Finc-318 Final Exam

Front 1

The rate of return stockholders require on the firm’s common stock:

Back 1

The cost of common stock

Front 2

T/F

The constant growth model used for evaluating the price of a share of common stock may also be used to find the price of perpetual preferred stock or any other perpetuity.

Back 2

False

Front 3

T/F

According to the basic stock valuation model, the value an investor assigns to a share of stock is dependent upon the length of time the investor plans to hold the stock.

Back 3

False

Front 4

T/F

A proxy is a document giving one party the authority to act for another party, typically the power to vote shares of common stock. A proxy can be an important tool relating to control of the firm.

Back 4

True

Front 5

A stock’s next expected dividend divided by the current stock price:

Back 5

Dividend yield

Front 6

Which of the following is/are true?
(I) The dividend yield on a stock is the annual dividend divided by the par value.
(II) When the constant dividend growth model holds, g = capital gains yield.
(III) The total return on a share of stock = dividend yield + capital gains yield.

Back 6

II and III only

Front 7

Which of the following is NOT usually a right of a common stockholder?

a. Right of first refusal to buy new preferred stock, when issued
b. Preemptive right
c. Right to receive proportionate dividends, when paid
d. Right to claim proportionate remaining assets from a liquidation
e. Right to vote by proxy

Back 7

a. Right of first refusal to buy new preferred stock, when issued

Front 8

T/F

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

Back 8

True

Front 9

T/F

Diversifiable risk, which is measured by beta, can be lowered by adding more stocks to a portfolio.

Back 9

False

Front 10

T/F

Any change in beta is likely to affect the required rate of return on a security, which implies that, if all else is held constant, a change in beta will likely have an impact on the security’s price.

Back 10

True

Front 11

T/F

If investors become more averse to risk, the slop of the Security Market Line (SML) will increase.

Back 11

True

Front 12

Diversification works because:
(I) Unsystematic risk exists.
(II) Forming stocks into portfolios reduces the standard deviation of returns for each stock.
(III) Firm-specific risk can be dramatically reduced if not eliminated.

Back 12

I and III only

Front 13

Unsystematic risk is also known as _____.

Back 13

Unique risk and asset-specific risk

Front 14

Which of the following is false?

a. Total risk = market risk + unique risk
b. Total risk = systematic risk + unsystematic risk
c. Announcement return = expected part + surprise
d. Market risk = non-diversifiable risk + asset-specific risk
e. Total return = expected return + unexpected return

Back 14

d. Market risk = non-diversifiable risk + asset-specific risk

Front 15

The CAPM shows that the expected return for a particular asset depends on:

(I) The amount of unsystematic risk.
(II) The reward for bearing systematic risk.
(III) The pure time value of money.

Back 15

II and III only

Front 16

Systematic risk is also known as _____.

Back 16

Non-diversifiable risk and market risk

Front 17

T/F

The before-tax cost of debt, which is lower than the after-tax cost of debt, is used as the component cost of debt for purposes of developing the firm’s WACC.

Back 17

False

Front 18

T/F

The cost of common stock is the rate of return stockholders require on the firm’s common stock.

Back 18

True

Front 19

T/F

The lower the firm’s tax rate, the lower will be the firm’s after-tax cost of debt and WACC, other things held constant.

Back 19

False

Front 20

_____ is equal to the yield of maturity on the firm’s outstanding bonds.

Back 20

Before tax cost of debt

Front 21

Calculation of the WACC requires all of the following EXCEPT?

a. The par value of bonds outstanding relative to the total market value of the firm.
b. The market value of bonds outstanding relative to the total market value of the firm.
c. The corporate tax rate.
d. The current market value of a firm’s equity via the total number of shares and the stock price.
e. The market value of equity outstanding relative to the total market value of the firm.

Back 21

a. The par value of bonds outstanding relative to the total market value of the firm.

Front 22

All else the same, a higher corporate tax rate will _____ the WACC of a firm with _____ in its capital structure.

Back 22

Decrease, some debt

Front 23

T/F

One advantage of the payback period method of evaluating fixed asset investment possibilities is that it provides a rough measure of a project’s liquidity and risk.

Back 23

True

Front 24

The discount rate that makes the net present value of an investment exactly equal to zero:

Back 24

IRR

Front 25

A _____ in the cost of capital discount rate will result in a _____ in a project’s IRR.

Back 25

Decrease, increase

Front 26

T/F

If a project’s NPV exceeds the project’s IRR, then the project should be accepted.

Back 26

False

Front 27

T/F

The NPV and IRR methods, when used to evaluate mutually exclusive projects, will lead to different accept/reject decisions unless the crossover rate is less than the cost of the capital.

Back 27

True

Front 28

T/F

When considering two mutually exclusive projects, the financial manager should always select that project whose IRR is the highest provided the projects have the same initial cost.

Back 28

False

Front 29

The length of time required for an investment to generate cash flows sufficient to recover its initial cost:

Back 29

Payback period

Front 30

Ranking conflicts can arise if one relies on IRR instead of NPV when _____.

Back 30

Projects are mutually exclusive

Front 31

Your firm’s CFO present you with two capital budgeting analyses: one that involves buying a new delivery truck to replace the existing truck and one that involves the purchase of a 3-ton metal stamping press to replace the existing press on the plant floor. This is an example of a decision involving:

Back 31

Independent projects

Front 32

Changes in the firm’s future cash flows that are a direct consequence of accepting a project:

Back 32

Incremental cash flows

Front 33

T/F

When calculating the cash flows for a project, you should include interest payments.

Back 33

False

Front 34

T/F

Changes in net working capital do not need to be considered in capital budgeting cash flow analysis as long as the nominal (undiscounted) values of the changes are identical in each time period.

Back 34

False

Front 35

T/F

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

Back 35

True

Front 36

T/F

The change in net working capital is always positive, meaning more working capital is required for projects considered in capital budgeting because all projects are expansion projects.

Back 36

False

Front 37

T/F

A taxable gain occurs when an asset is sold for more than its book value. For capital budgeting purposes, the taxes on the sale are treated as a reduction in cash.

Back 37

True

Front 38

A firm is considering a project which would increase accounts receivable by $10,000, accounts payable by $35,000, and inventory by $30,000. Which of the following is true?

a. Net working capital has increased.
b. Sales will increase.
c. Payments to creditors will slow.
d. Net working capital has decreased.
e. This is a net source of cash.

Back 38

a. Net working capital has increased.

Front 39

_____ would usually represent a net cash inflow at the beginning of a project and an equal net cash outflow upon completion of the project.

Back 39

An increase in payables

Front 40

Which of the following is NOT considered a relevant, incremental cash flow in capital budgeting analysis?

a. Opportunity costs
b. Tax savings from increased depreciation
c. Additions to net working capital
d. Fixed asset salvage values
e. Sunk costs

Back 40

e. Sunk costs

Front 41

One advantage of the _____ method of evaluating fixed asset investment possibilities is that it provides a rough measure of a project’s liquidity and risk.

Back 41

Payback period