FIN Final Study Questions
-Barry Corporation expects free cash flow of $110 thousand at the end o the year, and steady growth from here on. Its WACC is 12% and its expected growth rate is 5%. What is the value of Barry Corporation today?
$1,571,429
-Dang's Donuts has EBIT of $25,432, depreciation of $1,500, and a tax rate of 18%. The company will not be changing its net working capital, but plans a capital expenditure of $6,324. What is Dang's adjusted cash flow from assets?
$16,030.24
-If you receive a $2 dividend per share on your 100 shares, your total income is _____.
$200
-What are the after-tax earnings for HU Corporation if it reports $200 in revenue, $90 in operating expenses, has a tax rate of 30% and pays $20 in interest on its bonds?
$63
-UCL and LEV have earnings before interest and taxes of $110, LEV also has $20 of interest expense. Both companies are taxed at 30 percent, ULC's aftertax earnings are _____, which is _____ than LEV's aftertax earnings.
$77; $14 greater
-If security ABC has a beta of 1.5 and security of XYZ has a beta of 1, what is the beta of a portfolio that is equally invested in both securities?
1.25
-A firm's capital structure consists of 40 percent debt and 60 percent equity. The aftertax yield on debt is 2.5 percent and the cost of equity is 15 percent. The project is about as risky as the overall firm. What discount rate should be used to estimate the project's net present value?
10%
-The weighted average of the standard deviation of the assets in Portfolio C is 12.9%. Which of the following is a possible value for the standard deviation of the portfolio?
12.9% & 10.9% (The standard deviation of a portfolio is less than or equal to the weighted average of the standard deviations of the assets in the portfolio.)
-The probability of an outcome being TWO STANDARD DEVIATIONS BELOW the mean in a normal distribution is approximately _____ percent.
2.5 (The probability of an outcome being two standard deviations below the mean in a normal distribution is approximately 2.5 percent. This is true because there is a 95% probability that it is within two standard deviations of the mean. Because the normal distribution is symmetric, there must be a 0.05/2=0.025 probability of the outcome being 2 standard deviations below or above the mean.)
-The standard deviation for large-company stock returns from 1926-2010 is:
20.2%
-Which of the following is true?
A company can deduct interest paid on debt when computing taxable income.
-The best way to include flotation costs is to _____.
Add them to the initial investment.
-The discount rate for the firm's projects equals the cost of capital for the firm as a whole when _____.
All projects have the same risk as the current firm.
-Capital gain on a stock results from _____.
An increase in stock price.
-Economic Value Added (EVA) uses the weighted average cost of capital to determine if value is:
Being created or destroyed
-In the _____ method of issuing securities, the underwriting syndicate avoids the risk of unsold securities.
Best efforts
-Some risk adjustment to a firm's WACC or projects of differing risk, even if it is subjective, is probably:
Better than no risk adjustment.
-WACC is used to discount _____ _____.
Cash flows
-The _____ rate of return is the difference between risky returns and risk-free returns.
Excess.
-What is the equation for the capital asset pricing model?
Expected return on security = Risk-free rate + Beta X (Return on market - Risk-free rate)
-True or false: A well-diversified portfolio will eliminate all risks.
FALSE
-Finding a firm's overall cost of equity is difficult because:
It cannot be observed directly.
-What is systematic risk?
It is a risk that pertains to a large number of assets.
-The formula for calculating the cost of equity capital that is based on the dividend discount model is:
RE = D1/P0 + g
-The market risk premium is defined as:
RM - Rf
-What is the required return on a stock (RE), according to the constant dividend growth model, if the growth rate (g) is zero?
Re= D1/P0
-The CAPM can be used to estimate the _____.
Required return on equity.
-Which type of risk is unaffected by adding securities to a portfolio?
Systematic risk
-Which one of the following types of risk is not reduced by diversification?
Systematic risk cannot be diversified away. Or market risk
-What is the intercept of the security market line (SML)?
The risk-free rate (Beta is the independent variable and is plotted on the x-axis. The intercept is the risk-free rate)
-According to the capital asset pricing model (CAPM), what is the expected return on a security with a beta of zero?
The risk-free rate of return.
-The standard deviation is _____.
The square root of the variance.
-An advertisement used after the registration waiting period to announce a new securities issue is called a _____.
Tombstone
-A good source for bond quotes is:
www.finra.org/marketdata
-In an efficient market:
• Assets are priced at the present value of their future cash flows. • All investments have NPV=0
-To apply the dividend growth model to a particular stock, you need to estimate the _____.
• Dividend yield for the next period • Growth rate
-If the risk premium of stock JKL is 5 percent while the standard deviation is 10 percent, then the Sharpe ratio equals _____.
(.05/.10 =) .5
-Marks Company believes that there is a sixty percent chance of a recession and a forty percent chance of a boom. In the case of recession, the company expects to earn a 2% return. In the case of a boom, the company expects to earn 22%. What is the Marks Company's expected return?
(0.6*0.0+0.4*0.22)=0.10
-What is the return on a portfolio that consists of: $50,000 in an index fund, $30,000 in a bond fund, and $20,000 in a foreign stock fund? The expected returns are 7 percent, -3 percent, and 18 percent, respectively.
(.5 X 7% + .3 X -3% + .2 X 18% =) 6.2%
-Including preferred stock in the WACC adds the term:
(P/V)Rp
If an all-equity firm's beta is 2, the risk-free rate is 3%, and the historical market risk premium is 7%, what is the firm's cost of capital?
17%
-If a firm issues no debt, its average cost of capital will equal _____.
Its cost of equity.
-Other companies that specialize only in projects similar to the project your firm is considering are called. ____.
Pure plays
-Historically, the real return on Treasury bills has been:
Quite low
-Palmer Company had the following returns: 2009 12% 2010 10% 2011 -8% 2012 4% 2013 22% What is the STANDARD DEVIATION of Palmer's returns?
Square root of variance = 11.04%
-Kate corporation has discovered a very secret new product, but hasn't yet announced the discover to the public. If the stock price reacts before the announcements (assuming no corporate "leaks"), the market is:
Strong form efficient
-A normal distribution has a _____ shape.
Symmetrical
-What is the expected return on a security with beta of 1?
The expected return on the market.
-Average returns can be calculated:
Two different ways.
-Which new issue cost results from a stock initially being sold for less than its true value?
Underpricing
-The Ibbotson-Sinquefield data shows that _____.
• Long-term corporate bonds had less risk or variability than stocks. • U.S. T-bills had the lowest risk or variability
-To estimate a firm's equity cost of capital using the CAPM, we need to know the _____.
• Market risk premium • Risk-free rate • Stock's beta
-The most appropriate weights to use in the WACC are the _____ weights.
Market value
-If a cash offer is a public offer, a(n) _____ is usually involved.
Underwriter
-If you wish to create a portfolio of stocks, what is the required minimum number of stocks?
You must invest in stocks of more than one corporation.
-If a stock has returns of 10 percent and 20 percent over 2 years, the geometric average rate of return can be calculated by _____.
[(1.10)(1.20)]^2-1
-Including the preferred stock in the WACC adds the term:
(P/V)XRp
-What will your capital gain be if you hold 40 shares of BP stock and the stock price rises from $27 to $40 a share?
(40 X [$40 - 27] =) $520
-The price of a stock drops from $50 to $40 per share. If you own 50 shares, your total capital loss is _____.
([$40 - 50] X 50 =) $500
-You have estimated the following returns for Companies X and Y: Company Return in recession Return in Boom X -3% 20% Y -8% 30% If Boom and Recession have an equal probability of occurring, what is the expected return on a portfolio consisting of 80% Company X and 20% Company Y?
Company X Expected return is 0.085 Company Y Expected return is 0.11 Expected return on the portfolio is 9%
-With the_____ method of selecting a syndicate, the issuing firm offers its securities to the highest biding underwriter.
Competitive offer
-True or false: Systematic risk will impact all securities in every portfolio equally.
FALSE (While it is possible, it is highly unlikely that systematic risk such as changes in interest rates will affect all firms equally.)
-Which, of the following is a conclusion that can be drawn regarding market efficiency from capital market history?
Future market prices are hard to predict based on publicly available information.
-Stock prices fluctuate from day to day because of:
Information flow
-An efficient market is one that fully reflects all available _____.
Information.
-The capital gains yield can be found by finding the difference between the ending stock price and the initial stock price and dividing it by the ____.
Initial stock price.
-In reality, most firms cover the equity portion of their capital spending with _____.
Internally generated cash flow.
-There is _____ correlation between the unsystematic risk of two companies from different industries.
NO
-When is a new issue usually priced?
On the effective date of the registration statement.
-In the world of star-up ventures, OPM stands for _____.
Other people's money
-It would be useful to understand how the _____ of the risk premium on a risky asset is determined.
Size
-Which of the following methods for calculating the cost of equity ignores risk?
The dividend growth model.
-In the 1999-2000 time period, companies missed out on $63 billion because of _____.
Underpricing.
-A Dutch auction underwriting is also known as a(n) _____.
Uniform price auction.
-An initial public offering (IPO) is also referred to as a(n) _____.
Unseasoned new issue.
-The square of the standard deviation s equal to the _____.
Variance
-Financing from wealthy individuals or private investment groups is referred to as _____.
Venture
-A distribution tends to have a smooth shape when the number of observations is _____.
Very large
-What does WACC stand for?
Weighted Average Cost of Capital
-The efficient markets hypothesis contends that _____ capital markets such as the NASDAQ are efficient.
Well-organized.
-What are the two components of unexpected return (U) in the total return equation?
• The unsystematic portion • The systematic portion
-Arrange the following investments in ascending order from lowest historical risk premium to highest historical risk premium:
• U.S. Treasury Bills • Long-term corporate bonds • Large-company stocks • Small-company stocks
-The Ibbotson-Sinquefield data presents returns from 1925 to the recent past for:
• US T-bills • Large-cap stocks • Small-cap stocks
-What is the expected return of a portfolio consisting of stocks A and B if the expected return is 10 percent for A and 15 percent for B? Assume you are equally invested in both the stocks.
12.5%
-Possible explanations of the drop in a stock's price after an announcement of a new equity issue are that the announcement is an indication that _____.
• The firm has too much debt • Management believes the firm is overvalued.
-Suppose you buy a share of stock for $100. At the end of one year the stock price is $114 and a $1 dividend is paid. If you do not sell the stock, your total annual return is _____.
15%
-The Sharpe ratio measures _____.
Reward to risk.
-If an all-equity firm discounts a project's cash flows with the firm's overall weighted average cost of capital even though the project's beta is less than the firm's overall beta, it is possible that the project might be:
Rejected, when it should be accepted.
-The arithmetic average rate of return measures the _____.
Return in an average year over a given period.
-Which of the following are components used in the construction of the WACC?
• Cost of preferred stock • Cost of common stock • Cost of debt
-When a dollar in the future is discounted to the present it is worth less because of the time value o money, but when a news item is discounted, it means that the market:
Already knew
-A project should only be accepted if its return is above what is _____.
Required by investors
-In an efficient market, firms should expect to receive _____ value for securities they sell.
Fair
-An agreement in an underwriting contract that prohibits insider shares from being sold immediately following a IPO is called a _____ period.
Lockup
-Mona Corporation has a variance of returns of 343, while Scott Corporation has a variance of returns of 898. Which company's actual returns vary more from their mean return?
Scott Corporation
-The market for venture capital refers to:
The private financial marketplace for new or distressed firms.
-If a security's expected return is equal to the expected return on the market, its beta must be _____.
1
-If a preferred stock pays a dividend of $2 per year and is selling for $20, its yield is:
10%
-Suppose the risk-free rate is 5 percent, the market rate of return is 10 percent, and beta is 2. Find the required rate of return using the CAPM.
15%
-If stock ABC as a mean return of 10 percent with a standard deviation of 5 percent, then the probability of earning a return greater than 15 percent is about _____ percent.
16%
-If the risk-free rate is 4 percent, an all-equity firm's beta is 3, and the market risk premium is 6 percent, what is the firm's cost of capital?
16%
-What is the arithmetic average return for a mutual fund that reported a return of 5% every year for the last 3 years?
5%
-When a dollar in the future is discounted to the present it is worth less because of the time value of money, but when a news item is discounted, it means that the market:
Already knew about most of the news item.
-The CAPM formula is:
E(RE)=Rf+B(E(RM)-Rf)
-True or false: Since the CAPM equation can be used only for individual securities, it cannot be used with portfolios.
FALSE
-An investment bank that underwrites a security issue by buying the securities for less than the offering price and accepting the risk that the securities won't sell is using the _____ method.
Firm commitment
-An important advantage to a firm raising equity internally is not having to pay _____.
Flotation costs.
-Dividends are the _____ component of the total return from investing in a stock.
Income
-If a security's expected return is equal to the risk-free rate of return, and the market-risk premium is greater than zero, what can you conclude about the value of the security's beta based on CAPM?
It is equal to 0. E(RT) = RT + βT(RM --R¬¬T) = RT βT = 0
-What is risk premium?
It is the additional compensation for taking risk, over and above the risk-free rate.
-A document required by the SEC for new public issues that contains the issuing firm's financial information, financial history, and details of the existing business is known as the _____.
Registration statement
-The cost of capital is an appropriate name since a project must earn enough to pay those who _____ the capital.
Supply
-True or false: The existence of traders attempting to beat the market is a necessary precondition for markets to become efficient.
TRUE (without such professional traders, prices would fail to reflect all relevant information)
-Which of the following variables is NOT required when using the CAPM to compute the cost of equity capital?
The rate of inflation.
-According to the CAPM, what is the expected return on a stock if its beta is equal to zero?
The risk-free rate
-What is the equation for total return as a function of expected and unexpected returns?
Total return = Expected return + Unexpected return
-One of the disadvantages of using historical returns to estimate the market risk premium is that the past may not be a good guide to the future:
When economic conditions change quickly.
-What two factors determine a stock's total return?
• Unexpected return • Expected return
-You bought one share of stock for $100 and received a $2 dividend. If the price of the stock rose to $103, then your total dollar return would be _____.
($103 - 100 + 2 =) $5
-If you buy a stock for $50. After one year, its price rises to $55, and it pays a $2 dividend. You do not sell the stock. Your capital gains yield is _____.
([55 - 50]/50 =) 10%
-If the variance of a portfolio is .0025, what is the standard deviation?
5%
-What is variance?
A measure of the squared deviations of a security's return from its expected return.
-Percentage returns are more convenient than dollar returns because they _____.
Apply to any amount invested.
-When a company declares a dividend, shareholders generally receive _____.
Cash
-if the firm is all-equity, the discount rate is equal to the firm's cost of _____ capital.
Equity
-The costs associated with new issues are known as _____.
Flotation costs.
-If the variance of a portfolio increases, then the portfolio standard deviation will _____.
Increase
-What is a risk premium?
It is additional compensation for taking risk, over and above the risk-free rate.
-The year 2008 was:
One of the worst years for stock market investors in U.S. history.
-Which type of risk does not change as we add more securities to a portfolio?
Systematic or market, risk
-When an investor is diversified only _____ risk matters
Systematic.
-True or false: It is possible for the unsystematic risk of a portfolio to be reduced to practically zero.
TRUE
-True or false: The most difficult part of the underwriting process for an initial public offering is determining the correct offer price.
TRUE
-Blume's formula combines
The arithmetic average return and the geometric average return.
-What is the slope of the security market line (SML)?
The market-risk premium
-In the Ibbotson-Sinquefield studies, long-term corporate bonds have which of the following characteristics?
• High quality • 20-year maturities.
-Preferred stock
• Pays dividends in perpetuity • Pays a constant dividend.
-If stock ABC has a mean return of 10 percent with a standard deviation of 5 percent, then the probability of earning a negative return is approximately _____ percent.
2.5
-John's portfolio consists of $1,200 worth of Chi Corporation common stock and $400 worth of Lambda Corporation common stock, Lambda's portfolio weight is 25%, and Chi's portfolio weight is:
75% (*must equal 1.00)
-The calculation of a portfolio beta is similar to the calculation of:
A portfolio's expected return.
-The geometric rate of return takes ______ into account.
Compounding.
-Which of the following are tax-deductible to the firm?
Coupon interest paid on bonds.
-With the _____ method of issuing securities, the underwriter determines the offer price based on submitted bids.
Dutch auction underwriting.
-True or false: Projects should always be discounted at the firm's overall cost of capital.
FALSE
-What does the security market line depict?
It is a graphical depiction of the capital asset pricing model. It shows the relationship between expected return and beta.
-What is unsystematic risk?
It is a risk that affects a single asset or a small group of assets.
-An investment will have a negative NPV when its expected return is _____ _____ what the financial markets offer for the same risk.
Less than
-Normally, the excess rate of return on risky assets is _____.
Positive
-The systematic risk principle argues that the market does not reward risks:
That are borne unnecessarily.
-Which of the following is commonly used to measure inflation
The Consumer Price Index (CPI)
-A company must file a registration statement with the SEC unless:
The issue is less than $5 million.
-Historically, there is a(n) _____ relationship between risk and expected return in the stock market.
Direct
-The return an investor in a security receives is _____ _____ the cost of the security to the company that issued it.
Equal to
-The second lesson from studying capital market history is that risk is:
Handsomely rewarded
-If the dispersion of returns on a particular security is very spread out from the security's mean return, the security _____.
Is highly risky
-If you buy 100 shares of ABC stock at $5 per share, your total investment is _____?
$500
-Palmer Company had the following returns: 2009 12% 2010 10% 2011 -8% 2012 4% 2013 22% What is the VARIANCE of Palmer's returns?
0.0122
-A firm has a target debt-equity ratio of 0.5, but it plans to finance a new project with all the debt. What debt-equity ratio should be used when calculating the project's flotation costs?
0.5
-By definition, what is the beta of the average asset equal to?
1
-What is the expected return of a security with a beta of 1.2 if the risk-free rate is 4 percent and the expected return on the market is 12 percent?
13.6%
-What is the expected return on a security with a beta of 1.2 if the risk-free rate is 4 percent and the expected return on the market is 12 percent?
13.6%
-WACC was used to compute the following project NPVs: Project A = $100, Project B = -$50, Project C = -$10, Project D = $40. Which projects should the firm accept?
A and D
-_____ were a bright spot for U.S. investors during 2008.
Bonds.
-Flotation costs are costs incurred to _____.
Bring new security issues to the market.
-Variance is measured in _____, while standard deviation is measured in _____.
Percent squared; percent
-A red herring is another name for a _____.
Preliminary prospectus
-The available evidence indicates that there are pronounced cycles in which of the following?
• The number of IPOs • The degree of IPO underpricing.
-What does variance measure?
• It measures the dispersion of the sample of returns. • It measures the riskiness of a security's return. *Variance measures the dispersion of the sample of returns.
-The average return on the stock market can be used to _____.
Compare stock returns with the returns on other securities.
-The minimum required return on a new project when its risk is similar to that of projects the firm currently owns is known as the:
Cost of capital
-One method for estimating the cost of equity is based on the _____ model.
Dividend growth
-The two potential ways to make money as a stockholder are through _____ and capital appreciation.
Dividends
-Match each information type to the form of market efficiency that identifies that type of information as being quickly and accurately reflected in stock prices.
All information -strong form of efficiency all public information -semistrong form of efficiency historical information -weak form of efficiency.
-If an analyst's forecast for a firm's earnings growth is 7 percent, and its dividend yield is 3 percent, its cost of equity will be _____.
Cost of equity = Dividend yield + growth rate = 3% + 7% = 10%
-Sigma Corporation consists of two divisions: A and B. Division A is riskier than Division B. if Sigma Corporation uses the firm's overall WACC to evaluate both Divisions' projects, which Division will probably not receive enough resources to fund all of its potentially profitable project?
Division B
-When dealing with the history of capital market returns, an average stock market return is useful because it _____.
• Is the best estimation of any one year's stock market return during the specified period. • Simplifies detailed market data.
-A firm's cost of debt can be _____.
• Obtained by talking to investment bankers • Obtained by checking yields on publicly traded bonds • Estimated easier than its cost of equity.
-Arrange the following investments from highest to lowest return based on what our study of capital market history has revealed about risk premiums.
• Small-company common stock • Long-term corporate bonds • U.S. Treasury bills
-Which of the following statements are true about variances?
• Standard deviation is the square root of variance. • Variance is a measure of the squared deviations of a security's return from its expected return.
-The Ibbotson-Sinquefield data show that over the long-term _____.
• T-bills, which had the lowest risk, generated the lowest return • Small-company stocks had the highest risk level • Small-company stocks generated the highest average return
-Which of the following are examples of information that may impact the risky return of a stock?
• The Fed's decision on interest rates at their meeting next week. • The outcome of an application currently pending with the Food and Drug Administration.
-If a firm uses its overall cost of capital to discount cash flows from higher risk projects. It will accept _____ projects.
Too many high-risk
-Which of the following are ways to make money by investing in stocks?
• Dividends • Capital gains
-The growth rate of dividends can be found using:
• Historical dividend growth rates • Security analysts' forecasts
-What are the two components of the expected return on the market (Rm)?
• The risk-free rate (Rt) • The risk premium
-Whether a firm obtains capital by debt or equity financing depends on:
• The size of the firm • The firm's life-cycle • The firm's growth prospects
-Which of the following are explanations of underpricing?
• Underpricing is a kind of insurance for the investment banks. • Underpricing occurs with smaller issues in order to attract investors.
-The dividend yield for a 1-year period is equal to the annual dividend amount divided by the _____.
Beginning stock price.
-According to a study by Lee, Lockhead, Ritter and Zhao, direct expenses across all offerings are _____ for equity offers than for debt offers.
Greater
-What is an uncertain or risky return?
It is the portion of return that depends on information that is currently unknown.
-If investors are risk averse, it is reasonable to assume that the risk premium for the stock market will be:
Positive
-The security market line (SML) shows that the relationship between a security's expected return and its beta is _____.
Positive.
-The geometric average rate of return is approximately equal to _____.
The arithmetic mean minus half of the variance.
-Which of the following are true?
• Common stocks frequently experience negative returns. • T-bills sometimes outperform common stocks.
-The WACC is the minimum return a company needs to earn to satisfy _____,
• Its stockholders • Its bondholders
-The risk of owning an asset comes from:
• Surprises • Unanticipated events
-When 100 securities are included, the standard deviation of a portfolio of risky assets falls to about:
20% (When 100 securities are included, the standard deviation of a portfolio of risky assets falls to about 20%. It only takes 10 securities to reduce a portfolio's standard deviation to about 23.7%)
-The probability of an outcome being within + or - two standard deviations of the mean in a normal distribution is approximately _____ percent.
95
More volatility in returns produces _____ difference between the arithmetic and geometric averages.
A larger.
-Based on the capital asset pricing model (CAPM) there is generally _____ relationship between beta and the expected return on a security.
A positive.
-Assets A and B each have an expected return of 10 percent. Asset A has a standard deviation of 12 percent while Asset B has a standard deviation of 13 percent. Which asset would a rational investor choose?
Asset A (A is better as it offers the same return at a lower level of risk)
-If you are forecasting a few decades in the future you should calculate the expected return using:
Blume's formula
-Dividends paid to common stockholders _____ be deducted from the payer's taxable income for tax purposes.
Cannot
-A Green Shoe provision is used to _____.
Cover excess demand and oversubscription.
-What is the definition of expected return?
It is the return that an investor expects to earn on a risky asset in the future.
-Your total year-end value from a one-year investment equals the initial investment plus the total dollar return. It also equals the _____.
Proceeds from the stock sale plus dividends.
-Geometric averages are _____ arithmetic averages.
Smaller than
-A security has a beta of 1, the market risk premium is 8 percent, and the risk-free rate is 3 percent. What will happen to the expected return if the beta doubles?
The expected return will increase to 19% from 11%.
-The difference between the price the issuer receives and the offering price is_____.
The gross spread.
-If your total dollar return was $7 and your dividend was $2, then the price change on your stock must have been _____.
Total dollar return is the sum of the capital gain and the dividend. Because the dividend was $2 and the total dollar return was $7, the capital gain must have been $5.
-What is the expected return for a security if the risk-free rate is 5 percent, the expected return on the market is 9 percent, and the security's beta is 1.5?
11%
-Consider the following two assets: Asset Expected return Beta X 5.8% 0.8 Y 14.2% 1.8 If the risk free rate is 1%, what is the reward-to-risk ration for Asset X?
6.0%
-If you buy a stock for $10 and later sell it for $16, you will have a _____.
Capital gain of $6.
-The total dollar return is the sum of dividends and _____.
Capital gains or losses.
-If the firm issued so much debt that its equity was valueless, its average cost of capital would equal _____.
Its cost of debt.
-True or false: A capital gain on a stock is counted as part of the total return whether or not the gain is realized from selling the stock.
TRUE (An unrealized gain is treated the same as a realized gain when computing the total return.)
-Which of the following are true about the venture capital (VC) market?
• Access to venture capital is very limited • Personal contacts are important in gaining access to the VC market.
-Which of the following are examples of unsystematic risk?
• Labor strikes • Changes in management
Studying market history can reward us by demonstrating that:
• On average, investors will earn a reward for bearing risk • The greater the potential reward is, the greater the risk.
-A firm needs to raise $950,000 but will incur flotation costs of 5 percent. How much will it pay in flotation costs?
$50,000
-A share of common stock currently sells for $100 and will pay a dividend of $2 at the end of the year. If the price is expected to increase to $113 at the end of one year, what is the stock's current dividend yield?
($2/$100) = 2%
-If the arithmetic return is 10% and the variance of returns is 0.05, find the approximate geometric mean.
(0.10 - ½ X 0.05 =) 7.5%
-A firm's capital structure consists of 30 percent debt and 70 percent equity. Its bonds yield 10 percent, pretax, its cost of equity is 16 percent, and the tax rate is 40 percent. What is its WACC
13%
-The probability of an outcome being within + or - one standard deviation to the mean in a normal distribution is approximately ____ percent.
68
-If a firm has multiple projects, each project should be discounted using _____.
A discount rate commensurate with a project's risk
-If the market changes and stock prices instantly and fully reflect new information, which time path does such a change exhibit?
An efficient market reaction.
-Historical return data indicates that as the number of securities in a portfolio increases, the standard deviation of returns for the portfolio:
Declines
-When new securities are added to a portfolio, the total unsystematic risk portion of that portfolio is most likely to _____.
Decrease.
-The period of time before and after an IPO when communication with the public is limited is known as the _____ period.
Quiet.
-According to the CAPM, which of the following events would affect the return on a risky asset?
• A change in the yield on T-bills • A strengthening of the country's currency • Federal reserve actions that affect economy.
-A firm is exposed to both systematic and unsystematic risks. Which of the following are examples of systematic risks?
• An increase in the corporate tax rate • An increase in the Federal funds rate
-The rate used to discount project cash flows is known as the _____.
• Cost of capital • Discount rate • Required return
-What can we say about the dividends paid to common and preferred stockholders?
• Dividends to preferred stockholders are fixed. • Dividends to common stockholders are not fixed
-MNO preferred stock pays a dividend of $2 per year and has a price of $20. If MNO's tax rate is 40 percent, the required rate of return on its preferred stock is _____ percent.
10%
-If the annual stock market returns for Barry Company were 19 percent, and -8 percent, what was the arithmetic mean for those 3 years?
([19 + 13 + -8]/3 =) 8%
-A company has a borrowing rate of 15 percent and a tax rate of 30 percent. What is its aftertax cost of debt?
10.5%
-How can a positive relationship between the expected return on a security and its beta be justified?
Because the difference between the return on the market and the risk-free rate is likely to be positive.
-Which of the following are important considerations when choosing between venture capitalists?
• Financial strength • Style • Exit strategy
-Which of the following are examples of systematic risk?
• Future rates of inflation • Regulatory changes in tax rates.
-As more securities are added to a portfolio, what will happen to the portfolio's total unsystematic risk?
• It may eventually be almost totally eliminated. • It is likely to decrease.
-The SML approach required estimates of:
• The market risk premium • The beta coefficient
-One year ago, Ernie purchased shares of RTF common stock for $100 a share. Today the stock paid a dividend of $1 per share. If the stock currently sells for $114 per share, what is Ernie's total return?
([114 + 1 + 100]/100 = .15 =) 15%
