Module 10: Critical Thinking FIN 500

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Critical Thinking: Valuation and Characteristics of Bonds and Stocks (130)

Complete the following problems:

  • Problem 10-1: Bond Valuation 1
  • Problem 10-2: Bond Valuation 2
  • Problem 10-3: Bond Valuation 3
  • Problem 10-4: Preferred Stock Valuation
  • Problem 10-5: Common Stock Valuation 1
  • Problem 10-6: Common Stock Valuation 2
  • Problem 10-7: Cost of Trade Credit
  • Problem 10-8: Cost of Commercial Paper

You can access the problem details by clicking on Valuation and Characteristics of Bonds and Stocks link below.

Complete the problems in an Excel spreadsheet or Word document. Be sure to show your work.

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Module 10 Critical Thinking Assignment Valuation and Characteristics of Bonds and Stocks (130 Points) Complete the following problems. You will likely use a spreadsheet for this assignment but you may choose to type up your answers in a Word document. In either case, be sure to show your work. Support your answers by showing the formulas you use and defining any variables in the formulas. Problem 10-1: Bond Valuation 1 Calculate the value of a bond that will mature in 17 years and has a SAR 1,000 face value. The annual coupon interest rate is 6 percent, and the investor's required rate of return is 8 percent. DATA Years Face value Interest Required rate of return 17 1,000 6.0% 8.0% Solution: Present Value = Problem 10-2: Bond Valuation 2 Calculate the value of a bond that will mature in 9 years and has a SAR 1,000 face value. The interest rate is 8 percent and is paid semi-annually, and your required rate of return is 5 percent. What is the value of the bond if interest is paid annually? DATA Coupon rate Times interest paid Years to Maturity Par Value Required rate of return Solutions: A) Present value = 8.0% semi-annual 9 1,000 5.0% B) If the interest is annual = Problem 10-3: Bond Valuation 3 Global Corporation issued a bond with a SAR 1,000 par value that pays SAR 50 in annual interest. The bond matures in 20 years. Your required rate of return is 6 percent. a. Calculate the value of the bond. b. How does the value change if your required rate of return (1) increases to 8 percent or (2) decreases to 4 percent? c. Explain the implications of your answers in part b. as they relate to interest rate risk, premium bonds, and discount bonds. d. Assume that the bond matures in 10 years instead of 20 years. Re-compute your answers in part b. e. Explain the implications of your answers in part d. as they relate to interest rate risk, premium bonds, and discount bonds. DATA Years Interest Bond Required rate of return 20 5.0% 1,000 6.0% Solutions: A) Value of bond = B) Required rate of return The value of bond 8.0% Required rate of return 4.0% The value of bond C) D) Years Required rate of return 10 6.0% The value of bond Required rate of return 8.0% The value of bond Required rate of return The value of bond E) 4.0% Problem 10-4: Preferred Stock Valuation Preferred stock issued by Saudi, Inc. is selling for SAR 45.00 per share in the market and pays a SAR 4.00 annual dividend. a. What is the expected rate of return on the stock? b. If an investor's required rate of return is 8 percent, what is the value of the stock for that investor? c. Should the investor acquire the stock? DATA Market Price Dividend 45.00 4.00 Solutions A) Expected rate of return = B) Required rate of return = Value = C) 8.0% Problem 10-5: Common Stock Valuation 1 Jeddah Corporation has a 14 percent return on equity and retains 60 percent of its earnings for reinvestment purposes. The company recently paid a dividend of SAR 4.50 and the stock is currently selling for SAR 42. a. What is the growth rate for Jeddah Corporation? b. What is the expected return for Jeddah stock? c. If you require a 15 percent return would you invest in Jeddah stock? DATA Return of equity Retention rate Dividend Market price 14.0% 60.0% 4.50 42.00 Solutions A) Growth rate B) Next year's dividend Expected return C) Required rate of return 15.0% Present value Problem 10-6: Common Stock Valuation 2 Saudi Enterprises is selling for SAR 73.75 per share and paid a dividend of SAR 1.25 last year. The dividend is expected to grow at 6 percent indefinitely. What is the stock's expected rate of return? DATA Market price Most recent annual dividend Growth rate 73.75 1.25 6.0% Solution Forthcoming dividend Dividend yield Growth rate 6.0% Expected rate of return Problem 10-7: Cost of Trade Credit Calculate the effective cost of the following trade credit terms when payment is made on the net due date. A) 3/12, net 30: Percent 3% Days 12 Net 30 Effective cost = B) 2/12, net 30: Percent 2% Days 12 Net 30 Effective cost = C) 2/12, net 45: Percent 2% Days 12 Net 45 Effective cost = D) 3/15, net 60: Percent 3% Days 15 Net 60 Effective cost = Problem 10-8: Cost of Commercial Paper Medina Corporation plans to issue commercial paper for the first time in the firm's history. The company plans to issue SAR 750,000 in 180-day maturity notes. The paper will carry an 11 percent rate with discounted interest and will cost Medina SAR 15,000 (paid in advance) to issue. a. What is the effective cost of credit to Medina? b. What other factors should the company consider in analyzing whether to issue the commercial paper? DATA Amt issued Interest Cost of issuance Term A) Interest in SAR = APR = B) 750,000 11.00% 15,000 180
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Explanation & Answer

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Last Name 1

Name
Course
Professor
April 19, 2017
Valuation and Characteristics of Bonds and Stocks
Problem 10-1: Bond Valuation 1
Calculate the value of a bond that will mature in 17 years and has a SAR 1,000 face value. The
annual coupon interest rate is 6 percent, and the investor's required rate of return is 8 percent.
DATA
Years
Face value
Interest
Required rate of return

17
1,000
6.0%
8.0%

Solution:
1−(1−𝑟)−𝑡

present value of interest payments=𝑐×𝑓×
in this formula interest payments are treated
𝑟
as ordinary annuities because they are paid at the end of every year.
𝑓

Present of face value of bond at maturity= (1+𝑟) or f (1+t)-t
1−(1+𝑟)−𝑡
𝑟

= PVIF

Where r is the prevailing required rate return
C is the bond coupon rate
F is the face value
T is the period or the lifetime of the bond
In this case PVIF=

1−(1+0.08)−17
0.08

= 9.122

Also PVF =0.270
The value of the bond will be the addition of the Present value of the interest payments and the
present value of the face value of the bond 𝑐×𝑓×
0.06×1000×

1−(1+0.08)−17
0.08

1−(1+𝑟)−𝑡
𝑟

+

𝑓
(1+𝑟)𝑡

1000

+ (1+8)17 =

0.06×1000×9.122 + 270.26 = SAR 817.58

Problem 10-2: Bond Valuation 2
Calculate the value of a bond that will mature in 9 years and has a SAR 1,000 face value. The
interest rate is 8 percent and is paid semi-annually, and your required rate of return is 5 percent.
What is the value of the bond if interest is pa...


Anonymous
I was having a hard time with this subject, and this was a great help.

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