1) Zumbahlen Inc. has the following balance sheet. How much total operating capital
does the firm have?
Cash$ 20.00Accounts payable$ 30.00
Short-term investments50.00Accruals50.00
Accounts receivable20.00Notes payable 30.00
Inventory 60.00 Current liabilities$110.00
Current assets$150.00Long-term debt70.00
Gross fixed assets$140.00Common stock30.00
Accumulated deprec. 40.00Retained earnings 40.00
Net fixed assets$100.00Total common equity$ 70.00
Total assets$250.00Total liab. & equity$250.00
a.$114.00
b.$120.00
c.$126.00
d.$132.30
e.$138.92
2) Which of the following statements is CORRECT?
a.A sunk cost is any cost that was expended in the past but can be recovered if the firm
decides not to go forward with the project
b.A sunk cost is a cost that was incurred and expensed in the past and cannot be
recovered if the firm decides not to go forward with the project
c.Sunk costs were formerly hard to deal with but now that the NPV method is widely
used, it is possible to simply include sunk costs in the cash flows and then calculate the
PV of the project
d.A good example of a sunk cost is a situation where Home Depot opens a new store,
and that leads to a decline in sales of one of the firm’s existing stores
e.A sunk cost is any cost that must be expended in order to complete a project and bring
it into operation
3) Which of the following statements is CORRECT?
a. A good goal for a firm’s management is maximization of expected EPS
b. Most business in the U.S. is conducted by corporations, and corporations’ popularity
results primarily from their favorable tax treatment
c. Because most stock ownership is concentrated in the hands of a relatively small
segment of society, firms’ actions to maximize their stock prices have little benefit to
society
d. Corporations and partnerships have an advantage over proprietorships because a sole
proprietor is exposed to unlimited liability, but the liability of all investors in the other
types of businesses is more limited
e. The potential exists for agency conflicts between stockholders and managers
4) Which of the following statements is CORRECT?
a.The maximum federal tax rate on personal income in 2010 was 50%
b.Since companies can deduct dividends paid but not interest paid, our tax system
favors the use of equity financing over debt financing, and this causes companies’ debt
ratios to be lower than they would be if interest and dividends were both deductible
c.Interest paid to an individual is counted as income for tax purposes and taxed at the
individual’s regular tax rate, which in 2010 could go up to 35%, but dividends received
were taxed at a maximum rate of 15%
d.The maximum federal tax rate on corporate income in 2010 was 50%
e.Corporations obtain capital for use in their operations by borrowing and by raising
equity capital, either by selling new common stock or by retaining earnings. The cost of
debt capital is the interest paid on the debt, and the cost of the equity is the dividends
paid on the stock. Both of these costs are deductible from income when calculating
income for tax purposes
5) Which of the following statements is CORRECT?
a.Depreciation and amortization are not cash charges, so neither of them has an effect
on a firm’s reported profits
b.The more depreciation a firm reports, the higher its tax bill, other things held constant
c.People sometimes talk about the firm’s net cash flow, which is shown as the lowest
entry on the income statement, hence it is often called “the bottom line”
d.Depreciation reduces a firm’s cash balance, so an increase in depreciation would
normally lead to a reduction in the firm’s net cash flow
e.Net cash flow (NCF) is often defined as follows
Net Cash Flow = Net Income + Depreciation and Amortization Charges
6) Which of the following statements is CORRECT?
a.For mutually exclusive projects with normal cash flows, the NPV and MIRR methods
can never conflict, but their results could conflict with the discounted payback and the
regular IRR methods
b.Multiple IRRs can exist, but not multiple MIRRs. This is one reason some people
favor the MIRR over the regular IRR
c.If a firm uses the discounted payback method with a required payback of 4 years, then
it will accept more projects than if it used a regular payback of 4 years
d.The percentage difference between the MIRR and the IRR is equal to the project’s
WACC
e.The NPV, IRR, MIRR, and discounted payback (using a payback requirement of 3
years or less) methods always lead to the same accept/reject decisions for independent
projects
7) Which of the following statements is CORRECT?
a.The AFN equation for forecasting funds requirements requires only a forecast of the
firm’s balance sheet. Although a forecasted income statement may help clarify the
results, income statement data are not essential because funds needed relate only to the
balance sheet
b.Dividends are paid with cash taken from the accumulated retained earnings account,
hence dividend policy does not affect the AFN forecast
c.A negative AFN indicates that retained earnings and spontaneous liabilities are far
more than sufficient to finance the additional assets needed
d.If the ratios of assets to sales and spontaneous liabilities to sales do not remain
constant, then the AFN equation will provide more accurate forecasts than the
forecasted financial statements method
e.Any forecast of financial requirements involves determining how much money the
firm will need, and this need is determined by adding together increases in assets and
spontaneous liabilities and then subtracting operating income
8) Which of the following statements is CORRECT? Assume that the project being
considered has normal cash flows, with one outflow followed by a series of inflows.
a.A project’s regular IRR is found by discounting the cash inflows at the WACC to find
the present value (PV), then compounding this PV to find the IRR
b.If a project’s IRR is greater than the WACC, then its NPV must be negative
c.To find a project’s IRR, we must solve for the discount rate that causes the PV of the
inflows to equal the PV of the project’s costs
d.To find a project’s IRR, we must find a discount rate that is equal to the WACC
e.A project’s regular IRR is found by compounding the cash inflows at the WACC to
find the terminal value (TV), then discounting this TV at the WACC
9) Companies HD and LD have identical tax rates, total assets, and basic earning power
ratios, and their basic earning power exceeds their before-tax cost of debt, rd. However,
Company HD has a higher debt ratio and thus more interest expense than Company LD.
Which of the following statements is CORRECT?
a.Company HD has a lower ROA than Company LD
b.Company HD has a lower ROE than Company LD
c.The two companies have the same ROA
d.The two companies have the same ROE
e.Company HD has a higher net income than Company LD
10) You are considering investing in one of the these three stocks:
StockStandard DeviationBeta
A20%0.59
B10%0.61
C12%1.29
If you are a strict risk minimizer, you would choose Stock ____ if it is to be held in
isolation and Stock ____ if it is to be held as part of a well-diversified portfolio.
a.A; B.
b.B; A.
c.C; A.
d.C; B.
e.A; A.
11) Stock X has the following data. Assuming the stock market is efficient and the stock
is in equilibrium, which of the following statements is CORRECT?
Expected dividend, D1$3.00
Current Price, P0$50
Expected constant growth rate6.0%
a.The stock’s expected dividend yield and growth rate are equal
b.The stock’s expected dividend yield is 5%
c.The stock’s expected capital gains yield is 5%
d.The stock’s expected price 10 years from now is $100.00
e.The stock’s required return is 10%
12) Nicholas Industries can issue a 20-year bond with a 6% annual coupon. This bond is
not convertible, is not callable, and has no sinking fund. Alternatively, Nicholas could
issue a 20-year bond that is convertible into common equity, may be called, and has a
sinking fund. Which of the following most accurately describes the coupon rate that
Nicholas would have to pay on the convertible, callable bond?
a.It could be less than, equal to, or greater than 6%
b.Greater than 6%
c.Exactly equal to 8%
d.Less than 6%
e.Exactly equal to 6%
13) Which of the following statements is CORRECT?
a.The statement of cash needs tells us how much cash the firm will require during some
future period, generally a month or a year
b.The four most important financial statements provided in the annual report are the
balance sheet, income statement, cash budget, and the statement of stockholders’ equity
c.The balance sheet gives us a picture of the firm’s financial position at a point in time
d.The income statement gives us a picture of the firm’s financial position at a point in
time
e.The statement of cash flows tells us how much cash the firm has in the form of
currency and demand deposits
14) F. Marston, Inc. has developed a forecasting model to estimate its AFN for the
upcoming year. All else being equal, which of the following factors is most likely to
lead to an increase of the additional funds needed (AFN)?
a.A switch to a just-in-time inventory system and outsourcing production
b.The company reduces its dividend payout ratio
c.The company switches its materials purchases to a supplier that sells on terms of 1/5,
net 90, from a supplier whose terms are 3/15, net 35
d.The company discovers that it has excess capacity in its fixed assets
e.A sharp increase in its forecasted sales
15) Which of the following statements is CORRECT?
a. In Europe and Asia hedge funds are legal, but they are not permitted to operate in the
United States
b. Hedge funds have more in common with commercial banks than with any other type
of financial institution
c. Hedge funds have more in common with investment banks than with any other type
of financial institution
d. In the United States hedge funds are legal, but in Europe and Asia they are not
permitted to operat
e. The justification for the “light” regulation of hedge funds is that only ‘sophisticated”
investors with high net worths and high incomes are permitted to invest in these funds,
and such investors supposedly can do the necessary “due diligence” on their own rather
than have it done by the SEC or some other regulator
16) Which of the following statements is CORRECT?
a.Other things held constant, if investors suddenly become convinced that there will be
deflation in the economy, then the required returns on all stocks should increase
b.If a company’s beta were cut in half, then its required rate of return would also be
halved
c.If the risk-free rate rises by 0.5% but the market risk premium declines by that same
amount, then the required rates of return on stocks with betas less than 1.0 will decline
while returns on stocks with betas above 1.0 will increase
d.If the risk-free rate rises by 0.5% but the market risk premium declines by that same
amount, then the required rate of return on an average stock will remain unchanged, but
required returns on stocks with betas less than 1.0 will rise
e.If a company’s beta doubles, then its required rate of return will also double
17) Dickson Co. is considering a project that has the following cash flow and WACC
data. What is the project’s NPV? Note that a project’s expected NPV can be negative, in
which case it will be rejected.
WACC:12.00%
Year012345
Cash flows-$1,100$400$390$380$370$360
a.$250.15
b.$277.94
c.$305.73
d.$336.31
e.$369.94
18) Which of the following statements is CORRECT?
a. An increase in a firm’s debt ratio, with no changes in its sales or operating costs,
could be expected to lower the profit margin
b. The ratio of long-term debt to total capital is more likely to experience seasonal
fluctuations than is either the DSO or the inventory turnover ratio
c. If two firms have the same ROA, the firm with the most debt can be expected to have
the lower ROE
d. An increase in the DSO, other things held constant, could be expected to increase the
total assets turnover ratio
e. An increase in the DSO, other things held constant, could be expected to increase the
ROE
19) Stocks A and B are quite similar: Each has an expected return of 12%, a beta of 1.2,
and a standard deviation of 25%. The returns on the two stocks have a correlation of
0.6. Portfolio P has 50% in Stock A and 50% in Stock B. Which of the following
statements is CORRECT?
a.Portfolio P has a standard deviation that is greater than 25%
b.Portfolio P has an expected return that is less than 12%
c.Portfolio P has a standard deviation that is less than 25%
d.Portfolio P has a beta that is less than 1.2
e.Portfolio P has a beta that is greater than 1.2
20) Which of the following statements is CORRECT?
a.The first, and perhaps the most critical, step in forecasting financial requirements is to
forecast future sales
b.Forecasted financial statements, as discussed in the text, are used primarily as a part
of the managerial compensation program, where management’s historical performance
is evaluated
c.The capital intensity ratio gives us an idea of the physical condition of the firm’s fixed
assets
d.The AFN equation produces more accurate forecasts than the forecasted financial
statement method, especially if fixed assets are lumpy, economies of scale exist, or if
excess capacity exists
e.Perhaps the most important step when developing forecasted financial statements is to
determine the breakdown of common equity between common stock and retained
earnings
21) Over the years, Janjigian Corporation’s stockholders have provided $15,250 of
capital, part when they purchased new issues of stock and part when they allowed
management to retain some of the firm’s earnings. The firm now has 1,000 shares of
common stock outstanding, and it sells at a price of $42.00 per share. How much value
has Janjigian’s management added to stockholder wealth over the years, i.e., what is
Janjigian’s MVA?
a.$21,788
b.$22,935
c.$24,142
d.$25,413
e.$26,750
22) Bonner Corp.’s sales last year were $415,000, and its year-end total assets were
$355,000. The average firm in the industry has a total assets turnover ratio (TATO) of
2.4. Bonner’s new CFO believes the firm has excess assets that can be sold so as to
bring the TATO down to the industry average without affecting sales. By how much
must the assets be reduced to bring the TATO to the industry average, holding sales
constant?
a. $164,330
b. $172,979
c. $182,083
d. $191,188
e. $200,747
23) Paul McLaren holds the following portfolio:
StockInvestmentBeta
A$150,0001.40
B50,0000.80
C100,0001.00
D75,0001.20
Total$375,000
Paul plans to sell Stock A and replace it with Stock E, which has a beta of 0.75. By how
much will the portfolio beta change?
a.-0.190
b.-0.211
c.-0.234
d.-0.260
e.-0.286
24) A Treasury bond has an 8% annual coupon and a 7.5% yield to maturity. Which of
the following statements is CORRECT?
a.The bond has a current yield greater than 8%
b.The bond sells at a discount
c.The bond’s required rate of return is less than 7.5%
d.If the yield to maturity remains constant, the price of the bond will decline over time
e.The bond sells at a price below par
25) Haswell Enterprises’ bonds have a 10-year maturity, a 6.25% semiannual coupon,
and a par value of $1,000. The going interest rate (rd) is 4.75%, based on semiannual
compounding. What is the bond’s price?
a.1,063.09
b.1,090.35
c.1,118.31
d.1,146.27
e.1,174.93
26) Westwood Painting Co. is considering a project that has the following cash flow and
WACC data. What is the project’s MIRR? Note that a project’s MIRR can be less than
the WACC (and even negative), in which case it will be rejected.
WACC:12.25%
Year01234
Cash flows-$850$300$320$340$360
a.13.42%
b.14.91%
c.16.56%
d.18.22%
e.20.04%
27) Projects C and D both have normal cash flows and are mutually exclusive. Project
C has a higher NPV if the WACC is less than 12%, whereas Project D has a higher NPV
if the WACC exceeds 12%. Which of the following statements is CORRECT?
a.Project D is probably larger in scale than Project C
b.Project C probably has a faster payback
c.Project C probably has a higher IRR
d.The crossover rate between the two projects is below 12%
e.Project D probably has a higher IRR
28) Collins Inc. is investigating whether to develop a new product. In evaluating
whether to go ahead with the project, which of the following items should NOT be
explicitly considered when cash flows are estimated?
a.The project will utilize some equipment the company currently owns but is not now
using. A used equipment dealer has offered to buy the equipment
b.The company has spent and expensed for tax purposes $3 million on research related
to the new detergent. These funds cannot be recovered, but the research may benefit
other projects that might be proposed in the future
c.The new product will cut into sales of some of the firm’s other products
d.If the project is accepted, the company must invest $2 million in working capital.
However, all of these funds will be recovered at the end of the project’s life
e.The company will produce the new product in a vacant building that was used to
produce another product until last year. The building could be sold, leased to another
company, or used in the future to produce another of the firm’s products
29) Which of the following statements is CORRECT?
a. Corporations generally are subject to more favorable tax treatment and fewer
regulations than partnerships and sole proprietorships, which is why corporations do
most of the business in the United States
b. Managers who face the threat of hostile takeovers are less likely to pursue policies
that maximize shareholder value than are managers who do not face the threat of hostile
takeovers
c. One advantage of the corporate form of organization is that liability of the owners of
the firm is limited to their investment in the firm
d. Because of their simplified organization, it is easier for sole proprietorships and
partnerships to raise large amounts of outside capital than it is for corporations
e. Bond covenants are an effective way to resolve conflicts between shareholders and
managers
30) DeVault Services recently hired you as a consultant to help with its capital
budgeting process. The company is considering a new project whose data are shown
below. The equipment that would be used has a 3-year tax life, would be depreciated by
the straight-line method over its 3-year life, and would have a zero salvage value. No
new working capital would be required. Revenues and other operating costs are
expected to be constant over the project’s 3-year life. What is the project’s NPV?
Risk-adjusted WACC10.0%
Net investment cost (depreciable basis)$65,000
Straight-line deprec. rate33.3333%
Sales revenues, each year$65,500
Operating costs (excl. deprec.), each year$25,000
Tax rate35.0%
a.$15,740
b.$16,569
c.$17,441
d.$18,359
e.$19,325
31) Suppose 1 U.S. dollar equals 1.60 Canadian dollars in the spot market. 6-month
Canadian securities have an annualized return of 6% (and thus a 6-month periodic
return of 3%). 6-month U.S. securities have an annualized return of 6.5% and a periodic
return of 3.25%. If interest rate parity holds, what is the U.S. dollar-Canadian dollar
exchange rate in the 180-day forward market?
a.1 U.S. dollar = 0.6235 Canadian dollars
b.1 U.S. dollar = 0.6265 Canadian dollars
c.1 U.S. dollar = 1.0000 Canadian dollars
d.1 U.S. dollar = 1.5961 Canadian dollars
e.1 U.S. dollar = 1.6039 Canadian dollars
32) Erickson Inc. is considering a capital budgeting project that has an expected return
of 25% and a standard deviation of 30%. What is the project’s coefficient of variation?
a.1.20
b.1.26
c.1.32
d.1.39
e.1.46
33) Two operationally similar companies, HD and LD, have identical amounts of assets,
operating income (EBIT), tax rates, and business risk. Company HD, however, has a
much higher debt ratio than LD. Company HD’s basic earning power ratio (BEP)
exceeds its cost of debt (rd). Which of the following statements is CORRECT?
a.Company HD has a higher times interest earned (TIE) ratio than Company LD
b.Company HD has a higher return on equity (ROE) than Company LD, and its risk, as
measured by the standard deviation of ROE, is also higher than LD’s
c.The two companies have the same ROE
d.Company HD’s ROE would be higher if it had no debt
e.Company HD has a higher return on assets (ROA) than Company LD
34) Which of the following assumptions is embodied in the AFN equation?
a.Accounts payable and accruals are tied directly to sales
b.Common stock and long-term debt are tied directly to sales
c.Fixed assets, but not current assets, are tied directly to sales
d.Last year’s total assets were not optimal for last year’s sales
e.None of the firm’s ratios will change
35) Portfolio A has but one stock, while Portfolio B consists of all stocks that trade in
the market, each held in proportion to its market value. Because of its diversification,
Portfolio B will by definition be riskless.
36) Legal and economic differences among countries, although important, do NOT
pose significant problems for most multinational corporations when they coordinate and
control worldwide operations of subsidiaries.
37) Income bonds pay interest only if the issuing company actually earns the indicated
interest. Thus, these securities cannot bankrupt a company, and this makes them safer
from an investor’s perspective than regular bonds.
38) Although short-term interest rates have historically averaged less than long-term
rates, the heavy use of short-term debt is considered to be an aggressive current
operating asset financing strategy because of the inherent risks of using short-term
financing.
39) Multinational financial management requires that financial analysts consider the
effects of changing currency values.
40) Net working capital, defined as current assets minus the sum of payables and
accruals, is equal to the current ratio minus the quick ratio.