Finance Final condensed

________ measures total risk, and ________ measures systematic risk.

Standard deviation; beta

Net present value:

Is the best method of analyzing mutually exclusive projects

You estimate that a project will cost $33,700 and will provide cash inflows of $14,800 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 14.2 percent? Why or why not?

$14,800 / 1.142 + $24,600 / 1.142^3= $29,476.93 P1= $29,476.93 / $33,700 P1= .87 ; No less than 1

Patel Packaging Systems purchased a new computer system in 2021 at a cost of $328,000. This system is in the 5-year MACRS class, and has depreciation allowance percentages of 20, 32, 19.2, 11.52, 11.52, and 5.76. What is the maximum amount of depreciation the firm can claim on this system in the first year if it selects the bonus depreciation method?

$328,000

Kelley Couriers just paid its annual dividend of $5.25 per share. The stock has a market price of $58.25 and a beta of 1.2. The return on the U.S. Treasury bill is 1 percent and the market risk premium is 8.5 percent. What is the cost of equity?

.01 + 1.2(.085) RE = .112, or 11.2%

The stock of Rullo Rigs has a beta of 1.34. The risk-free rate of return is 1.9 percent, the inflation rate is 2.2 percent, and the market risk premium is 6.9 percent. What is the expected rate of return on this stock?

11.1% E(r) = .019 + 1.34(.069) E(r) = .111, or 11.1%

The risk-free rate of return is 3.5 percent, the inflation rate is 2.9 percent, and the market risk premium is 7.5 percent. What is the expected rate of return on a stock with a beta of 1.43?

14.2% E(r) = .035 + 1.43(.075) E(r) = .142, or 14.2%

Grill Works has 6 percent preferred stock outstanding that is currently selling for $49 per share. The market rate of return is 14 percent and the tax rate is 21 percent. What is the cost of preferred stock if its stated value is $100 per share?

= .06($100)/$49 RP = .1224, or 12.24%

A project has cash flows of -$343,200, $56,700, $138,500, and $245,100 for Years 0 to 3, respectively. The required rate of return is 10.5 percent. Based on the internal rate of return of _____ percent for this project, you should _____ the project.

CF0= -343,200 CF1= $56,700 CF2= $138,500 CF3= $245,100 RR= 10.5% IRR = .1093 or 10.93%Yes; accept

A project will produce cash inflows of $5,400 per year for 3 years with a final cash inflow of $2,400 in Year 4. The project's initial cost is $13,400. What is the net present value if the required rate of return is 14.2 percent?

I/Y= 14.2N=4PV= -$13,400 NPV= $505.92

An investment that provides annual cash flows of $20,100 for 8 years costs $87,500 today. At what rate would you be indifferent between accepting the investment and rejecting it?

IRR = 15.93%

$1,700,000

Nelson Manufacturing owns a manufacturing facility that is currently sitting idle and is debt-free. 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 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?

A proposed project has an initial cost of $74,200 and cash inflows of $23,900, $34,700, and $40,200 for Years 1 through 3, respectively. The required rate of return is 15.2 percent. Based on IRR, should this project be accepted? Why or why not?

No; IRR is less than the required return

It will cost $15,000 to acquire a used food truck that is expected to produce cash inflows of $8,500 per year for five years. After the five years, the truck is expected to be worthless. What is the payback period?

Payback Period= $15,000/$8,500= 1.8 years

An investment project provides cash flows of $7,000 per year for 10 years. If the initial cost is $20,000, what is the payback period?

Payback= $20,000 / $7,000= 2.9 years

A project has an initial cost of $7,900 and cash inflows of $2,100, $3,140, $3,800, and $4,500 per year over the next four years, respectively. What is the payback period?

Payback= 2 + ($7,900 - 2,100 - 3,140) / 3,800= 2.70 years

Alicia is considering adding toys to her gift shop. She estimates the cost of new inventory will be $9,500 and remodeling expenses will be $850. Toy sales are expected to produce net cash inflows of $1,300, $4,900, $4,400, and $4,100 over the next four years, respectively. Should Alicia add toys to her store if she assigns a 3-year payback period to this project? Why or why not?

Payback= 2 + ($9,500 + 850 - 1,300 - 4,900) / 4,400= 2.94 -> Yes; the payback period is 2.94 years

Which one of the following types of costs was incurred in the past and cannot be recouped?

Sunk

The current book value of a fixed asset that was purchased two years ago is used in the computation of which one of the following?

Tax due on the current salvage value of that asset

The net present value of a project will increase if:

The after tax salvage value of the fixed assets increases

The ________ explains the relationship between the expected return on a security and the level of that security's systematic risk.

capital asset pricing model

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.

Okonjo Economics has a debt-equity ratio of .38. All of the firm's outstanding shares were purchased by a small number of investors. The return these investors require is called the:

cost of equity

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.

Honor Computing just purchased new equipment that cost $213,000. The equipment is classified as MACRS five-year property. The MACRS rates are .2, .32, and .192 for Years 1 to 3, respectively. What is the proper methodology for computing the depreciation expense for Year 2 assuming the firm opts to forego any bonus depreciation?

$213,000(.32)

A project has cash flows of −$152,000, $60,800, $62,300, and $75,000 for Years 0 to 3, respectively. The required rate of return is 13 percent. What is the profitability index? Should you accept or reject the project based on this index value?

$60,800 / 1.13 + $62,300 / 1.13^2 + $75,000 / 1.13^3= $154,574.11 P1= $154,574.11 / $152,00 PL1= 1.02 ; Yes above 1

A project has a required return of 12.6 percent, an initial cash outflow of $42,100, and cash inflows of $16,500 in Year 1, $11,700 in Year 2, and $10,400 in Year 4. What is the net present value?

-$42,100 + $16,500 / 1.126 + $11,700 / 1.126^2 +$10,400 / 1.126^3 NPV= -$11,748.69

The common stock of Hall & Byrd is expected to lose 5 percent in a recession, earn 7 percent in a normal economy, and earn 9 percent in a booming economy. The probability of a boom is 15 percent while the probability of a recession is 22 percent. What is the expected rate of return on this stock?

4.66% E(r) = .22(−.05) + .63(.07) + .15(.09) E(r) = .0466, or 4.66%

You recently purchased a stock that is expected to earn 12 percent in a booming economy, 6.5 percent in a normal economy, and lose 1.5 percent in a recessionary economy. The probability of a booming economy is 14 percent while the probability of a normal economy is 65 percent. What is your expected rate of return on this stock?

5.59% E(r) = .14(.12) + .65(.065) + .21(−.015) E(r) = .0559, or 5.59%

You have a portfolio consisting solely of Stock A and Stock B. The portfolio has an expected return of 10.2 percent. Stock A has an expected return of 11.7 percent while Stock B is expected to return 8.3 percent. What is the portfolio weight of Stock A?

55.88% .102 = .117x + .083(1 − x) x = .5588, or 55.88%

Montez Supply is expected to pay an annual dividend of $.95 per share next year. The market price of the stock is $43.50 and the growth rate is 4.5 percent. What is the cost of equity?

6.68% = .95/43.50 + .045

The stock of Yakir Development has a beta of 1.31. The risk-free rate of return is 1.5 percent and the market rate of return is 8 percent. What is the risk premium on this stock?

8.5% Risk premium = 1.31(.08 − .015) Risk premium = .085, or 8.5%

Walker Systems has an issue of preferred stock outstanding with a stated annual dividend of $2.60 that just sold for $23.85 per share. What is the bank's cost of preferred stock?

= $2.60/$23.85 RP = .1090, or 10.90%

Of the options listed below, which is the best measure of systematic risk?

Beta

Assume an investment has cash flows of −$105,000, $140,000, $200,000, and $485,000 for Years 0 to 3, respectively. What is the NPV if the required return is 13.5 percent? Should the project be accepted or rejected?

CF0= -$105,000 CF1= $140,000 CF2= $200,000 CF3= $485,000 RR= 13.5%NPV= $505,307; accept due to NPV being positive

The Whey Station is considering a project with an initial cost of $146,500 and cash inflows for Years 1 to 3 of $56,700, $68,500, and $71,200, respectively. What is the IRR?

CF0= -$146,500 CF1= $56,700 CF2= $68,500 CF3= $71,200 IRR = .1556 or 15.56%

Which one of the following methods of project analysis is defined as computing the value of a project based on the present value of the project's anticipated cash flows?

Discounted cash flow valuation

The annual annuity stream of payments that has the same present value as a project's costs is referred to as which one of the following?

Equivalent annual cost

CF0 = −$136,600 − 522,700 CF0 = −$659,300

Myers Storage purchased a parcel of land four years ago at a cost of $112,600. Today, the land has a market value of $136,600. At the time of the purchase, the company spent $8,400 to grade the land and another $11,500 to install electrical access. The company now wants to build a new facility on the site at an estimated cost of $522,700. What amount should be used as the initial cash flow for this project?

A project has an initial cost of $52,700 and a market value of $61,800. What is the difference between these two values called?

NPV

A project has an initial cash outflow of $42,600 and produces cash inflows of $17,680, $19,920, and $15,670 for Years 1 through 3, respectively. What is the NPV at a discount rate of 12 percent?

NPV= CF0:-$42,600 + CF1: $17,680 + CF2: $19,920 + CF3: $15,670 I/Y = 12 Cmpt NPVNPV = $219.41

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. Given this information:

The projects cash inflows equals its cash outflows in current dollar terms

NWC requirement = −$12,000 + 19,000 − $302,000(.05) NWC requirement = −$8,100

Watson Landscaping is considering a project that will require additional inventory of $12,000 and will increase accounts payable by $19,000. Accounts receivable is currently $302,000 and is expected to increase by 5 percent if this project is accepted. What is the project's initial cash flow for net working capital?

You are considering the purchase of a new machine. Your analysis includes the evaluation of two machines that have differing purchase prices, annual maintenance costs, and life spans. 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 cost of preferred stock is equivalent to the:

rate of return on a perpetuity.

A ________ is the market's measure of systematic risk

beta of 1

The most important reason to diversify a portfolio is to:

eliminate asset-specific risk.

An investor who owns a well-diversified portfolio would consider ________ to be irrelevant.

unsystematic risk

A company that utilizes the MACRS system of depreciation but does not use bonus depreciation:

will have a greater depreciation tax shield in Year 2 than in Year 1.