# act200Week4 - Excel

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FINC 400 Principles of Financial Management
Week 4 Homework Problems

Complete the following problems:

Problem 9-17               Problem 10-6     Problem 11-7

Problem 9-19               Problem 10-13   Problem 11-15

Problem 9-27               Problem 10-24   Problem 11-19
The Western Sweepstakes has just informed you that you have won \$1 million.Th
year for the next 20 years. With a discount rate of 12 percent, what is
Western Sweepstakes
Discount Rate = i    12%
Periods = n          20
Annuity             50,000
PVIFA

Solution:
A   * PVIFA   = PVA
ave won \$1 million.The amount is to be paid out at the rate of \$50,000 a
e of 12 percent, what is the present value of your winnings?
Bruce Sutter invests \$2,000 in a mint condition Nolan Ryan baseball card. He expec
five years. After that, he anticipates a 15 percent annual increase for the next three
Bruce Sutter
Discount Rate = i                  20%
Periods = n                           5              PV     *   FVIF   =
Present Value of Investment       -2,000
FVIF

Discount Rate = i                  15%
Periods = n                           3              PV     *   FVIF   =
Present Value of Investment
FVIF
aseball card. He expects the card to increase in value by 20 percent a year for the next
ase for the next three years. What is the projected value of the card after eight years?

FV

FV
ear for the next
er eight years?
As stated in the chapter, annuity payments are assumed to come at the end of each
exception occurs when the annuity payments come at the beginning of each perio
annuity due, subtract 1 from n and add 1 to the tabular value. To find the future valu
value. For example, to find the future value of a \$100 payment at the beginning of e
for n = 6 and i = 10 percent. Look up the value of 7.716 and subtract 1 from it for
future value of a 10-year annuity of \$2,000 per period where payments come at the
Information
Discount Rate = i        8%
Periods = n              11
Annuity                 2,000
FVIFA

Solution:
A   *   FVIFA   =   FVA
ome at the end of each payment period (termed an ordinary annuity). However, an
eginning of each period (termed an annuity due). To find the present value of an
To find the future value of an annuity, add 1 to n and subtract 1 from the tabular
at the beginning of each period for five periods at 10 percent, go to Appendix C
subtract 1 from it for an answer of 6.716 or \$671.60 (\$100 × 6.716). What is the
payments come at the beginning of each period? The interest rate is 8 percent.
The Hartford Telephone Company has a \$1,000 par value bond outstanding that
pays 11 percent annual interest. The current yield to maturity on such bonds in the
market is 14 percent. Compute the price of the bonds for these maturity dates:
a . 30 years.
b . 15 years.
c. 1 year
Solution:                                      Hartford Telephone Company
a) Par Value                  \$1,000
Interest                    14%
Time to Maturity=n           30
Yield to Maturity = i       14%
Annuity = A
PVIFA
PVIF

b) Par Value                  \$1,000
Interest                    14%
Time to Maturity=n           15
Yield to Maturity = i       14%
Annuity = A
PVIFA
PVIF

c) Par Value                  \$1,000
Interest                    14%
Time to Maturity=n            1
Yield to Maturity = i       14%
Annuity = A
PVIFA
PVIF
any has a \$1,000 par value bond outstanding that
st. The current yield to maturity on such bonds in the
e the price of the bonds for these maturity dates:

Hartford Telephone Company

Present Value of Interest Payments = A * PVIFA
Present Value of Interest Payments =
Present Value of Principal Payment at Maturity = FV * PVIF
Present Value of Principal Payment at Maturity =
Total Present Value or Price of the Bond =

Present Value of Interest Payments = A * PVIFA
Present Value of Interest Payments =
Present Value of Principal Payment at Maturity = FV * PVIF
Present Value of Principal Payment at Maturity =
Total Present Value or Price of the Bond =

Present Value of Interest Payments = A * PVIFA
Present Value of Interest Payments =
Present Value of Principal Payment at Maturity = FV * PVIF
Present Value of Principal Payment at Maturity =
Total Present Value or Price of the Bond =
Tom Cruise Lines, Inc., issued bonds five years ago at \$1,000 per bond. These
bonds had a 25-year life when issued and the annual interest payment was then
12 percent. This return was in line with the required returns by bondholders at
that point as described below:
Real rate of return ........................ 3%
Total return ............................... 12%
Assume that five years later the inflation premium is only 3 percent and is appropriately reflected in
bonds have 20 years remaining until maturity. Compute the new price of the bon
Tom Cruise Lines, Inc.
Par Value                     \$1,000    Real Rate of Return               3%
Interest                       12%      Inflation Rate                    5%
Time to Maturity=n              20      Risk Premium                      4%
Yield to Maturity = i                                   Total Return
Annuity = A
PVIFA                                   Inflation Rate in 5 years         3%
PVIF
Solution:
Compute new required rate of return (yield to maturity)
Real Rate of Return
Inflation Rate
Total Return

Present Value of Interest Payments = A * PVIFA
Present Value of Interest Payments =
Present Value of Principal Payment at Maturity = FV * PVIF
Present Value of Principal Payment at Maturity =
Total Present Value or Price of the Bond =
d is appropriately reflected in the required return (or yield to maturity) of the bonds. The

A * PVIFA
Value of Interest Payments =
Maturity = FV * PVIF
ncipal Payment at Maturity =
alue or Price of the Bond =
Bedford Mattress Company issued preferred stock many years ago. It carries a
fixed dividend of \$8 per share. With the passage of time, yields have gone down
from the original 8 percent to 6 percent (yield is the same as required rate of
return).
a . What was the original issue price?
b . What is the current value of this preferred stock?

North Pole Cruise Lines
Annual Dividend                       \$8.00
Original Required Rate of Return       8%
New Required Rate of Return            6%
Solution:
a)              ORIGINAL PRICE
Price of Preferred Stock            =

CURRENT VALUE
b)          Price of Preferred Stock            =
many years ago. It carries a
time, yields have gone down
same as required rate of
The Goodsmith Charitable Foundation, which is tax-exempt, issued debt last
year at 8 percent to help finance a new playground facility in Los Angeles. This
year the cost of debt is 20 percent higher; that is, firms that paid 10 percent for
debt last year will be paying 12 percent this year.
a . If the Goodsmith Charitable Foundation borrowed money this year, what
would the aftertax cost of debt be, based on its cost last year and the
20 percent increase?
b . If the receipts of the foundation were found to be taxable by the IRS (at
a rate of 35 percent because of involvement in political activities), what
would the aftertax cost of the debt be?

Goodsmith Charitable Foundation
Debt issued last year at               8%
Cost of debt last year                10%
Cost of debt this year                20%                            higher than last year
Cost of debt this year               12.0%
Corporate Tax Rate (b)               35.0%
a)
Solution:
If the Goodsmith Charitable Foundation borrowed money this
year, what would the aftertax cost of debt be, based on their cost
last year and the 20 percent increase?

b)

If the receipts of the foundation were found to be taxable by the
IRS (at a rate of 35 percent because of involvement in political
activities), what would the aftertax cost of debt be?
The treasurer of Riley Coal Co. is asked to compute the cost of fixed income
securities for her corporation. Even before making the calculations, she assumes
the aftertax cost of debt is at least 2 percent less than that for preferred stock.
Based on the facts below, is she correct?
Debt can be issued at a yield of 10.6 percent, and the corporate tax rate is
35 percent. Preferred stock will be priced at \$50 and pay a dividend of \$4.40.
The flotation cost on the preferred stock is \$2.

Riley Coal Co.
Yield                                                     Solution:
Corporate Tax Rate = T                     35%
Dividend = Dp                             \$4.40
Price of Preferred Stock =Pp               \$50
Floatation Cost = F                       \$2.00

Based on the facts above, is the trea
he cost of fixed income
culations, she assumes
at for preferred stock.

rporate tax rate is
a dividend of \$4.40.

Aftertax Cost of Debt

Aftertax Cost of Preferred Stock

Based on the facts above, is the treasurer correct?
The treasurer of Riley Coal Co. is asked to compute the cost of fixed income
securities for her corporation. Even before making the calculations, she assumes
the aftertax cost of debt is at least 2 percent less than that for preferred stock.
Based on the facts below, is she correct?
Debt can be issued at a yield of 10.6 percent, and the corporate tax rate is
35 percent. Preferred stock will be priced at \$50 and pay a dividend of \$4.40.
The flotation cost on the preferred stock is \$2.

Capital Structure
Debt                                  35%          Aftertax Cost of Debt              7.00%
Preferred Stock                       15%          Cost of Preferred Stock             10%
Common Equity                         50%          Cost of Common Equity              13.00%

Solution:
Cost (aftertax)             Weights              Weighted Cost
Debt (Kd)
Preferred Stock (Kp)
Common Equity (Ke)
Weighted Average Cost of Capital (Ka)

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