Mock Test Paper - Series I July, 2025

Date of Paper: 22nd July, 2025

Time of Paper: 2 P.M. to 5 P.M.
FINAL COURSE: GROUP – I
PAPER – 2: ADVANCED FINANCIAL MANAGEMENT
ANSWER TO PART – I CASE SCENARIO BASED MCQS
1. Option (d)
2. Option (b)
3 Option (b)
4. Option (b)
5. Option (c)
6. Option (b)
7. Option (c)
8. Option (c)
9. Option (b)
10. Option (a)
11. Option (d)
12. Option (a)
13. Option (b)
14. Option (c)
15. Option (c)

ANSWERS OF PART – II DESCRIPTIVE QUESTIONS

1. (a) (i) Method I
Stock’s return
Small cap growth = 4.5 + 0.80 x 6.85 + 1.39 x (-3.5) + 1.35 x 0.65 = 5.9925%
Small cap value = 4.5 + 0.90 x 6.85 + 0.75 x (-3.5) + 1.25 x 0.65 = 8.8525%
Large cap growth = 4.5 + 1.165 x 6.85 + 2.75 x (-3.5) + 8.65 x 0.65
= 8.478%

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 Large cap value = 4.5 + 0.85 x 6.85 + 2.05 x (-3.5) + 6.75 x 0.65 = 7.535%
Expected return on market index
0.25 x 5.9925 + 0.10 x 8.8525 + 0.50 x 8.478 + 0.15 x 7.535 = 7.7526%
Method II
Expected return on the market index
= 4.5% + [0.1x0.9 + 0.25x0.8 + 0.15x0.85 + 0.50x1.165] x 6.85 + [(0.75 x
0.10 + 1.39 x 0.25 + 2.05 x 0.15 + 2.75 x 0.5)] x (-3.5) + [{1.25 x 0.10 +
1.35 x 0.25 + 6.75 x 0.15 + 8.65 x 0.50)] x 0.65
= 4.5 + 6.85 + (-7.3675) + 3.77 = 7.7525%.
(ii) Using CAPM,
Small cap growth = 4.5 + 6.85 x 0.80 = 9.98%
Small cap value = 4.5 + 6.85 x 0.90 = 10.665%
Large cap growth = 4.5 + 6.85 x 1.165 = 12.48%
Large cap value = 4.5 + 6.85 x 0.85 = 10.3225%
Expected return on market index
= 0.25 x 9.98 + 0.10 x 10.665 + 0.50 x 12.45 + 0.15 x 10.3225 = 11.33%
(iii) Let us assume that Mr. NK will invest X1% in Small cap value stock and
X2% in Large cap growth stock
X1 + X2 = 1
0.90 X1 + 1.165 X2 = 1
0.90 X1 + 1.165(1 – X1) = 1
0.90 X1 + 1.165 – 1.165 X1 = 1
0.165 = 0.265 X1
0.165
= X1
0.265
0.623 = X1 and X2 = 0.377
62.30% in Small cap value stocks
37.70% in Large cap growth stocks. (6 marks)

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(b) (i) NAV of the Fund
` 1,97,000 + ` 2,41,30,000 + ` 26,44,000 + ` 6,74,90,000 + ` 7,77,000
=
800000
` 9,52,38,000
= = ` 119.0475 rounded to ` 119.05
800000
(b) The revised position of fund shall be as follows:
Shares No. of shares Price Amount (`)
A Ltd. 10000 19.70 1,97,000
B Ltd. 50000 482.60 2,41,30,000
C Ltd. 28000 264.40 74,03,200
D Ltd. 100000 674.90 674,90,000
E Ltd. 30000 25.90 7,77,000
Cash 2,40,800
10,02,38,000
5000000
No. of units of fund = 800000 + = 842000 (4 marks)
119.0475
(c) VAR is a measure of risk of investment. This investment can be a portfolio, capital
investment or foreign exchange etc., VAR answers two basic questions -
(i) What is worst case scenario?
(ii) What will be loss?
Following are main features of VAR
(i) Components of Calculations: VAR calculation is based on following three
components:
(a) Time Period
(b) Confidence Level – Generally 95% and 99%
(c) Loss in percentage or in amount
(ii) Statistical Method: It is a type of statistical tool based on Standard
Deviation.
(iii) Time Horizon: VAR can be applied for different time horizons say one day,
one week, one month and so on.
(iv) Probability: Assuming the values are normally attributed, probability of
maximum loss can be predicted. (4 marks)

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2. (a) Calculation of Variance and Standard Deviation
Project K
Expected Net Cash Flow
= (0.10 x 11) + (0.20 x13) + (0.40 x 15) + (0.20 x 17) + (0.10 x 19)
= 1.1 + 2.6 + 6 + 3.4 + 1.9 = 15
2 2 2 2 2
σ 2 = 0.10 (11 – 15 ) + 0.20 (13 – 15 ) + 0.40 (15 – 15 ) + 0.20 (17 – 15 ) + 0.10 (19 – 15 )

= 1.6 + 0.8 + 0 + 0.8 + 1.6 = 4.8

σ= 4.8 = 2.19

Project S
Expected Net Cash Flow
= (0.10 X 9) + (0.25 X 13) + (0.30 X 17) + (0.25 X 21) + (0.10 X 25)
= 0.9 + 3.25 + 5.1 + 5.25 + 2.5 = 17
2 2 2 2 2 2
σ = 0.1 ( 9 – 17 ) + 0.25 (13 – 17 ) + 0.30 (17 – 17 ) + 0.25 ( 21 – 17 ) + 0.10 ( 25 – 17 )

= 6.4 + 4 + 0 + 4 + 6.4 = 20.8

σ= 20.8 = 4.56

Calculation of Coefficient of Variation

Coefficient of Variation = Standard Deviation

Mean

2.19
Project K = = 0.146
15
4.56
Project S = = 0.268
17
Project S is riskier as it has higher Coefficient of Variation. (6 marks)
(b) (i) Let P be the buyback price decided by R Ltd.
Market Capitalisation after Buyback
1.1P (Original Shares – Shares Bought Back)

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  27% of 100 lakhs 
= 1.1P  10 lakhs - 
 P 
= 11 lakhs × P – 27 lakhs × 1.1 = 11 lakhs P – 29.7 lakhs
Again, 11 lakhs P – 29.7 lakhs
or 11 lakhs P = 210 lakhs + 29.7 lakhs
239.7
or P = = ` 21.79 per share
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(ii) Number of Shares to be Bought Back :-
` 27 lakhs
= 1.24 lakhs (Approx.) or 123910 share
` 21.79
(iii) New Equity Shares:-
10 lakhs – 1.24 lakhs = 8.76 lakhs or 1000000 – 123910 = 876090 shares
3 × 10 lakhs
∴EPS = = ` 3.43
8.76 lakhs
Thus, EPS of R Ltd., increases to ` 3.43. (4 marks)
(c) The techniques used for analyzing the industry wide factors are:
(a) Regression Analysis: Investor diagnoses the factors determining the
demand for output of the industry through product demand analysis.
Factors to be considered are GNP, disposable income, per capita
consumption / income, price elasticity of demand. For identifying factors
affecting demand, statistical techniques like regression analysis and
correlation are used.
(b) Input – Output Analysis: It reflects the flow of goods and services through
the economy, intermediate steps in production process as goods proceed
from raw material stage through final consumption. This is carried out to
detect changing patterns/trends indicating growth/decline of industries.
(4 marks)
3. (a) (i) Receipt under three proposals
(I) Proposal of Mr. Peter
€ 2.8 million
Invoicing in £ will produce = = £ 2.340 million
1.1965

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(II) Proposal of Mr. Wilson
Forward Rate = € 1.1970-0.0055 = 1.1915

Using Forward Market hedge Sterling receipt would be:

€ 2.8 million
= £ 2.35 million
1.1915

(III) Proposal of Ms. Karen

The equivalent sterling of the order placed based on future price

(€1.1943)
€ 2.8 million
= = £ 2,344,470 (rounded off)
1.1943
£2,344,470
Number of Contracts = = 37 Contracts (to the nearest
62,500
whole number)
Thus, € amount hedged by future contract will be = 37 × £ 62,500
= £ 23,12,500
Buy Future at € 1.1943
Sell Future at € 1.1873
€ 0.0070
Total loss on Future Contracts = 37 × £ 62,500 × € 0.0070 = € 16,188
After 6 months
Amount Received € 28,00,000
Less: Loss on Future Contracts € 16,188
€ 27,83,812
Sterling Receipts
€ 27,83,812
On sale of € at spot = = £ 2.3446 million
1.1873
Proposal of option (b) is preferable because the option (a) & (c) produces
least receipts.

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 (ii) Further, Mr. Wilson must be doubtful about Mr. Wilson’s proposal as firm
is entering in a competitive market and invoicing in seller’s currency may
not be acceptable to the buyers. (6 marks)
 F − P  12
(b) Nominal Interest or Bond Equivalent Yield =   × × 100
 P  M
Where
F= Face Value
P= Issue Price
1,00,000 - 97,550 12
= × ×100 = 0.025115 × 4 × 100 = 10.046 = 10.05% p.a.
97,550 3
0.1005 4
Effective interest rate = [1+ ] – 1 = 10.435% p.a.
4
Cost of Funds to the Company
Effective Interest 10.435%
Brokerage (0.150 × 4) 0.60%
Rating Charge 0.50%
Stamp duty (0.175 × 4) 0.70%
12.235%
Alternatively, effective interest rate can also be computed as follows:
Let i be the interest rate then
100000
97,750 =
3
1+ i x
12
i = 10.046
Cost of Funds to the Company
Effective Interest 10.046%
Brokerage (0.150 × 4) 0.60%
Rating Charge 0.50%
Stamp duty (0.175 × 4) 0.70%
11.846%
(4 marks)

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(c) Following are the steps involved in securitization mechanism:
1. Creation of Pool of Assets: The process of securitization begins with
creation of pool of assets by segregation of assets backed by similar type
of mortgages.
2. Transfer to SPV: Once assets have been pooled, they are transferred to
Special Purpose Vehicle (SPV) especially created for this purpose.
3. Sale of Securitized Papers: SPV designs the instruments based on nature
of interest, risk, tenure, pool of assets etc.
4. Administration of assets: The administration of assets in sub-contracted
back to originator which collects principal and interest from underlying
assets and transfer it to SPV, which works as a servicer/ conduit typically
for an agreed fee.
5. Recourse to Originator: Performance of securitized papers depends on
the performance of underlying assets and unless specified otherwise in
case of default by debtors, receivables go back to originator from SPV.
6. Repayment of funds: SPV will repay the funds to the investor in form of
interest and principal that arises from the assets pooled.
7. Credit Rating to Instruments: Sometime before the sale of securitized
instruments credit rating can be done to assess the risk of the issuer.
(4 marks)
OR
The factors affecting Value of an Option are mentioned below:
(a) Price Movement of the Underlying: The value of calls and puts are
affected by changes in the underlying stock price in a relatively
straightforward manner.
(b) Time till expiry: The option's future expiry, at which time it may become
worthless, is an important and key factor of every option strategy.
(c) Volatility in Stock Prices: SV is a statistical measure of the past price
movements of the stock; it tells you how volatile the stock has actually been
over a given period of time.
(d) Interest Rate- Another feature which affects the value of an Option is the
time value of money. The greater the interest rates, the present value of
the future exercise price are less. (4 marks)

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4. (a) (i) The difference in yield curve may due to the lower credit rating of ABC Ltd.
compared to XYZ Ltd.
(ii) DEF Bank will fix interest rate for 2V3 FRA after 2 years as follows:
XYZ Ltd.
(1+r) (1+0.0420)2 = (1+0.0448)3
(1+r) (1.0420)2 = (1.0448)3
r = 5.04%
Bank will quote 5.04% for a 2V3 FRA.
ABC Ltd.
(1+r) (1+0.0548)2 = (1+0.0578)3
(1+r) (1.0548)2 = (1.0578)3
r = 6.38%
Bank will quote 6.38% for a 2V3 FRA.
(iii) Interest payable by XYZ Ltd. under two scenarios will be computed as
follows:
4.50% - Option 5.50% -
is allowed to Option is
be lapsed Exercised
Interest ` 100 crores X 4.50% ` 4.50 crores -
` 100 crores X 5.04%* - ` 5.04 crores
Premium (Cost ` 100 crores X 0.10% ` 0.10 crores ` 0.10 crores
of Option)
4.60 crores 5.14 crores

* Since after 2 years 1 year interest rate turned out to be 5.50%, it will be
beneficial for XYZ Ltd. to exercise its option. (4 marks)
(b) (i) Equity Beta
To calculate Equity Beta first we shall calculate Weighted Average of Asset
Beta as follows:
= 1.45 x 0.74 + 1.20 x 0.26
= 1.073 + 0.312 = 1.385

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 Now we shall compute Equity Beta using the following formula:

βAsset = βEquity  E  + β  D (1 - t) 
Debt
  E + D(1 - t) 
 E + D(1 - t)   
Accordingly,
 410   170 
1.385 = βEquity   + βDebt  
 410 + 170   410 + 170 
 410   170 
1.385 = βEquity   + 0.24  580 
 580   
βEquity = 1.86
(ii) Equity Beta on change in Capital Structure
Amount of Debt to be raised:
Particulars Value
Total Value of Firm (Equity ` 410 cr + Debt ` 170 cr) `580 Cr
Desired Debt Equity Ratio 1.90 : 1.00
Total Value x Debt Ratio ` 380 Cr
Desired Debt Level =
Debt Ratio +Equity Ratio
Less: Value of Existing Debt (` 170 Cr)

Value of Debt to be Raised ` 210 Cr

Equity after Repurchase = Total value of Firm – Desired Debt Value

= ` 580 Cr – ` 380 Cr
= ` 200 Cr
Weighted Average Beta of KGFL:
Source of Investment Weight Beta Weighted Beta
Finance (` Cr)
Equity 200 0.345 β(E = X) 0.345x
Debt – 1 170 0.293 0.35 0.103
Debt – 2 210 0.362 0.40 0.145
580 Weighted Average Beta 0.248 + (0.345x)

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 βKGFL = 0.248 + 0.345x
1.385 = 0.248 + 0.345x
0.345x = 1.385 – 0.248
X = 1.137/0.345 = 3.296
βKGFL = 3.296 (6 marks)
(c) Three main types of fund structure exist which are as follows:
(i) Domestic Funds: Domestic Funds (i.e. one which raises funds
domestically) are usually structured as:
1) a domestic vehicle for the pooling of funds from the investor, and
2) a separate investment adviser that carries those duties of asset
manager.
The choice of entity for the pooling vehicle falls between a trust and a
company, with the trust form prevailing due to its operational flexibility.
(ii) Offshore Funds: Two common alternatives available to offshore investors
are: the “offshore structure” and the “unified structure”.
Offshore structure:
Under this structure, an investment vehicle makes investments directly into
Indian portfolio companies. The assets are managed by an offshore
manager, while the investment advisor in India carries out the due diligence
and identifies deals.
Unified Structure:
When domestic investors are expected to participate in the fund, a unified
structure is used. Overseas investors pool their assets in an offshore
vehicle that invests in a locally managed trust, whereas domestic investors
directly contribute to the trust. (4 marks)
5. (a) (i) (1) To compute the beta of 10th security first we shall compute overall
weighted beta as follows:
Let weighted β of the Portfolio is w, then,
994450
5= ×w
8767.07 × 25
w = 1.102 approximately

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 Let beta of 10th security is β then,
1.102 = 0.90 x 1.10 + 0.10 x β
β = 1.12
(2) The main reason for the profit in cash position might be due to
reason that contrary to her expectation fall in the value of cash
position there may be increase in value of cash position or decrease
in the stock price may be lesser than 2%.
(ii) (1) Future Price = Spot + Cost of Carry – Dividend
= ` 125 + (` 125 x 0.08) – ` 4 = ` 131
Price of one future contract = 1000 share x ` 131 = ` 1,31,000
(2) Price decrease by 6%
Market Price = ` 125 x 94% = ` 117.50
Then, price of one future contract
= ` 117.50 + (` 117.50 x 0.08) – ` 4 = ` 122.90
= ` 122.90 x 1000 = ` 1,22,900
(3) If the investor has taken a long position, decrease in price will result
in loss for the investor.
Amount of loss will be:
` 1,31,000 - ` 1,22,900 = ` 8,100 (8 Marks)
(b) (i) By entering into an FRA, firm shall effectively lock in interest rate for a
specified future in the given it is 6 months. Since, the period of 6 months is
starting in 3 months, the firm shall opt for 3 × 9 FRA locking borrowing rate
at 5.94%. In the given scenarios, the net outcome shall be as follows:
If the rate turns out If the rate turns out
to be 4.50% to be 6.50%
FRA Rate 5.94% 5.94%
Actual Interest Rate 4.50% 6.50%
Loss/ (Gain) 1.44% (0.56%)
FRA Payment / (Receipts) €50 m × 1.44% × ½ €50m × 0.56% × ½
= €360,000 = (€140,000)

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 Interest after 6 months on = €50m × 4.5% × ½ = € 50m × 6.5% × ½
€50 Million at actual rates = €1,125,000 = €1,625,000
Net Out Flow € 1,485,000 €1,485,000

Thus, by entering into FRA, the firm has committed itself to a rate of 5.94%
€ 1,485,000 12
as follows: ×100 × = 5.94%
€ 50,000,000 6
(ii) Since firm is a borrower it will like to off-set interest cost by profit on Future
Contract. Accordingly, if interest rate rises it will gain hence it should sell
interest rate futures.
Amount of Borrowing Duration of Loan
No. of Contracts = ×
Contract Size 3 months
€ 50,000,000 6
= × = 2000 Contracts
€ 50,000 3

The final outcome in the given two scenarios shall be as follows:

If the interest rate If the interest rate
turns out to be 4.5% turns out to be 6.5%
Futures Course
Action:
Sell to open 94.15 94.15
Buy to close 95.50 (100 - 4.5) 93.50 (100 - 6.5)
Loss/ (Gain) 1.35% (0.65%)
Cash Payment €50,000×2000× €50,000×2000×0.65%
(Receipt) for Future 1.35%×3/12 ×3/12
Settlement = €337,500 = (€162,500)
Interest for 6 months €50 million × 4.5% × ½ €50 million × 6.5% × ½
on €50 million at = €11,25,000 = €16,25,000
actual rates
€1,462,500 €1,462,500
€ 1,462,500 12
Thus, the firm locked itself in interest rate × 100 × = 5.85%
€ 50,000,000 6

(6 Marks)

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6. (a) Financial Analysis whether to set up the manufacturing units in India or not may
be carried using NPV technique as follows:
I. Incremental Cash Outflows
$ Million
Cost of Plant and Machinery 500.00
Working Capital 50.00
Release of existing Working Capital (15.00)
535.00

II. Incremental Cash Inflow after Tax (CFAT)

(a) Generated by investment in India for 5 years
$ Million
Sales Revenue (5 Million x $80) 400.00
Less: Costs
Variable Cost (5 Million x $20) 100.00
Fixed Cost 30.00
Depreciation ($500Million/5) 100.00
EBIT 170.00
Taxes@35% 59.50
EAT 110.50
Add: Depreciation 100.00
CFAT (1-5 years) 210.50

(b) Cash flow at the end of the 5 years (Release of Working Capital)
35.00
(c) Cash generation by exports (Opportunity Cost)

$ Million
Sales Revenue (1.5 Million x $80) 120.00
Less: Variable Cost (1.5 Million x $40) 60.00
Contribution before tax 60.00
Tax@35% 21.00
CFAT (1-5 years) 39.00

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 (d) Additional CFAT attributable to Foreign Investment
$ Million
Through setting up subsidiary in India 210.50
Through Exports in India 39.00
CFAT (1-5 years) 171.50

III. Determination of NPV

Year CFAT ($ Million) PVF@12% PV ($ Million)

1-5 171.50 3.6048 618.2232
5 35 0.5674 19.8590
638.0822
Less: Initial Outflow 535.0000
103.0822

Since NPV is positive the proposal should be accepted. (8 Marks)

(b) Working Notes:
(i) The Earnings of S Ltd.

` lakh
Earnings of C Ltd. 10000
Earnings of D Ltd. 5800
15800
Growth 0.08
Earnings of S Ltd. (15800 X 1.08) 17064

(ii) Market Value of S Ltd.

` lakh
Earnings of S Ltd. 17064
P/E Ratio (10+9)/2 9
Market Value of S Ltd. 153576

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(iii) No. of shares in S Ltd.
No. of shares of C Ltd. 4000
No. of shares issued to P Ltd. 3000
No. of shares of C Ltd. 7000

Gain to Shareholders of P Ltd.

Share of Shareholders of P Ltd. in S Ltd. ` 65818.29 lakh

(3000/7000) x 153576
Market Value of P Ltd. before merger ` 58000.00 lakh
(5800 X 10)
Gains to Shareholders ` 7818.29 lakh
No. of Shares (before merger) 1000 lakh
Gain Per Share ` 7.82
(6 Marks)

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