SOLUTION MANUAL
Basic Finance: An Introduction to Financial Institutions, Investments, and Management
Herbert Mayo
13th Edition
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,Table of Contents — Basic Finance (13th Edition)
1. An Introduction to Basic Finance
Part I: Financial Institutions
2. The Role of Financial Markets and Financial Intermediaries
3. Investment Banking
4. Securities Markets
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5. The Federal Reserve
6. International Currency Flows
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Part II: Financial Tools
7. The Time Value of Money
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8. Risk and Its Measurement
9. Analysis of Financial Statements
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Part III: Investments
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10. The Features of Stock
11. Stock Valuation
12. The Features of Long-Term Debt — Bonds
13. Bond Pricing and Yields
14. Preferred Stock
15. Convertible Securities
,16. Investment Returns
17. Investment Companies
Part IV: Corporate Finance
18. Forms of Business and Corporate Taxation
19. Break-Even Analysis, the Payback Period, and Data Analytics
20. Leverage
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21. Cost of Capital
22. Capital Budgeting
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23. Forecasting
24. Cash Budgeting
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25. Management of Current Assets
26. Management of Short-Term Liabilities
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27. Intermediate-Term Debt and Leasing
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Part V: Derivatives
28. Options: Puts and Calls
29. Futures and Swaps
, Solution and Answer Guide
Mayo/Lavelle, Basic Finance: An Introduction to Financial
Institutions, Investments, and Management
Chapter 4: Securities Markets
EXERCISE SOLUTIONS
1. You purchase 100 shares for $50 per share ($5,000), and after a year the price rises to $60. What will be the
percentage return on your investment if you bought the stock on margin and the margin requirement was
(a) 25 percent, (b) 50 percent, and (c) 75 percent? (Ignore commissions, dividends, and interest expense.)
Solution
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If the stock rises from $50 to $60, the gain is $1,000 on the purchase of 100 shares. The return on the
individual's investment depends on the amount of margin.
a. If the margin requirement is 25 percent, the amount the investor must put up is $1,250 (0.25 x $5,000),
so the return is $1,000/$1,250 = 80%.
b. If the margin requirement is 50 percent, the return is 40 percent ($1,000/$2,500).
c. If the margin requirement is 75 percent, the required margin is $3,750 and the return is 26.7 percent
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($1,000/$3,750).
Be certain to point out the $1,000 capital gain is the same in all three cases but that the percentage return
differs because the amount put up by the investor differs in each case.
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2. Repeat Exercise 1 to determine the percentage return on your investment, but in this case suppose the price
of the stock falls to $40 per share. What generalization can be inferred from your answers to Problems 1
and 2?
Solution
If the stock declines from $50 to $40, the loss is $1,000 on the purchase of 100 shares. The return on the
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individual's investment once again depends on the amount of margin.
a. If the margin requirement is 25 percent, the amount the investor must put up is $1,250, and the return is
$1,000/$1,250 = −80%.
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b. If the margin requirement is 50 percent, the return is −40 percent ($1,000/$2,500).
c. If the margin requirement is 75 percent, the percentage loss is −26.73 percent ($1,000/$3,750).
The generalization from Problems (1) and (2) is that the percentage return is affected by the amount of
margin and that the lower the margin requirement, the greater is the potential swing in the return on the
investor's funds.
3. A stock is currently selling for $45 per share. What is the gain or loss on the following transactions?
Solution
a. $41.50 − $45 = −$3.50
b. $45 − $41.50 = $3.50
c. $54 − $45 = $9
d. $45 − $54 = −$9
Basic Finance: An Introduction to Financial Institutions, Investments, and Management
Herbert Mayo
13th Edition
PR
O
FD
O
C
,Table of Contents — Basic Finance (13th Edition)
1. An Introduction to Basic Finance
Part I: Financial Institutions
2. The Role of Financial Markets and Financial Intermediaries
3. Investment Banking
4. Securities Markets
PR
5. The Federal Reserve
6. International Currency Flows
O
Part II: Financial Tools
7. The Time Value of Money
FD
8. Risk and Its Measurement
9. Analysis of Financial Statements
O
Part III: Investments
C
10. The Features of Stock
11. Stock Valuation
12. The Features of Long-Term Debt — Bonds
13. Bond Pricing and Yields
14. Preferred Stock
15. Convertible Securities
,16. Investment Returns
17. Investment Companies
Part IV: Corporate Finance
18. Forms of Business and Corporate Taxation
19. Break-Even Analysis, the Payback Period, and Data Analytics
20. Leverage
PR
21. Cost of Capital
22. Capital Budgeting
O
23. Forecasting
24. Cash Budgeting
FD
25. Management of Current Assets
26. Management of Short-Term Liabilities
O
27. Intermediate-Term Debt and Leasing
C
Part V: Derivatives
28. Options: Puts and Calls
29. Futures and Swaps
, Solution and Answer Guide
Mayo/Lavelle, Basic Finance: An Introduction to Financial
Institutions, Investments, and Management
Chapter 4: Securities Markets
EXERCISE SOLUTIONS
1. You purchase 100 shares for $50 per share ($5,000), and after a year the price rises to $60. What will be the
percentage return on your investment if you bought the stock on margin and the margin requirement was
(a) 25 percent, (b) 50 percent, and (c) 75 percent? (Ignore commissions, dividends, and interest expense.)
Solution
PR
If the stock rises from $50 to $60, the gain is $1,000 on the purchase of 100 shares. The return on the
individual's investment depends on the amount of margin.
a. If the margin requirement is 25 percent, the amount the investor must put up is $1,250 (0.25 x $5,000),
so the return is $1,000/$1,250 = 80%.
b. If the margin requirement is 50 percent, the return is 40 percent ($1,000/$2,500).
c. If the margin requirement is 75 percent, the required margin is $3,750 and the return is 26.7 percent
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($1,000/$3,750).
Be certain to point out the $1,000 capital gain is the same in all three cases but that the percentage return
differs because the amount put up by the investor differs in each case.
FD
2. Repeat Exercise 1 to determine the percentage return on your investment, but in this case suppose the price
of the stock falls to $40 per share. What generalization can be inferred from your answers to Problems 1
and 2?
Solution
If the stock declines from $50 to $40, the loss is $1,000 on the purchase of 100 shares. The return on the
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individual's investment once again depends on the amount of margin.
a. If the margin requirement is 25 percent, the amount the investor must put up is $1,250, and the return is
$1,000/$1,250 = −80%.
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b. If the margin requirement is 50 percent, the return is −40 percent ($1,000/$2,500).
c. If the margin requirement is 75 percent, the percentage loss is −26.73 percent ($1,000/$3,750).
The generalization from Problems (1) and (2) is that the percentage return is affected by the amount of
margin and that the lower the margin requirement, the greater is the potential swing in the return on the
investor's funds.
3. A stock is currently selling for $45 per share. What is the gain or loss on the following transactions?
Solution
a. $41.50 − $45 = −$3.50
b. $45 − $41.50 = $3.50
c. $54 − $45 = $9
d. $45 − $54 = −$9
