CASE STUDY

Bharat Engineering Works (BEW) IS PROMOTED BY Mr.

Bharat Singh, a qualified and experienced mechanical
engineer. He worked for an automobile major General
Auto Ltd (GAL). Over years of experience, he had dev
eloped a sheet metal component that was being procured
by GAL through another vendor. GAL was not satisfied
with the quality of the sheet metal components. In view of
the better product developed by Mr. Bharat Singh, his
employer encouraged him to set up his own unit and
assured him all help. He decided to venture on his own.

Bharat Singh prepared the project report. The project

cost was Rs 60 lacs-consisting of Rs 40 lakhs towards
plant and machinery and remaining Rs 20 lakhs as
working capital. Mr. Bharat Singh with all his resources
could accumulate only Rs 20 lakhs on his own and need
balance Rs 40 lakhs as loan from a bank.

He approached his banker friend for a loan of Rs 40

lakhs. After due appraisal of the project and considering
the assured orders from GAL, the bank agreed to provide
him Rs 40 lakh. However, the bank was willing to disburse
the fund on a need-based basis according to the
requirement of funds as they arise. The bankers asked
Bharat Singh to prepare the requirements of funds
according to the time when the funds were actually
required.

Bharat Singh had negotiated the contracts for

machinery on deferred payment basis. On the
recommendations of his employer, the machinery supplier
had agreed for the deferred terms of payment as follows:
 Down payment: Rs 10 lakh

After one year: Rs 20 lakh plus interest @ 15% on

remaining amount

After two years: Rs 10 lakh plus interest @ 15% on

the remaining amount.

Accordingly, the following requirement of fun was

presented to the bank to which the bank agreed:

Rs (lakh) Year 0 Year 1 Year 2 Total

Funds required 30.00 20.00 10.00 60.00
Equity 20.00 ------ ----- 20.00
loan 10.00 15.00 15.00 40.00

The bank sanctioned the loan on the following terms:

1. The rate of interest would be 12% per annum.

2. The aggregate period of the loan would be 7 years

from now.

3. The loan would have moratorium of two years from

date of sanction.

4. The repayment could be done in any of the following

methods:

(a) In
equal amount every quarter for 20 years along
with interest beginning year 3 onwards on declining
basis.

(b) In equated quarterly installments (EQIs) for 20

quarters commencing from Year 3.

Moratorium of two years was given because BEW did not

have enough generation in the first two years. However,
BEW would pay the interest during the period.
Your are required to find the following repayment cash
flows of the BEW for 20 quarters from Year 3 onwards
under declining basis as in 4(a) above.

Also explain if BEW choose the option of EQI as in 4(b),

answer the following:

1. Work out the EQIs for next 20 quarters for repayment

of loan and interest.

2. BEW is required to show interest portion of EQIs in its

profit and loss account each year. Find out the
amount of interest in each EQI and the sum that
would be sown as interest each year.