Finance 325 Homework #6

the dividend growth model

is only reliable as the estimated rate of growth

which one of these will increase a company's aftertax cost of debt

a decrease in the company's tax rate

which one of the following is the best example of a diversifiable risk

a firm's sale decrease

which of the following are examples of diversifiable risk

an earthquake damages an entire town, and all toymakers are required to improve their safety standards

Preston Industries has two separate divisions. Each division is in a separate line of business. Division A is the largest division and represents 65 percent of the company's overall sales. Division A is also the riskier of the two divisions. When management is deciding which of the various divisional projects should be accepted, the managers should:

assign appropriate, but differing, discount rates to each project and then select the project with the highest net present values

systematic risk is measured by

beta

a company's current cost of capital is based on

both the returns currently required by its debt holders and stockholders

unsystematic risk

can be effectively eliminated by portfolio diversification

the cost of capital for a new project

depends upon how the funds raised for that project are going to be spent

a company's overall cost of equity is

directly related to the risk level of the firm

If a company uses its WACC as the discount rate for all of the projects it undertakes then the company will tend to:

increase the average risk level of the company over time

incorporating floatation costs into the analysis of a project will

increase the initial cash outflow for the porject

which one of the following is an example of systematic risk

investors panic causing security prices around the globe to fall precipitously

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

reducing the number of stocks held in a portfolio

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

risk premium

the US securities and exchange commission periodically charges individuals with insider trading and claims those individuals have made unfair profits. Given this you would be most apt to argue that the markets are less than _______ form efficient

strong

Black River Tours has a capital structure of 60 percent common stock, 5 percent preferred stock, and 35 percent debt. The dividend payout ratio is 30 percent, the company's beta is 1.21, and the tax rate is 21 percent. Given this, which one of the following statements is correct?

the cost of equity is unaffected by change in the company's tax rate

the discount rate assigned to an individual project should be based on

the risk associated with the use do the funds required by the project

which one of the following risk is irrelevant to a well-diversified investor

unsystematic risk

which form of market efficiency would most likely offer the greatest profit potential to an outstanding professional stock analyst

weak

flotation costs for a levered firm should be

weighted and included in the initial cash flow

the systematic risk of the market is measured by a

beta fo 1

textile mills borrows money at a rate 8.7 percent. this interest rate is referred to as the

cost of debt

a group of individuals got together and purchased all of the outstanding shares of common stock of DL smith inc. what is the return that these individuals require on this investment called

cost of equity

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

efficient capital marketing

assume russo's has a debt-equity ratio of .4 and uses the capital asset pricing model to determine its cost of equity. As a result, the company's cost of equity

is dependent upon a reliable estimate of the market risk premium

a company's weighted average cost of capital

is the return investors required on the total assets of the firm

individual investors who continually monitor the financial markets seeking mispriced securities

make the markets increasingly more efficient

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

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

if a stock portfolio is well diversified, then the portfolio variance

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

which one of the following is an example of unsystematic risk

national decrease in consumer spending on entertainment

which one of the following statements is correct

over time, the average unexpected return will be zero

Jenner's is a multi-division firm that uses its overall WACC as the discount rate for all proposed projects. Each division is in a separate line of business and each presents risks unique to those lines. Given this, a division within the firm will tend to:

prefer higher risks projects over lower risk projects

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

semi strong

the principle of diversification tells us that

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

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

the information was expected

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

the risk free rate

the primary advantage of using the dividend growth model to estimate a company's cost of equity is

the simplicity of the model

which one of the following statements related to risk is correct

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

a news flash just appeared that caused about a dozen stocks suddenly increase in value by 12 percent. what type of risk does this news flash best represent

unsystematic