Investment Proposal, Portfolio Variance, Cost of Equity and WACC Calculation

Bond Investment Proposal

The third investment proposal is a bond issued by Demeter Corp.. The private banker has laid down a base scenario to help you determine the total real return on this investment. You will buy the bond today for a clean price of $1,035.00. The bond makes annual coupon payments of 6.5 percent and mature in 10 years. You will sell the bond in one year from now when the required return on the bonds will be forecast to be 6.2%. Assume the inflation rate over this coming year is 2.5%. 

(a) Determine the arithmetic and geometric returns for the Atlas stock. 

(b) Compute the expected return for the Philemon portfolio of three (3) stocks.

(c) Compute the variance and the standard deviation for the portfolio. 

(d) Compute the expected return and the standard deviation if the portfolio is invested 60 percent in stock B and 20 percent each in stock A and C. Discuss the change.

(e) Calculate what would be your total real return on investment for the Demeter Corp. bond.

Question 3 Your business has expanded and your team is looking for new funds. To secure your valuation, a prospective investor requires you to indicate a cost of equity and a weighted average cost of capital. For this purpose, you have gathered the following information: • Your industry comparable stock beta is 1.28 • Your company is currently valued at $97 per share • Your business has just paid a dividend of $1.10 • The dividends are expected to grow by +3.00% a year over an indefinite future • The expected return on the market is 8.50% for a risk-free rate of 1.50% FIN203 Group-based Assignment Your prospective investor has also shared some information on his own company: • Tax rate: 17.00% • Common stock: o 2,000 shares currently valued at $74.00 per share o His industry comparable stock beta is 0.90 o His business just paid a dividend of $3.15 o The dividend is expected to grow by +2.00% per year indefinitely • Debt: o 110 bonds outstanding with 13 years to maturity, 4.7 percent coupon and a market price of $1,070. The bonds pay interest semi-annually.

(a) Determine the cost of equity using the dividend growth model (DDM) method. 

(b) Determine the cost of equity using the Capital Asset Pricing Model (CAPM) method.

(c) Explain the reason(s) for the difference in your estimates under (a) and (b). 

(d) Estimate the weight to use for debt when calculating the cost of capital of your prospective investor. 

(e) Determine a WACC estimate for your prospective investor using CAPM.