Enrolment No:

___________________

K. P. PATEL SCHOOL OF MANAGEMENT & COMPUTER STUDIES

STRATEGIC FINANCIAL MANAGEMENT (2830201)
DATE: 28 /11 /2013

TIME: 10:00 AM to 1:00 PM

TOTAL MARKS: 70
INSTRUCTIONS:
1. Attempt all questions
2. Make suitable assumptions wherever required
3. Figures to the right indicate full marks

Q.
1

(a) Explain the following:

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i) Capital Budget under Inflation.
ii) Reasons of Project Failure
(b) The management of ABC company is considering the question of 07
marketing a new product. The fixed cost required for the project is Rs
3500. Three factors are uncertain like selling price, variable cost and
annual sales volume. The product has a life of only one year. The
management has the data on these three factors as under:
Selling Price Probability Variable cost Probability Sales Volume Probability
(Rs.)
(Rs.)
(Units)
3
0.2
1
0.3
2000
0.3
4
0.5
2
0.6
3000
0.3
5
0.3
3
0.1
5000
0.4
Consider the following sequence of thirty random numbers:
81,32,60,04,46,31,67,25,24,10,40,02,39,68,08,59,66,90,12,64,79,31,86,6
8,82,89,25,11,98,16
Using the sequence (First 3 Random numbers for first trial etc.)
Stimulate the average Profit for the above project on the basis of 10
trials.

Q.
2

(a) The Balance sheet

Liabilities
Share Capital
Reserves
Long term Debt

of Arin Limited as on 31st March, 2010 is as follows:

Rs. Lakhs
Assets
Rs. Lakhs
1600
Fixed Assets
3600
1200
Inventories
2000
2800
Receivables
1600

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Short Term Debt

Payables
Provisions
Total

1600
400
400
8000

Cash and Bank

Total

800
8000

The current year sales were 4800 lakh. For the next year ending 31 st
March, 2011 sales and assets are expected to increase by 20%. The net
profit Margin after taxes and dividend payout are expected to be 10% and
50% Respectively.
You are required to determine for the year 2010-11:
(i)
(ii)

The External Fund Requirement

The Mode of raising funds given the following parameters:
Current Ratio Should be 1.5
Ratio of Fixed Assets to long term loans would be 1.5
Long term debt to equity ratio should not exceed 0.9
The fund are to be raised in the order of (i) short term bank
borrowing,(ii)long term loans(iii)equities

(b) Explain the stages in Setting up of a project.

(b)

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OR
Calculate (a)Performance Variance (b) Efficiency Variance (c) Expenditure Variance 07
from following data:
Budgeted Cost Of Work Scheduled: 110 lakhs
Budgeted Cost of Work Done: 100 lakhs
Actual Cost Incurred:118 lakhs
Explain the role of Strategic Financial Management & its functions in business

Q.
3

.
(a) Define sick Industrial Company? What are the factors causing Industrial Sickness?
(b). Skylark Airways is planning to acquire a light commercial aircraft for
flying class clients at an investment of Rs 50,00,000. The expected cash
flow after tax for the next three years is as follows:

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07

(Amount in Rs lakh)

CFAT
14
18
25
40

Year 1
PROBABILITY
0.1
0.2
0.4
0.3

CFAT
15
20
32
45

Year 2
PROBABILITY
0.1
0.3
0.4
0.2

CFAT
18
25
35
48

Year 3
PROBABILITY
0.2
0.5
0.2
0.1

The Company wishes to take into consideration all possible risk factors
relating to an airline operations. The Company wants to know:
(i) The expected NPV of this venture assuming independent probability
distribution with 6 per cent risk free rate of interest.
(ii) The possible deviation in expected value
(iii) How would standard deviation of the present value distribution help
in capital budgeting decisions.

Q.
3

OR
(a) What do you mean by the term Financial Reconstruction? Distinguish Internal and 07
External Reconstruction
(b) The capital structure of the Progressive Corporation Ltd consists of an ordinary share capital 07
of Rs10,00,000 (shares of Rs 100 par value) and Rs 10,00,000 of 10% debentures. The unit
sales increased by 20 per cent from 1,00,000 units to 1,20,000 units, the selling price is Rs
10 per unit, variable costs amount to Rs 6 per unit and fixed expenses amount to Rs
2,00,000. The income tax rate is assumed to be 35 per cent.
(a) You are required to calculate the following:
(i) The percentage increase in earnings per share.
(ii) The degree of financial leverage at 1,00,000 units and 1,20,000 units.
(iii) The degree of operating leverage at 1,00,000 units and 1,20,000 units.
Comment on the behaviour of operating and financial leverage in relation to increase of
production from 1,00,000 to 1,20,000 units

Q.
4

(a) The Modern Chemicals Ltd requires Rs 25,00,000 for a new plant. This plant is expected to 07
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 projectby 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 companys 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 per cent
upto Rs 2,50,000, at 15 per cent over Rs 2,50,000 and upto Rs 10,00,000 and at 20 per cent
over Rs 10,00,000. The tax rate applicable to the company is 50 per cent. Which form of
financing should the company choose?
(b) What is Business Valuation? Explain the methods used for Valuation of Business.
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OR
Q.
4

(a)

The shares of a IT company are selling at Rs 80 per share. The firm had paid dividend 07
@Rs 4.50 per share last year. The estimated growth of the company is approximately
5% per year.
(i)
Determine the cost of Capital of the Company.
(ii)
Determine the estimated market price if g=8% and g=3
Calculate the value of the share of a company, if its Beta is 1.5, tha previous dividend
was Rs 2 per share and the growth is expected to be 8%. The risk-free return is 10%
and the market portfolio earns a return of 15%.

(b) The Sun bright company has a choice of raising an additional sum of Rs 50 lakh either
by the sale of 10 percent debentures or by issue of additional equity shares of Rs. 50
per share. The current capital structure of the company consists of 10 lakh ordinary
shares.
i) At what level of earnings before interest and tax (EBIT) after the new capital is
required, would earnings per share (EPS) be the same whether new funds are raised by
issuing ordinary shares or by issuing debentures?
ii) Also determine the level of EBIT at which uncommitted earnings per share (UEPS)
would be the same if sinking fund obligations amount to Rs. 5 lakhs per year. Assume
a 35 percent tax rate

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Q.
5

(a) Explain the significance of operating and financial leverage analysis for a finance
manager in corporate profit and financial structure planning.

07

(b) A company is examining two proposals. The management of the company 07

use certainly- equivalents to evaluate new proposals. From the following
information pertaining to these projects advise the company which
project should be taken up?
Year
0
1
2
3
4

Proposal A
CFAT(Rs)
25000
15000
15000
15000
15000

Proposal B
CFAT(Rs)
25000
9000
18000
12000
16000

CE
1.0
0.8
0.7
0.6
0.5

CE
1.0
0.9
0.8
0.7
0.4

The firms cost of Capital is 12 per cent and risk free borrowing rate is 6
per cent
OR
Q.
5

(a) During union negotiations this year, the Pellon Company Ltd
management realised that it must offer its employees greater retirement
benefi ts. The company is considering offering either one of the following:
Plan A: an increase in the amount of the companys share of the annual
contribution to the funded pension plan now in existence.
Plan B: elimination of the existing pension plan and its replacement by a
new plan calling for variable payback where the amount of the companys
payment would depend upon the level of profi ts for the year.
The actual cost of the pension plan to Pellon would depend upon many
factors, such as age of employees,number of years they have been with
the company, and employees current earnings. However, the prime
causes of uncertainty for the new retirement offers are that since
employees are given options as to the extent to which they wish to
participate in the pension plan, their individual decisions would determine
the amount of employers contribution under Plan A. This uncertainty

14

would, however, be resolved in the fi rst year of the new plan. For Plan B,
the level of future profi ts would be the main consideration. However, the
success or failure of a new product line to be introduced in the last part of
the coming year would greatly reduce the uncertainty.
The Management of Pellon Company Ltd wished to make a two-year cost
comparison for the two plans, and has, therefore, made the following cost
and probability estimates:
Plan
A
B

Probability
0.1
0.3
0.6
0.2
0.5
0.3

First year Cost

600000
750000
900000
500000
750000
1000000

In the second year for Plan A, uncertainty is negligible, since all

employees would have selected their participation in the programme. The
Management estimates the second-year cost of Plan A to be Rs 6,00,000
greater than its fi rst-year cost. For Plan B, uncertainty about second-year
profi ts would still exist, so estimates of costs are also still uncertain.
Given First Year Cost
Probability
Second Year Cost
500000
0.6
500000
500000
0.4
750000
750000
0.5.
850000
750000
0.5
1050000
1000000
0.4
1100000
1000000
0.6
1300000
(a) Construct a decision tree for management to use in evaluating the
two plans. Assuming that all costs are
incurred at the end of the year for they apply and that 10 per cent
discount (risk-free) rate is appropriate,
compute the PV of costs for each plan at each branch terminal of tree.
Also, fi nd the expected PV of costs
for each project as a weighted average of these terminal PVs.
(b) Which project is more risky?

(c) Which plan should the firm offer to the union?