Problem 1: A company has a capital structure that consists of 50 percent debt and 50 percent equity. Which of the following statements is most correct?
a. The cost of equity financing is greater than or equal to the cost of debt financing.
b. The WACC exceeds the cost of equity financing.
c. The WACC is calculated on a before-tax basis.
d. The WACC represents the cost of capital based on historical averages. In that sense, it does not represent the marginal cost of capital.
e. The cost of retained earnings exceeds the cost of issuing new common stock.
Problem 2: Which of the following statements is most correct?
a. The NPV method assumes that cash flows will be reinvested at the cost of capital while the IRR method assumes reinvestment at the IRR.
b. The NPV method assumes that cash flows will be reinvested at the risk free rate while the IRR method assumes reinvestment at the IRR.
c. The NPV method assumes that cash flows will be reinvested at the cost of capital while the IRR method assumes reinvestment at the risk-free rate.
d. The NPV method does not consider the inflation premium.
e. The IRR method does not consider all relevant cash flows, and particularly cash flows beyond the payback period.
Problem 3: Annuities where the payments occur at the end of each time period are called _____, whereas ________ refer to payments occurring at the beginning of each time period.
a. ordinary annuities; early annuities
b. late annuities; straight annuities
c. straight annuities; late annuities
d. annuities due; ordinary annuities
e. ordinary annuities; annuities due
Problem 4: Given the following cash flows, what is the present value if the discount rate is 8%?
Yr1 $200, Yr2 $350, Yr3 $800, Yr4 $1,125
a. $1,115.07
b. $1,947.23
c. $2,165.70
d. $2,358.96
e. $2,922.62
Problem 6. A bond with an annual coupon of $100 originally sold at par for $1,000. The current market interest rate on this bond is 9%. Assuming no change in risk, this bond would sell at a __________ in order to compensate _____________________.
a. premium; the purchaser for the above market discount rate
b. discount; the purchaser for the above market discount rate
c. premium; the seller for the above market coupon rate
d. discount; the seller for the above market coupon rate
e. discount; the issuer for the higher cost of borrowing
Problem 7. Over the past four years, a company has paid dividends of $1.00, $1.10, $1.20, and $1.30 respectively. This pattern is expected to continue into the future. This is an example of a company paying a:
a. Dividend that grows by 10% each year.
b. Dividend that grows at a constant rate
c. Dividend that grows by a decreasing amount
d. Dividend that grows at a decreasing rate
e. Preferred stock dividend
Problem 8. The net present value (NPV) rule can best be stated as:
a. An investment should be accepted if, and only if, the NPV is exactly equal to zero.
b. An investment should be rejected if the NPV is positive and accepted if it is negative.
c. An investment should be accepted if the NPV is positive and rejected if it is negative.
d. An investment with greater cash inflows than cash outflows, regardless of when the cash flows occur, will always have a positive NPV and therefore should always be accepted.
Problem 9. Bill plans to open a do-it-yourself dog-bathing center in a storefront. The bathing equipment will cost $160,000. Bill expects the after-tax cash inflows to be $40,000 annually for 7 years, after which he plans to scrap the equipment and retire to the beaches of Jamaica. Assume the required rate of return is 10%. What is the project's NPV?
a. $14,111
b. $27,322
c. $32,556
d. $34,737
e. $45,001
Problem 10. What is the expected market return if the expected return on asset A is 16% and the risk-free rate is 7%? Asset A has a beta of 1.2.
a. 9.5%
b. 14.5%
c. 16.5%
d. 17.5%
e. 20.5%
Problem 11. Calculation of the WACC requires all of the following except;
a. The par value of the bonds outstanding relative to the total market value of the firm.
b. The market value of the bonds outstanding relative to the total market value of the firm.
c. The corporate tax rate.
d. The current market value of the firm's equity via the total number of shares and the stock price.
e. The market value of the equity outstanding relative to the total market value of the firm.
Problem 12. If the inflation rate in the United States is greater than the inflation rate in Sweden, other things held constant, the Swedish currency will
a. Appreciate against the U. S. dollar.
b. Depreciate against the U. S. dollar.
c. Remain unchanged against the U. S. dollar.
d. Appreciate against other major currencies.
e. Appreciate against the dollar and other major currencies.