Exam 3 Finance Jackson

A stock is expected to return 13 percent in an economic boom, 10 percent in a normal economy, and 3 percent in a recessionary economy. Which one of the following will lower the overall expected rate of return on this stock?

A decrease in the probability of an economic boom

Which one of the following portfolios will have a beta of zero?

A portfolio comprised solely of U. S. Treasury bills

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

A warehouse fire

Which one of the following refers to a method of increasing the rate at which an asset is depreciated?

Accelerated cost recovery system

Which one of the following methods of analysis ignores cash flows?

Average accounting return

Which one of the following is the minimum required rate of return on a new investment that makes that investment attractive?

Cost of capital

Katie owns 100 shares of ABC stock. Which one of the following terms is used to refer to the return that Katie and the other shareholders require on their investment in ABC?

Cost of equity

Which one of the following will increase the operating cash flow as computed using the tax shield approach?

Decrease in fixed costs

Which one of these is the best example of systematic risk?

Decrease in gross domestic product

The net present value profile illustrates how the net present value of an investment is affected by which one of the following?

Discount rate

Which one of the following terms is most commonly used to describe the cash flows of a new project that are simply an offset of reduced cash flows for a current project?

Erosion

Mary owns a risky stock and anticipates earning 16.5 percent on her investment in that stock. Which one of the following best describes the 16.5 percent rate?

Expected return

You want to use the pure play approach to assign a cost of capital to a proposed investment. Which one of the following characteristics should you most concentrate on as you search for an appropriate pure play firm?

Firm operations

Which one of the following statements is correct?

If the internal rate of return equals the required return, the net present value will equal zero.

Which of the following create cash inflows from net working capital?

Increase in accounts payable and decrease in inventory

Which one of these represents systematic risk?

Increase in consumption created by a reduction in personal tax rates

Which one of the following will increase the cost of equity, all else held constant?

Increase in the dividend growth rate

Which one of the following will affect the capital structure weights used to compute a firm's weighted average cost of capital?

Increase in the market value of the firm's common stock

Which one of the following terms refers to the best option that was foregone when a particular investment is selected?

Opportunity cost

Turner Industries started a new project three months ago. Sales arising from this project are significantly less than anticipated. Given this, which one of the following is management most apt to implement?

Option to abandon

Stock A comprises 28 percent of Susan's portfolio. Which one of the following terms applies to the 28 percent?

Portfolio weight

Which one of the following indicators offers the best assurance that a project will produce value for its owners?

Positive NPV

Which one of the following indicates that a project is expected to create value for its owners?

Positive net present value

Which one of the following can be defined as a benefit-cost ratio?

Profitability index

Farmer's Supply is considering opening a clothing store, which would be a new line of business for the firm. Management has decided to use the cost of capital of a similar clothing store as the discount rate to evaluate this proposed expansion. Which one of the following terms describes this evaluation approach?

Pure play approach

Kate is analyzing a proposed project to determine how changes in the sales quantity would affect the project's net present value. What type of analysis is being conducted?

Sensitivity analysis

Which one of the following is most apt to cause a wise manager to increase a project's cost of capital? Assume the firm is levered.

She learns the project is riskier than previously believed.

The risk premium for an individual security is based on which one of the following types of risk?

Systematic

Which one of the following statements is correct related to the dividend growth model approach to computing the cost of equity?

The annual dividend used in the computation must be for Year 1 if you are Time 0's stock price to compute the return.

The internal rate of return is unreliable as an indicator of whether or not an investment should be accepted given which one of the following?

The investment is mutually exclusive with another investment of a different size.

Which one of the following statements is correct?

The payback period ignores the time value of money.

Which one of the following represents the minimum rate of return a firm must earn on its assets if it is to maintain the current value of its securities?

Weighted average cost of capital

A portfolio is:

a group of assets held by an investor.

Systematic risk is defined as:

any risk that affects a large number of assets.

The results of the dividend growth model:

are sensitive to the rate of dividend growth.

A firm uses its weighted average cost of capital to evaluate the proposed projects for all of its varying divisions. By doing so, the firm:

automatically gives preferential treatment in the allocation of funds to its riskiest division.

The amount of systematic risk present in a particular risky asset relative to that in an average risky asset is measured by the:

beta coefficient.

The capital asset pricing model

considers the relationship between the fluctuations in a security's returns versus the market's returns.

The net present value of an investment represents the difference between the investment's:

cost and its market value.

Lester lent money to The Corner Store by purchasing bonds issued by the store. The rate of return that he and the other lenders require is referred to as the:

cost of debt.

The weighted average cost of capital is defined as the weighted average of a firm's:

cost of equity, cost of preferred, and its aftertax cost of debt.

The net present value:

decreases as the required rate of return increases.

The internal rate of return is the:

discount rate that results in a zero net present value for the project.

Forecasting risk is best defined as:

estimation risk.

Net present value involves discounting an investment's

future cash flows

Scenario analysis:

helps determine the reasonable range of expectations for a project's anticipated outcome.

A firm that uses its weighted average cost of capital as the required return for all of its investments will:

increase the risk level of the firm over time.

Any changes to a firm's projected future cash flows that are caused by adding a new project are referred to as:

incremental cash flows.

The cost of preferred stock:

is equal to the stock's dividend yield.

Generally speaking, payback is best used to evaluate which type of projects?

low-cost, short-term

The systematic risk principle states that the expected return on a risky asset depends only on the asset's ________ risk.

market

The slope of the security market line represents the:

market risk premium.

Unsystematic risk can be defined by all of the following except:

market risk.

Ignoring the option to wait:

may underestimate the net present value of a project.

The possibility that more than one discount rate can cause the net present value of an investment to equal zero is referred to as:

multiple rates of return.

Both Projects A and B are acceptable as independent projects. However, the selection of either one of these projects eliminates the option of selecting the other project. Which one of the following terms best describes the relationship between Project A and Project B?

mutually exclusive

Which one of the following is generally considered to be the best form of analysis if you have to select a single method to analyze a variety of investment opportunities?

net present value

The tax shield approach to computing the operating cash flow, given a tax-paying firm:

recognizes that depreciation creates a cash inflow

The payback period is the length of time it takes an investment to generate sufficient cash flows to enable the project to:

recoup its initial cost.

The net working capital invested in a project is generally:

recouped at the end of the project.

Kate is the CFO of a major firm and has the job of assigning discount rates to each project under consideration. Kate's method of doing this is to assign an incrementally higher rate as the risk level of the project increases and a lower rate as the risk level declines. Kate is applying the ________ approach.

subjective

The analysis of a new project should exclude:

sunk costs.

The amount by which a firm's tax bill is reduced as a result of the depreciation expense is referred to as the depreciation:

tax shield.

For a risky security to have a positive expected return but less risk than the overall market, the security must have a beta:

that is > 0 but < 1.

When a firm faces hard rationing:

there will be no available funds for capital expenditures.

Standard deviation measures ________ risk while beta measures ________ risk.

total; systematic

Portfolio diversification eliminates:

unsystematic risk.