PYQ 9 - Learning Business Studies
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    VERY SHORT ANSWER QUESTIONS ( 1 or 2 Marks)

    QUESTION 1.
    ‘Reliable Transport Services Ltd.’ specializes in transporting fruits and vegetables. It has a good reputation in the market as it delivers the fruits and vegetables at the right time and at the
    right place.’
    State with reason whether the working capital requirements of ‘Reliable Transport Services’
    will be high or low.
    (CBSE BOARD 2015)
    Answer:
    The working capital requirement of Reliable Transport Services Ltd. will be low, because fruits
    and vegetables are perishable in nature and thus there is no need of maintaining a large amount
    of stock.

    QUESTION 2.
    How do ‘Floatation costs’ affect the choice of capital structure of a company? State.
    (CBSE BOARD 2015)
    Answer:
    Floatation cost refers to the cost of raising funds. Higher the flotation cost of a particular source,
    lower is its preference in the capital structure and vice versa.

    QUESTION 3.
    What is meant by 'financial management'?
    (CBSE BOARD 2017)
    Answer. Financial Management includes those business activities that are concerned with
    acquisition and conservation of capital funds in meeting the financial needs and overall objectives
    of a business enterprise.

    QUESTION 4.
    Besides the investment decision the finance function is concerned with two other broad
    decisions. Name these decisions.
    (CBSE BOARD 2015)
    Answer. Two other broad decisions are:
    (i)Financing decision: This decision is about the quantum of finance to be raised from various
    long-term sources and short-term sources and selecting the cheapest one.
    (ii) Dividend decision: Dividend is that portion of divisible profits that is distributed to the
    shareholders. It results in current income for the shareholders.

     QUESTION 5.
    A textile company is diversifying and starting a steel manufacturing plant. State with reason
    the effect of diversification on the fixed capital requirements of the company.
    (CBSE BOARD 2015)
    Answer. With diversification, the fixed capital requirements will increase as the investment in
    fixed capital will increase.

    QUESTION 6.
    Rizul Bhattacharya after leaving his job wanted to start a Private Limited Company with his
    son. His son was keen that the company may start manufacturing of Mobile- phones with some
    unique features. Rizul Bhattacharya felt that the mobile phones are prone to quick
    obsolescence and a heavy fixed capital investment would be required regularly in this business.
    Therefore, he convinced his son to start a furniture business. Identify the factor affecting fixed
    capital requirements, which made Rizul Bhattacharya to choose furniture business over mobile
    phones.
    (CBSE BOARD 2016)
    Answer. The factor affecting fixed capital requirements is "Technology Upgradation".


    QUESTION 7.
    The size of assets, the profitability and competitiveness are affected by one of the financial
    decisions. Name and state the decision.
    (CBSE BOARD 2016)
    Answer. The size of assets, profitability and competitiveness are all affected by capital
    budgeting decision/ investment decision.

    QUESTION 8.
    Why does financial risk arise?
    Answer: Interest on borrowed fund have to be paid regardless of whether or not the firm has
    made a profit. Moreover borrowed fund have to be repaid after a fixed period of time and it
    carries a charge on assets. This gives rise to financial risk.

    QUESTION 9.
    How does production cycle effect working capital?
    Answer: Working capital requirement will be higher with longer production cycle.

    QUESTION 10.
    Enumerate two objectives of financial management?
    Answer:
    (a) Primary objective: Is to maximize wealth of owners in the long run – Wealth Maximization
    concept.
    (b) The objective of financial management is to maximize the current price of equity shares of
    the company.

    QUESTION 11.
    Radhika and Vani who are young fashion designers left their job with a famous fashion designer chain to set-up a company 'Fashionate Pvt. Ltd.' They decided to run a boutique during the day and coaching classes for entrance examination of National Institute of Fashion Designing in the evening. For the coaching centre they hired the first floor of a nearby building. Their major expense was money spent on photocopying of notes for their students. They thought of buying a photocopier knowing fully that their scale of operations was not sufficient to make full use of the photocopier.
    In the basement of the building of 'Fashionate Pvt. Ltd.' Praveen and Ramesh were carrying on
    a printing and stationery business in the name on 'Neo Prints Pvt. Ltd.' Radhika approached
    Praveen with the proposal to buy a photocopier jointly which could be used by both of them
    without making separate investment, Praveen agreed to this.
    Identify the factor affecting fixed capital requirements of 'Fashionate Pvt. Ltd.'
    Answer. The factor affecting the fixed capital requirements of ‘Fashionate Pvt.Ltd.’ is level of
    collaboration: At times, business organisations undergo collaboration with each other and jointly
    establish certain facilities. In such cases, an individual organisation’s requirement for fixed capital
    reduces.

    QUESTION 12.
    What is meant by 'Capital Structure'?
    (CBSE BOARD 2017)
    Answer. Capital Structure refers to a judicious combination of the debt and equity in an
    organisation. One of the important decisions under financial management, that relates to the
    financing pattern or the proportion of the use of different sources in raising funds.

    QUESTION 13.
    Name & state the aspect of financial management that provides a link between investment
    and financing decisions.
    (CBSE BOARD 2016)
    Answer. Financial Planning provides a link between investment and financing decisions. Financial
    Planning involves designing the blueprint of the financial operations of a firm.

    QUESTION 14.
    Name and state the aspect of financial management that enables to foresee the fund
    requirements both in terms of ‘the quantum’ and ‘in terms of the timings'.
    (CBSE BOARD 2016)
    Answer. The aspect of financial management that enables to foresee the fund requirements
    both in terms of ‘the quantum’ and in terms of ‘the timings' is "Financial Planning". Financial
    planning involves designing the blueprint of the overall financial operations of a company such
    that right amount of funds are available for various operations at the right time.

    SHORT ANSWER QUESTIONS (3 or 4 Marks)

    QUESTION 15.
    State any four factors which affects the requirements of working capital requirements of a
    company.
    Answer. Factors which affect the requirements of working capital are:
    1. Nature of Business: The basic nature of a business enterprise influences the amount of
    working capital required by it. For e.g. A trading organization needs a lower amount of working
    capital as compared to a manufacturing organization.
    2. Scale of Operations: An organization which is operating on large scale will require more
    inventory as its working capital requirement will be more, compared to small organization.
    3. Business Cycle: When there is a boom in the economy, more production will be undertaken
    and so more working capital will be required during that time as compared to depression in the
    economy.
    4. Seasonal Factors: In peak season, demand for a product will be high and thus high working
    capital requirements will be more as compared to lean season.

    QUESTION 16.
    ‘Best Bulbs Pvt. Ltd. was manufacturing good quality LED bulbs and catering to local market.
    The current production of the company in 800 bulbs a day. Sumit, the marketing manager
    of the company surveyed the market and decided to supply the bulbs to five-start-hotels also.
    He anticipated the higher demand in future and decided to buy a sophisticasted machine to
    further improve the quality and quantity of the bulbs produced.
    Identify the factor affecting fixed capital requirements of the company.
    Answer. The factor affecting fixed capital requirements of a company is 'Growth Prospects'.
    Higher growth and expansion of a company is associated with higher production, more sales,
    more inputs, etc. This requires higher level of machinery. Thus, organisations with high
    growth prospects require higher amount of fixed capital and vice versa.
    High growth prospects→ Large fixed capital requirement. Low growth prospects→ Low fixed
    capital requirement

    QUESTION 17.
    Every manager has to take three major decisions while performing the finance function. Explain them.
    Answer. A manager take three following major decisions:-
    1) Financing Decision: This decision is about the quantum of finance to be raised from various
    long-term sources and short-term sources and selecting the cheapest one.
    2) Investment Decision: Investment decision means judicious investment of firm’s resources,
    from the available alternative proposals and choosing the cheapest one, which earns highest
    possible return for the investors.
    3) Dividend Decision: Dividend decision is whether to distribute earnings to shareholder as
    dividends or to retain earnings to finance long-term projects of the firm.

    LONG ANSWER TYPE QUESTIONS (5 OR 6 MARKS)

    QUESTION 18.
    Sakshi Ltd. is a company manufacturing electronic goods. It has a share capital of Rs. 120 lakhs. The earning per share in the pervious years was Rs 0.5. For diversification the company requires additional capital of Rs 80 lakhs. The company raised funds by issuing 10% debentures for the same. During the current year the company earned profit of Rs 16 lakhs on capital employed, It paid tax of 40%.
    (a) State whether the shareholders gained or loss in respect of earning per share on
    diversification. Show your calculations clearly.
    (b) Also state any three factors that favour the issue of debentures by the company as part of
    its capital structure.
    (CBSE BOARD 2016)
    Answer.
    Profit before Tax=Profit before Interest and Tax−Interest =16,00,000−8,00,000=Rs 8,00,000
    Profit after Tax=Profit before Tax−Tax =8,00,000−3,20,000=Rs 4,80,000
    Note: The face value of equity shares is assumed to be Rs 10 each. Hence, number of equity
    shares is 12,00,000.
    (b) The three factors that favour the issue of debentures by the company as part of its capital
    structure are given below.
    1. Tax deductibility: Interest paid by the company to its debentures is tax deductible. In the above
    scenario, t he c ompany i s p aying t ax @ 4 0%. T hus, i t i s b eneficial f or t he c ompany t o i ssue
    debentures
    2. Say in management: Issuing more shares will dilute the control of management. Thus,
    companies that are apprehensive of the dilution of control opt for more of debt and less of equity.
    3. Relatively low cost: For a company, cost of raising capital through debentures is
    relatively lower than that through equity. This is due to assurance (of rate of returns) and
    guaranteed repayment (of debenture amount at maturity) that debenture holders require lower
    rate of returns. Besides this, interest amount payable to debenture holders is deductible
    expense. This is to say that interest amount is deducted from the company's earnings and then
    the net amount is used for calculation of tax liabilities. Hence, companies prefer to opt for
    debentures, as higher use of debt, lowers the over-all cost of capital with cost of equity remaining
    unaffected.

    QUESTION 19.
    Explain briefly any four factors that affect the working capital requirement of a company.
    (CBSE BOARD 2017)
    Answer. The various factors affecting working capital requirements of a company are discussed
    below.
    (a) Type of business: Organisations that deal in services or trading (having small operating cycle)
    require less working capital than organisations dealing in manufacturing. This is because in
    organisations such as service or trading, the raw materials are generally the same as the final
    outputs and the sales transaction takes place immediately. In contrast, a manufacturing firm
    involves a large operating cycle and the raw materials need to be converted into finished goods
    before they are finally sold. Therefore, such firms require large working capital.
    Service or trading organisations → Small working capital requirement
    Manufacturing organisations → Large working capital requirement.
    (b) Extent of credit allowed by the firm: Credit implies allowing sale proceeds without immediate
    receipt of the cash payment. If a company follows a liberal credit policy, then its number of
    debtors increases. This in turn increases the requirement of working capital for the business. On
    the other hand, a stringent credit policy reduces the requirement of working capital.
    Liberal credit policy → large working capital requirement.
    Stringent credit policy → Small working capital requirement.
    (c) Extent of availability of raw material: If the raw materials required by the company are such
    that they are easily available, then this suggests that the firm need not maintain a large stock of
    inventories of raw material. In such situations, the company requires less working capital. On the
    other hand, if the raw materials are not easily available or their supply is not smooth, then the
    company must maintain a huge stock of raw material to ensure uninterrupted operations,
    thereby requiring a large working capital.
    Easy availability of raw material → Low working capital requirement
    Difficulty in obtaining raw material → High working capital requirement.
    (d) Scale of operations: Companies operating on a large scale require large working capital. This
    is because such companies need to maintain high stock of inventory and debtors. In contrast, if
    the scale of operations is small, the requirement of working capital will be less.
    Large scale of operation → Large working capital requirement
    Small scale of operation → Low working capital requirement
    QUESTION 20.
    The board of Directors has asked you to design the capital structure of the company. Explain
    the factors that you would consider while doing so.
    Answer. For design the capital structure of the company six factors are as following:-
    1) Cash Flow Position.
    2) Interest coverage ration(ICR)
    3) Debt Service coverage ratio(DSCR)
    4) Return on investment (ROI)
    5) Regulatory Framework
    6) Tax rate.

    QUESTION 21.
    The directors of a company have decided to expand their business activities by increasing the
    stock of raw materials and finished goods at an estimated cost of Rs. 50 lakhs, Describe the
    various ways open to the company to raise necessary finance for the purpose.
    Answer. The company can raise necessary finance for the purpose of expansion through the
    following function.
    (a) Issue of shares
    (b) Issue of debentures
    (c) Loans from banks and financial institutions.
    (d) Retained earnings.

    QUESTION 22
    Explain briefly any four factors affecting the fixed capital requirements of an organisation.
    Answer.
    Factors affecting the fixed capital requirements of an organisation:
    1. Nature of Business: the type of business is a factor in determining the fixed capital
    requirements. For e.g. Manufacturing concerns require huge capital investment in fixed assets
    but trading concerns need less fixed capital investment.
    2. Scale of Operations: A larger organization operating on large scale requires more fixed
    capital investment as compared to an organization operating on small scale.
    3. Choice of Technique: An organization using capital-intensive techniques requires more
    investment in fixed assets as compared to an organization using labour intensive techniques.
    4. Technology upgradation: An organization using obsolete assets require more fixed capital as
    compared to other organizations.
    5. Growth Prospects: Companies having higher growth prospects require more fixed capital
    investments, in order to expand their production capacity.
    6. Diversification: If a company goes for diversification then it will require more fixed capital
    Investment in plant and machinery etc.
    7. Financing Alternatives: A developed financial market can provide leasing facilities as an
    alternative to outright purchase.
    8. Level of Collaboration: If companies are under collaboration, Joint venture etc. then they
    need less fixed capital as they share plant & machinery with their collaborators.

    QUESTION 23.
    ‘Silkiya Ltd.’ is a company manufacturing silk cloth. It has been consistently earning good profits for many years. This year too, it has been able to generate enough profits. There is availability of enough cash in the company and good prospects for growth in future. It is a well-managed organisation and believes in quality, equal employment opportunities and good remuneration practices. It has many shareholders who prefer to receive a regular income from their investments. It has taken a loan of more than 60 lakhs from SBI Bank and is bound by certain restrictions on the payment of dividend according to the terms of the loan agreement. The above discussion about the company leads to various factors which decide how much profit should be retained and how much has to be distributed by the company.
    Quoting the lines from the above discussion, identify and explain any four such factors.
    Answer.
    Dividend decision has been discussed in the question.
    Quotation for dividend decision: How much of the profits should be retained and how much has
    to be distributed by the company.
    www.vedantu.com 10
    The following factors affect the dividend decision:
    1. Stable Earnings: A company with stable and smooth earnings can pay higher dividends to
    shareholders than a company, which has unstable and uneven earnings.
    Quotation for stable earnings: It has been consistently earning good profits for many years.
    2. Amount of Earning: A firm decides the dividends to be paid on the basis of its earnings.
    If the company has higher earnings, then it would be in a better position to pay dividends.
    As against this, if a company has low earnings, it would be able to pay lower dividends.
    Quotation for amount of earnings: This year too, it has been able to generate enough profits.
    3. Growth Prospects: Companies with higher growth prospects prefer to retain a greater portion
    of their earnings for future reinvestment. Accordingly, they pay lesser dividends.
    Quotation for growth prospects: There is availability of enough cash in the company and good
    prospects for growth in the future.
    4. Preference of Shareholders: The preference of shareholders must also be considered while
    taking dividend decisions. For instance, if shareholders prefer that a certain minimum amount of
    dividends be paid, then the company may declare the same.
    Quotation for preference of shareholders: It has many shareholders who prefer to receive a
    regular income from their investments.


    Question 1.
    What is meant by ‘financial management’? (CBSE, Delhi 2017)
    Answer:
    Financial Management is concerned with optimal procurement as well as usage of finance.
    Question 2.
    Somnath Ltd. is engaged in the business of export of garments. In the past, the performance of the company had been upto the expectations. In line with the latest technology, the company decided to upgrade its machinery. For this, the Finance Manager, Dalmia estimated the amount of funds required and the timings. This will help the company in linking the investment and the financing decisions on a continuous basis. Dalmia therefore, began with the preparation of a sales forecast for the next four years. Fie also collected the relevant data about the profit estimates in the coming years. By doing this, he wanted to be sure about the availability of funds from the internal sources of the business. For the remaining funds he is trying to find out alternative sources from outside. (CBSE, Delhi 2017)
    Identify the financial concept discussed in the above para. Also state the objectives to be achieved by the use of financial concept, so identified.
    Answer:
    Financial planning is the financial concept discussed in the above paragraph. The process of estimating the fund requirements of a business and specifying the sources of funds is called financial planning. It relates to the preparation of a financial blueprint of an organisation’s future operations. The objectives to be achieved by the use of financial concept are stated below:
    ·         To ensure availability of funds whenever required which involves estimation of the funds required, the time at which these funds are to be made available and the sources of these funds.
    ·         To see that the firm does not raise resources unnecessarily as excess funding is almost as bad as inadequate funding. Financial planning ensures that enough funds are available at right time.
    Question 3.
    Explain briefly any four factors which affect the choice of capital structure of a company.
    (CBSE, Delhi 2017)
    Answer:
    The four factors which affect the choice of capital structure of a company are described below:
    ·         Risk: Financial risk refers to a situation when a company is unable to meet its fixed financial charges. Financial risk of the company increases with the higher use of debt. This is because issue of debt involves fixed commitment in terms of payment of interest and repayment of capital.
    ·         Flexibility: Too much dependence on debt reduces the firm’s ability to raise debt during unexpected situations. Therefore, it should maintain flexibility by not using debt to its full potential.
    ·         Interest Coverage ratio (ICR): The interest coverage ratio refers to the number of times earnings before interest and taxes of a company covers the interest obligation. This may be calculated as follows:
    ICR = EBIT/Interest.
    If the ratio is higher, lower is the risk of company failing to meet its interest payment obligations hence debt may be issued or vice versa. But besides interest payment related repayment obligations should also be considered.
    ·         Cash flow position: The issue of debt involves a fixed commitment in the form of payment of interest and repayment of capital. Therefore if the cash flow position of the company is weak it cannot meet the fixed obligations involved in issue of debt it is likely to issue equity or vice versa.
    Question 4.
    Explain briefly any four factors that affect the working capital requirement of a company.
    (CBSE, Delhi 2017)
    Answer:
    The four factors that affect the working capital requirements of a company are explained below:
    ·         Credit availed: In case the suppliers from whom the firm procures the raw material needed for production or finished goods follow a liberal credit policy, the business can be operated on minimum working capital or vice versa.
    ·         Credit allowed: The credit terms may vary from firm to firm. However, if the level of competition is high or credit worthiness of its clients is good the firm is likely to follow a liberal credit policy and grant credit to its clients it results in higher amount of debtors, increasing the requirement of working capital or vice versa.
    ·         Scale of operations: The amount of working capital required by a business varies directly in proportion to its scale of business. For organisations which operate on a higher scale of operation, the quantum of inventory, debtors required is generally high. Such organisations, therefore, require large amount of working capital as compared to the organisations which operate on a lower scale.
    ·         Growth prospects: The business firms who wish to take advantage of a forthcoming business opportunity or plan to expand its operations will require higher amount of working capital so that is able to meet higher production and sales target whenever required or vice versa .
    Question 5.
    Explain briefly any four factors that affect the fixed capital requirements of a company.
    (CBSE, Delhi 2017)
    Answer:
    The four factors that affect the fixed capital requirements of a company are explained below:
    ·         Nature of business: The kind of activities a business is engaged in has an important bearing on its fixed capital requirements. On one hand a trading concern does not require to purchase plant and machinery etc. and needs lower investment in fixed assets. Whereas on the other hand a manufacturing organisation is likely to invest heavily in fixed assets like land, building, machinery and needs more fixed capital.
    ·         Scale of operations: The amount of fixed capital required by a business varies directly in proportion to its scale of businessA larger organisation operating at a higher scale needs bigger plant, more space etc. and therefore, requires higher investment in fixed assets when compared with the small organisation.
    ·         Diversification: If a business enterprise plans to diversify into new product lines, its requirement of fixed capital will increase as compared to an organisation which does not have any such plans.
    ·         Growth prospects: If a business enterprise plans to expand its current business operations in the anticipation of higher demand, its requirement of fixed capital will be more as compared to an organisation which doesn’t plan to persue any such plans.
    Question 6.
    What is meant by ‘Capital Structure’? (CBSE, OD 2017)
    Answer:
    Capital structure refers to the mix between owned funds and borrowed funds.
    Question 7.
    Ramnath Ltd. is dealing in import of organic food items in bulk. The company sells the items in smaller quantities in attractive packages. Performance of the company has been up to the expectations in the past. Keeping up with the latest packaging technology, the company decided to upgrade its machinery. For this, the Finance Manager of the company, Mr. Vikrant Dhull, estimated the amount of funds required and the timings. This will help the company in linking the investment and the financing decisions on a continuous basis.
    Therefore, Mr. Vikrant Dhull began with the preparation of a sales forecast for the next four years. He also collected the relevant data about the profit estimates in the coming years. By doing this, he wanted to be sure about the availability of funds from the internal sources. For the remaining funds he is trying to find out alternative sources.
    Identify the financial concept discussed in the above paragraph. Also, state any two points of importance of the financial concept, so identified. (CBSE, OD 2017)
    Answer:
    1.    Financial planning is the financial concept discussed in the above paragraph. The process of estimating the fund requirements of a business and specifying the sources of funds is called financial planning. It relates to the preparation of a financial blueprint of an organisation’s future operations.
    2.    The two points highlighting the importance of planning are described below:
    ·         It ensures smooth running of a business enterprise by ensuring availability of funds at the right time.
    ·         It helps in anticipating future requirements of a funds and evading business shocks and surprises .
    Question 8.
    When is financial leverage favourable? (CBSE, Sample Paper 2017)
    Answer:
    Financial leverage affects the profitability of a business and it is said to be favourable when return on investment ( ROI) is higher than cost of Debt.
    Question 9.
    “A business that doesn’t grow dies”, says Mr. Shah, the owner of Shah Marble Ltd. with glorious 36 months of its grand success having a capital base of RS.80 crores. Within a short span of time, the company could generate cash flow which not only covered fixed cash payment obligations but also create sufficient buffer. The company is on the growth path and a new breed of consumers is eager to buy the Italian marble sold by Shah Marble Ltd. To meet the increasing demand, Mr. Shah decided to expand his business by acquiring a mine. This required an investment of RS.120 crores. To seek advice in this matter, he called his financial advisor Mr. Seth who advised him about the judicious mix of equity (40%) and Debt (60%). Mr. Seth also suggested him to take loan from a financial institution as the cost of raising funds from financial institutions is low. Though this will increase the financial risk but will also raise the return to equity shareholders. He also apprised him that issue of debt will not dilute the control of equity shareholders. At the same time, the interest on loan is a tax deductible expense for computation of tax liability. After due deliberations with Mr. Seth, Mr. Shah decided to raise funds from a financial institution.
    1.    Identify and explain the concept of Financial Management as advised by Mr. Seth in the above situation.
    2.    State the four factors affecting the concept as identified in part (1) above which have been discussed between Mr. Shah and Mr. Seth. (CBSE,Sample Paper 2017)
    Answer:
    1.    Capital structure is the concept of Financial Management as advised by Mr. Seth in the above situation. Capital structure refers to the mix between owners funds and borrowed funds.
    2.    The four factors affecting capital structure which have been discussed between Mr. Shah and Mr. Seth are explained below:
    ·         Cashflow position: The issue of debt capital involves a fixed burden on the company in the form of payment of interest and repayment of capital. Therefore if the cash flow position of a company is good it may issue debt else equity to raise the required amount of capital.
    ·         Risk Consideration: Financial risk refers to a situation when a company is unable to meet its fixed financial charges. Financial risk of the company increases with the higher use of debt. This is because issue of debt involves fixed commitment in terms of payment of interest and repayment of capital.
    ·         Tax rate: Considering the fact that amount of interest paid is a deductible expense, cost of debt is affected by the tax rate. If for example a firm is borrowing @ 10% and the tax rate is 30%, the after tax cost of debt is only 7%. Therefore, when the tax rate is higher it makes debt relatively cheaper and increases its attraction vis-a-vis equity.
    ·         Control: The issue of debentures doesn’t affect the control of the equity shareholders over the business as the debenture holders do not have the right to participate in the management of the business.
    Question 10.
    Shalini, after acquiring a degree in Hotel Management and Business Administration, took over her family food processing company of manufacturing pickles, jams and squashes. The business had been established by her great grandmother and was doing reasonably well. However, the fixed operating costs of the business were high and the cash flow position was weak. She wanted to undertake modernisation of the existing business to introduce the latest manufacturing processes and diversify into the market of chocolates and candies. She was very enthusiastic and approached a finance consultant, who told her that approximately ? 50 lakh would be required for undertaking the modernisation and expansion programme. He also informed her that the stock market was going through a bullish phase.
    1.    Keeping the above considerations in mind, name the source of finance Shalini should not choose for financing the modernisation and expansion of her food processing business. Give one reason in support of your answer.
    2.    Explain any two other factors, apart from those stated in the above situation, which Shalini should keep in mind while taking this decision. (CBSE, Sample Paper 2016)
    Answer:
    1.    Shalini should not choose debt capital for financing the modernisation and expansion of her food processing business because the fixed operating cost of the company is high. It cannot take the additional burden of fixed commitments in terms of payment of interest and repayment of capital by issuing debt.
    2.    The other two factors that Shalini must keep in mind while taking this decision are stated below:
    ·         Risk: Financial risk refers to a situation when a company is unable to meet its fixed financial charges. Financial risk of the company increases with the higher use of debt. This is because issue of debt involves fixed commitment in terms of payment of interest and repayment of capital.
    ·         Flexibility: Too much dependence on debt reduces the firm’s ability to raise debt during unexpected situations. Therefore, it should maintain flexibility by not using debt to its full potential.
    Question 11.
    Radhika and Vani who are young fashion designers, left their job vyith a famous fashion designer chain to set-up a company ‘Fashionate Pvt. Ltd.’ They decided to run a boutique during the day and coaching classes for the entrance examination of National Institute of Fashion Designing in the evening. For the coaching centre, they hired the first floor of a nearby building. Their major expense was the money spent on photocopying of notes for their students. They thought of buying a photocopier knowing fully that their scale of operations was not sufficient to make full use of photocopier.
    In the basement of the building of Fashionate Pvt. Ltd, Praveen and Ramesh were carrying on a printing and stationery business in the name of ‘Neo Prints Pvt. Ltd.’ Radhika approached Praveen with the proposal to buy a photocopier jointly which could be used by both of them without making separate investment. Praveen agreed to this.
    Identify the factor affecting the fixed capital requirements of Fashionate Pvt. Ltd. (CBSE, Delhi 2016)
    Answer:
    The factor affecting the fixed capital requirement of Fashionable Pvt. Ltd. is the level of collaboration. This kind of arrangement of using the resources jointly helps to reduce the fixed capital requirements of the business firms.
    Question 12.
    Kay Ltd. is a company manufacturing textiles. It has a share capital of ? 60 lakhs. In the previous year, its earning per share was ? 0.50. For diversification, the company requires an additional capital of ? 40 lakhs. The company raised funds by issuing 10% debentures for the same. During the year, the company earned a profit of ? 8 lakhs on the capital employed. It paid tax @ 40%.
    1.    State whether the shareholders gained or lost, in respect of earning per share on diversification. Show your calculations clearly.
    2.    Also state any three factors that favour the issue of debentures by the company as part of its capital structure. (CBSE, OD 2016)
    OR
    Vivo Ltd. is a company manufacturing textiles. It has a share capital of Rs. 60 lakhs. The earning per share in the previous year was Rs. 0.50. For diversification, the company requires an additional capital of Rs. 40 lakhs. The company raised funds by issuing 10% debentures for the same. During the current year, the company earned a profit of Rs. 8 lakhs on the capital employed. It paid tax @ 40%.
    1.    State whether the shareholders gained a lost, in respect of earning per share on diversification. Show your calculations clearly.
    2.    Also, state any three factors that favour the issue of debentures by the company as part of its capital structure. (CBSE, Delhi 2016)
    Answer:
    1.    Let us presume that the share capital of Rs. 60 lakh is made up of Rs. 6 lakh equity shares assuming that the face value of each share is Rs.10.
    Sources
    Situation 1
    (Amount (in Rs.))
    Situation 2
    (Amount (in Rs.))
    Equity shares
    60,00,000
    60,00,000
    10 % Debentures
    NIL
    40,00,000
    Total Capital
    60,00,000
    1,00,00,000
    EBIT
    —
    8,00,000
    Less: Interest
    —
    – (4,00,000)
    EBT
    —
    4,00,000
    Less: Tax @ 40%
    —
    – (1,60,000)
    EAT
    *3,00,000
    2,40,000
    No. of shares of Rs. 10 each
    6,00,000
    6,00,000
    EPS
    0.50
    2,40,000/6,00,000 = 0.40
    2.    *0.50 x 6,00,000 = 3,00,000
    Consequently EBT/EBIT in situation 1 = Rs. 5,00,000
    Thus, on diversification, the earning per share fell down from Rs. 0.50 to Rs. 0.40.
    3.    The three factors that favour the issue of debentures by the company as part of its capital structure are as follows:
    ·         Tax deductibility: Debt is considered to be a relatively cheaper source of finance as the amount of interest paid on debt is treated as a tax deductible expense.
    ·         Flotation cost: The money spent by the company on raising capital through debentures is less than that spent on equity.
    ·         Control: The issue of debentures doesn’t affect the control of the equity shareholders over the business as the debenture holders do not have the right to participate in the management of the business.
    Question 13.
    Rizul Bhattacharya, after leaving his job, wanted to start a Private Limited Company with his son. His son was keen that the company may start manufacturing mobile-phones with some unique features. Rizul Bhattacharya felt that mobile phones are prone to quick obsolescence and a heavy fixed capital investment would be required regularly in this business. Therefore, he convinced his son to start a furniture business.
    Identify the factor affecting fixed capital requirements which made Rizul Bhattacharya choose the furniture business over mobile phones. (CBSE, OD 2016)
    Answer:
    The factor affecting the fixed capital requirements which made Rizul Bhattacharya choose the furniture business over mobile phones is technological upgradation.
    Question 14.
    Tata International Ltd. earned a net profit of Rs. 50 crores. Ankit, the finance manager of Tata International Ltd. wants to decide how to appropriate these profits. Discuss any five factors which will help him in taking this decision. (CBSE, Sample Paper, 2015)
    Answer:
    The five factors which will help Ankit, in taking the dividend decision are described below:
    ·         Earnings: Since the dividends are paid out of current and past earnings, there is a direct relationship between the amount of earnings of the company and the rate at which it declares dividend. If the earnings of the company are high, it may declare a higher dividend or vice-versa.
    ·         Cash flow position: Since the dividends are paid in cash, if the cash flow position of the company is good it may declare higher dividend or vice-versa.
    ·         Access to capital market: If the company enjoys an easy access to capital market because of its credit worthiness. It does not feel the need to depend entirely on retained earnings to meet its financial needs. Hence, it may declare higher dividend or vice-versa.
    ·         Growth prospects: If the company has any forthcoming investment opportunities, it may like to retain profits to finance its expansion projects. This is because retained profits is considered to be the cheapest source of finance as it doesn’t involve any explicit costs. Hence, it may declare lower dividend or vice-versa.
    ·         Preferences of the shareholders: The companies paying stable dividends are always preferred by small investors primarily if they want regular income in the form of ‘stable returns’ from their investments. Large shareholders may be willing to forgo their present dividend in pursuit of higher profits in future. Therefore, the preferences of the shareholders must be taken into consideration.
    Question 15.
    ‘Abhishek Ltd’ is manufacturing cotton clothes. It has been consistently earning good profits for many years. This year too, it has been able to generate enough profits. There is availability of enough cash in the company and good prospects for growth in future. It is a well managed organisation and believes in quality, equal employment opportunities and good remuneration practices. It has many shareholders who prefer to receive a regular income from their investments.
    It has taken a loan of Rs. 50 lakhs from ICICI Bank and is bound by certain restrictions on the payment of dividend according to the terms of the loan agreement.
    The above discussion about the company leads to various factors which decide how much of the profits should be retained and how much has to be distributed by the company. Quoting the lines from the above discussion, identify and explain any four such factors. (CBSE, 2015)
    Answer:
    The five factors which Ankit has to consider before taking dividend decisions are:
    1.    Growth Opportunities: Financial needs of a firm are directly related to the investment opportunities available to it. If a firm has abundant profitable investment opportunities, it will adopt a policy of distributing lower dividends. It would like to retain a large part of its earnings because it can reinvest them at a higher rate.
    2.    Stability of Dividends: Investors always prefer a stable dividend policy. They expect to get a fixed amount as dividends which should increase gradually over the years.
    3.    Legal Restrictions: A firm’s dividend policy has to be formulated within the legal provisions and restrictions of the Indian Companies Act.
    4.    Restrictions in Loan Agreements: Lenders, mostly financial institutions, put certain restrictions on the payment of dividends to safeguard their interests.
    5.    Liquidity: The cash position is a significant factor in determining the size of dividends. Higher the cash and overall liquidity position of a firm, higher will be its ability to pay dividends.
    Question 16.
    Amit is running an ‘advertising agency’ and earning a lot by providing this service to big industries State whether the working capital requirement of the firm will be ‘less’ or ‘more’. Give reason in support of your anser. (CBSE, Sample Paper 2014-15)
    Answer:
    The working capital requirements of Amit will be relatively less as he is running an advertising agency, wherein there is no need to maintain inventory.
    Question 17.
    Yogesh, a businessman, is engaged in the purchase and sale of ice-creams. Identify his working capital requirements by giving reasons to support your answer. Now, he is keen to start his own ice-cream factory. Explain any two factors that will affect his fixed capital requirements. (CBSE, OD 2012)
    Answer:
    1.    The working capital requirements of Yogesh will be less as he is engaged in trading business.
    2.    The two factors that will affect his fixed capital requirements when he will start his own ice-cream factory are described below:
    ·         Level of collaboration: If Yogesh gets an opportunity to set up his factory in collaboration with another enterprise, his fixed capital requirements will reduce considerably else his fixed capital requirements will be more.
    ·         Financial alternatives available: If Yogesh is able to get the place to start the factory and machinery on lease, his fixed capital requirements will reduce considerably. Whereas if he decides to purchase them, his fixed capital requirements will be more.
    Question 18.
    Amar is doing his transport business in Delhi. His buses are generally used for tourists going to Jaipur and Agra. Identify the working capital requirements of Amar. Give reasons to support your answer. Further, Amar wants to expand and diversify his transport business. Explain any two factors that will affect his fixed capital requirements. (CBSE, OD, 2012)
    Answer:
    1.    The working capital requirements of Amar will be relatively less as he is engaged in prtividing transport services wherein there is no need to maintain inventory.
    2.    The factors affecting the fixed capital needs of his business are as follows:
    ·         Diversification: If a business enterprise plans to diversify into new product lines, its requirement of fixed capital will increase.
    ·         Growth prospects: If a business enterprise plans to expand its current business operations in the anticipation of higher demand, consequently, more fixed capital will be needed by it.
    Question 19.
    Manish is engaged in the business of manufacturing garments. Generally, he used to sell his garments in Delhi. Identify the working capital requirements of Manish giving reason in support of your answer. Further, Manish wants to expand and diversify his garments business. Explain any two factors that will affect his fixed capital requirements. (CBSE, Delhi 2012)
    Answer:
    1.    The working capital requirements of Manish will be relatively more as he is engaged in the business of manufacturing garments. This is because the length of production cycle is longer i.e. it takes time to convert raw material into finished goods.
    2.    The factors affecting the fixed capital needs of his business are as follows:
    ·         Scale of Operations: The amount of fixed capital required by a business enterprise is directly proportionate to its scale of operations. Therefore, if Manish plans to do business on a large scale, his fixed capital requirements will be more or vice versa.
    ·         Technological Upgradation: If Manish plans to use machines of latest technology in manufacturing garments, his fixed capital requirements will be more as replacement of obsolete machines will require huge financial outlay.
    Question 20.
    Harish is engaged in the warehousing business and his warehouses are generally used by businessmen to store fruits. Identify the working capital requirements of Harish giving reasons in support of your answer. Further, Harish wants to expand and diversify his warehousing business. Explain any two factors that will affect his fixed capital requirements. (CBSE, Delhi 2012)
    Answer:
    1.    The working capital requirements of Harish will be relatively less as he is engaged in providing warehousing services wherein there is no need to maintain inventory.
    2.    The factors affecting the fixed capital needs of his business are as follows:
    ·         Diversification: If a business enterprise plans to diversify into new product lines, its requirement of fixed capital will increase.
    ·         Scale of Operations: The amount of fixed capital required by a business enterprise is directly proportionate to its scale of operations. Therefore, if Harish plans to do business on a large scale his fixed capital requirements will be more or vice versa.
    ADDITIONAL QUESTIONS
    Question 1.
    Arun is a successful businessman in the paper industry. During his recent visit to his friend’s place in Mysore, he was fascinated by the exclusive variety of incense sticks available there. His friend tells him that Mysore region is known as a pioneer in the activity of Agarbathi manufacturing because it has a natural reserve of forest products especially Sandalwood to provide for the base material used in production. Moreover, the suppliers of other types of raw material needed for production follow a liberal credit policy and the time required to manufacture incense sticks is relatively less. Considering the various factors, Arun decides to venture into this line of business by setting up a manufacturing unit in Mysore.
    In context of the above case:
    1.    Identify and explain the type of financial decision taken by Arun.
    2.    Identify the three factors mentioned in the paragraph which are likely to affect the working capital requirements of his business.
    Answer:
    1.    Investment decision has been taken by Arun. Investment decision seeks to determine as to how the firm’s funds are invested in different assets. It helps to evaluate new investment proposals and select the best option on the basis of associated risk and return. Investment decision can be long term or short-term. A long-term investment decision is also called a Capital Budgeting decision
    2.    The three factors mentioned in the paragraph which are likely to reduce the working
    capital requirements of his business are as follows: .
    ·         Availability of raw material: As there is easy availability of Sandalwood which is used as the base material for production, the working capital requirements of his business will be less as there is no need to stock the raw materials.
    ·         Production cycle: The production cycle is shorter and less time is required to manu¬facture incense sticks. Thus, the working capital requirements of his business will be low.
    ·         Credit availed: Due to the fact that the suppliers of other types of raw material needed for production follow a liberal credit policy, the business can be operated on minimum working capital.
    Question 2.
    ‘Adwitiya’ is a company enjoying market leadership in the food brands segment. It’s portfolio includes three categories in the Foods business namely Snack Foods, Juices and Confectionery. Keeping in line with the growing demand for packaged food it now plans to introduce Ready- To-Eat Foods. Therefore, the company has planned to undertake investments of nearly Rs. 450 crores for its new line of business. As per the current financial report, the interest coverage ratio of the company and return on investment is higher. Moreover, the corporate tax rate is high.
    In context of the above case:
    1.    As a financial manager of the company, which source of finance will you opt for debt or equity, to raise the required amount of capital? Explain by giving any two suitable reasons in support of. your answer.
    2.    Why are the shareholder’s of the company like to gain from the issue of debt by the company?
    Answer:
    1.    As a financial manager of the company, I will opt for debt to raise the required amount of capital.
    I support my decision by giving the following reasons:
    ·         Interest coverage ratio: The interest coverage ratio of the company is high so it can easily meet its fixed commitment of payment of interest and repayment of capital.
    ·         Tax rate: The tax rate is high which makes debt relatively cheaper as the amount of interest paid on debt is treated as a tax deductible expense.
    2.    The shareholders of the company are likely to gain from the issue 6f debt by the company because the return on investment is higher. It helpS a company to take advantage of trading on equity to increase the earnings per share.
    Question 3.
    Computer Tech Ltd.,is one of the leading information technology outsourcing services providers in India. The company provides business consultancy and outsourcing services to its clients. Over the past five years the company has been paying dividends at high rate to its shareholders. However, this year, although the earnings of the company are high, its liquidity position is not so good. Moreover, the company plans to undertake new ventures in order to expand its business.
    In context of the above case: .
    1.    Give any three reasons because of which you think Computer Tech Ltd. has been paying dividends at high rate to its shareholders over the past five years.
    2.    Comment upon the likely dividend policy of the company this year by stating any two reasons in support of your answer.
    Answer:
    1.    Computer Tech Ltd. has been paying dividends at high rate to its shareholders over the past five years because of the following reasons:
    ·         Earnings: The earnings of the company have been high. Since the dividends are paid out of current and past earnings, there is a direct relationship between the amount of earnings of the company and the rate at which it declares dividend .
    ·         Cashflow position: The cash flow position of the company must have been good as in order to pay high dividends, more cash is required.
    ·         Access to capital market: Because of its credit worthiness, the company enjoyed an easy access to capital market. Therefore, it did not feel the need to depend entirely on retained earnings to meet its financial needs. Hence, it declared higher dividends in past.
    2.    This year the company is likely to follow a conservative dividend policy because of the following reasons:
    ·         The cash flow position of the company is not good and dividends are paid in cash.
    ·         The company may like to retain profits to finance its expansion projects. Retained profits do not involve any explicit cost and are considered to be the cheapest source of finance.
    Question 4.
    Bhuvan inherited a very large area of agricultural land in Haryana after the death of his grandfather. He plans to sell this piece of land and use the money to set up a small scale paper factory to manufacture all kinds of stationary items from recycled paper. Being an amateur in business, he decides to consult his friend Subhash who works in a financial consultancy firm. Subhash helps him to prepare a blue print of his future business operations on the basis of sales forecast in next five years. Based on these estimates, he helps Bhuvan to assess the fixed and working capital requirements of business.
    In context of the above case:
    1.    Identify the type of financial service that Subhash has offered to Bhuvan.
    2.    Briefly state any four points highlighting the importance of the type of financial service
    identified in part (1).
    Answer:
    1.    Financial planning is the type of financial service that Subhash has offered to Bhuvan.
    2.    The four points highlighting the importance of financial planning are as follows:
    ·         It ensures smooth running of a business enterprise by ensuring availability of funds at the right time.
    ·         It helps in anticipating future requirements of a funds and evading business shocks and surprises.
    ·         It facilitates co-ordination among various departments of an enterprise like marketing and production functions, through well-defined policies and procedures.
    ·         It increases the efficiency of operations by curbing wastage of funds, duplication of efforts, and gaps in planning.
    Question 5.
    ‘Madhur Milan’ is a popular online matrimonial portal. It seeks to provide personalized match making service. The company has 80 offices in India, and is now planning to open offices in Singapore, Dubai and Canada to cater to its customers beyond the country. The company has decided to opt for the sources of equity capital to raise the required amount of capital.
    In context of the above case:
    1.    Identify and explain the type of risk which increases with the higher use of debt.
    2.    Explain briefly any four factors because of which you think the company has decided to opt for equity capital.
    Answer:
    1.    Financial risk of the company increases with the higher use of debt. This is because issue of debt involves fixed commitment in terms of payment of interest and repayment of capital. Financial risk refers to a situation when a company is unable to meet its fixed financial charges.
    2.    The factors because of which the company has decided to opt for equity capital are as follows:
    ·         Capital market conditions: The state of capital market is bullish, so people are likely to invest more in equity.
    ·         Fixed operating cost: The fixed operating cost of company is high so it cannot take the further burden fixed commitment in terms of payment of interest and repayment of capital by issuing debt.
    ·         Cashflow position: The cash flow position of the company is weak so it cannot meet the fixed obligations involved in issue of debt.
    ·         Risk: The proportion of debt in its capital structure is already high so it cannot issue further debt, thereby endangering the solvency of the company.
    Question 6.
    Wooden Peripheral Pvt. Ltd. is counted among the top furniture companies in Delhi. It is known for offering innovative designs and high quality furniture at affordable prices. The company deals in a wide product range of home and office furniture through its eight showrooms in Delhi. The company is now planning to open five new showrooms each in Mumbai and Bangalore. In Bangalore it intends to take the space for the showrooms on lease whereas for opening showrooms in Mumbai, it has collaborated with a popular home furnishing brand, ‘Creations.’
    1.    Identify the factors mentioned in the paragraph which are likely to affect the fixed capital requirements of the business for opening new showrooms both in Bangalore and Mumbai separately,
    2.    “With an increase in the investment in fixed assets, there is a commensurate increase in the working capital requirement.” Explain the statement with reference to the case above.
    Answer:
    1.    The fixed capital requirements of Wooden Peripheral Pvt. Ltd. for opening new showrooms in Bangalore will be relatively less as its taking space on lease, so only rentals have to be paid.
    Similarly, its fixed capital requirement for opening showrooms in Mumbai will be reduced as its going to share the costs with another company through collaboration.
    2.    It’s true that,” With an increase in the investment in fixed assets, there is a commen¬surate increase in the working capital requirement.” Like in the above case, Wooden Peripheral Pvt. Ltd. is planning to invest in new showrooms. Consequently, its requirement of working capital will increase as it will need more money to stock goods, pay electricity bills and salaries to staff. Also, it intends to take the space for the showrooms in Mumbai on lease so it will have to pay rentals.
    Question 7.
    ‘Apparels’ is India’s second largest manufacturer of branded Lifestyle apparel. The company now plans to diversify into personal care segment by launching perfumes, hair care and skin are products. Moreover, it is planning to open ten exclusive retail outlets in various cities across the country in next two years.
    In context of the above case:
    1.    Identify the two factors affecting the fixed capital needs of the company by quoting lines from the paragraph.
    2.    Why is the management of fixed capital considered to be an important for a business?
    Answer:
    1.    The factors affecting the fixed capital needs of the company are as follows:
    ·         Diversification: If a business enterprise plans to diversify into new product lines, its requirement of fixed capital will increase.
    ·         Growth prospects: If a business enterprise plans to expand its current business operations in the anticipation of higher demand, consequently, more fixed capital will be needed by it.
    2.    The management of fixed capital is considered important because:
    ·         It affects the growth and profitability of business in future.
    ·         It involves huge investment outlay in terms of investment in land, building, machinery etc.
    ·         It influences the overall level of business risk of the organisation.
    ·         If these decisions are reversed, they may lead to major losses.
    Question 8.
    After persuing a course in event management, Kajal and her brother Kamal promoted an event management company under the name Khushi Entertainment Private Limited. They strive together as dedicated and dynamic professionals managing different kinds of formal and informal events across all major cities in India and abroad. They design the event idea and co-ordinate the different aspects of the event to make it a grand success. As a policy, they take fifty percent of the payment as advance from the client before the start of an event and receive the balance charges after the successful completion of the event.
    In context of the above case:
    1.    Comment upon the working capital needs of the company keeping in mind its nature of business.
    2.    Identify the other factor mentioned in the paragraph which is likely to affect the working capital requirement of their business.
    Answer:
    1.    The working capital requirements of Khushi Entertainment Private Limited will be relatively less as they are engaged in providing event management services, wherein there is no need to maintain inventory
    2.    The other factor mentioned in the paragraph which is likely to affect the working capital requirement of their business is ‘Credit availed.’ Since as a policy, they take fifty percent of the payment as advance from the client before the start of an event, their requirement of working capital is reduced.
    Question 9.
    Storage Solution Ltd. is a large warehousing network company operating. through a chain of warehouses at 40 different locations across India. The company now intends to undertake computerisation of its owned ware houses as it seeks to provide better value added and cost effective solutions for scientific storage and preservation services to the market participants dealing in agricultural products including farmers, traders, etc.
    In context of the above case:
    1.    How is the decision to undertake computerisation of owned warehouses likely to affect the fixed capital requirements of its business?
    2.    Name any two sources that company may use to finance the implementation of this plan.
    Answer:
    1.    The decision to undertake computerisation of owned warehouses will increase the fixed capital requirements of its business both in present and future as after sometime, the technology being used will become obsolete and need upgradation.
    2.    The company may use retained earnings and take loans from financial institutions to implement this plan.
    Question 10.
    Visions Ltd. is a renowned multiplex operator in India. Presently, it owns 234 screens in 45 properties at 20 locations in the country. Considering the fact that the there is a growing trend among the people to spend more of their disposable income on entertainment, two years back the company had decided to add more screens to its existing set up and increase facilities to enhance leisure, food chains etc. It had then floated an initial public offer of equity shares in order to raise the desired capital. The issue was fully subscribed and paid. Over the years, the sales and profits of the company have increased tremendously and it has been declaring higher dividend and the market price of its shares has increased manifolds.
    In context of the above case:
    1.    Name the different kinds of financial decisions taken by the company by quoting lines from the paragraph.
    2.    Do you think the financial management team of the company has been able to achieve its prime objective? Why or why not? Give a reason in support of your answer.
    Answer:
    1.    The different kinds of financial decisions taken by the company are as follows:
    ·         Investment decision: “Two years back the company had decided to add more screens to its existing set up and increase facilities to enhance leisure, food chains etc.”
    ·         Financing decision: “It had then floated an initial public offer of equity shares in order to raise the desired capital.”
    ·         Dividend decision: “Over the years, the sales and profits of the company have increased tremendously and it has been declaring higher dividend.”
    2.    Yes, the financial management team of the company has been able to achieve its prime objective i.e. wealth maximisation of the shareholders by maximising the market price of the shares of the company.
    Question 11.
    After completing his education in travel and tourism, Arjun started Travel Angels Pvt. Ltd. along with his twin brother Bheem. Their company seeks to provide travel solutions to its clients like ticket booking for airways, railways and road ways, hotel booking, insurance etc. Although the business is doing well both of them have realised that they are not good in managing finance, and feel confused and frustrated sometimes due to financial crises that may suddenly arise. In order to avoid such situations in the future, they hire Nakul and Sehdev as financial managers, who have done a degree certification course in financial management.
    In context of the above
    1.    Give the meaning of financial management.
    2.    Outline the role of Nakul and Sehdev as the financial management team of the Travel Angels Pvt. Ltd. by giving any four suitable points.
    Answer:
    1.    Financial Management is concerned with optimal procurement as well as usage of finance.
    2.    Nakul and Sehdev will play a very important role as the financial management team of the Travel Angels Pvt. Ltd. in managing the financial health of the company:
    ·         To determine the capital requirements of business both long-term and short term.
    ·         To determine the capital structure of the company and determine the sources from where required capital will be raised keeping in view the risk and return matrix.
    ·         To ensure efficient management of cash in order to ensure both liquidity and profitability.
    ·         To exercise overall financial control in order to promote s’afety, profitability and conservation of funds.
    Question 12.
    Wireworks Ltd. is a company manufacturing different kinds of wires. Despite fierce competition in the industry, it has been able to maintain stability in its earnings and as a policy, uses 30% of its profits to distribute dividends. The small investors are very happy with the company as it has been declaring high and stable dividend over past five years.
    In context of the above case:
    1.    State any one reason because of which the company has been able to declare high dividend by quoting line from the paragraph.
    2.    Why do you think small investors are happy with the company for declaring stable dividend?
    Answer:
    1.    Stability in earnings: The company has been able to declare high dividend because its earnings are stable.
    “Despite fierce competition in the industry, it has been able to maintain stability in its earnings.”
    2.    The small investors are happy with the company for declaring stable dividend as they enjoy a regular income on their investment.
    Question 13.
    Manoj is a renowned businessman involved in export business of leather goods. As a responsible citizen, he chooses to use jute bags for packaging instead of plastic bags. Moreover, on the advice of his friends, he decides to use jute for manufacturing aesthetic handicrafts, keeping in view the growing demand for natural goods. In order to implement his plan, after conducting a feasibility study, he decides to set up a separate manufacturing unit for producing varied jute products.
    In context of the above case:
    1.    Identify the type of investment decision taken by Manoj by deciding to set up a separate manufacturing unit for producing jute products.
    2.    State any two factors that he is likely to consider while taking this decision
    Answer:
    1.    Capital budgeting decision has been taken by Manoj.
    2.    The factors affecting Capital Budgeting Decision are as follows:
    ·         Cash inflows: The expected cash inflows from the proposed projects should be carefully analysed and the project indicating higher cash inflows should be selected.
    ·         Rate of return: The expected rate of return should be carefully studied in terms of risk associated from the proposed project. If two projects are likely to offer the same rate of return, the project involving lesser risk should be selected.
    Question 14.
    Khoobsurat Pvt. Ltd. is the largest hair salon chain in the Delhi, with over a franchise of 200 salons. The company is now planning to set up a manufacturing unit in Faribadad for production of various kinds of beauty products under its own brand name.
    In context of the above case:
    1.    Comment upon the fixed capital needs of the company.
    2.    How will the requirement of fixed capital of the company change when it implements its plan to set up a manufacturing unit?
    Answer:
    1.    The fixed capital needs of the company are low as its salons have been promoted in the form of franchises.
    2.    The requirement of fixed capital of the company will increase when it implements its plan to set up a manufacturing unit because it will have to make investments in buying land, building, machinery etc.
    Question 15.
    Well-being Ltd. is a company engaged in production of organic foods. Presently, it sells its products through indirect channels of distribution. But, considering the sudden surge in the demand for organic products, the company is now inclined to start its online portal for direct marketing. The financial managers of the company are planning to use debt in order to take advantage of trading on equity. In order to finance its expansion plans, it is planning to ‘ raise a debt capital of Rs. 40 lakhs through a loan @ 10% from an industrial bank. The present capital base of the company comprises of Rs. 9 lakh equity shares of Rs. 10 each. The rate of tax is 30%.
    In the context of the above case:
    1.    What are the two conditions necessary for taking advantage of trading on equity?
    2.    Assuming the expected rate of return on investment to be same as it was for the current year i.e. 15% , do you think the financial managers will be able to meet their goal. Show your workings clearly.
    Answer:
    1.    The two conditions necessary for taking advantage of trading on equity are :
    ·         The rate of return on investment should be more than the rate of interest.
    ·         The amount of interest paid should be tax deductible.
    2.     
    Sources
    Situation 1
    Amount (in Rs.)
    Situation 2
    Amount (in Rs.)
    Equity shares
    90,00,000
    90,00,000
    10 % Debentures
    NIL
    40,00,000
    Total Capital
    90,00,000
    1,30,00,000
    EBIT
    13,50,000
    19,50,000
    Less: Interest
    —
    – (4,00,000)
    EBT
    13,50,000
    15,50,000
    Less: Tax @ 30%
    – (4,05,000)
    – (4,65,000)
    EAT
    9,45,000
    10,85,000
    No. of shares of Rs. 10 each
    9,00,000
    9,00,000
    EPS
    9,45,000/9,00,000
    = 1.05
    10,85,000/9,00,000
    = 1.21
    Yes, the financial managers will be able to meet their goal as the projected EPS, with the issue of debt, is higher than the present EPS.
     Q. 1. Arun is a successful businessman in the paper industry. During his recent visit to his

    friend’s place in Mysore, he was fascinated by the exclusive variety of incense sticks
    available there. His friend tells him that Mysore region in known as a pioneer in the activity
    of Agarbathi manufacturing because it has a natural reserve of forest products especially
    Sandalwood to provide for the base material used in production. Moreover, the suppliers of
    other types of raw material needed for production follow a liberal credit policy and the time
    required to manufacture incense sticks is relatively less. Considering the various factors,
    Arun decides to venture into this line of business by setting up a manufacturing unit in
    Mysore.
    In context of the above case:
    1. Identify of the above case:
    2. Identify the three factors mentioned in the paragraph which are likely to affect the
    working capital requirements of his business.
    Ans.
    1. Investment decision has been taken by Arun. Investment decision seeks to
    determine as to how the firm’s funds are invested in different assets. It helps to
    evaluate new investment proposals and select the best option on the basis of
    associated risk and return. Investment decision can be long term or short-term. A
    long-term investment decision is also called a Capital Budgeting decision
    2. The three factors mentioned in the paragraph which are likely to reduce the working
    capital requirements of his business are as follows:
    1. Available of raw material:
    2. Production cycle:
    3. Credit availed:

    Q. 2. ‘Adwitiya’ is a company enjoying market leadership in the food brands segment. It’s
    portfolio includes three categories in the Foods business namely Snack Foods, Juices and
    Confectionery. Keeping in the with the growing demand for packaged food it now plans to
    introduce ready-To-Eat Foods. Therefore, the company has planned to undertake
    investments of nearly Rs. 450 crores for its new line of business. As per the current
    financial report, the interest coverage ratio of the company and return on investment is
    higher. Moreover, the corporate tax rate is high.
    In context of the above case:
    1. As a financial manager of the company, which source of finance will you opt for debt
    or equity, to raise the required amount of capital? Explain by giving any two suitable
    reasons in support of your answer.
    2. Why are the shareholder’s of the company like to gain from the issue of debt by the
    company?
    Ans.
    1. As a financial manager of the company, I will opt for debt to raise the required
    amount of capital.
    I support my decision by giving the following reasons:
    1. Interest coverage ratio:
    2. Tax rate:
    1. The shareholders of the company are likely to gain from the issue of debt by the
    company because the return on investment is higher. It helps a company to take
    advantage of trading on equity to increase the earnings per share.

    Q. 3. Computer Tech Ltd., is one of the leading information technology outsourcing services
    providers in India. The company provides business consultancy and outsourcing services to
    its clients. Over the past five years the company has been paying dividends at high rate to
    its shareholders. However, this year, although the earnings of the company are high, its
    liquidity position is not so good. Moreover, the company plans to undertake new ventures in
    order to expand its business.
    In context of the above case:
    1. Give any three reasons because of which you think Computer Tech Ltd. has been
    paying dividends at high rate to its shareholders over the past five years.
    2. Comment upon the likely dividend policy of the company this years by stating any two
    reasons in support of your answer.
    Ans.
    1. Computer Tech Ltd. has been paying dividends at high rate to its shareholders over
    the past five years because of the following reasons:
    1. Earnings:
    2. Cash flow position:
    3. Access to capital market:
    1. This year the company is likely to follow a conservative dividend policy because of
    the following reasons:
    1. The cash flow position of the company is not god and dividends are paid in cash.
    2. The company may like to retain profits to finance its expansion projects. Retained
    profits do not involve any explicit cost and are considered to be the cheapest source
    of finance.

    Q. 4. Bhuvn inherited a very large area of agricultural land in Haryana after the death of his
    grandfather. He plans to sell this piece of land and use the money to set up a small scale
    paper factory to manufacture all kinds of stationary items from recycled paper. Being an
    amateur in business, he decides to consult his friend Subhash who works in a financial
    consultancy firm. Subhash helps him to prepare a blue print of his future business
    operations on the basis of sales forecast in next five years. Based on these estimates, he
    helps Bhuvan to assess the fixed and working capital requirements of business.
    In context of the above case:
    1. Identify the type of financial service that Subhash has offered to Bhuvan.
    2. Briefly state any four points highlighting the importance of the type of financial service
    identified in part (a)
    Ans.
    1. Financial planning is the type of financial service that Subhash has offered to
    Bhuvan.
    2. The four points highlighting the importance of financial planning are as follows:
    1. It ensures smooth running of a business enterprise by ensuring availability of funds at
    the right time.
    2. It helps in anticipating future requirements of a funds and evading business shocks
    and surprises.
    3. It facilitates co-ordination among various departments of an enterprise like marketing
    and production function, through well-defined policies and procedures.
    4. It increases the efficiency of operations by curbing wastage of funds, duplication of
    efforts, and gaps in planning.

    Q. 5. ‘Madhur Milan’ is a popular online matrimonial portal. It seeks to provide personalized
    match making service. The company has 80 offices in India, and is now planning to open
    offices in Singapore, Dubai and Canada to cater to its customers beyond the country. The
    company has decided to opt for the sources of equity capital to raise the required amount of
    capital.
    In context of the above case:
    1. Identify and explain the type of risk which increases with the higher use of debt.
    2. Explain briefly any four factors because of which you think the company has decided
    to opt for equity capital.
    Ans.
    1. Financial risk of the company increases with the higher use of debt. This is because
    issue of debt involves fixed commitment in terms of payment of interest and
    repayment of capital. Financial risk refers to a situation when a company is unable to
    meet its fixed financial charges.
    2. The factors because of which the company has decided to opt for equity capital are
    as follows:
    1. Capital market conditions:
    2. Fixed operating cost:
    3. Cash flow position:
    4. Risk:

    Q. 6. Wooden Peripheral Pvt. Ltd. is counted among the top furniture companies in Delhi. It
    is known for offering innovative designs and high quality furniture at affordable prices. The
    company deals in a wide product range of home and office furniture through its eight
    showrooms in Delhi. The company is now planning to open five new showrooms each in
    Mumbai and Bangalore. In Bangalore it intends to take the space for the showrooms on
    lease whereas for opening showrooms in Mumbai, it has collaborated with a popular home
    furnishing brand, ‘Creations.’
    1. Identify the factors mentioned in the paragraph which are likely to affect the fixed
    capital requirements of the business for opening new showrooms both in Bangalore
    and Mumbai separately.
    2. “With an increase in the investment in fixed assets, there is a commensurate increase
    in the working capital requirement.” Explain the statement with reference to the case
    above.
    Ans.
    1. The fixed capital requirements of Wooden Peripheral Pvt. Ltd. for opening new
    showrooms in Bangalore will be relatively less as its taking space on lease, so only
    rentals have to be paid.
    Similarly, its fixed capital requirement for opening showrooms in Mumbai will be reduced as
    its going to share the costs with another company through collaboration.
    1. It’s true that, “ With an increase in the investment in fixed assets, there is a
    commensurate increase in the working capital requirements,” Like in the above case,
    Wooden Peripheral Pvt. Ltd. is planning to investment in new showrooms.
    Consequently, its requirement of working capital will increase s it will need more
    money to stock goods, pay electricity bills and salaries to staff. Also, it intends to
    take the space for the showrooms I Mumbai on lease so it will have to pay rentals.

    Q. 7. Krishna Ltd. is manufacturing steel at its plant at Noida. Due to economic growth, the
    demand for steel is also growing. The company is planning to set up a new steel plant at
    Gurgaon. It needs Rs. 800 crore to start the new plant. It decides to raise Rs. 300 crore
    through debentures, Rs. 200 crore through long-term loan from banks and Rs. 200 crore by
    issue of equity share to the public. It decided to finance the remaining amount by utilizing its
    reserves and surplus.
    1. State the importance of financial planning for this company.
    2. What is the capital structure of this company? Explain.
    3. Identify the financial decision involved when the company decides to raise Rs. 800
    crore from different sources of funds.
    4. How will the dividend decision of Krishna Ltd. be affected? Explain. (6
    marks)
    Ans.
    1. Financial planning will help the company in avoiding business shocks and surprises.
    It will reduce waste and duplication of efforts.
    2. Capital structure refers to the mix between owners funds and borrowed funds. It is
    calculated as debt equity ratio
    i.e., Debit.
    Equity
    For Krishna Ltd.
    Debt = Debentures + Long tgerm loans from banks = 300 + 200 = Rs. 500 crore.
    Equity = Share capital + Reserves and surplus (or retained earnings)
    = 200 + 100 = Rs. 300 crores.
    Therefore, debt equity ratio = 500 = 1.67 : 1
    300
    1. Financing decision
    2. Since the company have growth opportunities of setting up a new steel plant at
    Gurgaon, it retains Rs. 100 crore out of profits to finance the required investment.
    So, it is likely to pay less dividend. However, since the company makes more debt
    financing than funding through equity, it implies that cash flow position of the
    company is strong. Therefore, it can pay higher dividend.

    Q. 8. Cost of debt is less than cost of equity. Still a company cannot go with entire debt.
    Why? (3 marks)
    Ans. Because debt is more risky for a business, since payment of interest and return
    principal amount is compulsory for the business. Any default in meeting these commitments
    may force the business to go into liquidation. That is, increased use of debt increases
    financial risk of a business (the chance that a firm would fail to pay interest on debt and the
    principal amount).

    Q. 9. Amar is doing his transport business in Delhi. His buses are generally used for the
    tourists going to Jaipur and Agra. Identify the working capital requirement of Amar giving
    reason in support of your answer. Further Amar wants to expand and diversify his Transport
    business. Enumerate any four factors that will affect his fixed capital requirements.(3Marks)
    Ans. Working capital requirements of Amar would be less as it is a SERVICE industry.
    Factors which will affects his fixed capital requirements are:
    1. Scale of operations
    2. Financing alternatives
    3. Growth prospects
    4. Diversification

    Q. 10. Yogesh, a business man is engaged in publishing and selling of Ice-creams. Identify
    the working capital requirement of Yogesh giving reason in support of your answer. (1 Mark)
    Ans. Working capital requirements of Yogesh would be less as it is a TRADING business.

    Q. 11. Manish is engaged in business of garments manufacturing. Identify the working
    capital requirement of Manish giving reason in support of your answer. (1 Mark)
    Ans. Working capital requirements of Manish would be less as it is a MANUFACTURING
    business. So raw material needs to be converted into finished goods before any sales can
    become possible.

    Q. 12. The directors of a manufacturing company are thinking of issuing Rs. 20 crores worth
    additional debentures for expansion of their production capacity. This will lead to n increase
    in debt equity ratio from 2 : 1 to 3 : 1. What are the risks involved in it? What factors other
    than risk do you think the directors should keep in view before taking the decision? Name
    any four factors. (3
    Marks)
    Ans. Higher use of debt increases the fixed financial charges of a business because
    payment of interest and return of principal amount is compulsory. Any default in meeting
    these commitments may force the business to go into liquidation. As a result, increased use
    of debt increases the financial risk of a business. Financial risk is the chance that a firm
    would fail to meet its payment obligations.
    Other factors affecting this decision are:
    1. Cost
    2. Cash flow position
    3. Control
    4. Return on investment (ROI)

    Q. 13. Amit is running an ‘Advertising agency’ and earning a lot by providing this service to
    big industries. State whether the working capital requirement of the firm will be ‘less’ or
    ‘more’. Give reason in support of your answer. 1 Mark)
    Ans. Less working capital is required as service industries which usually do not have to
    maintain inventory require less working capital.

    Q. 14. Tata International Ltd. earned a net profit of Rs. 50 crores. Ankit the finance
    manager of Tata International Ltd. wants to decide how to appropriate these profits. Identify
    the decision that Ankit will have to take and also discuss any five factors which help him in
    taking this decision. (6 Marks)
    Ans. Dividend decision
    Factors affecting dividend decision.
    1. Earnings:
    2. Stability of earnings:
    3. Stability of dividends:
    4. Growth opportunities:
    5. Cash flow position:

    Q. 15. Shalini, after acquiring a degree in Hotel Management and Business administration
    took over her family food processing company of manufacturing pickles, jams and
    squashes. The business was established by her great grandmother and was doing
    reasonably well. However the fixed operating costs of the business were high and the cash
    flow position was week. She wanted to undertake modernization of the existing business to
    introduce the latest manufacturing processes and diversify into the market of chocolates and
    candies. She was very enthusiastic and approached a finance consultant, who told her that
    approximately Rs. 50 lakh would be required for undertaking the modernization and
    expansion programme. He also informed her that her stock market was going through a
    bullish phase.
    1. Keeping the above considerations in mind, name the source of finance Shalini should
    not choose for financing the modernization and expansion of her food processing
    business. Give one reason in support of your answer.
    2. Explain any two other factors, apart from those stated in the above situation, which
    Shalini should keep in mind while taking this decision. (6
    Marks)
    Ans.
    1. Debt
    Any one reason
    1. Due to weak cash flow position, the firm may not be able to honour fixed cash
    payment obligations.
    2. Increased fixed operating cost will increase the business risk therefore debt should
    not be issued as it further increases the financial risk.
    3. The stock market condition being bullish, the investors will prefer to buy equity
    shares.
    1. Other factors which Shalini would keep in mind are:
    1. Return on Investment
    2. Tax rate

    Q. 16. ‘Indian Logistics’ has its own warehousing arrangements at key locations across the
    country. Its warehousing services help business firms to reduce their overheads, increase
    efficiency and cut down distribution time.
    State with reason, whether the working capital requirements of ‘India Logistics’ will be high
    or low. (1
    Mark)
    Ans. Low, as it is a service industry, which usually do not have to maintain inventory.

    Q. 17. ‘Sarah Ltd.’ is a company manufacturing cotton yarn. It has been consistently
    earning good profits for many years. This year too, it has been able to generate enough
    profits. There’re is availability of enough cash in the company and good prospects for
    growth in future. It is a well managed organization and believes in quality, equal
    employment opportunities and good remuneration practices. It has many shareholders who
    prefer to receive a regular income from their investments.
    It has taken a loan of Rs. 40 lakhs from IDBI and is bound by certain restrictions on the
    payment of dividend according to the terms of loan agreement.
    The above discussion about the company leads to various factors which decide how much
    of the profits should be retained and how much has to be distributed by the company.
    Quoting the lines from the above discussion identify and explain and four such factors.
    (6 Marks)
    Ans. Factors affecting dividend decision: (Any four)
    1. Stability of earnings
    It has been consistently earning good profits for many years’.
    Stability of earnings affects dividend decision as a company having stable earnings is in a
    position to declare higher dividends.
    1. Cash Flow position
    ‘There is available of enough cash in the company’.
    A good cash flow positions is necessary for declaration of dividend.
    1. Growth Prospects
    ‘Good prospects for growth in the future.’
    If a company has good growth opportunities, it pays out less dividend.
    1. Shareholders’ preference
    ‘It has many shareholders who prefer to receive regular income from their investments.’
    Shareholder’s preference is kept in mind by the management before declaring dividends.
    1. Contractual constraints
    ‘It has taken a loan of Rs. Rs. 40 Lakhs from IDBI and … agreement.’
    Which taking dividend decision, companies keep in mind the restrictions imposed by the
    lenders in the loan agreement.

    Q. 18. Shubh Ltd. is manufacturing steel at its plant in India. It is enjoying a buoyant
    demand for its products as economic growth is about 7%-8% and the demand for steel is
    growing. The company has decided to set up a new steel plant to cash on the increased
    demand. It is estimated that it will require about Rs. 2000 crore to set up and about Rs. 500
    crore of working capital to start the new plant.
    1. State the objective of financial management for this company.
    2. Identify and state the decision taken by the finance manager in the above case.
    3. State any two common factors affecting the fixed and working capital requirements of
    Shubh Ltd. (6 Marks)
    Ans.
    1. Objectives of financial management of this company are:
    1. To ensure availability of sufficient funds from different sources at reasonable costs.
    2. To ensure effective utilization of such funds.
    3. To ensure safety of funds procured by creating reserves, reinvesting profits, etc.
    Value: Maximisation of shareholders’ wealth.
    1. Investment decision
    It relates to how the firm’s funds are invested in different assets – fixed assets and working
    capital.
    1. Factors affecting fixed and working capital requirements of Shubh Ltd.:
    1. Nature of business:
    2. Scale of operations:

    Q. 19. In a company profits are high and in future less scope of expansion exists. The
    company has decided to distribute less amount of share of profits to its shareholders.
    1. Identify of share of profits to its shareholders.
    2. State any one value which is affected by the company’s decision. (3 Marks)
    Ans.
    1. Dividend decision
    This decision involves how much of the profit earned by the company (after paying tax) is to
    be distributed to the shareholder and how much of it should be retained in the business.
    1. Value affected: Shareholders’ wealth will not be maximized.

    Q. 20. A company’s earnings before interest and tax is Rs. 7 lac. It pays 10% interest on its
    debt. Total investment of company is rs. 50 lac.
    1. Advise company whenever it should include debt or equity to raise its capital.
    2. Name the concept related to this.
    3. Will be company’s decision to raise funds from debt or equity will change if
    company’s EBIT becomes 3 lac.

    Q. 21. Storage Solution Ltd. is a large warehousing network company operating through a
    chain of warehouses at 40 different locations across India. The company now intends to
    undertake computerization of its owned ware houses as it seeks to provide better value
    added and cost effective solutions for scientific storage and preservation services to the
    market participants dealing in agricultural products including farmers, traders, etc.
    In context of the above case:
    1. How is the decision to undertake computerization of owned warehouses likely to
    affect the fixed capital requirements of its business?
    2. Name any two sources that company may use to finance the implementation of this
    plan.
    Ans.
    1. The decision to undertake computerization of owned warehouses will increase the
    fixed capital requirements of its business both in present and future as after
    sometime, the technology being used will become obsolete and need up gradation.
    2. The company may use retained earnings and take loans from financial institutions to
    implement this plan.

    Q. 22. Visions Ltd. is a renowned multiplex operator in India. Presently, it owns 234 screens
    in 45 properties at 20 locations in the country. Considering the fact that the there is a
    growing trend among the people to spend more of their disposable income on
    entertainment, two years back the company had decided to add more screens to its existing
    set up and increase facilities to enhance leisure, food chains etc. it had then floated an
    initial public offer of equity shares in order to raise the desired capital. The issue was fully
    subscribed and paid. Over the year, the sales and profits of the company have increased
    tremendously and it has been declaring higher dividend and the market price of its shares
    has increased manifolds.
    In context of the above case:
    1. Name the different kinds of financial decisions taken by the company by quoting lines
    from the paragraph.
    2. Do you think the financial management team of the company has been able to
    achieve its prime objective? Why or why not? Give a reason in support of your
    answer.
    Ans.
    1. The different kinds of financial decisions taken by the company are as follows:
    1. Investment decision:
    2. Financing decision:
    3. Dividend decision:
    1. Yes, the financial management team of the company has been able to achieve its
    prime objective i.e. wealth maximization of the shareholders by maximizing the
    market price of the shares of the company.

    Q. 23. Wireworks Ltd. is a company manufacturing different kinds of wires. Despite fierce
    competition in the industry, it has been able to maintain stability in its earnings and as a
    policy, uses 305 of its profits to distribute dividends. The small investors are very happy
    with the company as it has been declaring high and stable dividend over past five years.
    In context of the above case:
    1. State any one reason because of which the company has been able to declare high
    dividend by quoting line from the paragraph.
    2. Why do you think small investors are happy with the company for declaring stable
    dividend?
    Ans.
    1. Stability in earnings:
    “Despite fierce competition in the industry, it has been able to maintain stability in its
    earnings.”
    1. The small investors are happy with the company for declaring stable dividend as they
    enjoy a regular income on their investment.
    Q. 24. Manoj is a renowned businessman involved in export business of leather goods. As
    a responsible citizen, he chooses to use jute bags for packaging instead of plastic bags.
    Moreover, on the advice of his friends, he decides to use jute for manufacturing aesthetic
    handicrafts, keeping in view the growing demand for natural goods. In order to implement
    his plan, after conducting a feasibility study, he decides to set up a separate manufacturing
    unit for producing varied jute products.
    In context of the above case:
    1. Identify the type of investment decision taken by Manoj by deciding to set up a
    separate manufacturing unit for producing jute products.
    2. State any two factors that he is likely to consider while taking this decision.
    Ans.
    1. Capital budgeting decision has been taken by Manoj.

    2. The factors affecting Capital Budgeting Decision are as follows:
         1. Cash inflows:
         2. Rate of return:

    Q. 25. Well-being Ltd. is a company engaged in production of organic foods. Presently, it
    sells its products through indirect channels of distribution. But, considering the sudden
    surge in the demand for organic products, the company yis now inclined to start its online
    portal for direct marketing. The financial managers of the company area planning to use
    debt in order to take advantage of trading on equity. In order to finance its expansion plans,
    it is planning to raise a debt capital of Rs. 40 lakhs through a loan @ 10% from an industrial
    bank. The present capital base of the company comprises of Rs. 9 lakh equity shares of Rs.
    10 each. The rate of tax is 30%.
    In the context of the above case:
    1. What are the two conditions necessary for taking advantage of trading on equity?
    2. Assuming the expected rate of return on investment to be same as it was for the
    current year i.e. 15%, do you think the financial managers will be able to meet their
    goal. Show your workings clearly.
    Ans.
    1. The two conditions necessary for taking advantage of trading on equity are:
    ● The rate of return on investment should be more than the rate of interest.
    ● The amount of interest paid should be tax deductible.
    2.Yes, the financial managers will be able to meet their goal as the projected EPS, with the
    issue of debt, is higher than the present EPS.

    Q. 26. ‘Ganesh Steel Ltd.’ is a large and credit-worthy company manufacturing steel for the
    Indian market. It now wants to cater to the Asian market and decides to invest in new
    hi-tech machines. Since the investment is large, it requires long-term finance. It decides to
    raise funds by issuing equity shares. The issue of equity shares involves huge floatation
    cost. To meet the expenses of floatation cost the company decides to tap the
    money-market.
    1. Name and explain the money-market instrument the company can use for the above
    purpose.
    2. What is the duration for which the company can get funds through this instrument?
    3. State any other purpose for which this instrument can be used.
    Ans.
    1. Commercial Paper:
    It is a unsecured promissory note issued by large and credit worthy companies to raise short
    terms funds at lower rates of interest than the prevailing market rates.
    1. 15 days to one year.
    2. It can also be used for seasonal and working capital needs

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