Question

Question 1

The IRS is reevaluating the asset life categories used for ACRS depreciation. The trucks that JK Industries use are currently classified by the IRS as having an asset life of 7 years. Because these trucks actually last for 10 years, the firm’s managers would prefer the IRS to reclassify them as 10-year assets so the firm can keep them longer, spread the cost of depreciation over more years and hence increase earnings. (True, False, Uncertain and explain your response)

Question 2

If a firm uses the Discounted Payback rule, it will never accept a negative NPV project. (True, False, Uncertain and explain your response)

Question 3

Managers’ desire for job security and firm growth conflict with maximizing value for shareholders. (True, False, Uncertain and explain your response)

Question 4

It is often stated that anyone with a pencil can calculate financial ratios, but it takes a brain to interpret them. What kinds of things should the analyst keep in mind when evaluating the financial statements of a given firm?

Question 5

When risk averse investors choose portfolios and assets to include in them, volatility is not the way they should measure risk. (True, False, Uncertain and explain your response)

Question 6

Rau Inc. has 7.0 percent coupon bonds on the market with 9 years to maturity. The bonds make semi-annual payments and currently sell for 80 percent of par. What is the YTM?

You will upload an Excel spreadsheet that shows all of your work and the solution.

Question 7

JJ Enterprises is considering the purchase of a new machine that will produce thumb drives. The new machine will require an initial investment of $100,000 and has an economic life of five years and will be fully depreciated by the straight line method. The machine will produce 15,000 thumb drives per year with each costing $2.00 to make. Each will be sold at $4.50. Assume JJ Enterprises uses a discount rate of 14 percent and has a tax rate of 34 percent. What is the NPV of the project and should JJ Enterprises make the purchase.

You will upload an Excel spreadsheet that shows all of your work and the solution.

Question 8

You are building a pipeline which will generate its first annual cash flow of $2m exactly 5 years from today. As it ages, the volume it transports, and hence the cash flows it creates, will decline by 3% per year. Exactly 27 years from today, this pipeline will be scrapped, and the Environmental Protection Agency will require you to spend $50m then to dismantle it. The pipeline’s OCC is 9%. What’s the lowest price that you would consider selling it for?

Question 9

The returns on QRC stock and an investor’s portfolio over three years are given in the table below.

1.     Based on this data, compute the volatility of the portfolio and briefly describe how to interpret it.

2.     Based on this data, calculate the correlation between QRC and the portfolio, and briefly describe what it means. Show your work.

3.     Suppose the portfolio represents the portfolio of all wealth. What is QRC’s market beta?

Year	QRC	Portfolio
1	5.0%	19.0%
2	-3.0%	14.0%
3	13.0%	9.0%

You will upload a Word Document that shows all of your work and the solution.

Question 10

What is the price of a T-Bond with exactly 24.5 years to maturity and coupons with rate 5.875% paid semi-annually? Its yield is 6.5% BEY (Bond Equivalent Yield is semi-annually compounded).

You will upload a Word Document that shows all of your work and the solution.

Please answer all questions and show excel files workings with formulas for those that require. Thank you.

Answer 1

ANS.1- FALSE

The IRS is revaluating the asset life categories used for ACRS depreciation. The trucks that JK Industries use are currently classified by the IRS as having an asset life of 7 years. Because these trucks actually last for 10 years, the firm’s managers would prefer the IRS to reclassify them as 10-year assets so the firm can keep them longer, spread the cost of depreciation over more years and hence increase earnings. (True, False, Uncertain and explain your rasp

ANS 2.- TRUE

if a firm uses the discount payback rule, they will never accept a negative net present value (NPV) project since the discount payback rule method is to provide investors with the number of years the firm is going to recover its initial cash outflow using discounted cash inflows. Projects that have a negative net present value (NPV) will not have a discounted payback period

ANS.-3TRUE

  manager’s desires for job security will and can affect shareholders value since they tend to be skeptical in investing in new projects. He/she will probably not take on project that could yield high returns in the future since it requires a large initial investment, which places the firm at risk. In addition, they will give up on projects that are risky since there are chances for failure which imposes a threat on their job/position. In addition, if a manager’s compensation is based on firm’s growth, this again can cause a conflict with maximizing value for shareholders since the manager will chase after extremely risky projects with high returns.  It the project succeeds, it’s a great thing but if it fails, shareholders value will get affected.   Uncertain. These specific objectives of managers are not necessarily in conflict with creating the most value for shareholders. They must be coupled with something else to be detrimental to the firm’s owners. When managers avoid risky, but positive NPV, projects because their jobs and reputations are on the line, they are not acting in the best interests of investors. When managers build empires by overinvesting or investing in negative NPV projects, they are also destroying value. It’s

where such conflicts do exist that concern over structuring incentives becomes curial

ANS .-4

While analysing the financial ratios of a firm the analyst must take notice of the following:

1. Select the relevant ratios for analysing the firm because every sector or industry have specific ratios to be considered

2. Compare those ratios with some other peers from similar industry, otherwise a ratio in itself doesn't make any sense

3. Understand which all underlying factors drive the ratio in order to interpret them accurately

4. Finally, find out if there exists any kind of trend or volatility in the ratio over a period of time and try to substantiate the same with a strong rationale

ANS.- 5- FALSE

A risk averse investor is an investor who prefers lower returns with known risks rather than higher returns with unknown risks. Volatility means apt to change with the situation which is one of the way to measure the risk. High volatility in stock leads to higher risk and vice versa

ANS.-6

% of YTM = rate(nper,pmt,pv,fv)*2

nper = 9 x 2 = 18

pmt = 7%x1000x1/2 = 35

pv = 80%x1000 = 800

fv = 1000

YTM = rate(18,35,-800,1000)x2

YTM = 10.49%

ANS. 7

Yrs	sales	cost	Depriciation	PBT	Tax(34%)	PAT	DEP	Cash flow	PV FACTOR	Present value	working
0				sales -cost-dep.				-100000	1	-100000	*sales (15000x4.5=67500)
1	*67500	**30000	***20000	17500	5950	11550	20000	31550	0.877	27669	**COST (15000x2=30000)
2	67500	30000	20000	17500	5950	11550	20000	31550	0.769	24262	***DEP.100000/5=20000
3	67500	30000	20000	17500	5950	11550	20000	31550	0.675	21296
4	67500	30000	20000	17500	5950	11550	20000	31550	0.592	18678
5	67500	30000	20000	17500	5950	11550	20000	31550	0.519	16374
									NPV	8280

ANS.-8
Year	Cash flow	Dismantle cost	Net cash flow	Disc rate : 9%	Present value
	(n-1) cash flow*(1-0.03)
	A	B	C	D	C*D
			A+B
0	0	0	0	1	0
1	0	0	0	0.92	0
2	0	0	0	0.84	0
3	0	0	0	0.77	0
4	0	0	0	0.71	0
5	2000000	0	2000000	0.65	1299862.77
6	1940000	0	1940000	0.6	1156758.61
7	1881800	0	1881800	0.55	1029409.04
8	1825346	0	1825346	0.5	916079.61
9	1770586	0	1770586	0.46	815226.81
10	1717468	0	1717468	0.42	725477.07
11	1665944	0	1665944	0.39	645608.03
12	1615966	0	1615966	0.36	574531.92
13	1567487	0	1567487	0.33	511280.7
14	1520462	0	1520462	0.3	454992.91
15	1474848	0	1474848	0.27	404901.95
16	1430603	0	1430603	0.25	360325.59
17	1387685	0	1387685	0.23	320656.72
18	1346054	0	1346054	0.21	285355.06
19	1305673	0	1305673	0.19	253939.82
20	1266502	0	1266502	0.18	225983.15
21	1228507	0	1228507	0.16	201104.27
22	1191652	0	1191652	0.15	178964.35
23	1155903	0	1155903	0.14	159261.85
24	1121225	0	1121225	0.13	141728.44
25	1087589	0	1087589	0.12	126125.31
26	1054961	0	1054961	0.11	112239.95
27	1023312	-50000000	-48976688	0.1	-4780507.09
Present value					6119306.82

ANS 9

	A	B	C	D	E	F	G	H	I	J	K
Year	Weights	QRC Return	Portfolio	Expected Return QRC	Expected Return Portfolio	Deviation from Expected value QRC	Deviation from Expected value Portfolio	Squared QRC	Squared Portfolio	weights x Squared QRC	weights x Squared portfolio
1	33.33%	5%	19.00%	1.67%	6.33%	0.00%	5.00%	0.00%	0.25%	0.00%	0.08%
2	33.33%	-3%	14.00%	-1.00%	4.67%	-8.00%	0.00%	0.64%	0.00%	0.21%	0.00%
3	33.33%	13.00%	9.00%	4.33%	3.00%	8.00%	-5.00%	0.64%	0.25%	0.21%	0.08%
		15%	42%	5%	14%	0.00%				0.43%	0.17%
									Standard Deviation / volatility	6.53%	4.08%
correlation between QRC and the portfolio
COV (RQRC,RPortfolio) = 33.33%x(5%-5%)x(19%-14%)+33.33%x(-3%-5%)x(14%-14%)+33.33%x(13%-5%)x(9%-14%)
COV (RQRC,RPortfolio)	0.06%
CORR(RA,RB)= 0.0630%/(6.53% x 4.08%)	0.24
Beta	0.24 ANS 10 Price of the bond= PV(3.25%,49,29.375,1000)*-1 $ 923.91