PAPER 2: ADVANCED FINANCIAL MANAGEMENT (One paper – Three hours – 100 marks)
Objective: To acquire the ability to apply financial management theories and techniques in strategic
decision making. Contents: Section I (1)
Financial Policy and Corporate Strategy
(i) Advanced role of CFO in various matters including Value Creation
(ii) Strategic decision making framework
nterface of Financial Policy and strategic management
(iv) Balancing financial goals vis-à-vis sustainable growth.
(2) Risk Management (i)
Identification of types of Risk faced by an organisation
(ii) Evaluation of Financial Risks (iii) Value at Risk (VAR)
(iv) Evaluation of appropriate method for the identification and management of financial risk.
(3) Advanced Capital Budgeting Decisions (i)
Current trends in Capital Budgeting ♦
Impact of Inflation on Capital Budgeting Decisions.
♦♦
Impact of change in technology on Capital Budgeting Impact of change in Government Policies on
Capital Budgeting © The Institute of Chartered Accountants of Indiavi
(ii) Dealing with Risk in Investment Decisions
(iii)
Internal and External Factors affecting capital budgeting decision
(iv) Methods of incorporating risk in Capital Budgeting
(v) Adjusted Present Value
(vi) Optimum Replacement Cycle
Section II
(4) Security Analysis
(i)
Fundamental Analysis
(ii)
Technical Analysis
a) Meaning
b)
Assumptions
c)
d)
e)
Theories and Principles
Charting Techniques
Efficient Market Hypothesis (EMH) Analysis
(iii) Equity Research and tools available
(5) Security Valuation
(i)
Theory of Valuation
(ii) Return Concepts
(iii) Equity Risk Premium
(iv) Required Return on Equity
(v) Discount Rate Selection in Relation to Cash Flows
(vi) Approaches to Valuation of Equity Shares
© The Institute of Chartered Accountants of Indiavii
(vii) Valuation of Preference Shares
(viii) Valuation of Debentures/ Bonds
(ix) Role and Responsibilities of Valuers
(x) Precautions need to be taken by a Valuer before accepting any valuation assignment.
(6) Portfolio Management
(i)
Portfolio Analysis
(ii) Portfolio Selection
(iii) Capital Market Theory
(iv) Portfolio Revision
(v) Portfolio Evaluation
(vi) Asset Allocation
(vii) Fixed Income Portfolio
(viii) Risk Analysis of Investment in Distressed Securities
(ix) Alternative Investment Avenues
Real Estate
• Gold
Private Equity
REITs
Hedge Funds
ETFs
• Mutual Funds
Commodities
© The Institute of Chartered Accountants of Indiaviii
Section III
(7) Securitization
(i)
Introduction
(ii) Concept and Definition
(iii) Benefits of Securitization
(iv) Participants in Securitization
(v) Mechanism of Securitization
(vi) Problems in Securitization
(vii) Securitization Instruments
(viii) Pricing of Securitization Instruments
(ix) Risks in Securitization
(x)
Tokenization
(xi) Securitization in India
(8) Mutual Fund
(i) Meaning
(ii)
Types
(iii) Advantages and Disadvantages of Mutual Funds
(iv) Evaluation of Mutual Funds
(v) Role of Fund Manager in Mutual Funds
(vi) Hedge Funds
(vii) Role of FIIs in Mutual Funds
© The Institute of Chartered Accountants of Indiaix
(9) Derivatives Analysis and Valuation
(i)
Introduction to Forwards, Futures and Options
(ii)
Futures Market
(iii) Pricing of Forwards and Futures
(iv) Hedging using Futures
(v) Options
Option Pricing
Option Greeks
Exotic Options
(vi) Credit Derivatives
(vii) Real Options
(viii) Derivative Mishaps and Lessons
(ix) Swaps
(x) Commodity Derivatives
(xi) Weather Derivatives
(xii) Electricity Derivatives
Section IV
(10) Foreign Exchange Exposure and Risk Management
(i)
Factors affecting foreign exchange rate
(ii) Role of SWIFT in Foreign Exchange
(iii) National and International Payment Gateways
(iv) Exchange rate determination
© The Institute of Chartered Accountants of Indiax
(v)
Foreign currency market
(vi) Management of Foreign Exchange Risk
(11) International Financial Management
(i)
International Capital Budgeting
• Offshore Investment Strategies vis-à-vis Domestic Capital Budgeting
Project vis-à-vis Parent Cash Flows
Discounting Rate and Adjusting Cash Flows
Adjusted Present Value
(ii) Raising funds from International Sources
(iii) Sovereign Funds
(iv)
International Financial Centre (GIFT City)
(v)
International Working Capital Management
a) Multinational Cash Management
- Objectives of Effective Cash Management
- Optimization of Cash Flows/ Needs
b) Multinational Receivable Management
c) Multinational Inventory Management
(12) Interest Rate Risk Management
(i)
Benchmark Rates
(ii) Hedging Interest Rate Risk
a)
Traditional Methods
Asset and Liability Management (ALM)
Forward Rate Agreement (FRA)
© The Institute of Chartered Accountants of Indiaxi
b) Modern Methods including Interest Rate Derivatives
Interest Rate Futures
Interest Rate Options
Swaps
Swaptions
Section V
(13) Business Valuation
(i)
Conceptual Framework of Valuation
(ii) Approaches/ Methods of Valuation
a)
b)
Assets Based Valuation Model
Earning Based Models
c)
Cash Flow Based Models
d) Measuring Cost of Equity
-
Capital Asset Pricing Model (CAPM)
e)
Arbitrage Pricing Theory
Estimating Beta of an unlisted company
Relative Valuation
Steps involved in Relative Valuation
Equity Valuation Multiples
Enterprise Valuation Multiple
f)
Other Approaches to Value Measurement
Economic Value Added (EVA)
© The Institute of Chartered Accountants of Indiaxii
g)
Market Value Added (MVA)
Shareholder Value Analysis (SVA)
Arriving at Fair Value
(iii) Going concern and Non Going concern valuation
(iv) Valuation of Distressed Companies
(v) Valuation of Start ups
(vi) Valuation of Digital Platforms
(vii) Valuation of Professional/ Consultancy Firms
(viii) Impact of ESG on valuation
(14) Mergers, Acquisitions and Corporate Restructuring
(i)
Conceptual Framework
(ii) Rationale
(iii) Forms
(iv) Mergers and Acquisitions
a)
b)
c)
Financial Framework
Takeover Defensive Tactics
Reverse Merger
(v)
Divestitures
a)
b)
c)
Partial Sell off
Demerger
Equity Carve outs
© The Institute of Chartered Accountants of Indiaxiii
(vi) Ownership Restructuring
a) Going Private
b) Management/ Leveraged Buyouts
(vii) Unlocking the value through Mergers & Acquisitions and Business Restructuring
(viii) Cross Border Mergers
(ix) Special Purpose Acquisition Companies (SPACs)
Section VI
(15) Startup Finance
(i)
Introduction including Pitch Presentation
(ii) Concept of Unicorn
(iii) Startup Initiative of GOI
(iv) Sources of Funding
(v) Succession planning in Business
© The Institute of Chartered Accountants of Indiaxiv
SIGNIFICANT CHANGES
Significant changes in this Edition vis-à-vis April, 2023 edition of the
Study Material
Chapter Chapter name
Details
Financial Policy and
Corporate Strategy
10
Advanced
Capital
Budgeting Decisions
Security Analysis
Security Valuation
Portfolio Management
Mutual Funds
Derivatives Analysis and
Valuation
Foreign Exchange
Exposure and Risk
Management
11
12
13
International Financial
Management
Interest Rate Risk
Management
Business Valuation
Content relating to topic External Funding
Requirement has been added.
Some changes have been carried out in Illustration
No. 1 & 2. Further there is addition of word ‘nominal’
in the Question No. 19.
Some formatting changes have been carried in para
2.9.
The topic of Yield Curve has been revised. In addition
to that some additions have been carried out in para
6.3.1, 8.16, Illustration 6, Question No. 24.
Some additions have been carried out in Illustration 6
Question No. 24 & 26.
Question 10 along with its answer has been removed.
Some corrections have been carried in Illustration
Nos. 4,5 & 6.
Some shifting has been carried out in the para 5.
Rates has been interchanged in Illustration 7. In
addition to that a note has been inserted in the solution
of Question No. 43.
Heading of the Table 5 the solution of Illustration No.
1 has been changed.
Some corrections have carried out in the solution of
Question No. 2 and 4.
Some corrections have carried out in the Question No.
16 and the solution of Illustration 4.
In the Study Material at most of places the LIBOR has been replaced with the Alternative
Reference Rates such as SOFR, ESTER, SONIA etc.
© The Institute of Chartered Accountants of Indiaxv
CONTENTS
CHAPTER 1 – FINANCIAL POLICY AND CORPORATE STRATEGY
1.
Advanced role of CFO in various matters including Value Creation .............................. 1.1
2.
3.
4.
5.
6.
Strategic Financial Decision Making Framework ......................................................... 1.2
Strategy at Different Hierarchy Levels ......................................................................... 1.5
Financial Planning ...................................................................................................... 1.6
Interface of Financial Policy and Strategic Management .............................................. 1.7
Balancing Financial Goals vis-à-vis Sustainable Growth .............................................. 1.8
CHAPTER 2 – RISK MANAGEMENT
1.
Identification of types of Risk faced by an organization................................................ 2.1
2.
3.
4.
Evaluation of Financial Risk ....................................................................................... 2.4
Value-at-Risk (VAR) ................................................................................................... 2.4
Appropriate Methods for Identification and Management of Financial Risk ................... 2.6
CHAPTER 3 – ADVANCED CAPITAL BUDGETING DECISIONS
1.
Current trends in Capital Budgeting ............................................................................ 3.1
2.
3.
4.
5.
6.
Dealing with Risk in Investment Decisions ................................................................ 3.10
Internal and External Factors affecting Capital Budgeting Decision ............................ 3.11
Methods of incorporating risk in Capital Budgeting .................................................... 3.12
Replacement Decision .............................................................................................. 3.37
Adjusted Present Value ............................................................................................ 3.41
© The Institute of Chartered Accountants of Indiaxvi
CHAPTER 4 – SECURITY ANALYSIS
1.
Fundamental Analysis ................................................................................................ 4.2
2.
Technical Analysis ................................................................................................... 4.15
3. Difference between Fundamental Analysis and Technical Analysis ............................ 4.31
4.
Efficient Market Theory ............................................................................................ 4.31
5.
Equity Research and tools available ......................................................................... 4.35
CHAPTER 5 – SECURITY VALUATION
1.
Overview of Valuation ................................................................................................ 5.2
2.
3.
4.
5.
6.
7.
8.
9.
10.
Return Concepts ........................................................................................................ 5.2
Equity Risk Premium .................................................................................................. 5.4
Required Return on Equity ......................................................................................... 5.5
Discounts rate selection in relation to cash flows......................................................... 5.6
Valuation of Equity Shares ......................................................................................... 5.7
Valuation of Preference Shares ................................................................................ 5.16
Valuation of Debentures and Bonds .......................................................................... 5.17
Role and Responsibilities of Valuers ......................................................................... 5.34
Precautions need to be taken by a Valuer before accepting any valuation assignment ..... 5.37
CHAPTER 6 – PORTFOLIO MANAGEMENT
1.
Introduction ................................................................................................................ 6.2
2.
3.
4.
5.
Phases of Portfolio Management ................................................................................ 6.4
Portfolio Theories ....................................................................................................... 6.7
Risk Analysis ........................................................................................................... 6.10
Markowitz Model of Risk-Return Optimization ........................................................... 6.30
© The Institute of Chartered Accountants of Indiaxvii
6.
7.
8.
9.
10.
11.
12.
13.
14.
15.
16.
Capital Market Theory .............................................................................................. 6.34
Single Index Model ................................................................................................... 6.35
Capital Asset Pricing Model ...................................................................................... 6.39
Arbitrage Pricing Theory Model................................................................................. 6.48
Portfolio Evaluation Methods .................................................................................... 6.49
Sharpe’s Optimal Portfolio ........................................................................................ 6.53
Formulation of Portfolio Strategy .............................................................................. 6.54
Portfolio Revision and Rebalancing .......................................................................... 6.58
Asset Allocation Strategies ....................................................................................... 6.62
Fixed Income Portfolio .............................................................................................. 6.62
Alternative Investment Avenues ................................................................................ 6.65
CHAPTER 7 – SECURITIZATION
1.
Introduction ................................................................................................................ 7.2
2.
3.
4.
5.
6.
7.
8.
9.
10.
11.
Concept and Definition ............................................................................................... 7.2
Benefits of Securitization ............................................................................................ 7.3
Participants in Securitization....................................................................................... 7.4
Mechanism of Securitization ....................................................................................... 7.6
Problems in Securitization .......................................................................................... 7.7
Securitization Instruments .......................................................................................... 7.8
Pricing of the Securitized Instruments ....................................................................... 7.10
Risks in Securitization .............................................................................................. 7.10
Tokenization ............................................................................................................ 7.11
Securitization in India ............................................................................................... 7.14
© The Institute of Chartered Accountants of Indiaxviii
CHAPTER 8 – MUTUAL FUNDS
1.
Introduction ................................................................................................................ 8.1
2.
3.
4.
5.
6.
7.
8.
9.
Classification of Mutual Funds .................................................................................... 8.4
Types of Schemes...................................................................................................... 8.9
Advantages of Mutual Fund ...................................................................................... 8.14
Drawbacks of Mutual Fund ....................................................................................... 8.16
Terms associated with Mutual Funds ........................................................................ 8.17
Evaluation of Mutual Funds ...................................................................................... 8.20
Role of Fund Manager in Mutual Funds .................................................................... 8.23
Role of FIIs in Mutual Funds ..................................................................................... 8.24
CHAPTER 9 – DERIVATIVES ANALYSIS AND VALUATION
1.
Introduction ................................................................................................................ 9.2
2.
3.
4.
5.
6.
7.
8.
9.
10.
Forward Contract ....................................................................................................... 9.3
Future Contract .......................................................................................................... 9.4
Pricing / Valuation of Forward / Future Contracts ........................................................ 9.6
Types of Futures Contracts ........................................................................................ 9.9
Options .................................................................................................................... 9.18
Option Valuation Techniques .................................................................................... 9.23
Credit Derivatives ..................................................................................................... 9.36
Real Options ............................................................................................................ 9.41
Commodity Derivatives ............................................................................................. 9.47
11. Weather Derivatives ................................................................................................. 9.55
© The Institute of Chartered Accountants of Indiaxix
12.
13.
Electricity Derivatives ............................................................................................... 9.57
Derivative Mishaps and Lessons............................................................................... 9.59
CHAPTER 10 – FOREIGN EXCHANGE EXPOSURE AND RISK MANAGEMENT
1.
Introduction .............................................................................................................. 10.1
2.
3.
4.
5.
6.
7.
8.
9.
10.
11.
12.
13.
14.
15.
16.
17.
18.
Role of SWIFT in Foreign Exchange ......................................................................... 10.4
National and International Payment Gateways .......................................................... 10.5
Nostro, Vostro and Loro Accounts ............................................................................ 10.7
Exchange Rate Quotation ......................................................................................... 10.9
Exchange Rate Forecasting .................................................................................... 10.15
Exchange Rate Determination ................................................................................ 10.16
Exchange Rate Theories ........................................................................................ 10.17
Foreign Exchange Market ....................................................................................... 10.22
Foreign Exchange Exposure ................................................................................... 10.24
Hedging Currency Risk ........................................................................................... 10.28
Forward Contract ................................................................................................... 10.32
Futures Contracts................................................................................................... 10.44
Option Contracts .................................................................................................... 10.45
Swap Contracts ...................................................................................................... 10.47
Popular Derivative Products ................................................................................... 10.49
Strategies for Exposure Management ..................................................................... 10.53
Conclusion ............................................................................................................. 10.54
CHAPTER 11 – INTERNATIONAL FINANCIAL MANAGEMENT
1.
International Capital Budgeting .................................................... ……………………..11.1
2.
International Sources of Finance ................................................................ ………..11.16
© The Institute of Chartered Accountants of Indiaxx
3.
4.
5.
International Financial Centre (GIFT City) ................................................... ………..11.22
Sovereign Funds ........................................................................................ ………..11.24
International Working Capital Management ............................................................. 11.25
CHAPTER 12 – INTEREST RATE RISK MANAGEMENT
1.
Introduction .............................................................................................................. 12.1
2.
3.
4.
Benchmark Rates ..................................................................................................... 12.2
Interest Rate Risk .................................................................................................... 12.4
Hedging Interest Rate Risk ....................................................................................... 12.7
CHAPTER 13 – BUSINESS VALUATION
1.
Conceptual Framework of Valuation ......................................................................... 13.2
2.
3.
4.
5.
6.
7.
8.
9.
10.
11.
12.
13.
Important terms associated with Valuation ................................................................ 13.3
Approaches/ Methods of Valuation ........................................................................... 13.5
Measuring Cost of Equity ....................................................................................... 13.11
Relative Valuation .................................................................................................. 13.15
Other Approaches to Value Measurement ............................................................... 13.19
Arriving at Fair Value .............................................................................................. 13.28
Going concern and Non Going concern valuation .................................................... 13.29
Valuation of Distressed Companies ........................................................................ 13.29
Valuation of Start ups ............................................................................................. 13.32
Valuation of Digital Platforms .................................................................................. 13.37
Valuation of Professional/ Consultancy Firms.......................................................... 13.42
Impact of ESG on valuation .................................................................................... 13.43
© The Institute of Chartered Accountants of Indiaxxi
CHAPTER 14 – MERGERS, ACQUISITIONS AND CORPORATE RESTRUCTURING
1.
Conceptual Framework............................................................................................. 14.2
2.
3.
4.
5.
6.
7.
8.
9.
10.
11.
12.
13.
14.
15.
Rationale for Mergers and Acquisitions ..................................................................... 14.4
Forms (Types) of Mergers ........................................................................................ 14.6
Financial Framework ................................................................................................ 14.8
Takeover Defensive Tactics.................................................................................... 14.11
Reverse Merger ..................................................................................................... 14.13
Divestiture.............................................................................................................. 14.14
Financial Restructuring ........................................................................................... 14.17
Ownership Restructuring ........................................................................................ 14.21
Unlocking the value through Mergers & Acquisitions and Business Restructuring .... 14.24
Premium and Discount ........................................................................................... 14.24
Mergers and Acquisitions Failures .......................................................................... 14.25
Acquisition through Shares ..................................................................................... 14.27
Cross-Border M&A ................................................................................................. 14.31
Special Purpose Acquisition Companies ................................................................. 14.32
CHAPTER 15 – STARTUP FINANCE
1.
The Basics of Startup Financing ............................................................................... 15.1
2.
3.
4.
5.
6.
Some of the Innovative Ways to Finance a Startup ................................................... 15.2
Pitch Presentation .................................................................................................... 15.4
Concept of Unicorn .................................................................................................. 15.7
Modes of Financing for Startups ............................................................................. 15.11
Venture Capital Funds in India ................................................................................ 15.17
© The Institute of Chartered Accountants of Indiaxxii
7. 8.
Startup India Initiative ............................................................................................. 15.19 Succession
planning in Business ............................................................................ 15.22
APPENDIX 1.
Exponential Table ......................................................................................................A.1
2. 3.
Natural Log Table.......................................................................................................A.2 Cumulative
Area under Standard Normal Distribution ..................................................A.4