Exercises Corporate Finance VGU Summer 2023

EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
PROF. DR. LEEF H. DIERKS
VIETNAMESE-GERMAN-UNIVERSITY
- EXERCISES -
1
Remarks
These exercise notes are exam relevant contents of the Vietnamese German University’s (VGU)
Study Program in Economics and Management – BABA elective course WPMF ‘Corporate Fi-
nance’ in the summer term 2023. For copyright reasons, these notes are exclusively intended
for your personal use and must not be shared or forwarded.
Note that successfully solving and understanding these exercises can by no means compen-
sate the regular attendance of my lectures, an awareness of recent financial developments as
well as an analysis of financial newspapers and of the recommended literature.
Leef H. Dierks Binh Duong, June 2023
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TABLE OF CONTENTS
Exercise 1. Interest Rate Calculations ...................................................................................... 6
Exercise 2. Annual Yields ......................................................................................................... 7
Exercise 3. Forward Rates ........................................................................................................ 8
Exercise 4. Continuous Compounding Rates .......................................................................... 9
Exercise 5. Pricing Bonds ....................................................................................................... 10
Exercise 6. Bond Prices and Yields ........................................................................................ 11
Exercise 7. Bond Prices and Yields ........................................................................................ 12
Exercise 8. Zero-Coupon Bonds ............................................................................................ 13
Exercise 9. Pricing Bonds ....................................................................................................... 14
Exercise 10. Dividend Discount Model .................................................................................. 15
Exercise 11. Dividend Discount Model .................................................................................. 17
Exercise 12. Historical Returns of Stocks and Bonds ............................................................. 18
Exercise 13. Historical Returns of Stocks and Bonds ............................................................. 19
Exercise 14. Historical Trade-Off between Risk and Return .................................................. 20
Exercise 15. Common versus Independent Risk .................................................................... 21
Exercise 16. Diversification in Stock Portfolios ...................................................................... 22
Exercise 17. Measuring Systematic Risk ................................................................................ 23
Exercise 18. Expected Return of a Portfolio .......................................................................... 24
Exercise 19. Volatility of a Two-Stock Portfolio ..................................................................... 25
Exercise 20. Choosing an Efficient Portfolio .......................................................................... 26
Exercise 21. Short Sale Of Shares .......................................................................................... 27
Exercise 22. Risk versus Return .............................................................................................. 28
Exercise 23. Risk-Free Saving and Borrowing ........................................................................ 29
Exercise 24. Expected Return ................................................................................................ 30
Exercise 25. Determining Stocks’ Betas................................................................................. 31
Exercise 26. Portfolio Risk and Return ................................................................................... 32
Exercise 27. Equity Cost of Capital ........................................................................................ 33
Exercise 28. Equity Cost of Capital ........................................................................................ 34
Exercise 29. Debt Cost of Capital .......................................................................................... 35
Exercise 30. Behaviour of Individual Investors ....................................................................... 36
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Exercise 31. Information and Rational Expectations .............................................................. 37
Exercise 32. Efficiency of Market Portfolio............................................................................. 38
Exercise 33. Information and Rational Expectations .............................................................. 39
Exercise 34. Market Efficiency Debate .................................................................................. 40
Exercise 35. Efficiency of Market Portfolio............................................................................. 41
Exercise 36. Capital Asset Pricing Model .............................................................................. 42
Exercise 37. Arbitrage Pricing Theory.................................................................................... 43
Exercise 38. Optimal Hedge Ratio......................................................................................... 44
Exercise 39. Designing Swaps ............................................................................................... 45
Exercise 40. Designing FX-Swaps .......................................................................................... 46
Exercise 41. Put Options On Shares ...................................................................................... 47
Exercise 42. Exercising Call Options ..................................................................................... 48
Exercise 43. Exercising Put Options ...................................................................................... 49
Exercise 44. Call versus Put Options ..................................................................................... 50
Exercise 45. Pricing Put Options ............................................................................................ 51
Exercise 46. Pricing Call Options ........................................................................................... 52
Exercise 47. Competition and Capital Markets ..................................................................... 53
Exercise 48. Competition and Capital Markets ..................................................................... 54
Exercise 49. Equity versus Debt Financing ............................................................................ 55
Exercise 50. Equity vs. Debt Financing .................................................................................. 56
Exercise 51. Leverage, Arbitrage, and Firm Value ................................................................. 57
Exercise 52. Interest Tax Deduction ...................................................................................... 58
Exercise 53. Valuing the Interest Tax Shield .......................................................................... 59
Exercise 54. Comparing Dividends and Share Repurchases ................................................. 60
Exercise 55. Long and Short Positions ................................................................................... 61
Exercise 56. Forward Contracts versus Call Options ............................................................. 62
Exercise 57. Call versus Put Options ..................................................................................... 63
Exercise 58. Short Position in Forward Contracts .................................................................. 64
Exercise 59. Long Position in Call Option ............................................................................. 65
Exercise 60. Short Position in Put Option .............................................................................. 66
Exercise 61. Profits With Put Options .................................................................................... 67
Exercise 62. Short Position in Forward Contract.................................................................... 68

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Exercise 63. Options As Zero-Sum Games ............................................................................ 69
Exercise 64. Understanding Options ..................................................................................... 70
Exercise 67. Put-Call Parity .................................................................................................... 73
Exercise 68. Binomial Tree..................................................................................................... 74
Exercise 69. Binomial Tree..................................................................................................... 75
Exercise 70. Determining Option Delta ................................................................................. 76
Exercise 71. Black-Scholes-Model ......................................................................................... 77
Exercise 72. Black-Scholes-Model ......................................................................................... 78
Exercise 73. Using Options .................................................................................................... 79
Exercise 74. Funding and Ownership .................................................................................... 80
Exercise 75. Equity Financing for Private Companies ............................................................ 81
Exercise 76. Initial Public Offering ......................................................................................... 82
Exercise 77. Corporate Debt ................................................................................................. 83
Exercise 78. Inflation-Linked Bonds ....................................................................................... 84
Exercise 79. Linkers ................................................................................................................ 85
Exercise 80. Leasing in Perfect Market .................................................................................. 86
Exercise 81. Leasing............................................................................................................... 87
Exercise 82. End-of-Term Lease Options .............................................................................. 88
Exercise 83. Working Capital ................................................................................................. 89
Exercise 84. Working Capital ................................................................................................. 90
Exercise 85. Trade Credit ...................................................................................................... 91
Exercise 86. Matching Principle ............................................................................................. 92
Exercise 87. Short-Term Financing with Bank Loans ............................................................. 93
Exercise 88. Short-Term Financing with Bank Loans ............................................................. 94
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
VIETNAMESE GERMAN UNIVERSITY
Exercise 1. Interest Rate Calculations
A commercial bank quotes an interest rate of 14.00% p.a. with quarterly interest rate payments.
Please determine the applicable interest rate in case of
a) continuous compounding and
b) annual interest rate payments!
Source: Adopted from Hull (2012)
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 2. Annual Yields
An investor will receive $1,100 in one year’s time from an investment of $1,000 today.
Please determine the annual yield in case of
a) annual compounding,
b) semi-annual compounding,
b) monthly compounding, and
c) continuous compounding!
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 3. Forward Rates
Assume that spot rates (with continuous compounding) are given as follows:
term-to-maturity (months) interest rate (in % p.a.)

3 8.0
6 8.2
9 8.4
12 8.5
15 8.6
18 8.7
Please determine the forward rates for the second, third, fourth, fifth, and sixth quarter!
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 4. Continuous Compounding Rates
Which continuous compounding rate corresponds to a rate of 15.00% p.a. with monthly com-
pounding?
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 5. Pricing Bonds
The 6-months and the 1-year spot rate each amount to 10.00% p.a., respectively. The yield of
an 18-months bond with an 8.00% p.a. coupon (last coupon payment occurred just days ago!)
is 10.40% p.a.
Please determine the bond’s price!
Further, determine the 18-months-zerobond-interest rate!
(Assume semi-annual compounding, please.)
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 6. Bond Prices and Yields
Please assume that a 10-year bond is issued with a face value of $100 paying an annual interest
of $6. If market yields increase shortly after the bond is issued, please determine the effect on
the bond’s
a) coupon rate,
b) price, and
c) yield-to-maturity?
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 7. Bond Prices and Yields
a) If interest rates rise, do bond prices rise or fall?
b) If the bond yield is greater than the coupon, is the price of the bond greater or less
than 100?
c) If the price of a bond exceeds 100, is the yield greater or less than the coupon?
d) Do high-coupon bonds sell at higher or lower prices than low-coupon prices?
e) If interest rates change, does the price of high-coupon bonds change proportion-
ately more than that of low coupon bonds?
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 8. Zero-Coupon Bonds
The following table features prices of different ZCB with an assumed PD of zero.
Maturity (in years) 1 2 3 4 5
Price (per $100 nominal) $95.51 $91.05 $86.38 $81.65 $76.51
a) Please determine the bonds’ effective interest rates!
b) Please construct the ZCBs’ yield curve (for the first five years!)
c) Please determine whether the yield curve’s slope is increasing, falling or flat!
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 9. Pricing Bonds
Assume that Siemens (SIE) has issued a bond with a 10-year maturity, a nominal of $1,000.00
and an annual coupon of 7.00%. Upon issuance, the bond’s yield was 6.00%.
a) Determine the bond’s price upon issuance!
b) Please determine the bond’s price just before the first coupon payment, assuming
a constant yield!
c) Which is the bond’s price just after the first coupon payment, assuming a constant
yield?
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 10. Dividend Discount Model
a) Hamburg Semiconductor plc.’s earnings and dividends per share are expected to grow
indefinitely by 5.00% a year. Please determine the current stock price assuming that
the 2022 dividend amounts to $10 and the market capitalisation rate amounts to 8.00%!
Further, assume that if Hamburg Semiconductor plc. were to distribute all its earnings,
it could maintain a level dividend stream of $15 per share. Please determine how much
the market is actually paying per share for growth opportunities!
b) According to several financial analysts, the Nordic Liquorice Corporation is expected

to pay a dividend of $5 per share at the end of 2022. After the dividend, its stock is
expected to trade at $110 per share. Please determine the current stock price assuming
a market capitalisation rate of 8.00%!
c) Hanoi Sweets Ltd., a leading producer of artisanal sweets, is expected to produce a

level dividend stream of $5 per share. Assuming a current stock price of $40 per share,
please determine the market capitalisation rate!
d) Please determine which of the three following stocks is the most valuable when assum-
ing a market capitalisation rate for each stock of 10%. What is the market capitalisation
rate fell to 7.00%?
• Stock I is expected to provide a dividend of $10 per share forever

• Stock II is expected to pay a dividend of $5 in 2022. Thereafter, dividend growth is
expected to be 4.00% a year forever
• Stock III is expected to pay a dividend of $5 in 2022. Thereafter, dividend growth is
expected to be 20.00% a year until 2027 (i.e., for five years) before it drops to zero
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e) Please discuss the following statement:
“All stock investors are always looking for capital gains, i.e. simply relying on the pre-
sent value of future dividend payments is absolutely insufficient when analysing the
stock price.”
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 11. Dividend Discount Model
Saigon Breweries Ltd. has just paid an annual dividend of $0.96. Analysts estimate that in the
next five years, profits will grow at an average annual pace of 11.0%. After that, profit growth
is expected to slow to a more moderate annual average of 5.2%.
At what price should Saigon Breweries Ltd. sell its shares according to the Dividend Discount
Modell whilst assuming equity costs of capital of 8.5% (and a stable pay-out quote)?
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 12. Historical Returns of Stocks and Bonds
Please assume that you bought a stock one year ago for $50 per share and sold it today for
$55 per share. Also, it paid a $1 per share dividend today.
a) What was your realized return?
b) How much of the return can be attributed to the dividend yield and how much to
capital gain?
c) Now assume that the stock fell $5 to $45 per share instead. Please determine whether
and why your capital gain is different or not!
d) Also, assuming a new price of $45 per share, please determine whether and why your
dividend gain is different or not!
Source: Adopted from Berk and DeMarzo (2014)
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 13. Historical Returns of Stocks and Bonds
The last four years of returns for a stock are as follows:
Year 1 2 3 4
Return -4% +28% +12% +4%
a) Please determine the average annual return!
b) Kindly calculate the variance of the stock’s returns!
c) Please determine the standard deviation of the stock’s returns!
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 14. Historical Trade-Off between Risk and Return
Determine how the relationship between average return and historical volatility of individual
stocks differs from the relationship between average return and historical volatility of large,
well-diversified portfolios!
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 15. Common versus Independent Risk
Consider two local banks. Commerzbank has 100 loans outstanding, each for $1,000,000.00
that it expects will be repaid today. Each loan has a 5.00% probability of default, in which case
the lender is not repaid anything. The chance of default is independent across all loans.
Deutsche Bank has only one loan of $100,000,000.00 outstanding, which it also expects will be
repaid today. It also has a 5.00% probability of not being repaid.
a) Explain the difference between the type of risk each bank faces. Which bank faces less
risk? Explain why!
b) Calculate the expected overall payoff of each bank!
c) Also, determine the standard deviation of the overall payoff of each bank!
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 16. Diversification in Stock Portfolios
Consider the fictitious economy Utopia, which is home to two types of firms, S and I.
S firms all move together. I firms move independently. For both types of firms, there is a 60%
probability that the firms will have a 15% return and a 40% probability that the firms will have
a return of -10%.
Please determine the volatility (i.e. the standard deviation) of a portfolio that consists of an
equal investment in 20 firms of
a) type S and
b) type I firms, please!
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 17. Measuring Systematic Risk
a) Please explain the concept of an efficient portfolio!
b) Kindly determine what the beta of a stock measures!
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 18. Expected Return of a Portfolio
Please assume that you own three different stocks: 600 shares of AAPL, 10,000 shares of CSCO
and 5,000 shares of CL. The current share prices and expected returns of AAPL, CSCO, and
CL are, respectively, $500, $20, $100 and 12%, 10%, and 8%.
a) Please determine the portfolio weights of the three stocks in your portfolio!
b) Kindly calculate the expected return of your portfolio!
c) Now suppose the price of AAPL increases by $25, CSCO increases by $5, and CL
plummets by $13. Please determine the new portfolio weights!
d) Assuming the stock’s expected returns remain the same, please calculate the ex-
pected return of the portfolio at the new prices!
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 19. Volatility of a Two-Stock Portfolio
Suppose AVON and NOVA stocks have volatilities of 50% and 25%, respectively, and they are
perfectly negatively correlated. Please determine the portfolio of these two stocks that fea-
tures zero risk!
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 20. Choosing an Efficient Portfolio
Suppose that the stock of F has an expected return of 20% and a volatility of 40%, and KO has
an expected return of 10% and a volatility of 30%. If the two stocks are uncorrelated, please
determine
a) The expected return and volatility of an equal weighted portfolio of the two stocks!
b) Given your answer to part a), is investing all of your money in KO stock an efficient
portfolio of these two stocks?
c) Is investing all of your money in F an efficient portfolio of these two stocks?
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 21. Short Sale Of Shares
Please explain what happens in case an investor conducts a short sale of shares!
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 22. Risk versus Return
Please assume that as the result of an inheritance you have as much as $10,000.00 to invest.
You decide to invest $20,000.00 in GOOG and short sell $10,000.00 worth of YHOO. GOOG’s
expected return is 15% with a volatility of 30% and YHOO’s expected return is 12% with a
volatility of 25%. The stocks feature a correlation of 0.9.
Please determine the expected return and volatility of the portfolio!
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 23. Risk-Free Saving and Borrowing
You currently have $100,000 invested in a portfolio that has an expected return of 12% and a
volatility of 8%. Suppose the risk-free rate is 5%, and there is another portfolio that has an
expected return of 20% and a volatility of 12%.
a) Please determine which portfolio has a higher expected return than your portfolio
but with the same volatility!
b) Kindly calculate which portfolio has a lower volatility than your portfolio but with
the same expected return!
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 24. Expected Return
The 2017 expected return on the DAX-30 amounts to 12%; the risk-free interest rate is at 5%.
Please determine the expected return on an asset with a beta of
a) 0.2,
b) 0.5, and
c) 1.4!
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 25. Determining Stocks’ Betas
Assume that over the course of the past few years, the following returns could be observed.
Year Daimler MunichRe DAX-30

2012 13.0% 4.0% 10.0%
2013 18.0% 38.0% 20.0%
2014 12.0% 8.0% 5.0%
2015 6.0% -8.0% 0.0%
2016 14.0% 19.0% 15.0%
2017 20.0% 27.0% 22.0%
2018 22.0% 30.0% 24.0%
2019 18.0% 22.0% 20.0%
Average 15.4% 17.5% 14.5%
Use Excel to …
a) … chart a graph showing the development of the returns in between 2012 and
2019!
b) … compute the respective betas by means of a simple regression analysis!
c) Send the betas you determined (Daimler, MunichRe, and DAX-30) plus a brief in-
terpretation to leef.dierks@th-luebeck.de, please!
Source: Wake University (2004)

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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 26. Portfolio Risk and Return
Return Standard Deviation
German Bunds 6.0% 0.0%
Stock A 10.0% 14.0%
Stock B 14.5% 28.0%
Stock C 21.0% 26.0%
Please determine the standard deviation of the following portfolios:
d) 50% in German Bunds and 50% in Stock A!
e) 50% each in Stock B and Stock C, assuming the shares feature
a. a perfect positive correlation.
b. A perfect negative correlation.
c. no correlation at all.
f) Please plot the expected return r (%) versus the standard deviation (%) for Stock B
and Stock C whilst assuming a coefficient of correlation of 0.5!
g) Stock B features a lower return than Stock C but a higher standard deviation.
Does that mean that Stock B’s price is too high or that Stock C’s price is too low?
Source: Adopted from Brealey et al. (2014)
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 27. Equity Cost of Capital
Suppose PEP’ stock features a beta of 0.57. If the risk-free rate is 3.00% and the expected
return of the market portfolio is 8%, what is PEP’s equity cost of capital?
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 28. Equity Cost of Capital
Suppose the market portfolio has an expected return of 10% and a volatility of 20%, while
MSFT’s stock has a volatility of 30%.
a) Given its higher volatility, should you expect MSFT to have an equity cost of capital
that is higher then 10%?
b) What would have to be true for MSFT’s equity cost of capital to be equal to 10%?
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 29. Debt Cost of Capital
In mid-2020, aircraft maker BOEING had AA-rated, 10-year bonds outstanding with a yield to
maturity of 2.05%.
a) Please determine the highest expected return these bonds could have!
b) At the time, similar maturity DBRS featured a yield of 1.50%. Could these bonds
actually have an expected return equal to your answer in part a)?
c) If you believe BOEING’s bonds have a 0.5% chance of default per year, and that
the expected loss rate in the event of default is 60%, please estimate the expected
return for these bonds!
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 30. Behaviour of Individual Investors
Assume that your sister badly suffers from an overconfidence bias. She loves to trade stocks
and believes her predictions with 100% confidence. In fact, however, she is uninformed like
most investors.
Rumours are that a company will receive a takeover offer at $20 per share. Absent the takeover
offer, the stock will trade at $15 per share. The uncertainty can be expected to be resolved
within the next few hours.
Your sister believes that the takeover will occur with certainty and has instructed her broker to
buy the stock at any price less than $20 per share. In fact, the true probability of a takeover is
50%. But a few people are informed and know whether the takeover will actually occur. They
also have submitted offers. Nobody else is trading in the stock.
a) Please describe what will happen to the market price once these orders are submitted
if in fact the takeover will occur within a few hours! What will your sister’s profits be:
positive, negative or nil?
b) What range of possible prices could result once these orders are submitted if the take-
over does not occur? What will your sister’s profits be: positive, negative or nil?
c) Determine your sister’s expected profits!
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 31. Information and Rational Expectations
You know that there are informed traders in the stock market, but you are uninformed. Please
describe an investment strategy that guarantees that you will not lose money to the informed
traders and explain why it works!
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 32. Efficiency of Market Portfolio
Oscar Wilde is a manager at Hanseatic Asset Management. He can generate an alpha of 2% a

year up to $100 million. After that his skills are spread too thin, so cannot add value and his
alpha is zero.
Hanseatic Asset Management charges a fee of 1.00% per year on the total amount of money
under management (at the beginning of each year). Assume that there are always investors
looking for positive alpha and no investor would seek to invest in a fund with a negative alpha.
In equilibrium, i.e., when no investor either takes out money or wishes to invest new money,
a) Please determine the alpha, which investors in Mr Wilde’s fund expect to receive.
b) Kindly calculate how much money Mr Wilde will have under management!
c) Determine the amount Hanseatic Asset Management will generate in fee income!
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 33. Information and Rational Expectations
Please assume that you are trading in a market in which you know there are a few highly skilled
traders who are better informed than you are. There are no transaction costs. Each day you
randomly choose five stocks to buy and five to sell.
a) Please determine whether over the long run, your strategy will outperform, underper-
form, or have the same return as a buy-and-hold strategy of investing in the market
portfolio!
b) Would your answer to part a) change if all traders in the market were equally well in-
formed and were equally skilled?
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 34. Market Efficiency Debate
Please explain why you might expect stocks to have nonzero alphas if the market proxy port-
folio is not highly correlated with the true market portfolio, even if the true market portfolio is
efficient!
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 35. Efficiency of Market Portfolio
Assume the economy consisted of three types of people. 50% are followers, 45% are passive
investors holding onto the market portfolio and 5% are informed traders.
The portfolio consisting of all the informed traders has a beta of 1.5% and an expected return
of 15%. The market expected return is 11%. The risk-free rate stands at 5%.
a) Please determine the alpha the informed traders make!
b) Kindly calculate the alpha of the passive investors!
c) Please determine the expected return of the followers!
d) What alpha do the followers make?
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 36. Capital Asset Pricing Model
Please indicate whether the following statements are true or false.
a) The CAPM implies that if you could find an investment with a negative beta, its ex-
pected return would be less than the interest rate.
☐ true ☐ false
b) The expected return on an investment with a beta of 2.00 is twice as high as the ex-
pected return on the market.
☐ true ☐ false
c) If a stock lies below the security market line, it is undervalued.
☐ true ☐ false
Source: Brealey et al. (2014)
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 37. Arbitrage Pricing Theory
Please consider a three-factor APT Model. The respective factors and associated risk premi-
ums are:
Factor Risk Premium
Change in GDP 5%
Change in energy prices -1
Change in long-term interest rates +2
Kindly calculate the expected rates of return on the following stocks assuming a risk-free rate
of 7.00% for
a) a stock whose return is uncorrelated with all three factors,
b) a stock with an average exposure to each factor, i.e. with b = 1.0 for each,
c) a pure-play energy stock with high exposure to the energy factor (b = 2.0) but zero
exposure to the other two factors, and
d) an aluminium company stock with an average sensitivity to changes in interest rates

and GNP, but a negative exposure of b = - 1.5 to the energy factor.
Source: Brealey et al. (2014)
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 38. Optimal Hedge Ratio
Assume the standard deviation (SD) of the quarterly change in a commodity’s price is $0.65.
Further, the standard deviation of the quarterly change in the future of this commodity is $0.81.
The correlation coefficient between the two changes stands at 0.8.
Please determine and interpret the optimal hedge ratio for a three months contract!
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 39. Designing Swaps
The following interest rates are being offered to corporates Bayer and SAP for a five-year,
$20,000,000 loan:
fixed rate floating rate

Bayer 5.000% EURIBOR + 10bp
Wirecard 6.400% EURIBOR + 60bp
Whereas Bayer needs a floating rate loan, Wirecard prefers a fixed rate loan.
Design a swap, which will lead to a net profit of 10bp p.a. for JP Morgan, an US-investment
bank which operates as an intermediary, and which is equally attractive for both companies!
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EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 40. Designing FX-Swaps
VW AG wants to borrow USD at a fixed rate. Deutsche Lufthansa AG, in contrast, wants to
borrow JPY at a fixed rate. Both companies seek to borrow more or less the same amount.
BofAML, an US-investment bank, offers the following rates:
JPY USD
VW AG 5.00% 9.60%
Deutsche Lufthansa AG 6.50% 10.00%
Design a swap that will lead to a net profit of 0.50 per cent p.a. for BofAML and which is
equally attractive for both companies! (The entire exchange rate risk remains with BofAML.)
46
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 41. Put Options On Shares
For $3.00, an investor buys a European put option on a share. The share price is at $42.00, the
strike price at $40.00.
Under which circumstances will the trader generate a profit?
Under which circumstances will the option be exercised?
Please draw a diagram that shows how the profit depends on the share price upon maturity
(from the investor’s perspective)!
47
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 42. Exercising Call Options
Assume that a European call option to purchase a share at a price of $100.00 can be bought
at $5.00 and will be held until maturity.
Under which circumstances will the owner of the option generate a profit?
Please draw a diagram, which shows how the profit from the long option depends on the
share price upon maturity!
48
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 43. Exercising Put Options
Assume that a European put option to sell a share at a price of $60.00 can be bought at $8.00
and will be held until maturity.
Under which circumstances will the seller of the option (i.e. the party which entered into the
short position) generate a profit?
Please draw a diagram that shows how the profit from the short option depends on the share
price upon maturity!

49
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 44. Call versus Put Options
A trader buys a call option with a strike price of $45.00 and a put option with a strike price of
$40.00. Both options feature the same maturity. The call trades at $3.00; the put at $4.00.
Please draw a diagram that shows how the trader’s profit depends on the development of the
price of the underlying!
50
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 45. Pricing Put Options
The current share price is at $40. In three months' time the share price will either be at $45 or
at $35. The risk-free interest rate is 8% p.a. (quarterly compounding).
Please determine the price of a three-months European put option with a strike price of $40!
Please show that no-arbitrage-arguments and the risk-neutral valuation will lead to the same
results!
51
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 46. Pricing Call Options
The current share price is at $50. Within the next two three-months periods, the share price
will either climb by 6% or decline by 5%. The risk-free interest rate is 5% p.a. (continuous com-
pounding).
Please determine the price of a six-month European call option with a strike price of $51!
Further, please determine the price of a six-month European put option with a strike price of
$51!
52
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 47. Competition and Capital Markets
Assume that all investors have the same information and care only about expected return and
volatility. If new information arrives about one stock, can this information affect the price and
return of other stocks? If so, please explain why!
53
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 48. Competition and Capital Markets
Now assume that the CAPM is a good description of stock price returns. The expected market
return amounts to 7% with a 10% volatility and the risk-free rate stands at 3%. News arrives that
does not change any of these numbers - but it does change the expected return of the follow-
ing stocks:
Expected Return Volatility Beta

Allianz 12% 20% 1.50
BASF 10% 40% 1.80
Siemens 9% 30% 0.75
VW 6% 35% 1.20
a) At current market prices, which stocks represent buying opportunities?
b) On which stocks should you put a sell order in?
54
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 49. Equity versus Debt Financing
Consider a project with free cash flows in one year of $130,000 or $180,000, with each outcome
being equally likely.
The initial investment required for the project is $100,000, and the project’s cost of capital is
20%.
The risk-free interest rate is 10%.
a) Please determine the project’s NPV!
b) Suppose that in order to raise the funds for the initial investment, the project is
sold to investors as an all-equity firm. The equity holders will receive the cash flows
of the project in one year.
Please determine the amount of money that can be raised in this way, i.e., kindly
determine the initial market value of the unlevered equity!
c) Now suppose the initial $100,000 is instead raised by borrowing at the risk-free
interest rate.
Please determine the cash flows of the levered equity and its initial value (accord-
ing to Modigliani and Miller)!
55
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 50. Equity vs. Debt Financing
Assume you have successfully created a company programming smartphone apps. If your new-
est app proves to be successful, you will be able to sell your company for an estimated
$30,000,000. If the app is unsuccessful, however, the company will be worth nothing.
In order to fund your ongoing work, you need to raise $2,000,000. Investors are willing to pro-
vide you with as much as $2,000,000 in initial capital in exchange for a 50% stake in the un-
levered equity in your company.
a) Please determine the total market value of the firm without leverage!
b) Now assume you borrow $1,000,000. According to Modigliani and Miller, what frac-
tion of your company’s equity do you need to sell in order to raise the additional
$1,000,000 you still need?
c) Please determine the value of your share of your company’s equity in a) and b)!
56
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 51. Leverage, Arbitrage, and Firm Value
Let us assume that there are no taxes. Firm A has no debt whatsoever and firm B has debt of
$5,000 on which the applicable interest rate stands at 10%.
Both companies have identical projects that generate free cash flows of $800 or $1,000 annu-
ally. After paying interest on the debt, both companies use all remaining free cash flow to pay
annual dividends.
a) Please complete the below table featuring the payments of debt and equity holders
of each firm can expect to receive considering the two possible levels of cash flows!
A B
Equity Divi- Equity Pay-
FCF Debt Payments Debt Payments
dends ments
$800
$1,000
b) Now assume you held 10% of the equity on firm A. Please determine another port-
folio you could hold that would provide the same cash flows!
c) Suppose you own 10% of the equity of firm B. if you could borrow at 10%, what is
an alternative strategy that would provide the same cash flows?
57
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 52. Interest Tax Deduction
Assume that Hanseatic Consulting has EBIT of $325 million in 2019, interest expenses of $125
million and a corporate tax rate of 40%.
a) Please determine Hanseatic Consulting’s 2019 net income!
b) Kindly calculate the total of Hanseatic Consulting’s 2019 net income and interest pay-
ments!
c) In case Hanseatic Consulting had no interest expenses, what would its 2019 net income
be? How does it compare to your answer in b)?
d) Please determine the amount of Hanseatic Consulting’s interest tax shield in 2019!
58
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 53. Valuing the Interest Tax Shield
Legendary coffee maker Campus Lounge currently has $100mn in debt outstanding at an in-
terest rate of 10%. The terms of the loan require Campus Lounge to repay $25mn of the bal-
ance each year.
Suppose that the marginal corporate tax rate is 40%, and that the interest tax shields have the
same risk as the loan.
Please determine the PV of the interest tax shields from this debt!
59
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 54. Comparing Dividends and Share Repurchases
Suppose Lazando paid dividends at the end of each year according to the schedule below.
It also reduced its share count by repurchasing 5mn shares at the end of each year at the ex-
dividend stock prices shown. (Please assume perfect capital markets!)
2014 2015 2016 2018 2019

Ex-dividend stock price ($/share) 10 12 8 11 15
Dividend ($/share) 0.5 0.5 0.5 0.5
Shares outstanding (in mn) 100 95 90 85 80
a) Please determine the total market value of Lazando’s equity and the total amount
paid out to shareholders at the end of each year!
b) If Lazando had made the same total payouts using dividends only (and so kept its
share count constant), what dividend would it have paid and what would its ex-
dividend share price have been each year?
c) If Lazando had made the same total pay-outs using repurchases only (and so paid
no dividends), what share count would it have had and what would its share price
have been each year?
d) Consider a shareholder who owns 10 shares of Lazando initially, does not sell any
shares, and reinvests all dividends at the ex-dividend share price. Kindly determine
if this shareholder had preferred the payout policy in b), c), or the original policy!
60
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 55. Long and Short Positions
Please explain the difference between a long-position and a short-position in a forward-con-

tract!
61
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 56. Forward Contracts versus Call Options
What is the difference between entering into a long position in a forward contract at a forward
price of $50 and entering into a long position in a call option with a strike price of $50?

62
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 57. Call versus Put Options
Please explain the difference between selling a call option and buying a put option!
63
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 58. Short Position in Forward Contracts
A trader enters into a short position in a forward contract regarding the sale of GBP 100,000
into USD at an exchange rate of USD 1.4000/GBP.
Please determine the trader’s profit/loss when the exchange rate is
a) USD 1.3900/GBP or
b) USD 1.42/GBP,
respectively, upon the contract’s end!

64
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 59. Long Position in Call Option
Assume you hold a March 2021 call option on a share with a strike price of $50. The call option
currently trades at $2.50 and you plan to hold it until maturity.
Under what circumstances will you generate a profit?
Under what circumstances would you exercise the option?
Please draw a diagram, which shows the relationship between a profit from your long position
in the call position and the price of the underlying upon the call option’s maturity!
65
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 60. Short Position in Put Option
Assume you hold a June 2021 put option on a share with a strike price of $60. The put option
currently trades at $4.00 and you plan to hold it until maturity.
Under what circumstances will the seller of the option (i.e. the owner of the short-position)
generate a profit?
Under what circumstances would you exercise the option?
Please draw a diagram that shows the relationship between a profit from the short position
and the price of the underlying upon the put option’s maturity!

66
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 61. Profits With Put Options
A trader sells a December 2020 put option with a strike price of $30. The option is currently
priced at $4.
Explain the circumstances under which the trader will generate a profit!
67
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 62. Short Position in Forward Contract
A trader enters into a short position in a forward contract on JPY 100,000,000 at an exchange
rate of USD 0.0080/JPY.
Please determine the trader’s profit/loss when the exchange rate is
a) USD 0.0074/JPY or
b) USD 0.0091/JPY
respectively, upon the contract’s end!
68
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 63. Options As Zero-Sum Games
Please discuss: “Options and futures are zero-sum games”. What do you think is meant with
this statement?
69
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 64. Understanding Options
Assume that you are long both a share as well as a put option on this very share. Please deter-
mine the payoff when the option expires if
a) the stock price is below the strike price!
b) the stock price is above the exercise price?
Source: Adopted from Brealey, Myers and Allen (2014)

70
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Your aunt is long $600,000 in South African gold stocks. Bullish as she is on gold mining, she
nonetheless requires absolute assurance that at least $500,000 will be available in six months.
Please describe two ways for your aunt to achieve this goal, assuming that there is an active
market for puts and calls on South African gold stocks. The interest rate stands at 10%.
71
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Assume that you buy a one-year European call option on Sachsman Gold stock with a strike
price of $100 and sell a one-year European put option with the same strike price. The current
stock price is $100 and the interest rate stands at 10%.
a) Please chart a position diagram showing the payoffs from your investment!
b) Please determine what this combined position of buying a call and selling a put option
will cost you!
72
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 67. Put-Call Parity
Assume it is possible to buy three months call options and three months put options on the
stock of Lübeck Semiconductor. Both options have a strike price of $60 and are worth $10.
Please determine the stock price under the assumption that the interest rate stands a 5% p.a.!
73
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 68. Binomial Tree
The current share price is at $40. In one month’s time, the share price will either be at $42 or
at $38. the risk-free interest rate is 8% p.a. (continuous compounding).
Please determine the price of a one-month European call option with a strike price of $39!
74
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 69. Binomial Tree
The current share price is at $100. Within the next two six-months periods, the share price will
either climb or decline by 10%. The risk-free interest rate is 8% p.a. (continuous compounding).
Please determine the price of a one-year European call option with a strike price of $100!
75
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 70. Determining Option Delta
The stock price of Nordic Software Corporation (NSC) changes only once a month; either it
increases by 20% or it drops by 16.7%. The current stock price stands at $40. The interest rate
is 12.7% p.a. (or circa 1.00% per month).
a) Please determine the value of a one-month call option with a strike price of $40!
b) Determine the option delta, please!
c) Kindly illustrate how the payoffs of the call option can be replicated by buying the stock
of Nordic Software Corporation (NSC) and borrowing money!
d) Please determine the value of a two-month call option with a strike price of $40!
e) What is the option delta of the two-month call over the first one-month period?
76
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 71. Black-Scholes-Model
Which assumptions does the Black-Scholes-Merton-Model to valuate stock options make re-
garding the probability distribution of a share price over one year?
What does it assume regarding the continuously compounded return of a stock over one year?
77
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 72. Black-Scholes-Model
Please rely on the Black-Scholes-Formula to determine the value of the following options.
a) A call option written on a stock selling for $60.00 per share with a strike price at $60.00.
The stock’s standard deviation is 6.00% per month and the option will mature in three
months. The risk-free interest rate stands at 1.00% per month.
b) A put option written on the same stock at the same time, with the same strike price
and expiration date.
Also, for each of the options, kindly identify the combination of stock and risk-free asset that
would replicate the option!
78
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 73. Using Options
On Thursday, January 15, 2015, the Swiss National Bank (SNB) in a surprise move abandoned
its peg vis-à-vis the Euro: “the Swiss National Bank (SNB) is discontinuing the minimum ex-
change rate of CHF 1.20 per euro. At the same time, it is lowering the interest rate on sight
deposit account balances that exceed a given exemption threshold by 0.5 percentage points,
to −0.75%. It is moving the target range for the three-month Libor further into negative terri-
tory, to between –1.25% and −0.25%, from the current range of between −0.75% and 0.25%.”
The CHFEUR exchange rate reacted as follows:
1,3
1,2
1,1
0,9
0,8
1.1 3.1 5.1 7.1 9.1 11.1 13.1 15.1 17.1 19.1
Assume you had seen this move coming.
a) What option would you have used when (and why) if you were long EUR?
b) What option would you have used when (and why) if you were long CHF?
79
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 74. Funding and Ownership
January Software was founded in 2018 to develop software for gaming applications. Initially,
the founder invested $800,000 and received 8,000,000 shares of stock. January Software now
needs to raise a second round of capital, and it has identified an interested venture capitalist.
This venture capitalist has agreed to invest $1,000,000 and wants to own 20% of the company
after the investment is completed.
a. How many shares must the venture capitalist receive to end up with 20% of the
company?
b. What is the implied price per share of this funding round?
c. Please determine the value of the whole firm be after this investment (the post-
money valuation)!
80
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 75. Equity Financing for Private Companies
Assume that in 2015, you founded your own company. Back then, you invested $100,000 of
your own money and received 5,000,000 shares of Series A preferred stock. Since then, your
company has been through three additional rounds of financing.
Round Price (in $) Number of shares

Series B 0.50 1.000.000
Series C 2.00 500.000
Series D 4.00 500.000
a. Please determine the pre-money valuation for the Series D funding round!
b. Now determine the post-money valuation for the Series D funding round!
c. Assuming that you own only the Series A preferred stock (and that each share of
all series of preferred stock is convertible into one share of common stock): please
determine what percentage of the firm you own after the last funding round!

EXERCISES
81
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 76. Initial Public Offering
Nordic Software Associates (NSA) is going public using a so-called auction IPO. The firm has
received the following bids:
Price (in $) Number of shares

14.00 100,000
13.80 200,000
13.60 500,000
13.40 1,000,000
13.20 1,200,000
13.00 800,000
12.80 400,000
Assuming that Nordic Software Associates would like to sell as many as 1,800,000 shares in its
IPO, what will the winning auction offer price be?
82
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 77. Corporate Debt
Please explain why bonds with lower seniority have higher yields than equivalent bonds with
higher seniority!
83
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 78. Inflation-Linked Bonds
On January 11, 2015, the German Ministry of Finance issued a five-year inflation-indexed note
with a coupon of 3.00% (paying semi-annual coupons!). On the date of the issue, the consumer
price index (CPI) stood at 250. By January 11th, 2020, the CPI had increased to 300.
Please determine the principal and coupon payments made on January 11, 2020!
84
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 79. Linkers
On January 11, 2020, the German Ministry of Finance issued a ten-year inflation-indexed note
with a coupon of 6.00% (paying semi-annual coupons!). On the date of the issue, the consumer
price index (CPI) stood at 400. By January 11, 2020, the CPI had decreased to 300.
Determine the principal and coupon payments made on January 11, 2020!

85
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 80. Leasing in Perfect Market
Assume that the purchasing price of a new delivery van amounts to $20,000. Its residual value
in four years is supposed to be $6,000 and there is absolutely no risk that the lessee will default
on the lease.
Please determine the monthly lease payment for a four-year lease in a perfect capital market
in case the risk-free interest rate stands at 6.00% (with monthly compounding)!
86
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 81. Leasing
Now assume that you purchase the $20,000 delivery van by borrowing the purchase price using
a four-year annuity loan.
Please determine the monthly loan payment in a perfect capital market in case the risk-free
interest rate stands at 6.00% (with monthly compounding), assuming no risk of default what-
soever. Compare your results to that of Exercise 80, please!

87
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 82. End-of-Term Lease Options
Please compute the lease payments for the $20.000 delivery van of Example 80 if the lease is
a) a fair market value lease,
b) a $1.00 out lease, or
c) a fixed price lease that allows the lessee to buy the asset at the of the lease for $4,000!
88
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 83. Working Capital
Nordic Paint Manufacturers would like to construct a new facility that will manufacture paint.
In addition to the capital expenditure (CAPEX) on the plant, management estimates that the
project will require an investment today of $450,000 for net working capital. The firm will re-
cover the investment in net working capital eight years from today, when management antici-
pates closing the plant. The discount rate for this type of cash flow is 6.00% per year.
a) Please determine the present value (PV) of the cost of working capital for the paint
facility!
b) Further, please determine the value of an inventory policy that would halve the plant’s
net working capital requirements!
89
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 84. Working Capital
Colombo-based Coconut Grove recorded sales of $32,000,000 in 2022, and a cost of goods
sold of $20,000,000. A simplified balance sheet for Coconut Grove appears below:
COCONUT GROVE
Balance Sheet
as of December 31, 2022
(in $ thousand)
Assets Liabilities and Equity
Cash $2,000 Accounts payable $1,500
Accounts receivable $3,950 Notes payable $1,000
Inventory $1,300 Accruals $1,220
Total current assets $7,250 Total current liabilities $3,720
Long-term debt $3,000
Net plant, property, and Total liabilities $6,720
equipment $8,500 Common equity $9,030
Total assets $15,750 Total liabilities and equity $15,750
a) Please determine Coconut Grove’s net working capital in 2022!
b) Please calculate the cash conversion cycle of Coconut Grove in 2022!
c) The industry average accounts receivable days is 30 days. What would the cash con-
version cycle for Coconut Grove have been in 2022 had it matched the industry average
for accounts receivable days?
90
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 85. Trade Credit
Your firm purchases goods from its supplier on terms of 1/15, Net 40.
Please determine the effective annual cost to your firm if it chooses not to take advantage of
the trade discount offered!
91
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 86. Matching Principle
Quarterly working capital levels (in $ tsd.) for Tribeca Ltd. for 2022 are computed below.
Q1 2019 Q2 2019 Q3 2019 Q4 2019

Cash 100 100 100 100
Accounts Receivable 200 100 100 600
Inventory 200 500 900 50
Accounts Payable 100 100 100 100
a) Please determine the permanent working capital needs for Tribeca Ltd.!
b) Further, please determine the temporary working capital needs for Tribeca Ltd.!
92
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 87. Short-Term Financing with Bank Loans
New Coffee Roasters Corp. needs a $10,000 loan for the next 30 days. It is trying to decide
which of following three alternatives to use:
a) Forgo the discount on its trade credit agreement that offers terms of 2/10, Net 30.
b) Borrow the money from Bank A, which has offered to lend the firm $10,000 for 30
days at an interest rate of 12% p.a. The bank will require a (no-interest) compensat-
ing balance of 5% of the face value of the loan and will charge a $100 loan origina-
tion fee, which means New Coffee Roasters Corp. must borrow even more than the
$10,000.
c) Borrow the money from Bank B, which has offered to lend the firm $10,000 for 30
days at an interest rate of 15% p.a. The loan has a 1% loan origination fee.
Determine the cheapest source of financing for New Coffee Roasters Corp., please!
93
EXERCISES
CORPORATE FINANCE
JUNE/JULY 2023
Exercise 88. Short-Term Financing with Bank Loans
Determine which of the following one-year $1,000 bank loans offers the lowest effective an-
nual rate!
a) A loan with an interest rate of 6% p.a., compounded monthly.

b) A loan with an interest rate of 6% p.a., compounded annually, that also has a com-
pensating balance requirement of 10% (on which no interest is paid).
c) A loan with an interest rate of 6% p.a., compounded annually, that has a 1% loan
origination fee.
94

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EXERCISES

PROF. DR. LEEF H. DIERKS

for your personal use and must not be shared or forwarded.

sate the regular attendance of my lectures, an awareness of recent financial developments as

well as an analysis of financial newspapers and of the recommended literature.

Leef H. Dierks Binh Duong, June 2023

Exercise 1. Interest Rate Calculations ...................................................................................... 6

Exercise 2. Annual Yields ......................................................................................................... 7

Exercise 3. Forward Rates ........................................................................................................ 8

Exercise 4. Continuous Compounding Rates .......................................................................... 9

Exercise 5. Pricing Bonds ....................................................................................................... 10

Exercise 6. Bond Prices and Yields ........................................................................................ 11

Exercise 7. Bond Prices and Yields ........................................................................................ 12

Exercise 8. Zero-Coupon Bonds ............................................................................................ 13

Exercise 9. Pricing Bonds ....................................................................................................... 14

Exercise 10. Dividend Discount Model .................................................................................. 15

Exercise 11. Dividend Discount Model .................................................................................. 17

Exercise 12. Historical Returns of Stocks and Bonds ............................................................. 18

Exercise 13. Historical Returns of Stocks and Bonds ............................................................. 19

Exercise 14. Historical Trade-Off between Risk and Return .................................................. 20

Exercise 15. Common versus Independent Risk .................................................................... 21

Exercise 16. Diversification in Stock Portfolios ...................................................................... 22

Exercise 17. Measuring Systematic Risk ................................................................................ 23

Exercise 18. Expected Return of a Portfolio .......................................................................... 24

Exercise 19. Volatility of a Two-Stock Portfolio ..................................................................... 25

Exercise 20. Choosing an Efficient Portfolio .......................................................................... 26

Exercise 21. Short Sale Of Shares .......................................................................................... 27

Exercise 22. Risk versus Return .............................................................................................. 28

Exercise 23. Risk-Free Saving and Borrowing ........................................................................ 29

Exercise 24. Expected Return ................................................................................................ 30

Exercise 25. Determining Stocks’ Betas................................................................................. 31

Exercise 26. Portfolio Risk and Return ................................................................................... 32

Exercise 27. Equity Cost of Capital ........................................................................................ 33

Exercise 28. Equity Cost of Capital ........................................................................................ 34

Exercise 29. Debt Cost of Capital .......................................................................................... 35

Exercise 30. Behaviour of Individual Investors ....................................................................... 36

Exercise 32. Efficiency of Market Portfolio............................................................................. 38

Exercise 33. Information and Rational Expectations .............................................................. 39

Exercise 34. Market Efficiency Debate .................................................................................. 40

Exercise 35. Efficiency of Market Portfolio............................................................................. 41

Exercise 36. Capital Asset Pricing Model .............................................................................. 42

Exercise 37. Arbitrage Pricing Theory.................................................................................... 43

Exercise 38. Optimal Hedge Ratio......................................................................................... 44

Exercise 39. Designing Swaps ............................................................................................... 45

Exercise 40. Designing FX-Swaps .......................................................................................... 46

Exercise 41. Put Options On Shares ...................................................................................... 47

Exercise 42. Exercising Call Options ..................................................................................... 48

Exercise 43. Exercising Put Options ...................................................................................... 49

Exercise 44. Call versus Put Options ..................................................................................... 50

Exercise 45. Pricing Put Options ............................................................................................ 51

Exercise 46. Pricing Call Options ........................................................................................... 52

Exercise 47. Competition and Capital Markets ..................................................................... 53

Exercise 48. Competition and Capital Markets ..................................................................... 54

Exercise 49. Equity versus Debt Financing ............................................................................ 55

Exercise 50. Equity vs. Debt Financing .................................................................................. 56

Exercise 51. Leverage, Arbitrage, and Firm Value ................................................................. 57

Exercise 52. Interest Tax Deduction ...................................................................................... 58

Exercise 53. Valuing the Interest Tax Shield .......................................................................... 59

Exercise 54. Comparing Dividends and Share Repurchases ................................................. 60

Exercise 55. Long and Short Positions ................................................................................... 61

Exercise 56. Forward Contracts versus Call Options ............................................................. 62

Exercise 57. Call versus Put Options ..................................................................................... 63

Exercise 58. Short Position in Forward Contracts .................................................................. 64