1Cost of Capital Problem Set Solutions*1.The stock of Company A was trading at $40 on Dec 31, 2000 and reached $42 on January 31, 2001. If you bought the stock at that price and held it until Jan 31, 2001 what would be your 1-month return assuming no dividends were paid. What is the monthly return if $0.50 was received in dividends on January 31, 2001?

2.You bought a share of Company B for $33.50 exactly 1 year ago. Since then received $1.25 in cash dividends two months ago. Additionally, today the stock split 3 for 2. The price after the split is $28.00 per share. What is your holding period return? you How stock splits change the return calculations are described If there is no stock split, the return for any given month t is calculated as: 11tttttPPDividendrPIf there is a stock split: A stock split is when one existing share is replaced by more than one new share. The split ratiodetermines how many newshares the existing shareholder gets. An example would be a 3 for 2 split, which implies that if you were holding 2 shares, those would be replaced by 3 new shares. Thus, if the original *Some of these problems are based on problems and examples discussed by Ross Westerfield and Jordan (Alternate Ed.), Brealey and Myers (7th Ed.)

below:

2shares had a price of $30 each, your 2 shares would have been worth $60. If nothing else changed, a 3 for 2 stock split would turn those 2 shares in 3 shares. However, the portfolio value would remain unchanged at $60. Thus each of the new shares would have a price of $20 to keep your portfolio value unchanged. The calculation of returns for the month in which a stock split occurs is slightly different. If there is an x for y stock split during a given month, the return for that month, and that month only is calculated as: 11xxtttyyttPPDividendrPAn illustration of this concept is the return calculation for Feb 2003 for Microsoft (see the MicrosoftBeta.xls spreadsheet). In Feb 2003, Microsoft split 2 for 1. Thus you would have spent $47.46 at the end of Jan 2003 to buy 1 share of Microsoft. That one share was replaced by 2 new shares, which at the end of Feb 2003 were worth $23.70 each. This makes your investment worth $47.40 ($23.70 × 2). Also Microsoft paid a dividend of $0.08 per share in Feb 2003, and on your 2 shares you would have gotten $0.16 ($0.08 × 2). So your investment of $47.46 was worth ($47.40+$0.16=$47.56) giving you a net increase of $0.10 ($47.56-$47.46). The return for the month of Feb 2003 is thus 0.10/47.16 =0.002 or 0.2%. The application of the equation to get the Feb 2003 return is shown below: 2220032003200311200320032211200323.7047.460.080.0020.2%47.46FebJanFebFebJanFebPPDividendrPrApplying the equation to question 2, we have: 3228.0033.501.250.29129.1%33.50returnNote: No adjustment was made to the dividend as it was received two months ago while the stock split happened today