Question Paper

Investment Banking and Financial Services – I (261) : July 2003

Part A : Basic Concepts (30 Points)
• This part consists of questions with serial number 1 - 30.
• Answer all questions.
• Each question carries one point.
• Maximum time for answering Part A is 30 Minutes.

1. Currently the settlement in the Indian stock exchanges is done on a

a. T + 1 system
b. T + 2 system
c. T + 3 system
d. T + 5 system
e. 7-day settlement cycle.
2. Which of the following measures were taken by the Central Government to enhance the level
of efficiency of the Indian Credit Market?
a. Deregulating the interest rate environment
b. Withdrawing the Government funds as a source of funds to Financial Institutions
c. Permitting offshore banking
d. Both (a) and (b) above
e. All (a), (b) and (c) above.
3. The Capital Indexed Bond (CIB) issued by the RBI was an instrument designed to eliminate /
minimize the
a. Interest rate risk
b. Inflation risk
c. Currency risk
d. Both (b) and (c) above
e. All (a), (b) and (c) above.
4. Which of the following risks is/are not covered by Export Credit and Guarantee
Corporation?
a. Failure of the buyer to make the payment with a specified period from the due date
b. War, civil war etc. in the buyer’s country
c. Fluctuations in exchange rate
d. Imposition of restrictions by the government of the buyer’s country
e. All the above are covered by ECGC.
5. Which of the following intermediaries in the Indian Capital Market need not be registered by
SEBI?
a. Share Transfer Agents
b. Custodians of Securities
c. Collective Investment Schemes like Plantation Schemes
d. Advertising Agents
e. All the above-mentioned intermediaries in the Indian Capital Market need to be
registered by SEBI.
6. Which of the following is not a part of “Defensive Audit” carried out by the merchant
bankers to assess the vulnerability to takeovers?
a. Analysis whether the market price reflects the intrinsic value of the share and if not, the
reason for under-valuation
b. Analysis whether the valuation of the company can be enhanced by restructuring
c. Review of the company’s shareholders’ profile
d. Review of the company’s Memorandum and Articles of Association
e. None of the above.
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7. Kilburn Chemicals has recently made a debenture issue of Rs.50 lakhs which was totally
underwritten by Cindrella Consultants. If the amount devolved on Cinderella Consultants is
Rs.20 lakhs, the maximum underwriting commission Kilburn can pay to Cinderella is
a. Rs. 20,000
b. Rs. 30,000
c. Rs. 40,000
d. Rs. 70,000
e. Rs.1,00,000.
8. Sanwaria Agro Products is coming up with an equity issue worth Rs.250 crore. Sanwaria has
applied for registration in BSE, NSE and CSE. The registration fee payable to SEBI for this
equity issue is
a. Rs. 15,000
b. Rs. 25,000
c. Rs. 50,000
d. Rs.2,50,000
e. Rs.5,00,000.
9. Which of the following statements is false regarding different types of leases?
a. In a leveraged lease transaction, the loan participant obtains an assignment of the lease
and the rentals to be paid by the lessee, and a first mortgage on the leased asset
b. A leveraged lease transaction entitles the lessor to claim tax shields on depreciation
c. In a sales-aid lease the equipment supplier catalyzes the lease transaction
d. In a single investor lease, the debt funds raised by the leasing company are with
recourse to the lessee
e. An upgrade lease is an operating lease which has in-built facilities like up-gradation of
the equipment.
10. The following data pertains to a lease transaction as offered by Mukta Financial Services to
one of its clients:

Value of asset leased Rs.60 lakhs

Lease rentals Rs.32 ptpm
Lease period 4 years
Payment pattern Payable monthly in advance

The add-on yield on the above transaction is

a. 13.00 %
b. 13.40 %
c. 13.67 %
d. 14.00 %
e. 14.33 %.
11. On interest earned in hire purchase transactions, the service tax payable by the hire purchase
companies is
a. 2.00 %
b. 3.50 %
c. 5.00 %
d. 7.50 %
e. 8.00 %.

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12. LiveWell Financial Services Ltd. is offering a consumer loan of Rs.32,000 for 3 years for a
monthly installment of Rs.1000 payable in advance. The effective rate of interest by
approximation method is
a. 25.71%
b. 12.50%
c. 8.57%
d. 8.11%
e. 7.50%
13. Freelife Finance Ltd. discounts the L/C backed bill with a usance period of 30 days at the
rate of 18% p.a. The annual effective rate of interest is
a. 19.89 %
b. 20.00 %
c. 20.89 %
d. 21.34 %
e. 23.06 %.
14. Which of the following statements is / are not true regarding factoring and forfaiting?
I. In both factoring and forfaiting advances are short term in nature.
II. In both factoring and forfaiting, 100 percent finance is provided to the client.
III. Factor in factoring can be relieved of default risk whereas availling bank
cannot in forfaiting.

a. Only (I) above

b. Both (I) and (II) above
c. Both (I) and (III) above
d. Both (II) and (III) above
e. All (I), (II) and (III) above.
15. Which of the following is false with respect to Mortgage Backed Securitization?
a. This is backed by easily traceable immovable property like real estate
b. Mortgage has to exist necessarily at the time of securitization
c. The process takes into consideration appreciation in the value of assets
d. This gives lower yield to the investor compared to asset backed securitization
e. Stamp duty may vary irrespective of the location, as the assets may not be based at one
place.
16. A clause in the lease agreement, which reiterates the unconditional obligation of the lessee to
pay rentals for the entire lease term, regardless of any event affecting the usage of the asset or
any changes in the circumstances of the lease is known as
a. Unconditional Clause
b. Full Pay-out Clause
c. Hell or High Water Clause
d. Non Skipped-payment Clause
e. Praecipium Clause.
17. The total refinancing by the NHB to a HFC cannot exceed ___ % of the total loan funds of
the HFC.
a. 20
b. 25
c. 50
d. 75
e. 80.

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18. Which of the following venture capital financing is provided to companies completing
product development and initial marketing?
a. Seed Financing
b. Early Financing
c. Start-up Financing
d. First Stage Financing
e. Bridge Financing.
19. For which of the following purposes, DFIs are not permitted to onlent recycled ECB funds?
a. Investment in real estate
b. Investment in stock markets including secondary market trading
c. General corporate purposes
d. Both (a) and (b) above
e. All (a), (b) and (c) above.
20. Garima Glasses is coming up with an IPO of Rs.380 crore by book building process. The
minimum amount of the issue that should be reserved for allocation to individual investors
applying up to 10 tradeable lots through the syndicate members is
a. Rs.19.00 crore
b. Rs.28.50 crore
c. Rs.38.00 crore
d. Rs.47.50 crore
e. Rs.57.00 crore.
21. The maximum public deposit a Government company can accept is
a. 10% of its paid-up capital and free reserves
b. 15% of its paid-up capital and free reserves
c. 25% of its paid-up capital and free reserves
d. 35% of its paid-up capital and free reserves
e. This stipulation is recently abolished by SEBI.
22. As per the latest SEBI Guidelines pertaining to Takeover Code, when an acquirer obtains
15% equity stake in a company, he has to make a mandatory public offer to acquire further
___ of equity of the target company.
a. 5%
b. 10%
c. 15%
d. 20%
e. As per the latest amendments, this clause is removed by SEBI.
23. Sandy Agro Products Ltd. comes up with a rights issue that opens on July 1, 2003. The
earliest and latest closing dates of this rights issue are
a. July 7, 2003 and July 15, 2003
b. July 10, 2003 and July 15, 2003
c. July 15, 2003 and July 30, 2003
d. July 25, 2003 and August 15, 2003
e. July 30, 2003 and August 29, 2003.
24. In a hire purchase agreement the borrower is to pay 36 installments. Immediately after
paying the 16th installment, he wishes to repay the outstanding loan and purchase the
equipment. If the total charge for credit is Rs.2400, the interest rebate as per the Hire
Purchase Act, 1972 is
a. Rs.444.44
b. Rs.577.77
c. Rs.633.33
d. Rs.711.11
e. Rs.888.88.

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25. M/s. Champakali Chemicals is listed on Hyderabad Stock Exchange. The minimum net
worth it should have if it seeks listing on Mumbai Stock Exchange is
a. Rs. 20 crore
b. Rs. 25 crore
c. Rs. 50 crore
d. Rs.100 crore
e. There is no such stipulation for listing in another Stock Exchange.
26. General provisions and loss reserves and the risk-weighted assets of an NBFC are Rs.17.5 cr.
and Rs.265 cr. respectively. The maximum amount of these reserves that can be included in
Tier II capital is
a. Rs.3.00 cr
b. Rs.3.12 cr
c. Rs.3.31 cr
d. Rs.3.51 cr
e. Rs.5.30 cr.
27. Which of the following Floating Rate Notes (FRNs) are known as ‘undated issues’?
a. Mini-max FRNs
b. Mismatch FRNs
c. Perpetual FRNs
d. Perpetual Floaters
e. Both (c) and (d) above.
28. M/s Novice Financial Services Ltd (NFSL) has recently structured a lease transaction
involving an asset whose fair market value is Rs.140 crore and has an useful life of 8 years.
In which of the following situations, the lease can be classified as finance lease according to
FASB?
I. PV of lease payments is Rs.105 lakhs and the lease term is 5 years.
II. PV of lease payments is Rs.105 lakhs and the lease term is 6 years.
III. PV of lease payments is Rs.126 lakhs and the lease term is 5 years.

a. Only (II) above

b. Only (III) above
c. Both (I) and (II) above
d. Both (II) and (III) above
e. All (I), (II) and (III) above.
29. Finbank proposes to borrow on June 30, 2003, an amount of Rs.50 crores from Bank XYZ
for a period of 3 days at an interest of 12% p.a. as against 13% GOI Securities, which have a
face value of Rs.50 crores trading at Rs.52 crores and maturing on September 30, 2007. The
interest payments on these securities is due on March 31 and September 30 every year. The
amount actually borrowed by Finbank Ltd. in this repo transaction is
a. Rs.50.315 crores
b. Rs.51.625 crores
c. Rs.53.556 crores
d. Rs.53.625 crores
e. Rs.53.685 crores.

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30. Which of the following statements is/are true with respect to ADR Level I?
I. The company need not comply with the US GAAP.
II. They are traded in AMEX/NYSE.
III. The issuer is not allowed to raise fresh capital or list on any one of the national stock
exchanges.

a. Only (I) above

b. Only (II) above
c. Only (III) above
d. Both (I) and (III) above
e. Both (II) and (III) above.

END OF PART A

Part B : Problems (50 Points)

• This part consists of questions with serial number 1 - 5
• Answer all questions.
• Points are indicated against each question.
• Detailed workings should form part of your answer.
• Do not spend more than 110 - 120 minutes on Part B.
1. The following data pertains to the three leading Primary Dealers in the country as on
March 31, 2003:
(All figures in Rs.crore)
Indian Securities and
EFHI National Gilts
Finance Company
I. Primary Market T-Bills G-Secs T-Bills G-Secs T-Bills G-Secs
i. Bidding Commitments 1875 450 270 225 600 750
ii. Bids Tendered 4830 489 6635 2363 5526 2543
iii. Bids Accepted 2435 360 4142 2264 2897 2396
iv. Devolvement 293 62 57 45 57 45
II. Secondary Market
i. Purchases 3938 12396 6 1364 1451 4523
ii. Sales 5796 12594 4203 3491 3650 5945
Outright
a. Purchases 2058 129 - 1104 1298 3422
b. Sales 3945 590 4197 3231 3608 5207
Average of Month End Stocks
i. Overall 725 868 25 159 165 433
ii. Outright 480 354 12 92 70 351
You are required to compute the overall and outright turnover ratios for T-Bills and G-Secs, for these three
primary dealers and comment whether each one of them has achieved the minimum target in each category
as stipulated by the Reserve Bank of India.
(10 points)

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2. Netvista Infotech Ltd., an upcoming software company in Mumbai is in requirement of Rs.10 crore for two
years. The company is contemplating to issue either 1 year Commercial Paper at a discount rate of 8 % p.a.
and roll it for another year or issue 2 year Public Deposits at an interest rate of 8.5 % per annum. The
company is a new player in both the money market and the debt market.
Considering all the related expenses, you are required to advise Netvista regarding which issue it has to
choose, if the decision is solely based on the quantitative aspects.
(9points)
3. Creative Eyes is a growing and profit making media company, registered in BSE and NSE. For
modernization of its own studio facilities, Creative Eyes needs Rs.300 crore. Rs.50 crore will be managed
from internal accruals, Rs.60 crore from a term loan provided by IDBI and another Rs.40 crore from group
companies. The rest needs to be raised from the public.
The company after discussing the constraints of the company itself and the current market scenario with its
Investment Banker decides to issue a hybrid instrument, Optionally Fully Convertible Discounted
Debentures (OFCDD), the features of which are discussed below:
♣ Face value of each OFCDD is Rs.200.
♣ After 18 months from the date of the issue each OFCDD will be converted at the option of the investor
either into an equity share of Creative Eyes or an NCD.
♣ There will be no interest payment during the period of first 18 months.
♣ The NCD after conversion will be having a floating interest rate feature with a per annum interest rate
of 200 BPs over SBI PLR on 5 year deposits. Interest is payable semi-annually. The rate will be reset
every 6 months.
♣ NCDs together with interest are secured with first mortgage and charge on company’s properties
ranking pari passu with charges currently created.
♣ After 3 ½ years of converting the OFCDD, the NCDs will be redeemed at face value i.e. Rs.200 will
be given back to the investor.
The following information and future expected trends are supplied by the in-house financial analyst of
Creative Eyes:
♣ The current growth rate of earnings of Creative Eyes is 15%. This will continue for the next two years
and then it will linearly reduce to attain a normal growth rate of 5% from 5th year onwards.
♣ The current EPS of Creative Eyes is Rs.15. The payout ratio in the last financial year is 40% and as per
broad discussions of the management, it would increase by 10% every year for the next 3 years and
then it will remain constant at that level.
♣ The opportunity cost of the investors is 15%.
The Bond Dealers’ Association has given the following predictions for the SBI PLR on 5 years deposit for
each semi-annual period:
Period SBI PLR p.a.
1 10.00%
2 9.75%
3 9.25%
4 9.50%
5 9.75%
6 9.75%
7 9.50%
8 9.25%
9 9.00%
10 8.50%
Taking into consideration all the relevant information given, you are required to compute the price at
which OFCDD shall be issued to the public.
(10 points)

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4. Indus Financial Services Ltd. offers Zero Deposit and 25% Deposit Schemes for financing cars. Mr.
Anthony approached Indus to finance a car costing Rs.2,70,000.
Indus offers him the following terms and conditions under the Zero Deposit Scheme:
♣ An EMI of Rs.10,788 per month.
♣ 36 EMIs, each EMI payable at the end of the month.
♣ A bullet installment of Rs.2,16,00 payable at the end of the scheme.
Following are the terms and conditions given by Indus under 25% Deposit Scheme:
♣ An EMI of Rs.10,453 per month.
♣ 36 EMIs, each EMI payable at the end of the month.
♣ Accumulated interest of Rs.35,160 will be received on deposit after 36 months.
A front ended documentation and service fee of Rs.4,500 and a prompt payment bonus of Re.1 ptpm on
expiry of the repayment period will be applicable in both the schemes.
You are required to:
a. Advise Mr. Anthony on which scheme to avail from Indus Financial Services Ltd.
b. Compute the EMI under the 25% Deposit Scheme at which Mr. Anthony will be indifferent between
both the schemes.
(5 + 3 = 8 points)
5. 21st Century Finance is a leading financial services company offering a wide range of financial services.
Lease, hire purchase, consumer loans and housing finance are the prominent among others. 21st Century is
known for its customer friendly and flexibility nature in structuring its various deals particularly the lease
deals.
Avanti Fertilizers wants to install machinery costing Rs.25 lakhs as a part of its modernization program.
The machinery is expected to have a useful life of 4 years after which its salvage value is expected to be
Rs.2.5 lakhs. The machinery can claim a tax relevant depreciation rate of 30%. During the first year of its
operation, the machinery is expected to be utilized only 40% of its capacity and from the second year
onwards it is expected to operate at 100% efficiency level. The revenues earned are in line with the
capacity utilization and hence 21st Century has agreed to structure the lease deal in such a way that the
monthly in arrear lease payments over the lease period of four years, suits this constraint of Avanti. Under
hire purchase, 21st Century is charging a flat rate of interest of 8% p.a. and the hire rentals are payable
monthly in arrear over the hire period of four years.
Both 21st Century and Avanti are in a tax bracket of 20%. While 21st Century follows SOYD method,
Avanti follows Debt Replacement of interest allocation. Ignore interest tax on the financial chares.
You are required to determine the lease quote so that 21st Century is indifferent between lease and hire
purchase.
(13 points)

END OF PART B

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 Part C : Applied Theory (20 Points)
• This part consists of questions with serial number 6 - 7.
• Answer all questions.
• Points are indicated against each question.
• Do not spend more than 25 -30 minutes on Part C.

6. Rights issue is generally priced at a discount to market price. In theory, such a pricing strategy ensures that
the rights issue is taken up. But in practice it presents a number of difficult questions for financial managers
and investors alike. Discuss various such issues that managers and shareholders have to consider in a rights
issue.
(10 points)
7. A new form of financial services has evolved off late, which is a specialized form of factoring and is
undertaken on export transactions on a non-recourse basis. In this transaction, the exporter surrenders his
right for claiming the payments for goods supplied or services rendered to the importer in favor of the
financial services firm. A deed is prepared stating the same and the exporter receives cash payment from
the facilitator. All the transactions are performed with the support of a bank, which assumes the default risk
possessed by the importer. Discuss the costs and other considerations associated with such a form of
financing.
(10 points)

END OF PART C

END OF QUESTION PAPER

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 Suggested Answers
Investment Banking and Financial Services – I (261) : July 2003
Part A : Basic Concepts

1. Answer : (b)
Reason : As per the latest amendments, currently the settlement in the Indian stock exchanges is done on a
T + 2 System. Hence (b) is the correct answer.
2. Answer : (e)
Reason : All the following measures taken by the Central Government endeavors to enhance the level of
efficiency of the Indian Credit Market:
♣ Deregulating the interest rate environment
♣ Withdrawing the Government funds as a source of funds to Financial Institutions
♣ Permitting offshore banking
Hence (e) is the correct answer.
3. Answer : (b)
Reason : The Capital Indexed Bonds (CIBs) are issued by the RBI, with a maturity of 5 years. These CIBs
earn a 6% return on investments. The principal amount is adjusted for inflation for each of the
years and then the interest is calculated on this adjusted principal. Further, while repayment, the
principal amount will be adjusted by the Index Ratio (IR) as announced by RBI. Hence CIBs are
designed to eliminate / minimize the inflation risk. Interest rate risk refers to the risk arising due
to fluctuations in interest rates and currency risk refers to the risk arising due to fluctuations in
exchange rates. As CIBs does not protect interest rate risk / currency risk, (b) is the answer.
4. Answer : (c)
Reason : Export credit and Guarantee corporation does not cover the risk arising due to fluctuations in
exchange rate. All the other risks mentioned are covered by ECGC.
5. Answer : (d)
Reason : The following intermediaries in the Indian Capital Market needs to be registered by SEBI
♣ Share Transfer Agents
♣ Custodians of Securities
♣ Collective Investment Schemes like Plantation Schemes
Advertising Agents need not get registered by SEBI. Hence (d) is the correct answer.
6. Answer : (e)
Reason : The following is included in “Defensive Audit”:
♣ Analysis whether the market price reflects the intrinsic value of the share and if not, the
reason for under-valuation
♣ Analysis whether the valuation of the company can be enhanced by restructuring
♣ Review of the company’s shareholders’ profile
♣ Review of the company’s Memorandum and Articles of Association.
Hence all the given alternatives form part of defensive audit and the answer is (e).
7. Answer : (d)
Reason : As the Debenture Issue amount exceeds Rs.5 lakhs, the maximum underwriting commission that
can be paid to Cinderella Consultants, the underwriter is 2.0% on the amount devolving on them
and 1% on the amount subscribed by the public.
Hence, maximum commission that Kilburn can pay to Cinderella = 2% of Rs.20,00,000
+ 1% of Rs.30,00,000 = Rs.40,000 + Rs.30,000 = Rs.70,000. Therefore (d) is the correct
answer.

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8. Answer : (d)
Reason : The registration fee payable to SEBI for an equity issue is based on the size of the issue.
Registration fee payable for various issue size are shown below:
Size of the Issue Fees (Rs.)
Up to Rs.5 crore 10,000
Rs.5 crore to Rs.10 crore 15,000
Rs.10 crore to Rs.50 crore 25,000
Rs.50 crore to Rs.100 crore 50,000
Rs.100 crore to Rs.500 crore 2,50,000
Above Rs.500 crore 5,00,000
Sanwaria Agro Products is coming up with an equity issue worth Rs.250 crore. Hence the
registration fee payable to SEBI is Rs.250000. Hence (d) is the correct answer.
9. Answer : (d)
Reason : The following statements are correct regarding various types of lease transactions:
♣ In a leveraged lease transaction, the loan participant obtains an assignment of the lease and
the rentals to be paid by the lessee, and a first mortgage on the leased asset
♣ A leveraged lease transaction entitles the lessor to claim tax shields on depreciation
♣ In a sales-aid lease the equipment supplier catalyzes the lease transaction
♣ In a single investor lease, the debt funds raised by the leasing company are without recourse
to the lessee
♣ An upgrade lease is an operating lease which has in-built facilities like upgradations of the
equipment.
Hence (d) is a false statement and therefore the answer.
10. Answer : (b)
Reason : Initial Investment = Rs.60 lakhs
Aggregate lease rentals payable under the lease during the primary period
= 0.032 x 60 x 4 x 12 = Rs.92.16 lakhs
Aggregate interest charge for the lease = 92.16 – 60 = Rs.32.16 lakhs
Average annual interest charge = 32.16 / 4 = Rs.8.04 lakhs
Add-on yield = 8.04 / 60 = 0.134 = 13.40%.
Hence (b) is the correct answer.
11. Answer : (c)
Reason : From July 16, 2001, Service Tax @ 5% is payable on the interest earned by the hire purchase
companies. Hence (c) is the correct answer.
12. Answer : (c)
Reason : Repayment period = 36 months
Total charge for credit = (1000 x 36) – 32000 = Rs.4000.
4000 1
Flat rate of interest = × = 4.17
3 32, 000
Effective rate of interest = 36/35 x 2 x 4.17% = 8.58%.
13. Answer : (a)
Reason : Let the value of the LC backed bill be Rs.1000.
Discount charge = 1000 x 0.18 x 30/360 = Rs.15
Value received by client = 1000 – 15 = Rs.985
Effective rate of interest for 1 month = 15/985 = 1.52 %
Effective rate of interest per annum = [(1.0152)12/1 – 1] = 19.89 %.
Hence (a) is the correct answer.

11
14. Answer : (b)
Reason : Advances are short term in nature in factoring whereas in forfaiting advances are generally
medium term in nature. In advance factoring only around 80% of the receivables factored are
given as advances where in forfaiting 100% finance is provided. Hence, both (I) and (II) are not
true statements. Factor in factoring can be relieved of default risk by opting for non-recourse
factoring whereas the avalling bank in forfaiting cannot. Hence, (III) is correct and the answer is
‘b’.
15. Answer : (e)
Reason : Some of the properties of Mortgage Backed Securitization:
♣ This is also backed by easily traceable immovable property like real estate.
♣ Mortgage has to exist necessarily at the time of securitization.
♣ The process takes into consideration appreciation in the value of assets.
♣ This gives lower yield to the investor when compared to ABS.
With respect to MBS, stamp duty is levied on the basis of the rates specified in the state where
the deal is struck. Hence (e) is the false statement and the answer.
Hence the other alternatives are correct.
16. Answer : (c)
Reason : A clause in the lease agreement, which reiterates the unconditional obligation of the lessee to
pay rentals for the entire lease term, regardless of any event affecting the usage of the asset or
any changes in the circumstances of the lease is known as Hell or High Water Clause. Hence (c)
is the correct answer.
17. Answer : (c)
Reason : The total refinancing by the NHB to a HFC cannot exceed 50 % of the total loan funds of the
HFC. Hence (c) is the correct answer.
18. Answer : (c)
Reason : The venture capital financing provided to companies completing product development and initial
marketing is known as Start-up Financing. Hence (c) is the correct answer.
19. Answer : (e)
Reason : For the following purposes, DFIs are not permitted to onlent recycled ECB funds:
♣ Investment in real estate
♣ Investment in stock markets including secondary market trading
♣ Working capital purposes
♣ General corporate purposes
Hence (e) is the correct answer.
20. Answer : (e)
Reason : The minimum amount of the issue that should be reserved for allocation to individual investors
applying up to 10 tradeable lots through the syndicate members is 15% of the issue size = 15%
of Rs.380 crore = Rs.57 crore. Hence (e) is the correct answer.
21. Answer : (d)
Reason : The maximum public deposit a Government company shall accept is 35% of its paid-up capital
and free reserves. Hence (d) is the correct answer.
22. Answer : (d)
Reason : As per the latest SEBI Guidelines pertaining to Takeover Code, when an acquirer obtains 15 %
equity stake in a company, he has to make a mandatory public offer to acquire further 20% of
equity of the target company. Hence (d) is the correct answer.
23. Answer : (e)
Reason : The earliest and latest closing dates of this rights issue are 30 days and 60 days from the date of
the opening of the issue. Hence, for Sandy Agro Products Ltd. comes up with a rights issue that
opens on July 1, 2003, the earliest and latest closing dates of this issue are July 30, 2003 and
August 29, 2003. Hence (e) is the correct answer.

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24. Answer : (e)
Reason : The interest rebate as per the Hire Purchase Act, 1972 is calculated by using the following
formula, Interest Rebate = 2/3 x t/n x D,
Where t = number of installments that are not due and outstanding,
n = total number of level installments
D = Total charge for credit
Hence, Interest Rebate = 2/3 x 20/36 x 2400 = Rs.888.89
Therefore, (e) is the correct answer.
25. Answer : (a)
Reason : A company, listed in one stock exchange, in order to get listed in another stock exchange needs a
minimum paid-up capital of Rs.20 crore. Hence (a) is the correct answer.
26. Answer : (c)
Reason : General provisions and loss reserves can be admitted into Tier II capital upto a maximum of 1.25
percent of risk weighted assets. Since the risk weighted assets are Rs.265 cr; the contribution
from General Provisions / Loss Reserves is:
1.25
× 265 = 3.3125cr.
100
27. Answer : (e)
Reason : Perpetual FRNs are known as Perpetual Floaters or undated issues. Hence alternative (c) and (d)
are correct. Mini-max FRNs are also known as collared FRNs. Mismatch FRNs are also known
as rolling rate FRNs. Hence (e) is the choice.
28. Answer : (d)
Reason : According to FASB, a lease transaction is classified as a finance lease if one of the conditions
stated below is fulfilled:
i. Lease term exceeds 75% of the useful life of the asset; or
ii. Present value of lease payments exceeds 90% of the fair market value of the asset.
As statement (II) satisfies the condition (i) and statement (III) satisfies condition (ii) and
statement (I) does not satisfy any, statements (II) and (III) can be classified as finance leases and
the answer is (d).
29. Answer : (d)
Reason : Market value of GOI securities = Rs.52 crores
(+) Interest accrued on the securities from April 1, 2003 to June 30, 2003

 3 
 = 12 × 0.13 × 50  = Rs.1.625 crores
 
= Rs.53.625 crores
30. Answer : (d)
Reason : ADR Level I is the first step for an issuer to enter into the US public equity market. In this
instrument, only minimum disclosure is required to the SEC and the issuer need not comply with
the US GAAP. This type of instrument is traded in the US OTC market. The issuer is not
allowed to raise fresh capital or list on any of the national stock exchanges. Therefore statements
(I) and (III) are true and statement (II) is false.

13
 Part B : Problems (261)

1.
DFHI PNB Gilts ICICI - Sec
Particulars
T-Bills G-secs T-Bills G-secs T-Bills G-secs
Primary market
Bids accepted 2435 360 4142 2264 2897 2396
Devolvement 293 62 57 45 57 45
Total Purchase …(A) 2728 422 4199 2309 2954 2441
Secondary market
Purchase 3938 12396 6 1364 1451 4523
Sales 5796 12594 4203 3491 3650 5945
Total ….(B) 9734 24990 4209 4855 5101 10468
Total Sales & Purchase ….(C) =
A+B 12462 25412 8408 7164 8055 12909
Outright
Purchase 2058 129 0 1104 1298 3422
Sales 3945 590 4197 3231 3608 5207
Total Sales & Purchase ….(D) 6003 719 4197 4335 4906 8629
Average of Month End Stocks
Overall ….. (E) 725 868 25 159 165 433
Outright ….. (F) 480 354 12 92 70 351
Turnover Ratios
Overall ….. (C)/(E) 17.19 29.28 336.32 45.06 48.82 29.81
Outright…..(D)/(F) 12.51 2.03 349.75 47.12 70.09 24.58
Minimum stipulated ratio by
RBI
Overall 10 5 10 5 10 5
Outright 6 3 6 3 6 3
Whether achieved the target or
not
Overall YES YES YES YES YES YES
Outright YES NO YES YES YES YES

14
2. Appraisal of the two alternatives from the Issuer's point of view:
Commercial Papers
To receive an amount of Rs.10 crore, the amount of issue in the CP should be Rs.10.8 crore i.e. 10 × (1.08)
Rs. in lakhs
Interest expenses – 10.8 – 10
80
Rating charges – 0.5% × Rs.10.8 crore 5.4
(Rating charges for a CP of tenure
above 9 months – 1 year is 0.5%)
Stamp duty – 0.5% × Rs.10.8 crore 5.4
(Stamp duties for a CP of tenure
above 9 months – 1 year is 0.5%)
Brokerage charges - 0.1% × Rs.10.8 crore 1.08
(Maximum brokerage payable for a CP of
tenure 6 months and above is 0.1% of the issue)
Total Expenses during the first year 91.88
In case of a roll-over of a CP, the face value of the earlier issue becomes the issue price of the fresh issue of
a CP. According to the guidelines any renewal of CP is considered as a fresh issue and involves expenses.
Hence, the renewal of CP issue attracts the following expenses during year 2:
Rs. lakhs
Interest expenses 10.8 × 0.08 86.40
Rating charges 0.5% of (10.8 + 0.864)cr 5.832
Stamp duty 0.5% of (10.8 + 0.864) cr 5.832
Brokerage charges (Assuming the company need not Nil
incur the same during renewal)
Total expenses during year 2 98.064
Total expenses during the two years 189.944
Effective cost p.a:
189.944 1
× = 9.5%
2 1000

Public Deposit
Rs. lakhs
Interest expenses – 8.5% × Rs.100000000 × 2 170
Brokerage – 1.5% × Rs.100000000 15
(Maximum brokerage payable for a PD of
Tenure 1 – 2 years is 1.5 % of the issue)
Total Expenses 185
Expenses p.a. 92.5
Percent Expenses p.a. 9.25%
The expenses per annum of the PD is lower than that of the CP, it is advised to Netvista to go with the PD
issue.

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3.
Period SBI PLR Coupon rate p.a. Interest paid
1 10.00% 12.00% 0.000%
2 9.75% 11.75% 0.000%
3 9.25% 11.25% 0.000%
4 9.50% 11.50% 5.750%
5 9.75% 11.75% 5.875%
6 9.75% 11.75% 5.875%
7 9.50% 11.50% 5.750%
8 9.25% 11.25% 5.625%
9 9.00% 11.00% 5.500%
10 8.50% 10.50% 5.250%
In the first 3 periods no coupon is given. The instrument has got two options - after 18 months the investor
can convert it to one equity share or into a non convertible debenture for the coming 3 1/2 years with
interest payable every six months based on the SBI PLR as computed above and at the end of 5 years, the
amount of Rs.200 is given back to the investor.
Valuation of the bond if the investor opts for conversion into non-convertible debenture: (Rs.)
Half-year Period 1 2 3 4 5 6 7 8 9 10
Interest 0.00 0.00 0.00 11.50 11.75 11.75 11.50 11.25 11.00 10.50
Redemption amount 200.00
Total cash inflow 0.00 0.00 0.00 11.50 11.75 11.75 11.50 11.25 11.00 210.50
PVIF at 15% p.a. I.e.
7.5% per period 0.930 0.865 0.805 0.749 0.697 0.648 0.603 0.561 0.522 0.485
Present value of the
cash inflow 0.00 0.00 0.00 8.614 8.190 7.614 6.935 6.311 5.731 102.093
Sum of PVs = Rs. 145.49

Valuation of the bond if the investor opts for conversion into equity share:
EPS two years after issue = 15(1.15)2 = Rs.19.84
(Rs.)
Period 2 3 4
Growth rate in EPS 15.00% 11.67% 8.33%
EPS 19.84 22.15 24.00
Payout ratio 60.00% 70.00% 70.00%
DPS 11.90 15.51 16.80
Terminal Value (or the intrinsic value) 176.40*
Total cash inflow 11.90 15.51 193.20
PVIF at 15% p.a. 0.756 0.658 0.572
Present value of the cash inflow 8.996 10.206 110.51

16
 24x0.7x1.05
* Terminal value = = Rs.176.40
0.15 − 0.05

Sum of PVs = Rs.129.71

The higher of the two valuations will be accepted as the issue price. Hence the issue price is Rs.145.

4. a. The effective rate of interest, which is less will be a better option. Let us compute the effective rate of
interest in each of the schemes:
Let the effective interest rate be i1 for Zero Depoist Scheme and i2 for 25% Deposit Scheme.
Computation of effective rate of interest in the Zero Deposit Scheme
Loan amount = Rs.270000
Service and documentation fee = Rs.4500
EMI = Rs.10788
Number of EMIs = 36
PV of EMIs = 10788 × 12 × PVIFA(i1, 3) × i/i12 = 129456 × PVIFA(i1, 3) × i/i12
Bullet Installment at the end of 36 months = Rs.21600
Prompt payment bonus = 1/1000 × 10788 × 36 = Rs.388.40
The value of i1 can be obtained from the below equation:
270000 – 4500 – 129456 × PVIFA(i1, 3) × i/i12 – 21600 × PVIF(i1, 3) + 388.40 × PVIF(i1, 3) = 0
Solving the equation gives i1 = 33.51%. = Effective rate of interest
Computation of effective rate of interest in the 25% Deposit Scheme:
Loan amount = 75% of Rs.270000 = Rs.202500.
Deposit = 25% of Rs.270000 = Rs.67500
Service and documentation fee = Rs.4500
EMI = Rs.10453
Number of EMIs = 36
PV of EMIs = 10453 × 12 × PVIFA(i2, 3) × i/i12 = 125436 × PVIFA(i2, 3) × i/i12
Accumulated value of Deposit = 67500 + 35160 = Rs. 102660
Prompt payment bonus = 1/1000 × 10453 × 36 = Rs. 376.27
The value of i2 can be obtained from the below equation:
202500 – 4500 – 125436 × PVIFA(i2, 3) × i/i12 + 102660 × PVIF(i2, 3) + 376.27 × PVIF(i2, 3) = 0
Solving the equation gives i1 = 38.60%.= Effective rate of interest
As the interest rate is lower in the Zero Deposit Scheme, Mr. Anthony should opt for this.
b. Mr. Anthony will be indifferent between both the schemes if the effective interest rate is same among
both the schemes.
Let the EMI in the 25% Deposit Scheme be Rs.A
202500 – 4500 – 12A × PVIFA(33.51%, 3) × i/i12 + 102660 × PVIF(33.51%, 3) + 376.27 ×
PVIF(33.51%, 3) = 0
PVIFA(33.51%, 3) = 1.1730
PVIF(33.51%, 3) = 0.420
i/i12 at 32% = 1.1393
i/i12 at 34% = 1.1476
(34 − 33.51) (1.1476 − I)
=
(34 − 32) (1.1476 − 1.1393)
1.1476 − I
0.245=
0.0083
I = 1.1456

17
 Hence,
202500 – 4500 – 12A x 1.730 x 1.1456 + (102660 + 376.27) 0.420 = 0
202500 – 4500 – 23.783A + 43275.23 = 0
A = Rs. 10,145.

5. a. For 21st century to be indifferent between lease and HP, the IRR of both the options should be same.
Let us first compute the IRR of the hire purchase transaction.
Loan amount = Rs.25 lakhs …….. (A)
Monthly installment = [(25 × 8% × 4) + 25] / [12 × 4] = Rs. 0.6875 lakhs
PV of HP installments = 12 × 0.6857 × PVIFA (iH, 4) × i/i12 = 8.25 × PVIFA(iH, 4) × i/i12 … (B)
Total charge for credit = 25 × 8% × 4 = Rs.8 lakhs.
Amortization Schedule:
Annual IT on Fin
Year SOYD factor
Fin Income Income
1 510/1176 3.4694 0.6939
2 366/1176 2.4898 0.4980
3 222/1176 1.5102 0.3020
4 78/1176 0.5306 0.1061
PV of IT on Finance Income = 0.6939 × PVIF(iH, 1) + 0.4980 × PVIF(iH, 2) + 0.3020 × PVIF(iH, 3)
+ 0.1061 × PVIF(iH, 4) ……(c)
IRR of the HP transaction is the value of iH in the following equation: - A + B – C = 0
Or, –25 + 8.25 × PVIFA(iH, 4) × i/i12 – 0.6939 × PVIF(iH, 1) – 0.4980 × PVIF(iH, 2) – 0.3020 ×
PVIF(iH, 3) – 0.1061 × PVIF(iH, 4) = 0
At 12%, LHS = 0.1067
At 13%, LHS = –0.312
Therefore, iH lies between 12% and 13%.
By interpolation (iH – 13)/(13 – 12) = (0 + 0.312)/(–0.312– 0.1067)
This implies that iH = 12.25%
If the IRR of the lease transaction is also 12.25%, then 21st century will be indifferent between lease
and hire purchase.
To suit the cash flows of Avanti depending on the efficiency of the machinery the lease rentals can be
structured by 21st Century.
Hence the monthly rental be 0.4L lakhs in the first year and from 2nd year onwards, the monthly
rental is L lakhs.
Initial Investment = Rs.25 lakhs …….. (D)
b. PV of lease rentals = 12 × 0.4L × PVIF(12.25%, 1) × i/i12 + 12L × [PVIFA(12.25%, 3) x
PVIF(12.25%,1)] × i/i12 =
4.8L × 0.79 × 1.055 + 12L × 2.391 × 1.055 = 34.291L …… (E)
PV of tax on lease rentals = (4.8L × 0.794 + 12L × 2.391) × 20% = 6.5L …… (F)
Depreciation Tax Shield
(Rs. in lakhs)
PVIF @ PV of
Year Depreciation DTS
12.25% DTS
1 7.5000 1.5000 0.891 1.337
2 5.2500 1.0500 0.794 0.8337
3 3.6750 0.7350 0.707 0.5196
4 2.5725 0.5145 0.630 0.3241
3.0144 …….(G)

18
 PV of net salvage value = 2.5 × PVIF (12.25%, 4) = Rs.1.574 lakhs…..(H)
We have to solve L from the equation: - D + E – F + G + H = 0
Or, - 25 + 34.291L – 6.5L + 3.0144 + 1.574 = 0
Or, 27.791L = 20.4116
Or, L = Rs.73,450 (approximately)
Lease per month in the first year = 0.40 × 73450 = Rs.29380 = Rs.11.752 ptpm
Lease per month second year onwards =Rs.73450 = Rs.29.38 ptpm
In the above lease quote, 21st century will be indifferent between lease and hire purchase.

Part C: Applied Theory

6. For managers contemplating a rights issue, the following issues are crucial: the number of shares to offer,
the cost of the capital to be raised and the market’s reaction. The financial manger must be satisfied that
there will be enough new funds to achieve the objective for which the capital is being raised. Another
factor is the size of the capital outlay relative to the shareholder’s existing stake. Shareholders are more
likely to subscribe to an issue amounting to, say, a 30 percent addition to the share they hold than they are
to a 60 percent addition. The financial manager must also consider whether the earning potential of the
extra funds, when capitalized with the appropriate cost-of-capital rate, would increase the market value of
the company’s shares.
The shareholders must consider the value of these rights, what action(s) to taken and the impact of the issue
on the company’s future earnings. Investors are interested in determining the theoretical value of the shares
after a right issue. Using this value they can estimate the investment status of shares without rights attached
(ex-rights). Therefore, the value of the share ex-rights will influence their decision to sell rights, to retain
their present position or to add to their holding.

7. The new form of financial services discussed in the question is nothing but forfaiting.
Costs involved in a transaction of Forfaiting:
A transaction of forfaiting involves different types of fees and charges. The fee charged by the forfaiter
depends on the relationship with the exporter, volume of trade and above all the cost of funds of the
forfaiter. The fees that come into play during a transaction of forfaiting fall into broad three categories:
♣ Commitment Fees – A commitment fee is payable to the forfaiter by the exporter in consideration of
the commitment made by the forfaiter to execute a particular transaction of forfaiting at a particular
discount rate and within a specific time. The commitment fees range between 0.50 – 1.50% per annum.
It is always calculated on the unutilized amount of the forfaiting transaction. Irrespective of the
execution of the export contract, the commitment fees are required to be paid.
♣ Discount Fees – It is the cost payable on the credit promised under the factoring deal for the total
period of credit under consideration. It is payable by the exporter to the forfaiter. Instead of charging
same separately, the forfaiter deducts it from the amount it owes to the exporter against the promissory
note or bill of exchange as the case may be. Discount is arrived on LIBOR for the period under
consideration. The forfaiter pays the exporter the money almost instantly, but it has to wait for quite
some time to recover the same from the importer. During the intervening period, the adverse
movements in the international currency market may wipe out the profits of the forfaiter. So this also
includes the possible loss / gain that can be expected due to changes in the exchange rates in the
intervening period
♣ Documentation Fees – Documentation fees are generally charged for transactions involving elaborate
legal formalities and complexities and they may not be charged when the legal procedures and the
documentation required are low.
Other Considerations associated with a transaction of Forfaiting:
Apart from the charges described above, there are certain charges applicable on a case-to-case basis like
charges of handling etc. Besides all these, EXIM Bank (or the forfaiter whatever the case may be) is
entitled to receive charges for its participation in the forfaiting service. The charges of EXIM Bank are
payable in Indian currency. However, the discount 19fees, commitment fees and the documentation fees are
passed on the overseas forfaiter. This is performed as per the RBI’s AD (GP Series) Circular No. 3 dated
February 13, 1992. As per the Guidelines issued by the apex bank, the exporter should finalize the export
contract in such a manner that the total amount earned by the exporter in foreign currency; after
appropriating for the costs incurred in the forfaiting transaction is equal to the price, which the exporter
would obtain if the goods were sold on cash payment basis. The consignment has to be of a minimum value
payable in Indian currency. However, the discount fees, commitment fees and the documentation fees are
passed on the overseas forfaiter. This is performed as per the RBI’s AD (GP Series) Circular No. 3 dated
February 13, 1992. As per the Guidelines issued by the apex bank, the exporter should finalize the export
contract in such a manner that the total amount earned by the exporter in foreign currency; after
appropriating for the costs incurred in the forfaiting transaction is equal to the price, which the exporter
would obtain if the goods were sold on cash payment basis. The consignment has to be of a minimum value
of $250000 or its equivalent to be generally considered for forfaiting by the agencies. The contract may be
executed in all the major currencies of the world like US $, Pound Sterling or Japanese Yen etc. The
normal duration of the receivables in a forfaiting contract ranges from 1-5 years. The acceptance of a
forfaiting offer by a forfaiting agency is also dependant on the agency’s outlook on the country involved
and its risk perception on the macroeconomic fundamentals of that country.

20