How can you create a trading strategy that will give you a payoff that resembles the payoff of short stock

INSTRUCTIONS TO CANDIDATES

ANSWER ALL QUESTIONS

Final Exam

 

Corporate Finance

Question-1 (10 Points)

Toll road investments are usually realized through Build-Operate-Transfer (BOT) projects. Since these projects last for a long period of time, they are exposed to various risks. The successful delivery of BOT projects implies that these risks are efficiently mitigated. In order to alleviate project risks, the public partner may offer the private partner the possibility of abandoning the project and transferring it back to the public sector for a specific pre-determined price. In one such project, the public partner offers the private partner the possibility of abandoning the project within 4 years for the salvage value of $80 million. Use one of the binomial option pricing technique to value this option? Assume that the present value of future cash flows from the toll road investment is $100 million and it can go up or down once a year. The volatility is 30% per annum. The risk-free rate is 5%.

Question-2 (10 Points)

In many countries, short selling is not allowed. How can you create a trading strategy that will give you a payoff that resembles the payoff of short stock? Assume that you can buy or sell options or stocks in this market. Illustrate your answer.

Question-3 (5 + 10 = 15 Points)

OF Corporation invested $100 to buy an equipment 5 years ago. At the time of purchase, the equipment had an expected life of 10 years. If the equipment is not replaced, the company can sell it for $10 at the end of its expected life. However, if it is replaced, the old equipment can be sold today for $40. Assume straight-line depreciation.

A new equipment can be bought for $140, including installation costs. During its 5-year useful life, it will reduce operating expenses by $50 per year. Revenues are not expected to change. At the end of its useful life, the equipment is estimated to be worthless. MACRS depreciation will be used. The equipment will be depreciated over its 3-year class life, rather than its 5-year economic life. Therefore, the applicable depreciation rates are 33%, 45%, 15%, and 7%.

 

The firm’s tax rate is 30%. What is the initial investment (cash flow at Year 0)? And, what are the incremental net operating cash flows that will occur at the end of Years 1 through 5? 

Question-4 (10 Points)

OF Corporation is a technology firm that specializes in contactless delivery products. The CFO has announced that the company is planning to issue new stocks for $33 to finance its new projects. What is OF Corporation’s cost of retained earnings and cost of new common stock?

 

Assume that its stocks are currently traded at $40 per share. The company is expected to pay a dividend of $4 one year from today. The dividend is expected to grow at a perpetual rate of 5%.

Question-5 (10 Points)

OF Corporation (an all-equity financed firm) is contemplating about changing its capital structure. It plans to have 35% debt in the proposed capital structure. Currently, there are 7600 shares outstanding and the price per share is $55. EBIT is expected to remain at $36,000 per year forever. The interest rate on new debt is 8%, and there are no taxes. Which capital structure should Mr. ABC, a shareholder of the firm, prefer? He owns 100 shares of OF Corporation. Assume that dividend payout ratio is 100%.

Question-6 (10 Points)

 

The relationship between capital structure and firm value can be represented as follows: The x-axis represents the proportion of debt in capital structure and y-axis represents firm value. Briefly explain why the impact of capital structure on firm value is negative initially, then it turns positive and finally it becomes negative again.

Attachments:

Related Questions

. The fundamental operations of create, read, update, and delete (CRUD) in either Python or Java

CS 340 Milestone One Guidelines and Rubric  Overview: For this assignment, you will implement the fundamental operations of create, read, update,

. Develop a program to emulate a purchase transaction at a retail store. This  program will have two classes, a LineItem class and a Transaction class

Retail Transaction Programming Project  Project Requirements:  Develop a program to emulate a purchase transaction at a retail store. This

. The following program contains five errors. Identify the errors and fix them

7COM1028   Secure Systems Programming   Referral Coursework: Secure

. Accepts the following from a user: Item Name Item Quantity Item Price Allows the user to create a file to store the sales receipt contents

Create a GUI program that:Accepts the following from a user:Item NameItem QuantityItem PriceAllows the user to create a file to store the sales receip

. The final project will encompass developing a web service using a software stack and implementing an industry-standard interface. Regardless of whether you choose to pursue application development goals as a pure developer or as a software engineer

CS 340 Final Project Guidelines and Rubric  Overview The final project will encompass developing a web service using a software stack and impleme