kindly solve the Financial Management Questions and Problems

Questions: Question 1. Critically evaluate various approaches to the financial management. (Points 2) Question 2. What are the differences between fund flow and cash flow? (Points 2) Question 3. (a) Critically examine the advantages and disadvantages of equity shares. (Points 2) (b) Evaluate the overall view of debentures. (Points 2) Question 4. (a) What is optimum capital structure? (Points 1) (b) Compute the market value of the firm, value of shares and the average cost of capital from the following information. (Points 1) Net operating income Rs. 2, 00,000 Total investment Rs. 5, 00,000 Equity capitalization Rate: (a) If the firm uses no debt 10% (b) If the firm uses Rs. 25,000 debentures 11% (c) If the firm uses Rs. 4, 00,000 debentures 13% Assume that Rs. 5, 00,000 debentures can be raised at 6% rate of interest whereas Rs. 4, 00,000 debentures can be raised at 7% rate of interest. Question 5. A company has on its books the following amounts and specific costs of each type of capital. (Points 2) Type of Capital Debt Preference Equity Retained Earning Book Value Rs. 4,00,000 1,00,00 6,00,00 2,00,00 Market Value Rs. 3,80,000 1,10,00 9,00,000 3,00,000 13,00,000 Specific Costs (%) 5 6 15 13 16,90,00 Determine the weighted average cost of capital using: (a) Book value weights, and (b) Market value weights. Question 6. Distinguish the operating leverage from financial leverage. (Points 2) Question 7. Explain the factors affecting the dividend policy. (Points 2) Question 8. (a) A project costs Rs. 20, 00,000 and yields annually a profit of Rs. 3, 00,000 after depreciation @ 12% but before tax at 50%. Calculate the pay-back period. (Points 1) Profit after depreciation 3, 00,000 Tax 50% 1, 50,000 1, 50,000 Add depreciation: 20, 00,000 12.5 % 2, 50,000 (b) From the following information, calculate the net present value of the two projects and suggest which of the two projects should be accepted a discount rate of the two. (Points 1) Project X Rs. 20,000 5 years Rs. 1,000 Initial Investment Estimated Life Scrap Value Project Y Rs. 30,000 5 years Rs. 2,000 The profits before depreciation and after taxation (cash flows) are as follows: Year 1 Rs. 5000 20000 Project X Project Y Year 2 Rs. 10,000 10,000 Year 3 Rs. 10,000 5000 Year 4 Rs. 3000 3000 Year 5 Rs. 2000 2000 Note: The following are the present value factors @ 10% p.a. Year Facto r 1 0.909 2 0.826 3 0.751 4 0.683 5 0.621 6 0.564 Question 9. (a) An annuity is defined as a series of payments of a fixed amount for a specific number of periods. Thus, $100 a year for 10 years is an annuity, but $100 in Year 1, $200 in Year 2, and $400 in Years 3 through 10 does not constitute an annuity. However, the entire series does contain an annuity. Is this statement true or false? And Why? (Points 1) (b) Your parents will retire in 18 years. They currently have $250,000, and they think they will need $1 million at retirement. What annual interest rate must they earn to reach their goal, assuming they don't save any additional funds? (Points 1) BOOKS: 1 Brigham .F Eugene & Ehrhardt C. Michael , (2014) . Financial management theory and practce 14e , South Western CENGAGE learning , ISBN 13: 978-1111- 97221-9 2 Financial Management by C. Paramasivan and T. Subramanian, Publisher: New Age International Publisher, India, 3 Financial Management: Theory and Practice, By MICHAEL C. EHRHARDT and EUGENE F. BRIGHAM, 13th edition, SOUTH-WESTERN CENGAGAE LEARNING. Financial management Question 1 Approaches to financial management are divided into two. First is the traditional approach; It is based on the experience and the traditionally accepted methods. The central part of the traditional approach is raising funds for the business concern. It consists of the following key areas of concern: Arrangement of funds from a lending body, the arrangement of funds through various financial instruments and finding out the different sources of funds. The second approach is modern approach; It is a subtle way of looking at the resources. It states that financing is more concerned with procurement of funds and more wise utilization of the resources. It provides equal weight to acquisition and use of resources. Question 2 Cash flow refers to the modern way of reporting the inflows and outflows of cash while funds flow refers to an outmoded format for reporting a subset of similar information. Cash flow is derived from the financial statement of cash flows. This statement is required by Generally Accepted Accounting Principles and shows the inflows and outflows of cash generated by a business during a reporting period. Fund flow statement as required by under Generally Accepted Accounting Principles, in 1971 to 1987, hence it is traditional. The report primarily said changes in an entity's net working capital position between the beginning and end of an accounting period. Question 3 In part (a), the advantages and disadvantages of equity shares in analyzed from both the shareholders and the company perspective. Advantages from the Shareholders' Point of View involves, equity shares are very liquid and can be readily sold in the capital market. Again, In the case of high profit, they get dividend at a higher rate. Equity shareholders have the right to control the management of the company. The equity shareholders get benefit in two ways, yearly dividend, and appreciation of the value of their investment. The advantages from the Company's Point of View includes: They are a permanent source of capital and hence, they do not involve any repayment liability. Again, they do not have any obligation regarding payment of dividend. Finally, larger equity capital base increases the creditworthiness of the company among the creditors and investors. Disadvantages from the Shareholders' Point of View: Equity shareholders get dividend only if there remains any profit after paying debenture interest, tax and preference dividend. Thus, getting a dividend on equity shares is uncertain every year. Equity shareholders are scattered and unorganized, and hence, they are unable to exercise any effective control over the affairs of the company. Equity shareholders face the highest degree of risk of the enterprise. The market price of equity shares fluctuates very widely which, in most occasions, erode the value of the investment. The issue of fair shares reduces the earnings of existing shareholders. The disadvantage from the Company's Point of View is, Cost of equity is the highest among all the sources of finance. Payment of dividend on equity shares is not tax deductible expenditure. As compared to other sources of funding, the issue of equity shares involves higher floatation expenses of brokerage, underwriting commission among others. In the second part of this question, it requires the overall view of the debentures. It is defined as a type of debt instrument that is not secured by physical assets or collateral. They are used by large companies to borrow money, at a fixed rate of interest. They are of two types that are, convertible and non-convertible debentures. Some examples of government debentures are treasury bills and treasury bonds. Debenture holders have no rights to vote in the company's general meetings of shareholders, but they may have separate meetings or votes like, on changes to the rights to the debentures. Question 4 In the first part, the optimal capital structure refers to the best debt-to-equity ratio for a firm that maximizes its value. It is one which offers a balance between the ideal debt-to-equity ranges and minimizes the company's cost of capital. In part (b) the calculations are:. descriptions Net income Less interest Equity shareholders Equity capitalization Market value of shares Market value of the firm Average cost of capital Question 5 No debt 100,000 0 100,000 10% 100,000*100/10 Rs. 250,000 100,000 15,000 85,000 11% 85,000*100/11 Rs,400,000 100,000 28,000 72,000 13% 72,000*100/13 100,000 1,022,727 953,846 100,000/1000000*100 100,000/1,022,727*10 0 = 10% 9.78% 100,000/953,846*100 10.48% WACC= (WeRe + WpRp + WdRd)/ V where We, proportion of equity,Re is cost of equity, Wp is proportion of preferred stoch, Rp is cost of preferred stocks, Wd is proportion of debt and Rd is cost of debt and V is value of the bfirm In part (a) Based on book value weights I4,200/ 1,300,000*100% = 1.092% In part (b) based on market weights (193,660/169,000)*100% = 114.59% Question 6 In this issue, the dereferences between financial and operating leverage is outlined: firstly, The operating leverage measures the effect of fixed cost whereas the financial leverage evaluates the impact of interest expenses. Secondly, operating leverage relates to sales and Earnings Before Interest and Taxes (EBIT). The Financial leverage refers to Earnings Per Share and Earnings before interest and taxes (EBIT). The operating leverage is ascertained by the company cost structure while financial is determined by the capital structure of the enterprise. Operating one give rise to business risk and financial leverage result in financial risk. Question 7 It requires the determination of the various factors that affect the dividend policy of the firm. They include the following. Firm's liquidity position: Dividend payout is affected by firm's liquidity position. Despite sufficient retained earnings, the firm may not be able to pay cash dividend if the earnings are not held in stock. Secondly, Expected rate of return: If a firm has relatively higher expected rate of return on the new investment, the company prefers to retain the earnings for reinvestment rather than distributing cash dividend. Furthermore, Access to the capital market is another factor: If a firm has easy access to capital markets in raising additional financing, it does not require more retained earnings. So a company's dividend payment capacity becomes high. Again, Stability of earning: If a firm has relatively stable earnings, it is more likely to pay a relatively larger dividend than a firm with relatively fluctuating earnings and finally, legal requirements: There are no laws that requires the company to distribute a dividend. Certain conditions are imposed by law regarding the way dividend is distributed. There are three rules relating to dividend payment that includes, the net profit rule, the capital impairment rule, and insolvency rule. Question 8 Payback period = initial cash outlay/ net cash flow per period Initial cash outlay = 2,000,000 and net cash flow = 400,000 2,000,000/ 400,000 = 5 years Part (b) requires calculations of NPV. Project X Total present value = 24,227 Initial cost of investment= 20,000 NPV = 24,227-20,000 = 4,227 Project Y Total present value = 34,728 Initial cost of investment= 30,000 NPV = 34,728-30,000 = 4,728 Project y is chosen because it has a higher NPV value. 9. No, this doesn't constitute an annuity since annuities are regularly paid and does not necessarily mean increments are annuities b) A=P(1+R)N 1000000=250000(1+R)18 4=(1+R)18 1.08=1+R R=8%