GP1-Group 12-Checked

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University of Texas, Rio Grande Valley *

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6350

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Economics

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Feb 20, 2024

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Group Number: 12 Group Project 1 Mini-Case 1 Payments to Providers A B C D E F G H I 1 2 3 4 5 6

Group Number: 12 Group Project 1 Mini-Case 2 Financial Risk and Required Return State of Economy Probability T-Bills Alta Inds. Repo Men Recession 0.1 0.80% -22.0% 28.0% 10.0% -13.0% Below Average 0.2 0.80% -2.0% 14.7% -10.0% 1.0% Average 0.4 0.80% 20.0% 0.0% 7.0% 15.0% Above Average 0.2 0.80% 35.0% -10.0% 45.0% 29.0% Boom 0.1 0.80% 50.0% -20.0% 30.0% 43.0% a. Calculate the expected rate of return on each alternative. b. Calculate the standard deviation (SD) of returns on each alternative. c. Calculate the coefficient of variation (CV) on each alternative. d. Calculate the beta on each alternative. e. Do the standard deviation, coefficient of variation, and beta produce the same risk ranking? Why or why not? f. Suppose you create a two-stock portfolio by investing $50,000 in Alta Industries and $50,000 in Repo Men. Calculate the expected return, standard deviation, coefficient of variation, and beta for this portfolio. How does the risk of this two-stock portfolio compare with the risk of the individual stocks if they were held in isolation? ANSWER a. T-Bills Alta Inds. Repo Men Expected Rate Return 0.8% 17.4% 1.7% 13.8% 15.0% b. T-Bills Alta Inds. Repo Men Assume that all of you recently graduated and just landed a job as financial planners with Palm Clinic. Your first as as a group of new recruits is to invest $100,000. Because the funds are to be invested at the end of one year, you have instructed to plan for a one-year holding period. Further, your boss has restricted you to the following investment al shown with their probabilities and associated outcomes. American Foam Market Portfolio Barney Smith Investment Advisors recently issued estimates for the state of the economy and the rate of return on ea the economy. Alta Industries, Inc. is an electronics firm; Repo Men Inc. collects past due debts; and American Foam manufactures mattresses and various other foam products. Barney Smith also maintains an "index fund" which own market-weighted fraction of all publicly traded stocks; you can invest in that fund and thus obtain average stock ma results. Given the situation as described, answer the following questions. American Foam Market Portfolio American Foam Market Portfolio Monika: You could shown th calculati table ins creating table.

Variance 0.0% 4.0% 1.8% 3.5% 2.4% Standard Deviation 0.0% 20.0% 13.4% 18.8% 15.3% c. T-Bills Alta Inds. Repo Men CV 0.00 1.15 7.68 1.36 1.02 d. T-Bills Alta Inds. Repo Men Beta 0.00 1.29 -0.86 0.68 1.00 e. Rankings of the five investments by SD, CV, and Beta Investment SD Investment CV Investment Beta Alta Inds. 20.0% Repo Men 7.68 Alta Inds. 1.29 American Foam 18.8% American Foam 1.36 Market Por 1.00 Market Portfolio 15.3% Alta Inds. 1.15 American F 0.68 Repo Men 13.4% Market Portfolio 1.02 T-Bills 0.00 T-Bills 0% T-Bills 0.00 Repo Men -0.86 f. The expected return on a portfolio is simply a weighted average of the expected returns of the individual assets in the Stock Estimated Portfolio Return Alta Inds. 50% 17.4% Recession 3.00% Repo Men 50% 1.7% Below Avg. 6.35% Average 10.00% Above Avg. 12.50% Boom 15.00% Expected Return 9.6% Standard Deviation 3.34% or 0.0334 Coefficient of Variation 0.35 Beta 0.22 or 0.22 American Foam Market Portfolio American Foam Market Portfolio Portfolio Weight Expected Return Monika: Please se posted s solution way to c standard Monika: Please see the posted sample solution for another way to calculate the standard deviation. Monika:

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Monika: Good work!

T-Bills Alta Inds. Repo Men 0.0008 -0.022 0.028 0.01 -0.013 0.0016 -0.004 0.0294 -0.02 0.002 0.0032 0.08 0 0.028 0.06 0.0016 0.07 -0.02 0.09 0.058 0.0008 0.05 -0.02 0.03 0.043 E(r) 0.008 0.174 0.0174 0.138 0.15 ssignment e been lternatives, American Foam Market Portfolio ach state of m ns a arket d have he ions in this stead of an extra

Variance P(r)*(stock's return - E(r))^2 e portfolio. Probability Alta Inds. Repo Men Recession 0.1 -22.0% 28.0% Below Aver 0.2 -2.0% 14.7% Average 0.4 20.0% 0.0% Above Aver 0.2 35.0% -10.0% Boom 0.1 50.0% -20.0% State of Economy ee the sample for another calculate the d deviation.

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Group Number: 12 Group Project 1 Mini-Case 3 Lease Financing a. What is the present value cost of owning the equipment? b. What is the present value cost of leasing the equipment? c. What is the net advantage to leasing (NAL)? d. Answer again the above questions one at a time to see the effect of the change on NAL. That is, starting w the original numbers you used for questions a. and b., what is the NAL if: - pre-tax interest rate increases to 12 percent - the tax rate falls to 34 percent - maintenance cost increases to $25,000 per year - residual value falls to $150,000 - the system price increases to $1,050,000? e. Do the changes in d. make leasing more or less attractive? Explain. ANSWER Pre-tax interest rate 10% MACRS Tax rate 40% Year 1 Year 2 Year 3 Year 4 After-tax interest rate 6% 33% 45% 15% 7% Lease payment $260,000 $330,000 $450,000 $150,000 $70,000 System purchase price $1,000,000 Maintenance $20,000 Residual value $200,000 Year 0 Year 1 Year 2 Year 3 Year 4 Net purchase price -$1,000,000 Maintenance cost -$20,000 -$20,000 -$20,000 -$20,000 Bolden Health System Inc. has decided to acquire a new electronic health record system for its Rio hospita clinical data and other patient information from nursing units and other patient care areas, then either dis on a screen or stores it for later retrieval by physicians. The system also permits patients to call up their he Bolden's website. The equipment costs $1,000,000, and, if it were purchased, Bolden could obtain a term loan for the full pur percent interest rate. Although the equipment has a six-year useful life, it is classified as a special-purpose into the MACRS three-year class. If the system were purchased, a four-year maintenance contract could b $20,000 per year, payable at the beginning of each year. The equipment would be sold after four years, and its residual value at that time is $200,000. However, since real-time display system technology is changing r residual value is uncertain. As an alternative to the borrow-and-buy plan, the equipment manufacturer informed Bolden that Consolid would be willing to write a four-year guideline lease on the equipment, including maintenance, for paymen beginning of each year. Bolden's marginal federal-plus-state tax rate is 40 percent. You have been asked to versus-purchase decision, and in the process to answer the following questions: a. Cost of owning

Maintenance tax savings $8,000 $8,000 $8,000 $8,000 Depreciation tax savings $132,000 $180,000 $60,000 $28,000 Residual value $200,000 Tax on residual value -$80,000 Net cash flow -$1,012,000 $120,000 $168,000 $48,000 $148,000 PV cost of owning -$591,741 Year 0 Year 1 Year2 Year 3 Lease payment -$260,000 -$260,000 -$260,000 -$260,000 Lease tax savings $104,000 $104,000 $104,000 $104,000 Net cash flow -$156,000 -$156,000 -$156,000 -$156,000 PV cost of leasing -$572,990 c. Net advantage to leasing PV cost of leasing ($572,990) =D62 PV cost of owning -$591,741 =D55 NAL $18,752 d. Net advantage to leasing: Pre-tax interest Tax Maintenance Residual System rate rate cost value price 12% 34% $25,000 $150,000 $1,050,000 PV cost of leasing -$563,902 -$625,244 -$572,990 -$572,990 -$572,990 PV cost of owning -$602,837 -$645,447 -$602,760 -$615,504 -$623,877 NAL $38,935 $20,203 $29,771 $42,514 $50,887 To obtain the values in the purple cells, you may for example replace ONE AT A TIME the pre-tax intere maintenance cost, residual value, and system price with their respective new value, and then report into the related purple cells each updated set of results obtained in c. ONE AT A TIME means to make sure to put back the original value of each item before updating the valu When done, make sure to put back the original value of the last item (that is System price) so that the solut Example: To obtain the values in D74 and in D75, replace the pre-tax interest rate in C37 by 12%. Copy and paste the new results in D66 and D67 into D74 and D75, respectively. Put back 10% in C37 before replacing the tax rate in C38 by 34%. Repeat similarly the process to fill in the other purple cells. e. (Narrative)- Response located in Report b . Cost of leasing

with $1,000,000 al. The system receives splays the information ealth record on rchase price at a 10 computer, so it falls be obtained at a cost of d the best estimate of rapidly, the actual dated Leasing Center nts of $260,000 at the o analyze the lease-

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est rate, tax rate, ue of the next item. tions for a., b., and c. display correctly. Monika: Good work!

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