Module 12 · Solutions

Warm-up

E12.01 \(V = CF/(r − g)\) → \(dV/V = −dr/(r − g)\); duration = 1/(r − g): g 4% → 12.5; g 6% → 16.7; g 8% → 25.

E12.02 Discount rate; relative value vs bonds; corporate borrowing costs; consumer credit (EMIs); bank NIMs; flows (deposits vs SIPs).

E12.03 Repo 5.25%, neutral stance (held since mid-2026 after 125 bps of cuts in 2025); CPI 4.82% in August 2026; verify on rbi.org.in (policy statements) and mospi.gov.in (CPI releases).

E12.04 Earnings yield (1/PE) minus the 10-year G-sec yield; total market cap ÷ nominal GDP; the Nifty implied- volatility index; SIPs discontinued ÷ new SIP registrations; the unofficial pre-listing premium on an IPO.

E12.05 See 12.3 key terms.

Core

E12.06 \(k_e\) = 7.07 + 1.05 × 6.0 = 13.37%; \(k_d\) post-tax = (7.07 + 2.4) × 0.7483 = 7.09%; WACC = 0.9 × 13.37 + 0.1 × 7.09 = 12.74%. From the grid, ~₹293 vs ₹320: −8.4% for +0.55 pp → duration ≈ 15.

E12.07 Rubric: bank (rates/NIM, credit cycle, deposit competition), IT (INR +, rates duration −, AI), FMCG (inputs, rural demand, GST), cement (capex, fuel, regional pricing), pump maker (monsoon, copper, state finances/capex, flows). Dominant shared exposures: domestic flows (all five are DII-favoured), rates duration (IT/FMCG/small cap), and government capex/state finances (cement/pumps).

E12.08 Bank: mild negative (imported inflation → no cuts; credit costs if rural stress); IT: positive (INR); FMCG: negative (packaging/crude derivatives, rural demand); cement: negative (fuel and freight, imported petcoke); pump maker: negative (copper in ₹ up, rural demand down, state finances strained) — with the note that Kaveri's industrial segment is less exposed.

E12.09 Earnings yield 1/19.5 = 5.1%; gap = 5.1 − 7.07 = −2.0 pp. "Cheap" only relative to the market's own 5-year median (~22x); not cheap vs bonds (a negative gap) and possibly not cheap vs normalised earnings if FY25–26 margins are a peak. The reading is midpoint-to-optimistic in valuation, with earnings risk.

E12.10 Supports: absorbs FPI selling; steady SIP inflows underpin mid/small caps; deep domestic ownership reduces the sensitivity to global risk-off. Risks: dependence on a single household behaviour never tested in a prolonged bear market; a high primary-market supply absorbing flows at high valuations. Watch monthly: AMFI net equity flows and SIP stoppage ratio; NSDL FPI flows; SEBI primary-market issuance; DII share of ownership.

E12.11 (a) late-cycle froth (SME mania); (b) a large, institutionally-anchored issue — mid-cycle, quality issuer; (c) the window closing; (d) late-cycle (sellers taking the exit).

E12.12 2013–18: "quality/formalisation"; DII/retail flows post-demonetisation; a wave of mid-cap IPOs and QIPs; the Manpasand/Vakrangee/8K-Miles tail; survivors were genuine compounders bought pre-2016. 2020–25: "Amrit kaal/PSU-defence-rail"; SIPs and retail F&O; record IPOs and SME listings; the SME-manipulation and narrative tail; survivors had earnings, governance and were bought before the narrative.

E12.13 Parent pre-demerger equity = 8,000; division equity value = 1,500 − 600 = 900 → per spun share (5 Cr shares) = ₹180; retained parent value = 8,000 − 900 = 7,100 → ₹710 per parent share. Holder of 2 shares: 2 × 710 + 180 = 1,600 = 2 × 800 ✓. Forced selling: index funds and large-cap mandates sell the small spun entity (₹900 Cr) on listing; the spun stock often trades below ₹180 for weeks, which is the opportunity if the division's economics justify the value.

E12.14 Accepted 42 shares × (1,500 − 1,250) = ₹10,500 pre-tax gain (8.4% of the ₹1.5 lakh holding). Tax at 30% on proceeds 42 × 1,500 = 63,000 → ₹18,900 → net −₹8,400 before the capital-loss offset (42 × 1,250 = ₹52,500 of loss usable against other gains, worth up to ₹6,563 at 12.5% or ₹10,500 at 20%). The tender is marginal-to-negative for a 30%-slab investor.

E12.15 Spread = 420/395 − 1 = 6.3%; annualised (8 weeks) ≈ 41% simple, ~49% compounded. Acceptance if 60% tendered: 26/60 = 43% of tendered shares accepted; the rest stay with the holder at the post-offer price — the expected return depends on that price, not only the spread.

E12.16 TERP = (4 × 300 + 200)/5 = ₹280; RE value = 280 − 200 = ₹80. A holder who neither subscribes nor sells the RE loses ₹80 × entitlement — value transferred to those who subscribe.

E12.17 Value if completed: 0.5 × 210 = ₹105; EV = 0.85 × 105 + 0.15 × 70 = 89.25 + 10.5 = ₹99.75 vs price ₹95: expected return 5% in six months (~10% annualised) with a 26% loss if it fails — a poor asymmetry unless the completion probability is higher than 85%.

E12.18 Forced selling of ~8% of float in the days around the effective date; the price typically falls ahead of and into the event, then recovers if fundamentals are intact. Check: why it was excluded (free-float/liquidity mechanics vs a fundamental decline), the company's earnings trend, and whether a re-inclusion is plausible.

E12.19 Holdco at 0.45 × NAV; merger at 0.80 × NAV → return = 0.80/0.45 − 1 = +78%. Probability-weighted: 0.7 × 78% + 0.3 × 0% = +54% expected — with the caveat that a failed deal can widen the discount and that the holder becomes an operating-company shareholder at 0.8 × NAV.

Stretch

E12.20 Rubric: flows depend on household behaviour (income growth, returns experience, alternatives such as deposit rates and gold), which has not been tested by a multi-year drawdown; monitoring: SIP stoppage ratio, net equity MF flows, redemptions in small-cap funds, retail F&O activity, deposit-rate competition, and the ownership share of DIIs vs FPIs.

E12.21 Rubric: primary document (RHP) read; arithmetic (valuation per share vs global exchanges and BSE/MCX; implied volumes and fee path); forced actors (anchor lock-ins, retail allotment flips, index inclusion timing); independent valuation (07.2); breakers (SEBI fee action, derivative-volume decline, governance legacy issues); sizing as an event with a dated exit or as an investment at a supported price.

E12.22 For: base rates say forward returns from top-decile valuations are poor, and cash is the option to buy lower. Against: bottom-up opportunities exist in any market, timing is unreliable, and cash has a carry cost; the rule that works is to let the margin of safety on individual names set the cash level (no triggers in reach → cash rises automatically) rather than an index-level switch.

Real-world task

E12.23–25 Rubric: matrix completed with a named dominant exposure and a specific hedge (instrument, notional, cost); scheme document facts listed with dates and post-listing outcomes; a three-month log with the pendulum reading and the data sources.