Question: Amanda Monaco has just inherited her father’
Amanda Monaco has just inherited her father’s company. Prior to his death, Mr. Monaco was the sole stockholder, and he left the entire company to his only daughter. Although Amanda has worked for the firm for many years as a commercial artist, she does not feel qualified to manage the operation.
She has considered selling the firm while it is still a viable operation and before her father’s absence causes the value of the firm to deteriorate. Amanda realizes that selling the firm will result in losing control, but her father granted her a long-term contract that guarantees employment or a generous severance package. Furthermore, if Amanda were to sell for cash, she should receive a substantial amount of money, so her financial position would be secure.
Even though Amanda would like to sell out, she has enough business sense to realize that she does not know how to place an asking price (a value) on the firm. The IRS had established a value on her father’s stock of $100 a share, and since he owned 100,000 shares, the value of the company for estate tax purposes was $10,000,000. Amanda thought that was a reasonable amount but decided to consult with Sophie Ryer, the CPA who completed the estate tax return.
Ryer suggested that the firm could be valued using a discounted cash flow method in which the current and future dividends are discounted back to the present to determine the value of the firm.
She explained to Amanda that this technique, the dividend-growth model, is an important theoretical model used for the valuation of companies. In addition, she suggested that the price/earnings ratio of similar firms may be used as a guide to the value of the firm. Amanda asked Ryer to prepare a valuation of the stock based on P/E ratios and the dividend-growth model. While Amanda realized that she could get only one price, she requested a range of values from an optimistic price to a minimum, rock-bottom value.To aid in the valuation process, Ryer assembled the following information. The firm earned $8.50 a share and distributed 60 percent in cash dividends during its last fiscal year. This payout ratio had been maintained for several years, with 40 percent of the earnings being retained to finance future growth.
The per-share earnings for the past five years were as follows:
Publicly held firms in the industry have an average P/E ratio of 12, with the highest being 17 and the lowest 9. The betas of these firms tend to be less than 1.0, with 0.85 being typical. While the firm is not publicly held, it is similar in structure to other firms in the industry. It is, however, perceptibly smaller than the publicly held firms. The Treasury bill rate is currently 5.2 percent, and most financial analysts anticipate that the market as a whole will average a return of 6 to 6.5 percent greater than the Treasury bill rate.
Amanda has come to you to help devise……………
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Year Eamings per share 20X1 $6.70 20X2 7.40 20X3 7.85 20X4 8.20 20X5 8.50
> What is the advantage of using a relative rather than an absolute scale to construct graphs of security prices?
> Historically, what rates of return have investors earned on investments in common stocks?
> Why may averaging percentage changes produce an inaccurate measure of the true rate of return?
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> What are the differences among loading fees, exit fees, and 12b-1 fees?
> Should an investor expect a mutual fund to outperform the market? If not, why should the investor buy the shares?
> What is a moving average? What is the significance when a stock’s price crosses a moving average of the stock’s price?
> What assets do money market mutual funds acquire? Could an individual investor with $12,345 to invest in a safe, short-term security acquire these assets?
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> What advantage do “families” of funds offer?
> What is a specialized mutual fund? What differentiates large and small cap funds? Value and growth funds?
> What is a loading charge? Do all investment companies charge this fee?
> Are mutual funds subject to federal income taxation? Are distributions from mutual funds taxable?
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> Why are hedge funds and private equity funds of little interest to most investors?
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> What are the differences between a closed-end investment company and a mutual fund? What are the sources of return from an investment in a closed-end investment company?
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> a) A closed-end investment company is currently selling for $10 and its net asset value is $10.63. You decide to purchase 100 shares. During the year, the company distributes $0.75 in dividends. At end of the year, you sell the shares for $12.03. At the
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> You read that stock A is trading for $50 and is down 50 percent for the year. Stock B is also trading for $50 but has risen 100 percent for the year. If the investor had purchased one share of each stock at the beginning of the year, what can you conclud
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> You are given the following information concerning four stocks: Using 20X0 as the base year, construct three aggregate measures of the market that simulate the Dow Jones Industrial Average, the S&P 500 stock index, and the Value Line stock index (i
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> How do you purchase a publicly traded bond?
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> “Foreign exchange rates, like stock prices, should follow a random walk.” Is this statement true, false, or uncertain? Explain your answer.
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> “If bonds of different maturities are close substitutes, their interest rates are more likely to move together.” Is this statement true, false, or uncertain? Explain your answer.
> Why do U.S. Treasury bills have lower interest rates than large-denomination negotiable bank CDs?
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> Predict what would happen to the risk premiums on corporate bonds if brokerage commissions were lowered in the corporate bond market.
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> How can changes in foreign exchange rates affect the profitability of financial institutions?
> Risk premiums on corporate bonds are usually anticyclical; that is, they decrease during business cycle expansions and increase during recessions. Why is this so?
> What effect would reducing income tax rates have on the interest rates of municipal bonds? Would interest rates of Treasury securities be affected and, if so, how?
> If a yield curve looks like the one below, what is the market predicting about the movement of future short-term interest rates? What might the yield curve indicate about the market’s predictions about the inflation rate in the future?
> If a yield curve looks like the one shown here, what is the market predicting about the movement of future short-term interest rates? What might the yield curve indicate about the market’s predictions about the inflation rate in the fut
> The one-year interest rate over the next 10 years will be 3%, 4.5%, 6%, 7.5%, 9%, 10.5%, 13%, 14.5%, 16%, and 17.5%. Using the expectations theory, what will be the interest rates on a three-year bond, a six-year bond, and a nine-year bond?
> Debt issued by Southeastern Corporation currently yields 12%. A municipal bond of equal risk currently yields 8%. At what marginal tax rate would an investor be indifferent between these two bonds?
> How does the after-tax yield on a $1,000,000 municipal bond with a coupon rate of 8% paying interest annually compare with that of a $1,000,000 corporate bond with a coupon rate of 10% paying interest annually? Assume that you are in the 25% tax bracket.
> Government economists have forecasted one-year T-bill rates for the following five years, as follows: Year………………1-year rate 1…………………………..4.25% 2…………………………..5.15% 3………………………….5.50% 4………………………….6.25% 5………………………….7.10% You have a liquidity premium of 0.25
> If the interest rates on one- to five-year bonds are currently 4%, 5%, 6%, 7%, and 8%, and the term premiums for one- to five-year bonds are 0%, 0.25%, 0.35%, 0.40%, and 0.50%, predict what the one-year interest rate will be two years from now.
> One-year T-bill rates over the next four years are expected to be 3%, 4%, 5%, and 5.5%. If four-year T-bonds are yielding 4.5%, what is the liquidity premium on this bond?
> How does an increase in the value of the pound sterling affect American businesses?
> One-year T-bill rates are 2% currently. If interest rates are expected to go up after three years by 2% every year, what should be the required interest rate on a 10-year bond issued today? Assume that the expectations theory holds.
