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Hi,
I was doing the MCQ questions on the opentuition website and have got stuck on the questions below. I’ve watched the lectures and I’m still facing problems getting the answer. I would appreciate if you can provide the working out please.
Q1
What is the PV of £48k first receivable in 3 years time and thereafter each year, for a total of 7 years?
Cost of capital is 10%Answer is 193,100
Q2
Project is expected to earn £5000 per year (current prices) in prepetutiy, inflating at 4% per year. First receipt will be in one years time.
Cost of capital is 12%What is the present values of the receipt?
Answer is £65000
Q3
A company has in issue 6% debentures, convertible in 5 years time to 15 ordinary shares in the company or redeemable at par.Share price in 5 years time turns out to be 3.50 per share.
How much will the holder of debentures with a nominal value of £10000 expect to receive in 5 years time?
Answer is £10000
Q4
A company has in issue £200000 8% loan stock, quoted at 92c, redeemable in 5 years time at par. Tax is at 30%What is the possible redemption yield?
Answer is 9.5%
Q5
A company has in issue £200000 8% loan stock, quoted at 92c, redeemable in 5 years time at par. Tax is at 30%What is the interest yield?
Answer is 8.7%
Q6
Rho is about to pay a dividend of 18c per share. Dividend are gorwing at the rate of 3% per year and shareholders required return is 15%.What is the market value per share?
I did (18*1.03)/(15%-3%) = 1.55 but that is wrong. The answer is 1.73
Q7
Company has 7% loan in issue which are redeemable in 7 years time at 5% premium to their nominal value of £100 per loan note.
Before tax cost of debt is 9% and and after tax cost of debt is 6%.What is the current market value of the loan note?
Answer is 92.67
Q8
Mat Co has 8% convertible loan notes in issue which are reedamble in 5 years time at their nominal value of $100 per loan note.
Alternitively each loan note can be coverted after 5 years into 70 equity shares with a nominal value of $1 each.
Equity shares of Matthew are currently trading at $1.25 per share and the share price is expected to grow by 4% per year.
Before tax cost of debt is 10% and after tax cost of debt 7%What is the current market value of each of the loan note?
Answer is 96Question 1:
Since it is receivable for a total of 7 years, the first receipt is in 3 years time and the last receipt is in 9 years time.
The discount factor to use is therefore the 9 year annuity factor less the 2 year annuity factor – this leaves the total factor for years 3 to 9.
(I suggest that you watch the Paper F2 lectures on interest which will help you with this)
Question 2:
The real (effective) rate is 1.12/1.04 -1 = 0.076923 (or 7.6923%) (using the Fisher formula).
Applying this to the perpetuity at current prices gives a PV of 5,000 / 0.076923 = 65,000.
Question 3:
Have you really watched all of the lectures? I really do suggest that you watch them again and practice the online tests that are on the website for each of the chapters.
On redemption the investor has the choice os taking either cash of $10,000 or taking shares with a total value of 10,000/100 x 15 x $3.50.
They will take whichever is the greater of the two.Question 4:
The question does NOT ask what is the redemption yield – you cannot be asked to calculate the redemption yield.
The question gives you a choice of possibilities for both the interest yield and the redemption yield.
You are expected to be able to calculate the interest yield, which is 8/92 = 8.7%
You are expected to know what the redemption yield means, and since the redemption is at more that the current market value, the redemption yield must be higher than the interest yield.
Only one of the choices satisfies this.
Question 5:
See my answer to your question 4.
This is covered in full in the free lectures!
Question 6:
The formula gives the ex div market value.
The question says that they are about to be a dividend and therefore wants the cum div market value.
The cum div value is the ex div value + the dividend about to be paid.
Question 7:
The cash flows to the investor on a nominal value of $100 are:
1 – 7 $7 p.a.
7 $105The market value is the present value of these flows discounted at 9%
Tax is of no relevance because it is the investor who determines the market value. Tax is only relevant when looking at the cost to the company.
Question 8:
You need to decide what the investor expects to get on redemption (the higher of the cash redemption and the value of the shares – see my earlier answer).
The market value if then the present value of the investors expected receipts discounted at their required rate of return (10%).
Thank you so much for the help. I will watch the lectures again, especially the ones relating to calculate the market value of debt.
In regards to question 8, I did:
1-5, 8 at 9% = 30.328
5, 105 at 9% = 65.2
Total 96I then did 1.25 x 1.04^5 x 70 = 106 or should it be 1 x 1.04^5 x 70 = 85
And then pick the highest one from there?
For time 5, you take the higher of 100 and 70 x 1.25 x 1.04^5
Then you calculate the PV of the flows using the highest of the above as the time 5 flow.
Thank you for all the answer, it is very helpful, however I still can’t get to understand the Q6, Very would appreciate if you Can show the working out calculations. Thank you so much.
Q6
Rho is about to pay a dividend of 18c per share. Dividend are gorwing at the rate of 3% per year and shareholders required return is 15%.What is the market value per share?
mpatel showed the working for the ex div value (using the formula) in his question above and it is correct at $1.55.
However as I have written in my reply the question said that the dividend of 18c is about the be paid and therefore we need the cum div value which is 1.55 + 0.18 = $1.73This is all explained in my free lectures. The lectures are a complete free course for Paper FM and cover everything needed to be able to pass the exam well.
Thanks Sir.
Paul plans to buy a holiday villa in five years’ time for cash. He estimates the cost will be $1.5m. He plans to set aside the same amount of funds each year for five years, starting immediately and earning a rate of 10% interest per annum compound.
how much does he need to set aside each year?
I got the answer is $359,712.
But the actual answer is 223,381.
I see their answer explain $1.5x DF 0.621= 931,500 then divided by 4.170. Why need to times 0.621 first. I can’t get it Sir.
Thanks in advance Sir.
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