Foley Systems is considering a new investment whose data are shown below. The
equipment would be depreciated on a straight-line basis over the project’s 3-year life,
would have a zero salvage value, and would require additional net operating working
capital that would be recovered at the end of the project’s life. Revenues and other
operating costs are expected to be constant over the project’s life. What is the project’s
NPV? (Hint: Cash flows from operations are constant in Years 1 to 3.)
a.$23,852
b.$25,045
c.$26,297
d.$27,612
e.$28,993
Which of the following statements is CORRECT?
a.The most important difference between spot markets versus futures markets is the
maturity of the instruments that are traded. Spot market transactions involve securities
that have maturities of less than one year whereas futures markets transactions involve
securities with maturities greater than one year.
b.Capital market transactions involve only preferred stock or common stock.
c.If General Electric were to issue new stock this year, this would be considered a
secondary market transaction since the company already has stock outstanding.
d.Both NASDAQ dealers and ‘specialists” on the NYSE hold inventories of stocks.
e.Money market transactions do not involve securities denominated in currencies other
than the U.S. dollar.
Exhibit 8A.1
You have been asked to use a CAPM analysis to choose between Stocks R and S, with
your choice being the one whose expected rate of return exceeds its required return by
the widest margin. The risk-free rate is 6%, and the required return on an average stock
(or the “market”) is 10%. Your security analyst tells you that Stock S’s expected rate of
return is equal to 11%, while Stock R’s expected rate of return is equal to 12%. The
CAPM is assumed to be a valid method for selecting stocks, but the expected return for
any given investor (such as you) can differ from the required rate of return for a given
stock. The following past rates of return are to be used to calculate the two stocks’ beta
coefficients, which are then to be used to determine the stocks’ required rates of return:
Note: The averages of the historical returns are not needed, and they are generally not
equal to the expected future returns. Refer to Exhibit 8A.1. Set up the SML equation
and use it to calculate both stocks’ required rates of return, and compare those required
returns with the expected returns given above. You should invest in the stock whose
expected return exceeds its required return by the widest margin. What is the widest
positive margin, or greatest excess return (expected return – required return)?
a.1.97%
b.2.19%
c.2.43%
d.2.70%
e.3.00%
Stock X has a beta of 0.6, while Stock Y has a beta of 1.4. Which of the following
statements is CORRECT?
a.A portfolio consisting of $50,000 invested in Stock X and $50,000 invested in Stock
Y will have a required return that exceeds that of the overall market.
b.Stock Y must have a higher expected return and a higher standard deviation than
Stock X.
c.If expected inflation increases but the market risk premium is unchanged, then the
required return on both stocks will fall by the same amount.
d.If the market risk premium declines but expected inflation is unchanged, the required
return on both stocks will decrease, but the decrease will be greater for Stock Y.
e.If expected inflation declines but the market risk premium is unchanged, then the
required return on both stocks will decrease but the decrease will be greater for Stock Y.
You have $5,436.60 in an account that pays 10% interest, compounded continuously. If
you deposited some funds 10 years ago, how much was your original deposit?
a.$1,900
b.$2,000
c.$2,100
d.$2,205
e.$2,315
Spontaneously generated funds are generally defined as follows:
a.Assets required per dollar of sales.
b.A forecasting approach in which the forecasted percentage of sales for each item is
held constant.
c.Funds that a firm must raise externally through borrowing or by selling new common
or preferred stock.
d.Funds that arise out of normal business operations from its suppliers, employees, and
the government, and they include spontaneous increases in accounts payable and
accruals.
e.The amount of cash raised in a given year minus the amount of cash needed to finance
the additional capital expenditures and working capital needed to support the firm’s
growth.
A 15-year, $1,000 face value, zero coupon bond has a yield to maturity of 8%. What is
the amount of tax an investor in the 33% tax bracket will pay the first year of the bond?
a.$ 8.32
b.$ 8.74
c.$ 9.18
d.$ 9.63
e.$10.12
The Quick Company expects its sales to increase by 50% in the coming year. The firm’s
current EPS is $3.25. Its degree of operating leverage is 1.6, while its degree of
financial leverage is 2.1. What is the firm’s projected EPS for the coming year using the
DTL approach?
a.$7.47
b.$7.86
c.$8.27
d.$8.71
e.$9.15
Duffert Industries has total assets of $1,000,000 and total current liabilities (consisting
only of accounts payable and accruals) of $125,000. Duffert finances using only
long-term debt and common equity. The interest rate on its debt is 8% and its tax rate is
40%. The firm’s basic earning power ratio is 15% and its debt-to capital rate is 40%.
What are Duffert’s ROE and ROIC?
a.12.00%; 10.29%
b.12.57%; 10.29%
c.13.94%; 9.86%
d.13.94%; 10.29%
e.13.94%; 11.50%
Based on the information below, what is the firm’s optimal capital structure?
a.Debt = 40%; Equity = 60%; EPS = $2.95; Stock price = $26.50.
b.Debt = 50%; Equity = 50%; EPS = $3.05; Stock price = $28.90.
c.Debt = 60%; Equity = 40%; EPS = $3.18; Stock price = $31.20.
d.Debt = 80%; Equity = 20%; EPS = $3.42; Stock price = $30.40.
e.Debt = 70%; Equity = 30%; EPS = $3.31; Stock price = $30.00.
Firms generally choose to finance temporary current assets with short-term debt
because
a.matching the maturities of assets and liabilities reduces risk under some
circumstances, and also because short-term debt is often less expensive than long-term
capital.
b.short-term interest rates have traditionally been more stable than long-term interest
rates.
c.a firm that borrows heavily on a long-term basis is more apt to be unable to repay the
debt than a firm that borrows short term.
d.the yield curve is normally downward sloping.
e.short-term debt has a higher cost than equity capital.
S. Claus & Co. is planning a zero coupon bond issue that has a par value of $1,000 and
matures in 2 years. The bonds will be sold today at a price of $8245. If the firm’s
marginal tax rate is 40%, what is the annual after-tax cost of debt to the company on
this issue?
a.5.70%
b.6.00%
c.6.30%
d.6.61%
e.6.95%
A currency trader observes the following quotes in the spot market:
Given this information, how many Mexican pesos can be purchased for 1 Danish
krone?
a.2.7490
b.2.8195
c.2.8918
d.2.9641
e.3.0382
