Pdfcoffee Chapter 10 - Chapter 11 PDF

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Accounting Subject for Business Management students 2nd year...

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FIN315 – BUSINESS FINANCE

Chapter 10 and 11

NAME (PLEASE PRINT) _________________________________________________________ Show your work where applicable. Multiple Choice Identify the choice that best completes the statement or answers the question. ___

1. Which of the following is NOT a capital component when calculating the weighted average cost of capital (WACC)for use in capital budgeting? a. Long-term debt. b. Accounts payable. c. Retained earnings. d. Common stock. e. Preferred stock.

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2. For a typical firm, which of the following sequences is CORRECT? All rates are after taxes, and assume that the firm operates at its target capital structure. a. rs > re > rd > WACC. b. re > rs > WACC > rd. c. WACC > re > rs > rd. d. rd > re > rs > WACC. e. WACC > rd > rs > re.

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3. Duval Inc. uses only equity capital, and it has two equally-sized divisions. Division A’s cost of capital is 10.0%, Division B’s cost is 14.0%, and the corporate (composite) WACC is 12.0%. All of Division A’s projects are equally risky, as are all of Division B's projects. However, the projects of Division A are less risky than those of Division B. Which of the following projects should the firm accept? a. A Division B project with a 13% return. b. A Division B project with a 12% return. c. A Division A project with an 11% return. d. A Division A project with a 9% return. e. A Division B project with an 11% return.

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4. For a company whose target capital structure calls for 50% debt and 50% common equity, which of the following statements is CORRECT? a. The interest rate used to calculate the WACC is the average after-tax cost of all the company's outstanding debt as shown on its balance sheet. b. The WACC is calculated on a before-tax basis. c. The WACC exceeds the cost of equity. d. The cost of equity is always equal to or greater than the cost of debt. e. The cost of retained earnings typically exceeds the cost of new common stock.

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5. Bosio Inc.'s perpetual preferred stock sells for $100.00 per share, and it pays an $8.50 annual dividend. If the company were to sell a new preferred issue, it would incur a flotation cost of 4.00% of the price paid by investors. What is the company's cost of preferred stock for use in calculating the WACC? a. 7.44% b. 8.85% c. 7.88% d. 10.09% e. 8.23%

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6. O'Brien Inc. has the following data: rRF = 5.00%; RPM = 6.00%; and b = 1.30. What is the firm's cost of equity from retained earnings based on the CAPM? a. 13.06% b. 15.49% c. 12.80% d. 11.14% e. 14.72%

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7. Teall Development Company hired you as a consultant to help them estimate its cost of capital. You have been provided with the following data: D1 = $1.45; P0 = $33.00; and g = 6.50% (constant). Based on the DCF approach, what is the cost of equity from retained earnings? a. 13.18% b. 8.17% c. 10.89% d. 13.62% e. 11.66%

___ 8. You were hired as a consultant to Giambono Company, whose target capital structure is 40% debt, 15% preferred, and 45% common equity. The after-tax cost of debt is 6.00%, the cost of preferred is 7.50%, and the cost of retained earnings is 16.75%. The firm will not be issuing any new stock. What is its WACC? a. 13.16% b. 9.18% c. 8.52% d. 11.06% e. 9.74%

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9. 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 $1,125, 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? a. 5.66% b. 4.79% c. 4.98% d. 5.94% e. 4.94%

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10. Assume that Kish Inc. hired you as a consultant to help estimate its cost of capital. You have obtained the following data: D0 = $0.90; P0 = $30.00; and g = 7.00% (constant). Based on the DCF approach, what is the cost of equity from retained earnings? a. 10.11% b. 7.96% c. 10.52% d. 10.21% e. 9.80%

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11. Trahan Lumber Company hired you to help estimate its cost of capital. You obtained the following data: D1 = $1.25; P0 = $20.00; g = 5.00% (constant); and F = 6.00%. What is the cost of equity raised by selling new common stock? a. 11.88% b. 11.65% c. 12.00% d. 13.86% e. 8.85%

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12. Sorensen Systems Inc. is expected to pay a $2.50 dividend at year end (D1 = $2.50), the dividend is expected to grow at a constant rate of 5.50% a year, and the common stock currently sells for $62.50 a share. The before-tax cost of debt is 7.50%, and the tax rate is 40%. The target capital structure consists of 45% debt and 55% common equity. What is the company’s WACC if all the equity used is from retained earnings? a. 7.25% b. 6.67% c. 8.34% d. 6.24% e. 7.54%

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13. You were hired as a consultant to Quigley Company, whose target capital structure is 35% debt, 10% preferred, and 55% common equity. The interest rate on new debt is 6.50%, the yield on the preferred is 6.00%, the cost of retained earnings is 10.75%, and the tax rate is 40%. The firm will not be issuing any new stock. What is Quigley's WACC? a. 6.46% b. 8.19% c. 5.91% d. 7.88% e. 7.40%

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14. Keys Printing plans to issue a $1,000 par value, 20-year noncallable bond with a 7.00% annual coupon, paid semiannually. The company's marginal tax rate is 40.00%, but Congress is considering a change in the corporate tax rate to 50.00%. By how much would the component cost of debt used to calculate the WACC change if the new tax rate was adopted? a. –0.72% b. –0.88% c. –0.57% d. –0.76% e. –0.70%

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15. S. Bouchard and Company hired you as a consultant to help estimate its cost of capital. You have obtained the following data: D0 = $0.85; P0 = $22.00; and g = 6.00% (constant). The CEO thinks, however, that the stock price is temporarily depressed, and that it will soon rise to $28.00. Based on the DCF approach, by how much would the cost of equity from retained earnings change if the stock price changes as the CEO expects? a. –0.88% b. –0.77% c. –1.03% d. –0.85% e. –1.09%

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16. Which of the following statements is CORRECT? a. One defect of the IRR method is that it does not take account of cash flows over a project’s full life. b. One defect of the IRR method is that it does not take account of the time value of money. c. One defect of the IRR method is that it does not take account of the cost of capital. d. One defect of the IRR method is that it values a dollar received today the same as a dollar that will not be received until some time in the future. e. One defect of the IRR method is that it assumes that the cash flows to be received from a project can be reinvested at the IRR itself, and that assumption is often not valid.

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17. Which of the following statements is CORRECT? a. If a project has “normal” cash flows, then its IRR must be positive. b. If a project has “normal” cash flows, then its MIRR must be positive. c. If a project has “normal” cash flows, then it will have exactly two real IRRs. d. The definition of “normal” cash flows is that the cash flow stream has one or more negative cash flows followed by a stream of positive cash flows and then one negative cash flow at the end of the project’s life. e. If a project has “normal” cash flows, then it can have only one real IRR,

___ 18. Which of the following statements is CORRECT? a. For a project to have more than one IRR, then both IRRs must be greater than the WACC. b. If two projects are mutually exclusive, then they are likely to have multiple IRRs. c. If a project is independent, then it cannot have multiple IRRs. d. Multiple IRRs can only occur if the signs of the cash flows change more than once. e. If a project has two IRRs, then the smaller one is the one that is most relevant, and it should be accepted and relied upon.

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19. Anderson Systems 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: 23.50% Year 0 Cash flows -$1,000 a. b. c. d. e.

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3 $500

20. 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.

a. b. c. d. e.

1 $300

2 $300

3 $300

4 $300

5 $300

-$56.39 -$75.86 -$67.14 -$69.15 -$77.21

21. Simms Corp. is considering a project that has the following cash flow data. What is the project's IRR? Note that a project's projected IRR can be less than the WACC or negative, in both cases it will be rejected. Year 0 Cash flows -$1,300 a. b. c. d. e.

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2 $500

-$1.84 -$1.47 -$1.88 -$1.65 -$1.62

WACC: 18.25% Year 0 Cash flows -$1,000

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1 $500

1 $425

2 $425

3 $425

–0.74% –1.09% –0.85% –1.10% –0.96%

22. Thorley Inc. is considering a project that has the following cash flow data. What is the project's IRR? Note that a project's projected IRR can be less than the WACC or negative, in both cases it will be rejected. Year 0 Cash flows -$1,375 a. b. c. d. e.

7.30% 5.55% 5.84% 7.24% 6.31%

1 $325

2 $325

3 $325

4 $325

5 $325

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23. Taggart Inc. is considering a project that has the following cash flow data. What is the project's payback? Year Cash flows a. b. c. d. e.

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1 $500

2 $500

3 $500

years years years years years

24. Cornell Enterprises 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 -$1,025 $450 $460 $470 a. b. c. d. e.

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1.30 1.52 1.18 1.14 1.16

0 -$650

$113.85 $119.72 $91.55 $132.63 $117.37

25. Datta Computer Systems is considering a project that has the following cash flow data. What is the project's IRR? Note that a project's projected IRR can be less than the WACC (and even negative), in which case it will be rejected. Year 0 Cash flows -$1,400 a. b. c. d. e.

1 $450

2 $470

3 $490

0.26% 0.35% 0.33% 0.34% 0.42%

___ 26. Maxwell Feed & Seed is considering a project that has the following cash flow data. What is the project's IRR? Note that a project's projected IRR can be less than the WACC (and even negative), in which case it will be rejected. Year 0 Cash flows -$6,750 a. b. c. d. e.

16.23% 13.58% 15.61% 16.86% 19.36%

1 $2,000

2 $2,025

3 $2,050

4 $2,075

5 $2,100

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27. Last month, Lloyd's Systems analyzed the project whose cash flows are shown below. However, before the decision to accept or reject the project, the Federal Reserve took actions that changed interest rates and therefore the firm's WACC. The Fed's action did not affect the forecasted cash flows. By how much did the change in the WACC affect the project's forecasted NPV? Note that a project's projected NPV can be negative, in which case it should be rejected. Old WACC: Year Cash flows a. b. c. d. e.

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1 $410

New WACC: 2 $410

8.00% 3 $410

$37.00 $45.51 $43.29 $40.33 $28.86

28. Ehrmann Data Systems is considering a project that has the following cash flow and WACC data. What is the project's MIRR? Note that a project's projected MIRR can be less than the WACC (and even negative), in which case it will be rejected. WACC: Year Cash flows a. b. c. d. e.

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10.00% 0 -$1,000

10.25% 0 -$1,000

1 $450

2 $450

3 $450

15.01% 15.15% 15.87% 12.01% 14.30%

29. Stern Associates is considering a project that has the following cash flow data. What is the project's payback? Year Cash flows a. b. c. d. e.

2.10 1.87 2.02 1.85 2.13

0 -$650

years years years years years

1 $300

2 $310

3 $320

4 $330

5 $340

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30. Fernando Designs is considering a project that has the following cash flow and WACC data. What is the project's discounted payback? WACC: 10.00% Year 0 Cash flows -$725 a. b. c. d. e.

1.65 2.04 1.36 1.26 1.34

years years years years years

1 $500

2 $500

3 $500...