Expert Answers

1. a. Explain the concept of beta

Beta is the sensitivity or tendency of a security's returns to respond to changes in the market

b. The CAPM predicts that the return of Mission Tea Corp. is 12.6 percent. If the risk-free rate of return is 6 percent and the expected return on the market is 6.6 percent, then what is Mission’s beta?

b = (R - Rf) / (Rm - Rf) 

b = (.126  - .06) / (.066 - .06)

b=  0.0909091  

2. Santiago Hernandez is planning to invest $125,000 in a money market account for two years. The account pays interest of 3.75 percent compounded on a monthly basis. How much will Santiago have in two years?

Michael Carter is expecting an inheritance of $2.5 million in five years. If he had the money today, he could earn interest at an annual rate of 6.35 percent. What is the present value of this inheritance?

What is the future value of an investment of $6,000 for five years compounded at the following rates and frequencies: a. 1.75 percent compounded monthly

 b. 1.625 percent compounded daily

c. 1.5 percent compounded continuously

Twenty- five years ago, Amanda Cortez invested $12,000 in an account paying an annual interest rate of 4.75 percent.

What is the value of the investment today? What is the interest on interest earned on this investment?

3. a. Groves Corp. is expecting annual cash flows of $252,000, $287,000, $321,500, and $401,000 over the next four years. If it uses a discount rate of 9.25 percent, what will be the present value of this cash flow stream?

b. Freisinger, Inc., is expecting a new project to start paying off, beginning at the end of next year. It expects cash flows to be as follows: $433,767, $478,254, $475,544, $478,623, and $444,535. If Freisinger can reinvest these cash flows to earn a return of 7.8 percent, what is the future value of this cash flow stream at the end of five years?

City officials plan to build a new multipurpose stadium. The projected cost of the stadium in 2010 dollars is $12.5 million.

Assume that it is 2007 and city officials intend to put away a certain amount at the end of each of the next three years in an account that will pay 9.25 percent. What is the annual payment necessary to meet the projected cost of the stadium?

c. You have just won a lottery that promises an annual payment of $219,213 beginning immediately. You will receive a total of 20 payments. If you can invest the cash flows in an investment paying 6.75 percent annually, what is the present value of this annuity?

4. a. Torino Foods issued 12-year bonds three years ago with a coupon of 6 percent. If the current market rate is 5.5 percent and the bonds pay annual coupons, what is the current market price of this bond?

b. Kim Sanchez recently bought a 13-year zero coupon bond which compounds interest semiannually. If the current market rate is 4.25 percent, what is the maximum price he should have paid for this bond?

c. Five-year bonds of Infotech Corporation are currently priced at $865.23. They pay semi-annual coupons of 5.5 percent. If you bought these bonds today, what would be the yield to maturity and effective annual yield that you would earn?

d. The Sunset Company wants to borrow on a twelve-year term from its bank. The lender determines that the firm should pay a default risk premium of 2.15 percent over the treasury rate. The five-year treasury rate is currently 1.65 percent. The firm also faces a marketability risk premium of 0.50 percent. What is the total borrowing cost to the firm?

e. Mission Corp. has issued six-year bonds that are paying 6 percent semiannual coupons. If the opportunity cost for Brianna Lindner is 6.00 percent, what is the maximum price that she would be willing to pay for this bond?

5. Bucknell, Inc., recently paid a dividend of $3.00. Management forecasts dividend growth of 3 percent per year for the foreseeable future. What is the value of the stock today with a discount rate of 13 percent?