Corporate Finance 2022-05-01

Examination questions (examples)

Your uncle Bernie has put all his savings into two mutually
exclusive portfolios, A and B (no stocks are in both
portfolios)
The correlation of their returns is equal to 0,6 and the
stocks have the following characteristics:
Bernie is a bit of a risk-taker and has put 75% in portfolio
A and the rest in portfolio B

Expected
return Volatility Sharpe ratio
A 75% 12% 25% 33,60%
B 25% 5% 4% 35,00%

The risk free rate is 3,60%

What is the expected return of the combined portfolio? 10,3%

What is the risk premium for portfolio B? 1,4%
What is the risk premium for the combined portfolio? 6,65%
What is the volatility for the combined portfolio? 19,4%
What is the Sharpe ratio for the combined portfolio? 34,34%
Argue if it is concidered a good or poor portfolio:
Large portfolio volatility

Suppose that the average stock has a volatility of 50%, and that the
correlation between pairs of stocks is 0,2

Estimate the volatility of an equally weighted portfolio with

(a) 1 stock 50%

(b) 30 stocks 23,8%
(c) 1000 stocks. 22,41%
Large portfolio volatility

Consider an equally weighted portfolio that contains 100 stocks. If the average
volatility of these stocks is 50% and the average correlation between the stocks
is 0,8 then the volatility of this equally weighted portfolio is .
(Round to two decimal places)

Anwer: 0,45
In the table, suppose the equal probabilites for week economy and
strong economy. Security B pays $400 if the economy is week and $100
if the economy is strong.

Market Weak Strong

price Today economy economy
Market index 1000 910 1210
Security B 400 100
Risk free bond 1220 1310 1310

The expected return of security B is: 13,64%

The risk premium of security B is: 6,26%

The risk free rate is: 7,38%

The price of Security B is: 220

In the table, suppose the equal probabilites for week economy and strong
economy. Security B pays $300 if the economy is week and $200 if the
economy is strong.

Market price Weak Strong

Today economy economy
Market index 1000 970 1070
Security B 300 200
Risk free bond 1200 1270 1270

The expected return of security B is: 25,00%

The risk premium of security B is: 19,17%

The risk free rate is: 5,83%

The price of Security B is: 200

In the table, suppose the equal probabilites for week economy and strong
economy. Security X pays $0 if the economy is week and $450 if the
economy is strong.

Market price Weak Strong

Today economy economy
Market index 1000 1270 820
Security X 0 450
Risk free bond 1200 1270 1270

The expected return of security B is: 12,50%

The risk premium of security B is: 6,67%

The risk free rate is: 5,83%

The price of Security B is: 200

In the table, suppose the equal probabilites for week economy and strong
economy. Security X pays $600 if the economy is week and $0 if the
economy is strong.

Market price Weak Strong

Today economy economy
Market index 1000 800 1400
Security X 600 0
Risk free bond 1360 1400 1400

The expected return of security B is: -16,67%

The risk premium of security B is: -19,61%

The risk free rate is: 2,94%

The price of Security B is: 360

Suppose that you currently have $250,000 invested in a portfolio with an
expected return of 8% and a volatility of 6%. The efficient (tangent)
portfolio has an expected return of 17% and a volatility of 9%. The risk-free
rate of interest is 3%

a) What is the risk premium for your current portfolio 5%

The Sharpe ratio for your current portfolio is:
b) (Note: there is no "%" after the box) 0,83
Without increasing your risk, the maximum
c) expected return you can expect is 12,33%
(Round to two decimal places)
What is the minimum risk level (Volatility) you
can expect, if you accept the same expected
d) return as for your current portfolio? 4,24%
(Round to two decimal places)
Suppose that a client currently has all is money, $400,000 invested in a
crappy portfolio with an expected return of only 8% and a volatility of 7%.
You show that the efficient (tangent) portfolio has an expected return of
15% and a volatility of 10%
The risk-free interest rate (if investing in bonds etc) is 3,5%.

a) What is the risk premium for your current portfolio 4,5%

The Sharpe ratio for your current portfolio is:
b) (Note: there is no "%" after the box) 0,64
c) What is the Sharpe ratio for the Efficient Portfolio? 1,15
Without increasing your risk, how much captal
should be invested in the efficient portfolio? 280 000
Without increasing your risk, the maximum expected
d) return you can expect is 11,55%
(Round to two decimal places)
What is the minimum risk level (Volatility) you can
expect, if you accept the same expected return as for
e) your current portfolio? 5,33%
(Round to two decimal places)
You are a shareholder in a "C" corporation. This corporation earns $4 per share before taxes. After it has paid taxes, i
you as a dividend. The dividend is income to you, so you will then pay taxes on these earnings. The corporate tax rate
is 15%. The effective tax rate on your share of the corporation's earnings is closest to:
A. 33%.
B. 50%.
C. 15%.
D. 45%.

Earning 4
Corporate tax 21% Earning per share after corporate tax 3,16
Divident income tax 15% Income from divident aftar tax 2,69
Effective tax rate 33% 33%
 taxes. After it has paid taxes, it will distribute the remainder of its earnings to
earnings. The corporate tax rate is 21% and your tax rate on dividend income
Wyatt Oil is considering drilling a new self sustaining oil well at a cost of $1,000,000. This wel
removed from the well the amount of oil produced will decline by 2%, per year forever. If Wyat
closest to:
−
A. $250,000. Cost 1 000 000 Rate
B. $0. Return 100 000 Decline
C. $250,000.− PV 1 250 000
D. $1,000,000. NPV 250 000

PV 1000000
NPV 0
t of $1,000,000. This well will produce $100,000 worth of oil during the first year, but as oil is
per year forever. If Wyatt Oil's appropriate interest rate is 8%, then the NPV of this oil well is

8%
2%
10%
r, but as oil is
this oil well is
Use the following information to answer the question(s) below.
Nielson Motors is considering an opportunity that requires an investment of $1,000,000 today and will provide $250,00
from now, and $650,000 three years from now.
The internal rate of return of this project is closest to:
A. 16.2%.
B. 10.2%.
C. 12.2%.
D. 14.2%.

PV
10,20% 12,20% 14,20% 16,20%
-1000 1083 861 675 529
250 227 223 219 215
450 371 294 226 167
650 486 344 231 147

IRR-formel 14,2%
today and will provide $250,000 one year from now, $450,000 two years
The Xia Corporation is a company whose sole assets are in cash and three projects that it will undertake. The projects
cash flows: (Click on the following icon
in order to copy its contents into a spreadsheet.)
$100,000 11,10%
Project CashFlow Today Cash Flow in One Year PV NPV
A -15 000 29 000 26 103 11 103
B -11 000 21 000 18 902 7 902
C -61 000 81 000 72 907 11 907
-13 000 14 443 130 912 30 912
145 443 130 912
Xia plans to invest any unused cash today at the risk-free interest rate of 11.1%. In one year, all cash will be paid to in
a. What is the NPV of each project? Which projects should Xia undertake and how much cash should it retain?
b. What is the total value of Xia's assets (projects and cash) today? 143 912
c. What cash flows will the investors in Xia receive? Based on these cash flows, what is the value of Xia today?
d. Suppose Xia pays any unused cash to investors today, rather than investing it. What are the cash flows to investors
is the value of Xia today?
e. Explain the relationship in your answers to parts (b ), (c ), and (d ).