Exam 3 Conceptual

Which of the following is an example of a sunk cost

$1,200 paid to repair a machine last year

A company that utilizes the MACRS system of depreciation

will have a greater depreciation tax shield in year 2 than in year 1

How many diverse securities are required to eliminate the majority of the diversifiable risk from a portfolio?

10

What is the probability that small-companys stocks will produce an annual return that is more than one standard deviation below the average?

16 percent

Which one of the following time periods is associated with low rates of inflation?

2010-2013

Based on the period 1926-2013, the actual real return on large-company stocks has been around:

8.3 percent

Which one of the following indicates a portfolio is being effectively diversified?

A decrease in the portfolio standard deviation

Which one of the following statement is correct concerning bid prices?

A firm can submit a bid that is higher than the compute bid price and still break even

Which one of the following statements best defines the efficient market hypothesis?

All securities in an efficient market are zero net present value investment

Systematic risk is measured by

Beta

Which one of the following measures the amount of systematic risk present in a particular risky asset relative to the systematic risk present in an average risky asset?

Beta

Which of the following is a projected cash inflow? ignore any tax effects

Decrease in accounts receivable

Dan is comparing three machines to determine which one to purchase. The machines sell for differing prices, have differing operating costs, differing machine lives, and will be replaced when worn out. Which one of the following computational methods should Dan use as the basis for his decision?

Equivalent Annual Cost

The top down approach to computing the operating cash flow

Ignores non cash expenses

The stand-alone principle advocates that project analysis should be based solely on which one of the following costs?

Incremental

The operating cash flow for a project should exclude which one of the following?

Interest expense

Which one of the following is an example of systematic risk?

Investors panic causing security prices around the globe to fall precipitously

Individual investors who continually monitor the financial markets seeking mispriced securities:

Make the markets increasingly more efficient

Which one of the following is represented by the slope of the security market line?

Market risk premium

Which one of the following correctly describes the dividend yield?

Next year's annual dividend divided by today's stock prices

The option that is forgone so that an asset can be utilized by a specific project is referred to as which of the following?

Opportunity cost

The primary purpose of Blume's formula is to:

Project future rates of return

Which one of the following is least apt to reduce the unsystematic risk of a portfolio?

Reducing the number of sticks held in the portfolio

Which one of the following will be constant for all securities if the market is efficient and securities are priced fairly?

Reward-to-risk ratio

Which one of the following is a positively sloped linear function that is created when expected returns are graphed against security betas

Security Market line

An analysis that combines scenario analysis with sensitivity analysis is called ____ analysis

Simulation

Small-company stocks, as the term is used in the textbook, are best defined as the:

Smallest twenty percent of the firms listed on the NYSE

The fact that a proposed project is analyzed based on the project's incremental cash flows is the assumption behind which one of the following principles?

Stand-alone principle

The U.S. Securities and Exchange Commission periodically charges individuals with insider trading and claims those individuals have made unfair profits. Given this, you would be most apt to argue that the markets are less than _____ form efficient.

Strong

The current book value of a fixed asset that was purchased two years ago is used in the computation of which of the following?

Tax due on the salvage value of that asset

Which one of the following statements concerning US Treasury Bills is correct for the period 1926-2013?

The annual rate of return was always positive

Which one of the following best defines the variance of an investment's annual returns over a number of years?

The average squared difference between the actual returns and the arithmetic average return

The bottom up approach to computing the operating cash flow applies only when

The interest expense is equal to zero

Which one of the following characteristics relates the cash break-even point for a given project?

The project never pays back

The intercept point of the security market line is the rate of return which corresponds to:

The risk-free rate

Which one of the following categories of securities had the lowest average risk premium for the period 1926-2013?

US Treasury Bills

Which one of the following had the least volatile annual returns over the period of 1926-2013?

US Treasury Bills

Which one of the following statements is a correct reflection of the US markets for the period 1926-2013?

US Treasury Bills provided a positive rate of return yeah and every year during the period

Which one of the following statements related to unexpected returns is correct?

Unexpected returns can be either positive or negative in the short term but tend to be zero over the long-term

A news flash just appeared that caused about a dozen stocks to suddenly drop in value by 20%. What type of risk does this news flash best represent?

Unsystematic

Which one of the following risks is irrelevant to a well-diversified investor?

Unsystematic risk

The systematic risk of the market is measured by

a beta of 1.0

The depreciation tax shield is best defined as the:

amount of tax that is saved because of the depreciation expense

Changes in the net working capital requirements:

can affect the cash flows of a project every year of the project's life.

Unsystematic risk:

can be effectively eliminated by portfolio diversification.

The standard deviation of a portfolio

can be less than the standard deviation of the least risky security in the portfolio.

The standard deviation of a portfolio:

can be less than the weighted average of the standard deviations of the individual securities held in that portfolio.

Net working capital:

can relate either an initial cash inflow or outflow

Valerie just completed analyzing a project. Her analysis indicates that the project will have a 6-year life and require an initial cash outlay of $320,000. Annual sales are estimated at $589,000 and the tax rate is 34 percent. The net present value is a negative $320,000. Based on this analysis, the project is expected to operate at the:

cash break-even point

The net book value of equipment will

decrease slower under straight-line depreciation than under MACRS.

Sensitivity analysis determines the

degree to which the net present value reacts to changes in a single variable.

You would like to know the minimum level of sales that is needed for a project to be accepted based on its NPV. to determine sale level you should compute the

financial break-even point

As the degree of sensitivity of a project to a single variable rises, the:

greater is the importance of accurately predicting the value of thatt variable

To convince investors to accept greater volatility, you must:

increase the risk premium

Evidence seems to support the view that studying public information to identify mispriced stocks is:

ineffective

The market rate of return is 11 percent and the risk-free rate of return is 3 percent. Lexant stock has 3 percent less systematic risk than the market and has an actual return of 12 percent. This stock:

is underpriced

As long as the inflation rate is positive, the real rate of return on a security will be ____ the nominal rate of return.

less than

The best case values used in scenario analysis are the values considered to be mist:

likely to occur

by definition, what must equal zero at the accounting break even?

net income

a decrease in which one of the following will increase the accounting break-even quantity? assume straight-line depreciation is used and ignore taxes

sales price per unit

Which one of the following statements concerning scenario analysis is correct

scenario analysis helps managers analyze various outcomes that are possible given reasonable ranges for each of the assumptions

Which type of analysis identifies the variable or variables that are most crucial to the success of a particular project

sensitivity

Which one of the following types of analysis is the most complex to conduct

simulations

The market risk premium is computed by:

subtracting the risk-free rate of return from the market rate of return.

The bid price is:

the minimum price that will provide your target rate of return

The average annual return on small-company stocks was about ___ percent greater than the average annual return on large-company stocks over the period 1926-2013

5

Which one of the following statements is correct concerning market efficiency?

A firm will generally receive a fair price when it issues new shares of stock if the market is efficient

The equivalent annual cost considers all of the following except the

Costs of research conducted to identify equipment choices

Assume you are considering two mutually exclusive machines and need to select one for a cost-cutting project. Which one of these sets of characteristics best indicates the use of the equivalent annual cost method of analysis?

Differing lives and planned replacement at end of life

The annual annuity stream of payments that has the same present value as a project's costs is referred to as which one of the following?

Equivalent annual cost

Which one of the following is most directly affected by the level of systematic risk in a security?

Expected rate of return

Assume a project has a discounted payback that equals the project's life. The project's sales quantity must be at which one of these break-even points?

Financial

Generally speaking, which of the following most correspond to a wide frequency distribution? I. Relatively low risk II. Relatively low rate of return III. Relatively high standard deviation IV. Relatively large risk premium

High standard deviation, large risk premium

Which of the following statements are correct concerning diversifiable risk? I. Diversifiable risks can be essentially eliminated by investing in 30 unrelated securities II. there is no reward for accepting diversifiable risk III. Diversifiable risks are generally associated with an individual firm or industry IV. beta measures diversifiable risk

I, II, and III only

Which of the following values will be equal to zero when a firm is operating at the accounting break-even level of output

IRR and net income

Assume both the discount and tax rates are positive values. At the financial break-even point, the:

IRR equals the required return

Pro forma statements for a proposed project should generally do all of the following except

Include interest expense

All of the following are related to a proposed project. Which one of these should be included in the cash flow at Time 0?

Initial investment in inventory to support the project

Which of the following categories of securities had the highest average return for the period 1926-2013?

Small company stocks

The ____ tells us that the expected return on a risky asset depends only on that asset's nondiversifiable risk.

Systematic risk principle

Which one of the following best describes the concept of erosion?

The cash flows of a new project that come at the expense of a firm's existing cash flows

Efficient financial markets fluctuate continuously because:

The markets are continually reacting to new information

The bid price always assumes which one of the following

The net present value of the project is zero

Which form of market efficiency would most likely offer the greatest profit potential to an outstanding professional stock analysis?

Weak

The expected return on a stock given various states of the economy is equal to the

Weighted average of the returns for each economic state

The equivalent annual cost method is useful in determining

Which one of two machines should be purchased when the machines are mutually exclusive, have different lives, and will be replaced at the end of their lives

Which one of the following is the mist indicative of a totally efficient stock market?

Zero net present values for all stock investments

The principle of diversification tells us that:

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

A project has a payback period that exactly equals the project's life. The project is operating at

the accounting break-even point

The excess return earned by an asset that has a beta of 1.34 over that earned by a risk free asset is referred to as the:

risk premium

The expected risk premium on a stock is equal to the expected return on the stock minus the:

risk-free rate

Which one of the following statements is correct concerning a portfolio beta?

A portfolio beta is a weighted average of the betas of the individual securities contained in the portfolio

Which one of the following statements is correct?

A project can create a positive operating cash flow without affecting sales.

Which one of the following is the best example of a diversifiable risk?

A firm's sale decreases

Which one of the following is the depreciation method that allows accelerated write-offs of property under various lifetime classifications?

ACRS

What was the highest annual rate of inflation during the period 1926-2013?

Between 15 and 20 percent

What was the average rate of inflation over the period of 1926-2013?

Between 2.8 and 3.2 percent

Assume you invest in a portfolio of U. S. Treasury bills and that the portfolio will earn a rate of return similar to the average return on U.S. Treasury bills for the period 1926-2013. What rate of return should you expect to earn?

Between 3 and 4 percent

Which of the following statements are true based on the historical record for 1926-2013?

Bonds are generally a safer investment than stocks

Which one of the following is an example of unsystematic risk?

Consumer spending on entertainment decreased nationally

Treynor Industries is investing in a new project. The minimum rate of return the firm requires on this project is referred to as the:

Cost of capital

Which of the following best describes pro forma financial statements?

Financial statements showing projected values for future time periods

Which one of the following statements is correct?

Over time, the average unexpected return will be zero.

Last year, T-bills returned 2% while your investment in large-company stocks earned an average of 5%. Which one of the following terms refers to the difference between these two rates of return?

Risk Premium

The ___ of a security divided by the beta of that security is equal to the slope of the security market line if the security is priced fairly

Risk premium

Steve is fairly cautious when analyzing a new project and thus he projects the most optimistic, the most realistic, and the most pessimistic outcome that can reasonably be expected. Which type of analysis is Steve using?

Scenario analysis

situation analysis is based on assigning a ____ and analyzing the results

Wide range of values to multiple variables simultaneously

The operating cash flow of a cost-cutting project:

can be positive even though there are no sales

When the operating cash flow of a project is equal to zero, the project is operating at the

cash break-even point

Which one of these is most associated with an IRR of -100%

cash break-even point

Assume all stock prices fairly reflect all of the available information on those stocks. Which one of the following terms best defines the stock market under these conditions?

Efficient Capital Market

The reward-to-risk ratio for stock A is less than the reward-to-risk ratio of stock B. Stock A has a beta of 0.82 and stock B has a beta of 1.29. This information implies that:

Either stock A is overpriced or stock B is underpriced or both

The primary purpose of portfolio diversification is to:

Eliminate asset-specific risk

Which one of the following statements is correct concerning unsystematic risk?

Eliminating unsystematic risk is the responsibility of the individual investor

Decreasing which one of the following will increase the acceptability of a project

Equivalent annual cost

You own a stock that you think will produce a return of 11 percent in a good economy and 3 percent in a poor economy. Given the probabilities of each state of the economy occurring, you anticipate that your stock will earn 6.5 percent next year. Which one of the following terms applies to this 6.5 percent?

Expected Return

Which of the following variables will be forecast at their highest expected level under a worst case scenario?

Fixed and variable costs

The average compound return earned per year over a multiyear period is called the ____ average return

Geometric

Which one of the following is an example of diversifiable risk? I. Earthquake damages an entire town II. Federal government imposes a $100 fee on all business entities III. Employment taxes increase nationally IV. Toymakers are required to improve their safety standards

I and IV only

Which one of the following statements is correct based on the historical record for the period 1926-2013?

Long-term government bonds had a lower return but a higher standard deviation on average than did long-term corporate bonds

Which one of the following statements is correct based on the period 1926-2013?

Long-term government bonds had more volatile annual returns than did the long-term corporate bonds

Which one of the following is a correct ranking of securities based on the volatility of their annual returns over the period 1926-2013? Rank highest to lowest

Long-term government bonds, long-term corporate bonds, intermediate-term government bonds

The expected rate of return on a stock portfolio is a weighted average where the weights are based on the:

Market value of the investment in each stock

Suzie owns five different bonds valued at $36,000 and twelve different stocks valued at $82,500 total. Which one of the following terms most applies to Suzie's investments?

Portfolio

Steve has invested in twelve different stocks that have a combined value today of $121,300. Fifteen percent of that total is invested in Wise Man Foods. The 15% is a measure of which of the following?

Portfolio weight

Which one of the following best illustrates erosion as it relates to a hot dog stand located on the beach?

Selling fewer hot dogs because hamburgers were added to the menu

Frank's is a furniture store that is considering adding appliances to its offerings. Which one of the following is the best example of an incremental cash flow related to the appliances?

Selling furniture to appliance customers

An analysis of the change in a project's NPV when a single variable is changed is called _____ analysis.

Sensitivity

Which one of the following categories of securities had the most volatile annual returns over the period 1926-2013?

Small-company stocks

Which one of the following is a risk that applies to most securities?

Systematic

Stacy purchased a stock last year and sold it today for $3 a share more than her purchase price. She received a total of $0.75 in dividends. Which one of the following statements is correct in relation to this investment?

The capital gains yield is positive

Which one of the following statements related to risk is correct?

The systematic risk of a portfolio can be effectively lowered by adding T-bills to the portfolio

Which one of the following events would be included in the expected return on Sussex Stock?

This morning, Sussex confirmed that its CEO is retiring at the end of the year as was anticipated

Standard deviation measures which type of risk

Total

Which one of the following statements correctly applies to the period 1926-2013?

US Treasury bills had a positive average real rate of return

Standard deviation is a measure of which of the following?

Volatility

Increasing which one of the following will increase the operating cash flow assuming that the bottom-up approach is used to compute the operating cash flow?

depreciation expense

Scenario analysis is defined as the:

determination of changes in NPV estimates when what-if questions are posed

Which one of the following represents the level of output where a project produces a rate of return just equal to its requirement

financial break-evne

Scenario analysis is best suited to accomplishing which one of the following when analyzing a project?

identifying the potential range of reasonable outcomes

If a stock portfolio is well diversified, then the portfolio variance:

may be less than the variance of the least risky stock in the portfolio

The real rate of return on a stock is approximately equal to the nominal rate of return:

minus the inflation rate

When you assign the highest anticipated sales price and lowest anticipated costs to a project, you are analyzing the project under the condition known as

worst case scenario analysis

Which one of the following costs was incurred in the past and cannot be recouped?

Sunk

A stock with an actual return that lies above the security market line has:

A higher return than expected for the level of risk assumed

The expected return on a stock computed using economic probabilities is:

A mathematical expectation based on a weighted average and not an actual anticipated outcome

Which one of the following would make a mutually exclusive project unacceptable?

An equivalent annyal cost that exceeds that of an alternative project

Which one of the following statements related to capital gains is correct?

An increase in an unrealized capital gain will increase the capital gains yield

Which one of the following will increase a bid price?

An increase in the required rate of return

The return earned in an average year over a multiyear period is called the ____ average return

Arithmetic

Which one of the following is the formula that explains the relationship between the expected return on a security and the level of that security's systematic risk?

Capital asset pricing model

Which of the following yields on a stock can be negative?

Capital gains yield and total return

The excess return is computed as the:

return on a risky security minus the risk-free rate.

If the variability of the returns on large-company stocks were to decrease over the long-term, you would expect which of the following to occur as a result?

Decrease in the 68 percent probability range of returns

Bayside Marina just announced it is decreasing its annual dividend from $1.64 per share to $1.50 per share effective immediately. If the dividend yield remains at its pre-announcement level, then you know the stock price:

Decreased proportionately with the dividend decrease

Which of the following statements concerning risk are correct? I. Non diversifiable risk is measured by beta II. The risk premium increases as diversifiable risk increases III. systematic risk is another name for non diversifiable risk IV. Diversifiable risks are market risks you cannot avoid

I and III only

Which one of the following statements is correct concerning a portfolio of 20 securities with multiple states of the economy when both the securities and the economic states have unequal weights?

Given both the unequal weights of the securities and the economic states, and investor might be able to create a portfolio that has an expected standard deviation of zero

Kelley's Baskets makes handmade baskets for distribution to upscale retail outlets. The firm is currently considering making handmade wreaths as well. Which one of the following is the best example of an incremental operating cash flow related to the wreath project?

Hiring additional employees to handle the increased workload should the firm accept the wreath project

The expected return on a portfolio considers which of the following factors? I. Percentage of the portfolio invested in each individual security II. Projected states of the economy III. The performance of each security given various economic states IV. Probability of occurrence for each state of the economy

I, II, III, IV

The expected return on a portfolio: I. can never exceed the expected return of the best performing security in the portfolio II. must be equal to or greater than the expected return of the worst performing security in the portfolio III. Is undefended of the unsystematic risks of the individual securities held in the portfolio IV. Is independent of the allocation of the portfolio amongst individual securities

I, II, and III only

The capital asset pricing model (CAPM) assumes which of the following? I. A risk-free asset has no systematic risk II. Beta is a reliable estimate of total risk III. The reward-to-risk ratio is constant IV. The market rate of return can be approximated

I, III, and IV only

At a minimum, which of the following would you need to know to estimate the amount of additional reward you will receive for purchasing a risky asset instead of a risk-free asset? I. asset's standard deviation II. asset's beta III. risk-free rate of return IV. market risk premium

II and IV only

The difference between a firm's future cash flows if it accepts a project and the firm's future cash flows if it does not accept the project is referred to as the project's:

Incremental cash flow

You are considering the purchase of a new machine. Your analysis includes the evaluation of two machines that have differing initial and ongoing costs and differing lives. Whichever machine is purchased will be replaced at the end of its useful life. You should select the machine that has the:

Lowest equivalent annual cost

According to CAPM, the amount of reward an investor receives for bearing the risk of an individual security depends upon the:

Market risk premium and the amount of systematic risk inherent in the security

Which one of the following statements related to market efficiency tends to be supported by current evidence?

Markets tend to respond quickly to new information

Which one of the following should not be included in the analysis of a new project?

Money already spent for research and development of the new product

Which of the following is defined by its mean and its standard deviation?

Normal distribution

Estimates of the rate of return on a security based on a historical arithmetic average will probably tend to _____ the expected return for the long-term and estimates using the historical geometric average will probably tend to _____ the expected return for the short-term.

Overestimate; underestimate

A firm's managers realize they cannot monitor all aspects of their projects but do want to maintain a constant focus on the key aspect of each project in an attempt to maximize their firm's value. Given this specific desire, which type of analysis should they require for each project and why?

Sensitivity analysis; to identify the key variable that affects a project's profitability

Which one of the following earned the highest risk premium over the period 1926-2013?

Small-company stocks

The historical record for the period 1926-2013 supports which one of the following statements?

Small-company stocks have lost as much as 50 percent and gained as much as 100 percent in a single year

Total risk is measured by _____ and systematic risk is measured by _____.

Standard deviation; beta

Which one of the following should earn the most risk premium based on CAPM?

Stock with a beta of 1.38

Inside information has the least value when financial markets are:

Strong form efficient

G & L Plastic Molders spent $1,200 last week repairing a machine. This week the company is trying to decide if the machine could be better utilized if they assigned it a proposed project. When analyzing the proposed project, the $1,200 should be treated as which type of cost?

Sunk

Which one of the following is the mist likely reason why a stock price might not react at all on the day that new information related to the stock's issuer is released? Assume the market is semi strong form efficient

The information was expected

Dexter Smith & Co. is replacing a machine simply because it has worn out. The new machine will not affect either sales or operating costs and will not have any salvage value at the end of its 5-year life. The firm has a 34 percent tax rate, uses straight-line depreciation over an asset's life, and has a positive net income. Given this, which one of the following statements is correct?

The new machine will generate positive operating cash flows

Webster Iron Works started a new project last year. As it turns out, the project has been operating at its accounting break-even level of output and is now expected to continue at that level over its lifetime. Given this, you know that the project:

is operating at a higher level than if it were operating at its cash break-even level.

by definition, what must equal zero at the cash break-even point?

operating cash flow

You are aware that your neighbor trades stocks based on confidential information he overhears at his workplace. This information is not available to the general public. This neighbor continually brags to you about the profits he earns on these trades. Given this, you would tend to argue that the financial markets are at best _____ form efficient.

semi strong