BUA 350 UMaine Final Exam

You have a portfolio consisting of three stocks, A, B, and C. You've invested $10,000 in A, $7,000 in B, and $13,000 in C. If A has a beta of 1.1, B has a beta of 2.0, and C has a beta of 0.70, what is your portfolio's beta? A. 1.14 B. 1.27 C. 1.36 D. 1.43

A. 1.14

You're a stock analyst, and you're trying to determine an appropriate expected return (E(r)s) for Cheese Corp. You expect the return on a risk-free security (rRF) to be 4%, and you expect the return on the stock market (E(r)mkt) to be 10%. If Cheese Corp. has a beta of 1.15, then what's your expected return for Cheese Corp.? A. 10.9% B. 14.0% C. 15.5% D. 16.1%

A. 10.9%

You're trying to determine the cost of retained earnings (rs) for Cheese Corp. Assume that the return on a risk-free security (rRF) is 4%, and the return on the stock market (E(r)mkt) is 10%. If Cheese Corp. has a beta of 1.15, then what is the company's cost of retained earnings? A. 10.9% B. 14.0% C. 15.5% D. 16.1%

A. 10.9% rs = R(r)s = 4% + 1.15 (10% - 4%) = 10.90%

Gubba Bump Shrimp Co. has a cost of debt (rd) of 5.00%, a cost of preferred stock (rp) of 7.10%, and a cost of existing common stock (rs) of 12.90%. The company's capital structure consists of 50% debt, 10% preferred stock, and 40% common stock. If Gubba Bump's tax rate is 40%, then what is its weighted average cost of capital (WACC)? A. 7.37% B. 7.91% C. 8.87% D. 9.14%

A. 7.37% WACC = (0.50)(5%)(1-0.40) + (0.10)(7.1%) + (0.40)(12.9%) = 7.37%

Consider the below series of cash flows: T0: -$500 T1: $190 T2: $190 T3: $120 T4: $50 T5: $50 Based on the above, the regular (non-discounted) payback period is: A. Exactly 3 years B. Between 3 years and 4 years C. Between 4 years and 5 years D. More than 5 years

A. Exactly 3 years (-500 + 190 + 190) = -120 Going on T3 adding 120, this is when you will have broken even

Below is information about Projects X, Y, and Z: Project NPV X $10,000 Y $5,000 Z -$1,000 Based on this information, which of the following statements is correct? (CIRCLE ALL THAT APPLY) A. If these projects are independent, then Projects X and Y should both be approved B. If these projects are mutually exclusive, then Projects X and Y should both be approved C. Project Z should only be approved if these projects are mutually exclusive D. Project Z has an internal rate of return (IRR) that is lower than its cost of capital

A. If these projects are independent, then Projects X and Y should both be approved D. Project Z has an internal rate of return (IRR) that is lower than its cost of capital

A change in _________ will result in a parallel shift in the Security Market Line (SML), and a change in __________ will change the slope (steepness or flatness) of the SML. A. Inflation; risk aversion B. Inflation; inflation C. Risk aversion; risk aversion D. Risk aversion; inflation

A. Inflation; risk aversion Risk aversion measured by the market risk premium (MRP)

Which of the following statements about investment risk is accurate? (CIRCLE ALL THAT APPLY) A. It is possible to reduce overall portfolio risk by combining two or more risky investments, so long as those investments are not highly correlated with one another B. Systematic (market) risk can be eliminated by combining many stocks together into a portfolio C. As an investor's risk aversion increases, he or she will require a higher equity risk premium D. The only way to guarantee a higher return is take on more investment risk

A. It is possible to reduce overall portfolio risk by combining two or more risky investments, so long as those investments are not highly correlated with one another C. As an investor's risk aversion increases, he or she will require a higher equity risk premium

Which of the following are reasons why net present value (NPV) is the preferred capital budgeting method over the internal rate of return (IRR)? (CIRCLE ALL THAT APPLY) A. NPV states the result in terms of dollars, which better describes the economic value of a project B. A project can have multiple NPV's if cash flows are non-normal after time zero C. The IRR assumes reinvestment at the IRR, which is often an unrealistic assumption D. The IRR assumes reinvestment at the WACC, which is often an unrealistic assumption

A. NPV states the result in terms of dollars, which better describes the economic value of a project C. The IRR assumes reinvestment at the IRR, which is often an unrealistic assumption

Which of the following statements about preferred stock are correct? (CIRCLE ALL THAT APPLY) A. Preferred stock dividends must be paid before common stock dividends B. Preferred stock is senior to common stock but junior to a company's bonds C. Preferred stock can be thought of as a hybrid investment, with stock and bond characteristics D. Investors purchase preferred stock primarily for yield (income) rather than capital gains

A. Preferred stock dividends must be paid before common stock dividends B. Preferred stock is senior to common stock but junior to a company's bonds C. Preferred stock can be thought of as a hybrid investment, with stock and bond characteristics D. Investors purchase preferred stock primarily for yield (income) rather than capital gains

Based on Reinhardt's financial statements, which of the following is correct? (CIRCLE ALL THAT APPLY) A. Reinhardt's working capital ratio decreased from 20X1 to 20X2 B. Reinhardt's return on equity decreased from 20X1 to 20X2 C. Reinhardt's gross margins decreased from 20X1 to 20X2 due to an increase in cost of goods sold D. Reinhardt increased its fixed assets from 20X1 to 20X2

A. Reinhardt's working capital ratio decreased from 20X1 to 20X2 B. Reinhardt's return on equity decreased from 20X1 to 20X2 C. Reinhardt's gross margins decreased from 20X1 to 20X2 due to an increase in cost of goods sold D. Reinhardt increased its fixed assets from 20X1 to 20X2

Based on ABC123 Company's beta, which of the following statements is the most correct? A. The company's stock is more risky than the overall stock market B. The company's stock has the same level of risk as the overall stock market C. The company's stock is less risky than the overall stock market D. Not enough information to answer the question

A. The company's stock is more risky than the overall stock market

From 20X1 to 20X2, Idaho Potato Corp. increased sales from $2.3 million to $2.7 million. Over that same period of time, the company's assets increased from $10.2 million to $10.6 million. Based on this information, what can we say about Idaho Potato Corp.? (CIRCLE ALL THAT APPLY) A. The company's total asset turnover improved, and its asset productivity improved B. The company's total asset turnover improved, but its asset productivity got worse C. The company's total asset turnover got worse, and its asset productivity got worse D. The company's total asset turnover got worse, but its asset productivity improved

A. The company's total asset turnover improved, and its asset productivity improved

Based on its quick ratio at the end of 20X2, Reinhardt didn't have enough cash and receivables to cover all of its short-term liabilities, meaning that it will need to sell inventories order to meet its short-term obligations. A. True B. False

A. True

Refer again to Question 16 above. In general, Ignatius Corp. could improve its overall liquidity position by decreasing receivables and paying suppliers later. A. True B. False

A. True

In 20X2, Reinhardt's Basic Earnings Power (BEP) ratio was closest to: A. 0.011 B. 0.032 C. 0.045 D. 0.234

B. 0.032 (Using the financial statement, solve using BEP formula (EBIT / Asset) for 20X2)

You have a portfolio consisting of three stocks, X, Y, and Z. You've invested $15,000 in X, $18,000 in Y, and $12,000 in Z. If X has an expected return of 8%, Y has an expected return of 10%, and Z has an expected return of 13%, what is your portfolio's expected return? A. 9.8% B. 10.1% C. 10.3% D. 10.7%

B. 10.1%

Project A's internal rate of return (IRR) is closest to: A. 5% B. 6% C. 8% D. 15%

B. 6% Using financial calculator plug in each value for CF then plug in NPV. Use this to CPT IRR

Company A has a higher net profit margin than Company B. If the two firms are both equally productive, as measured by their total asset turnover ratios, then Company A will always have a higher return on equity (ROE). However, it might have a lower return on assets (ROA), depending on each firm's capital structure. A. True B. False

B. False

Consider the below series of cash flows: T0: -500 T1: $100 T2: $200 T3: $200 T4: $100 T5: $150 Assuming a discount rate of 8%, the discounted payback period is less than 4 years. A. True B. False

B. False (Using the cash flow series formula, you are left with 3.67 by the fourth year. When you subtract this from the original -500 you have 496.33 after four years) in other words you didn't break even by four years

Which of the following describes how NPV changes for a change in discount rate? (CIRCLE ALL THAT APPLY) A. NPV increases as discount rate increases B. NPV increases as discount rate decreases C. NPV decreases as discount rate increases D. NPV decreases as discount rate decreases

B. NPV increases as discount rate decreases C. NPV decreases as discount rate increases (Both have an inverse relationship between PV and IR)

Which project(s) would we approve, assuming that both projects have a WACC of 7%? A. Project A B. Project B C. Both Project A and Project B

B. Project B Project A NPV: -2,065.89 Project B NPV: 1,522.56 (Project B is better)

Sooper Blooper Co. has a debt-to-capital ratio of 50% and a times interest earned (TIE) ratio of 9.2. Uber Goober Co. has a debt-to-capital ratio of 20% and a times interest earned (TIE) ratio of 0.9. Based on this information, which company has more financial risk? A. Sooper Blooper Co. B. Uber Goober Co. C. They both have the same level of financial risk

B. Uber Goober Co. TIE < 1.0 means unable to cover interest expense

If these two projects were independent rather than mutually exclusive, then: A. We would approve only Project A B. We would approve only Project B C. We would approve both Project A and B D. We would approve neither Project A nor B

B. We would approve only Project B (Because A is negative)

Broseph Company had $100,000 in net income in the previous year. If it paid out $20,000 in dividends, $40,000 in taxes, and $25,000 in interest expense, then its contribution to retained earnings was closest to: A. $40,000 B. $55,000 C. $80,000 D. $100,000

C. $80,000 ($100,000) (NI) - (20,000) (Div) = (80,000) (RE)

Assume that ABC123 Company will be able to grow its dividend by 5% in the future. Based on this information, ABC123's cost of existing common equity (rs) is closest to: A. 11.25% B. 11.43% C. 11.56% D. 11.71%

C. 11.56% (rs) = (D0 (1 + g) / P) + g (rs) = (2.50 (1 + .05) / 40) + 0.05 = .1156 = 11.56%

Assume that ABC123 Company will be able to grow its dividend by 5% in the future. Further assume that, if the company were to issue new equity, then it would need to pay flotation costs of 11% to an investment bank. Based on this information, ABC123's cost of new equity is closest to: A. 12.02% B. 12.21% C. 12.37% D. 12.48%

C. 12.37% (re) = ((D0 (1 + g) / P (1 - F)) + g (re) = ((2.50 (1.05) / 40 (1 - 0.11)) + 0.05 = 0.1237

Five years ago, Pavilion Co. issued 20 year bonds with a par value of $1,000 and a semi-annual coupon of 6%. Today, the bonds are priced at $1,100.76. What interest rate would Pavilion pay if it were to issue new 15-year bonds now? A. 2.518% B. 3.982% C. 5.035% D. 7.814%

C. 5.035% *Use Calculator* Pv = -1,100.76 FV = 1,000 PMT = $30 (Coupon X Bond Par Value) (6% X 1,000 = $60 (with two payments semi annual) N = 30 CPT IR (don't forget to multiply answer by 2)

Based on the above information, what is the best estimate of ABC123 Company's pre-tax cost of debt (rd)? A. 4.41% B. 4.72% C. 5.12% D. 5.74%

C. 5.12% (Because the yield to maturity of 5.12% is a 10 year maturity which is what the problem is looking for)

Double Mint, Inc. plans to issue shares of preferred stock. Its existing preferred stock trades for $23.50 per share, has a par value of $25.00 per share, and pays a dividend that is 8.00% of par value. Based on this information, what cost of preferred stock (rp) does Double Mint expect to pay on the new preferred stock issue? A. 8.00% B. 8.23% C. 8.51% D. 8.78%

C. 8.51% 1) Calculate Div 25.00 X 0.08 = $2.00 2) Calculate (rp) 2.00 / 23.50 = 0.0851 (8.51%)

Which of the following is true, assuming a risk-free rate (rRF) of 2% and a market risk premium (MRP) of 5%? A. A stock with a beta of 0.5 is riskier than the market and has a higher expected return than the market B. A stock with a beta of 1.0 is riskier than the market and has a higher expected return than the market C. A stock with a beta of 1.5 is riskier than the market and has a higher expected return than the market

C. A stock with a beta of 1.5 is ***riskier*** than the market and has a higher expected return than the market

Given the below information for Ajax Corp., which of the following statements is correct? 20X2 20X1 Total Asset Turnover 1.5 1.4 Net Profit Margin 7.1% 9.3% Equity Multiplier 2.0 1.2 A. Ajax's ROE increased in 20X2 due mainly to an increase in productivity B. Ajax's ROE decreased in 20X2 due mainly to a decrease in profitability C. Ajax's ROE would have decreased in 20X2 if its debt-to-capital ratio hadn't increased D. Ajax's ROE increased in 20X2 because it issued new equity, as shown by the equity multiplier

C. Ajax's ROE would have decreased in 20X2 if its debt-to-capital ratio hadn't increased

Based on the below information, which of the following is correct? (CIRCLE ALL THAT APPLY) Current Ratio Quick Ratio Cash Ratio Blckst Grp: 2.4 1.2 0.8 Peer Group: 2.8 1.5 0.8 A. Blackstone appears to have better liquidity than its average peer B. Blackstone needs to sell inventories in order to pay off its current liabilities C. Blackstone doesn't have enough cash to pay off all of its current liabilities D. Blackstone has positive net working capital

C. Blackstone doesn't have enough cash to pay off all of its current liabilities D. Blackstone has positive net working capital

Stan and Fran are sitting on a park bench eating sandwiches and talking about finance. Stan says to Fran, "If a company's Inventory Turnover Ratio has increased year-over-year, then the company has possibly sold through more inventory than in the previous year." Fran replies, "If a company's Cost of Goods Sold (COGS) increases at a rate faster than its revenues, this will decrease the company's gross margin." Who is correct? A. Stan only B. Fran only C. Both Stan and Fran D. Neither Stan nor Fran

C. Both Stan and Fran

Given the below information for Ignatius Corp., which of the following statements is correct? 20X2 20X1 Days Payables Outstanding 15 20 Days Sales Outstanding 35 33 Days Inventory Outstanding 58 60 A. In 20X2, Ignatius improved the length of its cash conversion cycle B. Ignatius did a better job of collecting cash from customers in 20X2 C. Ignatius made more effective use of interest-free credit from suppliers in 20X1 D. Ignatius improved the length of time it took to pay suppliers in 20X2

C. Ignatius made more effective use of interest-free credit from suppliers in 20X1

Given the below information for Monkey Corp., which of the following is correct? (CIRCLE ALL THAT APPLY) 20X2 20X1 Avg. Peer Days Payables Outstanding 15 20 20 Days Sales Outstanding 35 35 30 Days Inventory Outstanding 55 60 60 A. Year-over-year, Monkey improved the length of its cash conversion cycle B. For the past two years, Monkey has done a better job than peers of collecting cash from customers C. Year-over-year, Monkey improved the length of time it took to pay suppliers D. In 20X2, Monkey had to borrow money, on average, for more days than its average peer

D. In 20X2, Monkey had to borrow money, on average, for more days than its average peer

You own a stock portfolio with a beta of 1.10, and you want to increase your portfolio's potential return. Which of the following stocks, if added to your portfolio, would be most likely to accomplish your goal? A. Bumble Corp. with a beta of 0.90 B. Rumble Corp. with a beta of 1.05 C. Humble Corp. with a beta of 1.10 D. Jumble Corp. with a beta of 1.20

D. Jumble Corp. with a beta of 1.20 (only choice with Beta > 1.10)

Portfolio X is comprised of two investments, A and B. Each investment represents 50% of the total portfolio, each investment has an expected return (E(r)s) of 10% per year, and each investment has a standard deviation (σ) of 18% per year. The correlation between the two investments is 0.20. Based on this information: A. Portfolio X has an expected return greater than 10% and a standard deviation greater than 18% B. Portfolio X has an expected return less than 10% and a standard deviation less than 18% C. Portfolio X has an expected return equal to 10% and a standard deviation equal to 18% D. Portfolio X has an expected return equal to 10% and a standard deviation less than 18%

D. Portfolio X has an expected return ***equal*** to 10% and a standard deviation less than 18%

Assume that the average company in Reinhardt's peer group has a Times Interest Earned (TIE) ratio of 4.0. Based on this information and the financial statements above: A. In 20X2, Reinhardt was better able to pay its interest obligations than its average peer B. Reinhardt improved its ability to pay its interest obligations from 20X1 to 20X2 C. Reinhardt's TIE ratio decreased from 20X1 to 20X2 mainly due to an increase in debt D. Reinhardt's TIE ratio decreased from 20X1 to 20X2 mainly due to a decrease in operating margin

D. Reinhardt's TIE ratio decreased from 20X1 to 20X2 mainly due to a decrease in operating margin