Reference no: EM131153680

Problems 1 to 6 are based on the following financial statements.

Problems 1 to 6 are based on the nc
INC
	2015	201'!
Sales	300	250
COGS	120	100
Gross Profit	180	150
SG&A	35
Depreciation exp	50	40
EBIT
Interest Exp.	15	1(
Pre-tax earnings		70
Taxes 30%)	24                   21
NI

BS
	2015	2014
Cash	10	5
AR	30	15
Inventory	40	30
Current Asset	80
Gross PPE	400	300
Accu. Dep.	-190	-140
TA		210
AP	20	20
ST debt	20
CL	40	3
LT debt
Common Stock	50
Retained Earnings	86	30
TL & E		210

CF 2015	(CFO only)
NI
Dep	50
WCInv
CFO	81

Instructions are similar to Work

1. If there are questions with calculations, Then you need to show calculationsI. What is the firm's estimated net income in 2015?
a. 49
b. 95
c. 56
d. None of the above

2. What is firm's total assets in 2015?
a. 290
b. 210
c. 136
d. 480

3. What is firm's forecasted FCInv (fixed capital investment) in 2015?
a. 210
b. 160
c. 50
d. 100

4. What is the firm's forecasted WCInv (working capital investment) in 2015?
a. 20
b. 30
c. 40
d. None of the above

5. What is the firm's estimated FCFF in 2015?
a. 8.5
b. -9.5
c. -10.5
d. None of the above

6. What is the firm's operating margin in 2014?
a. 32%
b. 60%
c. 19.6%
d. 18.7%

7. We talked about a number of trading strategies on the class. The correct statement includes
a. When we short a stock, our biggest concern is that the stock price might go up. In this case, we can use a stop buy order to minimize the risk that the stock price will go up.
b. The average P/E ratio for the US stocks is about 27.
c. Starbucks stock price is $100 on 4/21/15. With a 1-for-2 stock split, its stock price becomes $50.
d. We prefer to buy stocks with zero correlations because the largest diversification effect is being achieved when correlation between two stocks is zero.

8. If you would like to prepare for the next black swan, you can
a. buy lots of out-of-the money put options on everything from stock indexes and interest rates to currencies, or buy protective puts on stocks you already own in your portfolio
b. buy lots of at-the money put options on everything from stock indexes and interest rates to currencies
c. sell lots of out-of-the money put options on everything from stock indexes and interest rates to currencies
d. buy emerging market stock indexes

9. The so-called "golden cross" occurs:
a. when the 200-day moving average moves higher than the 50-day moving average
b. when the 5-day moving average moves lower than the 200-day moving average
c. when the 50-day moving average moves higher than the 200-day moving average
d. when the 5-day moving average moves lower than the 50-day moving average

10. Assume that the current price and most recent annual dividend for ABC are $24.25 and $1.10, respectively. If the cost of equity on the firm is 0.085, what is the implied growth rate?

a. 1.379%
b. 2.451%
c. 2.425%
d. 3.79%

11. DRZ is expected to have earnings in 10 years of $12 per share, a plowback rate of 60%, and a required return of 11%. At that time, the dividend growth rate is expected to fall to 4% forever. Estimate the terminal value at the end of 1011 year using the Gordon growth model.
a. 89.14
b. 71.31
c. 72.69
d. None of the above

12. A short-selling hedge fund advertises that it may sell short up to $20 every $100 in net assets and increase the long position to $120 of net assets. This is called a shorting strategy.
a. 20/120
b. 120/20
c. 20/80
d. 80/120

13. FB has a fixed rate perpetual preferred stock outstanding with a dividend of 6% based on an issue at par of $100. The required rate of return for holding these preferred shares is 12%. Its common stock has a beta of 2, and the risk free rate is 3% and stock market risk premium is 4%. The current value of preferred stocks is
a.$106
b.$50
c.$54.55
d. None of the above

Using the following information to answer the next four questions.

Bob Jones is the CEO of ThinkSmart, a small software company. His firm has been in business for seven years. The company operated at a financial loss during the first few years, and Jones made capital infusions to keep the firm afloat. Eventually, ThinkSmart achieved positive cash flows, and emerged with an encouraging operating outlook. One year ago, Jones contributed half a million of the firms' equity to his new holding company, ThinkSmart Opportunities or TSO, to capitalize on undervalued stocks. Jones, along with his wife, Mindy, have made all the investment decision for ThinkSmart Opportunities.

14. The first purchase ISO made was in Alpha, a maker of athletic shoes. The stock was purchased at $30 but has drifted down to $20. They have decided to retain the security until it appreciates back to $30, and then sell it unless a review of the company's fundamentals indicates it should be retained. Such thinking is an example of:
a. overconfidence
b. representativeness
c. anchoring
d. loss aversion

15. Mindy makes the point to Bob that because the software industry has been so successful during the past 10 years and she believes the industry will do very well in the next three years. So Mindy suggest they buy more software firm stocks. Such thinking is an example of:
a. home bias
b. representativeness
c. anchoring
3

d. loss aversion

16. Mindy has decided that high portfolio turnover resulting from Bob's frequent trading has reduced net returns. She knows the trading costs are significant and questions some of Bob's trading dictions. Bog's frequent trading most likely results from the behavioral finance paradigm of:
a. home bias
b. overconfidence
c. anchoring
d. representativeness

17. In light of her criticism of his trading frequency, Bob accuses Mindy of failing to change a forecast adequately based on current period returns. Mindy's behavior would be best described as:
a. home bias
b. overconfidence
c. anchoring
d. representativeness

Problems 18 to 29 are based on the following information.

Gamma Company had 200 million of revenues last year, with a gross profit margin of 24% and an operating margin of 10%. Investment in fixed capital was $11 million, and depreciation was $7 million. Working capital investment was $2.5 million. Flyer expects earnings before interest and taxes, investment in fixed and working capital, depreciation, and sales to grow at 14% per year for the next four years. After four years, the growth in sales, EBIT, depreciation, and working capital investment will decline to a stable 4% per year, and investments in fixed capital and depreciation will offset each other. Flyer's tax rate is 30%. Assume the WACC is 12% during the high growth stage and 7% during the stable stage. Your task is to estimate the value of the firm using a FCFF model. The worksheet you might need (unit: $ mil.) (hint: estimate firm EBIT or operating earnings first based on operating margin).

Year	0	1	2	3	4	5
EBIT
EBIT (1-T)
Den
FCInv
WCInv
FCFF

High growth rate:	Omitted
stable growth rate:	omitted
WACC in high growth period:	omitted
WACC in stable growth period:		0.07

Step 1: set up all the key variables based on the information provided (see above table) Step 2: write down two important "rates" and two "WACC".
Step 3: estimate FCFF for each year. Now lets' do Year 0 first.
18. What is FCFF in year 0?
a. 3.00
b. 4.00
c. 7.50
d. 14.50

Note that the cutoff year is Year 4. So we need to one more year - Year 5. Now please do the Year 1 to Year 4 first.
19. What is FCFF in year 1?
a. 4.60
b. 8.55
c. 9.60
d. 16.5

20. What is FCFF in year 2?
a. 6.27
b. 7.75
c. 9.75
d. 16.5

21. What is FCFF in year 3?
a. 11.11
b. 17.02
c. 28.48
d. 39.02

22. What is FCFF in year 4?
a. 21.87
b. 24.49
c. 12.67
d. 9.11

23. What is the depreciation in Year 5?
a. 1.66
b. 2.30
c. .3.36
d. None of the above

24. What is the fixed capital investment in Year 5?
a. 1.66
b. 2.30
c. 3.36
d. None of the above
Great! You are finishing Step 3.
5

Step 4: we need to estimate terminal value at CUTOFF year (Year 4).
25. What is the TV4?
a. 412.39
b. 512.39
c. 673.33
d. 1,083.1

Step 5: Get total FCFF for cutoff year.
26. What is the total FCFF in year 4? Lets' use FCFF4 to differentiate from FCFF4).
a. 686.00
b. 1321.2
c. 1421.2
d. 1521.2

Step 6: Line up all FCFF from Year 1 to Year 4. Below is a worksheet. Year 3 4
FCFF Discount rate:

27. What is the discount rate in Year 3? (Be careful - which WACC do you use?)
a. 1.1200
b. 1.2544
c. 1.4049
d. 1.5735

Step 7: Discount all FCFFs and sum all PVs and get FIRM VALUE
28. So what is the real/intrinsic/true FIRM VALUE (unit: $mil)?
a. 70.42
b. 170.42
c. 459.28
d. 749.0

29. Now assume the company has a total bond value of $50 mil. Its total number of common shares outstanding is 10 million. Estimate the intrinsic value of its stock per share.
a. 2.04
b. 12.04
c. 45.93
d. 40.93

30. The correct statement is:
a. The true value of the stock is the present value of the dividend discounted at the WACC
b. The true value of the stock is the present value of the FCFF discounted at the cost of equity
c. The true value of the firm is the future value of the FCFF discounted at the WACC plus cost of equity
d. The true value of the firm is the present value of the FCFF discounted at WACC

31. A coupon bond that pays interest semiannually has a par value of $1,000, matures in 8 years, and has a yield to maturity of 6%. If the coupon rate is 7%, the intrinsic value of the bond today will be
a. $1,000
b. $1,062.81
c. $1,081.82
d. $1,100.03

32. A bond currently has a price of $1,050. The yield on the bond is 6%. If the yield increases 25 basis points, the price of the bond will go down to $1,030. The duration of this bond is
years.
a. 7.6
b. 76
c. 10.11
d. 1.01

33. You can be sure that a bond will sell at a premium to par when
a. its coupon rate is greater than its yield to maturity
b. its coupon rate is less than its yield to maturity
c. its coupon rate is equal to its yield to maturity
d. its coupon rate is less than its conversion value

34. VIVO is currently selling for $16.00 on current earnings of $3.00 and a current dividend of $1.50. Dividends are expected to grow at 3.5% per year indefinitely. The risk free rate is 3%,
the MRP is 6%. VIVO has a beta of 1.1. Calculate its forward P/E ratio.
a. 7.04
b. 7.29
c. 8.20
d. None of the above.

35. Go back to the previous problem. Calculate its trailing P/E ratio.
a. 7.04
b. 7.29
c. 8.20
d. None of the above.