FINANCIAL MANAGEMENT ASSIGNMENT

Chapter 7 Problems

BAHRIA UNIVERSITY
Semester IV

Submitted by:

Kubra Fatima

5th April 2015

7-6
Solution
Total required return in dollar terms = Required rate of return * Current stock price = 14% * $80
= $11.20
Required appreciation in stock price = Total required return (in dollars) - Return in the form of
dividend = $11.20 - $4 = $7.20
g = Required appreciation in stock price/Current stock price = $7.20 / $80 = 9%

7-7
Solution
RS = RF + b (RM RF)

D1 = 2

= 0.056 + 0.9 (0.06)

D2 = 2 (1.03)

RS = 0.11 or 11%

D2 = 2.06
D3 = 2.06 (1.03)

P3 = D 4
D3 = 2.12

KC g

D4 = 2.12 (1.03)

= 2.18
0.11 0.03
P3 = 27.32
P0 = D 1
KC g
25.00 =

2.00
0.11 g

- 25g + 2.75 = 2
g = 0.75
25
g = 0.03 or 3%

Financial Management Assignment

D4 = 2.18

7-8
Solution
Nominal Rate of Return = Dividend
Market Price
(a)
= 8
60
= 0.133 or 13.3%
(b)
= 8
80
= 0.1 or 10%
(c)
= 8
100
= 0.08 or 8%
(d)
= 8
140
= 0.057 or 5.7%

7-9
Solution
P0 = D0 (1 + g)
KC g
= 5 (1 0.04)
0.15 0.04
P0 = 25.26

Financial Management Assignment

7-10
Solution
(a)
RC = RF + b (RM RF)
For C
= 0.09 + 0.4 (0.13 0.09)
= 0.106 or 10.6%
For D
= 0.09 + 0.5 (0.13 0.09)
= 0.07 or 7%
(b)
P0 (C) = 25
D1 = 1.5
g = 4% or 0.04
P0 =

D1
KC g

25 =

1.5
KC 0.04

25 KC 1 = 1.5
KC = 2.5
25
KC = 0.1 or 10%
P0 =

D1
KC g

P0 =

1.5
0.106 0.04

P0 = 22.72

Financial Management Assignment

7-11
Solution
Years
1

1.00 (1.5) = 1.5

1.5 (1.25) = 1.875

1.875 (1.06) = 1.9875

P2 =

D3
KC g

P2 = 1.9875
0.13 0.06
P2 = 28.39
P0 =

D1

(1 + KC)1
P0 =

1.5
(1.13)1

P0 =

1.468

D2

(1 + KC)2

P2
(1 + KC)2

+ 1.875

+ 28.39

(1.13)2

(1.13)2

1.327

22.235

P0 = 25.03

7-12
Solution
Years
1

1 (1.5) = 1.5

1.5 (1.5) = 2.25

2.25 (1.08) = 2.43

Financial Management Assignment

P5 =

D6
KC g

P5 =

2.43
0.15 0.08

P5 = 34.71
P0 =

D1

D2

(1 + KC)1

(1 + KC)2

P0 =

(1.15)1

(1.15)2

D3

(1 + KC)3
+

1
(1.15)3

D4

(1 + KC)4
+

1.5
(1.15)4

P0 = 0 + 0 + 0 + 0.8576 + 0.7243 + 17.259

P0 = 18.24

7-13
Solution
KPS = D
KC
(a)
KPS = 10
0.08
KPS = 125
(b)
KPS = 10
0.12
KPS = 83.33

Financial Management Assignment

D5

(1 + KC)5
+ 2.25 +
(1.15)5

P5
(1 + KC)5
34.71
(1.15)5

7-14
Solution
(a)
D3 = D1 (1 + g)2
1.2250 = 1.07 (1 + g)2
1.1448 = (1 + g)2
1 + g = (1.1448)1/2
g = 1.06998 1
g = 6.998%
(b)
P0 = D 1
DY
DY = 1.07
21.40
DY = 0.05 or 5%
(c)
P0 =

D1
KC g

KC 0.07 =

1.07
21.40

KC = 0.05 + 0.07
KC = 0.12 or 12%

Financial Management Assignment

7-14
Solution
(a)
P0 = D0 (1 + g)
KC g
1) g = -5%
P0 = 2 (1 + (-0.05))
0.15 (-0.05)
P0 = 9.5
2) g = 0%
P0 =

2 (1 + (0))
0.15 (0)

P0 = 13.33
3) g = 5%
P0 = 2 (1 + (0.05))
0.15 (0.05)
P0 = 21
4) g = 10%
P0 = 2 (1 + (0.10))
0.15 (0.10)
P0 = 44
(b)
1) g = 15%
P0 = 2 (1 + (0.15))
0.15 (0.15)
P0 = Undefined (Divided by 0)

Financial Management Assignment

2) g = 20%
P0 =

2 (1 + (0.2))
0.15 (0.2)

P0 = -48
The results are not reasonable.
(c)
No. It is not reasonable.

7-16
Solution
(a)
RS = RF + b (RM RF)
= 0.11 + 1.5 (0.14 + 0.11)
RS = 0.155 or 15.5 %
P0 = D 1
KC g
= 2.25
0.155 0.05
P3 = 21.43
(b)
RS = RF + b (RM RF)
= 0.09 + 1.5 (0.12 + 0.09)
RS = 0.135 or 13.5 %
P0 = D 1
KC g
= 2.25
0.135 0.05
P3 = 26.47
9

Financial Management Assignment