Valuation of Bonds & Shares: A Financial Analysis Assignment

This assignment focuses on the valuation of bonds and shares using various financial models. It identifies errors in initial calculations related to bond valuations by not converting coupon and interest rates into respective compounding intervals and then proceeds to correctly calculate the present value of two different bonds using appropriate formulas. It further discusses the impact of discount rates on bond values, explaining scenarios where the present value falls below or exceeds par value. Additionally, the assignment evaluates share valuations, pointing out inaccuracies in prior calculations and applying the dividend growth model and discounted cash flow approach to determine the present value of two shares, highlighting the importance of considering future dividend streams. Desklib provides access to similar solved assignments and study resources for students.

Solution 1
Bond 1 Bond 2
Par value $2000 $2000
Coupon rate 10% ; semi annually 8% ; monthly
I 11% 7%
YTM 10Years 10Years
Interest pmt 10%*2000*1/2=100 8%*2000*1/12=13.33
N 10*2=20 10*12=120
J 11%/2=5.5% 7%/12=0.5833%
a) John’s calculation for both bonds are wrong. He did not covert the coupon and interest rates into
their respective compounding intervals for both bonds.
b)
Bond 1
Interest pmt -10%*2000*1/2=100
n -10*2=20
j -11%/2=5.5%
PV = 100*((1-(1+5.5%)-20)/5.5%)+2000*(1+11%)-10 = 1899.41
Bond 2
Interest pmt -8%*2000*1/12=13.33
n -10*12=120
j -7%/12=0.583%
PV = 13.33*((1-(1+0.583%)-120)/0.583%)+2000*(1+7%)-10 = 2165.05
Bond 1 Bond 2
Present Value $1,899.41 $2,165.05
c)
i) Reasons the present value drops below par value
A higher discount rate will result into a lower bond value. Furthermore, if the same rate is higher than
the bond’s coupon rate, then its value will be less than the bond’s par value.

ii) Reasons the present value drops below par value
A lower discount rate will result into a higher bond value. Furthermore, if this discount rate is lower than
the bond’s coupon rate, then its value will be higher than the bond’s face value.
d) The advantages of buying a bond as an investment vehicle
 Bonds are secure investments with low risk .In some cases they can be risk free.
 They provide periodic interest payments that are predictable and hence suitable to risk averse
investors.
 Bonds offer higher returns than cash and money markets.
 Bonds are less volatile and hence provide stable returns during poor economic periods in
comparison to stocks.
Solution 2
Share 1 Share 2
Budget per share $90 $90
Opportunity cost 15% 15%
Growth Rate 11% after 2018 10% after 2023
D0 $3.43 2016-$7, 2017-$5,2018-22-$6
a) John’s calculation for both shares are wrong.
Share 1
John’s possible calculation-3.43*(1+15%)-1+ (3.43*1.11) *(1+15%)-2+(3.43*1.11) 2*(1+15%)-3+(3.43*1.11)
3*(1+15%)-4+(3.43*1.11) 4*(1+15%)-5+(3.43*1.11) 5*(1+15%)-5+(3.43*1.11) 6*(1+15%)-5=22.8
Share 2
John’s possible calculation-6*(1+15%)-1+6*(1+15%)-2+6*(1+15%)-3+6*(1+15%)-4+6*(1+15%)-
5+6.6*(1+15%)-6 =28.31
b)
Share 1
Using Dividend growth model

Pv=d1/(k-g) where k is return, g is growth rate and d1 is next dividend
Pv=3.43/(15%-11%)=$85.75
Share 2
Using a combination of dividend growth model and discounted cashflows
PV=6*(1+15%)-1+6*(1+15%)-2+6*(1+15%)-3+6*(1+15%)-4+6*(1+15%)-5+(6.6/(15%-10%))*(1+15%)-6
=77.18
Share 1
value
Share 2
value
Present
Value 85.75 77.18
c) John used the discounted cash flow approach, whereas I used the dividend growth model. His
approach did not take into consideration the future expected dividend streams that would arise from
both shares.
d) No, it is impossible to calculate the share present value without applying the perpetual equation. This
is because we need to consider any future dividend streams and these can only be allowed for under the
perpetual equation (also known as the dividend growth model).