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Questions and Answers of
Corporate Finance
The preferred shares of Chinook Electrical Co. have a par value of $100 and a dividend rate of 8 percent. The current price is $110. If the risk-free rate is 2 percent, what is the risk premium
State the relationship that the required rate of return, the expected growth rate, and expected dividends have with the market share price, according to the constant growth DDM.
List three reasons why one firm may have a higher leading P/E ratio than a comparable firm.
Barchuk Mining Inc.'s share is currently selling for $150. The current dividend is $10 and the required rate of return is 10 percent. What is the expected dividend growth rate?
1. Calculate the capital gain return for a stock that was purchased at $25 one year ago and is now worth $26. It paid four quarterly dividends of $1 per share each throughout the year.a. 4 percentb.
At the beginning of the year you bought 250 shares of Lycel Ltd. at $82 each. During the year you received dividends of $750. At the end of the year the stock is trading for $87 and you decide to
At the beginning of last year you invested $30,000 in 1,500 shares of Goran Products Inc. During the year you received $4,500 as a dividend. At the end of the year you sold the shares for $18 each.
Data on the daily performance of Carraway Corporation have been partially completed in the following table. Fill in the missingdata.
You have observed the following returns: 18 percent, −15 percent, 8 percent, 6 percent, and −12 percent.a. Calculate the geometric mean return.b. Calculate the arithmetic mean return.c. Calculate
You observed the following daily returns for two companies, ABC and DEF.a. Calculate the following for each stock:i. Five-day cumulative returnii. Geometric mean daily returniii. Arithmetic mean
FinCorp Inc. is exploring different portfolio allocations between two stocks. Complete the following table.
Your portfolio consists of two securities: Transcomm and MidCap. The expected return for Transcomm is 15 percent, while for MidCap it is 5 percent. The standard deviation is 6 percent for Transcomm
FinCorp Inc. is exploring the risk of different portfolio allocations between two stocks. Complete the following table.
You have the following return data on six stocks: align="center">
Calculate the annual arithmetic mean and geometric mean return on the following security, and state which method is more appropriate for the situation: purchase price = $30; first-year dividend = $5;
An investor owns a portfolio of $45,000 that contains $15,000 in stock A, with an expected return of 12 percent; $10,000 in bonds, with an expected return of 8 percent; and the rest in stock B,
On January 1, FinCorp Inc. published the following forecasts for the economy:During the year you observed quarterly returns of 2 percent, −5 percent, 3 percent, and 8 percent.a. Calculate the ex
On January 1, FinCorp Inc. completed its analysis of the prospects for the Geriatric Toy Store and concluded that there was a 15-percent chance the stock price would be $150 in one year and an
FinCorp Inc. is interested in the tradeoff between investing in two stocks, ABC and DEF. The expected return on ABC is 6 percent and on DEF is 18 percent.a. Graph the relationship between the
You wish to combine two stocks, Encor and Maestro, into a portfolio with an expected return of 16 percent. The expected return of Encor is 2 percent with a standard deviation of 1 percent. The
You wish to combine two stocks, Peledon and Mexcor, into a portfolio with a standard deviation of 6 percent. The expected return of Peledon is 2 percent with a standard deviation of 1 percent. The
Calculate the covariance and correlation coefficient between the two securities of a portfolio that has 40 percent in stock X (with an expected return of 40 percent and a standard deviation of 12
Calculate the correlation coefficient (pAB) for the followingsituation:
An investor purchased 500 shares of stock A at $22 per share and 1,000 shares of stock B at $30 per share one year ago. Stock A and stock B paid quarterly dividends of $2 per share and $1.50 per
In Practice Problem 37, the correlation coefficient pAB is 0.3 and the standard deviations of stock A and stock B are 20 percent and 15 percent, respectively. Calculate the standard deviation of the
FinCorp Inc. is exploring the risk of different portfolio allocations between two stocks. Complete the followingtable.
You are interested in using short selling to increase the possible returns from your portfolio.19 you have short sold $200 of ABC and invested $1,200 in DEF. The following data are available on ABC
Using the following information, calculate the expected return and the standard deviation ofABC.
Five years ago, your dad bought 250 shares of ABC for $6 each and 300 shares of DEF for $7.50 each. He has now given you all his shares, when both stocks are trading at $8. What are the weights of
The expected return of ABC is 18 percent, and the expected return of DEF is 23 percent. Their standard deviations are 12 percent and 20 percent, respectively. If a portfolio is composed of 35
The expected return of ABC is 15 percent, and the expected return of DEF is 23 percent. Their standard deviations are 10 percent and 23 percent, respectively, and the correlation coefficient
Using the following information, calculate the expected return and standard deviation of a portfolio with 50 percent in ABC and 50 percent in DEF. Then calculate the expected return and standard
You are interested in two stocks: Alcon and Beldon. Both stocks have an expected return of 8 percent. The standard deviation of Alcon is 3 percent, and the standard deviation of Beldon is 5 percent.
You are interested in two stocks: Alcon and Beldon. Both stocks have a standard deviation of 8 percent. The expected return of Alcon is 10 percent, and the expected return of Beldon is 20 percent.
FinCorp Inc. wishes to examine the effect of correlation on the efficient frontier that can be created by investing in ABC and FGI. The expected return of ABC is 6 percent, with a standard deviation
You have observed the following monthly returns for ABC and DEF.a. Graph the relationship between the weight in ABC and the portfolio returns (restrict all weights to be greater than or equal to
FinCorp Inc. wants to examine a “real” efficient frontier involving Research in Motion (RIM.TO) and the Royal Bank (RY.TO).a. Using monthly data for these two companies from January 2011 to
Richards & Co. Analysts has recently published a study claiming that the benefits to diversification are constant. In other words, adding one more stock to a three-stock portfolio will have the
Explain when to use the arithmetic mean and when to use the geometric mean to describe a return series.
State three of the most important assumptions underlying Markowitz’s notion of efficient portfolios.
FinCorp Inc. conducted an extensive analysis of the economy and concluded that the probability of a recession next year is 35 percent, the probability of a boom is 45 percent, and the probability of
Calculate the ex post standard deviation of returns for the following: 50 percent, 30 percent, 20 percent, 35 percent, and 55 percent.
As an analyst for FinCorp Inc., you are responsible for many firms, including ADFC. Currently you have a “hold” recommendation on ADFC.18 the current price of ADFC is $140. You have conducted an
FinCorp Inc. has been using the services of San Bernadino Brokerage Company (SBBC) for the past six months. SBBC has informed FinCorp Inc. that the geometric mean monthly return was 7 percent and
To achieve a zero standard deviation for a portfolio, calculate the weights of stock A and stock B in Practice Problem 35, assuming the correlation coefficient is−1.
1. What is the expected return and standard deviation of a portfolio consisting of $2,500 invested in a risk-free asset with an 8-percent rate of return, and $7,500 invested in a risky security with
TrenStar Inc. is planning to offer several investments to investors and is in the process of designing its marketing materials. Each investment’s value in the future will be related to the
For the following decisions, indicate if they are consistent with risk aversion or risk loving.a. Buying a lottery ticketb. Buying fire insurance on your housec. Jaywalking on St. Catherine Street in
TrenStar Inc. has five clients with different risk and return preferences. The market portfolio has an expected return of 10 percent, with a standard deviation of 7 percent. The risk-free rate is 6
A lawyer prosecuting a lawsuit against The Brokerage Company has hired you to conduct an investigation into the advice the company has been giving its clients. You observe that clients have invested
Three of your friends (Jean, Evan, and Lee) are having an argument about investments and, because you have taken this course, have come to you for advice. The possible investments are set out in the
State three of the assumptions underlying the capital asset pricing model (CAPM).
Calculate the missing values for the following five efficient portfolios. The expected return on the market is 8 percent, with a standard deviation of 5 percent, and the risk-free rate is 2percent.
Which of the portfolios identified in Practice Problem 18 are undervalued, correctly valued, and overvalued?
Obtain monthly returns for RIM, the Royal Bank of Canada, and the S&P/TSX Composite Index for January to December 2011. (Note: Monthly historical prices, adjusted for dividends, are available
TrenStar Inc. obtained the following incomplete information from ABC Company and has given you the task of completing thetable.
Stock FM has a standard deviation of 25 percent and a correlation coefficient of 0.6 with market returns. The standard deviation of market return is 20 percent, and the expected return is 16
Estimate the beta of the following stock: market risk premium = 25 percent, RF = 6 percent, P0 = $10, expected dividend at the end of the year = $2.50, P1 = $12.50. Assume the market is in
You are following five different stocks and need to issue a recommendation (buy, hold, or sell) to your customers. The market return is 7 percent, with a standard deviation of 4 percent. The
Which security, A, B, or C, will provide the greatest return per unit of risk when combined with the risk-free asset with a 5 percent rate of return?ERA = 20 percent, σA= 5 percentERB= 25 percent,
The current price of a stock is $20. It is expected to rise to $22 in one year and pay an annual dividend of $0.50 during the year. The RF is 5 percent; the ERM is 9 percent, and the stock’s beta
Suppose you have a portfolio that has $100 in stock A with a beta of 0.9, $400 in stock B with a beta of 1.2, and $300 in the risk-free asset. You have another $200 to invest. You wish to achieve a
Portfolio A has a beta of 1.2. Portfolio B has a beta of 0.9. RF is 5 percent and the market risk premium is 3 percent. Calculate the required rate of return of A and B. If the expected rate of
Your client is confused. He owns shares in the Whistler Snow-Making Company (WSMC) and wants you to explain your recommendation. Both of you agree on the following: WSMC has an expected return of 12
Determine the beta of QTax based on the following information:• Market expected return is 8 percent; standard deviation is 3 percent• Risk-free rate is 3 percent• Current dividend is $4.50•
You are forecasting the returns for PVC Company, a plumbing supply company, which pays a current dividend of $10. The dividend is expected to grow at a rate of 3 percent. You have identified two
Stock A has a beta of 1.8 and an expected return of 20 percent. Stock B has a beta of 1.2 and an expected return of 14 percent. If CAPM holds, what should the return on the market and the risk-free
You invested $100,000 in the following stocks:If the risk-free rate is 5 percent and the market risk premium is 8 percent, what is the expected return on yourportfolio?
State Roll’s critique concerning the CAPM.
Jackie borrowed $500 at the risk-free rate of 8 percent. She invested the borrowed money and her own money of $1,500 in a portfolio with a 15-percent rate of return and a 30-percent standard
Today, you observe the market portfolio has an expected return of 13 percent, with a standard deviation of 7 percent. The risk-free rate is 2 percent. If only the risk-free rate increases, will the
What is the beta of the following?a. Risk-free asset b. Market portfolio
You are valuing the Vancouver Rain-Making Company (VRM) and need to calculate the following:a. Required rate of return b. Price of VRM based on the current dividend of $1.25 and a dividend growth
Which of the following are examples of systematic (market) risks? Which are examples of unsystematic (unique) risks?a. Inflation riskb. CFO’s fraudulent activitiesc. Changes in interest ratesd.
The expected return on stock A is 12 percent. The expected return on stock B is 8 percent. Assuming CAPM holds, if the beta of stock A is higher than the beta of stock B by 0.2, what should the risk
Four risk factors, F1, F2, F3, and F4, have been identified to determine the required rate of return, as follows: ER I = a0 + bi1F1 + bi2F2 + bi3F3 + bi4F4, where a0 is the expected return on a
1. Which of the following statements about due diligence is false?a. It is designed to ensure the legitimacy of securities offered to the public.b. It is designed to ensure that there is no
In late 2006, Canada Post began issuing “permanent” stamps. Purchased at the current first-class letter rate ($0.51 at the time), these stamps may be used indefinitely even if the price of stamps
If the interest rate for non-fraudulent bonds is 12 percent, and chances are that one out of five bonds is fraudulent, what is the interest rate based on a one-year investment and assuming the market
Describe limit orders and market orders.
Describe four different types of public offerings.
Why is IPO under-pricing less severe in Canada than it is in the United States? What causes under-pricing?
If the IPO for Finns’ Fridges goes well, the contract with the investment bankers has a “green-shoe” clause that permits them to sell 15 percent more shares than originally planned. These
Niagara Vineyards and Winery needs to raise $2 million in new equity.a. If the costs of the share issue are estimated to be 7 percent of gross proceeds, how large does the offering need to be? How
Winnipeg Water & Gas Co. recently issued a series of bonds; the gross proceeds were $25 million. The underwriting fees were 1.8 percent, and additional issuance costs were $100,000. How much did the
Lansdowne Ltd. needs to raise $10 million and intends to sell additional shares. The company’s existing shares are trading on the Toronto Stock Exchange for $28. However, the investment dealer
The little company you and your friend started in your parents’ garage has grown so much that you are now ready to take the firm public. In your discussions with one of the top investment dealers,
Pills4u.com and Drugs-R-Us Co. both sell prescription medications over the Internet. Each company has recently announced an IPO at $15 per share. At this price, one of the companies is undervalued by
Sous-Chef Inc. is an employment agency that specializes in the restaurant industry. The company intends to sell 800,000 shares in its IPO and the investment dealers working on the issue have been
State three types of distributions of securities determined by the OSC.
Describe three major categories of exempt purchasers.
Describe the basic stages of IPOs.
What is the “quiet period”?
What is a “road show”?
Back in their college days, David and Douglas Finn started renting refrigerators to other students for use in their dormitory rooms. Over the years, Finns’ Fridges has grown and financed its
1. Which of the following statements about debt is incorrect?a. Interest payments and principal payments are fixed commitments.b. Interest payments are not tax deductible.c. Bond holders are paid a
Jackie would like to borrow $150,000 to expand her small business, but needs to understand the impact of the 8-percent interest payments. Last year, her company did not pay any interest and had total
The cost (interest rate) of the loan Jackie needs for her business is 8 percent per year. Given that the company’s net income will fall by less than the amount of interest paid, is Jackie correct
Michael M. specializes in buying high-risk commercial paper; his required return on these investments is 12 percent per year. He is considering buying some 60-day paper from Collingwood Corp. with a
Collingwood Corp. is able to issue its 60-day commercial paper at par with a promised yield of 9 percent per year. The current T-bill yield is 6 percent per year (or 1 percent for the 60-day period),
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