Exam 1

Your sister turned 35 today, and she is planning to save $60,000 per year for retirement, with the first deposit to be made one year from today. She will invest in a mutual fund that's expected to provide a return of 7.5% per year. She plans to retire 30 years from today, when she turns 65, and she expects to live for 25 years after retirement, to age 90. Under these assumptions, how much can she spend each year after she retires? Her first withdrawal will be made at the end of her first retirement year.

$556,561.79

Your sister is thinking about starting a new business. The company would require $300,000 of assets, and it would be financed entirely with common stock. She will go forward only if she thinks the firm can provide a 13.5% return on the invested capital, which means that the firm must have an ROE of 13.5%. How much net income must be expected to warrant starting the business?

Assets = Equity$300,000 Target ROE1 3.5% Required net income = Target ROE × Equity =$40,500 $40,500

What is the PV of an annuity due with 5 payments of $7,900 at an interest rate of 5.5%?

BEGIN Mode N5 I/YR5.5% PMT$7,900 FV$0.00 PV$35,590.69 $35,590.69

Emery Mining Inc. recently reported $125,000 of sales, $75,500 of operating costs other than depreciation, and $10,200 of depreciation. The company had $16,500 of outstanding bonds that carry a 7.25% interest rate, and its federal-plus-state income tax rate was 35%. How much was the firm's net income? The firm uses the same depreciation expense for tax and stockholder reporting purposes. (Round your intermediate and final answers to two decimal places.)

Bonds$16,500 Interest rate7.25% Tax rate35% Sales$125,000 Operating costs excluding depr'n$75,500 Depreciation$10,200 Operating income (EBIT)$39,300 Interest charges-$1,196.25 Taxable income$38,103.75 Taxes-$13,336.31 Net income$24,767.44 $24,767.44

Refer to Exhibit 4.1. What is the firm's current ratio? Do not round your intermediate calculations.

Current ratio = Current assets/Current liabilities = 1.09 1.09

Refer to Exhibit 4.1. What is the firm's days sales outstanding? Assume a 365-day year for this calculation. Do not round your intermediate calculations.

DSO = Accounts receivable/(Sales/365) = 65.18 65.18

Refer to Exhibit 4.1. What is the firm's total debt to total capital ratio? Do not round your intermediate calculations.

Debt to capital ratio = (ST Debt + LT Debt)/(ST Debt + LT Debt + Common Equity) = 45.45% 45.45%

Refer to Exhibit 4.1. What is the firm's EPS? Do not round your intermediate calculations.

EPS = Net income/Common shares outstanding = $3.96 $3.96

Vasudevan Inc. recently reported operating income of $3.00 million, depreciation of $1.20 million, and had a tax rate of 40%. The firm's expenditures on fixed assets and net operating working capital totaled $0.60 million. How much was its free cash flow, in millions?

FCF = EBIT(1 - T) + Deprec - (Capex + ΔNOWC) EBIT $3.00 Tax rate 40% Depreciation $1.20 Capex + ΔNOWC $0.60 FCF =$2.40 $2.40

Shrives Publishing recently reported $13,000 of sales, $5,500 of operating costs other than depreciation, and $1,250 of depreciation. The company had $3,500 of bonds that carry a 6.25% interest rate, and its federal-plus-state income tax rate was 35%. During the year, the firm had expenditures on fixed assets and net operating working capital that totaled $1,550. These expenditures were necessary for it to sustain operations and generate future sales and cash flows. What was its free cash flow? (Round your intermediate and final answers to whole dollar amount.)

FCF =EBIT(1 - T)+Deprec .−(Capex + ΔNOWC) FCF =$4,063+$1,250−$1,550 FCF=$3,763 $3,763

An advantage of the corporate form of organization is that corporations are generally less highly regulated than proprietorships and partnerships.

False

Free cash flow is the amount of cash that, if withdrawn, would harm the firm's ability to operate and to produce future cash flows.

False

If a stock's market price is above its intrinsic value, then the stock can be thought of as being undervalued, and it would be a good buy.

False

The present value of a future sum increases as either the discount rate or the number of periods per year increases, other things held constant.

False

You plan to invest in bonds that pay 6.0%, compounded annually. If you invest $10,000 today, how many years will it take for your investment to grow to $15,000?

I/YR6.0% PV$10,000.00 PMT$0 FV$15,000.00 N6.96 years 6.96

Janice has $5,000 invested in a bank that pays 6.2% annually. How long will it take for her funds to triple?

I/YR6.2% PV$5,000.00 PMT$0 FV$15,000.00 N 18.26 18.26

Your uncle has $260,000 invested at 7.5%, and he now wants to retire. He wants to withdraw $35,000 at the end of each year, starting at the end of this year. He also wants to have $25,000 left to give you when he ceases to withdraw funds from the account. For how many years can he make the $35,000 withdrawals and still have $25,000 left in the end?

I/YR7.50% PV$260,000 PMT$35,000 FV$25,000 N 11.98 11.98

Suppose an Exxon Corporation bond will pay $4,500 ten years from now. If the going interest rate on safe 10-year bonds is 7.00%, how much is the bond worth today?

N 10 I/YR 7.00% PMT$0 FV$4,500.00 PV$2,287.57 PV = $2,287.57

Ten years ago, Lucas Inc. earned $0.50 per share. Its earnings this year were $5.00. What was the growth rate in earnings per share (EPS) over the 10-year period?

N 10 PV$0.50 PMT$0 FV$5.00 I/YR 25.89% 25.89%

What is the PV of an ordinary annuity with 10 payments of $7,700 if the appropriate interest rate is 5.5%?

N10 I/YR5.5% PMT$7,700 FV$0.00 PV$58,039.72 $58,039.72

You just inherited some money, and a broker offers to sell you an annuity that pays $18,200 at the end of each year for 20 years. You could earn 5% on your money in other investments with equal risk. What is the most you should pay for the annuity?

N20 I/YR5.0% PMT$18,200 FV$0.00 PV$226,812.23 $226,812.23

How much would $5,000 due in 20 years be worth today if the discount rate were 5.5%?

N20 I/YR5.5% PMT$0 FV$5,000 PV$1,713.64 PV=$1,713.64

Your uncle has $795,000 and wants to retire. He expects to live for another 25 years and to earn 7.5% on his invested funds. How much could he withdraw at the end of each of the next 25 years and end up with zero in the account?

N25 I/YR7.5% PV$795,000 FV$0.00 PMT$71,319.98 $71,319.98

You want to buy a new sports car 3 years from now, and you plan to save $6,200 per year, beginning one year from today. You will deposit your savings in an account that pays 5.2% interest. How much will you have just after you make the 3rd deposit, 3 years from now?

N3 I/YR5.2% PV$0.00 PMT$6,200 FV$19,583.96 $19,583.96

Last year Rocco Corporation's sales were $700 million. If sales grow at 6% per year, how large (in millions) will they be 5 years later?

N5 I/YR6.0% PV$700.00 PMT$0.00 FV$936.76 FV= $936.76

How much would $20,000 due in 50 years be worth today if the discount rate were 7.5%?

N50 I/YR7.5% PMT$0 FV$20,000 PV$537.78 $537.78

How much would $1, growing at 13.7% per year, be worth after 75 years?

N75 I/YR13.7% PV$1.00 PMT$0.00 FV$15,206.70 FV= $15,206.70

Sue now has $320. How much would she have after 8 years if she leaves it invested at 8.5% with annual compounding?

N8 I/YR8.5% PV$320 PMT$0 FV$614.59 FV=%614.59

Wu Systems has the following balance sheet. Assume that all current assets are used in operations. How much net operating working capital does the firm have?

Net operating working capital = Operating current assets - (Current liabilities - Notes payable) NOWC = $1,300 - $310 NOWC = $990

Prezas Company's balance sheet showed total current assets of $2,500, all of which were required in operations. Its current liabilities consisted of $975 of accounts payable, $600 of 6% short-term notes payable to the bank, and $250 of accrued wages and taxes. What was its net operating working capital?

Operating current assets−(Current liabilities−Notes payable) NOWC =$2,500−($1,825−$600) $1,275 $1,275

Refer to Exhibit 4.1. What is the firm's P/E ratio? Do not round your intermediate calculations.

P/E ratio = Price per share/Earnings per share = 12.0

Precision Aviation had a profit margin of 6.25%, a total assets turnover of 1.5, and an equity multiplier of 1.8. What was the firm's ROE?

Profit margin 6.25% TATO 1.5 Equity multiplier 1.8 ROE = PM × TATO × Eq. Multiplier =16.88% 16.88%

Refer to Exhibit 4.1. What is the firm's profit margin? Do not round your intermediate calculations.

Profit margin = Net income/Sales = 2.36%

Refer to Exhibit 4.1. What is the firm's ROE? Do not round your intermediate calculations.

ROE = Net income/Common equity = 11.00%

Rao Construction recently reported $28.00 million of sales, $12.60 million of operating costs other than depreciation, and $3.00 million of depreciation. It had $8.50 million of bonds outstanding that carry a 7.0% interest rate, and its federal-plus-state income tax rate was 40%. What was Rao's operating income, or EBIT, in millions?

Sales$28.00 Operating costs excluding depreciation 12.60 Depreciation 3.00 Operating income (EBIT) $12.40 $12.40

Ajax Corp's sales last year were $400,000, its operating costs were $362,500, and its interest charges were $12,500. What was the firm's times-interest-earned (TIE) ratio?

Sales$400,000 Operating costs$362,500 Operating income (EBIT)$ 37,500 Interest charges$ 12,500 TIE ratio = EBIT/Interest =3.00 3.00

Bauer Software's current balance sheet shows total common equity of $5,125,000. The company has 520,000 shares of stock outstanding, and they sell at a price of $27.50 per share. By how much do the firm's market and book values per share differ? (Round your intermediate and final answer to two decimal places.)

Shares outstanding 520,000 Price per share $27.50 Total book common equity $5,125,000 Book value per share = Total book equity/Number of shares $9.86 Difference between market and book values $17.64 $17.64

A stock's market price would equal its intrinsic value if all investors had all the information that is available about the stock. In this case the stock's market price would equal its intrinsic value.

True

Beranek Corp has $855,000 of assets (which equal total invested capital), and it uses no debt—it is financed only with common equity. The new CFO wants to employ enough debt to raise the total debt to total capital ratio to 40%, using the proceeds from borrowing to buy back common stock at its book value. How much must the firm borrow to achieve the target debt ratio?

Total assets = Total invested capital $855,000 Target total debt to total capital ratio 40% Debt to achieve target ratio = Amount borrowed = Target % × Invested Capital =$342,000 $342,000

Refer to Exhibit 4.1. What is the firm's total assets turnover? Do not round your intermediate calculations.

Total assets turnover ratio = TATO = Sales/Total assets = 1.40 1.40

In order to maximize its shareholders' value, a firm's management must attempt to maximize the stock price in the long run, or the stock's "intrinsic value."

True

It is generally harder to transfer one's ownership interest in a partnership than in a corporation.

True

On the balance sheet, total assets must always equal the sum of total liabilities and equity.

True

The balance sheet represents a snapshot in time, whereas the income statement reports on operations over a period of time.

True

To estimate the cash flow from operations, depreciation must be added back to net income because depreciation is a non-cash charge that has been deducted from revenue in the net income calculation.

True

You observe that a firm's ROE is above the industry average, but both its profit margin and equity multiplier are below the industry average. Which of the following statements is CORRECT?

a. Its total assets turnover must be above the industry average.

Which of the following statements is CORRECT? a. The balance sheet gives us a picture of the firm's financial position at a point in time. b. The statement of cash flows tells us how much cash the firm will require during some future period, generally a month or a year. c. The income statement gives us a picture of the firm's financial position at a point in time. d. The statement of cash flows tells us how much cash the firm must pay out in interest during the year. e. The four most important financial statements provided in the annual report are the balance sheet, income statement, cash budget, and the statement of stockholders' equity.

a. The balance sheet gives us a picture of the firm's financial position at a point in time.

Considered alone, which of the following would increase a company's current ratio?

b. An increase in accounts receivable.

Which of the following could explain why a business might choose to operate as a corporation rather than as a proprietorship or a partnership?

b. Corporations generally find it easier to raise large amounts of capital.

Which of the following statements is CORRECT? a. In most corporations, the CFO ranks above the CEO. b. The board of directors is the highest ranking body in a corporation, and the chairman of the board is the highest ranking individual. The CEO generally works under the board and its chairman, and the board generally has the authority to remove the CEO under certain conditions. The CEO, however, cannot remove the board, but he or she can endeavor to have the board voted out and a new board voted in should a conflict arise. It is possible for a person to simultaneously serve as CEO and chairman of the board, though many corporate control experts believe it is bad to vest both offices in the same person. c. The CFO generally reports to the firm's chief accounting officer, who is normally the controller. d. The CFO is responsible for raising capital and for making sure that capital expenditures are desirable, but he or she is not responsible for the validity of the financial statements, as the controller and the auditors have that responsibility. e. By law in most states, the chairman of the board must also be the CEO.

b. The board of directors is the highest ranking body in a corporation, and the chairman of the board is the highest ranking individual. The CEO generally works under the board and its chairman, and the board generally has the authority to remove the CEO under certain conditions. The CEO, however, cannot remove the board, but he or she can endeavor to have the board voted out and a new board voted in should a conflict arise. It is possible for a person to simultaneously serve as CEO and chairman of the board, though many corporate control experts believe it is bad to vest both offices in the same person.

Which of the following statements is CORRECT? a. Some of the cash flows shown on a time line can be in the form of annuity payments, but none can be uneven amounts. b. Time lines are useful for visualizing complex problems prior to doing actual calculations. c. Time lines cannot be constructed for annuities where the payments occur at the beginning of the periods. d. Time lines cannot be constructed in situations where some of the cash flows occur annually but others occur quarterly. e. A time line is not meaningful unless all cash flows occur annually.

b. Time lines are useful for visualizing complex problems prior to doing actual calculations

Which of the following statements is CORRECT? a. There is a tax disadvantage to incorporation, and there is no way any corporation can escape this disadvantage, even if it is very small. b. Corporate shareholders are exposed to unlimited liability. c. It is usually easier to transfer ownership in a corporation than in a partnership. d. Corporate shareholders are exposed to unlimited liability, but this factor is offset by the tax advantages of incorporation. e. Corporations generally face fewer regulations than proprietorships.

c. It is usually easier to transfer ownership in a corporation than in a partnership.

Casey Communications recently issued new common stock and used the proceeds to pay off some of its short-term notes payable. This action had no effect on the company's total assets or operating income. Which of the following effects occurred as a result of this action?

d. The company's current ratio increased.

The primary operating goal of a publicly-owned firm interested in serving its stockholders should be to

e. Maximize the stock price per share over the long run, which is the stock's intrinsic value.

Which of the following statements is CORRECT? a. Corporations face fewer regulations than proprietorships. b. It is generally less expensive to form a corporation than a proprietorship because, with a proprietorship, extensive legal documents are required. c. One disadvantage of operating a business as a proprietor is that the firm is subject to double taxation, because taxes are levied at both the firm level and the owner level. d. If a partnership goes bankrupt, each partner is exposed to liabilities only up to the amount of his or her investment in the business. e. One advantage of forming a corporation is that equity investors are usually exposed to less liability than they would be in a partnership.

e. One advantage of forming a corporation is that equity investors are usually exposed to less liability than they would be in a partnership.