5. Ten million dollars are invested in long-term business bonds by Percival Hygiene. The annual standard deviation of this bond portfolio is 10%, while the predicted annual rate of return is 9%. Percival's financial advisor, Amanda Reckonwith, suggests that Percival think about purchasing an index fund that closely resembles the Standard & Poor's 500 Index. The index has an expected return of 14%, and its standard deviation is 16%. (a) (10%) Suppose Percival puts all his money in a combination of the index fund and Treasury bills. Can he thereby improve his expected rate of return without changing the risk of his portfolio? The Treasury bill yield is 6%.

8. (10%) Your firm has gained exclusive manufacturing rights for barkelgassers (BGs) in North America as a result of acquiring a significant patent. An immediate capital expenditure of $25 million will be required to construct production facilities for 200,000 BGs annually. The projected cost of production is $65 per BG. Until the patent expires in five years, the BG marketing manager is certain that all 200,000 units may be sold for $100 each (in real terms). After that, the marketing manager is clueless about the selling price. What is the NPV of the BG project? Assume the real cost of capital is 9%. To keep things simple, also make the following assumptions: The technology for making BGs will not change. Capital and production costs will stay the same in real terms. - Competitors know the technology and can enter as soon as the patent expires, that is, they can construct new plants in year 5 and start selling BGs in year 6. If your company invests immediately, full production begins after 12 months, that is, in year 1. There are no taxes. BG production facilities last 12 years. They have no salvage value at the end of their useful life.

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