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business
principles of finance

Questions and Answers of Principles Of Finance

a. You think that shares of MSFT will rise in price in the future, and you want to speculate in the stock. Compare (graphically) the following two alternatives: purchasing 1,000 MSFT options with an
10. (Profit margin from two call options) On 14 May 2015 Microsoft (MSFT)stock is trading at $48.72 per share. The price of a call option on MSFT expiring 15 Jan 2015 is $2.92 for options with X =
b. Purchase one share of stock and two puts on the stock.
a. Purchase one share of stock and one put on the stock.
9. (Profit margin from underlying asset and put options) Using the data from the previous problem, compare the following three strategies in a single profit chart:
b. Which strategy is riskier?
a. Compare the two strategies by filling in the table below and graphing the percentage profits of each strategy against the stock price ST in 3 months.
7. (Profit margin from underlying asset and a call option) You’ve decided to add 100 shares of ABC Corp. to your portfolio. ABC stock is currently trading at$50 a share. As an alternative to buying
c. A call option on IBM maturing on 1 May 2015 with an exercise price of 160 was traded on 2 January 2015 at a price of $7.80. What is your profit from holding the option in this period?
b. If you shorted IBM stock on 2 January 2015 and closed out your short position on 1 May 2015, what would have been your profit?
a. If you purchased the stock on 2 January 2015, what would have been your profit?
6. (Profit margin from underlying asset and a call option) The price of IBM stock on 2 January 2015 was $153.31. On 1 May 2015 the price of IBM was$172.28.
b. For what stock price ST is the profit of both David and Patrick zero?
a. Determine and graph the payoffs of both David and Patrick’s respective positions.
5. (Call option buying and selling) David wants to buy a call option written on Raider Corporation stock. Patrick is willing to sell David a call option on Raider stock with an exercise price of $50
. Make a graph which shows the Profit (column C) on the y- axis and the stock price ST on 18 Sep 15 (column A) on the x- axis.
a. Complete the following Excel table below.
3. (Call option profits) It is 18 July 2015 and you’ve just bought one call option on ForeverYours stock. The option cost you $6, expires on 18 September 2015, and has an exercise price of $20.
d. What will be your profit from the option if the price is $38?
c. Suppose you buy the option and hold it until the expiration date. If the price of Intel on 16 October 2015 is $20, what will be your profit from the option?
b. What happens if the stock does not go below $34 by the time your option expires?
a. What right does this put option give you?
2. (Put option basics) It is mid- May 2015. Intel stock is currently trading at $33, and you think that the price of the stock will go down by 16 October 2015.For $3 you can buy a put on Intel stock
c. If the price of Kellogg on 18 December 2015 is $55, will you exercise the option? What will be your profit?
b. Suppose you buy the call option and hold it until the expiration date.If the price of Kellogg on 18 December 2015 is $70, will you exercise the option? What will be your profit?
a. What right does this call option give you?
1. (Call option basics) On 11 May 2015 Kellogg stock closed at $63.92. For$2.69 you can buy a call option on Kellogg with an exercise price of $65. The option expires 18 December 2015.
Options are more complicated than bonds or stocks. In order to understand options, we will have to introduce you to some new terminology and some new ways of thinking about financial assets
The buyer of an option buys upside gains but has only limited downside losses.
The value of an option is derived from the value of another asset, usually a stock. For this reason, options are sometimes called derivative assets.
The company has 44,080,000 shares outstanding; the end- 2003 share price is $37.
The company has a cost of debt of rD = 5%.
Niccair’s 2003 year- end cash is $50 million.
Niccair’s 2003 year- end debt is $750 million.
8. (Challenge problem) The last 5 years’ results for Niccair Corp. are given below. Value the company’s stock based on a model of FCF growth of your own design and the following additional facts.
b. Create a Data Table for the NPV as a function of the annual rent/expense increase (0%, 1%, 2%, . . ., 5%) and the discount rate (8%, 10%, 12%, . . ., 24%).
a. What is the NPV of the purchase?
Other facts about the complex are unchanged.
Next year’s anticipated rental per unit is $15,000, and expenses are $2,000.In years 2– 9, these numbers are expected to increase by 2% annually.
6. (Valuation of real estate) The Springfield apartment complex once more (previous exercise). Suppose that:
b. Suppose that the cash flows from rentals (including expenses and depreciation) occur in mid- year. Suppose that the resale cash flow of the complex occurs at the end of 10 years. Recalculate the
a. Use the data above to value the apartment complex.
Real estate prices in the Springfield area have been increasing at 6% per year, and you anticipate that this rate will continue for the foreseeable future. You anticipate selling the apartment
Your discount rate is 18%.
Your tax rate is 40% on pre- tax income and 20% on capital gains.
Income and expenses occur at year- end.
Operating expenses per unit are $2,000 annually. These expenses are incurred whether or not the units are occupied.
The vacancy rate in Springfield averages 8%.
On average, each unit produces $15,000 of pre- tax income per year.
The apartment complex can be fully depreciated over 40 years.
5. (Valuation of real estate) You are considering buying a 500- unit apartment complex in suburban Springfield. The current owner of the apartment complex is asking $25 million. Assume the following:
4. (Investment criteria and valuation) You are considering buying a building in downtown Asheville. The building is selling for $10 million, and you anticipate an annual FCF of $1 million. At the end
b. Suppose that the FCFs occur in mid- year. What would your answer be now?
a. Value the shares assuming that the FCFs occur at year- end. Houda has no debt and no excess cash reserves.
3. (DCF valuation) Houda Motors has a just announced results that show that the FCF for the past year is $23 million. An experienced analyst believes that the growth rate of the FCF for the next 10
b. How would your answer change if the cash flows occur in mid- year?
a. If the FCFs occur at year- end and the WACC of Walters is 15%, what is the enterprise value of the company?
2. (DCF of perpetuity) Walters Inc. has an anticipated next- year free cash flow(FCF) of $10 million. This cash flow is anticipated to grow at an annual rate of 5%.
b. The actual market price of OIA’s shares is $25 per share. What can you conclude from this fact?
a. Given the current portfolio of OIA, what should be it’s share price?(There’s a template on the companion website at http:// global.oup.com/ us/ benninga.)
1. (Valuation of holding company) OwnItAll (OIA) is a holding company whose sole business is to own a portfolio of shares. The company has 200 million shares outstanding, listed on the Portland Stock
A reliable financial consultant has told you that the appropriate discount rate for cash flows from buildings like Station Building is 18%. You decide to use this as your WACC for discounting the
The agent who is putting together the partnership has proposed selling Station Building after 10 years. He estimates that the market price of the building will not change much over this period—
Maintenance, property taxes, and other miscellaneous expenses for Station Building cost about $1 million per year.
The building is fully rented out and brings up annual rents of $7 million. You do not anticipate that these rents will increase over the next 10 years.
Station Building will be depreciated over 40 years, giving an annual depreciation of $500,000 per year.
All income from the Station Building partnership will flow through to the shareholders, who will pay taxes on the income at their personal tax rates.Aunt Sarah’s tax rate is 40%.
Arnold Corp. has 2,000,000 shares outstanding.
The WACC of Arnold is 15%.
The future anticipated growth rate of the FCF is 8%.
13. (Preferred stock yield to first call) Genworth Financial’s 5.25% Series A cumulative preferred stock has a par value of $50 and interest rate of 5.25% payable quarterly on the first day of
b. Suppose that the stock trades for $87.50 on 3 January 2005. What is its yield? (Don’t forget that the price does not include the accrued dividend.)
a. If the share price on 2 February 2005 is $85, what is the preferred stock’s yield?
b. The bond’s yield to first call.
a. The bond’s yield to maturity.
11. (YTM and yield to first call semi-annual payments) On 15 May 1985, the U.S. Treasury issued a bond maturing on 15 November 2014. The bond had a coupon rate of 11.75%, payable semi-annually on 15
b. On 18 October 2016, the Corporate Junk bond issue is selling for$103. Use XIRR to compute the investor’s yield to maturity (YTM)of the bonds.
a. Compute the annualized yield to the bond investors and the annualized cost to the company.
10. (Annual yield and financing expenses) On 15 August 2016, Corporate Junk issues $100 million of 10- year bonds. The bonds have a coupon of 10%, payable semiannually on 15 February and 15 August of
e. Challenge question: Create an arbitrage strategy from buying and/or selling a combination of the three bonds.
d. What is the zero- coupon bond yield for a 2- year bond based on the price of bond C?
c. What is the zero- coupon bond yield for a 2- year bond based on the price of bond B?
b. What is the zero- coupon bond yield for a 1- year bond?
a. What are the prices of the above three bonds?
c. Be ambitious! Go to Yahoo, download the zero-coupon data for a recent date, and repeat the previous exercise.
b. Why do you think that the yields of very short- term zero strips (the first two) are so low?
a. Complete the file to derive the continuous yields of the zero-coupon Treasury strips. Graph the yields to derive the yield curve on 22 June 2015.
7. (YTM, semiannual payments) On 15 August 1990, the U.S. Treasury issued bond maturing on 15 February 2020. The bond has a coupon rate of 8.75%, payable semi-annually on 15 February and 15 August.
b. Compute the yield to maturity of the bond.
a. Compute the accrued interest of the bond.
6. (Accrued interest, YTM) On 26 February 2015, a UtilityCorp 8.2% bond maturing 15 January 2021 is priced at 103.790 per $100 of face value (this price does not include the accrued interest). The
b. Use XIRR calculate the annualized yield to maturity (IRR).
a. Confirm the calculation of the accrued interest.
On 20 February 2015, the bond was priced at $109,477.71. This price was computed as follows:$107,152.00 In the jargon of bond markets, this is called the bond price+ $2,285.71“
Other interest payments are on 15 October 2015, 15 April 2016, . . ., 15 October 2020. On this last date, the bond’s principal of $100,000 is also returned.
The semi-annual interest on the note (i.e., 6 5 100 000 23 250. %* ,= $ , ) is paid on 15 April and 15 October of each year. The last interest payment was 15 October 2014, and the next interest
The note has face value of $100,000 and a 6.5% coupon rate. The note matures on 15 October 2020.
5. (Accrued interest, YTM) On 20 February 2015, you are offered a U.S.Treasury note. Here are the terms of the note:
b. The continuously compounded interest rate.
. (YTM, continuous) You have been offered a U.S. Treasury bill. The bill has face value of $10,000 and a price of $9,756. It matures in 210 days. Compute:a. The daily interest rate and the

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