What is the role of diversification in an asset portfolio? Explain with examples.

What is the weighted average cost of capital (WACC)? Explain with examples.

and Why is it different from the rate of return to investors? Explain with examples.

Gill Bates graduated from university six years ago with an undergraduate degree in finance. Although he is satisfied with his current job, his goal is to become an investment banker. He feels that an MBA degree would allow him to achieve this goal. After examining schools, he has narrowed his choice to either Canada University or America University. Although internships are encouraged by both schools, to get class credit for the internship, no salary can be paid. Other than internships, neither school will allow its students to work while enrolled in its MBA program. Gill currently works at the money management firm of Dewey and Louis. His annual salary at the firm is $65,000 per year, expected to increase at 3 percent per year until retirement. He is currently 28 years old and expects to work for 40 more years. His current job includes a fully paid health insurance plan, and his current average tax rate is 26 percent. Gill has a savings account with enough money to cover the entire cost of his MBA program. The Faculty of Management at Canada University is one of the top MBA programs in the country. The MBA degree requires two years of full-time enrollment at the university. The annual tuition is $70,000, payable at the beginning of each school year. Books and other supplies are estimated to cost $3,000 per year. Gill expects that after graduation from Canada, he will receive a job offer for about $110,000 per year, with a $20,000 signing bonus. The salary at this job will increase at 4 percent per year. Because of the higher salary, his average income tax rate will increase to 31 percent. The School of Business at America University began its MBA program 16 years ago and is less well known than Canada University's Faculty of Management. America University offers an accelerated, one-year program, with a tuition cost of $85,000 to be paid upon graduation. Books and other supplies for the program are expected to cost $4,500. Gill thinks that he will receive an offer of $92,000 per year upon graduation, with an $18,000 signing bonus. The salary at this job will increase at 3.5 percent per year. His average tax rate at this level of income will be 29 percent. Both schools offer a health insurance plan that will cost $3,000 per year, payable at the beginning of the year. Gill also estimates that room and board expenses will cost $2,000 more per year at both schools than his current expenses, payable at the beginning of each year. The appropriate discount rate is 6.5 percent. 1. Assuming all salaries are paid at the end of each year, which is the best option for Gill—from a strictly financial standpoint.

the Stanley company sold a $1000 par value, noncallable bond several years ago that now has 10 years to maturity and a 8.00% annual coupon that is paid semiannually. the bond currently sells for $922 and the tax rate is 30%. What is the component cost of debt for use in the WACC calculation? a. 6.28% b. 5.46% c. 5.65% d. 6.45% e. 7.03%

Farmington Enterprises stock trades for $42.50 per share. It is expected to pay a $2.50 dividend at year end, and the dividend is expected to grow at a constant rate of 6% a year. What is the company's cost of common equity from reinvesting earnings? a. 11.54% b. 11.65% c. 11.88% d. 12.13% e. 12.35%

Refer to the data for Farmington Enterprise in Question 2. The before-tax cost of debt is 7.50%, and the tax is 40%. The target capital structure consists of 45% debt and 55% common equity. What is the company's WACC if all the equity used is from reinvested earnings? a. 7.43% b. 7.55% c. 7.89% d. 8.48% e. 8.56%

Problem 5-3 Order Books (LO2, CFA1)

The following order book exists for a particular stock. The last trade on the stock was at $55.63.

a.  If you place a market buy order for 100 shares, at what price will it be filled? (Round your answer to 2 decimal places.)

b. If you place a market sell order for 100 shares, at what price will it be filled? (Round your answer to 2 decimal places.)

c. Suppose you place a market order to buy 300 shares. At what price will it be filled? Choose the appropriate answer.

• 100 shares at $55.70 and 200 shares at $55.69

• 300 shares at $55.63

• 100 shares at $55.65 and 200 shares at $55.66

• 300 shares at $55.70

Ralph wants to quit his job and move to Hawaii on December 25, 2015. Once there, he anticipates that he will need to make annual withdrawals of 14500 dollars (starting on December 25, 2016) to supplement his income from working as a cabana boy, and he wants the money to last 10 years (i.e. he'll make 10 withdrawals total). His plan is to make annual deposits, starting on December 25, 2000 and ending on December 25, 2015, into an account paying 9.2 percent effective interest. How large should each deposit be for Ralph to realize his goal?

You are required to produce a table showing bond valuesand the impact of changes in interest rate over the lifeof a bond and a diagram demonstrating the link between the changes in values(due to changes in interest rate) and time to maturity. The bond has a face value of $1,000, pays a coupon rate of 7% p.a paid annually and it is issued with 10 years to maturity. All calculations should be executed in excel.Your table should show the following:The value of the bond, year by year(from dateof issue until its maturity), assuming all other things remain the same. The value of the bond, year by year, from date of issue until its maturity, assuming that market interest rate increasesby 1.5%(hence yield to maturity increases by 1.5%), all other things remain the same.The potential%change in value, year by year, from the date of issue until its maturity.The % change in value demonstratesthe impact of the increasein interest rate on the bond value (or interest rate risk), for each year of maturity.From your table produce a diagram that demonstrates the relationship between% change in value and time to maturity. The initial market interest rate (yield to maturity) to be used is 12%. You must also show your formulas used

william brown is 30 years and wants to retire when he is 65. so far he has saved (1) $6,240 in an ira account in which his money is earning 8.3 percent annually and (2) $5,630 in a money market account in which he is earning 5.25 percent annually. william wants to have $1 million when he retires. starting next year, he plans to invest the same amount of money every year until he retires in a mutual fund in which he expects to earn 7.72 percent annually. how much will william have to invest every year to achieve his savings goal?

4. Cross City Tunnel (CCT) Ltd currently has 5 million shares on issue each with a market price of $2.50. CCT also has $7 million of debt. The Chief Financial Offer is considering changing the capital structure by repaying $3 million of debt using funds raised from an equity issue. The interest rate on debt is 10% p.a. and the company tax rate is 30%.

   Calculate EPS for both the current and the proposed capital structures at a projected EBIT level of $3.7 million. Which capital structure is preferable if this is the expected level of EBIT?

4. The DuPont System allows us to relate the return on total assets and the return on common equity to various measures of firm characteristics. Consider a firm with a ROA of 0.04.
a. If you were analyzing a firm that had sales of $12500 and total assets of $10000, how much in earnings were available for common shareholders?

b.If the firm had common stockholders' equity of $3300, what would be the firm's ROE?

c. If we compare this firm to another similar firm in the industry we find that the comparison firm has an ROA and ROE of 0.05 and 0.191663, respectively. Given this information, calculate the comparison firm's ratio of total assets to common stock equity. How does this ratio differ from our firm?

d.Interpret the performance differences between these firms.

Where does the soft drink, Fanta, fit on the BCG portfolio management matrix in the Coca-Cola Company? Would it be considered a "star" with high relative market share and high market growth rate? A "cash cow" with high relative market share and low market growth rate? A "question mark" with low relative market share and high market growth rate? Or a "dog" with low relative market share and low market growth rate?

For reference:

Dogs. Dogs hold low market share compared to competitors and operate in a slowly growing market. In general, they are not worth investing in because they generate low or negative cash returns. But this is not always the truth. Some dogs may be profitable for long period of time, they may provide synergies for other brands or SBUs or simple act as a defense to counter competitors moves. Therefore, it is always important to perform deeper analysis of each brand or SBU to make sure they are not worth investing in or have to be divested.
Strategic choices: Retrenchment, divestiture, liquidation

Cash cows. Cash cows are the most profitable brands and should be “milked” to provide as much cash as possible. The cash gained from “cows” should be invested into stars to support their further growth. According to growth-share matrix, corporates should not invest into cash cows to induce growth but only to support them so they can maintain their current market share. Again, this is not always the truth. Cash cows are usually large corporations or SBUs that are capable of innovating new products or processes, which may become new stars. If there would be no support for cash cows, they would not be capable of such innovations.
Strategic choices: Product development, diversification, divestiture, retrenchment

Stars. Stars operate in high growth industries and maintain high market share. Stars are both cash generators and cash users. They are the primary units in which the company should invest its money, because stars are expected to become cash cows and generate positive cash flows. Yet, not all stars become cash flows. This is especially true in rapidly changing industries, where new innovative products can soon be outcompeted by new technological advancements, so a star instead of becoming a cash cow, becomes a dog.
Strategic choices: Vertical integration, horizontal integration, market penetration, market development, product development

Question marks. Question marks are the brands that require much closer consideration. They hold low market share in fast growing markets consuming large amount of cash and incurring losses. It has potential to gain market share and become a star, which would later become cash cow. Question marks do not always succeed and even after large amount of investments they struggle to gain market share and eventually become dogs. Therefore, they require very close consideration to decide if they are worth investing in or not.
Strategic choices: Market penetration, market development, product development, divestiture

Benefits of diversification.

Sally Rogers has decided to invest her wealth equally across the following three assets. What are her expected returns and the risk from her investment in the three​ assets? How do they compare with investing in asset M​ alone?  

Hint​: Find the standard deviations of asset M and of the portfolio equally invested in assets​ M, N, and O.

What is the expected return of investing equally in all three assets​ M, N, and​ O?

_____​% ​(Round to two decimal​ places.)

What is the expected return of investing in asset M​ alone?

_____% ​(Round to two decimal​ places.)

What is the standard deviation of the portfolio that invests equally in all three assets​ M, N, and​ O?

_____​% ​(Round to two decimal​ places.)

What is the standard deviation of asset​ M?

_______% ​(Round to two decimal​ places.)

By investing in the portfolio that invests equally in all three assets​ M, N, and O rather than asset M​ alone, Sally can benefit by increasing her return by

______% and decreasing her risk by _____​%. ​(Round to two decimal​ places.)

​Beryl's Iced Tea currently rents a bottling machine for $ -56,000 per​ year, including all maintenance expenses. It is considering purchasing a machine instead and is comparing two​ options: a. Purchase the machine it is currently renting for $ 163,000. This machine will require $ 22,500 per year in ongoing maintenance expenses. b. Purchase a​ new, more advanced machine for $ 258,000. This machine will require $ 18,750 per year in ongoing maintenance expenses and will lower bottling costs by $ 17,000 per year.​ Also, $ 34,000 will be spent up front to train the new operators of the machine. Suppose the appropriate discount rate is 7.5 % per year and the machine is purchased today. Maintenance and bottling costs are paid at the end of each​ year, as is the cost of the rental machine. Assume also that the machines will be depreciated via the​ straight-line method over seven years and that they have a​ 10-year life with a negligible salvage value. The marginal corporate tax rate is 38 %. Should​ Beryl's Iced Tea continue to​ rent, purchase its current​ machine, or purchase the advanced​ machine? To make this​ decision, calculate the NPV of the FCF associated with each alternative.

Suppose that a 1 year zero coupon bond with a face of $100 sells at $94.34. While a zero 2 year sells at $84.99. You are considering the purchase of a 2 year maturity bond making annual coupon payments. The face value of the bond is $100 and the coupon rate is 12% per year.

1. What is the yield to maturity of the 2 year zero?

2. What is the yield to maturity of the 2 year coupon bond?

3. What is the forward rate for the second year?

4. According to he expectations hypothesis what are (1) the expected price of the coupon bond at the end of the first year and (2) the expected holding period return on the coupon bond over the first year?

5. Will the expected rate of return be higher or lower if you accept the liquidity preference hypothesis?