Question 1. Twenty-five-year B-rated bonds of Visual Care Company were initially issued at a 12 percent yield. After 10 years the bonds have been upgraded to Aa2. Such bonds are currently yielding 10 percent to maturity. Use the Table below to determine the price of the bonds with 15 years remaining to maturity. (You do not need the bond ratings to enter the table; just use the basic facts of the problem.)
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Interest Rates and Bond Prices (the bond pay 12%)
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Rates in the Market (%) - Yield to Maturity*
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Years to Maturity
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8%
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10%
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12%
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14%
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16%
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1....................
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$1,038.16
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$1,018.54
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$1,000
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$981.48
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$963.98
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15..................
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$1,345.52
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$1,153.32
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$1,000
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$875.54
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$774.48
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25..................
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$1,429.92
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$1,182.36
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$1,000
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$862.06
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$754.98
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*The prices in the table are based on semi-annual interest, but you enter the table with annual values
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Question 2. The Johnson Corporation has done very well in the stock market during the last three years – its stock has risen from $18 per share to $44 per share.
Its current statement of net worth is:
Common stock (3 million shares issued at par
value of $10 per share, 9 million shares
authorized)................................................ $30,000,000
Paid-in capital in excess of par......................... 15,000,000
Retained earnings.......................................... 45,000,000
Net worth................................................. $90,000,000
(a) Assume Johnson earned $6 million. What would its earnings per share be before and after a two-for-one stock split and after a three-for-one stock split?
(b) What would the price per share be before and after the two-for-one and the three-for-one stock split? (Assume that the price-earnings ratio of 22 stays the same.)
(c) Should a stock split change the price-earnings ratio for Johnson?
Question 3. Ace Products sells marked playing cards to blackjack dealers. It has not paid a dividend in many years, but is currently contemplating some kind of dividend. The capital accounts for the firm are as follows:
Common stock (2,000,000 shares at $5 par)....... $10,000,000
Capital in excess of par*................................. 6,000,000
Retained earnings.......................................... 24,000,000
Net worth................................................. $40,000,000
*The increase in capital in excess of par as a result of a stock dividend is equal to the new shares created times (Market price – Par Value).
The company’s stock is selling for $20 per share. The company had total earnings of $4,000,000 during the year. With 2,000,000 shares outstanding, earnings per share were $2.00. The firm has a P/E ratio of 10.
(a) What adjustments would have to be made to the capital accounts for a 10 percent stock dividend? Show the new capital accounts.
(b) What adjustments would be made to EPS and the stock price? (Assume the P/E ratio remains constant.)
(c) How many shares would an investor end up with if he or she originally had 100 shares?
(d) What is the investor’s total investment worth before and after the stock dividend if the P/E ratio remains constant? (There may be a $1 to $2 difference due to rounding.)
(e) Has Ace Products pulled a magic trick, or has it given the investor something of value? Explain.