You happen to be checking the newspaper and notice an arbitrage opportunity. The current stock price of Intrawest is $20 per share and the one-year risk-free interest rate is 8%. A one-year put on Intrawest with a strike price of $18 sells for $3.33, while the identical call sells for $7. Explain what you must do to exploit this arbitrage opportunity.
> Consider a firm whose only asset is a plot of vacant land, and whose only liability is debt of $15 million due in one year. If left vacant, the land will be worth $10 million in one year. Alternatively, the firm can develop the land at an upfront cost of
> The HNH Corporation will pay a constant dividend of $2 per share, per year, in perpetuity. Assume all investors pay a 20% tax on dividends and that there is no capital gains tax. The cost of capital for investing in HNH stock is 12%. a. What is the price
> Assume that Microsoft has a total market value of $300 billion and a marginal tax rate of 35%. If it permanently changes its leverage from no debt by taking on new debt in the amount of 13% of its current market value, what is the present value of the ta
> Grommit Engineering expects to have net income next year of $20.75 million and free cash flow of $22.15 million. Grommit’s marginal corporate tax rate is 35%. a. If Grommit increases leverage so that its interest expense rises by $1 million, how will its
> Pelamed Pharmaceuticals had EBIT of $325 million in 2010. In addition, Pelamed had interest expenses of $125 million and a corporate tax rate of 40%. a. What was Pelamed’s 2010 net income? b. What was the total of Pelamed’s 2010 net income and interest p
> Suppose Microsoft has no debt and a WACC of 9.2%. The average debt-to-value ratio for the software industry is 5%. What would its cost of equity be if it took on the average amount of debt for its industry at a cost of debt of 6%?
> Hardmon Enterprises is currently an all-equity firm with an expected return of 12%. It is considering borrowing money to buy back some of its existing shares, thus increasing its leverage. a. Suppose Hardmon borrows to the point that its debt-equity rati
> Suppose there are no taxes. Firm ABC has no debt, and firm XYZ has debt of $5000 on which it pays interest of 10% each year. Both companies have identical projects that generate free cash flows of $800 or $1000 each year. After paying any interest on deb
> Marpor Industries has no debt and expects to generate free cash flows of $16 million each year. Marpor believes that if it permanently increases its level of debt to $40 million, the risk of financial distress may cause it to lose some customers and rece
> Acort Industries owns assets that will have an 80% probability of having a market value of $50 million in one year. There is a 20% chance that the assets will be worth only $20 million. The current risk-free rate is 5%, and Acort’s assets have a cost of
> You are an entrepreneur starting a biotechnology firm. If your research is successful, the technology can be sold for $30 million. If your research is unsuccessful, it will be worth nothing. To fund your research, you need to raise $2 million. Investors
> Consider a project with free cash flows in one year of $130,000 or $180,000, with each outcome being equally likely. The initial investment required for the project is $100,000, and the project’s cost of capital is 20%. The risk-free interest rate is 10%
> Covan, Inc., is expected to have the following free cash flows: a. Covan has 8 million shares outstanding, $3 million in excess cash, and it has no debt. If its cost of capital is 12%, what should its stock price be? b. Covan reinvests all its FCF and ha
> Heavy Metal Corporation is expected to generate the following free cash flows over the next five years: After then, the free cash flows are expected to grow at the industry average of 4% per year. Using the discounted free cash flow model and a weighted
> Portage Bay Enterprises has $1 million in excess cash, no debt and is expected to have free cash flow of $10 million next year. Its FCF is then expected to grow at a rate of 3% per year forever. If Portage Bay’s equity cost of capital is 11% and it has 5
> The present value of JECK Co.’s expected free cash flows is $100 million. If JECK has $30 million in debt, $6 million in cash, and 2 million shares outstanding, what is its share price?
> Victoria Enterprises expects earnings before interest and taxes (EBIT) next year of $1 million. Its depreciation and capital expenditures will both be $300,000, and it expects its capital expenditures to always equal its depreciation. Its working capital
> This year, FCF, Inc., has earnings before interest and taxes of $10 million, depreciation expenses of $1 million, capital expenditures of $1.5 million, and has increased its net working capital by $500,000. If its tax rate is 35%, what is its free cash f
> Assume the annual return for the lowest turnover portfolio is 18% and the annual return for the highest turnover portfolio is 12%. If you invest $100,000 and have the highest turnover, how much lower will the value of your portfolio be at the end of ten
> Hawar International is a shipping firm with a current share price of $5.50 and 10 million shares outstanding. Suppose that Hawar announces plans to lower its corporate taxes by borrowing $20 million and repurchasing shares that Hawar pays a corporate tax
> You have a $100,000 portfolio made up of 15 stocks. You trade each stock five times this year and each time you trade, you pay about $30 in commissions and spread. You have no special knowledge, so you only earn the average market return of 12% on your i
> Apnex, Inc., is a biotechnology firm that is about to announce the results of its clinical trials of a potential new cancer drug. If the trials were successful, Apnex stock will be worth $70 per share. If the trials were unsuccessful, Apnex stock will be
> Roybus, Inc., a manufacturer of flash memory, just reported that its main production facility in Taiwan was destroyed in a fire. Although the plant was fully insured, the loss of production will decrease Roybus’s free cash flow by $180 million at the end
> Assume that Cola Company has a share price of $43. The firm will pay a dividend of $1.24 in one year, and you expect Cola Co. to raise this dividend by approximately 7% per year in perpetuity. a. If Cola Co.’s equity cost of capital is 8%, what share pri
> Summit Systems has an equity cost of capital of 11%, will pay a dividend of $1.50 in one year and its dividends had been expected to grow by 6% per year. You read in the paper that Summit has revised its growth prospects and now expects its dividends to
> Suppose Rocky Shoes and Boots has earnings per share of $2.30 and EBITDA of $30.7 million. The firm also has 5.4 million shares outstanding and debt of $125 million (net of cash). You believe Deckers Outdoor Corporation is comparable to Rocky Shoes and B
> Suppose that in May 2010, Nike had sales of $19,176 million, EBITDA of $2,809 million, excess cash of $3,500 million, $437 million of debt, and 485.7 million shares outstanding. a. Using the average enterprise value to sales multiple in Table 10.1, estim
> Suppose that in May 2010, Nike had EPS of $3.51 and a book value of equity of $18.92 per share. a. Using the average P/E multiple in Table 10.1, estimate Nike’s share price. b. What range of share prices do you estimate based on the hig
> After researching the competitors of EJH Enterprises, you determine that most comparable firms have the following valuation ratios (see MyFinanceLab for the data in Excel format): EJH Enterprises has EPS of $2, EBITDA of $300 million, $30 million in cash
> CSH has EBITDA of $5 million. You feel that an appropriate EV/EBITDA ratio for CSH is 9. CSH has $10 million in debt, $2 million in cash, and 800,000 shares outstanding. What is your estimate of CSH’s stock price?
> Now suppose that with leverage, Kohwe’s expected free cash flows will decline to $9 million per year due to reduced sales and other financial distress costs. Assume that the appropriate discount rate for Kohwe’s future free cash flows is still 8%. What i
> You notice that Dell Computers has a stock price of $27.85 and EPS of $1.26. Its competitor Hewlett-Packard has EPS of $2.47. What is one estimate of the value of a share of Hewlett-Packard stock?
> Consider the valuation of Nike given in Example 10.1. a. Suppose you believe Nike’s initial revenue growth rate will be between 7% and 11% (with growth always slowing linearly to 5% by year 2015). What range of prices for Nike stock is consistent with th
> Sora Industries has 60 million outstanding shares, $120 million in debt, $40 million in cash, and the following projected free cash flow for the next four years (see MyFinanceLab for the data in Excel format): a. Suppose Sora’s revenues
> You are invested in GreenFrame, Inc. The CEO owns 3% of GreenFrame and is considering an acquisition. If the acquisition destroys $50 million of GreenFrame’s value, but the present value of the CEO’s compensation increases by $5 million, will he be bette
> If companies in the same industry as TargetCo (from Problem 1) are trading at multiples of 14 times earnings, what would be one estimate of an appropriate premium for TargetCo? Information from Problem 1 Your company has earnings per share of $4. It has
> Your company has earnings per share of $4. It has 1 million shares outstanding, each of which has a price of $40. You are thinking of buying TargetCo, which has earnings per share of $2, 1 million shares outstanding, and a price per share of $25. You wil
> You work for a leveraged buyout firm and are evaluating a potential buyout of UnderWater Company. UnderWater’s stock price is $20, and it has 2 million shares outstanding. You believe that if you buy the company and replace its management, its value will
> BAD Company’s stock price is $20, and the firm has 2 million shares outstanding. You believe you can increase the company’s value if you buy it and replace the management. Assume that BAD has a poison pill with a 20% trigger. If it is triggered, all BAD’
> ABC has 1 million shares outstanding, each of which has a price of $20. It has made a takeover offer of XYZ Corporation, which has 1 million shares outstanding and a price per share of $2.50. Assume that the takeover will occur with certainty and all mar
> Let’s reconsider part (b) of Problem 1. The actual premium that your company will pay for TargetCo when it completes the transaction will not be 20%, because on the announcement the target price will go up and your price will go down to reflect the fact
> Suppose Kohwe borrows the $50 million instead. The firm will pay interest only on this loan each year, and it will maintain an outstanding balance of $50 million on the loan. Suppose that Kohwe’s corporate tax rate is 40%, and expected free cash flows ar
> The NFF Corporation has announced plans to acquire LE Corporation. NFF is trading for $35 per share and LE is trading for $25 per share, implying a premerger value of LE of $4 billion. If the projected synergies are $1 billion, what is the maximum exchan
> Loki, Inc., and Thor, Inc., have entered into a stock-swap merger agreement whereby Loki will pay a 40% premium over Thor’s premerger price. If Thor’s premerger price per share was $40 and Loki’s was $50, what exchange ratio will Loki need to offer?
> You own a put option on Ford stock with a strike price of $10. The option will expire in exactly six months’ time. a. If the stock is trading at $8 in six months, what will be the payoff of the put? b. If the stock is trading at $23 in six months, what w
> Assume that you have shorted the call option in Problem 2. a. If the stock is trading at $55 in three months, what will you owe? b. If the stock is trading at $35 in three months, what will you owe? c. Draw a payoff diagram showing the amount you owe at
> You own a call option on Intuit stock with a strike price of $40. The option will expire in exactly three months’ time. a. If the stock is trading at $55 in three months, what will be the payoff of the call? b. If the stock is trading at $35 in three mon
> Below is an option quote on IBM from the CBOE Web site. a. Which option contract had the most trades today? b. Which option contract is being held the most overall? c. Suppose you purchase one option with symbol IBM GA-E. How much will you need to pay yo
> Express the position of an equity holder in terms of put options.
> Dynamic Energy Systems stock is currently trading for $33 per share. The stock pays no dividends. A one-year European put option on Dynamic with a strike price of $35 is currently trading for $2.10. If the risk-free interest rate is 10% per year, what is
> You are long two calls on the same share of stock with the same exercise date. The exercise price of the first call is $40 and the exercise price of the second call is $60. In addition, you are short two otherwise identical calls, both with an exercise p
> Kohwe Corporation plans to issue equity to raise $50 million to finance a new investment. After making the investment, Kohwe expects to earn free cash flows of $10 million each year. Kohwe currently has 5 million shares outstanding, and it has no other a
> Suppose the corporate tax rate is 40%. Consider a firm that earns $1000 before interest and taxes each year with no risk. The firm’s capital expenditures equal its depreciation expenses each year, and it will have no changes to its net working capital. T
> Suppose all possible investment opportunities in the world are limited to the five stocks listed in the table below. What are the market portfolio weights? Number of Shares Stock Price/Share ($) Outstanding (millions) 10 10 20 12 8 3 50 1 E 45 20 ABc
> Your client has $100,000 invested in stock A. She would like to build a two-stock portfolio by investing another $100,000 in either stock B or C. She wants a portfolio with an expected return of at least 14% and as low a risk as possible, but the standar
> You have a portfolio with a standard deviation of 30% and an expected return of 18%. You are considering adding one of the two stocks in the table below. If after adding the stock you will have 20% of your money in the new stock and 80% of your money in
> Suppose Johnson & Johnson and the Walgreen Company have the expected returns and volatilities shown below, with a correlation of 22%. For a portfolio that is equally invested in Johnson & Johnson’s and Walgreen’
> The fact that Cola Co. and Gas Co. have a correlation of 0.6083, calculate the volatility (standard deviation) of a portfolio that is 55% invested in Cola Co. stock and 45% invested in Gas Co. stock. Calculate the volatility by a. Using Eq. 12.4, b. Cal
> You have just purchased a share of stock for $20. The company is expected to pay a dividend of $0.50 per share in exactly one year. If you want to earn a 10% return on your investment, what price do you need if you expect to sell the share immediately af
> How much of the return in Problem 1 came from dividend yield and how much came from capital gain? In Problem 1 You bought a stock one year ago for $50 per share and sold it today for $55 per share. It paid a $1 per share dividend today
> Using the data in the table below, calculate the return for investing in this stock from January 1 to December 31. Prices are after the dividend has been paid. Stock and Dividend Data Date Price Dividend Jan 1 33.88 Feb 5 30.67 0.17 May 14 29.49 0.17
> Using the data in Critical Thinking Question 6, calculate a. The expected overall payoff of each bank. b. The standard deviation of the overall payoff of each bank.
> You observe a portfolio for five years and determine that its average return is 12% and the standard deviation of its returns is 20%. Can you be 95% confident that this portfolio will not lose more than 30% of its value next year?
> If returns of S&P 500 stocks are normally distributed, what range of returns would you expect to see 95% of the time? Base your answer on Figures 11.3 and 11.4. Each bar represents an investment's average return. Small Stocks 22.05 S&P 500 11.74
> RiverRocks (whose WACC is 12%) is considering an acquisition of Raft Adventures (whose WACC is 15%). What is the appropriate discount rate for RiverRocks to use to evaluate the acquisition? Why?
> RiverRocks, Inc., is considering a project with the following projected free cash flows: The firm believes that, given the risk of this project, the WACC method is the appropriate approach to valuing the project. RiverRocks’ WACC is 12%
> A retail coffee company is planning to open 100 new coffee outlets that are expected to generate, in total, $15 million in free cash flows per year, with a growth rate of 3% in perpetuity. If the coffee company’s WACC is 10%, what is the NPV of this expa
> The last four years of returns for a stock are as follows: a. What is the average annual return? b. What is the variance of the stock’s returns? c. What is the standard deviation of the stock’s returns? 2 4 -4% +28
> Growth Company’s current share price is $20 and it is expected to pay a $1 dividend per share next year. After that, the firm’s dividends are expected to grow at a rate of 4% per year. a. What is an estimate of Growth Company’s cost of equity? b. Growth
> Pfd Company has debt with a yield to maturity of 7%, a cost of equity of 13%, and a cost of preferred stock of 9%. The market values of its debt, preferred stock, and equity are $10 million, $3 million, and $15 million, respectively, and its tax rate is
> Mackenzie Company has a price of $36 and will issue a dividend of $2 next year. It has a beta of 1.2, the risk-free rate is 5.5%, and it estimates the market risk premium to be 5%. a. Estimate the equity cost of capital for Mackenzie. b. Under the CGDM,
> Ten annual returns are listed in the following table. *b. What is the geometric average return over the ten-year period? c. If you invested $100 at the beginning, how much would you have at the end? -19.9% 16.6% 18.0% -50.0% 43.3% 1.2% -16.5% 45.6% 4
> The following spreadsheet contains monthly returns for Cola Co. and Gas Co. for 2010. Using these data, estimate the average monthly return and volatility for each stock. Date Cola Co. Gas Co. Jan -10.84% -6.00% Feb 2.36% 1.28% Mar 6.60% -1.86% Apr 2
> Using your estimates from Problem 8 and the fact that the correlation of A and B is 0.48, calculate the volatility (standard deviation) of a portfolio that is 70% invested in stock A and 30% invested in stock B. In Problem 8 Realized Returns Year St
> Using the data in the following table, estimate the average return and volatility for each stock. Realized Returns Year Stock A Stock B 2005 -10% 21% 2006 20% 30% 2007 5% 7% 2008 -5% -3% 2009 2% -8% 2010 9% 25%
> Stocks A and B have the following returns (see My Finance Lab for the data in Excel format): a. What are the expected returns of the two stocks? b. What are the standard deviations of the returns of the two stocks? c. If their correlation is 0.46, what i
> Bill Clinton reportedly was paid $10 million to write his book My Life. The book took three years to write. In the time he spent writing, Clinton could have been paid to make speeches. Given his popularity, assume that he could earn $8 million per year (
> You have $70,000. You put 20% of your money in a stock with an expected return of 12%, $30,000 in a stock with an expected return of 15%, and the rest in a stock with an expected return of 20%. What is the expected return of your portfolio?
> You are considering how to invest part of your retirement savings. You have decided to put $200,000 into three stocks: 50% of the money in GoldFinger (currently $25/share), 25% of the money in Moosehead (currently $80/share), and the remainder in Venture
> Explain the difference between the arithmetic average return you calculated in Problem 10a and the geometric average return you calculated in Problem 10b. Are both numbers useful? If so, explain why. Information from problem 10: Consider the following f
> Fremont Enterprises has an expected return of 15% and Laurelhurst News has an expected return of 20%. If you put 70% of your portfolio in Laurelhurst and 30% in Fremont, what is the expected return of your portfolio?
> You buy 100 shares of Tidepool Co. for $40 each and 200 shares of Madfish, Inc., for $15 each. What are the weights in your portfolio?
> The following table contains prices and dividends for a stock. All prices are after the dividend has been paid. If you bought the stock on January 1 and sold it on December 31, what is your realized return? Price Dividend Jan 1 10.00 Mar 31 11.00 0.2
> You are analyzing a stock that has a beta of 1.2. The risk-free rate is 5% and you estimate the market risk premium to be 6%. If you expect the stock to have a return of 11% over the next year, should you buy it? Why or why not?
> You are thinking of buying a stock priced at $100 per share. Assume that the risk free rate is about 4.5% and the market risk premium is 6%. If you think the stock will rise to $117 per share by the end of the year, at which time it will pay a $1 dividen
> Suppose Intel stock has a beta of 1.6, whereas Boeing stock has a beta of 1. If the risk-free interest rate is 4% and the expected return of the market portfolio is 10%, according to the CAPM, a. What is the expected return of Intel stock? b. What is the
> EJH has a beta of 1.2, CSH has a beta of 0.6, and KMS has a beta of 1.0. If you put 25% of your money in EJH, 25% in CSH, and 50% in KMS, what is the beta of your portfolio?
> What is the sign of the risk premium of a negative-beta stock? Explain. (Assume the risk premium of the market portfolio is positive.)
> Suppose the risk-free return is 4% and the market portfolio has an expected return of 10% and a standard deviation of 16%. Johnson & Johnson Corporation stock has a beta of 0.32. What is its expected return?
> You are considering opening a new plant. The plant will cost $100 million upfront and will take one year to build. After that, it is expected to produce profits of $30 million at the end of every year of production. The cash flows are expected to last fo
> You hear on the news that the S&P 500 was down 2% today relative to the risk-free rate (the market’s excess return was -2% ). You are thinking about your portfolio and your investments in Apple and Procter & Gamble. a. If Apple’s beta is 1.4, what is you
> Consider the following five monthly returns: *b. Calculate the geometric average monthly return over this period. c. Calculate the monthly variance over this period. d. Calculate the monthly standard deviation over this period. 0.05 -0.02 0.04 0.08 -
> Given $100,000 to invest, construct a value-weighted portfolio of the four stocks listed below. Number of Shares Stock Price/Share ($) Outstanding (millions) Golden Seas 13 1.00 Jacobs and Jacobs 22 1.25 MAG 43 30 PDJB 10
> Your factory has been offered a contract to produce a part for a new printer. The contract would last for three years and your cash flows from the contract would be $5 million per year. Your upfront setup costs to be ready to produce the part would be $8
> What was your dividend yield from investing in the stock in Problem 8? What was your capital gain? In Problem 8: Stock and Dividend Data Date Price Dividend Jan 1 33.88 Feb 5 30.67 0.17 May 14 29.49 0.17 Aug 13 32.38 0.17 Nov 12 39.07 0.17 Dec 31 41
> Castle View Games would like to invest in a division to develop software for video games. To evaluate this decision, the firm first attempts to project the working capital needs for this operation. Its chief financial officer has developed the following
> Marian Plunket owns her own business and is considering an investment. If she undertakes the investment, it will pay $4000 at the end of each of the next three years. The opportunity requires an initial investment of $1000 plus an additional investment a
> You are forecasting incremental free cash flows for Daily Enterprises. Based on the information in Problems 1 and 2, what are the incremental free cash flows associated with the new machine?
> Your pro-forma income statement shows sales of $1,000,000, cost of goods sold as $500,000, depreciation expense of $100,000, and taxes of $160,000 due to a tax rate of 40%. What are your pro-forma earnings? What is your pro-forma free cash flow?
> You have forecast pro-forma earnings of $1,000,000. This includes the effect of $200,000 in depreciation. You also forecast a decrease in working capital of $100,000 that year. What is your forecast of free cash flows for that year?
