principles of finance questions attached along with a supplement for the questions

INT'L BUS. MACH. NYSE-IBM TIMELINESS SAFETY TECHNICAL 2 1 3 High: Low: Raised 8/2/13 126.4 54.0 RECENT PRICE 94.5 73.2 100.4 81.9 Median: 14.0 P/E RATIO RATIO YLD 189.97 P/E 12.4(Trailing: 13.5) RELATIVE 0.69 DIV'D 2.0% 99.1 71.9 97.9 72.7 121.5 88.8 130.9 69.5 132.9 81.8 147.5 116.0 194.9 146.6 211.8 177.3 215.9 181.1 Target Price Range 2016 2017 2018 LEGENDS 9.5 x Cash Flow p sh . . . . Relative Price Strength Options: Yes Shaded areas indicate recessions Raised 4/15/05 Lowered 10/4/13 BETA .85 (1.00 = Market) VALUE LINE 320 200 160 120 100 80 60 2016-18 PROJECTIONS Ann'l Total Price Gain Return High 285 (+50%) 12% Low 235 (+25%) 8% Insider Decisions to Buy Options to Sell N 0 3 7 D 0 0 0 J F 0 0 2 2 3 14 M 0 0 0 A 0 0 0 M 0 1 2 J 0 0 0 J 0 0 0 40 % TOT. RETURN 8/13 Institutional Decisions 4Q2012 1Q2013 2Q2013 622 683 720 to Buy to Sell 931 829 804 Hld's(000) 650264 656486 646457 Percent shares traded THIS STOCK 15 10 5 1 yr. 3 yr. 5 yr. 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 40.54 44.10 48.52 50.14 49.83 47.14 52.60 58.52 57.90 60.69 71.31 77.39 73.36 81.33 5.72 6.10 7.50 7.41 7.27 6.53 7.27 8.24 8.71 9.56 11.28 13.28 14.11 16.01 3.01 3.29 3.72 4.44 4.35 3.95 4.34 5.05 5.22 6.01 7.18 8.93 10.01 11.52 .39 .44 .47 .51 .55 .59 .63 .70 .78 1.10 1.50 1.90 2.15 2.50 3.51 3.52 3.30 3.19 3.28 2.76 2.59 2.65 2.44 2.90 3.34 3.11 2.64 3.41 10.10 10.36 11.23 11.56 13.70 13.23 16.44 18.08 21.03 18.92 20.55 10.06 17.43 18.87 1936.5 1851.8 1804.2 1762.9 1723.2 1722.4 1694.5 1645.6 1574.0 1506.5 1385.2 1339.1 1305.3 1228.0 15.1 19.0 28.9 24.8 24.7 21.4 19.6 18.0 16.1 13.9 14.8 12.3 10.9 11.4 .87 .99 1.65 1.61 1.27 1.17 1.12 .95 .86 .75 .79 .74 .73 .73 .9% .7% .4% .5% .5% .7% .7% .8% .9% 1.3% 1.4% 1.7% 2.0% 1.9% CAPITAL STRUCTURE as of 6/30/13 Total Debt $34122 mill. Due in 5 Yrs $23238 mill. LT Debt $26292 mill. LT Interest $740 mill. (LT interest earned: 30.1x; total interest coverage: 22.1x) (60% of Cap'l) Pension Assets-12/12 $84.3 bill. Oblig. $105.5 bill. Pfd Stock None Common Stock 1,095,425,823 shs. MARKET CAP $208 billion (Large Cap) CURRENT POSITION 2011 2012 ($MILL.) Cash Assets 11922.0 11129.0 Receivables 29561.0 30578.0 Inventory (Avg Cst) 2595.0 2287.0 Other 6850.0 5439.0 Current Assets 50928.0 49433.0 Accts Payable 8517.0 7952.0 Debt Due 8463.0 9181.0 Other 25143.0 26492.0 Current Liab. 42123.0 43625.0 ANNUAL RATES Past of change (per sh) 10 Yrs. Revenues 6.0% ''Cash Flow'' 9.5% Earnings 12.0% Dividends 18.0% Book Value 3.5% Calendar 2010 2011 2012 2013 2014 Calendar 2010 2011 2012 2013 2014 Calendar 2009 2010 2011 2012 2013 6/30/13 10357.0 28836.0 2389.0 6329.0 47911.0 6821.0 7830.0 26386.0 41037.0 Past Est'd '10-'12 5 Yrs. to '16-'18 7.0% 5.0% 12.5% 6.5% 16.0% 7.5% 21.0% 9.5% -2.5% 23.0% QUARTERLY REVENUES ($ mill.) Full Mar.31 Jun.30 Sep.30 Dec.31 Year 22857 23724 24271 29018 99870 24607 26666 26157 29486 106916 24673 25783 24747 29304 104507 23408 24924 24500 29168 102000 24000 25500 25000 30000 104500 EARNINGS PER SHARE A Full Mar.31 Jun.30 Sep.30 Dec.31 Year 1.97 2.61 2.82 4.18 11.52 2.31 3.00 3.19 4.62 13.06 2.61 3.34 3.33 5.13 14.37 2.70 2.91 3.70 5.79 15.10 2.95 3.30 4.00 6.00 16.25 QUARTERLY DIVIDENDS PAID B Full Mar.31 Jun.30 Sep.30 Dec.31 Year .50 .55 .55 .55 2.15 .55 .65 .65 .65 2.50 .65 .75 .75 .75 2.90 .75 .85 .85 .85 3.30 .85 .95 (A) Based on average shs. until '97, then diluted. Excl. nonrecurring gains (losses):'02, ($1.89); '04, ($0.11); '05, ($0.34); gain (losses) from discontinued operations; '03, ($0.02); '04, 91.92 93.53 94.00 98.10 17.77 19.04 19.65 21.05 13.06 14.37 15.10 16.25 2.90 3.30 3.70 3.95 3.53 3.65 3.50 3.50 17.40 16.88 22.25 31.55 1163.2 1117.4 1085.0 1065.0 13.1 13.7 Bold figures are Value Line .82 .88 estimates 1.7% 1.7% VL ARITH.* INDEX -4.7 55.9 64.2 27.8 69.7 80.2 18 VALUE LINE PUB. LLC 16-18 Revenues per sh ''Cash Flow'' per sh Earnings per sh A Div'ds Decl'd per sh B Cap'l Spending per sh Book Value per sh D Common Shs Outst'g C Avg Ann'l P/E Ratio Relative P/E Ratio Avg Ann'l Div'd Yield 119.00 25.35 20.00 5.00 4.50 61.30 1000.0 13.0 .85 1.9% 89131 96293 91134 91424 98786 103630 95758 99870 106916 104507 102000 104500 Revenues ($mill) 16.6% 16.8% 16.0% 19.3% 20.7% 20.6% 23.0% 23.0% 23.5% 25.1% 24.5% 26.0% Operating Margin 4701.0 4915.0 5188.0 4983.0 5201.0 5450.0 4994.0 4831.0 4815.0 4676.0 4600 4700 Depreciation ($mill) 7613.0 8643.0 8519.0 9416.0 10418 12334 13425 14833 15855 16604 16725 17700 Net Profit ($mill) 30.0% 30.0% 30.3% 29.3% 28.1% 26.2% 26.0% 24.8% 24.5% 24.2% 22.0% 25.0% Income Tax Rate 8.5% 9.0% 9.3% 10.3% 10.5% 11.9% 14.0% 14.9% 14.8% 15.9% 16.4% 16.9% Net Profit Margin 7098.0 7172.0 10509 4569.0 8867.0 6569.0 12933 7554.0 8805.0 5808.0 6000 6500 Working Cap'l ($mill) 16986 14828 15425 13780 23039 22689 21932 21846 22857 24088 26500 28000 Long-Term Debt ($mill) 27864 29747 33098 28506 28470 13465E 22755 23172 20236 18860 24150 33600 Shr. Equity ($mill) D 17.5% 19.9% 18.3% 23.1% 21.3% 35.6% 31.2% 33.8% 37.6% 39.5% 34.0% 29.5% Return on Total Cap'l 27.3% 29.1% 25.7% 33.0% 36.6% 91.6% 59.0% 64.0% 78.4% 88.0% 69.5% 52.5% Return on Shr. Equity 23.4% 25.1% 22.0% 27.1% 29.1% 72.4% 46.4% 50.3% 61.2% 68.0% 52.0% 40.0% Retained to Com Eq 14% 14% 15% 18% 21% 21% 21% 21% 22% 23% 25% 24% All Div'ds to Net Prof 119000 26.0% 5350 20000 25.0% 16.8% 8000 35000 61300 21.5% 32.5% 24.5% 25% BUSINESS: International Business Machines Corporation is a worldwide supplier of advanced information processing technology, communication systems, services, and program products. 2012 revenue breakdown: Global Technology Services, 38%; Global Business Services, 18%; Systems and Technology, 17%; Software, 24%; Global Financing, 2%; Other, 1%. Foreign business: 57% of 2012 revenues; Research, 6.0%. '12 depreciation rate: 11.6%. Has 434,246 empl. Officers & directors control less than 1% of stock; BlackRock, 5.08%; State Street, 5.5%; Berkshire Hathaway, 6.03% (3/13 proxy). Chairman: Samuel J. Palmisano. Pres. & CEO: Virginia M. Rometty. Inc.: NY. Add.: New Orchard Road, Armonk, NY 10504. Tel.: 914-499-1900. Internet: www.ibm.com. IBM's revenue continued declining in the June quarter. Its software revenues rose 4%, but services and hardware (excluding a divested business) fell 3% and 8%, respectively. A workforce rebalancing charge ($0.65 a share) also contributed to the unfavorable earnings comparison. Top-line progress in the year ahead probably will be slow. Currency headwinds, which lowered June-quarter revenues by 2%, are expected to worsen. And the Power systems and Asian markets probably will remain challenging. But IBM had a good software pipeline at mid-2013. The services backlog has grown. And IBM finished restructuring its low-margin outsourcing contracts, so the initiative should no longer be a drag on services revenues. Meanwhile the significant divestiture gain, which IBM had been counting on to offset the workforce rebalancing charge, is now not expected to be realized in 2013. To be sure, the rebalancing effort may generate some cost savings in the second half. Tax settlements might lift December-quarter results. Too, IBM had $7.7 billion of a buyback authorization left at mid-2013, so stock repurchases are like- ly to enhance share net. But IBM now looks for reported earnings in 2013, including charges for workforce rebalancing, as well as the usual acquisitions and retirement expenses (estimated at $1.17 a share in 2013), of at least $15.08 a share, down from its April forecast of $15.53. In 2014, strength in software, modest growth in services revenues, and the absence of the workforce rebalancing charge should support better earnings growth. Still, we've trimmed our share-net estimates for 2013 and 2014 by $0.15 and $0.30, to $15.10 and $16.25, respectively. Unless revenue growth accelerates, IBM may have to push hard to reach its goal of earning $20 a share by 2015, before acquisitions/retirement costs ($18-$19 a share on a reported basis). But developing nation markets should be in better shape by the latter half of the decade, and growth areas (like analytics) ought to contribute a larger portion of revenues over time. The Dow stock is timely, ranks 1 (Highest) for Safety, and its worthwhile total return potential to 20162018 may interest patient investors. Theresa Brophy October 4, 2013 ($0.01); '05, ($0.02); '06, $0.05. Quarters may not sum due to change in shares. Next earnings report mid-Oct. (B) Dividends historically paid in early March, June, September, and De- cember. Dividend reinvestment plan available. (C) In millions. (D) Incl. Intangibles. In Q2, '13, $32.3 billion, $29.45/sh. (E) In '08, incl. $15.2 bill. retirement benefit plan loss. 2013 Value Line Publishing LLC. All rights reserved. Factual material is obtained from sources believed to be reliable and is provided without warranties of any kind. THE PUBLISHER IS NOT RESPONSIBLE FOR ANY ERRORS OR OMISSIONS HEREIN. This publication is strictly for subscriber's own, non-commercial, internal use. No part of it may be reproduced, resold, stored or transmitted in any printed, electronic or other form, or used for generating or marketing any printed or electronic publication, service or product. Company's Financial Strength Stock's Price Stability Price Growth Persistence Earnings Predictability A++ 95 80 100 To subscribe call 1-800-833-0046. SME 2021-Principles of Finance Bethel Exam #2 Problem Set 1. Please use the following historical data from 1926-2000 to answer the following question. Asset Average Return Large-company stocks Small-company stocks Long-term government bonds US Treasury bills Standard Deviation 13.0% 17.3% 5.7% 3.9% 20.2% 33.4% 9.4% 3.2% If the returns on large-company stocks are normally distributed, for which of the following returns can you NOT state, with 95% confidence, that next year's stock return might be equal to? Show your work. a. b. c. d. e. -30.4% -25.6% 20.3% 33.5% 52.0% 2. Please use the following information to answer the following questions. State Boom Bust a. b. c. d. e. f. Probability .65 .35 Return on A 0.30 0.10 Return on B 0.05 0.20 What is the expected return for security A? What is the expected return for security B? What is the expected return for a portfolio that is 70% invested in A and 30% invested in B? What is the standard deviation of security A? What is the standard deviation of security B? What is the standard deviation of a portfolio with one-quarter of the funds in A and the remainder of the funds in B? 3. Please use the following information to answer the following questions. The return on the riskfree asset is 4% and the expected return on the market is 14%. Security A B a. b. c. d. e. Standard Deviation 20% 25% Beta 1.2 0.8 Which security (A or B) has the least total risk? Which security (A or B) has the least systematic risk? Which security (A or B) has the greatest diversifiable risk? What is the portfolio beta if you invest 35% in A, 45% in B and 20% in the risk-free asset? What is the portfolio expected return if you invest 35% in A, 45% in B and 20% in the riskfree asset? f. What is the portfolio expected return if you invest 140% in A and the remainder in the riskfree asset via borrowing at the risk-free interest rate? 4. Consider the following information for stock XYZ: Beta Risk-free rate Expected Market Return 1.25 3% 11% Stock Price Last Dividend Paid Growth Rate $15.00 $1.50 0% Based on the information provided, what do you expect the price of this stock do (rise or fall)? Show your work for full credit. 5. Asset A, which has an expected return of 12% and a beta of 0.8, plots on the security market line. Which of the following is false about Asset B, another risky asset with a beta of 1.4? Show your work. a. b. c. d. e. If the market is in equilibrium, Asset B also plots on the SML. If Asset B plots on the SML, then Asset B and Asset A have the same reward to risk ratio. Asset B has more systematic risk than either Asset A or the market portfolio. If Asset B plots on the SML with an expected return = 18%, then the risk-free rate must be 4%. If Asset B plots on the SML with an expected return = 18%, the expected return on the market must be 15%. 6. Several years ago the Shannon Corporation took on a large amount of debt. A series of problems has afflicted the firm since then. The debt is about to come due. The face value of this debt is $10 million. The firm only has $1 million in cash and no other assets. It has two projects available to it that both cost $1 million and pay off before the debt comes due. Project A pays off $15 million with probability 0.06 and $0 with probability 0.94. Project B has a payoff of $10 million with probability 1.0. The firm does not pay any corporate taxes. Its shareholders also do not pay any personal taxes and are risk neutral. The required cost of capital is 0 percent for both the firm and its shareholders. a.What are the NPVs of Projects A and B? b.What is the total expected payoff to Shannon's shareholders if the firm undertakes (i) Project A; (ii) Project B? Which project would they prefer? c.What is the total expected payoff to Shannon's bondholders if the firm undertakes (i) Project A; (ii) Project B? Which project would they prefer? 7. Phil's Carvings, Inc. wants to have a weighted average cost of capital of 9%. The firm has an after-tax cost of debt of 5% and a cost of equity of 11%. What debt-equity ratio is needed for the firm to achieve its targeted weighted average cost of capital? 8. Assume it is November 2012. Calculate the weighted average cost of capital for IBM Corporation. Please use the attached Value Line page and the following additional information: 2 Company IBM Corporation Coupon Maturity Last Price 5.050 Nov 2016 104.20 Est Spread UST Est $ Vol (000's) 250 30 185,621 Risk-free rate: 2.5% Market Risk Premium: 5.5% 9. A proposed investment has a cost of $250. It will have a life of 4 years. The cost will be depreciated straight-line to a zero salvage value, and will be worth $50 at that time. Cash sales will be $230 per year and cash costs will run $120 per year. The firm will also need to invest $70 in net working capital at year 0. The appropriate discount rate is 8% (use for all flows), and the corporate tax rate is 40%. What are the cash flows in years 1, 2, 3, and 4? What is the NPV of the project? What is the IRR of the project? 10. At the end of 1999, Southwestern Bell, a phone company, was considering expanding its operations into the media business. The beta for the company's phone business was 0.90, and the debt/equity ratio was 1.0. The media business was expected to be 30% of the overall firm value in 1999, and the average beta of comparable media firms was 1.20; the average debt/equity ratio for these firms was 50%. The marginal corporate tax rate is 36%. Estimate the beta for Southwestern Bell if it expands into media, assuming that it maintains its original debt/equity ratio. 11. You are analyzing Tiffany, an upscale retailer and note that the average unlevered beta of comparable specialty retailing firms is 1.15. If Tiffany has a debt/equity ratio of 20% and a 40% tax rate, estimate the beta for the company based on comparable firms. 3 IBM An example of the calculation of the weighted-average cost of capital Cost of Equity Riskfree rate Beta Market return Cost of Equity 2.50% 1.09 6% 5.77% Cost of Debt Rate Taxrate Cost of Debt 5.36% 36% 3.43% Amount of Equity Shares Price Value Amount of Debt Book value Adjustment Value Total Capital WACC 4.87% 0.943 104.2 98.2606 61.7 1 61.7 159.9606