1. Define each of the following:
   1. Loss reserves
   2. Unearned premium reserves
   3. Loss-adjustment expenses (balance sheet item)
   4. Policyholder’s surplus
   5. Loss ratio
   6. Expense ratio
   7. Combined ratio
   8. Investment income ratio
   1. Overall operating ratio
2. What are the three regulatory objectives of ratemaking?
3. Explain each of the following in the context of ratemaking.
   1. Judgement rating
   2. Class rating
   3. Pure premium method
   4. Loss ratio method
   5. Merit rating
   6. Schedule rating
   7. Experience rating
   8. Retrospective rating

Special Note: Please answer all three questions as they are short. Thank you.

using Financial Calculator Please

Recent trends in out sourcing business functions have meant that many organizations contract with payroll processing firms to administer their payroll systems. This is particularly true for small to medium sized businesses.

With this trend in mind, please relate your thoughts and comments to one or both of the following topics:

1. If you have been an employee of a business that has out sourced its payroll functions, please comment on your satisfaction with the administration of the payroll system.

2. Comment on your personal views toward the out sourcing of the payroll function. Relate what might be advantages and disadvantages to the business that decides to have an outside company handle their payroll

The following facts are for a non-cancellable lease agreement between Ivanhoe Corporation and Russell Corporation, a lessee:

The collectibility of the lease payments is reasonably predictable, and there are no important uncertainties about costs that have not yet been incurred by the lessor. The lessee assumes responsibility for all executory costs. Both Russell and Ivanhoe use IFRS 16.

Calculate the amount of gross investment at the inception of the lease for Ivanhoe Corporation, the lessor.

Kim Inc. must install a new air conditioning unit in its main plant. Kim must install one or the other of the units; otherwise, the highly profitable plant would have to shut down. Two units are available, HCC and LCC (for high and low capital costs, respectively). HCC has a high capital cost but relatively low operating costs, while LCC has a low capital cost but higher operating costs because it uses more electricity. The costs of the units are shown here. Kim's WACC is 5%.

1. Which unit would you recommend?
   1. Since all of the cash flows are negative, the IRR's will be negative and we do not accept any project that has a negative IRR.
   2. Since all of the cash flows are negative, the NPV's cannot be calculated and an alternative method must be employed.
   3. Since all of the cash flows are negative, the NPV's will be negative and we do not accept any project that has a negative NPV.
   4. Since we are examining costs, the unit chosen would be the one that had the lower NPV of costs. Since LCC's NPV of costs is lower than HCC's, LCC would be chosen.
   5. Since we are examining costs, the unit chosen would be the one that had the lower NPV of costs. Since HCC's NPV of costs is lower than LCC's, HCC would be chosen.
   
   -Select-
2. If Kim's controller wanted to know the IRRs of the two projects, what would you tell him?
   1. The IRR of each project will be positive at a lower WACC.
   2. There are multiple IRR's for each project.
   3. The IRR of each project is negative and therefore not useful for decision-making.
   4. The IRR cannot be calculated because the cash flows are all one sign. A change of sign would be needed in order to calculate the IRR.
   5. The IRR cannot be calculated because the cash flows are in the form of an annuity.
   
   -Select-
3. If the WACC rose to 10% would this affect your recommendation?
   1. Since all of the cash flows are negative, the NPV's will be negative and we do not accept any project that has a negative NPV.
   2. When the WACC increases to 10%, the NPV of costs are now lower for LCC than HCC.
   3. When the WACC increases to 10%, the NPV of costs are now lower for HCC than LCC.
   4. When the WACC increases to 10%, the IRR for LCC is greater than the IRR for HCC, LCC would be chosen.
   5. When the WACC increases to 10%, the IRR for HCC is greater than the IRR for LCC, HCC would be chosen.
   
   -Select-
   Explain your answer and the reason this result occurred.
   1. The reason is that when you discount at a higher rate you are making negative CFs higher and this lowers the NPV.
   2. The reason is that when you discount at a higher rate you are making negative CFs smaller and this lowers the NPV.
   3. The reason is that when you discount at a higher rate you are making negative CFs smaller thus improving the NPV.
   4. The reason is that when you discount at a higher rate you are making negative CFs higher thus improving the IRR.
   5. The reason is that when you discount at a higher rate you are making negative CFs higher thus improving the NPV.
   
   -Select-

The bonds issued by Stainless Tubs bear a 8 percent coupon, payable semiannually. The bonds mature in 8 years and have a $1,000 face value. Currently, the bonds sell for $1042. What is the yield to maturity?

Thurston Petroleum is considering a new project that complements its existing business. The machine required for the project costs $4.7 million. The marketing department predicts that sales related to the project will be $2.83 million per year for the next four years, after which the market will cease to exist. The machine will be depreciated to zero over its 4-year economic life using the straight-line method. Cost of goods sold and operating expenses related to the project are predicted to be 30 percent of sales. The company also needs to add net working capital of $210,000 immediately. The additional net working capital will be recovered in full at the end of the project’s life. The tax rate is 22 percent and the required return for the project is 13 percent.

What is the NPV?

Should the company proceed with the project?

Discuss and evaluate the statement "Maximizing shareholder wealth should be the goal of all financial managers, regardless of the effect on the quality of the product, customer service, and employee and supplier relations." by explaining why you do or don't agree with this statement and providing at least 3 points supporting your argument.

You are considering two investment options. In option A, you have to invest $4500 now and $1000 three years from now. In option B, you have to invest $3500 now, $1000 a year from now, and $1000 three years from now. In both options, you will receive four annual payments of $2000 each (you will get the first $2000 payment a year from now). Which of these two options would you choose based on AE criterion? Assume the interest rate is 10%.

Note: find the AE for both projects. Include the annual revenues in AE calculations. Show your calculations.

1. Use the following information to answer the next four questions.

   Carson Co. is considering buying a tract of land for oil drilling. The company is certain they will find oil on the land, but they are unsure about the future demand for crude oil. Carson will spend a total of $15 million on initial costs if managers choose to pursue the project. Managers believe there is a 55% chance that demand for crude oil will be strong. If demand is strong, cash flows from the project are expected to be $6 million per year over the next 4 years. However a weak demand for crude will result in an annual cash flow of $4 million per year over 4 years.  Carson's required rate of return is 10%.

   Find the expected net present value of the project (in terms of millions). Round intermediate steps to four decimals.

   		1.1663
   		.5324
   		-9.9
   		16.1663
   		2.1854

6.25 points

Question 4

1. Now, assume Carson has the ability to reduce the scale of the project. Specifically, if the company desires, it can sell a portion of its drilling equipment for $3.5 million in year 2. If managers choose to contract, the company will only receive 70% of their previous expected future cash flows from operations in years 2-4. Find the value of the option to contract (in millions of dollars). Round intermediate steps to four decimals.

   		.0839
   		1.2472
   		.0809
   		.5634

6.25 points

Question 5

1. Now assume that Carson does not have the ability to contract, but they can abandon the project in year 2. If the company chooses to abandon, they will receive a total cash flow of $11 million in year 2. Find the net present value of the project with the abandonment option attached (in terms of millions of dollars). Round intermediate steps and your final answer to four decimals. Do not use the dollar sign when entering your answer.

6.25 points

Question 6

1. Now, suppose that Carson has the ability to either contract or abandon the project in year two as described in the previous two questions. Find the NPV of the project (in terms of millions of dollars) with both options attached.

"You have just sold your house for $1,000,000 in cash. Your mortgage was originally a 30-year mortgage with monthly payments and an initial balance of $800,000. The mortgage is currently exactly 18½ years old, and you have just made a payment. If the interest rate on the mortgage is 5.25% (APR), how much cash will you have from the sale once you pay off the mortgage? 1 In cell D13, by using cell references, calculate the discount rate (1 pt.). 2 In cell D14, by using cell references, calculate the monthly payment (1 pt.). Note: (1) The output of the expression or function you typed in this cell is expected as a positive number. (2) For the nper parameter, use cells D8 and D9. 3 In cell D15, by using cell references, calculate the number of periods remaining on the loan (1 pt.). 4 In cell D16, by using cell references, calculate the amount that you owe on the mortgage (1 pt.). Note: The output of the expression or function you typed in this cell is expected as a positive number.

You must evaluate the purchase of a proposed spectrometer for the R&D department. The base price is $290,000, and it would cost another $58,000 to modify the equipment for special use by the firm. The equipment falls into the MACRS 3-year class and would be sold after 3 years for $72,500. The applicable depreciation rates are 33%, 45%, 15%, and 7%. The equipment would require a $9,000 increase in net operating working capital (spare parts inventory). The project would have no effect on revenues, but it should save the firm $57,000 per year in before-tax labor costs. The firm's marginal federal-plus-state tax rate is 40%.

1. What is the initial investment outlay for the spectrometer, that is, what is the Year 0 project cash flow? Round your answer to the nearest cent. Negative amount should be indicated by a minus sign.
   $

2. What are the project's annual cash flows in Years 1, 2, and 3? Round your answers to the nearest cent.

   In Year 1 $

   In Year 2 $

   In Year 3 $

3. If the WACC is 10%, should the spectrometer be purchased?
   -Select-Yes or No

The Bigbee Bottling Company is contemplating the replacement of one of its bottling machines with a newer and more efficient one. The old machine has a book value of $625,000 and a remaining useful life of 5 years. The firm does not expect to realize any return from scrapping the old machine in 5 years, but it can sell it now to another firm in the industry for $280,000. The old machine is being depreciated by $125,000 per year, using the straight-line method.

The new machine has a purchase price of $1,100,000, an estimated useful life and MACRS class life of 5 years, and an estimated salvage value of $140,000. The applicable depreciation rates are 20%, 32%, 19%, 12%, 11%, and 6%. It is expected to economize on electric power usage, labor, and repair costs, as well as to reduce the number of defective bottles. In total, an annual savings of $230,000 will be realized if the new machine is installed. The company's marginal tax rate is 35%, and it has a 12% WACC.

1. What initial cash outlay is required for the new machine? Round your answer to the nearest dollar. Negative amount should be indicated by a minus sign.
   $
   
2. Calculate the annual depreciation allowances for both machines and compute the change in the annual depreciation expense if the replacement is made. Round your answers to the nearest dollar.

   Year	Depreciation Allowance, New	Depreciation Allowance, Old	Change in Depreciation
   1	$	$	$
   2
   3
   4
   5

3. What are the incremental net cash flows in Years 1 through 5? Round your answers to the nearest dollar.

   Year 1	Year 2	Year 3	Year 4	Year 5
   $	$	$	$	$

4. Should the firm purchase the new machine?
   -Select-Yes or No
   
   Support your answer. explain
5. In general, how would each of the following factors affect the investment decision, and how should each be treated?
   1. The expected life of the existing machine decreases.

   explain

   2. The WACC is not constant, but is increasing as Bigbee adds more projects into its capital budget for the year.

   explain

Bill is comparing the risk of two bonds. Both bonds were issued by Whole Giant Foods. The first bond has a 9% coupon and the second bond has a 7% coupon. Both bonds have 6 years remaining until maturity and a yield to maturity of 6%.. If market interest rates decrease by 2%, what is the percent price change for each of these bonds? Please show your work

Annual Coupon