer.
11. Answer : (c) < TOP >
Reason: The following facilities the RBI provides to the guilt funds:
• The gilt funds are given the facility of transfer of funds from one
center to another under the Remittance Facility Scheme of the
Reserve Bank.
• The gilt funds are also given the facility of clearing of cheques
arising out of government securities transactions, tendered at the
Reserve Bank counters.
• Gilt funds can access the call money market as lenders.
Hence (c) is the correct answer.
12. Answer : (c) < TOP >
Reason: The haircut is an adjustment made for offsetting the market risk to save
the borrower or the lender for transaction price movements in a repo
transaction.
Hence (a) is the correct answer.
14. Answer : (d) < TOP >
Reason: Belgian Dentist is the term used to describe the high net worth
individuals who subscribe to the equity of the corporates in case of
GDR.
Hence (e) is the correct answer.
18. Answer : (a) < TOP >
Reason: A lease which does not provide a purchase option to the lessee at the end
of the lease period and the asset reverts back to the lessee is called Walk
away lease
Hence (a) is the correct answer.
19. Answer : (d) < TOP >
Reason: Under recourse factoring, the factor purchases the receivables on the
condition that the loss arising on account of irrecoverable receivables
will be born by client.
Hence (a) is the correct answer.
21. Answer : (c) < TOP >
1.0125 − 1
240
EMI= = Rs.3,703.47
Hence (d) is the correct answer.
25. Answer : (a) < TOP >
Reason: Define Im as the monthly rate of return implied by the cash flow stream.
350 = 18*PVIFA (Im,12) + [14 * PVIFA(Im,12) *PVIF(Im,12)] +[ 10 *
PVIFA(Im,6 ) *PVIF(Im,24)]
The equation is satisfied by Im = 1.82 % (By trial and error)
Annualized return is :
I = (1+Im)12 –1
= (1.0182)12 – 1
= 24.16%
Hence (c) is the correct answer
29. Answer: (a) < TOP >
Section B : Problems
1. a. Market price per share = Rs.45 < TOP >
Government Securities
Adherence
to
Bids Adherence to Bids successful
Particulars Tendered Commitment commitement Accepted Commitment bids
P 6000 4800 Y 2000 1600 Y
Q 4000 3200 Y 1000 1067 N
R 3200 4000 N 1200 1333 N
S 4000 3600 Y 2000 1200 Y
T 3000 2600 Y 1600 867 Y
U 4000 4000 Y 2000 1333 Y
3. Alternative (A): Purchase the Equipment < TOP >
Define ‘k’ the effective rate of interest per month. The value of k can be obtained as follows:
22,868 PVIFA (k,18) = 3,75,000
PVIFA (k,18) = 16.3985
From the table,
k = 1% (approximately)
i. The effective rate is,
= (1+0.01)12 – 1
=12.68%.
Since the effective rate offered by the scheme is lower than the peers, it is advisable to go for this
scheme.
The nominal rate is,
= 0.01 × 12
= 12%.
ii. The repayment schedule will be as follows:
Month Amount O/S Interest component Capital component Installment
1 375000.00 3750.00 19118.00 22868
2 355882.00 3558.82 19309.18 22868
3 336572.82 3365.73 19502.27 22868
4 317070.55 3170.71 19697.29 22868
5 297373.25 2973.73 19894.27 22868
6 277478.99 2774.79 20093.21 22868
7 257385.78 2573.86 20294.14 22868
8 237091.63 2370.92 20497.08 22868
9 216594.55 2165.95 20702.05 22868
10 195892.50 1958.92 20909.08 22868
11 174983.42 1749.83 21118.17 22868
12 153865.25 1538.65 21329.35 22868
13 132535.91 1325.36 21542.64 22868
14 110993.27 1109.93 21758.07 22868
15 89235.20 892.35 21975.65 22868
16 67259.55 672.60 22195.40 22868
17 45064.15 450.64 22417.36 22868
18 22646.79 221.21 22646.79 22868
5. a. Advance factoring < TOP >
st
Balance sheet as on 31 March, 2007
Liabilities Rs. in lakh Assets Rs. in lakh
Net worth 180 Fixed assets 120
Long-term debt 60 Inventory 100
Current liabilities 180 Factoring reserves* 36
Cash 164
420 420
* Factoring reserves = 180*0.2 = Rs.36 lakh
Current ratio (before) = 300/180 = 1.67
Current ratio (after) = 300/180 = 1.67
Bank overdraft
Balance sheet as on 31st March, 2007
Liabilities Rs. in lakh Assets Rs. in lakh
Net worth 180 Fixed assets 120
Long-term debt 60 Inventory 100
Current liabilities 180 Receivables 180
Bank overdraft 144 Cash* 164
564 564
* Opening balance + bank overdraft
= 20+144 = Rs.164 lakh
Current ratio (after) = 1.37
b. Advance factoring
Balance sheet as on 31st March, 2007
Liabilities Rs. in lakh Assets Rs. in lakh
Net worth 180 Fixed assets 120
Long-term debt 60 Inventory 100
Current liabilities 110 Factoring reserves 36
Cash* 94
350 350
* Cash = opening balance + factoring receipt – repayment
= 20+144-70 = Rs.94 lakh
Current ratio = 230/110 = 2.09
Bank overdraft
Balance sheet as on 31st March, 2007
Liabilities Rs. in lakh Assets Rs. in lakh
Net worth 180 Fixed assets 120
Long-term debt 60 Inventory 100
Current liabilities 110 Receivables 180
Bank overdraft 144 Cash* 94
494 494
* Cash = opening balance + bank overdraft – repayment = 20+144-70 = Rs.94 lakh
Current ratio = 374/254 = 1.47
c. Due to factoring facility the current ratio in (a) is not affected but it has reduced from 1.67 to 1.37
due to the use of bank overdraft facility. Hence, we can say that the use of factoring facility
improves the liquidity of the firm.
If the factoring facility is used to payout the current liability, the current ratio is increased to 2.09
which says that the liquidity position has further increased. If overdraft is used then also the current
ratio increases to 1.47 but the factoring option strengthens the liquidity position of the company as
compared to the overdraft facility.
7. Future flow securitization raises funds based on expected future flows that are still to be generated. < TOP >
These are classified as into two types: long term contract receivables and future cash flows. Term off
take agreements for the supply of goods or services are examples of former. In this, the volume is
generally prefixed, but price of receivables may be variable. Future cash flows are not only subject to
price variations but also to variations in volume. Examples are ticket receivables, telecom receivables
etc. in this a base case for the receivables are generally presumed. The base case cash flows are
progressively reduced over time.
Advantages:
• There will be lesser cost of funds to the borrower due to higher credit rating.
• It is also possible to have a diversified source of funding.
• Even when credit is tight due to adverse market conditions, these transactions can ensure sufficient
funds raising due to their being of quality.
• These can extend the tenure of financing available to the borrower.
Risks associated are:
• Performance risks: these transactions rely on future cash flows to repay investors. Therefore the
borrower needs to be continuously monitored and reviewed throughout the tenure of transaction. In
case a borrower becomes insolvent, no creditor would be able to make claims against the
receivables sold to investor.
• Generation risks: This relates to the sustained generation of the receivables at certain levels from
the host of factors outside the control of the borrower, e.g. anticipated reserves may not materialize
or seasonal variation in the anticipated level of receivables may occur.
• Price risks and off- take risks: These refers to likely price variations or the concerns that the
obligors in the future ceases buying or reduce their purchasing level of goods or services from the
seller
< TOP OF THE DOCUMENT >
Suggested Answers with Examiner's Feedback
Question Paper
Investment Banking and Financial Services - I (MSF2K1) : July 2007
Section A : Basic Concepts (30 Marks)
1. Which of the following statements is not true with respect to the Government dated securities? < Answer >
(a) The floor rate for CDs is fixed by the short term deposit rates
(b) The ceiling rate for CDs is set by CPs
(c) The PLR will set the cap for CPs
(d) The minimum rate for the bills of exchange is set by call rates
(e) The maximum rate for the bills of exchange is set by CD rates.
3. Which of the following risks is not covered by the Export Credit and Guarantee Corporation? < Answer >
I. If the promoters of any company issuing securities acquire equity for consideration other than cash during
the preceding three years before filing the offer documents and if it involves revaluation of assets or
capitalization of intangible assets.
II. Shares resulting from bonus issue out of revaluation reserves.
III. In case of public issue by unlisted companies, securities which have been issued to the promoters during
the preceding one year, at a price lower than the price at which equity is being offered to public and the
difference between these prices has been brought by the promoters.
(a) Only (I) above
(b) Only (III) above
(c) Both (I) and (II) above
(d) Both (II) and (III) above
(e) All (I), (II) and (III) above.
7. There are certain issue related advertisements which have to be released statutorily. Before how many days of the < Answer >
opening of the issue, issue announcement advertisement has to be released?
(a) 7 days
(b) 10 days
(c) 14 days
(d) 20 days
(e) 21 days.
8. Which of the following is/are true with respect to Secured Premium Notes (SPNs)? < Answer >
I. SPNs are issued at face value and do not carry any interest.
II. SPNs are redeemed by repayment in series of installments at a premium over face value.
III. SPNs may be issued with detachable warrants.
IV. The charge for SPNs may be created by pledge, hypothecation and mortgage on the assets of the issuing
company.
(a) Only (I) above
(b) Only (III) above
(c) Both (I) and (III) above
(d) (I), (II) and (III) above
(e) All (I), (II), (III) and (IV) above.
9. Which of the following statements is not true with respect to auction rated debt? < Answer >
(a)These are fully redeemable non-convertible short term debentures, secured by specific movable and non-
movable assets of the company
(b)These debentures are redeemed at regular intervals and then reauctioned
(c)These debentures help the company to get long term funds at short term rates
(d)These instruments are privately placed at competitive bids
(e)These instruments are compulsorily rated and the minimum rating required is of investment grade.
10. Which of the following statements is not true with respect to Medium-Term Notes (MTNs)? < Answer >
(a)MTNs are defined as the sequentially issued floating interest securities which have a maturity of over
one year
(b)A typical MTN program enables an issuer to issue Euro notes for different maturities for over one year
up to the desired level of maturity
(c)MTNs are conceived as non-underwritten facilities
(d)A Global MTN is issued world wide by tapping Euro as well as the US markets under the same program
(e)Spreads paid on MTNs depend on credit ratings, treasury yield curve and the familiarity of the issuers
among the investors.
11. Consider the following data of Go To Air Ltd. < Answer >
I. Adjustment in price at the repurchase stage is not required, if both repo rate and coupon interest rate are
equal.
II. If the current yield is lower than repo rate, capital gain will occur due to adjustment in repurchase price.
III. The required rate is found by calculating the sale and repurchase prices after adjusting the accrued rate of
interest.
(a) Only (I) above
(b) Only (II) above
(c) Only (III) above
(d) Both (I) and (II) above
(e) All (I), (II) and (III) above.
15. Following are the details of different types of deposits held by different clients with Dena Bank: < Answer >
(Amount Rs.)
Name of client Saving Account Current Account Fixed deposits
Mr. Shyam 15,000 0 75,000
Ms. Ghanshyam 25,000 12,500 37,000
Mr. Radheshyam 10,000 0 1,00,000
Mr. Ram 18,000 23,000 54,000
Mr. Rajaram 0 11,000 0
Mr. Ram and Mr. Ghanshyam 95,000 51,000 0
(joint account)
Mr. Ram and Mr. Rajaram 55,000 46,000 0
(joint account)
What is the semi annual insurance premium payable by the bank to insure deposits accepted from the customers
above?
(a) Rs. 57.05
(b) Rs. 285.25
(c) Rs. 570.50
(d) Rs.1,141.00
(e) Rs.1,426.25.
16. Which of the following is not true with respect to Mortgage Pass-Through Securities? < Answer >
(a)The most active issuers of mortgage pass through securities are the mortgage originators such as savings
and loan associations, commercial banks and mortgage companies
(b)The cash flows from a pass through security will generally be higher as compared to cash flows from a
mortgage directly financed by the investor, if the elements of servicing fees and prepayments are not
there
(c)In pass through securities the holder of the security has a proportionate interest in each cash flow
generated in the pool
(d)When pass through securities are sold, it is construed as a sale of asset
(e)Pass through securities promise that the cash flow from the underlying mortgage would be passed
through to the holder of the securities in the form of monthly payments.
17. Which of the following statements are true? < Answer >
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 to 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) Both (I) and (II) above
(b) Both (II) and (IV) above
(c) (I), (II) and (III) above
(d) (II), (III) and (IV) above
(e) All (I), (II), (III), and (IV) above.
18. Following is the information pertaining to a lease transaction: < Answer >
(a)The quasi equity loans can be linked to the company’s performance and participate significantly only in
the upside
(b)The quasi equity loans can be a loan on which there is a minimum obligation contracted at reasonably
low levels irrespective of performance and an upside sharing component
(c)The quasi equity investment also come with a number of protective covenants like appointment of
nominee, option to convert the loan in to equity shares etc.
(d)The disadvantage with quasi equity is that it involves the cash payout from the investee company during
the growth phase, when the company needs to conserve cash most
(e)From investor’s point of view tracking and accounting the payments and ensuring the accuracy of sales
accounting by the investee company is a point of potential abuse.
22. Which clause of the lease agreement entitles the lessor to terminate the agreement and be indemnified by the lessee < Answer >
for all expenses incurred on account of the action of the lessee?
(a) Description clause
(b) Equipment delivery clause
(c) Ownership clause
(d) Surrender clause
(e) Exemption clause.
23. Which arrangement is designed to protect both the borrower and the lender against volatile interest rates in real estate < Answer >
financing?
(a) Gap loans
(b) Bow ties
(c) Direct joint ventures
(d) Direct development and syndication
(e) Mini-perms.
24. A net lease where the lessee guarantees the residual value is called < Answer >
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)Only (III) above
(b)Both (I) and (II) above
30. Which of the following is/are true with respect to the guidelines for stock buy-back, issued by SEBI? < Answer >
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)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.
END OF SECTION A
1. Xonix Financial Services offers consumer loans for a maximum period of five years. The company has the policy of providing < Answer >
finance up to 75% of the cost of the asset, which is in line with the competitors. The company is well known for providing
loans at competitive rates. The EMI schedule offered by the competitors for different loan tenures for a loan of Rs.50,000 is as
follows:
Loan tenure (in months) 12 24 36 48 60
EMI (Rs.) (to be paid in arrears) 4583 2526 1823 1479 1275
The following is the information pertaining to the excess EMI charged by the competitors for different loan tenures for a loan
of Rs.10,000:
Loan tenure (in months) 12 24 36 48 60
Excess EMI (Rs.) charged by the competitors
Nil 30 15 10 5
(to be paid in arrears)
The processing fee charged by the competitors is 1%. The processing fee charged by the company is 25 basis points lower than
that by the competitors.
Mr. Vrajesh Shah, who is a well known doctor, wants to buy ‘Spark’ launched by General Motors. The current cost of the car is
Rs.5,50,000. He wants the loan for a period of five years. As he is not familiar with the finance schemes available in the
market, he has approached you for your advice. Being a financial analyst, you are required to:
a. Calculate the flat rate and annual percentage rate charged by Xonix Financial Services on the five year loan.
b. Calculate the effective rate of interest on the completed transaction, if Mr. Vrajesh Shah opts to prepay the entire
loan amount at the end of 36th month after paying 36 installments. Xonix Financial Services calculates the interest rebate
according to Rule of 78 method.
c. Assuming that Mr. Vrajesh Shah avails the loan from competitors and pre payment charge imposed by them is 5%
i. Draw the repayment schedule for the first year.
ii. Calculate the pre-payment charges and effective interest rate on completed transaction that are to be paid by him, if he
prepays the entire loan amount at the end of first year after paying 12 installments.
(2 + 6 + 6 = 14 marks)
2. Shah Tech Ltd. (STL) is contemplating investment in an equipment costing Rs.94 lakh. The company can purchase the < Answer >
equipment by raising additional debt at a cost of 16.5% p.a.
Alternatively the company can take the equipment on a finance lease with a 5 year primary lease period at the rate of Rs.325
per thousand per annum payable annually in arrears. The marginal tax rate is 30% and the tax relevant rate of depreciation is
25%. The salvage value of the equipment after 5 years is negligible. The cost of capital of the company is 18%.
You are required to calculate the net value of the lease and also advise the company whether it should go for leasing or not.
(8 marks)
3. During last four years, following companies came out with IPOs. Following is the per share issue price, last traded price and < Answer >
the value of the index on the listing day:
Issue
LTP Issue Size
Sr. No. Name of the issue Price Range Price Index values
(Rs.) (lakh shares)
(Rs.)
1 Fortis Healthcare Limited 96.70 457.53963 Rs. 92 to Rs. 110 108.00 4079.30
2 Advanta India Limited 815.00 33.80000 Rs. 600 to Rs. 650 640.00 3997.65
3 ICRA Limited 931.95 25.81100 Rs. 275 to Rs. 330 330.00 3917.35
4 Orbit Corporation Limited 223.00 91.00000 Rs. 108 to Rs. 117 110.00 3829.85
5 Abhishek Mills Limited 59.60 41.00000 Rs. 90 to Rs. 100 100.00 3678.90
6 Page Industries Limited 412.80 28.04000 Rs. 360 to Rs. 395 360.00 3608.55
7 Raj Television Network 236.40 35.68250 Rs. 221 to Rs. 257 257.00 3608.55
Limited
8 AMD Metplast Limited 69.50 90.96520 Rs. 65 to Rs. 75 75.00 3678.90
5. On June 30, 2007 Maric Ltd. has come out with an issue of 14% partially convertible debenture of Rs.100 each as a < Answer >
part to finance its acquisition plan with an expected amount of Rs.15 crore. The convertible part of the debenture
(Part A) of Rs.50 will be converted into 1 equity share at a premium of Rs.40 after 36 months from the date of
allotment. Current face value of each share is Rs.10. The non-convertible portion of debenture (Part B) of Rs.50 will
be redeemed after 6 years. Interest will be paid semi-annually.
Gujarat Finance Limited (GFL) is planning to subscribe to the issue to deploy its cash surplus. Since the company is
in FMCG industry, the analyst of GFL is in the opinion that it is better to value the share of the company on the basis
of price to sales and price to earning ratio. He has given equal weights to both the measures to value the share of the
company.
Additional information and projections made by the analyst based on the past performance and the information
provided by the company are as follows:
END OF SECTION B
6. In March 2007, SEBI announced mandatory IPO grading, which has been seen positive step for the investors. < Answer >
Discuss whether it is possible to give precise ratings to companies offering equity in the primary markets. Also
explain the parameters on which the IPO of the company can be graded.
(10 marks)
7. The rates of interest on housing loans have consistently moved upwards from the last one year. Discuss the factors < Answer >
to be considered before taking a decision of selecting whether a ‘floating rate home loan’ or a ‘fixed rate home
loan’.
(10 marks)
END OF SECTION C
Suggested Answers
Investment Banking and Financial Services - I (MSF2K1) : July 2007
Section A : Basic Concepts
upfront
The quasi equity loans can be a loan on which there is a minimum obligation contracted at
reasonably low levels irrespective of performance and an upside sharing component
The quasi equity investment also come with a number of protective covenants like appointment
of nominee, option to convert the loan in to equity shares etc.
The disadvantage with quasi equity is that, that it involves the cash payout from the investee
company during the growth phase, when the company needs to conserve cash most
From investor’s point of view tracking and accounting the payments and ensuring the accuracy
of sales accounting by the investee company.
Hence (a) is the correct answer.
22. Answer : (b) <
TOP
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.
23. Answer : (b) <
TOP
Reason : A bow tie is designed to protect both the borrower and the lender against volatile >
interest rates.
24. Answer : (b) <
Reason : A net lease where the lessee guarantees the residual value is called Net-net lease TOP
>
Hence (b) is the correct answer.
25. Answer : (b) <
Reason : A recourse factoring facility where the invoice discounting facility is not confidential TOP
in nature and the customers of the client are advised to make payment directly to the factor, this >
facility is called bulk factoring.
Hence (b) is the correct answer.
26. Answer : (a) <
Reason : Regulations on venture capital investments are low as compared to bought out deals. TOP
>
All other differences are correct.
Hence (a) is the correct answer.
27. Answer : (a) <
Reason : Rs. lakh TOP
>
Advance provided 45.000
Less: Commission 1.469
43.531
Less: Discount charge 1.575
Funds made available 41.956
Effective rate per quarter : 1.575/41.956 = 3.75%
Annualized rate = [(1.0375)4 – 1] * 100 = 15.87%.
Hence (a) is the correct answer.
28. Answer : (c) <
Reason : Cost of equipment= Rs.24 lakh TOP
>
Aggregate lease rentals= 0. 020 × 7×12×24=Rs.40.32 lakh
Aggregate interest charged for the lease over the lease period = Rs. (40.32-24) = Rs. 16.32 lakh
Add-on yield = 16.32/7=2.3314, Now (2.33/24) × 100=9.71%. Hence (c) is the correct answer.
29. Answer : (a) <
TOP
Reason : Here t=∝, and when deferment period is either equal to or greater than number of
>
level installment that are not due and outstanding, then no rebate is allowed. Hence (a) is the
correct answer.
30. Answer : (b) <
Reason : The company shall not buy-back the locked-in shares and non-transferable shares till TOP
>
the shares become transferable as per SEBI guideline. All other statements are correct.
Hence (b) is the correct answer.
Section B : Problems
1 a. < TOP >
Loan tenure (in months) 60
EMI (Rs)charged by the competitors
1275.0
(on the loan amount of Rs.50,000)
EMI(Rs) charged by the competitors
255.0
(on the loan amount of Rs.10,000)
Less : Excess EMI (Rs)charged by the competitors 5.0
EMI (Rs) charged by the Xonix Financial Service
250.0
(to be paid in arrears)
Flat rate of interest is the value of ‘f’ in the following:
f = 10.00%.
APR = 250 PVIFA(k,60) = 10,000
PVIFA(k,60) = 40
Therefore k = 1.486% ( by trial and error)
Therefore APR = (1+0.01486)12–1 = 19.36%
b. A. Loan Amount = 5,50,000 0.75 = Rs.4,12,500
Installment = = Rs.10,312.50
B. PV of EMIs = 10,312.50PVIFA(k,36)
C. Processing fee = 0.0075 4,12,500 = Rs.3,093.75
Total charge for credit = (10,312.50 60) – 4,12,500 = Rs.2,06,250
Interest rebate as per Rule 78 =
= Rs.33,811.48
D. Amount payable on early settlement = (10,312.50 24) – 33,811.48
= Rs.2,13,688.52
PV of the above = 2,13,688.52PVIF(k,36)
Effective interest rate is the value of ‘k’ in the following:
A–B–C–D=0
4,12,500 – 10,312.50PVIFA(k,36) – 3,093.75– 2,13,688.52PVIF(k,36)= 0
Therefore k = 1.55% (by trial and error)
Now, we will calculate the annualized interest rate, i.e.
–1
=1.2027–1
=20.27% p.a.
c. A. Loan amount is 5,50,000 0.75 = Rs.4,12,500
B. Installment size is 1,275/50,000 4,12,500 = 10,518.75
PV of EMI = 10,518.75PVIFA(k,12)
Effective rate of interest applicable is 10,518.75PVIFA(k,60) = 4,12,500
PVIFA(k,60) = 39.2157
k=1.56% (by trial and error)
Total 48.99
Therefore tax shield = 48.99 * 0.3 = Rs.14.70 lakh
E. PV of interest tax shield
Amount Interest PVIF @ PV of
Capital
Year of o/s component Lease Rental 18% interest
component
loan @ 16.50%
1
98.88 14.23 16.32 30.55 0.8475 13.83
2
84.65 16.58 13.97 30.55 0.7182 10.03
3
68.06 19.32 11.23 30.55 0.6086 6.83
4
48.74 22.51 8.04 30.55 0.5158 4.15
5
26.23 26.22 4.33 30.55 0.4371 1.89
Total 36.73
Therefore tax shield = 36.73 * 0.30 = Rs.11.02 lakh
Now the net value of lease = A – B + C –D –E
= 94 – 98.88 + 28.66 –14.70 –11.02
= –1.94
Since, the net value of lease is negative leasing is not advisable.
Return Return
Sr. Issue Price Index
Name of the issue LTP from the from the
No. (Rs.) Values
IPO market
1 Fortis Healthcare Limited 96.70 108.00 4079.30 -0.105 0.034
2 Advanta India Limited 815.00 640.00 3997.65 0.273 0.056
3 ICRA Limited 931.95 330.00 3917.35 1.824 0.077
4 Orbit Corporation Limited 223.00 110.00 3829.85 1.027 0.102
5 Abhishek Mills Limited 59.60 100.00 3678.90 -0.404 0.147
6 Page Industries Limited 412.80 360.00 3608.55 0.147 0.169
7 Raj Television
236.40 257.00 3608.55 -0.080 0.169
Network Limited
8 AMD Metplast Limited 69.50 75.00 3678.90 -0.073 0.147
9 Idea Cellular Limited 116.60 75.00 3718.00 0.555 0.135
10 Evinix Accessories Limited 95.00 120.00 3626.85 -0.208 0.163
11 Mudra Lifestyle Limited 79.45 90.00 3718.00 -0.117 0.135
12 Oriental Trimex Limited 22.90 48.00 3626.85 -0.523 0.163
13 MindTree Consulting Limited 797.50 425.00 3626.85 0.876 0.163
14 Broadcast Initiatives Limited 75.80 120.00 3626.85 -0.368 0.163
15 Indus Fila Limited 160.10 170.00 3761.65 -0.058 0.122
16 Euro Ceramics Limited 142.35 165.00 3718.00 -0.137 0.135
17 Indian Bank 127.90 91.00 3811.20 0.405 0.107
18 C & C Constructions Limited 197.00 291.00 3942.00 -0.323 0.070
19 SMS Pharmaceuticals Limited 341.00 380.00 3745.30 -0.103 0.127
20 Power Finance Corp. Limited 149.00 85.00 3938.95 0.753 0.071
Total
3.361 2.457
Wealth relative can found out by the formulae =
Where N = number of IPO in the sample
rit = Returns on the IPO
rmt = Returns on the market
= = 1.04.
A wealth relative greater than 1 indicates that IPOs have outperformed the market in the said period.
GFL should invest, as intrinsic worth is much higher than the issue price.
Question Paper
Investment Banking and Financial Services-I (MSF2K1): October 2007
Section 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.
(c) 1.00%
(d) 3.00%
(e) 5.00%.
< Answer >
8. 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 : Rs. 16 lakh p.m.
During the next 12 months : Rs. 12 lakh p.m.
During the next 6 months : Rs. 8 lakh p.m.
The promised rate of return to the investor is
(a) 19.56%
(b) 18.56%
(c) 17.56%
(d) 16.56%
(e) 15.25%.
< Answer >
9. Registration with SEBI is mandatory to carry the business of investment banking in India. Which of the
following is not correct with respect to the compliance norms to get the registration certificate?
(a) The applicant should be a body corporate
(b) The applicant has at least 5 employees with prior experience in merchant banking
(c) The applicant should have minimum net worth of Rs.5 crore
(d) The associate company, group company or subsidiary of the applying company has not been registered
as investment banker
(e) The applicant should have necessary infrastructure.
< Answer >
10. Which of the following is not the function of the registrar to the issue?
(a) Arrange to collect the application forms from the various collection centers
(b) Screen the invalid application and multiple application
(c) Printing and dispatch of refund orders, allotment advices and share certificates
(d) Redressal of investor grievances
(e) Agree to subscribe a specified number of securities in the event of non-subscription.
< Answer >
11. Which of the following is not correct regarding guideline for the advertisement of an issue?
(a) The advertisement shall not contain any information or language which is extraneous to the prospectus
(b) SEBI approved models, celebrities, fictional characters, landmarks or caricatures can be displayed in the
advertisement
(c) The advertisement should not include any slogans or brand names for the issue except the commercial
brand names of its product
(d) Advertisement stating that the issue is fully subscribed or oversubscribed shall not be issued during the
period when the issue is open for subscription
(e) Announcement about the closing of the issue must be made on the date of closure of the issue.
< Answer >
12. Which of the following financial instrument is issued at a face value and do not carry any interest and are
redeemed by repayment in series of installment?
(a) Cash pay bonds
(b) Installment pay bonds
(c) Secured premium notes
(d) Installment premium notes
(e) Warrants.
< Answer >
13. A leasing company which is formed as a subsidiary of a manufacturing company for leasing the products of the
parent company, is called
(a) Captive leasing company
(b) Common leasing company
(c) Formal leasing company
(d) Extended leasing company
(e) Integrated leasing company.
14. The instrument which provides the investor the option to convert the paper into flat interest paying instrument at < Answer >
the end of a particular period, is known as
(a) Mismatch FRNs
(b) Mini-max FRNs
(c) Flip-flop FRNs
(d) Capped FRNs
(e) VRN-structured FRNs.
< Answer >
15. Which of the following is/are not true regarding the difference between venture capital and bought out deal?
I. Participation in management is high in case of VC where as it is low in case of bought out deals.
II. Exit from the investments takes 7 to 10 years in case of venture capital, while in case of bought out
(e) 35%.
< Answer >
23. Mr. Prashant has accumulated savings of Rs.1,82,000 for five years with NHB. He requires a loan for a new
accommodation, which is of 859 square feet. What will be the maximum amount of loan disbursed to him under
Home loan account scheme?
(a) Rs. 83,000
(b) Rs. 1,66,000
(c) Rs. 2,49,000
(d) Rs. 3,64,000
(e) Rs. 5,46,000.
< Answer >
24. Which of the following is/are the correct difference(s) of factoring and forfaiting?
I. In the factoring transaction, the factor does not provide hundred percent finance, on the other hand, a
forfaiting transaction the forfeiter provides hundred percent finance.
II. In a non recourse factoring transaction, the factor participates in the credit granting decision of the
exporter where as in forfaiting transaction, the forfaiter relies on the unconditional and irrevocable
guarantee provided by the availing bank.
III. The forfaiter takes the responsibilities of receivables accounting while, the factor does not assume
any of these responsibilities..
(a) Only (II) 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 >
25. DP is a US based company. It wants to raise funds from India through Indian Depository Receipts. What is the
profitability requirement for DP 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.
< Answer >
26. Mercator Lines Limited is coming up with a right issue priced at Rs.50 per share. The right is offered in the
ratio of 1 share for every 6 shares held. The shares are currently quoting at Rs.61 in the market. Mr. Vinod is
currently holding 600 shares of the company. The change in the wealth of Mr. Vinod if he allows his right to
expire is
(a) + 942
(b) – 942
(c) + 480
(d) – 480
(e) + 542.
< Answer >
27. A finance company offers a hire purchase plan for its corporate borrowers for the following terms:
Flat rate of interest 10%
Repayment period 3 years
Frequency Monthly in advance
Deposit at the inception of hire agreement 20% of the cost of asset.
The annual percentage rate using approximation formula is
(a) 36.00%
(b) 24.70%
(c) 23.40%
(d) 20.57%
(e) 18.00%.
< Answer >
28. Which of the following is an example of open market?
(a) A bought out deal
(b) A car loan
(c) Public issue of securities
(d) Housing finance
(e) Private placement.
< Answer >
29. Which of the following CDs carry both fixed and floating interest rates?
(a) Asian Dollar CDs
(b) Installment CDs
(c) Rising Rate CDs
(d) Thrift CDs
(e) Yankee CDs.
< Answer >
30. Consider the following data regarding a traditional loan?
Tenure of loan : 15 years
Rate of Interest : 15% p.a.
Loan amount : Rs.10,00,000
Payment pattern : Equated monthly installments.
The principal amount outstanding after second installment is
(a) Rs.9,96,989.56
(b) Rs.9,96,589.00
(c) Rs.9,63,989.65
(d) Rs.9,12,500.55
(e) Rs.9,13,164.64
END OF SECTION A
1 Indian power sector is growing rapidly. Considering this Shah group has decided to expand their company ‘Powerful Pvt. Ltd’ < Answer >
in the proposed Gujarat SEZ. The estimated cost of the full project will be Rs.125 crore. This investment will be required at the
beginning of the financial year 2008-09.The group is able to invest Rs.50 crore as equity in the project. The equity will have the
face value of Rs.10 each. The State Bank of India has given its intimation to lend Rs.10 crore in this project for five years at an
interest rate of 10% p.a. and the amount will be repaid in five equal annual installments starting from the end of 1st year.
For remaining Rs.65 crore of investment they have proposed funding options to IDFC Private Equity Ltd. The group has given
two options to IDFC Private Equity Ltd.
i. Straight equity investment.
ii. Fully Convertible Debentures (FCDs). These debentures will carry the coupon rate of 12% and additionally will have
the share of 6% 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 11 on the average earning per share of the first four years. If there is any loss in any year,
that year will be excluded for averaging.
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 15 through the IPO route.
The company proposes to maintain a dividend payout ratio of 10% for all 6 years.
The expected EBIT for the company is as follows:
0.2 0.6 0.2
Probability
Year Amount (Rs. in crore)
2008-09 6.00 7.50 9.00
2009-10 13.50 16.5 18.00
2010-11 30.00 36.00 42.00
2011-12 49.50 55.50 60.00
2012-13 75.00 84.00 91.50
2013-14 96.00 99.00 102.00
Recently the Finance Minister of India has declared that after the financial year 2009-10 power companies will not be given any
tax benefits under SEZ and after that the company will fall under the tax bracket of 30%.Currently the company is not required
to pay any taxes. In case the company is not able to pay interest on FCDs, it will have to pay the balance interest with penalty
• Projected sales for the next year is Rs.1000 lakh and the gross margin for the company is 22%.
• Credit policy of the company is 2/10 net 30. It has been observed that 25% of the customers avail the discount.
Out of the remaining, 25% of customers pay within 20 days, 50% of the customers pay within 30 days and the rest pay
within 50 days.
• The bad debts amount to 3% of the sales.
• Administrative overheads for credit monitoring are Rs.2 lakh.
• CCS has been financing its investments in receivables through a mix of bank finance and long-term funds in the
ratio of 3:1. The effective rate of interest on bank finance is 16% and the cost of long-tern funds is 20%.
The sales executives are responsible for following up collections and on an average spend 25% of their time on collection. The
finance manager of CCS has realized that if the sales executives are relieved from collection responsibilities, the annual sales
would increase by 10%. Therefore the company has approached Resolve Financial Services. Resolve Financial Services has
offered the following two schemes:
Recourse factoring: The factoring agreement provides for an advance payment of 75% of the value of factored receivables.
Advance carries the interest of 15% p.a. and the factoring commission is 1.5% of the value of the factored receivables. Both
interest and commission are collected upfront.
Non-recourse factoring: The factoring agreement provides advance payment of 70% of the value of factored receivables.
Advance carries a rate of interest of 18% p.a. and the factoring commission is 4% of the value of factored receivables. Both
interest and commission are collected upfront.
After the careful analysis of the sales ledger of CCS, Resolve Financial Services agreed to a guaranteed payment period of 30
days. The finance manager of CCS is not sure whether to go for any factoring or to continue with in-house management for the
receivables.
You are required to recommend with calculation to the finance manager of CCS for the selection of the best scheme. (Assume
360 days in a year)
(8 marks)
3 Prime Infra Ltd. (PIL) is planning to invest in some heavy construction equipments as a part of its expansion plan. The < Answer >
equipment will cost Rs.450 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 Tech Financial Services (TFS) of Ahmedabad.
TFS uses the gross yield on investment as the basis of pricing its investments. The gross yield on five year lease investment is
1.41% 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 30% and the applicable
surcharge is 10%. Applicable sales tax is 10%. SFS collects 1% of investment cost as front- end management fees and incurs
0.5% as initial direct cost. The applicable rate of depreciation for the equipment is 20%. Expected salvage value of the
equipment at the end of fifth year will be 5% of the cost of equipment. The finance manager of PIL has asked you to calculate
a. The lease rental payable to TFS 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.
b. The viability of leasing option if, PIL 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).
(4 + 6 = 10 marks)
4 Harig Exports Ltd. has proposed to expand its operations for which it requires funds of $10 million, net of issue expenses which < Answer >
amount to 2% of issue size. It proposed to raise the funds through GDR issue. The EPS of the company for the past few years
are as follows:
Year 2002 2003 2004 2005 2006 2007
EPS Rs.12.50 Rs.81.85 Rs.105.60 Rs.137.00 Rs.133.60 Rs.167.25
At the end of the year 2003, the company announced a reverse stock split of 5:1. The company announced the bonus issue of 1:3
at the end of 2005. The current dividend payout ratio of the company is 20% and is expected to remain same in the future. The
past growth rate in dividends is expected to continue indefinitely. Other particulars are as follows:
• Three shares underlie each GDR.
• Underlying shares are priced at 5% discount to the market price.
• Expected exchange rate at the time of GDR issue is Rs.40/$.
• Current risk free rate is 7.30% and is expected to remain same.
• Beta of the stock is 1.20 and is expected to remain same.
• Risk premium is 25% and is expected to remain same.
You are required to compute
6 India was amongst the pioneers within Asian nations in leveraging securitization. In India, two sectors < Answer >
are the principal beneficiaries of securitization – banking and infrastructure sector. Explain the benefits
to each sector. Also discuss the factors that hinder the growth of securitization in India
(10 marks)
7 Credit card no doubt is a great innovation but simultaneously the other side of the innovation is the < Answer >
frauds associated with it. Explain the factors to be considered before choosing a credit card.
(10 marks)
END OF SECTION C
Suggested Answers
Investment Banking and Financial Services-I (MSF2K1): October 2007
Section A : Basic Concepts
1. Answer: (e) < TOP >
Reason: The D/A bill becomes clean bill immediately after the delivery of the documents.
Hence (d) is the correct answer.
3. Answer: (a) < TOP >
Reason: The rate at which the RBI rediscounts eligible bills from commercial banks is known as Bank rate.
Hence (a) is the correct answer.
Reason: Every company accepting public deposits shall file return of deposits with the Registrar of
Companies, on or before30th June every year.
Hence (b) is the correct answer.
Reason: SEBI has instituted a mechanism for redressal of investor grievances related to issue of securities.
SEBI has made it mandatory for all issuers to deposit 1% of the size of the issue as a security with the regional
stock exchange.
Hence (c) is the correct answer.
8. Answer : (d) < TOP >
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 :
12
I = (1+Im) –1
12
= (1.015) – 1
= 19.56%
Hence (d) is the correct answer.
9. Answer: (b) < TOP >
Reason: Agree to subscribe a specified number of securities in the event of non-subscription is the function of
underwriter. Remaining all are the functions of the registrar.
Hence (e) is the correct answer.
11. Answer: (b) < TOP >
Reason: No models, celebrities, fictional characters, landmarks or caricatures shall be displayed in the
advertisement. Remaining all are the correct guidelines for the advertisement of an issue.
Hence (b) is the correct answer.
12. Answer: (b) < TOP >
Reason: Secured premium notes are issued at a face value and do not carry any interest and are redeemed by
repayment in series of installment.
Hence (b) is the correct answer.
13. Answer : (a) < TOP >
Reason: A leasing company which is formed as a subsidiary of a manufacturing company for leasing the
products of the parent company, is called Captive leasing company
Hence (a) is the correct answer.
14. Answer : (c) < TOP >
Reason: The instrument which provides the investor the option to convert the paper in to flat interest paying
instrument at the end of particular period, is known as Flip-flop FRNs.
Hence (c) is the correct answer.
15. Answer : (a) < TOP >
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.
16. Answer : (a) < TOP >
Reason : Credit rating is not required for auction rated debt because the tenure is less than 18 months. All other
options are correct.
Hence (e) is the correct answer.
20. Answer : (c) < TOP >
Reason: Supplier guarantee factoring agreements was developed by the American factors primarily to help
their importers/distributors involved in executing import orders on behalf of their customers.
Hence (c) is the correct answer.
21. Answer : (c) < TOP >
Reason: The following are true with respect to the credit rating:
• A credit rating is a professional opinion given after studying all available information at a particular
point of time.
• There is no privity of contract between an investor and a rating agency and the investor is free to
accept or reject the opinion of the agency.
• Rating agency does not compensate the investor who has made an investment relying on the rating
and makes loss on investment.
Hence (c) is the correct answer.
< TOP >
22. Answer : (b)
Reason: In a fixed price issue the issuing company can mention cap on the price band, which should not be
more than 20% of the floor price.
Hence (b) is the correct answer.
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. Prashant = 182000 * 3
= Rs.546000
Hence (e) is the correct answer.
24. Answer : (b) < TOP >
Reason : The factor takes the responsibilities of receivables accounting while, the forfaiter does not assume any
of these responsibilities.
Hence (b) is the correct answer.
25. Answer : (d) < TOP >
Reason : The company, which wants to raise funds through IDR, has been making profits for the last five years
proceeding 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.
26. Answer : (b) < TOP >
Reason : A bought out deal, a car loan, housing finance and private placement all are the examples of
negotiated market. Only public issue of securities is the example of open market. Hence option (c) is the correct
answer.
29. Answer: (a) < TOP >
Reason: Asian Dollar CDs carry both fixed and floating interest rates.
Hence (a) is the correct answer.
30. Answer : (a) < TOP >
Reason : EMI =
Section B : Problems
1. The expected EBIT for the next six years is as follows < TOP >
(Rs. in lakh)
2008-09 750
2009-10 1620
2010-11 3600
2011-12 5520
2012 -13 8370
2013 - 14 9900
a. Straight equity investment of Rs.65 crore
(Rs. in lakh)
EBIT Interest on EAT EPS Dividend
borrowing inflow to IDFC
2008-09 750 100 650 0.57 37.05
2009-10 1620 80 1540 1.34 87.10
2010-11 3600 60 2478 2.15 139.75
2011-12 5520 40 3836 3.34 217.10
2012 -13 8370 20 5845 5.08 330.20
2013 - 14 9900 – 6930 6.03 391.95
EPS for the 6th year
= 6.03
Hence the per share inflow from IPO will be Rs.90.45
The NPV of the equity investment by IDFC
(Rs. in lakh)
Cash flow PV @ 30%
Initial Outflow (6500) (6500)
2008-09 37.05 28.50
2009-10 87.10 51.54
2010-11 139.75 63.61
2011-12 217.10 76.01
2012 -13 330.20 88.93
2013 - 14 391.95 81.20
Inflow through IPO 58792.50 12180.41
NPV 6070.21
b. Investment in FCD by IDFC
Debentures are converted after 4 years therefore EPS for 4 years will be
Interest
Interest of 6%
Year EBIT on EBT Tax EAT EPS
debenture contribution
Loan
2008-09 750 100 780 –130 – – – –
2009-10 1620 80 780+149.5 610.5 36.63 – 573.87 1.15
2010-11 3600 60 780 2760.0 165.60 778.32 1816.08 3.63
2011-12 5520 40 780 4700.0 282.00 1325.4 3092.60 6.19
Conversion price of FCD at the end of 4 years is calculated as follows:
Average EPS for first 4 years = (1.15+3.63+6.19)/3 = 3.66
Conversion price of FCD = 3.66*11 = Rs.40.22
No. shares to be issued = 161.61 lakh shares approximately
Now, the EPS at the end of 6th year = 6930 / (500 + 161.61) = 10.47
Therefore the per share inflow from IPO will be Rs.157.05
The NPV of the debt investment by IDFC is calculated as follows:
Cash flow Cash flow through Cash flow through Total inflow PV @ 30%
through participation dividend
interest in EBT
Initial Outflow – – – (6500) (6500)
2008-09 780 – – 780.00 600.00
2009-10 813.6 36.68 – 850.28 503.12
2010-11 780 165.60 – 945.60 430.41
Cash discount
Rs.5 lakh
1000*0.02*0.25 =
Average collection period =
27 days (approx)
0.25*10 + 0.75[0.25*20+0.50*30+0.25*50]
Cost of bank finance =
1000*(3/4)*(27/360)*0.16 = Rs.9 lakh
Cost of long term funds =
1000*(1/4)*(27/360)*0.20 = Rs.3.75 lakh
Total cost of funds = Rs.12.75 lakh
Bad debts
Rs.30 lakh
1000*0.03 =
Contribution lost on forgone sale
Rs.22 lakh
100*0.22 =
Avoidable cost of sales ledger and administrative
Rs.2 lakh
and credit monitoring
Total cost of in house management Rs.71.75 lakh.
Relevant cost of Recourse factoring
Factoring commission Rs.16.5 lakh
1100*0.015=
Discount charge Rs.10.31 lakh
1100*0.75*0.15*(30/360)=
Cost of long term funds Rs.4.58 lakh
1100*0.25*0.20*(30/360)=
Bad debt Rs.33 lakh
1100*0.03
Total cost of Recourse factoring = Rs.64.39 lakh
Relevant cost of Non Recourse factoring
Factoring commission
1100*0.04 Rs.44 lakh
Discount charge
1100*0.70*0.18*(30/360)= Rs.11.55 lakh
Cost of long term funds
1100*0.30*0.20*(30/360)= Rs.5.5 lakh
Total cost of Recourse factoring = Rs.61.05 lakh
Hence the Non Recourse factoring is recommended.
< TOP >
3. a. Required gross yield = Pre-tax cost of funds + 1.41%
Pre-tax cost of debt = 15%
Cost of equity = 21%
Applicable tax rate = 0.30(1.10) = 0.33
Marginal cost of capital =
Pre-tax cost of capital = 12.79/ (1-0.33) = 19.09%
Required gross yield = 19.09 + 1.41 = 20.50%
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,
=1005
10+3.49x = 1005
x = Rs.285.10 (approximately)
b. In case of a lease, sales tax of 10% will be applicable. Hence the value of the equipment will be Rs 450(1.10) = Rs.495.
Using BHW model
5. Let the monthly installment in the Ist year be Rs.X < TOP >
∴ X PVIFA1.04%12 + X (1.08) PVIFA1.04%,12 PVIF 1.04%, 12 + X(1.08)2 PVIFA1.04%,12 PVIF 1.04%,24 + X(1.08)2 (1.05)
PVIFA1.04%,12 PVIF 1.01%,36 + X(1.08)2 (1.05)2 PVIFA1.04%,12 PVIF1.04%,48 + X(1.08)2 (1.05)2 PVIFA1.04%,60 PVIF1.04%,60
= 15,00,000
11.23X + 10.71X + 10.22X + 9.47X + 8.79X + 30.74X = 15,00,000
81.16X = 15,00,000
X= 18,482 (Approximately)
∴ Monthly installment in the 1st year = Rs.18,482
∴ Monthly installment in the 2nd year = Rs.18,482 (1.08) = Rs.19,960.56
∴ Monthly installment in the 3rd year = Rs.18,482 (1.08)2 = Rs.21,557.40
∴ Monthly installment in the 4th Year = Rs.18,482 (1.08)2 (1.05) = Rs.22,635.28
from 5th year onwards = Rs.18,482 (1.08)2 (1.05)2 = Rs.23,767.04
Repayment schedule
Graduated monthly
Year
payment made (Rs)
1 18,482.00
2 20,349.36
3 21,977.31
4 23,076.17
5-10 24,229.98
core banking activities. Recent developments like the Government of India’s decision to permit 49%
FDI in ARCs would widen the market and appetite for such loans.
Infrastructure Sector
India’s infrastructure investment needs are huge but financing the same raises several issues such as huge
initial outlays, multiple project risks, unconventional assets (bridges, roads etc.), long gestation period etc.
Additionally, many state-owned service providers like State Electricity Boards (SEBs) etc., are saddled
with huge NPAs—limiting their ability to invest from internal accruals.
Securitization may just be the answer to the issues above as it makes available financing from a larger
pool of investors; enables players specialized in various different aspects of the project to participate,
redistribute risks etc.
For instance, SEBs could securitize their NPAs and generate additional funds available for investments or
road sector projects could be funded via Future Flow Securitization of toll collections etc.
Following are the some factors which hinder the growth of securitization in India:
Small Investor Base
Currently, the market for securitization is rather shallow and shackled by a small investor base. This is
especially true for the market for stressed assets. Currently, banks sell their NPAs to the ARC on the
business side and the same banks end up buying the PTCs on the treasury side. Thus, the risk transfer from
the bank’s balance sheet is often artificial. Greater participation, especially from foreign specialists, is
required.
According to Rajendra Kakkar, CEO of ARCIL, India’s first and only ARC, “We have got a buyer, we
have got a seller, it so happens that the seller is the loan side of the same institutions and buyer is the
treasury side.”
Double Taxation
There are instances of double taxation in the securitization process, which escalate the cost of the structure
and may lend a shade of uncertainty to the process.
Other issues include issues with certain legal provisions, ambiguity regarding the accounting (e.g., in case
of over-collateralization) and inherent poor quality of assets of some banks
7. Factors to be considered before choosing a credit card < TOP >
Question Paper
Investment Banking and Financial Services - I (MSF2K1) : January 2008
<Answer>
1. Export Credit and Guarantee Corporation (ECGC) offer a risk cover for goods which are exported on short-term
credit (credit not extending 180 days) is called
(a) Specific Policy
(b) Standard Policy
(c) Post-shipment Export Credit Guarantee
(d) Small Exporter’s Policy
(e) Export Finance Guarantee.
<Answer>
2. Which of the following is/are true regarding Collateral Mortgage Obligations (CMOs)?
I. CMOs are created to protect the investors from pre-payment risk.
II. Investors seeking low exposure to interest-rate risk prefer longer tranche CMOs.
III. Investors seeking to avoid call and reinvestment risk prefer shorter tranche CMOs.
(a) Only (I) above
(b) Only (III) above
(c) Both (I) and (II) above
(d) Both (II) and (III) above
(e) All (I), (II) and (III) above.
<Answer>
3. A Bank is issuing 9 month CDs worth Rs.100 lakh at a price of Rs.95,78,460. The stamp duty payable is
(a) Rs.50,000 by the subscriber
(b) Rs.50,000 by the issuer
(c) Rs.37,500 by the issuer
(d) Rs.25,000 by the subscriber
(e) Rs.25,000 by the issuer.
<Answer>
4. Which of the following is a private sector security?
(a) Call and Notice Money
(b) Term Money
(c) Participation Certificates
(d) Certificates of Deposit
(e) Factorization Bills.
<Answer>
5. Which of the following statements is true with respect to Real Estate Investment Trusts (REITs)?
(a) To retain their special tax status, REITs have to distribute 50% of their income to shareholders
(b) Indirect equity investments in REITs by investor usually lack liquidity
(c) According to the federal laws, REITs can only be infinite life trusts
(d) The most prominent form of lending by REITs is the construction/developmental lending
(e) REITs are not allowed to raise finance through debt as they are equity investment vehicles.
<Answer>
6. Which of the following forms of factoring is also known as confidential factoring?
(a) Bank participation factoring
(b) Advance factoring
(c) Supplier guarantee factoring
(d) Full factoring
(e) Invoice discounting.
<Answer>
7. RBI issued a tender notification for 91-day treasury bills of Rs.100 each for raising Rs.750 crore.
Mr. Prashant, one of the competitive bidder, has submitted the tender quoting a price of Rs.98.40. If the cut-off
price was determined as Rs.98.24 and the tender of Mr. Prashant was accepted, the yield earned by Mr. Prashant
would be
(a) 6.25%
(b) 6.52%
(c) 6.61%
(d) 6.75%
(e) 6.95%.
<Answer>
8. Which of the following is/are not true with respect to underwriting of a public issue?
I. Minimum underwriting commitment for the Lead manager to the issue is 5 % of the offer size or Rs.
25 lakhs, whichever is more.
II. Total underwriting commitment of an underwriter cannot be less than 20 times its net worth.
III. Minimum net worth of an underwriter is Rs. 20 lakhs.
IV. Total outstanding underwriting commitment for an underwriter cannot exceed Rs. 25 lakhs.
(a)Only (III) above
(b) Both (I) and (III) above
(c) Both (II) and (IV) above
(d) (I), (III) and (IV) above
(e) (I), (II) and (IV) above.
<Answer>
9. Under bank participation factoring, Hussain Finance Limited has agreed to factor the receivables of Gasket
Limited of Rs.200 lakh and agrees to provide certain proportion of receivables as advance. Diligent Bank has
agreed to finance up to 75% of the factor reserves. If Diligent Bank provides
Rs. 60 lakh, the proportion of receivables financed by Hussain Finance is
(a) 40%
(b) 50%
(c) 60%
(d) 70%
(e) 80%.
<Answer>
10. Which of the following statements is/are true regarding hire purchase?
I. The owner of goods i.e. the hiree or the finance company is required to arrange for a comprehensive
insurance cover.
II. The title to the goods is transferred to the hirer only when the hirer exercises the option to purchase or
on the payment of the last installment.
III. All hire purchase transactions are subject to the sales tax but are not subject to central sales tax.
(a) Only (I) above
(b) Only (II) above
(c) Both (I) and (II) above
(d) Both (II) and (III) above
(e) All (I), (II) and (III) of the above.
<Answer>
11. Tristone Ltd. has leased an equipment costing Rs.40 lakhs from Suresh Leases Limited for a period of 4 years at a
lease rental of Rs.320 ptpa payable annually in arrears. The marginal cost of debt and marginal cost of capital of
Tristone Ltd., is 14 percent and 12 percent respectively. If the cost of debt and marginal cost of capital of Suresh
Leases Ltd. is 10 percent and 8 percent respectively, the asset should be capitalized at
(Assume salvage value of the asset is nil).
(a) Rs.37.30 lakhs in the books of Tristone Ltd.
(b) Rs.38.87 lakhs in the books of Tristone Ltd.
(c) Rs.40.00 lakhs in the books of Suresh Leases Limited
(d) Rs.40.00 lakhs in the books of Tristone Ltd.
(e) Rs.44.61 lakhs in the books of Suresh Leases Limited.
<Answer>
12. Pawanhans Ltd. is planning a rights issue of equity shares. The current market price of the share is Rs.40 and the
rights issue can be priced maximum at 80% of the current market price. If the ex-rights price should not fall
below Rs.35, the maximum rights shares the company can offer for every share held is
(a) 0.2
(b) 0.4
(c) 0.6
(d) 0.8
(e) Insufficient information.
<Answer>
13. The risk of obsolescence of old equipments can be hedged by
(a) Swap lease
(b) Indexed lease
(c) Cross border lease
(d) Lease line
(e) Upgrade lease.
<Answer>
14. Gap loan, a form of real estate loan is a
(a)Loan on which the interest charged is generally lower than the prime lending rate
(b)Loan extended to the buyer to cover the difference between the registered value of the property and
actual purchase price
(c)Loan extended on which additional payment is required to be made to cover the gap between market
interest rate and the ceiling rate agreed upon
(d)Loan extended to the developer to cover the difference between the bank construction loan and the total
cost of the project
(e) Loan extended during the period to help borrower in finding out a suitable lender.
<Answer>
15. Which of the following is/are true regarding REPO transactions?
(a)Non-banking entities holding both current and SGL accounts with RBI, Mumbai can only borrow in the
repo market
(b) It can be issued for a minimum of Rs. 1 crore and in multiples of Rs. 1 crore
(c) The interest rate is decided upon by the issuer of such instruments
(d) Interest rate on REPO is likely to be higher than the prevailing call rate
(e) They represent borrowing of unsecured nature.
<Answer>
16. Consider the following information:
Amount of consumer loan Rs.3,00,000
Repayment period 36 months
Equated monthly installment Rs.9,999
After 21 months, if a borrower opts for early repayment, the interest rebate allowed to the borrower as per rule of
78 method is
(a) Rs.10,804
(b) Rs.10,936
(c) Rs.11,258
(d) Rs.11,492
(e) Rs.11,544.
<Answer>
17. Danley Leasing Ltd. has leased an equipment costing Rs.50 lakh for a period of 5 years at an annual lease rental
of Rs.325 ptpa payable annually in advance. The opportunity cost of debt of the company is 12% and cost of
capital is 15%. If the applicable tax rate is 35%, according to equivalent loan model, the amount of debt that will
be raised in lieu of lease is equal to
(a) Rs.55.26 lakh
(b) Rs.56.49 lakh
(c) Rs.58.20 lakh
(d) Rs.65.61 lakh
(e) Rs.68.46 lakh.
<Answer>
18. Which of the following is true regarding finance and operating leases?
(a)The lessee enjoys the right to terminate the lease at short notice without significant penalty in case of
finance leases
(b)According to FASB, if the present value of lease payments exceed 75 % of the fair market value of the
asset at the inception of the lease, then the lease is termed as finance lease
(c)Operating leases are generally structured for leasing investment-intensive assets
(d)In operating leases, the lease is fully amortized over the lease period
(e)In an operating lease, if the lessee bears the cost of insuring and maintaining, then the lease is referred to
as dry lease.
<Answer>
19. Which of the following statements are true?
I. Both interest-only securities and principal-only securities are neutral to the changes in interest rates.
II. The return to the investors of interest-only security and principal-only securities move in the same
direction.
III. 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.
IV. The purchaser of interest-only portion of the STRIP invests in the security with a yield potential of
high-coupon collateral.
(a) Both (I) and (II) above
(b) Both (III) and (IV) above
(c) (I), (II) and (III) above
(d) (II), (III) and (IV) above
(e) All (I), (II), (III), and (IV) above.
<Answer>
20. To promote the investment activity in the Government Securities market, several countries have adopted licensed
Primary Dealers (PDs) as important intermediary in the market. Which of the following is not true with respect
to the PDs?
(a) They are responsible for giving two-way quotes
(b) They are responsible for meeting the minimum bidding requirement
(c) The specific objective of PDs is to promote retail investment
(d) They are responsible for providing information of the market activity to the central bank
(e)They have an important role to play in the development of secondary market for the Government
Securities.
<Answer>
21. Wesley Inc., is a US based company. It wants to raise funds from India through Indian Depository Receipts. What
is the profitability requirement for Wesley according to SEBI Act, 1992?
(a)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
(b)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
(c)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
(d)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
(e)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.
22. In case of Book Built issues, the minimum period for which bidding will be open is 3 working days. The <Answer>
maximum period for which bidding will be open and the maximum number of days by which it can be extended
in case of a revision in the price band are
(a) 7 days and 2 days respectively
(b) 7 days and 3 days respectively
(c) 6 days and 2 days respectively
(d) 6 days and 3 days respectively
(e) 10 days and 4 days respectively.
23. Which of the following statements is/are not true with respect to reservation in the public issues of the company? <Answer>
I. Net offer to the public should not be less than 25% of the post issue equity capital of the company.
II. The reservation for the employees of the company cannot exceed 10% of the total size of the company.
III. Total reservation for all NRIs and OCBs cannot exceed 15% of the post-issue capital as per RBI
guidelines.
IV. The reservation for group shareholders cannot exceed 10% of the total size of the company.
(a) Only (I) above
(b) Only (III) above
(c) Both (I) and (III) above
(d) Both (II) and (III) above
(e) Both (III) and (IV) above.
24. The probability of the investment being confiscated is 0.15. If the cash flow when confiscation does not occur is <Answer>
Rs.32 lakh and the discount rate is 11%, then expected cash flow is
(a) Rs. 24.66 lakh
(b) Rs. 45.52 lakh
(c) Rs. 61.84 lakh
(d) Rs. 88.41 lakh
(e) Rs.104.62 lakh.
25. Rao Finance Ltd., a company engaged in hire purchase earns Rs.4,50,000 as interest in the fiscal year 2007-08. <Answer>
The service tax (including surcharge) payable on the interest earned by Rao Finance Ltd. for the fiscal year 2007-
08 is
(a) Rs.42,268
(b) Rs.45,900
(c) Rs.55,620
(d) Rs.56,854
(e) Rs.58,886.
<Answer>
26. Consider the following data relating to a company:
Cost of leased asset : Rs.60 lakh
Rate of depreciation : 20%
Fixed asset turnover ratio : 2.5
Sales for the year : Rs.260 lakh
Instead of leasing if, the company had purchased the asset, its fixed asset turnover ratio would have been
(a) 1.15
(b) 1.45
(c) 1.59
(d) 1.64
(e) 1.82.
<Answer>
27. 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) Surrender clause
(b) Exemption clause
(c) Ownership clause
(d) Description clause
END OF SECTION A
1. Sukanth Fabrication Ltd. (SFL) a small scale unit, is contemplating to sale and lease back an asset <Answer>
which was purchased at Rs.50 lakhs three years back by raising a term loan carrying an interest rate of
14% 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.6 lakhs. The tax relevant rate of depreciation is 25%.
SFL has approached two leasing companies for the same, the details of which are as follows:
Company Lease quote
Alpha Leasing Ltd. (ALL) Rs.20 ptpm payable quarterly in advance over a period of 5
years
Beta Leasing Ltd. (BLL) Rs.18 ptpm payable monthly in arrears over a period of 5
years
Additional Information:
• ALL requires a gross yield of 18% p.a. on this lease transaction. Its cost of capital is
12% and is in the tax bracket of 25%.
• BLL wishes to structure the sale and lease back in such a way that it earns an IRR of 3%
over the cost of capital. Its cost of capital is 12% and is in the tax bracket of 30%.
• SFL follows a debt equity ratio of 2:1. Its cost of equity is 16.4% and it is in the tax
bracket of 30%.
You are required to:
a. Determine the maximum purchase price that ALL can pay for the asset. ( 2 marks)
b. Determine the maximum purchase price that BLL can pay for the asset. ( 6 marks)
c. Determine, of the two, which lease quote is more favorable to SFL. ( 7 marks)
2. Laxmi Textiles Ltd. proposes to set up a Rs.500 crores Polyester Filament Yarn (PFY) plant in <Answer>
Vadodara. The company is planning an ADR offering and to be listed on NYSE. It proposes to raise
$100 million, net of issue expenses of 5%. The shares will be offered at the domestic market price of
Rs.500 (face value of 1 share is Rs.10). Each ADR will consist of 3 equity shares. The current
exchange rate is $1 = Rs.40. The company paid a dividend of 50% during 2006-2007.
b. Middle-East Fund invests in 25,000 ADRs of the company. At the end of one year the
company issues rights in the ratio of 1:3 (1 new share for every 3 shares held) at a price of
Rs.450 per share. The domestic price before rights issue is Rs.525.
The fund exercises the rights and immediately sells the entire holdings at NYSE. The NYSE
quotes are 5% higher than the rates prevailing on the National Stock Exchange. The exchange
rate is $1 = Rs.38 at the time of the rights issue as well as the divestment.
You are required to compute the gain/loss to Middle-East Fund on this transaction.
( 5 marks)
3. Modi Estate Ltd. has approached a venture capital (VC) company with a proposal to sell <Answer>
25 lakh shares. The performance of the company in the first two years of operation is as under :
Year 1 2
Sales (Rs. Crores) 210 235
Equity (Rs. Crores) (Face value per share: Rs.10) 5 5
Profit after tax (Rs. crores) 30.5 35.8
The sales and the net profit margin are estimated to grow at the historical compounded annual growth
rate.
The target return decided by VC is 40% whereas the probability of achieving the target return should
be at least 90% and the time horizon is 1 year. Modi Estate Ltd., is expected to price its divestment at
the industry P/E ratio.
The industry P/E multiple is expected to be as follows:
P/E multiple Probability
40 0.2
42 0.3
46 0.3
50 0.2
You are required to find out at what price the venture capital company should invest in the shares of
Modi Estate Ltd.
(
10
marks)
4. Konark Packaging Ltd. requires funds to the extent of Rs.100 lakhs for two years. It proposes to raise <Answer>
the funds by issuing Commercial Papers for one year and then roll it over for another year. Its
Investment Banker is of the opinion that as the company is new in the market and it needs to pay an
interest rate of minimum 12% per annum and it has to pay the maximum brokerage charges.
Applicable credit rating charges is 1% of the face value.
You are required to compute the effective cost of funds if the company raises funds through the CPs.
(
7
marks)
5. Sunderam Bank offers traditional and non-traditional mortgage loans for purchase of residential <Answer>
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 five years and equated payments thereafter which are equal to the EMIs under
Traditional Mortgage.
Mr. Raghu has approached the bank for a home loan of Rs.15 lakhs for a period of 10 years. Assume
under Pledged Account Mortgages the bank requires Mr. Raghu to make equated monthly payments
of Rs.14,650 during the first year. Assume the payments during a year are equal.
a. Determine the EMIs and the interest rate if the loan is given under Traditional Mortgage.
(
4
marks)
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 9% p.
a. compounded monthly and that the balance in the pledged savings account becomes zero at
the end of the fourth year.
(
4
marks)
END OF SECTION B
6. Describe Future flow securitization. What are the advantages of this kind of securitization? Also <Answer>
enumerate the risk associated with Future flow securitization.
(
10
marks)
7. Discuss the factors considered by a credit rating agency while assigning a rating symbol to an <Answer>
instrument.
(
10
marks)
END OF SECTION C
Suggested Answers
Investment Banking and Financial Services - I (MSF2K1) : January 2008
Section A : Basic Concepts
Answer Reason
1. BStandard Policy is a risk cover offered by ECGC which is designed to cover risks <
with respect to goods which are exported on short-term credit not exceeding 180 TOP >
days. So, the correct answer is (b).
2. AThe collateral mortgage obligations takes the same cash flow that a conventional <
pass through security generates and then carves into discrete maturities or trenches. TOP >
Hence, CMOs protect the investors from prepayment risk. As long term loans carry
a higher interest rate risk, the investors preferring to have low exposure to interest
rate risk prefer shorter tranches CMOs and as shorter tranche CMOs receive
principal payment before longer tranches, longer tranches CMOs are preferred by
investors who seek to avoid call and reinvestment risk. Hence, both (II) and (III)
are incorrect and the (I) is true and the answer is (a).
3. C The current rates of stamp duty as paid by the issuer on the face value of <
the CD are as follows: TOP >
Period Stamp Duty (% to face value)
Up to 3 months 0.125
Above 3 months – Up to 6 months 0.250
Above 6 months – Up to 9 months 0.375
N ≥ 3/5 = 0.6
i.e. for every 5 shares held at the most 2 shares is offered as right shares and for
every 1 shares held, a maximum 0.6 share will be offered and the answer is (c).
13. EUpgrade lease provides for automatic exchange of out-model equipment with the <
latest updated version of such equipments. Hence, this type of lease helps in TOP >
hedging the risk of obsolescence.
14. DIn Gap loan, the loan arrangement is as described in alternative (d) and the interest <
charged is generally higher than the prime lending rate. Hence, correct answer is TOP >
(d).
15. BREPOs can be issued for a minimum of Rs. 1 crore and in multiples of Rs. 1 crore. <
It represents borrowing of secured nature. Interest rate on REPO is likely to be TOP >
lower than the prevailing call rate. Non-banking entities holding both current and
SGL accounts with RBI, Mumbai can borrow as well as lend in the repo market .
The interest rate on REPO is mutually decided upon by the issuer and the buyer.
So, the correct answer is (b).
16. A Interest rebate as per rule of 78 = <
Where t is number of installments outstanding = 15, TOP >
21. CThe 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 TOP >
than ten percent each year for the said period. Hence (c) is the correct answer.
22. BIn case of Book built issues, the minimum and maximum period for which bidding <
will be open is 3 – 7 working days extendable by 3 days in case of a revision in the TOP >
price band. Hence (b) is the correct answer.
23. BTotal reservation for all NRIs and OCBs cannot exceed 10% of the post-issue <
capital as per RBI guidelines. All other statements are true. Hence (b) is the correct TOP >
answer.
24. EIt can be calculated with help of the formulae i.e. V= CF (1-P)/re +P <
TOP >
V= (32 × 0.85)/(0.11 + 0.15) = Rs.104.62 lakh. Hence the answer is (e).
25. CThe service tax plus surcharge payable on the interest earned by the hire purchase <
companies is 12.36%. Therefore, service tax payable by Rao Finance for the fiscal TOP >
year 2007-08 = 12.36% of Rs.4,50,000 = Rs.55,620. Hence (c) is the correct
answer.
26. CFixed asset turnover ratio = 2.5 <
2.5 = Sales/Fixed Assets TOP >
The cost of RVI is the premium payable to the underwriter or the insurance
company.
The obvious advantage of buying of RVI is that the lessor able to offer competitive
rates.
Hence (d) is the correct answer.
29. AIt denotes the amount of cash being brought into the particular round of financing <
by the VC investor. Hence (a) is the correct answer. TOP >
6. Future flow securitization raises funds based on expected future flows that are still to be generated. These are < TOP >
classified as into two types: long term contract receivables and future cash flows. Term off take agreements for
the supply of goods or services are examples of former. In this, the volume is generally prefixed, but price of
receivables may be variable. Future cash flows are not only subject to price variations but also to variations in
volume. Examples are ticket receivables, telecom receivables etc. in this a base case for the receivables are
generally presumed. The base case cash flows are progressively reduced over time.
Advantages:
(a) There will be lesser cost of funds to the borrower due to higher credit rating.
(b) It is also possible to have a diversified source of funding.
(c) Even when credit is tight due to adverse market conditions, these transactions can ensure sufficient
funds raising due to their being of quality.
(d) These can extend the tenure of financing available to the borrower.
Risks associated are:
(a) Performance risks: these transactions rely on future cash flows to repay investors. Therefore the
borrower needs to be continuously monitored and reviewed throughout the tenure of transaction. In case a
borrower becomes insolvent, no creditor would be able to make claims against the receivables sold to
investor.
(b) Generation risks: This relates to the sustained generation of the receivables at certain levels from the
host of factors outside the control of the borrower, e.g. anticipated reserves may not materialize or seasonal
variation in the anticipated level of receivables may occur.
Price risks and off- take risks: These refers to likely price variations or the concerns that the obligors in the
future ceases buying or reduce their purchasing level of goods or services from the seller.
7. The key parameters taken into account while rating a debt instrument are as follows: < TOP >
I. Industry Evaluation – This involves an evaluation of the following:
• General profile of the industry, major competitors, extent of competition, growth potential and
trend of development both domestic and international.
• Demand and supply position of the product, existing installed and licensed capacities, capacities
in the pipeline.
• Position of import and export, technological developments, price trends, availability, source,
quality and prices of major inputs.
• Government policies and regulations affecting the industry and other major problems and
constraints.
II. Unit Evaluation – This company level evaluation involves an assessment of the following:
• Position of the unit in the industry, market share, competitive edge, major strengths and
weaknesses.
• Product range and quality, market segmentation and seasonality and market, marketing
strategies, channels and network.
• Future program, goals and targets. Product range and portfolio diversification, need, scope and
prospects of diversification and expansion.
• Group/associate company performances, support and synergy.
III. Technical Evaluation – The technical competence of the company is assessed by focusing on the
following:
• Level of technology, operative efficiency of the plant, vintage of the plant and level of
maintenance.
• Need and plan for modernization and debottlenecking.
• Competence and support of technical collaborators, terms of collaboration, royalty and buy-back.
• In-house expertise and expertise for absorption of technology.
• Efforts for skill development and productivity improvement.
• Locational advantages and disadvantages and infrastructural facilities.
• Yield analysis, extent of rejection at different stages including quality complaints by the
customers.
• Protection against hazards and other natural calamities.
IV. Financial Evaluation – The financial strength of the client is assessed by examining the following
aspects:
• Accounting policies, extent of disclosures, inventory valuation, depreciation and other
provisions, revaluation of assets, management of assets and liabilities, asset quality, contingent and off
balance sheet liabilities.
• Auditor’s reports and Director’s report.
• Capitalization trends and policies.
• Cash flow trends and potential, future projections and underlying assumptions in respect of
profitability and liquidity management.
• Return on capital employed, interest coverage, debt-service coverage and fixed assets coverage.
• Practice of debt servicing, requirement of future debt servicing, major fund commitments and
overall liquidity.
• Financial flexibility, unutilized borrowing potential, standing in the capital market, capability to
raise resources and to absorb debts.
• Working capital management, control over receivables and inventory.
• Budgeting and cost control system.
• Sensitivity to changes in interest rates, tax rates and exchange rates, hedging of risks.
V. Statutory Evaluation – The statutory status of the company will be evaluated in the following manner:
• Compliance status in respect of Government regulations and directives effecting the industry/
unit, position of obtaining approvals and no objection may be necessary.
• Terms of issue, debenture trustees, and trust deeds. Securities and charges created over assets.
• Pending disputes by and against the concern.
• Practices regarding payment of statutory dues.
VI. Management Evaluation – The evaluation of the company’s management will aid in assessing the
willingness of the borrower to repay. The aspects involved in such evaluation are
• Shareholding pattern and controlling interest.
• Composition of the Board of Directors.
• Organizational profile, adequacy and quality of organizational set-up, extent and effectiveness of
delegation.
• Competence and integrity of management and its capability to face crisis.
• Policies and practices regarding recruitment, training, motivation and career planning of
employees.
• Style of management functioning, approach and outlook, organizational culture, employee
morale and industrial relation.
Management information and monitoring system.
Question Paper
Investment Banking and Financial Services – I (MSF2K1) : April 2008
<Answer>
1. For public deposits the issuing company is required to maintain the liquid assets to the extent of a certain
percentage of the deposits maturing during the financial year ending 31st March. For this purpose, the permitted
investment(s) is/are
I. Deposits held with any Indian bank, free from any lien.
II. Unencumbered securities of central or state government.
III. Unencumbered securities approved by Indian Trust Act, 1882.
IV. Unencumbered bonds issued by HDFC.
(a) Only (II) above
(b) Only (III) above
(c) Both (II) and (IV) above
(d) (II), (III) and (IV) above
(e) All (I), (II), (III) and (IV) above.
<Answer>
2. A CD issued by large savings and loan associations which can be covered under the FDIC is called
(a) Installment CD
(b) Thrift CD
(c) Jumbo CD
(d) Declining rate CD
(e) Rising rate CD.
<Answer>
3. Which of the following statements is not true with respect to the lock-in requirements of the promoters’
contribution?
(a) The minimum contribution to be made by promoters’shall be locked-in for a period of three years
(b) In case the promoters’ contribution in the proposed issue exceeds the minimum specified contribution,
such excess contribution will also attract lock-in period of one year
(c) The lock-in period commences from the date of allotment or from the date of commencement of
commercial production whichever is later
(d) Bonus share issued to the promoter out of revaluation reserves during the preceding three accounting
years are required to be lock-in for a period of one year
(e) Shares issued to the promoter at a price lower than the current issue price during the preceding 12
months period are required to be locked-in for a period of three years.
<Answer>
4. Which of the following statements is false regarding different types of leases?
(a) In a leveraged lease transaction, the loan participant obtains an assignment of the lease and the rentals to
be paid by the lessee, and a first mortgage on the leased asset
(b) A leveraged lease transaction entitles the lessor to claim tax shields on depreciation
(c) In a sales-aid lease the equipment supplier catalyzes the lease transaction
(d) In a single investor lease, the debt funds raised by the leasing company are with recourse to the lessee
(e) An upgrade lease is an operating lease which has in-built facilities like up-gradation of the equipment.
<Answer>
5. Which of the following are not true in the context of ‘Credit Rating’?
I. Rating is useful in differentiating credit quality.
II. Rating is a general-purpose evaluation of the issuer.
III. Rating is an isolated function of a credit risk evaluation.
IV. Rating is an extensive audit of the issuing company.
V. Rating reflects borrower’s accountability.
(a) Both (I) and (III) above
(b) Both (II) and (IV) above
(c) (I), (II) and (III) above
share is Rs.45 and ex-rights price should not fall below Rs.43, subscription price should be more than
(a) Rs.10
(b) Rs.30
(c) Rs.33
(d) Rs.42
(e) Rs.44.
<Answer>
19. If an IPO is under-priced, which of the following can be considered as consequences/implications of the same?
I. The company looses the opportunity to raise more funds.
II. Under pricing would give less returns to the investor.
III Under pricing results in lower net worth on an increased equity.
(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.
<Answer>
20. Which of the following statements 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 yankee bonds.
III. Euro commercial papers issued with maturity of up to one year are underwritten and secured.
IV. Note Issuance Facilities are underwritten and have maturity of up to one year.
(a) Only (I) above
(b) Only (III) above
(c) Both (II) and (III) above
(d) Both (I) and (IV) above
(e) (I), (III) and (IV) above.
<Answer>
21. Sumeet Industries Limited leased an asset worth Rs.50 lakhs from Nahar Finance Limited for a period of 3 years
at a rate of Rs.115 ptpq. Lease rentals are payable annually in advance. If the marginal cost of debt and tax are
14% and 30% respectively, the amount of debt displaced by lease to Sumeet Industries, according to Bower-
Herringer-Williamson Model is
(a) Rs.61.88 lakhs
(b) Rs.60.89 lakhs
(c) Rs.55.25 lakhs
(d) Rs.53.41 lakhs
(e) Rs.50.00 lakhs.
<Answer>
22. In the context of leasing, “hell or high water” clause is defined as
I. The clause under which the lessee is responsible for repair, maintenance and insurance of the asset.
II. The clause under which the lessee undertakes obligation for the payment of rental regardless of the
condition or the suitability of the asset.
III. The clause under which the risk of obsolescence is shifted from the lessor to the lessee.
(a) Only (I) above
(b) Only (II) above
(c) Only (III) above
(d) Both (I) and (III) above
(e) All (I), (II) and (III) above.
<Answer>
23. Hindustan Factors Ltd. gives an advance of 80% against receivables worth Rs.10,00,000 purchased from Aniket
Ltd. payable after 90 days. The advance carries an interest rate of 17% per annum compounded quarterly and the
factoring commission is 1.8% of the value of factored receivables. Both the interest and commission are
collected up-front. The amount actually made available to Aniket Ltd. is
(a) Rs.7,28,000
(b) Rs.7,48,000
(c) Rs.7,66,000
(d) Rs.7,82,000
(e) Rs.8,00,000.
<Answer>
24. The following data have been extracted from the books of Sun Leasing Limited for the year 2007-08
Particulars Rs. in crore
Equity Share Capital 240.50
Preference Share Capital 140.50
(c) 30%
(d) 60%
(e) 70%.
<Answer>
30. Elegant Emeralds have taken a machine worth Rs.10,00,000 in hire purchase from Fabulous Finance Limited at
the following terms:
Rate of interest 14% flat
Repayment period 4 years
Frequency of payment Monthly in arrears
Down payment 25%
If after paying the 30th installment Elegant Emeralds want to repay the loan and purchase the machine, what
interest rebate it can enjoy according to the Rule of 78 method?
(a) Rs.50,000
(b) Rs.56,965
(c) Rs.60,000
(d) Rs.61,071
(e) Rs.62,465.
END OF SECTION A
<Answer>
1. SSK has furnished the following information pertaining to its credit policy:
• A projected sale for the next year is Rs.1,500 lakh and the gross
margin for the company is 20%.
• Credit policy of company is 2/15 net 30. It has been observed that 20% of
the customer avail the discount, 20% of customer pay with in 20 days, 50% of the
customer pay with in 30 days and rest pay with in 40 days.
• The bad debts amount to 2% of the sales.
• Administrative overheads for credit monitoring are Rs.1.5 lakh.
• SSK has been financing its investments in receivables through a mix of
bank finance and long-term funds in the ratio of 4:1. The effective rate of interest
on bank finance is 14% and the cost of long-term funds is 18%.
The sales executives are responsible for following up collections and on an average spend 25% of
their time on collection. The finance manager of SSK has realized that if the sales executives are
relieved from collection responsibilities, the annual sales would increase by 5%. Therefore the
company has approached Resolve Financial Services. Resolve Financial Services has offered the
following two schemes:
Recourse factoring: The factoring agreement provides for an advance payment of 80% of the value
of factored receivables. Advance carries the interest of 12% p.a. and the factoring commission is 1.5%
of the value of the factored receivables. Both interest and commission are collected upfront.
Non-recourse factoring: The factoring agreement provides advance payment of 75% of the value of
factored receivables. Advance carries a rate of interest of 15% p.a. and the factoring commission is
3.5% of the value of factored receivables. Both interest and commission are collected upfront.
After the careful analysis of the sales ledger of SSK, Resolve Financial Services agreed to a
guaranteed payment period of 30 days. The finance manager of SSK is not sure whether to go for any
factoring or to continue with in-house management for the receivables.
You are required to recommend with calculation to the finance manager of SSK for the selection of
the best scheme. (Assume 360 days in a year)
( 10 marks)
<Answer>
2. Milton Telecom Ltd. is a closely held existing profit making company. The company planning to
expand its capacity to meet the growing demand for its product. The cost of the project is estimated at
Rs.50 crore. The project will be financed by term loan of Rs.20 crore and balance through public
issue. The capital and liabilities of Milton Telecom Ltd. as per the balance sheet at the end of year
2007-08 are as follows:
Rs. in lakh
Paid-up capital
(20 lakh shares of Rs.10 each) 200
Reserves & surplus 1400
10% partly convertible debenture 100
( F.V. Rs.100 each)
12% Secured Loans 500
Current liabilities 300
The company appoints Enam Financial Consultants (EFC) as their Merchant Banker. EFC advises
them against tapping the market. Instead they suggest a bought out deal the following terms:
• EFC will buy out the entire issue at current market price, current P/E ratio is 5.
• EFC will offload the shares through an offer for sale at the end of 3 years.
• EFC will be assured an IRR of 24% on their investments. In case of divestment takes
place at a lesser price, the promoter would compensate EFC for differential amount. In case,
EFC offloads at a price which gives them an IRR of over 24%, the surplus would be shared
equally by the promoters and EFC.
The return on assets (ROA) for the company is 18.8%. The EPS is expected to grow by 10% annually
over the next 3 years. The company proposes to declared dividend at 15%, 20%, 25% for the next
three years respectively. The divestment takes place at P/E multiple of 10. Tax rate applicable to the
company is 40%.
Given the information, you are required to calculate:
(
5
marks)
b. The total post-issue returns to EFC on their investment.
(
6
marks)
<Answer>
3. GPP (India) Ltd., a subsidiary of GPS Co Inc. of US is considering a modernization program for
which it requires some specialized equipments for its bottling plant, the equipments being available in
UK. The cost of machinery is Rs.50 crores. The life of machinery is assumed to be 7 years after which
its salvage value is nil. The machinery is eligible for tax relevant depreciation rate of 25%.
Due to unavailability of sufficient funds to procure the equipments, GPP (India) Ltd., has proposed to
enter into a cross border lease agreement with a UK based leasing company PFS. PFS has agreed to
lease the equipment for a period of 7 years with lease rentals payable annually in advance. PFS
structures it lease transactions to earn a return of 12% and its effective tax rate is 20%.
You are required to:
a. Determine the lease rentals GPP Co (India) Ltd., has to pay to PFS.
( 5 marks)
b. Structure a double dip lease transaction involving the parent company GPS Co Inc. US
in such a way that the lease rentals payable by GPP Co (India) Ltd., is lower than the lease
rentals arrived at (a) above. Determine the lease rentals of such double dip transaction.
Assume:
i. The required rate of return and the effective tax rate of the US and UK companies are
12% and 20% respectively.
ii. SOYD method of allocation of interest and the same pattern of lease rentals payments.
( 8 marks)
<Answer>
4. Arvind Industries Ltd., entered the capital market with an IPO of Rs.150 cr. Due to the moribund state
of the market, the issue fared badly was undersubscribed. The details of the underwriting and the
procurement of each underwriter is as follows:
(Rs. in crore)
Underwriter Amount Underwritten Amount Procured
JM Morgan Stanley 45 15
DSP Merril Lynch 20 25
Kotak Mahindra Capital Corp. 15 30
Max India 30 10
IDBI 20 0
ICICI Securities 10 0
SBI Capital Market 10 5
In addition to the above, application marked ‘direct’ were for Rs.5 crore and application for Rs.10
crore had no stamp in the underwriter’s column of the application.
You are required to compute the amount of devolvement on each underwriter as per the
current SEBI guidelines.
( 6 marks)
<Answer>
5. Zen Financial Services Ltd., (ZFSL) offers finance to individuals to purchase four wheelers on the
following terms:
i. Deposit of 25% of the cost of the asset should be made at the inception of the
transaction.
ii. 36 EMIs have to be made each at the beginning of every month.
Deposit carries an interest of 12% p.a. compounded monthly and would be repaid on the payment of
the last installment. The company levies a service fee of Rs.2,000 and a prompt payment bonus of
Rs.10 per Rs.10,000 per month on expiry of the repayment period.
You are required to:
a. Calculate the maximum monthly payments to be made by a borrower if his effective cost
of fund is 20% p.a. and cost of the asset is Rs.5 lakhs.
( 5 marks)
b. Calculate the effective interest rate on the completed transaction if the borrower would
like to make the prepayment at the end of 30 months. The company allows the prompt payment
bonus and offers an interest rebate calculated in accordance with the Modified Rule of 78
method with α = 2. Assume the EMIs as obtained in (a) above.
( 5 marks)
END OF SECTION B
6. The rating services in international markets can be classified into shadow rating and formal rating. In <Answer>
this context, explain these two types of credit rating.
(
10
marks)
7. There is no uniform format for the lease agreement and the clauses included in the agreement vary <Answer>
from one lease agreement to another. What are the contents of the lease agreement that one should
verify before entering into the agreement?
(
10
marks)
END OF SECTION C
Suggested Answers
Investment Banking and Financial Services – I (MSF2K1) : April 2008
Minimum underwriting commitment by Goldmine, the Lead Manager will be the lesser of the two:
• 5% of Rs.5000 lakhs = Rs.250 lakhs
• Rs.25 lakhs.
Hence minimum underwriting commitment by Goldmine shall be Rs.25 lakhs. Therefore (a) is the
correct answer.
7. c Real estate investment is perceived as high-risk investment area because of its’ complicated and < TOP >
unstandardized nature.
Active management commitment is required to produce high returns.
Data concerning the historical returns and risk of the various types of possible real estate investments is
inadequate.
Since statements (I) and (II) are true and statement (III) is false, alternative (c ) is answer.
8. DMortgage Backed Securitization is backed by easily traceable immovable asset whereas Asset Backed < TOP >
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. In case of Asset-Backed
Securitization asset need not exist at the time of securitization but in case of Mortgage Backed
Securitization mortgage has to exist necessarily at the time of securitization. Hence (d) is the answer.
9. AThe maximum brokerage to be payable on a commercial paper issue for a period of 3 months is 0.025% < TOP >
of issue amount. Hence, in the present case, it is 0.125 lakh (5crore × 0.025 %). Hence, alternative (a) is
answer.
10. b Mismatch FRNs also known as rolling rate FRNs have semi-annual interest payments though the actual < TOP >
rate is fixed monthly. This enables investors to benefit from arbitrage arising on account of differentials
in interest rates for different maturities. Hence, alternative (b) is answer.
11. e All the following measures taken by the Central Government endeavors to enhance the level of < TOP >
efficiency of the Indian Credit Market:
• Deregulating the interest rate environment
• Withdrawing the Government funds as a source of funds to Financial Institutions
• Permitting offshore banking
• Setting prudential norms for the intermediaries.
• Permitting access to overseas funds
Hence (e) is the correct answer.
12. d An agreement which involves a sale of security with an undertaking to buy back the same security at a < TOP >
predetermined future date and price is termed as a repo whereas a reverse repo involves a purchase of
security with an undertaking to sell the same. Hence, (a) is not correct. Repo transactions are generally
done for short term and hence (b) is also not correct. Provident funds are not eligible to participate in
the repo auctions and hence (c) is also not correct. When RBI undertakes reverse repos, it purchases the
securities with an undertaking to sell the same and thus increases the liquidity in the money market.
Hence, (e) is also not correct. In a repo transaction, the underlying security is held with the lender of the
funds and hence a repo transaction is considered as a secured transaction whereas the borrowings in the
call money market are unsecured in nature.
13. b All money market instruments though short term in nature are exposed to reinvestment risk i.e., the risk < TOP >
of reinvesting the redeemed funds at a lower rate in case of falling interest rate scenario. Hence, (I) is
not true.
Except for government securities other securities have the probability of default by the borrower in the
repayment of the principal and/or interest. Hence, (II) is not true.
As money market instruments are short term in nature the inflation risk is considered to be minimal as
compared to long term securities. Hence, (III) is true. Generally, interest rate risk is at a higher level in
case of money market instruments. Hence (IV) is not true. Hence, alternative (b) is answer.
14. a Discounted value (DR) = < TOP >
F – Face Value – Rs.5,00,000
I – discount rate – 9%
N – Days to Maturity – 91 days
DR = = Rs.4,89,027.
15. d Factoring differs from bills discounting in the following respects < TOP >
• In a bill discounting arrangement, the financial intermediary does not assume the
responsibilities of sales ledger administration and collection of debts, which the factor does under
the factoring arrangement. Hence, I is true.
• The bill discounting arrangement is recourse to the client whereas a factoring arrangement
can be with or without recourse. Hence, III is true.
• Unlike factoring, no notice of assignment is provided to the customers of the client under
the bill discounting arrangement. Hence, II is not true.
Hence (d) is the correct answer.
16. c Following are some of rights given to PDs in India: < TOP >
• The PDs are permitted to borrow and lend in the money market.
• The PDs are having access to Current and SGL accounts.
• The PDs can access finance through REPOs.
• The PDs can raise funds through CPs.
• The PDs can transfer funds from one center to another under Reserve Bank’s Remittance
Facility Scheme.
Hence (c) is the false statement. Therefore (c) is the answer.
17. b The interest payable on premature withdrawal of public deposits is as under: < TOP >
More than 3 months but up to 6 months NIL
More than 6 months but up to 1 year Not exceeding 10%
Above one year (12 months) 1% less than the rate of which the company
would have paid if the deposit had been accepted
for the period for which the deposit had actually
run.
Murtaza wants to withdraw his 3 year public deposit at the end of 9 months from the time of deposit.
Therefore interest payable to him by Manilal Finance Company should be 10%. Hence (b) is the correct
answer.
18. c In the given case, ex-rights price should be equal to or more than Rs.43 i.e. < TOP >
[NP0 + S]/[N+1] should be more than or equal to 43, where N is the number of shares required to
subscribe for 1 right share i.e. 5, P0 is the current market price i.e. 45 and S is the Subscription price
per right share.
225 + S ≥ 258
S ≥ 33.
19. c Under pricing of an IPO implies that pricing the share at a price less than what could have been market < TOP >
had paid for that. Naturally in case, an IPO is under priced then, the company looses the opportunity to
raise more funds and also it results in lower net worth on an increased equity. At the same time if an
IPO under priced is evaluated from the investors point of view, then the investor purchases it at a lower
price and can sell it off at a higher price. Hence, under pricing gives a higher return to the investor.
Hence (I) and (III) are true and (II) is false. So (c) is the correct answer.
20. d Foreign bonds are the bonds floated in the domestic market denominated in domestic currency by non- < TOP >
resident entities. US dollar denominated bond issued by foreign borrower in the US bond market called
as Yankee bonds. Euro-commercial 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 (d) is the right
choice.
21. e As the Bower-Herringer-Willaimson model assumes that the debt displaced is equal to the initial < TOP >
investment, the amount of debt displaced in the given transaction is equal to Rs. 50 lakhs.
22. b In the context of leasing, “hell or high water” clause is defined as the clause under which the lessee < TOP >
undertakes obligation for the payment of rental regardless of the condition or the suitability of the asset.
Hence, alternative (b) is answer.
23. b Receivables factored = Rs.10,00,000 × 0.8 = Rs.8,00,000 < TOP >
Less: Interest = 0.17 × 8,00,000 × ¼ = Rs. 34,000
Less: Commission = 0.018 × 10,00,000 = Rs. 18,000
Amount actually received. = Rs.7,48,000
24. c Owned Fund = Equity share capital + Share Premium + capital Reserve (profit from sale of assets) – < TOP >
Intangible Assets
Section B : Problems
1. Relevant cost for in house management of receivables: < TOP >
Cash discount
Rs.6 lakh
1500*0.02*0.20 =
Average collection period =
26 days
0.20*15 + 0.20*20 + 0.50*30 + 0.10*40
Cost of bank finance =
1500*(4/5)*(26/360)*0.14 = Rs.12.13 lakh
Cost of long term funds =
1500*(1/5)*(26/360)*0.18 = Rs.3.90 lakh
Total cost of funds = Rs.16.03 lakh
Bad debts
Rs.30 lakh
1500*0.02 =
Contribution lost on forgone sale
Rs.15 lakh
75*0.20 =
Avoidable cost of sales ledger and administrative
Rs.1.5 lakh
and credit monitoring
Total cost of in house management Rs.68.53 lakh.
Relevant cost of Recourse factoring
Factoring commission Rs.23.63 lakh
1575*0.015=
Discount charge Rs.12.60 lakh
1575*0.80*0.12*(30/360)=
Cost of long term funds Rs.4.73 lakh
1575*0.20*0.18*(30/360)=
Bad debt Rs.31.50 lakh
1575*0.02
Total cost of Recourse factoring = Rs.72.46 lakh
Relevant cost of Non Recourse factoring
Factoring commission
1575*0.035 Rs.55.13 lakh
Discount charge
1575*0.75*0.15*(30/360)= Rs.14.77 lakh
Cost of long term funds
1575*0.25*0.18*(30/360)= Rs.5.91 lakh
Total cost of Recourse factoring = Rs.75.81 lakh
Hence the In house management is recommended.
2. (a) Investment Price: < TOP
Total assets = 200 + 1,400 +100 + 500 +300 = Rs.2500 lakh >
ROA =18.8%
Return on Asset (ROA) = EBIT/ Total Assets
So, EBIT = 2500 × 0.188
= Rs.470 lakh
PAT = (EBIT – interest) (1- t)
= [470 – (100×0.10) – (500×0.12)] (1 – 0.40)
= Rs.240 lakh
Current EPS = 240/20 =12
Current market price = 12 × 5 = Rs.60
Divestment Price:
EPS for 3 years
Year 1 13.20
Year 2 14.52
Year 3 15.97
The divestment takes place at P/E multiple of 10 so price = 15.97 × 10 = Rs.159.70
(b) Required IRR of EFC = 24%
No of share invested by EFC= 30 crore/ 60 = 50 lakh shares
Let the minimum value of divestment be X. thus the cash flow to EFC will be
Year Particulars Rs. in Lakh
0 Investment value –3,000
1 Dividend (50 ×10× 0.15) 75
2 Dividend (50 ×10× 0.20) 100
3 Dividend + Divestment 125 + X
(50 ×10× 0.25) + X
The discounted cash flow @ 24% is
The cash flow to EFC from the divestment would be
The IRR to EFC on their Investment is
3. (a) In UK, a lease transaction is treated as a true lease < TOP >
A. Cost of equipment = Rs50 crores
Let the lease rentals payable by GPP India be Rs.X crores per annum
B. PV of lease rentals = XPVIFA(12,7) x 1.12 = Rs. 5.112 X Crore
C. PV of tax on lease rentals = XPVIFA(12,7) x 0.20 = Rs.0.913 X Crore
D. PV of Depreciation Tax Shields
Year Depreciation PVIF @ 12% PV of Depreciation
1 12.5 0.8929 11.16
2 9.375 0.7972 7.47
3 7.031 0.7118 5.00
4 5.273 0.6355 3.35
5 3.955 0.5674 2.24
6 2.966 0.5066 1.50
7 2.225 0.4523 1.01
31.73
PV of Depreciation Tax Shields = 31.73 x 20% = Rs 6.346 crore
–A+B–C+D=0
OR, –50 + 5.112X – 0.913X + 6.346 = 0
OR, 4.199X = 43.654
OR, L = Rs.10.396 crore
Hence, lease rentals payable annually in advance by GPP India to PFS under cross border lease transaction is Rs.10.396 crore.
SOYD
Year Interest PVIF @ 12% PV of Interest
Factor
1 7/28 1.75Y–12.5 0.8929 1.56Y–11.16
2 6/28 1.50Y–10.71 0.7972 1.20Y–8.54
3 5/28 1.25Y–8.93 0.7118 0.89Y–6.36
4 4/28 1.00Y–7.14 0.6355 0.64Y–4.54
5 3/28 0.75Y–5.36 0.5674 0.43Y–3.04
6 2/28 0.50Y–3.57 0.5066 0.25Y–1.81
7 1/28 0.25Y–1.79 0.4523 0.11Y–0.81
5.08Y – 36.26
I. PV of tax on interest income = (5.08Y – 36.26) × 0.20 = Rs1.02Y–7.252 crore
–E+F+G+H–I=0
OR, – 53.138+6.346+3.302+5.112Y–(1.02Y–7.252)=0
OR, –36.238+4.092Y=0
OR, Y = Rs.8.856 crore
Therefore lease rentals payable by GPP India to GPC US is Rs.8.856 crore which is lower than the lease rental payable by
GPP India in the cross border lease transaction between GPP India and PSF.
4. (Rs. in crore) < TOP >
Amount
Underwriter Amount Procured Deficit Surplus
Underwritten
JM Morgan Stanley 45 15 30 –
DSP Merril Lynch 20 25 – 5
Kotak Mahindra Capital Corp. 15 30 – 15
Max India 30 10 20 –
IDBI 20 0 20 –
ICICI Securities 10 0 10 –
SBI Capital Market 10 5 5 –
Total 150 85
rating.
vi. To this indicative rating apply the sovereign limitations to get the final indicative rating. This rating
should preferably be in the form of a range and not as a specific rating.
Formal Rating: The issuer will have to announce the rating assigned in Formal Rating to the public.
The process involved in formal rating will be more detailed than the shadow rating process, since there will be a need
for more disclosures, and sometimes even plant visits may be involved in it. Further, the shadow rating will not require
any annual fee and meetings. While on the other hand, since formal rating will involve monitoring, there will be an
annual fee for such ratings. In addition to this there will also be annual meetings.
7. Contents of Lease Agreement < TOP >
There is no uniform format for a lease agreement and the clauses included in the agreement vary from one lease
agreement to another. But, by and large, the following clauses are found in most of the lease agreements:
Description Clause provides the description of the lessor, the lessee, the equipment and the location(s) where the
equipment is (are) to be installed. The lessor usually stipulates that the equipment shall not be removed from the
described location without its prior permission. For the sake of easy identification, the lessor may direct the lessee
to affix plates or markings to the equipment indicating the lessor’s interest.
Period Clause specifies the period for which the equipment is leased and the option available to the lessee for
renewing the lease on expiry of the lease term.
Rental Clause specifies the amount of lease rentals to be paid, the periodicity and the mode of such payment. If
the rentals are not evenly spread over the lease term, the rental pattern is given by way of a schedule. This clause
also specifies the initial deposit to be made, and the renal charge that is payable on lease rentals not paid on the
due dates.
Exemption Clause clearly states that the lessee has selected the equipment based on his own judgment and has
not relied on any statements or representations made by the lessor. Through this clause, the lessor expressly
denies any obligation as to the fitness or merchantability of the equipment, and disowns responsibility for any
defects in the equipment or the operations thereof.
Manufacturer’s Warranty Clause entitles the lessee to the benefits of the warranties provided by the
manufacturer/supplier of the equipment. This clause also authorizes the lessee to enforce due performance by the
manufacturer of the equipment for any warranties or performance guarantee relating to the equipment.
Ownership Clause unequivocally states that no right, title, or interest in the equipment shall pass to the lessee
and the lessee shall, at no time, contest or challenge the lessor’s sole and exclusive right, title and interest in the
equipment. This clause also stipulates that the lessee shall not sell, assign, pledge, hypothecate or otherwise
encumber a lien upon or against the equipment.
Equipment Delivery Clause states that the lessee shall be solely responsible for taking delivery and possession
of the leased equipment from the manufacturer/supplier. The clause also specifies that the lessor shall not be
responsible for any loss suffered by the lessee on account of the equipment not being delivered on the due date. If
the lessee cancels the purchase order/contract with the supplier of the equipment or refuses to accept delivery of
the equipment, this clause 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.
Repairs and Alterations Clause specifies that the lessee at its own cost and expense will keep the equipment in
good repair, condition and working order. While all replacements in the nature of maintenance will be deemed as
part of the equipment, the additions, attachments, and improvements made to the equipment by the lessee (if not
financed by the lessor) will belong to the lessee.
Insurance Clause specifies that the lessee must insure the equipment at its cost and expense for the benefit of and
on behalf of the lessor against all normal risks and risks that are specific to the equipment and to the business of
the lessee where this equipment is used.
Surrender Clause states that upon expiry of the lease term or earlier termination of the lease, the lessee must
deliver the equipment to the lessor at the place where it is to be located in good working order and condition.
Default Clause specifies the events of default and the remedies available to the lessor upon the occurrence of any
such event of default.
Arbitration Clause explains the arbitration procedure to be followed in the event of any dispute, difference or
claim arising out of the lease agreement between the parties to the lease.
Miscellaneous Clause includes provisions such as the lessee’s obligation to submit its audited annual accounts to
the lessor, the lessor’s right to demand additional security in the event of any significant adverse change in the
financial conditions of the lessee, etc. An interest variation clause is also included which provides for varying the
lease rentals in line with the changes in the lending rates of commercial banks.
Question Paper
Investment Banking and Financial Services - I (MSF2K1): July 2008
1. Which of the following is not true with respect to valuation of the investments?
<Answer>
(a) Current investments are to be valued at market value, if it is lower than its cost
(b)Permanent reduction in the value of long term investments determined individually and appropriate
provision must be made for the same
(c) Unquoted shares are always to be valued at break up value of the share
(d)Units of mutual fund are to be valued at lower of cost or the latest NAV declared by the mutual fund
with respect of that scheme
(e) Commercial papers and T-bills are to be valued at carrying cost.
2. Consider the following extract of Pee Cements Ltd., for the year ended March 2008: <Answer>
I. Firm can insure its receivables against credit risk and insurance company helps in the collection of receivables.
II. The insurance company specifies the maximum amount it will cover for accounts with a particular credit rating.
III. It is similar to non-recourse factoring in so far as credit protection is concerned.
IV. It is more cost-effective than non recourse factoring for the firms which want protection only against bad debts.
(a) Only (I) above
(b) Both (I) and (IV) above
(c) Both (II) and (III) above
(d) Both (II) and (IV) above
(e) (I), (III) and (IV) above.
4. Which of the following statements is/are true regarding hire purchase?
<Answer>
I. The title to the goods is transferred to the hirer on the payment of the first installment.
II. The hirer has to indemnify the owner against any loss that results from his negligence.
III. Some occasional delays in payment over the hire period do not empower the owner to terminate the contract.
IV. All hire purchase transactions are subject to the sales tax but are not subject to central sales tax.
(a) Only (I) above
(b) Only (II) above
(c) Both (I) and (II) above
(d) (II), (III) and (IV) above
(e) All (I), (II), (III) and (IV) above.
5. In the recent past, there have been innovations in the financial instruments witnessed by the Indian capital market, LYONS is <Answer>
one of the innovative financial instrument. Which of the following is not true with respect to LYONS?
(a) This is a zero coupon bond, which can be converted into common stock
(b) The investor allows to subscribe to the equity share of another company
(c) By issuing such instrument, issuer does not have to meet any immediate outflow of interest
(d) The issuer gets the tax advantages even if he is not paying any interest till maturity
(e) If investors of such security choose to convert, they have to forgo all accrued and unpaid part of interest.
6. The preliminary prospectus, which has a statement on its cover that the registration statement has not yet become effective, is <Answer>
referred to as a (an)
(a) Registration statement
(b) Standby arrangement
(c) Red herring prospectus
(d) Underwriting syndicate
(e) Due diligence certificate.
7. To promote the investment activity in the Government Securities market, several countries have adopted licensed Primary <Answer>
Dealers (PDs) as important intermediaries in the market. Which of the following is not true with respect to the PDs?
(a) They are responsible for meeting the minimum bidding requirement
(b) They are responsible for giving two-way quotes
(c) They are responsible for providing information of the market activity to the central bank
(d)They have an important role to play in the development of primary market for the Government Securities
(e) In some instances PDs have special rights to different activities in the money market like primary
auctions or some special facilities in market operations.
<Answer>
8. Suntech Ltd., has recently made public issue and the closing date was January 28th 2008. It failed to receive the minimum
subscription amount. As a result, Suntech Ltd., refunded the subscription money collected from the public on March 31st 2008.
The amount refunded should include both the amount due and
(a) Interest @ 6% p.a for 8 days
(b) Interest @ 6% p.a for 63 days
(c) Interest @ 15% p.a for 21 days
(d) Interest @ 15% p.a. for 63 days
(e) Interest @ 20% p.a. for 42 days.
9. Which of the following statements is/are not true regarding to the ‘Auction Rated Debt’?
<Answer>
I. These are fully redeemable non-convertible long-term debentures, secured by specific movable and immovable assets
of the company.
II. The instrument is privately placed at competitive bids.
III. There is no dilution of equity.
IV. The instrument does not require credit rating.
(a) Only (I) above
(b) Only (III) above
(c) Both (II) and (IV) above
(d) (I), (II) and (III) above
(e) (II), (III) and (IV) above.
10. Mr. Smith is the holder of the charge card issued by the City bank. He is not able to make clear differentiation between charge <Answer>
card and credit card because both give the credit to the cardholder. He is assuming that following terms and conditions are
applicable to his charge card. Which of the following is not true with respect to the charge card?
(a) He needs to make payment to the issuer for 100 percent of purchase
(b) Payment period is normally within 30 days of purchase
(c) No interest is charged and there is no extension of payment period
(d) Both annual payment and commission is charged
(e) His spending limit is 5 times of his net income.
11. Which of the following is/are true with respect to the guidelines for stock buy-back, issued by SEBI?
<Answer>
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) 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.
12. Which of the following statements is/are true with respect to Collateralized Mortgage Obligation (CMOs)?
<Answer>
(a) Credit rating is mandatory for any debenture issue where the conversion period exceeds 18 months
(b) Appointment of SEBI registered Debenture Trustee is mandatory if the maturity period of the
instrument exceeds 18 months
(c) Creation of Debenture Redemption Reserve is mandatory if the maturity period of the instrument
exceeds 18 months
(d) In case the non convertible portion of the PCD is to be rolled over, a compulsory option is to be given to
debenture holders to redeem and encash their debentures
(e) No issue of FCDs having conversion period exceeding 18 months can be made unless conversion is
made optional with put and call options.
14. Which of the following is not a variable of Economic Risks for sovereign risk rating purposes?
<Answer>
I. The most predominant form of mortgage lending by REITs is the construction/development lending.
II. The mortgage REITs obtain capital gains whenever there is rise in long term interest rates.
III. It is subject to default risk, interest rate risk and purchasing power risk.
IV. The main source of income for the mortgage REITs is the rentals.
(a)Only (I) above
(b)Both (I) and (III) above
(c)Both (II) and (IV) above
(d)(I), (III) and (IV) above
(e)(II), (III) and (IV) above.
23. US-based credit rating agency ‘FITCH’ has appraised the risk associated with the ‘Bonds’ of a company and opined that there is <Answer>
‘Imminent Default’. The rating given by ‘FITCH’ to the bonds is
(a)B
(b)CCC
(c)CC
(d)C
(e)D.
24. Under bank participation factoring, First Factors Limited has agreed to factor the receivables of Standard Manufacturers Limited <Answer>
(SML) of Rs.500 lakhs and provide an advance of 70 percent of the receivables. ABC Bank has agreed to finance 80% of the
factor reserves. The amount of receivable that SML has to finance from its own funds is
(a) Rs.350 lakhs
(b)Rs.150 lakhs
(c) Rs.120 lakhs
(d) Rs. 50 lakhs
(e)Rs. 30 lakhs.
25. Which of the following is/are not true with respect to call and notice money?
<Answer>
I. Both the call money and notice money serve the general purpose of meeting reserve requirements.
II. In the notice money market, funds are lent for a predetermined maturity period and in call money market there is no
such predetermined maturity period.
III. The reliance of the banks is mostly on the call money rather than notice money, as it raises overnight money.
IV. Maturity period for both the call and notice money markets varies from one day to fourteen days.
(a) Only (II) above
(b) Only (III) above
(c) Both (II) and (IV) above
(d) (I), (III) and (IV) above
(e) (II), (III) and (IV) above.
26. Bharat Cements Limited (BCL) proposed to purchase an equipment costing Rs.40 lakhs inclusive of sales tax of 4 per cent. BCL <Answer>
is considering the alternative of leasing the equipment from Finlease Limited (FL) at annual lease rentals of Rs.30 per thousand
per month. The annual lease rentals payable by BCL are
(a) Rs.13.09 lakhs
(b) Rs.14.40 lakhs
(c) Rs.14.98 lakhs
(d) Rs.15.23 lakhs
(e) Rs.15.84 lakhs.
27. Which of the following is the difference between the issue of ADR Level -I and ADR Level -II? <Answer>
(a) Complying with the US GAAP is necessary in case of ADR Level-II issue, but not required in case of
ADR Level –I
(b) The minimum disclosures have to be made in case of ADR Level-II issue, but substantial disclosures are
Lease rental receivable for the next five years : Rs. 2.25 crores
Lease rental receivable over the lease term : Rs. 3.25 crores
Cost of leased equipments : Rs. 2.75 crores
Net owned funds : Rs.11.00 crores
The amount drawn as cash credit for this transaction from the bank is
(a) Rs.1.90 crores
(b) Rs.1.83 crores
(c) Rs.1.53 crores
(d) Rs.1.43 crores
(e) Rs.1.33 crores.
29. Novice Financial Services Ltd., (NFSL) has recently structured a lease transaction involving an asset whose fair market value is <Answer>
Rs.140 crores and has an useful life of 8 years. In which of the following situations, the lease can be classified as finance lease
according to FASB?
I. PV of lease payments is Rs.105 lakhs and the lease term is 5 years.
II. PV of lease payments is Rs.105 lakhs and the lease term is 6 years.
III. PV of lease payments is Rs.126 lakhs and the lease term is 5 years.
(a) Only (II) above
(b) Only (III) above
(c) Both (I) and (II) above
(d) Both (II) and (III) above
(e) All (I), (II) and (III) above.
30. Sadhan Financials Ltd., incorporated under the Companies Act, 1956 engaged in the government securities business for the last <Answer>
few years, is planning to apply for primary dealership business. It has authorized capital of Rs.50 crores out of which Rs.25
crores was issued and paid-up. In additions to this, its balance sheet shows the following balances in various accounts.
Free reserves account : Rs.15 crores
Capital reserves account
Sale of assets : Rs.3 crores
Revaluation of assets : Rs.2 crores
Book value of intangible assets : Rs.1 crore
Accumulated loss balance : Rs.0.5 crore
Is Sadhan Financials Ltd., eligible to apply for primary dealership business?
(a) Yes, it has the paid up capital of Rs.25 crores
(b) No, it has the paid up capital of less than Rs.50 crores
(c) No, it has the net owned funds of less than Rs.50 crores
(d) No, it has accumulated loss balance of more than Rs.0.25 crore
(e) Yes, it has the capital reserves of more then Rs.1 crore arising out of revaluation of assets.
END OF SECTION A
<Answer>
1. Magnum Finance Ltd., is a non-banking finance company. The following information pertains to its loans and advances, hire-
purchase receivables and lease assets as on 31.03.2008:
Loans and Advances
(Rs. in lakhs)
Category of loans Amount at the Recovery during Downgraded during Upgraded during
and advances beginning of the year the year (%) the year the year
Standard 3,200 – – –
Sub-standard 408 15 5 8
Doubtful
Upto 1 year 334 12 5 6
1-3 years 296 10 4 4
Above 3 years 225 8 10 2
Loss 180 5 – 2
Hire Purchase Assets turned NPA during the year
(Rs. in lakhs)
Current year Previous year
Total dues 60 50
(Shown as stock in trade in the balance sheet)
Unmatured finance charges 20 15
Original cost of the assets 100 85
Amount realizable 20 15
Accumulated depreciation 60 50
Net book value of hire purchase and lease assets
(Rs. in lakhs)
Overdue for HP Assets Lease Assets
Up to 12 months 70 80
12–24 months 35 40
24–36 months 10 15
More than 36 months 5 10
In the 12–24 months category of HP assets and 24–36 months category of lease assets, amount of Rs.10 lakhs and Rs.5 lakhs
respectively are outstanding for more than 12 months after the due date of the last payment.
You are required to calculate the provision made by the company on the above assets.
( 10 marks)
<Answer>
2. A young group of technocrats decided to set up Intelligent Software Ltd., The estimated project cost is Rs.2 crores. The group is
able to invest only a sum of Rs.100 lakhs as equity at a face value of Rs.2 each. The balance is proposed to be financed through
Venture Capital (VC). The company offers 2 alternative investment packages to the VC firm:
a. Straight equity investment
b. Fully Convertible Debentures. These debentures carry a coupon of 15%. At the end of 3 years, the FCD would be
converted into equity. The conversion would take place at a P/E ratio of 10 on the average Earnings per share (EPS) of the
first three years.
The company plans to tap the capital market with an IPO at the beginning of 6th year. The IPO is expected to be priced at P/E
multiple of 15 on the EPS of the 5th year. The VC firm intends to divest its holding at the time of the IPO.
The company proposed to maintain a Dividend Payout Ratio of 10% for all the 5 years.
The expected EBIT for the 5 years is:
Ignore Taxes.
You are required to choose the alternative investment to be made by VC firm if its required rate of return is 12%. Show all the
required calculations.
( 10 marks)
<Answer>
3. Creative Finance Limited (CFL) has signed a lease agreement for an equipment under a Bargain Purchase Option (BPO). The fair
market value of the equipment is Rs.1,40,000 with an expected life of 5 years. The asset is expected to remain with lessee for a
period of 3 years. Each annual lease payment involves Rs.52,000 and the first lease payment commences on January 1, 2008.
The lessor pays Rs.2,000 per year for insurance on the equipment. The lessee can exercise bargain purchase option on December
31, 2010 for Rs.10,000, whereas, the salvage value of the asset is expected to be Rs.1,000 on that day. The lessee’s incremental
borrowing rate is 10%.
Assuming that bargain power option is exercised, you are required to pass necessary entries in the books of CFL according to
IAS:17.
( 8 marks)
<Answer>
4. National Bank offers traditional mortgage loans for purchase of residential properties at an interest rate of 15% p.a. compounded
monthly. It usually charges 0.5% p.a. servicing fee for these type of loans.
Mr. Rohan Verma has approached the bank for a home loan of Rs.100 lakhs for a period of 10 years.
You are required to
a. Determine the equated monthly installments (EMIs) under the traditional mortgage loan.
( 2 marks)
b. Develop the repayment schedule for first 12 months clearly distinguishing the capital component, interest component
and servicing fees.
( 6 marks)
<Answer>
5. The balance sheet of Sheetal Pharma as on March 31, 2008 is as follows:
Amount Amount
Liabilities Assets
(Rs. in crores) (Rs. in crores)
Share Capital Land and
(Face Value Rs.10 each) 20.00 Building 50.00
Reserve & Surplus 160.00 Plant and Machinery 100.00
Debentures 30.00 Misc., Fixed Assets 40.00
Term loan @10% 10.00 Current Assets 40.00
Current Liabilities 10.00
Total 230.00 Total 230.00
The Profit After Tax for 2007-08 is Rs.10 crores. The EPS is targeted to increase by 25% during 2008-09. The market discounts
the share at 20 times its expected earnings.
The Company proposed to set up a bulk formulation plant involving a project outlay of Rs.495 crores. The project is proposed to
be financed by a term loan of Rs.175 crores @ 8% p.a. from ICICI bank, Rs.80 crores through private placement of NCDs
carrying an interest rate of 12%, Rs.40 crores from internal accruals and the balance through rights issue. The rights issue is
proposed to be priced at 80% of its current market price.
The company had issued 10,00,000 17% PCDs of Rs.120 each in July, 2007. Part A of Rs.100 will be converted into 4 shares, 15
months from the date of allotment. The balance will be redeemed at the end of 5 years.
The company had raised a sum of $10 million by issue of 12,50,000 GDRs in March 2007. The paid-up capital of Rs.20 crores
includes 50,00,000 share underlying the GDRs.
You are required to compute:
a. The ratio for issue of rights shares and the pricing of the rights
( 3 marks)
b. The value of the rights
( 1 mark)
c. The gain or loss, in dollars, to a GDR holder who holds 100 GDRs exercise the rights and sells his entire holdings at
the prevailing GDR price. Assume the GDRs are quoting at 20% premium to their domestic price and exchange rate at the
time of rights issue and sale to be Rs.38/$
( 5 marks)
<Answer>
6. Fish Eye Ltd., has awarded National Bank a syndication mandate for US $ 400 million, 5 year facility. The bank underwrites US
$ 200 million and 4 other Banks underwrite US $ 50 million each.
The company agrees the following terms:
Tenure 5 years
Repayment Bullet Payment
Spread Payable annually at 100 Basis Points over LIBOR
Facility fee 25 Basis points per annum
Arrangement fee 50 Basis points payable upfront as under:
15 Basis points on amount of loan.
25 Basis points on amount underwritten.
10 Basis points on amount retain.
Each underwriter retains US $ 40 million and there are 10 participant banks with US $ 20 million each.
Collin Bank is appointed as agent Bank with annual fee of US $ 20,000.
You are required to calculate the:
a. Cost of loan facility for Fish Eye Ltd., if LIBOR remains constant at 3.12%.
( 3 marks)
b. Fees earned by National Bank on this transaction.
( 2 marks)
END OF SECTION B
7. Private placement as an efficient route for raising capital and profitable avenue for investment makes it acceptable to both the <Answer>
issuers and the investors. Discuss the merits of private placement. ( 10 marks)
8. In international trade transaction, forfaiting is a common form of financing export related receivables. Explain the process of <Answer>
forfaiting and also discuss the cost involved in forfaiting. ( 10 marks)
END OF SECTION C
Suggested Answers
Investment Banking and Financial Services - I (MSF2K1): July 2008
Section A : Basic Concepts
Answer Reason
1. c Unquoted shares are to be valued at lower of cost or break-up value of the shares. So, option (c) is not true. All other < TOP >
options are true with respect to the valuation of investments.
Hence correct answer is (c).
2. c Bonus can made out of eligible reserves such as general reserve, share premium collected in cash, realized revaluation < TOP >
reserves, etc. In the given case, the entire general reserves and the realized amount of revaluation reserves i.e. Rs. 5
crores can be part of eligible reserves. Hence, 40 + 5 = Rs.45 crores are eligible reserves.
3. a • Firm can insure its receivables against credit risk. While insurance company does not help in the collection of < TOP >
receivables, it settles the claims arising on account of insured amount which have delinquent.
• The insurance company specifies the maximum amount it will cover for accounts with a particular credit
rating.
• Credit insurance is similar to non-recourse factoring in so far as credit protection is concerned.
• Credit insurance is more cost-effective than non recourse factoring for the firms which want protection only
against bad debts.
Hence statement (I) is not true and correct answer is (a).
4. d In a hire purchase agreement, the title to goods is transferred to the hirer only when the hirer exercises the option of < TOP >
purchasing the asset or on the payment of the last installment. Hence, I is not true. The hire agreement expressly
provides that the hirer has to indemnify the owner for any loss due to the hirer’s negligence. Hence, statement II is true.
Though the payment of the hire rentals on the time agreed is an implied obligation of the hirer some occasional delays in
payment does not empower the owner to terminate the contract. Hence, statement III is also true. All hire purchase
transactions are subject to the sales tax but are not subject to central sales tax. Hence, statement IV is also true.
5. b LYONS is also known as zero coupon convertible note so this is a zero coupon bond, which can be converted into < TOP >
common stock of the issuer. Hence option (a) is true. The investor allows to subscribe to the equity share of issuer
company only, so option (b) is not true. Other option (c), (d) and (e) are true with respect to LYNOS. Hence correct
answer is (b).
6. c A preliminary registration statement that must be filed with the SEBI describing a new issue of stock (IPO) and the < TOP >
prospects of the issuing company is called Red herring prospectus. Hence, alternative (c) is answer.
7. d PDs have an important role to play in the development of secondary market for the Government Securities. All other < TOP >
statements are correct for PDs.
Hence (d) is the correct answer.
8. c If the company does not receive at least 90% of the issued amount including accepted devolvement from underwriters, if < TOP >
any, within 42 days from the date of closing of the issue, the amount of subscription received is required to be refunded.
If there is any delay in the refund of amount collected by more than 8 days, the company and directors of the company
shall be jointly and severally liable to repay the amount due by way of refund with interest @ 15% p.a. for the delayed
period. Since closing date of its issue is 28th January 2008, it completed 42 days by March 10th 2008. Since Suntech
Ltd., refunded amount on 31st March 2008, the delayed period was 21 days, for which it was required to pay the amount
due by way of refund with interest @ 15%p.a. for 21 days. Hence, correct answer is (c).
9. a Auction rated debt are fully redeemable non-convertible short-term debentures, secured by specific movable and < TOP >
immovable assets of the company. There is no dilution of equity. The instrument is privately placed at competitive bids.
It does not require credit rating as the tenure is less than 18 months. Therefore (b), (c), (d) and (e) are true and the
answer is (a).
10. e • The cardholder needs to make payment to the issuer for 100 percent of purchase < TOP >
• payment period is normally within 30 days of purchase
• No interest is charged and there is no extension of payment period
• Both annual payment and commission is charged
• There is no spending limit in case of charge card. In case of credit card, spending limit depends on the
creditworthiness usually 5 times of the net income of individual. So this option is not true.
Hence correct answer is (e).
11. b The company shall not buy-back the locked-in shares and non-transferable shares till the shares become < TOP >
transferable as per SEBI guideline. All other statements are correct.
Hence (b) is the correct answer.
12. d • CMOs protect the investors from pre-payment risk. < TOP >
• CMOs are considered to have high level of credit quality, because of the quality of the underlying collateral.
• Longer tranche CMOs are ideal investment for the long term investors who want to avoid call and
reinvestment risk.
• After paying interest to all the tranches, if any amount left, is used for the payment of principal amount only
one tranche at a time.
Hence correct answer is (d).
13. e Credit rating is mandatory for any debenture issue where the conversion period exceeds 18 months < TOP >
Appointment of SEBI registered Debenture Trustee is mandatory if the maturity period of the instrument exceeds 18
months
Creation of Debenture Redemption Reserve is mandatory if the maturity period of the instrument exceeds 18 months
In case the non convertible portion of the PCD is to be rolled over, as compulsory option is to be given to debenture
holders to redeem and encash their debentures
No issue of FCDs having conversion period exceeding 36 months unless conversion is made optional with put and call
options
Hence (e) is the correct answer.
14. c Following are the variables of Economic Risks for sovereign risk rating purposes: < TOP >
• Resource endowments, degree of diversification
• Public sector fiscal balances
• Public debt and interest burden
• 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.
15. b Seed Financing is a relatively small amount of capital provided to an entrepreneur for product development and market < TOP >
research as well as building of management team and developing a business plan.
Start-up Financing is provided to companies completing product development and initial marketing. These companies
may be in business for a year or less but may have not sold their product commercially.
First stage Financing provided to companies that have expected their initial capital and required fund to initiate full scale
manufacturing and sales.
Mezzanine Financing is provided for major expansion of a company when sales volume is increasing and that is
profitable.
Bridge Financing is needed at times when company plans to go public within six months to a year.
19. d Standard Policy is designed to cover risks with respect to goods which are exported on short-term credit not exceeding < TOP >
180 days. The standard policy covers two types of risk namely, commercial risk and political risk. So, the correct answer
is (d).
20. e In an operating lease, the lessor usually provides the operating know-how, suppliers, and related services and also < TOP >
undertakes the responsibility of insuring and maintaining the equipment such operating lease is called as ‘wet lease’.
When in an operating lease, lessee bears the cost of insuring and maintaining the equipment then such lease is called as
‘dry lease’. Other options are types of financial lease where lessee is responsible for repair, maintenance and insurance
of the equipment. Hence, option (e) is answer.
21. a The underwriting commission in case of debentures exceeding Rs.5 lakhs is 1% on the amounts subscribed by public < TOP >
and 2% in case of amounts devolved on the underwriter.
In the given case as the entire amount is underwritten and subscribed by the public, the underwriting commission
payable to XYZ ltd is 1% of half of Rs.10 lakhs
= = Rs.5000.
22. b • The most predominant form of mortgage lending by REITs is the construction/development lending. So, < TOP >
statement (I) is true.
• The mortgage REITs obtain capital gains whenever long term interest rates drop. So, statement (II) is not true.
• It is subject to default risk, interest rate risk and purchasing power risk. So, statement (III) is true.
• The main source of income for the mortgage REITs are the interest earned on mortgages, commitment fees,
commission earned on mortgage purchases. The main source of income for the equity REITs is the rentals. So,
statement (IV) is not true.
Hence correct answer is (b).
23. d Fitch Ratings to bonds are as follows: < TOP >
Highest safety AAA
High safety AA
Good/Medium A
Satisfactory/Low-Medium BBB
Speculative BB
High speculative B
Possibility of Default/Hazardous CCC
Higher Possibility of Default CC
Imminent Default C
Default D
Hence, correct answer is (d).
24. e Under bank participating factoring, a bank contributes to the part of factor reserves. In the given case, < TOP >
Amount of receivables = Rs.500L
Factor reserves = 30% of Rs.500 = Rs.150L
Bank participation = 80% of 150 = 120
Hence, own funds required = 150 – 120 = Rs.30L.
25. a Both call and notice money represent borrowings made for a period of one day up to a fortnight. However, there exists a < TOP >
difference in the mechanism adopted for lending funds between the call and the notice money markets. In the call money
market, funds are lent for a predetermined maturity period that can range from a single day to a fortnight. However, with
identical range for maturity period, the funds lent in the notice money market do not have specified repayment date
when the deal is entered. The lender will simply issue a notice to the borrower 2-3 days before the funds are to be
repaid. On receipt of this notice, the borrower will have to repay the funds within the given time. While both these funds
serve the general purpose of meeting reserve requirements, the reliance of the banks, however, is mostly on the call
money market. It is here that it raises overnight money i.e. funds for single day. Since statements (I), (III) and (IV) are
true and (II) is false, alternative (a) is answer.
26. d As the leasing company is not eligible for the concessional sales tax, the sales tax rate applicable to the lessor is 10% and < TOP >
hence the cost of the asset to the leasing company will be
= 40× 1.1/(1.04) = Rs.42.308 lakhs
The annual lease rentals payable by Bharat cements Limited are
= 0.03 × 12 × 42.308 = Rs.15.23 lakhs.
27. d Complying with the US GAAP is not necessary in case of both the issues. < TOP >
The minimum disclosures have to be made in case of ADR Level-I issue, but substantial disclosures are required in case
of ADR Level –II
Fresh capital can not be raised incase of both the issues. The company is allowed to be listed in the American Stock
Exchange or New York Stock exchange in case of ADR Level-II issue, but not permitted in case of ADR Level –I.
Meeting the listing requirements of the a particular stock exchange is not required in case of ADR Level-I, but required
in case of ADR Level –II.
Since, alternative (d) is true and is answer.
28. d 0.75*[LR(5) / LR(T)] * C < TOP >
Section B : Problems
1. Loans and advances < TOP >
Nature of asset Opening Increase Decrease Closing % of provision provision
Standard Assets 3200 8 – 3208 0.25 8.02
Sub standard Assets 408 6 8+5+(408*.15)=74.2 339.8 10 33.98
Doubtful Assets
- up to 1 year 334 4+5 5+6+(334*0.12)=51.08 291.92 20 58.38
- 1 to 3 years 296 2+5 4+4+(296*010)=37.6 265.40 30 79.62
- Above 3 years 225 2+4 10+2+(225*0.08)=30 201.00 50 100.50
Loss assets 180 10 2+(180*0.05)=11 179.00 100 179.00
Total 459.50
Additional provisioning
Time period Amount outstanding Rate of provision (%) Amount
Up to 12 months 70 – –
12–24 months 35–10 10 2.5
24–36 months 10 50 5
More than 36 months 5 100 5
Total 12.5
Additional provision on HP assets = 12.5 + 10 = Rs.22.5 lakh
Total provision on HP assets = 20 + 22.5 = Rs.42.5 lakh
Lease assets
Time period Amount outstanding Rate of provision Amount
Up to 12 months 80 – –
12–24 months 40 10 4
24–36 months 15–5 50 5
More than 36 months 10 100 10
Total 19
Provision for lease assets = 19 + 5 = Rs.24 lakh
Total provision = 459.5 + 42.5 + 24 = Rs.526 lakh
2. The expected EBIT for the 5 years is as follows: (Rs. crore) < TOP >
Year 1 0.24+0.30+0.65 1.19
Year 2 0.28+0.45+0.70 1.43
Year 3 0.32+0.51+0.75 1.58
Year 4 0.34+0.54+0.80 1.68
Year 5 0.40+0.72+1.30 2.42
5 1.79+268.80 153.54
Net present value Rs.90.36
As the net present value of equity investment is more than the debt investment, the VC firm should choose the equity alternative.
3. < TOP >
PV of minimum lease payment = (Rs.52,000–Rs.2000*)PVIFA(10%, 3) (1.10) = Rs.1,36,777
PV of bargain purchase = Rs.10,000 PVIF (10%, 3 ) = Rs. 7,513
Rs.1,44,290
* Since the lessor pays the Rs.2,000 a year for insurance, this payment is treated as executory cost and hence excluded from the
calculation of the present value of annual payments.
When the present value of the minimum lease payment exceeds the fair market value of the leased assets, a new rate must be
computed through trial and error method
50,000 PVIFA(r%, 3) (1+r) + 10,000 PVIF(r%, 3) = 1,40,000
r= 13.265% (in Rs.)
Reduction in lease Balance of lease
Year Cash payment Interest expense
obligation obligation
Inception of lease 1,40,000
1/1/2008 50,000 – 50,000 90,000
1/1/2009 50,000 11,939 38,061 51,939
1/1/2010 50,000 6,890 43,110 8,829
31/12/2010 10,000 1,171 8,829 –
5. a. Size of right issue = 495 – (175+80+40) = Rs.200 crore. < TOP >
EPS for 2008-09 = EPS during 2007-08 × 1.25 = (10/2) × 1.25 = Rs.6.25
Current market price = 6.25 × 20 = Rs.125
Pricing of right issue = 125× 0.80 = Rs.100
No. of right shared offered = Rs.200 crore/Rs.100 = 2 crore
As PCDs are converted to equity shares within one year of right issue, the PCD holders are also eligible for right issues in
proportion of their holdings. Thus, the number of shares which are entitled to right share are
Existing equity share 200 lakh
Share arising out of conversion of PCDs 40 lakh
(10,00,000×4) 240 lakh
Right ratio = 200 lakh / 240 lakh = 20/24
The right will be offered in the ratio of 20 shares for every 24 shares held by existing share holders.
b. Value of the rights
Where
is the current market price;
S is the subscription price; and
N is the number of shares required for 1 rights share
Gain/Loss made by the GDR holder, holding 100 GDRs is calculated as follows:
Purchase cost of 100 GDRs (8 × 100) = $800
Investment in right issue
Total cost = $1,677.18
Sale of GDRs at 20% premium = $2,578.71
Therefore, profit = $901.53
6. a. < TOP >
($ in million)
Loan 400
Less: Arrangement fee (400*0.005) 2
398
1. The exporter sells the goods to the importer on a deferred payment basis spread over 3-5 years.
2. The importer draws a series of promissory notes in favor of the exporter for the payments to be made inclusive of interest
charges.
3. The promissory notes are availed or guaranteed by a reputed international bank which can also be the importer's banker.
(An aval is an endorsement on the promissory notes by the guaranteeing bank that it covers any default of payment by the
buyer).
4. The exporter sells the avalled notes to a forfaiter (which can be exporter's banker) at a discount and without recourse. The
discount rate applied by the forfaiter will depend upon the terms of the promissory notes, the currencies in which they are
denominated, the credit rating of the avalling bank, the country risk of the importer, and the prevailing market rate of interest
on medium-term loans.
5. The forfaiter may hold these notes till maturity or sell these notes to groups of investors interested in taking up such high-
yielding unsecured paper.
Costs involved in a transaction of Forfaiting
A transaction of forfaiting involves different types of fees and charges. The fee charged by the forfaiter depends on the relationship
with the exporter, volume of trade and above all the cost of funds of the forfaiter. The fees that come into play during a transaction of
forfaiting fall into three broad categories.
• Commitment Fees: A commitment fee is payable to the forfaiter by the exporter in consideration of the commitment
made by the forfaiter to execute a particular transaction of forfaiting at a particular discount rate and within a specific time. The
commitment fees range between 0.5-1.5 per annum. It is always calculated on the unutilized amount of the forfaiting
transaction. Irrespective of the execution of the export contract, the commitment fees are required to be paid.
• Discount Fees: It is the cost payable on the credit promised under the factoring deal for the total period of credit under
consideration. It is payable by the exporter to the forfaiter. Instead of charging the same separately, the forfaiter deducts it from
the amount it owes to the exporter against the promissory note or bills of exchange, as the case may be. Discount rate is arrived
at based on the London Inter Bank Offered Rate (LIB OR) for the period under consideration. The forfaiter pays the exporter
the money almost instantly, but it has to wait quite some time to recover the same from the importer. During the intervening
period, the adverse movements in the international currency market may wipe out the profits of the forfaiter. So this also
includes the possible loss/gain that can be expected due to changes in the exchange rates in the intervening period.
• Documentation Fees: Documentation fees are generally charged for transactions involving elaborate legal formalities and
complexities and they may not be charged when the legal procedures and the documentation required are low.
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