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23 Feb 2018

You currently have $15,000 that you plan to use to buy a car. You prefer a new car, but you are also open to a used car. Either way you will pay cash. The cost of a new car today (in 2012) is $22,500, but the cost for new versions of this car is projected to rise by 2% per year through 2017. Instead of a new car, you could buy a 2012 model later in the used-car market. The price of the 2012 model is expected to decline by 15% per year through 2017. You plan to invest your $15,000 into BBB-rated bonds, but you are not sure whether you should invest in successive one-year bonds, or in longer-term bonds. The five-year yield curve for zero coupon bonds rated BBB is given below to help you make your decision. Use this data for the following questions

Term 1 year 2 years 3 years 4 years 5 years
YTM 10.00% 11.00% 12.00% 13.00% 14.00%

1. Which bond, if held to maturity, provides the earliest expected opportunity to buy a new car?
a. The two-year bond
b. The three-year bond
c. The four-year bond
d. The five-year bond
e. None of the above


2. Assuming implied forward rates are the best estimates of future one-year rates, how many years before you can expect to pay cash for a used car if you invest in successive one-year bonds?

a. One year b. Two years c. Three years d. Four years

3. What is the implied forward rate for the last year of your investment in question 2?

a. 10.00% b. 12.01% c. 14.03% d. 16.05% e. None of the above

4. Compared with an investment in the five-year bond, successive investments in one-year bonds over a five-year period carry
a. More credit risk
b. More interest-rate risk.
c. More reinvestment rate risk.
d. None of the above.
e. All of the above.




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Jamar Ferry
Jamar FerryLv2
24 Feb 2018

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SHOW ALL WORK. Preferred if you showed how to do it on bothfinancial calculator and by hand.

1. You plan to retire in 35 years. At the endof each year, you plan on saving $15,000, and your bank pays you 2%annual interest. How much will you have saved by the time youretire?

A. $749,917

B. $374,979

C. $525,000

D. $262, 514

2. A bond with a face value of$1,000 pays a 10% (APR) semiannual coupon, and matures in 10 years.Similar bonds trade at a YTM of 8% (APR). What is the price of thebond?

A. $1,000

B. $679.52

C. $1,134.20

D. $1,135. 91

PROBLEMS 3 and 4 ARE CONNECTED

3. A major car manufacturing firm issues a 20year $1,000,000 bond at par. The bond pays a 6% (APR) semiannualcoupon. 5 years later, the Federal Reserve Board cuts the fed fundsrate, causing interest rates for similar firms to fall to 4% (APR).What is the new bond price?

A. $1,222,368

B. $1,223,965

C. $1,000,000

D. $1,273,555

4. . If you bought the bond at issueand held it to maturity, what is the effective annual rate (EAR)that you earned?

A. 6%

B. 6.09%

C. 4%

D. 4.04%

5. The nominal rate quoted in themarket is 8% per annum, and interest is paid every month. What isthe effective annual rate (EAR)?

A. 8%

B. 8.3%

C. 0.67%

D. 96%

Assume all bonds in these problems are semi-annual bonds with $1000 par value 1. Calculate the yield to maturity for the following corporate bond
Company(Ticker) Coupon Maturity Last Price Merck (MRK) 4.375 April 15, 2031 98.211
2. US Treasury Strips are zero-coupon securities. Suppose you wish to purchase a US Treasury Strip that matures exactly 10 years from now. If the yield on 10-year US Treasury securities is currently 2.40%, what is the correct price quote for this bond? (Use semi- annual compounding).
3. A corporate bond has a coupon rate of 5.5% and a yield to maturity of 4.905%. You buy the bond when it is quoted at 102.10 percent of par. It has been 75 days since the last coupon payment was made. How much must you pay, per bond?
4. RJ Wagner Insurance Co. preferred stock pays a cash dividend of $2.00 per share, per year. The current price of this stock is $51.95. What is the yield on this preferred? Suppose an individual is considering investing in this preferred stock, versus a AAA-rated municipal bond that has a yield to maturity of 2.195%. Which has the higher after tax yield if the investor pays 45% of her income in state and federal income taxes, and the municipal bond interest is tax exempt?
5. Heavy Metal Corporation is expected to generate Free Cash Flow of $75 million in the current year. The free cash flow is expected to grow at a 3% rate forever. Heavy Metal has 20 million shares outstanding, $400 million in debt and no excess cash. The tax rate is 40%, the required return on equity is 12%, and the WACC (cost of capital) is 9%. Compute the Enterprise Value of Heavy Metal and the value of the equity per share.
6a) IBM Corp. earned $12.25 in EPS last year. IBM has recently adopted a long-term target to pay out 50% of all future earnings as dividends. IBM’s dividends and earnings are expected to grow at a constant rate of 3% in the future. You require a 9% rate of return on stock investments of similar risk. What is your estimate of the market value of IBM stock?
6b). Based on the information provided what is the implied return on new investment (ROE*) for IBM.
7. Bunge Corp. earned $9.75 per share and paid $3.25 in dividends in the year just ended. Bunge’s (trailing) P/E ratio is 15.0. If Bunge dividends are expected to grow at a 5% rate forever, what is the expected rate of return on Bunge stock?
8. Monsanto, Corp paid dividends of $8.80 last year. You develop the following forecast for Monsanto’s future dividends: growth of 20% for 2 years, growth of 10% in years 3, 4 and 5, and growth of 5% per year, forever, after year 5. If investors required return on Monsanto stock is 15%, what is the estimated market value according to the multi-stage dividend discount model?

You are the General Manager at the Bicker, Slaughter, and Lynch Law Firm. There is an opportunity to buy out a small law firm that was just started by a young MBA/JD, and you believe the firm can be grown and become a lucrative part of your Firm. With help from your finance leader, you have estimated the following benefit streams for this new division:

Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 Year 7 Year 8

Before Tax $(149,000) $0 $51,380 $88,760 $114,100 $129,780 $143,640 $167,300

Cash Flow

From Operations

After Tax Net Income

From Operations $(103,500) $(50,500) $36,700 $63,400 $81,500 $92,700 $102,600 $119,500

After Tax Cash Flow

From Operations $(85,600) $15,000 $48,600 $72,200 $95,550 $101,300 $125,200 $140,200

You estimate that the purchase price for this firm would be $200,000 and that additional net working capital would be needed in the amount of $60,000 in year 0, an additional $20,000 in year 2 and then $20,000 in year 5. BSL usually spend about $275,000 per year in advertising. If you make this acquisition, you would ask that advertising spending be increased by an incremental one-time amount of $50,000 in year 0 to publicize the firm’s expansion. Your finance leader has indicated that the firm has access to a credit line and could borrow the funds at a rate of 6%. He also mentions that when he runs project economics for capital budgeting (such as a new copier or a company car), he recommends a standard 10% rate discount, but the one other time they looked at an acquisition of a smaller firm, he used a 12% rate discount. Obviously you will want to select the most appropriate discount rate for this type of project.

At the end of 8 years, the plan will be to sell this division. The estimated terminal value (the sale and the return of working capital) is conservatively estimated to be $300,000 of after-tax cash flow help. Using the data that you need (and ignoring the extraneous information),

calculate the Nominal Payback, the Discounted Payback, the Net Present Value, and the IRR for this potential acquisition.

Discussion – in a Word Document in paragraph form, respond to the following:

1) From a purely financial (numbers) perspective, would you recommend this purchase to management? Why?

2) What are some of the non-financial elements that need to be considered for this proposal?

3) Assumptions in project economics can have a huge impact on the result. Identify 3 financial elements/assumptions in your analysis that would make this project not be financially attractive (e.g., answer this question: what would have to be true for this to be a bad investment?).

4) If you were the CEO, would you approve this proposal? Why or why not?

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