BEC 2
Spotech Co.'s budgeted sales and budgeted cost of sales for the coming year are $212,000,000 and $132,500,000 respectively. Short-term interest rates are expected to average 5%. If Spotech could increase inventory turnover from its current 8 times per year to 10 times per year, its expected cost savings in the current year would be: A. $81,812 B. $250,000 C. $331250 D. 165,625
D. $165,625 132500000/8 = 16,562500 132500000/10 = 13250000 16562500 - 13250000 = 3312500 * 5% = 165625
The 3 elements needed to estimate the cost of equity capital for use in determining a firm's weighted-average cost of capital are: A. Current dividends per share, expected growth rate in earnings per share, and current market price per share of common stick B. Current earnings per share, expected growth rate in earnings per share, and current book value per share of common stick C. Current earnings per share, expected growth rate in dividends per share, and current market price per share of common stock D. Current dividends per share, expected growth rate in dividends per share, and current market price per share of common stock
D. Current dividends per share, expected growth rate in dividends per share, and current market price per share of common stock The 3 elements needed to estimate the cost of equity capital are: (1) current dividends per share (D), (2) expected growth rate in dividends (g) and, (3) current market price per share of common stock (P) R = (D1/P0) + g
Bates Corp. has $100,000 in bonds payable with a fair market value of $120,000. It also has 1,000 shares of common stock issued at $50 per share with a fair market value of $80 per share. What amount represents the corporation's market capitalization? A. $80K B. $50K C. $180K D. $170K
A. $80K Market capitalization is equal to the number of common shares outstanding multiplied by the fair market value per share. 1000* $80 per share = $80,000. Bonds are not factored into this calculation
The capital structure of a firm includes bonds with a coupon rate of 12% and an effective interest rate of 14%. THe corporate tax rate is 30%. What is the firm's net cost of debt? A. 9.8% B. 14.0% C. 12.0% D. 8.4%
A. 9.8% THe net cost of debt is computed as the effective interest rate net of tax, or 14% * .7 = 9.8%. The coupon rate is used only if it is the same as the effective interest rate and there are no flotation costs
A WC technique that increases the payable float and, therefore, delays the outflow of cash is: A. a draft B. A lock-box system C. Concentration banking D. The use of a local post office box
A. A draft A draft is a working capital technique that increases the payable float and, therefore, delays the outflow of cash.
Each of the following is a potential problem for a company that has implement JIT inventory management, except: A. Seasonal fluctuations in inventory requirements could cause inventory shortages B. Loss of quantity discounts could be more than the cost of handling and purchasing larger lots of inventory C. Actual lead time for material orders could be longer than expected D. Low-quality inventory could cause shortages
A. Seasonal fluctuations in inventory requirements could cause inventory shortages The JIT inventory model is designed to reduce the lag time between inventory arrival and inventory use, while also reducing the carrying costs of maintaining inventory. As long as the manufacturer and suppliers are coordinated, seasonal fluctuations in inventory requirements should not create a problem for a company using JIT
Which one of the following statements about trade credit is correct? Trade credit is: A. Subject to risk of buyer default B. A source of LT financing to the seller C. Not an important source of financing for small firms D. Usually an inexpensive source of external financing
A. Subject to risk of buyer default
Southern Corp. has a debt-to-equity ratio of 1.75 and total assets of $275 million. Southern is considering issuing another $20 million of debt and another $20 million of equity. What will be Southern's debt-to-equity ratio after the issuance? A. 1.95 B. 1.63 C. 1.75 D. 1.46
B. 1.63 The D/E ratio of 1.75 implies that there is $1.75 in debt for every $1 in equity. Since assets are equal to debt plus equity, $275 million in assets must be equal to $165 in debt and $100 in equity. This can also be solved using algebra by subbing in D/1.75 for E, such that D + (D/1.75) = 275; D = 175. If D = 175, D/1.75 (which represents equity) must = 100 In order to determine the impact of adding $20 more in debt and $20 more in equity, simply add $20 to both the numerator and denominator of the ratio. $195/$120 = 1.63
A company recently issued 9% preferred stock. The preferred stock sold for $40 a share with a par of $20. The cost of issuing the stock was $5 a share. What is the company's cost of preferred stock? A. 9% B. 5.1% C. 10.3% D. 4.5%
B. 5.1% The cost of preferred stock is computed in a manner consistent with computation of the effective rate of interest. The amount paid (dividend) is divided by the net proceeds (market price - floatation costs) to arrive at the cost expressed as a %. The cost of preferred stock is computed: Dividend paid ($20 par value * 9% dividend) = $1.80, net proceeds ($40 selling price - $5 floatation) = $35, $1.80/$35.00 = Cost of Preferred Shares 5.1%
A WC technique, which delays the outflow of cash, is: A. lock-box system B. A draft C. Factoring D. Compensating balances
B. A draft The use of a draft delays a cash disbursement and increases payable float
The cost of debt most frequently is measured as: A. Actual interest rate B. Actual interest rate - tax savings C. Actual interest rate adjusted for inflation D. Actual interest rate + risk premium
B. Actual interest rate - tax savings Actual interest rates - tax savings is the most frequently used measure for cost of debt (kdt). After-tax interest fully considers both the costs and tax shield advantages of financing which reduce the cost of debt to its most relevant amount
Carlisle Company presently sells 400,000 bottles of perfume each year. Each bottle costs $.84 to produce and sells for $1. Fixed costs are $28000 per year. The firm has annual interest expense of $6,000, preferred stock dividends of $2000 per year, and a 40 percent tax rate. If Carlisle Company did not have preferred stock, the degree of total leverage would: A. Decrease but not be proportional to the decrease in financial leverage B. Decrease in proportion to a decrease in financial leverage C. Decrease but not have an effect on financial leverage D. Increase in proportion to an increase in financial leverage
B. Decrease in proportion to a decrease in financial leverage Without preferred stock, the denominator in the total leverage calculation would be larger (because preferred stock is subtracted to arrive at the denominator). The same holds true for financial leverage. Therefore, both financial and total leverage would decrease in proportion
Which of the following factors would not be relevant when determining the risk premium on a specific security? A. Relative Liquidity B. Earnings per share C. Length of maturity D. Relative seniority
B. Earnings per share The risk premium on a security in essence compensates an investor for the risk associated with the security's cash flows. Earnings per share (EPS) is calculated by taking net income and dividing it by the number of common shares of stock outstanding. There is no additional risk component factored into the risk premium as a result of the EPS calculation.
Capital investments require balancing risk and return. Managers have a responsibility to ensure that the investments that they make in their own firms increase shareholder value. Managers have met that responsibility if the return on the capital investment: A. Is less than the rate of return associated with the firm's beta factor B. Exceeds the rate of return associated with the firm's beta factor C. Is greater than the prime rate of return D. Is less than the prime rate of return
B. Exceeds the rate of return associated with the firm's beta factor A capital investment whose rate of return exceeds the rate of return associated with the firm's beta factor will increase the value of the firm.
Which of the following types of bonds is most likely to maintain a constant market value? A. Callable B. Floating-rate C. Zero-coupon D. Convertible
B. Floating rate Floating-rate bonds would automatically adjust the return on a financial instrument to produce a constant market value for that instrument. No premium or discount would be required since market changes would be accounted for through the interest rate
Which of the following quantitative factors, when compared to its industry average, could be an indicator of potential corporate failure? A. High Cash flow to total liabilities B. High fixed cost to total cost structure C. High retained earnings to total assets D. High fixed assets to non-current liabilities
B. High fixed cost to total cost structure When fixed costs are high relative to variable costs and total costs, the company's leverage is high. What this implies is that the company must generate enough in sales in order to meet its fixed obligations. This equates to higher risk and could cause the company to fail if sales are not high enough
Dividends are equal to $5, and the current share price is $50. Dividends are expected to grow at 2% forever. According to the dividend growth model, what is the investor's required rate of return? A. 12.0% B. 10.0% C. 12.2% D. 8.2%
C. 12.2% Using the dividend growth model, the cost of retained earnings (required return) is equal to the growth rate added to the next period's dividend divided by the current stock price. The next period's dividend is equal to the current dividend ($5.00) multiplied by 1+the growth rate of 2% Cost of retained earnings = (D1/P0)+g CRE = ((5*1.02)/50)+.02 = 12.2%
Which of the following assumptions is associated with the economic order quantity formula? A. The purchase cost per unit will vary based on quantity discounts B. The carrying cost per unit will vary with quantity ordered C. Periodic demand is known D. The cost of placing an order will vary with quantity ordered
C. Periodic demand is known THe EOQ formula assumes that periodic demand is known. Annual sales volume is a crucial variable in the EOQ formula
Considering the SCOR Model of supply chain operations, which of the following key management processes does "assessing the ability of suppliers to supply resources" fall into? A. Deliver B. Source C. Plan D. Make
C. Plan The process of planning costs of developing a way to properly balance aggregate demand and aggregate supply within the goals and objectives of the firm and plan for the necessary infrastructure. Assessing the ability of the suppliers to supply resources is part of the "plan" process
Which one of the following responses is not an advantage to a corporation that uses the commercial paper market for short-term financing? A. A benefit accrues to the borrower because its name becomes more widely known B. The borrower avoids the expense of maintaining a compensating balance with a commercial bank C. There are no restrictions as to the type of corp that can enter into this market D. This market provides a broad distribution for borrowing
C. There are no restriction as to the type of corp that can enter into this market There are restrictions as to the type of corp that can enter into the commercial paper market for short-term financing, since the use of the open market is restricted to a comparatively small number of the most credit-worthy large corporations.
What is the relationship between the allowance for doubtful accounts and working capital? A. When bad debts expense is recorded for the period, cash increases B. When an account is written off against the allowance, cash decreases C. When bad debts expense is recorded for the period, working capital decreases D. When an account is written off against the allowance, working capital decreases
C. When bad debts expense is recorded for the period, working capital decreases A company that records bad debt expense for a period also recognizes an increase in the contra-account, allowance for doubtful accounts. When this occurs, the company's net realizable value on outstanding accounts receivables declines, lowering its current assets. Because WC is CA - CL, the company's WC decreases for the period
Which of the following characteristics is a primary benefit of a JIT inventory system for raw materials? A. Decreases deliveries required to maintain production B. Increases standard delivery quantity C. Increases total number of suppliers to ensure competitive bidding D. Eliminates non-value-added operations
D. Eliminates non-value-added operations JIT is designed to minimize the amount of time inventory is kept on hand before it is utilized. Although the coordination requirements of the manufacturer and supplier are significant, the benefits include the alignment of production scheduling with demand, efficiencies for employees and for the flow of goods, and reduced setup time
As a company becomes more conservative with respect to working capital financing policy, it would tend to have a(n) A. Increase in the ratio of current liabilities to noncurrent liabilities. B. Decrease in the operating cycle. C. Decrease in the quick ratio. D. Increase in the ratio of current assets to noncurrent assets.
D. Increase in the ratio of current assets to noncurrent assets An increase in the ratio of current assets to non-current assets would be indicative of an increasingly conservative working capital policy. With no other information, an increase in current assets would indicate that a growing percentage of current assets are financed by non current liabilities and that, nominally, the absolute amount of working capital and the current ratio is improving
During year 2, Mason Company's CA increased by $120,000, CL decreased by $50,000 and net WC A. Decreased by $70,000 B. Decreased by $170,000 C. Increased by $70,000 D. Increased by $170,000
D. Increased by $170,000 Net WC is the difference between CA and CL. Because CA went up $120,000 and CL down by $50,000, the net effect is an increase in net working capital of $170,000
The working capital financing policy that subjects the firm to the greatest risk of being unable to meet the firm's maturing obligations is the policy that finances: A. Fluctuating current assets with LT Debt B. Permanent CA with LT Debt C. Fluctuating CA with ST Debt D. Permanent CA with ST Debt
D. Permanent CA with ST debt The WC financing policy that finances permanent current assets with short-term debt subjects the firm to the greatest risk of being unable to meet the firm's maturing obligations
Operating leverage
the degree to which a firm uses fixed operating costs, as opposed to variable operating costs. A firm that has high operating leverage has high fixed operating costs and relatively low variable operating costs and uses this cost structure to magnify the financial results of each additional dollar in sales
