You have a portfolio with a beta of 1.1. What will be the new portfolio beta if you keep 85 percent of your money in the old portfolio and 15 percent in a stock with a beta of 0.5?
> You have $20,000 to invest. You want to purchase shares of Xerox at $17.34, Qwest at $8.15, and Liz Claiborne at $44.73. How many shares of each company should you purchase so that your portfolio consists of 25 percent Xerox, 40 percent Qwest, and 35 per
> Below are the monthly returns for March 2011 to February 2016 of three international stock indices; All Ordinaries of Australia, Nikkei 225 of Japan, and FTSE 100 of England. A. Compute and compare each indices’ monthly average return and standard devia
> GTB, Inc., has a 34 percent tax rate and has $100 million in assets, currently financed entirely with equity. Equity is worth $7 per share, and book value of equity is equal to market value of equity. Also, let’s assume that the firm’s expected values fo
> Why might firms prefer to conduct stock repurchases through open-market operations rather than through fixed-price tender offers?
> Consider the following annual returns of Molson Coors and International Paper: Compute each stock’s average return, standard deviation, and coefficient of variation. Which stock appears better? Why? Molson International Coors Paper
> Consider the following annual returns of Estee Lauder and Lowe’s Companies: Compute each stock’s average return, standard deviation, and coefficient of variation. Which stock appears better? Why? Estee Lauder Lowe'
> The table below shows your stock positions at the beginning of the year, the dividends that each stock paid during the year, and the stock prices at the end of the year. What is your portfolio dollar return and percentage return? Beginning Dividend
> The table below shows your stock positions at the beginning of the year, the dividends that each stock paid during the year, and the stock prices at the end of the year. What is your portfolio dollar return and percentage return? Beginning Dividend
> You have $15,000 to invest. You want to purchase shares of Alaska Air at $42.88, Best Buy at $51.32, and Ford Motor at $8.51. How many shares of each company should you purchase so that your portfolio consists of 30 percent Alaska Air, 40 percent Best B
> You have a portfolio with an asset allocation of 35 percent stocks, 55 percent long-term Treasury bonds, and 10 percent T-bills. Use these weights and the returns in Table 9.2 to compute the return of the portfolio in the year 2010 and each year since. T
> You have a portfolio with an asset allocation of 50 percent stocks, 40 percent long-term Treasury bonds, and 10 percent T-bills. Use these weights and the returns in Table 9.2 to compute the return of the portfolio in the year 2010 and each year since. T
> Create the spreadsheet below. The spreadsheet should use the returns for assets A and B to form a portfolio return using the weights for each asset shown in cells E1 and E2. The average portfolio return and standard deviation should compute at the bottom
> Cisco Systems has a beta of 1.25. Does this mean that you should expect Cisco to earn a return 25 percent higher than the S&P 500 Index return? Explain.
> How should you handle a case where required return computations from CAPM and the constant growth rate model are very different?
> NoNuns Cos. has a 25 percent tax rate and has $350 million in assets, currently financed entirely with equity. Equity is worth $37 per share, and book value of equity is equal to market value of equity. Also, let’s assume that the firm&
> Determine what level of market efficiency each event is consistent with: a. Immediately after an earnings announcement the stock price jumps and then stays at the new level. b. The CEO buys 50,000 shares of his company and the stock price does not change
> If you were to compute beta yourself, what choices would you make regarding the market portfolio, the holding period for the returns (daily, weekly, etc.), and the number of returns? Justify your choices.
> Find a beta estimate from three different sources for General Electric (GE). Compare these three values. Why might they be different?
> If stock prices are not strong-form efficient, then what might be the price reaction to a firm announcing a stock buyback? Explain.
> Describe a stock market bubble. Can a bubble occur in a single stock?
> Why do most investment scams conducted over the Internet and e-mail involve penny stocks instead of S&P 500 Index stocks?
> Explain how the concept of a positive risk-return relationship breaks down if you can systematically find stocks that are overvalued and undervalued.
> Note from Table 10-2 that some technology-oriented firms (Apple) in the Dow Jones Industrial Average have high market risk while others (Intel and Verizon) have low market risk. How do you explain this?
> Describe how different allocations between the risk-free security and the market portfolio can achieve any level of market risk desired. Give examples of a portfolio from a person who is very risk averse and a portfolio for someone who is not so averse t
> Consider that you have three stocks in your portfolio and wish to add a fourth. You want to know if the fourth stock will make the portfolio riskier or less risky. Compare and contrast how this would be assessed using standard deviation versus market ris
> GTB, Inc., has a 34 percent tax rate and has $100 million in assets, currently financed entirely with equity. Equity is worth $7 per share, and book value of equity is equal to market value of equity. Also, let’s assume that the firm&ac
> Show on a graph like Figure 10-2 where a stock with a beta of 1.3 would be located on the security market line. Then show where that stock would be located if it is undervalued.
> Describe how adding a risk-free security to modern portfolio theory allows investors to do better than the efficient frontier.
> How might the magnitude of the market risk premium impact people’s desire to buy stocks?
> In 2000, the S&P 500 Index earned −9.1 percent while the T-bill yield was 5.9 percent. Does this mean the market risk premium was negative? Explain.
> Why expected return is considered “forward-looking”? What are the challenges for practitioners to utilize expected return?
> Consider an asset that provides the same return no matter what economic state occurs. What would be the standard deviation (or risk) of this asset? Explain.
> Compare and contrast the assumptions that need to be made to compute a required return using CAPM and the constant growth rate model.
> As discussed in the text, beta estimates for one firm will vary depending on various factors like such as the time over which the estimation is conducted, the market portfolio proxy, and the return intervals. You will demonstrate this variation using ret
> Build a spreadsheet that automatically computes the expected market return and risk for different assumptions about the state of the economy. a. First, create the following spreadsheet and compute the expected return and standard deviation. b. Compute t
> When you go on the Web to find a firm’s beta, you do not know how recently it was computed, what index was used as a proxy for the market portfolio, or which time series of returns the calculations used. Earlier in this chapter, it was
> No Nuns Cos. has a 25 percent tax rate and has $350 million in assets, currently financed entirely with equity. Equity is worth $37 per share, and book value of equity is equal to market value of equity. Also, let’s assume that the firm
> For the same economic state probability distribution in Problem 10-1, determine the standard deviation of the expected return. Economic Probability Return State Fast growth Slow growth 0.3 40% 0.4 10% Recession 0.3 -25%
> A manager believes his firm will earn a 14 percent return next year. His firm has a beta of 1.2, the expected return on the market is 11 percent, and the risk-free rate is 5 percent. Compute the return the firm should earn given its level of risk and d
> A manager believes his firm will earn a 14 percent return next year. His firm has a beta of 1.5, the expected return on the market is 12 percent, and the risk-free rate is 4 percent. Compute the return the firm should earn given its level of risk and
> For the same economic state probability distribution in Problem 10-2, determine the standard deviation of the expected return. Economic Probability Return State Fast growth Slow growth 0.2 35% 0.6 10% Recession 0.2 -30%
> You own $10,000 of Olympic Steel stock that has a beta of 2.2. You also own $7,000 of Rent-a-Center (beta = 1.5) and $8,000 of Lincoln Educational (beta = 0.5). What is the beta of your portfolio?
> You own $7,000 of Human Genome stock that has a beta of 3.5. You also own $8,000 of Frozen Food Express (beta = 1.6) and $10,000 of Molecular Devices (beta = 0.4). What is the beta of your portfolio?
> Compute the expected return given these three economic states, their likelihoods, and the potential returns: Economic Probability Return State Fast growth Slow growth 0.3 40% 0.4 0.3 10 Recession -25
> Universal Forest’s current stock price is $57.50 and it is likely to pay a $0.26 dividend next year. Since analysts estimate Universal Forest will have a 9.5 percent growth rate, what is its required return?
> Paccar’s current stock price is $48.20 and it is likely to pay a $0.80 dividend next year. Since analysts estimate Paccar will have an 8.8% growth rate, what is its required return?
> The Japanese stock market bubble peaked at 38,916 in 1989. Two and a half years later it had fallen to 15,900. What was the percentage decline?
> Would you expect a utility company to have high or low debt levels? Why?
> The Nasdaq stock market bubble peaked at 4,816 in 2000. Two and a half years later it had fallen to 1,000. What was the percentage decline?
> You have a portfolio with a beta of 1.35. What will be the new portfolio beta if you keep 85 percent of your money in the old portfolio and 5 percent in a stock with a beta of 0.78?
> Paycheck, Inc. has a beta of 0.94. If the market return is expected to be 11 percent and the risk-free rate is 3 percent, what is Paycheck’s risk premium?
> Netflix, Inc. has a beta of 3.61. If the market return is expected to be 13 percent and the risk-free rate is 3 percent, what is Netflix’ risk premium?
> Nanometrics, Inc. has a beta of 3.15. If the market return is expected to be 10 percent and the risk-free rate is 3.5 percent, what is Nanometrics’ required return?
> Hastings Entertainment has a beta of 0.65. If the market return is expected to be 11 percent and the risk-free rate is 4 percent, what is Hastings’ required return?
> The average annual return on the S&P 500 Index from 1996 to 2005 was 10.8 percent. The average annual T-bill yield during the same period was 3.6 percent. What was the market risk premium during these ten years?
> Could you calculate the component cost of equity for a stock with nonconstant expected growth rates in dividends if you didn’t have the information necessary to compute the component cost using the CAPM? Why or why not?
> Under what situations would you want to use the CAPM approach for estimating the component cost of equity? The constant-growth model?
> If the U.S. government completely eliminated taxation at the corporate level, how would this influence the capital structures of firms in a world with bankruptcy?
> Expressing WACC in terms of iE, iP, and iD, what is the theoretical minimum for the WACC?
> Why don’t we multiply the cost of preferred stock by one minus the tax rate, as we do for debt?
> How would you handle calculating the cost of capital if a firm were planning to issue two different classes of common stock?
> Suppose a new project was going to be financed partially with retained earnings. What flotation costs should you use for retained earnings?
> When will the subjective approach to forming divisional WACCs be better than using the firmwide WACC to evaluate all projects?
> Suppose your firm wanted to expand into a new line of business quickly, and that management anticipated that the new line of business would constitute over 80 percent of your firm’s operations within three years. If the expansion was going to be financed
> Why do we use market-based weights instead of book-value-based weights when computing the WACC?
> LilyMac Studios, a national chain of photography studios, is considering opening up a chain of coffee shop/art galleries. While the existing operations of the firm have a beta of 1.17, the new chain is expected to have a beta of 0.8. LilyMac currently ha
> LilyMac Studios, a national chain of photography studios, is considering opening up a chain of coffee shop/art galleries. While the existing operations of the firm have a beta of 1.17, the new chain is expected to have a beta of 0.8. LilyMac currently ha
> Suppose that B2B, Inc. has a capital structure of 37 percent equity, 17 percent preferred stock, and 46 percent debt. If the before-tax component costs of equity, preferred stock and debt are 14.5 percent, 11 percent, and 9.5 percent, respectively, what
> Explain why, in a world with both corporate taxes and the chance of bankruptcy, a small firm with volatile EBIT is unlikely to have much debt.
> Suppose that JB Cos. has a capital structure of 78 percent equity, 22 percent debt, and that its before-tax cost of debt is 11 percent while its cost of equity is 15 percent. If the appropriate weighted average tax rate is 25 percent, what will be JB’s W
> Suppose that TapDance, Inc.’s capital structure features 65 percent equity, 35 percent debt, and that its before-tax cost of debt is 8 percent, while its cost of equity is 13 percent. If the appropriate weighted average tax rate is 34 percent, what will
> Suppose that Brown-Murphies’ common shares sell for $19.50 per share, that the firm is expected to set their next annual dividend at $0.57 per share, and that all future dividends are expected to grow by 4 percent per year, indefinitely. If Brown- Murphi
> Suppose that MNINK Industries’ capital structure features 63 percent equity, 7 percent preferred stock, and 30 percent debt. If the before-tax component costs of equity, preferred stock and debt are 11.60 percent, 9.5 percent, and 9 percent, respectively
> BetterPie Industries has three million shares of common stock outstanding, two million shares of preferred stock outstanding, and 10,000 bonds. If the common shares are selling for $47 per share, the preferred shares are selling for $24.50 per share, and
> Johnny Cake Ltd. has ten million shares of stock outstanding selling at $23 per share and an issue of $50 million in 9 percent, annual coupon bonds with a maturity of 17 years, selling at 93.5 percent of par. If Johnny Cake’s weighted average tax rate is
> TAFKAP Industries has three million shares of stock outstanding selling at $17 per share and an issue of $20 million in 7.5 percent, annual coupon bonds with a maturity of 15 years, selling at 106 percent of par. If TAFKAP’s weighted average tax rate is
> WhackAmOle has two million shares of common stock outstanding, 1.5 million shares of preferred stock outstanding, and 50,000 bonds. If the common shares are selling for $63 per share, the preferred shares are selling for $52 per share, and the bonds are
> Diddy Corp. stock has a beta of 1.2, the current risk-free rate is 5 percent, and the expected return on the market is 13.5 percent. What is Diddy’s cost of equity?
> OMG Inc. has four million shares of common stock outstanding, three million shares of preferred stock outstanding, and 5,000 bonds. If the common shares sell for $17 per share, the preferred shares sell for $16 per share, and the bonds sell for 108 perce
> Suppose you were the financial manager for a firm and were considering a proposed increase in the amount of debt in the firm’s capital structure. If you thought the firm was going to consistently earn a level of EBIT above its break-even level of EBIT (b
> FarCry Industries, a maker of telecommunications equipment, has two million shares of common stock outstanding, one million shares of preferred stock outstanding, and 10,000 bonds. If the common shares sell for $27 per share, the preferred shares sell fo
> OMG Inc. has four million shares of common stock outstanding, three million shares of preferred stock outstanding, and 5,000 bonds. If the common shares are selling for $27 per share, the preferred shares are selling for $26 per share, and the bonds are
> FarCry Industries, a maker of telecommunications equipment, has two million shares of common stock outstanding, one million shares of preferred stock outstanding, and 10,000 bonds. If the common shares are selling for $27 per share, the preferred shares
> OMG Inc. has four million shares of common stock outstanding, three million shares of preferred stock outstanding, and 5,000 bonds. If the common shares are selling for $17 per share, the preferred shares are selling for $26 per share, and the bonds are
> FarCry Industries, a maker of telecommunications equipment, has two million shares of common stock outstanding, one million shares of preferred stock outstanding, and 10,000 bonds. If the common shares are selling for $27 per share, the preferred shares
> Marme, Inc. has preferred stock selling for 96 percent of par that pays an 11 percent annual coupon. What would be Marme’s component cost of preferred stock?
> ILK has preferred stock selling for 97 percent of par that pays an 8 percent annual coupon. What would be ILK’s component cost of preferred stock?
> Oberon, Inc. has a $20 million (face value) 10-year bond issue selling for 97 percent of par that pays an annual coupon of 8.25 percent. What would be Oberon’s before-tax component cost of debt?
> JaiLai Cos. stock has a beta of 0.9, the current risk-free rate is 6.2 percent, and the expected return on the market is 12 percent. What is JaiLai’s cost of equity?
> Suppose that LilyMac Photography expects EBIT to be approximately $200,000 per year for the foreseeable future, and that they have 1,000 10-years, 9 percent annual coupon bonds outstanding. What would the appropriate tax rate be for use in the calculatio
> If an investor wanted to reduce the risk of a levered stock in their portfolio, how could they go about doing so while still retaining shares in the company?
> KatyDid Clothes has a $150 million (face value) 30-year bond issue selling for 104 percent of par that carries a coupon rate of 11 percent, paid semiannually. What would be Katydid’s before-tax component cost of debt?
> PDQ, Inc. expects EBIT to be approximately $11 million per year for the foreseeable future, and that they have 25,000 20-years, 8 percent annual coupon bonds outstanding. What would the appropriate tax rate be for use in the calculation of the debt compo
> A firm is considering a project that will generate perpetual after-tax cash flows of $15,000 per year beginning next year. The project has the same risk as the firm's overall operations and must be financed externally. Equity flotation costs 14 percent a
> Suppose your firm has decided to use a divisional WACC approach to analyze projects. The firm currently has four divisions, A through D, with average betas for each division of 0.6, 1.0, 1.3, and 1.6, respectively. If all current and future projects will
> An all-equity firm is considering the projects shown as follows. The T-bill rate is 4 percent and the market risk premium is 7 percent. If the firm uses its current WACC of 12 percent to evaluate these projects, which project(s), if any, will be incorrec
> An all-equity firm is considering the projects shown as follows. The T-bill rate is 4 percent and the market risk premium is 7 percent. If the firm uses its current WACC of 12 percent to evaluate these projects, which project(s), if any, will be incorrec
> Suppose your firm has decided to use a divisional WACC approach to analyze projects. The firm currently has four divisions, A through D, with average betas for each division of 0.9, 1.1, 1.3, and 1.5, respectively. If all current and future projects will
> Suppose a new project was going to be financed partially with retained earnings. What flotation costs should you use for retained earnings?
> When will the subjective approach to forming divisional WACCs be better than using the firmwide WACC to evaluate all projects?
