Finance- S2 Homework Walkthroughs

Walkthrough on S2 homework-Jerry wu
If you can master the homework on S1, some questions on S2 are more straight forward and can be easily understood by looking at the solution. I have marked here some questions that are more challenging. Particularly Q 30 and 34 of chapter 5.

Chapter 5

6) P0= Div1/(R-g) pg 142 of RWJJ
3.60/(0.13-0.045)=42.35 Price of stock today

9) g= rention Ratio x Return on Retained earnings pg 141, pg 146 eg 5.9
g= ROE (Return on Equity) X b
g=0.14(0.60)= 0.084=8.4%

Earning next year= current earning (1+g)
20,000,000(1+0.084)=21,680,000

14)Div10= CNY8 (Divident paid in the 10th year)

P9= 8/(0.15-0.06)=88.89 Share price in the 9th year
Discount back 9 years
P0= 88.89/(1+0.15)9= 25.27 (Share price now)

*30)* This is a difficult one…I am having problem determining the correct t in discounting the valude of the dividents paid out. Already sent an email to professor Campell, stay tuned for more thorough explaination. For those of you already understand the solution why we shouldn't use NPVGO= C0+C1+ (C2/R)/(1+R)^2, please enlighten us on linkedin. thank you.

a)couple of ways to find the Share price now:

Company acting as cash cow PV= C/R

110 million /0.15=733.3333~ million
Share price = 733.3333 million/20 million=36.67

or

Share price= EPS/R
110 million/20 million= 5.5 dollars(EPS)
5.5/0.15= 36.67

b) NPVGO= -12 mil-7mil + (10 mil/0.15)/(1+0.15)??? <--this is where our team has a problem because text book indicates the 10 million is generated 2 years from today. so why not divide by (1+0.15)^2???
NPVGO= 39884057.97

c) Value of Share = EPS/R +NPVGO Pg 150 RWJJ
NPVGO/share= 39884057.97/20 million shares= 1.99
36.67+1.99=38.66

*34)* Big Mama…

Strongly recommending that you draw a timeline to determine the t to be used

Bond M maturity is 20 years, semiannual payments thus t= 40
c =20,000
required return on bonds 10% r= 0.10/2= 0.05 (semiannual payments)

For the first 6 years nothing…
then at begining of the seventh year, C=1200, every 6 months for the next 8 years (until end of year 14)t= 16

then again at begining of the 15th year, C changed to 1500, paid out every 6 months also for the next 6 years (until year 20) t= 12

To Calculate current price of bond M the equation has 3 parts of different cash flows:

1)
1200({1-[1/(1+0.05)]^16}/0.05)= Price of bond at year six prior to any payments
multiply by ({1-[1/(1+0.05)]^12}/0.05) Notice t =12 (6 years x 2 =12) discount it back to today (12 periods prior)

2)
1500({1-[1/(1+0.05)]^12}/0.05)= Price of bond at year 14
multiply by ({1-[1/(1+0.05)]^28}/0.05) Notice t= 28 (12 payments + 16 payments) find PVA for the coupon and discount lump Sum back to today (28 periods prior)

3) 20,000 ({1-[1/(1+0.05)]^40}/0.05)** Present value of the face value of bond M at maturity (40 periods later)

Adding 1, 2 and 3 we get PM= 13474.20

Bond N price is exactly the 3rd part of bond M…it is a zero coupon bond with 20,000 par value.

thus price of the bond is 20,000 ({1-[1/(1+0.05)]^40}/0.05)=2840.91

Bond M> Bond N by 13474.20-2840.91= 10633.29
comparing the two values, you can see that how bonds can be valued with great difference in payout depending on it's type.

Chapter 6
7, 8, 10, 12, 17 should all be pretty straight forward, please check your solution book and let me know if you need clarification…pay attention to question 12, it is a financing project, therefore if IRR>discount rate , we should reject the offer rather than accept, and vice versa.

page revision: 6, last edited: 21 May 2010 10:46