CFA-Level-2 – Chartered Financial Analyst Level 2

Josh Atwell recently inherited a large sum of money and wants to invest a portion of the inheritance into a real estate investment that provides a tax shelter. Atwell wants to take a limited management role in the real estate investment, and avoid the expense of hiring professional project management. Also, Atwell requires that the real estate investment generate high cash flows. Atwell hired Kellogg Investments to provide him potential real estate investments. Kellogg created Exhibit 1 outlining alternative real estate investments, from which Atwell can make his selection. Atwell's cost for any loan is 8%. The loan would be amortized over 20 years with annual payments. His required rate of return is 11%.

After reviewing the potential real estate investments generated by Kellogg, Atwell decided against all of the choices. Instead, Atwell requested a detailed report on the investment merits of an apartment complex. In Exhibit 2, Kellogg details the operating income of a targeted apartment complex investment. Atwell will make an equity contribution of $1,000,000. The loan-to-value ratio for the apartment complex investment would be 75%.

An adviser from Kellogg states that Atwell should purchase the apartment complex because the net present value of the investment is positive. The adviser also states, however, that the investment's IRR is less than Atwell’s required rate of return. After reviewing the historical financial statements of the potential hotel investment, the advisor notes its erratic net operating income. In fact, the hotel generated several years of growing cash flow followed by two negative years and then a return back to a positive cash flow.

Based on the historical financial statements of the hotel, which of the following valuation techniques would be most appropriate?

Chester Brothers, LLC, is an investment management firm with $200 million in assets under management. Chester's equity style is described to clients as a "large cap core" strategy. One year ago, Chester instituted a new compensation plan for its equity portfolio managers. Under this new plan, each portfolio manager receives an annual bonus based upon that manager's quarterly performance relative to the S&P 500 index. For each quarter of aut-performance, the manager receives a bonus in the amount of 20% of his regular annual compensation. Chester has not disclosed this new plan to clients. Portfolio managers at Chester are not bound by non-compete agreements.

Fames Rogers, CFA, and Karen Pierce, CFA, are both portfolio managers affected by the new policy. Rogers out-performed the S&P 500 index in each of the last three quarters, largely because he began investing his clients1 funds in small cap securities. Chester has recently been citing Rogers's performance in local media advertising, including claims that "Chester's star manager, James Rogers, has outperformed the S&P 500 index in each of the last three quarters." The print advertising associated with the media campaign includes a photograph of Rogers, identifying him as James Rogers, CFA. Below his name is a quote apparently attributable to Rogers saying "as a CFA chartcrholdcr I am committed to the highest ethical standards."

A few weeks after the advertising campaign began, Rogers was approached by the Grumpp Foundation, a local charitable endowment with $3 billion in assets, about serving on their investment advisory committee. The committee meets weekly to review the portfolio and make adjustments as needed. The Grumpp trustees were impressed by the favorable mention of Rogers in the marketing campaign. In making their offer, they even suggested that Rogers could mention his position on the advisory committee in future Chester marketing material. Rogers has not informed Chester about the Grumpp offer, but he has not yet accepted the position.

Pierce has not fared as well as Rogers. She also shifted into smaller cap securities, but due to two extremely poor performing large cap stocks, her performance lagged the S&P 500 index for the first three quarters. After an angry confrontation with her supervisor, Pierce resigned. Pierce did not take any client information with her, but when she left she did take a copy of a Pierce has not fared as well as Rogers. She also shifted into smaller cap securities, but due to two extremely poor performing large cap stocks, her performance lagged the S&P 500 index for the first three quarters. After an angry confrontation with her supervisor, Pierce resigned. Pierce did not take any client information with her, but when she left she did take a copy of a computer model she developed while working al Chester, as well as the most recent list of her buy recommendations, which was created from the output of her computer valuation model. Pierce soon accepted a position at a competing firm, Cheeri Group. On her first day at Cheeri, she contacted each of her five largest former clients, informing them of her new employment and asking that they consider moving their accounts from Chester to Cheeri. During both telephone conversations and e-mails with her former clients, Pierce mentioned that Chester had a new compensation program that created incentives for managers to shift into smaller cap securities.

Cheeri has posted Pierce's investment performance for the past five years on its Web site, excluding the three most recent quarters. The footnotes to the performance information include the following two statements:

Statement 1: Includes large capitalization portfolios only.

Statement 2: Results reflect manager's performance at previous employer.

When Pierce left her position at Chester, her behavior was inconsistent with the CFA Institute Standards in that:

Andrew Carson is an equity analyst employed at Lee, Vincent, and Associates, an investment research firm. In a conversation with his supervisor, Daniel Lau, Carson makes the following two statements about defined contribution plans.

Statement I: Employers often face onerous disclosure requirements. Statement 2: Employers often bear all the investment risk.

Carson is responsible for following Samilski Enterprises (Samilski), a publicly traded firm that produces motorcycles and other mechanical parts. It operates exclusively in the United States. At the end of its 2009 fiscal year, Samilski's employee pension plan had a projected benefit obligation (PBO) of $320 million. Also, unrecognized prior service costs were $35 million, the fair value of plan assets was $316 million, and the unrecognized actuarial gain was $21 million.

Carson believes the rate of compensation increase will be 5% as opposed to 4% in the previous year, and the discount rate will be 7% as opposed to 8% in the previous year.

This past year, Samilski began using special purpose entities (SPEs) for various reasons. In preparation for analyzing the SPE disclosures in the footnotes to the financial statements, Carson prepares a memo on SPEs. In the memo, he correctly concludes that the company will be required under new accounting rules to classify them as variable interest entities (VIE) and consolidate the entities on the balance sheet rather than report them using the equity method as in the past.

Under current U.S. GAAP pension accounting standards, the amount of the pension asset or liability that Samilski should report on its 2009 fiscal year end balance sheet is closes/ to a: