1) Calculating the Probability of Bankruptcy A linear probability model you have
developed finds there are two factors influencing the past bankruptcy behavior of firms:
the debt-to-equity ratio and the profit margin. Based on past bankruptcy experience, the
linear probability model is estimated as:
PDi = .02 (debt/equity) + .80 (profit margin)
A firm you are thinking of lending to has a debt-to-equity ratio of 110 percent and its
expected probability of default, or bankruptcy, is estimated to be 8 percent. If sales are
$2 million, calculate the firm’s net income.
A.$145,000
B.$165,000
C.$160,000
D.$200,000
2) All of the following are an example of a fiduciary relationship except:
A.a bank employee manages deposits
B.a financial advisor advises her clients
C.a CEO manages the firm
D.the shareholder elects a board member
3) Why might a firm’s investors wish to delay receiving cash from the firm?
A.They might prefer to wait for the firm to split its stock
B.They might prefer to wait until the residual dividend model is employed
C.They might prefer to wait until an extraordinary dividend is paid which is taxed more
favorably
D.They might wish to delay receiving cash if they expected to be in a lower tax bracket
in the future
4) Which of these is the type of loan where the interest payments change over the life of
the loan?
A.fixed-rate loans
B.variable-rate loans
C.take-down loans
D.spot loans
5) Which of the following statements is correct?
A.A decrease in NWC involves either a reduction in current assets, which generates
cash, or an increase in current liabilities, thereby freeing up the shareholder’s cash for
other things
B.A decrease in NWC involves either an increase in current assets, which generates
cash, or a decrease in current liabilities, thereby freeing up the shareholder’s cash for
other things
C.An example of an increase in a net working capital is to buy more machines or
another plant
D.None of these statements is correct
6) P/E Ratio Model and Future Price Walmart (WMT) recently earned a profit of $3.13
per share and has a P/E ratio of 14.22. The dividend has been growing at a 12.5 percent
rate over the past few years. If this growth continues, what would be the stock price in
five years if the P/E ratio remained unchanged? What would the price be if the P/E ratio
declined to 10 in five years.
A.$6.08, $5.04 respectively
B.$72.22, $50.40 respectively
C.$80.20, $56.40 respectively
D.$86.46, $60.80 respectively
7) Calculation of Average Costs with Economies of Scope Dee’s Dry Cleaning is
considering a merger with Larry’s Laundry Supply Stores. Dee’s total operating costs of
producing services are $600,000 for sales volume of $4 million. Larry’s total operating
costs of producing services are $200,000 for a sales volume (JP) of $1 million. For a
sales volume of $5 million, calculate the reduction in production costs the merged firms
need to experience such that the total average cost (TAC) for the merged firms is equal
to 10%.
A.decrease of $500,000
B.decrease of $300,000
C.decrease of $100,000
D.decrease of $200,000
8) A 5.5% coupon municipal bond has 16 years left to maturity and has a price quote of
92.55. The bond can be called in 9 years. The call premium is one year of coupon
payments. Compute the bond’s yield to maturity and yield to call. Assume interest
payments are paid semi-annually and a par value of $5,000.
A.YTM = 6.91%; YTC = 7.52%
B.YTM = 6.24%; YTC = 7.08%
C.YTM = 5.78%; YTC = 6.61%
D.YTM = 5.92%; YTC = 6.85%
9) If a company reports a large amount of net income on its income statement during a
year, the firm will have
A.positive cash flow
B.negative cash flow
C.zero cash flow
D.Any of these scenarios are possible
10) A facility fee is ________________.
A.the back-end fee
B.the commitment fee
C.the fee for processing the loan documents
D.None of these
11) Calculating Costs of Issuing Stock Paige’s Purses, Inc., needs to raise $25 million to
finance plant expansion. In discussions with its investment bank, Paige’s learns that the
bankers recommend an offer price (or gross proceeds) of $50 per share and Paige’s will
receive $45 per share. What is the underwriter’s spread on the issue?
A.$5
B.$45
C.$50
D.$0
12) Rank from lowest credit risk to highest credit risk the following bonds, with the
same time to maturity, by their yield to maturity: Treasury bond with yield of 5.55%,
IBM bond with yield of 7.95%, Trump Casino bond with a yield of 9.15%, and Banc
Ono bond with a yield of 6.12%.
A.Treasury, Trump Casino, Banc Ono, IBM
B.Trump Casino, IBM, Banc Ono, Treasury
C.Treasury, Banc Ono, IBM, Trump Casino
D.Trump Casino, Banc Ono, IBM, Treasury
13) You are offered a choice between $770 today and $815 one year from today.
Assume that interest rates are 4%. Which do you prefer?
A.$770 today
B.$815 one year from today
C.They are equivalent to each other
D.$770 today at 3% interest rates
14) Solving for Rates What annual rate of return is earned on a $200 investment when it
grows to $850 in ten years?
A.3.25%
B.4.25%
C.13.47%
D.15.57%
15) Suppose a firm has a dividend payout ratio of 47 percent and net income of $7
million. What would be the annual addition to retained earnings?
A.$3,890,000
B.$3,290,000
C.$3,710,000
D.$3,510,000
16) Which of the following will increase the present value of an annuity?
A.The discount rate increases
B.The discount rate decreases
C.The number of periods the annuity is received decreases
D.The final payment diminishes
17) Which of the following is NOT a feature of the “perfect world” in M&M’s theorem
for optimal capital structure?
A.No taxes
B.No chance of bankruptcy
C.Perfectly efficient markets
D.Assymmetric information sets for all participants
18) Universal Forest’s current stock price is $154.00 and it is likely to pay a $5.23
dividend next year. Since analysts estimate Universal Forest will have a 13.0% growth
rate, what is its required return?
A.16.40%
B.15.28%
C.13.62%
D.14.71%
19) Which of the following is a reason for a firm to announce a stock split?
A.The price of the stock is too high
B.The firm wants to reduce its dividend
C.It is an alternative to a stock repurchase, which is more costly
D.All of these are correct
20) Calculating Costs of Issuing Debt American Movers, Inc., needs to raise $5 million
to finance an expansion. In discussions with its investment bank, American learns that
the bankers recommend a debt issue with gross proceeds of $1,000 per bond and they
will charge an underwriter’s spread of 5 percent of the gross proceeds. How many bonds
will Home Improvement need to sell in order to receive the $5 million they need?
A.4,750
B.5,000
C.5,250
D.5,264
21)
Corporate Taxes Suppose that in addition to the $300,000 of taxable income from
operations, Liam’s Burgers, Inc. received $25,000 of interest on state-issued bonds and
$50,000 of dividends on common stock it owns in Sodas, Inc.
Using the tax schedule in Table 2.3 what is Liam’s income tax liability?
What are Liam’s average and marginal tax rates on total taxable income?
A.$106,100, 33.68%, 39%, respectively
B.$122,850, 39.00%, 39%, respectively
C.$129,500, 34.53%, 39%, respectively
D.$139,250, 37.13%, 39%, respectively
22) Assume you borrow $500 from a payday lender. The terms are that you must pay a
fee of $75 in advance (today) and one year from now you need to repay $750. What
implied interest rate are you paying?
A.43.09%
B.55.78%
C.76.47%
D.81.03%
23) Your current $95,000 mortgage calls for monthly payments over 30 years at an
annual rate interest rate of 6%. If you pay an additional $50 each month beginning with
the first payment, how soon do you pay off your mortgage?
A.329.67 months
B.311.56 months
C.291.78 months
D.288.45 months
24) Which of the following is a combination of firms that sell different, but somewhat
related, products?
A.vertical merger
B.conglomerate merger
C.product extension merger
D.market extension merger
25) Which of the following statements is correct?
A.A decrease in the firm’s marginal corporate tax rate will decrease the weighted
average cost of capital
B.Flotation costs can decrease the weighted average cost of capital
C.The cost of debt is based on the cost of all liabilities, including accounts payable and
accruals
D.None of these statements is correct
26) Which of the following is a security issue in which the underwriter does not
guarantee a firm price to the issuer and acts more as a placing or distribution agent for a
fee?
A.best efforts underwriting
B.firm commitment underwriting
C.underwriter’s spread
D.venture capital