CLASS / COURSE: Corporate Finance
Corporate Finance Problems: price of bonds, return on investing in bonds, convertible bond, price of stock, return on investment, risk and expected return, pricing of assets, CAPM, merger, beta, diminishing marginal utility, efficient market
1. Price a 3% coupon, $1000 face value bond with 3 years to maturity if the appropriate discount rates over the next three years are 12%, 10% and 9% respectively. Show in dollars and percent what you make if you hold the bond for two years.
2. Price a stock that pays an annual dividend of $2 at the end of each of the next three years, after which it pays a $1 dividend forever. Assume that the appropriate discount rate is 12%. Show your return in percent and cash if you hold the stock for four years.
3. Would you be willing to buy an asset that cost 500 today if it paid cash flows of 200 one year from now, 100 three years from now and 500 five years from now? Assume the appropriate interest rate is 8%. Prove your answer by showing what you would have in the bank after five years if you put your money there and what you would have after five years if you bought the asset.
4. The stock of ABC Corp. rose 10% yesterday, while the rest of the market had no change. The only news related to the company was that they announced that the company lost $100million in the first quarter of the year. Given the efficient market's belief that stock prices respond to news, explain this apparently contradictory price change.
5. Please see attached file. Question is given in attacted file.
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7. After one lesson in your mail order course "How to Use CAPM in Ten Easy Lessons", you decide to reduce the risk of your investment portfolio by selling your shares in a large, diversified mutual fund (which had a beta of 1 and was your only investment) and put all of the money into one stock with a beta of 0.95. Have you reduced your risk? Explain.
8. Corporate bonds often include a covenant that prevents the firm from merging with a another firm without bondholder approval. Relate the covenant to the stockholder-bondholder conflict, defining this 'conflict' along the way. Under what circumstances might the bondholders give their permission to merge without an increase in their rate of return?
9. Suppose you find a stock with and estimated beta of 1.5, and your broker tells you it is expected to pay 15% next year. Given a risk free rate of 4% and if the market portfolio is expected to pay 14%, what should you do to make excess profits? What do you expect the stock price to do when other investors discover what you found? What things do you need to know or must be true before you proceed?
10. True, false, explain. Normal people prefer 100 with certainty to a risky game that has an equal chance of 90 or 110 because, assuming diminishing marginal utility, you aren't actually better off when you win the game so you might as well take the guaranteed 100.
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SUBJECTS / CATEGORIES:
2. Financial Management
4. Corporate Finance
5. Investment and Portfolio Management
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