Study guide for exam 2 - part 3 - —-—— Page 1 of4...

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Unformatted text preview: —-—— Page 1 of4 Grade Details 1. Question: 0' CO B) Mich of the following statements is most correct? Your 7 a. If a project with normal cash flows has an lRR which exceeds the cost of Answe" capital, then the project must have a positive NPV. b. If the lRR of Project A exceeds the IRR of Project B, then Project A must also have a higher NPV. c. The modified intemai rate of return (MIRR), which always provides the higher return as compared to the intemai Rate of Return (IRR), should be used because of its optimistic view on the project's return. . d. Answers b and c are correct. e. None of the answers above is correct. instrustor The correct answer is a; the other statements are false. The IRR is the discount rate at which a EXP'anat‘O”: project's NPV is zero. if a project's IRR exceeds the firm‘s cost of capital, then its NPV must be positive, since the NPV is calculated using the firm's cost of capital to discount project cash flows. Points 10 of 10 Received: 2. Question: (T CO B) A project has an up-front cost of $100,000. The project‘s WACC is 12 percent and its net present value iss $10,000. Which of the following statements is most correct? Your Answer a. The project should be rejected since its return is less than the WACC. b. The project's internal rate of return is greater than 12 percent. 0. The project‘s modified'intemal rate of return is less than 12 percent d. All of the above answers are correct. 6. None of the above answers is correct. instructor Statement b is correct; the other statements are incorrect. Statement 8 is incorrect; If the EXP‘anat'W NPV>0, then the return must be >12%. Statement 0 is incorrect; if NPV>0, the MIRR>WACC. Points 10 of 10 Received: 3. Question: (T CO B) Assume a project has normal cash flows. All else equal, which of the following statements is correct? Your Answer. The project's lRR increasess as the WACC declines. The project's NPV increases as the WACC declines. The project's MIRR is unaffected by changes in the WACC The project's regular payback increases as the WACC declines. The project's discounted payback increses as the WACC declines. Points 10 of 10 Received: 4. Question: (T CO C) Which of the following statements is correct? Y°ur "Characteristics line" is another name for the Security Market Line. Answer: The characteristics line is the regression line that results from plotting the returns on a particular stock versus the returns on a stock from a different industry. The slope of the characteristic line is the stock's standard deviation. The distance of the plot points from the characteristics line is a measure of the stock's market risk. The distance of the plot points from the characteristics line is a measure of the stock‘s discounted diversifiable risk. H Pagezoe Points 10 of 10 Received: 5. Question: (T CO D) A share of common stock hasjust paid a dividend of $2. if the expected long-run growth rate for this stock is 5%, and if investors required rate of return is 10.5%, what is the stock price? Your Answer: $3539 $38.80 $37.23 $38.1 8 $39.14 Instructor ($2.10/(10.5%-5%)) = $38.18 Explanation: Points 10 of 10 Received: 6. Question: (TCO D) Albright Motors is expected to pay a year-end dividend of $3.00 a share (D1 = $3.00). The stock currently sells for $30 a share. The required (and expected) rate of retum on the stock is 16 percent. Question: lf the dividend is expected to grow at a constant rate, Q, what is 9? Your K1 = D1IPO+g .16 = 33/3530 +9 9 = .06 = 6% Answer, lnstrue’tor Formula Explanahon: K1 = Dupe + g 16%: 3/30 + g 16% = 10% + g 6% = 9 Points 10 of 10 Received: 7. Question: (T CO E) You work for Smith Company as a consultant. Kroncke target capital structure is 30% debt, 20% preferred, and 50% common equity. The after-tax cost of debt is 8%, the cost of preferred is 6.5%, and the cost of retained earnings is 13.25%. the firm will not be issuing any new stock. What is its WACC? Ange“; 10.07% 10.37% 9.48% 10.68% 10.325% instructor Explanafion: .3(8%) + .2(6.5%) + .5(13.25%) = % Points 10 of 10 Received: 8. Question: (T CO B, F) The Bingo Corporation is in the process of determining which of the following two ro'ects that the ma invest in. The details are rovided below: I.“ Cost of Capital Life of project Annual cash flow initial cost Salvage Value $250,000 $110,000 a. What is the payback period? b. Mat is the net present value of the two projects? 0. What is the internal rate of return of the two projects? d. What is the profitability index? e. Which of the two projects would you choose and which criteria would you use? Your Project A: initial cost -1 250000 annual cash flow for yr 1-19 350000 annual cash flow for yr 20 (350000+250000) Answer: 600000 Project 8: initial cost —1 400000 annual cash flow for yr 1-19 400000 annual cash flow for yr 20 (400000+110000) 510000 a. Payback period for A: 3.57 years Payback period for B: 3.5 years b. Net present value for A: $1390221,96 Net present value for B: $1599180.79 c. lRR for A: 27.83% lRR for B: 28.39% d. Profitability index for A: 2.11 Profitability index for B: 2.14 e. i would chose Project 8 because it has a lower payback period and higher lRR and PI than Project A. E instructor Project A Project B “p‘anat‘m initial investment -1 250,000 -1 ,400000 annual cash flow 350,000 400,000 350,000 400,000 350,000 400,000 350,000 400,000 350,000 400,000 350,000 400,000 350,000 400,000 350,000 400,000 350,000 400,000 350,000 400,000 350,000 400,000 350,000 400,000 350,000 400,000 350,000 400,000 350,000 400,000 350,000 400,000 350,000 400,000 350,000 400,000 350,000 400,000 600,000 510,000 a. Payback Period 357142857“! 3.5 Present value of cash $2.640,221.96 $2,999,180.79 b. NPV 5139022196 $1,599,180.79 c.lnternal rate of return 27.83% 28.39% 0. Profitability index 2112177568 2142271996 e. Since the projects are mutually exclusive 1 would choose project B. Project B is also better in payback, lRR and in Profitability index. Points 10 of 10 Received: 9. Question: (T CO B, F) Sorenson Stores is considering a project that has the following cash flows: Year Cash Flows (end of period) Page 4 of 4 1 $2,000 2 $3,000 3 $3,000 4 $1,500 The project has a payback of 2.5 years, and the firm's cost of capital is 12%. What is the project‘s NPV? Your Answer: $577 '68 $765.91 $1,049.80 $2,761.32 $3,765.91 lnstrug’tor Since we have a payback of 2.5 years we can determine the initial cost of the asset which is Exp'anat‘o”? $6,500. The total present value of the cash flows over 4 years at 12% is $7,265.91. When we subtract the initial cost from the present value of the cash flows we get a value of $765.91. Points 10 of 10 Received: 10. Question: (T CO B, F) Thompson Stores is considering a project that has the following cash flow data. What is the project‘s lRR? Note that a project's projected lRR can be less than the WACC (and even negative), in which case it will be rejected. Year Cash Flow 0 ($1,000) 1 $300 2 $295 3 $290 4 $285 5 $270 Your Answer 11.16% 12.40% 13.78% 15.16% 16.68% E lrlwstmfictor The most effective method for this calculation is by the use of the IRR category in excel. xp ana on: Points 10 of 10 Received: ...
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Study guide for exam 2 - part 3 - —-—— Page 1 of4...

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