1. Calculating Rates of Return. You?re trying to choose between two different
investments, both of which have up-front costs of $40,000. Investment G returns
$70,000 in six years. Investment H returns $120,000 in 12 years. Which of these
investments has the higher return?
2. Zero Coupon Bonds. Suppose your company needs to raise $15 million and you
want to issue 20-year bonds for this purpose. Assume the required
return on your bond issue will be 8 percent, and you?re evaluating two
issue alternatives: an 8 percent annual coupon bond and a zero coupon
bond. Your company?s tax rate is 35 percent.
How many of the coupon bonds would you need to issue to raise the
$15 million? How many of the zeroes would you need to issue?
3. Stock Valuation. Creed Corp. will pay a dividend of $4 next year.
The company has stated that it will maintain a constant growth rate of
5 percent a year forever. If you want a 15 percent rate of return, how
much will you pay for the stock?
4. Calculating IRR. A firm evaluates all of its projects by applying
the IRR rule. If the required return is 18 percent, should the firm
accept the following project?
Year Cash Flow
0 $90,000
1 35,000
2 43,000
3 40,000
5. Calculating Project Cash Flows and NPV. Pappy?s Potato has come up with a
new product, the Pet Potato (they are freeze-dried to last longer).
Pappy?s paid $120,000 for a marketing survey to determine the
viability of the product. It is felt that Pet Potato will generate
sales of $380,000 per year. The fixed costs associated with this will
be $145,000 per year, and variable costs will amount to 20 percent of
sales. The equipment necessary for production of the Potato Pets will
cost $240,000 and will be depreciated in a straight-line manner for
the four years of the product life (as with all fads, it is felt the
sales will end quickly). This is the only initial cost for
the production. Pappy?s is in a 40 percent tax bracket and has a
required return of 13 percent. Calculate the payback period, NPV, and
IRR. |
