93) SAP Inc. received a $1.5 million grant under its Small Business Innovation program. SAP invested the grant
money and developed a system to remove metal contaminants from storm water in shipyards. The firm
estimates that each shipyard spends $400,000 a year on storm water clean–up efforts. If SAP is able to sign
up and retain four shipyards in the first year onwards, what is the present value (PV) of the project (net of
investment) if the cost of capital for SAP is 16% per year? Assume a cost of operations and other costs for
SAP equal 60% of revenue.
A) $1.9 million
B) $2..1 million
C) $2.3 million
D) $2..5 million
94) A firm is considering investing in a new project with an upfront cost of $400 million. The project will
generate an incremental free cash flow of $50 million in the first year and this cashflow is expected to grow at
an annual rate of 4% forever. If the firm’s WACC is 13%, what is the value of this project?
A) $155.6 million
B) $555.6 million
C) $577.8 million
D) $177.8 million
95) Which of the following is NOT a step in the WACC valuation method?
A) Compute the weighted average cost of capital.
B) Discount the incremental free cash flows of the investment using the weighted average cost of capital.
C) Determine the incremental free cash flows of the investment.
D) Determine the mean weighted average cost of capital for the firm’s industry.
TRUE/FALSE. Write ‘T’ if the statement is true and ‘F’ if the statement is false.
96) Firms that have many divisions with different lines of business do not use a company–wide WACC to
evaluate projects.
MULTIPLE CHOICE. Choose the one alternative that best completes the statement or answers the question.
97) Divisional costs of capital are more appropriate when evaluating a project for a line of business when the
types of business in a firm are
A) mature businesses.
B) similar.
C) new businesses.
D) different.
98) Anheuser Busch, a manufacturer of beverages, is planning to purchase Six Flags theme parks. Anheuser
Busch should use the ________ to evaluate the business of Six Flags.
A) WACC of Anheuser Busch
B) WACC of Six Flags
C) average market return
D) none of the above
99) Different divisions with differing lines of business use different costs of capital because their cost of ________
could be different.
A) debt
B) equity
C) capital
D) assets
100) Different divisions with differing lines of business use different costs of capital because their cost of equity is
different and also because the ________ could be different.
A) optimal volatility
B) optimal current ratio
C) optimal asset mix
D) optimal debt–equity ratio
101) Verano Inc. has two business divisions a software product line and a waste water clean–up product line.
The
software
business
has a
cost of
equity capital of 10% and the waste water clean–up business has a cost of equity capital of 7%. Verano has
50% of its revenue from software and the rest from the waste water business. Verano is considering a
purchase of another company in the waste water business using equity financing. What is the appropriate
cost of capital to evaluate the business?
A) 10%
B) 7%
C) 8.5%
D) 9%
102) Verano Inc. has two business divisions a software product line and a waste water clean–up product line.
The software business has a cost of equity capital of 11% and the waste water clean–up business has a cost of
equity capital of 6%. Verano has 50% of its revenue from software and the rest from the waste water
business. Verano is considering a purchase of another company in the waste water business using equity
financing. What is the appropriate cost of capital to evaluate the business?
A) 11%
B) 8.5%
C) 6%
D) 9.3%
103) Verano Inc. has two business divisions a software product line and a waste water clean–up product line.
The software business has a cost of equity capital of 12% and the waste water clean–up business has a cost of
equity capital of 8%. Verano has 50% of its revenue from software and the rest from the waste water
business. Verano is considering a purchase of another company in the waste water business using equity
financing. What is the appropriate cost of capital to evaluate the business?
A) 12%
B) 8%
C) 10%
D) 11%
TRUE/FALSE. Write ‘T’ if the statement is true and ‘F’ if the statement is false.
104) The costs of external financing must be deducted from the net present value (NPV) of a project to evaluate if
it is worth undertaking.
105) Internal financing is more costly than external financing because of issuance costs.
MULTIPLE CHOICE. Choose the one alternative that best completes the statement or answers the question.
106) Ford Motors expects a new hybrid–engine project to produce incremental cash flows of $100 million each
year and expects these to grow at 4% each year. The upfront project costs are $900 million and Ford’s
weighted average cost of capital is 9%. If the issuance costs for external finances are $10 million, what is the
net present value (NPV) of the project?
A) $1800 million
B) $1290 million
C) $1100 million
D) $1090 million
107) Ford Motors expects a new hybrid–engine project to produce incremental cash flows of $60 million each year,
and expects these to grow at 4% each year. The upfront project costs are $420 million and Ford’s weighted
average cost of capital is 9%. If the issuance costs for external finances are $15 million, what is the net
present value (NPV) of the project?
A) $710 million
B) $765 million
C) $790 million
D) $805 million
108) Ford Motors expects a new hybrid–engine project to produce incremental cash flows of $45 million each year,
and expects these to grow at 5% each year. The upfront project costs are $380 million and Ford’s weighted
average cost of capital is 8%. If the issuance costs for external finances are $10 million, what is the net
present value (NPV) of the project?
A) $990 million
B) $1125 million
C) $1110 million
D) $1200 million
109) A firm is considering acquiring a competitor. The firm plans on offering $200 million for the competitor.
The firm will need to issue new debt and equity to finance the acquisition. You estimate the issuance costs
to be $10 million. The acquisition will generate an incremental free cash flow of $25 million in the first year
and this cash flow is expected to grow at an annual rate of 3% forever. If the firm’s WACC is 13%, what is
the value of this project?
A) $40 million
B) $50 million
C) $60 million
D) $70 million
110) Which of the following statements is FALSE?
A) Issuance costs increase the WACC.
B) External equity is less expensive than retained earnings.
C) A project that can be financed with internal funds will be less costly than the same project if it were
financed with external funds.
D) Issuance costs should be treated as cash outflows in NPV analysis.
