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B.Com. LL.B. (Five Years) Sem 4 Financial Management 2014 Jun (100 marks) Question Paper with Solutions

KSLU Solved Question Papers

Financial Management

Previous Year Question Paper with Solution

B.Com. LL.B. (Five Years) · Sem 4

2014 Jun (100 marks) Examination

munotes.in

Mumbai

First published on munotes.in on 21 October 2026.

Published by munotes.in, Mumbai.

Model answers written and edited by the munotes.in editorial desk.

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The question paper reproduced here is the paper as set by Karnataka State Law University at the 2014 Jun (100 marks) examination.

The questions below are the paper as Karnataka State Law University set it at the 2014 Jun (100 marks) examination, in the order it was set.

MarksPage

The Paper as Set

The questions in this volume are the questions asked at the 2014 Jun (100 marks) examination, reproduced as Karnataka State Law University set them, in the order it set them. Long reading passages are shortened to their first and last lines and our summary; the original paper prints them in full. Only the answers are ours. See the original question paper.

Duration 3 hours · Total marks 100 · 20 questions answered

Instructions printed on the paper

N.B. (1) Answer all 5 questions. (2) Figures to the right indicate marks.

How to use this volume

Solve the paper first, under exam conditions and against the clock. Then read the answers here and mark your own. Reading a solution before attempting the question feels productive and teaches very little, because recognising an answer is not the same as being able to write one.

Read the original question paper

Q1

Unit I

(a)Ravindra Ltd. has the following capital :[15]

Answer

The figures given in the question


Equity share capital (2,00,000 shares of Rs. 20 each)	40,00,000
6% Preference share capital	10,00,000
8% Debentures	30,00,000

The market price of equity share is Rs. 20/share. The company is expected to pay dividend of Rs. 2 per share which will grow at 7%.

1) Calculate weighted average cost of capital assuming that the company is under 50% tax bracket.

2) Also calculate the new weighted average cost of capital, if the company raises an additional Rs. 20,00,000 debt by issuing 10% debentures. This would result in increase in the expected dividend to Rs. 3 per share and leave the growth rate unchanged, but the market price of the share will comes down to Rs. 15 per share.

For full marks, cover: the cost of equity from the expected dividend, price and growth; the cost of the preference shares; the after-tax cost of the 8 per cent debentures; (1) the WACC on the present structure, worked by weights and checked by total cost; (2) the costs after the issue of Rs 20,00,000 of 10 per cent debentures and the new WACC; why the WACC rises; a note on market value weights; and a conclusion.

Specific costs at present

Equity (Ke). The dividend expected next is Rs 2, the price Rs 20 and the growth rate 7 per cent. By the Gordon growth model:

Ke = D1 / P0 + g = 2 / 20 + 0.07 = 0.10 + 0.07 = 0.17, that is 17 per cent.

Preference shares (Kp). A 6 per cent dividend on capital taken at par gives Kp = 6 per cent.

Debentures (Kd). The interest of 8 per cent is a tax-deductible expense at 50 per cent:

Kd = r × (1 - t) = 8 × (1 - 0.50) = 4 per cent.

The share price of Rs 20 equals the face value, so the book value of the equity is also its market value. Book values are used as weights.

(1) Present WACC

Source	Amount (Rs)	Weight	Cost (%)	Weighted cost (%)
Equity share capital	40,00,000	0.500	17	8.50
6% Preference share capital	10,00,000	0.125	6	0.75
8% Debentures	30,00,000	0.375	4	1.50
Total	80,00,000	1.000		10.75

Weight of equity = 40,00,000 / 80,00,000 = 0.5.

Check by total cost. 40,00,000 × 17% + 10,00,000 × 6% + 30,00,000 × 4% = 6,80,000 + 60,000 + 1,20,000 = 8,60,000. 8,60,000 / 80,00,000 × 100 = 10.75 per cent.

(2) WACC after Rs 20,00,000 of 10 per cent debentures

New cost of equity. The dividend expected rises to Rs 3, the growth rate stays at 7 per cent, but the share price falls to Rs 15:

Ke = 3 / 15 + 0.07 = 0.20 + 0.07 = 0.27, that is 27 per cent.

The new cost applies to all the equity, since every share now trades at the lower price.

Cost of the new debentures. Kd = 10 × (1 - 0.50) = 5 per cent.

Source	Amount (Rs)	Weight	Cost (%)	Weighted cost (%)
Equity share capital	40,00,000	0.40	27	10.80
6% Preference share capital	10,00,000	0.10	6	0.60
8% Debentures	30,00,000	0.30	4	1.20
10% Debentures	20,00,000	0.20	5	1.00
Total	1,00,00,000	1.00		13.60

Check by total cost. 10,80,000 + 60,000 + 1,20,000 + 1,00,000 = 13,60,000 on capital of Rs 1,00,00,000, which is 13.6 per cent.

Why the WACC rises

Particulars	Before	After
Debt in total capital	37.5%	50%
Cost of equity	17%	27%

Particulars	Before	After
Cost of new debt (after tax)		5%
WACC	10.75%	13.60%

The new debt itself is cheap at 5 per cent after tax. But it raises borrowing to half the capital. Shareholders see a much greater risk to their dividends and push the price down from Rs 20 to Rs 15. Their required return rises by 10 percentage points. Equity is still 40 per cent of the capital, so this rise adds 0.40 × 10 = 4 percentage points to the WACC. The cheaper debt cannot make up for it. On these figures the company has borrowed beyond its best capital structure. This supports the traditional view that the WACC falls only up to a point and then rises.

On market value weights. After the issue the equity is worth 2,00,000 × 15 = Rs 30,00,000 in the market. Its total cost is then 30,00,000 × 27% = 8,10,000. With the other sources unchanged, the total is 8,10,000 + 60,000 + 1,20,000 + 1,00,000 = 10,90,000 on Rs 90,00,000, about 12.11 per cent. That is still above the present 10.75 per cent.

Conclusion. At present Ke is 17 per cent, Kp 6 per cent and Kd 4 per cent after tax, and the WACC is 10.75 per cent. After Rs 20,00,000 of 10 per cent debentures, Ke rises to 27 per cent and the new debt costs 5 per cent after tax. The WACC rises to 13.6 per cent on book value weights, so the extra borrowing is not advisable.

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