Stock A has a beta = 0.8, while Stock B has a beta = 1.6. Which of the following
statements is CORRECT?
a.Stock B’s required return is double that of Stock A’s.
b.If the marginal investor becomes more risk averse, the required return on Stock B will
increase by more than the required return on Stock A.
c.An equally weighted portfolio of Stocks A and B will have a beta lower than 1.2.
d.If the marginal investor becomes more risk averse, the required return on Stock A will
increase by more than the required return on Stock B.
e.If the risk-free rate increases but the market risk premium remains constant, the
required return on Stock A will increase by more than that on Stock B.
Last year Kruse Corp had $305,000 of assets (which is equal to its total invested
capital), $403,000 of sales, $28,250 of net income, and a debt-to-total-capital ratio of
39%. The new CFO believes the firm has excessive fixed assets and inventory that
could be sold, enabling it to reduce its total assets and total invested capital to
$252,500. The firm finances using only debt and common equity. Sales, costs, and net
income would not be affected, and the firm would maintain the same capital structure
(but with less total debt). By how much would the reduction in assets improve the
ROE?
a.2.85%
b.3.00%
c.3.16%
d.3.31%
e.3.48%
Jefferson City Computers 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 sharp increase in its forecasted sales.
b.A sharp reduction in its forecasted sales.
c.The company reduces its dividend payout ratio.
d.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.
e.The company discovers that it has excess capacity in its fixed assets.
Your portfolio consists of $50,000 invested in Stock X and $50,000 invested in Stock Y.
Both stocks have an expected return of 15%, betas of 1.6, and standard deviations of
30%. The returns of the two stocks are independent, so the correlation coefficient
between them, rXY, is zero. Which of the following statements best describes the
characteristics of your 2-stock portfolio?
a.Your portfolio has a standard deviation of 30%, and its expected return is 15%.
b.Your portfolio has a standard deviation less than 30%, and its beta is greater than 1.6.
c.Your portfolio has a beta equal to 1.6, and its expected return is 15%.
d.Your portfolio has a beta greater than 1.6, and its expected return is greater than 15%.
e.Your portfolio has a standard deviation greater than 30% and a beta equal to 1.6.
Stock A has a beta of 1.2 and a standard deviation of 25%. Stock B has a beta of 1.4 and
a standard deviation of 20%. Portfolio AB was created by investing in a combination of
Stocks A and B. Portfolio AB has a beta of 1.25 and a standard deviation of 18%.
Which of the following statements is CORRECT?
a.Stock A has more market risk than Portfolio AB.
b.Stock A has more market risk than Stock B but less stand-alone risk.
c.Portfolio AB has more money invested in Stock A than in Stock B.
d.Portfolio AB has the same amount of money invested in each of the two stocks.
e.Portfolio AB has more money invested in Stock B than in Stock A.
Last year Ann Arbor Corp had $155,000 of assets (which equals total invested capital),
$305,000 of sales, $20,000 of net income, and a debt-to-total-capital ratio of 37.5%.
The new CFO believes a new computer program will enable it to reduce costs and thus
raise net income to $33,000. The firm finances using only debt and common equity.
Assets, total invested capital, sales, and the debt to capital ratio would not be affected.
By how much would the cost reduction improve the ROE?
a.11.51%
b.12.11%
c.12.75%
d.13.42%
e.14.09%
Which of the following statements is NOT CORRECT?
a.A company may hold a relatively large amount of cash and marketable securities if it
is uncertain about its volume of sales, profits, and cash flows during the coming year.
b.Credit policy has an impact on working capital because it influences both sales and
the time before receivables are collected.
c.The cash budget is useful to help estimate future financing needs, especially the need
for short-term working capital loans.
d.If a firm wants to generate more cash flow from operations in the next month or two,
it could change its credit policy from 2/10, net 30 to net 60.
e.Managing working capital is important because it influences financing decisions and
the firm’s profitability.
Mantle Corporation is considering two equally risky investments:
A $5,000 investment in preferred stock that yields 7%.
A $5,000 investment in a corporate bond that yields 10%.
What is the break-even corporate tax rate that makes the company indifferent between
the two investments?
a.34.27%
b.36.08%
c.37.97%
d.39.87%
e.41.87%
Which of the following is NOT a situation that might lead a firm to increase its
holdings of short-term marketable securities?
a.The firm must make a known future payment, such as paying for a new plant that is
under construction.
b.The firm is going from its peak sales season to its slack season, so its receivables and
inventories will experience a seasonal decline.
c.The firm is going from its slack season to its peak sales season, so its receivables and
inventories will experience seasonal increases.
d.The firm has just sold long-term securities and has not yet invested the proceeds in
operating assets.
e.The firm just won a product liability suit one of its customers had brought against it.
Stock X and the “market” have had the following rates of returns over the past four
years.
60% of your portfolio is invested in Stock X and the remaining 40% is invested in
Stock Y. The risk-free rate is 6% and the market risk premium is also 6%. You estimate
that 14% is the required rate of return on your portfolio. What is the beta of Stock Y?
a.1.72
b.1.91
c.2.10
d.2.31
e.2.54
