MKTG450

What are the returns on the following investments?

$40, $13, $28, $-180 8%, 56.52%, 2.69%, -45%

You have $10,000 to invest in a stock portfolio. Your choices are Stock X with a return of 15 percent and Stock Y with a return of 10 percent. If your goal is to create a portfolio with a return of 13.5 percent, how much money will you invest in Stock X? In Stock Y?

$7,000 in X, $3,000 in Y

You own a portfolio that is 50 percent invested in Stock X, 30 percent in Stock Y, and 20 percent in Stock Z. The returns on these three stocks are 10 percent, 18 percent, and 13 percent respectively. What is the return on the portfolio?

.1300

A company's zero coupon bond issue matures in 16 years and has a yield to maturity of 10.60%. Each zero has a face value of $1,000 and there are 4,000 of the bonds outstanding. If the market values the equity at $1,800,000, what capital structure weight for debt would you use in calculating the WACC, assuming the firm's only debt consists of the zeros?

.299

The beta of an investment in U.S. Treasury bills is:

0.0

What is the beta for a portfolio equally weighted in four assets: A, the market portfolio; B, which has half the risk of A; C, which has twice the risk of A; and D, which is risk-free?

0.875

What is the value of systematic risk (as measured by beta) for a portfolio with 2/3 of the funds invested in A and 1/3 of the funds invested in B?

1.067

You own a stock portfolio invested 25 percent in Stock Q, 20 percent in Stock R, 15 percent in Stock S, and 40 percent in Stock T. The betas for these four stocks are .9, 1.4, 1.1 and 1.8, respectively. What is the portfolio beta?

1.39

Given the following information for Dunhill Power Co. find the WACC. Assume the company's tax rate is 35 percent. Debt: 3,000 8 percent coupon bonds outstanding, $1,000 par value, 20 years to maturity, selling for 103 percent of par; the bonds make semiannual payments. Common Stock: 90,000 shares outstanding, selling for $45 per share; the beta is 1.20. Preferred Stock: 13,000 shares of 7 percent preferred stock outstanding, currently selling for $108 per share Market: 8 percent market risk premium and 6 percent risk-free rate.

10.27%

Calculate the risk premium on stock C given the following information: risk-free rate = 5%, market return = 13%, stock C beta = 1.3.

10.4%

What is the expected return on asset A if it has a beta of 0.6, the expected market return is 15%, and the risk-free rate is 6%?

11.4%

What is the portfolio expected return and the portfolio beta if you invest 35% in A, 45% in B, and 20% in the risk-free asset?

11.8%, .78

What is the after-tax cost of preferred stock that sells for $10.00 per share and offers a $1.20 annual dividend when the tax rate is 35%?

12.00%

In the previous problem, suppose the most recent dividend was $4 and the dividend growth rate is 6 percent. Assume that the overall cost of debt is the weighted average of that implied by the two outstanding debt issues. Both bonds make semiannual payments. The tax rate is 35 percent. What is the company's WACC?

12.13%

The weighted-average cost of capital, after tax, for a firm with a 65/35 debt/equity split, 8% cost of debt, 15% cost of equity, and a 35% tax rate would be:

13.80%

1. The betas of four stocks - G, H, I, and J - are .45, 0.8, 1.15, and 1.6 respectively. What is the beta of a portfolio with the following weights in each asset?

1= .10 2= .845 3= 1.145

Suppose Massey Ltd. just issued a dividend of $.68 per share on its common stock. The company paid dividends of $.40, $.45, $.52 and $.60 per share in the last four years. If the stock currently sells for $12, what is your best estimate of the company's cost of equity capital?

20.66%

Company X has 2 million shares of common stock outstanding at a book value of $2.00 per share. The stock trades for $3.00 per share. It also has $2 million in face value of debt that trades at 90% of par. What is the weight on debt for WACC purposes? (round to the nearest one tenth of a percentage)

23.1%

1. Given the following information, what is your best estimate for the firm's cost of equity on January 2, 2003, if the stock sells for $42 on that day? Date 12/31/97 12/31/98 12/31/99 12/31/00 12/31/01 12/31/02 Dividend $1.50 $1.73 $2.01 $2.34 $2.71 3.17

24.91%

A firm sold a 10-year bond issue 3 years ago. The bond has a 6.45% annual coupon and a $1,000 face value. The coupons are paid annually. If the current market price of the bond is $951.64 and the tax rate is 35%, what is the after-tax cost of debt? (round to the nearest hundredth percent)

4.77%

Both assets A and B plot on the SML. Asset A has an expected return of 15% and a beta of 1.7, and asset B has an expected return of 12% and a beta of 1.1. What is the risk-free rate of return?

6.5%

What is the total return to an investor who buys a bond for $1,100 when the bond has a 9% coupon rate and 5 years remaining until maturity, then sells the bond after 1 year for $1,085?

6.82%

Determine the value of Coldron shares. The last dividend paid was $3.20, and dividends are expected to grow at 4% indefinitely. Coldron has a beta of 0.9, the risk free rate is 3 percent and the risk premium is 7 percent. (round to the nearest cent)

62.79$

Your firm has preferred stock outstanding that pays a current dividend of $3.00 per year and has a current price of $39.50. You anticipate the economy will grow steadily at a rate of 3.00% per year for the foreseeable future. What is the market required rate of return on your firm's preferred stock?

7.60%

Asset A has an expected return of 14.5% and a beta of 1.15. The risk-free rate is 5%. What is the market risk premium?

8.26%

What is the standard deviation of a portfolio's returns if the mean return is 15%, the variance of returns is 0.0184, and there are three stocks in the portfolio?

9.59%

Billick Brothers is estimating its WACC. The company has collected the following information: · Its capital structure consists of 40 percent debt and 60 percent common equity. · The company has 20-year bonds outstanding with a 9 percent annual coupon that are trading at par. · The company's tax rate is 40 percent. · The risk-free rate is 5.5 percent. · The market risk premium is 5 percent. · The stock's beta is 1.4. What is the company's WACC?

9.66%

Which of the following would likely have the greatest amount of systematic risk?

A portfolio half invested in the market portfolio and half invested in stocks with betas = 1.50.

A stock investor owns a diversified portfolio of 15 stocks. What will be the likely effect on portfolio return standard deviation from adding one more stock?

A slight decrease will occur

Takelmer Industries has a different WACC for each of three types of projects. Low-risk projects have an 8% WACC, average-risk projects a 10% WACC, and high-risk projects a 12% WACC. Which of the following projects do you recommend that the firm accept?

A, D, E, F, and G

Which of A and B has the least total risk? The least systematic risk?

A;B

Which of the following is false concerning diversification? Assume that the securities being considered for selection into a portfolio are not perfectly correlated.

As more securities are added to the portfolio, the systematic risk of the portfolio declines.

Using the following returns, calculate the average returns, the variances, and the standard deviations for X and Y.

Avg returns 9.60% X, 13.20% Y, Variances .01613 X, .05647 Y Standard Deviation 23.76%

Mr. Malone wants to change the overall risk of his portfolio. Currently, his portfolio is a combination of risky assets with a beta of 1.25 and an expected return of 14%. He will add a risk-free asset (U.S. Treasury bill) to his portfolio. If he wants a beta of 1.0, what percent of his wealth should be in the risky portfolio and what percentage should be in the risk-free asset? If he wants a beta of 0.75? If he wants a beta of 0.50? If he wants a beta of 0.25? Is there a pattern here?

Beta 1, w=.80 Beta .75, w= .60 Beta .50, w= .40 Beta .25, w= .20 every beta change of .25 sam will need to switch 20% of his wealth out of risky and into risk-free, linear relationship between portfolio weighs and beta

1. Bradshaw Steel has a capital structure with 30 percent debt (all long-term bonds) and 70 percent common equity. The coupon rate on the company's long-term bonds is 8 percent and the bond is sell at a premium. The firm estimates that its overall composite WACC is 10 percent. The risk-free rate of interest is 5.5 percent, the market risk premium is 5 percent, and the company's tax rate is 40 percent. Bradshaw uses the CAPM to determine its cost of equity. What is the beta on Bradshaw's stock?

Cannot be solved because not enough information is provided

Which of the following would decrease a portfolio's systematic risk?

Common stock with positive beta is sold and replaced with Treasury bills.

Suppose that the Federal Reserve takes actions that cause the risk-free rate to fall. All else the same, we would expect a firm's cost of equity to .

Decrease if we are using the SML

Suppose a stock had an initial price of $69 per share, paid a dividend of $1.95 per share during the year, and had an ending share price of $53. a) What was the dividend yield for the year? b) What was the capital gain yield for the year? c) What is the percentage total return for the year?

Dividend yield 2.83%, Capital gain yield -23.19%, Total return -20.36%

Ed Lawrence has $100,000 invested. Of that, $30,000 is invested in IBM stock, $25,000 is invested in T-bills, and the remainder is invested in corporate bonds. Which of the following is true regarding his portfolio?

Ed has 30% of his portfolio invested in stock

Use the four assets from the previous problem in the same three portfolios. What are the expected returns of each of the four individual assets and the three portfolios if the current SML is plotting with an intercept of 4% (risk-free rate) and a market premium of 10% (slope of the line)?

G= 8.5% H= 12% I= 15.5% J= 20% 1= 14% 2= 12.45% 3= 15.45%

Which of the following would be considered an example of systematic risk?

Greater new jobless claims than expected

A firm is considering an investment in a project whose risk is greater than the current risk of the firm, based on any method for assessing risk. In evaluating this asset, the decision maker should

Increase the cost of capital used to evaluate the project to reflect the project s higher risk.

A firm that uses its WACC as a cutoff without consideration of project risk:

Likely will see its WACC rise over time

What is the expected yield on the market portfolio at a time when Treasury bills yield 6% and a stock with a beta of 1.4 is expected to yield 18%?

None of the above (14.57%)

An investment earned the following returns for the returns 1998 through 2001: 30%, 40%, 15%, and 7%. What is the variance of returns for this investment?

None of the above (correct answer 0.0219)

Over the past 75 years, which of following investments has provided the largest average return?

Small company stocks

The principle of diversification tells us that:

Spreading an investment across many diverse assets will eliminate some of the risk.

Stock A has a beta coefficient of 0.9, and stock B has a beta coefficient of 1.2. Which of the following statements is false regarding these two stocks?

Stock A necessarily must have a lower standard deviation of returns than stock B.

Assume that the Security Market Line (SML) is based on a risk free rate of 5% and a market return of 11%. What will happen to the SML if the forecast of risk-free rate increases and investors become more risk averse?

The SML will shift up and have a steeper slope

Which of the following is false regarding the estimation of a firm's cost of equity capital?

The cost of equity is equal to the weighted average cost of capital.

Which of the following describes a stock that plots above the security market line?

The expected return of the stock is too high

What is the typical relationship between the return standard deviation of an individual common stock and the return standard deviation of a diversified portfolio of common stocks?

The individual stock's return standard deviation is higher.

If the market portfolio is expected to offer returns of 16%, then what can be said about a portfolio expected to return 13%?

The portfolio's beta is less than 1.0.

The standard deviation for historical stock returns can be calculated as:

The positive square root of the variance

Which of the following is false regarding risk and return?

The reward for bearing risk is known as the standard deviation.

The type of risk that we can diversify away is ____________

Unsystematic risk

1. Jiminy's Cricket Farm issued a 30-year, 9 percent annual coupon bond 8 years ago. The bond makes coupon payments semiannually. The par value of the bond is $1,000. The bond currently sells for 105 percent of its face value. The company's tax rate is 35 percent. a. What is the pretax cost of debt? b. What is the after-tax cost of debt? c. Which is more relevant, the pretax or the after-tax cost of debt? Why?

a 8.49% b 5.52% c after-tax rate is more relevant bc it is the actual cost to the company

Titan Mining Corporation has 8 million shares of common stock outstanding, 5 million shares of preferred stock outstanding, and 100,000 units of 9 percent semiannual bonds outstanding, par value $1,000 each. The preferred stock pays a dividend of $6 per share. The common stock currently sells for $32 per share and has a beta of 1.15, the preferred stock currently sells for $67 per share, and the bonds have 15 years to maturity and sell for 91 percent of par. The market risk premium is 10 percent, T-bills are yielding 5 percent, and Titan Mining's tax rate is 35 percent. a. What is the firm's market value capital structure? b. If Titan Mining is evaluating a new investment project that has the same risk as the firm's typical project, what rate should the firm use to discount the project's cash flows?

a. .3754 b. 11.48%

Filer Manufacturing has 8.2 million shares of common stock outstanding. The current share price is $52, and the book value per share is $5. Filer Manufacturing also has two bond issues outstanding. The first bond issue has a face value of $70 million, an 8 percent coupon, and sells for 104 percent of par. The second issue has a face value $50 million, a 7.5 percent coupon, and sells for 97 percent of par. The first issue matures in 10 years, the second in 6 years.(assume each unit of bond has a face value of $1,000) a. What are Filer's capital structure weights on book value basis? b. What are Filer's capital structure weights on a market value basis? c. Which are more relevant, the book or market value weights? Why?

a. 25.47% of capital is composed of equity and the remaining 74.53% is composed of debt b. in terms of market value, 77.85% is composed of equity and the remaining 22.15% is composed of debt c. the market value weighs are more relevant

The T-bill rate is 5 percent, and the expected return on the market is 12 percent. Assume the company's overall WACC is 12%. a. Which projects have a higher expected return than the firm's 12 percent cost of capital? b. Which projects should be accepted? c. Which projects would be incorrectly accepted or rejected if the firm's overall cost of capital were used as a hurdle rate

a. x, y, z b. reject z, accept w, x, y c. project w would be incorrectly rejected, z would be incorrectly accepted

Stock in Parrothead Industries has a beta of 1.10. The market risk premium is 8 percent, and T-bills are currently yielding 5.5 percent. Parrothead's most recent dividend was $2.20 per share, and dividends are expected to grow at a 5 percent annual rate indefinitely. If the stock sells for $32 per share, what is your best estimate of Parrothead's cost of equity?

average of .1430 and .1222= 13.26%

The cost of debt capital for a firm ____________.

can be estimated even if the firm's bonds are not publicly traded, by looking at the yield to maturity on bonds outstanding from peer group firms with similar ratings and maturity.

___________ refers to the way a company finances itself through some combination of loans, bond sales, preferred stock sales, common stock sales, and retention of earnings.

capital structure

The slope of an asset's security market line is the __________.

market risk premium

Regarding diversification, _____________________________.

most of the benefits are realized with about 20 to 30 stocks

When firms develop a WACC for individual projects based on the cost of capital for other firms in similar lines of business as the project, the firm is utilizing a:

pure play approach

Standard deviation is one of the most common measures of

return volatility

Which of the following risks would be classified as a non-systematic risk for an auto manufacturer?

steel prices

the relevant risk for the fair market pricing of financial securities is the ____________.

systematic risk

All else the same, a higher corporate tax rate ______________.

will decrease the WACC of a firm with some debt in its capital structure