**Unformatted text preview: **FIN 301
Professor Thistle
Principals of Financial Management
Spring 2017
Exam 3
Version C
MULTIPLE CHOICE. Choose the one alternative that best completes the statement or answers the question. Use the following information to answer the following question(s). A firm is trying to determine whether to replace an existing asset. The proposed asset has a purchase price of $50,000 and has installation costs of $3,000. The asset will be depreciated over its five year life using the straight‐line method. The new asset is expected to increase sales by $17,000 and non‐depreciation expenses by $2,000 annually over the life of the asset. Due to the increase in sales, the firm expects an increase in working capital during the assetʹs life of $1,500, and the firm expects to be able to sell the asset for $6,000 at the end of its life. The existing asset was originally purchased three years ago for $25,000, has a remaining life of five years, and is being depreciated using the straight‐line method. The expected salvage value at the end of the assetʹs life (i.e., five years from now) is $5,000; however, the current sale price of the existing asset is $20,000, and its current book value is $15,625. The firmʹs marginal tax rate is 34 percent and its required rate of return is 12 percent. 1) If the new machine is purchased, depreciation expense will increase or decrease by 1) _________
A) increase $6,300. B) decrease $5,000. C) increase $6,900. D) increase $8,000. 2) Schiller Construction Inc. has estimated the following revenues and expenses related to phase I of a proposed new housing development. Incremental sales= $5,000,000, total cash operating expenses $3,500,000, depreciation $500,000, taxes 35%, interest expense, $200,000. Operating cash flow equals 2) _________
A) $650,000 B) $975,000 C) $1,000,000 D) $1,150,000 3) Greenspan Inc. discounts cash flows at a nominal rate of 10%. Inflation over the next few years is expected to average 3%. Which of the following would be a correct adjustment for inflation when computing net present value? 3) _________
A) Discount cash flows at 10%; increase revenues and expenses by 3% each year. B) Discount cash flows at 13%; increase revenues and expenses by 3% each year. C) Discount cash flows at 7%; ignore inflation when forecasting revenues and expenses. D) Either A or C would be acceptable. 4) Metals Corp. has $2,575,000 of debt, $550,000 of preferred stock, and $18,125,000 of common equity. Metals Corp.ʹs after‐tax cost of debt is 5.25%, preferred stock has a cost of 6.35%, and newly issued common stock has a cost of 14.05%. What is Metals Corp.ʹs weighted average cost of capital? 4) _________
A) 10.84% B) 12.78% C) 6.56% D) 8.32% 5) Which of the following is included in the terminal cash flow? 5) _________
A) Tax impacts from selling assets B) Recapture of any working capital C) The expected salvage value of the asset D) All of the above 6) Jen and Barryʹs Ice Cream needs $20 million in new capital to expand its production facilities. It will use 40% debt and 60% equity. The companyʹs after‐tax cost of debt is 5% and the cost of equity is 12.5%. Flotation costs will be 3% for debt and 9% for equity. Compute Jen and Barryʹs weighted average flotation cost. 6) _________
A) 16.1% B) 6.6% C) 6.0% D) 9.5% Use the following information to answer the following question(s). The following data concerning Spencer Transgenicsʹ capital structure is available. $ millions Book Values Market Values Accounts Payable & Accruals $300
Short‐term notes $150
$150
Long‐term debt $450
$600
Preferred Stock $75
$150
Common Stock $600
$1500
Total $1575
$2400 7) The percentage of debt in Spencerʹs weighted average cost of capital is 7) _________
A) 31.25. B) 57.14%. C) 25%. D) 38.1%. 8) The percentage of common stock in Spencerʹs weighted average cost of capital is 8) _________
A) 6.25%. B) 66.7%. C) 38.1%. D) 62.5%. 9) Which of the following best describes a firmʹs cost of capital? 9) _________
A) The average yield to maturity on debt B) The coupon rate on preferred stock C) The average cost of the firmʹs assets D) The rate of return that must be earned on its investments in order to satisfy the firmʹs investors 10) Webley Corp. is considering two expansion options, but does not have enough capital to undertake both, Project W requires an investment of $100,000 and has an NPV of $10,000. Project D requires an investment of $80,000 and has an NPV of $8,200. If Webley uses the profitability index to decide, it would 10) ________
A) choose W because it has a higher profitability index. B) choose W because it has a lower profitability index. C) choose D because it has a lower profitability index. D) choose D because it has a higher profitability index. 11) PVE, Inc. has $15 million of debt outstanding with a coupon rate of 9%. Currently, the yield to maturity on these bonds is 7%. If the firmʹs tax rate is 35%, what is the after‐tax cost of debt to J & B? 11) ________
A) 10.76% B) 5.4% C) 4.55% D) 5.85% 12) The cost of preferred stock is equal to 12) ________
A) the preferred stock dividend divided by the net market price. B) (1 ‐ tax rate) times the preferred stock dividend divided by net price. C) the preferred stock dividend divided by market price. D) the preferred stock dividend divided by its par value. 13) In its original form, the Modigliani and Miller Capital Structure Theorem A) concludes that how a firm is financed is not important. B) provided important insights into capital structure policy. 13) ________ C) uses unrealistic assumptions. D) all of the above. 14) If interest expense lowers taxes, why does the WACC not decrease indefinitely with the addition of more debt? 14) ________
A) The tax shield effect of debt will result in a lower cost of equity. B) Increasing debt too much can result in a greater likelihood of firm failure (financial distress). C) Too much common equity increases the probability of bankruptcy. D) A firmʹs common stock price will not be affected by the amount of debt a firm uses. 15) If a project has a profitability index greater than 1 15) ________
A) the present value of future cash flows will exceed the amount invested in the project. B) the irr will be higher than the required rate of return. C) the npv will also be positive. D) all of the above. 16) The firmʹs optimal capital structure is the mix of financing sources that 16) ________
A) minimizes the risk of financial distress. B) maximizes favorable leverage. C) maximizes the total value of the firmʹs debt and equity. D) maximizes after‐tax earnings. 17) Basic tools of capital structure management include 17) ________
A) capital budgeting techniques. B) comparative profitability ratios. C) economic value added analysis. D) EBIT‐EPS analysis. 18) Diamond Inc. has estimated that a new building will cost $2,500,000 to construct. Land was purchased a year ago for $500,000 and could be sold today for $550,000. An environmental impact study required by the state was performed at a cost of $48,000. For capital budgeting purposes, what is the relevant cost of the new building? 18) ________
A) $2,500,000 B) $3,048,000 C) $3,050,000 D) $3,098,000 19) Sonderson Corporation is undertaking a capital budgeting analysis. The firmʹs beta is 1.5. The rate on six‐month T‐bills is 5%, and the return on the S&P 500 index is 12%. What is the appropriate cost of common equity in determining the firmʹs cost of capital? 19) ________
A) 17.7% B) 15.5% C) 19.9% D) 13.1% 20) Increased taxes on the sale of the old machine are 20) ________
A) $1,487.50. B) $3,823.50. C) $2,500.50. D) $4,312.50. 21) Thaler & Co. anticipates an increase of $1,000,000 in Net Operating Income from first year sales of a new product. Taxes will be $350,000 and the company took $150,000 in depreciation expense. Operating cash flow equals 21) ________
C) $800,000 D) $650,000 A) $1,000,000 B) $500,000 22) In order to maximize firm value, management should invest in new assets when cash flows from the assets are discounted at the firmʹs ________ and result in a positive NPV. 22) ________
A) rate of return on equity C) internal rate of return B) cost of debt used to finance the project D) cost of capital 23) A new forklift under consideration by Home Warehouse requires an initial investment of $100,000 and produces annual cash flows of $50,000, $40,000, and $30,000. Which of the following will not change if the required rate of return is increased from 10% to 12%. 23) ________
A) The net present value. B) The profitability index. C) The internal rate of return. D) The modified internal rate of return. 24) If the new machine is purchased, operating cash flow for years 1 through 5 will increase or decrease by how much? 24) ________
A) Increase $5,346 B) Decrease $9,900 C) Increase $12,142 D) Increase $15,000 25) Verigreen Lawn Care products just paid a dividend of $1.85. This dividend is expected to grow at a constant rate of 3% per year, so the next expected dividend is $1.90. The stock price is currently $12.50. New stock can be sold at this price subject to flotation costs of 15%. The companyʹs marginal tax rate is 40%. Compute the cost of common equity. 25) ________
A) 15.2% B) 17.8% C) 18.2% D) 18.0% 26) From the information below, select the optimal capital structure for Mountain High Corp. 26) ________
A) Debt = 70%; Equity = 30%; EPS = $3.31; Stock price = $30.00 B) Debt = 60%; Equity = 40%; EPS = $3.18; Stock price = $31.20 C) Debt = 80%; Equity = 20%; EPS = $3.42; Stock price = $30.40 D) Debt = 50%; Equity = 50%; EPS = $3.05; Stock price = $28.90 E) Debt = 40%; Equity = 60%; EPS = $2.95; Stock price = $26.50 27) Incremental cash flows from a project = 27) ________
A) Firm cash flows without the project plus or minus changes in revenue with the project. B) Firm cash flows with the project plus firm cash flows without the project. C) Firm cash flows without the project plus or minus changes in net income. D) Firm cash flows with the project minus firm cash flows without the project. 28) Compute the payback period for a project with the following cash flows, if the companyʹs discount rate is 12%. Initial outlay = $450 Cash flows: Year 1 = $325 Year 2 = $65 Year 3 = $100 28) ________
A) 3.17 years B) 2.88 years C) 2.6 years D) 3.43 years 29) Consider a project with the following cash flows: After‐Tax After‐Tax Accounting Cash Flow Year Profits from Operations 1 $799 $750 2 $150 $1,000 3 $200 $1,200 Initial outlay = $1,500 Terminal cash flow = 0 Compute the profitability index if the companyʹs discount rate is 10%. 29) ________
A) 0.62 B) 1.61 C) 1.81 D) 15.8 30) Alio e Olio has restaurants throughout the United States, Canada, and Western Europe. It is considering a proposal to open several restaurants in major cities of India and China. 30) ________
A) Alio e Olio should use a lower discount rate for new ventures to be sure it does not miss out on opportunities. B) Alio e Olio should evaluate projects in different regions at discount rates that reflect the risk inherent in those projects. C) Alio e Olio should use the companyʹs overall WACC to evaluate all proposals. D) Alio e Olio should adjust the discount rate for specific regions to reflect the specific sources of funding used. 1) C 2) D 3) D 4) B 5) D 6) B 7) A 8) D 9) D 10) D 11) C 12) A 13) D 14) B 15) D 16) C 17) D 18) C 19) B 20) A 21) C 22) D 23) C 24) C 25) C 26) B 27) D 28) C 29) B 30) B ...

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- Fall '08
- HOYT
- Finance