Exam 2 BUS 332

Last year, Lexington Homes issued $1 million in unsecured, noncallable debt. This debt pays an annual interest payment of $55 and matures six years from now. The face value is $1,000 and the market price is $1,020. Which one of these terms correctly describes a feature of this debt?

Note

Municipal bonds:

Pay interest that is federally tax free.

Which two methods of project analysis are the most biased towards short-term projects?

Payback and discounted payback.

The counter area on the floor of the NYSE where a designated market maker operates is called a:

Post

Which one of the following is a type of equity security that has a fixed dividend and a priority status over other equity securities?

Preferred stock.

Samuelson Electronics has a required payback period of three years for all of its projects. Currently, the firm is analyzing two independent projects. Project A has an expected payback period of 2.8 years and a net present value of $6,800. Project B has an expected payback period of 3.1 years with a net present value of $28,400. Which projects should be accepted if you must use the payback decision rule?

Project A only.

Which one of the following transactions occurs in the primary market?

A purchase of newly issued stock from AT&T.

You are comparing two mutually exclusive projects. The crossover point is 12.3 percent. You have determined that you should accept project A if the required return is 13.1 percent. This implies you should:

Always accept Project A if the required return exceeds the crossover rate.

A note is generally defined as:

An unsecured bond with an initial maturity of 10 years or less.

Which of the following are advantages of the payback method of project analysis?

Liquidity bias, ease of use.

Which one of the following risk premiums compensates for the inability to easily resell a bond prior to maturity?

Liquidity.

You are considering the purchase of a new machine. Your analysis includes the evaluation of two machines that have differing initial and ongoing costs and differing lives. Whichever machine is purchased will be replaced at the end of its useful life. You should select the machine that has the:

Lowest equivalent annual cost.

The secondary market is best defined by which one of the following?

Market where outstanding shares of stock are resold.

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 statements applies to NASDAQ?

Multiple market maker system.

A project has an initial cost of $27,400 and a market value of $32,600 (PV of inflows). What is the difference between these two values called?

Net present value.

The profitability index is most closely related to which one of the following?

Net present value.

You estimate that a project will cost $27,700 and will provide cash inflows of $11,800 in year 1 and $24,600 in year 3. Based on the profitability index rule, should the project be accepted if the discount rate is 14 percent? Why or why not?

No; The PI is .97.

Interest rates that include an inflation premium are referred to as:

Nominal Rates

Dexter Mills issued 20-year bonds a year ago at a coupon rate of 10.2 percent. The bonds make semiannual payments and have a par value of $1,000. If the YTM on these bonds is 9.2 percent, what is the current bond price?

$1,089.02

Nelson Mfg. owns a manufacturing facility that is currently sitting idle. The facility is located on a piece of land that originally cost $159,000. The facility itself cost $1,390,000 to build. As of now, the book value of the land and the facility are $159,000 and $458,000, respectively. The firm owes no debt on either the land or the facility at the present time. The firm received a bid of $1,700,000 for the land and facility last week. The firm's management rejected this bid even though they were told that it is a reasonable offer in today's market. If the firm was to consider using this land and facility in a new project, what cost, if any, should it include in the project analysis?

$1,700,000

The Sly Fox pays a constant dividend of $1.46 a share. The company announced today that it will continue to pay the dividend for another 2 years and then in year 3 it will pay a final liquidating dividend of $15.25 a share. What is one share of this stock worth today at a required return of 18.5%?

$11.44

The Grist Mill just paid a dividend of $1.46 per share on its stock. The dividends are expected to grow at a constant rate of 3.5 percent per year, indefinitely. What will the price of this stock be in 5 years if investors require an annual return of 15 percent?

$15.61

A proposed expansion project is expected to increase sales of JJ's Store by $58,000 and increase cash expenses by $36,100. The project will require $36,900 of fixed assets that will be depreciated using straight-line depreciation to a zero book value over the three-year life of the project. The store has a marginal tax rate of 35 percent. What is the operating cash flow of the project using the tax shield approach?

$18,540

Phone Home, Inc. is considering a new six-year expansion project that requires an initial fixed asset investment of $5.876 million. The fixed asset will be depreciated straight-line to zero over its six-year tax life, after which time it will be worthless. The project is estimated to generate $5,328,000 in annual sales, with costs of $2,131,200. The tax rate is 32 percent. What is the annual operating cash flow for this project?

$2,487,211

The Garden Shoppe has adopted a policy of increasing the annual dividend on its common stock at a constant rate of 1.65 percent annually. The firm just paid an annual dividend of $1.84. What will the dividend be eight years from now?

$2.10

You purchased an investment that will pay you $8,000, in real dollars, a year for the next three years. Each payment will be received at the end of the period with the first payment occurring one year from today. The nominal discount rate is 9.897 percent and the inflation rate is 2.9 percent. What is the present value of these payments in real dollars?

$21,072

Marie's Fashions is considering a project that will require $41,000 in net working capital and $64,000 in fixed assets. The project is expected to produce annual sales of $62,000 with associated cash costs of $41,000. The project has a 3-year life. The company uses straight-line depreciation to a zero book value over the life of the project. The tax rate is 34 percent. What is the operating cash flow for this project?

$21,113.33

Whistle Stop pays a constant annual $8 dividend on its stock. The company will maintain this dividend for the next 8 years and will then cease paying dividends forever. What is the current price per share if the required return on this stock is 12.6 percent?

$38.92

Suppose you know a company's stock currently sells for $85 per share and the required return is 10 percent. You also know that the total return on the stock is evenly divided between the capital gains yield and the dividend yield. What is the current (last paid) dividend per share if it's the company's policy to always maintain a constant growth rate in its dividends?

$4.05

Currently, a firm has an EPS of $2.54 and a benchmark PE of 16.4. Earnings are expected to grow 3.8 percent annually. What is the estimated current stock price?

$41.66

The UpTowner just paid a $3.45 annual dividend. The company has a policy of increasing the dividend by 4.5 percent annually. You would like to purchase 100 shares of stock in this firm but realize that you will not have the funds to do so for another four years. If you require a 14.8 percent rate of return, how much will you be willing to pay per share for the 100 shares when you can afford to make this investment?

$41.74

Jefferson & Sons is evaluating a project that will increase annual sales by $145,000 and annual cash costs by $94,000. The project will initially require $110,000 in fixed assets that will be depreciated straight-line to a zero book value over the four-year life of the project. The applicable tax rate is 32 percent. What is the operating cash flow for this project?

$43,480

A preferred stock sells for $54.45 a share and provides a return of 9.826 percent. What is the amount of the dividend per share?

$5.35

Consider an asset that costs $142,000 and is depreciated straight-line to zero over its seven-year tax life. The asset is to be used in a four-year project. At the end of the project the asset can be sold for $65,000. The tax rate is 30 percent. What is the aftertax salvage value?

$63,757.14

Kwik Dogs is considering the installation of a new computerized pressure cooker that will cut annual operating costs by $18,400. The system will cost $42,900 to purchase and install and will be depreciated to zero using straight-line depreciation over its 4-year life. What is the amount of the earnings before interest and taxes for this project?

$7,675

Mason Farms purchased a building for $689,000 eight years ago. Six years ago, repairs costing $136,000 were made to the building. The annual taxes on the property are $11,000. The building has a current market value of $840,000 and a current book value of $494,000. The building is totally paid for and solely owned by the firm. If the company decides to use this building for a new project, what value, if any, should be included in the initial cash flow of the project for this building?

$840,000

Luxury Properties offers bond with a coupon rate of 9.5 percent paid semiannually. The yield to maturity is 11.2 percent and the maturity date is 11 years from today. What is the market price of this bond if the face value is $1,000?

$893.99

A project will produce cash inflows of $3,100 a year for 3 years with a final cash inflow of $4,400 in Year 4. The project's initial cost is $10,400. What is the net present value if the required rate of return is 16 percent?

-$1,007.66

Kelly's Corner Bakery purchased a lot in Oil City six years ago at a cost of $278,000. Today, that lot has a market value of $264,000. At the time of the purchase, the company spent $6,000 to level the lot and another $8,000 to install storm drains. The company now wants to build a new facility on that site. The building cost is estimated at $1.03 million. What amount should be used as the initial cash flow for this project?

-$1,294,000

PGH, Inc. is considering a new six-year expansion project that requires an initial fixed asset investment of $3.102 million. The fixed asset will be depreciated straight-line to zero over its six-year tax life, after which time it will be worthless. The project is estimated to generate $1,987,000 in annual sales, with costs of $1,102,200. The tax rate is 35 percent and the required return on the project is 16 percent. What is the net present value for this project?

-$316,081.72

Hunter's Hut is considering a project that will require additional inventory of $176,000 and will increase accounts payable by $148,000. Accounts receivable is currently $305,000 and is expected to increase by 11 percent if this project is accepted. What is the project's initial cash flow for net working capital?

-$61,550

It will cost $6,000 to acquire an ice cream cart. Cart sales are expected to be $3,600 a year for three years. After the three years, the cart is expected to be worthless as the expected life of the refrigeration unit is only three years. What is the payback period?

1.67 years

The outstanding bonds of Winter Tires Inc. provide a real rate of return of 5.6 percent. If the current rate of inflation is 4.68 percent, what is the actual nominal rate of return on these bonds?

10.54 percent

A project has cash flows of -$128,000, $52,800, $60,200, and $183,100 for years 0 to 3, respectively. The required payback period is two years. Based on the payback period of ________ for this project, you should ________ the project.

2.08; reject

Gee-Gee common stock returned a nifty 21.6 percent rate of return last year. The dividend amount was $.25 a share which equated to a dividend yield of 1.01 percent. What was the rate of price appreciation for the year?

20.59 percent

A firm evaluates all of its projects by applying the IRR rule. The current proposed project has cash flows of -$27,048, $16,850, $15,700, and $4,300 for years 0 to 3, respectively. The required return is 19 percent. What is the project IRR? Should the project be accepted or rejected?

21.08 percent; accept

Home Products common stock sells for $18.31 a share and has a market rate of return of 12.8 percent. The company just paid an annual dividend of $1.42 per share. What is the dividend growth rate?

4.68 percent

You own a bond that pays $64 in interest annually. The face value is $1,000 and the current market price is $1,062.50. The bond matures in 11 years. What is the yield to maturity?

5.62 percent

The 7 percent bonds issued by Modern Kitchens pay interest semiannually, mature in eight years, and have a $1,000 face value. Currently, the bonds sell for $1,032. What is the yield to maturity?

6.48 percent

The Dry Dock is considering a project with an initial cost of $118,400. The project's cash inflows for years 1 through 3 are $37,200, $54,600, and $46,900, respectively. What is the IRR of this project?

8.04 percent

Protective covenants:

Are primarily designed to protect bondholders.

Roger's Meat Market is considering two independent projects. The profitability index decision rule indicates that both projects should be accepted. This result most likely does which one of the following?

Assumes the firm has sufficient funds to undertake both projects.

Which one of these statements is correct?

Bonds provide tax benefits to issuers

Changes in the net working capital requirements:

Can affect the cash flows of a project every year of the project's life.

Net working capital:

Can create either an initial cash inflow or outflow.

Rossiter Restaurants is analyzing a project that requires $180,000 of fixed assets. When the project ends, those assets are expected to have an aftertax salvage value of $45,000. How is the $45,000 salvage value handled when computing the net present value of the project?

Cash inflow in the final year of the project.

Which one of the following statements related to corporate dividends is correct?

Corporate shareholders may receive a tax break on a portion of their dividend income.

Which one of the following is a project cash inflow? Ignore any tax effects.

Decrease in accounts receivable.

A floor broker on the NYSE does which one of the following?

Executes orders on behalf of a commission broker.

A newly issued bond has a 7 percent coupon with semiannual interest payments. The bonds are currently priced at par. The effective annual rate provided by these bonds must be:

Greater than 7 percent.

Jen owns 30 shares of stock in Delta Fashions and wants to win a seat on the board of directors. The firm has a total of 100 shares of stock outstanding. Each share receives one vote. Presently, the company is voting to elect three new directors. Which one of the following statements must be true given this information?

If cumulative voting applies, Jen is assured one seat on the board.

All of the following 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

The internal rate of return:

Is easy to understand.

Hot Foods has an investment-grade bond issue outstanding that pays $30 semiannual interest payments. The bonds sell at par and are callable at a price equal to the present value of all future interest and principal payments discounted at a rate equal to the comparable Treasury rate plus .50 percent. Which one of the following correctly describes this bond?

It has a "make whole" call price.

Which one of the following best illustrates erosion as it relates to a hot dog stand located on the beach?

Selling fewer hot dogs because hamburgers were added to the menu.

Preferred stock may have all of the following characteristics in common with bonds with the exception of:

Tax-deductible payments to the firm.

The pure time value of money is known as the:

Term structure of interest rates.

The bid price is:

The minimum price that will provide your target rate of return.

If a project has a net present value equal to zero, then:

The project earns a return exactly equal to the discount rate.

A project has a net present value of zero. Which one of the following best describes this project?

The project's cash inflows equal its cash outflows in current dollar terms.

Winston Co. has a dividend-paying stock with a total return for the year of -6.5 percent. Which one of the following must be true?

The stock has a negative capital gains yield.

The equivalent annual cost method is useful in determining:

Which one of two machines should be purchased when the machines are mutually exclusive, have different lives, and will be replaced at the end of their lives.

A proposed project has an initial cost of $38,000 and cash inflows of $12,300, $24,200, and $16,100 for years 1 through 3, respectively. The required rate of return is 16.8 percent. Based on IRR, should this project be accepted? Why or why not?

Yes; The IRR exceeds the required return by .58 percent.

You are considering two mutually exclusive projects. Project A has cash flows of -$125,000, $51,400, $52,900, and $63,300 for years 0 to 3, respectively. Project B has cash flows of -$85,000, $23,100, $28,200, and $69,800 for years 0 to 3, respectively. Project A has a required return of 9 percent while Project B's required return is 11 percent. Should you accept or reject these projects based on IRR analysis?

You should not use IRR; use a different method of analysis.

You are considering two mutually exclusive projects. Project A has cash flows of -$125,000, $51,400, $52,900, and $63,300 for years 0 to 3, respectively. Project B has cash flows of -$85,000, $23,100, $28,200, and $69,800 for years 0 to 3, respectively. Project A has a required return of 9 percent while Project B's required return is 11 percent. Should you accept or reject these projects using IRR analysis or should IRR analysis even be used?

You should not use IRR; use a different method of analysis.

Which one of the following rates represents the change, if any, in your purchasing power as a result of owning a bond?

real rate

A bond is quoted at a price of $1,011. This price is referred to as the:

clean price

Allison just received her semiannual payment of $35 on a bond she owns. Which term refers to this payment?

coupon

The items included in an indenture that limit certain actions of the issuer in order to protect a bondholder's interests are referred to as the:

protective covenants