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Midterm Examination – October 17, 2012 SOLUTIONS Guidelines: 1 . Read the questions carefully. 2 .
Answer all questions around the following pages. 3. Economic calculator and a regular calculator are permitted. 4. A one-sided 8. 5″ x 11″ solution sheet is definitely permitted with formulas simply. 5. The midterm has 11 internet pages, including two blank webpages. 6. To get Part two, show your entire work. six. Midterm length: 75 a few minutes. 8. Draw allocation: Proven on examination. Print your name: _________________________________________ Signal your name: __________________________________________ Student Quantity: __________________________________________
All the best!! Part you: Multiple Decision Part a couple of: Short Response and Complications Question 1 Question 2 Question three or more Question 4 Total /20 /4 /5 /10 /16 /55 one particular Part you [2 points every single = 20 points]: Multiple Choice. Ring the BEST answer. 1 . The Double Drop Co. is usually expecting their ice cream sales to drop due to the elevated interest in healthful eating. As a result, the company provides announced that it will probably be reducing the annual dividend by five per cent a year for two years. From then on, it will preserve a constant dividend of $1 a share. Two weeks in the past, the company paid a gross of $1. 0 per share. Precisely what is this stock worth in case you require a 9% rate of return? A. $10. 86 B. $11. 11 C. $11. 64 D. $12. 98 E. $14. 3 2 . The value of common share today depends on: A. The expected long term holding period and the discount rate. W. The predicted future returns and the capital gains. C. The predicted future dividends, capital profits and the low cost rate. M. The expected future keeping period and capital gains. E. Probably none of the previously mentioned. 3. The tax safeguard on CCA is computed by: A. The quantity (1-Tc) multiplied simply by CCA. N. Revenues less expenses less CCA. C.
The quantity (Revenues-Expenses) multiplied by CCA. G. Revenues less expenses less taxes. Elizabeth. Not one of the above. four. If the task beta-IRR co-ordinates plot above the SML, the project must be: A. Approved because it is overvalued. B. Recognized because it is undervalued. C. Refused because it is overvalued. D. Rejected because it is undervalued. E. non-e of the previously mentioned. 5. The chance set of portfolios is: A. All conceivable return combinations of those investments. B. Almost all possible risk combinations of those securities. C. All feasible risk-return mixtures of those securities.
D. The best or highest risk-return combination. E. The minimum risk-return blend. 2 six. The mixture of the useful set of portfolios with a riskless lending and borrowing charge results in: A. The capital industry line which in turn shows that most investors will simply invest in the riskless asset. B. The capital market line which in turn shows that almost all investors will certainly invest in a mixture of the riskless asset plus the tangency stock portfolio. C. The safety market collection which demonstrates that all shareholders will get the riskless asset only. Deb.
The security industry line which will shows that all investors is going to invest in a combination of the riskless asset as well as the tangency stock portfolio. E. non-e of the above. 7. Share A posseses an expected returning of twenty percent, and inventory B comes with an expected come back of 4%. However , the risk of stock A as tested by their variance can be 3 times those of stock N. If the two stocks happen to be combined similarly in a portfolio, what would be the portfolio’s expected come back? A. twenty. 0%. B. 4. 0%.. C. 12. 0%. M. Greater than 20%. E. Need more information to reply to. 8. Two mutually exclusive purchase opportunities require an initial investment of $8 million.
Expenditure A after that generates $1 million per year in perpetuity, although investment W pays $500, 000 inside the first season, with funds flows raising by five per cent per year afterwards. Determine the NPV which is why an investor might regard both opportunities as being equivalent. A.? $1 million B. $0 C. $1 million D. $2 , 000, 000 E. $8 million being unfaithful. When comparing two projects with different lives, why do you figure out an premium with an equivalent present value (PV) to the internet present value (NPV)? A. So that you can see which project has the very best net present value (NPV). B.
In order that the projects may be compared issues cost or perhaps value produced per year. C. To reduce the risk that modifications in our estimate with the discount charge will result in choosing the task with a shorter time frame. M. To ensure that funds flows in the project which has a longer existence that take place after the task with the short life is finished are considered. Electronic. To avoid difficulties arising from alternating cash inflows and outflows. 3 10. A firm is considering changing their credit terms. It is estimated that this modify would lead to sales elevating by $1, 000, 000.
This in turn might cause inventory to increase by $150, 500, accounts receivable to increase by simply $100, 500, and accounts payable to boost by $75, 000. What is the business’s expected difference in net seed money? A. $1, 175, 500 B. $325, 000 C. $250, 500 D. $175, 000 At the. $150, 000 4 Component 2 [35 points]: Short Response and Problems. Please show all your function. Question 1 [4 points]: Once two stocks and shares have a correlation of? 1, could it be always conceivable to construct a portfolio with 0 normal deviation? If perhaps so , precisely what is the fat (denoted while? ) that usually ensures that the portfolio features 0 common deviation? Solution: Yes. you point) We are able to demonstrate this by simply substituting correlation of? one particular in the portfolio variance formula:? p2 sama dengan? 2? 12 + (1? )2? twenty two + a couple of? (1? )? 1, a couple of? 1? a couple of which gives,? p2 =? 2? 12 + (1? )2? 22 & 2? (1? )(? 1)? 1? a couple of = [? you? (1? )? 2]two (1 stage for setting up the problem with the variance formula) We are interested in the standard deviation, which is the square root of the above variance. By choosing? in order that [? 1? (1? )? 2] sama dengan 0 we have? =? 2/(? 1 +? 2) and thus we can always ensure the portfolio offers 0 normal deviation. (2 points: 1 point intended for setting the normal deviation corresponding to zero to solve for? and 1 level for last answer) five Question 2 [5 points]: Storico Co. just paid a dividend of $3. 60 per talk about. The company raises its dividend by 20% next year and can then lessen its gross growth charge by five percentage factors per year until it finally reaches the industry average of 5% dividend growth, after which the company will keep a constant growth price, forever.
We can get the price of the stock in Year 3 since the dividend growth rate is continuous after the third dividend. The buying price of the share in Season 3 would be the dividend in Year some, divided by required come back minus the continuous dividend progress rate. Therefore , the price in Year a few will be: P3 = $3. 50(1. 20)(1. 15)(1. 10)(1. 05) as well as (. 13 –. 05) = $69. 73 (2 points: you point for set up and 1 level for answer) The price of the stock today will be the PV of the first three dividends, plus the PV of the inventory price in Year 3, so: P0 = $3. 50(1. 20)/(1. 13) + $3. 50(1. 20)(1. 15)/1. 132 + $3. 50(1. 20)(1. 15)(1. 0)/1. 133 + $69. 73/1. 133 (2 items for arranged up) P0 = $59. 51 (1 point) 6 Question 3 [10 points]: The expected return of the S, P 500, which you can believe is the market portfolio, is definitely 16% and has a standard deviation of 25% per year. The expected return of Microsoft is definitely unknown, but it really has a common deviation of 20% per year and a covariance with the S, S 500 of 0. 15. The free of risk rate is definitely 6 percent per year. a. [2 points] Compute Microsoft’s beta. Response:? Microsoft = Cov(RMicrosoft, RM) / var(RM)? Microsoft = 0. 10 / (0. 25)2 sama dengan 1 . sixty (2 details: 1 point for set up and one particular point pertaining to final answer). [2 points] What is Microsoft’s expected return given the beta calculated in part (a)? We know from your CAPM: E(R) = Rf +? (E(RM) – Rf) Therefore , E(RMicrosoft) = zero. 06 + (1. 60)(0. 16? zero. 06) sama dengan 0. 220 or twenty two. 0% (2 points: one particular point to get set up and 1 level for final answer) c. [2 points] If Intel has fifty percent the anticipated return of Microsoft, in that case what is Intel’s beta? In the CAPM, we are able to solve for?: E(R) sama dengan Rf +? (E(RM) – Rf) 0. 11 = 0. 06 +? Intel(0. 16 – 0. 06)? Intel sama dengan 0. 55 (2 factors: 1 stage for create and one particular point for final answer) 7 deb. [2 points] What is the beta in the following collection?. 25 excess weight in Ms, 0. 10 weight in Intel, 0. 75 excess weight in the S, P 500,? 0. twenty weight in GM (where? GM sama dengan 0. 80), 0. 12 weight in the risk-free asset. Answer: The beta from the portfolio may be the weighted common of the betas of the assets that contain the profile:? P = (0. 25)(1. 60) + (0. 10)(0. 50) + (0. 75)(1. 0) + (? 0. 20)(0. 80) + (0. 10)(0) = 1 . apr (2 points: 1 stage for set up and you point pertaining to final answer) e. [2 points] Precisely what is the expected return in the portfolio in part (d)? Response: From the CAPM, we can fix for E(RP) E(RP) sama dengan Rf +? E(RM) – Rf) = 0. summer + (1. 04)(0. 16 – zero. 06) = 0. 164 or 18. 4% (2 points: you point pertaining to set up and 1 level for final answer) eight Question four [16 points]: Better Mousetraps is rolling out a new trap. It can enter into production intended for an initial expense in tools of $6 million. Disregard the CCA system and imagine the equipment will probably be depreciated straight-line over a few years into a value of zero, but in fact it is usually sold following 5 years for $500, 000. The firm believes that seed money at each time must be preserved at a level of 10 percent of subsequent year’s (i. e. he following year’s) forecast revenue. The organization estimates creation costs corresponding to $1. 50 per capture and thinks that the blocks can be sold for $4 each. Sales forecasts get in the following table below. The project will come to a end in five years, when the trap turns into technologically obsolete. The business tax clump is thirty five percent, as well as the required level of return on the task is 12 percent. Precisely what is project NPV? Year Product sales (millions of traps) zero 0 one particular 0. five 2 0. 6 several 1 . 0 4 1 ) 0 your five 0. 6th Thereafter 0 Answer: YEAR: Sales (traps) Revenue ($4. 00? Sales) Expense ($1. 50?
Sales) Working capital Change in Wk Limit CF via Operations: Earnings Expense Depreciation Pretax income Tax After-tax profit VOIR from procedures Cash Flow CF: capital assets CF from working capital VOIR from operations Total VOIR PV snabel-a 12% Net present worth 0 0. 00 zero. 00 0. 00 0. 20 0. 20 one particular 0. 55 2 . 00 0. 75 0. twenty four 0. ’04 2 0. 60 2 . 40 0. 90 0. 40 0. 16 three or more 1 . 00 4. 00 1 . 55 0. 40 0. 00 4 1 ) 00 4. 00 1 ) 50 zero. 24 –0. 16 a few 0. sixty 2 . forty five 0. 85 0. 00 –0. 24 0. 00 0. 00 0. 00 0. 00 0. 00 0. 00 0. 00 2 . 0000 0. 7500 1 . 2000 0. 0500 0. 0175 0. 0325 1 . 2325 2 . 500 0. 900 1 . two hundred 0. 300 0. 05 0. 195 1 . 3950 4. 500 1 . 500 1 . 200 1 . 300 0. 455 0. 845 2 . 0450 4. 500 1 . five-hundred 1 . 2 hundred 1 . 300 0. 455 0. 845 2 . 0450 2 . four hundred 0. 900 1 . two hundred 0. 300 0. one zero five 0. 195 1 . 3950 (5 points) –6. 00 –0. twenty 0. 00 –6. twenty –6. twenty –0. 1817 0. 0000 –0. 0400 1 . 2325 1 . 1925 1 . 0647 0. 0000 –0. 1600 1 . 3950 1 . 2350 0. 9845 0. 0000 0. 0000 2 . 0450 2 . 0450 1 . 4556 0. 0000 0. 1600 2 . 0450 2 . 2050 1 . 4013 0. 3250 0. 2400 1 . 3950 1 . 9600 1 . 1122 (2 points) (6 points) (3 points) 9 This page is still left blank purposely. Use it if you require it. twelve This page can be left write off on purpose. Use it if you need this. 11
