Question

(a) Brandon is considering three investments: bond, preference share and ordinary share. The bond has a RM1,000 par value, pays interest semi-annually at 11% and maturing in 8 years. Other bonds of the similar risk level are providing 10% rate of return. The bond is currently selling at RM1,250. Meanwhile, the preference share (RM100 par value) is selling for RM98 and pays an annual dividend of RM12.50. Brandon’s required rate of return is 14% for preference share and 20% for the ordinary share. The ordinary share which was under consideration paid a RM4 dividend. The firm’s earnings per share have increased from RM3 to RM9 in 12 years, which also reflects the expected growth in dividends per share for the indefinite future. The share is currently trading at RM40 in the market.

(i) Which investment(s) should you accept? Why?

Suppose that Emerail Bhd issued a bond with 12 years maturity, a face value of RM1,000 and a coupon rate of 7% (semi-annual compounding). The yield to maturity on this bond when it was issued was 8%. Required:

(i) What was the price of this bond when it was issued

Answer 1

Bond
Par value	1000
Coupon	11.00%
Coupon amount	55
Period	Semi annual
Maturity	8 yrs
NPER	16
PMT	55
Price	1250
Rate	6.88%
Since similar bonds are paying 10% yield, so it is not worthy to invest in this kind of bond
Preference share
Par value	100
Price	98
Annual dividend	12.50
Current rate	12.76%
Required rate of return	14.00%
Since rate of return on preference share is less than required rate of return, so this is not a good investment
Ordinary share
Dividend	4
EPS growth	9.59%	(9/3)^(1/12)-1
Current price	40
Rate of return	20.55%
Required return	20.00%
Since rate of return is more than required rate of return, so this is a good investment
Price of the bond	$923.77	PV(8%/2,24,7%*1000/2,1000,)