ME2064 161221 Final Exam - Final PDF

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EXAM COURSE ME2064 WEDNESDAY 21 DECEMBER 2016

KTH Industrial Engineering and Management

FINAL EXAM COURSE ME2064 WEDNESDAY 21 DECEMBER 2016, 14.00 - 18.00 A reminder!  Start the answer of a question on top of a new piece of paper!  Write your name and person number on top of all pages!  Try to answer all questions and explain your reasoning!  When you answer problems you need to: 1. show the equations that you use with correct symbol for variables (define variables only as needed) 2. show calculations 3. clearly show your answer.  All calculations should be handed in. No points for just an answer if calculations are needed. Deductions will be made if you don't state the equation.  Unreadable text will not be graded. Grading There are 10 questions with a total of 100 points For grade A 90 % out of 100 % is needed For grade B 80 % out of 100 % is needed For grade C 70 % out of 100 % is needed For grade D 60 % out of 100 % is needed For grade E 51 % out of 100 % is needed For grade Fx 48 % out of 100 % is needed, Fx can be upgraded to E by doing a supplementary exam. 47 % and below is F (fail).

CALCULATOR AND THE FORMULA SHEET HANDED OUT AT EXAM ALLOWED NO BOOKS, NO DICTIONARIES, NO NOTES

Most of all – stay focused, be systematic.

Best of Luck!

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EXAM COURSE ME2064 WEDNESDAY 21 DECEMBER 2016

Problem 1a (Max 5 points) – Alta’s stock has the following probability distribution: – What are its expected return and standard deviation?

Probability

Return

.25

6%

.45

10%

.30

18%

Problem 1b (Max 5 points) – The IRR rule may disagree with the NPV rule and thus be incorrect in three specific situations. List those three. (3 points) –

Describe when and how to use the Incremental IRR Investment Rule (2 points)

Problem 2a (Max 5 points) The chart below shows Cost of Capital relative to the Debt-to-value ratio typical for a company. Identify the 5 lines A to E.

A B D

C

E

EXAM COURSE ME2064 WEDNESDAY 21 DECEMBER 2016

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Problem 2b (Max 5 points) •

Provide definitions for the following terms. – a) Beta – b) Risk free investment – c) Market Portfolio – d) Security Market Line – e) Capital Market Line

Problem 3a (Max 6 points) – Naxew’s stock has a volatility of 17.3% and a beta of 0.37. Rekoj’s stock has a volatility of 14.7% and a beta of 0.64. The risk-free interest rate is 6% and you estimate the markets expected return to be 14%. •

Which stock carries more total risk? Which has more market (systematic) risk? (motivate answers)

•

Calculate the equity cost of capital for Naxew and Rekoj, respectively. Which company has a higher cost of equity capital?

Problem 3b (Max 4 points) •

Nameerf SA has EBITDA (profits) of $1960 million and 240 million shares outstanding. Nameerf also has $1170 million in debt and $330 million in cash. Nameerf has an Enterprise value / EBITDA multiple of 8,5. – Estimate the value for one share of Nameerf.

Problem 4a (Max 5 points) Answer the following questions 

A) What does the Capital Asset Pricing Model (CAPM) allow us to identify?

 

B) What is Homemade Leverage? C) What are the three conditions that must generally hold under perfect capital markets according to Modigliani and Miller (MM) (3 points)?

EXAM COURSE ME2064 WEDNESDAY 21 DECEMBER 2016

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Problem 4b (Max 5 points) – Alpak is expected to pay a dividend of $3,67 per share in the coming year. You expect the stock price to be $78 per share at the end of the year. Investments with equivalent risk have an expected return of 12%. •

What is the most you would pay today for one share of Alpak stock?

•

What dividend yield and capital gains yield would you expect at this price?

Problem 5a (Max 6 points) 

Anna has $150 000 invested in a portfolio with an expected return of 11% and volatility of 7%. We assume that CAPM is valid and the risk free rate is 5 %. The tangent portfolio has an expected return of 18% and a volatility of 13%.



Which portfolio would you recommend to maximize expected return without increasing volatility?



Which portfolio would you recommend to maintain expected return but minimize volatility?

Problem 5b (Max 4 points) 

You own a put option in Dvex expiring in 1 year and one share of Dvex. The strike price for the put is $14. The current price per share of Dvex is $15,12. The risk-free rate is 5%. The price of each put is $1,23.



How do you construct a position with the same payoff without owning the share and the put in Dvex?

Problem 6 (Max 10 points) – Ketrab will pay an annual dividend of $0.80 one year from now. Analysts expect this dividend to grow at 8% per year thereafter until the end of the fourth year. After that, growth will level off at 3% per year. According to the dividenddiscount model, what is the value of a share of Ketrab if the firm’s equity cost of capital is 10%?

EXAM COURSE ME2064 WEDNESDAY 21 DECEMBER 2016

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Problem 7 (Max 10 points) 

Espresso PLC expects to have free cash flow in the coming year of $12 million, and its free cash flow is expected to grow at a rate of 3 % per year thereafter. The value of its interest tax shield is $82,3 Million. Espresso has an equity cost of capital of 16 % and a debt cost of capital of 6%, and it maintains a debt-equity ratio of 3. o What is the corporate tax rate that Espresso pays?

Problem 8a (Max 5 points) o You have a three-year bond with face value of $1000 that pays 15% annual coupon. YTM for 1, 2, and 3 year zero-coupon bonds are 4%, 5% and 6% respectively. o Calculate current price of the three-year coupon bond and its YTM (Estimate YTM consistent within $4 of current price).

Problem 8b (Max 5 points) o The chart below shows the change of bond prices as time approaches maturity. The risk free rate is 5%. Answer the following questions: a) Why do all four lines show the same value after 30 years? b) What is the coupon rate of line B and why? c) Which line is the zero-coupon bond and why? d) Why are three of the lines jagged while the fourth is not? e) What do we know of the coupon rates of the remaining two lines?

A B

C

D

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EXAM COURSE ME2064 WEDNESDAY 21 DECEMBER 2016

Problem 9a (Max 7 points) 

The company Granda runs an electronic lottery. Each week there are 10 000 tickets sold. Each ticket costs $8 and each ticket has a random chance of 0,1 % of winning $500. - What is the expected profit and standard deviation on each ticket for Granda? - What is their expected profit and standard deviation on the whole lottery each week?

Problem 9b (Max 3 points) •

The interest rate on loans offered by a bank is 10% APR, quarterly compounding, with monthly payments. – What is the effective annual rate, what is the effective quarterly rate, and what is the effective monthly rate?

Problem 10 (Max 10 points) 

Rolypop is considering launching a new product which they expect to sell during a 3 year period. Sales will be $50 million each year. Cost of Goods Sold will be 60% of sales. Additional selling costs will be $9 million per year (year 1 to 3).



Rolypop has to spend $9 million to buy equipment before they can start sales. The equipment has a three year life and straight line depreciation is used. In year 4, the machine will be sold for salvage value of $3 million. Tax rate is 40 %.



Receivables will be 15 % of current year’s sales and payables 10 % of current year’s cost of goods sold. Inventory of 5% of the following year’s sales are needed. Extra cash of $2 million will need to be held during the 3 years. - Calculate change in Net Working Capital for years 0-4. - Calculate incremental Free Cash Flows for years 0-4. - Calculate NPV of the new product (Rolypop’s cost of capital is 12%).

Year Sales

0 0

1 50

2 50

3 50

4 0...