QUESTION FOR PRACTICE 

Q.1.  The expected EBIT of a firm is Rs.2,00,000. It has issued equity share capital with ke @ 10% and 6% debt. Of Rs.5,00,000. Find out the value of the firm and the overall cost of capital , WACC . 

Ans.  V is 22,00,000 and KO is 9%. 

Q.2.  A firm has an E B I T of Rs.2,00,000 and belongs to a risk class of 10% . what is the value of cost of equity capital if it employees 6% debt. To the extent of 30% , 40% or 50% of the total capital fund of Rs.10,00,000. 

Ans.  Cost of equity is 10.7%, 11% and 11.33%. 

Q.3.  ABC ltd. Is an unlevered firm having total assets of Rs.50,00,000( all represented by share capital of Rs.50,00,000) and equity captitalization rate , Ke , (which is also, Ko, for the unlevered firm) of 10% . In has EBIT of Rs.10,00,000 subject to corporate tax @ 40%. Find out value of firm. 

Ans.  60,00,000. 

Q.4.  XYZ ltd. Having total assets of Rs.50,00,000 and have 5% Debt. Of Rs.20,00,000 . EBIT is Rs.10,00,000 and tax rate is 40%. Find out value of firm. 

Ans.  68,00,000. 

Q.5.  Four firms, Ulev , Levl 1, Levl2 ,levl3, are alike in all respects the percentage of 10%  Debt present in their capital structure . the EBIT of all these firms is Rs.1,50,000 and corporate tax is 30%. interest income to investors is taxable@ 20% and corporate Dividend tax Rate is 20% . Analyze the income position of the investors of different firms . (Assume total capital of the firm is 10,00,000 and Lev.1 hold 10% debt, lev2 hold 30% debt and lev. 3 hold 50% debt) 

Ans.  Total income after tax is 87,500, 89,667 , 94,000, 98,333. 

Q.6.  S. Ltd. And T. Ltd. Are in the same risk class and are identical in all respects. Except that company S uses debt while company T does not use debt . the levered firm has Rs.9,00,000 debentures carrying 10% rate of interest. Both the firm earn 20% opening profit on their total assets of Rs. 15 lacs . the company is in the tax bracket of 35% and capitalisation rate of 15% on all equity share .You are required to company the value of S Ltd. And T Ltd. Using net income approach. Consider after tax risk. 

Ans.  Value of S is 18,10,000 and T is 13,00,000. 

Q.7.  NOI Ltd. Belongs to class of 10% and expects EBIT of Rs.4,00,000 . it employs 8% debt in the capital structure . find out the value of the firm and cost of equity capital Ke, if it employs debt to the extent of 20% ,35% and 50% of the total financial requirement of Rs.20,00,000. 

Ans.  10.22%, 10.42% 10.67%. 

Q.8.  Aparna steel Ltd . has employed 15% debt of Rs.12,00,000 in its capital structure. The net operating income of the firm is Rs.5,00,000 and has an equity capitalization ratio of 16% .assuming that there is no tax ,find out the value of the under the NI Approach. 

Ans.  32,00,000. 

Q.9.  The net operating profit of a firm is Rs.2,10,000 and the total market value of its 12% debt is Rs.3,00,000. The equity capitalization rate of an unlevered firm of the same risk class is 16% . find out the value of the levered firm give that the tax rate is 30% for both the firms. 

Ans.  U Firm 9,18,750 and L Firm 10,08,750. 

Q.10.  The following is the data regarding two companies X and Y belonging to the same risk class: 



All profit after debenture interest are distributed as dividends . Explain how under Modigliani & miller approach ,an investor holding 10% of share in company X will be better off in switching his holding to company Y. 

Ans.  Net income is 1440. 

Q.11.  From the following selected data, determine the value of the firm, P and Q belonging to the homogeneous risk class under (a) Net Income , and (b) net operating income approach 



Which of the two firms has an optimal capital structure under the (i) N I approach and (ii) NOI approach ? 

Ans.  Ans. 8,75,000, 5,62,500. 

Q.12.  Company U and L are identical in every respect except that the former does not use debt in its capital structure , while the latter employs Rs.6,00,000 of 15% debt . Assuming that (a) all the MM assumptions are met ,(b) the corporate tax rate is 50% (c) the EBIT is Rs.2,00,000 and (d) the equity capitalization of the unlevered company is 20% , what will be the value of the firm , U and L ? also determine the weighted average cost of capital for both the firms. 

Ans.  VU : Rs.5,00,000, VL : Rs.8,00,000 Ko of UF is 20% and Ko of LF is 12.5%. 

Q.13.  Firm A and B are similar except that A is unlevered. While B has Rs.2,00,000 of 5% debentures outstanding. Assume that the tax rate is 40%; NOI is Rs.40,000 and the cost of equity is 10%. (i) Calculate the value of the firm, if the MM assumptions are met. (ii) if the value of the firm B is Rs.3,60,000 then do these values represent equilibrium values. If not , how will equilibrium be set ? explain 

Ans.  VA is 2,40,000 and VB 3,20,000. 

Q.14.  Khandan ltd has 10,00,000 equity shares of Rs.10 each and 10% Debentures of Rs.14,00,000. The equity shares are being traded at Rs.24 per share and the debenture at par value. The return on equity shares is 20%. Find out the equity rate of return applying the MM Model (without taxes) 

Ans.  K_{o} 16.31%. 

Q.15.  ABC Ltd. having an EBIT of Rs. 1,50,000 is contemplating to redeem a part of the capital introducing debt financing debt financing. Presently, it is a 100% equity firm with equity capitalization rate, k_{e}’ of 16%. The firm is to redeem the capital by introducing debt financing up to Rs. 3,00,0000 i.e. 30% of total funds or up to Rs. 5,00,000 i.e., 50% 505 of total funds. It is expected that for the debt financing up to 30%, the rate of interest will be 10% and the k_{e} will be 20%. Find out the value of the firm and its WACC under different levels of debt financing. 

Ans.  0% Deb: V 9,37,500 / 30% Debt: 10,05,882 50% 9,50,000.  