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(solution) Practice Questions for Valuation of Bonds and Shares RBS bank's

Practice Questions for Valuation of Bonds and Shares

- RBS bank?s share is being traded at Rs. 510.25 per share. The company currently pays a dividend of Rs. 25. Assume that the expected growth in dividend will be 7% p.a. forever.
- Estimate the return that you expect to earn as an equity investor in this stock.

Show the impact on return, if:-

- Only Market price goes upward to Rs. 580.75, other values being the same
- Only Current dividend goes down to Rs. 18.5, other values being the same (as given originally)
- Only The growth rate changes to 9%, other values being the same (as given originally)

- DHBC Ltd. is planning to issue a bond with the following features:-
- Par value Rs. 1,000
- Maturity 5 years
- Coupon rate 10%

You would like to buy this bond. The bond is rated as BB. Considering the rating and risk, your required rate of return is 11%.

- What is the value of this bond according to you?
- Will you buy the bond from the company at Rs. 1,000? Why or why not?
- Considering the rating and risk, if DHBC wishes to revise the coupon rate to 12%, what would be the value of the bond now? All other things remaining the same.
- Will you buy the bond from the company at Rs. 1,000, now? Why or why not?

- Consider a Rs. 1,000 par value bond whose current market price is Rs. 950. The bond carries a coupon rate of 8% and has a maturity period of 5 years. The lenders require 5% return from the bond. Calculate the present value of bond and compare with market price.
- If the required rate of return changes to 9%, what would be the impact on the value of bond? In which situation would you recommend the holder of the bond to sell the bond?

- The share of M &M company is selling at Rs. 1,468.85 per share. The firm has recently declared the dividend of 1500%. The face value of the company?s share is Rs. 5.00 per share. The estimated growth of the company is 8% per year
- Determine the cost of equity capital of the company
- Determine the estimated market price if the anticipated growth rate of the firm rises to 9%, using the cost of equity calculated in part a.
- Is the share over valued or undervalued now?

- Pink Limited is planning to issue debenture in the month of December, 2016. The company has decided the face value of debenture to be Rs. 10,000. The debenture will have a maturity period of 5 years. The company plans to issue debenture differently and therefore has decided to give the coupon rate which is increasing 1% every year, starting from 8% in the first year, 9% in the second year and so on.
- Your friend, Mayank, is interested in investing in equity market and has shortlisted the two shares.
- Share of company A, where the expected dividend is Rs. 4.00 and the growth is assumed to be 8%. The current market price of the share is Rs. 62.50
- Share of company B, where the expected dividend is Rs. 42, which is expected to grow at 4%. The current market price of the share is Rs. 318.20.

- A share of the firm is trading at ?350, currently. The market estimates that the price will be ?420, next year.
- What is the growth in price of the share?
- If the current dividend is ?20 per share, what is the dividend expected from the firm in the coming year?
- What is the percentage return being earned by the investors?
- If the growth rate is assumed to be 22%, calculate the change in values of the part (b) and (c) (No change in the value of share).

- A company paid Rs. 2.75 dividend on its equity share, last year. Dividends are expected to grow at 12% annual rate for an indefinite number of years.
- If the company?s share is being traded at Rs. 37.50 currently, what is the stocks expected rate of return?
- Will your answer change, in part a, if the growth rate is 10%? Show the impact on expected rate of return.
- If your required rate of return is 14%, what is the fair value of the stock for you (assuming growth rate to be 12%)?
- Should you make investment if the current market price is assumed to be Rs. 145? Why or why not?

- Government is planning to issue a zero coupon bond of 50,000 where the issue price is Rs. 21,670. The bond is being issued for 8 years. Calculate the YTM of the bond.
- HD Company wants to issue the bond with 20 years of maturity. The bond will have a face value of Rs. 1, 00,000 and the coupon rate 11%. The similar bond in the market give YTM of 12%. Find the value of bond of HD.
- A bond is being traded at Rs. 928.09. The bond has 15 years to mature. The bond carries 10% coupon rate. Calculate the YTM of the bond. (Hint: using short-cut formula. The face value of bond is Rs. 1,000)

Practice Questions for Valuation of Bonds and Shares

1. RBS bank?s share is being traded at Rs. 510.25 per share. The company

currently pays a dividend of Rs. 25. Assume that the expected growth in dividend

will be 7% p.a. forever.

a. Estimate the return that you expect to earn as an equity investor in this

stock.

Show the impact on return, if:b. Only Market price goes upward to Rs. 580.75, other values being the

same

c. Only Current dividend goes down to Rs. 18.5, other values being the

same (as given originally)

d. Only The growth rate changes to 9%, other values being the same (as

given originally)

2. DHBC Ltd. is planning to issue a bond with the following features:a. Par value

Rs. 1,000

b. Maturity

5 years

c. Coupon rate

10%

You would like to buy this bond. The bond is rated as BB. Considering the

rating and risk, your required rate of return is 11%. What is the value of this bond according to you?

Will you buy the bond from the company at Rs. 1,000? Why or why not?

Considering the rating and risk, if DHBC wishes to revise the coupon rate

to 12%, what would be the value of the bond now? All other things

remaining the same.

o Will you buy the bond from the company at Rs. 1,000, now? Why or

why not? 3. Consider a Rs. 1,000 par value bond whose current market price is Rs. 950. The

bond carries a coupon rate of 8% and has a maturity period of 5 years. The

lenders require 5% return from the bond. Calculate the present value of bond and

compare with market price.

a. If the required rate of return changes to 9%, what would be the impact on

the value of bond? In which situation would you recommend the holder of

the bond to sell the bond?

4. The share of M &M company is selling at Rs. 1,468.85 per share. The firm has

recently declared the dividend of 1500%. The face value of the company?s share

is Rs. 5.00 per share. The estimated growth of the company is 8% per year

a. Determine the cost of equity capital of the company

b. Determine the estimated market price if the anticipated growth rate of

the firm rises to 9%, using the cost of equity calculated in part a.

c. Is the share over valued or undervalued now? 5. Pink Limited is planning to issue debenture in the month of December, 2016. The

company has decided the face value of debenture to be Rs. 10,000. The

debenture will have a maturity period of 5 years. The company plans to issue

debenture differently and therefore has decided to give the coupon rate which is

increasing 1% every year, starting from 8% in the first year, 9% in the second

year and so on.

The company would like to price the debenture in such a way that it gives 11%

return to the investors. Determine the issue price of the debenture

6. Your friend, Mayank, is interested in investing in equity market and has shortlisted

the two shares.

a. Share of company A, where the expected dividend is Rs. 4.00 and the

growth is assumed to be 8%. The current market price of the share is Rs.

62.50

b. Share of company B, where the expected dividend is Rs. 42, which is

expected to grow at 4%. The current market price of the share is Rs.

318.20.

Mayank requires the return of 15% from equity market. You are required to help

Mayank in finding out the intrinsic value of share. You are also expected to advise

him as to which share should be bought and why.

7. A share of the firm is trading at ?350, currently. The market estimates that the

price will be ?420, next year.

a. What is the growth in price of the share?

b. If the current dividend is ?20 per share, what is the dividend expected from

the firm in the coming year?

c. What is the percentage return being earned by the investors?

d. If the growth rate is assumed to be 22%, calculate the change in values of

the part (b) and (c) (No change in the value of share).

8. A company paid Rs. 2.75 dividend on its equity share, last year. Dividends are

expected to grow at 12% annual rate for an indefinite number of years.

a. If the company?s share is being traded at Rs. 37.50 currently, what is the

stocks expected rate of return?

b. Will your answer change, in part a, if the growth rate is 10%? Show the

impact on expected rate of return.

c. If your required rate of return is 14%, what is the fair value of the stock for

you (assuming growth rate to be 12%)?

d. Should you make investment if the current market price is assumed to be

Rs. 145? Why or why not?

9. Government is planning to issue a zero coupon bond of 50,000 where the issue

price is Rs. 21,670. The bond is being issued for 8 years. Calculate the YTM of

the bond. 10. HD Company wants to issue the bond with 20 years of maturity. The bond will

have a face value of Rs. 1, 00,000 and the coupon rate 11%. The similar bond in

the market give YTM of 12%. Find the value of bond of HD.

11. A bond is being traded at Rs. 928.09. The bond has 15 years to mature. The

bond carries 10% coupon rate. Calculate the YTM of the bond. (Hint: using shortcut formula. The face value of bond is Rs. 1,000)

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