Your Homework Toyota has decided to build an auto assembly plant in DeSoto for their new Lazer-Razer sports sedan. –Toyota is issuing $1000 dollar bonds to help pay for the project. The bonds will mature in 5 years. –What rate of return should you look for on one of these bonds?

Things to Do A rate of return is made up of 4 components –List the interest rate you assumed for each of the 4 components What do you believe the current rate of inflation is? –Use your knowledge from the news, a government web site or your perception –The answer is not right or wrong based on the number you choose (although a will write a dirty note about your intelligence if you choose 25%)

Other Things to Do List the traditional safe rate of return (standard rental rate for money) –It is a specific range of numbers –You may select any number in that range List the one-up-manship (or motivation premium) –Usually about 1/10 th of 1%

Choose Your Risk Premium Risky investments get a higher risk premium than safe investments You may want to consider –How good is Toyota as a company? –How good is the location in terms of workforce, location etc? –How solid and variable is the market for sports sedans? –Other factors that appear critical in your thinking

Some Perspective Risk premium on U.S. Treasury Bonds is considered to be about 0% Risk premium for typical mining venture is around 9% Typical Mechanical or factory investment is around 6-8% Civil infrastructure projects are usually around 2- 4% High risk junk bonds may have 30% risk premium

List Write the risk premium you chose and a brief explanation of why you believe the risk premium to be reasonable –If you find yourself writing more than about 5 sentences you are working yourself too hard and over-analyzing relative to the expectation for this assignment.

Finish Up Now combine the interest rates to get the rate of return you should expect on the bond –Remember not to make the sucker mistake when you do this (there is a popular sucker mistake out there waiting for you) List the rate of return you would expect and mark or indicate it on the assignment so it is clearly identifiable.

Comment I grade on a partial credit basis There is usually value in working neatly, explaining your steps, and showing how you got an answer (If you just jump to an answer and it happens to be wrong – what grade can I give you?) I am usually more concerned about how you did a problem than the number you got in the end (thus a good method will get most of the points even if the answer is messed up)