**SEMESTER F**

**ALL**

**2012**

**F**

**INANCIAL**

**M**

**ANAGEMENT**

**(MGT201)**

**ASSIGNMENT NO. 02**

**D**

**UE**

**D**

**ATE**

**:**

**10**

**TH**

**J**

**ANUARY**

**2013**

**M**

**ARKS**

**:**

**20**

**“Risk and Return – Stock Valuation”**

**Objectives:**

_

**To understand the analysis of risk and return for single stock investment.**
_

**To recognize the evaluation and application of common stock pricing and dividend growth models****Learning Outcomes:**

**After attempting this assignment, the students would be able to:**

_

**Understand the****analysis of risk and return for single stock investment****.**
_

**Recognize the evaluation and application of common stock pricing and dividend growth models****The Case:**

**Recently after graduating from**Local Business
College (LBC), you have
started your own investment consultancy firm – Prudent Consultants (PC’s) to
earn your livelihood. Mr. Zain, a regular investor approaches you to get some
financial advice on different intended stocks. On the basis of his preliminary
research, Zain is curious in reaping the risk and returns associated with these
stocks. For your convenience, he has also brought necessary information
regarding these stocks along with him:

_

**MAQ Motors’ possible returns on investment of Rs.10,000 in common stock,****over the coming year is as follows:**

**Economic conditions Probability (**

**p)**

**Returns (**

**r**

**) in Rupees**

**Recession 0.20 - 1, 000**

**Normal 0.60 1, 500**

**Boom 0.20 2, 500**

_

**Wahid Consultant Company, on its stock, is currently paying Rs. 2 per share as dividend, which is expected to grow at a constant rate of 7 percent per year.**
_

**Zahoor Company’s stock Y is expected to pay a dividend of Rs. 57; while, stock Z is expected to pay a dividend of Rs. 54 in the upcoming year. The expected growth rate of dividends for both stocks is 7%.**
_

**Ideal Contractors’ common stock (a very long term investment) is also****available. Mr. Zain’s required return on this investment (based on risk) is 25% (r**

**CE**

**). The present dividend offered by the Company is Rs 10; while, the par value of each stock is Rs 100.**

**Based on provided information:**

**a)**

**You need to calculate the expected return, standard deviation of returns and coefficient of variations for MAQ Motors’ investment opportunity.**

**[7 marks]**

**b)**

**You are expected to analyze the price of Wahid Consultant Company’s stock in case Mr. Zain requires a rate of return of 16 percent to invest in this stock with this degree of riskiness.**

**[4 marks]**

**c)**

**You need to identify which stock of Zahoor Company has higher intrinsic value; in case, Mr. Zain wishes to earn a return of 9% on each stock.**

**[5 marks]**

**d)**

**You are supposed to determine the dividend yield pricing for common stock of Ideal Contractors using both: ‘Zero Growth Pricing’ plus ‘Constant Growth Pricing’ Models**

*(where: g=*

*10%*

*)*

**. Also compare & interpret the result.**

**[4 marks]**

**(Show complete formulas, calculation and working as they carry marks)**

**I**

**MPORTANT**

24 hours extra / grace period after the due date is usually
available to overcome

uploading difficulties. This extra time should only be used to
meet the

emergencies and above mentioned due dates should always be treated
as final

to avoid any inconvenience.

**D**

**EADLINE**

**:**

· Make sure to upload the solution
file before the due date on VULMS.

· Any submission made via email after
the due date will not be accepted.

**F**

**ORMATTING GUIDELINES**

**:**

· Use the font style “Times New Roman”
or “Arial” and font size “12”.

· It is advised to compose your
document in MS-Word format.

· You may also compose your assignment
in Open Office format.

· Use black and blue font colors only.

**R**

**EFERENCING**

**G**

**UIDELINES**

**:**

· Use APA style for referencing and
citation. For guidance search “APA

reference style” in Google and read various website containing

information for better understanding or visit

http://linguistics.byu.edu/faculty/henrichsenl/apa/APA01.html

**R**

**ULES FOR**

**M**

**ARKING**

Please note that your assignment will not be graded or graded as
Zero (0), if:

· It is submitted after the due date.

· The file you uploaded does not open
or is corrupt.

· It is in any format other than
MS-Word or Open Office; e.g. Excel,

PowerPoint, PDF etc.

· It is cheated or copied from other
students, internet, books, journals etc.

**Note related to load shedding: Please be proactive**

**Dear students!**

As you know that Post Mid-Term semester activities have been

started and load shedding problem is also prevailing in our
country

now a days. Keeping in view the fact, you all are advised to post
your

activities as early as possible without waiting for the due date.
For

your convenience; activity schedule has already been uploaded on

VULMS for the current semester, therefore no excuse will be

entertained after due date of
assignments, quizzes or GDBs.

--------------------------------------------------------------------

**IDEA SOLUTION AVAILABLE SOON**

**Hints For Solution**

Solution:

**expected return = rp* = xA rA + xB rB**

**coefficient of variations = S.D / Expected return**

**Now, how can we put these values in the above given fomulas………**

**-------------------------------------------------------------**

a) You need to calculate the expected return, standard deviation of returns and

coefficient of variations for MAQ Motors’ investment opportunity. [7 marks]

coefficient of variations for MAQ Motors’ investment opportunity. [7 marks]

**expected return = rp* = xA rA + xB rB**

**coefficient of variations = S.D / Expected return**

----------------------------------------------------------------------------------------

**Now, how can we put these values in the above given fomulas.........**

----------------------------------------------------------------------------------------

a) You need to calculate the expected return, standard deviation of returns and

coefficient of variations for MAQ Motors’ investment opportunity.

Solution of Part a

Expected ROR =<r>= ∑ Piri=12%,

Std Dev=σ = (∑(ri - < ri> ) 2 * Pi)0.5 = 11.66%

CV = σ / <r>= 0.97

b) You are expected to analyze the price of Wahid Consultant Company’s stock

in case Mr. Zain requires a rate of return of 16 percent to invest in this stock

with this degree of riskiness.

Solution of Part a

Expected ROR =<r>= ∑ Piri=12%,

Std Dev=σ = (∑(ri - < ri> ) 2 * Pi)0.5 = 11.66%

CV = σ / <r>= 0.97

b) You are expected to analyze the price of Wahid Consultant Company’s stock

in case Mr. Zain requires a rate of return of 16 percent to invest in this stock

with this degree of riskiness.

Solution of Part b

PV = Po* = DIV1 / (rce – g) = 22.22

c) You need to identify which stock of Zahoor Company has higher intrinsic

value; in case, Mr. Zain wishes to earn a return of 9% on each stock.

c) You need to identify which stock of Zahoor Company has higher intrinsic

value; in case, Mr. Zain wishes to earn a return of 9% on each stock.

Solution of Part c

Stock Y: PV=Po* = DIV1 / (rce – g)= 2850

Stock Z: PV=Po* = DIV1 / (rce – g)= 2700

d)

You are supposed to determine the dividend yield pricing for common stock

Stock Y: PV=Po* = DIV1 / (rce – g)= 2850

Stock Z: PV=Po* = DIV1 / (rce – g)= 2700

d)

You are supposed to determine the dividend yield pricing for common stock

of Ideal Contractors using both: ‘Zero Growth Pricing’ plus ‘Constant Growth

Pricing’ Models

(where: g=10%). Also compare & interpret the result.

Pricing’ Models

(where: g=10%). Also compare & interpret the result.

Solution of Part d

Zero Growth Pricing: Po* = DIV1/rCE= 40

Constant Growth Pricing: Po* = DIV1/ (rCE – g)= 66.66

Zero Growth Pricing: Po* = DIV1/rCE= 40

Constant Growth Pricing: Po* = DIV1/ (rCE – g)= 66.66

=------------------------------------------------------------------------------------------------------

Formulas are :

1.The rate of return on an investment can be

calculated as follows:

Return = (Amount received – amount invested ) / amount invested

2. standard deviation is the square root of variance.

3.

__Coefficient of Variation__:

= S.D. / Return; or Risk / Return

Note: for students convenience virtualians team has prepared a presentation on the said topic, this presentation will be helpful in understanding the main theme of this assignment. plz study the attached file.

-----------------------------------------------------------------------------------------------------------

**a) You need to calculate the expected return, standard deviation of returns and**

coefficient of variations for MAQ Motors’ investment opportunity.

Solution of Part a

Expected ROR =<r>= ∑ Piri=12%,

Std Dev=σ = (∑(ri - < ri> ) 2 * Pi)0.5 = 11.66%

CV = σ / <r>= 0.97

b) You are expected to analyze the price of Wahid Consultant Company’s stock

in case Mr. Zain requires a rate of return of 16 percent to invest in this stock

with this degree of riskiness.

Solution of Part b

PV = Po* = DIV1 / (rce – g) = 22.22

c) You need to identify which stock of Zahoor Company has higher intrinsic

value; in case, Mr. Zain wishes to earn a return of 9% on each stock.

Solution of Part c

Stock Y: PV=Po* = DIV1 / (rce – g)= 2850

Stock Z: PV=Po* = DIV1 / (rce – g)= 2700

d)

You are supposed to determine the dividend yield pricing for common stock

of Ideal Contractors using both: ‘Zero Growth Pricing’ plus ‘Constant Growth

Pricing’ Models

(where: g=10%). Also compare & interpret the result.

Solution of Part d

Zero Growth Pricing: Po* = DIV1/rCE= 40

Constant Growth Pricing:Po * = DIV1/ (rCE –
g)= 66.66

coefficient of variations for MAQ Motors’ investment opportunity.

Solution of Part a

Expected ROR =<r>= ∑ Piri=12%,

Std Dev=σ = (∑(ri - < ri> ) 2 * Pi)0.5 = 11.66%

CV = σ / <r>= 0.97

b) You are expected to analyze the price of Wahid Consultant Company’s stock

in case Mr. Zain requires a rate of return of 16 percent to invest in this stock

with this degree of riskiness.

Solution of Part b

PV = Po* = DIV1 / (rce – g) = 22.22

c) You need to identify which stock of Zahoor Company has higher intrinsic

value; in case, Mr. Zain wishes to earn a return of 9% on each stock.

Solution of Part c

Stock Y: PV=Po* = DIV1 / (rce – g)= 2850

Stock Z: PV=Po* = DIV1 / (rce – g)= 2700

d)

You are supposed to determine the dividend yield pricing for common stock

of Ideal Contractors using both: ‘Zero Growth Pricing’ plus ‘Constant Growth

Pricing’ Models

(where: g=10%). Also compare & interpret the result.

Solution of Part d

Zero Growth Pricing: Po* = DIV1/rCE= 40

Constant Growth Pricing:

**-------------------------------------------------------------------------------------------**

**Solution of Part a**

**=-1000/10000 =-10**

**=1500/10000 = 15**

**=2500/10000 = 25**

**Expected Return = p1r1 * p2r2 + p3r3**

**= 0.20 * -0.10 + 0.50 * 0.35 + 0.29 * 1.25**

**= (0.02) +0.09 - 0.05**

**= 0.15 * 100 = 15%**

**Expected Return = <r> = ∑ piri**

**Expected Return = P1 (r1) + P2 (r2) + P3 (r3)**

**Expected Return = 0.20(-1000) +0.60(1500) +0.20(2500)**

**= 12% ans.**

Std Dev = δ = √ Σ (r i - < r i >) 2 p i.

Std Dev = δ = √ Σ (r i - < r i >) 2 p i.

**= square root of {[(-10-12) power 2 (0.20)] + [(15-12) power 2 (0.60)] + [(25-12) power 2 (0.20)]}.**

**= square root of {96.8 + 5.4 + 33.8}**

**= square root of {136} = 11.66% ans.**

**Coefficient of variations for MAQ Motors’ investment opportunity:**

**CV = σ / <r>= 0.97**

CV = Standard Deviation / Expected Return.

CV = Standard Deviation / Expected Return.

**= 11.66% /12 %**

**= 0.97 ans.**

**Solution of Part b**

**PV = P0* = DIVI / (rCE –g)**

**Here,**

**DIVI = 2, g = 7 %, rCE = 16%**

**PV = P0* = 2/16% -7%**

**=2/0.09**

**=22.22 ans.**

.

.

**Solution of Part c**

**rCE = 9%**

**Y = Rs. 57 Div1**

**Z = Rs. 54 Div1**

**G = 7%**

**Stock Y: PV=**Po * = DIV1 /
(rce – g)

**Y = 57 / 9% – 7%**

**= 57 /2%**

**= 57 / 0.02**

**= 2850 ans.**

**Stock Z: PV=**Po * = DIV1 /
(rce – g)

**Z = 54 / 9% - 7%**

**= 54 / 2%**

**= 54 / 0.02**

**= 2700 ans.**

Solution of Part d

Solution of Part d

Zero Growth Pricing:Po * = DIV1/rCE

Zero Growth Pricing:

**= 10 / 0.25**

**= 40 ans.**

Constant Growth Pricing:Po * = DIV1/ (rCE – g)

Constant Growth Pricing:

**= 10 / 0.25 – 10%**

**= 10 / 0.15**

**= 66.66 ans.**

**------------------------------------------------------------------------------------------------------------**

You can solve this assignmnet by studying lecture no 16, 17, 18 and 19. See examples and formulae on these lectures and you will find the solution.

ReplyDeleteI think, since expected return = rp*

ReplyDeletethen expected return for recession will be:

Recession= -1000x0.20

i think, maybe?

apki bat bhi theek hy lkn formula to 2 values tk hy but data mn 3 values hn

ReplyDeletehow can we solve........

wo age kahein use hoi ge i think

ReplyDeleteExpected return = ra xa + rb xb + rc xc

ReplyDelete0.20 x -1000 + 0.60 2500 + .20 1500

= - 200 + 1500 + 300

EXpected return = 1600

idea hy just dont copy paste..

3 value nahi aik pora period hy jo 3 session per contained hy

Standard Deviation k lye jo formula Page#87 pr given hai, wo use ho ga

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