Problem
I. You are bidding for a contract in which you will maintain all computing infrastructure for a firm for the next six years. Your bid specifies the annual price that you will charge the firm for your services. You have already determined all the costs associated with providing the service. You have to bid an annual price that the firm will pay you in each of the next five years. The NPV of a bid with an annual price of $400,000 is $80,000. What is the most competitive (lowest) annual price that you should be willing to bid? The corporate tax rate is 30% and the discount rate is 15% per year.
II. You calculated the Net Present Value (NPV) of a project to be $16,000. You realize that you forgot to include cash flows of a computer you need for the project. You will buy the computer immediately for $3,000. The computer will be depreciated using MACRS schedule as a 5-year property and will be worthless after 5 years. Assume that the first depreciation is realized immediately. The marginal tax rate is 20%. The cost of capital is 15%. Determine the incremental cash flows related to the computer, calculate their NPV, and calculate the corrected NPV of the project.
III. A share of a stock will pay dividends of $2 after 1 year, $2.1 after two years, and $2.2 after three years. Dividends will grow at a fixed growth rate of g after that. Investors require a return of 15% from the stock. If the stock price is $20.25, what is the value of the growth rate g?
IV. The expected returns of stocks A and B are 10% and 15%, respectively. The volatilities of stocks A and B are 40% and 50%, respectively. The correlation between the two stocks is 0.6. create a formula for the variance of a portfolio with weight w on A and weight 1 - w on B. Abida wants to form a portfolio using one or both of stocks A and B. Assume she can short stocks. What is the minimum portfolio variance that Maria can achieve? You can either calculate variance for multiple portfolios to determine the one with the lowest variance or use calculus. What portfolio weights will result in the minimum portfolio variance?