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13) An internal rate of return (IRR) is the discount rate that
A) represents the minimal rate required to create a positive net present value.
B) is the minimal rate of return an investor will accept.
C) provides an investor with their required return.
D) produces a present value of future benefits equal to the market price of a stock.
AACSB: 3 Analytical thinking
Question Status: Previous Edition
Learning Goal: Learning Goal 5
14) In the price/earnings approach to stock valuation,
A) historical stock prices are utilized.
B) forecasted EPS are typically used.
C) the P/E ratio is computed by multiplying the stock price by the earnings per share.
D) the market P/E ratio, adjusted by beta, is used to value individual stocks.
AACSB: 3 Analytical thinking
Question Status: Previous Edition
Learning Goal: Learning Goal 5
15) Hallowell Inc. has free cash flow of $2.5 million and 1.25 million shares outstanding. If
you believe the price to cash flow ratio for this company should be 11, what is the highest price
you should pay for the stock?
A) $13.75
B) $22.00
C) $22.72
D) $27.50
AACSB: 3 Analytical thinking
Question Status: New Question
Learning Goal: Learning Goal 5
29
16) Equinox Bioengineering began operations in January of 2015. In its first year of operation,
sales were $85 million and the net loss was $(5.1 million). Free cash flow was $(300,000).
Equinox has 10 million shares outstanding. If you think the price to sales ratio for this
company should be 1 or less, what is the most you should pay per share.
A) $85.00
B) $8.50
C) $51.00
D) Such a stock would have no value at all.
AACSB: 3 Analytical thinking
Question Status: New Question
Learning Goal: Learning Goal 5
17) Early in 2015, Maria bought shares of MBA Inc. at $27.85 per share. She received the
following dividends per share (end of year).
2015 $1.50
2016 $2.00
2017 $2.50
Immediately after receiving the 2017 dividend, she sold the stock for $32.50 per share. Her
internal rate of return on this investment was
A) 9.17%.
B) 10.25%.
C) 11.99%.
D) 13.85%.
AACSB: 3 Analytical thinking
Question Status: Previous Edition
Learning Goal: Learning Goal 4
30
18) Early in 2015, Mathew is analyzing shares of Janeff Corp. He expects the following
dividends per share (end of year).
2015 $1.00
2016 $1.25
2017 $1.50
He expects 2017 earnings per share to be $4.50 and Janeff’s P/E ratio to be 20. His required
rate of return for this stock is 12%. He should pay no more than
A) $43.75 per share.
B) $67.02 per share.
C) $68.75 per share.
D) $93.75 per share.
AACSB: 3 Analytical thinking
Question Status: Previous Edition
Learning Goal: Learning Goal 4
19) Which of the following approaches to stock valuation is NOT based on a multiple of some
figure from the financial statements?
A) the price-to-cash flow approach
B) the price-to-sales approach
C) the dividends-growth model
D) the price-to-earnings approach
AACSB: 3 Analytical thinking
Question Status: Previous Edition
Learning Goal: Learning Goal 5
20) The Highlight Company has a book value of $56.50 per share, and is currently trading at a
price of $59.00 per share. You are interested in investing in Highlight, and have just used a
present-value based stock valuation model to calculate a present (intrinsic) value of $55.00 per
share for Highlight’s stock. Assuming that your calculations are correct you should
A) buy the stock, because the current market price per share is higher than the present value.
B) buy the stock, because the book value per share is greater than the present value.
C) not buy the stock, because the present value is less than the market price per share.
D) buy the stock, because the book value and the current trading price are very close to one
another in value.
AACSB: 3 Analytical thinking
Question Status: Previous Edition
Learning Goal: Learning Goal 5
31
21) Macoun Co.’s most recent EPS were $3.25 and they are expected to grow at a rate of 5%
for the near future. The stock currently sells for $48.75. What is the price to forecasted
earnings ratio?
A) 15.00
B) 14.30
C) 15.75
D) .07
AACSB: 3 Analytical thinking
Question Status: New Question
Learning Goal: Learning Goal 5
22) How can you determine the current value of a non-dividend paying stock?
Answer: There are several methods you can use such as the price to cash flow, price/earnings
approach, price to sales, or the price to book ratio method.
Learning Outcome: F-09 Discuss the fundamentals of stocks and how to value them
AACSB: 3 Analytical thinking
Question Status: Previous Edition
Learning Goal: Learning Goal 5
8.6 Learning Goal 6
1) The constant growth dividend valuation model works best for mature companies with a long
record of paying dividends.
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Question Status: Previous Edition
Learning Goal: Learning Goal 6
2) The free cash flow to equity approach does not require present value calculations.
AACSB: 3 Analytical thinking
Question Status: New Question
Learning Goal: Learning Goal 6
3) None of the commonly used valuation approaches can assign a value to a company with no
earnings.
AACSB: 3 Analytical thinking
Question Status: Previous Edition
Learning Goal: Learning Goal 6
32
4) A drawback to the price-to-cash-flow method of valuation is that there is no generally
accepted cash flow measure.
AACSB: 3 Analytical thinking
Question Status: Previous Edition
Learning Goal: Learning Goal 6
5) Generally speaking, the higher the price-to-sales ratio, the better.
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Learning Goal: Learning Goal 6
6) To use the Price-to-Sales valuation approach you also need to know the after tax profit
margin.
AACSB: 3 Analytical thinking
Question Status: Previous Edition
Learning Goal: Learning Goal 6
7) The price-to-cash-flow method of stock valuation generally
A) uses either EBITDA or operating cash flow from the cash flow statement as a measure of
cash flow.
B) relies on historical cash flows.
C) produces a cash flow multiple that is greater than the P/E multiple.
D) applies the P/E multiple to the cash flow per share value.
AACSB: 3 Analytical thinking
Question Status: Previous Edition
Learning Goal: Learning Goal 6
8) For which one of the following situations will the price-to-sales valuation model work but
the dividend and cash flow models will not?
A) mature firm with minimal growth opportunities
B) water-powered electric utility company
C) newly-formed biotechnology company with negative earnings
D) top-performing firm in a mature industry
AACSB: 3 Analytical thinking
Question Status: Previous Edition
Learning Goal: Learning Goal 6
33
9) For which one of the following situations will the dividend-growth models work especially
well?
A) mature firm with a policy of increasing its earnings and dividends at an average rate of 5%
per year
B) a company with highly variable earnings and a policy of maintaining a constant 50% payout
ratio
C) a company that intends to pay out all of its earnings as dividends
D) a company that is widely viewed as an attractive takeover target
AACSB: 3 Analytical thinking
Question Status: Previous Edition
Learning Goal: Learning Goal 6
10) EBITDA is an acronym for
A) Earnings Based Information, Total Development Approach.
B) Ernst, Bostwick, Davenport, Innes Approach.
C) Earnings Before Interest, Taxes, Depreciation, and Amortization.
D) Earnings Before Interest, Taxes, Dividends, and Asset replacement.
AACSB: 3 Analytical thinking
Question Status: Previous Edition
Learning Goal: Learning Goal 6
11) A firm with a price to sales ratio of 1 would usually be considered
A) overvalued.
B) correctly valued.
C) near bankruptcy.
D) undervalued.
AACSB: 3 Analytical thinking
Question Status: Previous Edition
Learning Goal: Learning Goal 6
34
12) Which of the following can be considered discounted cash flow methods of stock
valuation?
I. The constant growth dividend valuation model
II. The variable growth dividend valuation model
III. The price to cash flow method
IV. The cash flow to equity method
A) I, II, and IV only
B) II, III, and IV only
C) I, II, and III only
D) I, II, III, and IV
AACSB: 3 Analytical thinking
Question Status: Previous Edition
Learning Goal: Learning Goal 6
13) Tureves S.A. is a French biotechnology company that has developed promising therapies
for hair loss, obesity, and wrinkled skin. Sales have doubled in each of the last three years, but
so far, the company has yet to turn a profit. Which common procedures would be most, and
least appropriate to value Tureves’ ADRs.
AACSB: 3 Analytical thinking
Question Status: Previous Edition
Learning Goal: Learning Goal 6