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S07Assg7soln

# S07Assg7soln - FIN 2200 CORPORATION FINANCE Sum 2007...

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FIN 2200 – CORPORATION FINANCE Sum 2007 Professors A. Dua Assignment #7 key For questions 1 to 4 assume that R f = 5%, that the expected return on the market portfolio is 15% and that the face value of any bonds is \$1,000. Assume the CAPM is true. 1. Diversification, Inc. has the following capital structure: Security Type Market Price Number outstanding Common stocks \$25/share 12,000,000 Bonds \$1,100/bond 300,000 Assume Diversification’s common stock has a β = 1.40. Diversification’s bonds have a stated coupon rate of 10%; coupons are paid semi-annually; and the bonds mature in 12 years. a) Calculate the expected returns for Diversification's common stock. % 19 ) 05 . 0 15 . 0 ( 4 . 1 05 . 0 ) R R ( R ] R [ E f M s f s = - + = - β + = b) Calculate the yield to maturity for Diversification's bonds. Express your answer as an effective annual rate. % 83144461 . 8 1 ) 0432231047 . 1 ( ] R [ E % 64462094 . 8 % 32231047 . 4 2 maturity to yield normal % 32231047 . 4 rate annual - semi effective ) r 1 ( 000 , 1 ) r 1 ( 1 1 r 50 100 , 1 ) r 1 ( FV ) r 1 ( 1 1 r C PV 2 B 24 24 T T = - = = × = = + + + - = + + + - = 2. One of Diversification’s competitors, Consolidated Corp., has a capital structure that consists of \$200 million of debt in the form of bonds and \$300 million of equity in the form of common stock. The expected returns on Consolidated’s securities are E[R

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S07Assg7soln - FIN 2200 CORPORATION FINANCE Sum 2007...

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