Finance 304 questions spring 2016
1. Chapter 1
In most corporations, the CFO reports directly to the Board of Directors. (Points : 2)
Question 2.2. In most cases, the interests of bond holders and stock holders are very much in alignment with few points of potential conflict.
(Points : 2)
Question 3.3. One advantage of the corporate form of organization is that it avoids double taxation. (Points : 2)
Question 4.4. One danger of starting a proprietorship is that you may be exposed to personal liability if the business goes bankrupt. This problem would be avoided if you formed a corporation to operate the business.
(Points : 2)
Question 5.5. Organizing as a corporation makes it easier for the firm to raise capital. This is because corporations’ stockholders are not subject to personal liabilities if the firm goes bankrupt and also because it is easier to transfer shares of stock than partnership interests.
(Points : 2)
Question 6.6. In order to maximize its shareholders’ value, a firm’s management must attempt to maximize the stock price in the long run, or the stock’s “intrinsic value.” (Points : 2)
Question 7.7. If a stock’s market price is above its intrinsic value, then the stock can be thought of as being undervalued, and therefore a good buy.
(Points : 2)
Question 8.8. When describing forms of organizations in his guest lecture, Thomas Laughlin said that forming a Corporation or an LLC is:? (Points : 2)
Easy to do but a Sole Proprietorship is just as good.
Very expensive and should only be undertaken by bigger firms.
Generally not worth the length of time it takes to get done.
Worthwhile but only if you really need to tax benefits.
The cheapest form of insurance you will ever buy.
Question 9.9. Which of the following statements is CORRECT? (Points : 2)
In order, stakeholders would be paid in the following sequence: Preferred Stock, Secured Debt, Unsecured Debt and Common Stock
In order, stakeholders would be paid in the following sequence: Common Stock, Preferred Stock, Secured Debt and Unsecured Debt.
In order, stakeholders would be paid in the following sequence: Secured Debt, Unsecured Debt, Preferred Stock and Common Stock.
In order, stakeholders would be paid in the following sequence: Preferred Stock, Common Stock, Secured Debt and Unsecured Debt
Question 10.10. The primary operating goal of a publicly-owned firm interested in serving its stockholders should be to (Points : 2)
Maximize its expected total corporate income.
Maximize its expected EPS.
Minimize the chances of losses.
Maximize the stock price per share over the long run, which is the stock’s intrinsic value.
Maximize the stock price on a specific target date.
Question 11.11. Chapter 2
A share of common stock is not a derivative, but an option to buy the stock is a derivative because the value of the option is derived from the value of the stock. (Points : 2)
Question 12.12. The Dow Jones Industrial Average takes in to consideration only the 100 largest companies. (Points : 2)
Question 13.13. If you wanted to know what rate of return stocks have provided in the past, you could examine data on the Dow Jones Industrial Index, the S&P 500 Index, or the Nasdaq Index. (Points : 2)
Question 14.14. The annual rate of return on any given stock can be found as the stock’s dividend for the year plus the change in the stock’s price during the year, divided by its beginning-of-year price. (Points : 2)
Question 15.15. Which of the following is a primary market transaction? (Points : 2)
You sell 200 shares of IBM stock on the NYSE through your broker.
You buy 200 shares of IBM stock from your brother. The trade is not made through a broker–you just give him cash and he gives you the stock.
IBM issues 2,000,000 shares of new stock and sells them to the public through an investment banker.
One financial institution buys 200,000 shares of IBM stock from another institution. An investment banker arranges the transaction.
IBM sells 2,000,000 shares of treasury stock to its employees when they exercise options that were granted in prior years.
Question 16.16. Which of the following is an example of a capital market instrument? (Points : 2)
U.S. Treasury bills.
Money market mutual funds.
Question 17.17. Money markets are markets for (Points : 2)
Consumer automobile loans.
Short-term debt securities such as Treasury bills and commercial paper.
Question 18.18. You recently sold 200 shares of Disney stock, and the transfer was made through a broker. This is an example of: (Points : 2)
A money market transaction.
A primary market transaction.
A secondary market transaction.
A futures market transaction.
An over-the-counter market transaction.
Question 19.19. Which of the following statements is CORRECT? (Points : 2)
While the distinctions are becoming blurred, investment banks generally specialize in lending money, whereas commercial banks generally help companies raise capital from other parties.
The NYSE operates as an auction market, whereas Nasdaq is an example of a dealer market but these lines are becoming blurred in the eyes of the general public.
Money market mutual funds usually invest their money in a well-diversified portfolio of liquid common stocks.
Money markets are markets for long-term debt and common stocks.
A liquid security is a security whose value is derived from the price of some other “underlying” asset.
Question 20.20. Which of the following type of Financial Institution does NOT typically provide funds to a company? (Points : 2)
Life Insurance Company
Exchange Traded Fund
Private Equity Firm
Question 21.21. Chapter 3
The primary reason the annual report is important in finance is that it is used by investors when they form expectations about the firm’s future earnings and dividends, and the riskiness of those cash flows. (Points : 2)
Question 22.22. Assets other than cash are expected to produce cash over time, but the amount of cash they eventually produce could be higher or lower than the amounts at which the assets are carried on the books. (Points : 2)
Question 23.23. The income statement shows the difference between a firm’s income and its costs–i.e., its profits–during a specified period of time. However, not all reported income comes in the form of cash, and reported costs likewise may not be consistent with cash outlays. Therefore, there may be a substantial difference between a firm’s reported profits and its actual cash flow for the same period. (Points : 2)
Question 24.24. EBITDA stands for earnings before interest, taxes, debt, and assets. (Points : 2)
Question 25.25. Consider the following balance sheet, for Games Inc. Because Games has $800,000 of retained earnings, we know that the company would be able to pay cash to buy an asset with a cost of $200,000.
Cash $ 50,000 Accounts payable $ 100,000
Inventory 200,000 Accruals 100,000
Accounts receivable 250,000 Total CL $ 200,000
Total CA $ 500,000 Debt 200,000
Net fixed assets $ 900,000 Common stock 200,000
Retained earnings 800,000
Total assets $1,400,000 Total L & E $1,400,000
(Points : 2)
Question 26.26. If a firm is reporting its income in accordance with generally accepted accounting principles, then its net income as reported on the income statement should be equal to its free cash flow. (Points : 2)
Question 27.27. To estimate the cash flow from operations, depreciation must be added back to the net income because it is a no-cash change that has been deducted as an expense. (Points : 2)
Question 28.28. In finance, we are generally more place more importance on cash flows than accounting profits. (Points : 2)
Question 29.29. Both interest and dividends paid by corporations are deductible operating expenses, therefore they decrease taxes to the corporation. (Points : 2)
Question 30.30. Prezas Company’s balance sheet showed total current assets of $4,250, all of which were required in operations. Its current liabilities consisted of $975 of accounts payable, $600 of 6% short-term notes payable to the bank, and $250 of accrued wages and taxes. What was its net operating working capital? (Points : 2)
Question 31.31. Chapter 4
The current and quick ratios both help us measure a firm’s liquidity. The current ratio measures the relationship of the firm’s current assets to its current liabilities, while the quick ratio measures the firm’s ability to pay off short-term obligations without relying on the sale of inventories. (Points : 2)
Question 32.32. The days sales outstanding tells us how long it takes, on average, to collect after a sale is made. The DSO can be compared with the firm’s credit terms to get an idea of whether customers are paying on time. (Points : 2)
Question 33.33. A decline in a firm’s inventory turnover rate suggests that it is improving both its inventory management and its liquidity position. (Points : 2)
Question 34.34. Other things held constant, the more debt a firm uses, the lower its profit margin will be. (Points : 2)
Question 35.35. The price/earnings (P/E) ratio tells us how much investors are willing to pay for a dollar of current earnings. In general, investors regard companies with higher P/E ratios as being less risky and/or more likely to enjoy higher growth in the future. (Points : 2)
Question 36.36. Determining whether a firm’s financial position is improving or deteriorating requires analyzing more than the ratios for a given year. Trend analysis is one method of examining changes in a firm’s performance over time. (Points : 2)
Question 37.37. Multiple Part:
(The following information applies to the following four (4) questions.)
The balance sheet and income statement shown below are for Koski Inc. Note that the firm has no amortization charges, it does not lease any assets, none of its debt must be retired during the next 5 years, and the notes payable will be rolled over.
Balance Sheet (Millions of $)
Cash and securities $ 2,500
Accounts receivable 11,500
Total current assets $30,000
Net plant and equipment $20,000
Total assets $50,000
Liabilities and Equity
Accounts payable $ 9,500
Notes payable 7,000
Total current liabilities $22,000
Long-term bonds $15,000
Total debt $37,000
Common stock $ 2,000
Retained earnings 11,000
Total common equity $13,000
Total liabilities and equity $50,000
Income Statement (Millions of $) 2010
Net sales $87,500
Operating costs except depreciation 81,813
Earnings bef interest and taxes (EBIT) $ 4,156
Less interest 1,375
Earnings before taxes (EBT) $ 2,781
Net income $ 1,808
Shares outstanding (millions) 500.00
Common dividends $632.73
Int rate on notes payable & L-T bonds 6.25%
Federal plus state income tax rate 35%
Year-end stock price $43.39
What is the firm’s current ratio?
(Points : 2)
Question 38.38. What is the firm’s days sales outstanding? Assume a 365-day year for this calculation. (Points : 2)
Question 39.39. What is the firm’s inventory turnover ratio? (Points : 2)
b. c. d.e.
Question 40.40. What is the firm’s profit margin? (Points : 2)
Question 41.41. Chapter 5
When a loan is amortized, a relatively high percentage of the payment goes to reduce the outstanding principal in the early years, and the principal repayment’s percentage declines in the loan’s later years. (Points : 2)
Question 42.42. Sue now has $125. How much would she have after 8 years if she leaves it invested at 8.5% with annual compounding? (Points : 2)
Question 43.43. Jose now has $500. How much would he have after 6 years if he leaves it invested at 5.5% with annual compounding? (Points : 2)
Question 44.44. Suppose you have $1,500 and plan to purchase a 5-year certificate of deposit (CD) that pays 3.5% interest, compounded annually. How much will you have when the CD matures? (Points : 2)
Question 45.45. Suppose you have $2,000 and plan to purchase a 10-year certificate of deposit (CD) that pays 6.5% interest, compounded annually. How much will you have when the CD matures? (Points : 2)
Question 46.46. Last year Rocco Corporation’s sales were $225 million. If sales grow at 6% per year, how large (in millions) will they be 5 years later? (Points : 2)
Question 47.47. Last year Dania Corporation’s sales were $525 million. If sales grow at 7.5% per year, how large (in millions) will they be 8 years later? (Points : 2)
Question 48.48. How much would $5,000 due in 25 years be worth today if the discount rate were 5.5%? (Points : 2)
Question 49.49. Suppose an Exxon Corporation bond will pay $4,500 ten years from now. If the going interest rate on safe 10-year bonds is 4.25%, how much is the bond worth today? (Points : 2)
Question 50.50. What is the PV of an ordinary annuity with 10 payments of $2,700 if the appropriate interest rate is 5.5%? (Points : 2)
Question 51.51. Chapter 6
One of the four most fundamental factors that affect the cost of money as discussed in the text is the expected rate of inflation. If inflation is expected to be relatively high, then interest rates will tend to be relatively low, other things held constant. (Points : 2)
Question 52.52. One of the four most fundamental factors that affect the cost of money as discussed in the text is the risk inherent in a given security. The higher the risk, the higher the security’s required return, other things held constant. (Points : 2)
Question 53.53. One of the four most fundamental factors that affect the cost of money as discussed in the text is the time preference for consumption. The higher the time preference, the lower the cost of money, other things held constant. (Points : 2)
Question 54.54. If the demand curve for funds increased but the supply curve remained constant, we would expect to see the total amount of funds supplied and demanded increase and interest rates in general also increase. (Points : 2)
Question 55.55. The Risk Free Rate is generally accepted to be that of a short-term U.S. Treasury bond. (Points : 2)
Question 56.56. The “yield curve” shows the relationship between bonds’ maturities and their yields. (Points : 2)
Question 57.57. Since yield curves are based on a real risk-free rate plus the expected rate of inflation, at any given time there can be only one yield curve, and it applies to both corporate and Treasury securities. (Points : 2)
Question 58.58. Suppose 1-year T-bills currently yield 7.00% and the future inflation rate is expected to be constant at 3.20% per year. What is the real risk-free rate of return, r*? Disregard any cross-product terms, i.e., if averaging is required, use the arithmetic average. (Points : 2)
Question 59.59. Suppose the real risk-free rate is 3.50% and the future rate of inflation is expected to be constant at 2.20%. What rate of return would you expect on a 1-year Treasury security, assuming the pure expectations theory is valid? Disregard cross-product terms, i.e., if averaging is required, use the arithmetic average. (Points : 2)
Question 60.60. Suppose the real risk-free rate is 2.50% and the future rate of inflation is expected to be constant at 4.10%. What rate of return would you expect on a 5-year Treasury security, assuming the pure expectations theory is valid? Disregard cross-product terms, i.e., if averaging is required, use the arithmetic average. (Points : 2)
Question 61.61. Chapter 7
If a firm raises capital by selling new bonds, it could be called the “issuing firm,” and the coupon rate is generally set equal to the required rate on bonds of equal risk. (Points : 2)
Question 62.62. A call provision gives bondholders the right to demand, or “call for,” repayment of a bond. Typically, companies call bonds if interest rates rise and do not call them if interest rates decline. (Points : 2)
Question 63.63. Sinking funds are provisions included in bond indentures that require companies to retire bonds on a scheduled basis prior to their final maturity. Many indentures allow the company to acquire bonds for sinking fund purposes by either (1) purchasing bonds on the open market at the going market price or (2) selecting the bonds to be called by a lottery administered by the trustee, in which case the price paid is the bond’s face value. (Points : 2)
Question 64.64. If interest rates go up, the price of a bond will go down. (Points : 2)
Question 65.65. A bond that had a 20-year original maturity with 1 year left to maturity has more price risk than a 10-year original maturity bond with 1 year left to maturity. (Assume that the bonds have equal default risk and equal coupon rates, and they cannot be called.) (Points : 2)
Question 66.66. There is an inverse relationship between bonds’ quality ratings and their required rates of return. Thus, the required return is lowest for AAA-rated bonds, and required returns increase as the ratings get lower. (Points : 2)
Question 67.67. Restrictive covenants are designed primarily to protect bondholders by constraining the actions of managers. Such covenants are spelled out in bond indentures. (Points : 2)
Question 68.68. Which of the following statements is CORRECT? (Points : 2)
You hold two bonds, a 10-year, zero coupon, issue and a 10-year bond that pays a 6% annual coupon. The same market rate, 6%, applies to both bonds. If the market rate rises from its current level, the zero coupon bond will experience the larger percentage decline.
The time to maturity does not affect the change in the value of a bond in response to a given change in interest rates.
You hold two bonds. One is a 10-year, zero coupon, bond and the other is a 10-year bond that pays a 6% annual coupon. The same market rate, 6%, applies to both bonds. If the market rate rises from the current level, the zero coupon bond will experience the smaller percentage decline.
The shorter the time to maturity, the greater the change in the value of a bond in response to a given change in interest rates, other things held constant.
The longer the time to maturity, the smaller the change in the value of a bond in response to a given change in interest rates.
Question 69.69. Adams Enterprises’ noncallable bonds currently sell for $1,120. They have a 15-year maturity, an annual coupon of $85, and a par value of $1,000. What is their yield to maturity? (Points : 2)
Question 70.70. Dyl Inc.’s bonds currently sell for $1,040 and have a par value of $1,000. They pay a $65 annual coupon and have a 15-year maturity, but they can be called in 5 years at $1,100. What is their yield to maturity (YTM)? (Points : 2)
Question 71.71. Chapter 8
The tighter the probability distribution of its expected future returns, the greater the risk of a given investment as measured by its standard deviation. (Points : 2)
Question 72.72. Diversification will normally reduce the riskiness of a portfolio of stocks. (Points : 2)
Question 73.73. Market risk refers to the tendency of a stock to move with the general stock market. A stock with above-average market risk will tend to be more volatile than an average stock, and its beta will be greater than 1.0. (Points : 2)
Question 74.74. Managers should under no conditions take actions that increase their firm’s risk relative to the market, regardless of how much those actions would increase the firm’s expected rate of return. (Points : 2)
Question 75.75. Most corporations earn returns for their stockholders by acquiring and operating tangible and intangible assets. The relevant risk of each asset should be measured in terms of its effect on the risk of the firm’s stockholders. (Points : 2)
Question 76.76. “Risk aversion” implies that investors require higher expected returns on riskier than on less risky securities. (Points : 2)
Question 77.77. Portfolio A has but one security, while Portfolio B has 100 securities. Because of diversification effects, we would expect Portfolio B to have the lower risk. However, it is possible for Portfolio A to be less risky. (Points : 2)
Question 78.78. Chapter 9
The cash flows associated with common stock are more difficult to estimate than those related to bonds because stock has a residual claim against the company versus a contractual obligation for a bond. (Points : 2)
Question 79.79. According to the basic DCF stock valuation model, the value an investor should assign to a share of stock is dependent on the length of time he or she plans to hold the stock. (Points : 2)
Question 80.80. When a new issue of stock is brought to market, it is the marginal investor who determines the price at which the stock will trade. (Points : 2)
Question 81.81. The constant growth DCF model used to evaluate the prices of common stocks is conceptually similar to the model used to find the price of perpetual preferred stock or other perpetuities. (Points : 2)
Question 82.82. According to the nonconstant growth model discussed in the textbook, the discount rate used to find the present value of the expected cash flows during the initial growth period is the same as the discount rate used to find the PVs of cash flows during the subsequent constant growth period. (Points : 2)
Question 83.83. The corporate valuation model can be used only when a company doesn’t pay dividends. (Points : 2)
Question 84.84. The corporate valuation model cannot be used unless a company pays dividends. (Points : 2)
Question 85.85. Preferred stock is a hybrid–a sort of cross between a common stock and a bond–in the sense that it pays dividends that normally increase annually like a stock but its payments are contractually guaranteed like interest on a bond. (Points : 2)
Question 86.86. From an investor’s perspective, a firm’s preferred stock is generally considered to be less risky than its common stock but more risky than its bonds. However, from a corporate issuer’s standpoint, these risk relationships are reversed: bonds are the most risky for the firm, preferred is next, and common is least risky. (Points : 2)
Question 87.87. A quick way to gain a general sense of the value a firm is to (Points : 2)
Determine the Price to Earnings Ratio.
Determine the Price to Sales Ratio.
Use a multiple of EBITDA.
Determine the Price to Cash Flow Ratio.
Any of the above (given a comparable benchmark).
Question 88.88. Suppose Boyson Corporation’s projected free cash flow for next year is FCF1 = $150,000, and FCF is expected to grow at a constant rate of 6.5%. If the company’s weighted average cost of capital is 11.5%, what is the firm’s total corporate value? (Points : 2)
Question 89.89. Molen Inc. has an outstanding issue of perpetual preferred stock with an annual dividend of $7.50 per share. If the required return on this preferred stock is 6.5%, at what price should the stock sell? (Points : 2)
Question 90.90. The Francis Company is expected to pay a dividend of D1 = $1.25 per share at the end of the year, and that dividend is expected to grow at a constant rate of 6.00% per year in the future. The company’s beta is 1.15, the market risk premium is 5.50%, and the risk-free rate is 4.00%. What is the company’s current stock price? (Points : 2)
Question 91.91. The Isberg Company just paid a dividend of $0.75 per share, and that dividend is expected to grow at a constant rate of 5.50% per year in the future. The company’s beta is 1.15, the market risk premium is 5.00%, and the risk-free rate is 4.00%. What is the company’s current stock price, P0? (Points : 2)
Question 92.92. Schnusenberg Corporation just paid a dividend of D0 = $0.75 per share, and that dividend is expected to grow at a constant rate of 6.50% per year in the future. The company’s beta is 1.25, the required return on the market is 10.50%, and the risk-free rate is 4.50%. What is the company’s current stock price? (Points : 2)
Question 93.93. Goode Inc.’s stock has a required rate of return of 11.50%, and it sells for $25.00 per share. Goode’s dividend is expected to grow at a constant rate of 7.00%. What was the last dividend, D0? (Points : 2)
Question 94.94. Francis Inc.’s stock has a required rate of return of 10.25%, and it sells for $57.50 per share. The dividend is expected to grow at a constant rate of 6.00% per year. What is the expected year-end dividend, D1? (Points : 2)
Sorenson Corp.’s expected year-end dividend is D1 = $1.60, its required return is rs = 11.00%, its dividend yield is 6.00%, and its growth rate is expected to be constant in the future. What is Sorenson’s expected stock price in 7 years, i.e., what is ?
(Points : 2)
Question 96.96. Gupta Corporation is undergoing a restructuring, and its free cash flows are expected to vary considerably during the next few years. However, the FCF is expected to be $65.00 million in Year 5, and the FCF growth rate is expected to be a constant 6.5% beyond that point. The weighted average cost of capital is 12.0%. What is the horizon (or continuing) value (in millions) at t = 5? (Points : 2)
Question 97.97. Misra Inc. forecasts a free cash flow of $35 million in Year 3, i.e., at t = 3, and it expects FCF to grow at a constant rate of 5.5% thereafter. If the weighted average cost of capital (WACC) is 10.0% and the cost of equity is 15.0%, what is the horizon, or continuing, value in millions at t = 3? (Points : 2)
Question 98.98. You must estimate the intrinsic value of Noe Technologies’ stock. The end-of-year free cash flow (FCF1) is expected to be $27.50 million, and it is expected to grow at a constant rate of 7.0% a year thereafter. The company’s WACC is 10.0%, it has $125.0 million of long-term debt plus preferred stock outstanding, and there are 15.0 million shares of common stock outstanding. What is the firm’s estimated intrinsic value per share of common stock? (Points : 2)
Question 99.99. You have been assigned the task of using the corporate, or free cash flow, model to estimate Petry Corporation’s intrinsic value. The firm’s WACC is 10.00%, its end-of-year free cash flow (FCF1) is expected to be $75.0 million, the FCFs are expected to grow at a constant rate of 5.00% a year in the future, the company has $200 million of long-term debt and preferred stock, and it has 30 million shares of common stock outstanding. What is the firm’s estimated intrinsic value per share of common stock? (Points : 2)
Question 100.100. Kedia Inc. forecasts a negative free cash flow for the coming year, FCF1 = -$10 million, but it expects positive numbers thereafter, with FCF2 = $25 million. After Year 2, FCF is expected to grow at a constant rate of 4% forever. If the weighted average cost of capital is 14.0%, what is the firm’s total corporate value, in millions? (Points : 2)
Question 101.101. Kale Inc. forecasts the free cash flows (in millions) shown below. If the weighted average cost of capital is 11.0% and FCF is expected to grow at a rate of 5.0% after Year 2, what is the firm’s total corporate value, in millions?
Year 1 2
Free cash flow -$50 $100
(Points : 2)
Question 102.102. Ryan Enterprises forecasts the free cash flows (in millions) shown below. The weighted average cost of capital is 13.0%, and the FCFs are expected to continue growing at a 5.0% rate after Year 3. What is the firm’s total corporate value, in millions?
Year 1 2 3
FCF -$15.0 $10.0 $40.0
(Points : 2)
Question 103.103. Based on the corporate valuation model, Wang Inc.’s total corporate value is $750 million. Its balance sheet shows $100 million notes payable, $200 million of long-term debt, $40 million of common stock (par plus paid-in-capital), and $160 million of retained earnings. What is the best estimate for the firm’s value of equity, in millions? (Points : 2)
Question 104.104. Based on the corporate valuation model, Gay Entertainment’s total corporate value is $1,200 million. The company’s balance sheet shows $120 million of notes payable, $300 million of long-term debt, $50 million of preferred stock, $180 million of retained earnings, and $800 million of total common equity. If the company has 30 million shares of stock outstanding, what is the best estimate of its price per share? (Points : 2)
Question 105.105. Based on the corporate valuation model, the total corporate value of Chen Lin Inc. is $900 million. Its balance sheet shows $110 million in notes payable, $90 million in long-term debt, $20 million in preferred stock, $140 million in retained earnings, and $280 million in total common equity. If the company has 25 million shares of stock outstanding, what is the best estimate of its stock price per share? (Points : 2)
Question 106.106. Based on the corporate valuation model, Morgan Inc.’s total corporate value is $300 million. The balance sheet shows $90 million of notes payable, $30 million of long-term debt, $40 million of preferred stock, and $100 million of common equity. The company has 10 million shares of stock outstanding. What is the best estimate of the stock’s price per share? (Points : 2)
Question 107.107. Carter’s preferred stock pays a dividend of $1.00 per quarter. If the price of the stock is $45.00, what is its nominal (not effective) annual rate of return? (Points : 2)
Question 108.108. Rebello’s preferred stock pays a dividend of $1.00 per quarter, and it sells for $55.00 per share. What is its effective annual (not nominal) rate of return? (Points : 2)
Question 109.109. Nachman Industries just paid a dividend of D0 = $1.32. Analysts expect the company’s dividend to grow by 30% this year, by 10% in Year 2, and at a constant rate of 5% in Year 3 and thereafter. The required return on this low-risk stock is 9.00%. What is the best estimate of the stock’s current market value? (Points : 2)
Question 110.110. Church Inc. is presently enjoying relatively high growth because of a surge in the demand for its new product. Management expects earnings and dividends to grow at a rate of 25% for the next 4 years, after which competition will probably reduce the growth rate in earnings and dividends to zero, i.e., g = 0. The company’s last dividend, D0, was $1.25, its beta is 1.20, the market risk premium is 5.50%, and the risk-free rate is 3.00%. What is the current price of the common stock?
(Points : 2)
Question 111.111. The Ramirez Company’s last dividend was $1.75. Its dividend growth rate is expected to be constant at 25% for 2 years, after which dividends are expected to grow at a rate of 6% forever. Its required return (rs) is 12%. What is the best estimate of the current stock price? (Points : 2)
Question 112.112. Ackert Company’s last dividend was $1.55. The dividend growth rate is expected to be constant at 1.5% for 2 years, after which dividends are expected to grow at a rate of 8.0% forever. The firm’s required return (rs) is 12.0%. What is the best estimate of the current stock price? (Points : 2)
Question 113.113. Huang Company’s last dividend was $1.25. The dividend growth rate is expected to be constant at 15% for 3 years, after which dividends are expected to grow at a rate of 6% forever. If the firm’s required return (rs) is 11%, what is its current stock price? (Points : 2)
Question 114.114. Agarwal Technologies was founded 10 years ago. It has been profitable for the last 5 years, but it has needed all of its earnings to support growth and thus has never paid a dividend. Management has indicated that it plans to pay a $0.25 dividend 3 years from today, then to increase it at a relatively rapid rate for 2 years, and then to increase it at a constant rate of 8.00% thereafter. Management’s forecast of the future dividend stream, along with the forecasted growth rates, is shown below. Assuming a required return of 11.00%, what is your estimate of the stock’s current value?
Year 0 1 2 3 4 5 6
Growth rate NA NA NA NA 50.00% 25.00% 8.00%
Dividends $0.000 $0.000 $0.000 $0.250 $0.375 $0.469 $0.506
(Points : 2)
Question 115.115. Wall Inc. forecasts that it will have the free cash flows (in millions) shown below. If the weighted average cost of capital is 14% and the free cash flows are expected to continue growing at the same rate after Year 3 as from Year 2 to Year 3, what is the firm’s total corporate value, in millions?
Year 1 2 3
Free cash flow -$20.00 $48.00 $54.00
(Points : 2)
Question 116.116. Savickas Petroleum’s stock has a required return of 12%, and the stock sells for $40 per share. The firm just paid a dividend of $1.00, and the dividend is expected to grow by 30% per year for the next 4 years, so D4 = $1.00(1.30)4 = $2.8561. After t = 4, the dividend is expected to grow at a constant rate of X% per year forever. What is the stock’s expected constant growth rate after t = 4, i.e., what is X?
(Points : 2)
Question 117.117. Your boss, Sally Maloney, treasurer of Fred Clark Enterprises (FCE), asked you to help her estimate the intrinsic value of the company’s stock. FCE just paid a dividend of $1.00, and the stock now sells for $15.00 per share. Sally asked a number of security analysts what they believe FCE’s future dividends will be, based on their analysis of the company. The consensus is that the dividend will be increased by 10% during Years 1 to 3, and it will be increased at a rate of 5% per year in Year 4 and thereafter. Sally asked you to use that information to estimate the required rate of return on the stock, rs, and she provided you with the following template for use in the analysis.
Sally told you that the growth rates in the template were just put in as a trial, and that you must replace them with the analysts’ forecasted rates to get the correct forecasted dividends and then the estimated HV. She also notes that the estimated value for rs, at the top of the template, is also just a guess, and you must replace it with a value that will cause the Calculated Price shown at the bottom to equal the Actual Market Price. She suggests that, after you have put in the correct dividends, you can manually calculate the price, using a series of guesses as to the Estimated rs. The value of rs that causes the calculated price to equal the actual price is the correct one. She notes, though, that this trial-and-error process would be quite tedious, and that the correct rs could be found much faster with a simple Excel model, especially if you use Goal Seek. What is the value of rs?
(Points : 2)
Question 118.118. Chapter 15
Net working capital is defined as current assets divided by current liabilities. (Points : 2)
Question 119.119. A conservative financing approach to working capital will result in permanent current assets and some seasonal current assets being financed using long-term securities. (Points : 2)
Question 120.120. If a firm takes actions that reduce its days sales outstanding (DSO), then, other things held constant, this will lengthen its cash conversion cycle (CCC) and cause a deterioration in its cash position. (Points : 2)
Question 121.121. Other things held constant, if a firm “stretches” (i.e., delays paying) its accounts payable, this will lengthen its cash conversion cycle (CCC). (Points : 2)
Question 122.122. Shorter-term cash budgets–say a daily cash budget for the next month–are generally used for actual cash control while longer-term cash budgets–say monthly cash budgets for the next year–are generally used for planning purposes. (Points : 2)
Question 123.123. Inventory management is largely self-contained in the sense that very little coordination among the sales, purchasing, and production personnel is required for successful inventory management. (Points : 2)
Question 124.124. The average accounts receivables balance is a function of both the volume of credit sales and the days sales outstanding. (Points : 2)
Question 125.125. The four primary elements in a firm’s credit policy are (1) credit standards, (2) discounts offered, (3) credit period, and (4) collection policy. (Points : 2)
Question 126.126. Changes in a firm’s collection policy can affect sales, working capital, and profits. (Points : 2)
Question 127.127. When deciding whether or not to take a trade discount, the cost of borrowing from a bank or other source should be compared to the cost of trade credit to determine if the cash discount should be taken. (Points : 2)
Question 128.128. Chapter 16
The first, and most critical, step in constructing a set of forecasted financial statements is the sales forecast. (Points : 2)
Question 129.129. A typical sales forecast, though concerned with future events, will usually be based on recent historical trends and events as well as on forecasts of economic prospects. (Points : 2)
Question 130.130. As a firm’s sales grow, its current assets also tend to increase. For instance, as sales increase, the firm’s inventories generally increase, and purchases of inventories result in more accounts payable. Thus, spontaneously generated funds arise from transactions brought on by sales increases. (Points : 2)
Question 131.131. A rapid build-up of inventories normally requires additional financing, unless the increase is matched by an equally large decrease in some other asset. (Points : 2)
Question 132.132. To determine the amount of additional funds needed (AFN), you may subtract the expected increase in liabilities, which represents a source of funds, from the sum of the expected increases in retained earnings and assets, both of which are uses of funds. (Points : 2)
Question 133.133. When developing forecasted financial statements there are some inputs that management controls such as the growth rate and operating costs/sales ratio, while other inputs such as the tax rate and interest rate are not under its control. (Points : 2)
Question 134.134. The terms budget, forecast and projection can be used interchangeably. (Points : 2)
Question 135.135. Which of the following is NOT a key element in strategic planning as it is described in the text? (Points : 2)
The mission statement.
The statement of the corporation’s scope.
The statement of cash flows.
The statement of corporate objectives.
The operating plan.
Question 136.136. Spontaneously generated funds are generally defined as follows:
(Points : 2)
Assets required per dollar of sales.
A forecasting approach in which the forecasted percentage of sales for each item is held constant.
Funds that a firm must raise externally through borrowing or by selling new common or preferred stock.
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.
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.
Question 137.137. Jefferson City Computers has developed a forecasting model to estimate its AFN for the upcoming year. All else being equal, which of the following factors is most likely to lead to an increase of the additional funds needed (AFN)? (Points : 2)
A sharp increase in its forecasted sales.
A sharp reduction in its forecasted sales.
The company reduces its dividend payout ratio.
The company switches its materials purchases to a supplier that sells on terms of 1/5, net 90, from a supplier whose terms are 3/15, net 35.
The company discovers that it has excess capacity in its fixed assets.