1) The lower the fixed-payment coverage ratio, the lower is the firm’s financial
leverage.
2) All benefits expected from a proposed project must be measured on a cash flow basis
which may be found by adding any non-cash charges deducted as an expense on a
firm’s income statement back to net profits after taxes.
3) Macro political risk is the risk faced by all foreign firms in a host country related to
political change, revolution, or the adoption of new policies by the government of host
country.
4) Simulation is a statistics-based approach used in capital budgeting to get a feel for
risk by applying predetermined probability distributions and random numbers to
estimate risky outcomes.
5) In pledging accounts receivable, the percentage advanced against the adjusted
collateral is determined by the borrower based on its overall evaluation on the quality of
the acceptable receivables and the expected cost of the liquidation.
6) A method of acquisition in which the acquiring firm exchanges its shares of stock for
shares of the target company according to a predetermined ratio is called a stock swap
transaction.
7) In international trade, transfer prices are prices that subsidiaries charge each other for
the goods and services traded between them.
8) The payback period of a project that costs $1,000 initially and promises after-tax
cash inflows of $3,000 each year for the next three years is 0.333 years.
9) The range of an asset’s risk is found by subtracting the worst outcome from the best
outcome.
10) In an efficient market, securities are typically in equilibrium, which means that they
are fairly priced and that their expected returns equal their required returns.
11) Because the bank guarantees the availability of funds, a commitment fee is
normally charged on a simple line of credit agreement.
12) A firm is said to be insolvent when its total assets is less than its total liabilities and
stockholders’ equity.
13) To be truly marketable, a security must have three basic characteristics: a ready
market, risk-free, and safety of principal.
14) In valuation of common stock, the price/earnings multiple approach is considered
superior to the use of book or liquidation values since it considers expected earnings.
15) The return on an asset is the change in its value plus any cash distribution over a
given period of time, expressed as a percentage of its ending value.
16) Table 9.1
A firm has determined its optimal capital structure which is composed of the following
sources and target market value proportions.
Debt: The firm can sell a 12-year, $1,000 par value, 7 percent bond for $960. A
flotation cost of
2 percent of the face value would be required in addition to the discount of $40.
Preferred Stock: The firm has determined it can issue preferred stock at $75 per share
par value. The stock will pay a $10 annual dividend. The cost of issuing and selling the
stock is $3 per share.
Common Stock: A firm’s common stock is currently selling for $18 per share. The
dividend expected to be paid at the end of the coming year is $1.74. Its dividend
payments have been growing at a constant rate for the last four years. Four years ago,
the dividend was $1.50. It is expected that to sell, a new common stock issue must be
underpriced $1 per share in floatation costs. Additionally, the firm’s marginal tax rate is
40 percent.
The firm’s cost of retained earnings is ________. (See Table 9.1)
A) 10.2 percent
B) 13.9 percent
C) 13.7 percent
D) 13.6 percent
17) Adam’s Aeronautics is interested in making sure it has enough money to finance its
assets. The company’s current assets and fixed assets for the months of January through
December are given in the following table.
(a)Find the average monthly seasonal and permanent funds requirement.
(b)What is the total cost of financing under the aggressive and conservative strategies.
Assume short-term funds costs 4.5 percent and the interest rate for long-term funds is
12 percent.
(c)Find the net working capital under the aggressive and conservative strategies.
18) The U.S. approaches used in hostile takeovers is practically nonexistent in most
other countries throughout the world including continental Europe and Asia.
19) Which of the following must be considered in computing the terminal value of a
replacement project?
A) operating cash flow for the final year
B) after-tax proceeds from the sale of a new asset
C) before-tax proceeds from the sale of an old asset
D) before-tax proceeds from the sale of a new asset
20) The tax treatment regarding the sale of existing assets that are sold for more than
the original purchase price results in ________.
A) an ordinary tax benefit
B) no tax benefit or liability
C) a recaptured depreciation taxed as ordinary income
D) a capital gain tax liability
21) The size of a loan and its issuance costs (as a percentage of the amount borrowed)
are ________.
A) not related
B) inversely related
C) independent
D) perfectly positively correlated
22) ________ ratio measures a firm’s ability to pay contractual interest payments.
A) Times interest earned
B) Fixed-payment coverage
C) Debt
D) Average payment period
23) In a ________ market, the buyer and seller are brought together to trade securities
in an organization called ________.
A) dealer; securities market
B) broker; over-the -counter market
C) broker; securities market
D) dealer; over-the-counter market
24) A firm is considering relaxing credit standards which will result in an increase in
annual sales from $3 million to $3.75 million, a decrease in the cost of annual sales
from $2,225,000 to $2,000,000, an increase in additional profit contribution from sales
of $10,000, and an increase in the average collection period of 15 days, from 20 to 35
days. The bad debt loss is expected to increase from 1 percent to 1.5 percent of sales.
The firm’s required return on investments is 15 percent. The net result of the firm
relaxing its credit standards is ________. (Assume a 360-day year.)
A) $10,000
B) -$16,250
C) -$26,875
D) -$16,875
25) Harry Corporation’s common stock currently sells for $180 per share. Harry just
paid a dividend of $10.18 and dividends are expected to grow at a constant rate of 6
percent forever. If the required rate of return is 12 percent, what will Harry
Corporation’s stock sell for one year from now?
A) $190.64
B) $187.04
C) $195.40
D) $179.84
26) An increase in the current asset to total asset ratio will result in ________.
A) an increase in profit
B) an increase in risk
C) a decrease in risk
D) a decrease in profit
27) The information content of dividends refers to ________.
A) the nonpayment of dividends by corporations
B) dividend changes as indicators of a firm’s future
C) a stable and continuous dividend
D) a study of firm’s history of dividend payments
28) Which of the following acts regulates the secondary market ?
A) The Securities Act of 1933
B) The Gramm-Leach-Bliley Act
C) The Securities Exchange Act of 1934
D) The Glass-Steagall Act
29) Table 12.6
Yong Importers, an Asian import company, is evaluating two mutually exclusive
projects, A and B. The relevant cash flows for each project are given in the table below.
The cost of capital for use in evaluating each of these equally risky projects is 10
percent.
Which project should be chosen on the basis of the normal NPV approach? (See Table
12.6)
A) Project A because its NPV is higher
B) Project B because its NPV is higher
C) Project A because its IRR is higher
D) Project B because its IRR is higher
30) Aunt Butch borrows $19,500 from the bank at 8 percent annually compounded
interest to be repaid in 10 equal annual installments. The interest paid in the third year
is ________.
A) $1,336.00
B) $1,560.14
C) $2,906.11
D) $1,947.10
31) The riskiness of publicly traded bond issues is rated by independent agencies.
According to Moody’s rating system, an Aaa bond and a Caa bond are ________ and
________ respectively.
A) speculative; investment grade
B) prime quality; medium grade
C) prime quality; speculative
D) medium grade; lowest grade