# Stock Price Rate of Return and Bond

Question 1

Phoenix Company common stock is currently selling for $20 per share. Security analysts have assigned the following probability distribution to the price of (and rate of return on) Phoenix stock one year from now:

Price Rate of Return Probability

$16 -20% .25

$20 0 .30

$24 +20% .25

$28 +40% .20

Assuming that Phoenix is not expected to pay any dividends during the coming years, determine the expected rate of return on the stock.

Question 2

Elephant Company common stock has a beta of 1.2. The risk-free rate is 6% and the expected market rate of return is 12%. Determine the required rate of return on the stock.

Question 3

An Allied Northern preferred stock pays a $3.84 annual dividend. What is the value of the stock to an investor who requires a 9.5% return?

Question 4

A refrigerator manufacturer, Zero King, issued a zero coupon bond with 10 years to maturity. What is the yield-to-maturity of this bond if it is sold for $352?

Question 5

Assume that the dividend of $3.25 on Central Power Company's common stock is paid annually. This dividend is not expected to increase for the foreseeable future. Determine the value of this stock to an investor who requires a 12% rate of return.

Question 6

A DFL (degree of financial leverage) of 3.0 indicates that a 27% increase in EPS is the result of a ___________ increase in EBIT.

Question 7

Illinois Tool Company (ITC) fixed operating costs are $1,260,000 and its variable cost ratio (i.e. variable costs as a fraction of sales) is 0.70. The firm has $3,000,000 in bonds outstanding at an interest rate of 8 percent. ITC has 30,000 shares of $5 preferred stock and 150,000 shares of common stock outstanding. ITS is in the 50 percent corporate income tax bracket. Forecasted sales for next year are $9 million. What is ITS's degree of operating leverage at a sales level of $9 million?

Question 8

Suppose that ITC's degree of combined leverage (DCL) is 3.00 at a sales volume of $9 million. Determine ITC's percentage change in earnings per share (EPS) if forecasted sales increase by 20 percent to $10,800,000.

Question 9

Jac's needs to meet a target profit of $100,000 on a new joystick that sells for $25. Jac's has a fixed cost for producing the joystick of $180,000 and expects it to have a contribution margin of $20. What target volume must Jac's achieve to meet the target profit?

Question 10

Jason is interested in finding how many pumps he must sell to breakeven on a new pump he plans to produce. The price of the pump is $250 and the variable cost is 50% of the price. Jason calculated that the fixed costs will be about $400,000.

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#### Solution Summary

The following posting helps with finance problems. Concepts covered include stock price, rate of return, bonds, financial leverage and target profit.

Risk aversion and stocks' prices and earned rates of return: (a) how a decrease in risk aversion would affect stocks' prices and earned rates of return, (b) how this would affect risk premiums as measured by the historical difference between returns on stocks and returns on bonds, and (c) the implications of this for the use of historical risk premiums when applying the SML equation.

In Chapter 7 (Unit 5), we saw that if the market interest rate, rd, for a given bond increased, then the price of the bond would decline. Applying this same logic to stocks, explain (a) how a decrease in risk aversion would affect stocks' prices and earned rates of return, (b) how this would affect risk premiums as measured by the historical difference between returns on stocks and returns on bonds, and (c) the implications of this for the use of historical risk premiums when applying the SML equation. Support your positions.

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