Business 570 ( Managerial Finance ) Multiple Choice

Exam

Name___________________________________

MULTIPLE CHOICE. Choose the one alternative that best completes the statement or answers the question.

Use the following information to answer the question(s) below.

Beta Volatility "Eenie" 0.45 20%

"Meenie" 0.75 18% "Miney" 1.05 35% "Moe" 1.20 25%

Assume that the risk-free rate of interest is 3% and you estimate the market's expected return to be 9%.

1) Which firm has the most total risk? A) Miney B) Moe C) Eenie D) Meenie

2) Which firm has the highest cost of equity capital? A) Meenie B) Moe C) Eenie D) Miney

3) The equity cost of capital for "Miney" is closest to: A) 9.30%. B) 6.30%. C) 7.50%. D) 9.75%.

4) Which of the following statements is FALSE? A) We should be suspicious of beta estimates that are extreme relative to industry norms. B) When using historical data, there is always the possibility of estimation error. C) For stocks, common practice is to use at least two years of weekly return data or five years of monthly return

data when estimating beta. D) Evidence suggests that betas tend to revert toward zero over time.

5) Which of the following statements is FALSE? A) To determine the risk premium for a stock using the security market line, we need an estimate of the market

risk premium. B) The risk-free interest rate is generally determined using the yields of U.S. Treasury securities, which are free

from default risk. C) Most financial analysts report using the yields of Treasury Bills to determine the risk-free rate when valuing

a long-term investment with an indefinite horizon. D) The CAPM states that we should use the risk-free interest rate corresponding to the investment horizon of

the firm's investors.

6) The tendency of uninformed individuals to overestimate the precision of their knowledge is known as: A) herd behavior. B) disposition bias. C) overconfidence bias. D) familiarity bias.

7) Which of the following is NOT true regarding individual investor behavior? A) A vast majority of individual investors hold fewer than 10 stocks in their portfolio. B) Individual investors fail to diversify their portfolios adequately. C) Individual investors' portfolios consistently outperform the market averages. D) Employees tend to overinvest in their company's own stock.

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Use the following information to answer the question(s) below.

Stock Market Capitalization

Expected Liquidating

Dividend

Beta

Taggart Transcontinental $800 $920 1.10 Rearden Metal $600 $720 1.20

Wyatt Oil $1,000 $1,100 0.80 Nielson Motors $400 $500 1.40

All amounts are in millions.

8) The correlation between the expected return and the market capitalization of these stocks is: A) negative. B) zero. C) positive. D) Unable to determine with the information given

9) Which of the following statements is FALSE? A) Franco Modigliani and Merton Miller argued that with perfect capital markets, the total value of a firm

should not depend on its capital structure. B) Leverage decreases the risk of the equity of a firm. C) It is inappropriate to discount the cash flows of levered equity at the same discount rate that we use for

unlevered equity. D) Because the cash flows of the debt and equity sum to the cash flows of the project, by the Law of One Price

the combined values of debt and equity must be equal to the cash flows of the project.

Use the table for the question(s) below.

Consider the following income statement for Kroger Inc. (all figures in $ Millions):

Year 2006 2005 2004 Total sales 60,553 56,434 53,791 Cost of goods sold 45,565 42,140 39,637 Selling, general & admin expenses 11,688 12,191 11,575 Depreciation 1,265 1,256 1,209 Operating income 2,035 847 1,370 Other income 0 0 0 EBIT 2,035 847 1,370 Interest expense 510 557 604 Earnings before tax 1,525 290 766 Taxes (35%) 534 102 268 Net income 991 189 498

10) The interest rate tax shield for Kroger in 2006 is closest to: A) $187 million. B) $179 million. C) $332 million. D) $534 million.

11) The income that would be available to equity holders in 2006 if Kroger was not levered is closest to: A) $1,325 million. B) $1,500 million. C) $2,035 million. D) $1,525 million.

12) The date on which the board of directors authorizes the dividend is the: A) record date. B) ex-dividend date. C) declaration date. D) distribution date.

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13) The firm will pay the dividend to all shareholders who are registered owners on a specific date, set by the board, called the:

A) declaration date. B) distribution date. C) record date. D) ex-dividend date.

14) Anyone who purchases the stock on or after the ________ date will not receive the dividend. A) record B) declaration C) distribution D) ex-dividend

15) Which of the following statements is FALSE? A) Most companies that pay dividends pay them semiannually. B) Occasionally, a firm may pay a one-time, special dividend that is usually much larger than a regular

dividend. C) The way a firm chooses between paying dividends and retaining earnings is referred to as its payout policy. D) From an accounting perspective, dividends generally reduce the firm's current (or accumulated) retained

earnings.

Use the following information to answer the question(s) below.

d'Anconia Copper has $200 million in cash that it can use for a share repurchase. Suppose instead that d'Anconia Copper invests the funds in an account paying 5% interest for one year. Assume that the corporate tax rate is 21%, the individual capital gains rate is 15% and the individual rate on ordinary income is 32%.

16) The amount of additional cash that d'Anconia Copper will have at the end of the year net of corporate taxes is closest to:

A) $2.0 million. B) $7.9 million. C) $7.0 million. D) $5.5 million.

17) Net of ordinary income taxes, the amount that investors would have if they invested the $200 million on their own is closest to:

A) $6.5 million. B) $10.0 million. C) $6.8 million. D) $5.5 million.

18) The writer of a call option has: A) the right to buy a security for a given price. B) the obligation to buy a security for a given price. C) the right to sell a security for a given price. D) the obligation to sell a security for a given price.

19) The holder of a put option has: A) the obligation to buy a security for a given price. B) the obligation to sell a security for a given price. C) the right to sell a security for a given price. D) the right to buy a security for a given price.

20) Using options to reduce risk is called: A) a covered position. B) hedging. C) a naked position. D) speculation.

21) Using options to place a bet on the direction in which you believe the market is likely to move is called: A) a covered position. B) a naked position. C) speculation. D) hedging.

22) The market price of an option is called the: A) European premium. B) option premium. C) American premium. D) exercising premium.

23) As the seller of an option, you are guaranteed to receive the: A) option premium. B) exercise price. C) risk premium. D) strike price.

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24) Which of the following will NOT increase the value of a put option? A) A decrease in the stock price B) A decrease in the stock's volatility C) An increase in the exercise price D) An increase in the time to maturity

25) Which of the following is NOT an input required by the Black-Scholes option pricing model? A) The risk-free interest rate B) The current stock price C) The expected volatility of the stock D) The expected return on the stock

26) Aaron Inc went public at $10 per share. Aaron's investment banker charged them $0.70 per share for the IPO. This fee is called a(n):

A) IPO fee. B) greenshoe fee. C) allocation spread. D) underwriting spread.

Use the following information to answer the question(s) below.

Wyatt Oil has 8 million shares outstanding and is about to issue 10 million new shares in an IPO. The IPO price has been set at $15 per share, and the underwriting spread is 6%. The IPO is a big success with investors, and the share price rises to $35 on the first day of trading.

27) The amount that Wyatt Oil raised during the IPO is closest to: A) $113 million. B) $150 million. C) $329 million. D) $141 million. E) $350 million.

28) What kind of corporate debt can be secured by any specified assets? A) Notes B) Asset-backed bonds C) Debentures D) Mortgage bonds

29) Which of the following statements is FALSE? A) The trust company represents the bondholders and makes sure that the terms of the indenture are enforced. B) In the case of default, the trust company represents the bondholders' interests. C) Almost all bonds that are issued today are registered bonds. D) For private placements, the prospectus must include an indenture, a formal contract between the bond issuer

and a trust company.

30) Galt Industries has just issued a callable, $1,000 par value, five-year, 6% coupon bond with semiannual coupon payments. The bond can be called at par in three years or anytime thereafter on a coupon payment date. If the bond is currently trading for $978.94, then its yield to call is closest to:

A) 6.8%. B) 6.5%. C) 6.0%. D) 3.4%.

31) Which of the following statements regarding bonds is FALSE? A) Covenants are restrictive clauses in a bond contract that limit the issuer from taking actions that may

undercut its ability to repay the bonds. B) The stronger the covenants in the bond contract, the less likely the issuer will default on the bond, and so the

lower the interest rate investors will require to buy the bond. C) Bond agreements often contain covenants that restrict the ability of management to pay dividends. D) If the issuer fails to live up to any covenant, the issuer goes into bankruptcy.

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32) Which of the following statements regarding bonds is FALSE? A) Covenants may restrict the level of further indebtedness and specify that the issuer must maintain a

minimum amount of working capital. B) By including more covenants, issuers increase their costs of borrowing. C) Once bonds are issued, equity holders have an incentive to increase dividends at the expense of debt holders. D) If the covenants are designed to reduce agency costs by restricting management's ability to take negative

NPV actions that exploit debt holders, then the reduction in the firm's borrowing cost can more than outweigh the cost of the loss of flexibility associated with covenants.

Use the information for the question(s) below.

Suppose the purchase price of a bulldozer is $90,000, its residual value in four years is certain to be $15,000, and there is no risk that the lessee will default on the lease. Assume that capital markets are perfect and the risk-free interest rate is 6% APR with monthly compounding.

33) Suppose that instead of leasing the bulldozer, the company is considering purchasing a bulldozer outright by borrowing the purchase price using a four-year annuity loan. The monthly loan payments for a four-year loan to purchase the bulldozer are closest to:

A) $1870. B) $2115. C) $1825. D) $1750.

34) Which of the following statements regarding operating leases is FALSE? A) The lease is viewed as a rental for accounting purposes. B) They are also called finance leases. C) The lessee reports the entire lease payment as an operating expense. D) They are disclosed in the footnotes of the lessee's financial statements.

Consider the following information for the question(s) below.

Hammond Motors had sales of $35 million in 2019 with a cost of goods sold of $20 million. A simplified balance sheet for Hammond appears below (amounts in $ million):

Assets Liabilities and Equity Cash 1.6 Accounts Payable 1.8 Accounts Receivable 4.2 Notes Payable 3.2 Inventory 3 Accruals 1.5 Current Assets 8.8 Total Current Liabilities 6.5

Long-term Debt 4 Net Property, Plant and Equipment 8.2 Total Liabilities 10.5

Stockholders' Equity 6.5 Total Assets 17 Total Liabilities and Stockholders' Equity 17

35) Hammond's net working capital in 2019 is closest to: A) $3.8 million. B) $10.5 million. C) $2.3 million. D) $6.5 million.

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Use the table for the question(s) below.

Luther Industries had sales of $980 million and a cost of goods sold of $560 million in 2019. A simplified balance sheet for the firm appears below:

Luther Industries Balance Sheet As of December 31, 2019 (millions of dollars)

Assets Liabilities and Equity Cash 25 Accounts payable 60 Accounts receivable 85 Notes payable 425 Inventory 90 Accruals 45 Total current assets 200 Total current liabilities 530 Net plant, property, and equipment 6,100 Long term debt 2,725 Total assets 6,300 Total liabilities 3,255

Common equity 3,045 Total liabilities and equity 6,300

36) Luther's accounts payable days is closest to: A) 42 days. B) 39 days. C) 59 days. D) 32 days.

37) The term 2/10 net 30 means: A) If the invoice is paid within 2 days, a 10% discount can be taken, otherwise a 2% discount can be taken if the

invoice is paid in 30 days. B) If the invoice is paid within 2 days, a 10% discount can be taken, otherwise the full invoice is due in 30 days. C) If the invoice is paid within 10 days, a 2% discount can be taken, otherwise the full invoice is due in 30 days. D) If the invoice is paid within 10 days, a 2% discount can be taken. If the invoice is paid between 11 and 29 days

a 1% discount can be taken. After 30 days the full invoice is due.

38) Your firm purchases goods from its supplier on terms of 1/10, net 30. The effective annual cost to your firm if it chooses not to take advantage of the trade discount offered is closest to:

A) 16.8%. B) 13.0%. C) 20.1%. D) 44.6%.

39) An exploration of the effect on NPV of changing multiple project parameters is called: A) sensitivity analysis. B) accounting break-even analysis. C) IRR analysis. D) scenario analysis.

Use the following information to answer the question(s) below.

Nielson Motors has a share price of $50.00. Its latest dividend was $2.50, and you expect Nielson Motors to raise its dividend by approximately 6% per year in perpetuity.

40) If Nielson's equity cost of capital is 13%, then Nielson's expected share price is closest to: A) $35.71. B) $37.86. C) $50.00. D) $19.23.

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