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essentials corporate finance
Corporate Finance With Connect Access Card 10th Edition Stephen Ross ,Randolph Westerfield ,Jeffrey Jaffe - Solutions
In 20 years, what will be the principal repayment due if East Coast Yachts issues the coupon bonds? What if it issues the zeroes? After Dan’s EFN analysis for East Coast Yachts (see the Mini Case in Chapter 3), Larissa has decided to expand the company’s operations. She has asked Dan to enlist
What are the company’s considerations in issuing a coupon bond compared to a zero coupon bond?After Dan’s EFN analysis for East Coast Yachts (see the Mini Case in Chapter 3), Larissa has decided to expand the company’s operations. She has asked Dan to enlist an underwriter to help sell $50
Suppose East Coast Yachts issues the coupon bonds with a make-whole call provision.The make-whole call rate is the Treasury rate plus .40 percent. If East Coast calls the bonds in seven years when the Treasury rate is 4.8 percent, what is the call price of the bond? What if it is 8.2 percent?After
Are investors really made whole with a make-whole call provision?After Dan’s EFN analysis for East Coast Yachts (see the Mini Case in Chapter 3), Larissa has decided to expand the company’s operations. She has asked Dan to enlist an underwriter to help sell $50 million in new 20-year bonds to
After considering all the relevant factors, would you recommend a zero coupon issue or a regular coupon issue? Why? Would you recommend an ordinary call feature or a make-whole call feature? Why?After Dan’s EFN analysis for East Coast Yachts (see the Mini Case in Chapter 3), Larissa has decided
Price − Earnings Ratio What are the three factors that determine a company’s price−earnings ratio?
Stock Valuation Evaluate the following statement: Managers should not focus on the current stock value because doing so will lead to an overemphasis on short-term profits at the expense of long-term profits.
Stock Values The Starr Co. just paid a dividend of $2.15 per share on its stock. The dividends are expected to grow at a constant rate of 5 percent per year, indefinitely.If investors require a return of 11 percent on the stock, what is the current price?What will the price be in three years? In 15
Stock Values The next dividend payment by ECY, Inc., will be $3.20 per share. The dividends are anticipated to maintain a growth rate of 6 percent, forever. If ECY stock currently sells for $63.50 per share, what is the required return?
Stock Values White Wedding Corporation will pay a $2.65 per share dividend next year. The company pledges to increase its dividend by 4.75 percent per year, indefinitely. If you require a return of 11 percent on your investment, how much will you pay for the company’s stock today?
Stock Valuation Siblings, Inc., is expected to maintain a constant 6.4 percent growth rate in its dividends, indefinitely. If the company has a dividend yield of 4.3 percent, what is the required return on the company’s stock?
Stock Valuation Suppose you know that a company’s stock currently sells for$72 per share and the required return on the stock is 11.5 percent. You also know that the total return on the stock is evenly divided between a capital gains yield and a dividend yield. If it’s the company’s policy to
Stock Valuation Gruber Corp. pays a constant $9 dividend on its stock. The company will maintain this dividend for the next 12 years and will then cease paying dividends forever. If the required return on this stock is 10 percent, what is the current share price?
Valuing Preferred Stock Ayden, Inc., has an issue of preferred stock outstanding that pays a $5.90 dividend every year, in perpetuity. If this issue currently sells for$87 per share, what is the required return?
Growth Rate The newspaper reported last week that Bennington Enterprises earned $34 million this year. The report also stated that the firm’s return on equity is 16 percent. Bennington retains 80 percent of its earnings. What is the firm’s earnings growth rate? What will next year’s earnings
Stock Valuation and PE The Germinating Flower Co. has earnings of $1.75 per share. The benchmark PE for the company is 18.What stock price would you consider appropriate? What if the benchmark PE were 21?
Stock Valuation Universal Laser, Inc., just paid a dividend of $3.10 on its stock.The growth rate in dividends is expected to be a constant 6 percent per year, indefinitely. Investors require a 15 percent return on the stock for the first three years, a 13 percent return for the next three years,
Nonconstant Growth Metallica Bearings, Inc., is a young start-up company. No dividends will be paid on the stock over the next nine years, because the firm needs to plow back its earnings to fuel growth. The company will pay a $15 per share dividend in 10 years and will increase the dividend by 5.5
Nonconstant Dividends Bucksnort, Inc., has an odd dividend policy. The company has just paid a dividend of $12 per share and has announced that it will increase the dividend by $3 per share for each of the next five years, and then never pay another dividend. If you require a return of 12 percent
Nonconstant Dividends Lohn Corporation is expected to pay the following dividends over the next four years: $10, $7, $6, and $2.75. Afterwards, the company pledges to maintain a constant 5 percent growth rate in dividends forever. If the required return on the stock is 13 percent, what is the
Differential Growth Hughes Co. is growing quickly. Dividends are expected to grow at a rate of 20 percent for the next three years, with the growth rate falling off to a constant 5 percent thereafter. If the required return is 12 percent and the company just paid a $2.80 dividend, what is the
Differential Growth Janicek Corp. is experiencing rapid growth. Dividends are expected to grow at 30 percent per year during the next three years, 18 percent over the following year, and then 8 percent per year indefinitely. The required return on this stock is 11 percent, and the stock currently
Negative Growth Antiques R Us is a mature manufacturing firm. The company just paid a dividend of $9, but management expects to reduce the payout by 4 percent per year, indefinitely. If you require an 11 percent return on this stock, what will you pay for a share today?
Finding the Dividend Mau Corporation stock currently sells for $58.32 per share.The market requires a return of 11.5 percent on the firm’s stock. If the company maintains a constant 5 percent growth rate in dividends, what was the most recent dividend per share paid on the stock?
Valuing Preferred Stock Fifth National Bank just issued some new preferred stock.The issue will pay an annual dividend of $8 in perpetuity, beginning five years from now. If the market requires a return of 5.6 percent on this investment, how much does a share of preferred stock cost today?
Using Stock Quotes You have found the following stock quote for RJW Enterprises, Inc., in the financial pages of today’s newspaper. What is the annual dividend? What was the closing price for this stock that appeared in yesterday’ s paper? If the company currently has 25 million shares of stock
Taxes and Stock Price You own $100,000 worth of Smart Money stock. One year from now, you will receive a dividend of $2.25 per share. You will receive a$2.40 dividend two years from now. You will sell the stock for $65 per share three years from now. Dividends are taxed at the rate of 28 percent.
Nonconstant Growth and Quarterly Dividends Pasqually Mineral Water, Inc., will pay a quarterly dividend per share of $.80 at the end of each of the next 12 quarters.Thereafter, the dividend will grow at a quarterly rate of 1 percent, forever. The appropriate rate of return on the stock is 10
Finding the Dividend Briley, Inc., is expected to pay equal dividends at the end of each of the next two years. Thereafter, the dividend will grow at a constant annual rate of 4 percent, forever. The current stock price is $45. What is next year’s dividend payment if the required rate of return
Finding the Required Return Juggernaut Satellite Corporation earned $18 million for the fiscal year ending yesterday. The firm also paid out 30 percent of its earnings as dividends yesterday. The firm will continue to pay out 30 percent of its earnings as annual, end-of-year dividends. The
Dividend Growth Four years ago, Bling Diamond, Inc., paid a dividend of $1.35 per share. Bling paid a dividend of $1.77 per share yesterday. Dividends will grow over the next five years at the same rate they grew over the last four years. Thereafter, dividends will grow at 5 percent per year. What
Price–Earnings Ratio Consider Pacific Energy Company and U.S. Bluechips, Inc., both of which reported earnings of $950,000. Without new projects, both firms will continue to generate earnings of $950,000 in perpetuity. Assume that all earnings are paid as dividends and that both firms require a
Growth Opportunities The Stambaugh Corporation currently has earnings per share of $9.40. The company has no growth and pays out all earnings as dividends.It has a new project that will require an investment of $1.95 per share in one year.The project is only a two-year project, and it will increase
Growth Opportunities Rite Bite Enterprises sells toothpicks. Gross revenues last year were $7.5 million, and total costs were $3.4 million. Rite Bite has 1 million shares of common stock outstanding. Gross revenues and costs are expected to grow at 5 percent per year. Rite Bite pays no income
Growth Opportunities California Real Estate, Inc., expects to earn $71 million per year in perpetuity if it does not undertake any new projects. The firm has an opportunity to invest $16 million today and $5 million in one year in real estate. The new investment will generate annual earnings of $11
Stock Valuation and PE Ramsay Corp. currently has an EPS of $2.35, and the benchmark PE for the company is 21.Earnings are expected to grow at 7 percent per year.a. What is your estimate of the current stock price?b. What is the target stock price in one year?c. Assuming the company pays no
Stock Valuation and EV FFDP Corp. has yearly sales of $28 million and costs of$12 million. The company’s balance sheet shows debt of $54 million and cash of$18 million. There are 950,000 shares outstanding and the industry EV/EBITDA multiple is 7.5. What is the company’s enterprise value? What
Stock Valuation and Cash Flows Eberhart Manufacturing has projected sales of$145 million next year. Costs are expected to be $81 million and net investment is expected to be $15 million. Each of these values is expected to grow at 14 percent the following year, with the growth rate declining by 2
Capital Gains versus Income Consider four different stocks, all of which have a required return of 17 percent and a most recent dividend of $3.50 per share. Stocks W, X, and Y are expected to maintain constant growth rates in dividends for the foreseeable future of 8.5 percent, 0 percent, and −5
Stock Valuation Most corporations pay quarterly dividends on their common stock rather than annual dividends. Barring any unusual circumstances during the year, the board raises, lowers, or maintains the current dividend once a year and then pays this dividend out in equal quarterly installments to
Growth Opportunities Lewin Skis, Inc., today expects to earn $8.50 per share for each of the future operating periods (beginning at Time 1), today if the firm makes no new investments and returns the earnings as dividends to the shareholders. However, Clint Williams, president and CEO, has
Nonconstant Growth This one’s a little harder. Suppose the current share price for the firm in the previous problem is $78.43 and all the dividend information remains the same. What required return must investors be demanding on Storico stock?( Hint: Set up the valuation formula with all the
Growth Opportunities Burklin, Inc., has earnings of $18 million and is projected to grow at a constant rate of 5 percent forever because of the benefits gained from the learning curve. Currently, all earnings are paid out as dividends. The company plans to launch a new project two years from now
Larissa has been talking with the company’s directors about the future of East Coast Yachts. To this point, the company has used outside suppliers for various key components of the company’s yachts, including engines. Larissa has decided that East Coast Yachts should consider the purchase of an
Investment Selection Given that eGain Communications was up by almost 412 percent for 2011, why didn’t all investors hold eGain Communications?
Investment Selection Given that First Solar was down by 74 percent for 2011, why did some investors hold the stock? Why didn’t they sell out before the price declined so sharply?
Risk and Return We have seen that over long periods stock investments have tended to substantially outperform bond investments. However, it is not at all uncommon to observe investors with long horizons holding their investments entirely in bonds.Are such investors irrational?
Effects of Inflation Look at Table 10.1 and Figure 10.7 in the text. When were T-bill rates at their highest over the period from 1926 through 2011? Why do you think they were so high during this period? What relationship underlies your answer?
Risk Premiums Is it possible for the risk premium to be negative before an investment is undertaken? Can the risk premium be negative after the fact? Explain.
Returns Two years ago, General Materials’ and Standard Fixtures’ stock prices were the same. During the first year, General Materials’ stock price increased by 10 percent while Standard Fixtures’ stock price decreased by 10 percent. During the second year, General Materials’ stock price
Returns Two years ago, the Lake Minerals and Small Town Furniture stock prices were the same. The average annual return for both stocks over the past two years was 10 percent. Lake Minerals’ stock price increased 10 percent each year. Small Town Furniture’s stock price increased 25 percent in
Arithmetic versus Geometric Returns What is the difference between arithmetic and geometric returns? Suppose you have invested in a stock for the last 10 years. Which number is more important to you, the arithmetic or geometric return?
Historical Returns The historical asset class returns presented in the chapter are not adjusted for inflation. What would happen to the estimated risk premium if we did account for inflation? The returns are also not adjusted for taxes. What would happen to the returns if we accounted for taxes?
Calculating Returns Suppose a stock had an initial price of $75 per share, paid a dividend of $1.20 per share during the year, and had an ending share price of $86.Compute the percentage total return.
Calculating Returns Rework Problems 1 and 2 assuming the ending share price is $67.
Calculating Returns Suppose you bought a 6 percent coupon bond one year ago for $1,040. The bond sells for $1,063 today.a. Assuming a $1,000 face value, what was your total dollar return on this investment over the past year?b. What was your total nominal rate of return on this investment over the
Nominal versus Real Returns What was the arithmetic average annual return on large-company stocks from 1926 through 2011?a. In nominal terms?b. In real terms?
Calculating Returns and Variability Using the following returns, calculate the average returns, the variances, and the standard deviations for X and Y :Returns Year X Y 1 8% 12%2 21 27 3 227 232 4 11 18 5 18 24
Risk Premiums Refer to Table 10.1 in the text and look at the period from 1973 through 1978.a. Calculate the arithmetic average returns for large-company stocks and T-bills over this period.b. Calculate the standard deviation of the returns for large-company stocks and T-bills over this period.c.
Calculating Returns and Variability You’ve observed the following returns on Mary Ann Data Corporation’s stock over the past five years: 27 percent, 13 percent, 18 percent, 214 percent, and 9 percent.a. What was the arithmetic average return on Mary Ann’s stock over this five-year period?b.
Calculating Real Returns and Risk Premiums In Problem 9, suppose the average inflation rate over this period was 4.2 percent, and the average T-bill rate over the period was 5.1 percent.a. What was the average real return on Mary Ann’s stock?b. What was the average nominal risk premium on Mary
Holding Period Return A stock has had returns of 16.12 percent, 12.11 percent, 5.83 percent, 26.14 percent, and −13.19 percent over the past five years, respectively.What was the holding period return for the stock?
Calculating Returns You purchased a zero coupon bond one year ago for $109.83.The market interest rate is now 9 percent. If the bond had 25 years to maturity when you originally purchased it, what was your total return for the past year?
Calculating Returns You bought a share of 4 percent preferred stock for $94.89 last year. The market price for your stock is now $96.12. What was your total return for last year?
Calculating Returns You bought a stock three months ago for $43.18 per share.The stock paid no dividends. The current share price is $46.21. What is the APR of your investment? The EAR?
Calculating Real Returns Refer to Table 10.1 . What was the average real return for Treasury bills from 1926 through 1932?
Return Distributions Refer back to Table 10.2 . What range of returns would you expect to see 68 percent of the time for long-term corporate bonds? What about 95 percent of the time?
Return Distributions Refer back to Table 10.2 . What range of returns would you expect to see 68 percent of the time for large-company stocks? What about 95 percent of the time?
C alculating Returns and Variability You find a certain stock that had returns of 12 percent, 221 percent, 9 percent, and 32 percent for four of the last five years.If the average return of the stock over this period was 11 percent, what was the stock’s return for the missing year? What is the
Arithmetic and Geometric Returns A stock has had returns of 27 percent, 12 percent, 32 percent, 212 percent, 19 percent, and 231 percent over the last six years. What are the arithmetic and geometric returns for the stock?
Arithmetic and Geometric Returns A stock has had the following year-end prices and dividends:Year Price Dividend 12 34 56$61.18 64.83 72.18 63.12 69.27 76.93—$ .72.78.86.95 1.08 What are the arithmetic and geometric returns for the stock?
Calculating Returns Refer to Table 10.1 in the text and look at the period from 1973 through 1980.a. Calculate the average return for Treasury bills and the average annual inflation rate (consumer price index) for this period.b. Calculate the standard deviation of Treasury bill returns and
Calculating Investment Returns You bought one of Bergen Manufacturing Co.’s 7 percent coupon bonds one year ago for $1,080.50. These bonds make annual payments and mature six years from now. Suppose you decide to sell your bonds today when the required return on the bonds is 5.5 percent. If the
Using Return Distributions Suppose the returns on long-term government bonds are normally distributed. Based on the historical record, what is the approximate probability that your return on these bonds will be less than 23.7 percent in a given year? What range of returns would you expect to see 95
Using Return Distributions Assuming that the returns from holding smallcompany stocks are normally distributed, what is the approximate probability that your money will double in value in a single year? Triple in value?
Distributions In the previous problem, what is the probability that the return is less than 2100 percent? (Think.) What are the implications for the distribution of returns?
Using Probability Distributions Suppose the returns on large-company stocks are normally distributed. Based on the historical record, use the NORMDIST function in Excel ® to determine the probability that in any given year you will lose money by investing in common stock.
Using Probability Distributions Suppose the returns on long-term corporate bonds and T-bills are normally distributed. Based on the historical record, use the NORMDIST function in Excel ® to answer the following questions:a. What is the probability that in any given year, the return on long-term
You recently graduated from college, and your job search led you to East Coast Yachts.Because you felt the company’s business was seaworthy, you accepted a job offer. The first day on the job, while you are finishing your employment paperwork, Dan Ervin, who works in Finance, stops by to inform
Systematic versus Unsystematic Risk Describe the difference between systematic risk and unsystematic risk.
APT Consider the following statement: For the APT to be useful, the number of systematic risk factors must be small. Do you agree or disagree with this statement?Why?
Market Model versus APT What are the differences between a k -factor model and the market model?
CAPM versus APT What is the relationship between the one-factor model and the CAPM?
Factor Models How can the return on a portfolio be expressed in terms of a factor model?
Data Mining What is data mining? Why might it overstate the relation between some stock attribute and returns?
Factor Selection What is wrong with measuring the performance of a U.S. growth stock manager against a benchmark composed of British stocks?
Factor Models A researcher has determined that a two-factor model is appropriate to determine the return on a stock. The factors are the percentage change in GNP and an interest rate. GNP is expected to grow by 3.6 percent, and the interest rate is expected to be 3.1 percent. A stock has a beta of
Factor Models Suppose a three-factor model is appropriate to describe the returns of a stock. Information about those three factors is presented in the following chart:Factor ???? Expected Value Actual Value GDP .006821 $14,011 $13,982 Inflation −.90 2.80% 2.6%Interest rates −.32 4.80% 4.6%a.
Factor Models Suppose a factor model is appropriate to describe the returns on a stock. The current expected return on the stock is 10.5 percent. Information about those factors is presented in the following chart:Factor ???? Expected Value Actual Value Growth in GNP 1.87 2.1% 2.6%Inflation −1.32
Multifactor Models Suppose stock returns can be explained by the following threefactor model:R i 5 R F 1 b 1 F 1 1 b 2 F 2 2 b 3 F 3 Assume there is no firm-specific risk. The information for each stock is presented here:b1 b2 b3 Stock A 1.55 .80 .05 Stock B .81 1.25 −.20 Stock C .73 −.14 1.24
Multifactor Models Suppose stock returns can be explained by a two-factor model.The firm-specific risks for all stocks are independent. The following table shows the information for two diversified portfolios:b1 b2 E(R)Portfolio A .85 1.15 16%Portfolio B 1.45 2.25 12 If the risk-free rate is 4
Market Model The following three stocks are available in the market:E(R) ????Stock A 10.5% 1.20 Stock B 13.0 .98 Stock C 15.7 1.37 Market 14.2 1.00 Assume the market model is valid.a. Write the market model equation for each stock.b. What is the return on a portfolio with weights of 30 percent
Portfolio Risk You are forming an equally weighted portfolio of stocks. Many stocks have the same beta of .84 for Factor 1 and the same beta of 1.69 for Factor 2.All stocks also have the same expected return of 11 percent. Assume a two-factor model describes the return on each of these stocks.a.
APT There are two stock markets, each driven by the same common force, F , with an expected value of zero and standard deviation of 10 percent. There are many securities in each market; thus, you can invest in as many stocks as you wish. Due to restrictions, however, you can invest in only one of
APT Assume that the following market model adequately describes the returngenerating behavior of risky assets:R it 5 a i 1 b i R M t 1 e it Here:R it 5 The return on the i th asset at Time t.R M t 5 The return on a portfolio containing all risky assets in some proportion at Time t.R M t and e it
APT Assume that the returns on individual securities are generated by the following two-factor model:R it 5 E ( R it ) 1 b ij F 1 t 1 b i 2 F 2 t Here:R it is the return on Security i at Time t.F 1 t and F 2 t are market factors with zero expectation and zero covariance.In addition, assume that
Dawn Browne, an investment broker, has been approached by client Jack Thomas about the risk of his investments. Dawn has recently read several articles concerning the risk factors that can potentially affect asset returns, and she has decided to examine Jack’s mutual fund holdings. Jack is
Financial Ratio Analysis A financial ratio by itself tells us little about a company because financial ratios vary a great deal across industries. There are two basic methods for analyzing financial ratios for a company: Time trend analysis and peer group analysis. In time trend analysis, you find
Sustainable Growth In the chapter, we used Rosengarten Corporation to demonstrate how to calculate EFN. The ROE for Rosengarten is about 7.3 percent, and the plowback ratio is about 67 percent. If you calculate the sustainable growth rate for Rosengarten, you will find it is only 5.14 percent. In
EFN and Growth Rate Broslofski Co. maintains a positive retention ratio and keeps its debt–equity ratio constant every year. When sales grow by 20 percent, the firm has a negative projected EFN. What does this tell you about the firm’s sustainable growth rate? Do you know, with certainty, if
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