An exploration of the effect on NPV of changing multiple project parameters is called:
A) scenario analysis.
B) IRR analysis.
C) accounting break-even analysis.
D) sensitivity analysis.
If investors believe that others have superior information which they can take advantage
of by copying their trades, this can lead to:
A) an informational cascade effect.
B) a disposition effect.
C) a sensation seeking effect.
D) an overconfidence bias.
Which of the following statements is FALSE?
A) Graphically, the efficient portfolios are those on the northeast edge of the set of
possible portfolios, an area which we call the efficient frontier.
B) To arrive at the best possible set of risk and return opportunities, we should keep
adding stocks until all investment opportunities are represented.
C) We say a portfolio is short those stocks that have negative portfolio weights.
D) Adding new investment opportunities allows for greater diversification and
improves the efficient frontier.
Equity in a firm with debt is called:
A) levered equity.
B) riskless equity.
C) unlevered equity.
D) risky equity.
Consider the following equation:
E + D = U = A
The E in this equation represents:
A) the value of the firm’s equity.
B) the value of the firm’s debt.
C) the value of the firm’s unlevered equity.
D) the market value of the firm’s assets.
Which of the following statements is FALSE?
A) If a bond trades at a premium, its yield to maturity will exceed its coupon rate.
B) A bond that trades at a premium is said to trade above par.
C) When a coupon-paying bond is trading at a premium, an investor’s return from the
coupons is diminished by receiving a face value less than the price paid for the bond.
D) Holding fixed the bond’s yield to maturity, for a bond not trading at par, the present
value of the bond’s remaining cash flows changes as the time to maturity decreases.
Which of the following statements is FALSE?
A) The break-even level of an input is the level for which the investment has an IRR of
zero.
B) The most difficult part of capital budgeting is deciding how to estimate the cash
flows and the cost of capital.
C) When evaluating a capital budgeting project, financial managers should make the
decision that maximizes NPV.
D) Sensitivity analysis reveals which aspects of the project are most critical when we
are actually managing the project.
Your firm needs to invest in a new delivery truck. The life expectancy of the delivery
truck is five years. You can purchase a new delivery truck for an upfront cost of
$200,000, or you can lease a truck from the manufacturer for five years for a monthly
lease payment of $4000 (paid at the end of each month). Your firm can borrow at 6%
APR with quarterly compounding.
The present value of the lease payments for the delivery truck is closest to:
A) $206,900
B) $207,050
C) $207,680
D) $198,420
A decrease in the sales of a current project because of the launching of a new project is:
A) cannibalization.
B) a sunk cost.
C) an overhead expense.
D) irrelevant to the investment decision.
) Consider an economy with two types of firms, S and I. S firms always move together,
but I firms move independently of each other. For both types of firm there is a 70%
probability that the firm will have a 20% return and a 30% probability that the firm will
have a -30% return.
The standard deviation for the return on an individual firm is closest to:
A) 23.0%
B) 5.25%
C) 15.0%
D) 10.0%
The effective annual rate (EAR) for a loan with a stated APR of 8% compounded
monthly is closest to:
A) 7.72%
B) 8.00%
C) 8.30%
D) 8.66%
Two years ago the Krusty Krab Restaurant purchased a grill for $50,000. The owner,
Eugene Krabs, has learned that a new grill is available that will cook Krabby Patties
twice as fast as the existing grill. This new grill can be purchased for $80,000 and
would be depreciated straight line over 8 years, after which it would have no salvage
value. Eugene Krab expects that the new grill will produce EBITDA of $50,000 per
year for the next eight years while the existing grill produces EBITDA of only $35,000
per year. The current grill is being depreciated straight line over its useful life of 10
years after which it will have no salvage value. All other operating expenses are
identical for both grills. The existing grill can be sold to another restaurant now for
$30,000. The Krusty Krab’s tax rate is 35%.
The incremental cash flow that the Krusty Krab will incur today (Year 0) if they elect to
upgrade to the new grill is closest to:
A) -80,000
B) -50,000
C) -46,500
D) +30,000
Which of the following statements is FALSE?
A) Rather than relying on the efficiency of a single portfolio (such as the market),
multifactor models rely on the weaker condition that an efficient portfolio can be
constructed from a collection of well-diversified portfolios or factors.
B) A positive alpha in a single factor model means that the portfolios that implement the
trading strategy capture risk that is not captured by the market portfolio.
C) Multifactor models have a distinct advantage over single-factor models in that it is
much easier to identify a collection of portfolios that captures systematic risk than just a
single portfolio.
D) Trading strategies based on market capitalization, book-to-market ratios, and
momentum have been developed that appear to have zero alphas.
Consider the following realized annual returns:
Suppose that you want to use the 10 year historical average return on the Index to
forecast the expected future return on the Index. The standard error of your estimate of
the expected return is closest to:
A) 19.4%
B) 3.8%
C) 6.2%
D) 1.95%
Rearden Metals is considering opening a strip mining operation to provide some of the
raw materials needed in producing Rearden metal. The initial purchase of the land and
the associated costs of opening up mining operations will cost $100 million today. The
mine is expected to generate $16 million worth of ore per year for the next 12 years. At
the end of the 12th year Rearden will need to spend $20 million to restore the land to its
original pristine nature appearance.
The number of potential IRRs that exist for Rearden’s mining operation is equal to:
A) 0
B) 1
C) 2
D) 12
Which of the following statements is FALSE?
A) When an investor chooses her optimal portfolio, she will do so by finding the
tangent line using the risk-free rate that corresponds to her investment horizon.
B) If the market portfolio is not efficient, savvy investors who recognize that the market
portfolio is not optimal will push prices and expected returns back into balance.
C) Even though different investors may research different stocks, their information will
not impact the market portfolio since there is no way to share this information with
other investors.
D) In the real world borrowers pay higher interest rates than savers receive.
The credit spread on AAA-rated corporate bonds is:
A) 1.0%
B) 1.5%
C) 2.6%
D) 4.1%
Wyatt Oil, an all-equity financed firm, has just reported EPS of $4.00 per share. Despite
an economic downturn, Wyatt is confident regarding its current investment
opportunities, but due to the current financial crisis, Wyatt does not wish to fund these
investments externally. Wyatt’s board has therefore decided to suspend its stock
repurchase plan and cut its dividend to $1 per share (from its current level of $2 per
share) and retain these funds instead. The firm just paid its current dividend of $1.00
per share and expects to keep its dividend at $1 per share next year as well. In
subsequent years, it expects its growth opportunities to slow, and it will still be able to
fund its growth internally with a target 40% dividend payout ratio, and reinitiating its
stock repurchase plan for a total payout rate of 60%. All dividends and repurchases
occur at the end of each year.
Wyatt’s existing operations are expected to generate the current level of earnings per
share in the future. Assume that the return on new investments is 16% and that
reinvestments will account for all future earnings growth. Wyatt’s current equity cost of
capital is 12%.
Wyatt’s expected EPS in two years is closest to:
A) $4.48
B) $4.64
C) $5.04
D) $5.38
Which of the following formulas is INCORRECT?
A) Invoice price = dirty price
B) Clean price = dirty price – accrued interest
C) Accrued interest = coupon amount ×
D) Cash price = clean price + accrued interest
The Sisyphean Company has a bond outstanding with a face value of $1000 that
reaches maturity in 15 years. The bond certificate indicates that the stated coupon rate
for this bond is 8% and that the coupon payments are to be made semiannually.
Assuming the appropriate YTM on the Sisyphean bond is 9.0%, then the price that this
bond trades for will be closest to:
A) $946
B) $919
C) $1,086
D) $1,000
Google Corporation has no debt on its balance sheet in 2008, but paid $1.6 billion in
taxes. Assume that Google’s marginal tax rate is 35% and Google’s borrowing cost is
7%.
Assume that investors hold Google stock in retirement accounts that are free from
personal taxes. If Google were to issue sufficient debt to reduce its taxes by $1 billion
per year permanently, then the value that would be created is closest to:
A) $14.25 billion
B) $22.00 billion
C) $24.50 billion
D) $40.75 billion
Luther Industries has a market capitalization of $23 billion, no debt, and $4 billion in
cash. If Luther’s estimated equity beta is 1.32, then the beta of Luther’s underlying
business enterprise is closest to:
A) 1.09
B) 1.32
C) 1.48
D) 1.60
Suppose that Taggart Transcontinental currently has no debt and has an equity cost of
capital of 10%. Taggart is considering borrowing funds at a cost of 6% and using these
funds to repurchase existing shares of stock. Assume perfect capital markets. If Taggart
borrows until they achieved a debt -to-value ratio of 20%, then Taggart’s levered cost of
equity would be closest to:
A) 8.0%
B) 9.2%
C) 10.0%
D) 11.0%
You are thinking about investing in a mine that will produce $10,000 worth of ore in the
first year. As the ore closest to the surface is removed it will become more difficult to
extract the ore. Therefore, the value of the ore that you mine will decline at a rate of 8%
per year forever. If the appropriate interest rate is 6%, then the value of this mining
operation is closest to:
A) $71,429
B) $500,000
C) $166,667
D) This problem cannot be solved.