FIN3403 - Chapter 10, 12, 13, & 14 Concept Questions
Which of the following statements is accurate regarding the dividend growth model?
It is only as reliable as the estimated rate of growth.
When evaluating any capital project proposal, the cost of capital:
depends upon how the funds raised for that project are going to be spent.
Which one of the following is the most likely reason why a stock price might not react at all on the day that new information related to the stock's issuer is released? Assume the market is semistrong form efficient.
The information was expected.
For any given capital project proposal, the discount rate should be based on the:
risks associated with the use of the funds required by the project.
Inside information has the least value when financial markets are:
strong form efficient.
Most financial securities have some level of ________ risk.
systematic
Efficient financial markets fluctuate continuously because:
the markets are continually reacting to new information.
Assume all stock prices fairly reflect all of the available information on those stocks. Which one of the following terms best defines the stock market under these conditions?
Efficient capital market
Pro forma statements for a proposed project should generally do all of the following, except:
include interest expense.
When calculating the expected rate of return on a stock portfolio using a weighted average, the weights are based on the:
market value of the investment in each stock.
Assume that last year T-bills returned 2.2 percent while your investment in large-company stocks earned an average of 8.1 percent. Which one of the following terms refers to the difference between these two rates of return?
Risk premium
Which of the following statements are true of a well-diversified portfolio's expected return? I. It cannot exceed the expected return of the best performing security in the portfolio. II. It must be equal to or greater than the expected return of the worst performing security in the portfolio. III. It is independent of the unsystematic risks of the individual securities held in the portfolio. IV. It is independent of the allocation of the portfolio amongst individual securities.
I, II, and III only
All of the following cash flows are related to a proposed project. Which one of these should be included in the cash flow at Time 0?
Initial investment in inventory to support the project
Of the options listed below, which is the best example of systematic risk?
Investors panic causing security prices around the globe to fall precipitously.
Which of the following statements regarding unsystematic risk is accurate?
It can be effectively eliminated by portfolio diversification.
Which of the following statements is true of a portfolio's standard deviation?
It can be less than the standard deviation of the least risky security in the portfolio.
Which of the following statements regarding a firm's pretax cost of debt is accurate?
It is based on the current yield to maturity of the company's outstanding bonds.
Wright Market Research is able to borrow money at a rate of 6.8 percent per year. This interest rate is called the:
cost of debt.
While evaluating a stock, you estimate that it will earn a return of 11 percent if economic conditions are favorable, and 3 percent if economic conditions are unfavorable. Given the probabilities of favorable versus unfavorable economic conditions, you conclude that the stock will earn 7.2 percent next year. The 7.2 percent figure is called the:
expected return
Given a well-diversified stock portfolio, the variance of the portfolio:
may be less than the variance of the least risky stock in the portfolio.
Rafia owns stocks of 15 different companies. Together, the stocks have a value of $78,640. Twelve percent of that total value is from one company, Gambrell & Valdez. The twelve percent figure is called a(n):
portfolio weight.
Buchi owns several financial instruments: stocks issued by seven different companies, plus bonds issued by four different companies. Her investments are best described as a(n):
portfolio.
The cost of preferred stock is equivalent to the:
rate of return on a perpetuity.
The excess return is computed as the:
return on a risky security minus the risk-free rate.
To calculate the expected risk premium on a stock, one must subtract the ________ from the stock's expected return.
risk-free rate
Pro forma financial statements can best be described as financial statements:
that state projected values for future time periods.
Which one of the following is an example of a sunk cost?
$2,000 paid last year to rent equipment
Assume a firm utilizes the security market line approach to determine the cost of equity. If the firm currently pays an annual dividend of $2.40 per share and has a beta of 1.42, all else constant, which of the following actions will decrease the firm's cost of equity?
A decrease in the firm's beta
Of the options listed below, which is the best example of unsystematic risk?
A national decrease in consumer spending on entertainment
Which one of the following statements best defines the efficient market hypothesis?
All securities in an efficient market are zero net present value investments.
Which of the following items are included when calculating the expected return on a portfolio? I. Percentage of the portfolio invested in each individual security II. Projected states of the economy III. The performance of each security given various economic states IV. Probability of occurrence for each state of the economy
I, II, III, and IV
The stand-alone principle advocates that project analysis should be based solely on which one of the following costs?
Incremental
Which one of the following should not be included in the analysis of a new product?
Money already spent for research and development of the new product
Which one of the following correctly describes the dividend yield?
Next year's annual dividend divided by today's stock price
The option that is forgone so that an asset can be utilized by a specific project is referred to as which one of the following?
Opportunity cost
With respect to returns, which one of the following statements is accurate?
Over time, the average unexpected return will be zero.
A furniture store is considering adding kitchen appliances to its offerings. Which one of the following is the best example of an incremental cash flow related to the appliances?
Selling furniture to appliance customers
Which one of the following types of costs was incurred in the past and cannot be recouped?
Sunk
Vanessa purchased a stock one year ago and sold it today for $3.15 per share more than her purchase price. She received a total of $2.60 per share in dividends. Which one of the following statements is correct in relation to this investment?
The capital gains yield is positive.
Ellis-Clay is replacing a machine that has worn out. The replacement machine will not impact sales or operating costs and will not have any salvage value at the end of its five-year life. The firm has a tax rate of 22 percent, uses straight-line depreciation over an asset's life, ignores bonus depreciation options, and has a positive net income. Given this, which one of the following statements is correct?
The new machine will generate positive operating cash flows.
The rate of return on which type of security is normally used as the risk-free rate of return?
Treasury bills
Standard deviation is a measure of which one of the following?
Volatility
Which one of the following is most indicative of a totally efficient stock market?
Zero net present values for all stock investments
When using economic probabilities to compute the expected return on a stock, the result is:
a mathematical expectation based on a weighted average and not a guaranteed outcome.
When calculating a firm's weighted average cost of capital, the capital structure weights:
are based on the market values of the outstanding securities.
The difference between a company's future cash flows if it accepts a project and the company's future cash flows if it does not accept the project is referred to as the project's:
incremental cash flows.
To determine a firm's cost of capital, one must include:
the returns currently required by both debtholders and stockholders.
The expected return of a stock, based on the likelihood of various economic outcomes, equals the:
weighted average of the returns for each economic state.
