AN OVERVIEW OF FINANCIAL MANAGEMENT


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1 CHAPTER 1 Review Questions AN OVERVIEW OF FINANCIAL MANAGEMENT 1. Management s basic, overriding goal is to create for 2. The same actions that maximize also benefits society 3. If businesses are successful and earn above normal, this will attract, which will eventually drive prices down, so the main long term beneficiary is the. 4. Free cash flow (FCF) is: minus minus minus. 5. The fundamental value of a firm is the present value of its expected. 6. The weighted average cost of capital is the average return required by and. 7. A(n) relationship arises whenever one or more individuals (the principals) hire another individual or organization (the agent) to act on their behalf, delegating decisionmaking authority to that agent. 8. Potential agency problems exist between a firm s shareholders and its and also between managers and 9. Executive compensation contracts typically have three components,,, and. 10. allow managers to purchase stock at some future time at a given price. 11. A(n) is the acquisition of a company over the opposition of its management. 12. A relatively new measure of managerial performance, is being used by more and more firms to tie executive compensation to stock wealth maximization.
2 13. A potential arises whenever the manager of a firm owns less than 100 percent of the firm s common stock. 14. If reliable, accurate information is available to all market participants, then we are said to have. 15. The Sarbanes Oxyley Act of 2000 was designed to address 16. The is the price paid to borrow debt capital. 17. risk arises from investing or doing business in a particular country. 18. The value of an investment made overseas will depend on what happens to exchange rates, and this is known as risk. 19. Changes in and can cause exchange rates to fluctuate. 20. The primary objective of firm is to maximize EPS. True or False 21. The types of actions that help a firm maximize stock price are generally not directly beneficial to society. True or False. 22. Which of the following factors tend to encourage management to pursue stock price maximization as a goal? a) Shareholders link management s compensation to company performance b) Managers reactions to the threat of firing and hostile takeovers. c) Managers do not have goals other than stock price maximization. d) Statement a and b are correct. e) Statement a, b and c are correct.
3 CHAPTER 1 Review Questions AN OVERVIEW OF FINANCIAL MANAGEMENT 1. Management s basic, overriding goal is to create for Answer: Value ; Stockholders 2. The same actions that maximize also benefits society Answer: Stock price 3. If businesses are successful and earn abovenormal, this will attract, which will eventually drive prices down, so the main longterm beneficiary is the. Answer: profits; competition; consumer 4. Free cash flow (FCF) is: minus minus minus. Answer: Sales(Operating Cost + Operating Taxes + Required investments in operating capital). 5. The fundamental value of a firm is the present value of its expected. Answer: free cash flows 6. The weighted average cost of capital is the average return required by and. Answer: shareholders; creditors 7. A(n) relationship arises whenever one or more individuals (the principals) hire another individual or organization (the agent) to act on their behalf, delegating decisionmaking authority to that agent. Answer: agency 8. Potential agency problems exist between a firm s shareholders and its and also between managers and Answer: managers; creditors (or debtholders) 9. Executive compensation contracts typically have three components,,, and. Answer: annual salary; bonus; options 10. allow managers to purchase stock at some future time at a given price.
4 Answer: Executive stock options 11. A(n) is the acquisition of a company over the opposition of its management Answer: hostile takeover 12. A relatively new measure of managerial performance, is being used by more and more firms to tie executive compensation to stock wealth maximization. Answer: economic value added 13. A potential arises whenever the manager of a firm owns less than 100 percent of the firm s common stock. Answer: agency problem 14. If reliable, accurate information is available to all market participants, then we are said to have. Answer: market transparency 15. The SarbanesOxyley Act of 2000 was designed to address Answer: corporate fraud 16. The is the price paid to borrow debt capital. Answer: interest rate 17. risk arises from investing or doing business in a particular country. Answer: Country 18. The value of an investment made overseas will depend on what happens to exchange rates, and this is known as risk. Answer: exchange rate
5 19. Changes in and can cause exchange rates to fluctuate. Answer: relative inflation; country risk 20. The primary objective of firm is to maximize EPS. True or False Answer: False. An increase in earnings per share will not necessarily increase stock price. For example if the increase in earnings per share is accompanied by an increase in the riskiness of the firm, stock price might fall. The primary objective is the maximization of stock price. 21. The types of actions that help a firm maximize stock price are generally not directly beneficial to society. True or False. Answer: False. The actions that maximizes stock price generally also benefit society by promoting efficient, low cost operations; encouraging the development of new technology, products, and jobs; and requiring efficient and courteous service. 22. Which of the following factors tend to encourage management to pursue stock price maximization as a goal? a) Shareholders link management s compensation to company performance b) Managers reactions to the threat of firing and hostile takeovers. c) Managers do not have goals other than stock price maximization. d) Statement a and b are correct. e) Statement a, b and c are correct. Answer: (d). Specific mechanisms which tend to force managers to act in shareholders best interests include: (1) the proper structuring of managerial compensation, (2) direct intervention by shareholders, (3) the threat of firing, and (4) the threat of takeover.
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7 CHAPTER 2 Review Questions Risk & Return: Part 1 1. Solve Question 2.1 from test book page Ripken Iron Works faces the following probability distribution: State of Probability of Stock's Expected Return the Economy State Occurring if this State Occurs Boom % Normal Recession What is the coefficient of variation on the company's stock? (Assume that the standard deviation is calculated using the probability statistic.) a b c d e The returns of United Railroad Inc. (URI) are listed below, along with the returns on "the market": Year URI Market 1 14% 9% If the riskfree rate is 9 percent and the required return on URI's stock is 15 percent, what is the required return on the market? Assume the market is in equilibrium. (Hint: Think rise over run.) a. 4% b. 9% c. 10% d. 13% e. 16% 4. Historical rates of return for the market and for Stock A are given below: Year Market Stock A 1 6.0% 8.0% If the required return on the market is 11 percent and the riskfree rate is 6 percent, what is the required return on Stock A, according to CAPM/SML theory? a. 6.00% b. 6.57% c. 7.25% d. 7.79% e. 8.27%
8 5. Assume that the following returns were earned on Stock Y and the market during the last eight years: Year r Y r M Year r Y r M % 20% Average return 7.5% 10% Standard deviation 5.18% 10% a. What is Stock Y's beta coefficient? (Hint: Use a calculator with statistical functions to determine the least squares line.) b. If the expected value of r M is 10 percent and r RF is 6 percent, what is the required rate of return on Stock Y? c. Suppose that in January, 2010, investors learn that Firm Y will, in the future, face much greater competition, and investors conclude that Stock Y will, in the future, be exposed to much higher nondiversifiable risk. Expected future profits and dividends, however, are unchanged (although the uncertainty about profits and dividends does increase). What effect is this knowledge likely to have on Stock Y's market price, on the realized rate of return on Stock Y during 2009, on the required rate of return on the stock, and on the expected rate of return on the stock in the future? d. Suppose that during 2010 Stock Y had a return of minus 5 percent, while the market return was 20 percent. What would this do to the calculated beta coefficient for Stock Y? (Hint: Add the new data point and recalculate beta.) e. Use the CAPM to calculate the required rate of return for Stock Y. Assume r M = 10 percent and r RF = 6 percent. f. How does this new estimate of r Y compare with the estimate based on data through 2009? Does this seem reasonable?
9 CHAPTER 2 Review Questions Risk & Return: Part 1 1. Solve Question 2.1 from test book page 63. Standalone risk is only a part of total risk and pertains to the risk an investor takes by holding only one asset. Risk is the chance that some unfavorable event will occur. For instance, the risk of an asset is essentially the chance that the asset s cash flows will be unfavorable or less than expected. A probability distribution is a listing, chart or graph of all possible outcomes, such as expected rates of return, with a probability assigned to each outcome. When in graph form, the tighter the probability distribution, the less uncertain the outcome. b. The expected rate of return (^r ) is the expected value of a probability distribution of expected returns. c. A continuous probability distribution contains an infinite number of outcomes and is graphed from  and +. d. The standard deviation (σ) is a statistical measure of the variability of a set of observations. The variance (σ 2 ) of the probability distribution is the sum of the squared deviations about the expected value adjusted for deviation. The coefficient of variation (CV) is equal to the standard deviation divided by the expected return; it is a standardized risk measure which allows comparisons between investments having different expected returns and standard deviations. e. A risk averse investor dislikes risk and requires a higher rate of return as an inducement to buy riskier securities. A realized return is the actual return an investor receives on their investment. It can be quite different than their expected return. f. A risk premium is the difference between the rate of return on a riskfree asset and the expected return on Stock i which has higher risk. The market risk premium is the difference between the expected return on the market and the riskfree rate.
10 g. CAPM is a model based upon the proposition that any stock s required rate of return is equal to the risk free rate of return plus a risk premium reflecting only the risk remaining after diversification. h. The expected return on a portfolio. r p, is simply the weightedaverage expected return of the individual stocks in the portfolio, with the weights being the fraction of total portfolio value invested in each stock. The market portfolio is a portfolio consisting of all stocks. i. Correlation is the tendency of two variables to move together. A correlation coefficient (ρ) of +1.0 means that the two variables move up and down in perfect synchronization, while a coefficient of 1.0 means the variables always move in opposite directions. A correlation coefficient of zero suggests that the two variables are not related to one another; that is, they are independent. j. Market risk is that part of a security s total risk that cannot be eliminated by diversification. It is measured by the beta coefficient. Diversifiable risk is also known as company specific risk, that part of a security s total risk associated with random events not affecting the market as a whole. This risk can be eliminated by proper diversification. The relevant risk of a stock is its contribution to the riskiness of a welldiversified portfolio. k. The beta coefficient is a measure of a stock s market risk, or the extent to which the returns on a given stock move with the stock market. The average stock s beta would move on average with the market so it would have a beta of 1.0. l. The security market line (SML) represents in a graphical form, the relationship between the risk of an asset as measured by its beta and the required rates of return for individual securities. The SML equation is essentially the CAPM, r i = r RF + b i (r M  r RF ). m. The slope of the SML equation is (r M  r RF ), the market risk premium. The slope of the SML reflects the degree of risk aversion in the economy. The greater the average investors aversion to risk, then the steeper the slope, the higher the risk premium for all stocks, and the higher the required return.
11 2. Ripken Iron Works faces the following probability distribution: State of Probability of Stock's Expected Return the Economy State Occurring if this State Occurs Boom % Normal Recession What is the coefficient of variation on the company's stock? (Assume that the standard deviation is calculated using the probability statistic.) a b c d e Answer: The expected rate of return will equal 0.25(25%) + 0.5(15%) (5%) = 15%. The variance of the expected return is 0.25(25% 15%) (15% 15%) (5% 15%) 2 = The standard deviation is the square root of = And, CV = /0.15 = The returns of United Railroad Inc. (URI) are listed below, along with the returns on "the market": Year URI Market 1 14% 9% If the riskfree rate is 9 percent and the required return on URI's stock is 15 percent, what is the required return on the market? Assume the market is in equilibrium. (Hint: Think rise over run.) a. 4% b. 9% c. 10% d. 13% e. 16% Answer: b = = 1.5. r s = 15% = 9% + (r M 9%)1.5 6% = (r M 9%)1.5 4% = r M 9% r M = 13%.
12 4. Historical rates of return for the market and for Stock A are given below: Year Market Stock A 1 6.0% 8.0% If the required return on the market is 11 percent and the riskfree rate is 6 percent, what is the required return on Stock A, according to CAPM/SML theory? a. 6.00% b. 6.57% c. 7.25% d. 7.79% e. 8.27% Answer: r A = 6% + (11% 6%)b A. Calculate b A as follows using a financial calculator:. r A = 6% + 5%(0.4534) = % 8.27%. 5. Assume that the following returns were earned on Stock Y and the market during the last eight years: Year r Y r M Year r Y r M % 20% Average return 7.5% 10% Standard deviation 5.18% 10% a. What is Stock Y's beta coefficient? (Hint: Use a calculator with statistical functions to determine the least squares line.) b. If the expected value of r M is 10 percent and r RF is 6 percent, what is the required rate of return on Stock Y? c. Suppose that in January, 2010, investors learn that Firm Y will, in the future, face much greater competition, and investors conclude that Stock Y will, in the future, be exposed to much higher nondiversifiable risk. Expected future profits and dividends, however, are unchanged (although the uncertainty about profits and dividends does increase). What effect is this knowledge likely to have on Stock Y's market price, on the realized rate of return on Stock Y during 2009, on the required rate of return on the stock, and on the expected rate of return on the stock in the future? d. Suppose that during 2010 Stock Y had a return of minus 5 percent, while the market return was 20 percent. What would this do to the calculated beta coefficient for Stock Y? (Hint: Add the new data point and recalculate beta.) e. Use the CAPM to calculate the required rate of return for Stock Y. Assume r M = 10 percent and r RF = 6 percent.
13 f. How does this new estimate of r Y compare with the estimate based on data through 2009? Does this seem reasonable? Answer: a. The least squares procedure yields the following equation for predicting the rate of return on Stock Y: r Y = a + br M = r M. Therefore, the beta for Stock Y is The regression line is plotted in the graph. b. r Y = r RF + (r M r RF )b Y = 6% + (4%)0.5 = 8%. c. The stock is now riskier. With greater risk and the same expected earnings and dividends, the price of the stock would fall. Thus, capital losses would be incurred, and they would offset if not overwhelm the dividend return, with the net result being a low or even negative realized rate of return during The required rate of return would rise. With the same expected dividends and dividend growth rate, but a lower market price, the expected rate of return on the now lower priced stock would rise to equal the now higher required rate of return. d. Adding the point 5, 20 for 2010 to the data set produces this regression equation: r Y = r M. beta = 0.3. Thus, the historical beta declines when the 2009 data is added. e. r Y = 6% + (4%)0.3 = 7.2%. f. This is down from 8% in Since we know that investors regard Stock Y as being riskier, the true required rate of return must be higher than 8%, not lower. This demonstrates one of the problems with using the CAPM. In this case, rising risk caused a decline in the price of the stock, which caused a low rate of return, which in turn caused the calculated beta to decline. In this example, historical betas do not reflect risk well at all.
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15 CHAPTER 3 Review Questions Risk & Return: Part 2 1. If you plotted the returns of Selleck & Company against those of the market and found that the slope of your line was negative, the CAPM would indicate that the required rate of return on Selleck s stock should be less than the riskfree rate for a welldiversified investor, assuming that the observed relationship is expected to continue in the future. a. True b. False. 2. If the returns of two firms are negatively correlated, then one of them must have a negative beta. a. True b. False: 3. It is possible for a firm to have a positive beta, even if the correlation between its returns and those of another firm are negative. a. True b. False: 4. The CAPM is a multi period model which takes account of differences in securities maturities, and it can be used to determine the required rate of return for any given level of systematic risk. a. True b. False 5. For markets to be in equilibrium (that is, for there to be no strong pressure for prices to depart from their current levels), a. The expected rate of return must be equal to the required rate of return; that is, rˆ r. b. The past realized rate of return must be equal to the expected rate of return; that is, rˆ r. c. The required rate of return must equal the realized rate of return; that is, r r. d. All three of the above statements must hold for equilibrium to exist; that is, rˆ r r. e. None of the above statements is correct 6. Stock A s beta is 1.5 and Stock B s beta is 0.5. Which of the following statements must be true about these securities? (Assume market equilibrium.) a. When held in isolation, Stock A has greater risk than Stock B. b. Stock B must be a more desirable addition to a portfolio than Stock A. c. Stock A must be a more desirable addition to a portfolio than Stock B. d. The expected return on Stock A should be greater than that on Stock B. e. The expected return on Stock B should be greater than that on Stock A.
16 7. Which of the following statements is CORRECT? a. Tests have shown that the betas of individual stocks are unstable over time, but that the betas of large portfolios are reasonably stable over time. b. Richard Roll has argued that it is possible to test the CAPM to see if it is correct. c. Tests have shown that the risk/return relationship appears to be linear, but the slope of the relationship is greater than that predicted by the CAPM. d. Tests have shown that the betas of individual stocks are stable over time, but that the betas of large portfolios are much less stable. e. The most widely cited study of the validity of the CAPM is one performed by Modigliani and Miller. 8. Which of the following are the factors for the Fama French model? a. The excess market return, a size factor, and a book to market factor. b. The excess market return, a debt factor, and a book to market factor. c. The excess market return, a size factor, and a debt. d. A debt factor, a size factor, and a book to market factor. e. The excess market return, an industrial production factor, and a book to market factor. 9. Assume that you hold a well diversified portfolio that has an expected return of 12.0% and a beta of You are in the process of buying 100 shares of Alpha Corp at $10 a share and adding it to your portfolio. Alpha has an expected return of 15.0% and a beta of The total value of your current portfolio is $9,000. What will the expected return and beta on the portfolio be after the purchase of the Alpha stock? Hint: Answer choices in the form: [ r p ;b p ] a %; 1.22 b %; 1.28 c %; 1.34 d %; 1.41 e %; The returns on the market, the returns on United Fund (UF), the risk free rate, and the required return on the United Fund are shown below. Assuming the market is in equilibrium and that beta can be estimated with historical data, what is the required return on the market, r M? Year Market UF % 14% % 16% % 22% % 7% % 2% r RF : 7.00%; r United : 15.00% a % b % c % d % e %
17 CHAPTER 3 Review Questions Risk & Return: Part 2 1. If you plotted the returns of Selleck & Company against those of the market and found that the slope of your line was negative, the CAPM would indicate that the required rate of return on Selleck s stock should be less than the riskfree rate for a welldiversified investor, assuming that the observed relationship is expected to continue in the future. a. True b. False. Answer: True 2. If the returns of two firms are negatively correlated, then one of them must have a negative beta. a. True b. False: Answer: True 3. It is possible for a firm to have a positive beta, even if the correlation between its returns and those of another firm are negative. a. True b. False: Answer: True 4. The CAPM is a multiperiod model which takes account of differences in securities maturities, and it can be used to determine the required rate of return for any given level of systematic risk. a. True b. False Answer: False i.5. For markets to be in equilibrium (that is, for there to be no strong pressure for prices to depart from their current levels), a. The expected rate of return must be equal to the required rate of return; that is, rˆ = r. b. The past realized rate of return must be equal to the expected rate of return; that is, rˆ r =. c. The required rate of return must equal the realized rate of return; that is, r = r. d. All three of the above statements must hold for equilibrium to exist; that is, rˆ = r = r. e. None of the above statements is correct Answer: (a) The expected rate of return must be equal to the required rate of return; that is, rˆ = r.
18 6. Stock A s beta is 1.5 and Stock B s beta is 0.5. Which of the following statements must be true about these securities? (Assume market equilibrium.) a. When held in isolation, Stock A has greater risk than Stock B. b. Stock B must be a more desirable addition to a portfolio than Stock A. c. Stock A must be a more desirable addition to a portfolio than Stock B. d. The expected return on Stock A should be greater than that on Stock B. e. The expected return on Stock B should be greater than that on Stock A. Answer: (d) The expected return on Stock A should be greater than that on Stock B. 7. Which of the following statements is CORRECT? a. Tests have shown that the betas of individual stocks are unstable over time, but that the betas of large portfolios are reasonably stable over time. b. Richard Roll has argued that it is possible to test the CAPM to see if it is correct. c. Tests have shown that the risk/return relationship appears to be linear, but the slope of the relationship is greater than that predicted by the CAPM. d. Tests have shown that the betas of individual stocks are stable over time, but that the betas of large portfolios are much less stable. e. The most widely cited study of the validity of the CAPM is one performed by Modigliani and Miller. Answer: (a) Tests have shown that the betas of individual stocks are unstable over time, but that the betas of large portfolios are reasonably stable over time. 8. Which of the following are the factors for the FamaFrench model? a. The excess market return, a size factor, and a booktomarket factor. b. The excess market return, a debt factor, and a booktomarket factor. c. The excess market return, a size factor, and a debt. d. A debt factor, a size factor, and a booktomarket factor. e. The excess market return, an industrial production factor, and a booktomarket factor. Answer: (a ) The excess market return, a size factor, and a booktomarket factor.
19 9. Assume that you hold a welldiversified portfolio that has an expected return of 12.0% and a beta of You are in the process of buying 100 shares of Alpha Corp at $10 a share and adding it to your portfolio. Alpha has an expected return of 15.0% and a beta of The total value of your current portfolio is $9,000. What will the expected return and beta on the portfolio be after the purchase of the Alpha stock? r p b p a %; 1.22 b %; 1.28 c %; 1.34 d %; 1.41 e %; 1.48 Answer: ( b) 12.30%; The returns on the market, the returns on United Fund (UF), the riskfree rate, and the required return on the United Fund are shown below. Assuming the market is in equilibrium and that beta can be estimated with historical data, what is the required return on the market, r M? Year Market UF % 14% % 16% % 22% % 7% % 2% r RF : 7.00%; r United : 15.00% a % b % c % d % e % Answer: d
20 CHAPTER 4 Review Questions Bond Valuation (4.4) Current yield i. A 12year bond pays an annual coupon of 8.5 percent. The bond has a yield to maturity of 9.5 percent and a par value of $1,000. What is the bond s current yield? a. 6.36% b. 2.15% c. 8.95% d. 9.14% e % (4.4) Current yield and yield to maturity ii. A bond matures in 12 years, and pays an 8 percent annual coupon. The bond has a face value of $1,000, and currently sells for $985. What is the bond s current yield and yield to maturity? a. Current yield = 8.00%; yield to maturity = 7.92%. b. Current yield = 8.12%; yield to maturity = 8.20%. c. Current yield = 8.20%; yield to maturity = 8.37%. d. Current yield = 8.12%; yield to maturity = 8.37%. e. Current yield = 8.12%; yield to maturity = 7.92%. (4.4) Yield to maturity iii. Palmer Products has outstanding bonds with an annual 8 percent coupon. The bonds have a par value of $1,000 and a price of $865. The bonds will mature in 11 years. What is the yield to maturity on the bonds? a % b % c. 9.25% d. 8.00% e. 9.89% (4.4) Yield to maturity and bond valueannual iv. A 20year bond with a par value of $1,000 has a 9 percent annual coupon. The bond currently sells for $925. If the bond s yield to maturity remains at its current rate, what will be the price of the bond 5 years from now? a. $ b. $ c. $1, d. $ e. $ (4.6) Bond value  semiannual payment v. A corporate bond with a $1,000 face value pays a $50 coupon every six months. The bond will mature in ten years, and has a nominal yield to maturity of 9 percent. What is the price of the bond? a. $ b. $1, c. $1, d. $1, e. $1,094.56
21 (4.6) Bond value  semiannual payment vi. A bond with a $1,000 face value and an 8 percent annual coupon pays interest semiannually. The bond will mature in 15 years. The nominal yield to maturity is 11 percent. What is the price of the bond today? a. $ b. $ c. $1, d. $1, e. $ (4.6) YTM and YTC vii. A corporate bond matures in 14 years. The bond has an 8 percent semiannual coupon and a par value of $1,000. The bond is callable in five years at a call price of $1,050. The price of the bond today is $1,075. What are the bond s yield to maturity and yield to call? a. YTM = 14.29%; YTC = 14.09% b. YTM = 3.57%; YTC = 3.52% c. YTM = 7.14%; YTC = 7.34% d. YTM = 6.64%; YTC = 4.78% e. YTM = 7.14%; YTC = 7.05% (4.6) Yield on semiannual bond viii. A corporate bond has a face value of $1,000, and pays a $50 coupon every six months (i.e., the bond has a 10 percent semiannual coupon). The bond matures in 12 years and sells at a price of $1,080. What is the bond s nominal yield to maturity? a. 8.28% b. 8.65% c. 8.90% d. 9.31% e % (4.3) Interest payments remaining ix. You have just been offered a $1,000 par value bond for $ The coupon rate is 8 percent, payable annually, and annual interest rates on new issues of the same degree of risk are 10 percent. You want to know how many more interest payments you will receive, but the party selling the bond cannot remember. Can you determine how many interest payments remain? a. 14 b. 15 c. 12 d. 20 e. 10 (4.4) Yield to call x. A corporate bond which matures in 12 years, pays a 9 percent annual coupon, has a face value of $1,000, and a yield to maturity of 7.5 percent. The bond can first be called four years from now. The call price is $1,050. What is the bond s yield to call? a. 6.73% b. 7.10% c. 7.50% d % e %
22 (4.6) Bond value  semiannual payment xi. An 8 percent annual coupon, noncallable bond has ten years until it matures and a yield to maturity of 9.1 percent. What should be the price of a 10year noncallable bond of equal risk which pays an 8 percent semiannual coupon? Assume both bonds have a par value of $1,000. a. $ b. $ c. $ d. $ e. $ (4.6) Call price Answer: c xii. Kennedy Gas Works has bonds which mature in 10 years, and have a face value of $1,000. The bonds have a 10 percent quarterly coupon (i.e., the nominal coupon rate is 10 percent). The bonds may be called in five years. The bonds have a nominal yield to maturity of 8 percent and a yield to call of 7.5 percent. What is the call price on the bonds? a. $ b. $1, c. $1, d. $1, e. $1, i. (4.4) Current yield Answer: d Current yield = Annual coupon payment/current price. Step 1 Find the price of the bond: N = 12, I/YR = 9.5, PMT = 85, and FV = Solve for PV = $930. Step 2 Calculate the current yield: CY = $85/$930 = 9.14%. ii. (4.4) Current yield and yield to maturity Answer: b N = 12 PV = 985 PMT = 80 FV = 1,000 Solve for I/YR (YTM) = 8.20%. Current yield is calculated as: $80/$985 = 8.12%. iii. (4.4) Yield to maturity Answer: a Enter N = 11, PV = 865, PMT = 80, and FV = Solve for I/YR = % 10.09%.
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