Connect Homework 5 complete solution

1. Barry’s Steroids Company has $1,000 par value bonds outstanding at 16 percent interest. The bonds will mature in 40 years. If the percent yield to maturity is 12 percent, what percent of the total bond value does the repayment of principal represent? Use Appendix B and Appendix D for an approximate answer but calculate your final answer using the formula and financial calculator methods. (Do not round intermediate calculations. Input your answer as a percent rounded to 2 decimal places.) Principal as a percentage of bond price +/-1%0.81 % Explanation: a. Price = [A × ({1 − [1 / (1 + i)n]} / i)] + [FV / (1 + i)n] = [(.16 × $1,000) × ({1 − [1 / (1.12)40]} / .12)] + [$1,000 / 1.1240] = $1,329.75 b. PV of principal = FV / (1 + i)n = $1,000 / 1.1240 = $10.75 Principal as a percentage of price = $10.75 / $1,329.75 = .0081, or .81% Calculator Solution: Bond price: N I/Y PV PMT FV 40 12 CPTPV −1,329.75 160 1,000 Answer: $1,329.75 Present value of the principal payment: N I/Y PV PMT FV 40 12 CPTPV −10.75 0 1,000 Answer: $10.75 Principal as a percentage of price = $10.75 / $1,329.75 = .0081, or .81% Appendix Solution: Appendix D Present value of interest payments: PVA = A × PVIFA (12%, 40) = $160.0 × 8.244 = $1,319.04 Appendix B Present value of principal payment: PV = FV × PVIF (12%, 40) = $1,000 × .011 = $11.00 Bond price = $1,319.04 + 11.00 = $1,330.04 Principal as a percentage of price = $11.00 / $1,330.04 = .0083, or .83%   2. Refer to Table 10-1, which is based on bonds paying 10 percent interest for 20 years. Assume interest rates in the market (yield to maturity) decline from 12 percent to 6 percent. a. What is the bond price at 12 percent? Bond price $850.61 b. What is the bond price at 6 percent? Bond price $1,458.80 c. What would be your percentage return on investment if you bought when rates were 12 percent and sold when rates were 6 percent? (Do not round intermediate calculations. Input your answer as a percent rounded to 2 decimal places.) Return on investment +/-1%71.50 % profit Explanation: c. Percentage profit = (Sales price − Purchase price) / Purchase price = ($1,458.80 − 850.61) / $850.61 = .7150, or 71.50%   3. Tom Cruise Lines Inc. issued bonds five years ago at $1,000 per bond. These bonds had a 20-year life when issued and the annual interest payment was then 13 percent. This return was in line with the required returns by bondholders at that point as described below: Real rate of return 3 % Inflation premium 5 Risk premium 5 Total return 13 % ________________________________________ Assume that five years later the inflation premium is only 2 percent and is appropriately reflected in the required return (or yield to maturity) of the bonds. The bonds have 15 years remaining until maturity. Compute the new price of the bond. Use Appendix B and Appendix D for an approximate answer but calculate your final answer using the formula and financial calculator methods. (Do not round intermediate calculations. Round your final answer to 2 decimal places. Assume interest payments are annual.) New price of the bond +/-0.1%$1,228.18 Explanation: First compute the new required rate of return (yield to maturity): Current yield to maturity = Real rate of return + Inflation premium + Risk premium = 3% + 2 + 5 = 10% Price = [A × ({1 − [1 / (1 + i)n]} / i)] + [FV / (1 + i)n] = [(.13 × $1,000) × ({1 − [1 / (1.10)15]} / .10)] + [$1,000 / 1.1015] = $1,228.18 Then, use this value to find the price of the bond. Calculator Solution: Present value of interest payments: N I/Y PV PMT FV 15 10 CPT PV −1,228.18 130 1,000 Answer: $1,228.18 Appendix Solution: Appendix D Present value of interest payments: PVA = A × PVIFA (10%, 15) = $130 × 7.606 = $988.78 Appendix B Present value of principal payment at maturity: PV = FV × PVIF (10%, 15) = $1,000 × .239 = $239.00 Bond price = $988.78 + 239.00 = $1,227.78   4. Katie Pairy Fruits Inc. has a $1,800, 19-year bond outstanding with a nominal yield of 15 percent (coupon equals 15% × $1,800 = $270 per year). Assume that the current market required interest rate on similar bonds is now only 12 percent. Use Appendix B and Appendix D for an approximate answer but calculate your final answer using the formula and financial calculator methods. a. Compute the current price of the bond. (Do not round intermediate calculations. Round your final answer to 2 decimal places. Assume interest payments are annual.) Current price of the bond +/-0.1%$2,197.75 b. Find the present value of 3 percent × $1,800 (or $54) for 19 years at 12 percent. The $54 is assumed to be an annual payment. Add this value to $1,800. (Do not round intermediate calculations. Round your final answer to 2 decimal places. Assume interest payments are annual.) Present value +/-0.1%$2,197.75 Explanation: a. Price = [A × ({1 − [1 / (1 + i)n]} / i)] + [FV / (1 + i)n] = [(.15 × $1,800) × ({1 − [1 / (1.12)19]} / .12)] + [$1,800 / 1.1219] = $2,197.75 b. PV of interest payments = A × ({1 − [1 / (1 + i)n]} / i) = (.03 × $1,800) × ({1 − [1 / (1.12)19]} / .12) = $397.75 Bond price = $1,800 + 397.75 = $2,197.75 Calculator Solution: a. N I/Y PV PMT FV 19 12 CPT PV −2,197.75 270 1,800 Answer: $2,197.75 b. N I/Y PV PMT FV 19 12 CPT PV −397.75 54 0 Answer: $397.75 + 1,800 = $2,197.75 Appendix Solution: a. Appendix D Present value of interest payments: PVA = A × PVIFA (12%, 19) = $270 × 7.366 = $1,988.82 Appendix B Present value of principal payment: PV = FV × PVIF (12%, 19) = $1,800 × .116 = $208.80 Bond price = $1,988.82 + 208.80 = $2,197.62 b. Appendix D Present value of interest payments: PVA = A × PVIFA (12%, 19) = $54 × 7.366 = $397.76 Bond price = $1,800.00 + 397.76 = $2,197.76   5. Lance Whittingham IV specializes in buying deep discount bonds. These represent bonds that are trading at well below par value. He has his eye on a bond issued by the Leisure Time Corporation. The $1,000 par value bond pays 7 percent annual interest and has 16 years remaining to maturity. The current yield to maturity on similar bonds is 11 percent. a. What is the current price of the bonds? Use Appendix B and Appendix D for an approximate answer but calculate your final answer using the formula and financial calculator methods. (Do not round intermediate calculations. Round your final answer to 2 decimal places. Assume interest payments are annual.) Current price of the bond +/-1%$704.83 b. By what percent will the price of the bonds increase between now and maturity? (Do not round intermediate calculations. Input your answer as a percent rounded to 2 decimal places.) Price increases by +/-1%$41.88 % Explanation: a. Price = [A × ({1 − [1 / (1 + i)n]} / i)] + [FV / (1 + i)n] = [(.07 × $1,000) × ({1 − [1 / (1.11)16]} / .11)] + [$1,000 / 1.1116] = $704.83 b. Percentage increase in price = (Maturity value − Current value) / Current value = ($1,000 − 704.83) / $704.83 = .4188. or 41.88% a. Calculator Solution: N I/Y PV PMT FV 16 11 CPT PV −704.83 70 1,000 Answer: $704.83 a. Current price of the bonds: Appendix Solution: Appendix D Present value of interest payments: PVA = A × PVIFA (11%, 16) = $70 × 7.379 = $516.53 Appendix B Present value of principal payment at maturity: PV = FV × PVIF (11%, 16) = $1,000 × .188 = $188.00 Bond price = $516.53 + 188.00 = $704.53 b. Percent increase at maturity: Percentage increase in price = (Maturity value − Current value) / Current value = ($1,000 − 704.53) / $704.53 = .4194 or 41.94%   6. You are called in as a financial analyst to appraise the bonds of Olsen’s Clothing Stores. The $1,000 par value bonds have a quoted annual interest rate of 12 percent, which is paid semiannually. The yield to maturity on the bonds is 14 percent annual interest. There are 20 years to maturity. Use Appendix B and Appendix D for an approximate answer but calculate your final answer using the formula and financial calculator methods. a. Compute the price of the bonds based on semiannual analysis. (Do not round intermediate calculations. Round your final answer to 2 decimal places.) Bond price +/-0.1%$866.68 b. With 15 years to maturity, if yield to maturity goes down substantially to 10 percent, what will be the new price of the bonds? (Do not round intermediate calculations. Round your final answer to 2 decimal places.) rev: 02 New bond price +/-0.1%$1,153.72 _11_2015_QC_CS-7555 Explanation: a. Price = A × ({1 − [1 / (1 + i)n]} / i) + FV / (1 + i)n = [(.12 × $1,000) / 2] × [(1 − {1 / [1 + (.14 / 2)]20 × 2}) / (.14 / 2)] + $1,000 / [1 + (.14 / 2)]20 × 2 = $866.68 b. Price = A × ({1 − [1 / (1 + i)n]} / i) + FV / (1 + i)n = [(.12 × $1,000) / 2] × [(1 − {1 / [1 + (.10 / 2)]15 × 2}) / (.10 / 2)] + $1,000 / [1 + (.10 / 2)]15 × 2 = $1,153.72 Calculator Solution: a. N I/Y PV PMT FV 20 × 2 14 / 2 CPT PV −866.68 120 / 2 1,000 Answer: $866.68 b. N I/Y PV PMT FV 15 × 2 10 / 2 CPT PV −1,153.72 120 / 2 1,000 Answer: $1,153.72 Appendix Solution: a. Appendix D Present value of interest payments: PVA = A × PVIFA (7%, 40) = $60 × 13.332 = $799.92 Appendix B Present value of principal payment at maturity: PV = FV × PVIF (7%, 40) = $1,000 × .067 = $67.00 Bond price = $799.92 + 67.00 = $866.92 b. Appendix D Present value of interest payments: PVA = A × PVIFA (5%, 30) = $60 × 15.372 = $922.32 Appendix B Present value of principal payment at maturity: PV = FV × PVIF (5%, 30) = $1,000 × .231 = $231.00 Bond price = $922.32 + 231.00 = $1,153.32   7. BioScience Inc. will pay a common stock dividend of $6.40 at the end of the year (D1). The required return on common stock (Ke) is 14 percent. The firm has a constant growth rate (g) of 5 percent. Compute the current price of the stock (P0). (Do not round intermediate calculations. Round your answer to 2 decimal places.) Current price +/-1%$71.11 Exp...

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