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BBA 2011







APIRL 2013


1 Contents 2

2 Task 1 3-4

3 Task 2 5-6

4 Task 3 7

5 Task 4 8-10

6 Task 5 11-13

7 14
8 Coursework 15-18

2.0 Task 1
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In 2012 Pfizer had 12,000 million shares of common stock authorized ,8,863 million in

issue, and 6,746 million outstanding (figures rounded to the nearest million). Its equity

account was as follows:

Common stock $443

Additional paid-in- capital $70,283
Retained earnings $44,148
Treasury shares ($57,391)

1.1 What was the par value of each share?

common stock
Per value=
issue share

448 million

=$0.05 per value

1.2 What was the average price at which shares were sold?
total cost
Average price=

common stock + Additional paidcapital

issue share

443 million+70283 million


=$7.98 million

1.3 How many shares had been repurchased?

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Repurchase = issue share outstanding share
=8863million 6746 million

1.4 What was the average price at which the shares were repurchased?
treasury share
Average price repurchase =


=27.11 per share

1.5 What was the net book value of Pfizers common equity?
Net common equity =443+70283+44148-57391

3.0 Task 2

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Inbox Software was founded in 2010. Its founded put up $2 million for 500,000 shares of
common stock. Each share had a per value of $10.

2.1 Construct an equity account for Inbox on the day after its founding.
Ignore any legal or administrative costs of setting up the company.

The day after the founding of Inbox:

Common share (0.10 per value) Common stock per value=$50,000
Additional paid-in- capital $1,950,000
Retained earnings $0
Treasury shares at cost $0
Net common equity $2,000,000

2.2 After two years of operation, Inbox generated earnings of $120,000 and
paid no dividends. What was the equity account at this point?

After two years of operation:

Common share (0.10 per value) $50000

Additional paid-in- capital $1,900,000
Retained earnings $120,000
Treasury shares at cost $0
Net common equity $2,120,000

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2.3 After three years the company sold 1 million additional shares for $ 5 per
share. It earned $250,000 during the year and paid no dividends. What was
the equity account?

After three years of operation:

Common share (0.10 per value) $50000

Additional paid-in- capital $6,850,000
Retained earnings $370,000
Treasury shares at cost $0
Net common equity $7,270,000

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4.0 Task 3
The shareholders of the Pickwick Paper Company need to elect five directors. There are
200,000 shares outstanding. How many shares do you need to own to ensure that you can
elect at least one director if

3.1 the company has majority voting?

200,000 2+1=100,001share

3.2 it had cumulative voting?

x= +1

5 x=1,000,000x +5

6 x=1,000,005

x= votes

cumulative voting=33,333.5

=33334 share

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5.0 Task 4

4.1 Large businesses sped millions of dollars annually on insurance. Why?

Should they insure against all risk or does insurance make more sense for
some risks than others?

Insurance is the equitable transfer of the risk of a loss, from one entity to another in

exchange for payment. It is a form of risk management primarily used to hedge against

the risk of a contingent, uncertain loss.

An insurer, or insurance carrier, is a company selling the insurance; the insured, or

policyholder, is the person or entity buying the insurance policy. The amount of money to

be charged for a certain amount of insurance coverage is called the premium. Risk

management, the practice of appraising and controlling risk, has evolved as a discrete

field of study and practice.

The transaction involves the insured assuming a guaranteed and known relatively small

loss in the form of payment to the insurer in exchange for the insurer's promise to

compensate (indemnify) the insured in the case of a financial (personal) loss. The insured

receives a contract, called the insurance policy, which details the conditions and

circumstances under which the insured will be financially compensated.

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4.2 On some catastrophe bond, payments are reduced if the claims against
the issuer exceed specified sum. In other cases payments are reduced only if
claims against the entire industry exceed some sum. What are the advantages
and disadvantages of the two structures? Which involves more basis risk?
Which may create a problem of moral hazard?

-co-insured above some level and some degree of on-going viablitiy is ensured in the
event of a catastrophe

-the insurance company may over-commit in this area in order to gain additional

-an on-going and viable insurance market may be assured

-some firms may under-commit and yet still enjoy the benefits of lower payment.

4.3 List some of the commodity futures contracts that are traded on
exchanges. Who do you think could usefully reduce risk by buying each of
these contracts? Who do you think might wish to sell each contract?

An agreement to buy or sell a set amount of a commodity at a predetermined price and date.

Buyers use these to avoid the risks associated with the price fluctuations of the product or raw

material, while sellers try to lock in a price for their products. Like in all financial markets, others

use such contracts to gamble on price movements.

Grains Futures

Grains futures are definitely the oldest form of commodity futures to ever exist. In fact,

grains futures are the oldest form of futures contract to ever exist and has been used

between farmers and buyers since ancient times. Grains futures deal with all kinds of

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grains with the most popularly traded ones being Corn Futures, Soybean Futures, Rice

Futures, Oats Futures and Wheat Futures.

Metal Futures

Metal futures are commodity futures that deal with the trading of precious metal such as

gold, silver, copper, palladium and platinum. The most commonly traded metal futures

are the gold and silver futures. There are even E-mini versions for both gold and silver

futures. Due to the price volatility of precious metals, metal futures has always been a

favorite form of commodity futures for short term speculators.

Energy Futures

Energy Futures are commodity futures that deal with energy related products such as

crude oil and heating oil. Indeed, energy futures is one class of futures contracts that gets

reported in financial news every single day due to the tremendous impact energy prices

has on daily life and the economy in general. Energy futures are also highly seasonal and

can be extremely rewarding for futures traders who has a good knowledge of the seasonal

trends of the industry. Most popular energy futures include Light Sweet Crude Futures,

Brent Crude Futures, Heating Oil Futures, Unleaded Gasoline Futures and Natural Gas


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6.0 Task 5
5.1 Calculate the six-month futures price for each case.

To calculate the six-month future price, we use the following basic relationship for
commodities and for financial futures, respectively.

F1=S 6 ( 1+tr +storage costsconvenience yield )

F2 =S 6 (1+tr y)

Magnoosium : 2800(1+0.03-0.02)=2828 per ton

Oat Bran: 0.44(1+0.03-0.3) = 0.32 per bush

Biotech: 140.2(1+0.03-0) =$ 144.41

Allen Wrench: 58[1+0.03-( )] = $58.54

5-year T-Note: 108.93[1+0.03-( )]= $108.20

Ruple: 3.1(1+0.03-0.06)=3.01reples

5.2 Explain how a magnoosium producer would use a futures market to lock in the selling
price of a planned shipment of 1,000 tons of magnoosium six month from now.

- sell 1,000 tons of six-month magnoosium futures.

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5.3 Suppose the producer takes the actions recommended in your answer to5.2, but after
one month magnoosium prices have fallen to $2,200. What happens? Will the producer
have to undertake additional futures market trades to restore its hedged position?

-magnoosium prices have fallen, the magnoosium producer will receive payment from
the exchange

-not necessary for the producer to undertake additional futures market trades to restore its
hedge position.

5.4 Does the biotech index futures price provide useful information about the expected
future performance of biotech stocks?

-No, spot price, risk free rate of interest and net convenience yield

5.5 Suppose Allen Wrench stock falls suddenly by $10 per share. Investors are confident
that cash dividend will not be reduced. What happens to the futures price?

48[1+0.03-( )]


5.6 Suppose interest rates suddenly fall to 4%. The term structure remains flat. What
happens to the six-mouth futures price on the five-year Treasury note? What happens to a
trader who shorted 100 notes at the futures price calculated in part (a)?

Five year treasury note

Future price=118.16[1+0.02-( )]


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5.7An importer must make a payment of one million ruples three months from now.
Explain two strategies the importer could use to hedge against unfavorable shifts in the
ruple-dollar exchange rate.

- the importer could buy a three-month option to exchange dollars for ruple

- the importer could buy a future contract, agreeing to exchange dollar for ruples in three
months time.

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7.0 References

1. text book



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8.0 Coursework

1. Financial intermediaries contribute in many ways to our individual well-being and the

smooth functioning of the economy. Here are some examples.

The Payment Mechanism Think how inconvenient life would be if all payments had to be

made in cash. Fortunately, checking accounts, credit cards, and electronic transfers allow

individuals and firms to send and receive payments quickly and safely over long

distances. Banks are the obvious providers of payments services, but they are not alone.

For example, if you buy shares in a money-market mutual fund, your money is pooled

with that of other investors and is used to buy safe, short-term securities. You can then

write checks on this mutual fund investment, just as if you had a bank deposit.

Borrowing and Lending Almost all financial institutions are involved in channeling

savings toward those who can best use them. Thus, it Ms. Jones has more money now

than she needs and wishes to save for a rainy day, she can put the money in a bank

savings deposit. If Mr. Smith wants to buy a car now and pay for it later, he can borrow

money from the bank. Both the lender and borrower are happier than if they were forced

to spend cash as it arrived. Of course, individuals are not alone in needing to raise cash.

Companies with profitable investment opportunities may wish to borrow from the bank,

or they may raise the finance by selling new shares or bonds. Governments also often run

at a deficit, which they fund by issuing large quantities of debt.

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In principle, individuals or firms with cash surpluses could take out newspaper

advertisements or surf the Net looking for those with cash shortages. But it can be

cheaper and more convenient to use a financial intermediary, such as a bank, to link up

the borrower and lender. For example, banks are equipped to check out the would-be

borrowers creditworthiness and to monitor the use of cash lent out. Would you lend

money to a stranger contacted over the Internet? You would be safer lending the money to

the bank and letting the bank decide what to do with it.

Notice that banks promise their checking account customers instant access to their

money and at the same time make long-term loans to companies and individuals. This

mismatch between the liquidity of the banks liabilities (the deposits) and most of its

assets (the loans) is possible only because the number of depositors is sufficiently large

that the bank can be fairly sure that they will not all want to withdraw their money


Pooling Risk Financial markets and institutions allow firms and individuals to pool their

risks. For instance, insurance companies make it possible to share the risk of an

automobile accident or a household fire. Here is another example. Suppose that you have

only a small sum to invest. You could buy the stock of a single company, but then you

would be wiped out if that company went belly-up. It is generally better to buy shares in a

mutual fund that invests in a diversified portfolio of common stocks or other securities. In

this case you are exposed only to the risk that security prices as a whole will fall.

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The basic functions of financial markets are the same the world over. So it is not

surprising that similar institutions have emerged to perform these functions. In almost

every country you will find banks accepting deposits, making loans, and looking after the

payments system. You will also encounter insurance companies offering life insurance

and protection against accident. If the country is relatively prosperous, other institutions,

such as pension funds and mutual funds, will also have been established to help manage

peoples savings.

Of course there are differences in institutional structure, Take banks, for example.

In many countries where securities markets are relatively undeveloped, banks play a

much more dominant role in financing industry. Often the banks undertake a wider range

of activities than they do in the United States. For example, they may take large equity

stakes in industrial companies; this would not generally be allowed in the United States.

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2. Voting Procedures

In most companies stockholders elect directors by a system of majority voting. In this

case, each director is voted upon separately and stockholders can cast one vote for each

share that they own. If companys articles permit cumulative voting, the directors are

voted upon jointly and stockholders can, if they wish, allot all their votes to just one

candidate. 8 Cumulative voting makes it easier for a minority group among the

stockholders to elect directors who will represent the groups interests. That is why some

shareholder groups campaign for cumulative voting.

On many issues a simple majority of votes cast is sufficient to carry the day, but the

company charter may specify some decisions that require a supermajority of, say, 75% of

those eligible to vote. For example, a supermajority vote is sometimes needed to approve

a merger.

The issues on which stockholders are asked to vote are rarely contested, particularly

in the case of large, publicly traded firms. Occasionally, there are proxy contests in which

the firms existing management and directors compete with outsides for effective control

of the corporation. But the odds are stacked against the outsides, for the insiders can get

the firm to pay all the costs of presenting their case and obtaining votes.

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