Consider the following information regarding corporate bonds:
Your estimate of the asset beta for Nielson Motors is closest to:
A) 0.59
B) 0.66
C) 0.71
D) 1.75
Consider the following timeline detailing a stream of cash flows:
If the current market rate of interest is 8%, then the present value of this stream of cash
flows is closest to:
A) $22,871
B) $21,211
C) $24,074
D) $26,000
In November 2009, Perrigo Co. (PRGO) had a share price of $39.20. They had 91.33
million shares outstanding, a market-to-book ratio of 3.76. In addition, PRGO had
$845.01 million in outstanding debt, $163.82 million in net income, and cash of
$257.09 million.
Perrigo’s return on equity (ROE) is closest to:
A) 4.6%
B) 9.1%
C) 17.2%
D) 27%
Assume that the economy has three types of people. 20% are fad followers, 75% are
passive investors, and 5% are informed traders. The portfolio consisting of all informed
traders has a beta of 1.4 and an expected return of 16%. The market has an expected
return of 10% and the risk-free rate is 4%.The expected return for the fad follower’s
portfolio is closest to:
A) 11.5%
B) 12.4%
C) 13.6%
D) 16.0%
Which of the following statements is FALSE?
A) The yield curve changes over time.
B) The formulas for computing present values of annuities and perpetuities cannot be
used in situations in which cash flows need to be discounted at different rates.
C) We can use the term structure to compute the present and future values of a risk-free
cash flow over different investment horizons.
D) The yield curve tends to be inverted as the economy comes out of a recession.
d’Anconia Copper is considering issuing one year debt, and has come up with the
following estimates of the value of the interest tax shield and the probability of distress
for different levels of debt:
If in the event of distress, the present value of distress costs is equal to $5 million, then
the optimal level of debt for d’Anconia Copper is:
A) $25 million
B) $50 million
C) $60 million
D) $70 million
Consider the following equation:
βU= βE+ βD
The term in the equation is:
A) the required return on the firm’s equity.
B) the same as the beta of the firm’s assets.
C) equal to zero if the firm’s debt is riskless.
D) the proportion of the firm financed with equity.
Which of the following statements regarding the timeline is FALSE?
A) Date 1 is one year from now.
B) The $5000 below date 1 is the payment you will receive at the end of the first year.
C) The $5000 below date 2 is the payment you will receive at the beginning of the
second year.
D) Date 0 represents today.
Which of the following statements is FALSE?
A) If investors have homogeneous expectations, then each investor will identify the
same portfolio as having the highest Sharpe ratio in the economy.
B) Homogeneous expectations are when all investors have the same estimates
concerning future investments and returns.
C) There are many investors in the world, and each must have identical estimates of the
volatilities, correlations, and expected returns of the available securities.
D) The combined portfolio of risky securities of all investors must equal the efficient
portfolio.
Omicron Industries’ Market Value Balance Sheet ($ Millions)
and Cost of Capital
Omicron Industries New Project Free Cash Flows
Assume that this new project is of average risk for Omicron and that the firm wants to
hold constant its debt to equity ratio.
The unlevered value of Omicron’s new project is closest to:
A) $96
B) $124
C) $126
D) $25
In a world with taxes, which of the following is the rate we should use to evaluate an
all-equity financed project with the same risk as the firm?
A) The weighted-average cost of capital
B) The pre-tax WACC
C) The cost of equity
D) The cost of debt
Which of the following statements is FALSE?
A) A short sale is a transaction in which you buy a stock that you do not own and then
agree to sell that stock back in the future.
B) The efficient portfolios are those portfolios offering the lowest possible level of
volatility for a given level of expected return.
C) A positive investment in a security can be referred to as a long position in the
security.
D) It is possible to invest a negative amount in a stock or security call a short position.
Aardvark Industries is considering a project that will generate the following free cash
flows:
You are also provided with the following market value balance sheet and information
regarding Aardvark’s cost of capital:
Aardvark’s unlevered cost of equity is closest to:
A) 10.0%
B) 10.4%
C) 9.5%
D) 9.0%
Wildcat Drilling is an oil and gas exploration company that is currently operating two
active oil fields with a market value of $200 million dollars each. Unfortunately,
Wildcat Drilling has $500 million in debt coming due at the end of the year. A large oil
company has offered Wildcat drilling a highly speculative, but potentially very
valuable, oil and gas lease in exchange for one of their active oil fields. If Wildcat
accepts the trade, there is a 10% chance that Wildcat will discover a major new oil field
that would be worth $1.2 billion, a 15% that Wildcat will discover a productive oil field
that would be worth $600 million, and a 75% chance that Wildcat will not discover oil
at all.
What is the overall expected payoff to Wildcat from the speculative oil lease deal?
A) $360 million
B) $275 million
C) $85 million
D) $160 million
Consider the following equation:
rwacc= rE+ rD(1 – Ï„c)
the term E in this equation is:
A) the dollar amount of equity.
B) the dollar amount of debt.
C) the required rate of return on debt.
D) the required rate of return on equity.
You expect Whirlpool Corporation (WHR)to have earnings per share of $6.10 over the
coming year. If the average P/E ratio for the appliance industry sector is 17.0, the value
of a share of Whirlpool stock based upon the comparables approach is closest to:
A) $103.70
B) $27.90
C) $35.90
D) $23.10
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.Suppose that Google Stock has a beta of 1.06
and Boeing stock has a beta of 1.31. If the risk-free interest rate is 4% and the expected
return from the market portfolio is 12%, then the expected return on a portfolio that
consists of 30% Google stock and 70% Boeing stock is closest to:
A) 12.5%
B) 13.1%
C) 13.5%
D) 13.9%
Because of a catastrophic plane crash, the FAA announced that it is withdrawing its air
worthiness certification for Fly by Night Aviation’s (FBNA) new four seat private plane.
As a result FBNA’s future expected free cash flows will decline by $40 million a year
for the next eight years. FBNA has 20 million shares outstanding, no debt, and an
equity cost of capital of 12%. If this news is a complete surprise to investors, then the
amount that FBNA’s stock price should fall upon the announcement is closest to:
A) $2.00
B) $16.00
C) $16.70
D) $9.90
Consider the following two projects:
The profitability index for project B is closest to:
A) 23.34
B) 12.64
C) 0.17
D) 0.12
In addition to the balance sheet, income statement, and the statement of cash flows, a
firm’s complete financial statements will include all of the following EXCEPT:
A) Management discussion and analysis
B) Notes to the financial statements
C) Securities and Exchange Commission’s (SEC) commentary
D) Statement of stockholders’ equity
Which of the following is one unintended consequence of the federal bailouts in
response to the 2008 financial crisis?
A) Bondholders will charge equity holders for the risk of this abuse.
B) Equity holders will credibly commit not to take excessive risk by agreeing to very
strong bond covenants.
C) Lenders to corporations considered “too big to fail” may presume they have an
implicit government guarantee, thus lowering their incentives to insist on strong
covenants.
D) Managers who earned large bonuses when their businesses did well did not need to
repay those bonuses later when things turned sour.
Consider the following realized annual returns:
Suppose that you want to use the 10 year historical average return on the Market to
forecast the expected future return on the Market. Calculate the 95% confidence
interval for your estimate of the expect return.
What is an opportunity cost? Should it be included in the incremental cash flows for a
project? Why or why not?
Omicron Technologies has $50 million in excess cash and no debt. The firm expects to
generate additional free cash flows of $40 million per year in subsequent years and will
pay out these future free cash flows as regular dividends. omicrons unlevered cost of
capital is 10% and there are 10 million shares outstanding. Omicron’s board is meeting
to decide whether to pay out its $50 million in excess cash as a special dividend or to
use it to repurchase shares of the firm’s stock.
Assume that you own 4000 shares of Omicron stock and that Omicron uses the entire
$50 million to pay a special dividend. Suppose you are unhappy with Omicron’s
decision and would have preferred that Omicron used the excess cash to repurchase
stock. Detail exactly how you could undo the dividend in a way that will provide you
with the same combination of cash and stock that you would have received if Omicron
had not paid the special dividend.
Calculate the effective tax disadvantage for retaining cash in 1999, 2001, and 2005.
You have an investment opportunity in the United Kingdom that requires an investment
of $500,000 today and will produce a cash flow of £320,000 in one year with no risk.
Suppose the risk-free rate of interest in the U.K is 6% and the current competitive
exchange rate is $1.70/£. What is the NPV of this project? Would you take the
project?
Coloma Cooper Incorporated is able to produce $640 worth of copper from one ton of
low-grade copper ore. Because of its higher copper content, Coloma can produce $940
worth of copper from one ton of high-grade copper ore.
A mining company is offering to trade you 7,250 tons of low-grade copper ore for 5,000
tons of high-grade copper ore. Assuming you currently have 5,000 tons of high-grade
ore, what should you do?