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Question 5

The coefficient of variation is a better measure of risk than the standard deviation if the expected returns of the securities being compared differ significantly.

True
False

Question 6.

In portfolio analysis, we often use ex post (historical) returns and standard deviations, despite the fact that we are interested in ex ante (future) data.

True
False

Question 7

Typically, debentures have higher interest rates than mortgage bonds primarily because the mortgage bonds are backed by assets while debentures are unsecured.

True
False

Question 8

If two firms have the same current dividend and the same expected growth rate, their stocks must sell at the same current price or else the market will not be in equilibrium.

True
False

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Question 9

Which of the following is the best measure of the wealth of a firm's stockholders?

The firm's Net Income during the past year
Expected Earnings per Share during the coming year
Book Value (or Net Worth) as recorded on the balance sheet
The price of the firm's stock on the open market

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Question 10

Consider the following firms:

Net Income Stock Price at Stock Price at
this year Beg of Year End of Year
Firm A: $10,000,000 $20 $10
Firm B: $(10,000,000) $10 $20
The manager of Firm A is doing a better job than B
The manager of Firm B is doing a better job than A
Neither manager is doing a good job
Both managers are doing a good job

Question 11

A company has the following income statement. What is its net operating profit after taxes (NOPAT)?

Sales $1,000
Costs 700
Depreciation 100
EBIT $ 200
Interest expense 50
EBT $ 150
Taxes (40%) 60
Net income $ 90

$ 90
$120
$150
$180
$200

Question 12

Carter Corporation has some money to invest, and its treasurer is choosing between City of Chicago municipal bonds and U.S. Treasury bonds. Both have the same maturity, and they are equally risky and liquid. If Treasury bonds yield 6 percent, and Carter's marginal income tax rate is 40 percent, what yield on the Chicago municipal bonds would make Carter's treasurer indifferent between the two?

2.40%
3.60%
4.50%
5.25%
6.00%

Question 13

If a firm's current ratio is less than 1.0, it indicates that:

The firm had negative net income for the year
The firm will be unable to pay its shortterm loans which come due this year
Current Assets are less than Current Liabilities
The firm is insolvent

Question 14

A firm which has a relatively large amount of cash and receivables in its current assets accounts and a relatively small amount of current liabilities would be considered:

liquid
profitable
risky
nuts

Question 15

In November 2011 you bought 100 shares of Microsoft stock for $35.375 a share. In November 2013 you sold your stock for $92.5625 a share. What was your average annual rate of return on your Microsoft investment? (disregard dividends and commissions)

262%
62%
585%
1.6%

Question 16

You deposit $2,000 in a savings account that pays 10 percent interest, compounded annually. How much will your account be worth in 15 years?

$2,030.21
$5,000.00
$8,091.12
$8,354.50
$9,020.10

Question 17

You can earn 8 percent interest, compounded annually. How much must you deposit today to withdraw $10,000 in 6 years?

$5,402.69
$6,301.70
$6,756.76
$8,432.10
$9,259.26

Question 18

Calculate the required rate of return for Mercury, Inc., assuming that the real rate of interest is 3 percent, investors expect a 5 percent rate of inflation in the future, and they expect the rate of return on the overall stock market to be 13 percent. Mercury has a beta of 2.0.

15%
16%
17%
18%
None of the above

Question 19

Which is the best measure of risk for an asset held in isolation? Which is the best measure for an asset held in a diversified portfolio?

Variance; correlation coefficient
Standard deviation; correlation coefficient
Beta; variance
Coefficient of variation; beta
Beta; beta

Question 20

You have three stocks in your portfolio. $10,000 is invested in a stock with a beta of 1.50 and $15,000 is invested in a stock with a beta of 1.00, and $25,000 is invested in a stock with a beta of 0.50. What is the beta of your portfolio?

0.28
0.85
1.00
3.00

Question 21

A corporate bond with a $1,000 face value pays a $50 coupon every six months. The bond will mature in ten years, and has a nominal yield to maturity of 9 percent. What is the price of the bond?

$ 634.86
$1,064.18
$1,065.04
$1,078.23
$1,094.56

Question 22

The Jones Company has decided to undertake a large project. Consequently, there is a need for additional funds. The financial manager plans to issue preferred stock with a perpetual annual dividend of $5 per share and a par value of $30. If the required return on this stock is currently 20 percent, what should be the stock's market value?

$150
$100
$ 50
$ 25
$ 10

Question 23

A share of common stock has just paid a dividend of $2.00. If the expected long-run growth rate for this stock is 15 percent, and if investors require a 19 percent rate of return, what is the price of the stock?

$57.50
$62.25
$71.86
$64.00
$44.92

Question 24

A stock is not expected to pay a dividend over the next four years. Five years from now, the company anticipates that it will establish a dividend of $1.00 per share (i.e., D5 = $1.00). Once the dividend is established, the market expects that the dividend will grow at a constant rate of 5 percent per year forever. The risk-free rate is 5 percent, the company's beta is 1.2, and the market risk premium is 5 percent. The required rate of return on the company’s stock is expected to remain constant. What is the current stock price?

$ 7.36
$ 8.62
$ 9.89
$10.98
$11.53

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Irving HeathcoteLv2
29 Sep 2019

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Related questions

QUESTION 1

In the lease versus buy decision, leasing is often preferable

A.

because the lessee owns the property at the end of the least term.

B.

because lease obligations do not affect the firm's risk as seen by investors.

C.

because, generally, no down payment is required, and there are no indirect interest costs.

D.

because it has no effect on the firm's ability to borrow to make other investments.

E.

because the lessee may have greater flexibility in abandoning the project in which the leased property is used than if the lessee bought and owned the asset.

2 points

QUESTION 2

The tighter the probability distribution of its expected future returns, the greater the risk of a given investment as measured by its standard deviation.

True

False

2 points

QUESTION 3

Ratio analysis involves analyzing financial statements in order to appraise a firm's financial position and strength.

True

False

2 points

QUESTION 4

Which of the following statements is CORRECT?

A.

If the returns on two stocks are perfectly positively correlated (i.e., the correlation coefficient is +1.0) and these stocks have identical standard deviations, an equally weighted portfolio of the two stocks will have a standard deviation that is less than that of the individual stocks.

B.

If a stock has a negative beta, its expected return must be negative.

C.

A portfolio with a large number of randomly selected stocks would have less market risk than a single stock that has a beta of 0.5.

D.

According to the CAPM, stocks with higher standard deviations of returns must also have higher expected returns.

E.

A portfolio with a large number of randomly selected stocks would have more market risk than a single stock that has a beta of 0.5, assuming that the stock's beta was correctly calculated and is stable.

2 points

QUESTION 5

Many leases written today combine the features of operating and financial leases. Such leases are often called "combination leases."

True

False

2 points

QUESTION 6

The owner of a convertible bond owns, in effect, both a bond and a call option.

True

False

2 points

QUESTION 7

If a firm raises capital by selling new bonds, it is called the "issuing firm," and the coupon rate is generally set equal to the required rate on bonds of equal risk.

True

False

2 points

QUESTION 8

Which of the following statements is most CORRECT?

A.

Warrants can sometimes be detached and traded separately from the debt with which they were issued, but this is unusual.

B.

One important difference between warrants and convertibles is that convertibles bring in additional funds when they are converted, but exercising warrants does not bring in any additional funds.

C.

The coupon rate on convertible debt is normally set below the coupon rate that would be set on otherwise similar straight debt even though investing in convertibles is more risky than investing in straight debt.

D.

Warrants have an option feature but convertibles do not.

E.

The value of a warrant to buy a safe, stable stock should exceed the value of a warrant to buy a risky, volatile stock, other things held constant.

2 points

QUESTION 9

Because of improvements in forecasting techniques, estimating the cash flows associated with a project has become the easiest step in the capital budgeting process.

True

False

2 points

QUESTION 10

The form of organization for a business is not an important issue, as this decision has very little effect on the income and wealth of the firm's owners.

True

False

2 points

QUESTION 11

Two important issues in corporate governance are (1) the rules that cover the board's ability to fire the CEO and (2) the rules that cover the CEO's ability to remove members of the board.

True

False

2 points

QUESTION 12

The "preferred" feature of preferred stock means that it normally will provide a higher expected return than will common stock.

True

False

2 points

QUESTION 13

If an investment project would make use of land which the firm currently owns, the project should be charged with the opportunity cost of the land.

True

False

2 points

QUESTION 14

Operating leases help to shift the risk of obsolescence from the user to the lessor.

True

False

2 points

QUESTION 15

Starting to invest early for retirement increases the benefits of compound interest.

True

False

2 points

QUESTION 16

Market risk refers to the tendency of a stock to move with the general stock market. A stock with above-average market risk will tend to be more volatile than an average stock, and its beta will be greater than 1.0.

True

False

2 points

QUESTION 17

Other things held constant, an increase in the cost of capital will result in a decrease in a project's IRR.

True

False

2 points

QUESTION 18

An option is a contract that gives its holder the right to buy or sell an asset at a predetermined price within a specified period of time.

True

False

2 points

QUESTION 19

The optimal distribution policy strikes that balance between current dividends and capital gains that maximizes the firm's stock price.

True

False

2 points

QUESTION 20

If the current price of a stock is below the strike price, then an option to buy the stock is worthless and will have a zero value.

True

False

2 points

QUESTION 21

The desire for floating-rate bonds, and consequently their increased usage, arose out of the experience of the early 1980s, when inflation pushed interest rates up to very high levels and thus caused sharp declines in the prices of outstanding bonds.

True

False

2 points

QUESTION 22

Taylor Inc. estimates that its average-risk projects have a WACC of 10%, its below-average risk projects have a WACC of 8%, and its above-average risk projects have a WACC of 12%. Which of the following projects (A, B, and C) should the company accept?

A.

Project C, which is of above-average risk and has a return of 11%.

B.

Project A, which is of average risk and has a return of 9%.

C.

None of the projects should be accepted.

D.

All of the projects should be accepted.

E.

Project B, which is of below-average risk and has a return of 8.5%.

2 points

QUESTION 23

To finance the construction of a new plant, Pietersen Corporation must raise an additional $10,000,000 of equity capital through the sale of common stock. The firm currently has an EPS of $5.40 and a P/E ratio of 10, with 1,200,000 shares outstanding. If the firm wants its ex-rights price to be $50, what subscription price must it set on the new shares?

A.

$39.28

B.

$50.00

C.

$29.55

D.

$41.80

E.

$33.78

2 points

QUESTION 24

Which of the following statements is CORRECT, assuming positive interest rates and holding other things constant?

A.

A 30-year, $150,000 amortized mortgage will have larger monthly payments than an otherwise similar 20-year mortgage.

B.

A bank loan's nominal interest rate will always be equal to or less than its effective annual rate.

C.

The present value of a 5-year, $250 annuity due will be lower than the PV of a similar ordinary annuity.

D.

If an investment pays 10% interest, compounded annually, its effective annual rate will be less than 10%.

E.

Banks A and B offer the same nominal annual rate of interest, but A pays interest quarterly and B pays semiannually. Deposits in Bank B will provide the higher future value if you leave your funds on deposit.

2 points

QUESTION 25

Which of the following statements is CORRECT?

A.

In the statement of cash flows, a decrease in inventories is reported as a use of cash.

B.

In the statement of cash flows, a decrease in accounts receivable is reported as a use of cash.

C.

In the statement of cash flows, depreciation charges are reported as a use of cash.

D.

In the statement of cash flows, a decrease in accounts payable is reported as a use of cash.

E.

Dividends do not show up in the statement of cash flows because dividends are considered to be a financing activity, not an operating activity.

2 points

QUESTION 26

The term "additional funds needed (AFN)" is generally defined as follows:

A.

A forecasting approach in which the forecasted percentage of sales for each balance sheet account is held constant.

B.

Funds that are obtained automatically from routine business transactions.

C.

Funds that a firm must raise externally from non-spontaneous sources, i.e., by borrowing or by selling new stock to support operations.

D.

The amount of internally generated cash in a given year minus the amount of cash needed to acquire the new assets needed to support growth.

E.

The amount of assets required per dollar of sales.

2 points

QUESTION 27

The cash flows associated with common stock are more difficult to estimate than those related to bonds because stock has a residual claim against the company versus a contractual obligation for a bond.

True

False

2 points

QUESTION 28

Which of the following statements is CORRECT?

A.

The NPV method automatically deals correctly with externalities, even if the externalities are not specifically identified, but the IRR method does not. This is another reason to favor the NPV.

B.

Identifying an externality can never lead to an increase in the calculated NPV.

C.

Both the NPV and IRR methods deal correctly with externalities, even if the externalities are not specifically identified. However, the payback method does not.

D.

An example of an externality is a situation where a bank opens a new office, and that new office causes deposits in the bank's other offices to increase.

E.

An externality is a situation where a project would have an adverse effect on some other part of the firm's overall operations. If the project would have a favorable effect on other operations, then this is not an externality.

2 points

QUESTION 29

Time lines can be constructed in situations where some of the cash flows occur annually but others occur quarterly.

True

False

2 points

QUESTION 30

A warrant is an option, and as such it cannot be used as a "sweetener."

True

False

2 points

QUESTION 31

BLW Corporation is considering the terms to be set on the options it plans to issue to its executives. Which of the following actions would decrease the value of the options, other things held constant?

A.

The life of the option is increased, i.e., the time until it expires is lengthened.

B.

The exercise price of the option is increased.

C.

The Federal Reserve takes actions that increase the risk-free rate.

D.

BLW's stock price becomes more risky (higher variance).

E.

BLW's stock price suddenly increases.

2 points

QUESTION 32

Convertible debentures for Kulik Corporation were issued at their $1,000 par value in 2012. At any time prior to maturity on February 1, 2032, a debenture holder can exchange a bond for 25 shares of common stock. What is the conversion price, Pc?

A.

$48.62

B.

$40.00

C.

$42.00

D.

$46.31

E.

$44.10

2 points

QUESTION 33

A stock is expected to pay a dividend of $0.75 at the end of the year. The required rate of return is rs = 10.5%, and the expected constant growth rate is g = 6.4%. What is the stock's current price?

A.

$18.29

B.

$17.39

C.

$19.22

D.

$18.75

E.

$17.84

2 points

QUESTION 34

If a firm's goal is to maximize its earnings per share, this is the best way to maximize the price of the common stock and thus shareholders' wealth.

True

False

2 points

QUESTION 35

The common stock of Southern Airlines currently sells for $33, and its 8% convertible debentures (issued at par, or $1,000) sell for $850. Each debenture can be converted into 25 shares of common stock at any time before 2025. What is the conversion value of the bond?

A.

$783.75

B.

$744.56

C.

$825.00

D.

$866.25

E.

$707.33

2 points

QUESTION 36

Which of the following statements is CORRECT?

A.

If interest rates increase, the price of a 10-year coupon bond will decline by a greater percentage than the price of a 10-year zero coupon bond.

B.

If a bond's yield to maturity exceeds its annual coupon, then the bond will trade at a premium.

C.

If a coupon bond is selling at par, its current yield equals its yield to maturity.

D.

If a coupon bond is selling at a premium, its current yield equals its yield to maturity.

E.

If a coupon bond is selling at a discount, its price will continue to decline until it reaches its par value at maturity.

2 points

QUESTION 37

A proxy is a document giving one party the authority to act for another party, including the power to vote shares of common stock. Proxies can be important tools relating to control of firms.

True

False

2 points

QUESTION 38

Projects S and L are equally risky, mutually exclusive, and have normal cash flows. Project S has an IRR of 15%, while Project L's IRR is 12%. The two projects have the same NPV when the WACC is 7%. Which of the following statements is CORRECT?

A.

Project S's NPV is more sensitive to changes in WACC than Project L's.

B.

If the WACC is 13%, Project S will have the lower NPV.

C.

If the WACC is 6%, Project S will have the higher NPV.

D.

If the WACC is 10%, both projects will have positive NPVs.

E.

If the WACC is 10%, both projects will have a negative NPV.

2 points

QUESTION 39

A firm's AFN must come from external sources. Typical sources include short-term bank loans, long-term bonds, preferred stock, and common stock.

True

False

2 points

QUESTION 40

Which of the following could explain why a business might choose to operate as a corporation rather than as a sole proprietorship or a partnership?

A.

Less of a corporation's income is generally subjected to taxes than would be true if the firm were a partnership.

B.

Corporate shareholders escape liability for the firm's debts, but this factor may be offset by the tax disadvantages of the corporate form of organization.

C.

Corporations generally find it relatively difficult to raise large amounts of capital.

D.

Corporations generally face relatively few regulations.

E.

Corporate investors are exposed to unlimited liability.

2 points

QUESTION 41

The cost of debt is equal to one minus the marginal tax rate multiplied by the average coupon rate on all outstanding debt.

True

False

2 points

QUESTION 42

Amram Company's current ratio is 1.9. Considered alone, which of the following actions would reduce the company's current ratio?

A.

Use cash to reduce accruals.

B.

Borrow using short-term notes payable and use the proceeds to reduce long-term debt.

C.

Use cash to reduce accounts payable.

D.

Borrow using short-term notes payable and use the proceeds to reduce accruals.

E.

Use cash to reduce short-term notes payable.

2 points

QUESTION 43

ESOPs were originally designed to help improve worker productivity, but today they are also used to help prevent hostile takeovers.

True

False

2 points

QUESTION 44

High current and quick ratios always indicate that a firm is managing its liquidity position well.

True

False

2 points

QUESTION 45

A firm should never accept a project if its acceptance would lead to an increase in the firm's cost of capital (its WACC).

True

False

2 points

QUESTION 46

"Capital" is sometimes defined as funds supplied to a firm by investors.

True

False

2 points

QUESTION 47

Heavy use of off-balance sheet lease financing will tend to

A.

affect a company's cash flows but not its degree of risk.

B.

make a company appear less risky than it actually is because its stated debt ratio will appear lower.

C.

make a company appear more risky than it actually is because its stated debt ratio will be increased.

D.

affect the lessee's cash flows but only due to tax effects.

E.

have no effect on either cash flows or risk because the cash flows are already reflected in the income statement.

2 points

QUESTION 48

As a firm's sales grow, its current assets also tend to increase. For instance, as sales increase, the firm's inventories generally increase, and purchases of inventories result in more accounts payable. Thus, spontaneous liabilities that reduce AFN arise from transactions brought on by sales increases.

True

False

2 points

QUESTION 49

On the balance sheet, total assets must always equal total liabilities and equity.

True

False

2 points

QUESTION 50

The annual report contains four basic financial statements: the income statement, balance sheet, statement of cash flows, and statement of stockholders' equity.

True

False

Instructions: Use the formula below to compute the problems: “Please Read the question carefully.”

Kd = Yield (1 – T)

1. Telecom Systems can issue debt yielding 8 percent. The company is in a 35 percent bracket. What is its after-tax cost of debt?

2. After-tax cost of debt: Royal Jewelers Inc., has an aftertax cost of debt of 6 percent. With a tax rate of 40 percent, what can you assume the yield on the debt is?

3.

Cash flow: Assume a corporation has earnings before depreciation and taxes of $100,000, depreciation of $50,000, and that it has a 30 percent tax bracket. Compute its cash flow using the format below.

Earnings before depreciation and taxes _____

Depreciation _____

Earnings before taxes _____

Taxes @ 30% _____

Earnings after taxes _____

Depreciation _____

4.

Cost of preferred stock: Medco Corporation can sell preferred stock for $80 with an estimated flotation cost of $3. It is anticipated the preferred stock will pay $6 per share in dividends.

a. Compute the cost of preferred stock for Medco Corp.

b. Do we need to make a tax adjustment for the issuing firm?

5. Cost of preferred stock: The Meredith Corporation issued $100 par value preferred stock 10 years ago. The stock provided an 8 percent yield at the time of issue. The preferred stock is now selling for $75. What is the current yield or cost of the preferred stock? (Disregard flotation costs.)

6. Costs of retained earnings and new common stock: Barton Electronics wants you to calculate its cost of common stock. During the next 12 months, the company expects to pay dividends (D1) of $1.20 per share, and the current price of its common stock is $30 per share. The expected growth rate is 9 percent.

a. Compute the cost of retained earnings (Ke). Use Formula 11-6.

b. If a $2 flotation cost is involved, compute the cost of new common stock (Kn). Use Formula 11-7.

7. A firm's cost of preferred stock is equal to the preferred dividend divided by market price plus the dividend growth rate (Kp= D/Po+ g).

8. The coefficient of variation, calculated as the standard deviation of expected returns divided by the expected return, is a standardized measure of the risk per unit of expected return.

a. True

b. False

9. The standard deviation is a better measure of risk than the coefficient of variation if the expected returns of the securities being compared differ significantly.

a. True

b. False

10. The CAPM is built on historic conditions, although in most cases we use expected future data in applying it. Because betas used in the CAPM are calculated using expected future data, they are not subject to changes in future volatility. This is one of the strengths of the CAPM.

a. True

b. False

11. You have the following data on three stocks:

Stock

Standard Deviation

Beta

A

20%

0.59

B

10%

0.61

C

12%

1.29

If you are a strict risk minimizer, you would choose Stock if it is to be held in isolation and Stock if it is to be held as part of a well-diversified portfolio.

a. A; A.

b. A; B.

c. B; A.

d. C; A.

e. C; B.

12. A portfolio’s risk is measured by the weighted average of the standard deviations of the securities in the portfolio. It is this aspect of portfolios that allows investors to combine stocks and thus reduce the riskiness of their portfolios.

a. True

b. False

13. You are considering two bonds. Bond A has a 9% annual coupon while Bond B has a 6% annual coupon. Both bonds have a 7% yield to maturity, and the YTM is expected to remain constant. Which of the following statements is CORRECT?

a. The price of Bond B will decrease over time, but the price of Bond A will increase over time.

b. The prices of both bonds will remain unchanged.

c. The price of Bond A will decrease over time, but the price of Bond B will increase over time.

d. The prices of both bonds will increase by 7% per year.

e. The prices of both bonds will increase over time, but the price of Bond A will increase at a faster rate.

14. A 12-year bond has an annual coupon of 9%. The coupon rate will remain fixed until the bond matures. The bond has a yield to maturity of 7%. Which of the following statements is CORRECT?

a. If market interest rates decline, the price of the bond will also decline.

b. The bond is currently selling at a price below its par value.

c. If market interest rates remain unchanged, the bond’s price one year from now will be lower than it is today.

d. The bond should currently be selling at its par value.

e. If market interest rates remain unchanged, the bond’s price one year from now will be higher than it is today.

15. Suppose the real risk-free rate is 3.50% and the future rate of inflation is expected to be constant at 2.20%. What rate of return would you expect on a 1-year Treasury security, assuming the pure expectations theory is valid? Disregard cross-product terms, i.e., if averaging is required, use the arithmetic average.

a. 5.14%

b. 5.42%

c. 5.70%

d. 5.99%

e. 6.28%

16. Suppose 1-year T-bills currently yield 7.00% and the future inflation rate is expected to be constant at 3.20% per year. What is the real risk-free rate of return, r*? Disregard any cross-product terms, i.e., if averaging is required, use the arithmetic average.

a. 3.80%

b. 3.99%

c. 4.19%

d. 4.40%

e. 4.62%

17. Assume that interest rates on 20-year Treasury and corporate bonds are as follows:

T-bond = 7.72% AAA = 8.72% A = 9.64% BBB = 10.18%

The differences in these rates were probably caused primarily by:

a. Tax effects.

b. Default and liquidity risk differences.

c. Maturity risk differences.

d. Inflation differences.

e. Real risk-free rate differences.

18. You plan to analyze the value of a potential investment by calculating the sum of the present values of its expected cash flows. Which of the following would lower the calculated value of the investment?

a. The cash flows are in the form of a deferred annuity, and they total to $100,000. You learn that the annuity lasts for only 5 rather than 10 years, hence that each payment is for $20,000 rather than for $10,000.

b. The discount rate increases.

c. The riskiness of the investment’s cash flows decreases.

d. The total amount of cash flows remains the same, but more of the cash flows are received in the earlier years and less are received in the later years.

e. The discount rate decreases.

19. Assume that inflation is expected to decline steadily in the future, but that the real risk-free rate, r*, will remain constant. Which of the following statements is CORRECT, other things held constant?

a. If the pure expectations theory holds, the Treasury yield curve must be downward sloping.

b. If the pure expectations theory holds, the corporate yield curve must be downward sloping.

c. If there is a positive maturity risk premium, the Treasury yield curve must be upward sloping.

d. If inflation is expected to decline, there can be no maturity risk premium.

e. The expectations theory cannot hold if inflation is decreasing.

20. Disregarding risk, if money has time value, it is impossible for the present value of a given sum to exceed its future value.

a. True

b. False

1. Which of the following is true?
The corporation model can be used to value divisions and firms that do not pay dividends.
The discounted dividend model can be used to value divisions and firms that do not pay dividends.
For the discounted dividend model, a firm's weighted average cost of capital is used as the discount rate.
For the corporate valuation model, a firm's cost of equity is used as the discount rate.
Question 2.2. Which of the following is false?
For the constant growth model to hold, a firm's cost of equity needs to be smaller than its constant dividend growth rate (i.e., rs < g).
For the constant growth model to hold, a firm's cost of equity needs to be greater than its constant dividend growth rate (i.e., rs > g).
From the constant growth model, if the constant dividend growth rate is equal to zero, a firm's share price is equal to the constant dividend divided by the cost of equity (i.e., g=0).
If a company's constant dividend growth rate is negative, the formula for the constant growth model cannot be applied.
Question 3.3. From the discussion of a firm's capital budgeting problem in chapter 11, which of the following is false? (Points : 3.5)
The net present value method (NPV) assumes that cash flows are reinvested at the weighted average cost of capital (WACC).
The internal rate of return method (IRR) assumes that cash flows are reinvested at the internal rate of return.
The modified internal rate of return method (MIRR) assumes that cash flows are reinvested at the weighted average cost of cpaital.
For mutually exclusive projects, if there is a conflict between NPV and IRR, the project with the highest IRR is chosen.
The IRR is independent of a firm's weighted average cost of capital.
Question 4.4. Which of the following is true? (
As a firm's dividend payout ratio increases, the firm's WACC decreases.
The WACC only represents the "hurdle rate" for a typical project with average risk. Therefore, the project's WACC should be adjusted to reflect the project's risk.
Firms with riskier projects generally have a lower WACC.
Holding all else constant, an increase in the target debt ratio tends to lower the WACC.
Question 5.5. Which of the following is false?
If interest rates rise, the price of the bond will rise and its YTM (yield to maturity) will fall.
Short-term bond prices are less sensitive than long-term bond prices to interest rate changes.
Companies are not likely to call bonds unless interest rates have declined significantly. Thus, the call provision is valuable to firms but detrimental to long term investors.
On balance, bonds that have a sinking fund are regarded as being safer than those without such a provision.
Question 6.6. Which of the following is not true? (Points : 3.5)
According to SML (security market line), the risk premium on a high-beta stock would increase more than that on a low-beta stock.
If beta < 1.0, the security is less risky than average.
According to the Security Market Line (SML), in general, a company’s expected return will double when its beta doubles.
According to the Security Market Line (SML), if a portfolio of real world stocks has a beta of zero, the required rate of return for the portfolio is equal to the risk-free rate.
Question 7.7. P&G Industries bonds have a maturity of 15 years with a $1,000 face value, have an 8% semiannual coupon, are callable in 10 years at $1,125, and currently sell at a price of $1,105. What is their nominal annual yield to call?
6.87%.
7.37%.
11.05%.
8.32%.
Question 8.8. Which of the following is not the flaw (weakness) of the discounted payback method? (Points : 3.5)
It does not tells us by how much the project should increase shareholder wealth, or by how much a project yields over the cost of capital; it merely tells us when we recover our investment.
It ignores cash flows occurring after the payback period.
It ignores the time value of money, that is, dollars received in different years are all given the same weight.
Question 9.9. Jermey Lin has $52,500 invested a stock with a beta of 0.80 and another $47,500 invested in a stock with a beta of 3.2. If these are the only two investments in his portfolio, what is his portfolio's beta?
1.56.
1.82.
2.00.
1.94
Question 10.10. According to CAPM, if the required rate of the return of Stock A obtained from the security market line (SML) is less than the expected rate of the return of stock A from the capital market transaction, then stock A is
fairly priced.
undervalued.
overvalued.
Question 11.11. Determine the yield-to-call (to nearest 0.1 of a percent) of an LTV bond with a 12 percent coupon, that pays interest annually. The bond can be called in 5 years, has a call premium of $114, and is currently selling for $912.50. The bond has a face value of $1,000.
14.58%.
13.92%.
16.34%.
12.17%.
Question 12.12. Project M costs $1,000, its expected cash inflows are $500 per year for 3 years, and its WACC is 11%. What is the project's NPV? (Points : 3.5)
$259.57.
$221.86.
$195.23.
$257.35.
Question 13.13. Project J costs $1,025, its expected cash inflows are $425 per year for 3 years, and its WACC is 10%. What is the project's IRR?
12.58%.
10.82%.
11.76%.
9.64%.
Question 14.14. Project X costs $6,750, its expected cash inflows are $1250 per year for 10 years, and its WACC is 10%. What is the project's payback?(Note, the regular payback is asked in this question, not the discounted payback.) (Points : 3.5)
5.40 years.
10 years.
4.58 years.
6.12 years.
Question 15.15. Project S costs $800, its expected cash inflows are $350 per year for 3 years, and its WACC is 7%. What is the project's MIRR?
13.97%.
12.04%.
14.93%.
9.15%.
Question 16.16. Project Y costs $650, its expected cash inflows are $500 per year for 5 years, and its WACC is 10%. What is the project's discounted payback?
1.47 years.
1.24 years.
1.62 years.
1.15 years.
1. Which of the following is true?
The corporation model can be used to value divisions and firms that do not pay dividends.
The discounted dividend model can be used to value divisions and firms that do not pay dividends.
For the discounted dividend model, a firm's weighted average cost of capital is used as the discount rate.
For the corporate valuation model, a firm's cost of equity is used as the discount rate.
Question 2.2. Which of the following is false?
For the constant growth model to hold, a firm's cost of equity needs to be smaller than its constant dividend growth rate (i.e., rs < g).
For the constant growth model to hold, a firm's cost of equity needs to be greater than its constant dividend growth rate (i.e., rs > g).
From the constant growth model, if the constant dividend growth rate is equal to zero, a firm's share price is equal to the constant dividend divided by the cost of equity (i.e., g=0).
If a company's constant dividend growth rate is negative, the formula for the constant growth model cannot be applied.
Question 3.3. From the discussion of a firm's capital budgeting problem in chapter 11, which of the following is false?
The net present value method (NPV) assumes that cash flows are reinvested at the weighted average cost of capital (WACC).
The internal rate of return method (IRR) assumes that cash flows are reinvested at the internal rate of return.
The modified internal rate of return method (MIRR) assumes that cash flows are reinvested at the weighted average cost of cpaital.
For mutually exclusive projects, if there is a conflict between NPV and IRR, the project with the highest IRR is chosen.
The IRR is independent of a firm's weighted average cost of capital.
Question 4.4. Which of the following is true? (Points : 3.5)
As a firm's dividend payout ratio increases, the firm's WACC decreases.
The WACC only represents the "hurdle rate" for a typical project with average risk. Therefore, the project's WACC should be adjusted to reflect the project's risk.
Firms with riskier projects generally have a lower WACC.
Holding all else constant, an increase in the target debt ratio tends to lower the WACC.
Question 5.5. Which of the following is false? (Points : 3.5)
If interest rates rise, the price of the bond will rise and its YTM (yield to maturity) will fall.
Short-term bond prices are less sensitive than long-term bond prices to interest rate changes.
Companies are not likely to call bonds unless interest rates have declined significantly. Thus, the call provision is valuable to firms but detrimental to long term investors.
On balance, bonds that have a sinking fund are regarded as being safer than those without such a provision.
Question 6.6. Which of the following is not true? (Points : 3.5)
According to SML (security market line), the risk premium on a high-beta stock would increase more than that on a low-beta stock.
If beta < 1.0, the security is less risky than average.
According to the Security Market Line (SML), in general, a company’s expected return will double when its beta doubles.
According to the Security Market Line (SML), if a portfolio of real world stocks has a beta of zero, the required rate of return for the portfolio is equal to the risk-free rate.
Question 7.7. P&G Industries bonds have a maturity of 15 years with a $1,000 face value, have an 8% semiannual coupon, are callable in 10 years at $1,125, and currently sell at a price of $1,105. What is their nominal annual yield to call? (Points : 3.5)
6.87%.
7.37%.
11.05%.
8.32%.
Question 8.8. Which of the following is not the flaw (weakness) of the discounted payback method? (Points : 3.5)
It does not tells us by how much the project should increase shareholder wealth, or by how much a project yields over the cost of capital; it merely tells us when we recover our investment.
It ignores cash flows occurring after the payback period.
It ignores the time value of money, that is, dollars received in different years are all given the same weight.
Question 9.9. Jermey Lin has $52,500 invested a stock with a beta of 0.80 and another $47,500 invested in a stock with a beta of 3.2. If these are the only two investments in his portfolio, what is his portfolio's beta? (Points : 3.5)
1.56.
1.82.
2.00.
1.94
Question 10.10. According to CAPM, if the required rate of the return of Stock A obtained from the security market line (SML) is less than the expected rate of the return of stock A from the capital market transaction, then stock A is (
fairly priced.
undervalued.
overvalued.
Question 11.11. Determine the yield-to-call (to nearest 0.1 of a percent) of an LTV bond with a 12 percent coupon, that pays interest annually. The bond can be called in 5 years, has a call premium of $114, and is currently selling for $912.50. The bond has a face value of $1,000. (Points : 3.5)
14.58%.
13.92%.
16.34%.
12.17%.
Question 12.12. Project M costs $1,000, its expected cash inflows are $500 per year for 3 years, and its WACC is 11%. What is the project's NPV?
$259.57.
$221.86.
$195.23.
$257.35.
Question 13.13. Project J costs $1,025, its expected cash inflows are $425 per year for 3 years, and its WACC is 10%. What is the project's IRR? (
12.58%.
10.82%.
11.76%.
9.64%.
Question 14.14. Project X costs $6,750, its expected cash inflows are $1250 per year for 10 years, and its WACC is 10%. What is the project's payback?(Note, the regular payback is asked in this question, not the discounted payback.) (Points : 3.5)
5.40 years.
10 years.
4.58 years.
6.12 years.
Question 15.15. Project S costs $800, its expected cash inflows are $350 per year for 3 years, and its WACC is 7%. What is the project's MIRR? (
13.97%.
12.04%.
14.93%.
9.15%.
Question 16.16. Project Y costs $650, its expected cash inflows are $500 per year for 5 years, and its WACC is 10%. What is the project's discounted payback?
1.47 years.
1.24 years.
1.62 years.
1.15 years.

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