a. use the retention growth equation to estimate the expected growth rate. The use the expected growth rate and the dividend growth model to estimate the required return on common stock.
b. what is the required rate of return on common stock using the own-bond-yield-plus judgemental risk premium approach?
c. use the required return on stock from the CAPM model, and calculate WACC.
The following table gives the credit rating on senior un secured debt as of
September-2020 of nine U.S. department stores rated by Moody’s Investors Service.
In descending order of credit quality, Moody’s ratings are Aaa, Aa1, Aa2, Aa3, A1, A2,
A3, Baa1, Baa2, Baa3, Ba1, Ba2, Ba3, B1, B2, B3, Caa, Ca and C:
Senior Unsecured Debt Rating: U. S. Department Stores, September – 2020
C O M P A N Y C R E D I T R A T I N G
Federated Department Stores, Inc.
May’s Department Stores Company
Neiman Marcus Group, Inc.
Penney JC, Company, Inc.
Sears, Roebuck and Co.
Using the above data, address the following concerning the senior unsecured debt of
U. S. Department Stores:
a) State and interpret the Model Credit Rating.
b) State and interpret the Median Credit Rating.
The following table gives the NPI total return for a three-year (12-quarter) period for Boston and San Francisco.
Compute the following quarterly statistics for both cities to the nearest basis point, and answer the subsequent questions.
a. The arithmetic average return (use the AVERAGE function in Excel)
b. The standard deviation of the return (‘‘volatility,’’ use STDEV in Excel)
c. The geometric mean return (you can use the Excel statistical function GEOMEAN, but you have to add unity to each return in the series, and then subtract unity from the GEOMEAN result, or just apply the geometric mean return formula directly by compounding the returns in the spreadsheet)
d. Why are the arithmetic means higher than the geometric means?
e. Based on the geometric mean, and factoring up to a per-annum rate, by how many basis points did San Francisco beat Boston during this period?
f. Now compute the quarterly Sharpe ratio for each city based on the geometric mean you computed in (c) and the volatility you computed in (b). The Sharpe ratio is a measure of risk-adjusted return performance, defined as the risk premium divided by the volatility. Assume that the average quarterly return to Treasury Bonds during the period in question was 1.50%. Which city had the better Sharpe ratio?
Travellers Inn Inc. (TII), a company that was formed by merging a
number of regional motel chains. Travellers Inn (Millions of
Dollars) Cash $ 10 Accounts payable $ 10 Accounts receivable 20
Accruals 15 Inventories 20 Short-term debt 0 Current assets $ 50
Current liabilities $ 25 Net fixed assets 50 Long-term debt 30
Preferred stock (50,000 shares) 5 Common equity Common stock
(3,800,000 shares $ 10 Retained earnings 30 Total common equity $
40 Total assets $100 Total liabilities and equity $100 The
following facts also apply to TII. (1) The long-term debt consists
of 29,412 bonds, each having a 20-year maturity, semiannual
payments, a coupon rate of 7.6%, and a face value of $1,000.
Currently, these bonds provide investors with a yield to maturity
of 11.8%. If new bonds were sold, they would have an 11.8% yield to
maturity. (2) TII’s perpetual preferred stock has a $100 par value,
pays a quarterly dividend per share of $2, and has a yield to
investors of 10%. New perpetual preferred stock would have to
provide the same yield to investors, and the company would incur a
3.85% flotation cost to sell it. (3) The company has 3.8 million
shares of common stock outstanding, a price per share 5 P0 5 $20,
dividend per share 5 D0 5 $1, and earnings per share 5 EPS0 5 $5.
The return on equity (ROE) is expected to be 10%. (4) The stock has
a beta of 1.6%. The T-bond rate is 6%, and RPM is estimated to be
5%. (5) TII’s financial vice president recently polled some pension
fund investment managers who hold TII’s securities regarding what
minimum rate of return on TII’s common would make them willing to
buy the common rather than TII bonds, given that the bonds yielded
11.8%. The responses suggested a risk premium over TII bonds of 3
percentage points. (6) TII is in the 25% federal-plus-state tax
bracket. Assume that you were recently hired by TII as a financial
analyst and that your boss, the treasurer, has asked you to
estimate the company’s WACC under the assumption that no new equity
will be issued. Your cost of capital should be appropriate for use
in on your analysis, answer the following questions. a. What are
the current market value weights for debt, preferred stock, and
common stock? (Hint: Do your work in dollars, not millions of
dollars. When you calculate the market values of debt and preferred
stock, be sure to round the market price per bond and the market
price per share of preferred to the nearest penny.) b. What is the
after-tax cost of debt? c. What is the cost of preferred stock? d.
What is the required return on common stock using CAPM? e.
Use the retention growth equation to estimate the expected growth
rate. Then use the expected growth rate and the dividend growth
model to estimate the required return on common stock. f. What is
the required return on common stock using the
own-bond-yield-plusjudgmental- risk-premium approach? g. Use the
required return on stock from the CAPM model, and calculate the
WACC. – answer e, f, and g only.