Question

1. What is the value of the following investments:

• A 3 year annuity of $4,000 per quarter if current interest rates are 8% per annum compounded quarterly

• 500 preferred shares in a company. Each share pays an annual dividend of $4 and your required rate of return is 12%

2. Harry bought 100 shares for $5.50 and a year later he sold them for $5.75. During the year they paid two dividends of 10 cents and 15 cents each.

• What was Harry’s capital gain on his investment?

• What was Harry’s total return on his investment?

• What was the dividend yield on the stock on the day he sold it?

3. John’s Manufacturing Company makes two products.

Product A

Product B

Year 1

Year 2

Year 1

Year 2

Sales

5,000

7,250

14,000

16,000

Sales Price

$12

$12

$9

$9

Fixed Costs

$12,000

$12,000

$8,000

$8,000

Variable Costs per unit

$2.50

$2.50

$1.80

$1.80

a) Calculate the contribution margin for each product

b) Which product has the highest operating

c) What does operating leverage tell us about future cash flows?

Answer 1

Formula sheet

A	B	C	D	E	F	G	H	I	J
2
3		1)
4
5		Value of Annuity	=Annuity Amount*(P/A,i,n)
6			=$4000*(P/A,8%/4,3*4)
7			=4000*PV(8%/4,3*4,-1,0)	=4000*PV(8%/4,3*4,-1,0)
8
9		Hence Value of Annuity is	=D7
10
11		Valuation of preferred stock:
12
13		Value of Each Preferred share	=Present value of perpetuity pf dividend
14			=Dividend / Required rate of return
15			=4/12%	=4/12%
16
17		Hence value of each preferred share	=D15
18
19		Number of preferred shares	500
20		Price of each share	=D17
21
22		Value of investment	=D19*D20	=D19*D20
23
24		Hence Value of investment is	=D22
25
26		2)
27		Number of shares	100
28		Buying Price	5.5
29		Sales Price	5.75
30
31		Capital gain on investment	=Number of shares*(Selling Price - Buying Price)/Buying Price
32			=D27*(D29-D28)	=D27*(D29-D28)
33
34		Total Return on investment	=(Selling Price -Buying Price + Dividends)/Buying Price
35			=(5.75-5.5+0.1+0.15)/5.5	=(5.75-5.5+0.1+0.15)/5.5
36
37		Hence total return on investment	=D35
38
39		Dividend Yield	=Dividend Paid for the Year / Price of stock
40			=(0.1+0.15)/5.75	=(0.1+0.15)/5.75
41
42		Hence Dividend Yield	=D40
43