Task: Assume interest payments are on an annual basis for questions:
Problem 1: Bond Value
Midland oil has $1,000 par value bonds outstanding at 8 percent interest. The bonds will mature in 25 years. Compute the current price of the bonds if the present yield to maturity is:
a. 6 Percent
b. 8 Percent
c. 13 Percent
Problem 2: Bond Value
Harrison Ford Auto Company has a $1,000 par value bond outstanding that pays 11 percent interest. The current yield to maturity on each bond in the market is 8 percent. Compute the price of these bonds for these maturity dates:
a. 30 years
b. 15 years
c. 1 year
Problem 3: Bond maturity effect: Use the following graph as and example to answer the question
Time period in years (of Bond price with 8% yield Bond Price with 12% Yield
10% bond) to Maturity to Maturity
0 $1,000.00 $1,000.00
1 1,018.60 982.30
5 1,080.30 927.50
10 1,134.00 887.00
15 1,170.90 864.11
20 1,196.80 850.90
25 1,213.50 843.30
30 1,224.80 838.50
Kilgore Natural Gas has a $1000 par value bond outstanding that pays 9 percent annual interest. The current yield to maturity on such bonds in the market is 12 percent. Compute the price of the bonds for these maturity dates:
a. 30 Years.
b. 15 Years
c. 1 Year
Problem 4: Effect of yield to maturity on bond price.
Tom Cruise Lines, Inc., Issued bonds five years ago at $1,000 per bond. These bonds had a 25-year life when issued and the annual interest payment was then 12 percent. This return was in line with the required returns by bondholders at that point as described below:
Real rate of return 3%
Inflation premium 5
Risk premium 4
Total return 12%
Assume that five years later the inflation premium is only 3 percent and is appropriately reflected in the required return (or yield to maturity) of the bonds. The bonds have 20 years remaining until maturity. Compute the new price of the bond.
Problem 5: Preferred stock value
The preferred stock of Ultra Corporation pays an annual dividend of $6.30. It has a required rate of return of 9 percent. Compute the price of the preferred stock.
Problem 6: Common stock value
Friedman Steel Company will pay a dividend of $1.50 per share in the next 12 months (D1). The required rate of return (Ke) is 10 percent and the constant growth rate is 5 percent.
a. Compute Po.
(For parts b,c, and d in this problem all variables remain the same except the one specifically changed. Each question is independent of the others.)
b. Assume Ke’ the required rate of return, goes up to 12 percent; what will be the new value Po?
c. Assume the growth rate (g) goes up to 7 percent; what will be the new value of Po?
d. Assume D1 is $2, what will be the new value of Po?