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1.(a) Abdul Inc., wants to raise $1 million by issuing six-year zero coupon bonds with a face value of $1,000. Its investment banker states that investors would use an 11.4 percent discount rate to value such bonds. At what price would these bonds sell in the marketplace? How many bonds would the firm have to issue to raise $1 million? Assume semi-annual interest payments. (1 Mark)

(b) Investor A holds a 15-year bond, while investor B has an 7-year bond. If interest rate increases by 1 percent, which investor will have the higher interest rate risk? Explain. (0.5 Mark)

(c) Investor A holds a 10-year bond paying 8 percent a year, while investor B also has a 10-year bond that pays a 6 percent coupon. Which investor will have the higher interest rate risk? Explain. (0.5 Mark)

2.Amani owns shares in Honda Inc. Currently, the market price of the stock is $36.34. Management expects dividends to grow at a constant rate of 6 percent for the foreseeable future. Its last dividend was $3.25. Amani’s required rate of return for such stocks is 16 percent. She wants to find out whether she should sell his shares or add to her holdings.

  • What is the value of this stock? (1 Mark)
  1. Based on your answer above, should Rhea buy additional shares in Ryoko Corp?

Why or why not? (0.5 Mark)

3.You are considering three independent projects: A, B, and C. Given the following free cash flow information, calculate the payback period for each. Required rate of return is 9%. (1 Mark)

If you require a 3-year payback before an investment can be accepted, which project(s) would be accepted? (0.5 Mark)

Year

Project A

Project B

Project C

0

(1,000)

(9,000)

(4,000)

1

300

4,000

1,100

2

400

2,000

1,800

3

250

2,000

2,200

4

125

3,000

2,800

5

125

5,000

3,200

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