Tag: University of Mumbai BMS Notes

A private placement is a capital raising event that involves the sale of securities to a relatively small number of select investors.

A private placement is different from a public issue in which securities are made available for sale on the open market to any type of investor.

As per the definition under Explanation II to Sub Section 1 of Section 42 of the Companies Act, 2013 Private Placement means any offer of securities or invitation to subscribe securities to a select group of persons by a Company ( other than by way of public offer) through issue of a private placement offer letter and which satisfies the conditions specified in this section.

Private Placement is governed by Section 42 of the Companies Act, 2013. As per Section 42 of the Companies Act, 2013 the maximum number of persons to which allotment can be done in a year shall not exceed 200( Excluding Qualified Institutional Buyers and Employees who have been given securities under ESOP Scheme) in a financial year. If the same exceeds the prescribed limit then in will be deemed to be a public issue and the Company has to follow the procedure of Public issue. As per the present scenario, if a Company, listed or unlisted, makes an offer of Securities to more than 200 persons during a year, whether it receives money or not, to any person whether in India or abroad and intends to get its Securities listed on a recognized stock exchange whether in India or abroad, shall be deemed to be a Public issue and the Company has to Comply with the provisions of Public issue.

Procedure

1. Company planning to make Private Placement has to first pass a special resolution in the general meeting of the Company.

However, in case of Non Convertible Debentures(NCD) it will be sufficient if the Company passes a special resolution once in a year for all the Private Placements to be made by the for the NCD during the year.[Rule 14(2)].

2. Next, the Company has to issue a Private Placement letter of offer to the Identified persons by the Board to whom the allotment is to be made. [ Companies Amendment Act, 2017].

However, it is to be noted that the Private Placement letter of offer shall not contain Right to Renunciation.[ Companies Amendment Act, 2017].

The Company also has to keep the records of the same and file the details with the ROC within 30 days from the date of issue of Private Placement letter of offer.[Rule 14(3)].

3. Once the Company receives the allotment money, the Company shall allot the Securities within 60 days and if it fails to do so then refund the money within the next 15 days. If the Company fails to do so then interest @12% will be charged from the expiry of 60th day.
4. The Company has to file return of allotment within 15 days of allotment in Form PAS-3 .Companycannot utilize the Application money until it has filed Return of allotment with the ROC[ Companies Amendment Act, 2017].

Following points are to be noted

1. The Application money to be received shall be either through Cheque, Demand Draft or other banking channels except cash. [Section 42(5)]
2. The minimum application size shall not be less than Rupees Twenty Thousand per person.
3. Private Placement shall not be done unless any previous offer or invitation has been completed or withdrawn or abandoned by the Company. [Section 42(3)].
4. The Company shall not advertise about the Private Placement to the public.
5. If a Company makes contravenes the provisions of this Section, then the Company, Promoters and its Directors shall be liable for a penalty which may extend to the amount involved in the contravention or rupees two crores, whichever is higher. Further the Company also has to refund all monies to subscribers within 30 days of the order.
6. Restriction of 200 is for each kind of a Security .

Private Placement Advantages

Private placements present the following advantages:

• Long Term
  Private placements provide longer maturities than typical bank financing, at a fixed-interest rate. This is ideal for when a business is presented with a growth opportunity where they wouldn’t see the return on their investment right away; a business would have more time to pay back the private placement while having certainty of financing cost over the life of that investment.
  Also, private placements are typically “buy-and-hold,” so the company would benefit from having a long-term relationship with the same investor throughout the life of the financing.

• Speed in Execution
  ‍The growth and maturity of the private placement market has led to improved standardization of documentation, visibility of pricing and terms, increased capacity for financings as well as overall increase of size and depth of the market ($10MM – $1B+). Thus, the private placement market fosters an environment that allows for quick execution of an investment, generally within 6-8 weeks (for the first transaction. Follow-on financings can be executed within a shorter time frame).
  Additionally, it is typically faster to issue a private placement versus a corporate bond in the public market because the issuer is not required to expend time and resources creating a prospectus and registering with the SEC.
• Complement to Existing Financing
  ‍Private placements also help diversify a company’s sources of capital and capital structure. Since the terms can be customized, private placements can complement existing bank debt versus compete with it, and can allow a company to better manage its debt obligations. Diversification of funding sources is particularly important during market cycles when bank liquidity may be tight.
  Private placements enable privately-held, middle-market companies and public companies to access capital just as they would with an underwritten public debt offering, but without certain requirements, such as ratings, registrations, or minimum size. And for public companies, private placements can offer superior execution relative to the public bond market for small issuance sizes as well as greater structural flexibility.
• Privacy and Control
  ‍Private placement transactions are negotiated confidentially. Also, public disclosure requirements are limited, compared to those found in the public market. Companies would not be beholden to public shareholders.

Uses

Long-term capital is congruent with a company’s long-term investments. Thus, capital raised from issuing a private placement is most commonly used to support long-term initiatives versus short-term needs, such as working capital. Companies, both public and private, use the capital raised from private placements in the following ways:

• Debt refinancing
• Debt diversification
• Expansion/Growth capital
• Acquisitions
• Stock buyback/Recapitalization
• Taking a public company privat
• Employee Stock Ownership Plan (ESOP)

Pricing and Payment Structure

Private placement debt is predominantly a fixed-income note that pays a set coupon, on a negotiated schedule. Private placements are priced similarly to public securities, where pricing is determined by the U.S. Treasury rate, with the addition of a credit risk premium.

Repayment of the principal can be accomplished in several ways, depending on the credit quality and needs of the issuer, such as sinking fund payments (amortization) or “bullets” as well as tailored/bespoke amortization. Interest is typically paid quarterly or semi-annually.

Working Capital is basically an indicator of the short-term financial position of an organization and is also a measure of its overall efficiency. Working Capital is obtained by subtracting the current liabilities from the current assets. This ratio indicates whether the company possesses sufficient assets to cover its short-term debt.

Working Capital indicates the liquidity levels of companies for managing day-to-day expenses and covers inventory, cash, accounts payable, accounts receivable and short-term debt that is due. Working capital is derived from several company operations such as debt and inventory management, supplier payments and collection of revenues.

The sources for working capital can either be long term, short term or even spontaneous. Spontaneous working capital are majorly derived from trade credit including notes payable and bills payable while short term working capital sources include dividend or tax provisions, cash credit, public deposits, trade deposits, short-term loans, bills discounting, inter-corporate loans and also commercial paper.

For the long-term, working capital sources include long-term loans, provision for depreciation, retained profits, debentures and share capital. These are major working capital sources for organizations based on their requirements.

Types of Working Capital

There are several types of working capital based on the balance sheet or operating cycle view. The balance sheet view classifies working capital into net (current liabilities subtracted from current assets featuring in the company’s balance sheet) and gross working capital (current assets in the balance sheet).

On the other hand, operating cycle view classifies working capital into temporary (difference between net working capital & permanent working capital) and permanent (fixed assets) working capital. Temporary working capital can be further broken down into reserve.

Working Capital Cycle

The Working Capital Cycle or WCC means the time period that is taken to convert net current liabilities and assets into cash by any organization. This is an indicator of the organizational efficiency in terms of effectively managing liquidity position in the short-term and the cycle, which is calculated in days, is basically the time period between the generation of revenue through cash by selling products and the buying of materials for producing these products.

The shorter this working capital cycle, the swifter will the company be able to free up its cash, which is blocked. In case the cycle is long, the capital usually gets stuck without earning returns in the operational cycle. Businesses always strive to lower this working capital cycle with a view towards enhancing liquidity in the short-term.

Working Capital Formula

The formula for working capital is the following:

Working Capital = Current Assets – Current Liabilities

The working capital ratio is the indicator of whether ample short-term assets are possessed by an organization for taking care of short-term debt. A ratio lower than 1 is an indicator of negative working capital while positive/sufficient working capital is usually indicated by a ratio between 1.2 and 2.0. Anything exceeding 2 usually indicates there are excess assets that are not being invested by the company and therefore represents missed opportunity.

The organization may be in trouble if the current assets do not exceed the liabilities at present. Working capital also provides a picture of the efficiency of the organization. Money that is locked in the market, inventory or in the hands of customers-who have not paid up yet, will not be considered viable when it comes to settling obligations.

Funding Working Capital

• Zero collateral requirements
• Loans up to Rs. Crore within 24 hours
• Flexi Interest-only Loans where EMIs could consist of only interest, with principal payable at the end of the tenor
• Doorstep document pick-up for faster processing
• Swift online application & approval process
• Minimal Documentation: Only KYC documents, business vintage, passport-sized photo and financial documents are required.
• Easy-to-meet eligibility criteria for SMEs and business-owners

Capital Structure means a combination of all long-term sources of finance. It includes Equity Share Capital, Reserves and Surplus, Preference Share capital, Loan, Debentures and other such long-term sources of finance. A company has to decide the proportion in which it should have its own finance and outsider’s finance particularly debt finance. Based on the proportion of finance, WACC and Value of a firm are affected. There are four capital structure theories for this, viz. net income, net operating income, traditional and M&M approach.

Net income

Net income approach and net operating income approach were proposed by David Durand. According to NI approach, there exists positive relationship between capital structure and valuation of firm and change in the pattern of capitalisation brings about corresponding change in the overall cost of capital and total value of the firm.

Thus, with an increase in the ratio of debt to equity overall cost of capital will decline and market price of equity stock as well as value of the firm will rise. The converse will hold true if ratio of debt to equity tends to decline.

This approach is based on three following assumptions:

(1) There are no taxes;

(2) Cost of debt is less than cost of equity;

(3) The use of debt does not change the risk perception of investors. This implies that there will be no change in cost of debt and cost of equity even if degree of financial leverages changes.

On the basis of the above assumptions, it has been held in the NI approach that increased use of debt will magnify the shareholders’ earnings (because cost of debt and cost of equity will remain constant) and thereby result in rise in share values of equity and so also value of the firm.

Thus, a firm can achieve optimal capital structure by making judicious use of debt and equity and attempt to maximise the market price of its stock.

According to NI approach a firm may increase the total value of the firm by lowering its cost of capital.

When cost of capital is lowest and the value of the firm is greatest, we call it the optimum capital structure for the firm and, at this point, the market price per share is maximised.

The same is possible continuously by lowering its cost of capital by the use of debt capital. In other words, using more debt capital with a corresponding reduction in cost of capital, the value of the firm will increase.

The same is possible only when:

(i) Cost of Debt (K_d) is less than Cost of Equity (K_e);

(ii) There are no taxes; and

(iii) The use of debt does not change the risk perception of the investors since the degree of leverage is increased to that extent.

Since the amount of debt in the capital structure increases, weighted average cost of capital decreases which leads to increase the total value of the firm. So, the increased amount of debt with constant amount of cost of equity and cost of debt will highlight the earnings of the shareholders.

Net Operating Income Approach (NOI):

According to Net Operating Income Approach which is just opposite to NI approach, the overall cost of capital and value of firm are independent of capital structure decision and change in degree of financial leverage does not bring about any change in value of firm and cost of capital.

The market value of the firm is determined by the following formula:

The crucial assumptions of the NOI approach are:

(1) The firm is evaluated as a whole by the market. Accordingly, overall capitalisation rate is used to calculate the value of the firm. The split of capitalisation between debt and equity is not significant.

(2) Overall capitalisation rate remains constant regardless of any change in degree of financial leverage.

(3) Use of debt as cheaper source of funds would increase the financial risk to shareholders who demand higher cost on their funds to compensate for the additional risk. Thus, the benefits of lower cost of debt are offset by the higher cost of equity.

(4) The cost of debt would stay constant.

(5) The firm does not pay income taxes.

Thus, under the NOI approach the total value of the firm as stated above is determined by dividing the net operating income (EBIT) by the overall capitalisation rate and market value of equity (S) can be found out by subtracting the market value of debt (B) from the overall value of the firm (V). In other words.

Now we want to highlight the Net Operating Income (NOI) Approach which was advocated by David Durand based on certain assumptions.

They are:

(i) The overall capitalisation rate of the firm K_w is constant for all degree of leverages;

(ii) Net operating income is capitalised at an overall capitalisation rate in order to have the total market value of the firm.

Thus, the value of the firm, V, is ascertained at overall cost of capital (K_w):

V = EBIT/K_w (since both are constant and independent of leverage)

(iii) The market value of the debt is then subtracted from the total market value in order to get the market value of equity.

S – V – T 

(iv) As the Cost of Debt is constant, the cost of equity will be

K_e = EBIT – I/S

The NOI Approach can be illustrated with the help of the following diagram

Under this approach, the most significant assumption is that the K_w is constant irrespective of the degree of leverage. The segregation of debt and equity is not important here and the market capitalises the value of the firm as a whole.

Thus, an increase in the use of apparently cheaper debt funds is offset exactly by the corresponding increase in the equity- capitalisation rate. So, the weighted average Cost of Capital K_w and K_d remain unchanged for all degrees of leverage. Needless to mention here that, as the firm increases its degree of leverage, it becomes more risky proposition and investors are to make some sacrifice by having a low P/E ratio.

Traditional Approach:

While the above two approaches represent extreme views about the impact of financial leverage on value of firm and cost of capital, traditional approach offers an intermediate view which is a compromise between the NOI and NI approaches.

This approach resembles the NI approach when it argues that the value of the firm can be increased and cost of capital can be reduced by the judicious mix of debt and equity share capital but it does not subscribe to the view of NI approach that the value of the firm will increase and cost of capital will decrease for all the degrees of financial leverage.

Further, the traditional approach differs from the NOI approach because it does not hold the view that the overall cost of capital will remain constant whatever be the degree of financial leverage. Traditional theorists believe that up to certain point a firm can by increasing proportion of debt in its capital structure reduce cost of capital and raise market value of the stock.

Beyond the point further induction of debt will lead the cost of capital to rise and market value of the stock to fall. Thus, through a judicious mix of debt and equity a firm can minimise overall cost of capital to maximise value of stock. They opine that optimal point in capital structure is one where overall cost of capital begins to rise faster than the increase in earnings per share as a result of application of additional debt.

Traditional view regarding optimal capital structure can be appreciated by categorizing the market reaction to leverage in following three stages:

Stage I:

The first stage starts with introduction of debt in the firm’s capital structure. As a result of the use of low cost debt the firm’s net income tends to rise; cost of equity capital (K_e) rises with addition of debt but the rate of increase will be less than the increase in net earnings rate. Cost of debt (K_i,) remains constant or rises only modestly. Combined effect of all these will be reflected in increase in market value of the firm and decline in overall cost of capital (K₀).

Stage II:

In the second stage further application of debt will raise costs of debt and equity capital so sharply as to offset the gains in net income. Hence the total market value of the firm would remain unchanged.

Stage III:

After a critical turning point any further dose of debt to capital structure will prove fatal. The costs of both debt and equity rise as a result of the increasing riskiness of each resulting in an increase in overall cost of capital which will be faster than the rise in earnings from the introduction of additional debt. As a consequence of this market value of the firm will tend to depress.

The overall effect of these stages suggests that the capital structure decision has relevance to valuation of firm and cost of capital. Up to favorably affects the value of a firm. Beyond that point value of the firm will be adversely affected by use of debt. 

The traditional view of optimal structure is set forth graphically in figure 14.3.

It may be noted from figure 14.3 that the cost of capital curve (K_e) is saucer shaped where an optimal range is extended over the range of leverage. But cost of capital curve need not always be saucer shaped. It is possible that stage 2 may not exist at all and instead of optimal range we may have optimal point in capital structure. This possibility is shown in figure 14.4.

Thus, cost of capital curve may be V shaped which yudecdes that applications of additional debt in capital structure beyond a point will result in an increase in total cost of capital and fall in market value of the firm. This is an optimal level of debt and equity mix which every firm must endeavour to attain.

Modigliani-Miller (M-M) Approach:

Modigliani-Miller’ (MM) advocated that the relationship between the cost of capital, capital structure and the valuation of the firm should be explained by NOI (Net Operating Income Approach) by making an attack on the Traditional Approach.

The Net Operating Income Approach, supplies proper justification for the irrelevance of the capital structure. In Income Approach, supplies proper justification for the irrelevance of the capital structure.

In this context, MM support the NOI approach on the principle that the cost of capital is not dependent on the degree of leverage irrespective of the debt-equity mix. In the words, according to their thesis, the total market value of the firm and the cost of capital are independent of the capital structure.

They advocated that the weighted average cost of capital does not make any change with a proportionate change in debt-equity mix in the total capital structure of the firm.

The same can be shown with the help of the following diagram

Proposition:

The following propositions outline the MM argument about the relationship between cost of capital, capital structure and the total value of the firm:

(i) The cost of capital and the total market value of the firm are independent of its capital structure. The cost of capital is equal to the capitalisation rate of equity stream of operating earnings for its class, and the market is determined by capitalising its expected return at an appropriate rate of discount for its risk class.

(ii) The second proposition includes that the expected yield on a share is equal to the appropriate capitalisation rate of a pure equity stream for that class, together with a premium for financial risk equal to the difference between the pure-equity capitalisation rate (K_e) and yield on debt (K_d). In short, increased K_e is offset exactly by the use of cheaper debt.

(iii) The cut-off point for investment is always the capitalisation rate which is completely independent and unaffected by the securities that are invested.

Assumptions:

The MM proposition is based on the following assumptions:

(a) Existence of Perfect Capital Market It includes:

(i) There is no transaction cost;

(ii) Flotation costs are neglected;

(iii) No investor can affect the market price of shares;

(iv) Information is available to all without cost;

(v) Investors are free to purchase and sale securities.

(b) Homogeneous Risk Class/Equivalent Risk Class:

It means that the expected yield/return have the identical risk factor i.e., business risk is equal among all firms having equivalent operational condition.

(c) Homogeneous Expectation:

All the investors should have identical estimate about the future rate of earnings of each firm.

(d) The Dividend pay-out Ratio is 100%:

It means that the firm must distribute all its earnings in the form of dividend among the shareholders/investors, and

(e) Taxes do not exist:

That is, there will be no corporate tax effect (although this was removed at a subsequent date).

Interpretation of MM Hypothesis:

The MM Hypothesis reveals that if more debt is included in the capital structure of a firm, the same will not increase its value as the benefits of cheaper debt capital are exactly set-off by the corresponding increase in the cost of equity, although debt capital is less expensive than the equity capital. So, according to MM, the total value of a firm is absolutely unaffected by the capital structure (debt-equity mix) when corporate tax is ignored.

Proof of MM Hypothesis: The Arbitrage Mechanism:

MM have suggested an arbitrage mechanism in order to prove their argument. They argued that if two firms differ only in two points viz. (i) the process of financing, and (ii) their total market value, the shareholders/investors will dispose-off share of the over-valued firm and will purchase the share of under-valued firms.

Naturally, this process will be going on till both attain the same market value. As such, as soon as the firms will reach the identical position, the average cost of capital and the value of the firm will be equal. So, total value of the firm (V) and Average Cost of Capital, (K_w) are independent.

Cost of Preference Share Capital: An amount paid by company as dividend to preference shareholder is known as Cost of Preference Share Capital.

Preference share is a small unit of a company’s capital which bears fixed rate of dividend and holder of it gets dividend when company earn profit. Dividend payable is not a tax deductible amount. So, there is no tax adjustments required for comparing with cost of debt.

Formula for Cost of Preference Share:

Irredeemable Preference Share	Redeemable Preference Share
Kp = Dp/NP	Kp = Dp+((RV-NP)/n )/ (RV+NP)/2

Where,

K_p = Cost of Preference Share

D_p = Dividend on preference share

NP = Net proceeds from issue of preference share

(Issue price – Flotation cost)

RV = Redemption Value

N = Period of preference share

Example: A preference share issues at 12% worth Rs 60,000 at 5% discount and after 6 years it redeem at 10% premium. The flotation cost is 5% and tax rate is 20%. Find out the cost of preference share capital.

Solution:

Dividend on preference share (D_p) = 60,000*12/100 = Rs.7200

Discount = 60,000*5/100 = Rs.3000

Flotation Cost = 60,000*5/100 = Rs.3000

Net Proceeds (NP) = Rs. (60,000-3000-3000) = Rs. 54,000

Premium amount = 60,000*10/100 =Rs. 6000

Redemption Value = Rs. (60,000+6000) = Rs. 66,000

K_p = D_p+ ((RV-NP)/n)/ (RV+NP)/2

= 7200+ ((66,000-54,000)/6) / (66,000+54,000)/2

= 9200/60,000

= 15.33%

The cost of retained earnings is the cost to a corporation of funds that it has generated internally. If the funds were not retained internally, they would be paid out to investors in the form of dividends. Therefore, the cost of retained earnings approximates the return that investors expect to earn on their equity investment in the company, which can be derived using the capital asset pricing model (CAPM). The CAPM combines the risk-free rate and a stock’s beta to arrive at the cost of equity capital.

Retained Earnings (RE) are the portion of a business’s profits that are not distributed as dividends to shareholders but instead are reserved for reinvestment back into the business. Normally, these funds are used for working capital and fixed asset purchases (capital expenditures) or allotted for paying off debt obligations.

The Purpose of Retained Earnings

Retained earnings represent a useful link between the income statement and the balance sheet, as they are recorded under shareholders’ equity, which connects the two statements. The purpose of retaining these earnings can be varied and includes buying new equipment and machines, spending on research and development, or other activities that could potentially generate growth for the company. This reinvestment into the company aims to achieve even more earnings in the future.

If a company does not believe it can earn a sufficient return on investment from those retained earnings (i.e., earn more than their cost of capital), then they will often distribute those earnings to shareholders as dividends or share buybacks.

Retained Earnings Formula

The RE formula is as follows:

RE = Beginning Period RE + Net Income/Loss – Cash Dividends – Stock Dividends

Where RE = Retained Earnings

Beginning of Period Retained Earnings

At the end of each accounting period, retained earnings are reported on the balance sheet as the accumulated income from the prior year (including the current year’s income), minus dividends paid to shareholders. In the next accounting cycle, the RE ending balance from the previous accounting period will now become the retained earnings beginning balance.

The RE balance may not always be a positive number, as it may reflect that the current period’s net loss is greater than that of the RE beginning balance. Alternatively, a large distribution of dividends that exceed the retained earnings balance can cause it to go negative.

How Net Income Impacts Retained Earnings

Any changes or movement with net income will directly impact the RE balance. Factors such as an increase or decrease in net income and incurrence of net loss will pave the way to either business profitability or deficit. The Retained Earnings account can be negative due to large, cumulative net losses.  Naturally, the same items that affect net income affect RE.

How Dividends Impact Retained Earnings

Distribution of dividends to shareholders can be in the form of cash or stock. Both forms can reduce the value of RE for the business. Cash dividends represent a cash outflow and are recorded as reductions in the cash account. These reduce the size of a company’s balance sheet and asset value as the company no longer owns part of its liquid assets. Stock dividends, however, do not require a cash outflow. Instead, they reallocate a portion of the RE to common stock and additional paid-in capital accounts. This allocation does not impact the overall size of the company’s balance sheet, but it does decrease the value of stocks per share.

End of Period Retained Earnings

At the end of the period, you can calculate your final Retained Earnings balance for the balance sheet by taking the beginning period, adding any net income or net loss, and subtracting any dividends.

Example Calculation

In this example, the amount of dividends paid by XYZ is unknown to us, so using the information from the Balance Sheet and the Income Statement, we can derive it remembering the formula Beginning RE – Ending RE + Net income (-loss) = Dividends

Leverage, as a business term, refers to debt or to borrowing funds to finance the purchase of inventory, equipment and other company assets. Business owners can use either debt or equity to finance or buy the company’s assets. Using debt, or leverage, increases the company’s risk of bankruptcy but, it also can increase the company’s profits and returns; specifically its return on equity. This is true because if debt financing is used rather than equity financing then the owner’s equity is not diluted by issuing more shares of stock.

Borrowing in order to expand or invest is called leverage because the goal is to amplify the loan into a greater value for the firm or investors.

With debt financing, regardless if whether the interest charges are from a loan or line of credit, the interest payments are tax deductible. In addition, by making timely payments a company will establish a positive payment history and business credit rating.

Investors in a business prefer the business to use debt financing but only up to a point. Beyond a certain point, investors get nervous about too much debt financing as it drives up the company’s default risk.

Significance of Leverage

Leverage refers to the use of fixed costs in an attempt to increase the profitability. Leverage affects the level and variability of the firm’s after tax earnings and hence, the firm’s overall risk and return. The study of leverage is significant due to the following reasons.

(i) Measurement of Operating Risk

Operating risk refers to the risk of the firm not being able to cover its fixed operating costs. Since operating leverage depends on fixed operating costs, larger fixed operating costs indicates higher degree of operating leverage and thus, higher operating risk of the firm. High operating leverage is good when sales are rising but bad when they are falling.

(ii) Measurement of Financial Risk

Financial risk refers to the risk of the firm not being able to cover its fixed financial costs. Since financial leverage depends on fixed financial cost, high fixed financial costs indicates higher degree of operating leverage and thus, high financial risk. High financial leverage is good when operating profit is rising and bad when it is falling.

(iii) Managing Risk

Relationship between operating leverage and financial leverage is multiplicative rather than additive. Operating leverage and financial leverage can be combined in a number of different ways to obtain a desirable degree of total leverage and level of total firm risk.

(iv) Designing Appropriate Capital Structure Mix

To design an appropriate capital structure mix or financial plan, the amount of EBIT under various financial plans, should be related to earning per share. One widely used means of examining the effect of leverage to analyze the relationship between EBIT and earning per share.

(v) Increase Profitability

Leverage is an effort or attempt by which a firm tries to show high result or more benefit by using fixed costs assets and fixed return sources of capital. It insures maximum utilization of capital and fixed assets in order to increase the profitability of a firm, It helps to know the reasons not having more profit by a company.

Disability Insurance, often called DI or disability income insurance, or income protection, is a form of insurance that insures the beneficiary’s earned income against the risk that a disability creates a barrier for a worker to complete the core functions of their work. For example, the worker may suffer from an inability to maintain composure in the case of psychological disorders or an injury, illness or condition that causes physical impairment or incapacity to work. It encompasses paid sick leave, short-term disability benefits (STD), and long-term disability benefits (LTD). Statistics show that in the US a disabling accident occurs, on average, once every second. In fact, nearly 18.5% of Americans are currently living with a disability, and 1 out of every 4 persons in the US workforce will suffer a disabling injury before retirement.

Factors to consider while selecting a disability insurance coverage:

• Coverage amount: Be diligent in assessing your needs and select the plan, keeping in mind your income level and age. Choose the sum assured such that you and your family could continue to maintain your current lifestyle even if a contingency arises.
• Determine the disabilities covered: While buying health insurance for disabled, there are a wide variety of options available in the market. Compare the degree of disability (total or partial) and types of disabilities covered across various products and choose the one with the widest coverage.
• Refund feature: Some products provide the functionality of refund of a part of your premium amount if no claim is made within the specified period.
• Read the policy wording: For the different degree of disability, different percentages of the sum insured is paid. In the case of partial disability, the percentage may differ depending on the policy wording. So, read the policy document carefully.

There are various government-sponsored health insurance policies for the disabled:

1. Nirmalya Health Insurance: It is a government-sponsored health insurance scheme for people with mental disabilities. This scheme provides coverage of Rs. 1 Lakh at a low premium rate with benefits including pre and post hospitalisation expenses and OPD treatment.
2. Swavalamban Health Insurance: It is a custom-tailored insurance scheme to suit the needs of those with disabilities. This plan requires the insured to pay a single premium in one go and avail the coverage at any time of treatment. This policy can be availed only for those disabled individuals with a family income of Rs. 3 Lakh and below. No pre-medical test is required. There is no exclusion of pre-existing conditions. It aims in providing affordable insurance to people with blindness, vision problem, disability related to hearing and mental disabilities.

Health insurance is an insurance that covers the whole or a part of the risk of a person incurring medical expenses, spreading the risk over numerous persons. By estimating the overall risk of [health risk] and health system expenses over the risk pool, an insurer can develop a routine finance structure, such as a monthly premium or payroll tax, to provide the money to pay for the health care benefits specified in the insurance agreement. The benefit is administered by a central organization such as a government agency, private business, or not-for-profit entity.

According to the Health Insurance Association of America, health insurance is defined as “coverage that provides for the payments of benefits as a result of sickness or injury. It includes insurance for losses from accident, medical expense, disability, or accidental death and dismemberment”

In India, provision of health care services varies state-wise. Public health services are prominent in most of the states, but due to inadequate resources and management, major population opts for private health services.

To improve the awareness and better health care facilities, Insurance Regulatory and Development Authority of India and The General Corporation of India runs health care campaigns for the whole population. IN 2018, for under privileged citizens, Prime Minister Narendra Modi announced the launch of a new health insurance called Modicare and the government claims that the new system will try to reach more than 500 million people.

In India, Health insurance is offered mainly in two Types:

• Indemnity Plan basically covers the hospitalization expenses and has subtypes like Individual Insurance, Family Floater Insurance, Senior Citizen Insurance, Maternity Insurance, Group Medical Insurance.
• Fixed Benefit Plan pays a fixed amount for pre-decided diseases like critical illness, cancer, heart disease, etc. It has also its sub types like Preventive Insurance, Critical illness, Personal Accident.

Depending on the type of insurance and the company providing health insurance, coverage includes pre-and post-hospitalisation charges, ambulance charges, day care charges, Health Checkups, etc.

It is pivotal to know about the exclusions which are not covered under insurance schemes:

• Treatment related to dental disease or surgeries
• All kind of STD’s and AIDS
• Non-Allopathic Treatment

Few of the companies do provide insurance against such diseases or conditions, but that depends on the type and the insured amount.

Some important aspects to be considered before choosing the health insurance in India are Claim Settlement ratio, Insurance limits and Caps, Coverage and network hospitals.

Benefits of having a Health insurance Policy

1. Cashless Treatment: If you are insured, you can get cashless treatments as your insurance company would work in collaboration with various hospital networks.
2. Pre and post hospitalization cost coverage: Insurance policy also covers pre and post hospitalization charges up to the period of 60 days, depending on the insurance plans purchased.
3. Transportation Charges: Insurance policy also covers the amount paid to ambulance towards the transportation of insured.
4. No Claim Bonus (NCB): This is the bonus element which is paid to the insured if the insured does not file a claim for any treatment in the previous year.
5. Medical Checkup: Insurance policy also provide options for health checkups. Free health checkup is also provided by some insurers based on your previous NCBs.
6. Room Rent: Insurance policy also covers room expenses depending on the premium being paid by the insured.  
7. Tax Benefit: Premium paid on Health insurance is tax deductible under section 80D of the Income Tax Act.

Selection the Right Insurance Policy

It’s difficult to select the best insurance policies as all insurance company provides a similar type of insurance plan. Hence some of the important points that any Person should look before purchasing any plans are:

1. Sum Assured
2. Minimum Entry Age and renewability clause
3. Room Rent Capping
4. Inclusion and Exclusion
5. No Claim Bonus
6. Other Benefits

Long-term care insurance (LTC or LTCI) is an insurance product, sold in the United States, United Kingdom and Canada that helps pay for the costs associated with long-term care. Long-term care insurance covers care generally not covered by health insurance, Medicare, or Medicaid.

Individuals who require long-term care are generally not sick in the traditional sense but are unable to perform two of the six activities of daily living (ADLs) such as dressing, bathing, eating, toileting, continence, transferring (getting in and out of a bed or chair), and walking.

Age is not a determining factor in needing long-term care. About 70 percent of individuals over 65 will require at least some type of long-term care services during their lifetime. About 40% of those receiving long-term care today are between 18 and 64. Once a change of health occurs, long-term care insurance may not be available. Early onset (before 65) Alzheimer’s and Parkinson’s disease occur rarely.

Long-term care is an issue because people are living longer. As people age, many times they need help with everyday activities of daily living or require supervision due to severe cognitive impairment. That impacts women even more since they often live longer than men and, by default, become caregivers to others.

Vehicle insurance (also known as car insurance, motor insurance, or auto insurance) is insurance for cars, trucks, motorcycles, and other road vehicles. Its primary use is to provide financial protection against physical damage or bodily injury resulting from traffic collisions and against liability that could also arise from incidents in a vehicle. Vehicle insurance may additionally offer financial protection against theft of the vehicle, and against damage to the vehicle sustained from events other than traffic collisions, such as keying, weather or natural disasters, and damage sustained by colliding with stationary objects. The specific terms of vehicle insurance vary with legal regulations in each region.

Auto insurance in India deals with the insurance covers for the loss or damage caused to the automobile or its parts due to natural and man-made calamities. It provides accident cover for individual owners of the vehicle while driving and also for passengers and third-party legal liability. There are certain general insurance companies who also offer online insurance service for the vehicle.

Auto insurance in India is a compulsory requirement for all new vehicles used whether for commercial or personal use. The insurance companies have tie-ups with leading automobile manufacturers. They offer their customers instant auto quotes. Auto premium is determined by a number of factors and the amount of premium increases with the rise in the price of the vehicle. The claims of the auto insurance in India can be accidental, theft claims or third-party claims. Certain documents are required for claiming auto insurance in India, like duly signed claim form, RC copy of the vehicle, driving license copy, FIR copy, original estimate and policy copy.

There are different types of auto insurance in India:

Private Car Insurance: Private Car Insurance is the fastest growing sector in India as it is compulsory for all the new cars. The amount of premium depends on the make and value of the car, state where the car is registered and the year of manufacture. This amount can be reduced by asking the insurer for No Claim Bonus (NCB) if no claim is made for insurance in previous year.

Two Wheeler Insurance: The Two Wheeler Insurance in India covers accidental insurance for the drivers of the vehicle. The amount of premium depends on the current showroom price multiplied by the depreciation rate fixed by the Tariff Advisory Committee at the beginning of a policy period.

Commercial Vehicle Insurance: Commercial Vehicle Insurance in India provides cover for all the vehicles which are not used for personal purposes like trucks and HMVs. The amount of premium depends on the showroom price of the vehicle at the commencement of the insurance period, make of the vehicle and the place of registration of the vehicle. The auto insurance generally includes:

• Loss or damage by accident, fire, lightning, self-ignition, external explosion, burglary, housebreaking or theft, malicious act
• Liability for third party injury/death, third party property and liability to paid driver
• On payment of appropriate additional premium, loss/damage to electrical/electronic accessories

The auto insurance does not include:

• Consequential loss, depreciation, mechanical and electrical breakdown, failure or breakage
• When vehicle is used outside the geographical area
• War or nuclear perils and drunken driving

Third-party insurance

This cover is mandatory in India under the Motor Vehicles Act, 1988. This cover cannot be used for personal damages. This is offered at low premiums and allows for third party claims under “no fault liability. The premium is calculated through the rates provided by the Tariff Advisory Committee. This is branch of the IRDA (Insurance Regulatory and Development Authority of India). It covers bodily injury/accidental death and property damage.

Salient Features of Third Party Insurance

• Third party insurance is compulsory for all motor vehicles. In G. Govindan v. New India Assurance Co. Ltd., Third party risks insurance is mandatory under the statute. This provision cannot be overridden by any clause in the insurance policy.
• Third party insurance does not cover injuries to the insured himself but to the rest of the world who is injured by the insured.
• Beneficiary of third party insurance is the injured third party, the insured or the policy holder is only nominally the beneficiary of the policy. In practice the money is always paid direct by the insurance company to the third party (or his solicitor) and does not even pass through the hands of the insured person.
• In third party policies the premiums do not vary with the value of what is being insured because what is insured is the legal liability’ and it is not possible to know in advance what that liability will be.
• Third party insurance is almost entirely fault-based.(means you have to prove the fault of the insured first and also that injury occurred from the fault of the insured to claim damages from him)
• Third party insurance involves lawyers aid
• The third party insurance is unpopular with insurance companies as compared to first party insurance, because they never know the maximum amounts they will have to pay under third party policies.