Corporate Finance Final Exam Questions and 100% correct Answers, Exams of Corporate Finance

Download Corporate Finance Final Exam Questions and 100% correct Answers and more Exams Corporate Finance in PDF only on Docsity! Corporate Finance Final Exam Questions and 100% correct Answers When evaluating potential projects, which of the following factors should be incorporated as part of a projects estimated cash flows? - Correct answer Any sunk costs that were incurred in the past prior to considering the proposed project. Any opportunity costs that are incurred if the project is undertaken. When evaluating a new project, the firm should consider all of the following factors except: - Correct answer Previous expenditures associated with a market test to determine the feasibility of the project if the expenditures have been expensed for tax purposes. The net cash flows attributable to an investment project which represent the change in the firm's total cash flow that occurs as a direct result of accepting the project are called: - Correct answer incremental cash flows A company is considering a new project. The companys CFO plans to calculate the projects NPV by discounting the relevant cash flows (which include the initial up-front costs, the operating cash flows, and the terminal cash flows) at the companys cost of capital (WACC). Which of the following factors should the CFO include when estimating the relevant cash flows? - Correct answer Any opportunity costs associated with the project. A cash outlay that has already been incurred and that cannot be recovered regardless of whether the project is accepted or rejected is called: - Correct answer a sunk cost. ___________ occurs when the introduction of a new product causes sales of existing products to decline. - Correct answer Cannibalization Suppose all assumptions of the Independence Hypothesis of Capital Structure are true EXCEPT corporate interest payments are tax deductible. What does this imply for debt versus equity financing? - Correct answer Increasing the level of debt in the firm will increase the value of the firm. Bird-in-the-hand (Gordon and Lintner) says that the required return on equity increases as the dividend payout ratio is decreased. Their argument is based on the assumption that: - Correct answer Investors view dividends as being less risky than potential future capital gains. You are evaluating a potential investment in equipment. The equipment's basic price is $133,000, and shipping costs will be $4,000. It will cost another $20,000 to modify it for special use by your firm, and an additional $8,000 to install it. The equipment falls in the MACRS 3-year class that allows depreciation of 33% the first year, 45% the second year, 15% the third year, and 7% the fourth year. You expect to sell the equipment for 24,800 at the end of three years. The equipment is expected to generate revenues of $127,000 per year with annual operating costs of $58,000. The firm's marginal tax rate is 20.0%. What is the after-tax operating cash flow for year 1? - Correct answer $66,090 You are evaluating a potential investment in equipment. The equipment's basic price is $138,000, and shipping costs will be $4,100. It will cost another $20,700 to modify it for special use by your firm, and an additional $6,900 to install it. The equipment falls in the MACRS 3-year class that allows depreciation of 33% the first year, 45% the second year, 15% the third year, and 7% the fourth year. You expect to sell the equipment for 22,100 at the end of three years. The equipment is expected to generate revenues of $131,000 per year with annual operating costs of $67,000. The firm's marginal tax rate is 25.0%. What is the value of the after-tax cash flow associated with the sale of the equipment? - Correct answer $19,545 Which of the following does not affect a firm's business risk? - Correct answer The degree of financial leverage. Under the Information Content Hypothesis, if a firm decreases its dividend level beyond what investors expected, what will happen to its value of equity when the new dividend is announced? - Correct answer Remain unchanged You are evaluating a potential investment in equipment. The equipment's basic price is $163,000, and shipping costs will be $4,900. It will cost another $21,200 to modify it for special use by your firm, and an additional $8,200 to install it. The equipment falls in the MACRS 3-year class that Stimulate management to improve operations and bring results into line with forecasts. IRR indicates a project is deemed desirable (acceptable) when: - Correct answer the IRR is greater than or equal to the risk-adjusted cost of capital Estimating the optimal capital budget requires which of the following steps? - Correct answer estimate the WACC adjust the WACC for the risk of various divisions of the firm estimate relevant cash flows for each project and determine their risk relative to the average risk of the division determine the NPV for all projects and choose all independent projects with positive NPVs and the mutually exclusive projects with the highest NPVs ________ projects are projects whose cash flows are not affected by the acceptance of other projects. - Correct answer Independent ________ projects are a set of projects where only one can be accepted. - Correct answer Mutually exclusive Which of the following are categories (classifications) of capital budgeting projects? - Correct answer replacement: maintenance of business or cost reduction expansion: existing or new products safety and/or environmental projects NPV indicates a project is deemed desirable (acceptable) when: - Correct answer the NPV is greater than or equal to zero The process of planning expenditures on assets whose cash flows are expected to extend beyond one year is called: - Correct answer capital budgeting Assume a project has normal cash flows (that is, the initial cash flow is negative, and all other cash flows are positive). Which of the following statements is most correct? - Correct answer All else equal, a projects NPV increases as the cost of capital declines. There is virtually no link between capital budgeting and stock values. - Correct answer False Capital budgeting and security valuation use many of the same general concepts. - Correct answer True Determine the net present value for a project that costs $310,000 and would yield after-tax cash flows of $28,000 per year for the first 9 years, $36,000 per year for the next 20 years, and $49,000 per year for the following 10 years. Your firm's cost of capital is 10.00%. - Correct answer $213.77 Determine the net present value for a project that costs $136,500 and would yield after-tax cash flows of $21,000 the first year, $23,000 the second year, $26,000 the third year, $28,000 the fourth year, $32,000 the fifth year, and $38,000 the sixth year. Your firm's cost of capital is 10.00%. - Correct answer -$18,422.77 Determine the internal rate of return for a project that costs -$143,000 and would yield after-tax cash flows of $22,000 the first year, $24,000 the second year, $27,000 the third year, $29,000 the fourth year, $33,000 the fifth year, and $39,000 the sixth year. - Correct answer 5.37% Determine the internal rate of return for a project that costs $167,000 and would yield after-tax cash flows of $27,000 per year for the first 5 years, $35,000 per year for the next 5 years, and $48,000 per year for the following 5 years. - Correct answer 17.28% Your company has an opportunity to invest in a project that is expected to result in after-tax cash flows of $21,000 the first year, $23,000 the second year, $26,000 the third year, $29,000 the fourth year, $33,000 the fifth year, and $39,000 the sixth year. The project would cost the firm $87,000. If the firm's cost of capital is 9%, what is the modified internal rate of return? - Correct answer 15.62% The target capital structure is affected by which of the following factors? - Correct answer business risk the firm's tax position financial flexibility considerations managerial attitudes (conservatism or aggressiveness) Suppose all assumptions of the Independence Hypothesis of Capital Structure are true EXCEPT corporate interest payments are tax deductible and bankruptcy costs do exist. What does this imply for debt versus equity financing? - Correct answer A change in the level of debt in the firm can result in the value of the firm going up or down depending on how much debt the firm has initially. Suppose you believe that the Trade-off Theory of capital structure is true. Which of the following is true? - Correct answer Cannot be determined with given information Under the Bird-in-the-Hand Theory, if a firm decreases its dividend level, what will happen to its value of equity? - Correct answer Go down According to the "trade-off theory," an increase in the costs of bankruptcy would lead firms to reduce the amount of debt in their capital structures. - Correct answer True The optimal capital structure simultaneously maximizes EPS and minimizes the WACC. - Correct answer False Which of the following would not have an influence on the optimal dividend policy? - Correct answer The possibility of accelerating or delaying investment projects. A strong shareholders' preference for current income versus capital gains. Bond indenture constraints. The costs associated with selling new common stock. *All of the statements above can have an effect on dividend policy.* From the information below, select the optimal capital structure for Minnow Entertainment Company. - Correct answer Debt = 60%; Equity = 40%; EPS = $3.18; Stock price = $31.20. Suppose you know that your firm is facing relatively poor prospects but needs new capital. If you also know that investors do not have this information, signaling theory would predict that you would: - Correct answer issue equity to share the burden of decreased equity returns between old and new shareholders. Which of the following items may be found on an income statement? - Correct answer 1) sales (revenue) 2) interest expense 3) taxes paid The optimal capital structure for a firm is the mix of debt and equity that results in the: - Correct answer firm having its shareholder value maximized and its cost of capital minimized. The concept of the time value of money generally implies that: - Correct answer a dollar today is worth more than a dollar in the future Which of the following statements regarding financial ratio analysis are correct? - Correct answer Ratio analysis makes comparisons easier by standardizing numbers. The standard deviation: - Correct answer primarily is affected by how far above or below the expected value the actual value can be and how likely those values are to occur. Which of the following may be found on the balance sheet? - Correct answer 1) Assets 2) Liabilities 3) Equity You are holding a stock that has a beta of 3.02 and is currently in equilibrium. The required return on the stock is 15.46%, and the return on a risk-free asset is 8.0%. What would be the return on the stock if the stock's beta increased to 3.62 while the risk-free rate and expected market return remained unchanged? - Correct answer 16.94% The risk-free rate of return is 4.4% and the market return is 10.6%. What is the expected return for the following portfolio? Stock Betas Investment AAA 3.50 $600,000 BBB 2.80 $1,200,000 CCC 1.40 $2,200,000 DDD 1.20 $1,700,000 - Correct answer 15.91% How many years will it take for $232,000 to grow to be $430,000 if it is invested in an account with a quoted annual interest rate of 10% with quarterly compounding of interest? - Correct answer 6.25 years You are told that if you invest $12,200 per year for 19 years (all payments made at the beginning of each year) you will have accumulated $689,000 at the end of the period. What annual rate of return is the investment offering? - Correct answer 10.03% You are valuing an investment that will pay you nothing the first two years, $9,000 the third year, $11,000 the fourth year, $15,000 the fifth year, and $21,000 the sixth year (all payments are at the end of each year). What is the value of the investment to you now if the appropriate annual discount rate is 13.00% - Correct answer $31,212.05 You are offered an investment with a quoted annual interest rate of 12% with monthly compounding of interest. What is your effective annual interest rate? - Correct answer 12.68% You have just won the Mega Millions Lottery with a jackpot of $46,000,000. Your winnings will be paid to you in 26 equal annual installments with the first payment made immediately. If you feel the appropriate annual discount rate is 9%, what is the present value of the stream of payments you will receive? - Correct answer $19,147,640.84 You plan to retire 30 years from now. You expect that you will live 22 years after retiring. You want to have enough money upon reaching retirement age to withdraw $150,000 from the account at the beginning of each year you expect to live, and yet still have $2,200,000 left in the account at the time of your expected death (52 years from now). You plan to accumulate the retirement fund by making equal annual deposits at the end of each year for the next 30 years. You expect that you will be able to earn 10% per year on your deposits. However, you only expect to earn 6% per year on your investment after you retire since your will choose to place the money in less risky investments. What equal annual deposits must you make each year to reach your retirement goal? - Correct answer $15,350.85 XZYY, Inc. currently has an issue of bonds outstanding that will mature in 29 years. The bonds have a face value of $1,000 and a stated annual coupon rate of 12% with semi-annual coupon payments. The bond is currently selling for $1175. The bonds may be called in 3 years for 114% of par value. What is the quoted annual yield-to-maturity for these bonds? - Correct answer 10.12% XZYY, Inc. currently has an issue of bonds outstanding that will mature in 30 years. The bonds have a face value of $1,000 and a stated annual coupon rate of 19% with annual coupon payments. The bond is currently selling for $827. The bonds may be called in 5 years for 122% of par value. What is your expected quoted annual rate of return if you buy the bonds and the company calls them when possible? - Correct answer 28.40% Timeless Corporation issued preferred stock with a par value of $1000. The stock promised to pay an annual dividend equal to 20% of the par value. The stock is currently selling for $661.00. What discount rate is being used to value the stock? - Correct answer 30.26% You are considering buying common stock in Grow On, Inc. You have projected that the next dividend the company will pay will equal $5.70 and that dividends will grow at a rate of 5.0% per year thereafter. If you would want an annual return of 21.0% to invest in this stock, what is the most you should pay for the stock now? - Correct answer $35.63 Grow On, Inc. is a firm that is experiencing rapid growth. The firm yesterday paid a dividend of $4.50. You believe that dividends will grow at a rate of 22% per year for three years, and then at a rate of 9% per year thereafter. You expect the stock will sell for $29.69 in three years. You expect an annual rate of return of 24% on this investment. If you plan to hold the stock indefinitely, what is the most you would pay for the stock now? - Correct answer $44.21 Costly Corporation is considering a new preferred stock issue. The preferred would have a par value of $300 with an annual dividend equal to 15.0% of par. The company believes that the market value of the stock would be $407.00 per share with flotation costs of $24.00 per share. The You are holding a stock that has a beta of 2.24 and is currently in equilibrium. The required return on the stock is 32.13%, and the expected return on the market portfolio is 17.80%. What would be the expected return on the stock if the expected market return increased to 22.00% while the risk-free rate and beta remained unchanged? - Correct answer 41.54% ?? The risk-free rate of return is 3.8% and the market return is 14.5%. What is the expected return for the following portfolio? Stock Betas Investment AAA 3.10 $800,000 BBB 2.50 $1,200,000 CCC 1.50 $3,000,000 DDD 1.00 $1,700,000 - Correct answer 22.45% If you wish to accumulate $143,000 in 7 years, how much must you deposit today in an account that pays a quoted annual interest rate of 15% with semi-annual compounding of interest? - Correct answer $51,953.83 If you deposit $14,000 per year for 8 years (each deposit is made at the beginning of each year) in an account that pays an annual interest rate of 14%, what will your account be worth at the end of 8 years? - Correct answer $211,194.85 You are valuing an investment that will pay you $10,000 the first year, $12,000 the second year, $15,000 the third year, $17,000 the fourth year, $21,000 the fifth year, and $27,000 the sixth year (all payments are at the end of each year). What is the value of the investment to you now if the appropriate annual discount rate is 12.00% - Correct answer $65,570.41 You are offered an investment with a quoted annual interest rate of 12% with daily compounding of interest. What is your effective annual interest rate? - Correct answer 12.75% You plan to buy a house. The house will be financed with a $134,000, 30- year mortgage with a nominal interest rate of 8.77%. Mortgage payments are made at the end of each month. You expect that you will sell the house in 6 years. How much of the principal will you have repaid at the time you plan to sell the house? - Correct answer $7,240.84 You plan to retire 33 years from now. You expect that you will live 27 years after retiring. You want to have enough money upon reaching retirement age to withdraw $130,000 from the account at the beginning of each year you expect to live, and yet still have $2,200,000 left in the account at the time of your expected death (60 years from now). You plan to accumulate the retirement fund by making equal annual deposits at the end of each year for the next 33 years. You expect that you will be able to earn 13% per year on your deposits. However, you only expect to earn 9% per year on your investment after you retire since your will choose to place the money in less risky investments. What equal annual deposits must you make each year to reach your retirement goal? - Correct answer $3,835.04 XZYY, Inc. currently has an issue of bonds outstanding that will mature in 40 years. The bonds have a face value of $1,000 and a stated annual coupon rate of 9% with quarterly coupon payments. The bond is currently selling for $856. The bonds may be called in 4 years for 111% of par value. What is the quoted annual yield-to-maturity for these bonds? - Correct answer 10.54% XZYY, Inc. currently has an issue of bonds outstanding that will mature in 32 years. The bonds have a face value of $1,000 and a stated annual coupon rate of 11% with annual coupon payments. The bond is currently selling for $844. The bonds may be called in 4 years for 114% of par value. What is your expected quoted annual rate of return if you buy the bonds and the company calls them when possible? - Correct answer 19.60% Timeless Corporation issued preferred stock with a par value of $300. The stock promised to pay an annual dividend equal to 16% of the par value. The stock is currently selling for $515.00. What discount rate is being used to value the stock? - Correct answer 9.32% You are considering buying common stock in Grow On, Inc. You have projected that the next dividend the company will pay will equal $4.80 and that dividends will grow at a rate of 7.0% per year thereafter. If you would want an annual return of 20.0% to invest in this stock, what is the most you should pay for the stock now? - Correct answer $36.92 Grow On, Inc. is a firm that is experiencing rapid growth. The firm yesterday paid a dividend of $8.40. You believe that dividends will grow at a rate of 20% per year for three years, and then at a rate of 10% per year thereafter. You expect the stock will sell for $57.02 in three years. You expect an annual rate of return of 24% on this investment. If you plan to hold the stock indefinitely, what is the most you would pay for the stock now? - Correct answer $83.43 Costly Corporation is considering a new preferred stock issue. The preferred would have a par value of $600 with an annual dividend equal to 15.0% of par. The company believes that the market value of the stock would be $442.00 per share with flotation costs of $18.00 per share. The firm's marginal tax rate is 40%. What is the firm's cost of preferred stock? - Correct answer 21.23% Costly Corporation is considering using equity financing. Currently, the firm's stock is selling for $60.00 per share. The firm's dividend for next year is expected to be $5.30 with an annual growth rate of 6.0% thereafter indefinitely. If the firm issues new stock, the flotation costs would equal 15.0% of the stock's market value. The firm's marginal tax rate is 40%. What is the firm's cost of external equity? - Correct answer 16.39% Marginal Incorporated (MI) has determined that its before-tax cost of debt is 5.0% for the first $58 million in bonds it issues, and 8.0% for any bonds issued above $58 million. Its cost of preferred stock is 15.0%. Its cost of internal equity is 17.0%, and its cost of external equity is 21.0%. Currently, the firm's capital structure has $530 million of debt, $150 million of preferred stock, and $320 million of common equity. The firm's marginal tax rate is 25%. The firm's managers have determined that the firm should have $58 million available from retained earnings for investment purposes next period. What is the firm's marginal cost of capital at a total investment level of $272 million? - Correct answer 12.15% Determine the net present value for a project that costs $104,000 and would yield after-tax cash flows of $16,000 the first year, $18,000 the second year, $21,000 the third year, $23,000 the fourth year, $27,000 the fifth year, and $33,000 the sixth year. Your firm's cost of capital is 10.00%. - Correct answer -$7,699.08 Determine the internal rate of return for a project that costs $177,000 and would yield after-tax cash flows of $21,000 per year for the first 5 years, the retirement fund by making equal annual deposits at the end of each year for the next 37 years. You expect that you will be able to earn 10% per year on your deposits. However, you only expect to earn 8% per year on your investment after you retire since you will choose to place the money in less risky investments. What equal annual deposits must you make each year to reach your retirement goal? - Correct answer $4,948.52 Within Year, Inc. has bonds outstanding with a $1,000 par value and a maturity of 28 years. The bonds have an annual coupon rate of 12.0% with quarterly coupon payments. You would expect a quoted annual return of 13.0% if you purchased these bonds. What are the bonds worth to you? - Correct answer $925.22 Again, Inc. bonds have a par value of $1,000, a 28 year maturity, and an annual coupon rate of 8.0% with annual coupon payments. The bonds are currently selling for $1,037. The bonds may be called in 3 years for 108.0% of par. What quoted annual rate of return do you expect to earn if you buy the bonds and company calls them when possible? - Correct answer 8.98% Timeless Corporation issued preferred stock with a par value of $300. The stock promised to pay an annual dividend equal to 13.0% of the par value. If the appropriate discount rate for this stock is 10.0%, what is the value of the stock? - Correct answer $390.00 You are considering buying common stock in Grow On, Inc. You have projected that the next dividend the company will pay will equal $6.40 and that dividends will grow at a rate of 9.0% per year thereafter. If you would want an annual return of 12.0% to invest in this stock, what is the most you should pay for the stock now? - Correct answer $213.33 Growing, Inc. is a firm that is experiencing rapid growth. The firm yesterday paid a dividend of $7.10. You believe that dividends will grow at a rate of 14.0% per year for two years, and then at a rate of 10.0% per year thereafter. You expect the stock will sell for $33.83 in two years. You expect an annual rate of return of 25.0% on this investment. If you plan to hold the stock indefinitely, what is the most you would pay for the stock now? - Correct answer $55.69 Costly Corporation plans a new issue of bonds with a par value of $1000, a maturity of 28 years, and an annual coupon rate of 10.0%. Flotation costs associated with a new debt issue would equal 8.0% of the market value of the bonds. Currently, the appropriate discount rate for bonds of firms similar to Costly is 6.0%. The firm's marginal tax rate is 50%. What will the firm's true cost of debt be for this new bond issue? - Correct answer 3.35% Costly Corporation is considering using equity financing. Currently, the firm's stock is selling for $38.00 per share. The firm's dividend for next year is expected to be $5.80 with an annual growth rate of 7.0% thereafter indefinitely. If the firm issues new stock, the flotation costs would equal 12.0% of the stock's market value. The firm's marginal tax rate is 40%. What is the firm's cost of internal equity? - Correct answer 22.26% Marginal Incorporated (MI) has determined that its after-tax cost of debt is 7.0%. Its cost of preferred stock is 11.0%. Its cost of internal equity is 16.0%, and its cost of external equity is 21.0%. Currently, the firm's capital structure has $295 million of debt, $45 million of preferred stock, and $160 million of common equity. The firm's marginal tax rate is 45%. The firm is currently making projections for the next period. Its managers have determined that the firm should have $55 million available from retained earnings for investment purposes next period. What is the firm's marginal cost of capital at a total investment level of $134 million? - Correct answer 10.24% Determine the net present value for a project that costs $347,000 and would yield after-tax cash flows of $25,000 per year for the first 10 years, $33,000 per year for the next 14 years, and $46,000 per year for the following 11 years. Your firm's cost of capital is 8.00%. - Correct answer - $1,444.37 Determine the internal rate of return for a project that costs $169,000 and would yield after-tax cash flows of $22,000 per year for the first 5 years, $30,000 per year for the next 5 years, and $43,000 per year for the following 5 years. - Correct answer 13.98% Your company has an opportunity to invest in a project that is expected to result in after-tax cash flows of $7,000 the first year, $9,000 the second year, $12,000 the third year, -$8,000 the fourth year, $19,000 the fifth year, $25,000 the sixth year, $28,000 the seventh year, and -$6,000 the eighth year. The project would cost the firm $47,300. If the firm's cost of capital is 18%, what is the modified internal rate of return? - Correct answer 15.94% You are evaluating a potential investment in equipment. The equipment's basic price is $176,000, and shipping costs will be $3,500. It will cost another $17,600 to modify it for special use by your firm, and an additional $8,800 to install it. The equipment falls in the MACRS 3-year class that allows depreciation of 33% the first year, 45% the second year, 15% the third year, and 7% the fourth year. You expect to sell the equipment for 30,900 at the end of three years. The equipment is expected to generate revenues of $151,000 per year with annual operating costs of $77,000. The firm's marginal tax rate is 35.0%. What is the after-tax operating cash flow for year 3? - Correct answer $58,910