Finance exam 3
Project Sigma requires an investment of $1 million and has a NPV of $10. Project Delta requires an investment of $500,000 and has a NPV of $150,000. The projects involve unrelated new product lines. The firm can raise unlimited amounts of capital. A. The company should look at other investment criteria, not just NPV. B. Both projects should be accepted because they have positive NPV's. C. Neither project should be accepted because they might compete with one another. D. Only project Delta should be accepted. Alpha's NPV is too low for the investment.
B
A bond is most likely to be called when the market rate is lower than the coupon rate. True False
True
As the maturity date of a bond approaches, the bond's market value approaches its par value. True False
True
Miller Motorworks has a $1,000 par value, 8% annual coupon bond with interest payable semiannually with a remaining term of 15 years. The annual market yield on similar bonds is 6%. This bond will at a discount from par. True False
False
Shorter−term bonds have greater interest rate risk than do longer−term bonds. True False
False
Stock valuation is more precise than bond valuation as stock cash flows are more certain. True False
False
The higher the bond rating, the more default risk associated with the bond. True False
False
correct,9.2-57 Question Help You purchased Photon, Inc. bonds exactly one year ago today for $875. During the latest year, you received $65 in interest on the bonds. The current yield on these bonds is 6.5%. True False
False
A basis point is equal to one hundredth of a percentage point. True False
True
Investment grade bonds are rated BB or lower. True False
False
A bond's value equals the present value of interest and principal the owner will receive. True False
True
Bonds are rated by either Moody's or Standard & Poors or both. True False
True
If the issuing company becomes insolvent, the claims of the bondholders are honored before those of preferred stockholders. True False
True
Lambda Co. has bonds outstanding that mature in 10 years. The bonds have $1,000 par value, pay interest annually at a rate of 9%, and have a current selling price of $1,125. The yield to maturity on the bonds is less than 9%. True False
True
One advantage of the payback method is that it can be readily understood by people with no special training in finance. True False
True
The IRR is the discount rate that equates the present value of the project's future net cash flows with the project's initial outlay. True False
True
The better the bond rating, the lower the rate of return demanded in the capital markets. True False
True
The current yield of a bond will equal its coupon rate when the bond is selling at par value. True False
True
The longer the time to maturity, the more sensitive a bond's price to changes in market interest rates. True False
True
The payback method focuses primarily on the length of time required to recover the cost of the investment rather than estimating the total value the project will add to the firm. True False
True
The rate of return on a bond can be higher or lower than the coupon rate. True False
True
Your company is considering a project with the following cash flows: Initial outlay = $1,748.80 Cash flows Years 1−6 = $500 Compute the IRR on the project. A. 11% B. 24% C. 18% D. 9%
c
ABC Service can purchase a new assembler for $15,052 that will provide an annual net cash flow of $6,000 per year for five years. Calculate the NPV of the assembler if the required rate of return is 12%. (Round your answer to the nearest $1.) A. $6,577 B. $4,568 C. $7,621 D. $1,056
a
From the issuing firm's point of view, one advantage of preferred stock over bonds is A. a dividend payment can be skipped without triggering bankruptcy. B. preferred dividends are a deductible expense for tax purposes. C. preferred voting privileges concentrate power in the hands of managers and major shareholders. D. all of the above
a
Government bonds have lower yield to maturity than do corporate bonds of the same maturity because the ________ premium is lower for government bonds. A. default B. maturity C. interest rate risk D. inflation
a
LIBOR last week was 1.88%, this week it is 1.91%. SC Corp. has borrowed $1,000,000 from North Pole Bank at a rate of one half a percentage point above LIBOR with cap of 2.5% and a floor of 2.0%. What interest was charged to SC last week? A. 2.38%. B. 2.0% C. 2.48% D. 2.5%
a
Quirk Drugs sold an issue of 30−year, $1,000 par value bonds to the public that carry a 10.85% coupon rate, payable semiannually. It is now 10 years later, and the current market rate of interest is 9.00%. If interest rates remain at 9.00% until Quirk's bonds mature, what will happen to the value of the bonds over time? A. The bonds will sell at a premium and decline in value until maturity. B. The bonds will sell at a discount and fall in value until maturity. C. The bonds will sell at a discount and rise in value until maturity. D. The bonds will sell at a premium and rise in value until maturity.
a
The Blackburn Group has recently issued 20−year, unsecured bonds rated BB by Moody's. These bonds yield 443 basis points above the U.S. Treasury yield of 2.76%. The yield to maturity on these bonds is A. 7.19% B. 4.43%. C. mortgage bonds. D. 12.23%
a
The nominal interest rate A. includes inflation and the real rate of interest. B. is the rate at which banks lend money to other banks. C. does not include inflation. D. ignores the Fisher effect.
a
The yield on a corporate bond with a 20 year maturity would include A. the risk−free rate plus a default risk premium, a liquidity risk premium and a maturity risk premium. B. only the real rate of interest and expected inflation. C. the real rate of interest, the expected inflation rate and a default risk premium. D. the risk−free rate multiplied by 1+ default rate.
a
The yield to maturity on a bond A. is the required return on the bond. B. is lower for higher−risk bonds. C. is fixed in the indenture. D. is generally equal to the coupon interest rate.
a
We compute the profitability index of a capital−budgeting proposal by A. dividing the present value of the annual after−tax cash flows by the cost of the project. B. multiplying the cash inflow by the IRR. C. dividing the present value of the annual after−tax cash flows by the cost of capital. D. multiplying the IRR by the cost of capital.
a
Which investor incurs the greatest risk? A. Common stockholder B. Mortgage bondholder C. Preferred stockholder D. Debenture bondholder
a
Which of the following is a typical capital budgeting decision? A. Replacement of manufacturing equipment with more modern and efficient equipment B. Purchase of office supplies C. Granting credit to a new customer D. Financing the firm with more long−term debt and less equity
a
Which of the following statements about bonds is true? A. The market value of a bond moves in the opposite direction of market interest rates. B. As the maturity date of a bond approaches, the market value of a bond will become more volatile. C. If market interest rates are higher than a bond's coupon interest rate, then the bond will sell above its par value. D. Long−term bonds are less risky than short−term bonds. E. None of the above.
a
correct,9.3-76 Question Help If the market price of a bond increases, then A. the yield to maturity decreases. B. the yield to maturity increases. C. the coupon rate increases. D. none of the above.
a
A bond investor seeking capital gains should purchase A. bonds with short maturity dates when interest rates are expected to decline. B. bonds with distant maturity dates when interest rates are expected to decline. C. bonds with distant maturity dates when interest rates are expected to rise. D. bonds with short maturity dates when interest rates are expected to rise.
b
A new forklift under consideration by Home Warehouse requires an initial investment of $100,000 and produces annual cash flows of $50,000, $40,000, and $30,000. Which of the following will not change if the required rate of return is increased from 10% to 12%. A. The profitability index. B. The internal rate of return. C. The modified internal rate of return. D. The net present value.
b
Aroma Candles, Inc. is evaluating a project with the following cash flows. The project involves a new product that will not affect the sales of any other project. Which two methods would always lead to the same accept/reject decision for this project, regardless of the discount rate? Year Cash Flows 0 ($120,000) 1 $30,000 2 $70,000 3 $90,000 A. Payback and Discounted Payback B. NPV and IRR C. Discounted Payback and IRR D. NPV and Payback
b
Bond ratings directly affect a bond's A. call provisions. B. spread over the Treasury yield. C. maturity date. D. coupon rate.
b
Businesses that wish to issue public debt will usually seek help from A. a large life insurance company. B. an investment banking firm. C. the Federal Reserve bank. D. a state or union pension fund.
b
Common shareholders have a claim on the company's assets A. after the claims of the preferred shareholders have been satisfied, but before the debt holders. B. only after the claims of debtholders and preferred shareholders have been satisfied. C. at any time, equal to the value of their shares. D. never. Common shareholders have no claim on the company's assets.
b
Durand Chemicals with headquarters in Delaware issues bonds in France with interest and principal payable in U.S. dollars. This bond is A. a discounted bond. B. a Eurobond. C. a convertible bond. D. a subordinated debenture.
b
Green Corp.'s preferred stock is selling for $20.83. If the company pays $2.50 annual dividends, what is the expected rate of return on its stock? A. 8.33% B. 12.00% C. 20.00% D. 2.50%
b
Horizon Communications stock pays a fixed annual dividend of $3.00. Because of lower inflation, the market's required yield on this preferred stock has gone from 12% to 10%. As a result A. the value of Horizon's preferred decreased by $5.00. B. the value of Horizon's preferred increased by $5.00. C. Horizon's dividend decreased by 6 cents. D. the value of Horizon's preferred increased by $3.00.
b
If current market interest rates fall, what will happen to the value of outstanding bonds? A. It will fall. B. It will rise. C. It will remain unchanged. D. There is no connection between current market interest rates and the value of outstanding bonds.
b
If current market interest rates rise, what will happen to the value of outstanding bonds? A. It will remain unchanged. B. It will fall. C. It will rise. D. There is no connection between current market interest rates and the value of outstanding bonds.
b
Project H requires an initial investment of $100,000 and the produces annual cash flows of $50,000, $40,000, and $30,000. Project T requires an initial investment of $100,000 and the produces annual cash flows of $30,000, $40,000, and $50,000. If the required rate of return is greater than 0% and the projects are mutually exclusive A. T will always be preferable to H. B. H will always be preferable to T. C. H and T are equally attractive. D. The project rankings will change with different discount rates.
b
The expected rate of return on a share of common stock whose dividends are growing at a constant rate (g) is which of the following? A. (D1 + g)/Vc B. D1/Vc + g C. D1/Vc D. D1/g
b
The P/E ratio is calculated by dividing A. the current stock price by operating cash flow per share. B. the current stock price by earnings per share. C. the current stock price by stockholders' equity. D. total assets by net income.
b
Use the following information to answer the following question. Below are the expected after−tax cash flows for Projects Y and Z. Both projects have an initial cash outlay of $20,000 and a required rate of return of 17%. Project Y Project Z Year 1 $12,000 $10,000 Year 2 $8,000 $10,000 Year 3 $6,000 0 Year 4 $2,000 0 Year 5 $2,000 0 Payback for Project Y is A. one year. B. two years. C. three years. D. four years.
b
Webley Corp. is considering two expansion options, but does not have enough capital to undertake both. Project W requires an investment of $100,000 and has an NPV of $10,000. Project D requires an investment of $80,000 and has an NPV of $8,200. If Webley uses the profitability index to decide, it would A. choose W because it has a higher profitability index. B. choose D because it has a higher profitability index. C. choose W because it has a lower profitability index. D. choose D because it has a lower profitability index.
b
Which of the following features allows a borrower to redeem or repurchase a bond issue before its maturity date? A. floating rate B. the call provision C. convertibility D. the priority of claims
b
Which of the following is a correct equation to solve for the NPV of the project that has an initial outlay of $30,000, followed by incremental cash inflows in the next 3 years of $15,000, $20,000, and $30,000? Assume a discount rate of 10%. A. NPV = − $30,000 + $15,000/(1.01).10 + $20,000/(1.02).10 + $30,000/(1.03).10 B. NPV = − $30,000 + $15,000/(1.10)1 + $20,000/(1.10)2 + $30,000/(1.10)3 C. NPV = − $30,000 + $15,000(1.10)1 + $20,000(1.10)2 + $30,000(1.10)3 D. NPV = − $30,000 + $15,000/(1.1).10 + $20,000(1.2).10 + $30,000(1.3).10
b
When a bond's coupon rate is lower than the required rate of return, the bond A. will sell at a premium over par B. will sell at par value. C. will sell at a discount from par. D. may sell at either a discount or a premium.
c
Which of the following statements about bonds is true? A. Long−term bonds are less risky than short−term bonds. B. If market interest rates change, long−term bonds will fluctuate more in value than short−term bonds. C. If market interest rates are higher than a bond's coupon interest rate, then the bond will sell above its par value. D. Bond prices move in the same direction as market interest rates. E. None of the above.
b
Which of the following statements is true? A. The legal document that describes all of the terms and conditions of a bond issue is called a debenture agreement. B. A bond will sell at a premium if the prevailing required rate of return is less than the bond's coupon rate. C. A zero coupon is a bond that is secured by a lien on real property. D. A bond that has a rating of AA is considered to be a junk bond.
b
You are evaluating the purchase of Charbridge, Inc. common stock which currently pays no dividend and is not expected to do so for many years. Because of rapidly growing sales and profits, you believe the stock will be worth $51.50 in 3 years. If your required rate of return is 16%, what is the stock worth today? A. $51.25 B. $32.99 C. $59.74 D. $0.00 because stocks that do not pay dividends have no value.
b
A decrease in the ________ will cause an increase in common stock value. A. growth rate B. last paid dividend C. required rate of return D. both B and C
c
A $1,000 par value 10−year bond with a 10% coupon rate recently sold for $900. The yield to maturity A. is less than 10%. B. is 10%. C. is greater than 10%. D. cannot be determined.
c
Bonds with ratings lower than Standard & Poor's BBB or Moody's Baa are classified as A. investment grade. B. medium quality. C. not investment grade. D. in default.
c
Butler, Inc.'s return on equity is 17% and management retains 75% of earnings for investment purposes. Based on this information, what will be the firm's growth rate? A. 44.12% B. 22.67% C. 12.75% D. 4.25%
c
Cassel Corp. bonds pay an annual coupon rate of 10%. If investors' required rate of return is now 8% on these bonds, they will be priced at A. a discount to par value. B. par value. C. a premium to par value. D. cannot be determined from information given.
c
Common stockholders are essentially A. managers of the firm. B. creditors of the firm. C. owners of the firm. D. all of the above.
c
Fris B. Corporation stock is currently selling for $42.86. It is expected to pay a dividend of $3.00 at the end of the year. Dividends are expected to grow at a constant rate of 3% indefinitely. Compute the required rate of return on FBC stock. A. 4.3% B. 33% C. 10% D. 7%
c
If a company has issued preferred stock A. preferred shareholders will be allowed to choose one or more members of the board of directors. B. the common shareholders will have weaker voting rights. C. preferred dividends will have to be paid before the company can pay dividends on common stock. D. dividends on preferred stock will be higher than the common dividends.
c
If a stock has a much higher than normal P/E ratio, investors probably expect A. slow growth in earnings. B. large increases in the price of the stock. C. rapid growth in earnings. D. a declining stock price
c
Interest rates have increased by 50 basis points (0.5%). Which of the following bonds will decline most in price? All of the bonds have AA ratings. A. A bond that matures in 10 days B. All of the bonds will decline in price by approximately the same amount. C. A bond that matures in 10 years. D. A bond that matures in 5 years
c
P. Noel Company's common stock has just paid a $2.00 dividend. If investors believe that the expected rate of return on P. Noel is 14% and that dividends will grow at the rate of 5% per year for the foreseeable future, what is the value of a share of P. Noel stock? A. $40.00 B. $15.00 C. $23.33 D. $22.22
c
The detailed legal agreement between a bond's issuer and and its trustees is known as the A. call provision. B. covenant. C. indenture. D. collateral agreement.
c
What allows common stockholders the right to cast a number of votes equal to the number of directors being elected? A. The majority voting provision B. The proxy method C. The cumulative voting provision D. The casting feature
c
A bond with a face value of $1,000 has annual coupon payments of $100 and was issued seven years ago. The bond currently sells for $1,085, has eight years left to maturity. This bond's ________ must be less than 10%. A. coupon rate B. current yield C. current yield and coupon rate D. yield to maturity and current yield
d
As interest rates, and consequently investors' required rates of return, change over time, the ________ of outstanding bonds will also change. A. maturity date B. par value C. coupon interest payment D. price
d
Common stockholders expect greater returns than bondholders because A. they bear greater risk. B. in the event of liquidation, they are only entitled to receive any cash that is left after all creditors are paid. C. they have no legal right to receive dividends. D. all of the above.
d
Compute the payback period for a project with the following cash flows, if the company's discount rate is 12%. Initial outlay = $450 Cash flows: Year 1 = $325 Year 2 = $65 Year 3 = $100 A. 2.88 years B. 3.17 years C. 3.43 years D. 2.6 years
d
If a company has a return on equity of 25% and wants a growth rate of 10%, how much of ROE should be retained? A. 70% B. 60% C. 50% D. 40%
d
If a project has a profitability index greater than 1, A. the npv will also be positive. B. the present value of future cash flows will exceed the amount invested in the project. C. the irr will be higher than the required rate of return. D. all of the above.
d
On any given day, a bond can be issued at A. a premium. B. a discount. C. par. D. any of the above.
d
Piercing Publishers recently issued preferred stock with a fixed annual dividend of $3.00 per share. Investors require a 5% return on similar preferred stock issues. The stock is currently selling for $65. Is the stock a good buy? A. No, as it is overvalued $10. B. Yes, as it is undervalued $10. C. Yes, as it is undervalued $5. D. No, as it is overvalued $5.
d
Project Ell requires an initial investment of $50,000 and the produces annual cash flows of $30,000, $25,000, and $15,000. Project Ess requires an initial investment of $60,000 and then produces annual cash flows of $25,000 per year for the next ten years. The company ranks projects by their payback periods. A. Projects with unequal lives cannot be ranked using the payback method. B. Ell and Ess will be ranked equally. C. Ess will be ranked higher than Ell. D. Ell will be ranked higher than Ess.
d
Suppose you determine that the NPV of a project is $1,525,855. What does that mean? A. The project would add value to the firm. B. The present value of positive cash flows exceeds the present value of negative cash flows. C. If they are mutually exclusive, this project should be preferred to one that has an NPV of $850,000. D. All of the above
d
The discount rate used to value a bond is A. fixed for the life of the bond. B. the coupon interest rate. C. determined by the issuing company. D. the market rate of interest.
d
The interest on corporate bonds is typically paid A. quarterly. B. monthly. C. annually. D. semiannually.
d
The par value of a bond A. is determined by the investor. B. is never returned to the bondholder. C. never equals its market value. D. generally is $1,000.
d
What is the value of a bond that matures in three years, has an annual coupon payment of $110, and a par value of $1,000? Assume a required rate of return of 11%, and round your answer to the nearest $10. A. $330 B. $970 C. $1,330 D. $1,000
d
When a bond's coupon rate is higher than the required rate of return, the bond A. will sell at par value. B. may sell at either a discount or a premium. C. will sell at a discount from par. D. will sell at a premium over par
d
Which of the following provisions is unique to preferred stockholders and usually NOT available to common stockholders? A. Cumulative dividends feature B. Voting rights C. Fixed dividend D. Both A and C
d
Which of the following would be considered a capital budgeting decision? A. Apple sells bonds and uses the proceeds to repurchase stock. B. Goldman Sachs obtains short−term loans to finance day to day operations. C. Walmart purchases inventory for resale to customers. D. Pfizer develops a new therapy and brings it to market.
d
KDP's most recent dividend was $2.00 per share and is selling today in the market for $70. The dividend is expected to grow at a rate of 7% per year for the foreseeable future. If the market return is 10% on investments with comparable risk, should you purchase the stock? A. No, because the stock is overpriced $1.33. B. Yes, because the stock is underpriced $3.33. C. No, because the stock is overpriced $3.33. D. Yes, because the stock is underpriced $1.33.
d
The par value of a corporate bond indicates the level of interest payments that will be paid to investors. True False
false
According to the modified internal rate of return (MIRR) technique, when a project's MIRR is greater than its cost of capital, the project should be accepted. True False
true
If the NPV of a project is zero, then the profitability index should equal one. True False
true
The profitability index provides the same accept/reject decision result as the net present value (NPV) method but would not necessarily rank mutually exclusive projects the same way. True False
true