Financial leverage affects a firm’s EBIT.
Operational or operating plans contain great detail about who is going to do what,
commonly over a one-year planning horizon.
Projects are said to be mutually exclusive when undertaking one precludes doing the
other(s).
There is a strong similarity between bonds and stocks because of the nature of the cash
flows. Both bonds and stocks offer assurance of regular payments through either
dividend or interest, the final sale of stock is similar to the final return of a bond’s
principal.
An increase in financial leverage will always reduce a firm’s ROA, if its total assets are
held constant.
The marginal cost of capital (MCC) is the cost of the next dollar of capital to be raised.
According to the IRS, tax savings cannot be the only reason for a merger.
Although we do not observe a firm’s plant and equipment physically turning over, fixed
asset turnover is intended to determine the capacity of the firm’s fixed assets to generate
sales revenue.
A decrease in accounts receivables is categorized as a use of funds.
Firms and governments raise money by issuing securities in the secondary market.
The date of delivery of a currency has no impact on the exchange rate for that currency.
Investments in financial assets can be made directly by buying shares in a mutual fund.
Assume Corporation A owns 51% of Corporation B. If Corporation A received
$1,000,000 in dividends from Corporation B, how much would be taxable to
Corporation A?
A.$510,000
B.$800,000
C.$200,000
D.$0
Security analysis may be conducted by:
A.only investors themselves.
B.only professional analysts.
C.investors and professional analysts.
D.None of these are correct.
The following is a listing of tax considerations for a family. How much is the family’s
taxable income?
A.$25,800
B.$24,850
C.$30,800
D.$24,300
Financial leverage amplifies relative changes in EBIT into larger relative changes in
ROE and EPS, operating leverage amplifies:
A.relative changes in EBIT into larger relative changes in sales revenue.
B.relative changes in sales revenue into larger relative changes in EBIT.
C.relative changes in sales revenue into larger relative changes in ROE and EPS.
D.relative changes in ROE and EPS into larger relative changes in EBIT.
Multidivisional firms are often unable to obtain an appropriate surrogate for
determining the beta of a division. An acceptable alternative technique is to develop a
beta through the division’s accounting records. This is accomplished by:
A.regressing the division’s projected return on equity against the return on a major
company in a similar business.
B.regressing the division’s accounting return on equity in previous years against the
return on a major stock market index.
C.regressing the division’s projected return on equity against the historic return on a
major stock market index.
D.None of the above
When a firm implements a stock split, what effect does the split have on the earnings
per share (EPS) of the firm?
A.EPS will rise.
B.EPS will remain the same.
C.EPS will fall.
D.EPS will rise initially before dropping.
E.EPS will fall initially before rising to the old level.
The gross working capital is equivalent to ____.
A.the current assets
B.the current assets less current liabilities
C.the current assets less inventory
D.the current liabilities
Holding all other things constant, additional debt financing needed would be reduced
with an INCREASE in the firm’s:
A.dividend payout
B.return on Sales
C.cost Ratio
D.tax Rate
Which of the following is a debt management ratio?
A.Inventory turnover
B.Current ratio
C.Return on sales
D.Fixed charge coverage
Stock and bond markets:
A.are independent of each other as to prevailing rates of return.
B.offer identical returns in order to compete for the investors’ dollars.
C.would offer identical returns if the respective investments had identical terms to
maturity.
D.offer returns that tend to move up and down together although equity returns are
higher because stocks are riskier than bonds.
Which of the following is a basic principle when estimating a project’s cash flows?
A.Cash flows should be measured on a pretax basis.
B.Cash flows should ignore depreciation because it is a non-cash charge.
C.Only direct effects of a project should be included in cash flow calculations.
D.Cash flows should be measured on an incremental basis.
In large companies, the most important planning exercise is:
A.the Strategic Plan.
B.forecasts.
C.quarterly budgets.
D.the annual operating plan.
Two years ago our company bought equipment for $1 million that has been depreciated
straight line over a five-year life. The equipment has a current market value of
$300,000. More efficient equipment can be purchased today for $3 million and is
expected to last 5 years (economic life), at which time its anticipated salvage value
would be $300,000. However, the new equipment would be depreciated straight line
over only four years to a zero salvage value. Our company would realize a $1,000,000
per year operating cost savings by replacing the old equipment with the new equipment.
Also, our Net Working Capital Requirement would decrease by $75,000 as soon as we
bought the equipment, but would increase again when it is sold at the end of its
economic life (5 years). Our marginal tax rate is 30%. Identify the relevant cash flows
for this project.
The Smith family has the following income
During the tax year they sold a vacation home for $65,000 that they had acquired
several years ago for $58,000. They also sold some of their GM stock, receiving
$22,000 after brokerage commissions. The shares had originally been purchased for
$30,000. They paid $19,000 interest on their home mortgage and $3,000 interest on
credit card debt. They paid state income tax of $7,000 and real estate tax of $3,000.
They donated $2,000 to their church. They also paid $1,400 toward the support of an
elderly parent. The Smith’s have two small children. The personal exemption rate is
$3,050. What is the Smith’s taxable income?
The agency problem can seriously restrain the economic success of a company. What
avenues are available to shareholders to bring their goals and those of management into
alignment?
Describe generally how leverage affects stock prices. What forces are at work, driven
by what effects?
How can a value be assigned to a real option when we never know if it will be of any
use when it has to be paid for? What kind of a number is the value assigned to a real
option and how is it derived in capital budgeting? Is an assigned value always a true
estimate or is it a limit, i.e. a minimum or a maximum? Why?
How can a stock have different risk characteristics in and out of a portfolio?
Komarek Forests is considering a new software package that may improve productivity
over the next two years. There is a sixty percent chance that the project will be a
success in Year 1, earning $2 million and a forty percent change that the venture will
fail during the first year resulting in a $1 million loss due to worse asset management
than under the current system. The original system would be reinstalled, resulting in no
additional losses during the second year.
If the project is a success in the first year, there is an eighty percent chance that it will
earn $3 million in the second year. There is a twenty percent chance that the software
will be ineffective in Year 2, despite success in Year 1, in which case there would be a
loss of $500,000. Assuming a nine percent required rate of return on these, and a total
cost of the software system of $500,000, should Komarek install the new system?
The book value of a company’s capital represents the money the firm actually has. It
can do whatever it wants with that money. Right?!?! Why then do authorities claim that
market values of capital are appropriate for calculating the WACC.