finance smartbook, Chapter 8 Study
What is a discount bond?
Discount bonds are bonds that sell for less than the face value
One of the most important steps in estimating cash flow is to determine the _________ cash flows. Multiple choice question. operating specious relevant
relevant
Opportunity costs are classified as ____ costs in project analysis. Multiple choice question. sunk relevant irrelevant intangible
relevant
The first step in estimating cash flow is to determine the _________ cash flows. Multiple choice question. specious relevant operating
relevant
The depreciation tax ___is the tax savings that results from the depreciation deduction.
shield
When interest rates in the market rise, we can expect the price of bonds to:
Decrease
If the present value of the interest payments on a bond is $320 in the present value of the par value to be paid on the 30th $900, the total value of the bond must be:
$1,220
What is the principal amount of a loan if the monthly payment on a 30 year mortgage is $1600? Assume an annual interest rate of 6%, compounded monthly.
$266,866.58
What is the present value of $1000 to be received in 10 years if the interest rate is 12% compounded semiannually?
$311.80
If you invest in a $1000 corporate bond that has a 9% coupon and mix semi annual payments, you can expect to receive______ each six months.
$45
A firm decides to raise money by issuing $5 million bonds with a par value of $5000 each for 10 years and a coupon rate of 7%. At the time of issue, the bonds are sold for $5500 each. What will the par value the bonds be in the year five?
$5000
ABC company issued $1 million worth of 6% annual coupon bond that mature in 10 years. The face value is $1000 per bond. What are the expected cash flows from one of these bonds?
$60 in interest at the end of each year for 10 years and a $1000 repayment of principal at the end of 10 years.
What is the present value of the annual interest payments on a 10 year $1000 part value bond with a coupon rate of 10% paid annually, if the yield on somewhere bonds is 9%?
$641.77
What is the equation for determining the real interest rate?
((1+ Nominal Interest Rate)/(1+Inflation Rate))-1
Which of the following statements regarding the relationship between book value, sales price, and taxes are true when a firm sells a fixed asset?
- Book value represents the purchase price minus the accumulated depreciation - Taxes are based on the difference between the book value and the sales price - There will be a tax savings if the book value exceeds the sales price
Which of the following are components of project cash flow? Multiple select question. Capital spending Operating cash flow Change in Fixed assets Change in net working capital
-Change in net working capital -Operating cash flow -Capital spending
Select all that apply Which of the following are considered relevant cash flows? Multiple select question. Cash flows from sunk costs Cash flows from external costs Cash flows from erosion effects Cash flows from beneficial spillover effects
-cash flows from external costs -Cash flows from beneficial spillover effects -Cash flows from erosion effects
If you are in the 15% tax bracket, what will be your after-tax yield on a US treasury bond that is currently priced at par and yielding 5%?
.05*(1-.15)= 4.25%
What is the effective annual yield for a bond that pays interest semiannually and has a quoted yield to maturity of 10%?
10.25% [1+(.10/2)]^2-1
What is the current yield on a $1000 par value bond that sells for $900 if the coupon rate is 10%?
11.11%= (.10*$1000)/$900
What is the value of a zero coupon bond that matures in 15 years if it promises to pay $5000 at maturity, assuming an interest rate of 7.5% compounded annually?
1689.83= $5000/(1.075)^15
If you were in the 20% tax bracket what is your after-tax yield on a par value municipal bond yielding 5%?
5%
A bond pays annual coupon payments of $50, has a face value of $1000, and a market price of $1200. How is the coupon rate computed?
50/1000=.05 or 5%
Assets in the five-years MACRS class are depreciated over _____ years
6
What will your after-tax yield be on a corporate bond that is currently trading at par and yielding 8% if you're in the 20% tax bracket?
6.4%= .08*(1-.2)
What is a premium bond?
A bond that sells for more than face value
A bond yield to maturity what exceed its current yield when the bond is selling at:
A discount
A conventional bonds cash flow's consist of:
Coupon interest payments and repayment of the bonds par value at maturity.
What is net working capital?
Current assets - Current Liabilities
If the liquidity of a bond increases then the bonds yield will:
Decrease
Which of the following correctly describes the relationship between depreciation, income, taxes, and investment cash flows?
As depreciation expense increases, net income and taxes will decrease, while investment cash flows will increase.
Which two prices can be found in the Wall Street Journal's daily treasury bond listing?
Bid price and ask price
Which of these correctly identify differences between US treasury bonds in corporate bonds?
Bonds are issued by the US government while corporate bonds are issued by corporations. Treasury bonds offer certain tax benefits to investors that corporate bonds cannot offer. Treasury bonds are considered free of default risk while corporate bonds are exposed to default risk.
What are municipal bonds?
Bonds that have been issued by state or local governments.
Which of the following is given greater importance in capital budgeting problems in corporate finance?
Cash Flows
A corporate bonds yield to maturity______
Changes over time and can be greater than, equal to, or less than the bonds coupon rate.
How has TRACE improved transparency in the corporate bond market?
Corporate bond dealers are required to report trade information through TRACE
What is the coupon rate on a bond that has a par value of $1000, a market value of $1100 and a coupon interest payment of $100 per year?
Coupon Rate=$100/$1000=10%
Which of the following are common shapes for the term structure of interest rates?
Downward sloping, upward sloping, and flat.
Operating cash flow is a function of: Multiple select question. Salvage Value of Equipment Initial Investment in Equipment Earnings Before Interest and Taxes Depreciation Taxes
Earnings Before Interest and Taxes Depreciation Taxes
The promised yield and the expected return for a risk free security will be:
Equal
What are the three components of the treasury yield curve?
Expected inflation, the interest rate risk premium, and the real rate of return.
Firms generally maintain two sets of books, one for the IRS and the other for the purposes of generating financial statements according to the _______
FASB
True or False: Opportunity costs can be ignored when determining the financial feasibility of a project?
False
The shareholders' books follow the rules of the ______
Financial Accounting Standards Board (FASB)
All junk bonds typically have which of these features?
High probability of default, and a less than investment grade rating.
Cording to the approximation formula for the normal rate of return (r), the nominal rate will ________ if inflation (h) increases.
Increase
Inflation premium is the additional return demanded by investors to compensate for:
Inflation
What are the sources of information for generating bond ratings?
Information from the corporation being rated, and information collected by the bond rating agency.
How is investing in US treasury bonds different from investing in corporate bonds?
Interest from US treasuries is exempt from taxes at the state level but corporate interest is not, and treasury issues have virtually no default risk.
Investment in net working capital arises when _______
Inventory is purchased Credit sales are made Cash is kept for unexpected expenditures
Which of the following are reasons why NPV is considered a superior capital budgeting technique? Multiple select question. It considers all the cash flows. It properly chooses among mutually exclusive projects It considers time value of money. It considers the riskiness of the project. It properly discounts earnings. Reason: Earnings do not represent real money; in capital budgeting, only cash flows are discounted.
It considers all the cash flows. It properly chooses among mutually exclusive projects It considers time value of money. It considers the riskiness of the project.
What is a real rate of return?
It is a rate of return that has been adjusted for inflation, and is a percentage change in buying power.
Which of the following are true about a bonds face value?
It is also known as the par value and it is the principal amount repaid at maturity
What is the nominal rate of return on an investment?
It is the actual percentage change in the dollar value of an investment.
What is the definition of a bonds time to maturity?
It is the number of years until the face value is paid off.
Which is the promised yield on a bond?
It is the yield based on the current price and expected cash flows, assuming no default
What will happen to the default risk premium during periods of economic uncertainty?
It will increase.
A market is considered transparent if
It's prices and trading volume are easily observed.
Why is the bondmarket less transparent than the stock market?
Many bond transactions are negotiated privately
Once cash flows have been estimated, which of the following investment criteria can be applied to them? Multiple select question. YTM NPV IRR payback period the constant growth dividend discount model
NPV IRR PAYBACK PERIOD
What is the difference between nominal cash flow and real cash flow?
Nominal cash flow refers to the actual dollars to be received while real cash flow refers to the cash flow's purchasing power.
How significant is the real rate of return in determining the shape of the term structure of interest rates?
Not very significant, and less significant than inflation
As a general rule, when estimating equivalent annual costs, ______ cash flows should be used.
Real
Which of the following is an example of an opportunity cost?
Rental income likely to be lost by using a vacant building for an upcoming project
Which of the following is an example of an opportunity cost? Multiple choice question. Money spent on advertising to take advantage of opportunities in the market Rental income likely to be lost by using a vacant building for an upcoming project Lowering taxes by increasing depreciation expenses
Rental income likely to be lost by using a vacant building for an upcoming project.
Which of the following institutions issues bonds that are traded in the bond market?
State governments, public corporations, and the federal government
What are the two sets of accounting books?
Tax books Shareholders' books
Which of the following is an example of a sunk cost?
Test Marketing Expenses
What are some features of the OTC market for bonds?
The OTC has no designated physical location, and OTC dealers are connected electronically.
What does a bond rating reflect?
The ability of the firm to repay its debt and interest on time
What information is needed to compute a bonds yield to maturity?
The bonds current price, the coupon rate, and the time to maturity
What is the coupon rate?
The coupon rate determine the periodic interest payments made to investors.
Why does a bond value fluctuate over time?
The coupon rate in par value are fixed, while market interest rates change
Which of these are required to calculate the current value of a bond?
The coupon rate, applicable market rate (market yield), and the time remaining to maturity (remaining life of a bond).
A firm should replace a current machine when the annual cost of new machine is ____ than the annual cost of the current machine.
less
What does the AAA rating of the sign by S&P mean?
The firm is in a strong position to meet it's debt obligations
Which three components determine the shape of the term structure of interest rates?
The inflation premium, the real interest rate, the interest rate risk premium
Which of the following are features of municipal bonds?
The interest on municipal bonds is exempt from federal taxes, and they are issued by state and local government's.
What does a bond rating of C typically indicate?
The issuer is in default
Among the three main sources of cash flow, which source of cash flow is the most important and also the most difficult to forecast? Multiple choice question. The operating cash flows from net sales over the life of the project The costs incurred at the inception of the project The salvage value of the project The sunk costs incurred before the inception of the project
The operating cash flows from net sales over the life of the project
Among the three main sources of cash flow, which source of cash flows is the most important and also the most difficult to forecast?
The operating cash flows from net sales over the life of the project
What is the difference between the quoted yield and the effective yield?
The quoted yield does not adjust for compounding, while the effective yield adjust for compounding
How is the real rate of return different from the normal rate of return?
The real rate of return adjust the normal rate to remove the effects of inflation.
What are the three components of a nominal rate of return?
The real rate of return, compensation for the inflation effect on the original investment, compensation for the inflation effect on investment earnings
The degree of interest rate risk depends on:
The sensitivity of the bond's price to interest rate changes.
What approach does the following formula describe? OCF = (Sales - Costs) x (1-TC) + Depreciation x TC Multiple choice question. The Depreciation Shield Approach The Tax Shield Approach The Sales and Cost Approach The Depreciation Approach
The tax shield approach
What is a corporate bonds yield to maturity?
The yield to maturity is the prevailing market interest rate for bonds with similar features. It is also the expected return in for an investor who buys the barn in order to maturity.
Which of the following is (are) true about allocated costs?
These costs benefit more than on project These costs are allocated to more than one project
What are three important features of treasury notes and bonds?
They are default free, taxable and highly liquid
The sensitivity of a bonds price to enter three changes depending on which of the following two variables?
Time to maturity and the coupon rate
Which of the following terms apply to a bond?
Time to maturity, coupon rate, par value
What does TIPS stand for?
Treasury inflation protected securities
The US government borrows money by issuing
Treasury notes and treasury bonds
True or False. NPV will be same regardless of whether nominal or cash flows are used.
True. As long as nominal cash flows are discounted at the nominal rate and real cash flows are discounted at the real rate, the NPV will be the same.
What are some reasons why the bond market is so big?
Various state and local government also participate in the bond market, many corporations have multiple bond issues outstanding, and the federal government borrowing activity in the bond market is enormous.
What is a Bonds to maturity?
Yield to maturity is the expected return on a bond that is held until it matures
How is a zero coupon bond different from a conventional bond?
Zeros make no interest payments, and are always issued at a discount.
Incremental cash flows are changes in a firm's cash flows that occur as a direct consequence of _________.
accepting a project
Incremental cash flows are changes in a firm's cash flows that occur as a direct consequence of __________
accepting a project
When analyzing a project, sunk cost ______ incremental cash flows
are not
Opportunity costs are ________
benefits lost due to taking on a particular on a particular project
Opportunity costs are ____. Multiple choice question. benefits gained as a result of accepting a particular project the actual expenses incurred by a firm to preserve its market share benefits lost due to taking on a particular project the actual expenses of pursuing a specific project
benefits lost due to taking on a particular project
Allocated costs arise when a specific expenditure ________
benefits more than one project or division
The equivalent annual cost method for deciding between two machines applies only if _____
both machines will be replaced
Cash flows used in project estimation should always reflect: Multiple select question. cash flows when they occur after-tax cash flows financing costs accounting values
cash flows when they occur after-tax cash flows
Which of the following are fixed costs? Multiple select question. net working capital cost of equipment rent on a production facility inventory costs
cost of equipment rent on a production facility
Investment in net working capital arises when ___. Multiple select question. equipment is purchased using long term debt cash is kept for unexpected expenditures credit sales are made inventory is purchased
credit sales are made inventory is purchased cash is kept for unexpected expenditures
Incremental cash flows come about as a(n) ________ consequence of taking a project under consideration. Multiple choice question. sporadic indirect direct
direct
The net present value technique does not discount earnings because earnings
do not represent real money
Side effects from investing in a project refer to cash flows from: Multiple select question. beneficial spillover effects sunk costs opportunity costs erosion effects
erosion effects beneficial spillover effects
Side effects from investing in a project refer to cash flows from: Multiple select question. opportunity costs sunk costs erosion effects beneficial spillover effects
erosion effects beneficial spillover effects
Side effects from investing in a project refer to cash flows from__________
erosion effects synergy effects
The possibility that errors in projected cash flows will lead to incorrect decisions is known as: Multiple select question. guess and bless forecasting risk managerial incompetence estimation risk
estimation risk forecasting risk
True or false: Fixed costs cannot be changed over the life of the investment. True false question. True False
false
True or false: In calculating cash flows, you should consider all financing costs.
false
True or false: The depreciation tax shield is the depreciation deduction divided by the tax rate. True false question.TrueFalse
false
Sunk costs are costs that ____. Multiple choice question. cannot be measured relate to other projects of the firm have already occurred and are not affected by accepting or rejecting a project will not contribute to profits in the long run even if a project is accepted
have already occurred and are not affected by accepting or rejecting a project
Interest expenses incurred on debt financing are ______ when computing cash flows from a project. Multiple choice question. spread over the life of the project treated as cash outflows ignored treated as cash inflows
ignored
Interest expenses incurred on debt financing are ________ when computing cash flows from a project.
ignored
Interest on a municipal bond is _____
ignored for tax purposes but included as income for FASB accounting
An increase in depreciation expense will ____ cash flows from operations.
increase
If the inflation rate increases, the nominal rate of interest will ____
increase
The stand-alone principle assumes that evaluation of a project may be based on the project's ________________ cash flows. Multiple choice question. add-on net differential incremental
incremental
The difference between a firm's cash flows with a project versus without the project is called ________________. Multiple choice question. net cash flows additional cash flows incremental cash flows differential cash flows
incremental cash flows
Allocated costs must be treated as relevant of incremental costs _____
only if the costs being allocated are affected by the proposed project
The most valuable alternative that is given up if an investment is undertaken is called what? Multiple choice question. sunk cost expected value real return opportunity cost
opportunity cost
Which of the following is an example of a sunk cost? Multiple choice question. Salvage value of equipment Project variable cost Project consultation fee Bonus to top management based on project success
project consultation fee
Given a level of investment in net working capital, that same investment must be at some time in the future.
recovered
Erosion will ______ the sales of existing products. Multiple choice question. reduce not affect increase
reduce
Erosion will _______ the sales of existing products
reduce
According to the _________ principle, once the incremental cash flows from a project have been identified, the project can be viewed as a "minifirm." Multiple choice question. walk-alone stand-with stand-alone stand-and-deliver
stand-alone
To prepare proforma financial statements, estimates of quantities such as unit sales, selling price per unit, variable cost per unit, and total fixed costs are required. True false question.TrueFalse
true
True or false: Investment in net working capital may arise from the need to cover credit sales.
true
True or false: Net working capital will be recovered at the end of a project. True false question. True False
true
Estimates of which of the following are needed to prepare pro forma income statements? Multiple select question. variable costs selling price per unit competitor pricing historical trends unit sales
variable costs selling price per unit unit sales
Estimates of which of the following are needed to prepare pro forma income statements? Multiple select question. variable costs selling price per unit competitor pricing unit sales historical trends
variable costs selling price per unit unit sales