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tanvi prabhakar kore 75 54
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rahul goyal 71 53
Om Shivaji aher 70 55
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 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

1. A company issued 10,000, 10% debentures of Rs. 100 each at par on 1.4.2018 to be
matured on 1.4.2028. The company wants to know the cost of its existing debt on
1.4.2023 when the market price of the debentures is Rs. 80. COMPUTE the cost of
existing debentures assuming 35% tax rate.

Solution

2. If the company issues 10% debentures of face value of Rs. 100 each and realises
Rs. 98 per debenture while the debentures are redeemable after 12 years at a
premium of 10%, CALCULATE cost of debenture using YTM?
Assume Tax Rate to be 50%.

Solution
 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

3. A company issued 10,000, 15% Convertible debentures of Rs.100 each with a

maturity period of 5 years. At maturity, the debenture holders will have an option to
convert the debentures into equity shares of the company in the ratio of 1:10 (10
shares for each debenture). The current market price of the equity shares is Rs.12
each and historically the growth rate of the shares is 5% per annum. Compute the
cost of debentures assuming 35% tax rate.

Solution
 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

4. Institutional Development Bank (IDB) issued Zero interest deep discount bonds of
face value of Rs.1,00,000 each issued at Rs.2,500 & repayable after 25 years.
COMPUTE the cost of debt if there is no corporate tax.

Solution

5. In March, 2021 Tiruv Ltd.'s share was sold for Rs. 219 per share. A long term
earnings growth rate of 11.25% is anticipated. Tiruv Ltd. is expected to pay dividend
of Rs. 5.04 per share.
a) DETERMINE the rate of return an investor can expect to earn assuming that
dividends are expected to grow along with earnings at 11.25% per year in
perpetuity?
b) It is expected that Tiruv Ltd. will earn about 15% on book equity and shall
retain 60% of earnings. In this case, whether, there would be any change in
growth rate and cost of equity? ANALYSE.
 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

Solution

6. The current dividend (D0) is Rs.16.10 and the dividend 5 year ago was Rs.10.
Find growth rate
Solution
 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

7. CALCULATE the cost of equity from the following data using realized
yield approach:

Year 1 2 3 4 5
Dividend per share (Rs.) 1.00 1.00 1.20 1.25 1.15
Price per share (at the beginning) 9.00 9.75 11.50 11.00 10.60
(Rs.)

Solution

8. Mr. Mehra had purchased a share of Alpha Limited for Rs. 1,000. He received
dividend for a period of five years at the rate of 10 per cent. At the end of the fifth
year, he sold the share of Alpha Limited for Rs. 1,128. You are required to
COMPUTE the cost of equity as per realised yield approach.
Solution
 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

9. CALCULATE the cost of equity capital of H Ltd., whose risk-free rate of return equals
10%. The firm’s beta equals 1.75 and the return on the market portfolio equals to
15%.

Solution

10. Masco Limited wishes to raise additional finance of Rs. 10 lakhs for meeting its
investment plans. It has Rs. 2,10,000 in the form of retained earnings available for
investment purposes. Further details are as following:

(1) Debt / Equity mix 3:7

(2) Cost of debt:
UptoRs. 1,80,000 10% (before tax)
Beyond Rs. 1,80,000 16% (before tax)
(3) Earnings per share Rs. 4
(4) Dividend pay out 50% of earnings
(5) Expected growth rate of dividend 10%
(6) Current market price per share Rs. 44
(7) Tax rate 50%

You are required to:

(a) DETERMINE the pattern for raising the additional finance.

(b) DETERMINE the post-tax average cost of additional debt.
(c) DETERMINE the cost of retained earnings and cost of equity.
(d) COMPUTE the overall weighted average after tax cost of additional
finance.
Solution
Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman
 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

11. Ram Ltd evaluates all its capital projects using discounting rate of 16%. Its capital
structure consists of equity share capital, retained earnings, bank term loan and
debentures redeemable at par. Rate of interest on bank term loan is 1.4 times that
of debenture. Remaining tenure of debenture and bank loan is 4 years and 6 years
respectively. Book value of equity share capital, retained earnings and bank loan is
Rs. 20,00,000, Rs. 30,00,000 and Rs. 20,00,000 respectively. Debentures which
are having book value of Rs. 30,00,000 are currently trading at Rs. 98 per
debenture. The ongoing PE multiple for the shares of the company stands at 4.
You are required to:
(i) CALCULATE the rate of interest on bank loan and
(ii) CALCULATE the rate of interest on debentures
Tax rate applicable is 30%.

Solution
 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

12. DETERMINE the cost of capital of Best Luck Limited using the book value (BV)
and market value (MV) weights from the following information:

Sources Book Value Market Value

(Rs.) (Rs.)
Equity shares 1,20,00,00 2,00,00,000
0
Retained earnings 30,00,000 -
Preference shares 36,00,000 33,75,000
Debentures 9,00,000 10,40,000

Additional information:

I. Equity: Equity shares are quoted at Rs.130 per share and a new
issue priced at Rs.125 per share will be fully subscribed;
flotation costs will be Rs. 5 per share.
II. Dividend: During the previous 5 years, dividends have steadily
increased from Rs. 10.60 to Rs. 14.19 per share. Dividend at
the end of the current year is expected to be Rs. 15 per share.
III. Preference shares: 15% Preference shares with face value of Rs.
100 would realiseRs.105 per share.
IV. Debentures: The company proposes to issue 11-year 15%
debentures but the yield on debentures of similar maturity and
risk class is 16%; flotation cost is 2%.
Tax: Corporate tax rate is 35%.Ignore dividend tax. Floatation cost would be
calculated on face value.

Solution
Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman
 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

13. ABC Ltd. has the following capital structure, which is considered to be optimum
as on 31st March, 2023.

(Rs.)

14% Debentures 30,000

11% Preference shares 10,000

Equity Shares (10,000 shares) 1,60,000

2,00,000

The company share has a market price of Rs. 23.60. Next year dividend per share
is 50% of year 2022 EPS. Following is the uniform trend of EPS for the preceding
10 years which is expected to continue in future:

Year EPS Year EPS

(Rs.) (Rs.)
2013 1.00 2018 1.61
2014 1.10 2019 1.77
2015 1.21 2020 1.95
2016 1.33 2021 2.15
2017 1.46 2022 2.36

The company issued new debentures carrying 16% rate of interest and the
current market price of debenture is Rs. 96.

Preference shares ofRs. 9.20 (with annual dividend of Rs. 1.1 per share) were
also issued. The company is in 50% tax bracket.

(A) CALCULATE after tax:

(i) Cost of new debt
(ii) Cost of new preference shares
(iii) Cost of new equity share (assuming new equity from retained earnings)
(B) CALCULATE marginal cost of capital when no new shares are issued.
(C) DETERMINE the amount that can be spent for capital investment before new
ordinary shares must be sold. Assuming that the retained earnings for next
year’s investment is 50 percent of 2022.
 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

(D) COMPUTE marginal cost of capital when the fund exceeds the amount
calculated in (C), assuming new equity is issued at Rs. 20 per share.

Solution
 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

14. The following is the extract of the Balance Sheet of M/s KD Ltd.:

Particulars Amount (Rs.)

Ordinary shares (Face Value Rs. 10/- per share) 5,00,000
Share Premium 1,00,000
Retained Profits 6,00,000
8% Preference Shares (Face Value Rs. 25/- per 4,00,000
share)
12% Debentures (Face value Rs. 100/- each) 6,00,000

The ordinary shares are currently priced at Rs. 39 ex-dividend and preference share
is priced at Rs. 18 cum-dividend. The debentures are selling at 120 percent ex-
interest. The applicable tax rate to KD Ltd. is 30 percent. KD Ltd.'s cost of equity has
been estimated at 19 percent. Calculate the WACC (weighted average cost of capital)
of KD Ltd. on the basis of market value.

Solution
(a) Computation of WACC on the basis of market value
W.N. 1
Cum-dividend price of Preference shares = Rs. 18
Less: Dividend (8/100) x 25 = Rs. 2
∴ Market Price of Preference shares = Rs. 16
𝟐
Kp = 𝟏𝟔 = 0.125 (or) 12.5%
, ,
No. of Preference shares = = 16,000

W.N. 2
𝟏𝟐𝟎
Market price of Debentures = (𝟏𝟎𝟎) 𝐱 𝟏𝟎𝟎 = ₹ 𝟏𝟐𝟎
( . )
Kd = = 0.07(or)7%
Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

, ,
No. of Debentures = = 6,000

W.N.3
Market Price of Equity shares = Rs.39
Ke (given) = 19% or 0.19
𝟓,𝟎𝟎,𝟎𝟎𝟎
No. of Equity shares = = 𝟓𝟎, 𝟎𝟎𝟎
𝟏𝟎

Sources Market Nos. Total Weight Cost of Product

Value Market Capital
(Rs.) value
(Rs.)
Equity Shares 39 50,000 19,50,000 0.6664 0.19 0.1266
Preference Shares 16 16,000 2,56,000 0.0875 0.125 0.0109
Debentures 120 6,000 7,20,000 0.2461 0.07 0.0172
WACC = 0.1547

WACC = 0.1547 or 15.47%

 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

1. The data relating to two companies are as given below:

Company A Company B
Equity Capital Rs.6,00,00,000 Rs.3,50,00,000
15% Debentures Rs.40,00,000 Rs.65,00,000
Output (units) per 6,00,000 1,50,000
annum
Selling price/ unit Rs.60 Rs.500
Fixed Costs per annum Rs.70,00,000 Rs.1,40,00,000
Variable Cost per unit Rs.30 Rs.275
You are required to CALCULATE the Operating leverage, Financial leverage and
Combined leverage of the two Companies.

Solution
 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

2. Betatronics Ltd. has the following balance sheet and income statement information:
Balance Sheet
Liabilities (Rs.) Assets (Rs.)
Equity capital (Rs. 10 8,00,000 Net fixed assets 10,00,000
per share)
10% Debt 6,00,000 Current assets 9,00,000
Retained earnings 3,50,000
Current liabilities 1,50,000
19,00,000 19,00,000

Income Statement for the year

Particulars (Rs.)
Sales 3,40,000
Operating expenses (including Rs. 60,000 1,20,000
depreciation)
EBIT 2,20,000
Less: Interest 60,000
Earnings before tax 1,60,000
Less: Taxes 56,000
Net Earnings (EAT) 1,04,000

(a) DETERMINE the degree of operating, financial and combined leverages at the current
sales level, if all operating expenses, other than depreciation, are variable costs.
(b) If total assets remain at the same level, but sales (i) increase by 20 percent and (ii)
decrease by 20 percent, COMPUTE the earnings per share at the new sales level?

Solution
 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

3. Following information has been extracted from the accounts of newly incorporated
Textile Pvt. Ltd. for the Financial Year 2020-21:

Sales Rs. 15,00,000

P/V ratio 70%
Operating Leverage 1.4 times
Financial Leverage 1.25 times

Using the concept of leverage, find out and verify in each case:
(i) The percentage change in taxable income if sales increase by 15%.
(ii) The percentage change in EBIT if sales decrease by 10%.
 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

(iii) The percentage change in taxable income if EBIT increase by 15%.

Solution

4. From the following financial data of Company A and Company B Prepare their income
statement

Company A Company B
Variable Cost 88,000 50% of sales
Fixed Cost 26,500
Interest Expense 14,000 11,000
Financial Leverage 5:1
Margin of Safety 0.25
Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

Income Tax Rate 30% 30%

EBIT 14,000

Solution
 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

5. Manchow Limited and Noodles Limited are generating same level of Operating
Income. The margin of safety for Manchow Ltd is 0.4 and for Noodles Limited it is
1.25 times of Manchow Ltd. The Interest expense of Manchow Limited is Rs.
22,50,000 and it is 40% lower for Noodles Limited. Financial Leverages of Manchow
Limited and Noodles Limited are 3 and 2 respectively. Profit Volume Ratio for both
companies stand as 40% and 50% respectively. Assuming a tax rate of 30%,
PREPARE income statement for both companies

Solution
Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman
 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

6. A firm has sales of Rs. 75,00,000 variable cost is 56% and fixed cost is Rs.
6,00,000. It has a debt of Rs. 45,00,000 at 9% and equity of Rs. 55,00,000. You
are required to INTERPRET:
(i) The firm’s ROI?
(ii) Does it have favourable financial leverage?
(iii) If the firm belongs to an industry whose capital turnover is 3, does it
have a high or low capital turnover?
(iv) The operating, financial and combined leverages of the firm?
(v) If the sales is increased by 10% by what percentage EBIT will increase?
(vi) At what level of sales the EBT of the firm will be equal to zero?
(vii) If EBIT increases by 20%, by what percentage EBT will increase?

Solution

1. Income Statement
Particulars Amount
Sales 75,00,000
Less: Variable cost (56% of 75,00,000) (42,00,000)
Contribution 33,00,000
Less: Fixed costs (6,00,000)
Earnings before interest and tax (EBIT) 27,00,000
Less: Interest on debt (@ 9% on ` 45 lakhs) (4,05,000)
Earnings before tax (EBT) 22,95,000
 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

7. Information of A Ltd. is given below:

• Earnings after tax: 5% on sales
• Income tax rate: 50%
• Degree of Operating Leverage: 4 times
• 10% Debenture in capital structure: Rs. 3 lakhs
• Variable costs: Rs. 6 lakhs
Required:
(i) From the given data complete following statement:

Sales XXXX
Less: Variable costs Rs. 6,00,000
Contribution XXXX
Less: Fixed costs XXXX
EBIT XXXX
Less: Interest expenses XXXX
EBT XXXX
Less: Income tax XXXX
EAT XXXX

(ii) Calculate Financial Leverage and Combined Leverage.

(iii) Calculate the percentage change in earning per share, if sales increased by
5%.
Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

Solution

(i) Working Notes

Earning after tax (EAT)is 5% of sales
Income tax is 50%
So, EBT is 10% of Sales
Since Interest Expenses is Rs. 30,000
EBIT = 10% of Sales + Rs.30,000 ....................................... (Equation i)
Now Degree of operating leverage = 4

So, = 4

Or, Contribution = 4 EBIT

Or, Sales – Variable Cost = 4 EBIT
Or, Sales – Rs. 6,00,000 = 4 EBIT ........................................ (Equation ii)
Replacing the value of EBIT of equation (i) in Equation (ii)
We get, Sales – Rs. 6,00,000 = 4 (10% of Sales + Rs. 30,000)
Or, Sales – Rs. 6,00,000 = 40% of Sales + Rs. 1,20,000
Or, 60% of Sales = Rs. 7,20,000
₹ 𝟕,𝟐𝟎,𝟎𝟎𝟎
So, Sales = 𝟔𝟎%
= ₹ 𝟏𝟐, 𝟎𝟎, 𝟎𝟎𝟎
Contribution = Sales – Variable Cost = Rs. 12,00,000 – Rs. 6,00,000 = Rs. 6,00,000
₹ 𝟔,𝟎𝟎,𝟎𝟎𝟎
EBIT = = ₹ 𝟏, 𝟓𝟎, 𝟎𝟎𝟎
𝟒
Fixed Cost = Contribution – EBIT = Rs. 6,00,000 – Rs. 1,50,000 = Rs. 4,50,000
EBT = EBIT – Interest = Rs. 1,50,000 – Rs. 30,000 = Rs. 1,20,000
EAT = 50% of Rs. 1,20,000 = Rs. 60,000
Income Statement
Particulars (Rs.)
Sales 12,00,000
Less: Variable cost 6,00,000
Contribution 6,00,000
Less: Fixed cost 4,50,000
EBIT 1,50,000
Less: Interest 30,000
EBT 1,20,000
Less: Tax (50%) 60,000
EAT 60,000

, ,
(ii) Financial Leverage = = = 1.25 𝑇𝑖𝑚𝑒𝑠
, ,
Combined Leverage = Operating Leverage × Financial Leverage
= 4 x 1.25 = 5 times
Or,
Combined Leverage = 𝑥
 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

₹ , ,
Combined Leverage = = = 5 𝑡𝑖𝑚𝑒𝑠
₹ , ,

(iii) Percentage Change in Earnings per share

% %
Combined Leverage = % = 5 = %
∴ % Change in EPS = 25%
Hence, if sales increased by 5 %, EPS will be increased by 25 %.

8. The following information is related to Yizi Company Ltd. for the current
Financial Year:

Equity share capital (of Rs. 10 Rs. 50 lakhs

each)
12% Bonds of Rs. 1,000 each Rs. 37 lakhs
Sales Rs. 84 lakhs
Fixed cost (excluding interest) Rs. 6.96 lakhs
Financial leverage 1.49
Profit-volume Ratio 27.55%
Income Tax Applicable 40%

You are required to CALCULATE:

(i) Operating Leverage;

(ii) Combined leverage; and
(iii) Earnings per share.
Show calculations up-to two decimal points.

Solution
 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

9. The capital structure of PS Ltd. at the end of the current Financial Year
consisted as follows:
Particulars (Rs.)
Equity share capital (face value Rs. 100 each) 10,00,000
10% debentures (Rs. 100 each) 10,00,000
Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

During the year, sales decreased to 1,00,000 units as compared to 1,20,000

units in the previous year. However, the selling price stood at Rs. 12 per unit
and variable cost at Rs. 8 per unit for both the years. The fixed expenses were
at Rs. 2,00,000 p.a. and the income tax rate is 30%. You are required to
CALCULATE the following:

(i) The degree of financial leverage at 1,20,000 units and 1,00,000 units.
(ii) The degree of operating leverage at 1,20,000 units and 1,00,000 units.
(iii) The percentage change in EPS

Solution
 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

1. Shahji Steel Limited requires Rs. 25,00,000 for a new plant. This plant is expected
to yield earnings before interest and taxes of Rs. 5,00,000. While deciding about the
financial plan, the company considers the objective of maximizing earnings per
share. It has three alternatives to finance the project - by raising debt of Rs. 2,50,000
or Rs. 10,00,000 or Rs. 15,00,000 and the balance, in each case, by issuing equity
shares. The company's share is currently selling at Rs. 150 but is expected to decline
to Rs. 125 in case the funds are borrowed in excess of Rs. 10,00,000. The funds can
be borrowed at the rate of 10 percent upto Rs. 2,50,000, at 15 percent over Rs.
2,50,000 and upto Rs. 10,00,000 and at 20 percent over Rs. 10,00,000. The tax rate
applicable to the company is 50 percent. ANALYSE which form of financing should
the company choose?

Solution
 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

2. The following data are presented in respect of Quality Automation Ltd.:

(Rs.)
Profit before interest and tax 52,00,000
Less: Interest on debentures @ 12% 12,00,000
Profit before tax 40,00,000
Less: Income tax @ 50% 20,00,000
Profit After tax 20,00,000
No. of equity shares (of Rs. 10 each) 8,00,000
EPS 2.5
PE Ratio 10
Market price per share 25

The company is planning to start a new project requiring a total capital outlay of Rs.
40,00,000. You are informed that a debt equity ratio (D/D+E) higher than 35%,
pushes the Ke up to 12.5%, means reducing the PE ratio to 8 and rises the interest
rate on additional amount borrowed to 14%. FIND OUT the probable price of share
if:

(i) the additional funds are raised as a loan.

(ii) the amount is raised by issuing equity shares.
(Note: Retained earnings of the company is Rs. 1.2 crore)

Solution
Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman
 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

3. Yoyo Limited presently has Rs. 36,00,000 in debt outstanding bearing an interest
rate of 10 per cent. It wishes to finance a Rs. 40,00,000 expansion programme and
is considering three alternatives: additional debt at 12 per cent interest, preference
shares with an 11 per cent dividend, and the issue of equity shares at Rs. 16 per
share. The company presently has 8,00,000 shares outstanding and is in a 40 per
cent tax bracket.
(a) If earnings before interest and taxes are presently Rs. 15,00,000,
DETERMINE earnings per share for the three alternatives, assuming no
immediate increase in profitability.
(b) ANALYSE which alternative do you prefer. COMPUTE how much would
EBIT need to increase before the next alternative would be best.
Solution
 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

4. Xylo Ltd. is considering two alternative financing plans as follows:

Particulars Plan – A (Rs.) Plan – B (Rs.)

Equity shares of Rs. 10 Each 8,00,000 8,00,000
Preference Shares of Rs. 100 - 4,00,000
each
12% Debentures 4,00,000 -
12,00,000 12,00,000

The indifference point between the plans is Rs. 4,80,000. Corporate tax rate is
30%. CALCULATE the rate of dividend on preference shares.

Solution

5. Ganapati Limited is considering three financing plans. The key information is as

follows:
(a) Total investment to be raised is Rs. 2,00,000.
(b) Plans of Financing Proportion:
Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

Plans Equity Debt Preference Shares

A 100% - -
B 50% 50% -
C 50% - 50%

(i) Cost of debt 8%

(ii) Cost of preference shares 8%
(iii) Tax rate 50%
(iv) Equity shares of the face value of Rs. 10 each will be issued at a
premium of Rs. 10 per share.
(v) Expected EBIT is Rs. 80,000.

You are required to DETERMINE for each plan:

(i) Earnings per share (EPS)

(ii) The financial break-even point
(iii) Indicate if any of the plans dominate and compute the EBIT range among
the plans for indifference.

Solution
 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

6. Current Capital Structure of XYZ Ltd is as follows:

Equity Share Capital of 7 lakh shares of face value Rs. 20 each
Reserves of Rs. 10,00,000
9% bonds of Rs. 3,00,00,000
Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

11% preference capital: 3,00,000 shares of face value Rs. 50 each

Additional Funds required for XYZ Ltd are Rs. 5,00,00,000.
XYZ Ltd is evaluating the following alternatives:

I. Proposed alternative I: Raise the funds via 25% equity capital and 75%
debt at 10%. PE ratio in such scenario would be 12.
II. Proposed alternative II: Raise the funds via 50% equity capital and rest
from 12% Preference capital .PE ratio in such scenario would be 11.
Any new equity capital would be issued at a face value of Rs. 20 each. Any new
preferential capital would be issued at a face value of Rs. 20 each. Tax rate is 34%

DETERMINE the indifference point under both the alternatives.

Solution
 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

7. Company P and Q are identical in all respects including risk factors except for
debt/equity, company P having issued 10% debentures of Rs. 18 lakhs while
company Q is unlevered. Both the companies earn 20% before interest and taxes on
their total assets of Rs. 30 lakhs.
Assuming a tax rate of 50% and capitalization rate of 15% from an all-equity
company.

Required:

CALCULATE the value of companies’ P and Q using (i) Net Income Approach and (ii)
Net Operating Income Approach.

Solution
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8. Alpha Ltd. and Beta Ltd. are identical except for capital structure. Alpha Ltd. has 50
per cent debt and 50 per cent equity, whereas Beta Ltd. has 20 per cent debt and 80
per cent equity (All percentages are in market-value terms). The borrowing rate for
both the companies is 8 per cent in a no-tax world, and capital markets are assumed
to be perfect.
(a) (i) If you own 2 per cent of the shares of Alpha Ltd., DETERMINE your return
if the company has net operating income of Rs. 3,60,000 and the overall capitalisation
rate of the company (K0) is 18 per cent.

(ii) CALCULATE the implied required rate of return on equity of Alpha Ltd.

(b) Beta Ltd. has the same net operating income as Alpha Ltd.

(i) CALCULATE the implied required rate of return on equity of Beta Ltd.

(ii) ANALYSE why does it differ from that of Alpha Ltd.

Solution
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9. The following data relates to two companies belonging to the same risk class:

Particulars A Ltd. B Ltd.

Expected Net Operating Rs. Rs.
Income 18,00,000 18,00,000
12% Debt Rs. -
54,00,000
Equity Capitalization Rate - 18
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REQUIRED:

(a) Determine the total market value, Equity capitalization rate and
weighted average cost of capital for each company assuming no taxes as per
M.M. Approach.
(b) Determine the total market value, Equity capitalization rate and
weighted average cost of capital for each company assuming 40% taxes as per
M.M. Approach.
Solution
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 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

10. Zordon Ltd. has net operating income of Rs. 5,00,000 and total capitalization of Rs.
50,00,000 during the current year. The company is contemplating to introduce debt
financing in capital structure and has various options for the same. The following
information is available at different levels of debt value:

Debt value (Rs.) Interest rate (%) Equity capitalization

rate (%)
0 - 10.00
5,00,000 6.0 10.50
10,00,000 6.0 11.00
15,00,000 6.2 11.30
20,00,000 7.0 12.40
25,00,000 7.5 13.50
30,00,000 8.0 16.00

Assuming no tax and that the firm always maintains books at book values, you
are REQUIRED to calculate:

(i) Amount of debt to be employed by firm as per traditional approach.

(ii) Equity capitalization rate, if MM approach is followed.

Solution
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 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

11. Following data is available in respect of two companies having same business risk:
Capital employed = Rs. 2,00,000, EBIT = Rs. 30,000 and Ke = 12.5%

Sources Levered Company (Rs.) Unlevered Company (Rs.)

Debt (@10%) 1,00,000 Nil

Equity 1,00,000 2,00,000

An investor is holding 15% shares in levered company. CALCULATE the increase in

annual earnings of investor if he switches his holding from Levered to Unlevered
company.

Solution
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12. Following data is available in respect of two companies having same business
risk: Capital employed = Rs. 2,00,000, EBIT = Rs. 30,000
Sources Levered Company (Rs.) Unlevered Company

Debt (@10%) 1,00,000 Nil

Equity 1,00,000 2,00,000

Ke 20% 12.5%
Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

An investor is holding 15% shares in Unlevered company. CALCULATE the increase

in annual earnings of investor if he switches his holding from Unlevered to Levered
Company.

Solution
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1. The following figures are collected from the annual report of XYZ Ltd.:

Net Profit Rs. 30 lakhs

Outstanding 12% preference shares Rs. 100 lakhs
No. of equity shares 3 lakhs
Return on Investment 20%
Cost of capital i.e. (Ke) 16%

CALCULATE price per share using Gordon’s Model when dividend pay-out is (i)
25%; (ii) 50% and (iii) 100%
Solution

2. HM Ltd. is listed on Bombay Stock Exchange which is currently been evaluated

by Mr. A on certain parameters.
Mr. A collated following information:

(a) The company generally gives a quarterly interim dividend. Rs. 2.5
per share is the last dividend declared.
(b) The company’s sales are growing by 20% on a 5-year Compounded
 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

Annual Growth Rate (CAGR) basis, however the company expects

following retention amounts against probabilities mentioned as
contention is dependent upon cash requirements for the company.
Rate of return is 10% generated by the company.
Situation Prob. Retention
Ratio
A 30% 50%
B 40% 60%
C 30% 50%
(c) The current risk-free rate is 3.75% and with a beta of 1.2 company
is having a risk premium of 4.25%.
You are required to help Mr. A in calculating the current market price using
Gordon’s formula.

Solution

3. X Ltd. is a multinational company. Current market price per share is Rs. 2,185.
During the F.Y. 2020-21, the company paid Rs. 140 as dividend per share. The
company is expected to grow @ 12% p.a. for next four years, then 5% p.a. for an
indefinite period. Expected rate of return of shareholders is 18% p.a.
 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

(i) Find out intrinsic value per share.

(ii) State whether shares are overpriced or underpriced.

Year 1 2 3 4 5
Discounting Factor @ 18% 0.847 0.718 0.608 0.515 0.436

Solution

As per Dividend discount model, the price of share is calculated as follows:

𝑫𝟏 𝑫𝟐 𝑫𝟑 𝑫𝟒
𝑷 = + + +
(𝟏 + 𝑲𝒆)𝟏 (𝟏 + 𝑲𝒆)𝟐 (𝟏 + 𝑲𝒆)𝟑 (𝟏 + 𝑲𝒆)𝟒
𝑫𝟒 (𝟏 + 𝒈) 𝟏
+ 𝒙
(𝑲𝒆 − 𝒈) (𝟏 + 𝑲𝒆)𝟒

Where,
P = Price per share
Ke = Required rate of return on equity
g = Growth rate
₹ 𝟏𝟒𝟎 𝒙 𝟏. 𝟏𝟐 ₹ 𝟏𝟓𝟔. 𝟖𝟎 𝒙 𝟏. 𝟏𝟐 ₹𝟏𝟕𝟓. 𝟔𝟐 𝒙 𝟏. 𝟏𝟐 ₹ 𝟏𝟗𝟔. 𝟔𝟗 𝒙 𝟏. 𝟏𝟐
𝒑 = + + +
(𝟏 + 𝟎. 𝟏𝟖)𝟏 (𝟏 + 𝟎. 𝟏𝟖)𝟐 (𝟏 + 𝟎. 𝟏𝟖)𝟑 (𝟏 + 𝟎. 𝟏𝟖)𝟒
₹ 𝟐𝟐𝟎. 𝟐𝟗 (𝟏 + 𝟎. 𝟎𝟓) 𝟏
+ 𝒙
(𝟎. 𝟏𝟖 − 𝟎. 𝟎𝟓) (𝟏 + 𝟎. 𝟏𝟖)𝟒

P= 132.81 + 126.10 + 119.59 + 113.45 + 916.34 = Rs. 1,408.29

Intrinsic value of share is Rs. 1,408.29 as compared to latest market price
of
Rs.2,185. Market price of share is over-priced by Rs. 776.71.

4. The following information relates to LMN Ltd.

Earning of the company Rs. 30,00,000
Dividend pay-out ratio 60%
No. of shares outstanding 5,00,000
Rate of return on investment 15%
Equity capitalized rate 13%

Required:

(i) Determine what would be the market value per share as per Walter's
model.
(ii) Compute optimum dividend pay-out ratio according to Walter's model
and the market value of company's share at that pay-out ratio.
 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

Solution

Calculation of market value per share as per Walter’s model

𝑟
𝐷 + 𝐾𝑒 (𝐸 − 𝐷)
𝑃 =
𝐾𝑒

Where,
P = Market price per share.
E = Earnings per share = Rs. 30,00,000/5,00,000 =
Rs. 6
D = Dividend per share = Rs. 6 x 0.60 = Rs. 3.6
r = Return earned on investment = 15%
Ke = Cost of equity capital = 13%

0.15
3.6 + 0.13 (6 − 3.6)
𝑃 = = ₹ 49
0.13

(ii) According to Walter’s model, when the return on investment (r) is more than the cost
of equity capital (Ke), the price per share increases as the dividend pay-out ratio
decreases. Hence, the optimum dividend pay-out ratio in this case is nil.
So, at a pay-out ratio of zero, the market value of the company’s share will be:
0.15
0 + 0.13 (6 − 0)
𝑃 = = ₹ 53.254
0.13

5. Following information are given for a company:

Earnings per share Rs. 10

P/E ratio 12.5
Rate of return on investment 12%
Market price per share as per Walter’s Model Rs. 130

You are required to calculate:

(i) Dividend payout ratio.
(ii) Market price of share at optimum dividend payout ratio.
(iii) P/E ratio, at which the dividend policy will have no effect on the price of
share.
(iv) Market price of share at this P/E ratio.
(v) Market price of share using Dividend growth model.
Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

Solution

(i) The EPS of the firm is Rs. 10, r =12%. The P/E Ratio is given at 12.5 and
the cost of capital (Ke) may be taken as the inverse of P/E ratio.
Therefore, Ke is 8% (i.e., 1/12.5). The value of the share is Rs. 130 which
may be equated with Walter Model as follows:

𝑟
𝐷 + 𝐾𝑒 (𝐸 − 𝐷)
𝑃 =
𝐾𝑒
Or
12%
𝐷 + 8% (10 − 𝐷)
𝑃 =
8%

or [D+1.5(10-D)]/0.08=130
or D+15-1.5D=10.4
or -0.5D=-4.6
So, D = Rs. 9.2
The firm has a dividend pay-out of 92% (i.e., 9.2/10).

(ii) Since the rate of return of the firm (r) is 12% and it is more than the Ke
of 8%, therefore, by distributing 92% of earnings, the firm is not
following an optimal dividend policy. The optimal dividend policy for the
firm would be to pay zero dividend and in such a situation, the market
price would be:
12%
0 + 8% (10 − 𝐷)
𝑃 =
8%
P = Rs. 187.5
So, theoretically the market price of the share can be increased by adopting
a zero pay-out.

(iii) The P/E ratio at which the dividend policy will have no effect on the
value of the share is such at which the Ke would be equal to the rate of
return (r) of the firm. The Ke would be 12% (= r) at the P/E ratio of
1/12%=8.33. Therefore, at the P/E ratio of 8.33, the dividend policy
would have no effect on the value of the share.

(iv) If the P/E is 8.33 instead of 12.5, then the Ke which is the inverse of
P/E ratio, would be 12% and in such a situation ke= r and the market
price, as per Walter’s model would be:
.
( ) . ( . )
𝑃 = = .
.
Rs. 83.33
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(v) Dividend Growth Model applying growth on dividend

Ke = 8%, r = 12%, D0 = 9.2, b = 0.08
g = b.r
g = 0.08 x 0.12=0.96%
D1 = D0 (1+g) = 9.2 (1+0.0096) = Rs. 9.2883

P= ( )
= 9.2883/(0.08 – 0.0096) = 9.2883/0.0704 = Rs. 131.936

Alternative Alternatively, without applying growth on dividend

( ) ( . )
P= = . ( . . )
= Rs. 130.68

6. The following figures are extracted from the annual report of RJ Ltd.:

Net Profit Rs. 50 Lakhs

Outstanding 13% preference shares Rs. 200 Lakhs
No. of Equity Shares 6 Lakhs
Return on Investment 25%
Cost of Capital (Ke) 15%

You are required to compute the approximate dividend pay-out ratio by keeping the
share price at Rs. 40 by using Walter's Model.

Solution

Particulars Rs. in lakhs

Net Profit 50
Less: Preference dividend (Rs. 200,00,000 x 13%) 26
Earning for equity shareholders 24
Therefore, earning per share = Rs. 24 lakh /6 lakh shares = Rs. 4

Let, the dividend per share be D to get share price of Rs. 40

𝑟
𝐷 + 𝐾𝑒 (𝐸 − 𝐷)
𝑃=
𝐾𝑒

0.25
𝐷+ (𝑅𝑠. 4 − 𝐷)
𝑅𝑠. 40 = 0.15
0.15
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0.15𝐷 + 1 − 0.25𝐷
6=
0.15
0.1 D = 1 – 0.9
D = Rs. 1

.
D/P ratio = 𝑥 100 = .
𝑥 100 = 25%

So, the required dividend pay-out ratio will be = 25%

7. The following information is supplied to you:

Rs.
Total Earnings 2,00,000
No. of equity shares (of Rs. 100 20,000
each)
Dividend paid 1,50,000
Price/ Earnings ratio 12.5

Applying Walter’s Model:

a. ANALYSE whether the company is following an optimal dividend
policy.
b. COMPUTE P/E ratio at which the dividend policy will
have no effect on the value of the share.
c. Will your decision change, if the P/E ratio is 8 instead of
12.5? ANALYSE.
Solution
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8. AB Engineering Ltd. belongs to a risk class for which the capitalization rate is 10%.
It currently has outstanding 10,000 shares selling at Rs. 100 each. The firm is
contemplating the declaration of a dividend of Rs. 5 share at the end of the current
financial year. It expects to have a net income of Rs. 1,00,000 and has a proposal for
making new investments of Rs. 2,00,000. CALCULATE the value of the firm when
dividends (i) are not paid (ii) are paid.

Solution
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 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

9. Aakash Ltd. has 10 lakh equity shares outstanding at the start of the accounting
year. The existing market price per share is ₹ 150. Expected dividend is ₹ 8 per
share. The rate of capitalization appropriate to the risk class to which the
company belongs is 10%.
(i) CALCULATE the market price per share when expected dividends
are: (a) declared, and (b) not declared, based on the Miller –
Modigliani approach.
(ii) CALCULATE number of shares to be issued by the company at the
end of the accounting year on the assumption that the net income
for the year is ₹ 3 crore, investment budget is ₹ 6 crores, when (a)
Dividends are declared, and (b) Dividends are not declared.
(iii) PROOF that the market value of the shares at the end of the accounting
year will remain unchanged irrespective of whether (a) Dividends are
declared, or (ii) Dividends are not declared.
Solution
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10. (i) EPS of a company is Rs. 60 and Dividend payout ratio is 60%. Multiplier is 5.
Determine price per share as per Graham & Dodd model.
(ii) Last year's dividend is Rs. 6.34, adjustment factor is 45%, target payout ratio is
60% and current year's EPS is Rs. 12. Compute current year's dividend using Linter's
 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

model.

Solution
(i) Price per share (P) = m 𝐷 +
Where,
m = Multiplier
D = Dividend
E = EPS
P = 5 60 𝑋 06 +
P = 5(36 +20) = Rs. 280

(ii) D₁ = Dₒ + [(EPS ×Target payout) - Dₒ] × Adjustment factor

D₁ = 6.34 + [(12 × 60%) – 6.34] × 0.45
D₁ = 6.34 + 0.387 = Rs. 6.727

11. Mr H is currently holding 1,00,000 shares of HM ltd, and currently the share of
HM ltd is trading on Bombay Stock Exchange at Rs. 50 per share. Mr A have a
policy to re-invest the amount of any dividend received into the shared back
again of HM ltd. If HM ltd has declared a dividend of Rs. 10 per share, please
determine the no of shares that Mr A would hold after he re-invests dividend in
shares of HM ltd.

Solution

12. Following information is given pertaining to DG ltd,

No of shares outstanding 1 lakh shares
Earnings Per share 25 per share
P/E Ratio 20
Book Value per share 400 per share
If company decides to repurchase 25,000 shares, at the prevailing market price,
what is the resulting book value per share after repurchasing.
Solution
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1. Hindlever Company is considering a new product line to supplement its range of

products. It is anticipated that the new product line will involve cash investments of
Rs. 7,00,000 at time 0 and Rs. 10,00,000 in year 1. After-tax cash inflows of Rs.
2,50,000 are expected in year 2, Rs. 3,00,000 in year 3, Rs. 3,50,000 in year 4 and
Rs. 4,00,000 each year thereafter through year 10. Although the product line might
be viable even after year 10, the company prefers to be conservative and end all
calculations at that time.
(a) If the required rate of return is 15 per cent, COMPUTE net present value
of the project. Is it acceptable?
(b) ANALYSE what would be the case if the required rate of return were 10
per cent.
(c) CALCULATE its internal rate of return.
(d) COMPUTE the project’s payback period.
Solution
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2. Following data has been available for a capital project:

Annual cash inflows Rs. 1,00,000
Useful life 4 years
Salvage value 0
Internal rate of return 12%
Profitability index 1.064
You are required to CALCULATE the following for this project:
(i) Cost of project
(ii) Cost of capital
(iii) Net present value
(iv) Payback period
Solution
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3. Nav Jeevani hospital is considering to purchase a machine for medical projectional

radiography which is priced at Rs. 2,00,000. The projected life of the machine is 8
years and has an expected salvage value of Rs. 18,000 at the end of 8th year. The
annual operating cost of the machine is Rs. 22,500. It is expected to generate
revenues of Rs. 1,20,000 per year for eight years. Presently, the hospital is
outsourcing the radiography work to its neighbour Test Center and is earning
commission income of Rs. 36,000 per annum, net of taxes.
Required:

ANALYSE whether it would be profitable for the hospital to purchase the

machine. Give your recommendation under:

(i) Net Present Value method

(ii) Profitability Index method
Consider tax @30%.

Solution
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4. XYZ Ltd. is planning to introduce a new product with a project life of 8 years. Initial
equipment cost will be Rs. 3.5 crores. Additional equipment costing Rs. 25,00,000
will be purchased at the end of the third year from the cash inflow of this year. At the
end of 8 years, the original equipment will have no resale value, but additional
equipment can be sold for Rs. 2,50,000. A working capital of Rs. 40,00,000 will be
needed and it will be released at the end of eighth year. The project will be financed
with sufficient amount of equity capital.
The sales volumes over eight years have been estimated as follows:

Year 1 2 3 4-5 6-8

Units per 72,000 1,08,000 2,60,000 2,70,000 1,80,000
year

A sales price of Rs. 240 per unit is expected and variable expenses will amount to
60% of sales revenue. Fixed cash operating costs will amount Rs. 36,00,000 per year.
The loss of any year will be set off from the profits of subsequent two years. The
company is subject to 30 per cent tax rate and considers 12 per cent to be an
Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

appropriate after-tax cost of capital for this project. The company follows straight line
method of depreciation.

CALCULATE the net present value of the project and advise the management to take
appropriate decision.

Solution
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5. Ae Bee Cee Ltd. is planning to invest in machinery, for which it has to make a choice
between the two identical machines, in terms of Capacity, ‘X’ and ‘Y’. Despite being
designed differently, both machines do the same job. Further, details regarding both
the machines are given below:
Particulars Machine ‘X’ Machine ‘Y’
Purchase Cost of the Machine (Rs.) 15,00,000 10,00,000
Life (years) 3 2
Running cost per year (Rs.) 4,00,000 6,00,000
The opportunity cost of capital is 9%.
You are required to IDENTIFY the machine which the company should buy?

The present value (PV) factors at 9% are:

Year t1 t2 t3
PVIF0.09.t 0.917 0.842 0.772

Solution
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6. Shiv Limited is thinking of replacing its existing machine by a new machine which
would cost Rs. 60 lakhs. The company’s current production is 80,000 units, and is
expected to increase to 1,00,000 units, if the new machine is bought. The selling price
of the product would remain unchanged at Rs. 200 per unit. The following is the cost
of producing one unit of product using both the existing and new machine:

Unit cost (Rs.)

Existing New Machine Difference
Machine (1,00,000
(80,000 units) units)
Materials 75.0 63.75 (11.25)
Wages & 51.25 37.50 (13.75)
Salaries
Supervision 20.0 25.0 5.0
Repairs and 11.25 7.50 (3.75)
Maintenance
Power and Fuel 15.50 14.25 (1.25)
Depreciation 0.25 5.0 4.75
Allocated Corporate 10.0 12.50 2.50
Overheads
183.25 165.50 (17.75)

The existing machine has an accounting book value of Rs. 1,00,000, and it has been
fully depreciated for tax purpose. It is estimated that machine will be useful for 5
years. The supplier of the new machine has offered to accept the old machine for Rs.
2,50,000. However, the market price of old machine today is Rs. 1,50,000 and it is
expected to be Rs. 35,000 after 5 years. The new machine has a life of 5 years and a
salvage value of Rs. 2,50,000 at the end of its economic life. Assume corporate Income
tax rate at 40%, and depreciation is charged on straight line basis for Income-tax
purposes. Further assume that book profit is treated as ordinary income for tax
purpose. The opportunity cost of capital of the Company is 15%.

Required:

(i) ESTIMATE net present value of the replacement decision.

(ii) CALCULATE the internal rate of return of the replacement decision.
(iii) Should Company go ahead with the replacement decision?
ANALYSE.
Solution
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 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

7. Xavly Ltd. has a machine which has been in operation for 3 years. The machine has
a remaining estimated useful life of 5 years with no salvage value in the end. Its
current market value is Rs. 2,00,000. The company is considering a proposal to
purchase a new model of machine to replace the existing machine. The relevant
information is as follows:
Existing Machine New Machine
Cost of machine Rs. 3,30,000 Rs. 10,00,000
Estimated life 8 years 5 years
Salvage value Nil Rs. 40,000
Annual output 30,000 units 75,000 units
Selling price per unit Rs. 15 Rs. 15
Annual operating hours 3,000 3,000
Material cost per unit Rs. 4 Rs. 4
Labour cost per hour Rs. 40 Rs. 70
Indirect cash cost per annum Rs. 50,000 Rs. 65,000
Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

The company uses written down value of depreciation @ 20% and it has several other
machines in the block of assets. The Income tax rate is 30 per cent and Xavly Ltd.
does not make any investment, if it yields less than 12 per cent.

Solution
 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

8. HMR Ltd. is considering replacing a manually operated old machine with a fully
automatic new machine. The old machine had been fully depreciated for tax purpose
but has a book value of Rs. 2,40,000 on 31st March . The machine has begun causing
problems with breakdowns and it cannot fetch more than Rs. 30,000 if sold in the
market at present. It will have no realizable value after 10 years. The company has
been offered Rs. 1,00,000 for the old machine as a trade in on the new machine which
has a price (before allowance for trade in) of Rs. 4,50,000. The expected life of new
machine is 10 years with salvage value of Rs. 35,000.
Further, the company follows straight line depreciation method but for tax purpose,
written down value method depreciation @ 7.5% is considering that this is the only
machine in the block of assets.

Given below are the expected sales and costs from both old and new machine:

Old machine (Rs.) New machine (Rs.)

Sales 8,10,000 8,10,000
Material cost 1,80,000 1,26,250
Labour cost 1,35,000 1,10,000
Variable overhead 56,250 47,500
Fixed overhead 90,000 97,500
Depreciation 24,000 41,500
PBT 3,24,750 3,87,250
Tax @ 30% 97,425 1,16,175
PAT 2,27,325 2,71,075

From the above information, ANALYSE whether the old machine should be replaced
or not if required rate of return is 10%? Ignore capital gain tax.
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Solution
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9. A & Co. is contemplating whether to replace an existing machine or to spend money

on overhauling it. A & Co. currently pays no taxes. The replacement machine costs
Rs. 90,000 now and requires maintenance of Rs. 10,000 at the end of every year for
eight years. At the end of eight years it would have a salvage value of Rs. 20,000 and
would be sold. The existing machine requires increasing amounts of maintenance
each year and its salvage value falls each year as follows:
Year Maintenance (Rs.) Salvage (Rs.)
Present 0 40,000
1 10,000 25,000
2 20,000 15,000
3 30,000 10,000
4 40,000 0
The opportunity cost of capital for A & Co. is 15%. REQUIRED:

When should the company replace the machine?

(Note: Present value of an annuity of Re. 1 per period for 8 years at interest rate of
15% : 4.4873; present value of Re. 1 to be received after 8 years at interest rate of
15% : 0.3269).

Solution
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10. A chemical company is presently paying an outside firm Rs. 1 per gallon to dispose
off the waste resulting from its manufacturing operations. At normal operating
capacity, the waste is about 50,000 gallons per year.
After spending Rs. 60,000 on research, the company discovered that the waste could
be sold for Rs. 10 per gallon if it was processed further. Additional processing would,
however, require an investment of Rs. 6,00,000 in new equipment, which would have
an estimated life of 10 years with no salvage value. Depreciation would be calculated
by straight line method.

Except for the costs incurred in advertising Rs. 20,000 per year, no change in the
present selling and administrative expenses is expected, if the new product is sold.
The details of additional processing costs are as follows:

Variable : Rs. 5 per gallon of waste put into process.

Fixed : (Excluding Depreciation) Rs. 30,000 per year.

There will be no losses in processing, and it is assumed that the total waste processed
in a given year will be sold in the same year. Estimates indicate that 50,000 gallons
of the product could be sold each year.

The management when confronted with the choice of disposing off the waste or
processing it further and selling it, seeks your ADVICE. Which alternative would you
recommend? Assume that the firm's cost of capital is 15% and it pays on an average
50% Tax on its income.
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You should consider Present value of Annuity of Rs. 1 per year @ 15% p.a. for 10
years as 5.019.

Solution

11. GG Pathology Lab Ltd. is using 2D sonography machine which has reached the end
of its useful life. The lab is intending to upgrade along with the technology by
investing in 3D sonography machine as per the choices preferred by the patients.
Following new 3D sonography machine of two different brands with same features is
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available in the market:

SLM
Brand Cost of Life of Maintenance Cost (Rs.)
machine (Rs.) machine Depreciation
(Rs.) rate(%)

Year 1-5 Year 6-10 Year 11-15

X 15,00,000 15 50,000 70,000 98,000 6
Y 10,00,000 10 70,000 1,15,000 - 6

Residual Value of machines shall be dropped by 10% and 40% of Purchase price for
Brand X and Y respectively in the first year and thereafter shall be depreciated at the
rate mentioned above on the original cost.

Alternatively, the machine of Brand Y can also be taken on rent to be returned back
to the owner after use on the following terms and conditions:

 Annual Rent shall be paid in the beginning of each year and for first year
it shall be Rs. 2,24,000. Annual Rent for the subsequent 4 years shall be
Rs. 2,25,000.
 Annual Rent for the final 5 years shall be Rs. 2,70,000.
 The Rent/Agreement can be terminated by GG Labs by making a payment
of Rs. 2,20,000 as penalty. This penalty would be reduced by Rs. 22,000
each year of the period of rental agreement.
You are required to:

(i) ADVISE which brand of 3D sonography machine should be acquired

assuming that the use of machine shall be continued for a period of 20
years.
(ii) STATE which of the option is most economical if machine is likely to be
used for a period of 5 years?
The cost of capital of GG Labs is 12%.

Solution
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 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

12. Manoranjan Ltd is a News broadcasting channel having its broadcasting Centre in
Mumbai. There are total 200 employees in the organisation including top
management. As a part of employee benefit expenses, the company serves tea or
coffee to its employees, which is outsourced from a third-party. The company offers
tea or coffee three times a day to each of its employees. 120 employees prefer tea all
three times, 40 employees prefer coffee all three times and remaining prefer tea only
once in a day. The third-party charges Rs. 10 for each cup of tea and Rs. 15 for each
cup of coffee. The company works for 200 days in a year.
Looking at the substantial amount of expenditure on tea and coffee, the finance
department has proposed to the management an installation of a master tea and
coffee vending machine which will cost Rs. 10,00,000 with a useful life of five years.
Upon purchasing the machine, the company will have to enter into an annual
maintenance contract with the vendor, which will require a payment of Rs. 75,000
every year. The machine would require electricity consumption of 500 units p.m. and
current incremental cost of electricity for the company is Rs. 12 per unit. Apart from
these running costs, the company will have to incur the following consumables
expenditure also:

(1) Packets of Coffee beans at a cost of Rs. 90 per packet.

(2) Packet of tea powder at a cost of Rs. 70 per packet.
(3) Sugar at a cost of Rs. 50 per Kg.
(4) Milk at a cost of Rs. 50 per litre.
(5) Paper cup at a cost of 20 paise per cup.
Each packet of coffee beans would produce 200 cups of coffee and same goes for tea
powder packet. Each cup of tea or coffee would consist of 10g of sugar on an average
and 100 ml of milk.

The company anticipate that due to ready availability of tea and coffee through
vending machines its employees would end up consuming more tea and coffee.
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It estimates that the consumption will increase by on an average 20% for all class of
employees. Also, the paper cups consumption will be 10% more than the actual cups
served due to leakages in them.

The company is in the 25% tax bracket and has a current cost of capital at 12% per
annum. Straight line method of depreciation is allowed for the purpose of taxation.
You as a financial consultant is required to ADVISE on the feasibility of acquiring the
vending machine.

Solution
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13. Shiva Limited is planning its capital investment programme for next year. It has five
projects all of which give a positive NPV at the company cut-off rate of 15 percent,
the investment outflows and present values being as follows:

Project Investment NPV @ 15% (Rs.)

(Rs.)
A (50,000) 15,400
B (40,000) 18,700
C (25,000) 10,100
D (30,000) 11,200
E (35,000) 19,300

The company is limited to a capital spending of Rs. 1,20,000.

You are required to ILLUSTRATE the returns from a package of projects within
the capital spending limit. The projects are independent of each other and are
divisible (i.e., part- project is possible).

Solution
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14. Elite Cooker Company is evaluating three investment situations: (1) Produce a new
line of aluminium skillets, (2) Expand its existing cooker line to include several new
sizes, and (3) Develop a new, higher-quality line of cookers. If only the project in
question is undertaken, the expected present values and the amounts of investment
required are:

Project Investment required Present value of Future Cash-

Flows
Rs. Rs.
1 2,00,000 2,90,000
2 1,15,000 1,85,000
3 2,70,000 4,00,000

If projects 1 and 2 are jointly undertaken, there will be no economies; the investments
required and present values will simply be the sum of the parts. With projects 1 and
3, economies are possible in investment because one of the machines acquired can
be used in both production processes. The total investment required for projects 1
and 3 combined is Rs. 4,40,000. If projects 2 and 3 are undertaken, there are
economies to be achieved in marketing and producing the products but not in
investment. The expected present value of future cash flows for projects 2 and 3 is
Rs. 6,20,000. If all three projects are undertaken simultaneously, the economies
noted will still hold. However, a Rs. 1,25,000 extension on the plant will be necessary,
as space is not available for all three projects. CALCULATE NPV of the projects and
STATE which project or projects should be chosen?
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Solution

15. XYZ Ltd. is presently all equity financed. The directors of the company have been
evaluating investment in a project which will require Rs. 270 lakhs capital
expenditure on new machinery. They expect the capital investment to provide annual
cash flows of Rs. 42 lakhs indefinitely which is net of all tax adjustments. The
discount rate which it applies to such investment decisions is 14% net.
The directors of the company believe that the current capital structure fails to take
advantage of tax benefits of debt and propose to finance the new project with undated
perpetual debt secured on the company's assets. The company intends to issue
sufficient debt to cover the cost of capital expenditure and the after tax cost of issue.

The current annual gross rate of interest required by the market on corporate
undated debt of similar risk is 10%. The after tax costs of issue are expected to be
Rs. 10 lakhs. Company's tax rate is 30%.
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You are REQUIRED to:

(i) Calculate the adjusted present value of the investment,

(ii) Calculate the adjusted discount rate and
(iii) Explain the circumstances under which this adjusted discount
rate may be used to evaluate future investments.

Solution

16. An investment of Rs. 1,36,000 yields the following cash inflows (profits before
depreciation but after tax). DETERMINE MIRR considering 8% as cost of capital.
Year (Rs.)
1 30,000
2 40,000
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3 60,000
4 30,000
5 20,000

Solution
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1. Following information has been provided from the books of Laxmi Pvt. Ltd. for
the year ending on 31st March, 2023:

Net Working Capital Rs. 4,80,000

Bank overdraft Rs. 80,000
Fixed Assets to Proprietary ratio 0.75
Reserves and Surplus Rs. 3,20,000
Current ratio 2.5
Liquid ratio (Quick Ratio) 1.5
You are required to PREPARE a summarised Balance Sheet as at 31st March, 2023
assuming that there is no long term debt.

Solution
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2. X Co. has made plans for the next year. It is estimated that the company will employ
total assets of Rs. 8,00,000; 50 per cent of the assets being financed by borrowed
capital at an interest cost of 8 per cent per year. The direct costs for the year are
estimated at Rs. 4,80,000 and all other operating expenses are estimated at Rs.
80,000. The goods will be sold to customers at 150 per cent of the direct costs. Tax
rate is assumed to be 50 per cent.
You are required to CALCULATE: (i) Operating profit margin (before tax); (ii) net
profit margin (after tax); (iii) return on assets (on operating profit after tax); (iv) asset
turnover and (v) return on owners’ equity.

Solution
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3. The following accounting information and financial ratios of PQR Ltd. relates to the
year ended 31st March, 2023:

Accounting Information:
Gross Profit 15% of Sales
Net profit 8% of sales
Raw materials consumed 20% of works
cost
Direct wages 10% of works
cost
Stock of raw materials 3 months’ usage
Stock of finished goods 6% of works cost
Debt collection period 60 days
(All sales are on credit)
Financial Ratios:
Fixed assets to sales 1:3
Fixed assets to Current assets 13 : 11
Current ratio 2:1
Long-term loans to Current liabilities 2:1
Share Capital to Reserves and Surplus 1:4

If value of Fixed Assets as on 31st March, 2022 amounted to Rs. 26 lakhs,

PREPARE a summarised Profit and Loss Account of the company for the year
ended 31st March, 2023 and also the Balance Sheet as on 31st March, 2023.
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Solution
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4. Following is the abridged Balance Sheet of Alpha Ltd.:

Liabilities Rs. Assets Rs. Rs.

Share Capital 1,00,000 Land and 80,000
Buildings
Profit and 17,000 Plant and 50,000
Loss Account Machineries
Current 40,000 Less: 15,000 35,000
Liabilities Depreciation
1,15,000
Stock 21,000
Receivables 20,000
Bank 1,000 42,000
Total 1,57,000 Total 1,57,000

With the help of the additional information furnished below, you are required to
PREPARE Trading and Profit & Loss Account and Balance Sheet as at 31 st
March, 2023:

(i) The company went in for re-organisation of capital structure, with

share capital remaining the same as follows:
Share capital 50%
Other Shareholders’ funds 15%
5% Debentures 10%
Current Liabilities 25%
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Debentures were issued on 1st April, interest being paid annually

on 31st March.

(ii) Land and Buildings remained unchanged. Additional plant and

machinery has been bought and a further Rs. 5,000 depreciation
was written off.
(The total fixed assets then constituted 60% of total fixed and
current assets.)
(iii) Working capital ratio was 8 : 5.
(iv) Quick assets ratio was 1 : 1.
(v) The receivables (four-fifth of the quick assets) to sales ratio
revealed a credit period of 2 months. There were no cash sales.
(vi) Return on net worth was 10%.
(vii) Gross profit was at the rate of 15% of selling price.
(viii) Stock turnover was eight times for the year. Ignore Taxation

Solution
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 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

5. From the following information and ratios, PREPARE the Balance sheet as at 31st
March, 2023 and lncome Statement for the year ended on that date for M/s Ganguly
& Co -
Average Stock Rs.10 lakh
Current Ratio 3:1
Acid Test Ratio 1:1
PBIT to PBT 2.2:1
Average Collection period (Assume 360 days in a year) 30 days
Stock Turnover Ratio (Use sales as turnover) 5 times
Fixed assets turnover ratio 0.8 times
Working Capital Rs.10 lakh
Net profit Ratio 10%
Gross profit Ratio 40%
Operating expenses (excluding interest) Rs. 9 lakh
Long term loan interest 12%
Tax Nil
Solution
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 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

6. From the following information, you are required to PREPARE a summarised Balance
Sheet for Rudra Ltd. for the year ended 31st March, 2023:
Debt Equity Ratio 1:1
Current Ratio 3:1
Fixed Asset Turnover (on the basis of sales) 4
Stock Turnover (on the basis of sales) 6
Cash in hand Rs. 5,00,000
Stock to Debtor 1:1
Sales to Net Worth 4
Capital to Reserve 1:2
Gross Profit 20% of Cost
COGS to Creditor 10:1
Interest for entire year is yet to be paid on Long Term loan @ 10%.
Solution
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Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman
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7. From the following information, find out missing figures and REWRITE the balance
sheet of Mukesh Enterprise.
Current Ratio = 2:1
Acid Test ratio = 3:2
Reserves and surplus = 20% of equity share capital
Long term debt = 45% of net worth
Stock turnover velocity = 1.5 months
Receivables turnover velocity = 2 months
You may assume closing Receivables as average Receivables.
Gross profit ratio = 20%
Sales is Rs. 21,00,000 (25% sales are on cash basis and balance on credit basis)
Closing stock is Rs. 40,000 more than opening stock.
Accumulated depreciation is 1/6 of original cost of fixed assets.

Balance sheet of the company is as follows:

Liabilities (Rs.) Assets (Rs.)
Equity Share Capital ? Fixed Assets (Cost) ?
Reserves & Surplus ? Less: Accumulated. ?
Depreciation
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Long Term Loans 6,75,000 Fixed Assets (WDV) ?

Bank Overdraft 60,000 Stock ?
Creditors ? Debtors ?
Cash ?
Total ? Total ?

Solution
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Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman
 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

1. A proforma cost sheet of a company provides the following particulars:

Amount per unit

(Rs.)
Raw materials cost 100.00
Direct labour cost 37.50
Overheads cost 75.00
Total cost 212.50
Profit 37.50
Selling Price 250.00

The Company keeps raw material in stock, on an average for one month; work-in-
progress, on an average for one week; and finished goods in stock, on an average for
two weeks.

The credit allowed by suppliers is three weeks and company allows four weeks credit
to its debtors. The lag in payment of wages is one week and lag in payment of overhead
expenses is two weeks.

The Company sells one-fifth of the output against cash and maintains cash-in-hand
and at bank put together at Rs.37,500.

Required:

PREPARE a statement showing estimate of Working Capital needed to finance an

activity level of 1,30,000 units of production. Assume that production is carried on
evenly throughout the year, and wages and overheads accrue similarly. Work-in-
progress stock is 80% complete in all respects.

Solution
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2. While applying for financing of working capital requirements to a commercial bank,

TN Industries Ltd. projected the following information for the next year:

Cost Element Per unit Per unit

(Rs.) (Rs.)
Raw materials
X 30
Y 7
Z 6 43
Direct Labour 25
Manufacturing and administration 20
overheads (excluding depreciation)
Depreciation 10
Selling overheads 15

Additional Information:

(a) Raw Materials are purchased from different suppliers leading to

different credit period allowed as follows:
X – 2 months; Y– 1 months; Z – ½ month
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(b) Production cycle is of ½ month. Production process requires full

unit of X and Y in the beginning of the production. Z is required
only to the extent of half unit in the beginning and the remaining
half unit is needed at a uniform rate during the production
process.
(c) X is required to be stored for 2 months and other materials for 1
month.
(d) Finished goods are held for 1 month.
(e) 25% of the total sales is on cash basis and remaining on credit
basis. The credit allowed by debtors is 2 months.
(f) Average time lag in payment of all overheads is 1 months and ½
months for direct labour.
(g) Minimum cash balance of Rs. 8,00,000 is to be maintained.
CALCULATE the estimated working capital required by the company on cash
cost basis if the budgeted level of activity is 1,50,000 units for the next year.
The company also intends to increase the estimated working capital requirement
by 10% to meet the contingencies. (You may assume that production is carried
on evenly throughout the year and direct labour and other overheads accrue
similarly.)
Solution
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 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

3. The management of Trux Company Ltd. is planning to expand its business and
consults you to prepare an estimated working capital statement. The records of
the company reveals the following annual information:

( )

Sales – Domestic at one month’s credit 18,00,000

Export at three month’s credit (sales price 10% below 8,10,000
domestic price)

Materials used (suppliers extend two months credit) 6,75,000

Lag in payment of wages – ½ month 5,40,000
Lag in payment of manufacturing expenses (cash) – 1 7,65,000
month
Lag in payment of Administration Expenses – 1 month 1,80,000
Selling expenses payable quarterly in advance 1,12,500
Income tax payable in four installments, of which one 1,68,000
falls in the next financial year

Rate of gross profit is 20%. Ignore work-in-progress and depreciation.

The company keeps one month’s stock of raw materials and finished goods (each)
and believes in keeping ₹ 2,50,000 available to it including the overdraft limit of ₹
75,000 not yet utilized by the company.
The management is also of the opinion to make 10% margin for contingencies on
computed figure.
You are required to PREPARE the estimated working capital statement for the
next year.
Solution
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 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

4. M.A. Limited is commencing a new project for manufacture of a plastic component.

The following cost information has been ascertained for annual production of 12,000
units which is the full capacity:
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Costs per unit

(Rs.)
Materials 40.00
Direct labour and variable expenses 20.00
Fixed manufacturing expenses 6.00
Depreciation 10.00
Fixed administration expenses 4.00
80.00

The selling price per unit is expected to be Rs. 96 and the selling expenses Rs.
5 per unit, 80% of which is variable.

In the first two years of operations, production and sales are expected to be as
follows:

Year Production (No. of units) Sales (No. of units)

1 6,000 5,000
2 9,000 8,500

To assess the working capital requirements, the following additional

information is available:

(a) Stock of materials :2.25 months’ average consumption

(b) Work-in-process :Nil
(c) Debtors :1 month’s average sales.
(d) Cash balance :Rs. 10,000
(e) Creditors for supply of materials :1 month’s average purchase during the year.
(f) Creditors for expenses :1 month’s average of all expenses during the year.

PREPARE, for the two years:

(i) A projected statement of Profit/Loss (Ignoring taxation); and

(ii) A projected statement of working capital requirements.

Solution
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5. Aneja Limited, a newly formed company, has applied to a commercial bank for
the first time for financing its working capital requirements. The following
information is available about the projections for the current year:
Estimated level of activity: 1,04,000 completed units of production plus 4,000
units of work-in-progress. Based on the above activity, estimated cost per unit
is:

Raw material Rs. 80 per unit

Direct wages Rs. 30 per unit
Overheads (exclusive of depreciation) Rs. 60 per unit
Total cost Rs. 170 per unit
Selling price Rs. 200 per unit

Raw materials in stock: Average 4 weeks consumption, work-in-progress

(assume 50% completion stage in respect of conversion cost) (materials issued
at the start of the processing).

Finished goods in stock 8,000 units

Credit allowed by suppliers Average 4 weeks
Credit allowed to debtors/receivables Average 8 weeks
Lag in payment of wages Average 1.5 weeks
Cash at banks (for smooth operation) is expected to be Rs. 25,000.

Assume that production is carried on evenly throughout the year (52 weeks) and
wages and overheads accrue similarly. All sales are on credit basis only.

You are required to CALCULATE the net working capital required.

Solution
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 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

6. PQ Ltd., a company newly commencing business in 2021-22 has the following

projected Profit and Loss Account:

(Rs.) (Rs.)
Sales 2,10,000
Cost of goods sold 1,53,000
Gross Profit 57,000
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Administrative 14,000
Expenses
Selling Expenses 13,000 27,000
Profit before tax 30,000
Provision for taxation 10,000
Profit after tax 20,000

The cost of goods sold has been arrived at as under:

Materials used 84,000

Wages and manufacturing Expenses 62,500
Depreciation 23,500
1,70,000
Less: Stock of Finished goods 17,000
(10% of goods produced not yet sold)
1,53,000

The figure given above relate only to finished goods and not to work-in- progress.
Goods equal to 15% of the year’s production (in terms of physical units) will be
in process on the average requiring full materials but only 40% of the other
expenses. The company believes in keeping materials equal to two months’
consumption in stock.

All expenses will be paid one month in advance. Suppliers of materials will
extend 1-1/2 months credit. Sales will be 20% for cash and the rest at two
months’ credit. 70% of the Income tax will be paid in advance in quarterly
instalments. The company wishes to keep Rs. 8,000 in cash. 10% has to be
added to the estimated figure for unforeseen contingencies.

PREPARE an estimate of working capital.

Note: All workings should form part of the answer.

Solution
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 Fasttrack revision by CA Aman Agarwal https://t.me/costingwithcaaman

7. Samreen Enterprises has been operating its manufacturing facilities till 31.3.2022
on a single shift working with the following cost structure:
Per unit (Rs.)
Cost of Materials 6.00
Wages (out of which 40% fixed) 5.00
Overheads (out of which 80% fixed) 5.00
Profit 2.00
Selling Price 18.00
Sales during 2020-21 – Rs. 4,32,000
As at 31.3.2022 the company held:
(Rs.)
Stock of raw materials (at cost) 36,000
Work-in-progress (valued at prime cost) 22,000
Finished goods (valued at total cost) 72,000
Sundry debtors 1,08,000
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In view of increased market demand, it is proposed to double production by

working an extra shift. It is expected that a 10% discount will be available from
suppliers of raw materials in view of increased volume of business. Selling price
will remain the same. The credit period allowed to customers will remain
unaltered. Credit availed of from suppliers will continue to remain at the present
level i.e., 2 months. Lag in payment of wages and expenses will continue to
remain half a month.

You are required to PREPARE the additional working capital requirements, if

the policy to increase output is implemented.

Solution
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8. Following information is forecasted by R Limited for the year ending 31st March,
2022:
Balance as at Balance as at
31st March, 31st March,
2022 2021
(Rs. in lakh) (Rs. in lakh)
Raw Material 65 45
Work-in-progress 51 35
Finished goods 70 60
Receivables 135 112
Payables 71 68
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Annual purchases of raw 400

material (all credit)
Annual cost of production 450
Annual cost of goods sold 525
Annual operating cost 325
Annual sales (all credit) 585
You may take one year as equal to 365 days.

You are required to CALCULATE:

(i) Net operating cycle period.

(ii) Number of operating cycles in the year.
(iii) Amount of working capital requirement.
Solution
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9. The following information is provided by MNP Ltd. for the year ending 31st March,
2020:

Raw Material Storage period 45 days

Work-in-Progress conversion period 20 days
Finished Goods storage period 25 days
Debt Collection period 30 days
Creditors payment period 60 days
Annual Operating Cost Rs. 25,00,000
(Including Depreciation of Rs. 2,50,000)
Assume 360 days in a year.

You are required to calculate:

(i) Operating Cycle period

(ii) Number of Operating Cycle in a year.

(iii) Amount of working capital required for the company on a cost basis.

(iv) The company is a market leader in its product and it has no competitor
in the market. Based on a market survey it is planning to discontinue sales on
credit and deliver products based on pre-payments in order to reduce its
working capital requirement substantially. You are required to compute the
reduction in working capital requirement in such a scenario.
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Solution

(i) Calculation of Operating Cycle Period:

Operating Cycle Period =R+W+F+D–C

= 45 + 20 + 25 + 30 – 60 = 60 days

(ii) Number of Operating Cycle in a Year

= = =6

(iii) Amount of Working Capital Required

. , , . , ,
= =

. , ,
= = Rs. 3,75,000

(iv) Reduction in Working Capital

Operating Cycle Period = R + W + F – C
= 45 + 20 + 25 – 60 = 30 days
. , ,
Amount of Working Capital Required = 𝑥 30 = Rs. 1,87,500

Reduction in Working Capital = Rs. 3,75,000 – Rs. 1,87,500 = Rs.

1,87,500

Note: If we use Total Cost basis, then amount of Working Capital required will be

Rs. 4,16,666.67 (approx.) and Reduction in Working Capital will be Rs.

2,08,333.33 (approx.)
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1. XYZ Corporation is considering relaxing its present credit policy and is in the
process of evaluating two proposed policies. Currently, the firm has annual credit
sales of Rs. 50 lakhs and accounts receivable turnover ratio of 4 times a year. The
current level of loss due to bad debts is Rs. 1,50,000. The firm is required to give a
return of 25% on the investment in new accounts receivables. The company’s
variable costs are 70% of the selling price. Given the following information,
IDENTIFY which is the better option?
(Amount in Rs.)
Present Policy Policy Option I Policy Option II
Annual credit 50,00,000 60,00,000 67,50,000
sales
Accounts 4 times 3 times 2.4 times
receivable
turnover ratio
Bad debt losses 1,50,000 3,00,000 4,50,000

Solution
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2. Mosaic Limited has current sales of Rs. 15 lakhs per year. Cost of sales is 75 per
cent of sales and bad debts are one per cent of sales. Cost of sales comprises 80 per
cent variable costs and 20 per cent fixed costs, while the company’s required rate
of return is 12 per cent. Mosaic Limited currently allows customers 30 days’ credit,
but is considering increasing this to 60 days’ credit in order to increase sales.
It has been estimated that this change in policy will increase sales by 15 per cent,
while bad debts will increase from one per cent to four per cent. It is not expected
that the policy change will result in an increase in fixed costs and creditors and
stock will be unchanged.

Should Mosaic Limited introduce the proposed policy? ANALYSE (Assume a 360
days year)

Solution

3. A trader whose current sales are in the region of Rs. 6 lakhs per annum and an
average collection period of 30 days wants to pursue a more liberal policy to improve
sales. A study made by a management consultant reveals the following information:-
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Credit Policy Increase in Increase in Present default

collection sales anticipated
period
A 10 days Rs. 30,000 1.5%
B 20 days Rs. 48,000 2%
C 30 days Rs. 75,000 3%
D 45 days Rs. 90,000 4%
The selling price per unit is Rs. 3. Average cost per unit is Rs. 2.25 and variable
costs per unit are Rs. 2. The current bad debt loss is 1%. Required return on
additional investment is 20%. Assume a 360 days year.

ANALYSE which of the above policies would you recommend for adoption?

Solution
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4. Delta Limited currently makes all sales on credit and offers no cash discounts. It is
considering a 2 percent discount for payments within 10 days (terms offered '2/10
net 30').
The firm's current average collection period is 30 days, sales are 10,000 units,
selling price is 100 per unit and variable cost per unit is 50; its existing total fixed
costs are 2,00,000 which are likely to remain unchanged with production/ sales
volume of 12,000 units.

It is expected that the offer of cash discount will result in an increase in sales to
11,000 units and the average collection period will be 20 days as a result. However,
due to increased sales, increased working capital required will be for 20,000
(without taking into account the effect of debtors). Assuming that 50 percent of the
total sales will be on cash discount and 20 percent is the required return on
investment, should the proposed discount be offered?

Solution
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5. Slow Payers are regular customers of Goods Dealers Ltd. and have approached the
sellers for extension of credit facility for enabling them to purchase goods. On an
analysis of past performance and on the basis of information supplied, the following
pattern of payment schedule emerges in regard to Slow Payers:
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Pattern of Payment Schedule

At the end of 30 days 15% of the bill
At the end of 60 days 34% of the bill
At the end of 90 days 30% of the bill
At the end of 100 days 20% of the bill
Non-recovery 1% of the bill
Slow Payers want to enter into a firm commitment for purchase of goods of Rs. 15
lakhs in 2021-22, deliveries to be made in equal quantities on the first day of each
quarter in the calendar year. The price per unit of commodity is Rs. 150 on which
a profit of Rs. 5 per unit is expected to be made. It is anticipated by Goods Dealers
Ltd., that taking up of this contract would mean an extra recurring expenditure of
Rs. 5,000 per annum. If the opportunity cost of funds in the hands of Goods Dealers
is 24% per annum, would you as the finance manager of the seller recommend the
grant of credit to Slow Payers? ANALYSE. Workings should form part of your
answer. Assume year of 365 days.

Solution
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6. Following is the sales information in respect of Bright Ltd:

Annual Sales (90 % on credit) Rs. 7,50,00,000
Credit period 45 days
Average Collection period 70 days
Bad debts 0.75%
Credit administration cost (out of which 2/5th is avoidable) `
18,60,000
A factor firm has offered to manage the company's debtors on a non- recourse basis
at a service charge of 2%. Factor agrees to grant advance against debtors at in
interest rate of 14% after withholding 20% as reserve. Payment period guaranteed
by factor is 45 days. The cost of capital of the company is 12.5%. One time
redundancy payment of ` 50,000 is required to be made to factor.
Calculate the effective cost of factoring to the company. (Assume 360 days in a year)

Solution
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7. NV Industries Ltd. is a manufacturing industry which manages its accounts

receivables internally by its sales and credit department. It supplies small articles
to different industries. The total sales ledger of the company stands at Rs. 200 lakhs
of which 80% is credit sales. The company has a credit policy of 2/40, net 120. Past
experience of the company has been that on average out of the total, 50% of
customers avail of discount and the balance of the receivables are collected on
average in 120 days. The finance controller estimated, bad debt losses are around
1% of credit sales.
With escalating cost associated with the in-house management of the debtors
coupled with the need to unburden the management with the task so as to focus on
sales promotion, the CFO is examining the possibility of outsourcing its factoring
service for managing its receivables. Currently, the firm spends about Rs. 2,40,000
per annum to administer its credit sales. These are avoidable as a factoring firm is
prepared to buy the firm's receivables. The main elements of the proposal are : (i) It
will charge 2% commission (ii) It will pay advance against receivables to the firm at
an interest rate of 18% after withholding 10% as reserve.

Also, company has option to take long term loan at 15% interest or may take bank
finance for working capital at 14% interest.

You were also present at the meeting; being a financial consultant, the CFO has
asked you to be ready with the following questions:

Consider year as 360 days.

- What is average level of receivables of the company?

- How much advance factor will pay against receivables?
- What is the annual cost of factoring to the company?
- What is the net cost to the company on taking factoring service?
- What is the effective cost of factoring on advance received?
Solution
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8. Suppose ABC Ltd. has been offered credit terms from its major supplier of 2/10,
net. Hence the company has the choice of paying Rs. 10 per Rs. 100 or to invest Rs.
98 for an additional 35 days and eventually pay the supplier Rs. 100 per Rs. 100.
The decision as to whether the discount should be accepted depends on the
opportunity cost of investing Rs. 98 for 35 days. ANALYSE what should the company
do?

Solution

9. The Dolce Company purchases raw materials on terms of 2/10, net 30. A review of
the company’s records by the owner, Mr. Gautam, revealed that payments are
usually made 15 days after purchases are made. When asked why the firm did not
take advantage of its discounts, the accountant, Mr. Rohit, replied that it cost only
2 per cent for these funds, whereas a bank loan would cost the company 12 per
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cent.
(a) ANALYSE what mistake is Rohit making?
(b) If the firm could not borrow from the bank and was forced to resort to
the use of trade credit funds, what suggestion might be made to Rohit
that would reduce the annual interest cost? IDENTIFY.
Solution
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1. K Ltd. has a Quarterly cash outflow of Rs. 9,00,000 arising uniformly during the
Quarter. The company has an Investment portfolio of Marketable Securities. It plans
to meet the demands for cash by periodically selling marketable securities. The
marketable securities are generating a return of 12% p.a. Transaction cost of
converting investments to cash is Rs. 60. The company uses Baumol model to find
out the optimal transaction size for converting marketable securities into cash.
Consider 360 days in a year.

You are required to calculate

(i) Company's average cash balance,

(ii) Number of conversions each year and
(iii) Time interval between two conversions.

Solution

(i) Computation of Average Cash balance:

Annual cash outflow (U) = 9,00,000 x 4 = Rs. 36,00,000
Fixed cost per transaction (P) = Rs. 60

Opportunity cost of one rupee p.a. (S) = = 0.12

, ,
Optimum cash balance (C) = = .
= Rs. 60,000

( , )
∴ Average Cash balance = = Rs. 30,000

(ii) Number of conversions p.a.

Annual cash outflow = Rs. 36,00,000
Optimum cash balance = Rs. 60,000
, ,
∴ No. of conversions p.a. = ,
= 60

(iii) Time interval between two conversions

No. of days in a year = 360
No. of conversions p.a. = 60

∴ Time interval = = 6 days

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2. The following information is available in respect of Sai trading company:

(i) On an average, debtors are collected after 45 days; inventories have an average
holding period of 75 days and creditor’s payment period on an average is 30
days.
(ii) The firm spends a total of Rs. 120 lakhs annually at a constant rate.
(iii) It can earn 10 per cent on investments.
From the above information, you are required to CALCULATE:

(a) The cash cycle and cash turnover,

(b) Minimum amounts of cash to be maintained to meet payments as they become
due,
(c) Savings by reducing the average inventory holding period by 30 days.

Solution

3. PREPARE monthly cash budget for six months beginning from April 2022 on the
basis of the following information:
(i) Estimated monthly sales are as follows:

Rs. Rs.
January 1,00,000 June 80,000
February 1,20,000 July 1,00,000
March 1,40,000 August 80,000
April 80,000 September 60,000
May 60,000 October 1,00,000
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(ii) Wages and salaries are estimated to be payable as follows:-

Rs. Rs.
April 9,000 July 10,000
May 8,000 August 9,000
June 10,000 September 9,000

(iii) Of the sales, 80% is on credit and 20% for cash. 75% of the credit sales are
collected within one month after sale and the balance in two months after
sale. There are no bad debt losses.
(iv) Purchases amount to 80% of sales and are made on credit and paid for in
the month preceding the sales.
(v) The firm has 10% debentures of Rs. 1,20,000. Interest on these has to be
paid quarterly in January, April and so on.
(vi) The firm is to make an advance payment of tax of Rs. 5,000 in July, 2022.
(vii) The firm had a cash balance of Rs. 20,000 on April 1, 2022, which is the
minimum desired level of cash balance. Any cash surplus/deficit above/below
this level is made up by temporary investments/liquidation of temporary
investments or temporary borrowings at the end of each month (interest on
these to be ignored).

Solution
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4. Slide Ltd. is preparing a cash flow forecast for the three months period from January
to the end of March. The following sales volumes have been forecasted:

Months December January February March April

Sales (units) 1,800 1,875 1,950 2,100 2,250

Selling price per unit is Rs. 600. Sales are all on one month credit. Production of
goods for sale takes place one month before sales. Each unit produced requires two
units of raw materials costing Rs. 150 per unit. No raw material inventory is held.
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Raw materials purchases are on one month credit. Variable overheads and wages
equal to Rs. 100 per unit are incurred during production and paid in the month of
production. The opening cash balance on 1st January is expected to be Rs. 35,000.
A long term loan of Rs. 2,00,000 is expected to be received in the month of March. A
machine costing Rs. 3,00,000 will be purchased in March.

(a) Prepare a cash budget for the months of January, February and March
and calculate the cash balance at the end of each month in the three
months period.
(b) Calculate the forecast current ratio at the end of the three months
period.

Solution

Working Notes:
(1) Calculation of Collection from Trade Receivables:
Particulars December January February March
Sales 1,800 1,875 1,950 2,100
Sales@Rs. 600 per 10,80,000 11,25,000 11,70,000 12,60,000
unit/Trade
Receivable
(Debtors)(Rs.)
Collection from 10,80,000 11,25,000 11,70,000
Trade Receivables
(Debtors) (Rs.)

(2) Calculation of Payment to Trade Payables:

Particulars December January February March
Output (units) 1,875 1,950 2,100 2,250
Raw Material (2 units 3,750 3,900 4,200 4,500
per output) (units)
Raw Material (@ Rs. 5,62,500 5,85,000 6,30,000 6,75,000
150 per unit) / Trade
Payables (Creditors)
(Rs.)
Payment to Trade 5,62,000 5,85,000 6,30,000
Payables (Creditors)
(Rs.)

(3) Calculation of Variable Overheads and Wages:

Particulars January February March
Output (units) 1,950 2,100 2,250
Payment in the same 1,95,000 2,10,000 2,25,000
month @ Rs. 100 per unit
(Rs.)
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(a) Preparation of Cash Budget

Particulars January February March(Rs.)
(Rs.) (Rs.)
Opening Balance 35,000 3,75,500 6,87,500
Receipts:
Collection from 10,80,000 11,25,000 11,70,000
Trade Receivables
(Debtors)
Receipt of Long- 2,00,000
Term Loan
Total (A) 11,15,000 14,82,500 20,57,500
Payments:
Trade Payables 5,62,500 5,85,000 6,30,000
(Creditors) for
Materials
Variable 1,95,000 2,10,000 2,25,000
Overheads and
Wages
Purchase of 3,00,000
Machinery
Total (B) 7,57,500 7,95,000 11,55,000
Closing Balance 3,57,500 6,87,500 9,02,500
(A – B)

(b) Calculation of Current Ratio

Particulars March (Rs.)
Output Inventory (i.e. units produced in March) 9,00,000
[(2,250 units x 2 units of raw material per unit of
output x Rs. 150 per unit of raw material) +
2,250 units x Rs. 100 for variable overheads and
wages] or, [6,75,000 + 2,25,000] from Working
Notes 2 and 3
Trade Receivables (Debtors) 12,60,000
Cash Balance 9,02,500
Current Assets 30,62,500
Trade Payables (Creditors) 6,75,000
Current Liabilities 6,75,000
Current Ratio (Current Assets / Current 4.537 prox
Liabilities)
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5. From the following information relating to a departmental store, you are required to
PREPARE for the three months ending 31st March, 2022:

(a) Month-wise cash budget on receipts and payments basis; and

(b) Statement of Sources and uses of funds for the three months period.
It is anticipated that the working capital & other account balances at 1st January,
2022 will be as follows:

Rs. in ‘000
Cash in hand 545
and at bank
Short term 300
investments
Debtors 2,570
Stock 1,300
Trade creditors 2,110
Other creditors 200
Dividends 485
payable
Tax due 320
Plant 800

Budgeted Rs. in
Profit ‘000
Statement:
January February March
Sales 2,100 1,800 1,700
Cost of goods 1,635 1,405 1,330
sold
Gross Profit 465 395 370
Administrative, 315 270 255
Selling and
Distribution
Expenses
Net Profit 150 125 115
before tax
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Budgeted Rs. in ‘000

balances at
the end of
each months
31st Jan. 28th Feb. 31st March
Short term 700 --- 200
investments
Debtors 2,600 2,500 2,350
Stock 1,200 1,100 1,000
Trade 2,000 1,950 1,900
creditors
Other 200 200 200
creditors
Dividends 485 -- --
payable
Tax due 320 320 320
Plant 800 1,600 1,550
(depreciation
ignored)

Depreciation amount to Rs. 60,000 is included in the budgeted expenditure for each
month.

Solution
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