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Fundamentals Of Financial Management 12th Edition Richard Bulliet, Eugene F Brigham, Brigham/Houston - Solutions

9-3 CONSTANT GROWTH VALUATION Harrison Clothiers’ stock currently sells for $20.00 a share. It just paid a dividend of $1.00 a share (that is, D0 ¼ $1.00). The dividend is expected to grow at a constant rate of 6% a year. What stock price is expected 1 year from now? What is the required rate of
9-2 CONSTANT GROWTH VALUATION Thomas Brothers is expected to pay a $0.50 per share dividend at the end of the year (that is, D1 ¼ $0.50). The dividend is expected to grow at a constant rate of 7% a year. The required rate of return on the stock, rs, is 15%. What is the stock’s current value per
9-5 A bond that pays interest forever and has no maturity is a perpetual bond. In what respect is a perpetual bond similar to a no-growth common stock? Are there preferred stocks that are evaluated similarly to perpetual bonds and other preferred stocks that are more like bonds with finite lives?
9-2 Is the following equation correct for finding the value of a constant growth stock? Explain.P^0 ¼ D0 rs þ g
22. Is the equation used to value preferred stock more like the one used to evaluate a bond or the one used to evaluate a “normal” constant growth common stock? Explain.
17. Write out the equation for free cash flows and explain it.
15. Firm B has a 12% ROE. Other things held constant, what would its expected growth rate be if it paid out 25% of its earnings as dividends?75%? (9%, 3%)
14. The required rate of return is rs ¼ 11%. Other things held constant, what would the stock’s price be if the growth rate was 5%? What if g was 0%?($16.67; $9.09)
13. Firm A is expected to pay a dividend of $1.00 at the end of the year.
12. Explain how the formula for a zero growth stock can be derived from that for a normal constant growth stock.
11. Write out and explain the valuation formula for a constant growth stock.
10. Is it necessary for all investors to have the same expectations regarding a stock for the stock to be in equilibrium? (No, but explain.) What would happen to a stock’s price if the “marginal investor” examined a stock and concluded that its intrinsic value was greater than its current
9. If D1 ¼ $2.00, g ¼ 6%, and P0 ¼ $40.00, what are the stock’s expected dividend yield, capital gains yield, and total expected return for the coming year? (5%, 6%, 11%)
8. What are the two parts of most stocks’ expected total return?
7. Explain the following statement: Whereas a bond contains a promise to pay interest, a share of common stock typically provides an expectation of, but no promise of, dividends plus capital gains.
6. What are two commonly used approaches for estimating a stock’s intrinsic value?
5. Why do investors and managers need to understand how to estimate a firm’s intrinsic value?
4. What is the difference between a stock’s price and its intrinsic value?
3. What are some reasons a company might use classified stock?
2. What is the preemptive right, and what are the two primary reasons for its existence?
1. Identify some actions that companies have taken to make takeovers more difficult.
Assume that the risk-free rate is 5% and the market risk premium is 6%. What is the required return on the company’s stock?
Click on “PRICES” on the left-hand side of the screen. What is the company’s current dividend yield? What has been its total return to investors over the past 6 months? over the past year? over the past 3 years?(Remember that total return includes the dividend yield plus any capital gains or
If you scroll down the company overview page, you should see an estimate of the company’s beta. What is the company’s beta? What was the source of the estimated beta?
Select one of the four stocks listed in Question 2 by selecting “COMPANY ANALYSIS,” entering the company’s ticker symbol in the blank companies box, and clicking “GO.” On the company overview page, you should see a chart that summarizes how the stock has done relative to the S&P 500 over
Now let’s take a closer look at the stocks of four companies: Colgate Palmolive (Ticker ¼ CL), Campbell Soup(CPB), Motorola (MOT), and Tiffany & Co (TIF). Before looking at the data, which of these companies would you expect to have a relatively high beta (greater than 1.0) and which of these
8-23 RISK AND RETURN Assume that you recently graduated with a major in finance. You just landed a job as a financial planner with Merrill Finch Inc., a large financial services corporation. Your first assignment is to invest$100,000 for a client. Because the funds are to be invested in a business
8-22 EVALUATING RISK AND RETURN Bartman Industries’ and Reynolds Inc.’s stock prices and dividends, along with the Winslow 5000 Index, are shown here for the period 2003–2008.The Winslow 5000 data are adjusted to include dividends.BARTMAN INDUSTRIES REYNOLDS INC. WINSLOW 5000 Year Stock Price
8-21 SECURITY MARKET LINE You plan to invest in the Kish Hedge Fund, which has total capital of $500 million invested in five stocks:Stock Investment Stock’s Beta Coefficient A $160 million 0.5 B 120 million 1.2 C 80 million 1.8 D 80 million 1.0 E 60 million 1.6
8-20 REALIZED RATES OF RETURN Stocks A and B have the following historical returns:Year Stock A’s Returns, rA Stock B’s Returns, rB 2004 (18.00%) (14.50%)2005 33.00 21.80 2006 15.00 30.50 2007 (0.50) (7.60)2008 27.00 26.30a. Calculate the average rate of return for each stock during the period
8-19 EVALUATING RISK AND RETURN Stock X has a 10% expected return, a beta coefficient of 0.9, and a 35% standard deviation of expected returns. Stock Y has a 12.5% expected return, a beta coefficient of 1.2, and a 25% standard deviation. The risk-free rate is 6%, and the market risk premium is
8-18 EXPECTED RETURNS Suppose you won the lottery and had two options: (1) receiving $0.5 million or (2) taking a gamble in which at the flip of a coin you receive $1 million if a head comes up but receive zero if a tail comes up.a. What is the expected value of the gamble?b. Would you take the
8-17 PORTFOLIO BETA A mutual fund manager has a $20 million portfolio with a beta of 1.5.The risk-free rate is 4.5%, and the market risk premium is 5.5%. The manager expects to receive an additional $5 million, which she plans to invest in a number of stocks. After investing the additional funds,
8-16 CAPM AND PORTFOLIO RETURN You have been managing a $5 million portfolio that has a beta of 1.25 and a required rate of return of 12%. The current risk-free rate is 5.25%. Assume that you receive another $500,000. If you invest the money in a stock with a beta of 0.75, what will be the required
8-15 CAPM AND REQUIRED RETURN HR Industries (HRI) has a beta of 1.8, while LR Industries’(LRI) beta is 0.6. The risk-free rate is 6%, and the required rate of return on an average stock is 13%. The expected rate of inflation built into rRF falls by 1.5 percentage points, the real risk-free rate
8-14 PORTFOLIO BETA Suppose you held a diversified portfolio consisting of a $7,500 investment in each of 20 different common stocks. The portfolio’s beta is 1.12. Now suppose you decided to sell one of the stocks in your portfolio with a beta of 1.0 for $7,500 and use the proceeds to buy another
8-13 CAPM, PORTFOLIO RISK, AND RETURN Consider the following information for three stocks, Stocks X, Y, and Z. The returns on the three stocks are positively correlated, but they are not perfectly correlated. (That is, each of the correlation coefficients is between 0 and 1.)Stock Expected Return
8-11 CAPM AND REQUIRED RETURN Calculate the required rate of return for Manning Enterprises assuming that investors expect a 3.5% rate of inflation in the future. The real risk-free rate is 2.5%, and the market risk premium is 6.5%. Manning has a beta of 1.7, and its realized rate of return has
8-10 CAPM AND REQUIRED RETURN Bradford Manufacturing Company has a beta of 1.45, while Farley Industries has a beta of 0.85. The required return on an index fund that holds the entire stock market is 12.0%. The risk-free rate of interest is 5%. By how much does Bradford’s required return exceed
8-9 REQUIRED RATE OF RETURN Stock R has a beta of 1.5, Stock S has a beta of 0.75, the expected rate of return on an average stock is 13%, and the risk-free rate of return is 7%. By how much does the required return on the riskier stock exceed the required return on the less risky stock?
8-8 BETA COEFFICIENT Given the following information, determine the beta coefficient for Stock J that is consistent with equilibrium: ^rJ ¼ 12.5%; rRF ¼ 4.5%; rM ¼ 10.5%.
8-7 PORTFOLIO REQUIRED RETURN Suppose you are the money manager of a $4 million investment fund. The fund consists of four stocks with the following investments and betas:Stock Investment Beta A $ 400,000 1.50 B 600,000 (0.50)C 1,000,000 1.25 D 2,000,000 0.75 If the market’s required rate of
8-6 EXPECTED RETURNS Stocks X and Y have the following probability distributions of expected future returns:Probability X Y 0.1 (10%) (35%)0.2 2 0 0.4 12 20 0.2 20 25 0.1 38 45a. Calculate the expected rate of return, ^rY, for Stock Y (^rX ¼ 12%).b. Calculate the standard deviation of expected
8-4 EXPECTED AND REQUIRED RATES OF RETURN Assume that the risk-free rate is 5% and the market risk premium is 6%. What is the expected return for the overall stock market? What is the required rate of return on a stock with a beta of 1.2?
8-3 REQUIRED RATE OF RETURN Assume that the risk-free rate is 6% and the expected return on the market is 13%. What is the required rate of return on a stock with a beta of 0.7?
8-1 EXPECTED RETURN A stock’s returns have the following distribution:Demand for the Company’s Products Probability of This Demand Occurring Rate of Return If This Demand Occurs Weak 0.1 (50%)Below average 0.2 (5)Average 0.4 16 Above average 0.2 25 Strong 0.1 60 1.0 Calculate the stock’s
8-9 In Chapter 7, we saw that if the market interest rate, rd, for a given bond increased, the price of the bond would decline. Applying this same logic to stocks, explain(a) how a decrease in risk aversion would affect stocks’ prices and earned rates of return, (b) how this would affect risk
8-8 If a company’s beta were to double, would its required return also double?
8-3 A life insurance policy is a financial asset, with the premiums paid representing the investment’s cost.a. How would you calculate the expected return on a 1-year life insurance policy?b. Suppose the owner of a life insurance policy has no other financial assets—the person’s only other
8-1 Suppose you owned a portfolio consisting of $250,000 of long-term U.S. government bonds.a. Would your portfolio be riskless? Explain.b. Now suppose the portfolio consists of $250,000 of 30-day Treasury bills. Every 30 days your bills mature, and you will reinvest the principal ($250,000) in a
14 Have there been any studies that question the validity of the CAPM?Explain.
13 An investor has a two-stock portfolio with $25,000 invested in Stock X and$50,000 invested in Stock Y. X’s beta is 1.50, and Y’s beta is 0.60. What is the beta of the investor’s portfolio? (0.90)
12 If you plotted a particular stock’s returns versus those on the S&P 500 Index over the past five years, what would the slope of the regression line indicate about the stock’s risk?
11 Why is it argued that beta is the best measure of a stock’s risk?
10 What is an average-risk stock? What is the beta of such a stock?
9 In general, can the riskiness of a portfolio be reduced to zero by increasing the number of stocks in the portfolio? Explain.
8 What is meant by perfect positive correlation, perfect negative correlation, and zero correlation?
7 Explain the following statement: An asset held as part of a portfolio is generally less risky than the same asset held in isolation.
6 An investment has a 50% chance of producing a 20% return, a 25% chance of producing an 8% return, and a 25% chance of producing a 12% return.What is its expected return? (9%)
5 How does risk aversion affect rates of return?
4 Explain why you agree or disagree with this statement: Most investors are risk-averse.
3 Which of the two stocks graphed in Figure 8-3 is less risky? Why?
2 Set up an illustrative probability distribution table for an investment with probabilities for different conditions, returns under those conditions, and the expected return.
1 What does investment risk mean?
7-21 BOND VALUATION Robert Black and Carol Alvarez are vice presidents of Western Money Management and codirectors of the company’s pension fund management division. A major new client, the California League of Cities, has requested that Western present an investment seminar to the mayors of the
7-20 BOND VALUATION Clifford Clark is a recent retiree who is interested in investing some of his savings in corporate bonds. His financial planner has suggested the following bonds:l Bond A has a 7% annual coupon, matures in 12 years, and has a $1,000 face value.l Bond B has a 9% annual coupon,
7-19 YIELD TO MATURITY AND YIELD TO CALL Kaufman Enterprises has bonds outstanding with a $1,000 face value and 10 years left until maturity. They have an 11% annual coupon payment, and their current price is $1,175. The bonds may be called in 5 years at 109% of face value (Call price ¼ $1,090).a.
7-18 BOND REPORTING Look back at Table 7-4 and examine United Parcel Service and Telecom Italia Capital bonds that mature in 2013.a. If these companies were to sell new $1,000 par value long-term bonds, approximately what coupon interest rate would they have to set if they wanted to bring them out
7-17 BOND RETURNS Last year Joan purchased a $1,000 face value corporate bond with an 11%annual coupon rate and a 10-year maturity. At the time of the purchase, it had an expected yield to maturity of 9.79%. If Joan sold the bond today for $1,060.49, what rate of return would she have earned for
7-16 BOND VALUATION You are considering a 10-year, $1,000 par value bond. Its coupon rate is 9%, and interest is paid semiannually. If you require an “effective” annual interest rate(not a nominal rate) of 8.16%, how much should you be willing to pay for the bond?
7-15 BOND VALUATION Bond X is noncallable and has 20 years to maturity, a 9% annual coupon, and a $1,000 par value. Your required return on Bond X is 10%; and if you buy it, you plan to hold it for 5 years. You (and the market) have expectations that in 5 years, the yield to maturity on a 15-year
7-14 EXPECTED INTEREST RATE Lloyd Corporation’s 14% coupon rate, semiannual payment,$1,000 par value bonds, which mature in 30 years, are callable 5 years from today at $1,050.They sell at a price of $1,353.54, and the yield curve is flat. Assume that interest rates are expected to remain at
7-13 PRICE AND YIELD An 8% semiannual coupon bond matures in 5 years. The bond has a face value of $1,000 and a current yield of 8.21%. What are the bond’s price and YTM?(Hint: Refer to Footnote 8 for the definition of the current yield and to Table 7-1.)
7-12 YIELD TO CALL It is now January 1, 2009, and you are considering the purchase of an outstanding bond that was issued on January 1, 2007. It has a 9.5% annual coupon and had a 30-year original maturity. (It matures on December 31, 2036.) There is 5 years of call protection (until December 31,
7-11 BOND YIELDS Last year Clark Company issued a 10-year, 12% semiannual coupon bond at its par value of $1,000. Currently, the bond can be called in 4 years at a price of $1,060 and it sells for $1,100.a. What are the bond’s nominal yield to maturity and its nominal yield to call? Would an
7-10 CURRENT YIELD, CAPITAL GAINS YIELD, AND YIELD TO MATURITY Hooper Printing Inc.has bonds outstanding with 9 years left to maturity. The bonds have an 8% annual coupon rate and were issued 1 year ago at their par value of $1,000. However, due to changes in interest rates, the bond’s market
7-9 YIELD TO MATURITY Heymann Company bonds have 4 years left to maturity. Interest is paid annually, and the bonds have a $1,000 par value and a coupon rate of 9%.a. What is the yield to maturity at a current market price of (1) $829 and (2) $1,104?b. Would you pay $829 for each bond if you
7-8 YIELD TO CALL Six years ago the Singleton Company issued 20-year bonds with a 14%annual coupon rate at their $1,000 par value. The bonds had a 9% call premium, with 5 years of call protection. Today Singleton called the bonds. Compute the realized rate of return for an investor who purchased
7-7 INTEREST RATE SENSITIVITY An investor purchased the following 5 bonds. Each bond had a par value of $1,000 and an 8% yield to maturity on the purchase day. Immediately after the investor purchased them, interest rates fell and each then had a new YTM of 7%.What is the percentage change in price
7-6 BOND VALUATION An investor has two bonds in her portfolio, Bond C and Bond Z. Each bond matures in 4 years, has a face value of $1,000, and has a yield to maturity of 9.6%.Bond C pays a 10% annual coupon, while Bond Z is a zero coupon bond.a. Assuming that the yield to maturity of each bond
7-5 BOND VALUATION An investor has two bonds in his portfolio that have a face value of$1,000 and pay a 10% annual coupon. Bond L matures in 15 years, while Bond S matures in 1 year.a. What will the value of each bond be if the going interest rate is 5%, 8%, and 12%?Assume that only one more
7-4 YIELD TO MATURITY A firm’s bonds have a maturity of 10 years with a $1,000 face value, have an 8% semiannual coupon, are callable in 5 years at $1,050, and currently sell at a price of $1,100. What are their nominal yield to maturity and their nominal yield to call?What return should
7-2 YIELD TO MATURITY AND FUTURE PRICE A bond has a $1,000 par value, 10 years to maturity, and a 7% annual coupon and sells for $985.a. What is its yield to maturity (YTM)?b. Assume that the yield to maturity remains constant for the next 3 years. What will the price be 3 years from today?
7-1 BOND VALUATION Callaghan Motors’ bonds have 10 years remaining to maturity.Interest is paid annually, they have a $1,000 par value, the coupon interest rate is 8%, and the yield to maturity is 9%. What is the bond’s current market price?
7-14 A bond’s expected return is sometimes estimated by its YTM and sometimes by its YTC.Under what conditions would the YTM provide a better estimate, and when would the YTC be better?
7-13 Would the yield spread on a corporate bond over a Treasury bond with the same maturity tend to become wider or narrower if the economy appeared to be heading toward a recession? Would the change in the spread for a given company be affected by the firm’s credit strength? Explain.
7-12 Explain whether the following statement is true or false: Only weak companies issue debentures.
7-11 Why are convertibles and bonds with warrants typically offered with lower coupons than similarly rated straight bonds?
7-10 What’s the difference between a call for sinking fund purposes and a refunding call?
7-9 Are securities that provide for a sinking fund more or less risky from the bondholder’s perspective than those without this type of provision? Explain.
7-8 Why is a call provision advantageous to a bond issuer? When would the issuer be likely to initiate a refunding call?
7-7 Indicate whether each of the following actions will increase or decrease a bond’s yield to maturity:a. The bond’s price increases.b. The bond is downgraded by the rating agencies.c. A change in the bankruptcy code makes it more difficult for bondholders to receive payments in the event the
7-6 Assume that you have a short investment horizon (less than 1 year). You are considering two investments: a 1-year Treasury security and a 20-year Treasury security. Which of the two investments would you view as being riskier? Explain.
7-5 If you buy a callable bond and interest rates decline, will the value of your bond rise by as much as it would have risen if the bond had not been callable? Explain.
7-4 If interest rates rise after a bond issue, what will happen to the bond’s price and YTM? Does the time to maturity affect the extent to which interest rate changes affect the bond’s price?(Again, an example might help you answer this question.)
7-2 Is it true that the following equation can be used to find the value of a bond with N years to maturity that pays interest once a year? Assume that the bond was issued several years ago.VB ¼ XN t ¼ 1 Annual interestð1 þ rdÞt þPar valueð1 þ rdÞN
7-1 A sinking fund can be set up in one of two ways:a. The corporation makes annual payments to the trustee, who invests the proceeds in securities (frequently government bonds) and uses the accumulated total to retire the bond issue at maturity.b. The trustee uses the annual payments to retire a
23 Differentiate between Chapter 7 liquidations and Chapter 11 reorganizations.In general, when should each be used?
22 Do bond ratings adjust immediately to changes in credit quality? Explain.
21 Why are bond ratings important to firms and investors?

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