Exam 10: Valuation Concepts

Assume that you would like to purchase 100 shares of preferred stock that pays an annual dividend of $6 per share.However, you have limited resources now, so you cannot afford the purchase price.In fact, the best that you can do now is to invest your money in a bank account earning a simple interest rate of 6 percent, but where interest is compounded daily (assume a 365-day year).Because the preferred stock is riskier, it has a required annual rate of return of 12 percent (assume that this rate will remain constant over the next 5 years).For you to be able to purchase this stock at the end of 5 years, how much must you deposit in your bank account today, at t = 0?

Which of the following statements is most correct?

If interest rates fall from 8 percent to 7 percent, which of the following bonds will have the largest percentage increase in its value?

The total return on a share of stock refers to the dividend yield less any commissions paid when the stock is purchased and sold.

All else equal, a higher required rate of return on a financial asset results in a higher price for that asset.

You are offered a $1,000 par value bond which has a stepped-up coupon interest rate.The annual coupon rate is 10 percent coupon, payable semiannually ($50 each 6 months) for the first 15 years, and then the annual coupon increases to 13 percent, also payable semiannually, for the next 15 years.The first interest payment will be made 6 months from today, and the $1,000 principal amount will be returned at the end of Year 30.You currently have savings in an account which is earning a 9 percent simple rate, but with quarterly compounding; this is your opportunity cost for purposes of analyzing the bond.What is the value of the bond to you today?

NYC Company has decided to make a major investment.The investment will require a substantial early cash outflow, and inflows will be relatively late.As a result, it is expected that the impact on the firm's earnings for the first 2 years will cause a negative growth of 5 percent annually.Further, it is anticipated that the firm will then experience 2 years of zero growth, after which it will begin a positive annual sustainable growth of 6 percent.If the firm's required return is 10 percent and its last dividend, D₀, was $2 per share, what should be the current price per share?

Due to a number of lawsuits related to toxic wastes, a major chemical manufacturer has recently experienced a market reevaluation.The firm has a bond issue outstanding with 15 years to maturity and a coupon rate of 8 percent, with interest being paid semiannually.The required simple rate on this debt has now risen to 16 percent.What is the current value of this bond?

Trickle Corporation's 12 percent coupon rate, semiannual payment, $1,000 par value bonds mature in 25 years.The bonds currently sell for $1,230.51 in the market, and the yield curve is flat.Assuming that the yield curve is expected to remain flat, what is Trickle's most likely before-tax cost of debt if it issues new bonds today?

A share of common stock has a current price of $82.50 and is expected to grow at a constant rate of 10 percent.If you require a 14 percent rate of return, what is the current dividend on this stock?

Your company paid a dividend of $2.00 last year.The growth rate is expected to be 4 percent for 1 year, 5 percent the next year, then 6 percent for the following year, and then the growth rate is expected to be a constant 7 percent thereafter.The required rate of return on equity (r_s) is 10 percent.What is the current price of the common stock?

Assume that you are considering the purchase of a $1,000 par value bond that pays interest of $70 each six months and has 10 years to go before it matures.If you buy this bond, you expect to hold it for 5 years and then to sell it in the market.You (and other investors) currently require a simple annual rate of 16 percent, but you expect the market to require a rate of only 12 percent when you sell the bond due to a general decline in interest rates.How much should you be willing to pay for this bond?

Which of the following will generally result in a higher price for a bond?

A newly issued bond generally sells at, or very close to, its par value.

The coupon rate is used to determine the size of the periodic interest payments made to the purchaser of the bond and varies directly with changes in the market interest rate over the life of the bond.

Suppose you are willing to pay $30 today for a share of stock which you expect to sell at the end of one year for $32.If you require an annual rate of return of 12 percent, what must be the amount of the annual dividend which you expect to receive at the end of Year 1?

The last dividend on Spirex Corporation's common stock was $4.00, and the expected growth rate is 10 percent.If you require a rate of return of 20 percent, what is the highest price you should be willing to pay for this stock?

The Jones Company has decided to undertake a large project.Consequently, there is a need for additional funds.The financial manager plans to issue preferred stock with a perpetual annual dividend of $5 per share and a par value of $30.If the required return on this stock is currently 20 percent, what should be the stock's market value?

A premium bond is a bond whose par value is greater than the market value of that bond.

Semiannual payment bonds with the same risk (Aaa) and maturity (20 years) as your company's bonds have a simple (not effective annual rate) yield of 9 percent.Your company's treasurer is thinking of issuing at par some $1,000 par value, 20-year, quarterly payment bonds.She has asked you to determine what quarterly interest payment, in dollars, the company would have to set in order to provide the same effective annual rate (EAR) as those on the 20-year, semiannual payment bonds.What would the quarterly interest payment be, in dollars?