Paper I — Q7
(a) The Board of Directors of a company asks to prepare a statement showing working capital estimates for a level of activity of…
The Board of Directors of a company asks to prepare a statement showing working capital estimates for a level of activity of 15,600 units of production. The following information is available for calculation:
(A) Per Unit Cost and Selling Price: Raw materials ₹ 90 Labour ₹ 40 Overheads ₹ 75 ₹ 205 Profit ₹ 60 Selling Price ₹ 265
(B) (i) Raw materials are in stock on an average for one month. Raw materials are in process on an average for two weeks.
Finished goods are in stock on an average for one month.
Credit allowed by suppliers – one month.
Credit allowed to debtors – two months.
Lag in payment of wages – 1½ weeks.
Lag in payment of overheads is one month.
20% of the production is sold against cash. Cash in hand is expected to be ₹ 60,000. It is to be assumed that production is carried on evenly, throughout the year, wages and overheads accrue similarly and the time period of 4 weeks is equivalent to one month. 20 marks
A company has earnings of ₹ 1,00,000. The capital structure of the company contains debt as well as equity in which debt is of ₹ 4,00,000 borrowed at the rate of 10%. Presently, the cost of equity capital of the company is 12·50%. Find out the total value of the company and the overall cost of capital using Net Income approach. If debt is increased or reduced by ₹ 1,00,000, what will be the effect on the value of the company and on overall cost of capital as per the Net Income approach? 15 marks
Discuss the leading financial market instruments and innovative debt instruments in the Indian financial system. Also give suitable examples. 15 marks
हिंदी में प्रश्न पढ़ें
(क) एक कंपनी के संचालक मंडल ने उत्पादन की 15,600 इकाइयों के कार्य-स्तर के लिए कार्यशील पूँजी के अनुमान का विवरण तैयार करने का अनुरोध किया है। निम्नलिखित सूचनाएँ गणना हेतु उपलब्ध हैं:
(अ) प्रति इकाई लागत व विक्रय मूल्य: कच्चा माल ₹ 90 श्रम ₹ 40 उपरिव्यय ₹ 75 ₹ 205 लाभ ₹ 60 विक्रय मूल्य ₹ 265
(ब) (i) कच्चा माल औसतन एक माह हेतु स्टॉक में रहता है। कच्चा माल निर्माणावस्था में औसतन दो सप्ताह रहता है।
तैयार माल औसतन एक माह हेतु स्टॉक में रहता है।
आपूर्तिकर्ताओं द्वारा प्रदत्त साख एक माह की है।
देनदारों को दी गई साख दो माह की है।
मजदूरी भुगतान में विलम्ब 1½ सप्ताह का है।
उपरिव्यय के भुगतान में विलम्ब एक माह का है।
उत्पादन का 20% नकद बेचा जाता है। हस्तगत रोकड़ ₹ 60,000 अनुमानित है। यह माना जाता है कि उत्पादन वर्ष पर्यंत समान रूप से चलता है, मजदूरी व उपरिव्यय भी उसी प्रकार से देय होते हैं और 4 सप्ताह, एक माह के बराबर है। (20 अंक)
(ख) एक कंपनी की कुल आय ₹ 1,00,000 है। कंपनी के पूँजी ढाँचे में ऋण तथा इक्विटी दोनों हैं, जिसमें ऋण की राशि ₹ 4,00,000, 10% ब्याज की दर पर उधारी के रूप में है। वर्तमान में कंपनी की समता अंश पूँजी की लागत 12·50% है। कंपनी का कुल मूल्य और पूँजी की कुल लागत, शुद्ध आय उपागम के अंतर्गत ज्ञात कीजिए। यदि ऋण को ₹ 1,00,000 से बढ़ा दिया जाए या कम कर दिया जाए, तो कंपनी के मूल्य पर और पूँजी की कुल लागत पर शुद्ध आय उपागम के अनुसार क्या प्रभाव पड़ेगा? (15 अंक)
(ग) भारतीय वित्तीय प्रणाली में अग्रणी वित्तीय बाजार उपकरणों तथा नूतन ऋण उपकरणों की विवेचना कीजिए। साथ ही उपयुक्त उदाहरण दीजिए। (15 अंक)
Model answer
Drafted with AI by UPSC Answer Check against this question's marking rubric, to the expected length. UPSC does not publish answers for Mains — this is one way to score well, not an official key. How we build rubrics and answers.
(a) Statement of working capital estimate
Annual production = 15,600 units. Monthly production = 15,600/12 = 1,300 units. 4 weeks = 1 month, so 2 weeks = 1/2 month and 1.5 weeks = 3/8 month.
Current assets:
- Raw material stock = 1,300 × ₹90 = ₹1,17,000
- Work-in-progress: assuming raw material 100% complete and labour/overheads 50% complete.
- RM = 650 × ₹90 = ₹58,500
- Labour = 650 × ₹40 × 50% = ₹13,000
- Overheads = 650 × ₹75 × 50% = ₹24,375
- WIP = 58,500 + 13,000 + 24,375 = ₹95,875
- Finished goods = 1,300 × ₹205 = ₹2,66,500
- Debtors = 2 months credit sales = 2 × 1,300 × ₹265 × 80% = ₹5,51,200
- Cash in hand = ₹60,000
Total current assets = 1,17,000 + 95,875 + 2,66,500 + 5,51,200 + 60,000 = ₹10,90,575
Current liabilities:
- Creditors for raw materials = 1,300 × ₹90 = ₹1,17,000
- Outstanding wages = 1,300 × ₹40 × 3/8 = ₹19,500
- Outstanding overheads = 1,300 × ₹75 = ₹97,500
Total current liabilities = 1,17,000 + 19,500 + 97,500 = ₹2,34,000
Net working capital = 10,90,575 − 2,34,000 = ₹8,56,575
(b) Net Income approach
"Earnings" is taken as earnings before interest (EBIT = ₹1,00,000), which is the usual reading of this textbook problem; the other reading is shown at the end. Under the Net Income approach, Kd (10%) and Ke (12.5%) stay constant whatever the debt, and taxes are ignored.
Present structure (debt ₹4,00,000)
- Interest = 4,00,000 × 10% = ₹40,000; net income for equity = 1,00,000 − 40,000 = ₹60,000
- Value of equity S = 60,000/0.125 = ₹4,80,000
- Value of firm V = S + D = 4,80,000 + 4,00,000 = ₹8,80,000
- Overall cost of capital Ko = EBIT/V = 1,00,000/8,80,000 = 11.36% (check: 10% × 4/8.8 + 12.5% × 4.8/8.8 = 11.36%)
Debt increased to ₹5,00,000
- Interest ₹50,000; net income ₹50,000; S = 50,000/0.125 = ₹4,00,000
- V = 4,00,000 + 5,00,000 = ₹9,00,000; Ko = 1,00,000/9,00,000 = 11.11%
- Effect: value rises by ₹20,000 and Ko falls.
Debt reduced to ₹3,00,000
- Interest ₹30,000; net income ₹70,000; S = 70,000/0.125 = ₹5,60,000
- V = 5,60,000 + 3,00,000 = ₹8,60,000; Ko = 1,00,000/8,60,000 = 11.63%
- Effect: value falls by ₹20,000 and Ko rises.
Under the NI approach, replacing costlier equity (12.5%) by cheaper debt (10%) lowers Ko and raises V, so the optimum is the maximum use of debt; capital structure is relevant.
If ₹1,00,000 is instead read as net income available to equity (after interest), then S = ₹8,00,000, V = ₹12,00,000 and Ko = 1,40,000/12,00,000 = 11.67%; with debt increased, V = ₹12,20,000 (Ko 11.48%), and with debt reduced, V = ₹11,80,000 (Ko 11.86%). The direction of the effect is the same.
(c) Leading financial market instruments and innovative debt instruments
Leading financial market instruments in India include money-market and capital-market instruments. Money-market instruments are short-term, highly liquid and regulated mainly by RBI: Treasury Bills of 91, 182 and 364 days, Commercial Paper issued by corporates and NBFCs, Certificates of Deposit issued by banks, commercial bills, call/notice money, repo, reverse repo and TREPS. Capital-market instruments include equity shares, preference shares, debentures, bonds, Government securities, corporate bonds and non-convertible debentures. Hybrid instruments include convertible debentures, FCCBs and warrants. These instruments provide short-term liquidity and long-term capital, and help in price discovery and risk transfer.
Innovative debt instruments in the Indian financial system include:
- Masala bonds: rupee-denominated offshore bonds, e.g. issued by IRFC and HDFC.
- Green bonds: used for renewable and sustainable projects, e.g. SBI, IREDA, REC.
- Sovereign Gold Bonds: issued by RBI on behalf of the Government of India as an alternative to physical gold (no fresh tranches have been issued since February 2024).
- Inflation-indexed bonds: protect investors against inflation.
- AT-1 and Tier-2 bonds: Basel III capital instruments issued by banks.
- Securitised debt and pass-through certificates: pools of loans converted into marketable securities.
- Municipal bonds: issued by cities such as Pune, Ahmedabad and Indore.
- Market-linked debentures, credit-enhanced bonds, infrastructure debt funds, InvIT/REIT debt, ECB and FCCB structures.
These instruments deepen the debt market, diversify funding sources, manage risk and support infrastructure and green finance. They are regulated by RBI, SEBI and other authorities.
How this answer will be evaluated
Framework: Net Income Approach (Dixit-Moody)
What earns full marks: Accurate calculations with clear working notes; correct application of Net Income approach; comprehensive discussion with specific examples.
Evaluation rubric
Each sub-part is marked on its own, against the marks and word limit printed on the paper.
- (a) Prepare a statement of estimated working capital for 15,600 units. 20 marks
calculate— given → formula → substitution → result with units → interpretation
Must cover
- Monthly output 1,300 units; 2 weeks = ½ month, 1½ weeks = 3/8 month
- Raw material stock 1,17,000; WIP ½ month (RM full, labour and overheads 50%) = 95,875; finished goods at cost 2,66,500
- Debtors: 2 months of credit sales (80%) = 5,51,200 at selling price (or 4,26,400 at cost, if stated); cash 60,000
- Current liabilities: creditors 1,17,000, wages 19,500, overheads 97,500; net working capital ₹8,56,575
Loses marks
- Valuing finished goods at selling price
- Taking all sales as credit sales
Earns more
- States assumptions on WIP stage and debtors valuation
- Shows total current assets 10,90,575 and current liabilities 2,34,000
Extra mark
- Adds a margin of safety or explains cash-cost basis
- (b) Find the value of the firm and overall cost of capital under the Net Income approach, and the effect of ±₹1,00,000 debt. 15 marks
calculate— given → formula → substitution → result with units → interpretation
Must cover
- States NI approach assumptions: Kd and Ke constant, no taxes; capital structure relevant
- Treating ₹1,00,000 as EBIT: S = 60,000/0.125 = 4,80,000; V = 8,80,000; Ko = 11.36%
- Debt 5,00,000: V = 9,00,000, Ko = 11.11%; debt 3,00,000: V = 8,60,000, Ko = 11.63%
- Conclusion: more debt raises V and lowers Ko under NI approach (either interpretation of 'earnings' accepted if stated: V 12,00,000/12,20,000/11,80,000)
Loses marks
- Changing Ke with leverage under NI approach
- Arithmetic errors in V or Ko
Earns more
- Weighted-average check of Ko
- Contrast with NOI approach
Extra mark
- Comment on limits of NI approach (rising Ke with leverage ignored)
- (c) Discuss leading financial market instruments and innovative debt instruments in India with examples. 15 marks
discuss— intro → 3-4 dimensions → example → balanced close
Must cover
- Money market instruments: T-bills, CP, CD, call/notice money, repo, TREPS
- Capital market instruments: equity, preference shares, debentures/bonds, G-secs; hybrids
- Innovative debt instruments: green/sovereign green bonds, masala bonds, municipal bonds, InvIT/REIT debt, AT-1 bonds, securitised debt, inflation-indexed bonds
- Examples and role in deepening the debt market and financing infrastructure/green projects
Loses marks
- Listing instruments without examples
- Confusing money and capital market instruments
Earns more
- Regulators: RBI and SEBI
- Recent developments (e.g., sovereign green bonds 2023, municipal bonds by Indore/Ahmedabad)
Extra mark
- Note on discontinuation of new Sovereign Gold Bond issues
What "Calculate" is asking you to do
Apply the standard formula or schedule to data the question has already supplied — a table of readings, cost records, a balance sheet — and produce the number. The method is rarely in doubt; the marks sit in the named intermediate quantities, each of which has to appear as a labelled line.
Structure that answers it
Data as given → formula or standard treatment, named → substitution → each intermediate, labelled → result with units
Where marks are lost
Omitting an intermediate the marking scheme pays for separately, or rounding at an intermediate line so the final figure drifts. In commerce and accountancy, any figure in a statement that no numbered working note supports is treated as unearned.
Practice this exact question
Write your answer and it is marked point by point against the model answer above — what you covered, what you missed, what you got wrong.
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