1 - Tulane University



Finance 6020Professor - Bill ReeseMidterm ExamFall 2018Instructions:The first three pages consist of 15 multiple choice questions for which you do not have to show any work. These questions are worth two points each. Circle the letter of the best answer.The next seven pages contain 7 problems. You must show your work (including formulas with the numbers inserted) and your final answers to receive full credit for these problems. Each problem is worth ten points and partial credit will be given where applicable. If you need more space, write on the back of the page and leave me a note that your answer is continued on the back.All bonds with coupon payments pay their interest semiannually. Assume all other cash flows are annual and come at the end of the year unless the problem states otherwise. Assume that compounding occurs when the cash flows are received (i.e. monthly cash flows means monthly compounding) unless the problem states otherwise. Assume APR unless the problem states otherwise. All dollar and interest rates are expressed in nominal values unless the problem states otherwise. If a problem doesn’t mention nominal or real or inflation, it does not involve inflation.Please make it clear which letter you are circling.You may use a calculator, excel, and the two pieces of paper you were allowed to bring to this exam with any notes you want to refer to.If you use your laptop, it may be used for Excel only, and you must begin with a blank Excel worksheet. If anything else is on your monitor, it will be considered to be a violation of the honor code.Carry out your final answers to the nearest cent (for monetary answers) or basis point (for percentage answers). Carry out all workings within a problem either in Excel or your calculator and use cell references whenever e to the front to see me if you have any questions.Some questions and problems may contain more information than is needed to solve them.You have three hours to complete this test.I will post your grade on the web site by your number as soon as I have them all graded.Good luck!Name (please print neatly): _____________________________________________ If you currently have $10,000 saved and you plan to add $1,000 to your account every month for 30 years starting today, how much money do you expect to have in your savings plan 30 years from today (just after adding $1,000 for the last time) if you expect your money to earn 6% APR. $1,064,740.79$1,069,763.37$1,070,763.37$1,075,785.94You buy a share of Freeman stock today for $62.50 and expect to receive your first dividend of $5.00 a year from now. You then expect the annual dividend to grow at a rate of 3% per year forever. What rate of return do you expect to earn on your investment?A. 8.0%B. 11.0%C. 12.5%D. None of the aboveThe proportion of debt and equity financing is called the firm’sBond RatioCapital BudgetCapital StructureCurrent RatioWhat is the present value of a growing perpetuity that will produce a cash flow of $100 next month and will grow at the rate of 0.5% per month forever if the discount rate is 10% (APR)?A. $1,052.63$2,000.00$24,000.00$30,000.00Which of the following will have the least interest rate risk when they are initially issued?Treasury BillsTreasury BondsTreasury NotesCorporate BondsIf a company generates five cents of net income for every $1 in sales, it has a __________ of 5 percent.A. Profit marginB. Return on assetsC. Return on equityD. Return on salesA U.S. Treasury Bond with a face value of $500 and a coupon rate of 4.0% has 25 years remaining until it matures. What is the YTM of this bond based on the ask price if a dealer quotes prices of 102:22 and 102:16? 3.83%3.84%8.55%8.56%According to your text, what is the largest securities market in the world, in terms of trading volume?New York Stock ExchangeNasdaqMortgage backed securities marketU.S. Treasuries marketAccording to your text, when a customer wants to sell shares of stock at the best possible price as soon as possible, she has placed a(n) A. Flash order B. Immediate order C. Limit orderD. Market orderThe difference between a firm’s current assets and its current liabilities is called itsA. Operating ratioB. Free cash flowC. Net working capitalD. Liquidity ratioIf you borrow a stock, sell it, and then buy it back at a later date, this is a(n)A. buy and hold strategyB. illegal activityC. reverse swapD. short saleWhat is the present value of $10,000 to be received five years from now if it is to be discounted at the continuously compounded annual rate of 8 percent?$6,703.20$6,805.83$9,231.16None of the aboveIf you buy a newly-issued Treasury bond and then sell it after you have held it for four years, your return will have equaledThe bond’s coupon rateThe bond’s current yieldThe bond’s yield to maturityNone of the aboveAccording to the DuPont Identity, a firm’s ROE is comprised of all the following except:A. Equity Multiplier B. Inventory TurnoverC. Total Asset TurnoverD. Profit MarginWhich of the following was put into place with the new (Dec. 2017) tax law?Assets should be carried on the corporate books at their market valueCompanies can subtract capital expenditures from revenues in the year that they are purchasedCompanies have to subtract interest payments before reporting their EBITDANone of the above were put into place with the new tax lawA recent story in Barron’s Magazine noted that Tesla’s corporate bonds were trading at a quoted price of 82.77. The story also noted that these bonds had a yield-to-maturity of 8.30%. If the bonds mature in exactly 10 years, what must be their coupon rate? Note: though coupon rates are normally in increments of 1/8, that need not be the case here.Coupon Rate of Tesla Bonds __________________You intend to begin saving for the college education of your two children today. The children are two years apart in age: one will begin college 15 years from today and the other will begin 17 years from today. The college you want to send them to (Tulane, of course) currently costs $35,000 per year. You expect that amount to increase each year at the rate of inflation, which you expect to be 2 percent per year. College payments will be made at the beginning of each school year (assume four years of college for each child). You plan to make deposits into a special college fund where you expect your money to grow at a rate of 8 percent per year. You will make your first deposit today, the second deposit one year from today (and so on), and your last deposit the same day your oldest child starts college at Tulane. How much do you need to deposit into the fund each year in nominal dollars? How much do you need to deposit into the fund each year in real dollars? Hint: The correct answer for each is between $5,000 and $15,000.Nominal Annual Deposits into College Fund __________________Real Annual Deposits into College Fund __________________Procter and Gamble paid a dividend of $4.00 per share to its common stockholders yesterday. You expect its dividend to increase by 10 percent per year for the next two years, followed by an increase of 8 percent per year for the following three years, before settling into a constant growth of 3 percent per year forever. You believe that P&G stockholders require a 12 percent rate of return and its bondholders require a 7 percent rate of return. If the market value of Procter and Gamble’s bonds is $800 million and the company has 500 million shares outstanding, what should the price of its stock be based on the dividend discount model?Price of Procter and Gamble Stock ________________You have just taken out a $300,000 mortgage. The quoted interest rate is 4.52%. It is a 30-year fixed-rate mortgage with monthly payments. Your first payment is one month from today. How much will your monthly payments be? With your first payment, how much of it will be interest and how much will be principal?Monthly Payments ______________________________Interest in First Payment _________________________Principal in First Payment ________________________A car dealer offers you a financing option to help you buy a brand new car. The car costs $35,000, but you can drive it away for a $1,000 down payment (immediately) followed by monthly payments of $700 (beginning in one month) for five years. What is the APR of this loan? What is the EAR?APR ______________EAR _____________A “step-up” bond is a bond whose coupon rate increases over the life of the bond in a series of steps. It allows a new ownership group that is executing a leveraged buyout of a firm to have lower interest payments while they are making the necessary changes to increase future cash flow. You have decided to purchase a step-up bond that has been issued by a group of former NFL players who are purchasing the Cleveland Browns. This is a 10-year bond with a face value of $10,000. For the first three years, the bond makes no coupon payments. For the next three years, the coupon rate is 6 percent. For the last four years, the coupon rate is 10 percent. What will be the price of this bond if its YTM is 5.30 percent?Price of the Bond ____________________________You are trying to value the common stock of a firm that doesn’t currently pay dividends and you don’t expect it to pay dividends any time in the near future, so you have decided to use the free cash flow approach. This firm has issued some bonds which are due to mature in 20 years with a face value of $10 million and a coupon rate of 4.00%. According to Bloomberg, their yield to maturity is 4.50%. Based on your careful analysis of this firm, you expect it to generate $6 million in free cash flow during the current year (assume it all comes at the end of the year). You expect that number to grow at a rate of 2% per year forever. You have decided to discount the free cash flow at a rate of 12%. If the firm has 1.2 million shares of common stock outstanding and no cash on hand, please answer the following questions: What is the market value of the firm’s debt, what is the firm’s enterprise value, and what should be the price of one share of stock?Market Value of Debt ___________________Enterprise Value __________________Price of one share of stock ________________ ................
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