Finc 342 Quiz 1 Multiple Choice

Consider the following data on LUC Corp: FCFF0 = $20 million; LUC has 255 million of 6% debt trading at par. LUC's cost of equity is 12%. LUC is assumed to maintain their capital structure at 50% debt. If FCFF are assumed to grow at 4% forever, what is the value of LUC's interest tax shield if it is assumed to be as risky as LUC's operations and the tax rate is 34%?

$104.04 million

You are trying to estimate a valuation for the cyber security firm, Internet Policing Organization (Ticker: IPO). You have collected a set of comparable companies with tickers IPOA, IPOB, IPOC, and IPOD, whose price-to-earnings multiples -16.7, 18.1, 19.4, and 13.6, respectively. If IPO currently has earning per share of $3.25, what is a reasonable estimate of IPO's share price?

$55.36

You are given the following data for Outsource Company: PV (of FCFFs for years 1-3) = $35 million; PV (terminal value) = $65 million. Suppose that the market value of the debt = $30 million. Calculate the total market value of equity of the firm.

$70 million

Consider the following data for Kriya Company: Year: 1 2 3 4 Free Cash Flow (FCF) (in millions): 4 5 6 6.24 A constant growth rate of 4 percent is sustained forever after year 3. The weighted average cost of capital is 10 percent. Calculate the present value of the terminal value (TV). (Assume that the TV is calculated as of year 3)

$78.1 million

Consider the following data: FCF1 = $7 million; FCF2 = $45 million; FCF3 = $55 million. Assume that free cash flow grows at a rate of 4 percent for year 4 and beyond. If the weighted average cost of capital is 10 percent, calculate the value of the firm.

$801.12 million

Consider the following data for Kriya Company: Year: 1 2 3 4 Free Cash Flow (FCF) (in millions): 4 5 6 6.24 A constant growth rate of 4 percent is sustained forever after year 3. The weighted average cost of capital is 10 percent. Calculate the value of the firm.

$90.4 million

A firm has a total market value of $10 million while its debt has a market value of $4 million. What is the after-tax weighted average cost of capital if the before-tax cost of debt is 10 percent, the cost of equity is 15 percent, and the tax rate is 21 percent? (Round to the nearest 0.1%)

12.2 percent

Suppose in the valuation of ABC Corporation, the terminal value (TV) is stated as 15 times year 2 (T) cashflow. At what constant rate (rounded to the nearest 0.01%) is FCFF expected to grow after year 2 (Reminder: WACC = 10%)?

3.13%

The ABC Corporation had FCFF of $200 million in the most recent year. ABC's WACC is 10%. If ABC's FCFF is expected to grow at 12% for each of the next 2 years, and then settle in at a constant rate of 4% per year from year 3 onward. ABC's value is equal to (rounded to the nearest million)

4005 million

Given the following data: Cost of debt = rD = 6.0%; Cost of equity = rE = 12.1%; Marginal tax rate = 21%; and the firm has 50 percent debt and 50 percent equity. Calculate the after-tax weighted average cost of capital (WACC)

8.42 percent

Which of the following is an important assumption required if using the WACC formula?

Companies rebalance their capital structure to maintain a constant debt ratio.

When financial distress is a possibility, the value of a levered firm is a function of: I) value of the firm if all-equity-financed; II) present value of tax shield; III) present value of costs of financial distress; IV) present value of omitted dividend payments

I + II − III

Which of the following as potential drivers of the value of a firm's Value-to-FCFF multiple: I) The firm's WACC II) The firm's ROA III) The expected growth rate of the firm's FCFF

I, II, and III

There are many different multiples that analysts use for the purposes of relative valuation, but the most commonly used multiples are price-to-earnings (PE), market-to-book (MB), and price-to-sales (PS). In what sense is PS internally inconsistent?

Sales are based on the firm's operations, available to all claimants, while Price refers to share price.

Why is it that in most situations, given the same definition of a firm's free cash flows from operations (& growth of said cash flows), as well as cost of debt and equity (and tax rate), the firm's value estimated using the WACC approach is higher than the value estimated using the APV model under the assumption of permanent debt?

Since the WACC approach implicitly assumes a fixed ratio of debt to equity, an assumption of permanent (i.e., fixed) debt is inconsistent with the assumption in the WACC approach.

What effect will subsidized loans have on APV?

They will increase the APV of a firm.

One calculates the after-tax weighted average cost of capital (WACC) as

WACC = rD (1 − TC)(D/V) + rE (E/V); (where V = D + E)

When one uses the after-tax weighted average cost of capital (WACC) to value a levered firm, the interest tax shield is

automatically considered because the after-tax cost of debt is included within the WACC formula.

The opportunity cost of capital, used to calculate the base-case for adjusted present value analyses, ra, can be thought of as

the WACC of an all-equity financed version of the firm

In our development of the adjusted present value (APV) model, we set up the following market value balance sheet: _____Assets_____________Liab & Eq__ Vu | D T | E _________________________________ V D + E This allowed us to characterize the firm's equity, E, as VU +T - D. This then allowed us to express the firm's cost of equity, re, as: Which led to our having to think about the riskiness of the firm's tax shields, rT. Ultimately we argued to assume rT = ra because

the greatest risk to the size of the tax shield is the uncertainty associated with how much the firm will borrow from year to year.