BUSFIN Final

Assume Ford Motor Company is discussing new ways to recapitalize the firm and raise additional capital. Its current capital structure has a 25% weight in equity, 10% in preferred stock, and 65% in debt. The cost of equity capital is 13%, the cost of preferred stock is 9%, and the pretax cost of debt is 8%. What is the weighted average cost of capital for Ford if its marginal tax rate is 40%? A) 8.36 % B) 8.00 % C) 6.91% D) 7.27%

7.27% Explanation: rwacc = rEE% +rD (1 - Tc) D% +rpfdP% rwacc = 0.25 ×0.13 +0.65 ×0.08 × (1 - 0.4) +0.1 ×0.09 = 0.0727 = 7.27%

The outstanding debt of Berstin Corp. has ten years to maturity, a current yield of 7%, and a price of $95. What is the pretax cost of debt if the tax rate is 30%. A) 6.5% B) 4.9% C) 7.0% D) 7.37%

7.37% Explanation: Current yield = coupon / price; 0.07 = coupon / 95; hence, coupon = 0.07 × 95 = 6.65; yield to maturity = pretax cost of debt; using a financial calculator, -95 PV, 100 FV, 6.65 PMT, 10 N, CPT I = 7.37%

Assume the market value of Fords' equity, preferred stock and debt are $6 billion, $3 billion, and $13 billion, respectively. Ford has a beta of 1.7, the market risk premium is 8%, and the risk-free rate of interest is 3%. Ford's preferred stock pays a dividend of $2.50 each year and trades at a price of $30 per share. Ford's debt trades with a yield to maturity of 9.5 %. What is Ford's weighted average cost of capital if its tax rate is 35%? A) 9.31% B) 11.18% C) 10.24% D) 9.78 %

9.31% Explanation: Cost of equity is the next period dividend divided by the price plus the growth rate in dividends. Cost of debt is the yield to maturity times one minus the tax rate. WACC is the weight of debt times cost of debt plus weight of equity times cost of equity. Cost of equity = 0.03 +1.7 ×0.08 = 0.166 ; Cost of debt = 0.095 × (1 - 0.35 ) = 0.06175 ; Cost of preferred stock = $ 2.50 / $30 = 0.08333333 ; WACC = $ 6 billion ×0.166 / $22 billion + $ 3 billion ×0.08333333 / $22 billion + $ 13 billion ×0.06175 / 22 = 0.09313 or 9.31%

SIROM Scientific Solutions has $12 million of outstanding equity and $4 million of bank debt. The bank debt costs 4% per year. The estimated equity beta is 1. If the market risk premium is 8% and the risk-free rate is 4%, compute the weighted average cost of capital if the firm's tax rate is 30%. A) 9.70 % B) 8.73 % C) 10.67% D) 9.22%

9.70% Explanation: Cost of debt = rate on bank debt Cost of equity = Risk-free rate +Beta ×Market risk premium Weight of equity = Outstanding equity / (Outstanding equity +Debt) Weight of debt = 1- Weight of equity. rwacc = rEE% +rD (1 - Tc) D% Cost of equity = 0.04 + 1 ×0.08 = 0.12 or 12% Weight of equity= 12/(12 +4) = 0.75 or 75% Weight of debt = 1 - 0.75 = 0.25 or 25% WACC = 0.75 ×0.12 +0.25 ×0.04 × (1 - 0.3 ) = 9.70 %

Two years ago you purchased a new SUV. You financed your SUV for 60 months (with payments made at the end of the month) with a loan at 5.95 % APR. Your monthly payments are $386.19 and you have just made your 24th monthly payment on your SUV. The amount of your original loan is closest to ________. A) $20,000 B) $22,000 C) $24,000 D) $28,000

A) $20,000 Explanation: First we need the monthly interest rate = APR/m = 0.0595 /12 = 0.004958 or 0.4958 %. Now: I = 0.4958 FV = 0 N = 60 PMT = $386.19 Compute PV = $20,000

Martin wants to provide money in his will for an annual bequest to whichever of his living relatives is oldest. That bequest will provide $4000 in the first year, and will grow by 7% per year, forever. If the interest rate is 9%, how much must Martin provide to fund this bequest? A) $200,000.00 B) $240,000.00 C) $160,000.00 D) $100,000.00

A) $200,000.00 Explanation: PV growth perpetuity = $4000 / (0.09 - 0.07) = $200,000.00

Clarissa wants to fund a growing perpetuity that will pay $10,000 per year to a local museum, starting next year. She wants the annual amount paid to the museum to grow by 5% per year. Given that the interest rate is 9%, how much does she need to fund this perpetuity? A) $250,000.00 B) $125,000.00 C) $300,000.00 D) $200,000.00

A) $250,000.00 PV growth perpetuity = $10,000 / (0.09 - 0.05 ) = $250,000.00

Sultan Services has 1.2 million shares outstanding. It expects earnings at the end of the year of $6.0 million. Sultan pays out 60% of its earnings in total: 40% paid out as dividends and 20% used to repurchase shares. If Sultan's earnings are expected to grow by 5% per year, these payout rates do not change, and Sultan's equity cost of capital is 10%, what is Sultan's share price? A) $60.00 B) $24.00 C) $36.00 D) $12.00

A) $60.00 Explanation: P0 = (0.6 × $6.0 million) / (0.1 - 0.05 ) = $72 million; P0 = $72 million / 1.2 million = $60.00

Luther Industries has a dividend yield of 4.5 % and a cost of equity capital of 10%. Luther Industries' dividends are expected to grow at a constant rate indefinitely. The growth rate of Luther's dividends is closest to ________. A) 5.5 % B) 5.0 % C) 11.0% D) 14.5 %

A) 5.5 % Explanation: rE = Div1 / P0 + g 0.1 = 0.045 + g, so g = 5.5 %

You are considering investing in a zero-coupon bond that will pay you its face value of $1000 in twelve years. If the bond is currently selling for $496.97, then the internal rate of return (IRR) for investing in this bond is closest to ________. A) 6.0 % B) 8.2% C) 7.1% D) 5.0 %

A) 6.0 % Explanation: PV = -496.97 FV = 1000 PMT = 0 N = 12 Compute I = 6.0 %.

Consider the following investment alternatives: Inv A: APR - 6.9030%; Compounding - Annually Inv B: APR - 6.6992%; Compounding - Daily Inv C: APR - 6.7787%; Compounding - Qtrly Inv D: APR - 6.7643%; Compounding - Monthly Which alternative offers you the lowest effective rate of return? A) Investment A B) Investment B C) Investment C D) Investment D

A) Investment A Explanation: EAR (A) = (1 + APR / m)m - 1 = (1 + 0.069030 /1)1 - 1 = 6.9030 % EAR (B) = (1 + APR / m)m - 1 = (1 + 0.066992 /365)365 - 1 = 6.9280 % EAR (C) = (1 + APR / m)m - 1 = (1 + 0.067787/4)4 - 1 = 6.9530 % EAR (D) = (1 + APR / m)m - 1 = (1 + 0.067643 /12)12 - 1 = 6.9780 %

Which of the following statements regarding annuities is FALSE? A) The difference between an annuity and a perpetuity is that a perpetuity ends after some fixed number of payments. B) Most car loans, mortgages, and some bonds are annuities. C) PV of an annuity = C × 1/r(1-(1/((1+r)^N)) D) An annuity is a stream of N equal cash flows paid at regular intervals.

A) The difference between an annuity and a perpetuity is that a perpetuity ends after some fixed number of payments. Explanation: A perpetuity never ends.

Which of the following bonds is trading at par? A) a bond with a $1,000 face value trading at $1,000 B) a bond with a $2,000 face value trading at $1,987 C) a bond with a $1,000 face value trading at $999 D) a bond with a $2,000 face value trading at $2,012

A) a bond with a $1,000 face value trading at $1,000

If the yield to maturity of all of the following bonds is 6%, which will trade at the greatest premium per $100 face value? A) a bond with a $1,000 face value, five years to maturity and 6.3 % annual coupon payments B) a bond with a $10,000 face value, four years to maturity and 6.2% semiannual coupon payments C) a bond with a $5,000 face value, seven years to maturity and 5.5 % annual coupon payments D) a bond with a $500 face value, seven years to maturity and 5.2% annual coupon payments

A) a bond with a $1,000 face value, five years to maturity and 6.3 % annual coupon payments

You are borrowing money to buy a car. If you can make payments of $320 per month starting one month from now at an interest rate of 12%, how much will you be able to borrow for the car today if you finance the amount over 4 years? A) $7291.00 B) $12,151.67 C) $14,582.00 D) $17,012.34

B) $12,151.67 Explanation: N = 48 I = 12 /12 PMT = $320 FV = 0 PV = $12,151.67

Dan buys a property for $210,000 . He is offered a 30 year loan by the bank, at an interest rate of 8% per year. What is the annual loan payment Dan must make? A) $26,115.26 B) $18,653.76 C) $29,846.02 D) $22,384.51

B) $18,653.76 Explanation: Calculate PMT using TVM keys: input PV = 210,000 , N = 30, and interest rate = 8%; PMT = $18,653.76.

JRN Enterprises just announced that it plans to cut its dividend from $3.00 to $1.50 per share and use the extra funds to expand its operations. Prior to this announcement, JRN's dividends were expected to grow indefinitely at 4% per year and JRN's stock was trading at $25.50 per share. With the new expansion, JRN's dividends are expected to grow at 8% per year indefinitely. Assuming that JRN's risk is unchanged by the expansion, the value of a share of JRN after the announcement is closest to ________. A) $25.50 B) $19.32 C) $38.63 D) $12.75

B) $19.32 Explanation: Two steps. Step 1: Solve for rE: rE = Div 1 / P0 + g = $3.00 /$25.50 + 0.04 = 0.15765 or 15.77% Step 2: Solve for new stock price: P0 = Div 1 / (rE - g) = $1.50 /(0.15765 - 0.08 ) = $19.32

Chittenden Enterprises has 643 million shares outstanding. It expects earnings at the end of the year to be $960 million. The firm's equity cost of capital is 9%. Chittenden pays out 30% of its earnings in total: 20% paid out as dividends and 10% used to repurchase shares. If Chittenden's earnings are expected to grow at a constant 3% per year, what is Chittenden's share price? A) $2.24 B) $7.47 C) $3.74 D) $14.94

B) $7.47 Explanation: P0 = (0.3 × $960 million) / (0.09 - 0.03 ) = $4800 million; Price per share = $4800 million / 643 million = $7.47

What is the yield to maturity of a one-year, risk-free, zero-coupon bond with a $10,000 face value and a price of $9400 when released? A) 6.000 % B) 6.383 % C) 0.009 % D) 3.191%

B) 6.383 % Explanation: Calculate the discount rate that equates $10,000 to $9400 in one year. 1 + YTMn = (Face value / price)1/n. YTMn = 6.383 %

Which of the following is true about perpetuities? A) Since a perpetuity generates cash flows every period infinitely, its FV is the same as its PV. B) Since a perpetuity generates cash flows every period infinitely, the cash flow generated equals the PV times the interest rate. C) Since a perpetuity generates cash flows every period infinitely, there is no way to solve for the cash flow using the present value and the interest rate. D) Since a perpetuity generates cash flows every period infinitely, initial cash outflow must be discounted to calculate the present value.

B) Since a perpetuity generates cash flows every period infinitely, the cash flow generated equals the PV times the interest rate.

A corporation issues a bond that generates the above cash flows. If the periods are of 3-month intervals, which of the following best describes that bond? 0 1 2 3 59 60 |----------|-----------|----------| . . . . . . |-----------| $57.5 $57.5 $57.5 $57.5 $5057.5 A) a 15-year bond with a notional value of $5000 and a coupon rate of 1.2% paid annually B) a 60-year bond with a notional value of $5000 and a coupon rate of 4.6 % paid quarterly C) a 15-year bond with a notional value of $5000 and a coupon rate of 4.6 % paid quarterly D) a 30-year bond with a notional value of $5000 and a coupon rate of 3.5 % paid semiannually

B) a 60-year bond with a notional value of $5000 and a coupon rate of 4.6 % paid quarterly

The Sisyphean Company has a bond outstanding with a face value of $1000 that reaches maturity in 5 years. The bond certificate indicates that the stated coupon rate for this bond is 10.0 % and that the coupon payments are to be made semiannually. Assuming the appropriate YTM on the Sisyphean bond is 7.5 %, then this bond will trade at ________. A) a discount B) a premium B) a premium C) par D) none of the above D) none of the above

B) a premium Explanation: As the coupon rate of 10.0 % is more than the YTM of 7.5 % on the bonds, so the bonds will trade at a premium.

What are dividend payments? A) the difference between the original cost price of a share and the price an investor receives when that share is sold B) a share of the profits paid to each shareholder on the basis of the number of shares they hold C) incremental increases in the value of the stock held by an investor due to rises in share price D) payments made to a company by investors for a share of the ownership of that company

B) a share of the profits paid to each shareholder on the basis of the number of shares they hold

Which of the following risk-free, zero-coupon bonds could be bought for the lowest price? A) one with a face value of $1,000, a YTM of 4.8%, and 5 years to maturity B) one with a face value of $1,000, a YTM of 5.9%, and 20 years to maturity C) one with a face value of $1,000, a YTM of 3.2%, and 8 years to maturity D) one with a face value of $1,000, a YTM of 6.8%, and 10 years to maturity

B) one with a face value of $1,000, a YTM of 5.9%, and 20 years to maturity Explanation: Price = $1,000 / (1 + 5.9%)20 = $318 (lowest price)

Which of the following formulas is INCORRECT? A) P0 = Div 1 / (rE - g) B) rE = (Div 1 / P0) - g C) g = Retention Rate × Return on New Investment D) Div t = EPSt × Dividend Payout Rate

B) rE = (Div 1 / P0) - g Explanation: rE = (Div 1 / P0) + g

Which of the following would be best considered to be an agency conflict problem in the behavior of the following financial managers? A) Michael chooses to enhance his firm's reputation at some cost to its shareholders by sponsoring a team of athletes for the Olympics. B) Bill chooses to pursue a risky investment for the company's funds because his compensation will substantially rise if it succeeds. C) Sue instructs her staff to skip safety inspections in one of the company's factories, knowing that it will likely fail the inspection and incur significant costs to fix. D) James ignores an opportunity for his company to invest in a new drug to fight Alzheimer's disease, judging the drug's chances of succeeding as low.

Bill chooses to pursue a risky investment for the company's funds because his compensation will substantially rise if it succeeds

Suppose the term structure of interest rates is shown below: 1 Year: 5.00% 2 Years: 4.80% 3 Years: 4.60% 5 Years: 4.50% 10 Years: 4.25% 20 Years: 4.15% The present value (PV) of receiving $1100 per year with certainty at the end of the next three years is closest to ________. A) $4214 B) $3612 C) $3010 D) $2408

C) $3010 Explanation: PV = $1100 / (1 + 0.050) + $1100 / (1 + 0.048)2 + $1100 / (1 + 0.046)3 = 3010.33

You are considering purchasing a new home. You will need to borrow $290,000 to purchase the home. A mortgage company offers you a 20-year fixed rate mortgage (240 months) at 12% APR (1% month). If you borrow the money from this mortgage company, your monthly mortgage payment will be closest to A) $4470 B) $5109 C) $3193 D) $2554

C) $3193 Explanation: PV = 290,000 I = 1 N = 240 FV = 0 Compute payment = $3193.15 .

Since your first birthday, your grandparents have been depositing $1200 into a savings account on every one of your birthdays. The account pays 6% interest annually. Immediately after your grandparents make the deposit on your 18th birthday, the amount of money in your savings account will be closest to ________. A) $44,504.14 B) $22,252.07 C) $37,086.78 D) $51,921.49

C) $37,086.78 Explanation: N = 18 PMT = $1200 I = 6 PV = 0 Compute FV = $37,086.78.

Sunnyfax Publishing pays out all its earnings and has a share price of $37. In order to expand, Sunnyfax Publishing decides to cut its dividend from $3.00 to $2.00 per share and reinvest the retained funds. Once the funds are reinvested, they are expected to grow at a rate of 13%. If the reinvestment does not affect Sunnyfax's equity cost of capital, what is the expected share price as a consequence of this decision? A) $62.86 B) $36.67 C) $52.38 D) $41.90

C) $52.38 Explanation: Cost of capital = $3/$37 = 0.08108108 ; g = 0.33 × 0.13 = 0.0429 ; P0 = $2 / (0.08108108 - 0.0429 ) = $52.38

The Busby Corporation had a share price at the start of the year of $26.10 , paid a dividend of $0.59 at the end of the year, and had a share price of $29.50 at the end of the year. Which of the following is closest to the rate of return of investments in companies with equal risk to The Busby Corporation for this period? A) 12% B) 13% C) 15% D) 14%

C) 15% Explanation: $29.50 + $0.59 - $26.10 = $3.99 ; $3.99 / $26.10 = 15.29 %; rounded to 15%

Luther Industries needs to raise $25 million to fund a new office complex. The company plans on issuing ten-year bonds with a face value of $1,000 and a coupon rate of 5.6 % (annual payments). The following table summarizes the YTM for similar ten-year corporate bonds of various credit ratings: AAA - 6.86% AA - 7.06% A - 7.16% BBB - 7.56% BB - 8.06% Assuming that Luther's bonds receive a AA rating, the number of bonds that Luther must issue to raise the needed $25 million is closest to ________. A) 33,417 B) 22,278 C) 27,848 D) 38,987

C) 27,848 Explanation: FV = $1,000 PMT = $56.00 N = 10 I = 7.06 % Compute PV Total number of bonds = $25,000,000 / $897.74 = 27,848

You expect KT industries (KTI) will have earnings per share of $5 this year and expect that they will pay out $1.25 of these earnings to shareholders in the form of a dividend. KTI's return on new investments is 13% and their equity cost of capital is 15%. The expected growth rate for KTI's dividends is closest to ________. A) 3.9 % B) 5.9 % C) 9.8 % D) 11.3%

C) 9.8 % Explanation: g = Retention rate × Return on new investment = ($5 - $1.25 ) / $5 × 0.13 = 0.0975 or 9.8 %

Which of the following investments has a higher present value, assuming the same (strictly positive) interest rate applies to both investments? Year 1: Inv X - $5,000; Inv Y - $11,000 Year 2: Inv X - $7,000; Inv Y - $9,000 Year 3: Inv X - $9,000; Inv Y - $7,000 Year 4: Inv X - $11,000; Inv Y - $5,000 A) Investment X and Investment Y have the same present value, since the total of the cash flows is the same for both. B) Investment X has a higher present value. C) Investment Y has a higher present value. D) No comparison can be madewe need to know the interest rate to calculate the present value.

C) Investment Y has a higher present value.

Luther Industries needs to raise $25 million to fund a new office complex. The company plans on issuing ten-year bonds with a face value of $1,000 and a coupon rate of 7.5 % (annual payments). The following table summarizes the YTM for similar ten-year corporate bonds of various credit ratings: AAA - 6.60%; AA - 6.8%; A - 6.9%; BBB - 7.30%; BB - 7.80% Assuming that Luther's bonds are rated AAA, their price will be closest to ________. A) $852 B) $1490 C) $1277 D) $1064

D) $1064 Explanation: FV = $1,000 PMT = $75 N = 10 I = 6.60 Compute PV = $1064.40 .

Matthew wants to take out a loan to buy a car. He calculates that he can make repayments of $5000 per year. If he can get a four-year loan with an interest rate of 7.9 %, what is the maximum price he can pay for the car? A) $19,918 B) $26,557 C) $23,237 D) $16,598

D) $16,598 Explanation: Calculate PV using TVM keys: input PMT = $5000, N= 4, and interest rate = 7.9 %; PV = $16,597.5634.

A bank is negotiating a loan. The loan can either be paid off as a lump sum of $80,000 at the end of four years, or as equal annual payments at the end of each of the next four years. If the interest rate on the loan is 6%, what annual payments should be made so that both forms of payment are equivalent? A) $29,259 B) $25,602 C) $14,630 D) $18,287

D) $18,287 Explanation: Calculate PMT with FV = $80,000 , interest = 6% and N = 4, which gives PMT = $18,287.32.

Sinclair Pharmaceuticals, a small drug company, develops a vaccine that will protect against Helicobacter pylori, a bacteria that is the cause of a number of diseases of the stomach. It is expected that Sinclair Pharmaceuticals will experience extremely high growth over the next three years and will reinvest all of its earnings in expanding the company over this time. Earnings were $1.10 per share before the development of the vaccine and are expected to grow by 40% per year for the next three years. After this time, it is expected that growth will drop to 5% and stay there for the expected future. Four years from now Sinclair will pay dividends that are 75% of its earnings. If its equity cost of capital is 12%, what is the value of a share of Sinclair Pharmaceuticals today? A) $20.62 B) $33.96 C) $33.51 D) $24.17

D) $24.17 Explanation: E4 = $3.16932; D4 = $2.37699 ; P3 = $2.37699 /(0.12 - 0.05 ) = $33.96 ; P0 = ($33.96 ) / (1 + 0.12)3 = $24.17

Since your first birthday, your grandparents have been depositing $100 into a savings account every month. The account pays 9% interest annually. Immediately after your grandparents make the deposit on your 18th birthday, the amount of money in your savings account will be closest to ________. A) $64,362 B) $75,089 C) $32,181 D) $53,635

D) $53,635 Explanation: N = 216 PMT = $100 I = 9/12 PV = 0 Compute FV = $53,635.167

What is the internal rate of return (IRR) of an investment that requires an initial investment of $11,000 today and pays $15,400 in one year's time? A) 37% B) 43% C) 44% D) 40%

D) 40% Explanation: Calculate interest rate using TVM keys: input PV = 11,000, N = 1, and FV = -15,400 ; interest rate = 40%.

The Sisyphean Company has a bond outstanding with a face value of $1000 that reaches maturity in five years. The bond certificate indicates that the stated coupon rate for this bond is 8.5 % and that the coupon payments are to be made semiannually. Assuming that this bond trades for $1081.73 , then the YTM for this bond is closest to ________. A) 7.87% B) 5.2% C) 9.18 % D) 6.56 %

D) 6.56 % Explanation: FV = $1000 PMT = $42.50 ($85 / 2) N = 10 (5 × 2) PV = -$1081.73 Compute I = 3.2783 × 2 = 6.5565 %.

Which of the following statements is FALSE? A) Interest rates we observe in the market will vary based on quoting conventions, the term of investment, and risk. B) The opportunity cost of capital is the best available expected return offered in the market on an investment of comparable risk and term of the cash flows being discounted. C) The opportunity cost of capital is the return the investor forgoes when the investor takes on a new investment. D) For a risk-free project, the opportunity cost of capital will typically be greater than the interest rate of U.S. Treasury securities with a similar term.

D) For a risk-free project, the opportunity cost of capital will typically be greater than the interest rate of U.S. Treasury securities with a similar term.

Which of the following statements is FALSE regarding profitable and unprofitable growth? A) If a firm retains more earnings, it will pay out less of those earnings, reducing its dividends. B) Cutting a firm's dividend to increase investment will raise the stock price if the new investment has a positive net present value (NPV). C) A firm can increase its growth rate by retaining more of its earnings. D) If a firm wants to increase its share price, it must diversify.

D) If a firm wants to increase its share price, it must diversify.

Consider the following investment alternatives: Inv A: APR - 6.2200 %; Compounding - Annually Inv B: APR - 6.0583 %; Compounding - Daily Inv C: APR - 6.1277%; Compounding - Qtrly Inv D: APR - 6.1204%; Compounding - Monthly Which alternative offers you the highest effective rate of return? A) Investment A B) Investment B C) Investment C D) Investment D

D) Investment D Explanation: EAR (A) = (1 + APR / m)m - 1 = (1 + 0.062200 /1)1 - 1 = 6.2200 % EAR (B) = (1 + APR / m)m - 1 = (1 + 0.060583 /365)365 - 1 = 6.2450 % EAR (C) = (1 + APR / m)m - 1 = (1 + 0.061277/4)4 - 1 = 6.2700 % EAR (D) = (1 + APR / m)m - 1 = (1 + 0.061204/12)12 - 1 = 6.2950 %

Which of the following statements regarding bonds and their terms is FALSE? A) The internal rate of return (IRR) of an investment in a zero-coupon bond is the rate of return that investors will earn on their money if they buy a default-free bond at its current price and hold it to maturity. B) Financial professionals also use the term spot interest rates to refer to the default-free zero-coupon yields. C) When we calculate a bond's yield to maturity by solving the formula, Price of an n-period bond = Coupon (1 + YTM)1 + Coupon (1 + YTM)2 + ... + Coupon + Face (1 + YTM)n , the yield we compute will be a rate per coupon interval. D) The yield to maturity of a bond is the discount rate that sets the future value (FV) of the promised bond payments equal to the current market price of the bond.

D) The yield to maturity of a bond is the discount rate that sets the future value (FV) of the promised bond payments equal to the current market price of the bond.

1) Which of the following statements regarding growing perpetuities is FALSE? A) PV of a growing perpetuity = C r - g B) To find the value of a growing perpetuity one cash flow at a time would take forever. C) A growing perpetuity is a cash flow stream that occurs at regular intervals and grows at a constant rate forever. D) We assume that r < g for a growing perpetuity.

D) We assume that r < g for a growing perpetuity.

Consider the above Income Statement for CharmCorp. All values are in millions of dollars. If CharmCorp. has 4 million shares outstanding, and its managers and employees have stock options for 2 million shares, what is its diluted EPS in 2008? A) $1.33 B) $2.00 C) $1.67 D) $0.83

$1.67

Sara wants to have $600,000 in her savings account when she retires. How much must she put in the account now, if the account pays a fixed interest rate of 8%, to ensure that she has $600,000 in 20 years? A) $231,712 B) $180,221 C) $139,541 D) $128,729

$128,729 Explanation: Calculate the PV with FV = $600,000 , N = 20, and interest = 8%, which = $128,729 .

An investment will pay you $120 in one year and $200 in two years. If the interest rate is 4%, what is the present value of these cash flows? A) $320.00 B) $307.69 C) $300.29 D) $304.91

$300.29 Explanation: 120/(1.04) + 200/(1.042) = 115.38 + 184.91 = 300.29

Assume IBM just paid a dividend of $4.50 and expects these dividends to grow at 8% a year. The price of IBM is $100 per share. What is IBM's cost of equity capital? A) 8% B) 3.86 % C) 12.22% D) 12.86 %

12.86% Explanation: Cost of equity is the next period dividend divided by the price plus the growth rate in dividends. Cost of equity = (Div 1 / PE) +g = ($4.50 ×1.08 ) / $100 +0.08 = 0.1286 = 12.86 %

Martin is offered an investment where for $6000 today, he will receive $6180 in one year. He decides to borrow $6000 from the bank to make this investment. What is the maximum interest rate the bank needs to offer on the loan if Martin is at least to break even on this investment? A) 3% B) 4% C) 2% D) 1%

3% Explanation: ($6180 - $6000)/ $6000 = 3%

Which of the following is/are TRUE? I. The EAR can never exceed the APR. II. The APR can never exceed the EAR. III. The APR and EAR can never be equal. A) Only II. is true. B) Only I. is true. C) Only II. & III. are true. D) Only I. & III. are true.

A) Only II. is true.

What is the real interest rate given a nominal rate of 8.9 % and an inflation rate of 1.9 %? A) 8.2% B) 6.9 % C) 9.6 % D) 11.0%

B) 6.9 % Explanation: (0.089 ) / (1+ 0.019 ) - 1 = 0.06869 ; real rate = 6.869 %

The Sisyphean Company has a bond outstanding with a face value of $5000 that reaches maturity in 8 years. The bond certificate indicates that the stated coupon rate for this bond is 8.2% and that the coupon payments are to be made semiannually. Assuming that this bond trades for $4541.53 , then the YTM for this bond is closest to ________. A) 7.9 % B) 9.9 % C) 13.8 % D) 11.9%

B) 9.9 % Explanation: FV = $5000 PMT = $205 ($410/2) N = 16 (8 × 2) PV = -$4541.53 Compute I = 4.9426 × 2 = 9.8852%.

What is the present value (PV) of an investment that pays $100,000 every year for four years if the interest rate is 5% APR, compounded quarterly? A) $424,581 B) $459,963 C) $353,818 D) $389,200

C) $353,818 Explanation: Calculate EAR = 5.0945 %; Calculate PV Annuity = $353,818

What is the coupon payment of a 15-year $10,000 bond with a 9% coupon rate with semiannual payments? A) $1800.00 B) $150.00 C) $450 D) $900.00

C) $450 Explanation: $10,000 × 0.09 /2 = $450

A company has stock which costs $41.50 per share and pays a dividend of $2.50 per share this year. The company's cost of equity is 7%. What is the expected annual growth rate of the company's dividends? A) 1.96 % B) 3.92% C) 0.98 % D) 2.94%

C) 0.98 % Explanation: Growth rate = 0.07 - ($2.50 / $41.50 ) = 0.98 %

The ultimate goal of the capital budgeting process is to ________. A) determine the effect of the decision to accept or reject a project on the firm's cash flows B) determine how the consequences of making a particular decision affects the firm's revenues and costs C) forecast the consequences of a list of future projects for the firm D) list the projects and investments that a company plans to undertake in the future

determine the effect of the decision to accept or reject a project on the firm's cash flows

The after-tax cost of debt ________ the before-tax cost of debt for a firm that has a positive marginal tax rate. A) is always less than B) may be greater than or less than C) is always greater than D) is always equal to

is always less than

Year 0 Year 1 Year 2 Year 3 MACRS Depreciation Rate 33.33% 44.45% 14.81% 7.41% A firm is considering the purchase of a new machine for $325,000 . The firm is unsure if it should use the 3-Year MACRS schedule or straight-line depreciation over three years. What is the difference in the book value after three years if the firm uses MACRS instead of straight-line depreciation? A) $48,166 B) $0 C) $24,083 D) $300,918

$0 Explanation: At the end of three years, both will be completely depreciated, thus $0 - $0 = 0

The Sisyphean Company is considering a new project that will have an annual depreciation expense of $3.6 million. If Sisyphean's marginal corporate tax rate is 35% and its average corporate tax rate is 30%, then what is the value of the depreciation tax shield on the company's new project? A) $1,080,000 B) $1,260,000 C) $1,134,000 D) $1,890,000

$1,260,000 Explanation: Here we need to use the marginal tax rate. So, depreciation tax shield = $3.6 million ×0.35 = $1.26 million

Panjandrum Industries, a manufacturer of industrial piping, is evaluating whether it should expand into the sale of plastic fittings for home garden sprinkler systems. It has made the above estimates of free cash flows resulting from such a decision (all quantities in millions of dollars). There are some concerns that estimates of manufacturing expenses may be low, due to the rising cost of raw materials. What is the break-even point for manufacturing expenses, if all other estimates are correct and the cost of capital is 9%? A) $1.99 million B) $1.66 million C) $2.32 million D) $1.83 million

$1.66 million Explanation: Using a financial calculator, CF0 = -6, CF1 = 1.93 , F1 = 10; calculate NPV at 9% equals 6.38608 ; using TVM keys, PV = 6.38608 , N = 10, I = 9; calculate PMT = 0.99508 . Pre -tax manufacturing expenses = 0.99508 / 0.6 = $1.66 million

A firm has an opportunity to invest $95,000 today that will yield $109,250 in one year. If interest rates are 4%, what is the net present value (NPV) of this investment? A) $16,077 B) $11,053 C) $10,048 D) $14,250

$10,048 Explanation: $109,250 / (1 +0.04) = $105,048.077; $105,048.077 - $95,000 = $10,048

Refer to the table above. An international seafood supplier is offered 9.52 million yen today for 1000 pounds of abalone frozen in the shell. One thousand pounds of abalone can be sourced from various countries at the prices shown above. The current market exchange rates between the United States and the other relevant currencies are also shown. In addition, $1 U.S. = 102 yen. What is the value, in U.S. dollars, of the best deal the international seafood supplier can make? A) $14,333 B) $14,833 C) $13,333 D) $12,333

$13,333 Explanation: 9.52 million / 102 yen = $93,333 ; cost = 104,000/1.3 NZD = $80,000; $93,333 - $80,000 = $13,333 .

A firm is considering changing their credit terms. It is estimated that this change would result in sales increasing by $1,600,000. This in turn would cause inventory to increase by $125,000 , accounts receivable to increase by $100,000 , and accounts payable to increase by $90,000 . What is the firm's expected change in net working capital? A) $315,000 B) $135,000 C) $225,000 D) $1,735,000

$135,000 Explanation: $125,000 +$100,000 - $90,000 = $135,000

Refer to the income statement above. Luther's earnings before interest, taxes, depreciation, and amortization (EBITDA) for the year ending December 31, 2005 is closest to ________. A) $271.8 million B) $108.7 million C) $163.1 million D) $135.9 million

$135.9 million Explanation: EBITDA = EBIT + Depreciation and amortization = $ 132.5 +$ 3.4 = $135.9 million

A garage is installing a new "bubble-wash" car wash. It will promote the car wash as a fun activity for the family, and it is expected that the novelty of this approach will boost sales in the medium term. If the cost of capital is 10%, what is the net present value (NPV) of this project? A) $150,548 B) $165,603 C) -$143,021 D) -$135,493

$150,548 Explanation: CF1 = -7410 +75,000 + 5,000 = 72,590 ; CF2 and 3 = 90,090 +75,000 + 5,000 = 170,090 ; CF4 = 60,840 +75,000 + 5,000 = 140,840 ; Using a financial calculator, CF0 = -280,000, CF1 = 72,590 , CF2 = 170,090 , CF3 = 170,090 , CF4 = 140,840 ; calculating NPV at 10% = $150,548

Year 0 Year 1 Year 2 Year 3 Year 4 Year 5 Depreciation Rate 20.00% 32.00% 19.20% 11.52% 11.52% 5.76% A bakery invests $40,000 in a light delivery truck. This was depreciated using the five-year MACRS schedule shown above. If the company sold it immediately after the end of year 2 for $21,000 , what would be the after-tax cash flow from the sale of this asset, given a tax rate of 40%? A) $17,208 B) $11,520 C) $3792 D) $9480

$17,208 Explanation: Accumulated depreciation = $40,000 × 0.712 = $28,480 ; book value = $40,000 - $28,480 = $11,520; capital gain = $21,000 - $11,520 = $9480; tax owed = 0.4 ×$9480 = $3792; after-tax cash flow = $21,000 - $3792 = $17,208

Consider the above statement of cash flows. If all amounts shown above are in millions of dollars, what were AOS Industries' retained earnings for 2008? A) $2.2 million B) $3.1 million C) $5.2 million D) $4.4 million

$2.2 million Explanation: $3.2 - $1 = $ 2.2 million

An investor is considering a project that will generate $900,000 per year for four years. In addition to upfront costs, at the completion of the project at the end of the fifth year there will be shut-down costs of $400,000 . If the cost of capital is 4.4%, based on the MIRR, at what upfront costs does this project cease to be worthwhile? A) $2.62 million B) $3.21 million C) $2.91 million D) $3.50 million

$2.91 million Explanation: Bring all negative cash flows to time 0; thus, PV shut-down cost = -400,000 / (1 +0.044)5 = -$322,520.63; FV positive cash flows at time 5 = $ 4,013,810.7; PV of positive cash flows at time 0 = $3,139,085; NPV at 4.4% = 2.91 million

The book value of a firm's equity is $100 million and its market value of equity is $200 million. The face value of its debt is $50 million and its market value of debt is $60 million. What is the market value of assets of the firm? A) $150 million B) $250 million C) $160 million D) $260 million

$260 million Explanation: Market value of debt plus market value of equity gives market value of assets. $200 + $60 = $260 million

A C corporation earns $8.30 per share before taxes and the company pays a dividend of $4.00 per share. The corporate tax rate is 39%, the personal tax rate on dividends is 15%, and the personal tax rate on non-dividend income is 36%. What is the after-tax amount an individual would receive from the dividend? A) $4.76 B) $3.40 C) $2.72 D) $4.08

$3.40

In 2009, an agricultural company introduced a new cropping process which reduced the cost of growing some of its crops. If sales in 2008 and 2009 were steady at $30 million, but the gross margin increased from 2.8% to 3.9% between those years, by what amount was the cost of sales reduced? A) $330,000 B) $660,000 C) $462,000 D) $264,000

$330,000 Explanation: [($30 × 3.9%) - ($30 × 2.8%)] × 1,000,000 = $330,000

A small manufacturer that makes clothespins and other household products buys new injection molding equipment for a cost of $500,000. This will allow the manufacturer to make more clothespins in the same amount of time with an estimated increase in sales of 25%. If the manufacturer currently makes 75 tons of clothespins per year, which sell at $18,000 per ton, what will be the increase in revenue next year from the new equipment? A) $837,500 B) $303,750 C) $125,000 D) $337,500

$337,500 Explanation: Incremental revenue = 25% ×75 ×$18,000 = $337,500

Assume Ford Motors expects a new hybrid-engine project to produce incremental cash flows of $45 million each year, and expects these to grow at 3% each year. The upfront project costs are $380 million and Ford's weighted average cost of capital is 9%. If the issuance costs for external finances are $10 million, what is the net present value (NPV) of the project? A) $396 million B) $360 million C) $324 million D) $378 million

$360 million Explanation: Compute present value of the cash flows at WACC and subtract investment costs as well as issuance costs. PV project cash inflows = $ 45 million / (0.09 - 0.03 ) = $ 750 million; cash outflows = $380 million + $ 10 million = $ 390 million; NPV = $ 750 million - $ 390 million = $360 million

A firm is considering a new project that will generate cash revenue of $1,300,000 and cash expenses of $700,000 per year for five years. The equipment necessary for the project will cost $300,000 and will be depreciated straight line over four years. What is the expected free cash flow in the second year of the project if the firm's marginal tax rate is 35%? A) $416,250 B) $374,625 C) $341,250 D) $499,500

$416,250 Explanation: Annual depreciation = $300,000 / 4 = $75,000 . Free Cash Flow ($1,300,000 - $700,000 - $75,000 ) × (1 - 0.35 ) +$75,000 = $416,250

The balance sheet for a small firm is shown above. All amounts are in thousands of dollars. What is this firm's Net Working Capital? A) $46 thousand B) $86 thousand C) $126 thousand D) $7 thousand

$46 thousand

A firm incurs $70,000 in interest expenses each year. If the tax rate of the firm is 30%, what is the effective after-tax interest rate expense for the firm? A) $39,200.00 B) $34,300.00 C) $49,000.00 D) $56,350.00

$49,000.00 Explanation: Effective after-tax interest expense = Interest expense × (1 - Tax Rate) Effective after-tax interest expense = $70,000 × (1 - 0.3 ) = $49,000.00

An auto-parts company is deciding whether to sponsor a racing team for a cost of $1 million. The sponsorship would last for three years and is expected to increase cash flows by $570,000 per year. If the discount rate is 6.9 %, what will be the change in the value of the company if it chooses to go ahead with the sponsorship? A) $747,896 B) $797,756 C) $847,615 D) $498,597

$498,597 Explanation: NPV = -1,000,000 +570,000 / (1 +0.069 ) +570,000 / (1 +0.069 )2 +570,000 / (1 +0.069 )3 = $498,597

SAP Inc. received a $1.5 million grant under its Small Business Innovation program. SAP invested the grant money and developed a system to remove metal contaminants from storm water in shipyards. The firm estimates that each shipyard spends $500,000 a year on storm water clean-up efforts. If SAP is able to sign up and retain four shipyards in the first year onwards, what is the present value (PV) of the project (net of investment) if the cost of capital for SAP is 14% per year? Assume a cost of operations and other costs for SAP equal 50% of revenue. A) $4.80 million B) $5.64 million C) $4.51 million D) $5.93 million

$5.64 million Explanation: Net present value = -Investment + Present Value of (Revenues × (1 - proportion of costs)) Net present value = -$1.5 million + ($2 million × (1 - 0.5 )) / 0.14 = $5.6 million

Assume Ford Motors expects a new hybrid-engine project to produce incremental cash flows of $50 million each year, and expects these to grow at 4% each year. The upfront project costs are $420 million and Ford's weighted average cost of capital is 9%. If the issuance costs for external finances are $20 million, what is the net present value (NPV) of the project? A) $560 million B) $616 million C) $588 million D) $504 million

$560 million Explanation: Compute present value of the cash flows at WACC and subtract investment costs as well as issuance costs. PV project cash inflows = $ 50 million / (0.09 - 0.04) = $ 1000 million; Cash outflows = $420 million + $ 20 million = $ 440 million; NPV = $ 1000 million - $ 440 million = $560 million

A lender lends $10,100 , which is to be repaid in annual payments of $2070 for 6 years. Which of the following shows the timeline of the loan from the lender's perspective? A) Year 0 Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 - $10,100 $2070 $2070 $2070 $2070 $2070 $2070 B) Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 0 $2070 $2070 $2070 $2070 $2070 C) Year 0 Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 -$10,100 $2070 $4070 $6070 $8070 $10,070 $12,070 D) Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 - $10,100 $2070 $2070 $2070 $2070 $2070

-$10,100 ; $2,070 ; $2,070 ; $2,070 ; $2,070 ; $2,070 ; $2,070

You own 1000 shares of Newstar Financial stock, currently trading for $57 per share. You are offered a deal where you can exchange these stocks for 900 shares of Amback Financial Group stock, currently trading at $63 per share. What is the value of this trade, if you choose to make it? A) $300 B) -$300 C) -$340 D) -$320

-$300

A company buys a color printer that will cost $16,000 to buy, and last 5 years. It is assumed that it will require servicing costing $500 each year. What is the equivalent annual annuity of this deal, given a cost of capital of 8%? A) -$4507 B) -$4057 C) -$3606 D) -$3155

-$4507 Explanation: Using a financial calculator, NPV = -$17,996 equivalent annual annuity = -$4507

Consider the following two projects: The profitability index for project B is closest to ________. A) 14.99 B) 0.09 C) 0.15 D) 22.49

0.15 Explanation: PI = NPV / Investment (or resources consumed) NPV = -73 + 30 / (1 +0.16 )1 + 30 / (1 +0.16 )2 + 30 / (1 +0.16 )3 + 30 / (1 +0.16 )4 = 10.9454191 So, PI = 10.9454191 / 73 = 0.1499

Assume Lavender Corporation has a market value of $4 billion of equity and a market value of $19.8 billion of debt. What are the weights in equity and debt that are used for calculating the WACC? A) 0.168 , 0.832 B) 0.832, 0.168 C) 0.10 , 0.90 D) 0.90 , 0.10

0.168 Explanation: Weight in debt equals market value of debt divided by market value of debt plus equity. Similarly, weight in equity is market value of equity divided by market value of debt plus equity. Weight in equity = $ 4 billion / ($4 + $ 19.8 ) billion = 0.168 ; Weight in debt = $ 19.8 billion / ($4 + $ 19.8 ) billion = 0.832

Refer to the balance sheet above. Luther's quick ratio for 2006 is closest to ________. A) 0.87 B) 0.88 C) 1.75 D) 1.31

0.87 Explanation: Quick ratio = (Current assets - Inventory) / Current liabilities Quick ratio = ($ 171.3 - $ 46.1) / $143.2 = 0.87

Refer to the balance sheet above. If in 2006 Luther has 10.2 million shares outstanding and these shares are trading at $16 per share, then using the market value of equity, the debt-equity ratio for Luther in 2006 is closest to ________. A) 3.45 B) 1.72 C) 0.86 D) 2.41

1.72 Explanation: D / E = Total debt / Total equity Total Debt = Notes payable (10.5 ) + Current maturities of long-term debt (39.6 ) + Long-term debt (231.3 ) = 281.4 million Total equity = 10.2 × $16 = $163.2, so D / E = $ 281.4 / $163.2 = 1.72

Two mutually exclusive investment opportunities require an initial investment of $7 million. Investment A pays $2.0 million per year in perpetuity, while investment B pays $1.4 million in the first year, with cash flows increasing by 4% per year after that. At what cost of capital would an investor regard both opportunities as being equivalent? A) 7% B) 3% C) 13% D) 15%

13%

Your estimate of the market risk premium is 7%. The risk-free rate of return is 4% and General Motors has a beta of 1.6 . What is General Motors' cost of equity capital? A) 13.7% B) 16.0 % C) 15.2% D) 14.4%

15.2% Explanation: Apply the CAPM equation. Cost of equity = 0.04 + (1.6 ×0.07) = 0.152 = 15.2%

Refer to the balance sheet above. When using the book value of equity, the debt-equity ratio for Luther in 2006 is closest to ________. A) 4.51 B) 2.25 C) 1.13 D) 3.16

2.25 Explanation: D / E = Total debt / Total equity Total debt = Notes payable (10.7) + Current maturities of long-term debt (38.7) + Long-term debt ( 234.4) = 283.8 million Total equity = 125.9 , so D / E = 283.8 /125.9 = 2.25

Refer to the income statement above. Luther's return on assets (ROA) for the year ending December 31, 2005 is closest to ________. A) 24.32% B) 48.64% C) 19.46% D) 1.99%

24.32% Explanation: ROA = (Net income + Interest Expense) / Total assets This is a little tricky in that Total Assets are not given in the problem. The student must remember the basic balance sheet equation A = L + SE. Total Liabilities and Shareholders' Equity is given and this is the same as Total Assets. So, ROA = ($ 79.755 + $ 14.3 ) / $386.7 = 0.2432 or 24.32%.

Assume JUP has debt with a book value of $24 million, trading at 120% of par value. The firm has book equity of $28 million, and 2 million shares trading at $20 per share. What weights should JUP use in calculating its WACC? A) 33.49 % for debt, 66.51% for equity B) 29.30 % for debt, 70.70 % for equity C) 37.67% for debt, 62.33 % for equity D) 41.86 % for debt, 58.14% for equity

41.86% for debt, 58.14% for equity Explanation: Market Value Debt = $24 million × 120% = $28.8 million Market Value Equity = 2 million ×$20 = $40 million Total Market Value = $68.8 million Weight of debt = $28.8 million / $68.8 million = 41.86 % Weight of equity = $40 million / $68.8 million = 58.14%

Martin is offered an investment where for $4000 today, he will receive $4240 in one year. He decides to borrow $4000 from the bank to make this investment. What is the maximum interest rate the bank needs to offer on the loan if Martin is at least to break even on this investment? A) 6% B) 5% C) 7% D) 4%

6% Explanation: ($4240 - $4000)/ $4000 = 6%

A factory owner wants his workers to produce as many widgets as they can so he pays his workers based on how many widgets they produce. However, in order to make sure that the workers do not rush and produce a large number of poorly made widgets, he checks the widgets at random at various stages of their manufacture. If a defect is found in a widget, the pay of the entire section of the factory responsible for that defect is docked. How is this factory owner seeking to solve the agency conflict problem in this case? A) by maximizing the information that the principal obtains about the behavior of the agents B) by making the agents into principals themselves C) by supplying incentives so the agents act in the way principal desires D) by ensuring that all workers co-operate to maximize the gains of their section

by supplying incentives so the agents act in the way principal desires

A corporate raider gains a controlling fraction of the shares of a poorly managed company and replaces the board of directors. How does the corporate raider hope to make a profit in this case? A) by the sale of the assets held by the company that hold most of its value B) by removing the employees expectations of the continued poor performance of the company C) by motivating the board of directors and other stakeholders in the company to make difficult short-term decisions that will increase the long-term viability of the company D) by the rise in the value of the stock held by the raider when the new board of directors is judged to be superior to the ousted board of directors

by the rise in the value of the stock held by the raider when the new board of directors is judged to be superior to the ousted board of directors

Over four-fifths of all U.S. business revenue is generated by which type of firms? A) partnerships B) sole proprietorships C) corporations D) limited partnerships

corporations

What is the main reason that it is necessary for public companies to follow the rules and format set out in the Generally Accepted Accounting Principles (GAAP) when creating financial statements? A) It makes it easier to compare the financial results of different firms. B) It ensures that important budgetary information is not omitted. C) It ensures that information on the performance of public companies is reported on cash-basis accounting. D) It ensures that the market value of assets and debt are reported accurately.

it makes it easier to compare the financial results of different firms

A sole proprietorship is owned by ________. A) shareholders B) two or more persons C) bankers D) one person

one person

Jim owns a farm that he wants to sell. He learns that a highway will be built near the farm in the future, giving access to the farmland from a nearby city and thus making the land attractive to housing developers. Expecting the net present value (NPV) of the sale to be greater after the highway is built, he decides not to sell at this time. What real option is Jim taking? A) option to delay B) option to expand C) option to abandon D) option to switch

option to delay

A manufacturer of peripheral devices for PCs decides to try and capture some of the PC gaming market by creating gaming versions of its traditional peripheral devices. It decides to start with a gaming version of its standard keyboard, increasing the number of macro keys, adding a small LCD screen to display game data, and giving the user the ability to backlight keys in different colors. If this device is a success, the manufacturer plans to release gaming versions of its trackballs and other peripherals. What option is the manufacturer gaining by the release of the new keyboard? A) option to delay B) option to expand C) option to abandon D) option to switch

option to expand

Which of the following decision rules might best be used as a supplement to net present value (NPV) by a firm that favors liquidity? A) payback period B) profitability index C) MIRR D) equivalent annual annuity

payback period

Most corporations measure the value of a project in terms of which of the following? A) future value (FV) B) discount value C) present value (PV) D) discount factor

present value (PV)

Which of the following is NOT a role of financial institutions? A) printing money for borrowers B) moving funds though time C) spreading out risk-bearing D) moving funds from savers to borrowers

printing money for borrowers

You are opening up a brand new retail strip mall. You presently have more potential retail outlets wanting to locate in your mall than you have space available. What is the most appropriate tool to use if you are trying to determine the optimal allocation of your retail space? A) payback period B) profitability index C) net present value (NPV) D) internal rate of return (IRR)

profitability index

A delivery company is creating a balance sheet. Which of the following would most likely be considered a short-term liability on this balance sheet? A) the depreciation over the last year in the value of the vehicles owned by the company B) revenue received for the delivery of items that have not yet been delivered C) prepaid rent on the offices occupied by the company D) a loan which must paid back in two years

revenue received for the delivery of items that have not yet been delivered

An exploration of the effect of changing multiple project parameters on net present value (NPV) is called ________. A) scenario analysis B) accounting break-even analysis C) internal rate of return (IRR) analysis D) sensitivity analysis

scenario analysis

An analysis that breaks the net present value (NPV) calculation into its component assumptions and shows how the net present value (NPV) varies as one of the underlying assumptions changes is called ________. A) scenario analysis B) accounting break-even analysis C) internal rate of return (IRR) analysis D) sensitivity analysis

sensitivity analysis

Which of the following types of firms does NOT have limited liability? A) limited partnerships B) corporations C) sole proprietorships D) none of the above

sole proprietorships

Which of the following is NOT a financial statement that every public company is required to produce? A) balance sheet B) income statement C) statement of sources and uses of cash D) statement of stockholders' equity

statement of sources and uses of cash

Which of the following adjustments should NOT be made when computing free cash flow from incremental earnings? A) subtracting depreciation expenses from taxable earnings B) adding all non-cash expenses C) adding depreciation D) subtracting increases in Net Working Capital

subtracting depreciation expenses from taxable earnings

Which of the following best defines incremental earnings? A) the net present value (NPV) of earnings that a firm is expected to receive as the result of an investment decision B) the earnings arising from all projects that a company plans to undertake in a fixed time span C) cash flows arising from a particular investment decision D) the amount by which a firm's earnings are expected to change as a result of an investment decision

the amount by which a firm's earnings are expected to change as a result of an investment decision

If the above balance sheet is for a retail company, what indications about this company would best be drawn from the changes in the balance sheet between 2007 and 2008? A) The company has reduced its debt. B) The company has added a major new asset in terms of plant and equipment. C) The company has experienced a significant rise in its market value. D) The company is having difficulties selling its product.

the company is having difficulties selling its product

If the above balance sheet is for a retail company, what indications about this company would best be drawn from the changes in stockholders' equity between 2007 and 2008? A) The company is selling its property, plant and equipment, which may result in a long-term deficiency in production capacity. B) The company is very profitable because it is obviously collecting receivables faster. C) The company's net income in 2008 was negative. D) No conclusions can be drawn regarding stockholders' equity without additional information.

the company's net income in 2008 was negitive

Which of the following would you NOT consider when making a capital budgeting decision? A) the opportunity to lease out a warehouse instead of using it to house a new production line B) the additional taxes a firm would have to pay in the next year C) the change in direct labor expense due to the purchase of a new machine D) the cost of a marketing study completed last year

the cost of a marketing study completed last year Explanation: This is a sunk cost.

An insurance office owns a large building downtown. The sixth floor of this building currently houses its entire Human Resources Department. After carrying out a survey to see whether the sixth floor could be rented and for what price, the company must decide whether to split the Human Resources Department between currently unoccupied spaces on several floors and rent out the entire sixth floor or to leave things as they currently are. Which of the following should NOT be considered when deciding whether to rent out the sixth floor? A) the amount obtained by renting the sixth floor B) cost involved with a loss of efficiency resulting from the Human Resources Department being split between several spaces C) the cost of the research into the feasibility of renting the sixth floor D) the cost of refurbishing the new space to be occupied by the Human Resources Department

the cost of the research into the feasibility of renting the sixth floor

In which of the following relationships is an agency conflict problem LEAST likely to arise? A) the relationship between a hire -car company and the persons who hire that company's cars regarding the treatment of those cars B) the relationship between high-level military officers and the soldiers who serve under them regarding the willingness of the soldiery to take risks C) the relationship between a restaurateur and the suppliers of produce to that restaurant regarding the freshness of the produce supplied D) the relationship between a driver and the passengers in a car regarding the safe driving of that car

the relationship between a driver and the passengers in a car regarding the safe driving of that car

Which of the following is NOT an advantage of a sole proprietorship? A) single taxation B) ease of setup C) no separation of ownership and control D) unlimited liability

unlimited liability

Holding everything else constant, an increase in cash ________ a firm's net debt. A) will have no impact on B) may increase or decrease C) will increase D) will decrease

will decrease

Which of the following statements is FALSE? A) Issuance costs increase the WACC. B) Issuance costs should be treated as cash outflows in NPV analysis. C) External equity is less expensive than retained earnings. D) A project that can be financed with internal funds will be less costly than the same project if it were financed with external funds.

External equity is less expensive than retained earnigs.

According to Graham and Harvey's 2001 survey (Figure 8.2 in the text), the most popular decision rules for capital budgeting used by CFOs are ________. A) IRR, NPV, Payback period B) Profitability index, NPV, IRR C) NPV, IRR, MIRR D) MIRR, IRR, Payback period

IRR, NPV, Payback period

Which of the following is a way that the operating activity section of the statement of cash flows adjusts Net Income from the balance sheet? A) It removes the cash used for investment purposes. B) It subtracts all expenses and costs related to a firm's operating activities. C) It adds the cash that flows from investors to a firm. D) It adds all non-cash entries related to a firm's operating activities.

It adds all non-cash entries related to a firm's operating activities

Which of the following is NOT a limitation of the payback rule? A) It is difficult to calculate. B) It does not consider the time value of money. C) It does not consider cash flows occurring after the payback period. D) Lacks a decision criterion that is economically based.

It is difficult to calculate.

Which of the following best describes why the Valuation Principle is a key concept in making financial decisions? A) It allows fixed assets and liquid assets to be valued correctly. B) It shows how to make the costs and benefits of a decision comparable so that we can weigh them properly. C) It shows how to assign monetary value to intangibles such as good health and well-being. D) It gives a good indication of the net worth of a person, item, or company and can be used to estimate any changes in that net worth.

It shows how to make the costs and benefits of a decision comparable so that we can weigh them properly

Outstanding Job Hours to Print Job Penalty for not completing job in 24 hours Job A 6 -$120 Job B 9 -$200 Job C 12 -$360 Job D 16 -$400 Job E 2 -$50 A print shop has contracted to print a number of jobs within 24 hours. Any jobs not completely printed within this time will result in a penalty, as shown in the table above. However too many jobs have been accepted, and not all can be printed. Which jobs should be printed in the next 24 hours? A) Job D, Job A, and Job E B) Job C and Job B C) Job D and Job A D) Job C, Job B, and Job E

Job C, Job B, and Job E Job Hours Penalty Penalty/HR Rank Cum Hours A 6 -120 -20 B 9 -200 -22 3 23 C 12 -360 -30 1 12 D 16 -400 -25 E 2 -50 -25 2 14

Heavy Duty Company, a manufacturer of power tools, decides to offer a rebate of $130 on its 16-inch mid-range chain saw, which currently has a retail price $490. Heavy Duty's marketers estimate that, as a result of the rebate, sales of this model will increase from 60,000 to 80,000 units next year. The profit margin for Heavy Duty before the rebate is $180. Based on the given information, is the decision to give the rebate a wise one? A) Yes, since the benefits are $7,300,000 more than the costs. B) No, since costs are $6,800,000 more than benefits. C) Yes, since the benefits are $3,400,000 more than the costs. D) No, since costs are $7,800,000 more than benefits.

No, since costs are $6,800,000 more than benefits Explanation: 180 × 60,000 = $10,800,000; (180 - 130) × 80,000 = $4,000,000; $10,800,000 - $4,000,000 = $6,800,000

If WiseGuy Inc. uses payback period rule to choose projects, which of the projects (Project A or Project B) will rank highest? A) Project A B) Project B C) Project A and Project B have the same ranking. D) Cannot calculate a payback period without a discount rate.

Project B

Which of the following statements regarding real options is NOT correct? A) Real options should only be exercised when they increase the NPV of a project. B) Real options give owners the right, but not the obligation, to exercise these opportunities at a later date. C) Real options build greater flexibility into a project and thus increase its net present value (NPV). D) Real options enhance the forecast of a project's expected future cash flows by incorporating, at the start of the project, the effect of decisions that will be made at a later date.

Real options enhance the forecast of a project's expected future cash flows by incorporating, at the start of the project, the effect of decisions that will be made at a later date.

Mary is in contract negotiations with a publishing house for her new novel. She has two options. She may be paid $100,000 up front, and receive royalties that are expected to total $26,000 at the end of each of the next five years. Alternatively, she can receive $200,000 up front and no royalties. Which of the following investment rules would indicate that she should take the former deal, given a discount rate of 8%? Rule I: The Net Present Value rule Rule II: The Payback Rule with a payback period of two years Rule III: The internal rate of return (IRR) Rule A) Rule II and III B) Rule I and II C) Rule III only D) Rule I only

Rule 1 only Explanation: Using a financial calculator, enter CF0 = 100,000, CF1 = 26,000, F1 = 5; calculate NPV for I = 8 = $203,810, which is greater than $200,000

Which of the following is a measure of the aggregate price level of collections of pre -selected stocks? A) NASDAQ B) S&P 500 C) Euronext D) NYSE

S&P 500

A small company has current assets of $112,000 and current liabilities of $117,000. Which of the following statements about that company is most likely to be true? A) Since net working capital is nearly zero, the company is well run and will have little difficulty attracting investors. B) Since net working capital is very high, the company will have ample money to invest after it meets its obligations. C) Since net working capital is negative, the company will not have enough funds to meet its obligations. D) Since net working capital is high, the company will likely have little difficulty meeting its obligations.

Since net working capital is negative, the company will not have enough funds to meet its obligations.

Which of the following best describes the Net Present Value rule? A) When choosing among any list of investment opportunities where resources are limited, always choose those projects with the highest net present value (NPV). B) Take any investment opportunity where the net present value (NPV) is not negative; turn down any opportunity when it is negative. C) If the difference between the present cost of an investment and the present value (PV) of its benefits after a fixed number of years is positive the investment should be taken, otherwise it should be rejected. D) Take any investment opportunity where the net present value (NPV) exceeds the opportunity cost of capital; turn down any opportunity where the cost of capital exceeds the net present value (NPV)

Take any investment opportunity where the net present value (NPV) is not negative; turn down any opportunity when it is negative.

Tanner is choosing between two investment options. He can invest $500 now and get (guaranteed) $550 in one year, or invest $500 now and get (guaranteed) $531.40 back later today. The risk-free rate is 3.5%. Which investment should Tanner prefer? A) $531.40 later today, since $1 today is worth more than $1 in one year. B) $550 in one year, since it is $50 more than he invested rather than $31.40 more than he invested. C) Neither - both investments have a negative NPV. D) Tanner should be indifferent between the two investments, since both are equivalent to the same amount of cash today.

Tanner should be indifferent betweeen the two investments, since both are equivalent to the same amount of cash today. Explanation: The NPVs are equal, so that each is the same as $31.40 today.

A lawn maintenance company compares two ride-on mowers the Excelsior, which has an expected working-life of six years, and the Grass assentor, which has a working life of four years. After examining the equivalent annual annuities of each mower, the company decides to purchase the Excelsior. Which of the following, if true, would be most likely to make them change that decision? A) The mower is only expected to be needed for three years. B) The number of customers requiring lawn-mowing services is expected to sharply increase in the near future. C) Fuel prices are expected to rise and raise the annual running costs of all mowers. D) The prices of equivalent mowers are expected to grow in the future as lawnmower manufacturers consolidate.

The mower is only expected to be needed for three years.

What is the major way in which the roles and obligations of the owners of a limited liability company differ from the roles and obligations of limited partners in a limited partnership? A) The owners of a limited liability company can take an active role in running the company. B) The owners of a limited liability company have personal obligation for debts incurred by the company. C) The owners of a limited liability company can withdraw from the company without the company being dissolved. D) There is no separation between the company and its owners in a limited liability company.

The owners of a limited liability company can take an active role in running the company.

A printing company prints a brochure for a client and then bills them for this service. At the time the printing company's financial disclosure statements are prepared, the client has not yet paid the bill for this service. How will this transaction be recorded? A) The sale will be added to Net Income on the income statement and retained in Net Income on the statement of cash flows. B) The sale will neither be added to Net Income on the income statement nor used to adjust Net Income on the statement of cash flows. C) The sale will not be added to Net Income on the income statement but added to Net Income on the statement of cash flows. D) The sale will be added to Net Income on the income statement but deducted from the Net Income on the statement of cash flows

The sale will be added to Net Income on the income statement but deducted from the Net Income on the statement of cash flows

The owner of a hair salon spends $1,000,000 to renovate its premises, estimating that this will increase her cash flow by $220,000 per year. She constructs the above graph, which shows the net present value (NPV) as a function of the discount rate. At what dollar value should the NPV profile cross the vertical axis? A) $1,000,000 B) $780,000 C) Cannot be determined because inadequate information is given. D) The vertical axis crossing point cannot be calculated since the cash inflows are in perpetuity

The vertical axis crossing point cannot be calculated since the cash inflows are in perpetuity. Explanation: Since the $220,000 cash flows are perpetual, the sum of the cash flows (discount rate = 0%) is infinite

Why is it difficult to determine the market price of a private corporation's shares at any point in time? A) It has a limited number of owners. B) The price of its shares is fixed by the owners. C) There is no organized market for its shares. D) It is difficult to obtain enough information to accurately value such a company.

There is no organized market for its shares.

Which of the following best describes why the predicted incremental earnings arising from a given decisionnare not sufficient in and of themselves to determine whether that decision is worthwhile? A) They do not show how the firm's earnings are expected to change as the result of a particular decision. B) They are not easily predicted from historical financial statements of a firm and its competitors. C) These earnings are not actual cash flows. D) They do not tell how the decision affects the firm's reported profits from an accounting perspective.

These earnings are not actual cash flows.

Which of the following is NOT a valid method of modifying cash flows to produce a MIRR? A) Discount all of the negative cash flows to the present and compound all of the positive cash flows to the end of the project. B) Discount all of the negative cash flows to time 0 and leave the positive cash flows alone. C) Turn multiple negative cash flows into a single negative cash flow by summing all negative cash flows over the project's lifetime. D) Leave the initial cash flow alone and compound all of the remaining cash flows to the final period of the project.

Turn multiple negative cash flows into a single negative cash flow by summing all negative cash flows over the project's lifetime.

Which of the following statements is INCORRECT based on the time value of money? A) We refer to (1 - rf) as the interest rate factor for risk-free cash flows. B) For most financial decisions, costs and benefits occur at different points in time. C) In general, money today is worth more than money in one year. D) We define the risk-free interest rate (rf) for a given period as the interest rate at which money can be borrowed or lent without risk over that period.

We refer to (1-rf) as the interest rate factor for risk-free cash flows

A lottery winner can take $6 million now or be paid $600,000 at the end of each of the next 16 years. The winner calculates the internal rate of return (IRR) of taking the money at the end of each year and, estimating that the discount rate across this period will be 4%, decides to take the money at the end of each year. Was her decision correct? A) Yes, because it agrees with the payback rule. B) Yes, because it agrees with the Net Present Value rule. C) Yes, because it disagrees with the Net Present Value rule. D) Yes, because it agrees with both the Net Present Value rule and the payback rule.

Yes, because it agrees with the Net Present Value rule. Explanation: Using a financial calculator, enter PMT = 600,000, N = 16, I = 4%; calculate PV = $6,991,377, which is greater than $6,000,000.

Peter has a business opportunity that requires him to invest $10,000 today, and receive $12,000 in one year. He can either use $10,000 that he already has for this investment or borrow the money from his bank at an interest rate of 10%. However, the $10,000 he has right now is needed for urgent repairs to his home, repairs that will cost at least $15,000 if he delays them for a year. What is the best alternative for Peter out of the following choices? A) Yes, since he can borrow the $10,000 from a bank, repair his home, invest $10,000 in the business opportunity, which, since it has a NPV > 0 will mean he will still come out ahead after repaying the loan. B) Yes, since the net present value (NPV) of the investment is greater than zero he can invest the $10,000 in the business opportunity, and then next year use this money plus the benefit from this money to make the necessary home repairs. C) Yes, since the net present value (NPV) of the investment, should he take it, is greater than the net present value (NPV) of the home repairs if he delays them for one year. D) No, since the net present value (NPV) of the investment, should he take it, is less than the net present value (NPV) of the home repairs if he delays them for one year.

Yes, since he can borrow the $10,000 from a bank, repair his home, invest $10,000 in the business opportunity, which, since it has a NPV > 0 will mean he will still come out ahead after repaying the loan.

Which of the following situations is best described by the timeline shown below? Date (Months) 0 1 2 3 4 5 Cash Flows -$250 -$250 -$250 -$250 -$250 -$250 A) You receive payments of $250 per month for five months. B) You receive payments of $250 per month for six months. C) You make payments of $250 per month for six months. D) You make payments of $250 per month for five months.

You make payments of $250 per month for six months.

Which of the following firms would be expected to have a high ROE? A) a high-end fashion retailer that has a very high mark-up on all items it sells B) a medical supply company that provides very precise instruments at a high price to large medical establishments such as hospitals C) a grocery store chain that has very high turnover, selling many multiples of its assets per year D) a brokerage firm that has high levels of leverage

a grocery store chain that has very high turnover, selling many multiples of its assets per year

Which of the following firms would be expected to have a high ROE based on that firm's high profitability? A) a brokerage firm that has high levels of leverage B) a medical supply company that provides very precise instruments at a high price to large medical establishments such as hospitals C) a grocery store chain that has very high turnover, selling many multiples of its assets per year D) a low-end retailer that has a low mark-up on all items it sells

a medical supply company that provides very precise instruments at a high price to large medical establishments such as hospitals

Why should you approach every problem by drawing a timeline? A) A timeline can be used to schedule events which are yet to occur. B) A timeline eliminates the majority of flawed financial decisions. C) A timeline allows you to quickly sum cash flows over time. D) A timeline identifies events in a transaction or investment which might otherwise be easily overlooked.

a timeline identifies events in a transaction or investment which might otherwise be easily overlooked

What is a firm's net income? A) a measure of the firm's profitability over a given period B) the difference between the sales and other income generated by a firm, and all costs, taxes, and expenses incurred by the firm in a given period C) the last or "bottom" line of the income statement D) all of the above

all of the above

Which of the following statements regarding the Law of One Price is INCORRECT? A) If equivalent goods or securities trade simultaneously in different competitive markets, then they will trade for the same price in both markets. B) At any point in time, the price of two equivalent goods trading in different competitive markets will be the same. C) One useful consequence of the Law of One Price is that when evaluating costs and benefits to compute a net present value (NPV), we can use any competitive price to determine a cash value, without checking the price in all possible markets. D) An important property of the Law of One Price is that it holds even in markets where arbitrage is possible.

an important property of the Law of One Price is that it holds even in markets where arbitrage is possible

A software company acquires a smaller company in order to acquire the patents that it holds. Where will the cost of this acquisition be recorded on the statement of cash flows? A) as an outflow under investment activities B) as an outflow under financial activities C) as an outflow under operating activities D) not recorded on the statement of cash flows

as an outflow under investment activities

Consider the above statement of cash flows. What were AOS Industries' major means of raising money in 2008? A) from investment activities B) by issuing debt C) from its operations D) by sale of stock

by issuing debt