WGU Financial Management

Suppose you turned 25 today and got married to your dream spouse (what a day!). You receive a wedding gift of $5,000. In consultation with your new spouse, you decide to put the money in an account that is earning 8% so that you can travel around the world when you retire at the age of 65. How much will you have in your account in 40 years? (allow $1 rounding)

$108,623 $117,312 $100,576 $21,000 FV = PV(1+r)^t = 5000(1+0.08)^40 = $108,622.61

You are considering buying a security that will pay $1,000 every year forever. If you buy the asset, you will start receiving the first $1,000 payment immediately (today). If the discount rate is 5%, what is the most you should be willing to pay for this security?

$19,000 $21,000 $22,000 $20,000 Remember that the perpetuity formula assumes the payments come at the end of the period (i.e., the first payment is one year from today). If the payment starts immediately, use the perpetuity formula to get the value of payments at time 1 through infinity and add one additional payment of $1000. So PV = (1000/0.05) + 1000 = $21,000.

Your professor just talked about going on a trip when he retires in 10 years. He anticipates the cost of the trip to be $10,000. He said he will deposit some money today so that he will have $10,000 in 10 years. If he can earn an annual rate of 5% on his account, how much does he have to set aside today?

$19,672 $21,049 $6,139 $5,847 PV = FV/(1+r)t = 10000/(1+0.05)10 = $6,139

You have a 5-year-old son. You want to provide financial help when he goes to college in 13 years. You are planning to give him $20,000 a year at the beginning of each year. You will be make annual contribution at the end of each year to an account which will earn 5%. If you have $5,000 in the account already, how much will your annual deposit be?

$3,471.51 $4,203.98 $3,671.70 $3,496.85 PV: ($74,464.96)FV: 0PMT: 20000N: 4I: 5%Mode: 1 (Begin) PV: ($5,000.00)FV: $74,464.96 PMT: $(3,671.70)N: 13I: 5.00%Mode: 0 (End)

Snapp Corporation is expecting to pay a dividend of $3.25 to their common stockholders this year. If your required rate of return is 10 percent and the expected price of Snapp in one year is $40, what would you be willing to pay for the stock today?

$38.21 $31.98 $35.67 $39.32 $32.92 Skip to main content MyEducator Home Page Main Menu Previous PageNext Page7.5Common Stock Valuation: Single Holding Period Model The idea of financial modeling is of key interest to business students. In the next section, we will be introduced to one of the most important models in the history of finance: the Gordon Growth Model. To gain intuition for the Gordon Growth Model, we must first understand the concept of a single holding period model. The single holding period model assumes that an investor buys a stock today, holds it for one year, and then sells it in the market. During that process, the investor potentially generates a return from two sources, dividends and an increase in the price of the stock. The value of the stock today is determined by estimating the future cash flows from these two sources and then discounting them back to the present. As an example, let's say that we want to buy one share of GrowBig stock today. We expect the stock to pay a dividend of $5.50 at the end of the year, at which time we forecast the stock price will be $120. If we require a 15% rate of return on our investment, how much will we be willing to pay today for the stock? As shown in the diagram above, this is just a simple question of discounting cash flows. A year from now, we will receive $120 from sale of the stock and $5.50 in dividends = $125.50. The market requires a 15% return on the stock—as do we. To find today's value, we discount the cash flow in one year back to the present. On a financial calculator with payments per year at one and in end mode, the inputs would be as follows: I/Y = 15, n = 1, FV = 125.50 This computation yields a present value (V 0) of -109.13, which is the price of the stock that yields the market's required rate of return. If everyone in the market estimates the inputs the same as we have here, that is, if they use the same future price, dividend, and required return, all will arrive at the same value for the stock today and that is the price at which the stock will trade in the market. In equation form, the value of a stock using the single holding period method can be expressed as follows: V0=(V1+D1)(1+kcs)V0=(V1+D1)(1+kcs) where V 0 and V 1 are the value of the stock at time 0 and time 1, respectively, D 1 is the dividend paid in time 1, and k cs is the required rate of return for this stock. An alternative to using time value of money is to compute a single period holding period return (HPR) to estimate the return of a stock. The HPR method ignores the time value of money, so it is an estimate, but is somewhat common in finance. The HPR equation is: HPR=[(P1+D1)P0]−1HPR=[(P1+D1)P0]−1 Suppose you buy a share of stock for $50 (P 0) and expect it to value at $55 (P 1) in a year. Over the same period of time you expect a $1 dividend (D 1). The computation would be: HPR = [(55 +1)/50]- 1 =0.12. By this method, you are expecting a 12% return for your investment in the stock. Intuitively we are computing the return as a function of the dividend yield and the capital gains yield (increase in stock price). Try Again Financial Management - WGU 7.5 Quick Check: Common Stock Valuation: Single Holding Period Model Points:4 Graded on Nov 06 at 21:31 Your Submission: Submission Score:3 / 4 (75.00%)Grade Time:Nov 06 at 21:31Submitted On:Nov 06 at 21:31 Tom purchased stock from HAL Corporation one year ago for $179.00. He recently received one dividend payment in the amount of $5.05 and then sold the stock for $182.00. What is Tom's return? -1.11% 6.5% 1.68% -1.65% 4.5% FEEDBACK 1 / 1 (100.0%) Correct Answer: 4.5% Using the holding period return equation, we can solve for our return. ks = [(P1 + D1)/P0]- 1 ks = [(182+5.05)/179] - 1 Found in the following section(s) of the text: 7.5: Common Stock Valuation: Single Holding Period Model If you require a 10 percent return on your money, and ABC stock is currently selling at $55, what would you have to sell this stock at in one year to earn your required return? Assume no dividends are paid and annual compounding. $5.50 $60.50 $62.00 $65.00 $57.00 FEEDBACK 1 / 1 (100.0%) Correct Answer: $60.50 We can solve this problem with a financial calculator/Excel function or the equation. With calculator/Excel function: PV = 55, I/Y = 10%, n = 1, solve for FV = $60.50. Using the equation, we solve for P1. P1 = P0*(1+ks) P1 = 55*(1.10) Found in the following section(s) of the text: 7.5: Common Stock Valuation: Single Holding Period Model You can buy a stock today at $39 that is expected to pay a $3.25 dividend at the end of one year. If you think that you can sell it for $45 after the dividend is paid, what would be your return? 15.22% 23.72% 18.32% 10.51% 6.11% FEEDBACK 1 / 1 (100.0%) Correct Answer: 23.72% Using the holding period return equation, we can solve for the rate of return. ks = [(P1 + D1)/P0]- 1 ks = [(45 + 3.25)/39] - 1 Found in the following section(s) of the text: 7.5: Common Stock Valuation: Single Holding Period Model Snapp Corporation is expecting to pay a dividend of $3.25 to their common stockholders this year. If your required rate of return is 10 percent and the expected price of Snapp in one year is $40, what would you be willing to pay for the stock today? $38.21 $31.98 $35.67 $39.32 $32.92 FEEDBACK 0 / 1 (0.0%) Correct Answer: $39.32 This problem can be solved with a calculator/Excel function or the equation. With calculator/Excel: FV = ($3.25+$40), I/Y = 10%, n = 1, compute PV = $39.32 With the equation: D1 = $3.25 V1 = $40.00 Rate = 10% V0 = (3.25+40)/(1+.10) = $39.32

XYZ motors paid a $2.75 dividend last year. At a constant growth rate of 8 percent, what is the value of the common stock if the investors require a 14 percent rate of return?

$47.25 $41.75 $43.75 $45.00 $49.50 D0 = $2.75 g = 8% kcs = 14% V0 = (2.75 * 1.08)/(.14-.08) = $49.50

Balken Inc. reports the following on their most recent financial statements: - Change in accounts payable: $50 - Change in notes payable: $100 - Change in long-term debt: $200 - Change in retained earnings: -$120 - Net income: $170 What is Balken's CFF for the period?

-$10 $130 $10 $180 CFF = change in notes payable + change in long-term debt - dividends (assuming no other relevant changes); hence, CFF = 100 + 200 -Dividends. The change in RE = net income - dividends; so, -120 = 170 - dividends; thus, dividends = 290. Finally, CFF = 100 +200 - 290 = 10.

The company expected to pay a dividend of $13.85 at the end of the year. Management has estimated growth at 2.75%, and the stock is currently selling for $290. What is the expected rate of the return for this investment?

.0375 .0411 .0753 .0408 (13.85 / 290) + .0275 = .0753 or 7.53%

What is the expected rate of return for a stock where there is a 60% chance of a recession and a 40% chance of an expansion? The stock would return 2% during a recession and 8% in an expansionary period.

.100 .056 .044 .050 Cycle Prob Stock Recession 60% .02 .012 Expansion 40% .08 .032 .044

Common stock is valued at $400,000; long-term debt is valued at $250,000; and preferred stock is valued at $50,000. What is the WACC where common stock costs .16, long-term debt costs .08, and preferred stock costs .07? The tax rate is 40%.

.1135 .1495 .1275 .0942 (400/700 * .16) + (250/700 *.08 * .6) + (50/700 * .07) = .0914 + .0171 + .0050 = .1135

A firm just announced a new preferred stock issue. The preferred dividend, which will be paid in perpetuity, is expected to be $5.85. The price of the preferred stock is expected to be $49 per share. What is the cost of preferred equity in percent? (Round to the nearest hundredth: .00)

11.94 Cost of preferred equity: 5.85/49 = 11.94%

A company is planning to issue new equity in order to raise capital. The current share price is $45 and the company is planning to pay a dividend of $2.50 and grow the dividend at a constant rate of 6% per year, indefinitely. If flotation costs are $3 per share, what is the cost of common equity? (Round to the nearest hundredth: .00)

11.95 Cost of common equity: 2.50/(45-3) + .06 = 11.95%

Johnny Jims Corporation is issuing new bonds. They will pay a semi-annual coupon and mature in 15 years. They are currently selling for $800.00, the annual coupon rate is 8%. What is the yield to maturity on Johnny Jims' bonds? (Assume a $1,000 face value).

12.1% 21.5% 20.3% 10.7% 8.0% Calculator Inputs N = 15 * 2 = 30 PV = -800 PMT = .08 * 1000 = 80/2 = 40 FV = 1000

Suppose a small company is determining whether to invest in new computing equipment to enhance R&D. The total cost of the investment is $7 million. The market value of common equity makes up 45% of the total market value of the firm. The market value of preferred equity makes up 15% of the total market value of the firm. The market value of debt makes up 40% of the total market value of the firm. The company has a marginal tax rate of 34%. Bonds: The current trading price of the companies bonds is $857. They expect to issue 10-year, $1,000 face value bonds that have an annual coupon rate of 7.5%. Common Stock: The company's beta is 1.5. The market risk premium is 11% and the expected return on the market is 15%. Preferred Stock: The company anticipates issuing new shares of preferred stock that pays a perpetual dividend yield of 10.5% per year. Given this information, what is the WACC? (Round to the nearest hundredth: .00)

13.39 Cost of Debt: (FV = -1000, PMT = -75, PV= 857, N = 10, CPT I/Y = 9.81% Cost of Common Equity: E[R] = 4% + 1.5(11%) = 20.50% Cost of Preferred Equity: 10.5% WACC = (.45)*20.50%+(.15)*10.5%+(.40)*9.81%*(1-.34) = 13.39%

Suppose a company is financed entirely with equity. Further suppose that the company is financed with 70% internal equity and 30% external equity. The company currently has a share price of $50. The company recently paid a dividend of $4 and expects to grow the dividend by a constant rate of 5% per year, indefinitely. If flotation costs sum to 6%, what is the WACC of this company in percent? (Round to the nearest hundredth: .00).

13.64 Cost of common equity: (4*1.05)/50 + .05 = 13.4% WACC: .70*13.4% + .30*13.4%(1.06) = 9.38% + 4.26% = 13.64%

Suppose a firm is looking to calculate the cost of common equity using the arithmetic mean return for the company's stock over the past six years. The company reported returns of 13.5%, 15.4%, 8.4%, 19.1%, 22.1%, and 4.3% over the last six years. Given this information, what is the cost of common equity in percent? (Round to the nearest hundredth: .00)

13.80 Cost of Common Equity: Re = (13.5+15.4+8.4+19.1+22.1+4.3)/6 = 13.80%

You are considering investing in a bond that has a 12% coupon rate, 10 years to maturity, and is priced at $900. What would be your YTM if you received your coupon payments quarterly? (Assume a $1,000 face value).

13.9% 12.0% 27.8% 18.6% 55.6% Calculator inputs PMT = 1000 * .12 = 120/4 = 30 N = 10 * 4 = 40 PV = -900 FV = 1000 I = 3.47 * 4 = 13.9%

What is the IRR given the following? Investment is $250,000. Yr 1 is $50,000, Yr 2 is $60,000, Yr 3 is $80,000, Yr 4 is $100,000, Yr 5 is $90,000, and the terminal cash flow is $45,000.

13.997% 11.549% 17.213% 15.949% Make sure to add the TCF to Yr 5 for 135,000.

A couple has $25,000 in their retirement savings today. How many years do they have to save at 6%, putting in $1,000 at the beginning of each year, to reach $80,000?

14.2 22.2 34.8 20.0 PV: ($25,000.00) FV: $80,000.00 PMT: ($1,000.00) N: 14.2124 I: 6 Mode: 1 (Begin)

POLO Outerwear has a beta of 1.1. The expected return on the market is 14% while the risk free rate is 4%. According to the CAPM, what is the required return by shareholders of POLO in percent?

15 E[R] = 4% + 1.1(14%-4%)= 15%

Suppose Crill Co. has a beta of 1.4. The expected return on the market is 12% while the risk free rate is 3%. Given this information, what is the expected return for this company in percent?

15.6 E[R] = 3% + 1.4(12%-3%) = 15.6%

Suppose a company is financed entirely with equity. Further suppose that the company is financed with 60% internal equity and 40% external equity. The company has a beta of 1.2, expected returns on the market are 13.5%, and the risk free rate is 3.5%. If flotation costs have historically summed to 4.5%, what is the WACC of this company in percent? (Round to the nearest hundredth: .00.)

15.78 Cost of common equity: 3.5%+1.2(13.5%-3.5%) = 15.5% WACC: .60*15.5% + .40*15.5%(1.045) = 9.3% + 6.48% = 15.78%

Suppose a company is financed entirely with equity. Further suppose that the company is financed with 75% internal equity and 25% external equity. The company has a beta of 1.1, expected returns on the market are 14.5%, and the risk free rate is 3%. If flotation costs have historically summed to 4%, what is the WACC of this company in percent? (Round to the nearest hundredth: .00.)

15.81 Cost of common equity: 3%+1.1(14.5%-3%) = 15.65% WACC: .75*15.65% + .25*15.65%(1.04) = 11.74% + 4.07% = 15.81%

Give Me Your Paycheck, a short-term loan institution, advertises a new long-term car loan rate of 1% per day (or 365% APR). In the small print, you notice that this loan compounds daily. What is the APY of the advertised car loan?

159.00% 1.00% 15.90% 3678% 36.78% APY = (1+.01)365-1 = 3678% using daily rate APY = (1+3.65/365)365-1 = 3678% using APR In this one, notice the rate is already given as a DAILY rate, so you do not divide by 365 days. In effect, the 1% DAILY rate is already the APR/365. The question also lists 365% as an APR and you divide it by 365 days and end up with the same result. This question tests to see if you understand the intuition behind the equation as well as the calculation.

Suppose GrungeRock.com has a beta of 1.2. The expected return on the market is 14% while the risk free rate is 3%. Given this information, what is GrungeRock's required return by shareholders in percent?

16.2 E[R] = 3% + 1.2(14% -3%)= 16.2%

Given the information below, what is the expected return for Stock Z? Submit your answer in decimal format. Economic State Probability π Returns for Stock Z Recessionary .25 3% Normal .35 16% Expansionary .40 26%

16.75 =.25*.03+.35*.16+.4*.26

Suppose a firm is looking to calculate the cost of common equity using the Capital Asset Pricing Model. The company has a beta of 1.3. Market returns are expected to be 14.5% and the risk free rate is 3%. Given this information, what is the cost of common equity in percent? (Round to the nearest hundredth: .00)

17.95 Cost of Common Equity: Re = 3% + 1.3(14.5%-3%) = 17.95%

From the following information, calculate the terminal cash flow. Proceeds from sale of equipment 100,000 Book value of equipment sold 50,000 Year 3 diff cash flow 225,000 Tax rate 40% Depreciation Yrs 1 to 5 125,000 Working capital return 75,000

175,000 155,000 125,000 485,000 100,000 - 50,000 = 50,000 Net realizable value * tax rate of .4 = 20,000 to be paid in taxes. 100,000 from buyer - taxes paid of 20,000 = 80,000 total salvage value + 75,000 in working capital return = 155,000 terminal cash flow

A company doesn't carry any debt on its balance sheet. The company is completely financed with common equity. The company has a beta of 1.5. Expected returns on the market are 15%, and the risk free rate is 3.5%. Given this information, what is the WACC? (Round to the nearest hundredth: .00)

20.75 WACC = Cost of Equity using the CAPM = 3.5%+1.5(11.5%) = 20.75%

Given the following information, what is the sustainable growth rate for this company? Net income $2,000,000.00, Sales $20,000,000.00, Assets $4,000,000.00, Dividends $1,000,000.00, Equity $3,000,000.00, Liabilities: $1,000,000.00

29% 33% 35% 42% 22% NI 2,000,000 Equity 3,000,000 Dividends 1,000,000 Payout ratio = 1,000,000/2,000,000 = .5 ROE = 2,000,000/3,000,000 = .667 SGR = .667 * .5 = 33.33%

A mother wants to contribute to her child's higher education fund. She wishes to have $15,000 available each year for six years. Her child starts college in 15 years and she can save 6% before school starts if she puts her end-of-year bonus into a trust fund and figures that the fund will earn 4% after her child begins her college education. How much does she have to put aside annually if the money is withdrawn for college at the beginning of each year attending college?

3,346.19 4,159.87 3,513.38 5,802.74 Step 1: PMT = 15,000, I/Y = 4, N = 6, FV = 0, Solve for PV Begin mode PV = 81,777.34 Step 2: Take PV in Step 1 and use it as FV in Step 2. N = 15, I/Y = 6, PV = 0, Solve for PMT End problem = 3,513.38

If a firm's financial leverage ratio is 2.50, what percentage of assets are financed by debt?

50% 70% 40% 60% Solution: We know that Assets (100%) = Liabilities (X%) + Equity (Y%). So, Financial leverage ratio = 2.5 = 100%/Y% = Assets/Equity; thus Y = 40%, so X = 60% = percent financed by debt.

What is the cash flow from financing? Accounts payable 100,000 Accrued expenses 50,000 Increase in mortgage payable 300,000 Decrease in bonds payable 75,000 Dividends paid 80,000

505,000 230,000 145,000 225,000 Inc mort 300 - Dec bonds 75 - Div paid 80 = 145

A man has just inherited $250,000. If he invests the money at 4.5%, how much can he expect to have at the end of 15 years when he retires?

519,732.04 483,820.61 477,862.41 120,254.27 PV = 250,000, I/Y = 4.5, N = 15, PMT = 0, Solve for FV No PMT, so it does not matter what mode. = 483,820.61

A company has 50,000 $1,000 face value bonds outstanding that are currently priced at 92% of face value. These bonds have 10 years until maturity and pay a 9% annual coupon rate. If the company has a marginal tax rate that is 34%, what is the company's after tax cost of debt? (Round to the nearest hundredth: .00)

6.81 After-Tax Cost of Debt: FV = -1000, PMT = -90, PV = 920, N = 10, CPT I/Y = 10.32% 10.32%*(1-.34) = 6.81%

A firm just announced a new preferred stock issue. The preferred dividend, which will be paid in perpetuity, is expected to be $2. The return required by shareholders is 9.5%. What is the cost of preferred equity in percent? (Round to the nearest hundredth: .00)

9.5 Cost of preferred equity: 9.5%

Suppose a company is valued by the market at $100 million and is financed with both debt and equity. Currently, the company has a market value of equity of $50 million. The company also has a market value of short-term debt of $20 million and a market value of long-term debt of $30 million. The cost of equity is 15%, the cost of short-term debt is 7% and the cost of long-term debt is 8%. If the marginal tax rate is 40%, what is the weighted average cost of capital in percent? (Round to the nearest hundredth: .00)

9.78 WACC: (50/100)*15% + (20/100)*7%(1-.40) + (30/100)*(8%)(1-.40) = 7.5%+.84%+1.44% = 9.78%

Which of the following statements about a bond are true?i. A bond is a fixed-income security ii. The bond's interest payments vary each year with the market iii. Bonds allow firms to save on banker's overhead compared to bank loans

i and iii i and ii i, ii, and iii Only ii ii and iii Only i Only iii A bond is a fixed-income security which pays a fixed interest payment (called coupon payment) each year. By issuing bonds, companies can go straight to market buyers and bypass overhead costs associated with borrowing from banks.

Which of the following firms would fit the assumptions of the replacement cost method the best?

A firm with large real estate holdings A firm with a lot of patents An established firm with strong brands A high-tech firm A firm with a high market-to-book ratio

What are the two ways a syndicate can place a bond?

A public initial sale Competitive sale or appreciative sale Only negotiated sale Competitive sale or negotiated sale

Which of the following is another name for the effective yield?

ARR APY AFY APR

A firm that is financed with both internal and external equity will have a WACC that is higher when flotation costs are higher.

True False

A limit order to buy a stock at $101.55 would execute when the ask price is at or below $101.55.

True False

A market order to buy a stock would execute at the current ask price.

True False

A secured loan means that some type of asset is being used as collateral to back the loan.

True False

A syndicate is a group of investors that is temporarily formed to handle the issuance of new bonds.

True False

A well diversified portfolio should have a lower standard deviation of expected returns than an undiversified portfolio.

True False

According to Modigliani and Miller (1958, 1963), an unlevered firm will have the same value as a levered firm.

True False

According to a survey by Graham and Harvey (2001), the Capital Asset Pricing Model is the most widely used method for calculating the cost of common equity.

True False

According to a survey by Graham and Harvey (2001), the dividend discount (Gordon) model is more widely used to calculate the cost of common equity by firms than the Capital Asset Pricing Model.

True False

According to the CAPM, all idiosyncratic risk can be diversified away.

True False

According to the CAPM, only systematic risk affects the expected return of an individual stock.

True False

According to the Capital Asset Pricing Model, all investors will hold the market portfolio.

True False

Accounts payable will be affected when a firm chooses to purchase raw materials on credit.

True False

Agency costs are commonly mitigated by compensating management with company stock.

True False

Agency costs are commonly mitigated by increasing management compensation.

True False

An example of agency costs is management spending company money on unprofitable goods and services.

True False

An example of nationalization is the U.S. government purchase of the majority equity stake in U.S. automakers.

True False

Because in an efficient market all available information is built into the price of a stock - investment patterns and trends to "get rich quickly" are not easily discernable and it is difficult to predict the price

True False

Business risk is sometimes referred to as operating risk.

True False

Capital is defined as a financial asset.

True False

Cash policies make it easier to manage accounts receivable and accounts payable.

True False

Castanias (1983) shows that industries with more firm bankruptcies generally have firms that have lower debt-to-equity ratios.

True False

Collection float is defined as the time it takes for a firm to be able to use the payments from its customers.

True False

Common stock represents ownership in the firm.

True False

Dealer markets have a physical location.

True False

Disbursement float involves the amount of time it takes for a payment to become an actual outflow.

True False

During a leveraged buyout, the acquiring firm might use the assets of the target firm as collateral on the new debt issue.

True False

During the Great Depression, banking suffered because regulations were too stiff.

True False

Efficient markets are those in which prices are volatile.

True False

Efficient markets will often have mispriced securities.

True False

Financial risk is the risk associated with a firm's inability to meet its debt obligations.

True False

Finding the cost of preferred stock requires the use of the perpetuity model.

True False

Firms that are maximizing shareholder value will generally see increases in the firm's stock price.

True False

Firms that are maximizing shareholder value will generally see stability in the firm's stock price.

True False

Firms try to mitigate agency costs by aligning managers' interests with shareholders' interests.

True False

Firms with high unexpected earnings usually exhibit large positive returns on the earnings announcement day.

True False

Flotation costs are paid to firms that underwrite the new security issues.

True False

If a firm gains greater exposure to systematic risk, then the cost of capital will likely increase.

True False

In an inefficient market, prices will slowly respond to new information.

True False

In general, as riskiness of a portfolio decreases, the expected return of the portfolio increases.

True False

In general, as riskiness of a portfolio increases, the expected return of the portfolio increases.

True False

Inefficient markets are those in which prices will respond quickly to new information.

True False

Inefficient markets will often have mispriced securities.

True False

Inventory is defined as materials that are required in the production of a finished good as well as the finished goods themselves.

True False

Inventory is the most liquid component of current assets.

True False

Leveraged buyouts occur when a company issues new debt to finance the acquisition of another company.

True False

On an income statement, interest payments are deducted before taxes are calculated.

True False

One of the assumptions of the Modigliani and Miller (1958, 1963) research is that firms do not face bankruptcy costs.

True False

One of the reasons why firms should hold cash is for liquidity reasons.

True False

One of the reasons why firms should not hold too much cash is that cash is low risk and subsequently low return.

True False

One possible way for a firm to find its optimal debt-to-equity ratio is to estimate a concave function using regression analysis and find the optimal point on that function.

True False

One possible way for a firm to find its optimal debt-to-equity ratio is to find the average debt-to-equity ratio for similar firms within the same industry.

True False

Optimal debt-to-equity ratios do not exist in practice.

True False

Preferred stock holders have priority in dividends over common stock holders.

True False

Primary financial markets are markets where issuers place new securities with investors.

True False

Stock represents ownership in a particular company.

True False

Stocks and bonds are two types of financial instruments.

True False

Stocks that are listed on dealer markets generally have a single dealer for each stock.

True False

Syndicates are generally made up of investment banks and other institutional investors.

True False

T or F - As the market risk premium increases, the CAPM suggests that expected returns for individual stocks will increase as well.

True False

Tangible assets are typically harder to value than intangible assets with the cost method.

True False

The CAPM beta for the market is equal to one.

True False

The CAPM can be used to determine the return required by shareholders.

True False

The New York Stock Exchange is an auction market.

True False

The cost of common equity is defined as the return required by common shareholders.

True False

The cost of debt is usually calculated as the interest rate on a company's bonds.

True False

The degree of combined leverage tells us how much EBIT increases for a given increase in Sales.

True False

The degree of combined leverage tells us how much pre-tax profit increases for a given increase in Sales.

True False

The difference between the expected return for the market and the risk free rate is often called the market risk premium.

True False

The goal of the firm is to maximize shareholder value.

True False

The idea of the replacement cost method is to determine the value of the firm if it was to be built from the ground up today.

True False

The income statement is the most easily interpreted of the basic financial statements.

True False

The operating balance is defined as the amount of cash the firm needs to pay its immediate bills.

True False

The process of recapitalization generally affects the capital structure of firms.

True False

The reason that using external equity is more costly than using internal equity is because of flotation costs.

True False

The reserve balance is the amount of cash the firm should hold as a safety net.

True False

The two types of credit policies discussed in the topic are cash-only policies and discount policies.

True False

Upon bankruptcy, preferred stock holders do not have claim on the assets of the firm.

True False

When determining the present value of the future cash flows that will come from a capital investment project, you should discount the cash flows with the weighted average cost of capital.

True False

When determining whether a particular project will be profitable, the appropriate discount rate is the WACC.

True False

When firms with relatively low levels of debt increase their debt-to-equity ratios, the value of the firm will increase.

True False

When revenue and costs are relatively stable, overall business risk is lower.

True False

When setting credit standards, the firm should determine the types of customers that qualify for credit.

True False

While theory in Miller and Modigliani (1958, 1963) assumes that firms do not face bankruptcy risk, Castanias (1983) shows that firms that do face bankruptcy risks generally carry less debt.

True False

While theory in Miller and Modigliani (1958, 1963) assumes that firms do not pay taxes, Masulis (1980) finds evidence that because firms pay taxes, a firm's capital structure affects the value of the firm.

True False

Without financial markets, exchange would become more costly.

True False

When setting credit standards, the firm should allow for standards that provide some sort of credit to all of its customers.

True False A firm may not want to provide credit to all customers, just those that meet its credit standards.

According to the CAPM, firms with higher betas have a lower return required by shareholders.

True False A higher beta implies higher volatility and risk relative to the market which requires a higher return.

An increasing debt-to-equity ratio might improve the value of a firm because equity financing is less costly than debt financing.

True False Debt is generally cheaper than equity because investors view debt as less risky than equity.

Using debt is less costly than using equity to finance a capital investment project.

True False Debt is generally cheaper than equity since debt has higher priority in terms of repayment during liquidation and there are tax benefits associated with interest payments.

One of the benefits of using equity is the associated tax benefits.

True False Debt, not equity, has tax benefits associated with its use.

Diversification allows investors to maximize returns by keeping much of their portfolio in a single asset.

True False Diversification spreads one's wealth across many assets to offset the possibility that a large negative return in one asset will destroy a large portion of an investor's wealth.

An increasing debt-to-equity ratio might decrease the value of the firm because equity financing is more effective than debt financing.

True False Equity financing is not necessarily more effective than debt financing. It is often more costly and results in giving up control and ownership in the firm.

Stock and equity mean the same thing in finance.

True False Equity represents ownership in a firm—that is, when you buy a share of a company's stock, you literally become a partial owner of that company.

Economics is a subfield of Finance

True False Finance is a subfield of Economics. Found in the following section(s) of the text: 1.1: What Is Finance?

Firms with a higher degree of business leverage have lower pre-tax profit for a given increase in EBIT.

True False Firms with a higher degree of financial leverage have HIGHER pre-tax profit for a given increase in EBIT.

If your firm is operating at full capacity, in the real world, an increase in sales will increase fixed assets incrementally as sales increase.

True False Fixed assets are lumpy. If we exceed 100% capacity, fixed assets will require a discretionary investment in additional production capacity and will not increase incrementally with sales.

The firm in an industry with the largest CFO is the industry's top performer.

True False Having the largest CFO might merely be a function of size. Best" is multi-dimensional. The firm reporting the largest CFO might be historically successful but now be struggling/shrinking because of a lack of innovation, market dynamics, etc. Further, having the largest CFO in the buggy whip industry does not reveal much about performance.

Firms should hold as much inventory as can possibly be stored.

True False Holding inventory can be costly in terms of opportunity costs, storage costs, and holding costs. Due to this, a firm should seek to hold an optimal amount of inventory.

If a firm has its credit rating downgraded, the cost of debt will increase thus lowering the weighted average cost of capital.

True False If the cost of debt increases it will result in an increase in the WACC.

Masulis (1980) finds that the change in stock prices surrounding changes in capital structure is unrelated to level of tax shields.

True False Masulis (1980) found that tax shields did affect value.

Nationalization is a type of recapitalization that allows individuals in a particular nation to purchase shares of a company.

True False Nationalization is a process in which the nation in which the company operates purchases a controlling number of shares of the company.

The dividend payout ratio is the reciprocal of the plowback ratio.

True False Plowback = (1 - Dividend/Net Income) so it's not the reciprocal.

An advantage of selling products on credit is that the firm receives the money earlier, which provides a greater time value.

True False Selling products on credit means that the firm receives the money LATER which actually provides a lower time value of money.

If firm A has a greater degree of financial leverage than firm B, then a 1% increase in EBIT for both firms is going to result in a greater increase in pre-tax profit for firm B.

True False Since firm A has a higher degree of financial leverage, increases in EBIT will result in a greater increase in pre-tax profit for firm A.

Higher debt levels are generally associated with more risk.

True False Since using an increased amount of debt leads to an increased risk of insolvency and inability to pay, higher debt levels are associated with more risk.

A change in notes payable will impact CFO.

True False Solution: A change in notes payable will NOT impact CFO (Note: notes payable is a financing variable; hence, changes in notes payable impact CFF).

(True/False) Assuming no asset disposals, CFI is equal to the change in Net PP&E.

True False Solution: Assuming no asset disposals, CFI is the change in GrossPP&E. Equivalently, CFI is equal to the change in Net PP&E plus depreciation expense.

(True/False) When calculating CFO, you generally include the changes in all current assets and current liabilities.

True False Solution: The answer is False. Most current asset and current liability accounts are operating accounts; hence, changes are included in the calculation of CFO. However, Operating assets do not include all current assets. Cash is the notable exception. Operating liabilities do not include notes payable (changes in notes payable are included in CFF). Note that there are other exceptions, but they are beyond the scope of this discussion.

When calculating CFF, most of the data can be located at the bottom of the asset side of the balance sheet.

True False Solution: The answer is False. The bottom of the asset side of the balance sheet (long-term assets) is most closely associated with CFI. CFF comes from the liabilities and equity side of the balance sheet.

(True/False) The Statement of Cash Flows is not useful when assessing the financial health of a firm due to the impact of accrual accounting.

True False Solution: The answer is false. In order to understand the health of a company, you must understand how the firm generates and expends cash. The impacts of accrual accounting are seen most in relation to net income.

According to the CAPM, some systematic risk can be diversified away.

True False Systematic risk is also known as non-diversifiable risk because it affects all firms in the market.

If a stock has a CAPM beta greater than zero, the stock is considered more risky than the market.

True False The CAPM beta for the market is equal to 1.

The CAPM is used to determine the return required by bond holders.

True False The CAPM can be used to determine the return required by equity holders.

If a firm has more idiosyncratic risk, then, according to the CAPM, the return required by shareholders will be higher.

True False The CAPM model assumes idiosyncratic risk is diversified away.

NASDAQ is the world's largest secondary financial market.

True False The NYSE is the world's largest secondary financial market.

The reserve balance is defined as the amount of cash a company needs to meet its obligations.

True False The operating balance can be defined as the amount of cash the firm needs to pay its immediate obligations.

True/False. The process of making a target firm's data comparable to a peer group is known as scrubbing the data.

True False True. Scrubbing the data is a preliminary step in ratio analysis. The process entails recasting the target/peer financial statements to align significant accounting choices, fiscal year-ends, etc.

Entrepreneurial finance and capital budgeting frequently rely on time value of money (TVM) calculations. Since risk varies between projects, adjusting for riskiness is a key element of financial analysis. The most common way of adjusting for the risk of an investment is to:

Change the annual cash flows. Increase the discount rate for riskier projects. Discount riskier cash flows an extra year. None of the above. The discount rate controls for risk, inflation, and opportunity cost. Higher risk projects are evaluated with a higher discount rate.

Which of the following is not one of the three main missions of SOX?

Ensure company executives were honest in their SEC filings Discover instances of fraud in large corporations early to prevent economic disruptions Confirm public accounting firms were accurately reporting their audits Ensure boards of directors were making decisions inline with stockholders interests All of these choices

The basic equation for the balance sheet is:

Equity = Assets - Liabilities Liabilities = Equity + Assets Assets = Liabilities - Equity Assets = Equity - Liabilities

When we talk about discretionary accounts, who's discretion is being exercised?

Equity holders Forecasters Creditors Management Shareholders

Why is depreciation expense taken out of the net income calculation, yet added back at the end?

Fixed assets should remain on the balance sheet. Depreciation is a non-cash liability. Depreciation is not a current asset. Depreciation expense is tax-deductible.

The industry average current ratio and quick ratio are 2.64 and 1.88 respectively. Which of the following would be the most plausible inference about Macrosoft's liquidity?

Macrosoft has higher inventory relative to current liabilities than the industry average. Macrosoft has a larger amount of cash relative to its current assets than the industry average. Macrosoft has better liquidity than the industry. Macrosoft has worse liquidity than the industry. · Current ratio = CA/CL = 12,550/4260 = 2.95 Macrosoft has a higher current ratio while the quick ratio is lower. This means that the company must be carrying a large amount of inventory (i.e., when we take inventory out of the numerator, the ratio falls significantly).

Suppose that Macrosoft's times interest earned ratio has varied between 0.80 times and 5.23 over the past five years. Which of the following statements is most plausible?

Macrosoft should use more debt to finance assets. Banks will be eager to loan to Macrosoft because of the fluctuations in the times interest earned ratio. Macrosoft's borrowing cost may decrease due to the uncertainty of being able to cover interest payments. Macrosoft's borrowing cost may increase due to the fluctuations in interest coverage. Solution: Uncertainty in the times interest earned ratio will cause lenders to view Macrosoft as a higher risk borrowing candidate. Therefore, if Macrosoft needs to borrow, they will likely pay a higher interest rate.

Suppose that Macrosoft decides to increase the estimated life over which fixed assets are depreciated. Which of the following is most likely?

Macrosoft's OIROI will increase. Macrosoft's total asset turnover will increase. Macrosoft's inventory turnover will decrease. None of the above are likely. Macrosoft's depreciation expense will be lower as a result of extending the estimated life of its assets (recall depreciation expense = (cost-salvage value)/estimated life). Lower depreciation expense leads to higher EBIT. Higher EBIT results in higher OIROI. (Note: the change in depreciation expense will increase EBIT and increase total assets; however, the change in EBIT will likely dominate).

If the price of a particular stock begins to heavily fluctuate, then the specialist will __________ the spread.

Maintain the spread Increase the spread Reduce the spread None of these choices

Some financial institutions in the US became "too big to fail" after the Glass-Steagall Act was repealed. Which of the following had the largest hand in reversing the Glass-Steagall Act?

Volker Rule Dodd-Frank Act Gramm-Leach-Bliley Financial Services Modernization Act Federal Institutions Reform, Recovery, and Enforcement Act Banking Efficiency Act

Which discount rate would be used to calculate the value of a firm using FCFF?

WACC Cost of Debt Cost of Equity WACC- weighted Cost of Debt None of these choices

Which of the following ways is inventory not identified?

Raw material Works-in-progress Finished goods Goods sold on credit

Logan Enterprises Cash Flow 20x2 20x1 Gross PP&E $22,500 $20,600 Less: Acc. Depr $????? $5,400 Net PP&E $????? $15,200 What is the firm's CFI?

$1,900 $200 $5,600 None of the above With the assumption of no asset disposals, CFI will be equal to 1) change in Gross PP&E, or 2) change in Net PP&E plus depreciation expense. The change in Gross PP&E is $1,900.

You decided to invest $2,000 a year for next ten years starting one year from today. If you make the annual contribution into an account paying 5%, how much will you have in 10 years? (round to nearest $1)

$25,500 $25,156 $26,414 $27,156 PV FV PMT N I Mode - ($25,155.79)

The total cost of a new machine including the shipping and the installation was $250,000. Using the 3-year MACRS schedule, determine the depreciation expense in year 2. The factors for the three-years schedule are: year 1 = 33.33%, year 2 = 44.45%, year 3 = 14.81%, and year 4 = 7.41%.

$37,025 $83,325 $111,125 $18,525 Using the tables, depreciation for each year is calculated as: Depr.expense = factor_i x cost. Hence, for year 2 depreciation expense = .4445 x $250,000 = $111,125.

You are considering purchasing Quarry Diamonds stock. They have promised to pay dividends of $2.50, $3.00, and $3.50 over the next three years. Dividends will grow at 5% after that indefinitely. How much are you willing to pay for the stock if your required rate of return is 11%?

$42.98 $37.29 $47.39 $52.03 $49.32 Discount Rate = 11% g = 5% D1 = $2.50 D2 = 3.00 D3 = 3.50 PV of D1 = 2.50/1.111 = 2.25 PV of D2 = 3.00/1.112 = 2.43 PV of D3 = 3.50/1.113 = 2.56 (Can also be calculated on your calculator using TVM function) Stage 2 (3.50*1.05)/(.11-.05) = 61.25 PV = 61.25/1.113 = 44.79 V0 = 2.25 + 2.43 + 2.56 + 44.79 = 52.03

If you require a 10 percent return on your money, and ABC stock is currently selling at $55, what would you have to sell this stock at in one year to earn your required return? Assume no dividends are paid and annual compounding.

$5.50 $60.50 $62.00 $65.00 $57.00 We can solve this problem with a financial calculator/Excel function or the equation. With calculator/Excel function: PV = 55, I/Y = 10%, n = 1, solve for FV = $60.50. Using the equation, we solve for P1. P1 = P0*(1+ks) P1 = 55*(1.10)

You just graduated from a university and have some student loan debt. The interest rate on your loan is 4%. If you make monthly payments of $504.54 for 10 years at the beginning of each month (starting today) your debt will be completely repaid. The amount you owe today is closest to which of the following? (Round to the nearest $1)

$50,000 $60,545 $49,107 $49,834 PV: ($50,000) FV: $0.00 PMT: 504.54 N: 10 x 12= 120 I: 4/12 = 0.3333% Mode: 1 (Begin)

Your Mom is asking you for help with her retirement planning. She and your Dad are hoping to start withdrawing from their retirement accounting beginning in one year from today, and they want to make sure that they have enough in the account to make annual withdrawals of $60,000 for 20 years. Their retirement account pays 8% annually. How much do they have to have now in the account? (Round to the nearest $1)

$636,216 $622,313 $589,089 $600,000 PV: ($589,089) FV: $0.00 PMT: 60,000.00 N: 20 I: 8.00% Mode: 0 (End)

Calculate the PV of the cash flows associated with a 10-year bond that pays $30 coupon payments every 6 months and a face value of $1000. The current interest rate is 6% APR.

$779.20 $534.89 $1000.00 $790.00 $655.90 N20=10*2PMT30 FV1000 Rate0.03=0.06/2 PV($1,000.00)

The total cost of a new machine, including the shipping and installation, is $250,000. Using the 3-year MACRS schedule, determine the depreciation expense in year 3. Year 3-YR MACRS (%) 1 33.33% 2 44.45% 3 14.81% 4 7.41%

$83,325 $111,125 $18,525 $37,025 Year 3-YR MACRS (%) Depreciation Expense 1 33.33% .3333 x $250000 = 83,325 2 44.45% .4445 x 250000 = 111,125 3 14.81% .1481 x 250000 = 37,025 4 7.41% .0741 x 250000 = 18,525

Initial Outlay $(5,000) Year 1 $3,000 Year 2 $3,500 Year 3 $3,200 Year 4 $2,800 Year 5 $2,500 What is the NPV if the discount rate is 20%?

$9,137 $14,137 $18,237 $4,137 NPV = -5 + 3/1.21 + 3.5/1.22 + 3.2/1.23 + 2.8/1.24 + 2.5/1.25 = $4.137 (= $4,137)

Risky, Inc. bonds have a 12 percent coupon rate. The interest rate is paid semiannually and the bonds mature in 6 years. The bonds have a par value of $1,000. If your required rate of return is 7 percent, what is the value of the bond?

$920.57 $1,133.21 $1,241.58 $1,821.38 Calculator Inputs PMT = 1000*.12 = 120/2 = 60 N = 6*2 = 12 FV = 1000 I = 7/2 = 3.5

Trampoline Inc. wants to expand their business. They will issue bonds to fund their expansion. If current required rate of return for investors is 11%, what should the price be for their bonds with a $1000 face value, 15 years to maturity, and a coupon rate of 10.5% paid semi-annually?

$921.13 $889.76 $947.52 $963.67 $901.98 I 5.5%=11%/2 N 30=15*2 PMT 52.5=(0.105*1000)/2 FV 1000 Price($963.67)

A firm reported retained earnings of $305 in 20x2. For 20x3, the firm reports retained earnings of $400 and pays dividends of $25. What was net income in 20x3?

$95 $120 $145 $195 Solution: New RE = Old RE + NI - Div; 400 = 305 + NI - 25; NI = 120

Trampoline Inc. wants to expand their business. They will issue bonds to fund their expansion. If the current required rate of return for investors is 11%, what should the price be for their bonds with a $1000 face value, 15 years to maturity, and a coupon rate of 8% paid semi-annually?

$957.01 $1345.88 $884.27 $781.99 $1198.43 I=11%/2 = 5.5% N=15*2 = 30 PMT=(0.08*1000)/2 = 40 FV=1000 Price ($781.99)

If a company has a capital structure of internal equity of $15,000,000 at 15%, a new offering of external equity of $5,000,000 at 17% with flotation costs of 3%, and $10,000,000 of bonds at 5% after tax, what is the weighted average cost of capital?

.1632 .1025 .1250 .1209 (.50 * .15) + (.167 * .17 * 1.03) + (.333 * .05) = .0750 + .0292 + .0167 = .1209

What is the expected rate of return for a stock where treasury bills are returning 2.5% and the market, as a whole, is returning 15%. The stock has a beta of 1.25.

.181 .125 .100 .156 E(R) = .025 + (1.25(.15 - .025)) = .18125

What is the discount rate of a stream of cash flows of 50,000 that have a present value of 450,000?

.75 .11 .12 .10 50,000 / 450,000 = 11.1%

What is the fixed asset turnover of Eastern Family?

0.08 1.34 0.62 1.53 FAT = Sales / Fixed Assets = 10000 / 6500 = 1.53

What is the price of a six-year $1,000 bond with a coupon rate of 7.4% and a YTM of 6.2% that has semiannual payments?

1,003.20 1,023.48 1,059.37 1,425.70 N = 12 , I/Y = 3.1 , PMT = 37.00 , PV = ? , FV = 1,000 PV = 1059.37

You want to buy a semiannual bond that has four years left before maturity. It has a 6% coupon rate and the market yield is currently 5.2%. What is the price you are willing to pay?

1,028.56 1,034.13 1,253.89 868.95 N = 8 , I/Y = 2.6 , PMT = 30 , PV = ? , FV = 1,000 PV = -1028.56

What is the present value of a stream of cash flows of $125,000 at a discount rate of 7%?

1,250,000 1,552,667 875,000 1,785,714 125,000 / .07 = 1,785,714

What is the current ratio of Eastern Family?

1.94 2.18 1.46 2.49 Current Ratio = 9700 / 3900 = 2.49

Management of Hind Sight Solutions has revamped its operations. Looking forward to future growth, their new goal is to pay 8 percent of net income as dividends, reaching a net margin of 6 percent. Last year's information is as follows: sales $5,000,000; Inventory $3,500; total assets $4,500,000; total liabilities $3,000,000. Calculate their sustainable growth rate rounded to the nearest percent. (Hint: You will need to use the DuPont equation to solve this one.)

18% 45% 22% 23% 32% NM 6% Payout ratio 8% Sales 5,000,000 Assets 4,500,000 Liabilities 3,000,000 Asset Turnover = 5,000,000/4,500,000 = 1.1% Equity Multiplier = 4,500,000/(4,500,000-3,000,000) = 3 SGR = .06 * 1.11 * 3 * (1-.08) = 18% Notice on this solution, we have to use the DuPont equation which states that ROE equals net profit margin times asset turnover times equity multiplier. Once we have ROE, we can use the standard SGR equation of SGR = ROE * plowback to complete the problem.

Equipment is sold for $30,000 at the end of a project. The working capital return is $50,000. The tax rate is 40%. What is the terminal cash flow?

18,000 80,000 68,000 50,000

The ask price of stock A is $215.54 while the bid price for stock A is $215.14. What is the bid ask spread?

215.54-215.14 = 0.40

GetStrong, Inc has net income of $10 million, equity on the balance sheet of $100 million, and pays an aggregate dividend of $3 million. Compute GetStrong's sustainable growth rate (SGR).

3.0% 5.0% 7.0% 10.0% Not enough information. NI 10 E 100 Div 3 ROE = 10/100 = 10.0% 1- Payout ratio = 1-(3/10) = .7 SGR = 10% * .7 = 7%

A firm purchased raw materials on April 1st on credit, paid for the materials on April 15th, finished producing and sold the finished product for cash on May 15th. How many days was the cash cycle?

30 15 25 20 The firm paid for the materials on April 15th and received cash payment on May 15th. This implies the cash cycle is one month or 30 days.

What is the cash flow from operations given the following information? Net income 450,000 Change in accounts receivable 120,000 Change in inventory - 90,000 Change in PP&E 60,000 Depreciation expense 110,000 Change in accounts payable 50,000 Change in accrued expenses - 75,000 Change in common stock 300,000

570,000 375,000 505,000 410,000 450 + 110 depn - 120 + 90 + 50 - 75 = 505,000

What percentage of Macrosoft's sales is consumed by operating expense (including depreciation)?

59.53% 30.34% 40.47% 10.13% Operating Expense/Sales = Gross Margin - Operating Margin = 40.47% - 10.13% = 30.34%. Alternatively, Op Expense/Sales = (3250+1300)/15000 = 30.33%. (difference is due to rounding error)

Suppose a company is financed with 100% debt. Of the company's debt, 67% is made up of long-term debt. The yield on the company's short-term debt is 8% and the yield on the long-term debt is 10.2%. If the marginal tax rate is 34%, what is the weighted average cost of capital in percent? (Round to the nearest hundredth: .00)

6.25 WACC: .67*10.2%(1-.34) + .33*(8%)(1-.34) = 4.51%+1.74% = 6.25%

An investor wants to know what the yield to maturity is for a $1,000 bond with a 5.5% coupon rate that matures in five years if the current market price is $955.

6.62 6.33 7.23 6.59 N = 5, PV = -955, PMT = 55, FV = 1,000, I/Y = 6.59

A project has net income of $750,000 including depreciation expense of $42,000. What is the differential cash flow?

708,000 792,000 42,000 750,000 750 + 42 = 792

What is the ROE for Eastern Family?

8.94% 14.36% 2.93% 23.70% ROE = 474 / 5300 = 8.94%

Jennie purchased $10,000 worth of Techno Corp's stock at $50/share. She held this stock for one year. After receiving a dividend of $2.00/share, she sold it for $52.50/share. What is her rate of return?

9.8% 9.6% 9.2% 9% 10% D1 = $2.00 V0 = $50.00 V1 = 52.50 Rate = (52.50+2.00)/50.00 - 1 = .09

You are interested in a quarterly $1,000 bond that matures in seven years and has a coupon rate of 6% and a YTM of 8%. What is the price?

901.36 1,033.21 895.87 893.59 N = 28 , I/Y = 2 , PMT = 15 , PV = ? , FV = 1,000 PV = 893.59

The timing of a firm's fiscal year end would be most relevant to which of the following firms:

A hospital. A restaurant. A snowboard shop. A supermarket. When analyzing seasonal firms, an analyst must be careful to understand the relationship between fiscal year end and the sales cycle.

Which components are part of total liabilities?

Accounts payable, accounts receivable, short term debt Bonds, accounts payable, mortgage Common stock, long term debt, short term investments Long term debt, common stock, retained earnings

Which one of the following is NOT an example of meaningful ratio analysis?

Analyzing the trend in ratios over time for a single firm. Using ratios to assess goal achievement. Using GAAP rules to calculate standard ratios. Using ratios to compare a firm with high performing competitors. While GAAP rules must be understood, ratio analysis is not standardized by GAAP.

Given the information below, an investor that wishes to increase return relative to risk will prefer which of the following assets? (see graph)

Asset A Asset B Asset C Asset D Asset E

The basic equation of an income statement is:

Assets - expenses = net income Revenues - expenses = net income Revenue - net income = liabilities Revenues - liabilities = net income

When fixed assets increase what happens to cash?

Cash stays the same. Cash decreases. Assets decrease. Cash increases.

A firm has sales of $101 million, variable costs of $74 million, fixed costs of $9 million, depreciation of $6 million, interest expense $3 million and taxes of $.5 million. What is the degree of combined leverage? (Round to the nearest hundredth: .00)

DCL: (101-74)/([101-74-9-6]-3)= 3.00

A firm has EBIT of $14 million and interest expense of $5 million. What is the firm's degree of financial leverage? (Round to the nearest hundredth: .00)

DFL: 14/(14-5)=1.56

A firm has EBIT of $56 million and earnings before taxes (EBT) of $34 million. What is the firms degree of financial leverage? (Round to the nearest hundredth: .00)

DFL: 56/34 = 1.65

Suppose a firm has sales of $15 million, variable costs of $4 million, fixed costs of $5 million, and EBIT of $5 million. Given this information, what is the degree of operating leverage? (Round to the nearest hundredth: .00)

DOL: (15 - 4) / 5 = 2.2

What is the financial leverage of Company A? How will that leverage affect profits compared to Company B if sales decrease? For Company A, EBIT is $500,000, interest expense is $50,000, sales are $4,500,000, and variable costs are $3,000,000.

Degree of financial leverage: 3.33 Profits increase as interest expense increases. Degree of financial leverage: 1.11 Profits decrease with higher leverage. Degree of financial leverage: 1.11 Interest costs rise as sales decrease. Degree of financial leverage: 3.00 Profits increase as sales decrease. Profits decrease more as leverage increases. 500/(500 - 50) = 1.11

DFN stands for:

Disciplined Financial Needs Discounted Federal Notes Discretionary Financing Needed Depreciated Fixed Notes Deep Fixed Needs

How do we compute future levels of spontaneous accounts?

Divide projected level of sales by historical percent of sales. Multiply projected level of sales by historical percent of sales. Add projected level of sales to historical percent of sales. Subtract historical percent of sales from level of sales. None of these choices.

According to the survey of nearly 400 Chief Financial Officers discussed in the topic, which of the following methods do firms NOT use as methods of calculating the cost of common equity?

Dividend Discount (Gordon) model Capital Asset Pricing Model Perpetuity Dividend Model All of these choices are used

Which of the following represent potential uses of net income under the accrual accounting system:

Dividends and research/development Dividends and charitable contributions Retain within the firm and dividends Retain within the firm and research/development There are only two things a company can do with its net income: 1) pay it out as dividends to shareholders, or 2) retain it within the firm.

Which of the following is a typical characteristic of preferred stock?

Dividends in arrears Cumulative dividends A higher payoff claim in case of bankruptcy All of these choices

Which of the following is not a problem associated with payback period?

Does not consider time value of money. All of these choices are problems associated with payback period. Firm cutoffs are subjective. Does not consider any required rate of return.

If the industry average debt ratio is 60%, then:

Eastern Family has more owners' equity relative to its assets than the industry average. Eastern Family is more aggressively financed by debt than the industry. Eastern Family is more conservatively financed than the industry norm. Eastern Family's debt is lower quality than the average in the industry. Eastern Family's debt ratio is 67.28% (= total liabilities/total assets = 10,900 / 16200; remember, total liabilities equals current liabilities [$3,900] + long-term liabilities [$7,000]). Since the industry average is only 60%, Eastern Family finances a higher portion of its assets with debt than the industry norm. Thus, Eastern is more aggressively financed than the industry. Having a higher debt ratio does not necessarily mean that the company's debt is lower quality.

To determine how much a spontaneous account will change we:

Estimate using your target profit margin Divide sales by the spontaneous account Divide last year's sales by this years spontaneous account Divide last year's spontaneous account by last year's sales Divide last year's spontaneous account by this year's sales

A positive DFN indicates:

Excess internal financing is available Internal financing is sufficient External financing is needed The project will pay more than the company's required return Financing needs are equal to financing available

Which one of the following ratios is NOT part of the common ratio categories?

Financing Profitability Operating Liquidity

Which of the following is an assumption in Modigliani and Miller (1958, 1963)?

Firms do not face risk. Firms have heterogeneous expectations. Firms face solvency risk. Firms do not face bankruptcy costs. None of these choices. The main assumptions made by Modigliani and Miller (1958, 1963) are that firms do not pay taxes, do not have transaction costs, and they do not have bankruptcy costs.

What type of bond can be traded in for stock?

Muni-bond Foreign Bond Zero-coupon Bond Euro Bond Convertible Bond

Sometimes we multiply "net margin" times projected sales to get forecasted net income. What is the ratio for net margin?

NI/S NI/RE S/NI NI/E E/NI NI/S = Net income/sales

Capital budgeting is the:

Process of estimating the life of a new project. Process of estimating the cost to start a new project. Process of budgeting a firm's monthly revenue and expenses. Process of deciding which projects increase firm value.

How do we compute projected RE?

Projected RE = Old RE + Change in RE Projected RE = Old RE + NI-Dividends Projected RE = Old RE + Projected sales x net margin x (1-payout ratio) All of these choices None of these choices

Which of the following is NOT a way discussed to manage sales growth?

Slow sales growth Examine capacity constraints Lower dividend payout Increase net margin All of these choices are ways

Which of the following is the main benefit of holding inventory?

Tax shields A reduction in current liabilities An increase in fixed assets Ability to meet the demands of customers None of these choices

The use of the historical cost principle on the balance sheet means:

That most assets are stated at the original cost less depreciation Inflation must be impounded in the original cost of assets Historical cost must be used to value the firm The amounts on the balance sheet reflect revaluation using historical inflation rates While there are some exceptions, most assets on the balance sheet are reported as the historical acquisition cost less any depreciation claimed against the assets.

Suppose a firm made a payment for some products produced by your firm. The check was mailed today. Collection float is:

The amount of time it takes for the company to spend the funds once the check has been processed. The amount of time it takes for the company to take the check to the bank. The amount of time it takes for the company to receive acknowledgement that the check has been sent. The amount of time it takes for the company to receive the check. The amount of time it takes for the company to have the check deposited and available at the bank.

What does the degree of financial leverage indicate?

The firm's cash balance The reliance on assets The reliance on debt The cost of financed assets

Companies can raise capital by issuing bonds or stocks.

True False

Cash flow from operations cannot be managed.

True False CFO can be dramatically impacted by managerial discretion in the financial reporting process.

Investing in a good, stable company is always a good investment.

True False The company may be a great company, but if the stock is overvalued, then it will most likely not make for a good investment.

Management can dictate how spontaneous accounts should change.

True False The text gives the example of management setting a goal for average collection period (ACP). Using the ACP ratio, management dictates what accounts receivable (AR) will be forecasted as. So instead of AR being spontaneous as it is typically, this is an example of how management can dictate how it will change.

The two types of float discussed in the topic are Collection Float and Receivables Float.

True False The two types of float discussed in the topic are Collection Float and Disbursement Float.

We can value stocks like debt by discounting all future cash flows to the present value.

True False The value of any stock is equal to the present value of its future expected cash flows.

A firm should always choose to pay cash and avoid credit purchases of raw materials.

True False There are benefits and disadvantages to purchasing on credit. A firm should evaluate its situation and do appropriate working capital management.

The ratios used in financial analysis are defined by GAAP.

True False There are no rules for ratios. You can make your own to meet your needs.

Titman and Wessels (1988) do not find that transaction costs affect the capital structure of firms.

True False Titman and Wessels (1988) found that transaction costs do affect a firm's capital structure.

Common stock guarantees an equal stream of future cash flows.

True False Unlike bonds or loans which may guarantee a fixed repayment or regular coupon payments, common stock does not guarantee an equal stream of future cash flows. In fact, although dividends could be paid on common stock some companies do not pay dividends or do not pay the same amount in dividends to shareholders from year to year!

Which one of the following is NOT an example of the use of meaningful comparison standards for ratio analysis?

Using ratios to assess whether the firm is meeting established goals. Reporting ratios in annual financial statements. Comparing ratios over several years to understand changes in the company. Comparing a firm's ratios to the industry average to assess strengths and weaknesses. There are no required ratios for financial reporting. Simply including ratios for the year in an annual report does not provide a comparison or standard for the calculated ratios. The other answers are examples of internal goal monitoring, trend analysis, and cross-sectional analysis.

If a country intervenes to maintain a constant value of the country's currency, it is a ___________ exchange rate regime.

a. floating b. flat c. fixed d. pegged e. both c and d

If a country follows a floating exchange rate policy then the value of the currency is determined strictly by:

a. supply and demand in the open market b. actions through monetary policy c. actions through fiscal policy d. both b and c e. none of the above

Which type of bond placement - competitive sale or negotiated sale - requires a more thorough interview process?

competitive sale negotiated sale

5. The policy that allows a currency to float within a minimum and a maximum is called:

flat fixed fair managed floating floating

Which of the following is NOT a type of exchange rate regime discussed in this section?

floating flat fixed managed floating all of the above are an exchange rate regime

A stock is a share of ______________ in a particular company.

ownership

The matching principle in accrual accounting requires that_________.

revenues should be large enough to match expenses expenses are matched to the year in which they are incurred revenues be recognized when the earnings process is complete and matches expenses to revenues recognized revenues are matched to the year in which they are booked

Market orders are __________ sensitive while limit orders are _____________ sensitive.

time, perception time, price market, price

Like debt, stock has a maturity or expiration date.

True False

Markets are where prices are determined.

True False

Masulis (1980) finds empirical evidence that stocks prices change around the changes in capital structure suggesting that market value is affected by capital structure.

True False

The cost of debt is denoted in percentage terms.

True False

Working capital management is the management of cash required to meet the day-to-day operations of the firm.

True False

A company's WACC will increase if the company reduces the percentage of its total debt made up from short-term debt.

True False A company's WACC will increase if the company reduces the percentage of its total debt made up from ST debt." The text states that LT debt will have higher yields to maturity than ST bonds (due to risk from the longer term nature of the debt). So if a firm decreases its use of ST debt and instead uses LT debt... it is actually decreasing its use of a lower YTM and increasing its use of a higher YTM resulting in an overall increase to the WACC.

If sales were to increase 1%, then operating income will increase in proportion to the degree of operating leverage.

True False

If stock A has a higher expected return for a given level of risk than stock B, investors will sell stock A and buy stock B.

True False

If we do an analysis and determine a company is really good, this means it is also a good investment.

True False

In an efficient market, new information will move prices almost immediately.

True False

Information filed with FINRA is only available to approved agencies.

True False

Jensen and Meckling (1976) suggest that agency costs can affect the value of the firm.

True False

Leveraged recapitalizing generally increases the debt-to-equity ratios.

True False

Masulis (1980) finds that tax shields affect the change in stock prices surrounding changes in capital structure.

True False

Myers and Majluf (1984) combined the investment and financing decision and show that a firm's capital structure can affect the value of that firm.

True False

NYSE daily trading volume has increased over the last 50 years.

True False

One possible way for a firm to find its optimal debt-to-equity ratio is to find the average debt-to-equity ratio of all firms in the entire economy.

True False

Privately-held companies and publicly traded companies will always maximize shareholder value in the same way.

True False

Proper diversification should reduce the riskiness associated with a portfolio.

True False

Proper management of a firm's working capital will require careful management of accounts payable.

True False

Secondary markets are where securities are initially offered to the public.

True False

Securities sold outside the US to non-US citizens typically do not require registrations with the SEC.

True False

Short-term bonds generally have lower yields than long-term bonds, holding everything else constant.

True False

Some high frequency traders provide liquidity to the rest of the market.

True False

The NYSE specialist has an objective to provide liquidity to the market.

True False

The NYSE specialist will charge a higher price to sellers of the stock and a lower price to the buyer of the stock.

True False

The WACC is denoted in dollar terms.

True False

The after-tax cost of debt is equal to the yield to maturity on a company's bonds multiplied by 1 minus the marginal tax rate.

True False

The bid-ask spread is compensation to the specialist for providing liquidity to the market.

True False

The firm that wishes to sell securities can amend their S-1 filing with the SEC as late as the morning of their IPO.

True False

Titman and Wessels (1988) present evidence that a firm's capital structure will depend, in part, on the presence of transaction costs.

True False

Top management is now required to personally guarantee the accuracy of financial statements because of SOX.

True False

Trading on the NYSE is executed without a specialist (i.e., a market maker).

True False

When Chile pegged the Chilean Peso to the US dollar in the 1970s it was a great help to their national economy.

True False

While competitive sales allow underwriters to submit bids to purchase bonds, negotiated sales do not.

True False

TippingToys is considering the purchase of a new toy-making machine that will increase revenues by $50,000 a year and annual costs by $10,000. The new machine will replace an outdated machine with a current book vale of $10,000 but if scrapped now can only be sold for $6,000. The new machine will cost $100,000 with shipping and installation fees of $10,000. The machine will be depreciated via 5-year MACRS schedule (20.0%, 32.0%, 19.2%, 11.5%, 11.5%, 5.8%). The firm estimates that the new machine can be sold at the end of its five-year life for $20,000. The new machine will necessitate an investment of $30,000 in working capital that will be fully recovered at the end of the project. Tipping Toys has a 10% cost of capital and a corporate tax rate of 40%. What is the initial outlay?

$142,400 $134,000 $132,400 $144,000 Cost of New Machine (100,000) Installation/Shipping (10,000) Depreciable base (110,000) Working Capital (30,000) Price of Old 6,000 BV of Old (10,000) Gain/Loss (4,000) Tax 1,600 Net Sales of Old 7,600 Initial Outlay (132,400) Notes: Note the net cash inflow from the sale of the old equipment is $7600 ($6,000 sale proceeds plus a $1,600 tax shield). The depreciable base is the cost of the asset plus shipping, or $110k. The working capital investment is not included in the depreciable base, but is part of the initial outlay. You can simplify this calculation by thinking of it as: IO = cost + shipping + working cap - sale of old = 100k + 10k + 30k - 7.6k = 132,400 (remember, this is an outflow!)

Your grandparents decided to give you $3,500 a year at the beginning of each year for 4 years while you are in college. If instead they were to give you an equivalent single sum today, how much would they have to give you today? Assume that the discount rate is 6%.

$16,229.83 $15,311.16 $12,127.87 $12,855.54 PV: ($12,855.54) FV: 0 PMT: 3500 N: 4 I: 6% Mode: 1 (Begin)

You and your spouse welcomed a new baby boy today. Your parents gave you $5,000 for the child's education and you invest it in an account that earns 7% annual return, so that he can use the money to go to a college in 18 years. How much will he have when he starts going to college?

$16,900 $18,083 $19,348 $15,794 FV = PV(1+r)t = 5000(1+0.07)18 = $16,900

TippingToys is considering the purchase of a new toy-making machine that will increase revenues by $50,000 a year and annual costs by $10,000. The new machine will replace an outdated machine with a current book value of $10,000 but if scrapped now can only be sold for $6,000. The new machine will cost $100,000 with shipping and installation fees of $10,000. The machine will be depreciated via 5-year MACRS schedule (20.0%, 32.0%, 19.2%, 11.5%, 11.5%, 5.8%). The firm estimates that the new machine can be sold at the end of its five-year life for $20,000. The new machine will necessitate an investment of $30,000 in working capital that will be fully recovered at the end of the project. Tipping Toys has a 10% cost of capital and a corporate tax rate of 40%. What is the NPV of the project?

$22,206 $18,824 $14,755 $15,718 Note: the total cash flow in year 5 (aka, year 5 free cash flow) of $73,612 consists of the differential (or operating) cash flow of $29,060 plus the terminal cash flow of $44,552

4 years ago you received a student loan of $20,000 with the annual interest rate of 8% compounded monthly. Because it is a student loan, you did not make any payments during the time you were in school (interest was still accruing). What is the current balance of the student loan?

$27,557.09 $20,538.69 $20,000.00 $27,209.78 PV: 20000 FV: $27,557.09 PMT: 0 N: 48 I: 0.67% Mode: 0 (End)

You are considering purchasing a stock that recently paid a dividend of $2.10 and is expected to grow at the average industry rate of 3 percent a year. What would you pay for this stock if you require a 10 percent return on your investments?

$28.76 $31.12 $29.87 $30.90 $30.00 Using the Gordon Growth Model, we compute V0. Remember to grow the dividend! V0 =(2.1*1.03)/(.10-.03)

Calculate the value of a preferred stock that pays a dividend of $5 per share and your required rate of return is 14 percent.

$32.50 $30.90 $38.22 $41.00 $35.71 D = $5.00 kps = 14% V0 = 5.00/.14

FredCo preferred stock pays a constant dividend of $3.55 to their shareholders. If your required rate of return on investments is 9 percent, what would you be willing to pay for FredCo stock?

$32.59 $22.08 $27.22 $39.44 $38.08 Using the perpetuity equation, compute V0. V0 = D/kps V0 = 3.55/.09

Calculate FCFF using the following information: EBIT 598,000 Interest expense 42000 ΔNWC 15,000 ΔCAPEX 22,000 Current Liabilities 302,000 Depreciation 9,000 Tax rate 40%

$330,800 $372,500 $430,900 $498,200 $422,750 FCFF = EBIT(1-t) + Dep - ΔCAPEX - ΔNWC FCFF = 598,000*(1-.4) + 9,000 - 22,000 - 15,000 = 330,800

Suppose an asset that cost $250,000 is depreciated straight-line over 7 years. The salvage value is assessed as $5,000. What is the depreciation expense in Year 3?

$35,000 $35,714 $48,000 $41,823 Depreciation Expense = (250000 - 5000) / 7 = $35,000

You have purchased 1000 shares of Omega Corporation for $11 per share. You require a 35 percent return for investing in start-up companies. How much must the dividend be in order to reach your required rate of return?

$4.02 $6.00 $28.24 $3.85 $31.43 Using the perpetuity equation, solve for D. D = V0 * kps D = 11 * .35

Balken Inc. reports the following on their most recent financial statements: - Change in accounts payable: $50 - Change in notes payable: $100 - Change in long-term debt: $200 - Change in retained earnings: -$120 - Dividends declared: $160 What is Balken's net income for the period?

$40 -$120 $120 -$40 Change in RE = net income - dividends; -120 = net income - 160.

Beckingham Sports is an American company that produces sports equipment. Based on the results of a $25,000 market study and of a $40,000 consultant report, Beckingham Sports is considering expanding overseas. Projected annual revenue associated with the expansion will be $200,000 and annual costs are estimated at $40,000. The expansion will require the replacement of an old machine with more modern equipment. The old machine has a $40,000 market value and has been fully depreciated to its salvage value of $10,000. The new, higher-capacity equipment will cost $340,000. Additionally, installation and shipping fees of $60,000 will be incurred. The new machine will be depreciated via 5-year MACRS schedule (20.0%, 32.0%, 19.2%, 11.5%, 11.5%, 5.8%). The firm estimates that the new machine can be sold at the end of its five-year life for $100,000. The new machine will necessitate an investment of $28,000 in working capital that will be fully recovered at the end of the project. Beckingham Sports has a 13% cost of capital and a corporate tax rate of 40%. What is the initial outlay?

$404,000 $428,000 $400,000 $388,000 Cost of New Machine (340,000) Installation/Shipping (60,000) Depreciable Assets (400,000) Working Capital (28,000) Price of Old 40,000 BV of Old (10,000) Gain/Loss 30,000 Tax 30,000 * 40% = (12,000) Net Sales of Old 28,000 Initial Outlay (400,000) Note: initial outlay is cost of new + ship/install + WC investment - NET proceeds from sale of old.

You are planning for retirement and need $4,000,000 when you retire in exactly 40 years. Your employer will match all contributions to your retirement account on 1-for-1 basis and you can earn 8% on all invested funds. Currently, you have $10,000 in your retirement account. To reach your goal, you plan to make monthly contributions starting today. How much do you have to contribute to your retirement account each month? (Use at least four decimal places of accuracy for the interest rate and round to the nearest $1)

$534.57 $538.13 $1,076.27 $1,069.14 PV: ($10,000.00) FV: $4,000,000.00 PMT: ($1,069.14) N: 40 x 12 = 480 I: 8 / 12 = 0.67% Mode: 1 (Begin) This table represents TVM buttons on your financial calculator. Step 1: Solve for the total monthly contribution (PMT). The highlighted cell is the solution. (Put calculator in Begin mode, enter PV, FV, N, I, and solve for PMT.) Step 2: Divide the total monthly payment by two to account for the 1-for-1 matching contribution. 1069.14/2 = $534.57

You are looking to purchase Ordway common stock at $55 per share, hold it one year, and sell after a dividend of $3 is paid. What would the stock price need to be in order to satisfy your required rate of return of 15 percent?

$58.75 $65.50 $60.25 $55.08 $72.15 0 = $55.00 D1 = $3.00 Rate = 15% (V1-55+3)/55 = .15, Solve for V1

Beckingham Sports is an American company that produces sports equipment. Based on the results of a $25,000 market study and of a $40,000 consultant report, Beckingham Sports is considering expanding overseas. Projected annual revenue associated with the expansion will be $200,000 and annual costs are estimated at $40,000. The expansion will require the replacement of an old machine with more modern equipment. The old machine has a $40,000 market value and has been fully depreciated to its salvage value of $10,000. The new, higher-capacity equipment will cost $340,000. Additionally, installation and shipping fees of $60,000 will be incurred. The new machine will be depreciated via 5-year MACRS schedule (20.0%, 32.0%, 19.2%, 11.5%, 11.5%, 5.8%). The firm estimates that the new machine can be sold at the end of its five-year life for $100,000. The new machine will necessitate an investment of $28,000 in working capital that will be fully recovered at the end of the project. Beckingham Sports has a 13% cost of capital and a corporate tax rate of 40%. What is the depreciation expense in Year 3?

$65,280 $84,480 $76,800 $89,280 The depreciable asset is $400,000 (which is the cost of new machine, installation and shipping), and the depreciation percentage is 19.20% of that. 400000*.192 = 76800

Your firm is considering a new project. The project will cost the firm $50 million initially and will generate cash flows of $10 million in year 1, $20 million in year 2, $25 million in year 3, $15 million in year 4 and $5 million in year 5. If the required rate is 10%, what is the total present value of cash flows? (Be sure to subtract out the initial cost of $50 million.)

$7.75 million $57.75 million $75.00 million $25.00 million Step 1: Present values of future cash flows: Year 1 FV: $10 PV: $9.09 Year 2 FV: $20 PV: $16.53 Year 3 FV: $25 PV: $18.78 Year 4 FV: $15 PV: $10.25 Year 5 FV: $5 PV: $3.10 PV - Inflow: $57.75 Step 2: PV of CFs - Initial Cost = $57.75 million - $50 million = 7.75 million

Use the following information to answer the questions about XYZ Company. XYZ Company is considering the purchase of new equipment. The firm spent $12,000 on consulting several months ago as well as $7,000 on a market study about a year ago. In order to start the new project, the firm has to replace the old machine which has a book value of $0 and will be scrapped. The new machine will cost the firm $220,000. Additionally, XYZ will spend $7,000 in installation and $3,000 in shipping. Since the new machine will produce more, an investment in net working capital of $10,000 is required. The new machine will be depreciated using straight-line depreciation to a salvage value of $0. However, the realizable salvage value of the new machine at year 5 is expected to be $50,000. The new machine will increase annual operating revenues by $125,000 and operating costs by $45,000. The marginal tax rate is 34%. What is the total cash flow for Year 5?

$78,440 $68,440 $111,440 $101,440 Total CF = DiffCF + Terminal CF = 68,440 + 43,000 = 111,440.

Calculate the value of a bond that matures in 15 years and has a $1,000 face value. The coupon rate is 9 percent and the investor's required rate of return is 11 percent. Assume annual compounding.

$798.64 $856.18 $1,000.00 $1,123.00 Calculator Inputs N = 15 FV = 1000 PMT = 1000*.09 = 90 I = 11

Beckingham Sports is an American company that produces sports equipment. Based on the results of a $25,000 market study and of a $40,000 consultant report, Beckingham Sports is considering expanding overseas. Projected annual revenue associated with the expansion will be $200,000 and annual costs are estimated at $40,000. The expansion will require the replacement of an old machine with more modern equipment. The old machine has a $40,000 market value and has been fully depreciated to its salvage value of $10,000. The new, higher-capacity equipment will cost $340,000. Additionally, installation and shipping fees of $60,000 will be incurred. The new machine will be depreciated via 5-year MACRS schedule (20.0%, 32.0%, 19.2%, 11.5%, 11.5%, 5.8%). The firm estimates that the new machine can be sold at the end of its five-year life for $100,000. The new machine will necessitate an investment of $28,000 in working capital that will be fully recovered at the end of the project. Beckingham Sports has a 13% cost of capital and a corporate tax rate of 40%. What is the terminal cash flow of the project?

$88,000 $60,000 $97,280 $72,480 WC 28,000 Sale of New 100,000 BV of New (5.8%*400000) (23,200) Gain/Loss 76,800 Tax (30,720) Cash from Sale 69,280 Terminal CF 97,280

You calculated the present value of an ordinary annuity to be $10,000. The discount rate is 10%. Which of the following is the most likely solution for the present value of an annuity due with the same cash flows?

$9,000 $9,500 $10,000 $11,000 If the stream of cash flows are the same between ordinary annuities and annuities due, then the present value of an annuity due must be higher. (The annuity due method shifts payments closer to time 0 which means the cash flows are discounted less).

You have a son who just turned 8 years old. You want him to go to a university and would like to provide financial support. Your goal is to give him a gift of $15,000 when he enters college in exactly 10 years. Assuming you can earn 5%, how much do you have to set aside today? (round to the nearest $1)

$9,209 $15,000 $7,500 $24,433 PV = FV/(1+r)t = 15000/(1+0.05)10 = $9,208.70

Active Alarm is replacing its old machine with a new one. The old machine is being sold for $200,000 and it has a book value of $50,000. The tax rate for the firm is 40%. What is the net proceed from the sale of the old machine?

$90,000 $260,000 $140,000 $150,000 Net Sale = Sale price - (Sale price - Book Value) x Tax Rate = 200,000 - (200,000 - 50,000) X 0.4 = $140,000

Suppose you bought a stock for $101.44 one year ago. Today the stock is currently priced at $109.54. If the stock does not pay a dividend, what is the percentage return for this stock? (ANSWER IN DECIMAL FORM)

(109.54-101.44)/101.44 = 0.0799 or 7.99%

If the investment is $140,000, what is the net present value, given a total present value of $154,606?

-71,448 140,000 14,606 -123,420 154,606 - 140,000 = 14,606

A company is planning to issue a new $1,000 face value bond that will mature in 20 years. The price of the bond is expected to be equal to the face value and the annual coupon rate is 7.5%. Flotation costs are $12 per bond. How much higher is the before tax cost of debt when accounting for flotation costs? (Round to the nearest hundredth: .00)

0.12 Cost of debt without flotation costs: I/Y = 7.5% Cost of debt with flotation costs: (FV=-1000,PMT=-75, PV=988, N=20, CPT I/Y=7.62% Difference is 0.12%

What is the degree of combined leverage when EBIT is $700,000, interest expense is $100,000, sales are $3,500,000, and variable costs are $1,200,000?

0.462 2.917 5.000 3.833 (3,500-1,200) / (700-100) = 3.833

If a company has current assets of $90 and fixed assets of $140, if it has debt of $125, what is its debt ratio?

0.54 1.36 1.12 1.84 (debt) 125 / 140 + 90 (total assets) = .5435

A stock has an expected return of .16. The market premium is .11, and federal funds are returning .025. What is the beta?

0.9870 1.4545 2.2758 1.2273 .025 + x (.11) = .16 ( .16 - .025) / .11 =1.2273

UniFy Inc. has an expected return of 14.5%. If the market risk premium is 11.5% and the risk free rate is 3%, what is the beta for this company?

1 14.5% = 3% + B(11.5%). Solve for B, B = 1

Bookmark question for later If sales are $1,000,000, then what are the total current assets given the following? Cash 25% of sales Accounts receivable 13% of sales Accounts payable 10% of sales Accrued payroll 5% of sales Cost of goods sold 50% of sales Inventory 15% of cost of goods sold

1,030,000 455,000 380,000 338,000 Cash 250,000 + A/R 130,000 + Inventory (.15 * COST OF GOODS SOLD of 500,000) = 250 + 130 + 75 = 455

A bond issued with a face value of $1,000 pays a 3% coupon rate and matures in seven years. If an investor wants a yield of 4%, how much is the investor willing to pay for the bond?

1,033.32 939.46 1,067.04 939.98 N = 7, I/Y = 4, PMT = 30, FV = 1,000, PV = 939.98

A couple wants to save up for a down payment on a house. They think they need to save $100,000 in five years. If the interest rate is 4% and they start at the end of the year when they both get bonuses from their employers, how much do they have to put aside annually?

17,752.61 15,962.84 22,096.37 18,462.71 FV = 100,000, N = 5, I/Y = 4, PV = 0, Solve for PMT This is an END problem = 18,462.71

Whole Pine Inc. forecasts sales of $450 million. It has established the following percentages of spontaneous accounts: 5% of cash, 17% of A/R, 11% of inventory, 48% of PP&E, and 18% of A/P. It holds a mortgage of $30 million, bonds of $50 million, equity of $150 million, and earnings of $35 million. What is the DFN?

18.5 million 33 million -16.5 million 15.5 million Correct Answer: 18.5 million Assets Liabilities & Equity Cash22.5 millionAccts Payable81.0 millionAcct. Rec76.5 millionMortgage30.0 millionInventory49.5 millionBonds50.0 million PP & E216.0 millionEquity150.0 million Earnings35.0 millionTotal Assets364.5 MillionTotal Liab & Equity346.0 millionDFN364.5 - 346.0 = 18.5 million

Which of the following gives the largest effective rate?

19.0% APR compounded quarterly 20.4% APR compounded annually 18.6% APR compounded daily 18.7% APR compounded monthly (Note: the solution below uses your calculator to find the highest FV and associated effective rate. You could also use the formula: Eff Rate = (1 + i/m)m - 1; Where, i is the stated rate and m is the number of compounding periods per year.) PV FV PMT N I APR Effective Yield ($100) $120.40 0 1 20.4000% 20.4% 20.40% ($100) $120.40 0 4 4.7500% 19.0% 20.40% ($100) $120.39 0 12 1.5583% 18.7% 20.39% ($100) $120.44 0

XFly Inc. has a beta of 1.5. The market risk premium is 11% and the expected return on the market is 14%. Given this information, what is the required return by shareholders of XFly in percent?

19.5 E[R] = (14%-11%) + 1.5(11%)= 19.5%

Kyoto Restaurant has total asset turnover of 1.50, ROE of 18.00%, and net profit margin of 6.00%. What is Kyoto's financial leverage ratio?

2.00 2.50 1.50 1.00 ROE = Net Margin x TAT x FLR, so FLR = ROE / (Net Margin x TAT) = 0.18 / (0.06 x 1.50) = 2.00.

What is the degree of operating leverage given sales of $100,000, variable costs of $75,000, and EBIT of $10,000?

2.05 1.00 10.00 2.50 100,000 - 75,000 / 10,000 = 2.50

Macrosoft's total asset turnover is closest to which of the following?

2.11 0.38 0.72 1.39 Solution: Total asset turnover = sales / total assets = 15k / 20.9k = 0.72

A company has cash of $100, accounts receivable of $250, inventory of $300, and accounts payable of $300. What is the quick ratio?

2.17 1.00 1.17 0.33 100 + 250 / 300 = 1.17

What is the Times Interest Earned for Eastern Family?

2.41x 0.41x 1.85x 7.34x TIE = 1350 / 560 = 2.41x

Your credit union is advertising a 10 year CD at a rate of 3% EAR. These CD's compound quarterly. What is the APR?

2.56% 1.50% 2.97% 2.00% 3.12% 1.03 = (1 +rq)4 Effective quarterly rate = 1.031/4 - 1 Effective quarterly rate = .0074APR = .0074 * 4APR =2.97%

A 5% semiannual $1,000 bond matures in four years. What is the YTM if the price is $1,069?

2.92 3.15 1.75 1.58 N = 8 , I/Y = ? , PMT = 25 , PV = - 1069 , FV = 1,000 I/Y = 1.5752 x 2 = 3.15%

Suppose you bought a stock for $22.10 one year ago. Today the stock is currently priced at $22.08. The stock recently paid a $4 dividend, what is the dollar return for this stock?

22.08-22.10 + 4 = 3.98

A piece of equipment is to be sold at the end of the project. Its appraised value is $420,000. A company makes an offer for $350,000. The equipment has a book value of $75,000. The tax rate is 40%. What is the salvage value if the company accepts the offer?

240,000 252,000 207,000 350,000 350,000 - ((350,000 - 75,000) * .4) = 240,000

What would a dividend have to be if the investor buys a stock for $110, expects to sell the stock in a year for $120, and expects an annual return of 13%?

3.40 4.30 3.30 10.00 D = Vo * (1+r) - V1 Dividend step by step: 110 * 1.13 = 124.30 124.30 - 120.00 = 4.30

What is the ROA for Macrosoft?

3.92% .0221% 2.21% 7.27% ROA = 462/20900 = .0221 = 2.21%

A company just paid a dividend of $2.30 per share to its shareholders. It estimates that future growth will be at 2%. What is the value of the stock if you are looking for an 8% return on your investment?

38.33 28.75 39.10 41.67 (2.30 * 1.02) / (.08 - .02) = 39.10

Macrosoft's average collection period is closest to which of the following? (Assume 365 days in a year.)

4.05 days 45 days 80 days 90 days Solution: AR Turnover = credit sales/AR = 15000/3700 = 4.055. Average Collection Period = 365/AR Turnover = 90.0 days. (Note: in the absence of other information, all sales are assumed to be on credit).

What is the APY for a loan that has a stated rate of 4% APR when it is compounded quarterly?

4.06% 4.08% 4.02% 4.00% 4.10% APY = (1 + .04/4)4 - 1 In this one, the equation is just directly applied because the 4% is given as an APR.

A company has 100,000 $1,000 face value bonds outstanding that are currently priced at $925 each. These bonds have 25 years until maturity and pay a 6% annual coupon rate (coupons are paid semiannually). If the company has a marginal tax rate that is 34%, what is the company's after tax cost of debt? (Round to the nearest hundredth: .00)

4.37 After-Tax Cost of Debt: FV = -1000, PMT = -60/2=-30, PV = 925, N = 25*2=50, CPT I/Y = 3.31*2=6.62% 6.62%*(1-.34) = 4.37%

A company has 125,000 $1,000 face value bonds outstanding that are currently priced at 101% of face value. These bonds have 12 years until maturity and pay a 7.5% annual coupon rate, but the coupons are paid semiannually. If the company has a marginal tax rate that is 34%, what is the company's after tax cost of debt in percent? (Round to the nearest hundredth: .00)

4.87 After-Tax Cost of Debt: FV = -1000, PMT = -75/2 = -37.50, PV = 1010, N = 12*2=24, CPT I/Y = 3.69*2=7.37% 7.37%*(1-.34) = 4.87%

Jayne and Josh are ready to buy a house. The bank is advertising an APR for 30-year fixed rate mortgages of 4.75%. What is the EAR for this mortgage that is compounded monthly?

4.99% 4.85% 4.25% 4.00% 4.55% EAR =(1+(.0475/12))^12 - 1

You perform an analysis and determine the net profit margin (NI/S) is 8%, the total asset turnover (S/A) is 5, and the equity multiplier (A/E) = 1. If the firm pays no dividends because it is a high-growth start-up, what is the SGR?

40% 5% 8% 20% 0% NI/S 8.0% S/A 5 A/E 1 SGR 40.0%

A firm purchased raw materials on April 1st on credit, paid for the materials on April 15th, finished producing and sold the finished product for cash on May 15th. How many days was the operating cycle?

43 40 45 47 The firm received the raw materials on April 1 and received cash payment on May 15. This implies the operating cycle was one and a half months, or 45 days.

Suppose you bought a stock for $45 one year ago. Today the stock is currently priced at $47.42. If the stock does not pay a dividend, what is the dollar return for this stock?

47.42-45 = 2.42

What is the initial outlay given the following information? Equipment price 375,000 Installation 10,000 Power survey 30,000 Shipping 8,000 Working capital 100,000 Project marketing report 15,000

488,000 503,000 493,000 538,000

A company has 75,000 $1,000 face value bonds outstanding that are currently priced at 95% of face value. These bonds have 15 years until maturity and pay an 8% annual coupon rate. If the company has a marginal tax rate that is 40%, what is the company's after tax cost of debtin percent? (Round to the nearest hundredth: .00)

5.16 After-Tax Cost of Debt: FV = -1000, PMT = -80, PV = 950, N = 15, CPT I/Y = 8.61%*(1-.40) = 5.16%

Suppose a company is financed with 100% debt. Of the company's debt, 75% is made up of long-term debt. The yield on the company's short-term debt is 6.8% and the yield on the long-term debt is 8.5%. If the marginal tax rate is 34%, what is the weighted average cost of capital in percent? (Round to the nearest hundredth: .00)

5.33 WACC: .75*(8.5%)(1-.34) + .25*(6.8%)(1-.34) = 4.21% + 1.12% = 5.33%

If a company has current assets of $80 and fixed assets of $120, if sales are $150 and EBIT is $35, what is the fixed asset turnover?

5.71 0.80 2.29 1.25 150 / 120 = 1.25

Suppose a firm has a financial leverage ratio of 2.50. What percentage of the firm's assets are financed by equity?

50% 40% 70% 60% The correct answer is 40%. We know that Assets (100%) = Liabilities (X%) + Equity (Y%). So Financial leverage ratio = 2.5 = 100% / Y% = Assets/Equity; thus Y = 100 / 2.5 = 40%.

For Eastern Family, what percentage of sales is consumed by Cost of Goods Sold?

52.08% 41.10% 58.90% 47.92% Since Gross Margin = Gross Profit / Sales = 4110 / 10000 = 41.10%, the COGS / Sales = 1 - Gross Margin = 58.90%.

What is Macrosoft's interest-bearing debt to total capital ratio (IBDTC)?

52.41% 43.73% 46.23% 51.24% Solution: Interest bearing debt includes notes payable of $800 and long-term debt of $8340 (accounts payable and accrued expenses do not carry an explicit interest rate and are therefore excluded). Total capital includes interest bearing debt and equity of $8300. Hence, IBDTC = (800+8340)/(800+8340+8300) = 52.41%

Suppose a company is valued by the market at $135 billion and is financed with both debt and equity. Currently, the company has a market value of equity of $47 billion. The company also has a market value of short-term debt of $40 billion and a market value of long-term debt of $48 billion. The cost of equity is 13.4%, the cost of short-term debt is 6.8% and the cost of long-term debt is 8.2%. If the marginal tax rate is 40%, what is the weighted average cost of capital? (Round to the nearest hundredth: .00)

7.63 WACC: (47/135)*13.4% + (48/135)*8.2%(1-.40) + (40/135)*6.8(1-.40)= 4.67%+1.75%+1.21%=7.63%

What is the net equipment cost given the following when a new piece of equipment replaces an old one? Old equipment sells for 125,000 Book value of old equipment 22,000 Tax rate 40% New equipment cost 800,000 Site survey 18,000 Installation cost 20,000

717,000 820,000 736,200 695,000 125,000 - 22000 = 103,000 * .4 = 41,200 125,000 - 41,200 = 83,800 deducted from new equipment 800,000 + 20,000 - 83,800 = 736,200

Suppose a company is valued by the market at $60 million and is financed with both debt and equity. Currently, the company has a market value of equity of $10 million. The company also has a market value of short-term debt of $15 million and a market value of long-term debt of $35 million. The cost of equity is 17%, the cost of short-term debt is 9% and the cost of long-term debt is 11%. If the marginal tax rate is 34%, what is the weighted average cost of capital? (Round to the nearest hundredth: .00)

8.56 WACC: (10/60)*17% + (15/60)*9%(1-.34) + (35/60)*(11%)(1-.34) = 2.83%+1.49%+4.24% = 8.56%

You just purchased a new car that cost $20,000 with all taxes and fees. You are making a down payment of $5,000 and can afford $200 payments each month starting one month from today. If the APR of the loan is 3%, how many months will it take to repay the loan? (round to nearest month)

83 months 75 months 84 months 78 months PV FV PMT N I Mode $15,000.00 $0.00 -200 83.2 0.25% 0 (End)

Paradigm Toys forecasts sales of 750,000. Their financial department has developed the following forecast percentages based on historical averages: Cash 11%, A/R 8%, 13% for inventory and accounts payable of 14%. Property Plant and Equipment is 210,000. The company has long term debt of 120,000 and equity of 85,000. It estimates profits at 55,000. What is the DFN?

85,000 30,000 25,000 110,000 Assets Liabilities & Equity Cash82,500A/P105,000A/R 60,000Long Term Debt120,000Inventory97,500Equity85,000PP & E210,000Profits55,000Total Assets450,000Total Liab & Equity365,000DFN450,000-365,000 = 85,000

Suppose a company is valued by the market at $100 million and is financed with both debt and common equity. Currently, the company has a market value of equity of $50 million, of which the company is financed with $10 million of internal equity and $40 million of external equity. The company also has a market value of short-term debt of $25 million and a market value of long-term debt of $25 million. The cost of equity is 15%, the cost of short-term debt is 7% and the cost of long-term debt is 8%. Further, flotation costs on the external equity have summed to 4%. If the marginal tax rate is 40%, what is the weighted average cost of capital? (Round to the nearest hundredth: .00)

9.99 WACC: (10/100)*15%+(40/100)*15%(1.04) + (25/100)*7%(1-.40)+(25/100)*8%(1-.40) = 1.5%+6.24%+1.05%+1.2% = 9.99%

Last year a firm recorded net PP&E of $4,600 while this year the same firm recorded net PP&E of $4,500. If the depreciation expense for last year and this year are $500 and $800, respectively, what is the CFI of the company? (Assume no asset disposals)

900 outflow 700 outflow 100 outflow 100 inflow PPE end 4500 - PPE beg 4600 + Curr yr depn 800 = 700 increase/outflow

A $1000 3% bond with a yield of 2.4% matures in six years. What is the price if the interest payments are made semiannually?

950.26 1,056.20 981.29 1,033.34 N = 12 , I/Y = 1.2 , PMT = 15 , PV = ? , FV = 1,000 PV = 1033.34

A company has 100,000 $1,000 face value bonds outstanding that are currently priced at 95% of face value. What is the market value of the company's debt?

95000000 Market Value of Debt = Price*bonds outstanding = $950*100,000 = $95,000,000

A bond issued with a face value of $1,000 pays a 6% coupon rate semiannually. It matures in four years. Current market interest is 7.5%. What is the price of the bond?

952.43 1,051.87 948.98 949.76 N=8, I/Y = 3.75, PMT = 30, FV = 1000, PV = 948.98

An investor wants to make 5% YTM on a bond that is $1,000 face value with a coupon rate of 4.2%. What price would the investor pay if the bond payments are quarterly and the bond matures in five years?

976.42 955.40 964.80 967.36 N = 20 , I/Y =1.25 , PMT = 10.50 , PV = ? , FV = 1,000 PV = 964.80

Which of the following is an unsecured loan?

A credit card A mortgage A Car loan All of these are examples of unsecured loans. None of these are examples of unsecured loans. As explained in the text, loans that are not backed by specific assets (such as credit cards) are known as unsecured. Loans that are backed by specific assets (such as a home with a mortgage or a vehicle with a car loan) are known as secured loans. Bonds could be either secured or unsecured.

When a firm purchases short-term U.S. Treasury securities, they are generally included on the balance sheet as:

Accounts Receivables Marketable Securities Cash Inventories

Spontaneous accounts generally include

Accounts payable Accounts receivable Cash Inventory All of these choices None of these choices

Which of the following represent operating asset accounts considered in the calculation of CFO?

Accounts receivable and cash Accounts receivable and inventory Accounts receivable and accounts payable Accounts payable and accrued wages

Which of the following does NOT go into the calculation of the Initial Outlay according to the textbook?

After-tax proceeds from the sale of the new equipment Shipping costs Purchase price of the equipment Investing in working capital Sale of the NEW asset will be included in the terminal value. Not mentioned in this problem, sale of OLD asset would be included in the initial outlay.

What issue(s) are associated with the firm goal to maximize shareholder value?

Agency costs and high profit returns The goal is unattainable Potential unethical behavior Agency costs and potential unethical behavior None of these choices

Which of the following is NOT one of the four factors of growth according to the DuPont and SGR?

All of these are growth factors Asset utilization Profitability Dividend policy Leverage

Which of the following will decrease CFO?

An increase in accounts receivable and a decrease in accounts payable A decrease in inventory and an increase in accounts payable An increase in inventory and an increase in accounts payable An increase in inventory and a decrease in notes payable Increase in inventory or accounts receivable and decreases in accounts payable will decrease CFO. Notes payable is a financing item.

Which of the following is true with respect to CFO?

An increase in inventory indicates a reduction in CFO An increase in cash indicates a reduction in CFO A decrease in notes payable indicates a reduction in CFO An increase in accounts payable indicates a reduction in CFO An increase in an operating liability (like A/P) will increase CFO. An increase in notes payable will increase CFF. An increase in cash is the result of operations, investment, and financing.

Which of the following best describes the difference between an annuity due and an ordinary annuity?

An ordinary annuity pays at the beginning of the period, but an annuity due pays at the end. An ordinary annuity pays at the end of the period, but an annuity due pays at the beginning. An ordinary annuity has a limited life, but an annuity due goes on forever. An ordinary annuity goes on forever, but an annuity due has a limited life.

Discretionary accounts:

Are accounts that increase incrementally as sales increase React immediately with demand for the product/services provided Include accounts such as cash, accounts payable, accrued expenses Are line items on the income statement All of these choices None of these choices The opposite of spontaneous accounts are called non-spontaneous or discretionary accounts. These accounts do not increase automatically with sales but are left to the discretion of management.

According to the survey of nearly 400 Chief Financial Officers discussed in the topic, which of the following methods do firms use as methods of calculating the cost of common equity?

Arithmetic Mean Dividend Discount (Gordon) model Capital Asset Pricing Model All of these choices

What is the benefit of using the earnings yield vs. PE ratio?

As earnings approach zero, using the earnings yield will produce a small number As earnings approach zero, using the earnings yield will produce a larger, more realistic number Most respected analysts use earnings yield There is no difference between the two ratios

Which of the following is not part of the CAMELS score?

Asset quality Capital adequacy Earnings Sensitivity to market risk Monetary limits Capital adequacy, Asset quality, Management quality, Earnings, Liquidity, Sensitivity to market risk

Stockholders own the remaining earnings after operations are paid for and creditors are paid making equity a _________ claim.

Backlog Fixed Residual Limited Stockholders have a residual claim on the earnings and the assets of the company. This means that, each year, after the company pays for its operations and pays its creditors, any residual or remaining earnings belong to the shareholders.

Generally speaking, as a firm grows its sales what is required?

Better financial ratios. Increased retained earnings. Less financing is needed because of the growth. More shareholders. Increased financing is needed to fund the growth.

You are planning to go on a great vacation when you retire in 30 years. You calculated the travel expense for several potential trips. To fund the travel, you decided to save $100 a year (starting at the end of the current year) for 30 years in an account with an annual interest rate of 7.5%. You want to use all of the savings for the trip. Which of the following four countries is the choice that is both feasible and will come closest to exhausting your savings?

Brazil - cost of $9,000. Japan - cost of $10,000. France - cost of $11,000. Australia - cost of $12,000. PV FV PMT N I Mode - ($10,339.94) 100.00 30 7.50% 0 (End) Calculator: PV: 0. PMT: 100, N: 30, I: 7.5%, Mode: 0, solve for FV: $10,339.94.

One of your friends is recommending a stock if it sells for more than $165.00 per share. The growth rate is 4% and the latest dividend was $6. You are expecting an 11% return. Why should you buy or not buy the stock?

Buy—the calculated price is higher. Do not buy—the calculated price is too low. Buy—the dividend is higher than the return. Do not buy—the return is higher than growth. (6.00 * 1.04) / (.110 - .040) = 89.14

What is a common abbreviation for foreign exchange risk?

CER FX risk CX risk FER FEXCHR

Which of the following best describes the simplified calculation of CFO:

CFO = NI + Depreciation expense + changes in accounts receivable CFO = NI + Accum. Depreciation + changes in accounts receivable CFO = NI + Depreciation expense + changes in operating accounts CFO = NI + Accum. depreciation + changes in operating accounts CFO is calculated for a single period, so we need depreciation expense for that period and not total accumulated depreciation. Additionally, while changes in accounts receivable are included in the calculation of CFO we need to examine all operating accounts not just this one.

Consider Kyoto Restaurant. Kyoto's ROE is lower than the industry average. However, Kyoto's total asset turnover and financial leverage ratio are identical to the industry. The industry average net margin must be:

Cannot be determined Lower than Kyoto's net margin. Higher than Kyoto's net margin. Equal to Kyoto's net margin. Kyoto's TAT and FLR are the same as the industry. Since TAT x FLR x net margin = ROE, the industry average net margin must be higher than Kyoto's since the industry has a higher ROE.

Which of the following is not an example of firm capital?

Cash Machinery Labor Financial markets

The amount repaid at the expiration date is called:

Coupon Rate Expiration Rate Maturity Rate Yield to Maturity Par Value The par value (also known as the face value) is the amount that will be paid on the maturity date of the loan or bond.

The SEC enforces all but which of the following statutes?

Credit Rating Agency Reform Act Hollis Act They enforce all of the above Investment Company Act Trust Indenture Act

When establishing a credit policy, firms should consider which of the following:

Credit standards Credit terms The likelihood of customers to pay All of these choices None of these choices

Which of the following is usually NOT a spontaneous account?

Current assets Accounts payable Accruals Long-term debt All of these choices are spontaneous

Which type of bond is most likely a secured bond?

Debenture Mortgage Bond Subordinated Debenture Muni-bond Zeros A mortgage bond is a bond that has specific collateral backing it thus it is a "secured" bond.

What are the two types of orders that are used by investors?

Debit Orders and Equity Orders Market Orders and Limit Orders Market Orders and Timely Orders

Which of the following would not be considered an operating expense?

Depreciation expense Non-direct labor expense Rent expense Interest expense Recall the income statement format: Revenues - cost of goods sold - operating expense = EBIT (Earnings Before INTEREST and Taxes; a frequent proxy for operating profit). Interest is NOT an operating expense as it is deducted after the calculation of EBIT.

Depreciation expense is a significant source of difference between net income and CFO because:

Depreciation expense is the actual cash inflow to the firm associated with investment tax benefits. Depreciation expense is the actual cash outflow from the firm associated with the decay in asset values. Depreciation expense is non-cash expense but still represents an outflow of cash to the firm. Depreciation expense is non-cash expense on the income statement associated with the acquisition of long-lived assets. Solution: Depreciation is non-cash expense associated with the acquisition of long-lived assets. Suppose a firm spends $1000 for an asset that will last four years. Accrual accounting requires that the cost be allocated to the periods where benefit is received. The cash is expended when the asset is purchased, but the depreciation expense is recognized over the four years of use. Hence, depreciation is a non-cash expense. Note that depreciation creates a tax shield since it is subtracted before tax is calculated. Hence, depreciation is subtracted to calculate EBT and NI but must be added back to calculate CFO.

Which of the following valuation methods is most appropriate to use for a young firm with high growth prospects?

Discounted Cash Flows (DSF) Comparable Multiples Replacement Cost Two of the above All of the above None of the above

Which of the following valuation methods would be appropriate to use for an established firm with intangibles?

Discounted Cash Flows (DSF) Comparable Multiples Replacement Cost Two of the above All of the above None of the above

Management typically decides to change all of the following accounts EXCEPT:

Discretionary accounts Spontaneous accounts PP&E accounts All of these choices are forecasted at management's discretion With the percent of sales forecast, spontaneous accounts are forecasted based on historical ratios and growth of sales. Discretionary accounts are based on management's choices and PP&E accounts are often at the discretion of the manager's based on the industry and the firm's needs. As discussed in the video, in specific, strategic managerial decisions, management can choose to explicitly change AR and AP. However, as discussed in the text, these two accounts are almost always allowed to vary directly with sales, and are therefore, considered spontaneous.

Which of the following is generally true?

EBIT + Income taxes = Net income Operating income and EBIT are the same Gross profit and operating income are the same Cost of goods sold + Operating expenses = Net income

Suppose a firm has sales of $56 million, variable costs of $20 million, fixed costs of $16 million, and depreciation of $5 million. Given this information, what is the degree of operating leverage? (Round to the nearest hundredth: .00)

EBIT: 56-20-16-5 $15 million DOL: (56-20)/15 = 2.40

What is typically covered by discretionary accounts?

EVA DFN GIGO FCF CAPM

Which of the following accurately describes the calculation of Free Cash Flow to the Firm?

FCFF = EBIT*(1-tax rate) + Depreciation - CAPEX - Increases in NWC + increase in debt FCFF = Net income + Depreciation - CAPEX - Increases in NWC FCFF = Net income+ Depreciation - CAPEX - Increases in NWC + increases in debt FCFF = EBIT*(1-tax rate) + Depreciation - CAPEX - Increases in NWC FCFF is nopat (i.e., EBIT x [1-t]) plus depreciation less capex less increases in net working capital. Note that FCFF = Net income+ Depreciation - CAPEX - Increases in NWC + increases in debt is the formula for FCFE.

What are pro forma statements?

Forecasted financial statements. Statements perturbing the historical data. Statements using historical data. Unaudited financial statements.

What type of bond is tax exempt?

Foreign Bond Convertible Bond Muni-bond Zero-coupon Bond Euro Bond Municipal bonds (often issued by state, city, and local governments) are usually tax exempt at the federal level.

Forecasting is vulnerable to the inputs that we put into the model. What is the acronym for this concern?

GIGO FCF SGA EFN EVA

Which banking act began financial regulation in the United States?

Garn-St. Germain Act Monetary Control Act Glass-Steagall Banking Act Wildcat Banking Act National Banking Act

Earnings Before Interests and Taxes (EBIT) is also called:

Gross margin Gross profit Net Income Operating Income

If a company has a high degree of financial leverage, what does that tell about the firm's risk profile?

Higher ability to pay debt Higher profits to shareholders Appropriate risk Low risk Financial leverage also means more financing is done through debt, not equity.

When a company uses more leverage as evidenced by a higher degree of either financial or operating leverage, what effect does it have on changes in profitability?

Higher leverage leads to higher profitability for a given sales level. When leverage goes up liquidity goes down. Lower leverage results in higher income to shareholders. Higher leverage leads to lower risk.

All of the following are reasons firms would not want to carry too much cash on the balance sheet EXCEPT:

Hinders firm from maximizing shareholder value Firms should always hold as much cash as possible Firms may have to forego projects that could add value Holding cash is subject to opportunity costs

What are ways firms can maximize shareholder value?

Hire new employees to improve production and the profitability. Invest in new research and development that will be profitable. Invest capital into projects that will improve the profitability of the firm. All of these choices

Which of the following questions are NOT estimated by financial forecasting?

How much have we made in the past? How much will we need to finance a project? How much DFN is needed? How much will our sales be in the future? All of these choices are estimated by financial forecasting Historical financial statements show how much we have made in the past - this does not need to be forecasted.

If ranking conflicts occur among payback period, NPV and IRR, you generally should make a decision based on:

IRR NPV None of these choices - always reject them Payback period If you are in doubt, use NPV.

Which of the following statements describes a problem associated with IRR?

IRR ignores some cash flows. IRR does not correctly rank mutually exclusive projects. IRR is more difficult to interpret than NPV. All projects have multiple IRRs. IRR does not provide a reliable method for ranking mutually exclusive projects.

When performing ratio analysis, scrubbing the data includes all of the following except:

Identifying accounting differences among competitors. Choosing a relevant comparison set. Alignment of ratios for companies with different fiscal year-ends. All are included in scrubbing the data. Choosing the comparison set is important, but is not part of scrubbing the data. Aligning year-end data and identifying/correcting accounting differences are both part of scrubbing the data.

Which one of the following is NOT an example of risk mitigation strategies discussed in the textbook?

Include unrelated projects to test for overlap. Change the required rate of return to observe changes in NPV. Evaluate the project with the addition of a partner. Analyze the project under different economic situations. Including unrelated projects will not help with our assessment of a particular project. The other choices are examples of sensitivity analysis, partnering, and simulation analysis which were all mentioned as risk mitigation strategies.

Suppose the following information: Economic State Probability π Returns for Stock A Recessionary .40 10% Expansionary .60 23% If the probability of an expansionary state increases, the expected return is expected to __________.

Increase Decrease Remain the same None of the above

Which of the following changes will most likely increase the incremental cash flow in the early years of a long-lived project?

Increasing the initial investment in working capital. Increasing the marginal tax rate. Increasing in resell value of the new machine at the end of its life. Using MACRS instead of straight-line depreciation. MACRS is an accelerated depreciation method that provides big depreciation expense in the early years and small depreciation expense in later years (as compared to straight-line). Depreciation is a non-cash expense included only for its impact on taxes. Hence, the only impact depreciation expense has on cash flow is through tax expense. Big depreciation expense in the early years reduces tax expense in the early years. Hence, since taxes are real cash outflows, MACRS will increase project cash flows in the early years.

Growth typically requires increased ________ in the firm (for forecasting purposes).

Investment Leverage Efficiency Risk Strategy

Which of the following is an implication of the Capital Asset Pricing Model (CAPM)?

Investors will hold a small number of individual stocks The expected return of a stock depends on the stock's beta The expected return of a stock is independent of market wide price movements None of the choices are implications of the CAPM

Which of the following is NOT an implication of the Capital Asset Pricing Model (CAPM)?

Investors will hold the market portfolio The expected return of a stock depends on the stock's beta The expected return of a stock depends on the size of the market risk premium All choices are implications of the CAPM

Depreciation expense is added back when calculating Free Cash Flow (FCF) because depreciation expense:

Is a non-cash expense Enhances company performance Represents an outflow from investment None of the above; depreciation expense is not added back when calculating FCF

Which is the purpose of the statement of cash flows?

It explains the change in cash balance for one period of time. It serves as the replacement for the income statement and balance sheet. It explains the change in cash balance at one point in time. both (a) and (b) above

Why would a company be interested in the TAT (total asset turnover) ratio?

It indicates what the turnover of sales is to liabilities. It indicates how efficient assets are at producing sales. It indicates how efficient assets are to liabilities and equity. It indicates how efficient assets are at producing income.

Why is the NPV preferred over the IRR? (Choose two)

It is harder to calculate. It has a higher dollar value. It measures the dollar value. It is more reliable.

What does the beta coefficient represent?

It is the expected return for a basket of preferred stocks. It is the volatility of the risk free return. It is a statistically derived measure of volatility. It is the expected return minus the growth rate.

What does it mean if the US dollar/Canadian dollar exchange rate is 1.1?

It takes 1.1 Canadian dollars to buy 1 US dollar It takes 1.1 US dollars to buy 1 Canadian dollar It takes 11 Canadian dollars to buy 1 US dollar It takes 11 US dollars to buy 1 Canadian dollar None of the above are correct

If the company's asset accounts increase which of the following needs to happen?

Liability or equity accounts must increase by the same amount The company must change their current collection standards to keep up with demand All asset accounts cannot increase at the same time The company's net income must increase also The balance sheet must balance, so if assets go up, then the sum of liabilities and equity must go up as well.

Capital structure can be defined as:

Managing day-to-day operations Short-term financial planning The mixture of a firm's debt and equity Long-term financial planning

Which of the following is an important part of managing accounts receivables?

Managing disbursement float Managing collection float Determining the optimal cash holdings Setting credit terms

The goal of the firm is to ___________ shareholder value.

Maximize Protect Preserve

The SEC requires firms that want to go public to file a prospectus. What is the purpose of this filing?

Mitigate fraud Provide information to investors Protect the firm against legal action by investors Provide detailed information about amount of capital will be raised All of these choices None of these choices

Which of the following best describes the problem associated with GAAP accounting standards when performing ratio analysis?

Most firms use cash accounting rather than accrual accounting. Most firms use cash accounting rather than GAAP accounting. GAAP accounting standards allow for significant managerial discretion in reported financial statements. GAAP accounting standards are too simplistic for most firms. Within the confines of GAAP, managers still have significant discretion over reported results.

What type of bond is paid in a different currency than the country's issuing it?

Muni-Bond Convertbile Bond Zero- coupon Euro Bond Foreign Bond

What are the NPV and IRR for an investment of $550,000 with annual differential cash flows as follows: Yr 1: $75,000, Yr 2: $90,000, Yr 3: $125,000, Yr 4: $100,000, Yr 5: $80,000, and a terminal cash flow of $180,000, if the company uses a discount rate of 7%?

NPV: -37594 IRR: 4.837% NPV: 148,099 IRR: 4.837% NPV: -75,533 IRR: 3.880% NPV: 152,792 IRR: 5.329% NPV = - 37,593.89 IRR = 4.8369 Remember, the TCF is added to Yr 5 so the Yr 5 calc entry is 260,000.

If providing liquidity becomes more risky, then dealers will __________ the spread.

Narrow the spread Increase the spread Decrease the spread None of these choices

Revenues minus cost of goods sold is:

Net Income Earnings Before Taxes Operating Profit Gross Profit.

How do you calculate the change in retained earnings?

Net income - Dividends Ending retained earnings - Change in cash EBIT divided by Total assets + Dividends EBIT - Change in cash - Dividends

If a WACC of 15.00% is used to compute the NPV, what does the IRR computed in question 110, above, tell about the project?

No decision can be made based on the data. The project is unacceptable. The NPV is too large. The project is acceptable.

Would you buy a $1000 face value bond selling for $700, 10 years to maturity, which pays a 5% coupon? Your annual required rate of return is 10% and the bond pays its coupons semi-annually.

No, it won't pay greater than required rate of return of 10% Yes, it pays greater than required rate of return of 10% N 20=10*2 PMT $25=5%/2 FV $1,000 PV ($700) Annual 9.77% This bond would only give you a 9.77% return, which is less than your required return of 10% so it should not be bought.

You just graduated with a bachelor's degree in mechanical engineering and are starting a new job tomorrow. You have a goal to start an MBA program in exactly three years and need to have $30,000 saved at that time. To fund your MBA, you are saving $690 a month at the end of each month starting a month from now in an account paying 12%. Will you have $30,000 when you start your MBA?

No; after three years, I only have $27,940 in my account. Yes; after three years, I will have $31,293 in my account. No; after three years, I only have $29,723 in my account. Yes; after three years, I will have $30,020 in my account.

Use the following information to answer the next three questions. Initial Outlay $ (5,000) Year 1 $ 3,000 Year 2 $ 3,500 Year 3 $ 3,200 Year 4 $ 2,800 Year 5 $ 2,500 What is the NPV if the discount rate is 20%?

None of these choices $5,000 $9,137 $4,137 Discount all future cash flows at 20% and subtract $5000.

Match the exchange rate regime with its definition.

Not controlled entirely by market demand and supply, but is partially controlled by government intervention that limits minimum and maximum value Managed Value of the currency is determined by supply and demand Floating A country's monetary authority intervenes to maintain a constant value of the country's currency Fixed or Pegged Drag and drop the choices from below.

What are affirmative covenants?

Obligation to pay a certain percentage of the par value each year Obligations a firm agrees to do Obligations a firm agrees not to do Requirement to pay a certain percentage of the total value each year Requirements enforced by regulating agencies Affirmative covenants describe things the company pledges itself to do. Examples include paying taxes on time, maintaining a certain level of working capital, and maintaining a minimum debt ratio.

What is the operating leverage of Company Y? How will that affect profits compared with Company Z, which has an operating leverage of 5.25? Company Y has an EBIT of $3,000,000, sales of $25,000,000, and variable expenses of $18,000,000.

Operating leverage of 2.33 As sales increase, Company Y's profits will rise slower than Company Z's. Operating leverage of .43 As sales increase, Company Y's profits will rise slower than Company Z's. Operating leverage of 2.33 As sales increase, the profits of both companies will stay the same. Operating leverage of .43 As sales increase, Company Y's profits will rise faster than Company Z's. As sales increase, Company Y's profits will rise slower than Company Z's. (25-18) / 3 = 2.33

The stated interest rate on a bond is the:

Par value Maturity rate Yield to maturity Face value Coupon The coupon rate is the interest rate of the bond, also known as the coupon yield.

Perpetuities are different from ordinary annuities in that perpetuities:

Pay at the beginning of each period. Do not have equally spaced cash flows. Pay an infinite number of payments. Do not have equal dollar amount payments. Perpetuities are annuities with unending payments.

If a company neglects paying dividends to a preferred stockholder in year one but they pay the set dividend in year two, they must do the following:

Pay common stockholders dividends in year two File for a dismissal of last year's dividends with the SEC Convert preferred stock to common stock shares Pay year one preferred dividend before paying any common stockholder dividends All of the above

The date on which the face value of the bond is repaid is the:

Payment date Coupon date Issue date Expiration or maturity date Face value date

Which one of the following is NOT a characteristic of ordinary annuities?

Payments are equally spaced. Payments are made at the beginning of each period. Payments are of equal amounts. All are characteristics of ordinary annuities. With ordinary annuities, payments come at the END of the period.

Which one of the following is NOT a characteristic of annuities due?

Payments are of equal amounts. Payments are equally spaced. All are characteristics of annuities due. Payments are made at the beginning of each period.

You are contemplating buying either an annual bond or a semiannual bond. Is there any difference in the price if both bonds have the same data: $1,000 face value with a 4% coupon rate? The bonds mature in five years having identical YTMs of 4.8%. Is there a price difference between the annual bond and the semiannual bond? Why or why not?

Price is higher with additional compounding periods. Different payments make the price increase. The payment is lower, so the price will be lower. There is not a price difference. N = 10 , I/Y = 2.4, PMT = 20 , PV = ? , FV = 1,000 PV = 964.81 N = 5 , I/Y = 4.8, PMT = 40 , PV = ? , FV = 1,000 PV = 965.17 Lower price means higher effective interest earned due to compounding every six months.

Which of the following best explains the role of prices?

Prices convey information Prices affect the distribution of income Prices affect incentives All of these choices

Which of the following is not a step included in the Percent of Sales method?

Project sales revenues and expenses Forecast change in spontaneous balance sheet accounts Deal with discretionary accounts Calculate DFN Secure financing for project The steps are: Project sales revenues and expenses Forecast change in spontaneous balance sheet accounts Deal with discretionary accounts Calculate retained earnings (RE) Determine total financing need/assets Calculate DFN

Projected Retained Earnings is most correctly calculated by:

Projected sales x net margin x payout ratio (Old RE/Old sales) * projected sales Old RE + projected NI Old RE + Change in RE Change in RE + Dividends

The basic balance sheet equation states that Assets are equal to Liabilities plus Owner's equity. This is because all assets are:

Property of the providers of capital. Financed either by other people's money or by the firm's owners' money. Subject to liquidation. Used as collateral to borrow money. Solution: All assets must be financed. The only two sources of financing are: 1) other people's money (liabilities) and 2) owner's money (owner's equity).

What is a way firms can maximize shareholder value?

Provide raises to all employees to improve morale. Invest in new machinery that will be profitable. Invest capital into projects that will improve the visibility of the firm. Increase sales of products even if at a loss.

The depreciable asset (aka depreciable base) in the initial outlay calculation is the :

Purchase price of a new asset only Purchase price of a new asset + shipping/installation cost + initial investment in working capital Purchase price of a new asset + shipping/installation cost + initial investment in working capital - net proceeds from the sale of old asset Purchase price of a new asset + shipping/installation cost Note that there are other costs that could be included in the depreciate base, most notably required training costs.

Initial outlay for a capital project is calculated as:

Purchase price of the asset + Shipping/Installation - Investment in WC - Net Proceeds from Sale of Old Asset Purchase price of the asset + Shipping/Installation + Investment in WC + Net Proceeds from Sale of Old Asset Purchase price of the asset + Shipping/Installation - Investment in WC Purchase price of the asset + Shipping/Installation + Investment in WC - Net Proceeds from Sale of Old Asset Note that the investment in WC is usually positive. Further, net proceeds from the sale of the old asset are usually positive and represent a reduction in the initial outlay; however, it is possible for net proceeds to be negative (thus increasing the initial outlay).

Which of the following are real methods to manage sales growth?

Raise prices Decrease/eliminate dividend payments Reduce costs through economies of scale None of these choices All of these choices

Which of the following ways can inventory be identified?

Raw material Works-in-progress Finished goods All of these choices

Use the following information to answer the next three questions. Initial Outlay $ (5,000) Year 1 $ 3,000 Year 2 $ 3,500 Year 3 $ 3,200 Year 4 $ 2,800 Year 5 $ 2,500 Based on the NPV calculated in Question 1, you should:

Reject the project since the NPV is positive. Reject the project since the NPV is negative. Accept the project since the NPV is positive. Accept the project since the NPV is negative.

When dealers have to compete with one another, transaction costs will generally ___________.

Remain constant Decrease Increase Do nothing

Free Cash Flow (FCF) is different from Cash Flows from Operations (CFO) because FCF:

Represents all actual cash flowing into the firm Represents cash flow after required investment Does not represent distributable cash Does not allow for required reinvestment Solution: FCF allows for required reinvestment (i.e., FCF is after reinvestment cash). Conceptually, FCF is distributable cash.

The SEC was designed to enforce statutes that regulate markets and protect investors. Which of the following are ways they accomplish this goal?

Requires firms to file a "red herring" Requires public disclosure of firm data quarterly Allows firms to sell to accredited investors without disclosure of firm data All of these choices

What is Dividends/Net Income called?

Retention ratio Plowback ratio None of these choices Dividend yield Dividend payout ratio

Which of the following best describes the guiding principle for revenue recognition within accrual accounting system:

Revenue is reported when the firm uses assets to generate product Revenue is reported when cash is received Revenue is reported when the earnings process is complete Revenue is reported when product is delivered

The matching principle in accrual accounting requires that:

Revenues are matched to the year in which they are booked Revenues are matched to the expenses incurred to generate the revenues Expenses are matched to the year in which they are incurred Revenues should be large enough to match expenses Once revenues are recognized, the firm should also report the expenses incurred in generating the revenues.

A high-quality customer just purchased $500,000 worth of product from your company. The contract calls for immediate delivery of the product with a cash payment of $300,000 today and $200,000 to be paid in 60 days. The expense associated with the product is $300,000, of which $100,000 has not been paid to your supplier. Under an accrual based accounting system, you will most likely report which of these?

Revenues of 500,000 and expenses of 300,000 Revenues of 300,000 and expenses of 200,000 Revenues of 300,000 and expenses of 300,000 Revenues of 500,000 and expenses of 200,000

Accrual accounting recognizes:

Revenues when the earnings process is complete and matches expenses to revenues recognized. Revenues when cash is received and matches expenses to revenues recognized. Revenues when the earning process is complete and expenses when cash is paid. Cash inflows as revenues and cash outflows as expenses. Solution: Accrual accounting recognizes revenues when the earnings process is complete and then matches expenses to revenues recognized.

Common stock shareholders (in the aggregate) have all of the following rights except:

Right to fire Board Members Voting Rights to elect the Board of Directors Input on hiring and firing upper management Right to sell shares at will Highest claims position in a liquidation case Common stock has the lowest or last claim on the earnings and assets of the company in the event of liquidation. This means that common shareholders receive firm assets only after everyone else, such as debt holders and preferred stockholders, is paid.

Which one of the following is not an element of the DuPont decomposition?

Sales as a percentage of total assets. Percentage of net income paid out as dividends. Earnings as a percentage of sales. Portion of assets financed by equity. The DuPont decomposes ROE into three factors: profitability (net margin; earnings as a percent of sales), assets usage efficiency (asset turnover; sales as a percent of assets), and leverage (financial leverage; portion of assets financed by equity). Dividend payout is not included in the DuPont decomposition of ROE.

Accounts that vary directly with sales are called:

Sales-based accounts Elastic accounts Fluid accounts Spontaneous accounts Discretionary accounts

Suppose a firm has variable costs of $14 million, fixed costs of $15 million, depreciation of $3 million, and EBIT of $25 million. Given this information, what is the degree of operating leverage? (Round to the nearest hundredth: .00)

Sales: 25+3+15+14 = 57 DOL = (57-14)/25 = 1.72

An ordinary annuity is best defined as:

Series of equally-spaced cash flows. Series of equally spaced cash flows of the same magnitude paid at the end of each period. Series of cash flows paid at the end of each period. Series of cash flows of the same magnitude.

Unlike bonds which are fixed-return securities, stocks are ___________________ securities.

Set return Pre-determined return Stochastic return Variable return None of these choices

Which of the following is not an important part of managing accounts receivables?

Setting credit terms Setting credit standards Managing disbursement float Providing a sound collection policy

The goal of the firm is to maximize ___________ value.

Shareholder Stockholder Customer

The industry has the following ratios: · Current ratio = 2.15 · Quick ratio = 1.5 · Inventory turnover = 1.95 · AR turnover = 4.5 Which one of the following statements is the most accurate about Eastern Family?

Since Eastern Family has a higher current ratio than the industry average, it has a higher liquidity. Easter Family is a better inventory manager than the industry norm. Eastern Family takes longer to collect receivables than the industry. All the statements are correct. The accounts receivable turnover for Eastern Family is lower than the industry norm suggesting that it takes the company longer to collect receivables than the industry average. You cannot assess the company's liquidity based on ONLY current ratio. Also, since Eastern Family's inventory turnover ratio is lower than the industry this would imply it is NOT better at managing its inventory. Eastern Family's Current Ratio = 9700/3900 = 2.49; Quick Ratio = (9700-4000)/3900 = 1.46; Inventory turnover = 5890/4000 = 1.47; accounts receivable turnover = 10000/3000 = 3.33.

If a currency (Swiss Franc) appreciates relative to a second currency (Chinese Yuan), then the exchange rate measured as SF/Yuan goes:

Stays the same Up Down As in the example in the text with the Mexican Peso to the US dollar, when the Peso appreciates the FX rate measured as MXN/USD goes down from 20 to 17. Conceptually it now takes fewer pesos to buy a US dollar because the Peso is stronger.

Suppose you calculated the expected returns and standard deviations of expected returns for two stocks. Your calculations are given below: Stock 1 Stock 2 E[R] 21.5% 18.4% σE[R] 8.74% 7.4% If you wish to maximize your expected return while, at the same time, minimizing your risk, which stock would you choose? Stock 1 Stock 2

Stock 1 Stock 2 Stock 1: 21.5/8.74 = 2.460 Stock2: 18.4/7.4 = 2.487 Choose Stock 2

What stock has a higher mean return? Year Stock A Stock B 2012 12% 21% 2011 14% 15% 2010 15% 19% 2009 9% -3% 2008 2% -2%

Stock A Stock B Stock A: (12+14+15+9+2)/5 = 10.4% Stock B: (21+15+19+-3+-2)/5= 10% Stock A has a higher mean return than Stock B

When a firm first sells its shares to the public through an investment bank, the shares are bought by the ______________ market.

Stock market Tertiary market Secondary market Trading market Primary market

While looking at XYZ Corp's two most recent balance sheets, you notice inventory decreased by $100,000. The firm has a tax rate of 40%. To calculate Cash Flow from Operations, you will:

Subtract $60,000 from CFO Add $100,000 to CFO Add $60,000 to CFO Subtract $100,000 from CFO Solution: A decrease in an operating asset represent a cash inflow associated with CFO. The tax rate does not impact the question.

Accounts payable represents money a firm owes to:

Suppliers due to purchases made on credit Lenders under short-terms borrowing agreements Employees Other accounts

What is DFN?

The amount of dividends paid out after financing needs are satisfied The difference between the forecasted asset accounts and the combination of the liability and equity accounts The amount of funding needed from retained earnings The total funding needed to support the growth of a firm The excess after all investment has been made

Assuming no asset disposals, depreciation expense is equal to:

The change in accumulated depreciation The change in retained earnings Common equity CFF - CFI Solution: The change in Accumulated Depreciation is equal to the Depreciation Expense (assuming no asset disposals).

Suppose a firm shows an increase in accounts receivable of $100 during a period. Considered in isolation, which of the follow best describes the impact of this change on the Statement of Cash Flows?

The change will increase CFI by $100 The change will increase CFO by $100 times the tax rate ($100 x t) The change will increase CFO by $100 The change will decrease CFO by $100 An increase in an asset account indicates an outflow of cash. Since A/R is an operating account, the $100 increase will decrease CFO by $100.

If the current ratio of a company is higher than the industry, then:

The company has higher liquidity than the industry. The company has lower liquidity than the industry. You cannot tell without looking at other liquidity ratios. The company has about the same liquidity as the industry. You cannot tell a company's liquidity compared to the industry by just looking at one ratio.

Which one of the following should be included in the capital budgeting calculation?

The cost of a market study conducted prior to decision. The cost of feasibility consulting incurred before the decision point. The cost of scrapping an old machine to replace with a new machine. The firm's other cash flows that will occur even if project is not done (not incremental). The previously performed market study and feasibility consulting are examples of sunk costs - which would not be included in our capital budgeting analysis. Cash flows that will occur each year regardless of whether we do the project are not "incremental" and not directly associated with the project, and thus would not be included.

What is the value of a bond?

The coupon payments of the bond The face value of the bond plus the coupon payments The face value of the bond The present value of its cash flows The future value of its cash flows The value of a bond (price you would be willing to pay today) is the present value of its future cash flows. This includes any coupon payments it may have and its future value (the face value paid at maturity).

Retained earnings represents:

The cumulative amount of the firm's earnings not distributed to shareholders The earning that the firm holds as cash in case of emergency The cumulative earnings retained by the stockholders over the entire history of the entity The portion of the firm's earning during the period that were not paid out as dividends The firm can only do two things with net income - pay dividends or retain in the firm. The retained earnings balance represents the cumulative total of earnings retained (i.e., not paid as dividends) over the entire history of the firm.

Suppose the inventory turnover of a company is higher than the industry. Based on this one ratio, which of the following is most likely to be correct?

The firm has lower liquidity than the industry average. The firm has too much inventory thus impairing overall liquidity. The firm has too little inventory resulting in lost sales or stock-outs. The firm has low sales volume relative to inventory. While we can't say for sure the firm has too little inventory (lost sales/stock-outs) based on a single ratio, all the other choices would run counter to the "most likely" interpretation requested by the question. A high inventory turnover implies a relatively smaller inventory; the other available answers imply the firm has larger inventory.

A firm reports the following cash flow data: o CFO = $1mm o CFI = -$750k o CFF = -$100k Which of the following is most reasonable assessment given the data?

The firm is sustainable in its current state The firm is likely to be under-investing The firm is a top performer The negative CFF indicates bad management decisions With the given data we cannot accurately determine whether the firm is a top performer, under investing, or has bad management decision making. The data show the firm is generating cash from operations. The negative CFI indicated investment in new assets (replacing old assets? Planning for future growth?). The negative CFF indicates that the firm is likely: 1) paying down debt or buying back stock, or 2) paying dividends. We need more detail to make a better assessment, but the most reasonable conclusion is that the firm is sustainable in its current state because its cash flow from operations is greater than its cash outflows for investing and financing.

Thirty years ago, your firm purchased a parcel of land for $100,000. You still own the land. The current market price of the land is $1,000,000. Under accrual accounting, which of the following adjustment should be made to recognize the current value of the land?

The firm should recognize the value of the land as the average of the purchase price and the market value. The firm can sell the land only for $100,000 even though its market value is $1,000,000. There is no adjustment to be made. The firm should increase the book value of the land to $1,000,000. The accrual accounting system makes no adjustment for changes in the market value of assets reported at historical cost.

Current assets are listed in order of:

The least liquid to the most liquid. The highest dollar value to the lowest dollar value. The lowest dollar value to the highest dollar value. The most liquid to the least liquid. Solution: The current assets are listed from the most liquid item to the least liquid items. On a simplified balance sheet, the order is usually: 1) cash, 2) marketable securities, 3) accounts receivable, and 4) inventory.

In a CAPM framework, why do investors hold the market portfolio

The market has a lower beta than individual stocks Relative to the level of risk, the market has higher expected return than individual stocks Individual stocks have a higher market risk premium Any stock with higher expected returns, relative to risk, will converge to the market portfolio

On the balance sheet, Gross Fixed Assets represent:

The original cost of the fixed assets currently owned by the firm minus accumulated depreciation. The market value of the fixed assets owned by the firm. The original cost of the fixed assets currently owned by the firm. The market value of the fixed assets currently owned by the firm minus accumulated depreciation. Solution: Gross fixed assets represent the original cost of the fixed assets currently owned by the firm. In general, market values are not relevant to fixed assets (note: there are times when market values are reported on the balance sheet; these exceptions are not included in the discussion for this learning resource).

Why is the balance sheet known as a permanent statement?

The other statements are reset at the end of the fiscal year. The statement is sent to the SEC. The statement persists in the minds of the shareholders. The statement is printed out and archived.

Net Fixed Assets represents:

The value of the firm's assets held for use stated at original cost The total amount of depreciation claimed against the firm's fixed assets The original cost of the firm's assets held for use less accumulated depreciation Market value of the firm's non-current assets Net Fixed Assets is the cost of the firm's non-current assets less the total amount of depreciation claimed against the assets (aka accumulated depreciation).

If a firm is considering a new project which will generate the following cash flows: IO = -145, YR1 = 100, YR2 = 100, YR3 = 100, YR4 = 100, YR5 = -275, what is the IRR of the project? Assume that the discount rate of the project is 12.76%

There are multiple IRR 26.65% 8.78% 12.76% Since there are multiple sign changes in cash flows, there are multiple IRRs which are 8.78% and 26.65%. IRR cannot be used in this circumstance.

TippingToys is considering the purchase of a new toy-making machine that will increase revenues by $50,000 a year and annual costs by $10,000. The new machine will replace an outdated machine with a current book value of $10,000 but if scrapped now can only be sold for $6,000. The new machine will cost $100,000 with shipping and installation fees of $10,000. The machine will be depreciated via 5-year MACRS schedule (20.0%, 32.0%, 19.2%, 11.5%, 11.5%, 5.8%). The firm estimates that the new machine can be sold at the end of its five-year life for $20,000. The new machine will necessitate an investment of $30,000 in working capital that will be fully recovered at the end of the project. Tipping Toys has a 10% cost of capital and a corporate tax rate of 40%. What is the tax implication of selling the old machine?

There is no tax effect Tax liabilities of $1,600 Tax shield of $4,000 Tax shield of $1,600 Sale of Old 6,000 BV of Old (10,000) Gain (Loss) (4,000) Tax shield 1,600 Note: since the sale of the old equipment results in a $4000 taxable loss, a tax shield of $1600 is created ($4k loss x .4 tax rate). Hence, the net cash impact of selling the old equipment = $6000 sales price + $1600 tax shield = $7600.

When evaluating a potential capital project, which of the following should be considered?

Timing of the cash flows. Size of the initial investment. Riskiness of the project. All of these choices. Timing of cash flows, size of the initial investment, and riskiness of the project should all be considered when performing capital budgeting.

Why is it important to use accurate estimates for financial forecasting?

To form accurate projected sales and financing needs To see what complications or challenges arise from today's decisions To avoid GIGO All of these choices None of these choices

In an effort to reduce fraudulent activities in corporations, the SEC now requires which of the following?

Top management must each certify the accuracy of financial statements Disclosure of off-balance sheet items Separation between auditors and the firms they audit All of these choices

Which one of the following items should NOT be included in capital budgeting analysis?

Training cost required to safely operate new equipment. The inflow from the sale of old equipment that is replaced by new equipment. The shipping cost of a new machine. Cost of the market analysis used to generate sales forecasts.

(True/False) Current liabilities represent money owed by a firm that requires payment within one year.

True False

(True/False) Retained earnings represent the accumulated net income of the firm less dividends paid.

True False

A bond is a debt instrument issued by corporations or governments.

True False

A bond is similar to a loan.

True False

A disadvantage of buying products on credit is that accounts payable will have to be more closely managed.

True False

A firm may choose to recapitalize by issuing new debt to buy back some existing shares.

True False

A firm may choose to recapitalize by using equity to pay off some existing debt.

True False

A firm that has greater volatility in its stock price is likely to have a lower cost of capital.

True False

An IPO is a seasoned equity offering.

True False

Nasdaq is an example of an auction market.

True False

Preferred stock carries voting rights.

True False Unlike common stock, preferred stock does not generally have voting rights.

Working capital management is useful in determining the amount of cash required to obtain the optimal debt-to-equity ratio.

True False Working capital management is useful in determining the amount of cash required to obtain the optimal debt-to-equity ratio.

Firms with low unexpected earnings usually exhibit large positive returns on the earnings announcement day.

True False. Firms with low unexpected earnings usually exhibit large negative returns on the earnings announcement day.

A market order to sell a stock would execute at the current ask price.

True False. The order would execute at the current bid price.

A limit order to buy a stock at $101.55 would execute at the current ask price.

True False. The order would execute when the ask price is at or below $101.55.

Cash accounting offers a superior method of analyzing a company.

True False. While the cumbersome nature of accrual accounting may cause cash accounting to look attractive, the truth is that cash accounting is not a good way to track firm operations. The movement of cash in and out of the firm during a period can lead to a highly biased view of the firm.

A company has cash sales of $200 and credit sales of $750. It's average accounts receivable is $90. What is the A/R turnover? What is the average collection period?

Turnover 8.33 ACP: 43.8 Turnover: 8.33 ACP: .694 Turnover: 10.56 ACP: 43.8 Turnover 10.56 ACP: 24.9 750 / 90 = 8.33 ACP = 365 / 8.33 = 43.8

Firms that are regulated by FIRNA are primarily ______________ and ______________.

US firms trading outside the US, Investment banks Exchange markets, Firms traded on public exchanges Brokerage firms, Investment banks Brokerage firms, Exchange markets Firms traded on public exchanges, US firms trading outside the US

Suppose a firm has sales of $102 million, fixed costs of $45 million, depreciation of $13 million, and EBIT of $35 million. Given this information, what is the degree of operating leverage? (Round to the nearest hundredth: .00)

Variable costs: 102-45-13-35=9 DOL: (102-9)/35 = 2.66

Current liabilities are reported in order of:

Volatility (highest first) Maturity (shortest first) Magnitude (largest first) Liquidity (most liquid first)

If DFN is negative, what does it indicate?

We don't have enough funds in the forecasted period. We have extra funds in the forecasted period. Our model didn't work. DFN can't be negative. GIGO. DFN can't be negative. Our sales go down in the forecast.

Suppose the inventory turnover of a company is higher than the industry. Based on this observation, which of the following is most likely?

You cannot tell without looking at other liquidity ratios. The company has higher liquidity than the industry. The company has lower liquidity than the industry. The company has about the same liquidity as the industry.

Which type of bond is the lowest priority for repayment in the event of liquidation of a firm?

Zeros Mortgage Bond Subordinated Debenture Muni-bond Debenture Not only are debentures "unsecured" and thus have a lower claim on assets, in addition, subordinated debentures are debentures that have a lower claim to the assets of the firm in the event of firm liquidation than normal debentures by definition of being "subordinated" to other debentures.

If an investor knows the idiosyncratic risk, the investor knows the_____.

beta coefficient profit margin percentage free cash flow operating leverage

Beckingham Sports is an American company that produces sports equipment. Based on the results of a $25,000 market study and of a $40,000 consultant report, Beckingham Sports is considering expanding overseas. Projected annual revenue associated with the expansion will be $200,000 and annual costs are estimated at $40,000. The expansion will require the replacement of an old machine with more modern equipment. The old machine has a $40,000 market value and has been fully depreciated to its salvage value of $10,000. The new, higher-capacity equipment will cost $340,000. Additionally, installation and shipping fees of $60,000 will be incurred. The new machine will be depreciated via 5-year MACRS schedule (20.0%, 32.0%, 19.2%, 11.5%, 11.5%, 5.8%). The firm estimates that the new machine can be sold at the end of its five-year life for $100,000. The new machine will necessitate an investment of $28,000 in working capital that will be fully recovered at the end of the project. Beckingham Sports has a 13% cost of capital and a corporate tax rate of 40%. If the book value of the old machine was $40,000 (instead of $10,000), then the initial outlay will:

increase by $12,000 decrease by $30,000 increase by $30,000 decrease by $12,000 If the BV of the old machine was also $40,000, then there will be no tax liability on the sale of the old asset. Therefore you will save $12,000 in taxes. Hence, the initial outlay would be $12,000 lower. Cost of New Machine (340,000) Installation/Shipping (60,000) Depreciable Assets (400,000) Working Capital (28,000) Price of Old 40,000 BV of Old (40,000) Gain/Loss - Tax - Net Sales of Old 40,000 Total Cash Flow (388,000)

If Ford manufactures a vehicle in the US paying dollars and sells it in Mexico collecting pesos, if the price in Mexico for the vehicle stays constant, but the value of the Peso depreciates against the dollar, then Ford will make ____________ profit measured in US dollars.

less greater the same Let's say Ford sells a truck in Mexico for 990,000 pesos (roughly $49,500 at MXN/USD FX rate of 20.) If the peso depreciates to say 21 FX rate, the truck still sells for 990,000 pesos, the equivalent in dollars to ford is $47,142.86. To arrive at the $47,142.86 figure, divide 990,000 by 19 instead of the original 20. If we were using an indirect quote for the dollar of USD/MXN the original FX rate is 0.05. The peso then depreciates to 0.47619 (1/21). When we use an indirect quote for the USD (it is in the numerator) then it is more intuitive to see the peso depreciate from 0.05 to 0.47619.

Why would a country have incentives to devalue its currency? A weaker currency ______________.

makes exports relatively cheaper for foreign consumers. makes imports relatively more expensive for domestic consumers. in general a weaker currency can help a domestic economy. all of the above are true. none of the above are true.

A high-quality customer just purchased $500,000 worth of product from your company. The contract calls for immediate delivery of the product with a cash payment of $300,000 today and $200,000 to be paid 60 days. The expense associated with the product is $300,000, of which $100,000 has not been paid to your supplier. Under accrual based accounting system, you will most likely report:

revenues of $300,000 and expenses of $300,000. revenues of $300,000 and expenses of $200,000. revenues of $500,000 and expenses of $200,000. revenues of $500,000 and expenses of $300,000. Solution: Under accrual accounting system, you record the revenues when the earnings process is complete and match the expense with the revenues. In this case, we delivered the product and have a contract for payment with a high-quality firm. Hence, the earnings process is complete (including reasonble assurance of payment) so the firm will recognize $500,000 in revenue. The matching principle requires expense recognition for revenues recognized. The fact that our firm hasn't paid the supplier doesn't impact the expenses incurred to generate the $500,000 in revenue. Hence, the firm will recognize $300,000 in expense associated with the sale.

Bernie's Event Planning is a newer vacation planning company. John started this company three years ago with the intention to harvest within the first five years of business. Bernie's has grown to a point where John is comfortable entertaining bids. John has looked at other firms that offer weekend vacation planning services and calculated the ratio of Price to EBITDA (i.e., the multiplier) to be 3. Use the following information to calculate the fair price for Bernie's Event Planning. (Mutliply the ratio of 3 times the EBITDA for Bernie's.) Sales Revenue $2,380,000 COGS 550,000 Depreciation 578 Operating Expense 748,000 Interest Expense 5,000 Tax Expense 376,950

$1,190,000 $2,380,000 $3,246,000 $3,952,000 None of these choices EBITDA = 2,380,000-550,000-748,000 = 1,082,000 Bernie's Event Planning Estimate = 3 * 1,082,000 = 3,246,000

What is the future value of an ordinary annuity with payments of $500 for 3 years if the discount rate is 10%?

$1,243.43 $1,655.00 $1,367.77 $1,820.55 FVAordinary = PMT [({1+r}n - 1)/r] = 500 [({1.10}3 - 1)/0.10] = 1,655.00

Your friend plans to contribute $315 a month at the end of each month to his retirement account. His employer will match the contribution on a dollar for dollar basis. He expects an annual return of 6%. How much will he have in 40 years?

$1,254,639 $1,170,000 $1,260,912 $1,240,200 PV: 0FV: $1,254,639.16 PMT: -630 N: 480 I: 0.50% Mode: 0 (End)

A firm recorded Gross PP&E of $5,000 in 20x1 and $6,300 in 20x2. Further, accumulated depreciation was $2,000 and $2,400 in 20x1 and 20x2, respectively. Assuming no asset disposals, CFI is closest to which of the following?

$1,300 $400 $1,700 $1,500 Solution: CFI = Change in Gross PP&E = 6300 - 5000 = $1,300.

You are thinking of investing in a semi-annual bond that has a face value of $1,000 and offers a coupon rate of 2.5%. How much would your semi-annual coupon payment be?

$1.25 $12.50 $125.00 $1,000.000 None of these choices Remember, to compute the semi-annual coupon payment, we multiply the face value ($1,000) by the semi-annual coupon rate (expressed as a decimal, so 0.025/2 = 0.0125). $1,000 * 0.0125 = $12.50 every six months. We divide the 2.5% annual coupon rate by 2 to make it a semi-annual coupon rate.

Last year a firm recorded Net PP&E of $4,600 while this year the same firm recorded Net PP&E of $4,500. If the depreciation expense for last year and this year are $500 and $800 respectively, what is the CFI of the company? (assume no asset disposals)

$100 $700 ($900) ($100) Solution: CFI = (Change in Net PP&E + Depreciation Exp) = (4500 - 4600 + 800) = $700

As debt levels increase, firms face greater financial risk.

True False

A Treasury bond is a debt instrument issued by corporations.

True False

Companies should always maximize shareholder value.

True False

Corporate finance focuses on the decision making by the management of the firm.

True False

Flotation costs are costs that are incurred when companies issue new securities.

True False

If a firm has more systematic risk, then, according to the CAPM, the return required by shareholders will be higher.

True False

Intel reported the following for 2014: Net income 100,000 Depreciation 20,000 Change in A/R 10,000 What is the cash flow from operating activities?

100,000 110,000 (130,000) 120,000 100 + 20 - 10 = 110

If a firm increases the amount of dividends it will pay to shareholders, then the cost of capital will likely decrease.

True False

U&I Inc. recorded retained earnings of $2,000 last year and $2,500 this year. Net income of U&I Inc. is $500 and $650 for last year and this year, respectively. This year, U&I Inc. must have paid dividends of:

$0 $500 $150 $650 Solution: Change in RE = NI -dividends. Rearranging: Dividends = NI - Change in RE. Therefore: Dividends = 650 - (2500 - 2000) = $150.

Acme Enterprises 20-year, $1,000 par value bonds pay 10 percent interest annually. The market price of the bonds is $1,050, and your required rate of return is 10 percent. Determine the value of the bond to you, given your required rate of return. Should you purchase this bond?

$1,000, yes buy the bond because it's underpriced $1,000, no do not buy the bond because it's overpriced $1,050, yes buy the bond because it's underpriced $1,050, no do not buy the bond because it's overpriced By calculating the bond price based on your required return you find that you are only willing to pay $1,000 (FV=1000,I=10%,PMT =100, N=20). Since this is less than the current market price of $1,050 you should not buy the bond.)

What is the present value of an ordinary annuity with the payment of $300 for 5 years if the discount rate is 10%?

$1,137.24 $1,228.53 $1,530.30 $1,831.53 PVAordinary = PMT [(1-{1/(1+r)n})/r] = 300 [(1-{1/(1.10)5})/0.10] = 1,137.24 [Calculator: 300 PMT, 10 I/Y, 5 N, compute PV]

What is the future value of an ordinary annuity with payments of $300 for 5 years if the discount rate is 10%?

$1,530.30 $1,137.24 $1,228.53 $1,831.53 FVAordinary = PMT [({1+r}n - 1)/r] = 300 [({1.10}5 - 1)/0.10] = 1831.53 [Calculator: 300 PMT, 5 N, 10 I/Y, compute FV]

What is the present value of an ordinary annuity with the payments of $500 for 3 years if the discount rate is 10%?

$1,655.00 $1,243.43 $1,820.55 $1,367.77 PVAordinary = PMT [(1-{1/(1+r)n})/r] = 500 [(1-{1/(1.10)3})/0.10] = $1,243.43 [Calculator: 500 PMT, 10 I/Y, 3 N, compute PV].

Logan Enterprises Cash Flow20x220x1Gross PP&E$22,500$?????Less: Acc. Depr $7,100$?????Net PP&E$15,400$15,200 Using the data above and assuming no asset disposals, what is the firm's CFI for the year 20x2? Assume that the firm claims $1,600 in depreciation expense during the period.

$1,800 $200 $1,700 None of the above With the assumption of no asset disposals, CFI will be equal to 1) change in Gross PP& E, or 2) Change in Net PP&E plus depreciation expense. The change in Net PP&E of $200 plus $1,600 in depreciation expense equals CFI of $1800.

Balken, Inc. reports the following on their most recent financial statements: Change in accounts payable: $50 Change in notes payable: $100 Change in long-term debt: $200 Change in retained earnings: -$120 Net income: $170 What is Balken's CFF for the period?

$10 $180 $130 -$10 CFF = change in notes payable + change in long-term debt - dividends (assuming no other relevant changes); hence, CFF = 100 + 200 -Dividends. The change in RE = net income - dividends; so, -120 = 170 - dividends; thus, dividends = 290. Finally, CFF = 100 +200 - 290 = 10.

Bookmark question for later SomeNewBurger Corp is considering acquiring a competitor called Burgerz R Us. McBurger Corp, a comparable company to Burgerz R Us, is currently selling for $98.60 per share. McBurger's last income statement listed NI at $5 M, $2.5 of which was paid out in dividends and 2.5 M shares are outstanding. Burgerz R Us has a NI of $550,000. Using the PE ratio of McBurger, what should SomeNewBurger pay for Burgerz R Us?

$10.4 Million $550,000 $27.1 Million $5 Million $21.3 Million Burgerz R Us NI = 550,000 McBurger P/E Ratio = (98.6*2,500,000)/5,000,000) = 49.3 * Note here that we have calculated the price of McBurger by multiplying the price per share by the number of shares outstanding and then divided this by the earnings (or net income). Value estimate for Burgerz R Us = 550,000 * 49.3 = 27,115,000 *We can then estimate the value of Burgerz R Us by multiplying its earnings (net income) by this comparable PE ratio to end up with the "price" of Burgerz R Us.

Given the following data, calculate CFF for 20X3. 20X2 20X3 Retained Earnings 3,400 3,600 Accounts Payable 2,100 1,900 Notes Payable 1,200 1,300 Common Stock 4,200 4,500 Accounts Receivable 3,200 3,700 Net Income 400 500 Long-Term Debt 4,500 4,500

$100 $200 $0 ($100) CFF = Change in N/P + Change in LTDebt + Change in CS - Dividends Change in LTDebt = 4500-4500 = 0 Dividends = NI - change in retained earnings = 500 - [3600-3400] = 300 <p margin-bottom:12.0pt;text-indent:-.25in"="">· Therefore CFF = 100 + 0 + 300 - 300 = $100

What is the PV of a 1-year $100 bond that pays no coupon payments if borrowing rates are 4%?

$100.00 $96.15 $130.22 $102.35 $90.02 N1PMT0FV100I0.04 PV($96.15)

Beckingham Sports is an American company that produces sports equipment. Based on the results of a $25,000 market study and of a $40,000 consultant report, Beckingham Sports is considering expanding overseas. Projected annual revenue associated with the expansion will be $200,000 and annual costs are estimated at $40,000. The expansion will require the replacement of an old machine with more modern equipment. The old machine has a $40,000 market value and has been fully depreciated to its salvage value of $10,000. The new, higher-capacity equipment will cost $340,000. Additionally, installation and shipping fees of $60,000 will be incurred. The new machine will be depreciated via 5-year MACRS schedule (20.0%, 32.0%, 19.2%, 11.5%, 11.5%, 5.8%). The firm estimates that the new machine can be sold at the end of its five-year life for $100,000. The new machine will necessitate an investment of $28,000 in working capital that will be fully recovered at the end of the project. Beckingham Sports has a 13% cost of capital and a corporate tax rate of 40%. What is the NPV of the project?

$101,432 ($174,276) $58,009 $76,235 IO = -400000 Yr 1 = 128000 Yr 2 = 147200 Yr 3 = 126720 Yr 4 = 114400 Yr 5 = 97280+114400 = 211680 Discount @ 13% = NPV = 101432

Today is your 30th birthday. As luck would have it, you also welcome a new baby into your home as your birthday present. You desire to provide some financial support for your baby in 18 years and a lump sum of money when you retire at the age of 60. Four years of college tuition costs a total of $21,657 in today's dollars. Additionally, you desire to have purchasing power of $1,000,000 (at today's value) when you retire. If the average inflation rate is 2% and you can earn 8% on your account, how much do you need in your account today to cover your baby's future college tuition and your retirement goal? (allow $5 rounding error)

$104,797 $326,213 $187,749 $181,698 · Step 1: $21657 in 18 years = FV = PV(1+r)t = 21657(1+0.02)18 = $30931.53 · Step 2: $1,000,000 in 30 years = FV = PV(1+r)t = 1000000(1+0.02)30 = $1,811,362 · Step 3: Discount tuition for 18 years = FV = PV(1+r)t = 30931.53/(1+0.08)18 = $7741 · Step 4: Discount retirement for 30 years = PV = FV/(1+r)t = 1811362/(1+0.08)30 = $180,008 Step 5: Add PVs together; Total amount needed today = $7741 + 180008 = $187,749.

Starting on your child's 10th birthday, you plan to make annual contributions of $1,994.70 to an account that earns a 5% annual return. Your final contribution will be on your child's 17th birthday. How much will your child have in the account when they start college on their 18th birthday?

$19,048 $20,000 $23,094 $21,995 PV: 0 FV: ($20,000) PMT: 1,994.70 N: 8 I: 5% Mode: 1 (Begin)

Your friend will retire a year from today and she is hoping to have enough in her retirement account for her to withdraw $50,000 each year for 15 years with the first withdrawal coming on the day she retires (i.e., one year from today). She does not plan to contribute any money during her final year before retirement. She has been earning 7% return on her retirement account and is assuming that will continue in the future. How much should she have today in her account?

$467,883 $487,273 $455,396 $437,273 PV: ($455,395.70) FV: 0 PMT: 50000 N: 15 I: 7% Mode: 0

If market interest rates increase, then a firm's cost of capital will likely increase.

True False

Beckingham Sports is an American company that produces sports equipment. Based on the results of a $25,000 market study and of a $40,000 consultant report, Beckingham Sports is considering expanding overseas. Projected annual revenue associated with the expansion will be $200,000 and annual costs are estimated at $40,000. The expansion will require the replacement of an old machine with more modern equipment. The old machine has a $40,000 market value and has been fully depreciated to its salvage value of $10,000. The new, higher-capacity equipment will cost $340,000. Additionally, installation and shipping fees of $60,000 will be incurred. The new machine will be depreciated via 5-year MACRS schedule (20.0%, 32.0%, 19.2%, 11.5%, 11.5%, 5.8%). The firm estimates that the new machine can be sold at the end of its five-year life for $100,000. The new machine will necessitate an investment of $28,000 in working capital that will be fully recovered at the end of the project. Beckingham Sports has a 13% cost of capital and a corporate tax rate of 40%. What is the differential cash flow in Year 4?

$111,456 $128,000 $68,400 $114,400 Year 4 MACRS 11.50% Depreciation Expense 46,000 Revenue 200,000 Cost (40,000) Depreciation Expense (46,000) EBIT 114,000 Tax (45,600) NOPAT 68,400 Add: Depreciation Exp 46,000 Differential Cash Flow 114,400

What is the value of a preferred stock where the dividend rate is 15 percent on a $100 par value? The appropriate discount rate is 12 percent.

$115.25 $127.75 $130.25 $102.95 $125.00 D = $15 kps = 12% V0 = 15/.12 = $125

BackJack reports retained earnings of $15,225 for 20x2. The firm paid dividends of $4000 and $2,025 in 20x1 and 20x2, respectively. Additionally, the firm reported net income of $8,000 and $5,000 in 20x1 and 20x2, respectively. What were BackJack's reported retained earnings for 20x1?

$12,250 $4,075 $2,975 $18,200 Solution: New RE = Old RE + NI - Div; 15225 = Old RE + 5000 - 2025; Old RE = 12,250

Your firm is considering a new project that will initially cost $25 million and will generate cash flows of $5 million in year 1, $10 million in year 2, $12.5 million in year 3, $7.5 million in year 4 and $2.5 million in year 5. If the required rate is 10%, what is the total present value of cash flows? (Be sure to subtract out the initial cost of $25 million.)

$12.50 million $37.50 million $3.88 million $28.88 million Step 1: find the present value of the future cash inflows: Year 1 2 3 4 5 FV 5 10 12.5 7.5 2.5 PV $4.55 $8.26 $9.39 $5.12 $1.55 PV of CFs $28.88 Step 2: subtract the initial cost from the present value of the inflows calculated in step 1: PV = $28.88 - $25 = 3.88 million.

Use the following information to answer the questions about XYZ Company. XYZ Company is considering the purchase of new equipment. The firm spent $12,000 on consulting several months ago as well as $7,000 on a market study about a year ago. In order to start the new project, the firm has to replace the old machine which has a book value of $0 and will be scrapped. The new machine will cost the firm $220,000. Additionally, XYZ will spend $7,000 in installation and $3,000 in shipping. Since the new machine will produce more, an investment in net working capital of $10,000 is required. The new machine will be depreciated using straight-line depreciation to a salvage value of $0. However, the realizable salvage value of the new machine at year 5 is expected to be $50,000. The new machine will increase annual operating revenues by $125,000 and operating costs by $45,000. The marginal tax rate is 34%. ABC Corp is considering a project requiring the purchase of new equipment. The firm spent $20,000 on a market assessment four months ago as well as $14,000 for a feasibility study a year ago. In order to start the new project, the firm has to replace an old machine with a remaining book value of $25,000 (note: this is the original salvage value of the old machine; as such, it is fully depreciated). While still functional, the machine has no market value and will be scrapped if the new equipment is acquired. The new machine will cost the firm $220,000. In order to put the machine in working condition, ABC will spend $6,000 in installation and $4,000 in shipping. If the new machine is purchased net working capital will be increased by $10,000. The new machine will be depreciated via the straight-line depreciation method to a salvage value of $0. However, at the end of the new machine's five-year life, it can be sold for $30,000. If accepted, the new machine will increase annual revenues by $150,000 and will increase annual operating cost by $45,000. The company has a marginal tax rate of 40% and a cost of capital of 14%. The project will last 5 years. What is the incremental (i.e., total) cash flow in Year 5?

$121,400 $99,400 $81,400 $109,400 · Step 1- Operating cash flow: The calculation is as follows (note: depreciation expense = (depreciable base - salvage value)/life = (230k - 0)/(5 = 46k): Revenue 150,000 Cost (45,000) Depreciation Expense (46,000) EBT 59,000 Tax (40% of EBT) (23,600) NOPAT 35,400 Add: Depreciation Exp 46,000 Operating Cash Flow 81,400 Total Cash Flow = Operating Cash Flow + Terminal Value = 81400 + 28000 = $109,400

During all 4 years of your college life, you save $3,000 a year at the end of each year. If you can earn a 6% annual return on your investment, how much will you have when you graduate in 4 years?

$13,911 $12,000 $13,124 $10,395 PV: 0 FV: $13,123.85 PMT: -3000 N: 4 I: 6% Mode: 0(End)

Resorts International is trying to avoid a hostile takeover. Hiya Hotels has offered to buy a controlling share of Resorts' stocks if they meet certain criteria. What is the value of Resorts International if their free cash flows to the firm each year for the next five years are projected (in millions) at $1.66. Hiya assumes Resorts International will continue at the no growth rate. If Resorts' WACC is 11%, cost of debt is 9%, and cost of equity is 13%, what is the total value of their company.

$17.9 Million $1.66 Million $6.22 Million $15.1 Million $20.1 Million 1. Calculate terminal value in year 5 TV = 1.66/.11 = 15.09 million 2. Calculate NPV of all cash flows CF1 = 1.66 CF2 = 1.66 CF3 = 1.66 CF4 = 1.66 + 15.09 NPV = 15.09 million

Use the following information to answer the questions about XYZ Company. XYZ Company is considering the purchase of new equipment. The firm spent $12,000 on consulting several months ago as well as $7,000 on a market study about a year ago. In order to start the new project, the firm has to replace the old machine which has a book value of $0 and will be scrapped. The new machine will cost the firm $220,000. Additionally, XYZ will spend $7,000 in installation and $3,000 in shipping. Since the new machine will produce more, an investment in net working capital of $10,000 is required. The new machine will be depreciated using straight-line depreciation to a salvage value of $0. However, the realizable salvage value of the new machine at year 5 is expected to be $50,000. The new machine will increase annual operating revenues by $125,000 and operating costs by $45,000. The marginal tax rate is 34%. ABC Corp is considering a project requiring the purchase of new equipment. The firm spent $20,000 on a market assessment four months ago as well as $14,000 for a feasibility study a year ago. In order to start the new project, the firm has to replace an old machine with a remaining book value of $25,000 (note: this is the original salvage value of the old machine; as such, it is fully depreciated). While still functional, the machine has no market value and will be scrapped if the new equipment is acquired. The new machine will cost the firm $220,000. In order to put the machine in working condition, ABC will spend $6,000 in installation and $4,000 in shipping. If the new machine is purchased net working capital will be increased by $10,000. The new machine will be depreciated via the straight-line depreciation method to a salvage value of $0. However, at the end of the new machine's five-year life, it can be sold for $30,000. Therefore, "If accepted, the new machine will increase annual revenues by $150,000 and will increase annual operating cost by $45,000. The company has a marginal tax rate of 40% and a cost of capital of 14%. The project will last 5 years If the marginal tax rate is 40%, what is the terminal cash flow of the project?

$18,000 $40,000 $28,000 $48,000 Terminal Value = Recap of Working Capital + Net Proceeds from Sale of New Machine = 10000 (WC) + 30000(Price of the machine) - 12000(Tax effect) = $28,000. Remember, terminal cash flow refers to the cash flows associated with "winding down" (or "wrapping up") a project. The final year's operating cash flows are attributable to time 5, but are NOT included in terminal cash flows.

Shovels Incorporated is up for sale. They have forecasted their free cash flows to the firm in two years at $3 Million. If the industry growth rate is 4 percent per year and Shovels' WACC has been calculated at 17 percent. What is the terminal value for Shovels Incorporated in today's dollars (present value)?

$18.6 Million $17.5 Million $15.9 Million $3 Million $9.2 Million FCFF year 2 = 3,000,000 g = 4% WACC = 17% Terminal Value = (3,000,000*1.04)/(.17-.04) = $24,000,000 Discounted Terminal Value = 24,000,000/(1+.17)2 = $17,532,325

XYZ Company is considering the purchase of new equipment. The firm spent $12,000 on consulting several months ago as well as $7,000 on a market study about a year ago. In order to start the new project, the firm has to replace the old machine which has a book value of $0 and will be scrapped. The new machine will cost the firm $220,000. Additionally, XYZ will spend $7,000 in installation and $3,000 in shipping. Since the new machine will produce more, an investment in net working capital of $10,000 is required. The new machine will be depreciated using straight-line depreciation to a salvage value of $0. However, the realizable salvage value of the new machine at year 5 is expected to be $50,000. The project will increase annual revenues by $125,000 and will increase annual operating cost by $45,000. The company has a marginal tax rate of 34%. It has the cost of capital of 14% and the project will last 5 years. What is the initial outlay of this project?

$220,000 $240,000 $250,000 $230,000 Initial outlay = Price of New Machine + Shipping/Installation + Required NWC + Net Proceed from Sale of Old Machine = 220,000 + 10,000 + 10,000 + 0 = 240,000

Use the following information to answer the questions about XYZ Company. XYZ Company is considering the purchase of new equipment. The firm spent $12,000 on consulting several months ago as well as $7,000 on a market study about a year ago. In order to start the new project, the firm has to replace the old machine which has a book value of $0 and will be scrapped. The new machine will cost the firm $220,000. Additionally, XYZ will spend $7,000 in installation and $3,000 in shipping. Since the new machine will produce more, an investment in net working capital of $10,000 is required. The new machine will be depreciated using straight-line depreciation to a salvage value of $0. However, the realizable salvage value of the new machine at year 5 is expected to be $50,000. The new machine will increase annual operating revenues by $125,000 and operating costs by $45,000. The marginal tax rate is 34%. What is the terminal cash flow of the project?

$23,000 $43,000 $33,000 $60,000 Terminal CF = Net Proceed from Sale of New Machine + Recap of WC = 50,000 X(1 - 0.34) + 10,000 = 43,000.

You just turned 25 and graduated from a university. You are already thinking about your retirement. You want to have $500,000 in today's dollar value when you retire. You have a lot of savings today and you were wondering if the savings may be enough if you invest wisely. You are anticipating an average inflation rate of 2% and you can earn 10% return on average. If you retire 40 years from now, how much savings do you need to have today to reach your goal?

$23,015 $10,248,724 $11,047 $24,393 First, you need to find the future value of $500,000 with the inflation rate. Then you need to find how much you need today if you can earn 10% a year for 40 years. Step 1: FV = PV(1+r)t = 500000(1+0.02)40 = $1,104,020 [calculator: 500000 PV, 2 I/Y, 40 N, compute FV] Step 2: PV = FV/(1+r)t = 1104020/(1+0.10)40 = $24,393 [calculator: 1104020 FV, 10 I/Y, 40 N, compute PV]

In order to start the new project, the firm has to replace an old machine with a remaining book value of $25,000. However, while still functional, the machine has no market value and will be scrapped if the new equipment is acquired. The new machine will cost the firm $220,000. In order to put the machine in working condition, ABC will spend $6,000 in installation and $4,000 in shipping. If the new machine is purchased net working capital will be increased by $10,000. The new machine will be depreciated via the straight-line depreciation method to a salvage value of $0. However, at the end of the new machine's five-year life, it can be sold for $30,000. If accepted, the new machine will increase annual revenues by $150,000 and will increase annual operating costs by $45,000. The company has a marginal tax rate of 40% and a cost of capital of 14%. The project will last 5 years. What is the initial outlay of this project?

$240,000 $265,000 $230,000 $245,000 · Depreciable asset = Cost of New + Install + Ship = 220k + 6k + 4k = 230k · Net cash from sale of old machine = MV of Old -/+ Tax effect = $0 + $10k = 10k o Gain (Loss) = Sale price - BV = $0 - $25k = ($25k) (note: not cash). o Reduces initial outlay! Initial outlay = cost of new + install + ship + increase in WC - net cash from sale of old = 220k + 6k + 4K + 10k - 10k = 230k

You are considering the purchase of common stock of Wahoo, Inc that just paid a dividend of $2.50 per share. Due to a new alliance with Koogle Corp, security analysts project a steady growth of 16% in dividends and earnings for the next 4 years. After this period, the firm will grow at an industry average rate of 7% forever. Your required rate of return for stocks of this type is 18%. How much should you expect to pay for this stock?

$28.56 $37.95 $32.29 $30.15 $25.75 D0 $2.50 g1 16% g2 7% Discount rate 18% Super growth length 4 D1 = 2.5 * 1.16 = 2.90 PV of D1 = 2.90/1.181 (Can also be calculated with calculator using TVM function) D2 = 2.90 * 1.16 = 3.36 PV of D2 = 3.36/1.182 = 2.42 D3 = 3.36 * 1.16 = 3.90 PV of D3 = 3.90/1.183 = 2.38 D4 = 3.90 * 1.16 = 4.53 PV of D4 = 4/53/1.184 = 2.33 Stage 2 (4.53 * 1.07)/(.18-.07) = 44.03 PV of Stage 2 = 44.03/1.184 = 22.71 V0 = 2.46 + 2.42 + 2.38 + 2.33 + 22.71 = 32.29

TellAll reports retained earnings of $1122 and $1402 for 20x1 and 20x2, respectively. Additionally, the firm paid dividends of $200 and $225 in 20x1 and 20x2, respectively. What was TellAll's net income for 20x2?

$280 $1,225 $55 $505 Solution: New RE = Old RE + NI - Div; 1402 = 1122 + NI - 225; NI = 505

Some New Co. needs funding for a new product that will revolutionize the world. They want to issue new bonds to fund their project. Some New Co. is worried about generating enough cash to make coupon payments during the introduction phase of their product, so they would like to keep the coupon payments below the market interest rate. They are offering a 5-year, $1000 face value bond with a YTM of 15% for $750. What will their coupon payments be if they make coupon payments semi-annually?

$29.79 $30.00 $38.58 $35.14 $42.73 N10=5*2 FV1000 Rate0.075=0.15/2 PV-750 PMT$38.58

A bond has the typical face value of $1,000 and promised to pay a 3.5% coupon rate. How much is the annual coupon payment?

$3.50 $35.00 $350.00 $1,000.00 None of these choices Remember, to compute the annual coupon payment, simply multiply the face value ($1,000) by the coupon rate (expressed as a decimal, so 0.035).

Your grandparents set-up a family education fund that pays $5,000 every quarter in perpetuity to fund family educational pursuits. The fund earns 12%. How much did your grandparents set aside to establish the fund? Assume that the fund started making distributions 3 months after establishment.

$46,667 $41,667 $166,667 $125,000 Since payments are made every 3 months, you need to divide the rate by 4 (quarterly rate of 12%/4 = 3%). PV_perpetuity = PMT/Rate = 5000/0.03 = $166,667

An increasing debt-to-equity ratio might decrease the value of a firm because higher debt levels create higher costs associated with bankruptcy risk.

True False

TippingToys is considering the purchase of a new toy-making machine that will increase revenues by $50,000 a year and annual costs by $10,000. The new machine will cost $100,000 with shipping and installation fees of $10,000. The machine will be depreciated via 5-year MACRS schedule (20.0%, 32.0%, 19.2%, 11.5%, 11.5%, 5.8%). The firm estimates that the new machine can be sold at the end of its five-year life for $20,000. The new machine will necessitate an investment of $30,000 in working capital that will be fully recovered at the end of the project. Tipping Toys has a 10% cost of capital and a corporate tax rate of 40%. What is the terminal cash flow of the project?

$30,000 $38,172 $44,552 $42,000 Remember that "terminal cash flow" refers only to the cash flows that occur because the project concludes (sometimes called 'wrap-up' or 'wind-down' cash flows). The major components are the sale of the "new" equipment purchased at project origination (including any tax implications) plus the recapture of working capital. Note: recall that we are using a 5-year MACRS schedule and have claimed 5 years of depreciation. But, the 5-year schedule has 6 factors. So, to fully depreciate an asset under a 5-year schedule requires 6 years (note: don't look for logic in the tax code!). Since we have claimed only 5 years, there is still 5.8% of the original depreciable base remaining on the books (i.e., the sixth year's depreciation under the 5-year MACRS schedule is 5.8%). That is, at the end of the 5th year the book value of the new equipment = depreciable base x .058 = 110k x .058 = $6,380. This has important implications for the calculation of terminal cash flows. Specifically, if we sell the asset for $20k, the taxable gain will be: 20,000 - 6,380 = $13,620. This creates a tax liability of $5,448 (=13,620 x .4). Hence, the net proceeds from selling the equipment at the end of 5 years = sale price - tax liability = 20,000 - 5448 = $14,552.

TippingToys is considering the purchase of a new toy-making machine that will increase revenues by $50,000 a year and annual costs by $10,000. The new machine will cost $100,000 with shipping and installation fees of $10,000. The machine will be depreciated via 5-year MACRS schedule (20.0%, 32.0%, 19.2%, 11.5%, 11.5%, 5.8%). The firm estimates that the new machine can be sold at the end of its five-year life for $20,000. The new machine will necessitate an investment of $30,000 in working capital that will be fully recovered at the end of the project. Tipping Toys has a 10% cost of capital and a corporate tax rate of 40%. What is the differential cash flow in Year 3?

$31,680 $34,168 $32,448 $32,800 Remember, the terms differential cash flow and operating cash flow are used interchangeably. The calculation is as follows: Year 3 MACRS Factoryear 3 19.20% Depr Expyr3 ($110k x.192) 21,120 Revenue 50,000 Cost (10,000) Depreciation Expense (21,120) EBIT 18,880 Tax (40%) (7,552) NOPAT 11,328 Add: Depreciation Exp 21,120 Differential Cash Flow3 32,448 Total Cash Flow3 32,448 Note: Even though the revenues and costs are constant in all five years of the project's life, the differential cash flow will be different each year because of differing depreciation expense.

4 years ago, you received a student loan of $20,000 with the annual interest rate of 8% compounded monthly. Because it is a student loan, you did not make any payments while you were in school (although interest was still accruing). You just graduated and your payments start at the end of each month (assume that today is 1st of the month). If you plan to pay back the loan over 10 years, what is the amount of your monthly payment?

$331.60 $327.94 $330.13 $334.93 Step 1: Find the amount of the loan at the beginning of the current month. PV: 20000FV: $27,557.09PMT: 0N: 48I: 0.67%Mode: 0 Step 2: Calculate payment for a 10 year amortization of the loan PV: $27,557.09FV: 0PMT: 334.93N: 120I: 0.67%Mode: 0 (End)

You just bought a new car. You will make a down payment of $4,000 now, and take a loan for the remaining amount. The loan is for 5 years as with an APR of 4.8%. If you are going to make monthly payments of $563.39 at the end of each month, what is the price of the car you purchased?

$34,000 $30,120 $30,000 $33,268 PV: 30000 FV: 0 PMT: -563.39 N: 60 I: 0.4% Mode: 0

OrangeCo is a growing tech company. They have anticipated their growth rate will be 15% for the next three years. After the three year hyper-growth period, they expect their growth to be closer to the industry growth rate of 5% for the foreseeable future (forever). OrangeCo paid a small dividend of $1 to their investors last month. If your required rate of return is 10%, what would be the highest price you would pay for OrangeCo stock?

$35.75 $32.95 $29.15 $25.25 $27.28 g1 = 15% g2 = 5% D0 = $1.00 Discount rate 10% Year 1 D1 = 1.00*1.15 = 1.15 PV of D1 = 1.15/1.101 = 1.05 Year 2 D2 = 1.15*1.15 = 1.32 PV of D2 = 1.32/1.102 = 1.09 Year 3 D3 = 1.32*1.15 = 1.52 PV of D3 = 1.52/1.103 = 1.14 Stage 2 FV = (1.52*1.05)/(.1-.05) = 31.94 PV = 31.94/1.103 = 24 Sum of PV's = 1.05 + 1.09 + 1.14 + 24 = 27.28

You have a 5 year old son. You want to provide financial help when he goes to college in 13 years. You are planning to give him $20,000 a year at the beginning of each year during his 4 years of college. How much do you have to set aside today if you can earn annual interest of 5% in an account you deposit the money?

$37,610 $42,426 $39,490 $24,904 Step 1: PV: ($74,464.96) FV: 0 PMT 20000 N: 4 I: 5% Mode: 1 (Begin) [annuity due] Step 2: PV: ($39,490.36) FV: $74,464.96 PMT: 0 N: 13 I: 5% Mode: 0 [ordinary annuity]

Suppose another company is planning to pay a $1.25 dividend in the upcoming year, a $1.75 dividend in year 2, and a dividend of $2 in year 3. Also assume the stock price in three years will be $50.65. If the required return by shareholders is 13%, what is the price today?

$38.97 $49.91 $66.29 $71.35 $79.25 Vo = 1.25/1.13 + 1.75/(1.13)2 + 2/(1.13)3 + 50.65/(1.13)3 = 38.97

You just turned 20 years old today and started thinking about retirement savings. If you deposit $2,000 at the end of each year into an account earning annual interest of 8%, how much will you have if you retire in 40 years?

$427,219 $518,113 $399,270 $559,562 PV: 0 FV: ($518,113.04) PMT: 2000 N: 40 I: 8% Mode: 0

You are starting a four-year educational program today. Since you did not save enough money, you plan to take a loan of $10,000 each year for four years. The loan has an interest rate of 4.5% and you are taking the first $10,000 installment today. You plan to finish your education in exactly four years. What will be the balance owing on your loan when you graduate? (Round to the nearest $1)

$44,707 $40,000 $41,800 $42,782 PV: - FV: ($44,707) PMT: 10,000.00 N: 4 I: 4.50% Mode: 1 (Begin)

Suppose a company is planning to pay a $2 dividend in the upcoming year and a $2.50 dividend in year 2. Also assume the stock price in two years will be $100. If the required return by shareholders is 15%, what is the price today?

$45.98 $38.97 $79.25 $64.81 $71.35 Vo = 2/1.15 + 2.50/(1.15)2 + 100/(1.15)2 = 79.25

A firm purchased equipment three years ago for $500,000. The equipment is the only fixed asset the firm has ever owned. If the firm claimed depreciation of $20,000 the first year, $35,000 the second year and $32,500 the third year, the Gross Fixed Assets should be equal to:

$480,000 $445,000 $500,000 $412,500 Solution: GROSS fixed assets represent the original cost of the firm's fixed assets before accumulated depreciation.

Suppose a different company is planning to pay a $2 dividend in the upcoming year, a $2.50 dividend in year 2, and a dividend of $3 in year 3. Also assume the stock price in three years will be $100. If the required return by shareholders is 15%, what is the price today?

$67.76 $38.97 $71.35 $46.25 $79.25 Vo = 2/1.15 + 2.50/(1.15)2 + 3/(1.15)3 + 100/(1.15)3 = 71.35

If you were to set up a perpetual educational fund for your family which will pay $5,000 a year forever, how much do you have to set a side today? Assume the appropriate discount rate is 8%.

$70,000 $65,000 $62,500 $67,500 The correct answer is $62,500. PV_perpetuity = PMT/I = 5000/0.08 = $62,500

Use the following information to answer the questions about XYZ Company. XYZ Company is considering the purchase of new equipment. The firm spent $12,000 on consulting several months ago as well as $7,000 on a market study about a year ago. In order to start the new project, the firm has to replace the old machine which has a book value of $0 and will be scrapped. The new machine will cost the firm $220,000. Additionally, XYZ will spend $7,000 in installation and $3,000 in shipping. Since the new machine will produce more, an investment in net working capital of $10,000 is required. The new machine will be depreciated using straight-line depreciation to a salvage value of $0. However, the realizable salvage value of the new machine at year 5 is expected to be $50,000. The new machine will increase annual operating revenues by $125,000 and operating costs by $45,000. The marginal tax rate is 34%. XYZ Company is considering the purchase of new equipment. The firm spent $12,000 on consulting several months ago as well as $7,000 on a market study about a year ago. In order to start the new project, the firm has to replace the old machine which has a book value of $0 and will be scrapped. The new machine will cost the firm $220,000. Additionally, XYZ will spend $7,000 in installation and $3,000 in shipping. Since the new machine will produce more, an investment in net working capital of $10,000 is required. The new machine will be depreciated using straight-line depreciation to a salvage value of $0. However, the realizable salvage value of the new machine at year 5 is expected to be $50,000. What is the total cash flow for Year 2?

$70,000 $68,440 $22,440 $24,000 CF2 = EBIT X (1 - t) + Depr Exp - Change in NWC = (Revenue - Cost - Depr Exp) X (1-t) + Depr Exp - Change in NWC = (125,000 - 45,000 - 46,000) X (1 - 0.34) + 46,000 - 0 = 68,440 Depreciation Expense Calculation: Depreciable asset: 220000+7000+3000 = 230,000 Annual Depreciation: (230000-0)/5 = 46000

Suppose you bought a stock for $19.84 one year ago. Today the stock is currently priced at $18.45. The stock recently paid a $3.50 dividend, what is the percentage return for this stock? (ANSWER IN DECIMAL FORM)

(18.45-19.84+3.50)/19.84 = 0.1064 or 10.64%

Suppose you bought a stock for $22.10 one year ago. Today the stock is currently priced at $22.08. The stock recently paid a $4 dividend, what is the percentage return for this stock? (ANSWER IN DECIMAL FORM)

(22.08-22.10 + 4)/22.10 = 0.1801 or 18.01%

Suppose you bought a stock for $45 one year ago. Today the stock is currently priced at $47.42. If the stock does not pay a dividend, what is the percentage return for this stock? (ANSWER IN DECIMAL FORM.)

(47.42-45)/45 = 0.0538 or 5.38%

What is the cash flow from investing? Increase in gross PP&E 125,000 Beginning net PP&E 750,000 Ending net PP&E 850,000 Depreciation expense 25,000

(75,000) 150,000 (125,000) 850,000 Net end 850 less net beg 750 plus depn 25 = 125

Tom purchased stock from HAL Corporation one year ago for $179.00. He recently received one dividend payment in the amount of $5.05 and then sold the stock for $182.00. What is Tom's return?

-1.11% 6.5% 1.68% -1.65% 4.5% Using the holding period return equation, we can solve for our return. ks = [(P1 + D1)/P0]- 1 ks = [(182+5.05)/179] - 1

Suppose a firm was provided an option to purchase $100 of raw materials according to a 3/15 net 45 discount policy. What is the 30 day interest rate in percent on this effective loan? (round to the nearest hundredth: .00).

.03*100 = $3. (100-97)/97 = 3.09%

If a common stock is worth $75 and the growth rate is 5% with a dividend expected to pay $2 in a year's time, what is the expected rate of return?

.0750 .0267 .0550 .0767 (2.00 / 75.00) + .05 = .0767

There are two economic states, expansion and recession. The probability of an expansion is 70%; the probability of a recession is 30%. What is the expected return of Company A's stock if it has an expected return of 2% in a recession and 10% in an expansion?

.0760 .6000 .0314 .4218 Cycle Prob Stock Recession 30% .02 .0060 Expansion 70% .10 .0700 .0760

Capital is valued at $3,000,000 consisting of $1,600,000 of common stock, $1,000,000 of bonds, and $400,000 of short-term debt. CAPM expected return is .135. Bonds before tax are .045. Short term debt costs .065. What is the after tax WACC if the tax rate is 35%?

.0784 .0874 .1007 .0991 (1600/3000 * .135) + (1,000/3,000 * .045 * .65) + (400/3,000 * .065 * .65) = .0720 + .0098 + .0056 = .0874

Find the portfolio expected rate of return given the following information: Expansion probability is 55%, recession probability is 45% Stock A—Expansion return is 15%, recession return is 2% Stock B—Expansion return is 12%, recession return is -3% You own $75,000 worth of shares of Stock A and $15,000 worth of Stock B.

.0851 .0980 .0754 .1022 Hint: Cycle Prob Stock A Stock B Recession 45% .02 .0090 -.03 -.0135 Expansion 55% .15 .0825 .12 .0660 .0915 .0525 Mkt Val 75,000 15,000 % 75/90=.833 15/90=.167 Weighted Cost .0762 .0088 = .0851

Common stock is valued at $1,000,000 and costs .20. Bonds are valued at $850,000 and cost .04. Preferred stock is valued at $500,000 and costs .06. The tax rate is 40%. What is the pre-tax WACC?

.1015 .1404 .1229 .1124 (1000/2350 * .2) + (850/2350 * .04) + (500/2350 * .06) = .0851 + .0145 + .0128 = .1124

The market rate is .14. Treasury bonds are returning .025. A stock has a beta of .75. What is that stock's expected return?

.1113 .3007 .1052 .2491 .025 + ( .75 * (.14 - .025) = .1113

A firm reported retained earnings of $300 in 12/31/2012. For 12/31/2013, the firm reports retained earnings of $400 and pays dividends of $25. What was their net income in 2013?

100 400 125 300 Beg RE = 300, NI = 125, Div = -25, End RE = 400

If a company has a capital structure of $5,000,000 common stock with a cost of 17%, $2,000,000 bonds at 4%, $1,000,000 of short term debt with a cost of 7%, and $2,000,000 preferred stock with a cost of 3%, what is the weighted average cost of Capital? The company has a 40% tax rate.

.1322 .1196 .0899 .1000 (.50 * .17) +( .20 * .04 * (1-t) or .6) + (.10 * .07 * .6) + (.2 * .03) = .0850 + .0048 + .0042 + .0060 = .1000

A stock has a beta of 1.42. The stock market is returning .11, and treasury bills are trading at a rate of .014. What is the expected return?

.1503 .1240 .1085 .1562 .014 + 1.42 (.11 - .014) = .1503

The market rate is .09, and the risk-free rate is .015. If a stock has a beta of 1.92, what is the expected rate of return?

.1590 .1500 .1728 .1275 .015 + 1.92 (.09 - .015) = .1590

Jaunty Coffee Co. had sales of $70 million and expenses of $50 million, and they paid 40% in taxes. It has equity of $42 million. The board approved dividends totaling $4,500,000. What is the company's sustainable growth rate?

.1786 .6015 .1429 .1667 Net income = 70 million - 50 million = 20 million * (1-.40) = 12 million net income ROE = 12 million / 42 million = .2857 Dividend payout ratio = 4.5 million / 12 million = .375 SGR = .2857 ( 1 - .375) = .1786

If a company has a capital structure of $100,000 common stock, $50,000 bonds, and $10,000 preferred stock, and the respective rates are 15% common stock, 3% bonds (after tax), and 4% preferred stock, what is the weighted average cost of capital?

.2200 .1057 .1128 .0733 (.625 * .15) + (.3125 * .03) + (.0625 * .04) = .0938 + .0094 + .0025 = .1057 3% bonds are AFTER tax.

Freedom Rock Bicycles earned $25 million after tax in the last year. The company has $100 million in assets and $85 million in equity. It has a policy of paying 12% of earnings as dividends. What is the SGR of Freedom Rock?

.2200 .1285 .0353 .2588 ROE 25 million / 85 million = .2941 SGR = .2941 (1 - .12) = .2588

You are interested in buying a preferred stock and want to know what the rate of return is. The stock is selling for $85 and pays a dividend today of $2.25. What is the rate of return?

.2650 .2250 .3176 .0265 2.25 / 85.00 = .0265 or 2.65% (Preferred stock has no growth.)

A stock has a beta of 2.1 and a market premium of .14 where the market rate is .17. What is the expected rate of return?

.3240 .1703 .3571 .2949 E(r) = Rf + B (Rm - Rf) .17-.14 + 2.1 * .14 = .324

What is the sustained growth rate given the following? Sales are 2.5 million Total expenses (including cost of goods sold through taxes) are 2.0 million Total assets are 3.0 million Equity is 1.3 million Dividend payout ratio is .25

.7500 .2552 .2885 .3846 ROE = NI / equity 2.5 - 2.0 = .5 in income divided by 1.3 in equity for .3846 1 - dividend payout ratio is 1 - .25 = .75 .3846 * .75 = .2885

A woman has just found out that a rich great-aunt has bequeathed a trust fund that pays $50,000 to her and to her descendants forever. If the trust fund earns 3.5% interest, what is the amount of the trust fund?

1,782,425 1,428,571 5,000,000 2,529,123 50,000 / .035 = PV or 1,428,571

How far in the future can one typically predict information required for pro forma statements?

1-6 years 2-8 years Up to 10 years None of the above 3-5 years

Intel provides the following data for 2014: · A/R 600 · Inventory 800 · Fixed assets 1,000 · A/P 500 · Long term debt 900 · Common stock 400 What is the current ratio?

1.5 2.0 1.2 2.8 600 + 800 / 500 = 2.8

Use the following information to calculate the payback period for the project. Initial Outlay $(10,000) Year 1 $6,000 Year 2 $7,000 Year 3 $6,400 Year 4 $5,600 Year 5 $5,000

1.57 years 1.00 year 2.00 years 1.67 years After year 1, the project is $4k short of "paying back" the initial investment ($10k initial investment - $6k year 1 inflow). The $4k needed to achieve payback will require 57% of year 2 inflows ($4k/$7k). Hence, the payback is: Payback Period = 1 + (4000/7000) = 1.57 years

Use the following information to answer the question. Initial Outlay $ (5,000) Year 1 $ 3,000 Year 2 $ 3,500 Year 3 $ 3,200 Year 4 $ 2,800 Year 5 $ 2,500 What is the payback period of above cash flows?

1.67 years 1.00 year 2.00 years 1.57 years Year 1 cash flow will be used to payback a part of the initial outlay and $2,000 will be left to payback still. Since Year 2 has more cash inflow than needed to achieve payback, payback period can be calculated as: 1 + (2000/3500) = 1.57 years.

What is the beta of a stock where the expected rate of return is 14%, the market premium is 7%, and the Risk Free Rate is 3%?

1.90 0.95 1.57 1.45 .14 = .03 + X (.07) or (.14 - .03) / .07 = 1.57 Note: .07 = (.10 - .03) Rm = Mkt Prem + risk free rate

A firm just announced a new preferred stock issue. The preferred dividend, which will be paid in perpetuity, is expected to be $4.10. The return required by shareholders is 10%. What is the cost of preferred equity in percent? (Round to the nearest hundredth: .00)

10 Cost of preferred equity: 10%

A piece of equipment was sold at the end of the project. The project received $85,000 for the equipment that carried a book value of $75,000. The tax rate is 35%. What is the salvage value?

10,000 26,250 81,500 85,000 85,000 - ((85,000-75,000)*.35) = 81,500

Given the information below, what is the expected return of the portfolio made up of 25% of stock A, 35% of stock B, and 40% of stock C. Submit your answer in decimal format. Economic State Probability π Stock A Stock B Stock C Recessionary .33 10% 15% -4% Expansionary .67 8% -2% 28%

10.405 E[R] of the portfolio = 10.405% Expected return during recession: .25*.1+.35*.15+.4*(-.04) = 6.15% Expected return during expansion: .25*.08+.35*(-.02)+.4*.28 = 12.5% Expected return of portfolio: =0.33*0.0615+0.67*0.125

A firm just announced a new preferred stock issue. The preferred dividend, which will be paid in perpetuity, is expected to be $10. The price per share of preferred stock is expected to be $94. Given this information, what is the cost of preferred equity in percent? (Round to the nearest hundredth: .00)

10.64 Cost of preferred equity: 10/94 = 10.64%

An increasing debt-to-equity ratio might improve the value of the firm because of tax shields.

True False

Suppose you bought a stock for $101.44 one year ago. Today the stock is currently priced at $109.54. If the stock does not pay a dividend, what is the dollar return for this stock?

109.54-101.44 = 8.10

What is the rate of return for a stock purchased for $89, sold in a year for $100, paying a dividend during that time of $2.75?

11.00% 15.45% 14.25% 13.75% R = (V1 + D) / Vo Rate of return step by step: 100.00 + 2.75 = 102.75 / 89.00 = 1.1545 Less 1 = 15.45 %

A firm just announced a new preferred stock issue. The preferred dividend, which will be paid in perpetuity, is expected to be $4.10. The price per share of preferred stock is expected to be $37. Given this information, cost of preferred equity in percent? (Round to the nearest hundredth: .00)

11.08 Cost of preferred equity: 4.10/37 = 11.08%

Your friend is trying to finance a home purchase and asks for your help. The home she wishes to buy will cost $300,000. She has enough cash to make a down payment of 20% of the price of the house and can afford monthly mortgage payments of $2,500 for principal and interest (ignore taxes and insurance). The mortgage contract calls for monthly payments due at the beginning of each month with the first payment due at the signing of the loan agreement. If the loan will be completely repaid in 20 years, the annual interest rate is closest to: (Note: use four decimal places of accuracy)

11.14% 11.28% 0.94% 8.33% Step 1: Calculate the monthly rate. PV FV PMT N I Mode $240,000.00 $0.00 (2,500) 240 0.9402% 1 (due) Step 2: Annualize the monthly rate (multiply by 12). Using monthly data in Step 1 gives us a monthly rate. To annualize, multiply by 12: .9402 x 12 =11.28%APR. Note the first payment is due at contract signing; hence, you must use the annuity due mode (i.e., Begin mode) on your calculator. If you erroneously used the end mode, you would get answer C (11.14%).

Suppose a company has an after-tax cost of debt of 4%, and the cost of common equity of 17%. Also assume the market value of the firm is $10 million, with $4.5 million in debt and $5.5 million in common equity. What is the firm's WACC in percent? (Round to the nearest hundredth: .00)

11.15 WACC = (5.5/10)*17% +(4.5/10)*4% = 11.15%

Given the information below, what is the expected return for Stock X? Submit your answer in decimal format. Economic State Probability π Returns for Stock X Recessionary .15 -4% Normal .60 12% Expansionary .25 21%

11.85 =0.15*-0.04+0.6*0.12+0.25*0.21

What is the return on a $1000 face value bond that pays annual coupon payments of $75, matures in 4 years, and is currently selling at $850?

11.87% 11.21% 10.58% 10.78% 12.49% N: 4 PMT: $75 FV: $1,000 PV:-$850 R: 12.49%

Given the information below, what is the expected return in percent of the portfolio made up of 40% of stock A and 60% of Stock B? Economic State Probability π Stock A Stock B Recessionary .35 12% 2% Expansionary .65 5% 22%

11.98 1. E[R] of the portfolio = 11.98% =((.35*(.4*12%+.6*2%))+(.65*(.4*5%+.6*22%)))

Honeydwell's common stock just paid a dividend of $1.95. Dividends are expected to grow at a 5 percent annual rate forever. If Honeydwell's stock is currently selling at $25.45, what is the stock's expected rate of return?

11.98% 11.50% 12.72% 13.05% 12.50% V0 = $25.45 D0 = $1.95 g = 5% 25.45 = (1.95*1.05)/( kcs-5%), solve for kcs

A firm purchased raw materials on April 1st on credit, paid for the materials on April 15th, finished producing and sold the finished product on May 15th, and received payment on May 30th. How many days was the operating cycle?

120 90 30 60 The firm received the raw materials on April 1 and received cash payment on May 30. This implies the operating cycle was 2 months, or 60 days.

Suppose a firm is looking to calculate the cost of common equity using the dividend growth (Gordon) model. The company has just paid a dividend of $4.50 and anticipates growing its dividend at a constant rate of 4% indefinitely. If the current price of the company is valued at $50, what is the cost of common equity in percent (Round to the nearest hundredth: .00)

13.36 Cost of Common Equity: Re = [4.50(1.04)]/50 + .04 = 13.36%

Suppose a company has a before tax cost of debt of 10%, cost of common equity of 22%, cost of preferred equity of 15%, and a marginal tax rate of 40%. Also assume that the fraction of the firm's total market value that is made up from debt is .45, made up from common equity is .35, and made up from preferred equity is .20. What is the firm's WACC? (Round to the nearest hundredth: .00)

13.40 WACC = (.35)*22%+(.20)*15%+(.45)*10%*(1-.40) = 13.40%

TippingToys is considering the purchase of a new toy-making machine that will increase revenues by $50,000 a year and annual costs by $10,000. The new machine will replace an outdated machine with a current book vale of $10,000 but if scrapped now can only be sold for $6,000. The new machine will cost $100,000 with shipping and installation fees of $10,000. The machine will be depreciated via 5-year MACRS schedule (20.0%, 32.0%, 19.2%, 11.5%, 11.5%, 5.8%). The firm estimates that the new machine can be sold at the end of its five-year life for $20,000. The new machine will necessitate an investment of $30,000 in working capital that will be fully recovered at the end of the project. Tipping Toys has a 10% cost of capital and a corporate tax rate of 40%. What is the IRR of the project?

14.85% 12.47% 14.05% 13.03% Note: the total cash flow in year 5 (aka, year 5 free cash flow) of $73,612 consists of the differential (or operating) cash flow of $29,060 plus the terminal cash flow of $44,552

Bookmark question for later Intel reported the following for 2014: Gross equipment (1/1/14) 50,000 Gross equipment (12/31/14) 65,000 Net income 100,000 Depreciation 20,000 What is the cash flow from investing activities for 2014?

15,000 80,000 100,000 (15,000) (15,000) Depreciation is not counted when using Gross PPE

You can buy a stock today at $39 that is expected to pay a $3.25 dividend at the end of one year. If you think that you can sell it for $45 after the dividend is paid, what would be your return?

15.22% 23.72% 18.32% 10.51% 6.11% Using the holding period return equation, we can solve for the rate of return. ks = [(P1 + D1)/P0]- 1 ks = [(45 + 3.25)/39] - 1

A project is closing. Equipment is sold for $50,000, even though the book value was $75,000. The tax rate is 30%. The project started with $100,000 in working capital. What is the terminal cash flow?

152,500 127,500 157,500 75,000 50,000 - ((50,000-75,000)*.3) + 100,000 = 157,500

As flotation costs become more expensive, using internal equity will become more costly than using external equity.

True False

What is the differential cash flow given the following? Sales 50,000 Expenses (w/o depn) 30,000 Depreciation 10,000 Taxes (.40) 4,000

16,000 50,000 6,000 10,000 NI + depn 50,000 - 30,000 - 10,000 = 10,000 EBIT - taxes of 4,000 = 6,000 NI + 10,000 depn = 16,000 diff cash flow

The common stock of Zed Corporation is selling for $32.84. The stock expects to pay a dividend of $2.94 per share next year. The expected rate of return on Zed's stock is 13 percent. What is Zed's estimated growth rate?

16.80 % 21.95 % 4.05 % 13.25 % -4.05 % Using the Gordon Growth Model: V0=D1/(r-g), we can solve for g. g = r - (D1/V0) g = 13% - (2.94/32.84)

A firm purchased raw materials on June1st on credit, paid for the materials on June 10th, finished producing and sold the finished product on June 20th, and received payment on June 27th. How many days was the cash cycle?

17 15 21 13 The firm paid for the materials on June 10 and received cash payment on June 27. This implies the cash cycle was 17 days.

Suppose a firm is looking to calculate the cost of common equity using the Capital Asset Pricing Model. The company has a beta of 1.6. Market returns are expected to be 12% and the risk free rate is 3.5%. Given this information, what is the cost of common equity in percent? (Round to the nearest hundredth: .00)

17.10 Cost of Common Equity: Re = 3.5% + 1.6(12%-3.5%) = 17.10%

YouWatch.com has a beta of 1.2. The market risk premium is 12.5% while the expected return on the market is 15%. Given this information what is the expected return for this company in percent?

17.5 E[R] = (15%-12.5%) + 1.2(12.5%) = 17.5%

Given the information below, what is the expected return for Stock A? Submit your answer in decimal format. Economic State Probability π Returns for Stock A Recessionary .40 10% Expansionary .60 23%

17.8 =0.4*0.1+0.6*0.23

An investor wishes to know what the value of a common stock is if it pays a dividend of $6 today. The company's growth rate is 4.5% and the investor expects the stock to earn 7%. What is the value of the common stock?

179.14 240.00 85.71 250.80 (6 * 1.045) / (.07 - .045) = 250.80

Which of the following gives the smallest effective yield?

18.6% APR compounded daily 20.4% APR compounded annually 19.0% APR compounded quarterly 18.7% APR compounded monthly Recall the formula: EY = (1 + [stated/m])m - 1. Use the formula to calculate the effective yield for each option: 20.4% compounded annually: EY = (1 + [.204/1])1 - 1 = 20.40% (with m = 1, stated and EY are identical) 19% compounded quarterly: EY = (1 + [.19/4])4 - 1 = 20.40% 18.7% compounded monthly: EY = (1 + [.187/12])12 - 1 = 20.39% (smallest effective yield) 18.6% compounded daily: EY = (1 + [.186/365])365 - 1 = 20.44%

Which of the following gives the largest effective rate (APY)?

18.6% compounded yearly 18.6% compounded daily 18.6% compounded monthly 18.6% compounded weekly

Currently, Sport City's 10-year bonds are selling for $975. What is the bond's yield to maturity given that the bond has a $1,000 face value and that it pays 6% interest annually? (Assume coupons are paid semi-annually.)

2.97% 6.34% 4.17% 3.17% 5.76% N20PMT30FV1000PV-975 R3.17%YTM6.34%

Use the following information to answer the next three questions. Initial Outlay $ (5,000) Year 1 $ 3,000 Year 2 $ 3,500 Year 3 $ 3,200 Year 4 $ 2,800 Year 5 $ 2,500 What is the IRR if the discount rate is 20%?

20% 45% 35% 55% ???????

What is the cash flow stream for a present value 1,000,000 at 5% paid in equal installments in the future?

20,000 50,000 500,000 35,000 1,000,000 * .05 = 50,000

A company is planning to issue new equity in order to raise capital. The company has a beta of 1.5. Returns on the market are expected to be 14% and the market risk premium is expected to be 11%. If flotation costs sum to 4%, what is the cost of common equity? (Round to the nearest hundredth: .00)

20.28 Cost of common equity: 3%+1.5(11%) = 19.5%(1.04) = 20.28%

Suppose returns over the last four years were 15%, 12%, 27%, and 21%. If the mean return over the past five years was 20%, what was the return five years ago? Submit your answers as a percentage (e.g. submit 12 for 12%).

25 (15+12+27+21+X)/5 = 20% Solving for X yields X = 100-75 = 25%

IVAT Inc. has a beta of 2. The market risk premium is 11.5% while the risk free rate is 3.5%. Given this information, what is the required return by shareholders of IVAT in percent?

26.5 E[R] = 3.5% + 2(11.5%)= 26.5%

Suppose that an investment will pay 24% APR for a year and the interest will be compounded monthly. What is the expected APY for the investment?

26.82% 28.00% 24.50% 25.41% (1 + .24/12)^12 - 1 = 26.82%

What is the equipment cost subject to depreciation from the following initial outlay? Old equipment sells for (net of taxes) 55,000 New equipment at cost 190,000 Installation and shipping 18,000 Working capital 62,000

270,000 208,000 197,000 153,000 190 + 18 = 208

If you are looking for a return of at least 10%, what would you invest in a company given that it just paid a dividend of $1.80 and estimates a growth rate of 3%?

28.28 25.49 26.49 25.71 Vo = ((1.80 * 1.03) /(.10 - .03) = 26.49

A company has sales of $300, expenses of $200 and interest expense of $25, what is its times interest earned ratio?

3.00 1.75 2.00 4.00 EBIT / Int Exp (300 - 200) / 25 = 4

FarFromGrooving, Inc. has just been invited to bid on the contract of their dreams. Last year FarFromGrooving had a net margin of 1.96 percent, plowback ratio of 75 percent, ROA of 6.52 percent, and ROE of 11.9 percent. Using this information, calculate the company's SGR to the nearest percent.

8% 9% 10% 11% 12% None of the above ROE 11.90% Plowback 75% SGR = .119 * .75 = .08925

North Rim bonds are being issued at a market price of $1000. They have a face value of $1000 and have a coupon rate of 9% that is paid monthly. These bonds mature in 8 years. What is the YTM?

8.0% 9.0% 10.0% 11.0% 12.0% Calculator Inputs PV = -1000 FV = 1000 N = 8 * 12 = 96 PMT = 1000 * .09 = 90/12 = 7.5 I = .75 * 12 = 9%

A stock sells for $87 one year from now, giving a total return of 8%. What is the dividend if the stock was originally purchased for $82?

8.06 1.56 3.12 5.00 D = Vo * (1+r) - V1 Dividend step by step: 82.00 * 1.08 = 88.56, 88.56 -87.00 = 1.56 dividend

Beckingham Sports is an American company that produces sports equipment. Based on the results of a $25,000 market study and of a $40,000 consultant report, Beckingham Sports is considering expanding overseas. Projected annual revenue associated with the expansion will be $200,000 and annual costs are estimated at $40,000. The expansion will require the replacement of an old machine with more modern equipment. The old machine has a $40,000 market value and has been fully depreciated to its salvage value of $10,000. The new, higher-capacity equipment will cost $340,000. Additionally, installation and shipping fees of $60,000 will be incurred. The new machine will be depreciated via 5-year MACRS schedule (20.0%, 32.0%, 19.2%, 11.5%, 11.5%, 5.8%). The firm estimates that the new machine can be sold at the end of its five-year life for $100,000. The new machine will necessitate an investment of $28,000 in working capital that will be fully recovered at the end of the project. Beckingham Sports has a 13% cost of capital and a corporate tax rate of 40%. What is the IRR of the project?

3.09% 23.90% 22.39% 20.13% IO = -400000 Yr 1 = 128000 Yr 2 = 147200 Yr 3 = 126720 Yr 4 = 114400 Yr 5 = 97280+114400 = 211680 IRR = 22%

What is the YTM for a 14-year semiannual bond that pays $35 every six months and has a purchase price of $980? Face value is $1,000.

3.75% 5.25% 3.61% 7.23% N = 28 , I/Y = ? , PMT = 35 , PV = - 980, FV = 1,000 I/Y = 3.6148 x 2 = 7.23%

You own 175 shares of Rain's preferred stock, which currently sells for $45 per share and pays annual dividends of $2.90 per share. What is your expected return?

5.25% 2.86% 3.29% 6.44% 4.05% Using the perpetuity equation, we compute kps = D/V kps = 2.90/45

A $1,000 bond matures in six years. It pays $35 every six months. The current market price is $1,075. What is the yield?

5.51 6.03 2.76 3.12 N = 2 x 6, PV = -1,075, PMT = 35 (already calculated), FV = 1,000, I/Y = 2.755 x 2 = 5.51

Currently, Sport City's 10-year bonds are selling for $975. What is the bond's yield to maturity given that the bond has a $1,000 face value and that it pays 6% interest annually?

5.76% 2.97% 6.34% 3.17% 4.17% N20 PMT30 FV1000 PV-975 R3.17% YTM6.34%

A firm purchased raw materials on April 1st on credit, paid for the materials on April 15th, finished producing and sold the finished product on May 15th, and received payment on May 30th. How many days was the cash cycle?

50 45 55 30 The firm paid for the materials on April 15th and received cash payment on May 30th. This implies the cash cycle is a month and a half, or 45 days.

What is the increase in retained earnings given the following? Sales are $10 million Net earnings pre-tax are $1 million Dividend payout ratio is .12 Tax rate is 40%

528,000 400,000 880,000 726,000 1,000,000 - 400,000 in taxes = 600,000 .12 * 600,000 = 72,000 600,000 - 72,000 = 528,000 Increase in retained earnings does not need beg RE or end RE, since it is only the increase between the years.

You just turned 20 years old today and you were thinking that it would be nice to have $4,000,000 when you retire. If you deposit $14,759 at the end of each year into an account which earns annual interest of 10%, how old will you be when you can retire with $4,000,000?

54 years old 50 years old 55 years old 35 years old PV: 0FV: $4,000,000.00 PMT: -14,759 N: 35 I: 10% Mode: 0 Current age (20 years) + How long it takes (35 years) = 55 years old.

An investor wishes to know the value of preferred stock when the dividend is $3 per share and the expected rate of return is 6.5%.

56.15 191.45 46.15 72.63 3.00 / .065 = 46.15

The ask price of stock A is $56.75 while the bid price for stock A is $56.71. What is the bid ask spread?

56.75-56.71 = 0.04

What would an investor be willing to pay for a stock today if the value in a year would be $55 with a dividend of $2.24 per share, and the investor wants to make 9% on the investment?

57.24 52.76 53.10 52.51 Vo = V1 + D / (1 + r) Stock Price Today step by step: 55.00 + 2.24 = 57.24 57.24 / 1.09 = 52.51

Suppose a company is financed with 100% debt. Of the company's debt, 67% is made up of long-term debt. The yield on the company's short-term debt is 8% and the yield on the long-term debt is 10.2%. If the marginal tax rate is 34%, what is the weighted average cost of capital? (Round to the nearest hundredth: .00)

6.25 WACC: .67*10.2%(1-.34) + .33*(8%)(1-.34) = 4.51%+1.74% = 6.25%

A company wishes to issue 10-year bonds with a face value of $1,000 and a coupon rate of 5.5%. The market has shifted before the issuance and the bonds will sell at 94% of face value. What is the YTM of the bonds when they are sold?

6.33% 6.71% 6.00% 5.50% N = 10 , I/Y = ? , PMT = 55 , PV = - 940 , FV = 1,000 I/Yr = 6.33%

Financial data for Intel is given below for 2014: · EBIT 1,000,000 · Depreciation 30,000 · Change in working capital (10,000) · Net capital expenditures 15,000 · Tax Rate 40% Compute the free cash flow for 2014.

610,000 625,000 600,000 675,000 FCFF = EBIT (1-t) + Depn - Inc NWC - CapEx 1000 * (1-.4) + 30 + 10 - 15 = 625

Equipment is scrapped at the end of the project and has a book value of $20,000. The tax rate is 35%. The projected started with $75,000 of working capital. What is the terminal cash flow?

75,000 82,000 -20,000 55,000 (20,000 * .35) + 75,000 = 82,000

A project has sales of $300,000, general expenses of $195,000, and depreciation expense of $25,000. The tax rate is 35%. What is the differential cash flow?

77,000 52,000 105,000 80,000 (300 - 195 - 25) * (1 - .35) + 25 = 77

Which of the following are current asset or current liability accounts that are not included in the calculation of CFO?

Cash and notes payable Cash and accrued wages Accounts payable and notes payable Notes payable and accounts receivable

A company is planning to issue a new $1,000 face value bond that will mature in 15 years. The bond will be priced at 101% of face value and the annual coupon rate is 8%. Flotation costs are expected to sum to 3%. What is the before-tax cost of debt in percent? (Round to the nearest hundredth: .00)

8.12 Cost of Debt: (FV=-1000, PMT=-80, PV=1010, N=15 CPT I/Y=7.88%) 7.88(1.03) = 8.12%

A company is planning to issue a new $1,000 face value bond that will mature in 10 years. The price of the bond is expected to be $950 and the annual coupon rate is 7.5%. If flotation costs are $12 per bond, what is the before-tax cost of debt in percent? (Round to the nearest hundredth: .00)

8.44 Cost of debt: (FV = -1000, PMT = -75, PV = 950-12=938, N = 10, CPT I/Y= 8.44%) 8.44%

Suppose a company has a before tax cost of debt of 8%, cost of common equity of 15%, cost of preferred equity of 10%, and a marginal tax rate of 34%. Also assume the market value of the firm is $100 million, with $60 million in debt, $30 million in common equity, and $10 million in preferred equity. What is the firm's WACC in percent? (Round to the nearest hundredth: .00)

8.67 WACC = (30/100)*15%+(10/100)*10%+(60/100)*8%*(1-.34) = 8.67%

A person wants to put aside $500 at the beginning of each month for 10 years. If she estimates an interest rate of 5.5%, how much will she have in her savings account at the end of the 10 years?

80,118.33 70,154.99 86,437.68 76,905.66 PMT = 500, N = 120, I/Y = 0.4583 (5.5/12), PV = 0, Solve for FV This is a BEGIN problem 80,118.33

What does a stock have to sell for one year in the future if it currently sells for $75, has a planned dividend of $1.87 a share, and has an expected return of 14%?

85.42 83.63 71.00 76.87 V1 = Vo * (1+r) - D where Vo = stock price today, V1 = stock price in 1 yr, r = rate of return, D = dividend. Stock in the future step by step: 75 * .14 = 10.50 10.50 - 1.87 = 8.63 75 + 8.63 = 83.63 stock price in one year

What is the price of a 1-year $1,000 bond with a 3% coupon rate if the YTM is 5.2%?

899.42 952.48 1,068.17 979.09 N = 1, I/Y = 5.2, PMT = 30, FV = 1,000 = 979.09

Suppose a company is valued by the market at $60 million and is financed with both debt and common equity. Currently, the company has a market value of equity of $20 million, of which the company is financed with $7 million of external equity and $13 million of internal equity. The company also has a market value of short-term debt of $15 million and a market value of long-term debt of $25 million. The cost of equity is 14%, the cost of short-term debt is 9% and the cost of long-term debt is 10.5%. Further, flotation costs on the external equity have summed to 3%. If the marginal tax rate is 34%, what is the weighted average cost of capital? (Round to the nearest hundredth: .00)

9.09 WACC: (13/60)*14%+(7/60)*14%*(1.03) + (15/60)*9%(1-.34)+(25/60)*10.5%(1-.34) = 3.03%+1.68%+1.49%+2.89% = 9.09%

ABC's common stock currently sells for $36.68 per share. The company's executives anticipate a growth rate of 6 percent and a future dividend of $1.75. What is your expected rate of return?

9.33% 10.77% 10.25% 9.45% 10.56% V0 = $36.68 g = 6% D1 = $1.75 kcs = 6% + (1.75/36.68) = 10.77%

Which of the following will NOT affect differential cash flows?

A change in the depreciation schedule. An increase in the marginal tax rate of a company. An increase in the estimation of value of a new machine at the end of the project. A decrease in the projected annual revenue. The value and sale of the new machine at the end of the project is part of terminal cash flows not differential cash flows. A change in the depreciable schedule will most likely change the annual depreciation expense which will impact tax expense, an increase in the marginal tax rate will change tax expense, and a decrease in the projected annual revenue will decrease differential cash flows.

A basic equation for the balance sheet is_______.

Assets = Liabilities - Equity Equity = Assets - Liabilities Assets = Equity - Liabilities Liabilities = Equity + Assets

Which of the following is an example of firm capital?

Bank deposits Cash The firm's worth None of these choices

An investor wants to maximize the YTM. Which bond would the investor choose? Bond 1 has a price of $954 with a coupon rate of 7% and a maturity of four years. Bond 2 has a price of $972 with a coupon rate of 6.5% and a maturity of six years. Both have a face value of $1,000 and the coupon payments are paid semiannually.

Bond 1: 4.17 Bond 2: 3.54 Bond 1: 8.38 Bond 2: 7.08 Bond 1: 8.38 Bond 2: 3.54 Bond 1: 5.22 Bond 2: 7.08 Bond 1: N = 8 , I/Y = ? , PMT = 35 , PV = -954 , FV = 1,000 I/Y = 4.1886 x 2 = 8.38 Bond 2: N = 12 , I/Y = ? , PMT = 32.50 , PV = -972 , FV = 1,000 I/Y = 3.5404 x 2 = 7.08

Which is the largest source of capital for firms?

Bonds Stocks Unsecured Loans Secured Loans Donations

What is the first step in the percent of sales process?

Calculate DFN Project future sales Choose spontaneous accounts Compute retained earnings Grow the firm

Which one of the following is NOT part of the capital budgeting calculation?

Calculating the initial cost of the new project to start. Calculating the cash flow when the firm terminates the project. Calculating annual cash flows for the life of the new project. Calculating the estimated value of the stock when the firm terminates the project

Big-Tokyo Inc. has a financial leverage ratio of 2.00, total asset turnover of 1.50 and ROE of 18.00%. For Big-Tokyo's industry, the average ROE is 16.00% and the industry average total asset turnover (TAT) and financial leverage ratio (FLR) are the same as Big-Tokyo. The industry average net margin must be:

Cannot be determined with available data. Equal to Big-Tokyo's. Higher than Big-Tokyo's. Lower than Big-Tokyo's. TAT and FLR are the same for the industry and Big-Tokyo. Hence, since Big-Tokyo has a higher ROE, Big-Tokyo must have a higher net margin than the industry.

Which of the following types of loans are classifed as a secured loan?

Car loan Mortgage Two of these choices All of these choices Credit Card Loans that are backed by specific assets (such as a home with a mortgage or a vehicle with a car loan) are known as secured loans.

Which of the following balance sheet accounts is working capital management most concerned with?

Cash account Accounts receivable Accounts payable Inventory All of these choices

Which of the following balance sheet accounts is working capital management least concerned with?

Cash account Accounts receivable Notes payable Inventory None of these choices

Which one of the following is NOT a part of the statement of cash flows?

Cash flows from investing activities Cash flows from operating activities Cash flows from liquidating activities Cash flows from financing activities Solution: Cash flows from liquidating activities is not part of the cash flow statement (note: liquidation of assets held for use is reported as part of CFI).

The sum of CFO + CFI + CFF is equal to:

Cash on hand The ending cash balance The change in cash during the period Net income CFO + CFI + CFF = change in cash during the period.

Which components are part of current assets?

Cash, accounts receivable, property plant & equipment Inventory, cash, accounts receivable, short term investments Accounts receivable, accounts payable, inventory Long term debt, property plant & equipment, common stock

Which components are part of total assets?

Cash, accounts receivable, short term debt Accounts payable, net income, equity Cash accounts receivable, inventory, long term assets Accounts payable, long term assets, long term debt

The amount of product or service a firm can produce with its given fixed assets is known as:

Catabolism Economies of scope Economies of scale Capability Capacity

Which one of the following items should NOT be included in the calculation of CFF?

Change in Long-term Debt Change in Retained Earnings Change in Common Stock Dividends paid during the fiscal year Solution: Change in retained earnings is accounted in CFO by adding net income and CFF by subtracting dividends paid.

The evolution of retained earnings is best described by:

Change in net income = change in dividends + change in retained earnings Net income = revenues - (retained earning + dividends) Dividends = retained earnings - net income Change in retained earnings = net income - dividends The change in retained earnings = net income - dividends. Remember, there are only two things you can do with net income: 1) pay it out as dividends and 2) retain it within the firm.

Preferred stock is often called a _______ security because it has some characteristics of debt and some of equity.

Checkered Jumbled Balanced Mixed Hybrid

The two main types of stock are:

Common and Preferred Fixed and Preferred Common and Fixed Directed and Varied Directed and Common

What are the three important areas of finance discussed in this section?

Corporate Finance, Investments, and Banking/financial institutions Government Finance, WAAC, Ratios Neither of these

The control issues involved in running a firm are known as:

Corporate governance Corporate control Corporate structure Corporate logistics Corporate climate

The rate of return investors receive on a bond is called the:

Coupon Face value Yield to maturity Par value Maturity rate

What is the interest rate for annual payments of the bond known as?

Covenants Coupon Rate Maturity Par Value

A company has a degree of operating leverage of 1.5 and a degree financial leverage of 2.2. What is the company's degree of combined leverage? (Round to the nearest hundredth: .00)

DCL: (1.5*2.2) = 3.30

A firm has sales of $15 million, variable costs of $4 million, fixed costs of $3 million, depreciation of $1 million, interest expense $2 million and taxes of $.5 million. What is the degree of combined leverage? (Round to the nearest hundredth: .00)

DCL: (15-4)/([15-4-3-1]-2) = 2.20

A firm has sales of $150 million, variable costs of $61 million, EBIT of $44 million, and interest expense of $22 million. What is the degree of combined leverage? (Round to the nearest hundredth: .00)

DCL: (150-61)/(44-22) = 4.05

A company has a degree of operating leverage of 2.1 and a degree financial leverage of 2.5. What is the company's degree of combined leverage? (Round to the nearest hundredth: .00)

DCL: 2.1*2.5 = 5.25

A firm has EBIT of $126 million and earnings before taxes (EBT) of $101 million. What is the firms degree of financial leverage? (Round to the nearest hundredth: .00)

DFL: 126/101 = 1.25

A firm has EBIT of $138 million and interest expense of $77 million. What is the firm's degree of financial leverage? (Round to the nearest hundredth: .00)

DFL: 138/(138-77) = 2.26

How do we compute DFN?

DFN = Projected total assets + projected total liabilities + projected owners' equity None of the above DFN = Projected total assets + projected total liabilities - projected owners' equity DFN = Projected total assets - projected total liabilities - projected owners' equity DFN = Projected total assets - projected total liabilities + projected owners' equity

In order to make ratio analysis a more effective tool, you should carefully consider:

Demographic trends. Bubbles and recessions. Technological changes. All the statements are correct. All are examples of external risks that may affect a company's performance.

Which of the following acts was created in response to high inflation and the sluggish economy in the 1970's.

Depository Institutions Deregulation and Monetary Control Act Financial Institutions Reform, Recovery, and Enforcement Act Bank Holding Company Act Glass-Steagall Banking Act Garn-St. Germain Act

On the income statement, Cost of Goods Sold includes:

Direct materials and direct labor associated with production Interest expenses coming from the money borrowed to purchase production equipment Administrative costs Research costs associated with the firm's current products/goods

Assume that the industry average ROE is 12%. For Eastern Family, which of the following best describes their ROE:

Eastern Family is in a good position in the industry regarding to the return to its owner. Eastern Family is generating lower return to owners than the industry. Eastern Family's ROE is 2.93%. Eastern Family is more profitable than the industry. ROE for Eastern Family is 8.94% (474/5300 = 8.9%) which is less than the industry average.

If a competitor of Eastern Family has a Total Asset Turnover (TAT) of 1.10, then:

Eastern Family is in bad shape since its TAT is lower than the competitor. Eastern Family's asset utilization success cannot be assessed by the TAT alone. Eastern Family is generating more sales per dollar of assets than the competitor. Eastern Family is in good shape since its TAT is higher than the competitor. Looking only at TAT for Eastern and a competitor will not allow us to judge whether Eastern is doing good or bad. We have to consider issues such as technology investment and cost structure.

Accounts receivable turnover for the industry is 4.50. Assume a 365 day year and all sales were made on credit. This tells you that:

Eastern Family's accounts receivable is more liquid than the industry norm. Eastern Family's accounts receivable is collected 28.4 days quicker than the industry average. In this industry, the companies take about 81.1 days to collect their accounts receivable. In this industry, the companies take about 4.5 days to collect their accounts receivable. Average collection period for the industry is 81.1 days (365/4.5 = 81.1), accounts receivable turnover for Eastern Family is 3.33 (10000/3000 = 3.33), and average collection period for Eastern Family is 109.6 days (365/3.33 = 109.6). Based on these calculations we find that the industry has higher accounts receivable turnover so the industry's AR are more liquid than Eastern Family's and the industry collects accounts receivable more quickly than Eastern Family. Lastly, accounts receivable turnover tells how many times a year a company turns accounts receivable over NOT how many days it takes to collect. (The average collection period tells us on average how many days it takes to collect a firm's receivables).

Maximizing shareholder value ethically can improve society generally by:

Employing additional workers Creating growth and leading to increased production by other firms Increasing the profitability of other firms because of increased consumption All of these choices

Match the currency with its country.

Euro or € European Union Peso or MXN Mexico Krone, kr, or NOK Norway Pound, GBP, or £ England Yen, JPY or ¥ Japan Drag and drop the choices from below.

Which type of bond is an unsecured bond?

Eurobonds Foreign Bond Muni-bond Zeros All of these choices

FINRA helps the SEC protect investors by providing information in the following ways:

Examines core areas of a firm Conducts analysis to ensure firms are operating under fair sales practices Examines areas of the firm that would be considered higher regulatory risk Extensive financial and operational review None of these choices All of these choices

Consider the following table comparing Firm A and Firm B to the industry average (both firms operate in the same industry): Firm A Firm B Current Ratio 0.5 higher than the industry 0.5 higher than the industry ROE Industry average Industry average Fixed Asset Turnover Lower than the industry by 0.3 Industry average Quick Ratio Higher than the industry Industry average Gross Margin Industry average Industry average Sales/Current Assets Industry average Lower than the industry Net Margin Higher than the industry Industry average Current Liabilities Industry average Industry average Which one of the following statements is most plausible?

Firm B holds more inventory than Firm A. Firm B has a higher total asset turnover than Firm A. Firm B is more profitable than Firm A. None of the above is plausible. Looking at the current ratios and the quick ratios of two companies, Firm B has lower quick ratio than Firm A while current ratios are the same for both firms suggesting that Firm B has more inventory than Firm A. Firm A's FAT is lower while Firm B's Sales/Current Assets ratio is lower. Thus, the volume of total assets relative to sales is ambiguous. Firm A also has a higher net margin (and both firms have the same gross margin) implying that Firm B is not more profitable.

Which one of the following statements is most likely correct?

Firm B's inventory is more liquid than Firm A's. Firm B has higher total asset turnover than Firm A. Firm B should have higher debt ratio than Firm A. All the statements are correct. Recall the DuPont equation: ROE = net margin x TAT x FLR. Both firms have the same net profit margin, but Firm A has a higher TAT (total asset turnover) than Firm B. Thus, the equal ROEs for both firms imply that Firm B has a higher debt ratio (resulting in a higher FLR; FLR = Assets/Equity) than Firm A. Both firms have the same current ratio, but firm A has a higher quick ratio than firm B implying Firm B's inventory is NOT more liquid than Firm A's. Hence, firm A has relatively less inventory than firm B. The equal gross margin for both firms and the higher quick ratio (lower inventory) suggests that inventory turnover is higher for firm A than for firm B. Thus, if anything, firm A's inventory appears more liquid than firm B's inventory. Firm A's Sales/Current Assets is higher than Firm B's and both companies have the same fixed asset turnover. So, Firm A should have higher total asset turnover than Firm B.

Which of the following is NOT an assumption in Modigliani and Miller (1958, 1963)?

Firms do not pay taxes. Firms do not face bankruptcy costs. Firms do not face transaction costs. All of these choices are assumptions made.

The flexibility aspect of ratios and ratio analysis refers to which of the following?

Firms of different size can be compared on the same scale. Ratios determine the financial flexibility of a company. Ratios can be used to compare a firm to the industry's top performers. Analysts can create new ratios if needed.

Which of the following is NOT a benefit of using debt to finance investment projects?

Greater solvency risk Less costly than using equity financing Lower overall tax bill Retains control and ownership

Consider two companies, Hoogle and Mapple. They are economically identical. However, for reporting purposes Hoogle uses the managerial discretion that is required with accrual accounting to increase net income relative to Mapple (assume any balance sheet effects are inconsequential). Which of the following is correct:

Hoogle's OIROI is higher than Mapple's but Hoogle is NOT more efficient. Hoogle's OIROI is higher than Mapple's and Hoogle more efficient. Mapple's OIROI higher than Hoogle's but Mapple is NOT more efficient. Mapple's OIROI higher than Hoogle's and Mapple is more efficient. Using the accrual accounting system to increase net income is known as earnings management. Since the firms are economically identical, Hoogle's use of accruals to increase net income and OIROI is just a ruse.

When calculating CFO, which of the following is correct?

Subtract depreciation expense Add an increase in cash Subtract an increase in accounts payable Add an increase in accrued wages Solution: An increase in an operating liability such as accounts payable or accrued wages represent an inflow to the firm.

Which of the following is NOT essential to evaluate projects?

Incorporating the required rate of return. Considering time value of money. Including all cash flows of the project. All of these choices are essential criteria. All of these choices are part of evaluating projects because the required rate of return considers risk, the timing of cash flows can affect the overall value of a project, and it is important to include all cash flows of the project.

Suppose the following information: Economic State Probability π Returns for Stock A Recessionary .40 10% Expansionary .60 23% If the probability of a recessionary state increases, the expected return is expected to __________.

Increase Decrease Remain the same None of the above

For capital budgeting analysis, the relevant cash flows from a new project are called:

Incremental cash flows Payback cash flows Discount cash flows Terminal value Incremental cash flows are the relevant cash flows in capital budgeting analysis. In simplest form, this is cash in - cash out occurring in each period as a result of accepting the project.

One of the weaknesses of payback period is that:

Incremental costs are not considered. Sunk costs are not considered. The time value of money is not considered. All of these choices. The weaknesses of the payback approach are that the method does not: 1) incorporate required rate/risk adjustment, 2) consider time value of money, or 3) consider all the cash flows.

Company A has an EBIT of $700,000 and interest expense of $30,000. Company B has EBIT of $1,500,000 and interest expense of $30,000. Which company has a higher degree of financial leverage?

Insufficient data to make a determination Company A Company B Companies A and B have the same leverage 700,000/670,000 = 1.04 Co B: 1,500,000/1,470,000 = 1.02

Which one of the following is NOT part of the common ratio categories?

Liquidity Operating Financing Profitability We discuss 4 ratios in the textbook: Liquidity, Asset Use Efficiency, Financing (Leverage), and Profitability.

Macrosoft's biggest competitor, Mapple, has the gross margin of 41.84%, the operating margin of 11.50%, and the net margin of 3.13%. Both companies have a tax rate of 40%. Comparing these two companies, Macrosoft must have:

Lower cost of goods sold relative to its sales than Mapple. Lower operating expense relative to its sales than Mapple. Lower interest expense relative to its sales than Mapple. Lower sales than Mapple. The difference between operating margin and net margin is the percent of sales consumed by interest and taxes; 8.37% for Mapple and 7.05% for Macrosoft. Since the tax rate is the same, it must be that Macrosoft has lower interest expense than Mapple. Macrosoft has lower gross margin than Mapple which suggests that Macrosoft has higher cost of goods sold than Mapple. Operating expense, as a percent of sales, is the same for both firms (note: operating expense as a percent of sales = Gross Margin - Operating Margin). And lastly, the level of sales cannot be addressed with ratios. For Macrosoft: 1) gross margin = Gross profit/Sales = 6070/15000 = 40.47%, 2) Operating margin = Operating Profit/Sales = 1520/15000 = 10.13%, and 3) net margin = NI/Sales = 462/15000 = 3.08%.

Eastern Family's main competitor has Gross Margin of 40.32%, operating margin of 15.53%, and net margin of 4.83%. Both Eastern Family and the competitor have the tax rate of 40%. Given this information, Eastern Family must have:

Lower operating expense relative to its sales than the competitor. Higher dollar amount sales than the competitor. Lower interest expense than the competitor. Higher COGS relative to its sales than the competitor. Since Eastern Family has higher gross margin (41.10%), COGS is relatively low. Eastern Family has higher operating expenses since the drop in operating margin (drop from net margin to operating margin) is bigger than the competitor. You cannot tell dollar amount of sales with the given ratios. Given the other three answers can't be right, lower interest expense than competitor (as a percent of sales) must be correct. We can see this is the ratios. The difference between operating margin and net margin is driven by Interest and Taxes (recall operating margin is EBIT/Sales). As such, the change from operating to net margin indicates the percentage of revenues consumed by interest and taxes. For Eastern, the change is 8.76% (= operating margin - net margin = 13.5% - 4.47%). The equivalent change for the competitor is 10.7%. Given that both firms pay the same percentage in taxes (i.e., 40% of EBT), the smaller change for Eastern Family is likely due to small interest expense on a relative basis. Gross Margin = 4110/10000 = 41.1%; operating margin = 1350/10000 = 13.5%, net margin = 474/10000 = 4.74%

In Macrosoft's industry, the average current ratio is 2.76, the average quick ratio is 1.56, the average inventory turnover is 1.68 and the industry average collection period is 54.3 days. When comparing Macrosoft to the industry, which one of the following statements is the most accurate?

Macrosoft is less liquid than the industry because of the firm's high current and quick ratios. Macrosoft inventories are less liquid than the industry average. Macrosoft's higher current ratio and quick ratio could be due to the build up of illiquid current assets. None of the statements are correct. For Macrosoft: 1) Current ratio = CA/CL = 12550/4260 = 2.94, 2) Quick ratio = (CA-Inv)/CL = (12550 - 5300)/4260 = 1.70, 3) Inventory turnover = Cost of goods sold/inventory = 8930/5300 = 1.68, and 4) AR Turnover = credit sales/AR = 15000/3700 = 4.055; Therefore, Average Collection Period = 365/AR Turnover = 90.0 days. A common mistake is to interpret Macrosoft's higher current and quick ratios as evidence the company is more liquid than the typical firm in the industry. Liquidity requires a broader view of the firm that can be gained by looking only at the current ratio and quick ratio. Macrosoft has the same level of the inventory turnover as the industry implying that inventories are NOT less liquid. What about the other current assets? Notice that Macrosoft takes 90 days to collect receivables compared to only 54.3 for the industry. The very long ACP relative to the industry indicates the Macrosoft's AR are low quality (i.e., the firm has slow paying customers or they are failing to write-off uncollectable receivables). Hence, the high level of both the current and quick ratio is likely due to the build up of low quality receivables. The build-up of uncollectable/low-quality accounts receivable does nothing to provide liquidity for the firm. Hence, the current and quick ratios, in isolation, are misleading for Macrosoft.

An example of agency costs is a firm's decision to invest in a project because management enjoys working on the project.

True False

An example of agency costs is increased costs incurred because of higher levels of production.

True False

An important part of managing accounts receivables is setting a collection policy regarding credit sales.

True False

For Macrosoft's industry, average fixed asset turnover is 2.31. Which of the following is the most plausible conclusion about Macrosoft?

Macrosoft is using its fixed assets more efficiently than the industry norm. Macrosoft must relax credit standards to increase sales. Macrosoft it is using its fixed assets less efficiently than the industry norm. Macrosoft likely needs to invest in fixed assets in the near future. For Macrosoft, fixed asset turnover = Sales/ fixed assets = 15000/8350 = 1.80. Hence, Macrosoft generates $1.80 in sales for each dollar of fixed assets compared to $2.31 in sales for each dollar of fixed asset for the industry. While the fixed asset turnover doesn't tell the whole story, the most plausible conclusion is that Macrosoft is not using fixed assets as efficiently as the industry norm.

If the industry average ROE is 4.12% and ROA is 2.09%, the most plausible conclusion about Macrosoft's profitability is:

Macrosoft should use more equity financing. Macrosoft is more profitable than the industry. Macrosoft is underperforming the industry. The industry is outperforming Macrosoft. For Macrosoft: ROE = NI/Equity = 462/8300 = 5.56%; ROA = 462/20900 = .0221 = 2.21%. Hence, Macrosoft is generating higher ROA and ROE than the industry.

Which of the following is not a reason for the difference between CFO and net income?

Net income includes gains and losses from the sale of assets Net income includes non-cash expenses Revenue is not equal to cash collected Net income doesn't account for the change in cash While technically true (i.e., net income doesn't account for the change in cash), this is not a reason for the difference in CFO and net income. Neither net income nor CFO "accounts" for the change in cash.

Which one of the following is NOT included in the DuPont calculation?

Net profit margin Fixed asset turnover Return on asset Financial leverage ratio ROE = Net Margin x TAT x FLR = ROA x FLR.

You want to sell a bond for over $1,000. Can you do that if the coupon rate is 6.5% and the bond yield is 6.8%?

No Yes No. If the coupon rate is higher than the yield, the price will be above $1,000. If the coupon rate is lower than the yield (as in this case) the price will be below $1,000.

Brighton and DarkTec are identical companies: both companies sell computers to identical clients, recognize the same amount of revenue, and purchased the same capital equipment at the same cost at the beginning of this year. However, Brighton's sales are 1/3 on credit while 2/3 of DarkTec's sales are on credit. In addition, while both companies use straight-line depreciation, Brighton calculates depreciation of the new equipment based on an 8-year useful life while DarkTec calculates depreciation based on 10-year life (i.e. Depreciation Expense = Cost of Machine/Life of the Machine). Assume both companies had exactly the same balance sheets at the beginning of the year. Which of the following statements is most likely correct?

None of the above can be correct given the information. DarkTec has a higher net income than Brighton. Brighton has higher account receivables than DarkTec. Brighton's interest expense is lower than DarkTec's. Solution: Brighton should have lower account receivables than DarkTec since it has lower credit sales (and presumably the same collection rate since both firms have identical clients). There is nothing in the problem to indicate that interest expense will be different for the two firms. All else equal, DarkTec's net income will be higher because of lower depreciation expense stemming from the longer assumed asset life.

Which of the following can be a discretionary account?

Notes Payable PP&E Long-term debt Common Stock All of these choices None of these choices

Which of the following is NOT a non-spontaneous (discretionary) account?

Notes payable Long-term financing Common stock Accounts payable All of these choices are non-spontaneous

The OIROI (operating income return on investment) uses what elements on the income statement?

Operating income, EBIT, total liabilities Net margin, total current assets EBIT, total assets Sales, total assets, equity

To pick a good stock:

Pick a company that has high revenue Pick a company that is overvalued Pick a company that has a long history on the stock market Pick a stock with the highest intrinsic value you can find Pick a company that is undervalued To profit from the ownership of a stock it is beneficial to pick a stock that is currently undervalued in the market. This is represented by it having a lower current price than what it is actually worth. Thus an investor can profit when the market value rises to the stock's actual intrinsic worth.

Which of the following statements is NOT correct with respect to using ratios to analyze a firm or firms?

Ratio analysis can be used to assess the need for cost cutting initiatives. Ratio analysis can be used to compare three companies with different size, strategy and risks: Toyota, Ford and Tesla. A change in a ratios reveals the economic character of the firm. Analysts can create a new ratio to show more detail about the cost structure of a company Using ratios to assess cost structure and creating new ratios to assess cost structure are examples of "Focus" and "flexibility" in ratio analysis. Using ratios to assess three companies is an example of "standardization". The incorrect statement is that ratios (and even change in ratios) reveal economic character. Ratios do NOT answer questions; rather, they indicate where the analyst should dig deeper to understand differences or changes..

Suppose an analyst is reviewing the profitability ratios for a firm. Which of the following statements represents the most valid insight for the analyst?

Since the profitability ratios of the firm improved, the firm is obviously headed in the right direction. Since the profitability ratios of the firm declined, the firm is facing serious competitive pressures. Since the profitability ratios of the firm improved, the firm is not subject to competitive pressures. Since the profitability ratios of the firm declined, the analyst devotes additional effort to understanding revenues and costs. As the textbook states, ratios do not tell you about the company; rather, ratios helps you know what questions to ask.

The McFadden Act of 1927 regulated which of the following?

Size of bank branches Location of bank branches Capital requirements for banks Number of bank branches Types of products a bank could offer

Use the following information to answer the questions about XYZ Company. XYZ Company is considering the purchase of new equipment. The firm spent $12,000 on consulting several months ago as well as $7,000 on a market study about a year ago. In order to start the new project, the firm has to replace the old machine which has a book value of $0 and will be scrapped. The new machine will cost the firm $220,000. Additionally, XYZ will spend $7,000 in installation and $3,000 in shipping. Since the new machine will produce more, an investment in net working capital of $10,000 is required. The new machine will be depreciated using straight-line depreciation to a salvage value of $0. However, the realizable salvage value of the new machine at year 5 is expected to be $50,000. The new machine will increase annual operating revenues by $125,000 and operating costs by $45,000. The marginal tax rate is 34%. What is the tax implication on the sale of the new machine at Year 5?

Tax liabilities of $17,000 Tax shield of $17,000 Tax liabilities of $33,000 Tax shield of $33,000 (Realized salvage value - Book value) X Tax Rate = (50,000 - 0) X 0.34 = $17,000. Since it is capital gain, the firm will have tax expense.

Beckingham Sports is an American company that produces sports equipment. Based on the results of a $25,000 market study and of a $40,000 consultant report, Beckingham Sports is considering expanding overseas. Projected annual revenue associated with the expansion will be $200,000 and annual costs are estimated at $40,000. The expansion will require the replacement of an old machine with more modern equipment. The old machine has a $40,000 market value and has been fully depreciated to its salvage value of $10,000. The new, higher-capacity equipment will cost $340,000. Additionally, installation and shipping fees of $60,000 will be incurred. The new machine will be depreciated via 5-year MACRS schedule (20.0%, 32.0%, 19.2%, 11.5%, 11.5%, 5.8%). The firm estimates that the new machine can be sold at the end of its five-year life for $100,000. The new machine will necessitate an investment of $28,000 in working capital that will be fully recovered at the end of the project. Beckingham Sports has a 13% cost of capital and a corporate tax rate of 40%. What is the tax implication of selling the old machine?

Tax shield of $16,000 Tax liabilities of $16,000 Tax shield of $12,000 Tax liabilities of $12,000 Price of Old 40,000 BV of Old (10,000) Gain/Loss 30,000 Tax 30,000 * 40% = (12,000)

Which of the following is not a benefit of holding inventory?

Tax shields A reduction in current liabilities An increase in fixed assets Lower opportunity costs All of these choices

ABC Corp is considering a project requiring the purchase of new equipment. The firm spent $20,000 on a market assessment four months ago as well as $14,000 for a feasibility study a year ago. In order to start the new project, the firm has to replace an old machine with a remaining book value of $25,000 (note: this is the original salvage value of the old machine; as such, it is fully depreciated). While still functional, the machine has no market value and will be scrapped if the new equipment is acquired. The new machine will cost the firm $220,000. In order to put the machine in working condition, ABC will spend $6,000 in installation and $4,000 in shipping. If the new machine is purchased net working capital will be increased by $10,000. The new machine will be depreciated via the straight-line depreciation method to a salvage value of $0. However, at the end of the new machine's five-year life, it can be sold for $30,000. The corporate tax rate is 40%. If accepted, the new machine will increase annual revenues by $150,000 and will increase annual operating cost by $45,000. The company has a marginal tax rate of 40% and a cost of capital of 14%. The project will last 5 years. What is the tax implication from the sale of the new machine at Year 5 (the end of its useful life)?

Tax shields of $2,000 Tax liabilities of $12,000 Tax shields of $12,000 Tax liabilities of $2,000 The machine is fully depreciated to a book value of $0. Hence, all of the sale proceeds are taxable. Tax liability = (Realizable salvage value - Book value) X Tax Rate = (30,000 - 0) X 0.40 = $12,000.

Stocks are:

Temporary-return securities Fixed-return securities Long-term-return securities Variable-return securities Constant-return securities Because the future cash flows pertaining to a share of stock are highly uncertain and vary from year to year they are termed "variable-return" securities.

Why would you reject this project based on the IRR?

The IRR is higher than the NPV. The IRR is higher than the sum of the cash flows. The discount rate is higher than the IRR. The discount rate is lower than the IRR.

Why would you reject a project based on NPV?

The IRR is positive. The NPV is a negative number. The NPV is lower than the investment. The NPV is lower than the IRR.

The terminal cash flow is:

The last year's annual cash flows plus the cash flows from unwinding the project. The outflow required to start a new project. The cash flows associated with unwinding the project The annual cash flows generated by the project.

If a company wishes to obtain a bank loan, will it want to have a higher current ratio or a lower current ratio?

The same Higher It does not matter Lower

Why are bonds the primary method for raising capital?

They avoid the costs of the intermediary They repay the principle slowly over the life of the loan Coupon payments may be skipped in times of financial distress Issuing bonds is never restricted by the debt ratio of the firm Coupon payments are flexible from year to year One reason bonds are the primary method for raising capital is that it allows firms to avoid the cost of an intermediary (such as taking a loan from a bank who borrows from depositors) to issue debt financing.

Which of the following is true for preferred stockholders?

They will have dividend priority over common stockholders They do not receive dividends The receive the same dividend as common stockholders Their dividends will increase as the company grows They are guaranteed dividends every year

A stock is a debt instrument issued by corporations.

True False

Agency costs are costs that are incurred when management does not act in the best interest of shareholders.

True False

An IPO is where a company goes public or sells shares to the public for the first time.

True False

An IPO occurs on the primary market.

True False

An advantage of selling products on credit is the increased convenience for customers.

True False

Auction markets have a physical location.

True False

A discount policy 2/10 net 30 means that a discount of 2% is applied to the 10% of the total bill that is due in 30 days.

True False A discount policy 2/10 net 30 means that a 2% discount is given if the balance on the credit sales is paid within 10 days. Payment is due 30 days from the sale.

Holding all else equal, as the length until maturity increases, the yields on bonds decreases.

True False A longer length to maturity implies greater risk so yields on bonds will actually increase as time to maturity increases.

The current liabilities account that is most affected by the management of working capital is notes payable.

True False Accounts payable is the current liabilities account that is most affected by the management of working capital.

Accounts payable will be affected when a firm sells finished products to customers on credit.

True False Accounts receivable, not accounts payable, will be affected when a firm sells finished products to customers on credit.

An increase in inventory will decrease CFO.

True False An increase in an operating asset such as inventory represents an outflow of cash attributable to CFO.

If marginal tax rates increase, the after-tax cost of debt will increase.

True False An increase in the marginal tax rate reduces the after tax cost of debt.

As depreciation increases, a firm's financial risk increases.

True False As DEBT levels increase, a firm's financial risk increases,

The tax benefits associated with debt are higher when corporate tax rates are lower.

True False As corporate tax rates increase the firm experiences a higher tax shield from interest.

A portfolio of Microsoft Co. and Apple Computers is better diversified than a portfolio made up of Microsoft Co. and John Deere Tractors.

True False As mentioned in the video, diversification is most effective when dissimilar stocks are added to the portfolio.

When using the percent of sales method, accounts like accounts receivable always have to vary with sales.

True False As seen in the example from the text, managers may choose to forecast some accounts based on their discretion - even if those accounts would typically be forecasted as a percent of sales. This may be because managers have better information about the strategy and changes the firm plans to implement.

Banks make money when interest rates they charge to borrowers are less than interest rates they pay depositors.

True False Banks make money when interest rates they charge to borrowers are MORE than interest rates they pay depositors.

Business risk is the risk associated with having high debt levels.

True False Business risk is operating risk and as mentioned in the video is associated with high fixed operating costs, not debt levels. (The next section will talk about financial risk that is associated with a company's debt level).

For visualization purposes, it is correct to think of balance sheet accounts relevant to CFI as being on the bottom of the financing side.

True False CFI accounts are generally non-current assets (i.e., bottom of the asset side of the balance sheet).

Dividing CFO among the owners of a firm is a sustainable policy.

True False CFO doesn't allow for required reinvestment.

Firms can always find ways to finance their growth.

True False Capital constraints are a real problem for many firms.

The Statement of Cash Flows categorizes cash flow into cash flow from operations, cash flow from production, and cash flow from financing.

True False Cash flow from production is not a category. The three cash flow areas are from operations, investing, and financing.

Castanias (1983) presents evidence that when firms face higher bankruptcy risk, they will not carry lower levels of debt.

True False Castanias (1983) found that firms are aware of costs associated with bankruptcy and rationally choose to carry less debt in order to avoid such costs.

Some types of equity give the owner the right to vote on company matters.

True False Common stock gives the shareholder the right to vote on company matters.

Forecasting projected sales revenues and expenses is the final step in financial forecasting.

True False Computing DFN is the last step.

Jensen and Meckling (1976) show that shareholders prefer stock issuance to bond issuance because stock holders will be able to monitor management better than bond holders.

True False Debt covenants and restrictions help to ensure management is meeting bond and shareholder expectations.

Collection float is defined as the amount of time it takes for a firm's payment to become an actual outflow.

True False Disbursement float is the time it takes for a company's payment to become an actual outflow

Capacity constraints are usually examined carefully when DFN is too high.

True False Examine capacity constraints. Recheck capacity analyses to verify whether the firm really does need as large an increase in fixed assets as was forecasted in the pro forma financial statements. It may be that, given the current capacity and usage, the firm can produce enough (or near enough) product without as large an investment in fixed assets. Fixed assets is an account that often gets scrutinized whenever the DFN needs reducing.

Retained Earnings is a spontaneous account.

True False False, we have to compute retained earnings based on the change in retained earnings over the forecast period. They do not vary directly with sales.

(True/False) The income statement represents a snapshot of the firm at one point in time.

True False False. The income statement represents the result of operations over a period of time.

Using internal equity will increase the WACC more than using external equity.

True False Since the issuance of external equity needs to account for floatation costs, it generally costs more.

Tax expense as shown on the income statement is the amount of cash the firm paid to the taxing authority during the period.

True False False; Income tax expense (aka provision for taxes) is rarely the actual amount of tax paid during the period. The tax provision on the income statement is calculated as if the tax code is identical to financial accounting standards. In reality, the tax code differs in many ways from financial accounting. Hence, the actual tax liability can be higher or lower than the reported income tax expense

Flotation costs are costs that are incurred when management miscalculates the cost of capital.

True False Flotation costs are costs associated with the issuance of new equity or debt - often due to underwriting fees.

Flotation costs are higher when management is more inexperienced.

True False Flotation costs are costs associated with the issuance of new equity or debt - often due to underwriting fees.

Growth is only financed by increased revenue.

True False Growth requires increased investment in the firm, in the form of retained earnings, or external equity or debt.

According to Modigliani and Miller (1958, 1963), an unlevered firm will not have the same cost of capital as a levered firm.

True False Holding all else equal, Modigliani and Miller (1958, 1963) found that an unlevered firm should have the same value as a levered firm.

One of the reasons why firms should hold cash is that higher cash holdings provide confidence to shareholders.

True False Holding too high of a cash balance may make shareholders worry that the firm is not maximizing shareholder value.

If an already heavily levered firm increases its debt even further, the weighted average cost of capital will likely increase.

True False If a highly levered firm takes on more debt, it becomes a riskier investment and investors will likely require a higher return.

If returns are higher for an expansionary economic state than a recessionary economic state, then an increase in the probability of an expansionary economic state occurring will decrease the expected return.

True False If returns are higher for an expansionary economic state than a recessionary economic state, then an increase in the probability of an expansionary economic state occurring will INCREASE the expected return.

If returns are higher for an expansionary economic state than a recessionary economic state, then an increase in the probability of an recessionary economic state occurring will increase the expected return.

True False If returns are higher for an expansionary economic state than a recessionary economic state, then an increase in the probability of an recessionary economic state occurring will DECREASE the expected return.

If a firm expects it growth rate on its dividends to increase, then the firm's cost of capital is likely to decrease.

True False If the dividend growth rate is higher, this will increase the CAPM (or cost of common equity) which will result in an overall higher WACC.

Increases in operating assets and decreases in operating liabilities will decrease CFO.

True False Increases in assets consume cash as do decreases in operating liabilities.

Increases in operating balance sheet accounts will decrease CFO.

True False Increases in operating ASSET accounts will decrease CFO, but increases in operating LIABILITY accounts (i.e., A/P) will increase CFO.

Corporate finance is devoted to understanding various types of financial instruments.

True False Investments is devoted to understanding various types of financial instruments.

In general, investors will prefer stocks with higher expected return and higher risk.

True False Investors generally prefer stocks with high returns and low associated risk.

When a firm issues new debt to purchase some of its existing shares it is called a leveraged buyout.

True False Leverage recapitalization occurs when a firm issues new debt and takes the proceeds from the debt issuance to buy back some of the shares outstanding.

A company can lower its WACC by increasing the percentage of total debt made up from long-term debt.

True False Long term debt generally has a higher yield than short term debt, so increasing the use of long term debt will proportionately increase the WACC.

Preferred stock is reserved for established companies like utilities and is not used for new start-up ventures.

True False New start-up ventures often issue preferred stock also.

Notes Payable carry an explicit interest cost

True False Notes payable represent a formal lending arrangement and carry an explicit or stated interest component

Holding inventory does not present any type of opportunity costs.

True False Opportunity costs are one reason a firm may not want to hold too much inventory. Firms need to consider what other investments/projects are foregone because of inventory purchases.

A firm with positive CFO should be considered healthy.

True False Positive CFO is usually a key component in firm health, but positive CFO by itself says little about a firm.

Proper management of a firm's working capital will require careful management of notes payable.

True False Proper management of a firm's working capital will require careful management of accounts payable.

A firm can use retained earnings to pay bills if needed.

True False Retained earnings isn't a box of cash. To pay bills, the firm must have cash in the bank as represented by the cash account in current assets. The earnings retained by the firm have already been used to finance the firm's assets (recall: A = L + E). If a firm has a large retained earnings balance and small debt load (relative to assets), it may have significant borrowing capacity. But, borrowing capacity is not the same as a cash reserve. Retained earnings definitely is NOT a cash reserve.

If a firm refinances its debt and extends the length of maturity on all of its bonds, then the cost of capital will increase.

True False Since bonds with longer time to maturity have more risk, this will increase the YTM on the bonds resulting in an overall higher WACC.

(True/False) If you want to understand a firm's operations, cash accounting is a superior tool.

True False Solution: False. Accrual accounting is superior for understanding the operations of a firm. The cash accounting system may lead you to an inaccurate view of the firm since the receipt and disbursement of cash is frequently not synchronized with operating variables.

(True/False) An income statement always provides an accurate measure of a firm's cash flows.

True False Solution: The answer is false. The income statement may help you understand firm operations, but net income does not necessary show cash to the company.

(True/False) Unlike net income, CFO is not subject to managerial discretion or manipulation.

True False Solution: The answer is false. While gross cash flows are difficult to manage/manipulate, it is relatively easy to shift cash flows between the activity categories (e.g., shifting between CFO and CFI). Hence, the analyst must still be careful to understand the assumptions/estimates/decisions made in the reported data.

(True/False) The calculation of FCFF uses NOPAT instead of Net Income because FCFF is the cash available to both debt holders and equity holders.

True False Solution: The answer is true. NOPAT (i.e. EBIT x [1-tax rate]) is determined before cash is divided into cash to debt holders (i.e., interest payments) and cash to equity holders.

(True/False) A firm can sustain negative CFO indefinitely by borrowing, selling equity, and/or by selling assets.

True False Solution: The correct answer is False. Firms can sustain negative CFO in the short-run buy borrowing, etc. In the long run, the firm will run out of assets to sell and lenders will refuse to lend. A firm cannot sustain negative CFO forever.

Ratios help identify the areas of a firm that need investigation.

True False Solution: True. Ratios tell you what questions to ask about the company.

The WACC is made up of costs of equity, the costs of debt and new labor costs.

True False The WACC is made up of the cost of debt, cost of preferred stock, and cost of common stock.

(True/False) The effective rate is always lower than or equal to the stated rate.

True False The answer is False. The effective rate is always higher than or equal to the stated rate since the effective rate considers the impact of compounding.

The outcome of capital budgeting analysis always points to optimal decisions.

True False The answer is false. Number crunching does not consider everything. You have to go outside of the shell and consider all dimensions of the firm/project.

If the NPV of multiple projects are positive, you should always accept all projects.

True False The answer is false. There is normally capital rationing, meaning insufficient capital to accept all projects; thus you have to rank and prioritize.

Most corporations in the US issue preferred stock.

True False The box indicates that most companies do not issue preferred stock in general. The two types that do are utilities and VC-backed new ventures.

True/False. One of the strengths of the payback method is that the cutoff is subjective.

True False The correct answer is False. The cutoff in the payback method is subject; but, this is a weakness of the approach.

The cost of debt is usually considered the return required by shareholders.

True False The cost of debt is the required return by debt holders.

The degree of combined leverage is calculated by multiplying the degree of operating leverage and the degree of financial leverage.

True False The degree of combined leverage tells us how much pre-tax profit increases for a given increase in Sales.

The degree of combined leverage tells us how much pre-tax profit increases for a given increase in EBIT.

True False The degree of combined leverage tells us how much pre-tax profit increases for a given increase in Sales.

The degree of operating leverage allows us to infer how much operating income will change with a change in variable costs.

True False The degree of operating leverage (DOL) measures business risk and is calculated by taking the ratio of the percentage change in operating income to the percentage change in sales.

Jensen and Meckling (1976) suggest that a firm's capital structure cannot affect the level of agency costs.

True False Their research found that the level of agency costs was affected by the company's capital structure.

Firms should grow their sales as fast as possible.

True False This is not always the case. It depends on the level of DFN needed to support the growth. If our DFN is too high, the firm may run out of cash and default, potentially driving the firm out of business.

FCFF can sustainably be distributed to the providers of capital.

True False This is the definition of FCFF.

Generally speaking, the operating accounts relevant to the calculation of CFO are located at the top of both the asset and financing side of the balance sheet.

True False True - there are important exceptions, but conceptualizing the current assets as operating asset accounts and the current liabilities as operating liabilities is useful for building intuition.

Working capital management involves determining which long-term investment projects will be profitable.

True False Working capital management involves determining which long-term investment projects will be profitable.

Which is the appropriate equation for finding the value of a firm?

Vfirm = Sum of FCFEt/(1+kd)t Vfirm = Sum of FCFEt/(1+WACC)t Vfirm = VEquity Vfirm = VEquity + VDebt Vfirm = Sum of FCFFt/(1+ke)t