Management Engineering - Finance Lab + Corporate FInance

Full exam

Exercise 1 Nikita Asset Management is selecting securities traded on the exchange for its funds . The following bonds are analysed : • Yellow: rated A, coupon 1% paid annually, maturity 30 months • Orange: rated BBB, annual coupon 2% compounded every 6 months (i.e. 1% every semester), maturity 15 months • Red: rated BB, zero coupon bond, maturity 12 months The principal is paid back at maturity in all cases. The interest rate term structure is rather flat (the annual risk -free interest rate is equ al to -0.1% for maturities up to 20 months and +0.1% for maturities from 21 months to 30 months ). Currently, this is the spread that the market is requesting for different rating notches: Rating AA A BBB BB B CCC Annual spread +0.3% +0.6% +1.1% +1.8% +2.5% +4% Compute: 1. The equilibrium dirty price and eventually the clean price for the bonds 2. The yield to maturity (YTM) 3. The duration and volatility Explain if, in the cases that the three bonds were callable, we expect larger or lower prices, YTM, duration and volatility , other parameters unchanged. Exercise 2 Financial analysts just published a set of report s about the future profitability of RocketMan LLC : Year 1 Year 2 Year 3 Thereafter ROE (*) 16% 18% 20% 20% Payout ratio 60 % 70% 70% 80% (*) = ratio between annual earnings and book value of equity capital at the beginning of the year The book value of the equity capital of the company today is equal to € 280 million and is divided into 40 million shares. The annual cost of capital is equal to 1 1%. The risk free rate is equal to 0. 2%. The dividend to be paid at time 1 has been already decided and confirmed. Assuming that the company will not raise capital in the short run, compute: 1. The exp ected dividends in the short run (years 1 to 4) 2. The long -run growth rate of the dividends 3. The theoretical value of the shares on the market 4. The present value of the growth opportunity (PVGO) 5. The value of two forward contracts on the shares, delivery price € 18 , maturity 10 months and 15 months respectively A private bank is offering to customers the opportunity to sign a forward contract to buy or sell the shares at time 10 month s at the deli very price of € 18 for free. Build immediately an arbitrage portfolio! Exercise 3 Daniel is the CFO of a manufacturing company and he is considering to submit to the board of directors the proposal to reconver sion a line of business to produce sanitizers and masks to fight the pandemic. The initial investment required to build the manufacturing plant is equal to € 650,000. The following cash flows, gross of taxes, are expected in the future: first year € 80,000; se cond year € 1 90,000; third year € 480,000; fourth year € 380,000. The tax rate to be applied to cash flows is equal to 2 2%. The cost of capital (unlevered) is equal to 9%. Daniel is considering five different opportunities to finance the project: 1. Equity capital only 2. Equity and debt (loan € 2 40,000 to be paid back at time 4 ; annual interest rate 6%) 3. Equity and debt (loan € 2 40,000 to be paid back in 4 years, i.e. € 60 ,000 must be paid back each year; annual interest rate 5%) 4. Equity and debt (loan with leverage L=debt to value of the project equal to 30% each year; annual interest rate 5%) 5. Equity and grant from the Recovery Plan financed by the European Union; € 100,000 are granted at time 0 as a contri bution (not to be paid back) and € 100,000 are granted at time 0 as a subsidized loan (must be paid back at time 4 but no interests are paid) Compute the net present value of the project under the five alternatives. Compute the expected profitability (cost of capital) for shareholders under the alternatives 2, 4 and 5. Academic year 20 20 -20 21 The test must be completed in 120 minutes . Write immediately surname and name on papers provided by the staff. During the test you cannot read personal notes or books. If – to your opinion – the text is not clear, or is ambiguous, you can introduce proper assumptions. Corporate Finance (Prof. G. Giudici) Written test – January 14 th 20 21