Book Title
Fundamentals of Corporate Finance Standard Edition 9th Edition

FIN 58309

February 26, 2019
Morrison Industrial Tool can either lease or buy some equipment. The lease payments
would be $12,400 a year. The purchase price is $34,900. The equipment has a 3-year
life after which it is expected to have a resale value of $5,500. The firm uses straight-
line depreciation over the asset's life, borrows money at 8 percent, and has a 34 percent
tax rate. What is the incremental cash flow for year 1 if the company decides to lease
the equipment rather than purchase it?
A. -$22,405
B. -$16,805
C. -$12,139
D. -$8,184
E. -$4,905
Sixteen years ago, Alicia invested $1,000. Eight years ago, Travis invested $2,000.
Today, both Alicia's and Travis' investments are each worth $2,400. Assume that both
Alicia and Travis continue to earn their respective rates of return. Which one of the
following statements is correct concerning these investments?
A. Three years from today, Travis' investment will be worth more than Alicia's.
B. One year ago, Alicia's investment was worth less than Travis' investment.
C. Travis earns a higher rate of return than Alicia.
D. Travis has earned an average annual interest rate of 3.37 percent.
E. Alicia has earned an average annual interest rate of 6.01 percent.
Kurt currently owns 3.4 percent of Northeastern Transportation. The company has a
total of 438,000 shares outstanding with a current market price of $26.20 a share. At
present, the firm is offering an additional 25,000 shares at a price of $25 a share. Kurt
decides not to participate in this offering. What will his ownership position be after the
offering is completed?
A. 3.06 percent
B. 3.22 percent
C. 3.27 percent
D. 3.40 percent
E. 3.51 percent
Brubaker & Goss has received requests for capital investment funds for next year from
each of its five divisions. All requests represent positive net present value projects. All
projects are independent. Senior management has decided to allocate the available
funds based on the profitability index of each project since the company has insufficient
funds to fulfill all of the requests. Management is following a practice known as:
A. scenario analysis.
B. sensitivity analysis.
C. leveraging.
D. hard rationing.
E. soft rationing.
Paper Submarine Manufacturing is investigating a lockbox system to reduce its
collection time. It has determined the following:
The total collection time will be reduced by 2 days if the lockbox system is adopted.
What is the NPV of adopting the lockbox system?
A. $600,000
B. $775,000
C. $975,000
D. $1,200,000
E. $1,425,000
The Wildcat Oil Company is trying to decide whether to lease or buy a new computer-
assisted drilling system for its oil exploration business. Management has decided that it
must use the system to stay competitive; it will provide $850,000 in annual pretax cost
savings. The system costs $8 million and will be depreciated straight-line to zero over 5
years. Wildcat's tax rate is 31 percent, and the firm can borrow at 8 percent. Lambert
Leasing Company has offered to lease the drilling equipment to Wildcat for payments
of $2,040,000 per year. Lambert's policy is to require its lessees to make payments at
the start of the year. What is the maximum lease payment that would be acceptable to
the company?
A. $1,892,497
B. $ 1,893,231
C. $1,904,506
D. $1,906,318
E. $1,911,472
Roger is a major shareholder in RB Industrial Supply. Currently, Roger is quite
unhappy with the direction the firm is headed and is rumored to be considering an
attempt to take over the firm by soliciting the votes of other shareholders. To head off
this potential attempt, the board of RB Industrial Supply has decided to offer Roger $35
a share for all the shares he owns in the firm. The current market value per share is $32.
This offer to purchase Roger's shares is commonly referred to as:
A. a golden parachute.
B. standstill payments.
C. greenmail.
D. a poison pill.
E. a white knight.
Colin is analyzing a project and has gathered the following data. Based on this data,
what is the average accounting rate of return? The project's assets will be depreciated
using straight-line depreciation to a zero book value over the life of the project.
A. 6.94 percent
B. 13.88 percent
C. 15.66 percent
D. 27.75 percent
E. 31.31 percent
Automated Manufacturers uses high-tech equipment to produce specialized aluminum
products for its customers. Each one of these machines costs $1,480,000 to purchase
plus an additional $49,000 a year to operate. The machines have a 6-year life after
which they are worthless. What is the equivalent annual cost of one these machines if
the required return is 16 percent?
A. -$450,657
B. -$427,109
C. -$301,586
D. -$295,667
E. -$256,947
You sold ten put contracts on Cross Town Bank stock at an option price per share of
$0.85. The options have an exercise price of $37.50 per share. The options were
exercised today when the stock price was $34 a share. What is your net profit or loss on
this investment assuming that you closed out your positions at a stock price of $34?
Ignore transaction costs and taxes.
A. -$3,500
B. -$2,650
C. $1,800
D. $850
E. $3,500
Which of the following statements are correct concerning diversifiable risks?
I. Diversifiable risks can be essentially eliminated by investing in thirty unrelated
II. There is no reward for accepting diversifiable risks.
III. Diversifiable risks are generally associated with an individual firm or industry.
IV. Beta measures diversifiable risk.
A. I and III only
B. II and IV only
C. I and IV only
D. I, II and III only
E. I, II, III, and IV
You are considering changing jobs. Your goal is to work for three years and then return
to school full-time in pursuit of an advanced degree. A potential employer just offered
you an annual salary of $41,000, $44,000, and $46,000 a year for the next three years,
respectively. All salary payments are made as lump sum payments at the end of each
year. The offer also includes a starting bonus of $2,500 payable immediately. What is
this offer worth to you today at a discount rate of 6.75 percent?
A. $112,406
B. $115,545
C. $117,333
D. $121,212
E. $134,697
The market value balance sheet for Inbox Manufacturing is shown here. Inbox has
declared a 23 percent stock dividend. The stock goes ex-dividend tomorrow (the
chronology for a stock dividend is similar to that for a cash dividend). There are 13,000
shares outstanding. What is the ex-dividend stock price?
A. $21.21
B. $23.51
C. $25.06
D. $26.86
E. $28.92
A graph depicting the gains and losses a seller of a forward contract would earn at
various market prices is referred to as a:
A. risk profile.
B. payoff profile.
C. risk offer line.
D. scatter plot.
E. risk-return graph.
You are trying to compare the present values of two separate streams of cash flows
which have equivalent risks. One stream is expressed in nominal values and the other
stream is expressed in real values. You decide to discount the nominal cash flows using
a nominal annual rate of 8 percent. What rate should you use to discount the real cash
A. 8 percent
B. EAR of 8 percent compounded monthly
C. comparable risk-free rate
D. comparable real rate
E. You cannot compare the present values of these two streams of cash flows.
Which one of the following generally has a flip-in provision that significantly increases
the cost to a shareholder who is attempting to gain control over a firm?
A. golden parachute
B. standstill agreement
C. greenmail
D. poison pill
E. white knight
The Corner Bakery has a debt-equity ratio of 0.54. The firm's required return on assets
is 14.2 percent and its cost of equity is 16.1 percent. What is the pre-tax cost of debt
based on M&M Proposition II with no taxes?
A. 7.10 percent
B. 8.79 percent
C. 10.68 percent
D. 17.56 percent
E. 18.40 percent
Which one of the following will increase the value of a firm's net working capital?
A. using cash to pay a supplier
B. depreciating an asset
C. collecting an accounts receivable
D. purchasing inventory on credit
E. selling inventory at a profit
A project has an initial cost of $35,000 and a 3-year life. The company uses straight-line
depreciation to a book value of zero over the life of the project. The projected net
income from the project is $1,200, $2,300, and $1,800 a year for the next 3 years,
respectively. What is the average accounting return?
A. 8.72 percent
B. 10.10 percent
C. 11.26 percent
D. 14.69 percent
E. 15.14 percent
An increase in which of the following will increase the return on equity, all else
I. sales
II. net income
III. depreciation
IV. total equity
A. I only
B. I and II only
C. II and IV only
D. II and III only
E. I, II, and III only
Your current sales consist of 27 units per month at a price of $225 a unit. You are
weighing the pros and cons of switching to a net 30 credit policy from your current cash
only policy. If you decide to switch your credit policy you also plan to increase the sales
price to $240 a unit. If you make the switch you do not expect your total monthly sales
quantity to change but you do expect a 3 percent default rate. The monthly interest rate
is 1.5 percent. What is the net present value of the proposed credit policy switch?
A. $6,727
B. $6,893
C. $7,206
D. $7,965
E. $8,481
Kelso's has a debt-equity ratio of 0.55 and a tax rate of 35 percent. The firm does not
issue preferred stock. The cost of equity is 14.5 percent and the aftertax cost of debt is
4.8 percent. What is the weighted average cost of capital?
A. 10.46 percent
B. 10.67 percent
C. 11.06 percent
D. 11.38 percent
E. 11.57 percent
The Wine Press is considering a project which has an initial cash requirement of
$187,400. The project will yield cash flows of $2,832 monthly for 84 months. What is
the rate of return on this project?
A. 6.97 percent
B. 7.04 percent
C. 7.28 percent
D. 7.41 percent
E. 7.56 percent
Relationships determined from a firm's financial information and used for comparison
purposes are known as:
A. financial ratios.
B. identities.
C. dimensional analysis.
D. scenario analysis.
E. solvency analysis.
A risk-free asset in the U.S. is currently yielding 3 percent while a Canadian risk-free
asset is yielding 2 percent. Assume the current spot rate is C$1.2103. What is the
approximate three-year forward rate if interest rate parity holds?
A. C$1.1744
B. C$1.2108
C. C$1.2241
D. C$1.2295
E. C$1.2470
Which one of the following collection times is correctly described?
A. The processing delay starts when a firm mails out a billing statement and ends when
the payment is received from a customer.
B. Mailing time begins when a firm mails out a billing statement and ends when the
payment is received.
C. Collection time begins when a firm mails out a billing statement and ends when the
cash payment for that billing is available to the firm.
D. Availability delay begins when a firm deposits a customer's check into its bank
account and ends when the cash from that payment is available to the firm.
E. Processing delay begins when a firm mails out billing statements and ends when the
firm deposits the payment for that statement into its bank account.
Hungry Howie's is currently operating at 94 percent of capacity. What is the required
increase in fixed assets if sales are projected to increase by 14 percent?
A. $0
B. $511
C. $633
D. $708
E. $777
Which one of the following policies most directly affects the projection of the retained
earnings balance to be used on a pro forma statement?
A. net working capital policy
B. capital structure policy
C. dividend policy
D. capital budgeting policy
E. capacity utilization policy
The interest tax shield has no value when a firm has a:
I. tax rate of zero.
II. debt-equity ratio of 1.
III. zero debt.
IV. zero leverage.
A. I and III only
B. II and IV only
C. I, III, and IV only
D. II, III, and IV only
E. I, II, and IV only
Deep Mining, Inc., is contemplating the acquisition of some new equipment for
controlling coal dust that costs $174,000. The firm uses MACRS depreciation which
allows for 33.33 percent, 44.44 percent, 14.82 percent, and 7.41 percent depreciation
over years 1 to 4, respectively. After that time, the equipment will be worthless. The
equipment can be leased for $54,400 a year for 4 years. The firm can borrow money at
11.5 percent and has a 36 percent tax rate. What is the net advantage to leasing?
A. $2,429
B. $2,607
C. $3,611
D. $3,847
E. $3,950
Suppose you purchase the November call option on orange juice futures with a strike
price of 150 at the price shown in the table below. What will be your profit or loss on
this contract if the price of orange juice futures is $0.616 per pound at expiration of the
option contract?
Futures Options
Orange juice: 15,000 lbs, U.S. cents per lb.
A. loss of $2,107.50
B. loss of $1,717.50
C. no profit or loss
D. profit of $1,717.50
E. profit of $2,107.50
You work for a nuclear research laboratory that is contemplating leasing a diagnostic
scanner (leasing is a very common practice with expensive, high-tech equipment). The
scanner costs $3.5 million and it would be depreciated straight-line to zero over 4 years.
Because of radiation contamination, it will actually be completely valueless in 4 years.
You can lease it for $875,000 per year for 4 years. Assume the tax rate is 33 percent.
You can borrow at 10 percent before taxes. What is the net advantage to leasing from
your company's standpoint?
A. $468,216
B. $491,319
C. $516,007
D. $530,468
E. $541,747

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