Semester Spring 2012

Financial Management (MGT201)

Assignment No. 02 Case
Suppose Mr. Zafar, (a habitual investor in stocks) has currently maintained a portfolio as mentioned below:
Stock A B C Companies Lucky Petroleum MJ Corporation Venus Industries Beta 0.95 1.25 1.15 Returns 7.2% 14.6% 9.3% Standard Deviation 0.12 0.15 0.10

Marks: 30

His whole investment comprises of 10 million rupees, from which 32 percent was invested in stock A and the rest was invested equally in stock B and C. Risk and return specifications of this portfolio are as follows:
Beta Return Variance Standard deviation 1.12 10.4% 0.01 0.09

* The correlation between AB is 0.75; AC is 0.35 and BC is -0.5*.

Now, Mr. Zafar is interested to extract his investment from stock C to further invest in some other stock. For this purpose he is looking forward to investigate about two of the potential opportunities prevailing in the market i.e: I. Ghazi Companys share (stock D) is available in the KSE at Rs. 40/- each. Company is paying Rs. 5.6/- as dividend on each share with expected growth rate of 7.5%. Face Value of the share is Rs.12/-. Risk free rate of return is 11%. Rate of return as per KSE Index is 14%; return on this stock seems bit volatile as reflected by its beta i.e. 1.9. II. Zamin Corporations share (stock E) is also available in KSE. Upon investigating its Price Earnings (P/E) ratio, Mr. Zafar came to know that investors are willing to pay five rupees to earn one rupee and industry average of P/E ratio is 6.5. Moreover, that the Company is paying dividend of Rs. 28.5 per share which represents 30% of its earnings (EPS = Rs. 95) and the dividend is expected to grow at 10% per year for foreseeable future. Mr. Zafars required rate of return for this investment is 17%; while, the stock beta is 1.4.

Required: 1) You need to find out the intrinsic value of stock D of Ghazi Company through using SML equation. (6 marks)

2) With the help of given information, you need to calculate the intrinsic value of Zamin Corporations share (stock E)? (5 marks) 3) Based on intrinsic values and information of both stocks (D and E), you need to recommend that which investment opportunity Mr. Zafar should opt? Give logical justification of your recommendation. (3 marks) 4) Calculate portfolios beta, return, variance and standard deviation after replacing stock C with new recommended stock that is assumed to have standard deviation of 0.11. The correlation between stocks is supposed to be AD 0 .25; AE 0.3; BD 0.5 & BE is 0.7. (13 marks) 5) Comment and justify that whether new portfolio is better or the previous one with respect to risk and return context? (3 marks) (Show complete formulas, calculation/ working along with decision comments as they carry marks)

Important Tips
1. This Assignment can be best attempted from the knowledge acquired after watching video lecture no. 1 to lecture no.27 and reading handouts as well as recommended text book). 2. Video lectures can be downloaded for free from www.youtube.com/vu.

Schedule
Opening Date and Time Due Date and Time June 04, 2012 At 12:01 A.M. (Mid-Night) June 07, 2012 At 11:59 P.M. (Mid-Night)

Note: Only in the case of Assignment, 24 Hrs extra / grace period after the above
mentioned due date is usually available to overcome uploading difficulties which may be faced by the students on last date. This extra time should only be used to meet the emergencies and above mentioned due dates should be treated as final to avoid any inconvenience.

Important Instructions:
Please read the following instructions carefully before attempting the assignment solution. Deadline: Make sure that you upload the solution file before the due date. No assignment will be accepted through e-mail once the solution has been uploaded by the instructor.

Formatting guidelines: Use the font style Times New Roman and font size 12. It is advised to compose your document in MS-Word 2003. Use black and blue font colors only.

Solution guidelines:

Show complete formulas, calculation/ working along with decision comments as they carry marks Every student will work individually and has to write in the form of an analytical assignment. Give the answer according to question, there will be negative marking for irrelevant material. For acquiring the relevant knowledge dont rely only on handouts but watch the video lectures and use other reference/ recommended books also.

Rules for Marking Please note that your assignment will not be graded or graded as Zero (0) if: It has been submitted after due date The file you uploaded does not open or is corrupt It is in any format other than .doc (MS. Word) It is cheated or copied from other students, internet, books, journals etc