The ____ method assumes that the cash flows over the life of the project are reinvested
at the ____.
a. net present value; computed internal rate of return
b. internal rate of return; firm’s cost of capital
c. net present value; firm’s cost of capital
d. net present value; risk-free rate of return
e. none of the above
In the linear breakeven model, the breakeven sales volume (in dollars) can be found by
multiplying the breakeven sales volume (in units) by:
a. one minus the variable cost ratio
b. contribution margin per unit
c. selling price per unit
d. standard deviation of unit sales
e. none of the above
The capital structure of Wildcat Wells, an independent petroleum exploration and
drilling company, consists of 40 percent debt and 60 percent equity capital. Debt capital
consists of a bond (which matures in 10 years) issued five years ago at an interest rate
of 10 percent. Since then market interest rates have risen substantially. The firm has
been advised by its investment banker that additional debt financing (bonds) could be
obtained at a rate of 12 percent. In the last six years of operations, Wildcat Wells has
averaged a 12 percent compound rate of growth in earnings and dividends. This rate is
expected to continue for the foreseeable future. Next year’s dividend is projected to be
$.75 per share. The firm’s stock is currently selling for $25 per share. Wildcat Wells has
a 40 percent marginal income tax rate.
(a) What is the firm’s after-tax cost of debt financing?
(b) What is the firm’s after-tax cost of internal equity capital?
(c) Assuming that Wildcat Wells plans to maintain its present capital structure, what is
the firm’s weighted cost of capital?
The ____ depicts the risk-return relationship in the market for all securities:
a. characteristic line
b. security market line
c. investment opportunity curve
d. marginal cost of capital schedule
e. none of the above
To reduce Agency Problems, executive compensation should be designed to:
a. create incentives so that managers act like owners of the firm.
b. avoid making the executives own shares in the company.
c. be an increasing function of the firm’s expenses.
d. be an increasing function of the sales revenue received by the firm.
e. all of the above
Incentive-compatible revelation mechanisms attempt to
a. induce an employee to reject the next best alternative employment opportunity
b. elicit privately-held information
c. secure enforcement primarily by third parties
d. reject voluntary contracting with third parties
e. impose similar risk premiums on all employees
The cost of capital can be thought of as the rate of return required by investors in the
firm’s securities.
a. true
b. false
In making promises that are not guaranteed by third parties and in imposing penalties
that are not enforced by third parties, all of the following are credibility-enhancing
mechanisms except
a. establishing a bond forfeited by violating the commitment
b. investing in a non-redeployable reputational asset tied to the promise or threat
c. interrupting the communication of negotiated compromises
d. offering a warranty
e. delivering a hostage (e.g., a patent license triggered by violating the promise)
In cost-benefit analysis, intangibles include such factors as:
a. quality of life considerations
b. changes in land values resulting from a project
c. aesthetic contributions
d. a and b only
e. a and c only
Each partner in a simple profit-sharing contract that splits the independently verifiable
sales revenue minus unobservable cost has an incentive
a. to reject an automatic renewal of the contract
b. to understate fixed cost
c. to overstate avoidable cost
d. to understate customer loyalty for repeat purchases
e. to renew the partnership contract
A certain production process employs two inputs–labor (L) and raw materials (R).
Output (Q) is a function of these two inputs and is given by the following relationship:
Q = 6L2R2– .10L3R3Assume that raw materials (input R) are fixed at 10 units. (a)
Determine the total product function (TPL) for input L.
(b) Determine the marginal product function for input L.
(c) Determine the average product function for input L.
(d) Find the number of units of input L that maximizes the total product function.
(e) Find the number of units of input L that maximizes the marginal product function.
(f) Find the number of units of input L that maximizes the average product function.
(g) Determine the boundaries for the three stages of production.
If the first derivative of Y with respect to X is: dY/dX = -4·X2, then the second
derivative is:
a. -4
b. -8’¢X
c. -4’¢X
d. -8·X2
e. -8
Which of the following is not a limitation of the survivor technique for measuring the
optimum size of firms within an industry?
a. since the technique does not employ actual cost data in the analysis, there is no way
to assess the magnitude of the cost differentials between firms of varying size and
efficiency.
b. the managerial and entrepreneurial aspects of the production process are not included
in the analysis
c. because of legal factors, the long-run cost curve derived by this technique may be
distorted and may not measure the cost curve postulated in economic theory
d. a and b
e. b and c