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Ajay K.
Finance Tutor, Cleared CFA Level 2 exam from CFA Institute, USA
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Corporate Finance
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Question:

ABC Corporation's bonds have a 15-year maturity, a 7.25% semiannual coupon, and a par value of \$1,000. The going interest rate (rd) is 6.20%, based on semiannual compounding. What is the bond's price?

Ajay K.

To calculate the price of the bond we will need to consider the compounding frequency, years to maturity, interest rate, and then use the following formula: Bond Price = PMT * (1 - ( 1 / ( 1+i ) ^ ( N ) ) ) / ( i ) + ( ( Par value) / ( ( 1+ i ) ^ N) ) Where, PMT = Coupon Payment N = Number pf periods i = interest rate Par Value = 1000 Compounding frequency = Semi-Annual Coupon Rate = 7.25% Coupon Payment (PMT) = 1000*(7.25%/2) = 36.25 Year to Maturity = 15 years Number of periods (N) = 15*2 = 2 i = 6.20%/2 = 3.10% Bond Price = ( 36.25 * (1 - ( 1 / ( 1 + 3.1% ) ^ ( 30 ) ) ) / (3.1%) ) + (1000/(1+3.1%)^30) = Bond Price = 701.419 + 400.166 Bond Price = 1101.585

Finance
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Question:

DFC Inc. recently paid a dividend of 1.80. A financial analyst has examined the financial statement and historical dividend policy of DFC Inc and expects that the firm's dividend rate will grow at the constant rate of 3.5% indefinitely. And the financial analyst also determines that the DFC inc's beta is 1.5, the risk-free rate is 4% and the expected return on the market portfolio is 8%. Calculate the current value of DFC Inc's shares.

Ajay K.

First step would be to calculate the cost of equity for DFC Inc. using the capital asset pricing model (CAPM). According CAPM, Cost of equity = Risk Free Rate + Beta*(Expected return on the market - Risk Free Rate) Cost of equity = 4% + 1.5*(8%-4%) = 4% + 6% Cost of equity = 10% Now we will use the Gordon Growth Model to calculate the value of DFC Inc's share. Value of the Share = Recent Dividend*(1+growth rate)/(Cost of Equity - Growth Rate) Value of the Share = 1.80*(1+3.5%)/(10% - 3.5%) Value of the Share = 1.863/6.5% = 28.66.

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Question:

ABC Inc shares are expected to pay dividends of 1.55 and 1.72 at the end of each of the next two years, respectively. The investor expects the price of the shares at the end of this 2-year holding period to be 42. The required rate of return is 14%. Calculate the current value of the ABC Inc shares.

Ajay K.

The value of ABC Inc. shares can be determined with a two period Dividend discount model shown as follows: ((1.55)/((1.14)^1)) + ((1.72+42)/((1.14)^2)) = 1.3596 + 33.6411 = 35.0007 Per the above calculation, Current Value of ABC Inc should be equal to 35.0007

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