12th Commerce SP Chapter 1 (Introduction to Corporate Finance) Maharashtra Board – Free Solution

12th Commerce SP Chapter 1

12th Commerce SP Chapter 1

CHAPTER 1 – INTRODUCTION TO CORPORATE FINANCE

Q.1 A) Select the correct answer from the options given below and rewrite the statements.

1) _____ is related to money and money management.
a) Production
b) Marketing
c) Finance

2) Finance is the management of _____ affairs of the company.
a) Monetary
b) Marketing
c) Production

3) Corporation Finance deals with the acquisition and use of _____ by a business corporation.
a) Goods
b) Capital
c) Land

4) Company has to pay _____ to the government.
a) Taxes
b) Dividend
c) Interest

5) _____ refers to any kind of fixed asset.
a) Authorised Capital
b) Issued Capital
c) Fixed Capital

6) _____ refers to an excess of current assets over current liabilities.
a) Working Capital
b) Paid-up Capital
c) Subscribed Capital

7) Manufacturing industries have to invest _____ amount of fund to acquire fixed assets.
a) Huge
b) Less
c) Minimal

8) When the population is increasing at a high rate, certain manufacturers find this as an opportunity to _____ business.
a) Close
b) Expand
c) Contract

9) The sum of all _____ is gross working capital.
a) expenses
b) current assets
c) current liabilities

10) _____ means mix up of various sources of funds in the desired proportion.
a) Capital budgeting
b) Capital structure
c) Capital goods

Q.1 B) Match the pairs.

Group AGroup B
a) Capital budgeting1) Sum of current assets
b) Fixed capital2) Deals with acquisition and use of capital
c) Working capital3) Fixed liabilities
d) Capital structure4) Sum of current liabilities
e) Corporate finance5) Fixed assets
6) Investment decision
7) Financing decision
8) Deals with acquisition and use of assets
9) Mix up various sources of funds
10) Product mix

Answers.
a. 6) Investment decision
b. 5) Fixed assets
c. 1) Sum of current assets
d. 9) Mix up of various sources of funds
e. 2) Deals with acquisition and use of capital

Q.1 C) Write a word or a term or a phrase which can substitute each of the following statements.

1) A key determinant of the success of any business function.
Ans: Finance

2) The decision of the finance manager ensures that the firm is well capitalized.
Ans: Financing Decision

3) The decision of the finance manager to deploy the fund in a systematic manner.
Ans: Investment Decision

4) The decision of the finance manager ensures that the firm is well capitalized.
Ans: Fixed capital

5) The sum of current assets.
Ans: Working Capital

6) The excess of current assets over current liabilities.
Ans: Working Capital

7) The process of converting raw material into finished goods.
Ans: Production Cycle

8) The boom and recession cycle in the economy.
Ans: Business Cycle

9) The ratio of different sources of funds in the total capital.
Ans: Capital Structure

10) The internal sources of financing.
Ans: Retained Earnings

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Q.1 D) State whether the following statements are true or false.

1. Finance is related to money and money management. (True)
2. Business firm gives a green signal to the project only when it is profitable. (True)
3. Corporate finance brings coordination between various business activities. (True)
4. Fixed capital is also referred to as circulating capital. (False)
5. Working capital stays in the business almost permanently. ( False )
6. The business will require huge funds if assets are acquired on a lease basis. (False)
7. The business dealing in luxurious products will require a huge amount of working capital. (True)
8. A firm with large-scale operations, will require more working capital. (True)
9. Liberal credit policy creates a problem of bad debts. (True)
10. Financial institutions and banks cater to the working capital requirement of the business. (True)

Q.1 E) Find the odd one.

1. Land and Building, Plant and Machinery, Cash.
2. Debenture Capital, Equity Share Capital, Preference Share Capital.
3. Fixed Capital, Capital Structure, Working Capital.

Q.1 F) Complete the sentences.

1. Initial planning of capital requirements is made by the Finance Manager.
2. When there is a boom in the economy, sales will increase.
3. The process of converting raw material into finished goods is called the production cycle.
4. During the recession period sales will decrease.

Q.1 G) Select the correct option from the bracket.

Group AGroup B
a) Financing Decision1) To have right amount of capital
b) Fixed capital2) Longer period of time
c) Investment decision3) Deploy funds in a systematic manner.
d) Working capital4) Circulating capital
e) Combination of various
sources of funds
5) Capital structure

Q.1 H) Answer in one sentence.

1. Define corporate finance.
Answer: Corporate finance deals with the raising and using of finance by a corporation. It deals with financing the activities of the corporation, capital structuring and making investment decisions.

2. What is fixed capital?
Answer: Fixed capital is the capital which is used for buying fixed assets which are used for a longer period of time in the business. These assets are not meant for resale.

3. Define working capital.
Answer: Working capital is the capital which is used to carry out day-to-day business activities. The capital invested in current assets is called as working capital.

4. What is the production cycle?
Answer: The process of converting raw material into finished goods is called production cycle.

5. Define capital structure.
Answer: Capital structure refers to the proportion of different sources of funds raised by a firm for long-term finance.

Q.1 I) Correct the underlined word/s and rewrite the following sentences.

1. Finance is needed to pay dividend to debenture holders. (Interest)
2. When there is recession in economy sales will increase. (Boom)
3. Share is an acknowledgment of loan raised by company. (Debenture)
4. Equity shares carry dividend at fixed rate. (Preference)

Q.2 Explain the following terms/concepts.

1) Financing decision.

Answer: The business firm has access to capital market to fulfill it’s financial needs. The firm has multiple choices of sources of financing. The firm can choose whether it wants to raise equity capital or debt capital. Firm can even opt for bank loan, public deposits, debentures, etc. to raise funds. The finance manager ensures
that the firm is well capitalized i.e. they have right amount of capital and that the firm has right combination of debt and equity.

2) Investment decision.

Answer: Once the business firm has gained access to capital, the finance manager has to take decision regarding the use of the funds in systematic manner so that it will bring maximum return for its owners. For this, the firm has to take into consideration the cost of capital. Once they know the cost of capital, firm can deploy or use the funds in such a way that returns are more than cost of capital.

3) Fixed capital.

Answer: Fixed capital is the capital that is used for buying fixed assets that are used for a longer period of time in the business. These assets are not meant for resale.

In simple words, fixed capital refers to capital invested for acquiring fixed assets. It stays in the business for a long period almost permanently.

Examples of fixed capital are – capital used for purchasing land and building, furniture, plant, and machinery, etc. Such capital is required usually at the time of the establishment of a new company. However, existing companies may also need such capital for their expansion and development, replacement of equipment, etc.

4) Working capital.

Answer: Working capital is the capital that is used to carry out day-to-day business activities. After estimating the fixed capital requirement of the business firm, it is necessary to estimate the amount of capital, that would be needed to ensure the smooth functioning of the business firm. A business firm requires funds to store adequate raw material in stock. A firm would need capital to maintain sufficient stock of finished goods.

A business firm will have to arrange capital for the following :
a) For building up inventories
b) For financing receivables
c) For covering day-to-day operating expenses.
The capital invested in these assets is referred to as ‘Working capital’. The concept of working capital is viewed differently by leading authorities. Some authorities consider working capital as equivalent to an excess of current assets over current liabilities. Gerstenbergh, defines it as, ‘‘The excess of current assets over current liabilities.’’ This approach refers to ‘Net Working Capital’. Gerstenbergh does not call it working capital. He prefers to call it ‘circulating capital’.

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Q.3 Study the following case/situation and express your opinion.

(1) The management of ‘Maharashtra State Road Transport Corporation’, wants to determine the size of working capital.
a. Being a public utility service provider, will it need less working capital or more?
Answer:
‘Maharashtra State Road Transport Corporation’, Being a public utility service provider needs less amount of working capital because of continuous inflow of cash.

b. Being a public utility service provider, will it need more Fixed Capital ?
Answer: ‘Maharashtra State Road Transport Corporation’,Being a public utility service provider needs more amount of Fixed capital to acquire fixed assets.

c. Give one example of public utility service that you come across on day-to-day basis.
Answer: Maharashtra State Electricity Distribution Company Limited (MSEDCL) providing electricity in Maharashtra is an example of public utilities service.

(2) A company is planning to enhance it’s production capacity and is evaluating the possibility of purchasing new machinery whose cost is 2 crore or has alternative of machinery available on lease basis.
a. What type of asset is machinery?
Answer: Machinery is a fixed asset.

b. Capital used for purchase of machinery is fixed capital or working capital.
Answer: Capital used for purchase of machinery is fixed capital.

c. Does the size of a business determine the fixed capital requirement?
Answer: Yes, the size of a business determines the fixed capital requirement.if the business is taking large scale operation it will require huge capital as campare to the business which carry business on small scale.

Q.4 Distinguish between the following.

1) Fixed Capital and Working Capital.

PointsFixed CapitalWorking Capital
1) MeaningFixed capital refers to any kind of physical asset i.e. fixed assets.Working capital refers to the sum of current assets.
2) NatureIt stays in the business almost permanently.Working capital is circulating capital. It keeps changing.
3) PurposeIt is invested in fixed assets such as land, building, equipments, etc.Working capital is invested in short-term assets such as cash, account receivable, inventory, etc.
4) SourcesFixed capital funding can come
from selling shares, debentures,
bonds, long-term loans, etc.
Working capital can be funded
with short-term loans, deposits,
trade credit, etc.
5) Objectives of InvestorsInvestors invest money in fixed
capital hoping to make future
profit.
Investors invest money in working
capital for getting immediate
returns.
6) RiskInvestment in fixed capital implies
more risk.
Investment in working capital is
less risky.

Q.5 Answer in brief.

1) Define capital structure and state it’s components.

Answer: A company can raise its capital from different sources. i.e. owned capital or borrowed capital or both. The owned capital consists of equity share capital, preference share capital, reserves, and surplus. On the other hand, borrowed sources are debentures, loans, etc. A combination of different sources are used in capital structure. It is nothing but ‘security mix.’

Definition of Capital Structure.
R. H. Wessel
: “ The long-term sources of funds employed in a business enterprise”.
John Hampton: “A firm’s capital structure is the relation between the debt and equity securities that makes up the firm’s financing of its assets”.

Components of Capital Structure:
There are four basic components of capital structure. They are as follows :
(1) Equity share capital :
It is the basic source of financing activities of business. Equity shares are shares that get dividend and repayment of capital after it is paid to preference shares. They own the company. They bear ultimate risk associated with ownership. They carry dividend at fluctuating rate depending upon the profits.

(2) Preference share capital :
Preference shares carry preferential right as to payment of dividend and have priority over equity shares for return of capital when the company is liquidated. These shares carry dividend at fixed rate.

(3) Retained earnings :
It is internal source of financing. It is nothing but ploughing back of profit.

(4) Borrowed capital :
It comprises the following :
a) Debenture :
It is an acknowledgment of loans raised by company. The company has to pay interest at an agreed rate.
b) Term loan :
Term loans are provided by bank and other financial institutions. They carry a fixed rate of interest.

2) State any four factors affecting fixed capital requirement.

(Note: Write 4 to 5 points, if question is asked for 10 marks then write 10 to 12 points.)
Answer: Fixed capital is the capital which is used for buying fixed assets which are used for a longer period of time in the business. These assets are not meant for resale.

Factors affecting fixed capital requirement:
1) Nature of business:
Manufacturing industries and public utilities have to invest huge amount of funds to acquire fixed assets. While Trading business may not need huge investments in fixed assets.

2) Size of business:
Where a business firm is set up to carry on large-scale operations, its fixed capital requirements are likely to be high. It is because most of their production processes are based on automatic machines and equipment.

3) Scope of business:
There are business firms which are formed to carry on production or distribution on a large scale. Such businesses would require more amount of fixed capital.

4) Extent of lease or rent:
If an entrepreneur decides to acquire assets on lease or on rental basis, less amount of funds for fixed assets will be needed for the business.

5) Arrangement of sub-contract:
If the business wants to sub-contract some processes of production to others, limited assets are required to carry out the production. It would minimize fixed capital requirement of business.

6) Acquisition of old assets:
If old equipments and plants are available at low prices, then it would reduce the need for investment in fixed assets.

7) Acquisition of assets on concessional rate:
With the view to foster industrial growth at regional level, the government may provide land and building, materials at concessional rates. Plants and equipment may also be made available on installment basis. Such facilities will reduce the requirement of fixed assets.

8) International conditions:
This factor is very significant particularly in large organizations carrying business on international level. For example companies expecting war, may decide to invest large funds to expand fixed assets before there is shortage of materials.

9) Trend in economy:
If the future of the company is anticipated to be bright, it gives green signal to business entrepreneur to carry out all sorts of expansion of business firm. In that case, large amount of funds are invested in fixed assets so as to reap the benefits in future.

10) Population trend:
When the population is increasing at high rate, certain manufacturers find this as an opportunity to expand business. For example- automobile industry, electronic goods manufacturing industry, ready-made garments, etc. which necessitate huge amount of fixed capital.

11) Consumer preference:
Industries providing goods and services which are in good demand, will require large amount of fixed capital. For example – Mobile phone manufacturers as well as mobile network providers.

12) Competitive factor:
This factor is prime element in decision-making regarding fixed capital requirements. If one of the competitors shifts to automation, the other companies in the same line of activity, will be compelled to follow that competitor.

3) What is corporate finance and state two decisions that are basis of corporate finance.

Answer:
Meaning: Henry Hoagland expresses the view that ‘‘corporate finance deals primarily with the acquisition and use of capital by business corporation.’’ The term corporate finance also includes financial planning, study of capital market, money market and share market. It also covers capital formation and foreign

The following two decisions are the basis of corporate finance.
1) Financing Decision:
The business firm has access to capital market to fulfill it’s financial needs. The firm has multiple choices of sources of financing. The firm can choose whether it wants to raise equity capital or debt capital. Firm can even opt for bank loan, public deposits, debentures etc. to raise funds. The finance manager ensures that the firm is well capitalized i.e. they have right amount of capital and that the firm has right combination of debt and equity.

2) Investment Decision:
Once the business firm has gained access to capital, the finance manager has to take decisions regarding the use of the funds in systematic manner so that it will bring maximum return for its owners. For this, the firm has to take into consideration the cost of capital. Once they know the cost of capital, firm can deploy or use the funds in such a way that returns are more than cost of capital.
Finding investments and deploying them successfully in the business is known as investing decisions. It is also called as ‘capital budgeting’.

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Q.6 Justify the following statements.

1) The firm has multiple choices of sources of financing.

Answer:
1) The business requires for various purposes, like for purchasing fixed assets such as land and building, furniture, machinery, paying salary, rent etc.
2) The business firm has access to the capital market as well as money market to fulfill its financial needs.
3) The firm has multiple choices of sources of financing like shares, debentures, bonds etc to collect funds.
4) Firm can even opt for a bank loan, public deposits, etc. to raise funds. The finance manager ensures
that the firm is well capitalized.
5) Thus it is rightly justified that, the firm has multiple choices of sources of financing.

2) There are various factors affecting the requirement of fixed capital.

Answer:
There are various factors affecting the requirement of fixed capital, some of them are as follows.
1) Nature of business:
Manufacturing industries and public utilities have to invest huge amounts of funds to acquire fixed assets. While a Trading business may not need huge investments in fixed assets.

2) Size of business:
Where a business firm is set up to carry on large-scale operations, its fixed capital requirements are likely to be high. It is because most of their production processes are based on automatic machines and equipment.

3) Scope of business:
There are business firms that are formed to carry on production or distribution on a large scale. Such businesses would require more amount of fixed capital.

4) Extent of lease or rent:
If an entrepreneur decides to acquire assets on lease or on rental basis, less amount of funds for fixed assets will be needed for the business.

5) Arrangement of sub-contract:
If the business wants to sub-contract some processes of production to others, limited assets are required to carry out the production. It would minimize fixed capital requirement of the business.

3) Fixed capital stays in the business almost permanently.

Answer:
1) Fixed capital is the capital that is used for buying fixed assets of the business.
2) These fixed assets are used for a longer period of time in the business. These assets are not meant for resale.
3) In simple words fixed capital refers to capital invested for acquiring fixed assets.
4) It stays in the business for long period almost permanently. Examples of fixed capital are – capital used for purchasing land and building, furniture, plant and machinery, etc. Such capital is required usually at the time of establishment of a new company.

4) Capital structure is composed of owned funds and borrowed funds.

Answer:
1) Capital structure means ‘mix up of various sources of funds in desired proportion’. To decide capital structure means, to decide upon the ratio of different types of capital.
2) A company can raise its capital from different sources. i.e. owned capital or borrowed capital or both.
3) The owned capital consists of equity share capital, preference share capital, reserves, and
surplus. On the other hand, borrowed sources are debentures, loans, etc.
4) Thus, it is rightly justified that, Capital structure is composed of owned funds and borrowed funds.

5) There are various factors affecting the requirement of working capital.

Answer:
There are various factors affecting the requirement of working capital, some of them are as follows,

1) Nature of business:
Firms engaged in manufacturing essential products of daily consumption would need relatively less working capital as there would be constant and sufficient cash inflow in the firm to take care of liabilities. Likewise, public utility concerns have to maintain small working capital because of a continuous flow of cash from their customers.

2) Size of business:
The size of business also affects the requirement of working capital. A firm with large-scale operations will require more working capital.

3) Volume of sales:
This is the most important factor affecting size of working capital. The volume of sales and size of working capital are directly related with each other. If volume of sales increases, there is an increase in the amount of working capital and vice a versa.

4) Production cycle:
The process of converting raw material into finished goods is called production cycle. If the period of production cycle is longer, then firm needs more amount of working capital. If manufacturing cycle is short, it requires less working capital.

5) Business cycle:
When there is a boom in the economy, sales will increase. This will lead to increase in investment in stocks. This requires additional working capital. During recession, sales will decline and hence the need of working capital will also decline.

Q.7 Answer the following questions.

1) Discuss the importance of corporate finance.

Answer:
The importance of corporate finance may be discussed as follows –
1) Helps in decision making:
Most of the important decisions of business enterprises are determined on the basis of the availability of funds. It is difficult to perform any function of a business enterprise independently without finance. Every decision in the business is needed to be taken keeping in view of its impact on profitability.

2) Helps in Raising Capital for a project:
Whenever a business firm wants to start a new venture, it needs to raise capital. A business firm can raise funds by issuing shares, debentures, bonds or even by taking loans from the banks.

3) Helps in Research and Development:
Research and Development must be undertaken for the growth and expansion of business. Detailed technical work is essential for the execution of projects. Research and Development is a lengthy process and therefore funds have to be made available throughout the research work. This would require continuous financial support.

4) Helps in smooth running of business firm:
A smooth flow of corporate finance is needed so that salaries of employees are paid on time, loans are cleared on time, raw material is purchased whenever required, sales promotion of existing products is carried out smoothly and new products can be launched effectively.

5) Brings co-ordination between various activities:
Corporate finance plays a significant role in control and coordination of all activities in an organization. For e.g. Production will suffer if finance department does not provide adequate finance for the purchase of raw materials and meeting other day-to-day financial requirements for smooth running of production unit. Due to this, sales will also suffer and consequently, the income of concern, as well as the rate of profit, will be affected. Thus the efficiency of every department depends upon effective financial management.

6) Promotes expansion and diversification:
Modern machines and modern techniques are required for expansion and diversification. Corporate finance provides money to purchase modern machines and technologies. Therefore finance becomes mandatory for expansion and diversification of a company.

7) Managing Risk:
The company has to manage several risks, such as sudden fall in sales, loss due to natural calamity, loss due to strikes, etc. The company needs financial aid to manage such risks.

8) Replace old assets:
Assets such as plant and machinery become old and outdated over the years. They have to be replaced by new assets. Finance is required to purchase new assets.

9) Payment of dividend and interest:
Finance is needed to pay dividends to shareholders, interest to creditors, banks, etc.

10) Payment of taxes/fees:
The company has to pay taxes to the Government such as Income Tax, Goods and Service Tax (GST), and fees to the Registrar of Companies on various occasions. Finance is needed for paying these taxes and fees.

2) Discuss the factors determining working capital requirements.

Answer:
Working capital is the capital which is used to carry out day-to-day business activities.The capital invested in current assets is referred to as ‘Working capital’.

Factors affecting working capital requirement

1) Nature of business:
Firms engaged in manufacturing essential products of daily consumption would need relatively less working capital as there would be constant and sufficient cash inflow in the firm to take care of liabilities. Likewise, public utility concerns have to maintain small working capital because of continuous flow of cash from their customers.

2) Size of business:
The size of business also affects the requirement of working capital. A firm with large-scale operations will require more working capital.

3) Volume of sales:
This is the most important factor affecting size of working capital. The volume of sales and size of working capital are directly related with each other. If volume of sales increases, there is an increase in the amount of working capital and vice a versa.

4) Production cycle:
The process of converting raw material into finished goods is called production cycle. If the period of production cycle is longer, then firm needs more amount of working capital. If manufacturing cycle is short, it requires less working capital.

5) Business cycle:
When there is a boom in the economy, sales will increase. This will lead to increase in investment in stocks. This requires additional working capital. During recession, sales will decline and hence the need of working capital will also decline.

6) Terms of purchases and sales:
If the firm does not get credit facility for purchases but adopts liberal credit policy for its sales, then it requires more working capital. On the other hand if credit terms of purchases are favourable and terms of credits sales are less liberal, then requirement of cash will be less. Thus working capital requirement will be reduced.

7) Credit control:
Credit control includes the factors such as volume of credit sales, the terms of credit sales, the collection policy, etc. If credit control policy is sound, it is possible for the company to improve it’s cash flow. If credit policy is liberal, it creates a problem of collection of funds. It can increase possibility of bad debts. Therefore a firm requires more working capital. The firm making cash sales requires less working capital.

8) Growth and Expansion:
The working capital requirement of a firm will increase with growth of a firm. A growing company needs funds continuously to support large scale operations.

9) Management ability:
The requirement of working capital is reduced if there is proper coordination between production and distribution of goods. A firm stocking on heavy inventory calls for higher level for working capital.

10) External factors:
If financial institutions and banks provide funds to the firm as and when required, the need for working capital is reduced.

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12th Commerce SP Textbook Solution

Chapter Name Solution Link
1) Introduction to Corporate FinanceClick Here
2) Sources of Corporate FinanceClick Here
3) Issue of SharesClick Here
4) Issue of DebenturesClick Here
5) DepositsClick Here
6) Correspondence with MembersClick Here
7) Correspondence with Debenture holdersClick Here
8) Correspondence with DepositorsClick Here
9) Depository SystemClick Here
10) Dividend InterestClick Here
11) Financial MarketClick Here
12) Stock ExchangeClick Here
Textbook Solutions of 12th Commerce (All Subjects)Click Here
Free pdf of 12th Commerce Textbooks Click Here
12th Commerce IT MCQ Preparation (Online Test)Click Here
12th Commerce Paper Pattern and Chapter Wise Marks DistributionClick Here
Sample Paper of 12th Commerce for PracticeClick Here
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