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essentials managerial finance

Principles Of Managerial Finance 15th Global Edition Chad J. Zutter, Scott Smart - Solutions

=+a. Give examples of required rates of return that would make the bond sell at a discount, at a premium, and at par.b. If this bond’s par value is $10,000, calculate the differing values for this bond given the required rates you chose in part a.
=+P6–1 Interest rate fundamentals: Real and nominal rates of return Nick is a product manager at an investment banking firm. When his supervisor asks him to price an investment product, Nick conducted some research to obtain market information.According to his research, the rate of return of
=+LG 1 P6–2 Equilibrium rate of interest To estimate the equilibrium rate of interest, the economics division of Mountain Banks—a major bank holding company—has gathered the data summarized in the following table. Because the likelihood is high that new tax legislation will be passed in the
=+a. Draw the supply curve and the demand curve for funds using the current data.(Note: Unlike the functions in Figure 6.1, the functions here will not appear as straight lines.)
=+b. Using your graph, label and note the equilibrium rate of interest using the current data.
=+c. Add to the graph, drawn in parta, the new demand curve expected in the event that the proposed tax legislation is passed.
=+d. What is the new equilibrium rate of interest? Compare and analyze this finding in light of your analysis in part b.Personal Finance Problem
=+LG 1 P6–3 Real and nominal rates of interest Jonathan Harper currently has £1,000 that he can spend today on novelty yarn costing £20 a bundle. Alternatively, he could invest the£1,000 in a Bank of England bond that pays 6% nominal rate of interest. The inflation forecast for the coming year
=+a. How many skeins of novelty yarn can Jonathan purchase today?
=+b. How much money will Jonathan have at the end of 1 year if he forgoes purchasing the skeins of yarn today and invests his money instead?
=+c. How much would you expect a skein of yarn to cost at the end of 1 year in light of the expected inflation?
=+d. If Jonathan invests in the bond and then uses the proceeds at the end of 1 year to buy yarn, how many skeins (fractions are OK) can he buy? Compare your answer to the number of skeins he can buy at the beginning of the period.
=+e. What is Jonathan’s real rate of return over the year? How is it related to the change in Jonathan’s buying power found in part d? Explain.
=+LG 1 P6–4 Yield curve Jack Trading and Brokerage Ltd. wishes to evaluate interest rate behavior. They have gathered data from five Treasury securities issued by Deutsche Bundesbank, Germany’s central bank. Each security has a different maturity and all measured at the same point in time. The
=+a. Draw the yield curve associated with these data.
=+b. Describe the resulting yield curve in parta, and explain what it says about the future direction of interest rates assuming under the expectations theory.
=+LG 1 P6–5 Nominal interest rates and yield curves Economic forecasters predict that the rate of inflation in Singapore will be at 3% over the next few decades. The following table shows the nominal interest paid on Treasury securities having different maturities.Maturity Nominal rate of return
=+a. Approximately what real rate of interest do Treasury securities offer investors at each maturity?
=+b. Assume that the nominal rate of interest paid by every Treasury security above suddenly dropped by 1% without any change in inflation forecast. What effect, if any, would this event have on your answers in part a?
=+c. Using your findings in parta, draw a yield curve for Singapore’s Treasury securities. Explain the future direction of interest rates under the expectations theory.
=+d. What would a follower of the liquidity preference theory say about how the preferences of lenders and borrowers tend to affect the shape of the yield curve drawn in part c?
=+e. What would a follower of the market segmentation theory say about the supply and demand for long-term loans versus the supply and demand for short-term loans given the yield curve constructed for part c of this problem?
=+LG 1 P6–6 Nominal and real rates Tyra loves to shop at her favorite store, Dollar Barrel, where she can find hundreds of items priced at exactly $1. Tyra has $200 to spend and is thinking of going on a shopping spree at Dollar Barrel, but she is also thinking of investing her money.
=+a. Suppose the expected rate of inflation is 1% (so next year, everything at Dollar Barrel will cost $1.01) and Tyra can earn 5% on money that she invests.Approximately what real rate of interest could Tyra earn if she invests her money? How many items can she buy at Dollar Barrel today, and how
=+b. Now suppose that the expected inflation rate is 10% and Tyra can earn 20% on money that she invests over the year. What is the approximate real rate of interest that Tyra will earn? Calculate the number of items that Tyra could buy next year from Dollar Barrel if she invests her money. What
=+LG 1 P6–7 Term structure of interest rates The following yield data for a number of highestquality corporate bonds existed at each of the three points in time noted.X MyLab Yield Time to maturity (years) 5 years ago 2 years ago Today 1 9.1% 14.6% 9.3%3 9.2 12.8 9.8 5 9.3 12.2 10.9 10 9.5 10.9
=+a. On the same set of axes, draw the yield curve at each of the three given times.
=+b. Label each curve in part a with its general shape (downward sloping, upward sloping, flat).
=+c. Describe the general interest rate expectation existing at each of the three times, assuming the expectations theory holds.
=+d. Examine the data from 5 years ago. According to the expectations theory, what approximate return did investors expect a 5-year bond to pay as of today?
=+LG 1 P6–8 Term structure A 2-year Treasury bond currently offers a 6% rate of return. A 3-year Treasury bond offers a 7% rate of return. Under the expectations theory, what rate of return do investors expect a 2-year Treasury bond to pay during the third year?
=+LG 1 P6–9 Risk-free rate and risk premiums Consider the following information:Security Time to maturity (years) Inflationary expectation Risk premium A 3 6% 4%B 5 5.5 5 C 6 5 2 D 7 4.8 3 E 10 6 6
=+a. Suppose the rate of return on 3-month Treasury bills is 4%, and the 3-month expected inflation rate is 2%. What is the real return?
=+b. Based on your result in parta, what is the nominal rate of return of each security?
=+c. Why is the inflationary expectation for each security different?
=+LG 2 P6–10 Bond interest payments before and after taxes Your company needs to raise $50 million, and you want to issue 10-year annual coupon bonds to raise this capital.Suppose the market requires the return of your company’s bonds to be 6%, and you decide to issue them at par.
=+a. How many bonds would you need to issue?
=+b. What will be the total expense to your company at the time when the bonds mature in year 10?
=+c. Suppose your company is in the 38% tax bracket. What is your company’s net after-tax interest cost associated with this bond issue at the time when the bonds mature in year 10?
=+LG 4 P6–11 Current yield and yield to maturity Assume that a $1,000-par-value bond has a coupon rate of 5% and will mature in 10 years. It has a current price quote of $810.34.Given this information, answer the following questions.
=+a. What is the yield to maturity of the bond?
=+b. What is the current yield of the bond?
=+c. Why does the current yield differ from the yield to maturity?
=+d. One year later, the market rates have increased to 8%. Assume that you have just received a coupon payment and sold the bond. If you sold your bond at its intrinsic value, what would the rate of return be on your investment?Personal Finance Problem
=+LG 4 P6–12 Valuation fundamentals Imagine that you are trying to evaluate the economics of purchasing a condominium to live in during college rather than renting an apartment. If you buy the condo, during each of the next 4 years you will have to pay property taxes and maintenance expenditures
=+a. Draw a timeline showing the cash flows, their timing, and the required return applicable to valuing the condo.
=+b. What is the maximum price you would be willing to pay to acquire the condo?Explain.
=+LG 4 P6–13 Valuation of assets Using the information provided in the following table, find the value of each asset today.
=+P6–14 Asset valuation and risk Lothar Drake wishes to estimate the value of an asset expected to provide cash inflows of $4,000 at the end of years 1 and 2, $5,000 at the end of years 3 and 4, and $4,500 at the end of year 5. His research indicates that he must earn 4%on low-risk assets, 6% on
=+a. Determine what is the most Lothar should pay for the asset if it is classified as(1) low-risk, (2) average-risk, and (3) high-risk.
=+b. Suppose that Lothar is unable to assess the risk of the asset and wants to be certain that he is making a good decision. Based on your findings in parta, what is the most he should pay? Why?
=+c. All else being the same, what effect does increasing risk have on the value of an asset? Explain your answer in light of your findings in part a.
=+P6–15 Basic bond valuation Motorway Development Corporation builds and maintains highways across Europe. They have an outstanding issue of €100-par-value bonds with an 8% coupon rate. The issue pays interest annually and has 12 years remaining to its maturity date.
=+a. If bonds of similar risk are currently earning a 4% rate of return, how much should the Motorway Development Corporation’s bond sell for today?
=+b. Describe the two possible reasons why the rate on similar-risk bonds is below the coupon rate on the Motorway Development Corporation bonds.
=+c. If the required return were at 10% instead of 4%, what would the current value of Motorway Development Corporation’s bonds be? Contrast this finding with your findings in part a and discuss.
=+LG 5 P6–16 Bond valuation: Annual interest Calculate the value of each of the bonds shown in the following table, all of which pay interest annually.
=+P6–17 Bond value and changing required returns Bond X has a coupon rate of 8% and Bond Y pays a 4% annual coupon. Both bonds have 10 years to maturity. The yield to maturity for both bonds is now 8%.
=+a. If the interest rate rises by 2%, by what percentage will the price of the two bonds change?
=+b. If the interest rate drops by 2%, by what percentage will the price of the two bonds change?
=+c. Which bond has more interest rate risk? Why?
=+LG 5 P6–18 Bond value and time: Constant required returns Pecos Manufacturing has just issued a 15-year, 12% coupon rate, $1,000-par bond that pays interest annually.The required return is currently 14%, and the company is certain it will remain at 14% until the bond matures in 15 years.
=+a. Assuming that the required return does remain at 14% until maturity, find the value of the bond with (1) 15 years, (2) 12 years, (3) 9 years, (4) 6 years,(5) 3 years, and (6) 1 year to maturity.
=+b. Plot your findings on a set of “time to maturity (x-axis)–market value of bond(y-axis)” axes constructed similarly to Figure 6.6.
=+c. All else remaining the same, when the required return differs from the coupon rate and is assumed to be constant to maturity, what happens to the bond value as time moves toward maturity? Explain your answer in light of the graph in part b.
=+P6–19 Bond value and time: Changing required returns Lynn Parsons is considering investing in either of two outstanding bonds. The bonds both have $1,000 par values and 11% coupon rates and pay annual interest. Bond A has exactly 5 years to maturity, and bond B has 15 years to maturity.
=+a. Calculate the value of bond A if the required return is (1) 8%, (2) 11%, and (3) 14%.
=+b. Calculate the value of bond B if the required return is (1) 8%, (2) 11%, and (3) 14%.
=+c. From your findings in parts a andb, complete the following table, and discuss the relationship between time to maturity and changing required returns.X MyLab Required return Value of bond A Value of bond B 8% ? ?11 ? ?14 ? ?
=+d. If Lynn wants to minimize interest rate risk, which bond should she purchase? Why?
=+LG 6 P6–20 Yield to maturity Peter, an intern at Elite Investments, is asked by his supervisor to perform simple analysis of bonds in the bond market. He wants to calculate the theoretical values of the following six bonds. Using the information provided below, calculate the intrinsic value
=+LG 6 P6–21 Yield to maturity Three years ago, ABC Company issued 10-year bonds that pay 5%semiannually.
=+a. If the bond currently sells for $1,045, what is the yield to maturity (YTM) on this bond?
=+b. If you are expecting the interest rate to drop in the near future and you want to gain profit by speculating on a bond, will you buy or sell this bond? Explain.
=+LG 6 P6–22 Yield to maturity Each of the bonds shown in the following table pays interest annually.Bond Par value Coupon rate Years to maturity Current value A $ 400 9% 10 $ 375 B 300 10 18 300 C 1,000 10 14 1,200 D 100 10 12 120 E 2,000 6 4 1,800
=+a. Calculate the yield to maturity (YTM) for each bond.
=+b. What relationship exists between the coupon rate and yield to maturity and the par value and market value of a bond? Explain.Personal Finance Problem
=+LG 2 LG 5 P6–23 Bond valuation and yield to maturity Mark Goldsmith’s broker has shown him two bonds issued by different companies. Each has a maturity of 5 years, a par value of$1,000, and a yield to maturity of 7.5%. The first bond is issued by Crabbe Waste Disposal Corporation and has a
=+a. Calculate the selling price for each bond.
=+b. Mark has $20,000 to invest. If he wants to invest only in bonds issued by Crabbe Waste Disposal, how many of those bonds could he buy? What if he wants to invest only in bonds issued by Malfoy Enterprises? Round your answers to the nearest integer.
=+c. What is the total interest income that Mark could earn each year if he invested only in Crabbe bonds? How much interest would he earn each year if he invested only in Malfoy bonds?
=+d. Assume that Mark will reinvest all the interest he receives as it is paid, and his rate of return on reinvested interest will be 10%. Calculate the total dollars that Mark will accumulate over 5 years if he invests in Crabbe bonds or Malfoy bonds. Your total dollar calculation will include the
=+e. The bonds issued by Crabbe and Malfoy might appear to be equally good investments because they offer the same yield to maturity of 7.5%. Notice, however, that your answers to part d are not the same for each bond, suggesting that one bond is a better investment than the other. Why is that the
=+LG 6 P6–24 Bond valuation: Semiannual interest Heather has just bought a bond that will mature in 5 years for £300, with a £320 par value and a coupon rate of 10% paid semiannually. What should the value of this bond be if the required return on similar-risk bonds is 12% per year (6% paid
=+LG 6 P6–25 Bond valuation: Semiannual interest Calculate the value of each of the bonds shown in the following table, all of which pay interest semiannually.LG 6 XMyLab Bond Par value Coupon rate Years to maturity Required stated annual return A $1,000 10% 12 8%B 1,000 12 20 12 C 500 12 5 14 D
=+LG 6 P6–26 Bond valuation: Quarterly interest Calculate the value of a $1,000-par-value bond paying quarterly interest at an annual coupon rate of 12% and having 8 years until maturity if the required return on similar-risk bonds is currently a 10% annual rate paid quarterly.
=+P6–27 ETHICS PROBLEM Bond-rating agencies have invested significant sums of money in an effort to determine which quantitative and nonquantitative factors best predict bond defaults. Furthermore, some of the raters invest time and money to meet privately with corporate personnel to get
=+a. Create a spreadsheet similar to the Excel spreadsheet examples in the chapter to solve for the yield to maturity.
=+b. Create a spreadsheet similar to the Excel spreadsheet examples in the chapter to solve for the price of the bond if the yield to maturity is 2% higher.
=+c. Create a spreadsheet similar to the Excel spreadsheet examples in the chapter to solve for the price of the bond if the yield to maturity is 2% lower.
=+d. What can you summarize about the relationship between the price of the bond, the par value, the yield to maturity, and the coupon rate?
=+7–12 Explain each of the three other approaches to common stock valuation:(a) book value, (b) liquidation value, and (c) P/E multiples. Which of them is considered the best?
=+7–13 Explain the linkages among financial decisions, return, risk, and stock value.
=+Tesla Motors shares were offered to IPO investors at $17. Exactly 7 years later, the price was $360.75 per share. What was the compound annual return that Tesla investors earned over this period? Given that Tesla paid no dividends and was not expected to start paying them soon,
=+ what method might analysts have used to value the company’s shares in 2017?
=+ The company sold 13.3 million shares in its IPO, with a par value of $0.001 per share. How much paid-in capital did Tesla record on its balance sheet as a result of the IPO?
=+Do you think that a highly favorable 2013 Consumer Reports review of the Model S boosted Tesla’s stock primarily because the review reduced the company’s risk or because it boosted expected cash flows?
=+ST7–1 Common stock valuation Perry Motors’ common stock just paid its annual dividend of $1.80 per share. The required return on the common stock is 12%. Estimate the value of the common stock under each of the following assumptions about the dividend:
=+a. Dividends are expected to grow at an annual rate of 0% to infinity.b. Dividends are expected to grow at a constant annual rate of 5% to infinity.c. Dividends are expected to grow at an annual rate of 5% for each of the next 3 years, followed by a constant annual growth rate of 4% in year 4 to
=+LG 5 ST7–2 Free cash flow valuation Erwin Footwear wishes to assess the value of its Active Shoe Division. This division has debt with a market value of $12,500,000 and no preferred stock. Its weighted average cost of capital is 10%. The Active Shoe Division’s estimated free cash flow each

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