Case

Assume that recently, you have been appointed as assistant to the financial analyst of the company named: XYZ and management of the company is now expected you to do some required calculations in the need to make few important financial decisions. Company formerly issued few common stocks and bond with which the related information is as given below:

A 10 years bond of par value Rs.8,000/- was issued, with annual coupon interest rate of 11.5%. Required rate of return on such bonds is 9% p.a.

Stock A was issued by the company, for which they have paid Rs.1.25 per stock as annual dividend, this year. Company’s earnings and divided is expected to grow at 6.5% in a year ahead.

Stock B was issued by the company, for which the required rate of return is 17%; beta is 1.5 while the market return is 15.5%.

Stock C was issued by the company, for which the risk free rate of return is 11.5%; market risk premium is 2.3% and required rate of return is 16.2%.

Required

1. Keeping in view the given information, calculate the value of the bond.

[4 marks]

2. Calculate and comment, how the value of the bond will be affected, if the required rate of return on bond is increased up to 13 %. [3 marks]

3. Using SML equation, you need to find out the risk free rate of return for stock B. Also interpret the result of stock B for investment purpose. [3 marks]

Note: Show formulas, complete calculation/ working along with decision comments to avoid any marks deduction

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