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Department of Management Studies
BA- 1652 Financial Management
Two Mark Questions &Answers
1. What is spontaneous financing?
Spontaneous financing refers to the automatic source of short term funds arising
in the normal course of short term course of business. Trade credit and out standing
expenses are examples of spontaneous financing.
2. What is operating cycle?
Working capital is required to fill the gap between the sales and their actual
realization in cash .Convert raw materials into finished good and sales is called operating
cycle.
3. What is permanent or fixed working capital?
Minimum amount of investments in all current assets which is required at all-times
to carry out minimum level of business activities. It is permanently heeded for the
business and it should be financed out of long term funds.
4. What is regular working capital?
It is the minimum amount of working capital required to ensure circulation of
current assets from cash to inventories, inventories to account receivable and account
receivables to cash and so on.
5. What is reverse working capital?
It is the excess of amount over the requirement for regular working capital may
be provided for contingencies that may arise at unstated periods such as strikes ,rise in
price ,depression etc.
6. What is temporary working capital?
The amount of such working capital keeps on fluctuating from time to time on the
basis of business activities .It is cyclical in nature.
7. What is marginal cost of capital?
It is the current rate of interest or return on long term debt .It is the average cost of
new or incremental funds raised by the firm marginal cost tends to increase
proportionally as the amount of debt increases.
8. What is retained earnings?
Retained earnings are undistributed and represented by uncommitted reserves and
surpluses.
9. What is share buy back?
Share buy back is the equity re purchase in USA and now feasible in India.
Two methods for share buy back in India
Tender Method
A company offers to buy back at a specific price during a specified period.
Open Market repurchase
A company buys shares from secondary market over a period subject to
maximum price fixed by the management.
10. What is surip dividend?
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Company’s earnings justify dividend but company is not in apposition to pay
dividend in the form of cash .So they declare dividend in the form of surip. Surip is a
transferable promissory note which may or may not bear interest.
11. What is spot cost?
It is the rate prevailing in the market for sources of fund at a given period of time.
12. What is reverse Split?
The reduction of out standing shares by incurring par value per share is called
reverse Split.
13. A company raises preference Share capital of 100000 by issue of 10% preference
shares of Rs.10 each. Calculate the cost of preference share capital when they are issued
at
(1) 10% premium and
(2) 10% discount
Solution
Kp = (Dp \Np )
= (100000÷110000)×100
= 9.09%
ii)
Kp = (100000÷90000)×100
= 11.11%
14. What is capital gearing?
The relation of ordinary shares to preference share capital is called capital gearing.
15. Define operating leverage
The relation between sales and LBIT is called operating leverage
Operating leverage = % change in EBIT
% change in sales
16) What is investment decision and capital budgeting?
It is referred to activity of deciding the pattern of investment .It is the decision of
allocation of capital of funds to long term assets that would yield benefits in furniture.
17) What is financing decision?
It is referred to the decision of financial executive in estimating the total capital
funds of business unit and mobilization of the same by selecting securitier.
18. What is NPV?
It is the discounted cash flow techniques explicitly recognizing time value of
money. The cash in flow is to be received at different period of time will be discounted
at a particular discount rate
PV =
1
(1+r)n
19. What is pay back Method?
It refers to a period in which the project will generate the necessary cash to
recover the initial investment. It does not take the effect of time value of money.
PBP =
Original investment
Annual cash in flow
20. What is IRR?
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It is the rate at which the sum of discounted cash in flow. It is the rate at which
NPV of the investment in zero.
21. What is the profitability index?
It is the time adjusted method of evaluating the investment proposals. It is also
called Benefit cost ratio. It is the ratio of PV of cash inflows at the required rate of return
of the initial cash out flow of investment.
21. Define cost of capital?
Cost of capital is the minimum required rate of return or earnings or the cost of
rate of capital expenditure.SolomonEzra
22. What is trading on equity?
The use of fixed charges. Sources of funds, such as debt and preference share capital
along with owners in the capital structure company described on trading on equity.
23. What is residual value?
The value of equity is a residual value which is determined by deducting the total
value of the firm.
24. What is dividend pay out ratio?
Dividend pay out ratio is the percentage share of the net earnings distributed to
the shareholders or dividends.
25. What is Arbitrage process?
An act of buying security which has low risk and sell it in high risk market at high
price.
26. What is stock split?
Increasing number of shares by reducing par value of shares.
27. A company’s current price of share is 60 and dividend per share is Rs.4 If its
capitalization rate is 12% .What is dividend growth?
Kp = (DP ÷MP ) +q
12 = (4\60) +q
q = 11.93%
28. What do you mean by financial break even?
EBIT in the firm is just sufficient to cover the fixed financial charges, then such
level of EBIT is known as financial break even.
29. What is ARR?
ARR = Average income
Average investment
Or
Average Accounting profit after deprecation and tax
Average investment
Or
Average Accounting profit after depnand and tax
Original investment
30. Explain then term float.
Float is the amount of money required to get into business. This is the minimum
amount necessary for maintaining a going concern which is in a position to serve its
customer.
31. What is future cost of capital?
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Future cost of capital refers to the expected cost of funds to be raised to finance
project.
32. Explain historical cost?
Historical cost represents cost incurred in the past in acquiring funds.
33. What is explicit cost?
Explicit cost of capital is the discount rate that equates the present value of cash
in flow with the present value of cash out flows.
34. What is spot cost?
Spot cost is the rate prevailing in the market at o a given time.
35. What is profit maximization?
It is the short term goal which ends to maximize rupee income of firms. Profit
Maximization should serve us the basic criterion for decision arrived at financial
managers of privately owned and controlled firms. Profit ensures maximum welfare to
share holders and it does not consider time value of money.
36. Define wealth maximization goals of the firm.
The goals of management may be such that they should be beneficial to the
owner’s customers and management. These goals may be achieved only by maximization
are measuring benefits in term of cash flows by considering time value of money.
37. Define capital rationing.
Capital rationing occurs at any time when there is budget ceiling on the amount of
funds which can be invested during a specified period. Primarily capital rationing arises
in a firm when they have a policy of financing all capital expenditure internally.
38. Explain 6 A’s of financial management
· Anticipating the financial needs
· Acquiring funds
· Allocation of funds
· Administering allocation of funds
· Analyzing the performance of financing
· Accounting and reporting
39. What is money market?
Money market is a market where short term financial assets are traded and these
assets represent a claim to a payment of sum of money some time in future. It is mainly
for raising funds for working capital.
40. What is call money market?
It is a part of national money where day to day surplus funds (i.e.) mostly of bank
are traded in. Normally the maturity period varies from one day to fortnightly.
41. What is capital market?
It is a market where long term securities are traded. A market in which financial
assets are traded. A market where financial assets are created and transferred for more
than one period time.
42. What is government securities market?
It is a market where gilt-edged securities are traded.
43. Define lease
Lease is a contract where one party grants other party the right to use the asset for
a period of payment.
44. What is financial rise?
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Variability in actual returns from financial assets. The firm could not meet its
financial charges.
45. What is over capitalization?
According to Dewey V Kelli,”when a business is unable fair rate of return on its
outstanding securities over capitalized.
46. Define under capitalization
It refers to the state of affairs where earning of corporation justify the amount of
capital invested in the business.
47. What is trading on equity?
The use of the fixed charge source of fund such as debt and preference capital
along with owners in the capital structure.
48. Define Leverage.
It is relative change in profit due to change in sales.
49. Define financial Leverage.
Financial leverage is defined as the ability of affirm to use fixed financial charges
to magnify the subject charges in EBIT on the firms EPS.
50. What is secured premium notes?
The SPN is a secured debenture redeemable at the premium over the face value /
purchase price. It resembles zero interest bonds.
51. What is option?
Option is a derivative security and derives its value from a un delaying
security\asset. An option is an instrument that provides its share holders an opportunity to
purchase\ sell a specified security/ asset at a stated price on / before specified expiration
date.
52. Define bond.
Bond is a long term debt instrument or security or it is an instrument
acknowledging the debt. The bonds issued by government do not have any default risk.
Government will always honor obligation in bonds. Bonds in public sector Company in
India. Are generally secured but they are not free from default risk.
53. What is Book value?
The book value per share is simply the net worth of the company divided by the
number of out standing equity share.
54. What is capital gain?
Assets such as shares, debentures and real estate are called capital assets.
For e.g. you buy a capital asset and later sell it at a greater than real cost the gain is called
capital gain.
55. What are convertible Debentures?
A debenture may be issued with the feature of being convertible into equity shares
after a specified period of time at a given price. Thus a convertible debenture will have
features of debenture and equity.
56. What is return?
Return is the reward or expected rate or expectation of the investors from the
investment or it is expectation for sacrificing something currently or presently.
57. What are earnings per share?
EPS shows probability of the firm on a per share basis, it does not reflect the
dividend payment.
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The EPS is calculated by dividing the profit after taxes by total number of ordinary shares
outstanding.
EPS =Profit after tax
No of shares outstanding
58. What is price Earning Ratio?
Price Earning ratio is calculated as the price of a share dividend by EPS.
Price earning ratio reflects the price currently being paid by the market for each
rupee of currently reported EPS.
59. What is rate risk?
The uncertainly (i.e.) associated with the expected returns from a financial
instrument attributable to changes in interest rate is known as interest rate risk.
60. What is inflation risk?
It is associated with decrease in purchasing power of money and account of
inflation. It is largely systematic risk.
61. What is yield to maturity?
It is measure of bonds rate of return that considers both the interest income and
any capital gain or loss. YTM is bonds internal rate of return.
KD= Interest
Bond value
OR
Interest
Current yield
62. What is intrinsic value?
Standard of value judging whether the stock is over priced or under priced in the
market price and their value is called intrinsic value.
63. What is present value?
The present value o0f the bond is discounted value of its cash flow. The PV or
discounted cash flow procedure recognize that cash flow stream at different time periods
differ in value and can be compared only when they are expressed in terms of common
denominator present value.
64. What is replacement value?
Replacement value is the amount that a company would be required to spend if it
were to replace its existing assets in the current condition .Replacement value is also
likely to ignore the benefits of intangibles and the utility of existing assets.
65. What is Liquidation value?
Liquidation value is the amount that a company could realize if it sold its assets
after having terminated its business. It is generally a minim um value which a company
might accept if it sold its business.
66. What is coupon rate?
A bond carried a specific interest rate is called coupon rate.
67. Define financial management?
Financial management is the operation activity of a business that is responsible
for obtaining and effective utilizing the funds necessary for efficient operation.
68. What is purchasing power risk?
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It is associated with decrease in purchasing power of money on account of
inflation. It is largely of systematic risk. High inflation affects capital values of
investment.
69. What is Business Risk?
It is associated with the fluctuation in firm’s earnings. The more the valuations in the
earning streams, the greater the business risk faced by the firm. It is closely associated
with investment decision of the firm.
70. What is financial risk?
It is connected with capital structure decisions of the firm. The presence of fixed
interest bearing securities can always take priority as a part of earnings of the company
and leave behind no or less earnings for common share holders.
71. What are demand loans?
Demand loans are loans repayable on demand by the bank. Under the current loan
delivery system, borrowers with working capital limit of Rs. 10 crores or more from
entire banking system have avail 80% of their sanctioned limit as demand loan.
72. What is Securitization?
Securitization is the process by which a selected pool of homogeneous and quality
assets of lending institution is sold to investors through a trust\intermediary by packaging
them in the form of securities which are transferred by way of pass through or through
certificates.
73. What is Inter corporate Deposit (ICDS)?
ICDS are short term deposits made by corporate with seasonal surplus funds with
another company either directly or indirectly through brokers.
74. What is initial investment?
The incremental after tax cash flow to acquire construct and prepare project assets
for operations.
75. What is for fating?
For fating is one of the innovative methods of post shipment export finance where
100% medium term export receivables are discounted on a without recourse basis to the
exports.
76. What are equity shares?
A security which represents ownership interest in a company.
77. Explain Debenture capital?
A long term debt security issued by a company, having a fixed maturity and
bearing a stated coupon rate.
78. What is venture capital?
Long term funds in equity or quasi equity forms to finance high tech projects
involving high risks but having potential of high profitability.
79. Explain Euro issue?
A issue of bearer securities issued in a currency other than that of country of
issued and sold internationally to raise funds.
80. What is GDR?
A GDR is a negotiable certificate in foreign currency ,representing a company’s
one or more ordinary shares which is created by over seas depository bank, authorized by
issuing company.
81. What is ECB?
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External commercial borrowing is borrowing by corporate \ financial institution
from international markets at commercial rates.
82. What is a net owned fund?
It is owner’s equity and free reserves net of accumulated loss intangible
assets\deferred revenue expenditure computed on the basis of last audited balance sheet
of concern.
83. What is a factor?
A financial institution which offers factoring services.
84. What is stick debt?
Debt outstanding in the factors book beyond 150 days of invoice date.
85. What is full factoring?
This is also called without recourse factoring or old line factoring. This classical
form of factoring is most comprehensive and includes services such as maintenance of
sales ledger collection of receivables credit control, credit protection and financing of
receivables. Here factor approves the customers for credit risks based on his credit
worthiness.
86. What is recourse factoring?
Under this factoring, all facilities of full factoring except that of credit protection
available to the client. Thus the factor accepts no credit risks. Hence it may not accept
customers or fix credit limits. It acts merely as collection agent of the supplies besides
providing finance and maintaining sales ledger.
87. What is maturity factoring?
This is also called “collection factoring “. The factors administers clients sales
ledger and renders debt collection services. There is no client risk to the factor.
88. What is net lease?
In net lease, the lesser will not be provide, directly or indirectly or be obliged to
provide any of the following for the leased property
· The servicing, repair or maintenance
· The purchasing of parts or accessories
· Replacement or substitute while servicing the leased property
89. What is in house leasing?
When an industrial grouping promotes a leasing company for the benefit of
companies in the same group that is a case of in house leasing. This is done to avail tax
benefits. Since the lease rentals and depreciation on these lease assets are claimed as tax
deductible charges reducing the amount of taxable income.
90. What is wet and dry lease?
Wet is lease in aircraft industry for providing for financing as well as servicing
and fuel. Dry lease provides for only financing.
91. What are bonus shares?
It is also called stock dividend .An issue of bonus share represents a distribution
of share in addition of cash dividend to existing shares holders.
92. Explain Blue Chip?
These are stocks of high quality. Financially strong company which are usually
leaders in the industry. They are stable or matured companies. They pay good dividend
regularly.
Eg Stock of Colgate, Ponds, Hindustan Lever etc .
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93. What is growth stock or glamour stock?
Company’s whose earnings per share is growing faster than the economy (i.e.) at
a rate higher than that of a average firm in the industry. Often the earnings are ploughed
with a view to use them for financial growth .They invest R&D to diversify with an
aggressive market policy. Eg ITC, Bajaj Auto etc.
94. What is income tax?
A company that pays a large dividend to market price is called an income tax.
They are also called defensive stock Eg. Drug, food or shares of public utility.
95. What is cyclic stock?
Shares of company’s whose earnings fluctuate with business cycle they are
affected by economic / trade cycles.
96. Explain discount shares?
It is quoted or valued below their face value. These are different from under
valued or under priced shares.
97. What is sweat equity?
The equity shares issued by a company to employees or directors for discount for
consideration other than cash or providing technical know how or making available rights
in the nature of intellectual property or value addition by whatever name called.
98. What is secured debentures?
Also known as bonds. The rate of interest on debenture is specified and interest
charges are treated as deductible expenses. They are secured fully or partially by the
assets of the company.
99. What is floating rate bonds?
Normally conventional bonds carry fixed rate of interest. But floating rate bonds
do not carry any fixed rate of interest and their interest rate is the response of inflation
risk. The prices of these bonds are stable and closed to par value or face value compared
to fixed interest bonds.
100. What is commodity linked bonds?
Price of this type of linked bonds to some extends or it is linked with commodity.
Commodity linked bonds have been a response volatility commodity prices.
101. What are callable bonds?
These type of bonds give the issuer redeem them prematurely on certain terms.
102. What is puttable bonds?
Give the investors to prematurely sell them back to the issuer on certain terms.
103. What is bearer debentures?
The names of the holder of such debentures are not available in the register of
company. This is because the original holder and sequently and buyer does not appear on
the register of the company. These debentures can be transferred freely by mere delivery.
104. What is retained earnings?
It is accumulation of profit by a coy and normally retained earnings are utilized
for repayment of loans or developmental activities. It is also known as ploughing back of
profit.
105. What is cash credit?
Cash credit is arrangement by which a banker allows a customer to borrow money
at a certain limit. Cash credit arrangements are usually made against security of
commodity hypothecated or pledged with bank.
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106. What is hypothecation?
In case of hypothecation possession of goods is not given with bank. The goods
are retained with the borrower. The bank is given access to goods whenever it so desires.
The borrower shows periodical returns to bank and advance is granted by bank only to
person in whose integrity it has full confidence.
107. Explain pledge.
In case of pledge, goods are in custody of bank ie. Borrower has no right to deal
the goods until the repayment is made.
108. What is merchant banking?
It is a service banking concerned with proriding non fund based services of
arranging funds rather than providing them. The merchant banking merely act as a
intermediary whose main task is to transfer capital from those who owned capital and to
whom need fund.
109. What is over draft?
Under this facility borrowers are allowed to over draw their accounts up to a
certain limit. Such over drafts may be temporary or regular. It may be secured or
unsecured over draft.
110. Explain term loan.
Term loan is a method of debt financing with maturity period of one year to about
10 years. It provides for a fixed and often large amount of loan required either for setting
up a new unit or financing the expansion / diversification / modernization of the project
in terms of land building plant and machinery or permanent addition to current assets.
Hence term loan is also called project financing.
111. What is deferred payment guarantee (DPG)?
A deferred payment guarantee is a contract under which a promises to pay the
supplier the price of machinery supplied by him on deferred terms, in agreed installments
with stipulated interest in the respective due dates, in case of default in payment thereof
by the buyer.
112. What is bridge finance?
The term bridge finance is the loan taken by the firms to adjust the time lag
between the receipt of application of loan and disbursement of loan by financial
institutions.
113. Explain loan syndication?
It means commitment of term loans from financial institutions and banks for
financing a particular project. Two or more financial institutions agree to finance a
particular project and one of the institutions may become a lead institution.
114. What is book building?
The issuing company is required to tie up with the issue amount by way of private
placement. The issue price is not determined well in advance.
115. What is weighted average cost of capital (WACC)?
The combined cost of all sources of capital is called overall cost or weighted
average cost of capital. The component costs are combined according to the weight of
each component capital to obtain the average costs of capital.
116. What is capital structure?
The mix of debt equity is called firm’s capital structure.
117. What is marginal cost of capital?
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The weighted average cost if new or incremented capital is known as the marginal
cost of capital.
118. What is salvage value?
Salvage value may be defined as the market price of an investment at the time of
its sale.
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