Question
ABC Investment Advisors is considering investing in bonds and stock issued by Major Works Incorporated. As part of the decision process, ABC is estimating Major's
ABC Investment Advisors is considering investing in bonds and stock issued by Major Works Incorporated. As part of the decision process, ABC is estimating Major's bond and stock values and expected returns. Given below is the information determined by their research: A. The current market price of Major's outstanding corporate bonds is 107% of their $1,000 par value. The bonds have an annual coupon rate of 6.4% and make coupon payments semiannually. The bonds mature in 15 years. B. The current price of the firm's preferred stock is $86.00 per share. The stock has a $100 par value and a 4.4% annual dividend rate (paid annually). C. The current price of the firm's common stock is $765.00 per share. Its next (upcoming) semiannual dividend will be D1 = $3.80 per share. Dividends are paid semiannually and are expected to grow at an annual rate of 4% into the foreseeable future. NOTE that $3.80 is the amount of the semiannual dividend. It does not need to be divided by two
ABC Investment Advisors is basing its analysis on a required rate of return equal to 5% per year.
Based on the information above, answer the following:
1. What is the value of the company's corporate bonds? What is the expected return (yield-to-maturity) of these bonds?
2. Based on the value and expected return (#1), should the bonds be purchased? Why? Be sure to base your answer on BOTH the value and the expected return.
3. What is the value of the company's preferred stock? What is the expected return of the preferred stock?
4. Based on the value and expected return (#3), should the preferred stock be purchased? Why? Be sure to base your answer on BOTH the value and the expected return.
5. What is the value of the company's common stock? What is the expected return of the common stock?
6. Based on the value and expected return (#5), should the common stock be purchased? Why? Be sure to base your answer on BOTH the value and the expected return.
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