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Trentham Estate Ltd expects to grow at a rate of 22 per cent for the next 5 years and then settle to a constant-growth rate of 6 per cent. The company’s most recent dividend was $2.35. The required rate of return is 15 per cent.
Required
a Find the present value of the dividends during the rapid growth period.
[4 marks]
b What is the price of the share at the end of year 5?
[2 marks]
c What is the price of the share today?
d Briefly describe the factors that financial managers should consider when setting the dividend policies for their companies.
[Total for question 1 = 12 marks]
Question 2
New South Wales Treasury has issued $1,000 face value, 25-year bonds that pay a coupon of 9.875 per cent semi-annually. The current market rate for similar securities is 11 per cent.
Required
a What is the bond’s current market value?
[2 marks]
b What will be the bond’s price if rates in the market (i) decrease to 9 per cent; (ii) increase to 12 per cent?
c Discuss how the interest rate changes affect the price of premium bonds and discount bonds? [4 marks]
d Suppose the bonds were to mature in 12 years. How would the interest rate changes in part b affect the bond prices?
Question 3
Imaginary Products Ltd currently has $300 million of market value debt outstanding. The 9 per cent coupon bonds (semiannual payment) have a maturity of 15 years and are currently priced at $1,440.03 per bond. The company also has an issue of 2 million preference shares outstanding with a market price of $12.00. The preference shares offer an annual dividend of $1.20. Imaginary also has 14 million ordinary shares outstanding with a price of $20.00 per share. The company is expected to pay a $2.20 ordinary dividend one year from today, and that dividend is expected to increase by 5 per cent per year forever.
Required
Part (a) If the corporate tax rate is 30 per cent, then what is the company’s weighted average cost of capital?
Part (b) Are financial managers able to influence the cost of capital? Briefly discuss.
Question 4
Toyota is interested in borrowing $5 million for 90 days. National Australia Bank has quoted a rate of 1.125 percent under the prime rate of 6.25 percent. Daiwa Bank is offering Toyota a rate of 0.75 percent over the three-month LIBOR of 4.2 percent.
Required
Part (a) Which is the better deal for Toyota, and what is the lower interest cost in dollars?
[8 marks]
Part (b) Define yield to maturity. Why is it important?
