1. MGT 326 Fall 2015 Test 2 Problem Solutions 1 4. A $10,000 face value Diamond Jim’s Corporation bond matures 1 Jan 2019. It has a 5.7850% coupon rate and pays coupons semiannually. Its YTM as of 18 Nov 2015 was 5.4200%. What is this bond’s retail price as of 18 Nov 2015? There are 170 days between 1 June 2015 and 18 Nov 2015. There are 44 days between 18 Nov 2015 and 1 Jan 2016. (Use the Bond Worksheet. Show all calculator inputs; work in at least 4 decimal places) SDT = 11.1815 CPN = 5.785 RDT = 1.0119 YLD = 5.42 PRI = 103.2698%; V B = 100 x 103.2698 = $10,326.98 7. At the beginning of the year a $1,000 face value bond paying a coupon rate of 7.8200% APR with semiannual payments and 13.5 years maturity was selling at par (excluding fees and transaction costs). At the end of the year the bond's YTM was 7.0400%. What is the bond’s holding period return for the year? EAR CPN = NOM=7.82, C/Y=2; EFF = 7.9729% V B,0 = $1,000 V B,1 : T=12.5, m=2; n = 25; PMT = $1,000(0.0782/2) = $39.10 P/Y=2, N=25, I/Y=87.04, PMT=39.1, FV=1000; CPT, PV: V B,1 = $1,064.1386 Cap Gain Yield = ($1,064.1386 -$1,000)/$1,000 = 6.4139% Total Yield = 7.9729% + 6.4139% = 14.3867% 9. What is the fair market value of a $1,000 face value bond that pays annual interest payments of $80 and will mature in five years if the current market interest rates for all bonds of the same maturity and bond rating is 8.0000%? Quick Way: Find r CPN and compare to r d ; r CPN = $80/$1,000 = 8.0000%; r d = r CPN  V B = $1,000; The bond is selling at par. Longer Way: P/Y=1, N=5, I/Y=8, PMT=80, FV=1000, CPT PV; PV = V B = $1,000 10. A $1000 face value bond with a maturity of 15 years and a 7.3600% coupon rate paying quarterly interest payments is currently selling for $988.58 (minus fees and transaction costs). What is the yield to maturity of this bond? T=15, m=4; n = 60; PMT = $1,000(0.0736/4) = $18.4 P/Y=4, N=60, PV=-988.58, PMT=18.4, FV=1000; CPT, I/Y; YTM = 7.4874% 13. The stock of Gentleman Jim’s Large & Tall Men’s Clothiers Inc. is currently selling for $70 per share. The firm pays quarterly dividends and plans to pay a dividend of $0.80 at the end of this quarter (i.e. at t=1). The firm's dividends are expected to grow at a rate of 16% per year for the next year (i.e. until t=4). After this time, the dividends are expected to grow at a constant rate of 8% per year for the foreseeable future. The stock's required rate of return is 12%. Is this stock undervalued or overvalued and by how much? 1) Find D 2, D 3 & D 4 : D 1 = $0.60 D 2 = $0.80(1+0.16/4) = $0.8320; D 3 = $0.80(1+0.16/4) 2 = $0.8653; D 4 = $0.80(1+0.16/4) 3 = $0.8999 2) Find PV at t=0 of D 1, D 2, D 3 & D 4 and sum them Uneven Cash flow approach: CF, 2nd CLR WORK (Clear cash flow worksheet) 0, ENTER ↓, 0.80, ENTER ↓, ↓,0.832, ENTER ↓, ↓, 0.8653, ENTER ↓, ↓, 0.8999, ENTER NPV, 3, ENTER (I/Y= r s /m = 12%/4 = 3%) ↓, CPT: NPV = $3.1524 3) Find Horizon Value: D 4 (1 + g N /m) / (r s /m – g N /m) = $0.8999(1 + 0.08/4) / (0.12/4 – 0.08/4) = $91.7898 4) Find PV at t=0 of Horizon Value: P/Y=4, N=4, I/Y=12, FV=91.7898; CPT,PV = $81.5540 5) P 0 = $3.1524 + $81.5540 = $84.71; $84.71 - $70 = -$14.71; The stock is undervalued by $14.71 V B,0 0 1 V B,1 Beginning of the Year End of the Year 7t = ? (infinity)0456123 r s = 12.0% D2D2 D3D3 D4D4 Supernormal Growth (g SN =16%, t=0 thru t=4) D5D5 D6D6 D infinity D7D7 Normal Growth (g N = 8%, t=4 & onward) D 1 = $0.80 Horizon Value (V H )

2. MGT 326 Fall 2015 Test 2 Problem Solutions 2 14. Reference the stock described in Problem 13 above; what is the expected value of this stock one year from now? Three answers are acceptable: c) V H from Prob. 13 = $91.79 d) P/Y=4, N=4, I/Y=16, PV=84.71, CPT FV, P 4 = $99.10 e) P/Y=4, N=4, I/Y=16, PV=70, CPT FV, P 4 = $81.89