Auntie Mae has been requesting you for some financial assistance for quite a while now. She is a likeable lady and you have often helped her in the past. However, she has had an erratic history of returning borrowed money. At the moment, you have some money in your savings account and it earns 5% p.a. But due to your close relation with Auntie Mae, you feel inclined to withdraw money from your account and lend it to her. You are a finance student and realize that because Auntie Mae is not good credit, you need to charge her interest on the money you may lend from now on. You will also want to draw up a legal contract and have a formal check done on her credit history. You think charging her an interest at the rate of 7% may be fair to cover for additional costs. What would be the most prudent decision to take in this case To leave your money in the savings account or lend it to Auntie Mae? Explain your reasoning.

Rashid Joseph is considering buying an insurance policy. He has had a drinking problem for long but he intends not to report this fact on his application form. He is also a careless driver and this is also something that he does not want known to the insurance company, lest he should be quoted a higher premium. He feels if he can get the insurance cover, he will be much relaxed in terms of how much he drinks and how he drives. His contention is that being relaxed may help him get over his drinking habit and make him a better driver. What type of information asymmetry problems is the insurance company faced with in examining Rashids application? Outline the various ways, the company might consider in reducing the asymmetry. (5 marks)

B-Square Corp. (NasdaqNM: BSQR) went public on October 20, 1999. Its lead underwriter was Credit Suisse First Boston. The IPO prospectus listed the following information about shares outstanding and new investors:

B-Square issued 4,000,000 shares at a price to the public of $15.00/share, with the underwriting syndicate retaining $1.05 as fees. The final price at the end of the first day was $25.625. Based on the above information, answer the following: i) What were the total proceeds from this offering? ii) What proceeds were retained by B-Square? iii) What proceeds were retained by the investment banker? iv) What was B-Squares total market capitalization after the IPO? v) Calculate the under-pricing and money left on the table for B-Square.

Alice is a member on the investment committee of Wonderland Inc. The company is considering using $100,000 to create a 2-asset portfolio. The investment will be divided into one stock and one bond. 35% of $100,000 is reserved for the stock and the remaining for the bond. As per the investment policy of the company, it is mandated as follows: a) Only underpriced stocks should be a part of the portfolio b) The bond with least duration should be a part of the portfolio Investors require a 12% return on stock and 6% return on bonds. The following stocks and bonds are competing to be a part of the portfolio:

You are required to: i) Compute the price of all candidate stocks and indicate which of the three will be selected for the portfolio. ii) Compute the duration of all candidate bonds and indicate which one will be selected for the portfolio. iii) How many dollars will be allocated to the selected stock and bond? How many units of the selected stock and bond will be purchased?

Existing shareholders New investors Total Shares Purchased Number Percent 28,076,916 87.5% 4.000.000 12.5 32,076,916 100% STOCKS Details BONDS Details Stock 1 Bond 1 This bond has a face value of $5,000, pays an annual coupon of 3% and will mature in 5 years from now. This stock offers a constant dividend of $1.50 for an indefinite time period and its current market price is $15 This stock is expected to offer $1.50 as dividend next year and the growth rate in dividend is constant at 3% p.a. The current market price of this stock is $18 Stock 2 Bond 2 This bond has a face value of $2,000 and offers no coupon payment. The maturity is 2 years from now. Stock 3 This stock is offering a current dividend of $1. Dividends for the next four years are likely to be $2, $2.5, $3.5 and $4 respectively, after which the dividend will grow at a constant rate of 1% p.a. The current market price of this stock is $30. Bond 3 This bond has a face value of $1,000, pays a semi- annual coupon at the rate of 4% p.a. and has 3 years to mature. Existing shareholders New investors Total Shares Purchased Number Percent 28,076,916 87.5% 4.000.000 12.5 32,076,916 100% STOCKS Details BONDS Details Stock 1 Bond 1 This bond has a face value of $5,000, pays an annual coupon of 3% and will mature in 5 years from now. This stock offers a constant dividend of $1.50 for an indefinite time period and its current market price is $15 This stock is expected to offer $1.50 as dividend next year and the growth rate in dividend is constant at 3% p.a. The current market price of this stock is $18 Stock 2 Bond 2 This bond has a face value of $2,000 and offers no coupon payment. The maturity is 2 years from now. Stock 3 This stock is offering a current dividend of $1. Dividends for the next four years are likely to be $2, $2.5, $3.5 and $4 respectively, after which the dividend will grow at a constant rate of 1% p.a. The current market price of this stock is $30. Bond 3 This bond has a face value of $1,000, pays a semi- annual coupon at the rate of 4% p.a. and has 3 years to mature