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Amity CampusUttar PradeshIndia 201303

ASSIGNMENTSPROGRAM M!C

SEMESTER"IISu#$e%t Name Study COUNTR& R'(( Num#er )Re*+N'+, Student Name

INSTRUCTIONSa, Students are re-uired t' su#mit a(( three assi*nment sets+

ASSIGNMENT .ETAI/S MARSAssi*nment A !ie Su#$e%tie uesti'ns 10Assi*nment Three Su#$e%tie uesti'ns 4 Case Study 10Assi*nment C O#$e%tie 'r 'ne (ine uesti'ns 10

#, T'ta( 5ei*hta*e *ien t' these assi*nments is 306+ OR 30 Mar7s

%, A(( assi*nments are t' #e %'mp(eted as typed in 5'rd8pd9+d, A(( -uesti'ns are re-uired t' #e attempted+e, A(( the three assi*nments are t' #e %'mp(eted #y due dates and need t' #e su#mitted 9'r

ea(uati'n #y Amity Uniersity+9, The students hae t' atta%hed a s%an si*nature in the 9'rm+

Si*nature :::::::::::::::::::::::::::::::::.ate :::::::::::::::::::::::::::::::::

) ; , Ti%7 mar7 in 9r'nt '9 the assi*nments su#mittedAssi*nment

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!inan%ia( Mana*ement

Assi*nment A

1+>hat is st'%7 sp(it? >hat are its adanta*es@A stock split is a procedure that increases or decreases a corporation's total number of sharesoutstandingwithout altering the firm's market valueor the proportionate ownership interest ofexisting shareholders. This action, which requires advance approval from the company'sboardof directors, usually involves the issuance of additional sharesto existing stockholders.All stock splits are not created equally. More specifically, stock splits can vary depending uponwhat type of impact a firm wants to have on its underlying share price. or example, if a firmwants to cut its share price in half, then it willcomplete a !"for"# stock split. $f it wants to lowerits share price even further, then it may complete a %"for"# stock split. &efore announcing astock split, a firm's board of directors must first decide on a distribution rate. Typicallyexpressed as a ratio such as !"for"#, %"for"#, etc...(, this distribution rate determines exactly

how many shares of stockthe firm hands over to its existing shareholders.

After a stock split, the share price will simultaneously increase or decrease by the inverse of thisdistribution ratio. or example, in a !"for"# split the most common type(, the underlying firmdoubles its total number of shares outstanding, but its stock price is subsequently halved. Theend result to current shareholders is that they now hold twice as many shares of stock, but thestock's price is half of what it was previously. Therefore, the total dollar value of their holdingsremains unchanged.

)ere is a hypothetical example of what takes place in a regular !"for"# stock split*+et's assume ompany -/, which has two million shares outstanding, is trading for 0%1. $nthis case, the firm's total market value, or market capitali2ation, is 031 million ! million40%15share(. After a two"for"one stock split, the firm's number of shares will double to fourmillion, while the value of those shares will be cut in half to 0#6. )owever, the company's totalmarket capitali2ation will remain the same at 7ust 031 million 8 million4 0#65share(.

Taken from another perspective, let's suppose you held #11 shares of -/ before the split.

9rior to the split this total position would have been worth 0%,111 #1140%15share(. After thesplit takes place you will then hold twice as many shares !11 shares(, but the firm's share pricewill be cut in half to 0#6. The net value of your position will remain unchanged at 0%,111!1140#65share(.

+ess common is the :reverse stock split,: which as the name implies, will have precisely theopposite effect. A firm completes a reverse splitby reducing its number of shares outstanding.This forces the company's underlying stock price higher.

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'5 Can &'u ene9it 9r'm St'%7 Sp(its@;ovice investors often scour the marketin search of impending stock splits, which theymistakenly consider a wealth"creating transaction. After all, the split will grantthem moreshares.( )owever, it's important to remember that stock splits in and of themselves have 2eroimpact on a firm's actual value.

or ordering point> or ordering limit>. $t is a point at whichorder for supply of material should be made.

http://www.investinganswers.com/financial-dictionary/economics/market-3609http://www.investinganswers.com/financial-dictionary/laws-regulations/grant-5509http://www.investinganswers.com/financial-dictionary/economics/mean-2527http://www.investinganswers.com/financial-dictionary/financial-statement-analysis/quarter-q1-q2-q3-q4-5122http://www.investinganswers.com/financial-dictionary/economics/market-3609http://www.investinganswers.com/financial-dictionary/laws-regulations/grant-5509http://www.investinganswers.com/financial-dictionary/economics/mean-2527http://www.investinganswers.com/financial-dictionary/financial-statement-analysis/quarter-q1-q2-q3-q4-5122

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This level is fixed somewhere between the maximum level and the minimum level in such away that the quantity of materials represented by the difference between the re"ordering leveland the minimum level will be sufficient to meet the demands of production till such time as thematerials are replenished. Beorder level depends mainly on the maximum rate of consumptionand order lead time. Chen this level is reached, the store keeper will initiate the purchaserequisition.

Re'rderin* (ee( is %a(%u(ated 5ith the 9'(('5in* 9'rmu(a

Be"order level DMaximum Bate of consumption x maximum lead time

)#, MaBimum /ee(

Maximum level is the level above which stock should never reach. $t is also known asmaximum limit> or maximum stock>. The function of maximum level is essential to avoid

unnecessary blocking up of capital in inventories, losses on account of deterioration andobsolescence of materials, extra overheads and temptation to thefts etc. This level can bedetermined with the following formula. Maximum ?tock level D Beordering level E Beorderingquantity FMinimum onsumption x Minimum re"ordering period(

)%, Minimum /ee(

$t represents the lowest quantity of a particular material below which stock should not beallowed to fall. This level must be maintained at every time so that production is not held up

due to shortage of any material.

$t is that level of inventories of which a fresh order must be placed to replenish the stock. Thislevel is usually determined through the following formula*

Minimum +evel D Be"ordering level F ;ormal rate of consumption x ;ormal delivery period(

)d, Aera*e St'%7 /ee(

Average stock level is determined by averaging the minimum and maximum level of stock.

The 9'rmu(a 9'r determinati'n '9 the (ee( is as 9'(('5s

Average level D#5! Minimum stock level E Maximum stock level(

This may also be expressed by minimum level E #5! of Be"ordering Guantity.

)e, .an*er /ee(

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Hanger level is that level below which the stock should under no circumstances be allowed tofall. Hanger level is slightly below the minimum level and therefore the purchases managershould make special efforts to acquire required materials and stores.

This (ee( %an #e %a(%u(ated 5ith the he(p '9 9'(('5in* 9'rmu(a

Hanger +evel DAverage rate of consumption x @mergency supply time.)9, E%'n'mi% Order uantity )E+O++,

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As per the production plan, material schedule is prepared depending upon the amount andreturn contained in the plan. To determine the net quantities to be procured, necessaryad7ustments for the stock already held is to be made.

They are valued as standard rate or current market. $n this way, material procurement budget isprepared. The budget so prepared should be communicated to all departments concerned so that

the actual purchase commitments can be regulated as per budgets.

At periodical intervals actuals are compared with the budgeted figures and reported tomanagement which provide a suitable basis for controlling the purchase of materials,

3+ Maintainin* Perpetua( Inent'ry System

This is another technique to exercise control over inventory. $t is also known as automaticinventory system. The basic ob7ective of this system is to make available details about the

quantity and value of stock of each item at all times. Thus, this system provides a rigid controlover stock of materials as physical stock can be regularly verified with the stock records kept inthe stores and the cost office.

+ Esta#(ishin* Pr'per Pur%hase Pr'%edures

A proper purchase procedure has to be established and adopted to ensure necessary inventorycontrol. The following steps are involved.

)a, Pur%hase Re-uisiti'n

$t is the requisition made by the various departmental heads or storekeeper for their variousmaterial requirements. The initiation of purchase begins with the receipts of a purchaserequisition by the purchase department.

)#, Initin* u'tati'ns

The purchase department will invite quotations for supply of goods on the receipt of purchase

requisition.

)%, S%hedu(e '9 u'tati'ns

The schedule of quotations will be prepared by the purchase department on the basis ofquotations received.

)d, Appr'in* the supp(ier

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The schedule of quotations is put before the purchase committee who selects the supplier byconsidering factors like price, quality of materials, terms of payment, delivery schedule etc.

)e, Pur%hase Order

$t is the last step and the purchase order is prepared by the purchase department. $t is a written

authorisation to the supplier to supply a specified quality and quantity of material at thespecified time and place mentioned at the stipulated terms.

D+ Inent'ry Turn'er Rati'

These are %a(%u(ated t' minimise the inent'ry #y the use '9 the 9'(('5in* 9'rmu(a

$nventory Turnover Batio

D ost of goods consumed5sold during the period5Average inventory held during the period

The ratio indicates how quickly the inventory is used for production. )igher the ratio, shorterwill be the duration of inventory at the factory. $t is the index of efficiency of materialmanagement.

The %'mparis'n '9 ari'us inent'ry turn'er rati's at di99erent items 5ith th'se '9prei'us years may reea( the 9'(('5in* 9'ur types '9 inent'ries

)a, S('5 m'in* Inent'ries

These inventories have a very low turnover ratio. Management should take all possible steps tokeep such inventories at the lowest levels.

)#, .'rmant Inent'ries

These inventories have no demand. The finance manager has to take a decision whether suchinventories should be retained or scrapped based upon the current market price, conditions etc.

)%, O#s'(ete Inent'ries

These inventories are no longer in demand due to their becoming out of demand. ?uchinventories should be immediately scrapped.

)d, !ast m'in* inent'ries

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These inventories are in hot demand. 9roper and special care should be taken in respect of theseinventories so that the manufacturing process does not suffer due to shortage of suchinventories.

Perpetua( inent'ry %'ntr'( system

$n a large b essential to have information about continuous availability of different types ofmaterials and stores purchased, issued and their balance in hand. The perpetual inventorycontrol system enables the manufacturer to know about the availability of these materials andstores without undergoing the cumbersome process of physical stock taking.

=nder this method, proper information relating to receipt, issue and materials in hand is kept.The main ob7ective of this system is to have accurate information about the stock level of everyitem at any time.

9erpetual inventory control system cannot"be successful unless and until it is accompanied by asystem of continuous stock taking i.e., checking the total stock of the concern %58 times a year

by picking #15#6 items daily as against physical stock taking which takes place once a year(.

The items are taken in rotation. $n order to have more effective control, the process ofcontinuous stock taking is usually undertaken by a person other than the storekeeper. This willcheck the functioning of storekeeper also. The items may be selected at random to have asurprise check. The success of the system of perpetual inventory control depends upon the

proper implementation of the system of continuous stock taking.

+ AC ana(ysis

$n order to exercise effective control over materials, A.&.. Always &etter ontrol( method isof immense use. =nder this method materials are classified into three categories in accordancewith their respective values. Kroup A> constitutes costly items which may be only #1 to !1L ofthe total items but account for about 61L of the total value of the stores.

A greater degree of control is exercised to preserve these items. Kroup &> consists of itemswhich constitutes !1 to %1L of the store items and represent about %1L of the total value ofstores.

A reasonable degree of care may be taken in order to control these items. $n the last category i.e.group G> about 1 to N1L of the items is covered costing about !1L of the total value. Thiscan be referred to as residuary category. A routine type of care may be taken in the case of thirdcategory.

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This method is also known as stock control according to value method>, selective valueapproach> and proportional parts value approach>.

$f this method is applied with care, it ensures considerable reduction in the storage expenses andit is also greatly helpful in preserving costly items.

3+ EBamine ris7 ad$usted dis%'unt rate as a te%hni-ue '9 in%'rp'ratin* ris7 9a%t'rin %apita( #ud*etin*.

Ris7 Ad$usted .is%'unt Rate

or a long time, economic theorists have assumed that, to allow for risk, the businessmanrequired a premium over and above an alternative, which was risk"free. Accordingly, the more

uncertain the returns in the future, the grater the risk and grater the premium required. &ased onthis reasoning, it is proposed that the risk premium be incorporated into the capital budgetinganalysis through the discount rate. That is, if the time preference for money is to be recogni2ed

by discounting estimated future cash flows, at some risk free rate, to their present value, then, toallow for the riskiness, of those future cash flows a risk premium rate may be added to risk"freediscount rate. ?uch a composite discount rate, called the risk"ad7usted discount rate, will allowfor both time preference and risk preference and will be a sum of the risk"free rate and risk"

premium rate reflecting the investors> attitude towards risk. The risk"ad7usted discount rate

method can be formally expressed as follows*

Ris7"ad$usted dis%'unt rate F Ris7 9ree rate 4 Ris7 premium

=nder capital asset pricing model, the risk premium is the difference between the market rate ofreturn and the risk free rate multiplied by the beta of the pro7ect.

The risk ad7usted discount rate accounts for risk by varying the discount rate depending on thedegree of risk of investment pro7ects. A higher rate will be used for riskier pro7ects and a lower

rate for less risky pro7ects. The net present value will decrease with increasing risk ad7ustedrate, indicating that the riskier a pro7ect is perceived, the less likely it will be accepted. $f therisk free rate is assumed to be #1L, some rate would be added to it, say 6L, as compensationfor the risk of the investment, and the composite #6L rate would be used to discount the cashflows.

Adanta*es '9 ris7 ad$usted dis%'unt rate $t is simple and can be easily understood.

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$t has a great deal of intuitive appeal for risk"averse businessman. $t incorporates an attitude towards uncertainty.

.isadanta*es

This approach, however, suffers from the following limitations*

There is no easy way deriving a risk ad7usted discount rate. apital asset pricing modelprovides a basis of calculating the risk ad7usted discount rate. $ts use has yet to pick up inpractice.

$t does not make any risk ad7usted in the numerator for the cash flows that are forecastover the future years.

$t is based on the assumption that investor are risk"averse. Through it is generally true,

there exists a category of risk seekers who do not demand premium for assuming risksJthey are willing to pay premium to take risks. Accordingly, the composite discount ratewould be reduced, not increased, as the level of risk increases.

The increasing volatility of the global economy has caused investors to search out saferinvestment alternatives. $nvestors use a capital budget when selecting their investments.A capital budget is a plan for investing in long"term assets such as buildings andmachinery. Bisk is inevitable to these investments. The various risks include cash flowsnot being paid in time as agreed, the risk of the investee company collapsing and also the

management sinking the invested funds in risky pro7ects. &y incorporating risk in capitalbudgeting, investors can minimi2e losses.

Ris7 Premium $nvestors try to avoid risk. To encourage investors to invest their funds into risky pro7ects,

the returns from such pro7ects should be higher than returns from less risky investmentssuch as treasury bonds. A risk premium is a discount rate that is added to the risk"free rateof borrowing. The risk"free rate is the rate of return of low"risk investments such asgovernment"backed securities. The investments are then appraised using the resultingdiscount rate. $nvestments that offer better returns are chosen.

Pay#a%7 Peri'd The time it takes for a pro7ect to pay back the amount of money invested is a matter of

concern to the investor. $nvestors set a time limit within which they expect to receivereturns. @ach pro7ect's cash flow is determined. A pro7ect whose return falls beyond thetime limit will deemed to be risky.

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Re(ated Readin*Hifferences and ?imilarities of apital and

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Chen cash inflows are uneven, we need to calculate the cumulative net cash flow for eachperiod and then use the following formula for payback period*

in the above formula,Ais the last period with a negative cumulative cash flowJis the absolute value of cumulative cash flow at the end of the period AJCis the total cash flow during the period after A

&oth of the above situations are applied in the following examples.

.e%isi'n Ru(e

Accept the pro7ect only if its payback period is +@?? than the target payback period.

EBamp(e 1 Een Cash !('5sompany is planning to undertake a pro7ect requiring initial investment of 0#16 million. The

pro7ect is expected to generate 0!6 million per year for years. alculate the payback period ofthe pro7ect.

9ayback 9eriod D $nitial $nvestment O Annual ash low D 0#16M O 0!6M D 8.! years

Adanta*es and .isadanta*es

Adanta*esof payback period are*

#. 9ayback period is very simple to calculate.!. $t can be a measure of risk inherent in a pro7ect. ?ince cash flows that occur later in a

pro7ect's life are considered more uncertain, payback period provides an indication of

how certain the pro7ect cash inflows are.%. or companies facing liquidity problems, it provides a good ranking of pro7ects thatwould return money early.

.isadanta*esof payback period are*

#. 9ayback period does not take into account the time value of moneywhich is a seriousdrawback since it can lead to wrong decisions. A variation of payback method thatattempts to remove this drawback is called discounted payback periodmethod.

9ayback 9eriod D A E&

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!. $t does not take into account, the cash flows that occur after the payback period.

D+EBamine the re(ati'nship '9 9inan%ia( mana*ement 5ith 'ther 9un%ti'na( areas '99inan%e

The relationship between financial management and other functional areas can be defined asfollows*

1+ !inan%ia( Mana*ement and Pr'du%ti'n .epartmentThe financial management and theproduction department are interrelated. The production department of any firm is concernedwith the production cycle, skilled and unskilled labour, storage of finished goods, capacityutilisation, etc. and the cost of production assumes a substantial portion of the total cost. The

production department has to take various decisions like replacing machinery, installation of

safety devices, etc. and all the decisions have financial implications.2+ !inan%ia( Mana*ement and Materia( .epartmentThe financial management and thematerial department are also interrelated. Material department covers the areas such as storage,maintenance and supply of materials and stores, procurement etc. The finance manager andmaterial manager in a firm may come together while determining @conomic

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1>hat are the assumpti'ns '9 MM)M'di*(iani Mi((er, appr'a%h@

The Modigliani"Miller theorem is a key pillar in modern finance. The theorem hasrevolutioni2ed corporate finance since it was introduced by the 9rofessors ranco Modiglianiand Merton Miller. $n #PN6, Modigliani was awarded the ;obel 9ri2e in @conomics for this as

well as other works of his in the field of finance. Chile it is critical to understand the theorem,Modigliani and Miller make a set of assumptions that render the results of their work onlypartially applicable to real"life situations

The Idea

Chether you are running a small deli or a global corporation, you likely will spend a lot of timeoptimi2ing the capital structure of the firm. The capital structure refers to where the money tofinance the operations will come from. or a small firm, the alternatives may be limited to

shareholder equity, bank debt and money owed to suppliers. $n the case of a large conglomerate,options may include short" and long"term bonds, preferred stock and loans in various differentcurrencies. The Modigliani"Miller theorem argues that it does not matter how the firm isfinanced. $n the end, the profitability and viability of the firm is unaffected by its financingdecisions. )owever, the theory holds only if a number of underlying assumptions are valid.

N' Transa%ti'n C'sts

The first assumption of the theory is that financial transactions occur at no cost. A firm wishing

to sell stock to finance a new factory, for example, can do so without paying commissions to anintermediary, such as an investment bank, or so it is assumed. $n real life, there are transactioncosts. ;ot only does a firm have to pay fees and commissions when issuing stocks, bonds,warrants and other instruments, but these transactions also take time. Top management has to

put weeks and sometimes months into planning the issuance of these instruments, which takestheir focus away from other matters.

E-ua( 'rr'5in* C'sts

or the Modigliani"Miller theorem's conclusion to hold, companies and investors should be ableto borrow at the same cost. This assumption is a fundamental pillar of the theorem, becauseModigliani and Miller argue that whether it is the firm borrowing money or the investor

borrowing money and buying the firm's shares, the end result remains unchanged. $n eithercase, the investor is leveraged, which means she has to assume the risks that go along with

borrowed funds. $f either the firm or the individual can borrow at different rates "" and they doborrow at different rates in real life "" the theorem doesn't hold up.

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and(in* '9 EB%ess Cash

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Theoretically, the H is arguablythe most sound method of valuation.

The H method is forward"lookingand depends more futureexpectations rather than historicalresults.

The H method is more inward"looking, relying on the fundamentalexpectations of the business or asset,and is influenced to a lesser extent byvolatile external factors.

The H analysis is focused on cashflow generation and is less affected

by accounting practices and

assumptions. The H method allows expected

and different( operating strategies tobe factored into the valuation.

The H analysis also allowsdifferent components of a business orsynergies to be valued separately.

The accuracy of the valuation determinedusing the H method is highly dependenton the quality of the assumptions regarding, TQ, and discount rate. As a result, Hvaluations are usually expressed as a rangeof values rather than a single value by using

a range of values for key inputs. $t is alsocommon to run the H analysis fordifferent scenarios, such as a base case, anoptimistic case, and a pessimistic case togauge the sensitivity of the valuation tovarious operating assumptions. Chile theinputs come from a variety of sources, theymust be viewed ob7ectively in the aggregate

before finali2ing the H valuation.

The TQ often represents a large percentageof the total H valuation. Qaluation, insuch cases, is largely dependent on TQassumptions rather than operatingassumptions for the business or the asset.

Steps in the .C! Ana(ysis

The following steps are required to arrive at a H valuation*

9ro7ect unlevered s =s( hoose a discount rate alculate the TQ alculate the enterprise value @Q( by discounting the pro7ected =s and TQ to net

present value alculate the equity value by subtracting net debt from @Q Beview the results

G%. @xamine the type and sources of risk in capital budgeting.

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The S'ur%es '9 Ris7 in Capita( ud*etin*

EBp(ain a(( the s'ur%es '9 ris7 in %apita( #ud*etin* 5ith eBamp(es+

?ources of risk in capital budgeting* The types and sources of risk in capital budgeting. )avingunderstood what risk in capital budgeting means, let us now understand the types of risk andtheir sources. apital budgeting involves four types of risks in a pro7ect* stand"alone risk,

portfolio risk, market risk and corporate risk.?tand"alone risk* ?tand alone risk of a pro7ect is considered when the pro7ect is in isolation.?tand"alone risk is measured by the variability of expected returns of the pro7ect.9ortfolio risk* A firm can be viewed as portfolio of pro7ects having a certain degree of risk.Chen new pro7ect is added to the existing portfolio of pro7ect, the risk profile of the firm willalter. The degree of the change in the risk depends on the following*The co"variance of return from the new pro7ect

The return from the existing portfolio of thepro7ects

Market risk* Market risk is defined as the measure of the unpredictability of a given stock value.)owever, market risk is also referred to as systematic risk. The market risk has a directinfluence on stock prices. Market risk is measured by the effect of the pro7ect on the beta of thefirm.orporate risk* orporate risk focuses on the analysis of the risk that might influence the

pro7ect in terms of entire cash flow of the firms. orporate risk is the pro7ects> risks of the firm.

?ources of risk* The five different sources of risk are*

9ro7ect"specific risk

ompetitive or competition risk

$ndustry"specific risk

$nternational risk

Market risk

9ro7ect"specific risk* 9ro7ect"specific risk could be traced to something quite specific to thepro7ect. Managerial deficiencies or error in estimation of cash flows or discount rate may lead toa situation of actual cash flows realised being less than the pro7ected cash flow.

ompetitive or competition risk* =nanticipated actions of a firm>s competitors will materiallyaffect the cash flows expected from a pro7ect. As a result of this, the actual cash flows from a

pro7ect will be less than that of the forecast.$ndustry"specific risk* $ndustry"specific risks are those that affect all the firms in the particularindustry. $ndustry"specific risk could be again grouped into technological risk, commodity riskand legal risk.Technological risk R The changes in technology affect all thefirms not capable of adaptingthemselves in emerging into a new technology.

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ommodity risk R $t is the risk arising from the effect ofprice"changes on goods producedand marketed.+egal risk R $t arises from changes in laws and regulations applicable to the industry to whichthe firm belongs.$nternational risk* These types of risks are faced by firms whose business consists mainly ofexports or those who procure their main raw material from international markets. The firmsfacing such kind of risks are as follows*The rupee"dollar crisis affected the software and &9

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9Q =sing Bisk ree Bate ear ash flows inflows(Bs. 9Q factor at #1L 9Q of cash flowsinflows( # 81111 1.P1P %3,%31 ! 61111 1.N!3 8#,%11 % #6111 1.6# ##,!36

8 %1111 1.3N% !1,8P1 9Q of cash inflows #,1P,8#6 9Q of cash outflows #,11,111( ;9Q P,8#6

b(S;9Q can be computed using risk"ad7usted discount. Table shows ;9Q calculation using the

risk"ad7usted discount.;9Q =sing Bisk"ad7usted Hiscount Bate

ear ash inflows Bs. 9Q factor at !1L 9Q of cash inflows # 81111 1.N%% %%,%!1 ! 61111 1.3P8 %8,11 % #6111 1.6P N,3N6 8 %1111 1.8N! #8,831

9Q of ash in flows P#,#36 9Q of cash outflows #11, 111( ;9Q N, N%6(The pro7ect would be acceptable when no allowance is made for risk.

it will not be acceptable if risk premium is added to the risk free rate. &y doing so, it movesfrom positive ;9Q to negative ;9Q. $f the firm were to use the internal rate of return $BB(,then the pro7ect would be accepted, when $BB is greater than the risk"ad7usted discount rate.

apital budgeting refers to the total process of generating, evaluating, selecting andfollowing up on capital expenditure alternatives. The firm allocates or budgets financialresources to new investment proposals. &asically, the firm may be confronted with threetypes of capital budgeting decisions i( the accept5re7ect decision,

ii( the mutually exclusively choice decision andiii( the capital rationing decision.

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i( Asset R re7ect decision*This is a fundamental decision in capital budgeting if the pro7ect is acceptedJ the firmwould invest in it. $n general, all those proposals which yield a rate of return greater thana certain required rate of return or cost of capital are accepted and the rest are re7ected.&y applying this criterion, all independent pro7ects are accepted. $ndependent pro7ects are

pro7ects that do not compete with one another in such a way that the acceptance of one

precludes the possibility of acceptance of another. =nder the accept re7ect decision, allindependent pro7ects that satisfy the minimum investment criterion should beimplemented.

ii( Mutually exclusive pro7ect decisions*Mutually exclusive pro7ects are those which complete with other pro7ects in such a waythat the acceptance of one will exclude the acceptance of the other pro7ects. Thealternatives are mutually exclusive and only one may be chosen. +et us imagine that a

company is intending to buy new folding machine. There are three competing brands,each with a different initial investment and operating costs. The three machines representmutually exclusive alternatives, as only one of these can be selected. $t may be noted herethat the mutually exclusive pro7ect decisions are not independent of the accept re7ectdecisions. The pro7ects( should also be acceptable under the latter decision. $n brief, inthe example mentioned above, if all the machines are re7ected under the accept re7ectdecision, the firm should not buy a new machine. Mutually exclusive...

The maximi2ation of shareholder wealth can be achieved through dividend policy andincreasing share price of the mark value. $n order to derive more profits, our company shallinvest potential investments which always cover a number of years. Those investments involvesubstantial initial outlay at the outset and the process. The management is responsible to

participate in the process of planning, analy2ing, evaluating, selecting and making decisions toallocate the limited resource to those investments. This is called capital budgeting decision

process. &udgeting acts as an important managerial tool in practice. $t is budget for the ma7orcapital investment such as purchase of land and building, plant and machine, investing new

product or market. $n modern competing environment, the company shall go ahead to make

those investments in order to survive and profitability. A good evidence is Apple which globallyintroduced i9hone and acted as a leading market position. Hen2il Antony !11( stated thatUThose decisions shall take account of the amount, timing and associated risk of expectedcompany cash flowV. Therefore, apital budgeting decision process is within the prospective offinancial management.

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8.a( Heepak steel has issued non convertible debentures for Bs.6 r. @ach debenture isof par value of Bs.#11, carrying a coupon rate of #8L, interest is payable annually andthey are redeemable after yrs at a premium of 6 L. The company issued the ;onconvertible debentures at a discount of % L. Chat is the cost of debenture to thecompanyW Tax rate is 81L.

S'(uti'n )a,Gien

$ annual interest payment per unit of debenture( D 9ar Qalue x coupon rateD #11x#8L D #8T corporate tax rate( D 81L

D 1.81 redemption price per debenture( D 9ar Qalue E 9remium D #11 E #11x6L(

D #169 net amount reali2ed per debenture( D 9ar Qalue " Hiscount D #11 " #11x%L(

D Pn maturity period( D yearsChat is the Xd post tax cost of debenture capital(W

F 0+0H 'r H+6Therefore, the cost of debenture after corporate tax to Heepak ?teel ompany is P.8L.

b( ?upersonic $ndustries +td. has entered into an agreement with $ndian hat is the t )%'st '9 term ('an,@

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t F I)1 " T,

t F 0+10 )1 0+D,F 0+10 )0+DD,F 0+0DD 'r D+D6

Therefore, the cost of term loan to the ?upersonic $ndustries +td. is 6.6L.

ASSIGNMENT C

# ## . !# C %# C! C #! A !! C %! A% #% !% C %% A

8 A #8 !8 A %8 6 C #6 A !6 C %6 3 A #3 C !3 A %3 A # C ! % CN #N A !N A %N AP C #P !P . %P .

#1 C !1 A %1 A 81 A