Business Finance: Final Exam Study Guide (Ch1-Ch8)

(Ch1) Which one of the following is the financial statement that shows a financial snapshot, taken at a point in time, of all the assets the company owns and all the claims against those assets?

Balance Sheet

(Ch2)In comparison to industry averages, Okra Corp. has a low inventory turnover, a high current ratio, and an average quick ratio. Which of the following would be the most reasonable inference about Okra Corp.?

Its inventory level is too high.

(Ch5) Which of the following statements regarding junk bonds is true?

Junk bonds have higher priority in bankruptcy than preferred stock.

(Ch1) Which of the following formulas describes the calculation of cash flow from operating activities?

Net income + Noncash items +/− Changes in current assets and liabilities

(Ch1) A company purchases a new $10 million building financed half with cash and half with a bank loan. How would this transaction affect the company's balance sheet?

Net plant and equipment rises $10 million; cash falls $5 million; bank debt rises $5 million.

(Ch5) Which of the following statements regarding preferred stock is true?

None of the options are correct

(Ch7) A divisional manager submitted a project proposal to the chief financial officer, complete with a calculated NPV for the project. The chief financial officer studied the proposal and pointed out that the divisional manager had failed to account for a one-time increase in net working capital of $60,000 that will be required over the life of the seven-year project. Assuming the full value of net working capital will be recovered at the end of the project, how will the project's NPV change after making the chief financial officer's adjustment? Assume a discount rate of 9%.

None of the options are correct.

(Ch6) Which of the following statements regarding interest tax shields is correct?

Taxable income is reduced by the amount of the interest on a firm's debt.

(Ch2) Ptarmigan Travelers had sales of $420,000 in 2016 and $480,000 in 2017. The firm's current asset accounts remained constant. Given this information, which one of the following statements must be true?

The collection period decreased.

(Ch7) You are the beneficiary of a life insurance policy. The insurance company informs you that you have two options for receiving the insurance proceeds. You can receive a lump sum of $200,000 today or receive payments of $1,400 a month for 20 years. You can earn a 6-percent annual rate on your money, compounded monthly. Which option should you take and why?

You should accept the $200,000 lump sum because the monthly payments are only worth $195,413 to you today.

(Ch5) Which of the following securities has a purely residual claim against a firm's cash flows?

common stock

(Ch5) Mike just purchased a bond which pays $40 every six months in interest. The $40 interest payment is also called the

coupon

(Ch1)Which one of the following is a source of cash?

decrease in accounts recievable

(Ch2) A times-interest-earned ratio of 3.5 indicates that the firm

has EBIT equal to 3.5 times its interest expense

(Ch1) Which one of the following is the financial statement that summarizes a firm's revenue and expenses over a period of time?

income statement

(Ch1) Which one of the following is a source of cash?

increase in accounts payable

(Ch2) Breakers Bay Inc. has succeeded in increasing the amount of goods it sells while holding the amount of inventory on hand at a constant level. Assume that both the cost per unit and the selling price per unit also remained constant. All else held constant, how will this accomplishment be reflected in the firm's financial ratios?

increase in the inventory turnover rate

(Ch5) Individuals who continually monitor the financial markets seeking mispriced securities

make the markets increasingly more efficient.

(Ch5) Zack owns a bond that will pay him $35 each year in interest plus a $1,000 principal payment at maturity. The $1,000 principal payment is called the

par value

(Ch1) Depreciation expense

reduces both taxes and net income. Correct

(Ch8) A firm is considering an average-risk project with an IRR of 6%. The firm's cost of debt (KD) is 5%, its cost of equity (KE) is 12%, and its tax rate (t) is 20%. The target debt ratio (D/(D+E)) for the project, in market values, is 0.5. The firm should

reject the project regardless of the financing method.

(Ch8) When investment returns are less than perfectly positively correlated, the resulting diversification effect means that

spreading an investment across many diverse assets will eliminate some of the total risk.

(Ch6) Homemade leverage is

the borrowing or lending of money by individual shareholders as a means of adjusting their level of financial leverage.

(Ch2) Assume you are a banker who has loaned money to a firm, but that firm is now facing increased competition and reduced cash flows. Which one of the following ratios would you most closely monitor to evaluate the firm's ability to repay its loan?

times-burden-covered ratio

(Ch1) JM Case Inc. has a market value of $5 million with 500,000 shares outstanding. The book value of its equity is $1,750,000. What is JM Case's price per share

$10

(Ch5) A $1,000 par value bond with a fixed 10% rate of interest pays coupons semiannually. What amount will the bondholder receive on the bond's maturity date?

$1050

(Ch7)Sol's Sporting Goods is expanding and, as a result, expects additional operating cash flows of $26,000 a year for 4 years. This expansion requires $39,000 in new fixed assets. These assets will be worthless at the end of the project. In addition, the project requires an additional $3,000 of net working capital throughout the life of the project; Sol expects to recover this amount at the end of the project. What is the net present value of this expansion project at a 16-percent required rate of return?

$32,409.57

(Ch7)Your brother will borrow $17,800 to buy a car. The terms of the loan call for monthly payments for 5 years at an 8.6-percent annual interest rate, compounded monthly. What is the amount of each payment?

$366.05

(Ch7) You are to receive an annuity of $1,000 per year for 10 years. You will receive the first payment two years from today. At a discount rate of 10%, what is the present value of this annuity?

$5,585.97

(Ch6) Salinas Corporation has net income of $15 million per year on net sales of $90 million per year. It currently has no long-term debt but is considering a debt issue of $20 million. The interest rate on the debt would be 7%. Salinas Corp. currently faces an effective tax rate of 40%. What would be the annual interest tax shield to Salinas Corp. if it goes through with the debt issuance?

$560,000

(Ch6)Please refer to the financial information for Squamish Equipment above. For next year, calculate Squamish's earnings per share if Squamish sells 2 million new shares at $20 a share.

2.00

(Ch6) Please refer to the financial information for Squamish Equipment above. For next year, calculate Squamish's times-burden-covered ratio if Squamish sells 2 million new shares at $20 a share.

2.10

(Ch6) Please refer to the financial information for Squamish Equipment above. Calculate Squamish's earnings per share next year assuming Squamish raises $40 million of new debt at an interest rate of 7 percen

2.12

(Ch2) Please refer to the financial data for Link, Inc. above. The current ratio for Link at the end of 2017 is

2.76

(Ch2) Please refer to the financial data for Link, Inc. above. Assume a 365-day year for your calculations. Link's collection period in days, based on sales, at the end of 2017 is

28.8.

(Ch8) Please refer to the information for FM Foods above. Estimate FM's after-tax cost of debt capital.

4.10%

(Ch6) Please refer to the financial information for Squamish Equipment above. Calculate Squamish's times-interest-earned ratio for next year assuming the firm raises $40 million of new debt at an interest rate of 7 percen

4.35

(Ch7) TTT Corporation reported earnings per share of $2.52 in 2012 and $3.15 in 2017. At what compound annual rate did earnings per share grow over this period?

4.56%

(Ch7) You plan to pay $50 for a share of preferred stock that pays a $2.40 dividend per year forever. What annual rate of return will you realize?

4.80%

(Ch1) Which of the following would NOT be considered a use of cash?

Depreciation

(Ch7) Your grandmother invested a lump sum 26 years ago at 4.25-percent interest. Today, she gave you the proceeds of that investment which totaled $51,480.79. How much did she originally invest?

$17,444.86

(Ch7)In a discounted cash flow analysis of Giant Corp.'s project described in the problem above, what would be the projected Year 2 free cash flow?

$1750

(Ch7) A project will produce after-tax operating cash inflows of $3,200 a year for 5 years. The after-tax salvage value of the project is expected to be $2,500 in year 5. The project's initial cost is $9,500. What is the net present value of this project if the required rate of return is 16 percent?

$2,168.02

(Ch7)Naomi plans on saving $3,000 a year and expects to earn an annual rate of 10.25 percent. How much will she have in her account at the end of 45 years?

$2,333,572

(Ch1) Suppose an acquiring firm pays $100 million for a target firm, and the target's assets have a book value of $70 million and an estimated replacement value of $80 million. What amount would be allocated to the acquiring firm's goodwill account?

$20Million

(Ch7) What is the difference in the value of a $5,000 annual perpetuity and an annuity of $5,000 for 100 years? Assume that the discount rate is 8% and that cash flows are received at the end of the year.

$28

(Ch2) At the end of 2017, Stacky Corp. had $500,000 in liabilities and a debt-to-assets ratio of 0.5. For 2017, Stacky had an asset turnover of 3.0. What were annual sales for Stacky in 2017?

$3,000,000

(Ch7)In a discounted cash flow analysis of Giant Corp.'s project described in the problem above, what would be the projected Year 1 free cash flow?

$600

(Ch2)Please refer to the income statement for VGA Associates below. Assuming that cost of goods sold are variable and operating expenses are fixed, what was VGA Associates' breakeven sales volume in 2017?

$80,000

(Ch7) EAC Nutrition offers a 9.5-percent coupon bond with annual payments maturing 11 years from today. Your required return is 11.2 percent. What price are you willing to pay for this bond if the face (or par) value is $1,000?

$895.43

(Ch7) You plan to buy a new Mercedes four years from now. Today, a comparable car costs $82,500. You expect the price of the car to increase by an average of 4.8 percent per year over the next four years. How much will your dream car cost by the time you are ready to buy it?

$99,517.41

(Ch5) You bought a yen-denominated corporate bond at the beginning of the year for ¥100,000. The bond paid 3 percent annual interest and was trading for ¥110,000 at year-end. The exchange rate was $1 = ¥100 at the beginning of the year and $1 = ¥122 at year-end. What holding period return, measured in U.S. dollars, did you earn on the bond?

-7.38%

(Ch7) What is the benefit-cost ratio for an investment with the following cash flows at a 14.5-percent required return?

1.02

(Ch5) At the end of 2016, Crane Industries, Inc.'s stock price was $30.75. A year later, it was $34.88. Per share dividends over the year were $0.55, while earnings per share were $1.33. What rate of return did the common stockholders earn in fiscal year 2017

1.79%

(Ch8) Please refer to the information for FM Foods above. Estimate FM's weighted-average cost of capital.

11.27%

(Ch8) Please refer to the information for FM Foods above. Estimate the appropriate weight of debt to be used when calculating FM's weighted-average cost of capital.

11.5%

(Ch8) Please refer to the information for FM Foods above. Estimate FM's after-tax cost of equity capital.

12.20%

(Ch8) Honest Abe's is a chain of furniture retail stores. Integral Designs is a furniture maker and a supplier to Honest Abe's. Honest Abe's has a beta of 1.38 as compared to Integral Designs' beta of 1.12. Both firms carry no debt, i.e., are 100% equity financed. The risk-free rate of return is 3.5 percent and the market risk premium is 8 percent. What discount rate should Honest Abe's use if it considers a project that involves the manufacturing of furniture?

12.46%

(Ch5) You bought a yen-denominated corporate bond at the beginning of the year for ¥100,000. The bond paid 3 percent annual interest and was trading for ¥110,000 at year-end. What holding period return, measured in yen, did you earn on the bond?

13%

(Ch5) Carbon8 Corporation wants to raise $120 million in a seasoned equity offering, net of all fees. Carbon8 stock currently sells for $28.00 per share. The underwriters will require a fee of $1.25 per share, and indicate that the issue must be underpriced by 7.5%. In addition to the underwriter's fee, the firm will incur $785,000 in legal, administrative, and other costs. How many shares must Carbon8 sell in order to raise the desired amount of capital?

4.9million

(Ch2)Please refer to the financial data for Link, Inc. above. Assume a 365-day year for your calculations. Link's inventory turnover, based on cost of goods sold, at the end of 2017 is

5.2

(Ch2) What is the length of the cash conversion cycle for a firm with $3 million in inventory, $1.5 million in accounts payable, a collection period of 40 days, and an annual cost of goods sold of $18 million?

70.4 days

(Ch6) JKL Corporation has a projected times-interest-earned ratio of 4.0 for next year. What percentage could EBIT decline next year before JKL's times-interest-earned ratio would fall below 1.0?

75%

(Ch8) Please refer to the information for FM Foods above. Estimate the appropriate weight of equity to be used when calculating FM's weighted-average cost of capital.

88.5%

(Ch5)In March, with the spot price of wheat at $5.75 per bushel, Hollywood Bakery longs 100 July wheat futures contracts (5,000 bushels each) on the CBOE at a futures price of $5.90 per bushel. In June, Hollywood Bakery closes out its futures contracts when the futures price is $5.80 per bushel. What is Hollywood Bakery's gain (or loss) on the futures contracts?

A loss of $50,000

(Ch6) When considering the impact of distress costs on capital structure, which of the following facts should lead ABC Corporation to set a higher target debt ratio than XYZ Corporation (all else equal)?

ABC's cash flows from operations are less volatile than XYZ's.

(Ch2) Which one of the following ratios identifies the amount of sales a firm generates for every $1 in assets?

Asset Turnover

(Ch1) A balance sheet reports the value of a firm's assets, liabilities, and equity

At any point in time

(Ch5) Which of the following securities has a purely fixed claim against a firm's cash flows?

Bonds

(Ch1) The sources and uses of cash over a stated period of time are reflected in the

Cash Flow Statement

(Ch1) A company sells used equipment with a book value of $100,000 for $250,000 cash. How would this transaction affect the company's balance sheet?

Cash rises $250,000; net plant and equipment falls $100,000; equity rises $150,000.

(Ch5) Which one of the following accurately orders the rate of return on financial securities from highest to lowest over most of recorded market history (the 1928-2016 period)?

Common stocks, long-term corporate bonds, long-term government bonds, short-term government bills

(Ch2)Ellsbury Corporation has a goal to reduce its cash conversion cycle. Which of the following actions, holding all else equal, is likely to accomplish this goal?

Ellsbury increases the efficiency of its production process, reducing by 10% the average time it takes to convert raw materials to finished products

(Ch5)Which one of the following statements is true?

Historically, common shareholders have earned a risk premium as compensation for risk borne in excess of government bonds.

(Ch7) Which of the following figures of merit does not directly take into consideration the time value of money? I. Payback period II. Internal rate of return III. Net present value (NPV) IV. Accounting rate of return

I & IV only

(Ch7) Which of the following statements related to the internal rate of return (IRR) are correct? I. The IRR is the discount rate at which an investment's NPV equals zero. II. An investment should be undertaken if the discount rate exceeds the IRR. III. The IRR tends to be used more than net present value simply because its results are easier to comprehend. IV. The IRR is the best tool available for deciding between mutually exclusive investments.

I and III only

(Ch7) Which of the following figures of merit might not use all possible cash flows in its calculations? I. Payback period II. Internal rate of return III. Net present value (NPV) IV. Benefit-cost ratio

I only

(Ch2) Which of these ratios, or levers of performance, are the determinants of ROE? I. profit margin II. financial leverage III. times interest earned IV. asset turnover

I, II, and IV only

(Ch7) Which of the following should be included in the cash flow projections for a new product? I. Money already spent for research and development of the new product II. Capital expenditures for equipment to produce the new product III. Increase in working capital needed to finance sales of the new product IV. Interest expense on the loan used to finance the new product launch

II and III only

(Ch8) Please refer to the information for FM Foods above. FM is contemplating an average-risk investment costing $100 million and promising an annual after-tax cash flow of $15 million in perpetuity. Which of the following statements is/are correct? (I)-FM should reject the project because the IRR is greater than the firm's WACC. (II)-FM should accept the project because the IRR is greater than the firm's WACC. (III)-FM should accept the project because the NPV is greater than zero. (IV)-FM should reject the project because the NPV is less than zero.

II and III only -FM should accept the project because the IRR is greater than the firm's WACC -FM should accept the project because the NPV is greater than zero

(Ch2) Which of the following ratios are measures of a firm's liquidity? I. fixed asset turnover ratio II. current ratio III. debt-equity ratio IV. acid test

II and IV only

(Ch7) Ian is going to receive $20,000 six years from now. Sunny is going to receive $20,000 nine years from now. Which one of the following statements is correct if both Ian and Sunny apply a 7-percent discount rate to these amounts?

In today's dollars, Ian's money is worth more than Sunny's.

(Ch1) Which one of the following is a use of cash?

Increase In Inventory

(Ch8) Total risk is measured by _____, and systematic risk is measured by ____.

Standard Deviation, Beta

(Ch1) The book value of a firm is

based on historical cost.

(Ch7) Giant Corp. is considering a project that requires a $1,500 initial cost for a new machine that will be depreciated straight line to a salvage value of 0 on a 5-year schedule. The project will require a one-time increase in the level of net working capital of $300. The project will generate an additional $1,600 in revenues and $700 in operating expenses each year. The project will end at the end of year 2, at which time the machinery is expected to be sold for $800. Giant's tax rate is 50%. In a discounted cash flow analysis of this project, what would be the projected Year 0 free cash flow?

−$1,800