1 - Tulane University



Finance 6020Professor - Bill ReeseMidterm ExamFall 2017Instructions:The first three pages consist of 15 multiple choice questions for which you do not have to show any work. These questions are worth two points each. Circle the letter of the best answer.The next seven pages contain 7 problems. You must show your work (including formulas with the numbers inserted) and your final answers to receive full credit for these problems. Each problem is worth ten points and partial credit will be given where applicable. If you need more space, write on the back of the page and leave me a note that your answer is continued on the back.All bonds with coupon payments pay their interest semiannually. Assume all other cash flows are annual and come at the end of the year unless the problem states otherwise. Assume that compounding occurs when the cash flows are received (i.e. monthly cash flows means monthly compounding) unless the problem states otherwise. Assume APR unless the problem states otherwise. All dollar and interest rates are expressed in nominal values unless the problem states otherwise. If a problem doesn’t mention nominal or real or inflation, it does not involve inflation.Please make it clear which letter you are circling.You may use a calculator, excel, and the two pieces of paper you were allowed to bring to this exam with any notes you want to refer to.If you use your laptop, it may be used for Excel only, and you must begin with a blank Excel worksheet. If anything else is on your monitor, it will be considered to be a violation of the honor code.Carry out your final answers to the nearest cent (for monetary answers) or basis point (for percentage answers). Carry out all workings within a problem either in Excel or your calculator and use cell references whenever e to the front to see me if you have any questions.Some questions and problems may contain more information than is needed to solve them.You have three hours to complete this test.I will post your grade on the web site by your number as soon as I have them all graded.Good luck!Name (please print neatly): _____________________________________________ Which of the following is found on a yield curve?PriceCoupon RateTime till MaturityFace ValueIf you expect to receive $100,000 exactly five years from now, what do you expect its purchasing power to be if you expect the nominal rate to be 6.0% every year and you expect inflation to be 2.0% every year? $74,725.82$82,503.34$90,573.08None of the aboveAccording to your text, the goal of financial management it toAvoid financial distress and bankruptcyMaintain steady earnings growth in perpetuityMaximize profits and earnings per shareMaximize the current value per share of the existing stockWhich of the following is true of the Nasdaq stock market?It is a computer network and has no physical location where trading takes placeIt is a multiple market-maker systemIt is often referred to as an OTC marketAll the above are trueThe value (price) of any financial asset can be found byCalculating the present value of its expected future cash flowsFinding a comparable asset and applying the correct financial ratioObserving the supply of the asset and the demand for the assetNone of the above are correctIf you invest $100 today and expect it to grow to become $200 in 10 years, what is the rate of return you expect to earn (APR) with monthly compounding?6.95%7.12% 7.18%7.21%Which of the following is the name for a level stream of cash flows that never ends?A perpetuityAn annuity dueAn ordinary annuityEither B or C could be correct depending on when the cash flows beginWhich of the following has the greatest interest rate risk when it is initially issued?A 10-year non-investment grade bondA 10-year U.S. Treasury noteA U.S. Treasury billA U.S. Treasury bondYour company’s revenues were $3 million this year. You paid out $500,000 in salaries and your only other cash outflow was the purchase of a piece of construction equipment for $1 million that is to be depreciated to a zero salvage value on a straight-line basis over the next 10 years. If your tax rate is 35%, what was your free cash flow?A. $625,000B. $975,000C. $1,625,000D. None of the above are correctWhat is the future value of an investment which will pay you $50 every month for the next 20 years with the first payment coming today and the last payment coming exactly 20 years from today? The APR is 7%.A. $26,046.33 B. $26,198.27C. $26,248.27D. $26,401.38If you invest $700 at the continuously compounded annual rate of 4.5%, how much money will it have grown to in five years?A. $558.96B. $872.33C. $876.63D. None of the above are correctFreeman Corp. has issued bonds with a face value of $50 million. Those bonds are trading at 102. Freeman’s stock has a P/E ratio of 25. Its earnings per share were $2.00 last year with 1 million shares of common stock outstanding. What is Freeman’s enterprise value if it carries no cash?$50 million$100 million$101 millionNone of the aboveSustef Corp. has $100 million in assets on its balance sheet. It also has $20 million of debt. If Sustef’s ROA is 10.0%, what is its ROE?10.0%10.5%12.0%12.5%You expect a stock that you own to pay a dividend of $6 later today. You expect it to continue to pay a dividend of $6 per year forever. If you require a 12% rate of return on this stock, what do you feel its price should be?A. $50 B. $56C. $60D. None of the aboveYour credit card charges an interest rate of 12.50% APR with monthly compounding. What is its EAR (effective annual rate)?12.50%13.00%13.50%None of the above are correctReese’s Pieces Corp. paid a dividend of $7 per share of common stock yesterday. Reese’s Pieces is growing fast, so you expect that dividend to increase at the rate of 10 percent per year for the next three years. At the end of those three years, you expect the company’s P/E ratio to be the same as other chocolate and candy companies. After careful research, you conclude that those firms typically have a P/E ratio of 20, and you expect that to be the case in the future as well. Based on the riskiness of Reese’s Pieces, investors require a return of 12% to invest in it. If you expect Reese’s Pieces to have earnings of $50 million in three years, along with 20 million shares outstanding, what do you feel should be the price per share of Reese’s Pieces stock today?Price per share ____________________A U.S. Treasury bond has 12 years remaining until it matures. The face value of this bond is $100,000 and its coupon rate is 4.25%. If a bond dealer quotes prices of 101:16 and 101:18, what is this bond’s yield-to-maturity based on its ask price?YTM __________________Assume that today is December 1, 2017 and you have just taken out a 30-year fixed rate mortgage at an APR of 4.50%. The amount of the mortgage is $240,000. What are your scheduled monthly payments? Your first payment is due Jan. 1, 2018. Instead of making the scheduled monthly payments, you decide to pay an even $1,500 every month beginning with the first payment. How many full payments of $1,500 will you need to make until the mortgage is paid off? If your last partial payment is made on the first of the month after your last full $1,500 payment, on what date will you have your mortgage completely paid off?Scheduled Monthly Payments ___________________Number of full $1,500 payments needed to pay off mortgage __________________Date (month, day and year) when you will pay off your mortgage ________________A bond has a face value of $1 million, a coupon rate of 2.25%, a YTM of 2.16%, and it matures exactly 15 years and six months from today. What is its price if the next coupon payment is scheduled to be made six months from today?Price of Bond ____________________You are presented with two investment opportunities. Each requires an immediate investment of $10,000. Investment A will pay $4,000 at the end of each year for three years with the first payment coming one year from today. Investment B will pay $320 at the end of each month for three years with the first payment coming one month from today. There is no risk involved with either investment. This means that Investment A is offering three annual payments of $4,000 each and Investment B is offering 36 monthly payments of $320 each. Tell me which investment (A or B) you will choose, and in one sentence, tell me why you chose it. For full credit, you must show your work below (meaning numbers) to support your answer. A or B ______________Why? ______________________________________________________________Sustef Corp. is a new firm that is planning to issue shares of common stock for the very first time (an initial public offering). You have carefully analyzed its financial statements and have come up with the following projections:Financial Projections:Free Cash Flow in 2018: $6.5 millionFree Cash Flow in 2019: $7 millionFree Cash Flow in 2020: $10 millionGrowth rate of FCF after 2020: 3% foreverRequired Rate of Return: 15%Market value of all debt: $10 millionNumber of shares of common stock outstanding: 1.5 millionIn order to determine the value of a share of stock, you have decided to apply the free cash flow approach to the firm’s financial data. If all cash flows come at the end of the year, what is the appropriate value of one share of Sustef Corp. at the beginning of 2018?Appropriate value of one share of stock __________________Your company is getting ready to roll out a new product. Sales are expected to be $1 million (nominal dollars) during the first year. Assume all cash flows come at the end of the year, meaning that the $1 million comes in one year from today. After the first year, you expect sales to grow at the rate of inflation (which you expect to be 2.00% per year) each year thereafter. This new product is expected to have a life of eight years – meaning that the last cash flow you will receive will be eight years from today. Based on a nominal discount rate of 10%, what is the present value of your expected sales? PV of expected sales ___________________ ................
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