Questions and Answers of Corporate Finance 5th Edition

When Microsoft launched its Xbox console in 2001 the NPV from the project was negative. However, the company proceeded with the project. Why do you think this was?
A retail clothing firm is evaluating the development of a new range of all-weather coats. These coats contain an internal solar battery to provide heating whenever the garment is worn. The solar
A retail clothing firm is evaluating the development of a new range of all-weather coats. These coats contain an internal solar battery to provide heating whenever the garment is worn. The solar
L.J.’s Toys has just purchased a £200,000 machine to produce toy cars. The machine will be fully depreciated using 20 per cent reducing balances over its 5-year economic life. Each toy sells for
Your company is deciding whether to invest in a new machine. The new machine will increase cash flow by €280,000 per year. You believe the technology used in the machine has a 10-year life; in
Ang Electronics has developed a new DVDR. If the DVDR is successful, the present value of the pay-off (when the product is brought to market) is £20 million. If the DVDR fails, the present value of
Global Investments has hired you as a financial consultant to advise them on whether to enter the shoe market, an investment opportunity which has an initial outlay of £35 million. During a Board
B&B has a new baby powder ready to market. If the firm goes directly to the market with the product, there is only a 55 per cent chance of success. However, the firm can conduct customer segment
You are considering investing in a company that cultivates abalone for sale to local restaurants. Use the following information:The discount rate for the company is 15 per cent, the initial
You have been given the following figures to assess the viability of a new portable hospital scanner. It is expected that you will be able to capture 10 per cent of the total market of 1.1 million
You are considering a new product launch. The project will cost £460,000, have a 4-year life, and have no salvage value; depreciation is 20 per cent reducing balance. Sales are projected at 150
McGilla Golf has decided to sell a new line of golf clubs. The clubs will sell for £700 per set and have a variable cost of £320 per set. The company has spent £150,000 for a marketing study that
We are examining a new project. We expect to sell 7,000 units per year at €60 net cash flow apiece for the next 10 years. In other words, the annual operating cash flow is projected to be €60 ×
Young screenwriter Carl Draper has just finished his first script. It has action, drama and humour, and he thinks it will be a blockbuster. He takes the script to every film studio in town and tries
Samuelson GmbH has just purchased a €600,000 machine to produce calculators. The machine will be fully depreciated using the 20 per cent reducing balance method over its economic life of 5 years
Petrofac Ltd, the international provider of oil and gas building facilities, has entered into an agreement with a number of Kenyan oil exploration firms to support development of oil wells in the
Allied Products is considering a new product launch. The firm expects to have an annual operating cash flow of AED60 million for the next 6 years. Allied Products uses a discount rate of 14 per cent
Applied Nanotech is thinking about introducing a new surface cleaning machine. The marketing department has come up with the estimate that Applied Nanotech can sell 10 units per year at £0.3 million
You are the financial analyst for a tennis racket manufacturer. The company is considering using a graphite-like material in its tennis rackets. The company has estimated the information in the
This question takes a step back from the quantitative analysis and makes you think about how you would manage a capital budgeting project in a firm. You have just graduated from university and taken
Consider a project to supply Italy with 40,000 tons of machine screws annually for automobile production. You will need an initial €1,500,000 investment in threading equipment to get the project
In Problem 26, suppose you are confident about your own projections, but you are a little unsure about Italy’s actual machine screw requirement. What is the sensitivity of the project OCF to
Consider the following project for Hand Clapper. The company is considering a 4-year project to manufacture clap-command garage door openers. This project requires an initial investment of €10
M.V.P. Games has hired you to perform a feasibility study of a new video game that requires a $9 million initial investment. M.V.P. expects a total annual operating cash flow of $1,750,000 for the
The Wheatchopper Company is considering the purchase of a new harvester. Wheatchopper has hired you to determine the break-even purchase price in terms of present value of the harvester. This
Unmondo SpA is proposing to replace its old DVD stamping machinery with more modern equipment geared towards the blu-ray technology. The new machinery costs €9 million (the existing machinery has
You own an unused gold mine that will cost $800,000 to reopen. If you open the mine, you expect to be able to extract 1,000 ounces of gold a year for each of 3 years. After that, the deposit will be
Grace and Danger plc is introducing a new product this year. If its luminous golf balls (with integrated beeper) are a success, the firm expects to be able to sell 50,000 units a year at a price of
1. You are the financial analyst for Weir Group plc, the global engineering firm. The company is considering the development of a new slurry pump in its existing products.The pump is expected to
The executives of the cement company have decided to go ahead with the investment appraisal and have retained you for the more detailed analysis. In any capital budgeting investigation, you need an
What is meant by the term ‘return’? What is the difference between monetary returns and percentage returns? Do monetary or percentage returns matter more to investors?Provide an example to
In what situations would you use a holding period return or a percentage return? Are the two measures the same?
Why would you wish to present return distributions? How do you think the distributions would change when you incorporated inflation into the return statistics?
What do we mean by risk? In long-term investments, equities tend to give higher returns than bonds. Why then, do all investors not invest in equities? Are such investors irrational?
Given that the Venezuela Caracas Stock Exchange was up by over 80 per cent for 2011, why didn’t all investors put their money in Venezuela?
Given that the Cyprus stock exchange was down 75.8 per cent in 2011, why did investors continue to hold shares in Cyprus? Why didn’t they sell out before the market declined so sharply?
Critically evaluate the following statement: ‘Investing in the stock market is just like gambling. It has no social value and investors do it purely to give them a thrill.’
Calculating Returns Suppose you bought an 8 per cent coupon bond one year ago for €1,200. The bond sells for €1,074 today.(a) Assuming a €1,000 face value, what was your total euro return on
The returns of Lockhart Group plc and TJC plc are given below. Using the following returns, calculate the average returns, the variances, and the standard deviations for Lockhart Group and TJC:
Refer to Table 9.1 in the text and look at the period from 2005 through 2012.(a) Calculate the arithmetic average returns for each country’s stock market over this period.(b) Calculate the standard
You have observed the following prices for British Auto, the luxury car maker, for a number of years. Jan 2006: €26.87; Jan 2007: €35.19; Jan 2008: €32.17; Jan 2009: €37.23; Jan 2010:
In Problem 15, suppose the average inflation rate over this period was 4.2 per cent and the average T-bill rate over the period was 5.1 per cent.(a) What was the average real return on British
A firm had the following share prices: Jan 2010: £1.12; Jan 2011:£1.34; Jan 2012: £1.68; Jan 2013: £1.8825; Jan 2014: £2.18; Jan 2015: £2.07. The equity paid no dividends. What was the holding
Refer back to Table 9.3. What range of risk premiums would you expect to see 68 per cent of the time for Europe? What about 95 per cent of the time? Table 9.3 Worldwide Risk Premiums Relative to
Over a 30-year period an asset had an arithmetic return of 12 per cent and a geometric return of 10 per cent. Using Blume’s formula, what is your best estimate of the future annual returns over 5
An equity has had returns of 10 per cent, 15 per cent, 20 per cent, –12 per cent, 2 per cent, and –5 per cent over the last 6 years. What are its arithmetic and geometric returns?
Arithmetic and Geometric Returns An equity has had the following year-end prices and dividends:What are the arithmetic and geometric returns? Year 1 2 3 456 Price () 43.12 49.07 51.19 47.24 56.09
You bought one of Bergen Manufacturing’s 8 per cent coupon bonds one year ago for NKr1,028.50. These bonds make annual payments and mature 6 years from now. Suppose you decide to sell your bonds
Suppose the returns on your company are normally distributed.The historical average share price return for your firm is 5.8 per cent with a standard deviation of 9.3 per cent. What is the approximate
Assume that the returns from holding French shares are normally distributed. From Table 9.2, what is the approximate normal distribution probability that your money will double in value in a single
Suppose the mean returns on long-term government bonds are 5.8 per cent, and are normally distributed with a standard deviation of 9.3 per cent.Based on the historical record, what is the approximate
The inflation rates for the UK have been as follows, 2015: 4.8 per cent; 2014: 4.8 per cent; 2013: 2.4 per cent; 2012: 0.9 per cent; and in 2011: 4.0 per cent. Calculate the average real return of
Go to the Yahoo! Finance website and look up any FTSE 100 company of your choice. Click on the Historical Prices link. Find its closing price yesterday and its closing price exactly one year earlier.
The monthly prices for Banco Ruida are as follows:Assume you have €1 million invested in the bank. Calculate the analytical VaR for Banco Ruida using a monthly holding period and 1 per cent loss
You have invested in the UK stock market. Details on the performance of the market are given below:1. Calculate the average arithmetic returns, the variances, and the standard deviations for the UK.
1. Calculating Yields Download the historical monthly share prices for Alcatel-Lucent from Yahoo! Finance. Find the closing share price for yesterday and for exactly 2 years ago.The dividends should
What are the main characteristics of individual security returns?Provide a definition of each characteristic and why it is important.
Explain what is meant by correlation and how it is used to measure the relationship between the returns on two securities. How is correlation related to variance and covariance? Use mathematical
Why does naïve diversification reduce the risk of a portfolio?What benefits does naïve diversification bring to international investment strategies?
What is a minimum variance portfolio? In a world with only two assets, is it possible to have two portfolios with the same risk but different expected return? Explain your answer using a practical
In a portfolio of many securities, all having positive correlation with each other, is it possible for the minimum variance portfolio to have zero risk? What happens to the efficient frontier when a
Assume that every asset has the same expected return and variance.Furthermore, all assets have the same covariance with each other. As the number of assets in the portfolio grows, which becomes more
Explain what is meant by an optimal portfolio. What are the conditions that must exist for there to be only one optimal portfolio? Do you think these conditions are likely to persist in the real
Your company is following two stocks, ABC plc and XYZ plc, and your manager tells you the following: ‘The shares of ABC plc have traded close to £15 for most of the past 4 years, and because of
Is it possible that a risky asset could have a beta of zero? Explain. Based on the CAPM, what is the expected return on such an asset? Is it possible that a risky asset could have a negative beta?
Define the market portfolio and provide a brief overview of Roll’s Critique. Do you agree or disagree with it? Why?
Explain what is meant by the CCAPM and the HCAPM. Why do you think these models are not popular with practitioners? Give an overview of the empirical evidence concerning these models and their
Classify the following events as mostly systematic or mostly unsystematic:(a) The Bank of England’s base rate increases unexpectedly.(b) A company renegotiates its bank debt after breaching a
Explain what is meant by short selling. When is short selling profitable?
A broker has advised you not to invest in technology stocks because they have high standard deviations. Is the broker’s advice sound for a risk-averse investor like yourself?Why or why not?
An equity has a beta of 0.9 and an expected return of 9 per cent. A risk-free asset currently earns 2 per cent.(a) What is the expected return on a portfolio that is equally invested in the two
Assume that the risk-free rate is 3 per cent and the expected return on the FTSE 100 index is 9 per cent. The standard deviation of the market index is 23 per cent. You are managing the pension fund
W has an expected return of 12 per cent and a beta of 1.2. If the risk-free rate is 3 per cent, complete the following table for portfolios of W and a risk-free asset.Illustrate the relationship
Y has a beta of 1.50 and an expected return of 17 per cent. Z has a beta of 0.80 and an expected return of 10.5 per cent. If the risk-free rate is 5.5 per cent and the market risk premium is 7.5 per
Shares in Hellenic Telecom have an expected return of 15 per cent and the standard deviation of these returns is 30 per cent. National Bank of Greece’s shares are expected to produce a return of 16
You have £24,000 to invest in a portfolio containing X, Y and a risk free asset. You must invest all of your money. Your goal is to create a portfolio that has an expected return of 8.5 per cent and
Based on the following information, calculate the expected return and standard deviation of each of the following equities. Assume each state of the economy is equally likely to happen. What are the
Based on the following information, calculate the expected return and standard deviation for each of the following equities. What are the covariance and correlation between the returns of the two
Suppose the expected returns and standard deviations of A and B are E(RA) = 0.15, E(RB) = 0.25, σA = 0.40, and σB = 0.65, respectively.(a) Calculate the expected return and standard deviation of a
You have been provided the following data about the equities of three firms, the market portfolio, and the risk-free asset:(a) Fill in the missing values in the table.(b) Is the equity of Firm A
The market portfolio has an expected return of 12 per cent and a standard deviation of 10 per cent. The risk-free rate is 5 per cent.(a) What is the expected return on a well-diversified portfolio
The expected rates of return on the French firms, Publicis and Renault, the market portfolio (CAC 40) and the risk-free asset are given below, along with the standard deviations of these returns.(a)
Below is given the standard deviation and correlation information on three South African companies, Afgri, Harmony Gold and SABMiller.(a) If a portfolio is made up of 30 per cent of Afgri, 40 per
Consider the following information about I and II:The market risk premium is 10 per cent, and the risk-free rate is 4 per cent. Which security has the most systematic risk? Which one has the most
Explain in detail, using diagrams to illustrate your answer, what is meant by the terms ‘capital market line’ and ‘security market line’.
This question is designed to test your understanding of the mean standard deviation diagram.(a) Draw a mean-standard deviation diagram to illustrate combinations of a risky asset and the risk-free
Suppose you observe the following situation:(a) Calculate the expected return on each equity.(b) Assuming the capital asset pricing model holds and A’s beta is greater than B’s beta by 0.25, what
There are two securities in the market, A and B. The price of A today is €50. The price of A next year will be €40 if the economy is in a recession, €55 if the economy is normal, and €60 if
Weir Group plc has three main divisions: Oil & Gas, Minerals, Power & Industrial. Oil & Gas accounts for 40 per cent of the company’s assets and Minerals accounts for 35 per cent of the assets. It
Assume A and B have the following characteristics:The covariance between the returns on the two equities is 0.001.(a) Suppose an investor holds a portfolio consisting of only A and B. Find the
An investor holds a portfolio of 3 securities. She invests 30 per cent in A, 30 per cent in B, and 40 per cent in C. The betas on A, B, and C are 1.5, 0.6 and 1.1 respectively. If E(RM) = 12% and RF
Consider the table below. Using either the historical return or expected return and Solver, compute the minimum variance portfolio for the universe of three Norwegian shares, Crew Gold, GGS and
The following prices are for the British insurer ADX plc and the FTSE 100 Index.Use a spreadsheet to calculate ADX plc’s beta for the full period. Now calculate the beta using data for March 2014
Below, you are given the expected returns and standard deviations of L’Oreal and Daimler AG, the Euro Stoxx 50 Index of largest Eurozone firms, and the risk-free asset.1. Assuming that the returns
You are discussing your retirement plan with Dan Ervin when he mentions that Sarah Brown, a representative from Skandla Financial Services, is visiting West Coast Yachts today. You decide that you
What is the difference between an expected return and observed return? Is it possible to predict the surprise component of an observed return?
You own equity in Lewis-Striden Drugs plc.Suppose you had expected the following events to occur last month:(a) The government would announce that real GNP had grown 1.2 per cent during the previous
What is data mining? Is there anything wrong with measuring the performance of an Irish growth fund portfolio manager against a benchmark composed of Greek equities?
You have recently been employed as a finance consultant to Bread plc. The CEO wants to use an APT model to estimate the required return on the company’s stock, and the risk factors he plans to use
Why does the market portfolio lie on the security market line? What does it mean if a security lies below the security market line? What would happen to the returns of the security if traders exploit

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