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principles corporate finance

Applied Corporate Finance Questions Problems And Making Decisions In The Real World 1st Edition Mark K. Pyles - Solutions

Bond investment As an investor, what is the appeal of investing in bonds?What are the cash flows that you can look forward to in the future?
Bond price What is the price of an 18-year coupon bond that has been outstanding for the past 10 years, if the current YTM is 12.43 % and the coupon rate is 10.4 %, paid semiannually?
Bond types Structurally speaking, what is a coupon paying bond? What type of loan? Answer by drawing comparisons between coupon bonds and personal loans.
Bond costs Judy’s Makeup Shop, Inc., just issued 20-year bonds that pay coupons of 5.89 % on a face value of $1,000. How much is it going to cost Judy, in total throughout the life of the bond to pay for each bond, including all interest expenses?
Bond indenture Discuss the following features that may be included in a bond contract: (1) call provision, (2) sinking fund provision, (3) security clause, and(4) restrictive covenants. For each, be sure to detail the potential benefit or cost to the borrower and/or the lender.
Bond ratings What are the benefits of bond ratings? How do they affect both the issuing firm and the investor?
Coupon rates Suppose you have a 25-year coupon semiannual paying bond selling for $895.68. The bond is currently selling at a yield of 8.5 % and has 16 years left until maturity. What is the coupon rate?
Bond income Your grandma is searching for some investments that will generate a stream of income in her elderly years. She needs $16,000 to cover her living expenses. Her advisor has just used her funds to invest in 200 corporate bonds that have face values of $1,000. 100 of these bonds have coupon
YTM and CR Define both the yield to maturity and the coupon rate. What do each tell the investor and the issuing firm? How does the relationship between the two interact with the price of the bond?
Bond maturity Suppose you have a bond with a current selling price of$1,123.26. It is a 30-year bond currently selling at 7.06 %. If the coupon rate is 8.6 % paid semiannually, how many years are left until maturity?
Government bonds How do government bonds differ from corporate bonds.Why would an investor be interested?
Bond yields Consider a coupon bond that is currently selling for $897.07. If the bond pays a coupon rate of 7.1 % and has 18 years left until maturity, what is the current YTM on these bonds?
STRIPS What is a STRIPS bond? How is it created and what purpose does it serve?
Rates and prices What is the relationship between rates and prices? Why is this, both in a mathematical and practical sense? Which variable is the driving force behind the other?
Bond yields Consider a 30-year bond that was issued 14 years ago. The bond is callable in 5 years at 104.Currently, it is selling at $976.39. The coupon rate is 8.10 %, the face value is $1,000, and coupons are paid semiannually. What is the YTM on this bond?
Bond yields In the above (#9), what is the YTC on the bond?
Zero-coupon bonds You want to buy zero-coupon bonds with face value of$1,000 and 14 years left until maturity. The bonds have a YTM of 4.33 %, compounded semiannually. What is the current price?
Zero-coupon bonds You have just purchased a debt security that has no coupon payments and expires in 8 years. The security has a face value of$800 and currently sells for $524.98. What is the annual return?
Clean and dirty prices Consider a bond that is currently quoted at 102.5. The bond pays a 6 % coupon, semiannually. You bought this bond one-fourth of the way through a coupon cycle. How much would you pay for this bond? In other words, what is the “dirty” price?
STRIPS What is the YTM on a coupon STRIPS that will mature in 15 years.The parent bond pays a semiannual coupon based upon a coupon rate of 8.6 % and face value of $1,000. The 15-year coupon STRIP is currently selling for $28.73.
STRIPS Consider an issuance of government bonds that have 20 years until maturity. The bond pays semiannual coupons based upon a CR of 5.2 % and face value of $1,000. Suppose the bonds get “STRIPped” and you want to buy 10 of the coupon strips that mature 10 years from now and 10 of the coupon
Bond prices You buy 30 STRIPs that have 12 years left until maturity and a required return of 7.43 %. In addition, you buy twelve 5 % coupon bonds that have 10 years left until maturity and yield 6.3 %. Both have face value of$1,000 and are compounded semiannually. How much did this cost you?
Callable bonds Consider a bond that is callable at 102.If the current YTC is 7.4 %, the CR is 6.9 %, and the bond has 14 years left until earliest call. If you believe the bond is going to be called at earliest opportunity, what is the value of this bond to you today?
Callable bond yields Consider Bond XYZ, which is currently priced at$986.76 and is callable in 2 years at 102.It pays a coupon rate of 7.54 % in semiannual coupons. It will expire in 4 years and has face value of $1,000.What is the bond’s current YTC?
Bond portfolio yield Suppose you have just created a bond portfolio made up of 3 bond holdings. You bought 100 corporate bonds that have coupon rates of 7.4 %, compounded semiannually, with 14 years left until maturity. You bought 50 government coupon bonds that have coupon rates of 4.1 % and are
Gordon Growth Model A firm just paid a dividend of $1.45. If the growth rate is a constant 5.42 % and the required return is 6.4 %, what is the current price of a share of stock, according to the GGM?
Bond portfolios Exactly 3 years ago, you started a portfolio. The portfolio was made up of 12 coupon bonds and 14 zero-coupon bonds:• The coupon bonds have a coupon rate of 6.69 %, paid semiannually. When you bought them, they had 15 years left until maturity and sold at YTM of 7.11 %. The coupon
Equity Define to someone who has never heard the notion exactly what equity is. Do so from both the firm and investor perspective.
Public equity What distinguishes public equity from private equity? Why would a firm want either, or both?
Gordon Growth Model Suppose Scotty is expected to pay a dividend of $1.75 next year. If the required return is 5.47 % and the expected growth rate is 3.64 %, what is the expected price at time 6?
Common stock Your grandpa doesn’t understand why anyone would want to invest in the stock market instead of just putting their money in the bank.Explain to him the benefits of investing in common stock. Make sure to detail the characteristics of the cash flows associated with common stock.
Gordon Growth Model The current price of share of common stock is $25.80.If the company expects perpetual growth of 3.6 % and has a required return of 8 %, what dividend could be expected at time 4?
Equity valuation Why is equity valuation more difficult than bond valuation?Create an analogy to help explain to a beginner.
Common stock valuation Suppose a firm is expected to pay a dividend of$1.25 in each of the next 4 years and then never pay a dividend again. If the firms required return is 5.4 %, at what price would you estimate the current value of this stock?
Dividends What is the difference between current dividends and expected dividends? When would you use each, and why?
Common stock valuation Ned’s Aquarium Hut, Inc., plans to pay a constant dividend of $.40 in each of the next 4 years. At that point, he plans to increase the dividend at a constant rate of 6 % each year for the foreseeable future. If Ned’s required rate of return is 8.4 %, what should the
Preferred stock Your investing buddy says to you, “Why not buy preferred stock? It says right in the name that we should prefer them over common stock.” How do you respond?
Required rate of return Judy’s Fabric Emporium has a capital gains yield of 6.1 %, is expected to pay dividends of $3.15, and has a current market price of$15.51. What is Judy’s required return?
Gordon Growth Model What is the mathematical basis underlying the dividend growth model? If the required return increases, does this increase or decrease the stock price?
Required rate of return Suppose a firm has a current price of $43.53 and expect growth of 4 %. The firm expects constant growth of 5 % from this point forward. If the required rate of return on the equity is 8.75%, what is the current dividend?
Gordon Growth Model Show three ways the Gordon Growth Model can be used, from either firm’s or investor’s perspective.
Required rate of return Henry’s Hammer Shop, Inc., has common stock that is currently selling for $28.06. They just paid a dividend of $1.78 and expect to increase this amount by $.15 in each of the next 3 years. Following that, they plan growth of 3% forever thereafter. What is the firm’s
Required return What are the two components to the required return on common stock? What do they mean for the firm? What about for the investor?
Multiple growth rates A share of common stock paid a dividend exactly 5 years ago of $1.85 and have increased this by $.18 each year until now.They are now planning on growth of 10 % for the next 3 years before a constant growth rate of 5%is implemented for the rest of time. If the firm’s
Required return What is the relationship between required returns and growth rates in the Gordon Growth Model?
Multiple growth rates Greta’s Garden and Variety began issuing common stock 12 years ago. Eight years ago, Greta issued her first dividend at $.10 per share. For each year since then, she had increased the value of the dividend by 5 %. Today, after a meeting with her board of directors, she has
Dividends Detail the four dates of concern dealing with dividend payments.From an investor’s perspective, when would you have to buy to receive the dividend?
Multiple growth rates Tyler’s Doggie Park, Inc., was founded exactly 10 years ago. For the first 7 years, they paid no dividend, as they sought to increase their market share first. However, at that time (exactly 3 years ago), they issued a dividend of $3.00 per share and have increased that
Dividends CEO Davidson knows the firm is falling into a financial black hole but refuses to reduce the dividend. Why is he being so stubborn? Is there any reason why he is correct in his stubbornness?
Common stock valuation Suppose you have a firm that plans to pay a constant dividend of $.45 during each of the next 6 years and then never pay dividends again. At that time, the price will be $3.64. Given this, what is the current price of a share of stock if k ¼ 8.5 %?
Stock exchanges Compare and contrast the NYSE and Nasdaq. How do they work, and what role do they play in the financial landscape?
Common stock valuation Hattie’s Hat Emporium just went public at a price of$12.90 per share. They do not plan to pay a dividend for the next 3 years but then plan to pay a special one-time dividend of $2.50 to reward their existing shareholders’ loyalty at time 4.They then plan, beginning at
Stock exchanges Your best friend, Betty, just burst into your apartment with the following proclamation. “I just saw the movie ‘Wall Street,’ and I was so blown away by all the action on the trading floor. That is what I definitely want to do with my career. I would love to have all that
Multiple growth rates Consider Firm ABC. They just paid a dividend of $.23 per share. They plan to increase this by 12 % during each of the next 3 years. In addition, during the third time period, plans are in place to merge with another company. This merger will result in a one-time influx of cash
Equity portfolios Suppose you buy 180 shares of Stock A and 100 shares of Stock B. Stock A pays a constant dividend of $.20 and will do so forever. They have a required rate of return of 7.42 %. Stock B just paid a dividend of $.80.They expect this dividend to grow at a rate of 6 % for the rest of
Equity portfolios Suppose you are creating an investment portfolio. You have decided upon two assets:(a) Fifty shares of common stock in Firm A. The stock just paid a dividend of$1.25. However, they do not plan to pay another dividend until year four(as they expand their company). That dividend
Portfolio required return Suppose you have a portfolio made up of 55 %common stock A and 45 % preferred stock B. The common stock is expected to pay a dividend of $4.54 and is currently selling for $67.23 per share. They expect a growth rate of 6 % for the foreseeable future. The preferred stock
Risk and return What is the theoretical relationship between risk and return?
Dollar return Suppose you bought 100 shares of Stock ABC at $105.65.Today, they are selling for $102.31. You received dividends of $.26 per quarter for each of the 5 years you have owned the stock. What is the dollar return on this investment?
Risk and return Your best friend just said that she took a large risk last year and lost money. She is angry at you because she says you told her that higher risk equaled higher return. What is your response?
Holding period return Suppose you bought 20 shares of Stock XYZ 10 years ago for $5.31. For the first 5 years, Stock XYZ did not pay any dividends. For the remaining 5 years, they paid a dividend of $.30 per share each quarter. If you sell today for $10.31, what is the holding period return on this
Returns Define both dollar returns and percentage returns. In what situations would you prefer one over the other?
Bond dollar return You just sold 300 bonds that pay an annual coupon of $76.When you bought them, exactly 3 years ago, they were selling at $956.28.Today they are selling at $854.24. How is your total dollar return on the investment?
Physical asset percentage return Suppose you paid $30,000 for a work truck and have used it for 15 years. During each of those 15 years, the truck earned you a profit of $2,000. Today you are selling it for $10,000. What is your percentage return on the investment?
Returns What are the two components of returns? Describe how each relates to the value of the asset. Also describe the two components from both the investor and firm perspective.
Returns Bob just calculated a return of 3.86 % last year on Asset A. However, Asset A’s stock price decreased by $3 last year. So, what must have happened?
Dollar return Exactly three and a half years ago, you began your portfolio using $10,000 given to you by your grandfather. You bought 40 shares of Stock A, which was selling at $83.00. You also bought 500 shares of Stock B, selling at $3.72. The rest of your portfolio was spent on Stock C, which
Risk What is the difficulty in calculating risk? Describe the process through which one estimates the risk of an asset.
Returns Describe the differences between arithmetic and geometric returns. In what situation would you prefer to calculate one over the other?
Holding period return If the HPR on a stock throughout time t is 18.26 % and the beginning price is $11.50, what is the ending price? Assume that $2.10 in dividends was paid throughout time t.
Holding period return Suppose you entered into an investment 8 years ago.You just sold your entire position of 8,000 shares and have calculated you received a total dollar return of $13,590. You sold the stock at $18.52. In addition, you received a $.13 dividend each quarter for the first 5 years.
Confidence intervals What purpose does the confidence interval serve? How does it help extend the application of risk and reward?
Holding period returns 4 years ago, you bought 100 shares of Stock A at$23.99 per share and 200 shares of Stock B at $12.90 per share. During the first year, Stock A paid a dividend of $.85 per share each quarter, and Stock B paid a dividend of $.34 per share each quarter. Stock A continued to pay
Assets and risk You want a safe portfolio. Given that, should you invest primarily in equity or debt? Why? What makes the difference in relation to risk levels?
Geometric returns Suppose a company has had returns over the past 4 years of 6 %, 8 %, 7.5 %, and 2.5 %, respectively. What is the geometric average return for this stock?
Assets and risk Are small assets riskier or safer than large, all else equal?Why?
Geometric cumulative returns Over the past 4 years, Stock CCC had returns of 5.04 %, 16.14 %, 1.85 %, and 5.78 %. If you invested $1,000 at the beginning of those 4 years and all returns can be automatically reinvested, how much do you have today?
Assets and risk Debt can be issued by corporations or governments. Which is riskier and why?
Historical standard deviation The return on Stock A has been 3.45 %,-5.33 %, 6.43 %, and 2.84 % for the last 4 years, respectively. Given this, what is the historical standard deviation?
Expected returns What exactly is meant by expected return? What are the components to the expected return and how are they used in the calculation?
Confidence intervals Suppose a stock had returns of 10 %, 1 %, 8%, 3 %, and 11 % over the past 5 years. What is the 95 % confidence interval?
Portfolios risk What makes portfolio risk difficult to calculate? Why is it important to consider all correlation between pairs of assets?
Confidence intervals Suppose you have managed a mutual fund for the last 5 years, with returns of 15.4 %, 13.5 %, 18.4 %, 9.87 %, and 10.32 % in each of them. There is approximately a 2.5 % chance that you will have a return less than ______ over the next 6 year.
Correlation and diversification You just started your retirement portfolio and went to your dad for advice. He said to simply, “diversify, diversify, diversify.”What did he mean by that? Why would he say it?
Confidence intervals Suppose you have average returns over the last 25 years of 15.65 %, while the variance of those returns is 17.98 %. Given this, what is the probability your return next year will be less than 10 %?
Unexpected risk What is the difference between systematic and unsystematic risk?
Expected returns Over the past 50 years, Stock AAA has an average return of 6.4 % during normal economies. The return is half this during recessionary years. Contrarily, the return is double this during boom years. You think there is a 40 % chance of a normal economy and an equal chance of a
Diversification Your finance professor just stated that if you diversify correctly, you can eliminate, over time, losses from your investment mistakes. Is that correct? What are the conditions for this statement to be correct?
Expected returns Over the past 25 years, the average return for Stock ABC has been 12.43 % per year. However, during booming economies, this return is 45 % higher. On the other hand, during recessionary economies, this return is 25 % lower than the average. If you believe there is an equal 25 %
Beta You have three assets, A, B, and C. The beta of Asset A is 1.35, the beta of Asset B is .13, and the beta of Asset C is .77. Describe what should happen to each if the market goes up by 2 %. Which of the three is the riskiest? Which is safest?
Security market line What is the security market line? What is the slope?What is the y-intercept? Answer both in mathematical and definitional terms.
Portfolio returns Suppose you have an expected return on the portfolio of 15.6 %. You are invested in only two stocks, A and B. The expected return on A is 18.55 %, and the expected return on B is 8.96 %. What percentage of your portfolio is invested in Stock A?
Cost of equity How does the CAPM help in estimating the cost of equity?Discuss the implications of the answer for both the firm and the investor.
Portfolio risk Your portfolio is made up of 75 % Stock A and 25 % Stock B. Stock A has a variance of 31.36 %, while Stock B has a standard deviation of 6.25 %. The covariance between them is 6.8 %. What is your portfolio standard deviation?
Portfolio risk Consider a two-asset portfolio. Stock A has a standard deviation of 15 %, and Stock B has a standard deviation of 25 %. You own 14,000 share of Stock A, which is currently selling at $16.32. You own 8,000 shares of Stock B, which is currently selling at $31.08. If the correlation
Portfolio risk Consider the following historical returns for stocks R, S, and T.If you have weights of 45 % R, 25 % S, and 20 % T, what is your portfolio standard deviation? Year Stock R Stock S 1 14.34 % 234 11.35 13.35 8.42 12.54 6.45 7.01 15.46 % Stock T 11.35% 10.99 -4.52% 2.14%
Beta A stock has a beta of 1.43. If the current stock price is $18.02, what would you expect the price to be if the market goes up by 1.4 %?
Beta Suppose Firm VIP has a covariance of 84.87 % with the market. The standard deviation of the market is 22.90 % and the standard deviation of Firm VIP is 16.89 %. What is the beta of Firm VIP?
Portfolio beta Suppose you want a portfolio such that when the market goes up by 2 %, your portfolio goes up by 1.70 %. In addition, you only have 2 assets in your portfolio. Asset A has a beta of 1.25, while Asset B has a beta of .62. What is the weight of Asset B in your portfolio?
Portfolio beta Suppose that over a given month, the market has increased from an index value of 887.76 to 1,023.32. During the same time period, your portfolio has increased from $13,400 to $17,211. What does this infer regarding the beta of your portfolio?

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