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.
Calculate Rockwood’s stock price following the market becoming aware of the new
information regarding Rockwood’s true value, if (1) Rockwood completed the
repurchase prior to the market becoming aware of the information and (2) Rockwood
completed the repurchase following the market becoming aware of the new
information.
If the risk-free rate of interest is 7.5%, then the value of security “A” is closest to:
A) $91.00
B) $92.50
C) $93.00
D) $100.00
The effective tax disadvantage for retaining cash in 2000 is closest to:
A) 15.00%
B) 13.35%
C) 14.75%
D) 35.00%
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 payback period for Rearden’s mining operation is closest to:
A) 5.00 years
B) 6.00 years
C) 6.25 years
D) 6.50 years
Your investment portfolio consists of $10,000 worth of Google stock. Suppose that the
risk-free rate is 4%, Google stock has an expected return of 14% and a volatility of
35%, and the market portfolio has an expected return of 12% and a volatility of 18%.
Assume that the CAPM assumptions hold.What alternative investment has the highest
possible expected return while having the same volatility as Google?
A) -25% in the risk-free asset and +125% in the market portfolio
B) -20% in the risk-free asset and +120% in the market portfolio
C) -94% in the risk-free asset and +194% in the market portfolio
D) 6% in the risk-free asset and +94% in the market portfolio
You have an investment opportunity in Germany that requires an investment of
$250,000 today and will produce a cash flow of €208,650 in one year with no risk.
Suppose the risk-free rate of interest in Germany is 6% and the current competitive
exchange rate is €0.78 to $1.00. What is the NPV of this project? Would you take the
project?
A) NPV = 0; No
B) NPV = -$2,358; No
C) NPV = $2,358; Yes
D) NPV = $13,650; Yes
Which of the following statements is FALSE?
A) Stock returns will tend to move together if they are affect similarly by economic
events.
B) Stocks in the same industry tend to have more highly correlated returns than stocks
in different industries.
C) Almost all of the correlations between stocks are negative, illustrating the general
tendency of stocks to move together.
D) With a positive amount invest in each stock, the more the stocks move together and
the higher their covariance or correlation, the more variable the portfolio will be.
A firm can repurchase shares through a(n) ________ in which it offers to buy shares at
a prespecified price during a short time period’”generally within 20 days.
A) tender offer
B) open market share repurchases
C) targeted repurchase
D) Dutch auction share repurchase
You overhear your manager saying that she plans to book an Ocean-view room on her
upcoming trip to Miami for a meeting. You know that the interior rooms are much less
expensive, but that your manager is traveling at the Company’s expense. This use of
additional funds comes about as a result of:
A) an agency problem.
B) an adverse selection problem.
C) a moral hazard.
D) a publicity problem.
Suppose the market portfolio’s excess return tends to increase by 30% when the
economy is strong and decline by 20% when the economy is weak. A type S firm has
excess returns that increase by 45% when the economy is strong and decrease by 30%
when the economy is weak. A type I firm will also have excess returns of either 45% or
-30%, but the type I firm’s excess returns will depend only upon firm-specific events
and will be completely independent of the state of the economy.
What is the Beta for a type I firm?
A) 1.0
B) 0.75
C) 0.0
D) 1.5
Consider the following factor model:
E[Rs] – rf= (E[RMkt] – rf) + E[RSMB] + E[RHML] + E[RPR1
YR]
The term measures the sensitivity of the securities returns to:
A) book to market.
B) momentum.
C) size.
D) the overall market.
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%.If the Krusty Krab’s opportunity cost of
capital is 12%, what decision should the Krusty Krab take regarding the new grill?
A) Do not install the new grill since NPV is approximately = – $10,630
B) Install the new grill since NPV is approximately = + $10,630
C) Install the new grill since IRR is approximately = 15%
D) Don’t install the new grill since IRR is less than 12%
Which of the following formulas is INCORRECT?
A) Variance of an equally Weighted Portfolio = (1 – )(Average Variance of Individual
Stocks) + (Average covariance between the stocks)
B) Variance of a portfolio =
C) Variance of a portfolio =
D) Variance of a portfolio =
Which of the following is NOT a direct cost of bankruptcy?
A) Costs to creditors
B) Investment banking costs
C) Costs of accounting experts
D) Legal costs and fees
You are presently invested in the Luther Fund, a broad based mutual fund that invest in
stocks and other securities. The Luther Fund has an expected return of 14% and a
volatility of 20%. Risk-free Treasury bills are currently offering returns of 4%. You are
considering adding a precious metals fund to your current portfolio. The metals fund
has an expected return of 10%, a volatility of 30%, and a correlation of -.20 with the
Luther Fund.
The beta of the precious metals fund with the Luther Fund is closest to:
A) -0.3
B) -0.6
C) 0.3
D) 0.6
Which of the following statements is FALSE?
A) When evaluating a capital budgeting decision, the correct tax rate to use is the firm’s
average corporate tax rate.
B) To determine the capital budget, firms analyze alternative projects and decide which
ones to accept through a process called capital budgeting.
C) A new product typically has lower sales initially, as customers gradually become
aware of the product.
D) Sunk costs have been or will be paid regardless of the decision whether or not to
proceed with the project.
Estimated 2005 Income Statement and Balance Sheet Data for Ideko Corporation
Ideko’s Accounts Receivable Days is closest to:
A) 84 days
B) 95 days
C) 90 days
D) 75 days
Consider the following covariances between securities:
What is the variance on a portfolio that has $3000 invested in Duke Energy, $4000
invested in Microsoft, and $3000 invested in Wal-Mart stock?
Consider the following returns:
Calculate the correlation between Stock Y’s and Stock Z’s returns .
What is a market value balance sheet and how does it differ from a book value balance
sheet?
KD Industries has 30 million shares outstanding with a market price of $20 per share
and no debt. KD has had consistently stable earnings, and pays a 35% tax rate.
Management plans to borrow $200 million on a permanent basis through a leveraged
recapitalization in which they would use the borrowed funds to repurchase outstanding
shares.
Assume the following tax schedule:
Personal Tax Rates
Considering the effect of personal taxes, calculate the PV of the interest tax shield
provided by KD’s recapitalization in 2005.
Suppose the term structure of interest rates is shown below:
What is the NPV of an investment that costs $2500 and pays $1000 certain at the end of
one, three, and five years?
You expect DM Corporation to generate the following free cash flows over the next five
years:
Beginning with year six, you estimate that DM’s free cash flows will grow at 6% per
year and that DM’s weighted average cost of capital is 15%.
Calculate the enterprise value for DM Corporation.