Consider the following income statement and other information:
For the year ending December 31, 2009 Luther’s earnings per share are closest to:
A) $0.96
B) $1.04
C) $1.28
D) $1.33
Answer:
Use the information for the question(s) below.
Monsters Incorporated (MI) in ready to launch a new product. Depending upon the
success of this product, MI will have a value of either $100 million, $150 million, or
$191 million, with each outcome being equally likely. The cash flows are unrelated to
the state of the economy (i.e. risk from the project is diversifiable) so that the project
has a beta of 0 and a cost of capital equal to the risk-free rate, which is currently 5%.
Assume that the capital markets are perfect.
Assume that in the event of default, 20% of the value of MI’s assets will be lost in
bankruptcy costs and suppose that MI has zero-coupon debt with a $125 million face
value due next year. The initial value of MI’s debt is closest to:
A) $110 million
B) $105 million
C) $125 million
D) $111 million
Answer:
Use the table for the question(s) below.
Consider the following three individuals portfolios consisting of investments in four
stocks:
Assuming that the risk-free rate is 4% and the expected return on the market is 12%,
then required return on Peter’s Portfolio is closest to:
A) 10%
B) 12%
C) 9%
D) 8%
Answer:
Use the following information to answer the question(s) below.
Assume that the CAPM is a good description of stock price returns. The market
expected return is 8% with 12% volatility and the risk-free rate is 3%. New news
arrives that does not change any of these numbers, but it does change the expected
returns of the following stocks:
Which of the following stocks represent buying opportunities?
1. Taggart Transcontinental
2. Rearden Metal
3. Wyatt Oil
4. Nielson Motors
A) 1 only
B) 1 & 2 only
C) 2 & 3 only
D) 2 & 4 only
Answer:
Use the information for the question(s) below.
Epiphany Industries is considering a new capital budgeting project that will last for
three years. Epiphany plans on using a cost of capital of 12% to evaluate this project.
Based on extensive research, it has prepared the following incremental cash flow
projects:
The NPV for Epiphany’s Project is closest to:
A) $4,825
B) $39,000
C) $11,946
D) $20,400
Answer:
By evaluating cost and benefits using competitive market prices, we can determine
whether a decision will make the firm and its investors wealthier. This central concept
is called
A) the Law of One Price.
B) the Present Value.
C) the Valuation Principle.
D) the Internal Rate of Return.
Answer:
Use the table for the question(s) below.
Consider the following stock price and shares outstanding data:
Assume that you have $100,000 to invest and you are interested in creating a
value-weighted portfolio of these four stocks. The number of shares of Wal-Mart that
you would hold in your portfolio is closest to:
A) 710
B) 1390
C) 1000
D) 870
Answer:
Which of the following statements is false?
A) If managers have large ownership stakes, then shareholders are more likely to use
compensation policies or a stronger board to create the desired incentives.
B) If all else fails, the shareholders’ last line of defense against expropriation by
self-interested managers is direct action.
C) A shareholder resolution could direct the board to take a specific action, such as
discontinue investing in a particular line of business or country, or remove a poison pill.
D) Any shareholder can submit a resolution that is put to a vote at the annual meeting.
Answer:
Which of the following statements is false?
A) The general partners work for the venture capital firm and run the venture capital
firm; they are called venture capitalists.
B) An important consideration for investors in private companies is their exit
strategy how they will eventually realize the return from their investment.
C) When a company founder decides to sell equity to outside investors for the first time,
it is common practice for private companies to issue common stock rather than
preferred stock to raise capital.
D) Institutional investors such as pension funds, insurance companies, endowments,
and foundations manage large quantities of money.
Answer:
The cash-and-carry strategyconsists of all of the following simultaneous trades except
A) borrow euros today using a one-year loan with the interest rate r€.
B) exchange the euros for dollars today at the spot exchange rate S $/€.
C) purchase a forward contract to convert $ to €.
D) invest the dollars today for one year at the interest rate r$.
Answer:
Consider the following information regarding corporate bonds:
Nielson Motors plans to issue 10-year bonds that it believes will have an BBB rating.
Suppose AAA bonds with the same maturity have a 3.5% yield. Assume that the market
risk premium is 5% and the expected loss rate in the event of default on the bonds is
60%. The yield that these bonds will have to pay during a recession is closest to:
A) 3.50%
B) 3.75%
C) 4.00%
D) 5.50%
Answer:
Use the information for the question(s) below.
Rockwood Industries has 100 million shares outstanding, a current share price of $25,
and no debt. Rockwood’s management believes that the shares are under-priced, and
that the true value is $30 per share. Rockwood plans to pay $250 million in cash to its
shareholders by repurchasing shares. Management expects that very soon new
information will come out that will cause investors to revise their opinion of the firm
and agree with Rockwood’s assessment of the firm’s true value.
Assume that Rockwood is not able to repurchase shares prior to the market becoming
aware of the new information regarding Rockwood’s true value. After the release of the
new information regarding the true value of Rockwood, and following the repurchase,
the firm’s share price is closest to:
A) $30.00
B) $30.60
C) $28.75
D) $31.50
Answer:
Which of the following statements regarding municipal bonds is false?
A) A single municipal bond issue will often contain a number of different maturity
dates. Such issues are often called multi-muni bondsbecause the bonds are scheduled to
mature over a multiple number of years.
B) Revenue bonds are where the local government pledges specific revenues generated
by projects that were initially financed by the bond issue.
C) Municipal bonds are sometimes also referred to as tax-exempt bonds.
D) Bonds backed by the full faith and credit of a local government are known as
general obligation bondsand are not as secure as bonds backed by the full faith and
credit of the federal government.
Answer:
Use the following information to answer the question(s) below.
(Include the MACRS Table from the Appendix.)
Casa Grande Farms is considering purchasing multiple tractors for a total purchase
price of $540,000. These tractors are expected to generate EBITDA of $250,000 for
each of the next three years. Casa Grande Farms has a 35% tax rate and has a cost of
capital of 10%.
Assuming that Casa Grande Farms depreciates these tractors straight line over the three
year life, then the annual depreciation tax shield in year 2 is closest to:
A) 63,000
B) 80,000
C) 84,000
D) 117,000
Answer:
Suppose that a young couple has just had their first baby and they wish to insure that
enough money will be available to pay for their child’s college education. They decide
to make deposits into an educational savings account on each of their daughter’s
birthdays, starting with her first birthday. Assume that the educational savings account
will return a constant 7%. The parents deposit $2000 on their daughter’s first birthday
and plan to increase the size of their deposits by 5% each year. Assuming that the
parents have already made the deposit for their daughter’s 18th birthday, then the
amount available for the daughter’s college expenses on her 18th birthday is closest to:
A) $42,825
B) $97,331
C) $67,998
D) $103,063
Answer:
Use the following information to answer the question(s) below.
Assume that the risk-free rate of interest is 3% and you estimate the market’s expected
return to be 9%.
Which firm has the least market risk:
A) Eenie
B) Meenie
C) Miney
D) Moe
Answer:
Which of the following adjustments to net income is not correct if you are trying to
calculate cash flow from operating activities?
A) Add increases in accounts payable
B) Add back depreciation
C) Add increases in accounts receivable
D) Deduct increases in inventory
Answer:
Use the information for the question(s) below.
Rosewood Industries has EBIT of $450 million, interest expense of $175 million, and a
corporate tax rate of 35%.
Rosewood’s net income is closest to:
A) $450 million
B) $180 million
C) $290 million
D) $95 million
Answer:
When using the internal rate of return (IRR) investment rule, we compare
A) the average return on the investment opportunity to returns on all other investment
opportunities in the market.
B) the average return on the investment opportunity to returns on other alternatives in
the market with equivalent risk and maturity.
C) the NPV of the investment opportunity to the average return on the investment
opportunity.
D) the average return on the investment opportunity to the risk-free rate of return.
Answer:
Which of the following statements is false?
A) About 75% of firms surveyed used the NPV rule for making investment decisions.
B) If you are unsure of your cost of capital estimate, it is important to determine how
sensitive your analysis is to errors in this estimate.
C) To decide whether to invest using the NPV rule, we need to know the cost of capital.
D) NPV is positive only for discount rates greater than the internal rate of return.
Answer:
What type of company trades on an organized stock exchange?
A) A limited liability company
B) A private company
C) An “S” corporation
D) A public company
Answer:
Rearden Metal is evaluating a project that requires an investment of $150 million today
and provides a single cash flow of $180 million for sure one year from now. Rearden
decides to use 100% debt financing for this investment. The risk-free rate is 5% and
Rearden’s corporate tax rate is 40%. Assume that the investment is fully depreciated at
the end of the year.
The WACC for this project is closest to:
A) 3.0%
B) 5.0%
C) 7.0%
D) 8.2%
Answer:
Treasury securities that are semiannual-paying coupon bonds with maturities longer
than 10 years are called
A) Treasury bonds.
B) TIPS.
C) Treasury bills.
D) Treasury notes.
Answer:
Which of the following statements is false?
A) It is possible that an IRR does not exist for an investment opportunity.
B) If the payback period is less than a pre-specified length of time you accept the
project.
C) The internal rate of return (IRR) investment rule is based upon the notion that if the
return on other alternatives is greater than the return on the investment opportunity you
should undertake the investment opportunity.
D) It is possible that there is no discount rate that will set the NPV equal to zero.
Answer:
Which of the following statements is false?
A) Abandonment options can add value to a project because a firm can drop a project if
it turns out to be unsuccessful.
B) Corporate bonds often contain embedded abandonment options: The issuing firm
sometimes has the option to convertthe bond that is, to repay it.
C) An abandonment option is the option to walk away.
D) An important abandonment option that most people encounter at some point in their
lives is the option to abandon their mortgage.
Answer:
Use the table for the question(s) below.
Consider the following returns:
The Volatility on Stock Z’s returns is closest to:
A) 3%
B) 13%
C) 16%
D) 18%
Answer:
Use the information for the question(s) below.
Flagstaff Enterprises expected to have free cash flow in the coming year of $8 million,
and this free cash flow is expected to grow at a rate of 3% per year thereafter. Flagstaff
has an equity cost of capital of 13%, a debt cost of capital of 7%, and it is in the 35%
corporate tax bracket.
If Flagstaff currently maintains a debt to equity ratio of 1, then the value of Flagstaff as
an all equity firm would be closest to:
A) $73 million
B) $80 million
C) $115 million
D) $100 million
Answer:
Which of the following statements is false?
A) More often than not, firms return to the equity markets and offer new shares for sale,
a type of offering called a seasoned equity offering (SEO).
B) Usually, profitable growth opportunities occur throughout the life of the firm, and in
some cases it is not feasible to finance these opportunities out of retained earnings.
C) When a firm issues stock using an SEO, it follows many of the same steps as for an
IPO. The main difference is that a market price for the stock already exists, so the
price-setting process is not necessary.
D) A firm’s need for outside capital usually ends at the IPO.
Answer:
Use the table for the question(s) below.
Consider the following zero-coupon yields on default free securities:
The forward rate for year 3 (the forward rate quoted today for an investment that begins
in two years and matures in three years) is closest to:
A) 4.5%
B) 5.0%
C) 5.2%
D) 4.6%
Answer:
Which of the following statements is false?
A) Unlike long-term debt, because of its short maturity, commercial paper is not rated
by credit rating agencies.
B) The interest on commercial paper is typically paid by selling it at an initial discount.
C) Commercial paperis short-term, unsecured debt used by large corporations that is
usually a cheaper source of funds than a short-term bank loan.
D) Extending the maturity of commercial paper beyond 270 days triggers a registration
requirement with the Securities and Exchange Commission (SEC), which increases
issue costs and creates a time delay in the sale of the issue.
Answer:
Suppose all possible investment opportunities in the world are limited to the four stocks
list in the table below:
Suppose that you are holding a market portfolio and you have invested $9,000 in
Rearden Metal. The amount that you have invested in Taggart Transcontinental is
closest to:
A) $4,500
B) $6,000
C) $7,715
D) $9,000
Answer:
Use the information for the question(s) below.
Consider two firms, ChihuahuaCorporation and Bernard Industries that are each
expected to pay the same $1.5 million dollar dividend every year in perpetuity.
Chihuahua Corporation is riskier and has a cost of capital of 15%. Bernard Industries is
not as shaky as Chihuahua, so Bernard has a cost of capital of only 10%. Assume that
the market portfolio is not efficient. Both stocks have the same beta and the CAPM
would assign them both an expected return of 12% to both.
The alpha for Chihuahua is closest to:
A) +2%
B) -5%
C) -3%
D) +3%
Answer:
Consider the following information regarding corporate bonds:
Trucks R’ Us has a market capitalization of $142 billion, $78 billion in BB rated debt,
and $10 billion in cash. If Trucks R’ Us’ equity beta is 1.68, then their underlying asset
beta is closest to:
A) 1.00
B) 1.20
C) 1.32
D) 1.48
Answer: