# DUKE UNIVERSITY Fuqua School of Business. FINANCE CORPORATE FINANCE Problem Set #8 Prof. Simon Gervais Fall 2011 Term 2

 To view this video please enable JavaScript, and consider upgrading to a web browser that supports HTML5 video
Save this PDF as:

Size: px
Start display at page:

Download "DUKE UNIVERSITY Fuqua School of Business. FINANCE 351 - CORPORATE FINANCE Problem Set #8 Prof. Simon Gervais Fall 2011 Term 2"

## Transcription

1 DUKE UNIVERSITY Fuqua School of Business FINANCE CORPORATE FINANCE Problem Set #8 Prof. Simon Gervais Fall 2011 Term 2 Questions 1. Hors d Age Cheeseworks has been paying a regular cash dividend of \$4 per share each year for over a decade. The company is paying out all its earnings as dividends and is not expected to grow. There are 100,000 shares outstanding selling for \$80 per share. The company has sufficient cash on hand to pay the next annual dividend. Suppose that Hors d Age decides to cut its cash dividend to zero and announces that it will repurchase shares instead. (a) What is the immediate stock price reaction? Ignore taxes, and assume that the repurchase program conveys no information about operating profitability or business risk. (b) How many shares will Hors d Age purchase? (c) Project and compare future stock prices for the old and new policies. Do this for at least years 1, 2, and Formaggio Vecchio has just announced its regular quarterly cash dividend of \$1 per share. (a) When will the stock price fall to reflect dividend payment on the record date, the ex-dividend date, or the payment date? (b) Assume that there are no taxes. By how much is the stock price likely to fall? (c) Now assume that all investors pay tax of 30% on dividends and nothing on capital gains. What is the likely fall in the stock price? (d) Suppose, finally, that everything is the same as in part (c), except that security dealers pay tax on both dividends and capital gains. How would you expect your answer to (c) to change? Explain. 3. Refer back to the last question. Assume no taxes and a stock price immediately after the dividend announcement of \$100. (a) If you own 100 shares, what is the value or your investment? How does the dividend payment affect your wealth? (b) Now suppose that Formaggio Vecchio cancels the dividend payment and announces that it will repurchase 1% of its stock at \$100. Do you rejoice or yawn? Explain. 4. The expected pretax return on three stocks is divided between dividends and capital gains in the following way: Expected Expected Stock Dividend Capital Gain A \$0 \$10 B \$5 \$5 C \$10 \$0 1

3 now), and thereafter the amount paid out is expected to grow by 5% a year in perpetuity. Thus the expected dividend at the end of the second year is \$1.05 million, and so on. However, the company has heard that the value of a share depends on the flow of dividends. Therefore it announces that this year s dividend will be increased to \$2 million (from \$1 million), and that the extra cash will be raised at the end of the year by an issue of shares. After that, the total amount paid out in dividends each year will be as previously forecast, i.e. \$1.05 million at the end of year 2 and increasing at 5% a year in each subsequent year. (a) What is Nilpoj s cost of capital. (b) What will the total value of the firm be at the end of the year (after the extra cash is raised and after the \$2 million dividend is paid out)? (c) How many shares will the firm need to issue, and what is the price per share at the end of the year (after the extra cash is raised and after the \$2 million dividend is paid out)? (d) What fraction of future dividends (starting with the second-year dividends) belongs to the original shareholders? (e) Show that the original shareholders are not made better off by this decision (i.e. show that the present value of the cash flows to the original shareholders remains \$20 million). (Optional) 9. The Government in Dukeraine imposes a flat tax rate of 20% on realized capital gains and losses. The tax rate on personal income is 30%. The corporate tax rate is 35%. The stock of a firm in Dukeraine is currently priced at \$100 per share, and is about to go ex-dividend, paying \$1 as dividend to holders of record. Assume that the (after-tax) interest rate is 10%, that the dividend is paid immediately and that all taxes are paid one year from now. What should be the ex-dividend price for an investor who is planning to hold the stock for one year to be indifferent between buying the stock immediately before or immediately after it goes ex-dividend? How do you explain the difference between the cum-dividend (with dividend) and ex-dividend (without dividend) prices? 3

4 1. (a) There should be no reaction. Solutions (b) Solution 1: The total dividend is \$4(100,000) = \$400,000. If Hors d Age repurchases n shares at a price of P each, then we need np = 400,000. (1) The remaining 100,000 n shares should be worth P each as well, and so 8,000, ,000 n = P (2) Solving for n and P in (1) and (2), we find n = 4,762 and P = Solution 2: Without the dividend payment, the firm is worth V = \$80(100,000) + \$4(100,000) = \$8,400,000, which is \$8,400, ,000 = \$84 per share. With \$400,000, the firm can therefore repurchase \$400,000 \$84 = 4,762 shares. (c) Old policy: New policy: Year 1 Year 2 Year 3 Total Assets beginning of year 8.0M 8.0M 8.0M end of year 8.4M 8.4M 8.4M Dividends (= Earnings) 0.4M 0.4M 0.4M Number of shares 100, , ,000 Price per share (ex-dividend) Year 1 Year 2 Year 3 Total Assets beginning of year 8.0M 8.0M 8.0M end of year 8.4M 8.4M 8.4M Earnings 0.4M 0.4M 0.4M Beginning of year number of shares 100,000 95,238 90,703 price per share Number of shares repurchased 4,762 4,535 4,319 End of year number of shares 95,238 90,703 86,384 price per share (ex-dividend) (a) On the ex-dividend date. (b) The stock price will fall by \$1. 4

6 4. (a) Here are the net expected returns on each stock for each of the four investors: Investor Stock A Stock B Stock C (i) Pension fund (ii) Corporation (iii) Individual (iv) Security dealer 10(1 0.35) = (1 0.28) = (1 0.35) = 6.5 5[1 (0.3)(0.35)] +5(1 0.35) = ( ) +5(1 0.28) = (1 0.35) = [1 (0.3)(0.35)] = ( ) = (1 0.35) = 6.5 (b) The yearly after-tax payoff of stock A is 10(1 0.2) = 8, so that the price of stock A should be P A = = 100. The yearly after-tax payoff of stock B is 5(1 0.5)+5(1 0.2) = 6.5, so that the price of stock B should be P B = = The yearly after-tax payoff of stock C is 10(1 0.5) = 5, so that the price of stock C should be P C = = (a) The value of the firm is the present value of its dividends and future value: V 0 = 32,000+ 1,545, = 1,412,000. (b) Before the dividend is paid, each share is worth P 0 = 1,412,000 10,000 = After the dividend is paid, the shares will be worth P 0 = 1,545,600/ ,000 = 1,412,000 32,000 10,000 = Notice that the difference between P 0 and P 0 is the dividend per share, 32,000/10,000 = (c) (i) According to Modigliani and Miller, it cannot be true that the low dividend is depressing the price. In fact, since the dividend policy is irrelevant, the level of the dividend should not matter: any funds not distributed as dividends add to the value of the firm through the stock price (capital gains). These directors merely want to 6

7 change the timing of the dividends (more now, less in the future). As shown below, the current shareholders wealth is unaffected by this dividend increase, i.e., the shareholders are not made better off. To pay the \$4.25 dividend per share (for a total dividend of \$42,500), new shares must be sold. These new shares must have a value of \$10,500 (\$42,500 \$32,000). This means that some of the \$1,545,600 firm value in one year will belong to the new shareholders. How much? Well, these new shareholders will also demand a 12% return on their investment, i.e., their \$10,500 should then be worth \$11,760 (\$10, ). So the current shareholders wealth at time 0 must be W 0 = 42,500+ 1,545,600 11, = 1,412,000, the same as before. (ii) Let n denote the number of new shares that have to be issued, and P 0 the price after the \$4.25 dividend has been paid. Solution 1: Since the new shareholders will not be fooled and will require their \$10,500 investment to be worth exactly that after the dividend is paid, we must have = 10,500. (3) np 0 Also, after the dividend is paid, the shareholders (both old and new) will be sharing the future value of the firm, that is P 0 = 1,545,600/ ,000+n. (4) Solving (3) and (4) for n and P 0 yields n = and P 0 = Solution 2: After the dividend is paid and the money is raised from the new equity issue, the firm is worth V = 1,545,600 = 1,380, For the new shareholders to be willing to pay \$10,500 for their share in the firm, it must be that their claim is worth \$10,500. This implies that 1,380,000 10,500 = 1,369,500 belongs to the old shareholders, that is, P 0 = 1,369,500 10,000 = per share. The number of new shares that must be issued is therefore n = 10, =

8 6. The following table shows the after-tax return calculations for the three companies. Paynone Payless Payall Next year s stock price Dividend Total pre-tax payoff Today s stock price P less P all Capital gains P less P all Tax on dividend Tax on capital gains Total after-tax income ( P less ) +( P all ) After-tax rate of return 25% 25% 25% Since we would like the three after-tax expected returns to be the same, we must have These imply P less = and P all = % = ( P less), and P less 25% = ( P all). P all 7. We know that the Lintner dividend model is given by D 1 = a(p E 1 )+(1 a)d 0, where, in this case, p = 0.4, E 1 = 4.50, and D 0 = (a) If a = 0.3, we have (b) If a = 0.6, we have D 1 = 0.3( )+(1 0.3)1.25 = D 1 = 0.6( ) +(1 0.6)1.25 = Notice that the increase in the dividend is more conservative in part (a) since the adjustment rate is lower (i.e., more weight is put on last year s dividend). 8. (a) We know that the current value of Nilpoj is \$20 million, and that this number represents the present value of discounted dividends, i.e., 20,000,000 = 1,000,000 1+r + 1,000,000(1.05) (1+r) 2 + 1,000,000(1.05)2 (1+r) 3 + = 1,000,000 r This implies that the cost of capital for Nilpoj is r = 10%. 8

9 (b) At the end of the year, the value of the firm will be [ 1.05 V 1 = 1,000,000 [ 1.05 = 1,000, (1.05) = 21,000,000. ] (1.1) 2 + ] (c) Let n denote the number of new shares that will need to be issued, and P 1 the price of each share (old and new) at the end of the first year. Since the total number of shares after the new issue will be 1,000,000 +n, we have P 1 = V 1 1,000,000+n = 21,000,000 1,000,000 +n. (5) It also has to be the case that the extra dividend of \$1 million paid at the end of the first year is financed by the new issue of shares (i.e., the new investors get what they pay for): np 1 = 1,000,000. (6) Using this last equation in (5) yields: (1,000,000 +n)p 1 = 21,000,000 (6) 1,000,000P 1 +1,000,000 = 21,000,000 P 1 = 20. We can now use this value in (6) to obtain n = 1,000, = 50,000 shares. (d) The new shareholders will be getting a fraction 50,000 1,000, ,000 = 1 21 offuturedividends,whereastheoriginalshareholderswillbegettingafraction1 1 of these dividends. (e) The present value of the cash flows to the original shareholders is { 2 PV = 1,000, { 2 = 1,000, = 20,000,000. [ 1.05 (1.1) 2 + (1.05)2 (1.1) 3 + (1.05)3 [ ]} ]} (1.1) =

10 9. Let S ed denote the ex-dividend stock price. We then have the following cash flows associated with buying cum-dividend or ex-dividend: Cash Flow Today Cash Flow in 1 Year Buy cum-dividend S (S 1 100) 0.30(1) Buy ex-dividend S ed S (S 1 S ed ) Difference in CF s 99+S ed S ed Investors would be indifferent between buying cum-dividend or ex-dividend if and only if the present value of the differential cash flow is zero, i.e., if 99+S ed S ed 1.10 = 0. Solving, gives S ed = Therefore, after the dividend payment, the stock price drops by less than \$1. This reflects the fact that capital gains are taxed at a lower rate than dividends. 10

### DUKE UNIVERSITY Fuqua School of Business. FINANCE 351 - CORPORATE FINANCE Problem Set #7 Prof. Simon Gervais Fall 2011 Term 2.

DUKE UNIVERSITY Fuqua School of Business FINANCE 351 - CORPORATE FINANCE Problem Set #7 Prof. Simon Gervais Fall 2011 Term 2 Questions 1. Suppose the corporate tax rate is 40%, and investors pay a tax

### CHAPTER 18 Dividend and Other Payouts

CHAPTER 18 Dividend and Other Payouts Multiple Choice Questions: I. DEFINITIONS DIVIDENDS a 1. Payments made out of a firm s earnings to its owners in the form of cash or stock are called: a. dividends.

### Primary Market - Place where the sale of new stock first occurs. Initial Public Offering (IPO) - First offering of stock to the general public.

Stock Valuation Primary Market - Place where the sale of new stock first occurs. Initial Public Offering (IPO) - First offering of stock to the general public. Seasoned Issue - Sale of new shares by a

### CHAPTER 15 Capital Structure: Basic Concepts

Multiple Choice Questions: CHAPTER 15 Capital Structure: Basic Concepts I. DEFINITIONS HOMEMADE LEVERAGE a 1. The use of personal borrowing to change the overall amount of financial leverage to which an

### CHAPTER 8 STOCK VALUATION

CHAPTER 8 STOCK VALUATION Answers to Concepts Review and Critical Thinking Questions 5. The common stock probably has a higher price because the dividend can grow, whereas it is fixed on the preferred.

### University of Pennsylvania The Wharton School

University of Pennsylvania The Wharton School FNCE 100 PROBLEM SET #6 Fall Term 2005 A. Craig MacKinlay Capital Structure 1. The XYZ Co. is assessing its current capital structure and its implications

### Dividend Policy. Vinod Kothari

Dividend Policy Vinod Kothari Corporations earn profits they do not distribute all of it. Part of profit is ploughed back or held back as retained earnings. Part of the profit gets distributed to the shareholders.

### DUKE UNIVERSITY Fuqua School of Business. FINANCE 351 - CORPORATE FINANCE Problem Set #1 Prof. Simon Gervais Fall 2011 Term 2.

DUKE UNIVERSITY Fuqua School of Business FINANCE 351 - CORPORATE FINANCE Problem Set #1 Prof. Simon Gervais Fall 2011 Term 2 Questions 1. Two years ago, you put \$20,000 dollars in a savings account earning

### Leverage. FINANCE 350 Global Financial Management. Professor Alon Brav Fuqua School of Business Duke University. Overview

Leverage FINANCE 35 Global Financial Management Professor Alon Brav Fuqua School of Business Duke University Overview Capital Structure does not matter! Modigliani & Miller propositions Implications for

### Stock valuation. Price of a First period's dividends Second period's dividends Third period's dividends = + + +... share of stock

Stock valuation A reading prepared by Pamela Peterson Drake O U T L I N E. Valuation of common stock. Returns on stock. Summary. Valuation of common stock "[A] stock is worth the present value of all the

### Chapter 17 Does Debt Policy Matter?

Chapter 17 Does Debt Policy Matter? Multiple Choice Questions 1. When a firm has no debt, then such a firm is known as: (I) an unlevered firm (II) a levered firm (III) an all-equity firm D) I and III only

### DUKE UNIVERSITY Fuqua School of Business. FINANCE 351 - CORPORATE FINANCE Problem Set #4 Prof. Simon Gervais Fall 2011 Term 2.

DUK UNIRSITY Fuqua School of Business FINANC 351 - CORPORAT FINANC Problem Set #4 Prof. Simon Gervais Fall 2011 Term 2 Questions 1. Suppose the corporate tax rate is 40%. Consider a firm that earns \$1,000

### Homework Margin Purchases. Dr. Patrick Toche

Homework Margin Purchases Dr. Patrick Toche A dagger indicates a possibly more challenging question. Maintenance Margin 1. You are bullish on Telecom stock. The current market price is \$50 per share, and

### WHY NOT VALUE EQUITY CFs DIRECTLY?

WHY NOT VALUE EQUITY CFs DIRECTLY? WHAT HAVE WE DONE SO FAR? Discount the firm s projected Free Cash Flows at their Weighted Average Cost of Capital to get the aggregate value of the firm s securities

### Chapter 14 Capital Structure in a Perfect Market

Chapter 14 Capital Structure in a Perfect Market 14-1. Consider a project with free cash flows in one year of \$130,000 or \$180,000, with each outcome being equally likely. The initial investment required

### CHAPTER 14 COST OF CAPITAL

CHAPTER 14 COST OF CAPITAL Answers to Concepts Review and Critical Thinking Questions 1. It is the minimum rate of return the firm must earn overall on its existing assets. If it earns more than this,

### Achievement of Market-Friendly Initiatives and Results Program (AMIR 2.0 Program) Funded by U.S. Agency for International Development

Achievement of Market-Friendly Initiatives and Results Program (AMIR 2.0 Program) Funded by U.S. Agency for International Development Equity Analysis, Portfolio Management, and Real Estate Practice Quizzes

### Chapter 8. Stock Valuation Process. Stock Valuation

Stock Valuation Process Chapter 8 Stock Valuation: Investors use risk and return concept to determine the worth of a security. In the valuation process: The intrinsic value of any investment equals the

### TIP If you do not understand something,

Valuing common stocks Application of the DCF approach TIP If you do not understand something, ask me! The plan of the lecture Review what we have accomplished in the last lecture Some terms about stocks

### CHAPTER 17. Payout Policy. Chapter Synopsis

CHAPTER 17 Payout Policy Chapter Synopsis 17.1 Distributions to Shareholders A corporation s payout policy determines if and when it will distribute cash to its shareholders by issuing a dividend or undertaking

### LECTURE- 4. Valuing stocks Berk, De Marzo Chapter 9

1 LECTURE- 4 Valuing stocks Berk, De Marzo Chapter 9 2 The Dividend Discount Model A One-Year Investor Potential Cash Flows Dividend Sale of Stock Timeline for One-Year Investor Since the cash flows are

### 1 Pricing options using the Black Scholes formula

Lecture 9 Pricing options using the Black Scholes formula Exercise. Consider month options with exercise prices of K = 45. The variance of the underlying security is σ 2 = 0.20. The risk free interest

### 1 Interest rates, and risk-free investments

Interest rates, and risk-free investments Copyright c 2005 by Karl Sigman. Interest and compounded interest Suppose that you place x 0 (\$) in an account that offers a fixed (never to change over time)

### Homework Margin Purchases. Dr. Patrick Toche

Homework Margin Purchases Dr. Patrick Toche A dagger indicates a possibly more challenging question. Maintenance Margin 1. You are bullish on Telecom stock. The current market price is \$50 per share, and

### You just paid \$350,000 for a policy that will pay you and your heirs \$12,000 a year forever. What rate of return are you earning on this policy?

1 You estimate that you will have \$24,500 in student loans by the time you graduate. The interest rate is 6.5%. If you want to have this debt paid in full within five years, how much must you pay each

### THE VALUATION OF A SAVINGS ACCOUNT

THE VALUATION OF A SAVINGS ACCOUNT (With Seven Insights) A savings account is a simple investment that we all understand. We shall use it as a prototype for equity valuation. We shall use it to test ideas

### Bond Valuation. What is a bond?

Lecture: III 1 What is a bond? Bond Valuation When a corporation wishes to borrow money from the public on a long-term basis, it usually does so by issuing or selling debt securities called bonds. A bond

### MBA Financial Management and Markets Exam 1 Spring 2009

MBA Financial Management and Markets Exam 1 Spring 2009 The following questions are designed to test your knowledge of the fundamental concepts of financial management structure [chapter 1], financial

### Problem 1 (Issuance and Repurchase in a Modigliani-Miller World)

Problem 1 (Issuance and Repurchase in a Modigliani-Miller World) A rm has outstanding debt with a market value of \$100 million. The rm also has 15 million shares outstanding with a market value of \$10

### Dividend valuation models Prepared by Pamela Peterson Drake, Ph.D., CFA

Dividend valuation models Prepared by Pamela Peterson Drake, Ph.D., CFA Contents 1. Overview... 1 2. The basic model... 1 3. Non-constant growth in dividends... 5 A. Two-stage dividend growth... 5 B. Three-stage

### CHAPTER 20. Financial Options. Chapter Synopsis

CHAPTER 20 Financial Options Chapter Synopsis 20.1 Option Basics A financial option gives its owner the right, but not the obligation, to buy or sell a financial asset at a fixed price on or until a specified

### SOLUTIONS. Practice questions. Multiple Choice

Practice questions Multiple Choice 1. XYZ has \$25,000 of debt outstanding and a book value of equity of \$25,000. The company has 10,000 shares outstanding and a stock price of \$10. If the unlevered beta

### Problems for CFA Level I

Problems for CFA Level I Analysis of Inventories 1. Assume that purchases and unit costs throughout the year were as in Table 1. Inventory at beginning of Quarter I: 400 units at \$20 per unit = \$8,000.

### Virtual Stock Market Game Glossary

Virtual Stock Market Game Glossary American Stock Exchange-AMEX An open auction market similar to the NYSE where buyers and sellers compete in a centralized marketplace. The AMEX typically lists small

### Chapter 14 Assessing Long-Term Debt, Equity, and Capital Structure

I. Capital Structure (definitions) II. MM without Taxes (1958) III. MM with Taxes (1963) Chapter 14 Assessing Long-Term Debt, Equity, and Capital Structure IV. Financial Distress V. Business Risk VI. Financial

### Lecture 15: Final Topics on CAPM

Lecture 15: Final Topics on CAPM Final topics on estimating and using beta: the market risk premium putting it all together Final topics on CAPM: Examples of firm and market risk Shorting Stocks and other

### CHAPTER 5 HOW TO VALUE STOCKS AND BONDS

CHAPTER 5 HOW TO VALUE STOCKS AND BONDS Answers to Concepts Review and Critical Thinking Questions 1. Bond issuers look at outstanding bonds of similar maturity and risk. The yields on such bonds are used

### Cost of Capital and Project Valuation

Cost of Capital and Project Valuation 1 Background Firm organization There are four types: sole proprietorships partnerships limited liability companies corporations Each organizational form has different

### Finance 2 for IBA (30J201) F. Feriozzi Re-sit exam June 18 th, 2012. Part One: Multiple-Choice Questions (45 points)

Finance 2 for IBA (30J201) F. Feriozzi Re-sit exam June 18 th, 2012 Part One: Multiple-Choice Questions (45 points) Question 1 Assume that capital markets are perfect. Which of the following statements

Advantages and disadvantages of investing in the Stock Market There are many benefits to investing in shares and we will explore how this common form of investment can be an effective way to make money.

### Often stock is split to lower the price per share so it is more accessible to investors. The stock split is not taxable.

Reading: Chapter 8 Chapter 8. Stock: Introduction 1. Rights of stockholders 2. Cash dividends 3. Stock dividends 4. The stock split 5. Stock repurchases and liquidations 6. Preferred stock 7. Analysis

TMX TRADING SIMULATOR QUICK GUIDE Reshaping Canada s Equities Trading Landscape OCTOBER 2014 Markets Hours All market data in the simulator is delayed by 15 minutes (except in special situations as the

### Corporate Finance: Final Exam

Corporate Finance: Final Exam Answer all questions and show necessary work. Please be brief. This is an open books, open notes exam. For partial credit, when discounting, please show the discount rate

### Chapter 17 Corporate Capital Structure Foundations (Sections 17.1 and 17.2. Skim section 17.3.)

Chapter 17 Corporate Capital Structure Foundations (Sections 17.1 and 17.2. Skim section 17.3.) The primary focus of the next two chapters will be to examine the debt/equity choice by firms. In particular,

### Econ 330 Exam 1 Name ID Section Number

Econ 330 Exam 1 Name ID Section Number MULTIPLE CHOICE. Choose the one alternative that best completes the statement or answers the question. 1) If during the past decade the average rate of monetary growth

### CHAPTER 21: OPTION VALUATION

CHAPTER 21: OPTION VALUATION 1. Put values also must increase as the volatility of the underlying stock increases. We see this from the parity relation as follows: P = C + PV(X) S 0 + PV(Dividends). Given

### MBA (3rd Sem) 2013-14 MBA/29/FM-302/T/ODD/13-14

Full Marks : 70 MBA/29/FM-302/T/ODD/13-14 2013-14 MBA (3rd Sem) Paper Name : Corporate Finance Paper Code : FM-302 Time : 3 Hours The figures in the right-hand margin indicate marks. Candidates are required

### Part 9. The Basics of Corporate Finance

Part 9. The Basics of Corporate Finance The essence of business is to raise money from investors to fund projects that will return more money to the investors. To do this, there are three financial questions

### Chapter 6. Learning Objectives Principles Used in This Chapter 1. Annuities 2. Perpetuities 3. Complex Cash Flow Streams

Chapter 6 Learning Objectives Principles Used in This Chapter 1. Annuities 2. Perpetuities 3. Complex Cash Flow Streams 1. Distinguish between an ordinary annuity and an annuity due, and calculate present

### MM1 - The value of the firm is independent of its capital structure (the proportion of debt and equity used to finance the firm s operations).

Teaching Note Miller Modigliani Consider an economy for which the Efficient Market Hypothesis holds and in which all financial assets are possibly traded (abusing words we call this The Complete Markets

### The Assumptions and Math Behind WACC and APV Calculations

The Assumptions and Math Behind WACC and APV Calculations Richard Stanton U.C. Berkeley Mark S. Seasholes U.C. Berkeley This Version October 27, 2005 Abstract We outline the math and assumptions behind

### Equity Analysis and Capital Structure. A New Venture s Perspective

Equity Analysis and Capital Structure A New Venture s Perspective 1 Venture s Capital Structure ASSETS Short- term Assets Cash A/R Inventories Long- term Assets Plant and Equipment Intellectual Property

### Chapter 19. Web Extension: Rights Offerings and Zero Coupon Bonds. Rights Offerings

Chapter 19 Web Extension: Rights Offerings and Zero Coupon Bonds T his Web Extension discusses two additional topics in financial restructuring: rights offerings and zero coupon bonds. Rights Offerings

### Returning Cash to the Owners: Dividend Policy

Returning Cash to the Owners: Dividend Policy Aswath Damodaran Aswath Damodaran 1 First Principles Invest in projects that yield a return greater than the minimum acceptable hurdle rate. The hurdle rate

### SAMPLE FACT EXAM (You must score 70% to successfully clear FACT)

SAMPLE FACT EXAM (You must score 70% to successfully clear FACT) 1. What is the present value (PV) of \$100,000 received five years from now, assuming the interest rate is 8% per year? a. \$600,000.00 b.

### Ordinary Shares Presenter Date

1 Ordinary Shares Presenter Date Contents What is a share? What is an ordinary shares? What are dividends? What is the share price? The benefits of ordinary shares Some things to consider when investing

### Key Concepts and Skills Chapter 8 Stock Valuation

Key Concepts and Skills Chapter 8 Stock Valuation Konan Chan Financial Management, Spring 2016 Understand how stock prices depend on future dividends and dividend growth Be able to compute stock prices

### How to Calculate Present Values

How to Calculate Present Values Michael Frantz, 2010-09-22 Present Value What is the Present Value The Present Value is the value today of tomorrow s cash flows. It is based on the fact that a Euro tomorrow

### t = 1 2 3 1. Calculate the implied interest rates and graph the term structure of interest rates. t = 1 2 3 X t = 100 100 100 t = 1 2 3

MØA 155 PROBLEM SET: Summarizing Exercise 1. Present Value [3] You are given the following prices P t today for receiving risk free payments t periods from now. t = 1 2 3 P t = 0.95 0.9 0.85 1. Calculate

### Corporate Finance: Final Exam

Corporate Finance: Final Exam Answer all questions and show necessary work. Please be brief. This is an open books, open notes exam. 1. DayTop Inns is a publicly traded company, with 10 million shares

### Test3. Pessimistic Most Likely Optimistic Total Revenues 30 50 65 Total Costs -25-20 -15

Test3 1. The market value of Charcoal Corporation's common stock is \$20 million, and the market value of its riskfree debt is \$5 million. The beta of the company's common stock is 1.25, and the market

### Figure S9.1 Profit from long position in Problem 9.9

Problem 9.9 Suppose that a European call option to buy a share for \$100.00 costs \$5.00 and is held until maturity. Under what circumstances will the holder of the option make a profit? Under what circumstances

### 1 (a) Calculation of net present value (NPV) Year 1 2 3 4 5 6 \$000 \$000 \$000 \$000 \$000 \$000 Sales revenue 1,600 1,600 1,600 1,600 1,600

Answers Fundamentals Level Skills Module, Paper F9 Financial Management December 2011 Answers 1 (a) Calculation of net present value (NPV) Year 1 2 3 4 5 6 \$000 \$000 \$000 \$000 \$000 \$000 Sales revenue 1,600

### Investments, Chapter 4

Investments, Chapter 4 Answers to Selected Problems 2. An open-end fund has a net asset value of \$10.70 per share. It is sold with a front-end load of 6 percent. What is the offering price? Answer: When

### Chambers and Lacey Modern Corporate Finance

Chambers and Lacey Modern Corporate Finance The Dividend Decision Model Answers 5th Edition Chapter 15 Problem 1. 1. Fill in each blank space with a type of dividend payment. Choose from the following:

### CHAPTER 9 NET PRESENT VALUE AND OTHER INVESTMENT CRITERIA

CHAPTER 9 NET PRESENT VALUE AND OTHER INVESTMENT CRITERIA Basic 1. To calculate the payback period, we need to find the time that the project has recovered its initial investment. After two years, the

FIN 534 Week 4 Quiz 3 (Str) Click Here to Buy the Tutorial http://www.tutorialoutlet.com/fin-534/fin-534-week-4-quiz-3- str/ For more course tutorials visit www.tutorialoutlet.com Which of the following

### Use the table for the questions 18 and 19 below.

Use the table for the questions 18 and 19 below. The following table summarizes prices of various default-free zero-coupon bonds (expressed as a percentage of face value): Maturity (years) 1 3 4 5 Price

### Chapter 7. . 1. component of the convertible can be estimated as 1100-796.15 = 303.85.

Chapter 7 7-1 Income bonds do share some characteristics with preferred stock. The primary difference is that interest paid on income bonds is tax deductible while preferred dividends are not. Income bondholders

### According to Modigliani-Miller Proposition II with corporate taxes, the value of levered equity is:

Homework 2 1. A project has a NPV, assuming all equity financing, of \$1.5 million. To finance the project, debt is issued with associated flotation costs of \$60,000. The flotation costs can be amortized

### Homework Assignment #1: Answer Key

Econ 497 Economics of the Financial Crisis Professor Ickes Spring 2012 Homework Assignment #1: Answer Key 1. Consider a firm that has future payoff.supposethefirm is unlevered, call the firm and its shares

### Margin Requirements & Margin Calls

Margin Requirements & Margin Calls Dr. Patrick Toche References : Zvi Bodie, Alex Kane, Alan J. Marcus. Essentials of Investment. McGraw- Hill Irwin. Chapter 3 of the Bodie-Kane-Marcus textbook will be

### Bank Valuation: Comparable Public Companies & Precedent Transactions

Bank Valuation: Comparable Public Companies & Precedent Transactions Picking a set of comparable companies or precedent transactions for a bank is very similar to what you d do for any other company here

### Options Pricing. This is sometimes referred to as the intrinsic value of the option.

Options Pricing We will use the example of a call option in discussing the pricing issue. Later, we will turn our attention to the Put-Call Parity Relationship. I. Preliminary Material Recall the payoff

### Finance 2 for IBA (30J201) F.Feriozzi Resit exam June 14 th, 2011. Part One: Multiple-Choice Questions (45 points)

Question 1 Finance 2 for IBA (30J201) F.Feriozzi Resit exam June 14 th, 2011 Part One: Multiple-Choice Questions (45 points) Assume that financial markets are perfect and that the market value of a levered

### Business 2019. Fundamentals of Finance, Chapter 6 Solution to Selected Problems

Business 209 Fundamentals of Finance, Chapter 6 Solution to Selected Problems 8. Calculating Annuity Values You want to have \$50,000 in your savings account five years from now, and you re prepared to

### Module 8 Investing in stocks

1. Overview Module 8 Investing in stocks Prepared by Pamela Peterson Drake, Ph.D., CFA When an investor buys a share of common stock, it is reasonable to expect that what an investor is willing to pay

### MBA 8130 FOUNDATIONS OF CORPORATION FINANCE FINAL EXAM VERSION A

MBA 8130 FOUNDATIONS OF CORPORATION FINANCE FINAL EXAM VERSION A Fall Semester 2004 Name: Class: Day/Time/Instructor:. Read the following directions very carefully. Failure to follow these directions will

### Problem Set 1 Foundations of Financial Markets Instructor: Erin Smith Summer 2011 Due date: Beginning of class, May 31

Problem Set Foundations of Financial Markets Instructor: Erin Smith Summer 20 Due date: Beginning of class, May 3. Suppose the debt holders of a cosmetics firm hold debt with a face value of \$500,000.

### Chapter 5 Valuing Stocks

Chapter 5 Valuing Stocks MULTIPLE CHOICE 1. The first public sale of company stock to outside investors is called a/an a. seasoned equity offering. b. shareholders meeting. c. initial public offering.

### Chapter 2 An Introduction to Forwards and Options

Chapter 2 An Introduction to Forwards and Options Question 2.1. The payoff diagram of the stock is just a graph of the stock price as a function of the stock price: In order to obtain the profit diagram

### Finance 350: Problem Set 6 Alternative Solutions

Finance 350: Problem Set 6 Alternative Solutions Note: Where appropriate, the final answer for each problem is given in bold italics for those not interested in the discussion of the solution. I. Formulas

### Financial Planning and Growth. Background

Financial Planning and Growth (Text reference: Chapter 26) background detailed examples factors affecting growth AFM 271 - Financial Planning and Growth Slide 1 Background financial planning may be thought

### The cost of capital. A reading prepared by Pamela Peterson Drake. 1. Introduction

The cost of capital A reading prepared by Pamela Peterson Drake O U T L I N E 1. Introduction... 1 2. Determining the proportions of each source of capital that will be raised... 3 3. Estimating the marginal

### The following information is available on Toy Inc. There are 100 shares outstanding, each selling for \$25

The following information is available on Toy Inc. There are 100 shares outstanding, each selling for \$25 Corporate tax 34.00% Interest rate 4.25% Retention ratio 65.00% Case A. Toy Inc. Zero growth in

### Bond Price Arithmetic

1 Bond Price Arithmetic The purpose of this chapter is: To review the basics of the time value of money. This involves reviewing discounting guaranteed future cash flows at annual, semiannual and continuously

### Chapter 9 Valuing Stocks

Chapter 9 Valuing Stocks 9-1. Assume Evco, Inc., has a current price of \$50 and will pay a \$2 dividend in one year, and its equity cost of capital is 15%. What price must you expect it to sell for right

### Accrual Accounting and Valuation: Pricing Earnings

Security, Third Chapter Six LINKS Accrual Accounting and : Pricing Earnings Link to previous chapter Chapter 5 showed how to price book values in the balance sheet and calculate intrinsic price-to-book

### Chapter 6 Contents. Principles Used in Chapter 6 Principle 1: Money Has a Time Value.

Chapter 6 The Time Value of Money: Annuities and Other Topics Chapter 6 Contents Learning Objectives 1. Distinguish between an ordinary annuity and an annuity due, and calculate present and future values

### CORPORATE FINANCE (28C00100)

IMPORTANT The submitted exercise answers will be accepted only for those students that have successfully registered for the course lectures. (Please check the list on the course website to make sure your

### Margin Requirements & Margin Calls

Margin Requirements & Margin Calls Dr. Patrick Toche References : Zvi Bodie, Alex Kane, Alan J. Marcus. Essentials of Investment. McGraw- Hill Irwin. Chapter 3 of the Bodie-Kane-Marcus textbook will be

### There are two types of returns that an investor can expect to earn from an investment.

Benefits of investing in the Stock Market There are many benefits to investing in shares and we will explore how this common form of investment can be an effective way to make money. We will discuss some

### An explanation of some basic concepts for Ratios and Analysis for Shares

An explanation of some basic concepts for Ratios and Analysis for Shares NPAT or Net Profits After Tax Net Profit after Tax (NPAT) is one of the more important figures that a company makes public. NPAT

### CHAPTER 20: OPTIONS MARKETS: INTRODUCTION

CHAPTER 20: OPTIONS MARKETS: INTRODUCTION PROBLEM SETS 1. Options provide numerous opportunities to modify the risk profile of a portfolio. The simplest example of an option strategy that increases risk

### CHAPTER 8 INTEREST RATES AND BOND VALUATION

CHAPTER 8 INTEREST RATES AND BOND VALUATION Solutions to Questions and Problems 1. The price of a pure discount (zero coupon) bond is the present value of the par value. Remember, even though there are

### Goals. Stocks. Common Stock. 1. Voting and Control. Stock basics Historical stock performance

Goals Stocks Stock basics Historical stock performance Economics 71a: Spring 2007 Mayo, chapter 10 Lecture notes 4.1 Common Stock Ownership of piece of a firm Key parts Voting rights (control) Dividends

### Treasury Bond Futures

Treasury Bond Futures Concepts and Buzzwords Basic Futures Contract Futures vs. Forward Delivery Options Reading Veronesi, Chapters 6 and 11 Tuckman, Chapter 14 Underlying asset, marking-to-market, convergence

### Chapter 3: Commodity Forwards and Futures

Chapter 3: Commodity Forwards and Futures In the previous chapter we study financial forward and futures contracts and we concluded that are all alike. Each commodity forward, however, has some unique