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1. A 25year bond
with a face value of $1,000 has a coupon rate of 8.50%, with semiannual
payments.

What is the bond payment for this bond?

Enter the cash flows for the bond on a timeline
———————
2. Assume that a bond will make payments every six months as
shown on the following timeline:
Period 0 1
2
17 18
Cashflow $45.00
$45.00 $45.00 $1,045.00

What is the maturity of the bond (in years)?

What is the coupon rate (in percent)?

What is the face value?
———————
3. Explain why the yield of a bond that trades at a discount
exceeds the bond’s coupon rate.
———————
4. Suppose a sevenyear, $1,000 bond with a 4.08% coupon
rate and semiannual coupons is trading with a yield to maturity of 2.81%.
a. Is this bond
currently trading at a discount, at par, or at a premium? Explain
b. If the yield
to maturity of the bond rises to 3.28% (APR with semiannual compounding), at
what price will the bond rate?
———————
5. Assume the zerocoupon yields on defaultfree securities
are as summarized in the following table:
Maturity 1 yr 2 yrs 3 yrs 4 yrs 5 yrs
ZeroCoupon Yields 3.80% 4.20% 4.50% 4.80% 5.20%
What is the price today of a fiveyear, zerocoupon
defaultfree security with a face value of $1,000?
———————
6. Assume the zerocoupon yields on defaultfree securities
are as summarized in the following table:
Maturity 1 yr 2 yrs 3 yrs 4 yrs 5 yrs
ZeroCoupon Yields 3.70% 4.20% 4.50% 4.80% 5.20%
What is the price today of a threeyear, defaultfree
security with a face value of $1,000 and an annual coupon rate of 2%?
What is the yield to maturity for this bond?
———————
7. Why does the expected return of a corporate bond not
equal its yield to maturity?
———————
8. Grummon Corporation has issued zerocoupon corporate
bonds with a fiveyear maturity (assume $100 face value bond). Investors
believe there is a 20% chance that Grummon will default on these bonds. If
Grummon does default, investors expect to receive only 50 cents per dollar they
are owed. If investors require a 6% expected return on their investment in
these bonds, what will be the
a. price of these bonds?
b. yield to
maturity on these bonds?
———————
9. What does it mean for a country to “inflate away” its
debt?
Why might this be costly for investors even if the country
does not default?
———————
11. Your brother wants to borrow $10,000 from you. He has
offered to pay you back $13,000 in a year. If the cost of capital of this
investment opportunity is 8%, what is its NPV?
Should you undertake the investment opportunity?
Calculate the IRR and use it to determine the maximum
deviation allowable in the cost of capital estimate to leave the decision
unchanged.
———————
12. You are considering investing in a start up company. The
founder asked you for $290,000 today and you expect to get $980,000 in 14
years. Given the riskiness of the investment opportunity, your cost of capital
is 21%. What is the NPV of the investment opportunity?
Should you undertake the investment opportunity?
Calculate the IRR and use it to determine the maximum
deviation allowable in the cost of capital estimate to leave the decision
unchanged.
———————
13. You have been offered a very longterm investment opportunity
to increase your money one hundredfold. You can invest $500 today and expect to
receive $50,000 in 40 years. Your cost of capital for this (very risky)
opportunity is 23%. What does the IRR rule say about whether the investment
should be undertaken?
What about the NPV rule?
Do you agree?
———————
14. You are considering opening a new plant. The plant will
cost $104.8 million upfront and will take one year to build. After that, it is
expected to produce profits of $28.5 million at the end of every year of
production. The cash flows are expected to last forever. Calculate the NPV of
this investment opportunity if your cost of capital is 6.7%. Should you make
the investment?
Calculate the IRR. Does the IRR rule agree with the NPV
rule?
Below is the cash flow timeline:
Years 0 1
2
3 4 Forever
Cashflow ($ million)
104.8 $28.5 $28.5 28.5 28.5
————
15. You are a real estate agent thinking of placing a sign
advertising your services at a local bus stop. The sign will cost $6,000 and
will be posted for one year. You expect that it will generate additional
revenue of $660 a month.
What is the payback period?
————–
16. You are a real estate agent thinking of placing a sign
advertising your services at a local bus stop. The sign will cost $5,000 and
will be posted for one year. You expect that it will generate additional
revenue of $500 a month. What is the payback period?
————–
17. You are deciding between two mutually exclusive
investment opportunities. Both require the same initial investment of $9.8
million. Investment A will generate $2.08 million per year (starting at the end
of the first year) in perpetuity. Investment B will generate $1.42 million at
the end of the first year, and its revenues will grow at 2.2% per year for
every year after that.
a. Which investment has the higher IRR?
b. Which investment has the higher NPV when the cost of
capital is 6.6%?
———————
18. You have just started your summer internship, and your
boss asks you to review a recent analysis that was done to compare three
alternative proposals to enhance the firm’s manufacturing facility. You find
that the prior analysis ranked the proposals according to their IRR, and recommended
the highest IRR option, Proposal A. You are concerned and decide to redo the
analysis using NPV to determine whether this recommendation was appropriate.
But while you are confident the IRRs were computed correctly, it seems that
some of the underlying data regarding the cash flows that were estimated for
each proposal was not included in the report. For Proposal B, you cannot find
information regarding the total initial investment that was required in Year 0.
And for Proposal C, you cannot find the data regarding additional salvage value
that will be recovered in Year 3. Here is the information you have (in $
millions):
Proposal
IRR Year 0 Year 1 Year 2 Year 3
A 60.0% $100 $30 $153 $88
B 51.9% ? $0 $206 $95
C 50.7% $100 $37 $0 $204+?

Fill in the missing values “?”

Suppose the appropriate cost of capital for each
alternative in 10%. Using this information, determine the NPV of each proposal.
Which project should the firm choose? 
Can the IRR rule be used in this situation?
Justify.
——————
19. Natasha’s Flowers, a local florist, purchases fresh
flowers each day at the local flower market. The buyer has a budget of $985 per
day to spend. Different flowers have different profit margins, and also a
maximum amount the shop can sell. Based on past experience the shop has
estimated the following NPV of purchasing each type:
NPV per bunch Cost per
bunch Max. Bunches
Roses
$3
$25 $25
Lilies $10 $29 $10
Pansies $4 $29 $10
Orchids
$21 $81 $5
What combination of flowers should the shop purchase each
day?
The profitability index for each choice is:????
———————
20. You own a car dealership and are trying to decide how to
configure the showroom floor. The floor has 2000 square feet of usable space.
You have hired an analyst and asked her to estimate the NPV of putting a
particular model on the floor and how much space each model requires:
Model NPV Space Requirement (sq. ft).
MB345 $2,500 200
MC237 $4,000 250
MY456 $3,500 240
MG231 $1,500 150
MT347 $9,000 450
MF302 $2,000 200
MG201 $2,500 150
In addition, the showroom also requires office space. The
analyst has estimated that office space generates a NPV of $14 per square foot.
What models should be displayed on the floor and how many square feet should be
devoted to office space?
Complete the PI table below: (Round to two decimal spaces)
Model NPV Space Requirement (sq. ft). PI
MB345 $2,500 200 ?
MC237 $4,000 250 ?
MY456 $3,500 240 ?
MG231 $1,500 150 ?
MT347 $9,000 450 ?
MF302 $2,000 200 ?
MG201 $2,500 150 ?
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