CHAPTER 11 CORPORATE VALUATION AND VALUE-BASED MANAGEMENT (Difficulty: E = Easy, M = Medium, and T = Tough) True/False Easy: (11.1) Corporate valuation model Answer: b Diff: E 1 . The corporate valuation model cannot be used unless a company doesn’t pay dividends. a. True b. False (11.2) Free cash flows and valuation Answer: a Diff: E 2 . Free cash flows should be discounted at the firm’s weighted average cost of capital to find the value of its operations. a. True b. False (11.3) Value-based management Answer: b Diff: E 3 . Value-based management focuses on sales growth, profitability, capital requirements, the weighted average cost of capital, and the dividend growth rate. a. True b. False (11.5) Corporate governance Answer: b Diff: E 4 . Two important issues in corporate governance are (1) the rules that cover the board’s ability to fire the CEO and (2)the rules that cover the CEO’s ability to remove members of the board. a. True b. False Medium: (11.3) Return on invested capital and MVA Answer: b Diff: M 5 . If a company’s expected return on invested capital is less than its cost of equity, then the company must also have a negative market value added (MVA). a. True b. False Chapter 11: Valuation and Value-Based Management Page 1
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(11.5) Corporate governance Answer: b Diff: M 6 . A poison pill is also known as a corporate restructuring. a. True b. False (11.5) Stock options Answer: b Diff: M 7 . The CEO of D’Amico Motors has been granted some stock options that have provisions similar to most other executive stock options. If D’Amico’s stock underperforms the market, these options will necessarily be worthless. a. True b. False (11.6) ESOP Answer: a Diff: M 8 . ESOPs were originally designed to help improve worker productivity, but today they are also used to help prevent hostile takeovers. a. True b. False Multiple Choice: Conceptual Medium: (11.2) Corporate valuation model Answer: b Diff: M 9 . Which of the following statements is NOT CORRECT? a. The corporate valuation model can be used both for companies that pay dividends and those that do not pay dividends. b. The corporate valuation model discounts free cash flows by the required return on equity. c. The corporate valuation model can be used to find the value of a division. d. An important step in applying the corporate valuation model is forecasting the firm’s pro forma financial statements. e. Free cash flows are assumed to grow at a constant rate beyond a specified date in order to find the horizon, or terminal, value. (11.3) Value-based management Answer: a Diff: M 10 . Which of the following does NOT always increase a company’s market value? a. Increasing the expected growth rate of sales. b. Increasing the expected operating profitability (NOPAT/Sales). c. Decreasing the capital requirements (Capital/Sales).