Finance Questions
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chapter-18-problem-2.xlsProblem 1
| UNDERSTANDING HEALTHCARE FINANCIAL MANAGEMENT | 5/1/10 | |||||||
| Chapter 18 -- Financial Risk Management | ||||||||
| PROBLEM 1 | ||||||||
| Pleasant View Nursing Home estimates that its building will last another ten years and then it will need to | ||||||||
| be replaced. The home estimates that the capital cost of a new building in ten years will be $10 million. | ||||||||
| The home plans to set aside a portion of an endowment fund in government bonds to ensure it has sufficient | ||||||||
| funds to pay for replacement of the building. If we assume that the yield curve is horizontal, the current | ||||||||
| interest rate on all Treasury securities is 9 percent, and the type of security used for the building fund is | ||||||||
| Treasury bonds, then the present value of $10 million discounted back ten years at 9 percent is $4,224,108. | ||||||||
| Suppose interest rates change from the current 9 percent rate immediately after the nursing home has | ||||||||
| bought the Treasury bonds. What would be the value of the bonds at the end of ten years under each of the | ||||||||
| following situations? (For simplicity, assume annual coupons). | ||||||||
| a. The home buys $4,224,108 of 9 percent, ten-year maturity bonds; rates fall to 7 percent immediately | ||||||||
| after the purchase and remain at that level; rates rise to 12 percent. | ||||||||
| b. The home buys $4,224,108 of 9 percent, 40-year maturity bonds; rates fall to 7 percent immediately | ||||||||
| after the purchase and remain at that level; rates rise to 12 percent. | ||||||||
| ANSWER |
Problem 2
| UNDERSTANDING HEALTHCARE FINANCIAL MANAGEMENT | ||
| Chapter 18 -- Financial Risk Management | ||
| PROBLEM 2 | ||
| Pleasant View Nursing Home has decided to immunize its portfolio against interest rate and reinvestment | ||
| rate risk by buying a bond that has a duration equal to the years until the funds will be needed | ||
| (approximately ten years from today). The home is considering a 20-year, 9 percent annual coupon bond | ||
| bought at its par value of $1,000. | ||
| a. What is the duration of this bond? | ||
| b. If the nursing home purchases $4,224,000 worth of this bond, what would be the value of the bonds at the | ||
| end of the duration period if interest rates fall to 7 percent immediately after the purchase and remain at | ||
| that level? If interest rates rise to 12 percent? | ||
| ANSWER |
Problem 3
| UNDERSTANDING HEALTHCARE FINANCIAL MANAGEMENT | ||
| Chapter 18 -- Financial Risk Management | ||
| Twenty years ago, risk management meant buying insurance against fire, theft, and liability losses. | ||
| Today, though, due to globalization, volatile markets, and a higher propensity to sue, a multitude of risks | ||
| can adversely affect organizations in all industries. Microsoft addressed these risks by creating a virtual | ||
| consulting practice, called Microsoft Risk Co., to help manage the risks faced by its sales, operations, and | ||
| product groups. In a 1997 article, Scott Lange, head of Microsoft Risk, identifies 12 major sources of | ||
| risk. What do you think would be the major sources of risk to Microsoft? | ||
| ANSWER |
