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Pinnacle Academy
Mock Tests for
May 2015 C A Final Examination
201-202, Florence Classic, Besides Unnati Vidhyalay,
10, Ashapuri Society, Jain Derasar Rd., Akota, Vadodara-20. ph: 98258 561 55
Strategic Financial Management Mock Test 1
Conducted on 24th February 2015
[Solution is at the end with marking for self-assessment]
Time Allowed-2 hours
Maximum Marks- 60
Q 1 is compulsory.
Answer any 2 from the remaining.
Q1
(a)
i.
ii.
ABC computers is an all equity firm with 1,00,000 equity shares outstanding. Its
earnings to equity shareholders is Rs.100 lakhs. Its current market capitalisation is
Rs.15 crores. The firm borrows Rs.6 crores at an interest rate of 8% to buy back
40,000 equity shares. The tax rate of the company is 40%.
What is the post buy back EPS?
At what interest rate on debt, effect of change in EPS shall be removed?
(6 Marks)
(b)
Following table has been extracted from a leading commercial newspaper:
Month /
Call Option
Put Option
Strike Price 400 450 500 400 450 500
September
25
5
2
10
35
85
October
30
10
6
15
40
95
November
35
15
8
20
45 100
The current market price of the stock for which above premiums are quoted currently
is Rs.420. Following probabilistic scenario is expected for future movement of stock
price:
Expected Share price after one month 350 475 525 550
For each of the probable stock price you are required to calculate pay-offs for:
(i) September Bull Call Spread involving strike price of Rs.450 and Rs.500
(ii) October Bear Put Spread involving strike price of Rs.400 and Rs.450
(8 Marks)
(c)
Suppose a dealer quotes ‘All-in-cost’ for a generic swap at 8% against six month
LIBOR flat. If the notional principal amount of swap is Rs.5,00,000 –
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i. Calculate semi-annual fixed payment.
ii. Find the first floating rate payment for (i) above if the six month period from the
effective date of swap to the settlement date comprises 181 days and that the
corresponding LIBOR was 6% on the effective date of swap.
iii. In (ii) above, if the settlement is on ‘Net’ basis, how much the fixed rate payer would
pay to the floating rate payer?
Generic swap is based on 30 / 360 days basis.
(d)
(6 Marks)
A company has decided to take a 3-year floating rate loan of $250 million to finance
a project. The loan is indexed to 6-month LIBOR with a spread of 100 bp. The
LIBOR for first reset period is 5.75%. A 3-year interest rate cap with a face value of
$250 million and a strike price of 7% is available for a premium of 3.75%. Calculate
effective cost of the capped loan for the following LIBOR on the next 5 rollover dates:
5.5%, 6%, 6.25%, 6.5% and 6.75%. Fixed interest rate is 7%. For the purpose of
your calculations, premium cost should be amortized over a period of 2.5 year using
fixed interest rate as discount rate. Show the effective cost of the capped loan.
(8 Marks)
Q2
(a)
An import house in India has bought goods from Switzerland for CHF 10,00,000. The
exporter has given the Indian company two options:
(i) Pay immediately without any interest charge
(ii) Pay after 3 months with interest of 5 % p.a.
The importer’s bank charges 14 % p.a. on overdrafts. Exchange rates are expected
as under:
Spot (CHF / INR)
3-months forward:
30.00 / 30.50
31.10 / 31.60
What should the company do?
(b)
i.
ii.
(8 Marks)
A Ltd. has currently 10 lakh shares outstanding. It has surplus cash of Rs.315 lakhs
of which it wants to distribute 50% to its shareholders. The company has decided to
buy back its own shares using the surplus cash at a buy back price of Rs.105. This
buy back price is 5% higher than theoretical buy back price. The current EPS of the
company is Rs.12 per share. After the buy back the PE multiple shall rise to 8.5
times. You are required to determine:
Pre-buyback MPS, Market Capitalisation and PE Multiple
Post-buyback MPS, Market Capitalisation and EPS
(8 Marks)
Q3
(a)
Following financial data are available for PQR Ltd. for the year 2013:
Amount
(Rs. in lakhs)
8 % Debentures
10 % Bonds (2012)
Equity Share (Rs.10 each)
Reserves and Surplus
125
50
100
300
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Total Assets
Assets turnover ratio
Effective interest rate
Effective tax rate
Operating Margin
Dividend Payout ratio
Current MPS
Required rate of return of investors
600
1.1
8%
40%
10%
16.67%
14
15%
You are required to –
i.
ii.
iii.
iv.
Draw income statement for the year
Calculate its sustainable growth rate
Calculate fair price for the share using dividend discount model
Decide whether the company’s share be purchased
(8 Marks)
(b)
A Inc. and B Inc. intend to borrow $ 2,00,000 and $ 2,00,000 in ¥ respectively for a
time horizon of one year. Prevalent interest rates are:
Company
¥ Loan
$ Loan
A Inc.
5%
9%
B Inc.
8%
10 %
Prevalent exchange rate is $ 1 = ¥ 120.
The two companies enter in a currency swap under which it is agreed that B Inc.
shall pay to A Inc. 1 % over the ¥ Loan interest rate, which the later will have to pay
as a result of currency swap whereas A Inc. will reimburse interest to B Inc. only to
the extent of 9%. Assuming stability of exchange rate, determine the net gain or loss
to each of the party due to currency swap.
(8 Marks)
Q4
It is 31st December. Cleff plc needs to borrow £6 million in three months’ time for a
period of 6 months. It is expected that interest rate shall either move up to 14.5% or
may fall to 12% per year. Cleff is concerned about rising interest rates.
•
•
•
•
FRA 3 X 9 is quoted by bank at 12.25% / 12.55 %.
Futures are quoted at 13% and standard size is £50,000 with tenure of 3
months.
Cap is quoted at 12.75% at flat premium of 1%.
Floor is quoted at 12.15% at flat premium of 1%.
You are required to carry out analysis of following methods of hedging interest rate
risk:
i.
ii.
iii.
iv.
Forward Rate Agreement (FRA)
Interest Rate Futures
Interest Rate Guarantee (Cap)
Interest Rate Collar
(16 Marks)
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Solution of
SFM Mock Test 1
Conducted on 24th February 2015
Q1
(a)
Pre buy back EPS = 100 / 1 lakh shares = Rs.100
(i) Post buy back EPS = [(100 / 0.6) – (600 X 8%)] – 40% / 0.6 lakh shares =
Rs.118.67
(3 Marks)
(ii) Post buy back EPS = [(100 / 0.6) – (600 X r%)] – 40% / 0.6 lakh shares = 100
i.e. 100 X 0.6 = [166.67 – Interest] – 40%
i.e. 60 = 100 – 0.6 Interest i.e. Interest = 40 / 0.6 = Rs.66.67 lakhs
Thus, interest rate = 66.67 / 600 = 11.11 %
(3 Marks)
(b)
(i) September Bull Call Spread: This shall involve buying 450 September Call
paying premium of Rs.5 and selling 500 September Call receiving premium of Rs.2.
Thus, net premium paid is Rs.3
Expected Share price after one month
Strike of long call
Strike of short call
Gross Pay-off:
Long Call
Short Call
Net Premium paid
Net Pay-off
350
450
500
475
450
500
525
450
500
550
450
500
0
0
(3)
(3)
25
0
(3)
22
75
(25)
(3)
47
100
(50)
(3)
47
(4 Marks)
(ii) October Bear Put Spread: This shall involve buying 450 October Put paying
premium of Rs.40 and selling 400 October Put receiving premium of Rs.15. Thus,
net premium paid is Rs.25
Expected Share price after one month
Strike of long put
Strike of short put
Gross Pay-off:
Long Put
Short Put
Net Premium paid
Net Pay-off
350
450
400
475
450
400
525
450
400
550
450
400
100
(50)
(25)
25
0
0
(25)
(25)
0
0
(25)
(25)
0
0
(25)
(25)
(4 Marks)
(c)
(i) Semi-annual fixed payment = 5,00,000 X 8% X 180 / 360 = Rs.20,000
(ii) Semi-annual floating payment = 5,00,000 X 6% X 181 / 360 = Rs.15,083
(iii) Net amount payable by fixed to floating payer = 20,000 – 15,083 = Rs.4,917
(2½ + 2½ + 1 Marks)
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(d)
The given loan is indexed to 6-month LIBOR. Thus, reset period is 6 months. Loan is
for 3 years; so this will comprise 6 reset dates.
Upfront premium paid = 250 X 3.75% = $ 9.375 million
7 % is to be used for discounting above premium for the purpose of amortization.
Reset period is 6 months i.e. discount rate for six months shall be 3.5%. Loan is for 3
years but amortization is to be carried out over 2.5 years i.e. for 5 time periods of six
months.
Upfront premium
9.375
Amortization charge of premium = -------------------------- = -------- = $ 2.0764 million
PVF (3.5%, 5)
4.515
(2 Marks)
Analysis of Cap:
Reset LIBOR
Period
1
2
3
4
5
6
5.75%
5.5%
6%
6.25%
6.5%
6.75%
Actual
Cap
Difference
Borrowing
Strike Recovered
Rate
Rate From Bank
(LIBOR + 1%)
6.75%
7%
--6.5%
7%
--7%
7%
--7.25%
0.25%
7%
7.5%
0.5%
7%
7.75%
0.75%
7%
(2 Marks)
Determination of Effective Cost of Capped Loan:
Reset
Period
1
2
3
4
5
6
Actual
Actual
Borrowing
Interest
Rate
Paid for
(LIBOR + 1%) 6 months
6.75%
6.5%
7%
7.25%
7.5%
7.75%
Receipt
From
Cap
8.4375*
----8.1250
----8.7500
----9.0625 0.3125**
9.3750
0.6250
9.6875
0.9375
Effective Premium Effective
Interest Amortized
Cost
Paid
Of Cap
8.4375
8.1250
8.7500
8.7500
8.7500
8.7500
2.0764
2.0764
2.0764
2.0764
2.0764
---------
10.5139
10.2014
10.8264
10.8264
10.8264
8.7500
* 250 X 6.75% X 6 / 12 and so on
** 250 X 0.25 % X 6 / 12 and so on
(4 Marks)
Solution prepared by
CA. Ashish Lalaji
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Q2
(a)
(i) Pay immediately:
Amount paid spot for settlement of dues [10,00,000 X 30.50]
3,05,00,000
Add: Overdraft interest [3,05,00,000 X 14% X 3/12]
Total amount paid
10,67,500
3,15,67,500
(4 marks)
(ii) Pay after 3 months:
Interest shall be charged by exporter of SF 12,500 [10,00,000 X 5% X 3/12].
Thus, amount paid of SF 10,12,500 at 3 m fwd of Rs.31.60 / SF i.e.
Rs.3,19,95,000.
Recommendation: Pay immediately.
(4 marks)
(b)
(i)
Actual buy back price = 1.05 (Theoretical Buy Back Price)
i.e. Theoretical buy back price = 105 / 1.05 = Rs.100
Now, cash to be distributed to buy back shares = 315 X 50% i.e. Rs.157.5 lakhs.
Thus, no. of shares repurchased = 157.5 / 105 = 1.5 lakh shares.
Now, Theoretical buy back price = MN / N – n
i.e. 100 = M(10) / 10 – 1.5
i.e. M = Rs.85.
Thus, pre-buy-back MPS is Rs.85
Pre-buy back Market Capitalisation = 85 X 10 lakh shares = Rs.850 lakhs
Pre-buy back PE multiple = 85 / 12 = 7.08 times
(6 Marks)
(ii)
Post-buy back EPS = 12 X 10 / 8.5 lakh shares = Rs.14.12
Post-buy back MPS = 14.12 X PE ratio 8.5 = Rs.120.02
Post-buy back Market Capitalisation = 120.02 X 8.5 lakh shares = Rs.1,020 lakhs
(2 Marks)
Q3
(a)
Assets turnover ratio = Sales / Total Assets
1.1 = Sales / 600
Sales = Rs.660 lakhs
Operating margin is 10%, which means operating costs are 90% of sales i.e. Rs.594
lakhs.
Total Borrowings = Debentures + Bonds = 125 + 50 = Rs.175 lakhs
Effective interest rate is 8% i.e. interest cost = 175 X 8% = Rs.14 lakhs
(2 Marks)
Solution prepared by
CA. Ashish Lalaji
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(i) Income Statement for the year 2013:
Amount
(Rs. in lakhs)
Sales
Less: Operating Cost
EBIT
Less: Interest
EBT
Less: Tax @ 40%
PAT
Less: Dividend @ 16.67%
Retained Earnings
660.0
594.0
66.0
14.0
52.0
20.8
31.2
5.2
26.0
(2 Marks)
(ii) Sustainable growth rate refers to stable dividend growth rate, g
g = b.r = 83.33 X 7.8% = 6.5 %
where b = retention ratio = 1 – D/P ratio = 1 - .1667 = 0.8333 i.e. 83.33%
r = Return on equity = 31.2 / 100 + 300 i.e. 7.8%
(2 Marks)
(iii)
Current DPS = 5.2 / 10 = Re.0.52
P0 = D1 / ke – g = 0.52 (.065) / 15 % - 6.5 % = Rs.6.52
(1 Mark)
(iv)
True worth of the share is Rs.6.52 but is trading in the market at Rs.14.
The share is overpriced and hence not worth buying.
(1 Mark)
(b)
Facts given in the case are presented as under:
Party
Desired
Currency
Actual
Cost in
Currency Desired
Borrowed Currency
Cost of
Actual
Currency
Borrowed
A
USD
YEN
9%
5%
B
YEN
USD
8%
10 %
Determination of effective cost after swap:
A pays on YEN at 5%. As per the terms of the swap, B shall pay to A 1% higher than
it i.e. A shall receive 6% from B. However, A shall pay 9% to B. Hence, effective cost
after swap is –
A: 5 + 9 – 6 = 8%. This cost is on USD.
B: 10 + 6 – 9 = 7%. This cost is on YEN.
(2 Marks)
Solution prepared by
CA. Ashish Lalaji
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Determination of Net Gain due to Swap:
A Inc.
Amount
($)
Interest cost without swap
($2,00,000 X 9%)
Interest cost after swap
($2,00,000 X 8%)
Savings due to swap
18,000
16,000
2,000
B Inc.
Interest cost without swap
($2,00,000 X 120 X 8%)
Interest cost after swap
($2,00,000 X 120 X 7%)
Savings due to swap
Amount
(¥)
19,20,000
16,80,000
2,40,000
(6 Marks)
Q4
(i)
Analysis of FRA:
FRA shall be contracted at 12.55%. If interest rate is 14.5% then difference of 1.95%
shall be received from bank and if interest rate is 12% then difference of .55% shall
be paid to bank. Effective interest paid is –
£ in millions
(a) Interest rate after 3 months
(b) Actual interest on £6 million for 6 months
(c) FRA:
Receipt (6 X 1.95% X 6 / 12)
Payment (6 X .55% X 6 / 12)
(d) Effective interest paid
14.5%
0.4350
12%
0.3600
0.0585
--------0.3765
--------0.0165
0.3765
(3 Marks)
(ii)
Analysis of Interest Rate Futures:
Futures are currently quoted at 13 % i.e. at £87 (100 – 13%)
No. of
contracts
Principal
Tenure of Loan / Deposit
= ---------------------- X ---------------------------------Contract Size
Tenure of Futures
= [60,00,000 / 50,000] X [6 / 3] = 240
Deal size = 240 X 50,000 = 1,20,00,000 i.e. £12 million
As borrower is worried about rising interest rates, Cleff plc shall short futures.
(2 Marks)
Solution prepared by
CA. Ashish Lalaji
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Net pay-off from futures is determined as under:
(a) Spot rate after 3 months (for buying)
(b) Contracted futures price for selling
(c) Gain / (Loss)
(d) Deal size (£ in million)
(e) Total Gain / (Loss) (c X d X 3/12) (£ in million)
85.50
(100 - 14.5%)
87.00
1.5 %
12
0.045
88.00
(100 - 12%)
87.00
-1%
12
(0.03)
(2 Marks)
Effective interest paid is –
£ in millions
(a) Interest rate after 3 months
(b) Actual interest on £6 million for 6 months
(c) Interest rate futures
Receipt
Payment
(d) Effective interest paid
14.5%
0.435
12%
0.360
0.045
--------0.390
--------0.030
0.390
(2 Marks)
(iii)
Analysis of Cap:
Cap is available at 12.75 %.
Premium paid = 6 X 1% = £ 0.06 million
If interest rate is 14.5 % then cap shall be exercised to receive 1.75 % from bank.
If interest rate is 12% then cap shall be allowed to expire.
Effective interest paid is –
£ in millions
(a) Interest rate after 3 months
(b) Actual interest on £6 million for 6 months
(c) Cap receipt (6 X 1.75% X 6 / 12)
(d) Effective interest paid
(e) Premium paid
(f) Effective cost of capped loan
14.5%
0.4350
0.0525
0.3825
0.0600
0.4425
12%
0.3600
--------0.3600
0.0600
0.4200
(3 Marks)
(iv)
Analysis of Collar:
Cap shall be purchased at 12.75% and floor shall be sold at 12.15%. Premium for
both is 1%. Thus, net premium paid shall be nil.
If interest rate is 14.5 % then cap shall be exercised to receive 1.75 % from bank.
If interest rate is 12% then cap shall be allowed to expire.
If interest rate is 14.5 % then floor shall be allowed to expire by the buyer.
If interest rate is 12% then floor shall be exercised by the buyer and hence 0.15%
shall be payable to the bank.
(2 Marks)
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Effective interest paid is –
£ in millions
(a) Interest rate after 3 months
(b) Actual interest on £6 million for 6 months
(c) Cap receipt (6 X 1.75% X 6 / 12)
(d) Floor payment (6 X 0.15% X 6 / 12)
(e) Effective interest paid
14.5%
0.4350
0.0525
--------0.3825
12%
0.3600
--------0.0045
0.3645
(2 Marks)
Solution prepared by
CA. Ashish Lalaji
Be free to send your suggestions / comments to
CA. Ashish Lalaji at 9825856155 /
[email protected]
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