EXAM 3
Multiple Choice
Identify the choice that best completes the statement or answers the question.
__b__
1.
When working with the CAPM, which of the following factors can be determined with the most precision?
a.
The market risk premium (RP
M
).
b.
The beta coefficient, b
i
, of a relatively safe stock.
c.
The most appropriate riskfree rate, r
RF
.
d.
The expected rate of return on the market, r
M
.
e.
The beta coefficient of "the market," which is the same as the beta of an average stock.
____
2.
For a company whose target capital structure calls for 50% debt and 50% common equity, which of the
following statements is CORRECT?
a.
The cost of equity is always equal to or greater than the cost of debt.
b.
The WACC is calculated on a beforetax basis.
c.
The WACC exceeds the cost of equity.
d.
The interest rate used to calculate the WACC is the average aftertax cost of all the debt
the company has outstanding and shown on its balance sheet.
e.
The cost of retained earnings typically exceeds the cost of new common stock.
____
3.
A company's perpetual preferred stock currently trades at $87.50 per share, and it pays an $8.00 annual
dividend. If the company were to sell a new preferred issue, it would incur a flotation cost of 5.00% of the
issue price. What is the firm's cost of preferred stock?
a.
8.25%
b.
8.69%
c.
9.14%
d.
9.62%
e.
10.11%
__e__
4.
Scanlon Inc.'s CFO hired you as a consultant to help her estimate the cost of capital. You have been provided
with the following data: r
RF
= 5.00%; RP
M
= 6.00%; and b = 0.90. Based on the CAPM approach, what is the
cost of equity from retained earnings?
a.
9.21%
b.
9.49%
c.
9.79%
d.
10.09%
e.
10.40%
__d__
5.
Lanser Inc. hired you as a consultant to help them estimate its cost of capital. You have been provided with
the following data: D
1
= $0.80; P
0
= $22.50; and g = 5.00% (constant). Based on the DCF approach, what is
the cost of equity from retained earnings?
a.
7.34%
b.
7.72%
c.
8.13%
d.
8.56%
e.
8.98%
____
6.
You were hired as a consultant to Kroncke Company, whose target capital structure is 40% debt, 10%
preferred, and 50% common equity. The aftertax cost of debt is 6.00%, the cost of preferred is 7.50%, and
the cost of retained earnings is 13.25%. The firm will not be issuing any new stock. What is its WACC?
a.
9.48%
b.
9.78%
c.
10.07%
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10.37%
e.
10.68%
____
7.
Several years ago the Pettijohn Company sold a $1,000 par value, noncallable bond that now has 15 years to
maturity and a 7.00% annual coupon that is paid semiannually. The bond currently sells for $925, and the
company's tax rate is 40%. What is the component cost of debt for use in the WACC calculation?
a.
4.35%
b.
4.53%
c.
4.72%
d.
4.90%
e.
5.10%
____
8.
You were recently hired by Nast Media Inc. to estimate its cost of capital. You were provided with the
following data: D
1
= $2.00; P
0
= $55.00; g = 8.00% (constant); and F = 5.00%. What is the cost of equity
raised by selling new common stock?
a.
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 Spring '08
 Staff
 Management, Depreciation, Net Present Value

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