MBA 702 M5-1

Travis & Sons has a capital structure that is based on 45% debt, 5% preferred stock, and 50% common stock. The pretax cost of debt is 8.3%, the cost of preferred is 9.2%, and the cost of common stock is 15.4%. The tax rate is 21%. A project is being considered that is equally as risky as the overall company. This project has initial costs of $287,000 and annual cash inflows of $91,000, $248,000, and $145,000 over the next 3 years, respectively. What is the projected net present value of this project? A. $116,667 B. $121,802 C. $99,011 D. $104,308 E. $101,493

$101,493

Tidewater Fishing has a current beta of 1.16. The market risk premium is 6.8% and the risk-free rate of return 2.9%. By how much will the cost of equity increase if the company expands its operations such that the company beta rises to 1.18? A. .28% B. .14% C. .26% D. .12% E. .43%

.14%

Highway Express has paid annual dividends of $1.32, $1.33, $1.38, $1.40, and $1.42 over the past five years, respectively. What is the average divided growth rate? A. 1.85% B. 2.16% C. 1.98% D. 2.47% E. 2.39%

1.85%

Southern Bakeries just paid its annual dividend of $.48 a share. The stock has a market price of $17.23 and a beta of .93. The return on the U.S. Treasury bill is 3.1 percent and the market risk premium is 7.6 percent. What is the cost of equity? A. 9.98% B. 10.04% C. 10.17% D. 10.30% E. 10.45%

10.17%

Grill Works has 6% preferred stock outstanding that is currently selling for $49 a share. The market rate of return is 14% and the tax rate is 21%. What is the cost of preferred stock if its stated value $100 per share? A. 12.77% B. 12.29% C. 12.67% D. 12.24% E. 12.54%

12.24%

Jiminy's Cricket Farm issued a 20-year, 7%, semiannual bond 4 years ago. The bond currently sells for 108% of its face value. What is the aftertax cost of debt if the company's combined tax rate is 23%? A. 4.96% B. 4.78% C. 4.15% D. 4.12% E. 3.86%

4.78%

Florida Groves has a $380,000 bond issue outstanding that is selling at 97.4% of face value. The firm also has 2,600 shares of preferred stock valued at $61 a share and 37,500 shares of common stock valued at $19 a share. What weight should be assigned to the common stock when computing the weighted average cost of capital? A. 55.75% B. 62.20% C. 58.75% D. 61.03% E. 57.40%

57.40%

The Downtowner has 168,000 shares of common stock outstanding valued at $53 a share along with 13,000 bonds selling for $1,008 each. What weight should be given to the debt when the company computes its weighted average cost of capital? A. 46.67% B. 65.05% C. 51.79% D. 59.54% E. 48.27%

59.54%

AZ Products has 140,000 shares of common stock outstanding at a market price of $27 a share. Next year's annual dividend is expected to be $1.43 a share and the dividend growth rate is 2%. The company also has 2,500 bonds outstanding with a face value of $1,000 per bond. The bonds have a pretax yield of 7.35% and sell at 98.2% of face value. The company's tax rate is 21%. What is the weighted average cost of capital? A. 8.41% B. 6.71% C. 7.52% D. 6.58% E. 6.59%

6.71%

Holdup Bank has an issue of preferred stock with a stated dividend of $7 that just sold for $87 per share. What is the bank's cost of preferred? A. 7.00% B. 7.64% C. 8.39% D. 8.05% E. 7.54%

8.05%

Sweet Treats common stock is currently priced at $36.72 a share. The company JUST PAID $2.18 per share as its annual dividend. The dividends have been increasing by 2.2 % annually and are expected to continue doing the same. What is the cost of equity? A. 9.41% B. 9.51% C. 8.47% D. 8.27% E. 8.82%

8.27%

All else constant, which one of the following will increase a company's cost of equity if the company computes that cost using the security market line approach? Assume firm currently pays an annual divided of $1 share and has a beta of 1.2 A. a reduction in the dividend amount B. an increase in the dividend amount C. a reduction in the market rate of return D. a reduction in the firm's beta E. a reduction in the risk-free rate

E. a reduction in the risk-free rate

The average of a company's cost of equity, cost of preferred, and aftertax cost of debt that is weighted based on the company's capital structure is called the: A. rewared to risk ratio B. weighted capital gains rate C. structured cost of capital D. subjective cost of capital E. weighted average cost of capital

E. weighted average cost of capital

Delta Lighting has 24,500 shares of common stock outstanding at a market price of $19 a share. This stock was originally issued at $21 per share. The firm also has a bond issue outstanding with a total face value of $250,000 which is selling for 94% of par. The cost of equity is 12.6% while the aftertax cost of debt is 5.8%. The firm has a beta of 1.33 and a tax rate of 23%. What is the weighted average cost of capital? A. 10.07% B. 10.32% C. 12.36% D. 11.29% E. 11.47%

10.32%

Wayco Industrial Supply has a pretax cost of debt of 8.3 percent, a cost of equity of 14.7 percent, and a cost of preferred stock of 8.9 percent. The firm has 165,000 shares of common stock outstanding at a market price of $33 a share. There are 15,000 shares of preferred stock outstanding at a market price of $43 a share. The bond issue has a face value of $750,000 and a market quote of 101. The company's tax rate is 21 percent. What is the weighted average cost of capital? A. 12.18% B. 10.84% C. 14.32% D. 12.60% E. 13.25%

13.25%

Street Corporation's common stock has a beta of 1.33. The risk-free rate is 3.4 percent and the expected return on the market is 10.97 percent. What is the cost of equity? A. 12.49% B. 12.84% C. 13.47% D. 14.07% E. 13.33%

13.47%

Stock in Country Road Industries has a beta of 1.62. The market risk premium is 8.2 percent while T-bills are currently yielding 2.9 percent. Country Road's last paid annual dividend was $1.87 per share and dividends are expected to grow at an annual rate of 3.8 percent indefinitely. The stock sells for $25 a share. What is the estimated cost of equity using the average return of the CAPM and the dividend discount model? A. 13.87% B. 14.06% C. 14.23% D. 13.38% E. 14.50%

13.87%

Jiminy's Cricket Farm issued a 20-year, 7%, semiannual bond 4 years ago. The bond currently sells for 108% of its face value. What is the pretax cost of debt? A. 5.860% B. 7.286% C. 5.554% D. 6.204% E. 7.258%

6.204%

Chelsea Fashions is expected to pay an annual dividend of $1.26 a share next year. The market price of the stock is $24.09 and the growth rate is 2.6 percent. What is the cost of equity? A. 9.77% B. 7.91% C. 9.24% D. 7.83% E. 7.54%

7.83%

National Home Rentals has a beta of 1.06, a stock price of $17, and recently paid an annual dividend of $.92 a share. The dividend growth rate is 2.2%. The market has a rate of return of 11.2% and a risk premium of 7.3%. What is the estimated cost of equity using the average return of the CAPM and the dividend discount model? A. 10.05% B. 8.67% C. 9.13% D. 10.30% E. 9.68%

9.68%

Which one of these will increase a company's aftertax cost of debt? A. a decrease in the company's debt-equity ratio B. a decrease in the company's tax rate C. an increase in the credit rating of the company's bonds D. an increase in the company's beta E. a decrease in the market rate of interest

B. A decrease in the company's tax rate.

A group of individuals got together and purchased all of the outstanding shares of common stock of DL Smith Inc. What is the return that these individuals require on this investment called? A. dividend yield B. cost of equity C. capital gains yield D. cost of capital E. income return

B. Cost of equity

When a manager develops a cost of capital for a specific project based on the cost of capital for another firm that has a similar line of business as the project, the manager is utilizing the _________ approach. A. subjective risk B. pure play C. divisional cost of capital D. capital adjustment E. security market line

B. Pure play

If a company uses its WACC as the discount rate for all of the projects it undertakes then the company will tend to: A. accept all positive net present value projects. B. increase the average risk level of the company over time C. reject all high-risk projects D. reject all negative net present value projects E. favor low-risk projects over high-risk

B. increase the average risk level of the company over time.

Textile Mills borrows money at a rate of 8.7 percent. This interest rate is referred to as the: A. compound rate B. current yield C. cost of debt D. capital gains yield E. cost of capital

C Cost of debt

The subjective approach to project analysis: A. is used only when a firm has an all-equity capital structure. B. uses the WACC of Firm X as the basis for the discount rate for a project under consideration by Firm Y C. assigns discount rates to projects based on the discretion of the senior managers of the firm. D. allows managers to randomly adjust the discount rate assigned to a project once the project's standard deviation has been determined. E. applies a lower discount rate to projects that are financed totally with equity as compared to partially financed with debt

C. assigns discount rates to projects based on the discretion of the senior managers of a firm.

Assume Russo's has a debt-equity ratio of .4 and uses the capital asset pricing model to determine its cost of equity. As a result, the company's cost of equity: A. is affected by the firm's rate of growth projections B. implies that the firm pays out all of its earning to its shareholders C. is dependent upon a reliable estimate of the market risk premium D. would be unaffected if the dividend discount model were applied instead E. will be unaffected by changes in overall market risks

C. is dependent upon a reliable estimate of the market risk premium.

A company's weighted average cost of capital: A. is equivalent to the aftertax cost of the outstanding liabilities. B. should be used as the required return when analyzing any new project C. is the return investors require on the total assets of the firm D. remains constant when the debt-equity ratio changes E. is unaffected by changes in corporate tax rates.

C. is the return investors require on the total assets of the firm.

The cost of preferred stock is computed the same as the: A. pretax cost of debt B. rate of return on an annuity C. aftertax cost of debt D. rate of return on a perpetuity E. cost of an irregular growth common stock

D. Rate of return on a perpetuity.

A company's current cost of capital is based on: A. only the return required by the company's current shareholders B. the current market rate of return on equity shares C. the weighted costs of all future funding sources D. both the returns currently required by its debtholders and shareholders E. the company's original debt-equity ratio

D. both the returns currently required by its debtholders and stockholders