finance 510 graded final_aaron

Review Assessment: Final Exam User Aaron M Courtright

Submitted 2/20/10 12:09 AM

Name Final Exam

Status Needs Grading

Score 215 out of 250 points

Time Elapsed

4 hours, 1 minutes, and 24 seconds out of 4 hours and 0 minutes allowed.

Instructions

Question

1 0 out of 5 points

McCue Inc.'s bonds currently sell for $1,100. They pay a $90 annual coupon, have a 25-year maturity, and a $1,000 par value, but they can be called in 5 years at $1,050. Assume that no costs other than the call premium would be incurred to call and refund the bonds, and also assume that the yield curve is horizontal, with rates expected to remain at current levels on into the future. What is the difference between this bond's YTM and its YTC? (Subtract the YTC from the YTM; it is possible to get a negative answer.)

Selected Answer:

0.64%

Correct Answer: 0.66%

Feedback: If held to maturity:

If called in 5 years:

N = Maturity

25 N = Call 5

Price = PV

$1,100 PV $1,100

PMT $90 PMT $90FV = Par $1,000 FV = Call

Price$1,050

I/YR = YTM

8.06% I/YR = YTC

7.40%

Difference: YTM - YTC = 0.66%

Question

2 5 out of 5 points

Which of the following statements is CORRECT?

Selected Answer:

Using accelerated depreciation rather than straight line normally has the

effect of speeding up cash flows and thus increasing a project’s forecasted NPV.

Correct Answer:

Using accelerated depreciation rather than straight line normally has the

effect of speeding up cash flows and thus increasing a project’s forecasted NPV.

Question 0 out of 5 points

3

A firm wants to strengthen its financial position. Which of the following actions would INCREASE its current ratio?

Selected Answer:

Use cash to increase inventory holdings.

Correct Answer:

Issue new stock, then use some of the proceeds to purchase additional

inventory and hold the remainder as cash.

Question

4 5 out of 5 points

Zero Corp's total common equity at the end of last year was $430,000 and its net income was $70,000. What was its ROE?

Selected Answer: 16.28%


Feedback: Common equity $430,000Net income $70,000ROE = NI/Equity =

16.28%

Question

5 5 out of 5 points

Which of the following investments would have the highest future value at the end of 10 years? Assume that the effective annual rate for all investments is the same and is greater than zero.

Selected Answer:

Investment A pays $250 at the beginning of every year for the next 10

years (a total of 10 payments).

Correct Answer:

Investment A pays $250 at the beginning of every year for the next 10

years (a total of 10 payments).

Feedback: A dominates B because it provides the same total amount, but it comes faster, hence it can earn more interest over the 10 years. A also dominates C and E for the same reason, and it dominates D because with D no interest whatever is earned. We could also do these calculations to answer the question:

A $4,382.79 Largest EFF% 10.00% 10 250B $4,081.59 NOM% 9.76% 125C $4,280.81 125D $2,500.00 2500E $3,984.36 250

Question

6 5 out of 5 points

Which of the following is a primary market transaction?

Selected Answer:

IBM issues 2,000,000 shares of new stock and sells them to the public

through an investment banker.

Correct IBM issues 2,000,000 shares of new stock and sells them to the public

Answer: through an investment banker.

Question

7 5 out of 5 points


Selected Answer:

A good example of a sunk cost is money that a banking corporation spent

last year to investigate the site for a new office, then expensed that cost for tax purposes, and now is deciding whether to go forward with the project.

Correct Answer:

A good example of a sunk cost is money that a banking corporation spent

last year to investigate the site for a new office, then expensed that cost for tax purposes, and now is deciding whether to go forward with the project.

Question

8 5 out of 5 points

Which of the following statements is CORRECT? Assume that the project being considered has normal cash flows, with one outflow followed by a series of inflows.

Selected Answer:

To find a project’s IRR, we must solve for the discount rate that causes

the PV of the inflows to equal the PV of the project’s costs.

Correct Answer:

To find a project’s IRR, we must solve for the discount rate that causes

the PV of the inflows to equal the PV of the project’s costs.

Question

9 0 out of 5 points


Selected Answer:

The optimal capital structure minimizes the cost of equity, which is a

necessary condition for maximizing the stock price.

Correct Answer:

The optimal capital structure simultaneously maximizes the stock price

and minimizes the WACC.

Question

10 5 out of 5 points


Selected Answer:

Increasing a company's debt ratio will typically increase the marginal

costs of both debt and equity financing. However, this action still may lower the company's WACC.

Correct Answer:

Increasing a company's debt ratio will typically increase the marginal

costs of both debt and equity financing. However, this action still may lower the company's WACC.

Question


To help finance a major expansion, Castro Chemical Company sold a noncallable bond several years ago that now has 20 years to maturity. This bond has a 9.25% annual coupon, paid semiannually, sells at a price of $875, and has a par value of $1,000. If the firm's tax rate is 40%, what is the component cost of debt for use in the WACC calculation?

Selected Answer:

6.47%


Feedback: Coupon rate 9.25%Periods/year 2Maturity (yr) 20Bond price $875.00Par value $1,000Tax rate 40%Calculator inputs:N = 2 x 20 40PV = Bond's price -

$875.00

PMT = Coupon rate Par / 2

$46.25

FV = Par = Maturity value $1,000

Calculator output: I/YR, semiannual rate 5.39%

Annual rate = 2 (I/YR) = Before-tax cost of debt 10.79%= After-tax cost (A-T rd) for use in WACC 6.47%

Question


Suppose the yield on a 10-year T-bond is currently 5.05% and that on a 10-year Treasury Inflation Protected Security (TIPS) is 2.85%. Suppose further that the MRP on a 10-year T-bond is 0.90%, that no MRP is required on a TIPS, and that no liquidity premium is required on any T-bond. Given this information, what is the expected rate of inflation over the next 10 years? Disregard cross-product terms, i.e., if averaging is required, use the arithmetic average.

Selected Answer:

1.30%


Feedback:

10-year T-bond yield

5.05%

10-year TIPS yield = r*

2.85%

MRP, 10-year T-bond only

0.90%

Expected inflation = rT10 - r* - MRP

1.30%

Question


Harry's Inc. is considering a project that has the following cash flow and WACC data. What is the project's NPV? Note that if a project's projected NPV is negative, it should be rejected.

WACC: 14.75% Year 0 1 2 3 4 5

Cash flows -$1,000 $300 $300 $300 $300 $300

Selected Answer:

$10.12

Correct Answer: $11.63

Feedback:

WACC: 14.75% Year 0 1 2 3 4 5Cash flows

-$1,000 $300 $300 $300 $300 $300

NPV = $11.63

Question


Which of the following statements is CORRECT, assuming stocks are in equilibrium?

Selected Answer:

The dividend yield on a constant growth stock must equal its expected

total return minus its expected capital gains yield.

Correct Answer:

The dividend yield on a constant growth stock must equal its expected

total return minus its expected capital gains yield.

Question


You have the following data on three stocks shown below. You decide to use the data on these stocks to form an index, and you want to find the average earned rate of return for 2008 on your index. If you follow the averaging procedure used to calculate the S&P 500 Index return, what would your index's rate of return be? Hints: Rates of return are based on beginning-of-year prices, and the S&P Index is weighted by market values of the companies in the index.

Stock Dividend Beginning Price Ending Price Shares Outstanding (millions)

A $ 1.50 $ 30.00 $ 32.00 5.00B $ 2.00 $ 28.50 $ 27.00 4.50C $ 0.75 $ 20.00 $ 24.00 19.50

Selected Answer:

16.82 %

Correct Answer: 16.82 %

Feedback: Stock Dividend Beginning Price

Ending Price

Change Shares Outstanding (millions)

Total Market Value

Weight

A $ 1.50 $ 30.00 $ 32.00 $ 2.00 5.00 $ 150.00

22.45%

B $ 2.00 $ 28.50 $ 27.00 - $ 1.50 4.50 $ 128.25

19.19%

C $ 0.75 $ 20.00 $ 24.00 $ 4.00 19.50 $ 390.00

58.36%

$ 668.25

100.00%

Stock Div Yield Cap Gain Yield

Total Return

Weight Weighted Return

A 5.00 % 6.67 % 11.67 % 0.2245 0.0262B 7.02 % -5.26 % 1.75 % 0.1919 0.0034C 3.75 % 20.00 % 23.75 % 0.5836 0.1386

0.1682 Index return = 16.82%

Question


As a member of UA Corporation's financial staff, you must estimate the Year 1 cash flow for a proposed project with the following data. What is the Year 1 cash flow?Sales revenues, each year $40,500Depreciation $10,000Other operating costs $17,000Interest expense $4,000Tax rate 35.0%

Selected Answer: $18,775

Correct Answer: $18,775

Feedback: Sales revenues $40,500

Operating costs (excl. depr.)

17,000

Depreciation

10,000

Operating income (EBIT)

$13,500

Taxes rate =

35%

4,725

After-tax EBIT $8,775 + Depreciation

10,000

Cash flow, Year 1

$18,775

Question


Suppose the real risk-free rate is 3.50% and the future rate of inflation is expected to be constant at 6.80%. 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.



Feedback: Real 3.50

risk-free rate, r*

%

Inflation

6.80%

Yield on 1-year T-bond

10.30%

Question


A 10-year corporate bond has an annual coupon of 9%. The bond is currently selling at par ($1,000). Which of the following statements is CORRECT?

Selected Answer: The bond’s expected capital gains yield is zero.

Correct Answer: The bond’s expected capital gains yield is zero.

Question


Suppose you have $1,425 and plan to purchase a 5-year certificate of deposit (CD) that pays 3.5% interest, compounded annually. How much will you have when the CD matures?

Selected Answer: $1,692.45

Correct Answer: $1,692.45

Feedback: N 5I/YR

3.5

%PV

$1,425

PMT

$0

FV

$1,692.45

Question


Your company, CSUS Inc., is considering a new project whose data are shown below. The required equipment has a 3-year tax life, and the accelerated rates for such property are 33%, 45%, 15%, and 7% for Years 1 through 4. Revenues and other operating costs are expected to be constant over the project's 10-year expected operating life. What is the project's Year 4 cash flow?Equipment cost (depreciable basis) $70,000Sales revenues, each year $41,000Operating costs (excl. depr.) $25,000

Tax rate 35.0%



Feedback: Equipment cost

$70,000

Depreciation rate, Year 4

7.0%

Sales revenues

$41,000

Operating costs (excl. depr.)

25,000

Depreciation

4,900

Operating income (EBIT)

$11,100

Taxes

rate =

35%

3,885

After-tax EBIT $7,215 + Depreciation

4,900

Cash flow, Year 4

$12,115

Question


Southwest U's campus book store sells course packs for $15 each, the variable cost per pack is $9, fixed costs to produce the packs are $200,000, and expected annual sales are 49,000 packs. What are the pre-tax profits from sales of course packs?



Feedback:

Sales price per unit (P) $15.00Variable costs per unit (V)

$9.00

Annual sales (Q) 49,000Fixed costs (F) $200,000Profit = PQ – VQ – F = EBIT = $735,000 - $441,000 - $200,000 = $94,000

Question


Bill Dukes has $100,000 invested in a 2-stock portfolio. $75,000 is invested in Stock X and the remainder is invested in Stock Y. X's beta is 1.50 and Y's beta is 0.70. What is the portfolio's beta?

Selected Answer:

1.30

Correct Answer: 1.30

Feedback:

Company

Investment

Weight

Beta

Weight x beta

X $75,000 0.75 1.50

1.13

Y $25,000 0.25 0.70

0.18

$100,000 1.00 1.30*

* Portfolio beta

Question



Selected Answer:

The balance sheet gives us a picture of the firm’s financial position at

a point in time.

Correct Answer:

The balance sheet gives us a picture of the firm’s financial position at

a point in time.

Question


Other things held constant, which of the following actions would increase the amount of cash on a company’s balance sheet?

Selected Answer: The company issues new common stock.

Correct Answer: The company issues new common stock.

Question



Selected Answer:

The regular payback is useful as an indicator of a project’s liquidity

because it gives managers an idea of how long it will take to recover the funds invested in a project.

Correct Answer:

The regular payback is useful as an indicator of a project’s liquidity

because it gives managers an idea of how long it will take to recover the funds invested in a project.

Feedback: Statement d is true. The payback does indicate how long it should take to recover the investment; hence, it is a measure of liquidity.

Question


A highly risk-averse investor is considering adding one additional stock to a 3-stock portfolio, to form a 4-stock portfolio. The three stocks currently held all have b = 1.0, and they are perfectly positively correlated with the market. Potential new Stocks A and B both have expected returns of 15%, are in equilibrium, and are equally correlated with the market, with r = 0.75. However, Stock A's standard deviation of returns is 12% versus 8% for Stock B. Which stock should this investor add to his or her portfolio, or does the choice not matter?

Selected Answer:

Stock B.

Correct Answer: Stock B.

Feedback: With only 4 stocks in the portfolio, unsystematic risk matters, and B has less.

Question


In Japan, 90-day securities have a 4% annualized return and 180-day securities have a 5% annualized return. In the United States, 90-day securities have a 4% annualized return and 180-day securities have an annualized return of 4.5%. All securities are of equal risk, and Japanese securities are denominated in terms of the Japanese yen. Assuming that interest rate parity holds in all markets, which of the following statements is most CORRECT?

Selected Answer:

The yen-dollar spot exchange rate equals the yen-dollar exchange rate

in the 90-day forward market.

Correct Answer:

The yen-dollar spot exchange rate equals the yen-dollar exchange rate

in the 90-day forward market.

Question



Selected Answer:

As they are generally defined, money market transactions involve debt

securities with maturities of less than one year.

Correct Answer:

As they are generally defined, money market transactions involve debt

securities with maturities of less than one year.

Question


Schalheim Sisters Inc. has always paid out all of its earnings as dividends, hence the firm has no retained earnings. This same situation is expected to persist in the future. The company uses the CAPM to calculate its cost of equity, its target capital structure consists of common stock, preferred stock, and debt. Which of the following events would REDUCE its WACC?

Selected Answer: The market risk premium declines.

Correct Answer: The market risk premium declines.

Question


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?

Selected Answer:

The expectations theory cannot hold if inflation is decreasing.

Correct Answer:

If the pure expectations theory holds, the Treasury yield curve must

be downward sloping.

Question


Royce Corp's sales last year were $260,000, and its net income was $23,000. What was its profit margin?

Selected Answer:

8.85%


Feedback:

Sales $260,000Net income $23,000Profit margin = NI/Sales = 8.85%

Question


Ryngaert Inc. recently issued noncallable bonds that mature in 15 years. They have a par value of $1,000 and an annual coupon of 5.7%. If the current market interest rate is 9.7%, at what price should the bonds sell?

Selected Answer: $690.48


Feedback:

Coupon rate

5.70%

PMT

$57.00

N 15I/YR

9.70%

FV

$1,000

PV

$690.48

Question 0 out of 5 points

33

Companies can issue different classes of common stock. Which of the following statements concerning stock classes is CORRECT?

Selected Answer:

All common stocks, regardless of class, must have the same voting

rights.

Correct Answer:

Some class or classes of common stock are entitled to more votes per

share than other classes.

Question



Selected Answer:

If inflation is expected to increase in the future and the maturity risk

premium (MRP) is greater than zero, the Treasury bond yield curve must be upward sloping.

Correct Answer:

If inflation is expected to increase in the future and the maturity risk

premium (MRP) is greater than zero, the Treasury bond yield curve must be upward sloping.

Question



Selected Answer:

A firm that employs financial leverage will have a higher equity multiplier

than an otherwise identical firm that has no debt in its capital structure.

Correct Answer:

A firm that employs financial leverage will have a higher equity multiplier

than an otherwise identical firm that has no debt in its capital structure.

Question


If a typical U.S. company correctly estimates its WACC at a given point in time and then uses that same cost of capital to evaluate all projects for the next 10 years, then the firm will most likely

Selected Answer:

become more risky and also have an increasing WACC. Its intrinsic

value will not be maximized.

Correct Answer:

become more risky and also have an increasing WACC. Its intrinsic

value will not be maximized.

Question


Dothan Inc.'s stock has a 25% chance of producing a 17% return, a 50% chance of producing a 12% return, and a 25% chance of producing a -18% return. What is the firm's expected rate of return?

Selected Answer:

5.75%


Feedback:

Conditions

Prob.

Return

Prob. x

Return

Good 0.25

17.0%

4.25%

Average

0.50

12.0%

6.00%

Poor 0.25

-18.0%

-4.50

% 1.0

0 5.75

%** Expected return

Question


Ten years ago, Lucas Inc. earned $0.50 per share. Its earnings this year were $6.20. What was the growth rate in earnings per share (EPS) over the 10-year period?



Feedback:

N 10

PV

$0.50

PMT

$0

FV

$6.20

I/YR

28.63

%

Question


Warnock Inc. is considering a project that has the following cash flow and WACC data. What is the project's NPV? Note that a project's projected NPV can be negative, in which case it will be rejected.

WACC: 10.00% Year 0 1 2 3

Cash flows -$825 $500 $400 $300

Selected Answer: $185.52


Feedback: WACC:

10.00%

Year 0 1 2 3Cash flows

-$825 $500

$400

$300

NPV = $185.52

Question


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

Selected Answer:

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

will increase over time.

Correct Answer:

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

will increase over time.

Question


Multinational financial management requires that

Selected Answer:

The effects of changing currency values be included in financial

analyses.

Correct Answer: The effects of changing currency values be included in financial

analyses.

Question


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?

Selected Answer:

The discount rate increases.

Correct Answer: The discount rate increases.

Question



Selected Answer:

Suppose the returns on two stocks are negatively correlated. One has a

beta of 1.2 as determined in a regression analysis using data for the last 5 years, while the other has a beta of -0.6. The returns on the stock with the negative beta must have been negatively correlated with returns on most other stocks during that 5-year period.

Correct Answer:

Suppose the returns on two stocks are negatively correlated. One has a

beta of 1.2 as determined in a regression analysis using data for the last 5 years, while the other has a beta of -0.6. The returns on the stock with the negative beta must have been negatively correlated with returns on most other stocks during that 5-year period.

Question


Confu Inc. expects to have the following data during the coming year. What is the firm's expected ROE?

Assets $165,000 Interest rate 8%Debt/Assets, book value 65% Tax rate 40%EBIT $25,000



Feedback: Assets $165,000 EBIT $25,000D/A 65% -Interest = rate

debt =

8,580

EBIT $25,000 Earnings before taxes $16,420Interest rate 8% -Taxes 6,568Tax rate 40% Net income $9,852

Debt = (D/A) A $107,250

Equity = Assets – Debt $57,750 NI / Equity = ROE = 17.06%

Question


Brown Office Supplies recently reported $18,500 of sales, $8,250 of operating costs other than depreciation, and $1,750 of depreciation. It had $9,000 of bonds outstanding that carry a 7.0% interest rate, and its federal-plus-state income tax rate was 40%. How much was the firm's earnings before taxes (EBT)?

Selected Answer:

$7,870


Feedback: Bonds $9,000.00Interest rate 7.00%Sales $18,500.00Operating costs excluding depr'n

$8,250.00

Depreciation $1,750.00Operating income (EBIT)

$8,500.00

Interest charges -$630.00EBT = Taxable income $7,870

Question


Which of the following statements is NOT CORRECT?

Selected Answer:

"Going public" establishes a firm's true intrinsic value and ensures that

a liquid market will always exist for the firm's shares.

Correct Answer:

"Going public" establishes a firm's true intrinsic value and ensures that

a liquid market will always exist for the firm's shares.

Question


Your corporation has the following cash flows: If the applicable income tax rate is 40% (federal and state combined), and if 70% of dividends received are exempt from taxes, what is the corporation's tax liability?

Operating income $250,000Interest received $10,000Interest paid $45,000Dividends received $15,000Dividends paid $50,000



Feedback: Operating income $250,000Interest received $10,000Interest paid $45,000Dividends received $15,000Divdend exclusion % 70%Dividends paid $50,000Tax rate (T) 40%Taxable income = Oper. income + Interest received – Interest paid + Taxable dividends receivedTaxable income = Oper. income + Interest received – Interest paid + dividends received(1 – Div exclusion %)Taxable income = $219,500

Taxes paid = Taxable income Tax rateTaxes paid = $87,800

Question


If D = $1.25, g (which is constant) = 4.7%, and P = $29.00, what is the stock’s expected dividend yield for the coming year?

Selected Answer:

5.30%


Feedback: D1 $1.25g 4.7%P0 $29.00

Dividend yield = D1/P0 = 4.31%

Question


The Francis Company is expected to pay a dividend of D = $1.25 per share at the end of the year, and that dividend is expected to grow at a constant rate of 6.00% per year in the future. The company's beta is 1.20, the market risk premium is 5.50%, and the risk-free rate is 4.00%. What is the company's current stock price?

Selected Answer:

$27.17


Feedback: D1 $1.25

b 1.20

rRF 4.00%

RPM

5.50%

g 6.00%

rs = rRF + b(RPM) = 10.60%

P0 = D1/(rs - g) $27.17

Question


Scanlon Inc.'s CFO hired you as a consultant to help her estimate the cost of capital. You have been provided with the following data: rRF = 4.10%; RPM = 5.25%; and b = 1.15. Based on the CAPM approach, what is the cost of equity from retained earnings?



Feedback:

rRF 4.10%

RPM

5.25%

b 1.15

rs = rRF + (RPM b) 10.138%

finance 510 graded final_aaron

Documents

changing currency values

employs financial leverage

firms financial position

dollar exchange rate

banking corporation spent

higher equity multiplier

discount rate increases

projects forecasted npv