Chapter 13: Reading Assignment
Reason: $950,000 = Amount Raised × (1 - .05) Amount Raised = $1,000,000 Flotation Costs = $1,000,000 - 950,000 = $50,000
A firm needs to sell enough equity to raise $950,000 after covering the flotation costs of 5 percent. How much will it pay in flotation costs?
$50,000
A firm raises $1,000,000 in equity with flotation costs of 5%. How much will it pay in flotation costs?
equal to or greater than
A firm should only undertake a project if its expected return is ______ that of a financial asset of comparable risk.
The risk-free rate
According to the CAPM, what is the expected return on a stock if its beta is equal to zero?
flotation costs
An important advantage to a firm raising equity internally is not having to pay ___.
financial; operating
Changes in _________ leverage and ________ leverage will affect beta.
returns
Dividends and capital gains given to the new shareholders represent ______ to the shareholders.
bring new security issues to the market
Flotation costs are costs incurred to ____.
CAPM
For both academics and practitioners, the pendulum has swung over to the _______ for estimating the cost of equity capital.
similar
For debt, book values and market values are typically:
a discount rate commensurate with the project's risk
If a firm has multiple projects, each project should be discounted using ___.
its cost of equity
If a firm issues no debt, its average cost of capital will equal ___.
equity; cost
If the firm is all-________, the discount rate is equal to the firm's _________ of equity capital
equity
If the firm is all-equity, the discount rate is equal to the firm's cost of ______ capital.
7% Reason: (1-2)*7%= -7%
If the risk-free rate is 3 percent, the market risk premium is 7 percent, the industry beta is 1, and the firm beta is 2, the cost of equity will be ____ percent less if the industry beta is used instead of the firm beta. Multiple choice question.
-its stockholders -its bondholders
The WACC is the minimum return a company needs to earn to satisfy ___.
-beta -slope
The ____ of the characteristic line of a stock's returns versus those of the market measures the stock's systematic risk.
dividend; growth
The _______ discount model requires estimation of the dividend yield and _______ rate
supply
The cost of capital is an appropriate name since a project must earn enough to pay those who ______ the capital.
beta
The covariance between the stock and the market index's returns divided by the variance of the market index's returns represents the ________ for a company's stock
premium
The difference between the expected return on the market portfolio and the risk-free rate is the market risk _______.
all projects have the same risk as the current firm
The discount rate for the firm's projects equals the cost of capital for the firm as a whole when ___.
flotation
The issuance costs of bonds and stocks are referred to as ______ costs.
Rm-Rf
The market risk premium is defined as ___.
WACC
The method to determine the appropriate discount rate is to use the:
more
The sales of cyclical firms are ______ sensitive to the business cycle than are the sales of non-cyclical firms.
beta
The slope of the characteristic line of a firm's returns versus those of the market is the ___.
value
The weighted average cost of capital (RWACC) is the overall expected return the firm must earn on its existing assets to maintain its ___.
1 * Cost of equity
The weighted average cost of capital (WACC) formula, for a firm with no debt or preferred stock will have a WACC of:
-growth rate -dividend yield
To apply the dividend discount model to a particular stock, you need to estimate the ___.-
-stock's beta -risk-free rate -market risk premium
To estimate a firm's equity cost of capital using the CAPM, we need to know the ___.
False
True or false: Projects should always be discounted at the firm's overall cost of capital.
True
True or false: The correct discount rate on a project should be the expected return on a financial asset of comparable risk.
default
U.S. Treasury securities considered to be risk-free because they have minimal, if any, ____ risk.
-Dividends to common stockholders are not fixed -Dividends to preferred stockholders are fixed
What can we say about the dividends paid to common and preferred stockholders?
Weighted average cost of capital
What does WACC stand for?
Rs= Rf + beta * (Rm-Rf)
What is the CAPM formula?
horizon
When valuing a complete business enterprise, the same process that is used for individual projects can be used. However, the analysis is complicated because a _________ must be used, and a terminal firm value must be determined.
terminal
When valuing a firm with the weighted average cost of capital, the ________ value of the firm can be estimated by assuming a constant perpetual growth rate for cash flows beyond the horizon.
-Cost of preferred stock -Cost of common stock -Cost of debt
Which of the following are components used in the construction of the WACC?
-The cyclical nature of revenues -Operating leverage -Financial leverage
Which of the following are factors that affect beta?
-Book values are often similar to market values for debt. -Ideally, we should use market values in the WACC.
Which of the following are true?
-Variable costs change with changes in quantity -Fixed costs do not change as quantity changes
Which of the following are true?
Under U.S. tax law, a corporation's interest payments up to 30% of EBIT are tax deductible.
Which one of the following is true?
Fixed; variable
_________ costs do not change as the quantity sold changes while _________ costs do change as the quantity sold changes.
larger
he industry beta may be a better estimate than the firm's own beta due to the ______ standard error of the firm estimate.
internally generated cash flow
In reality, most firms cover the equity portion of their capital spending with ___.
False
True or false: If a firm stays in the same industry, its beta will never change.
-Changes in product line -Changes in leverage -Changes in technology
Which of the following can cause a firm's beta to change over time?
The covariance between the stock and the market index's returns.
Which of the following variables do we need to compute the beta for a company's stock?
1
A firm's target capital structure weights are evenly split between debt and equity. What is the firm's target debt-equity ratio?
required by investors
A project should only be accepted if its return is above what is ___.
$725,000
A project's NPV without flotation costs is $750,000 and its flotation costs are $25,000. What is the true NPV?
financial leverage
An increase in a firm' s level of debt is an example of ___.
