Problem 1. 3D Square Inc. reported that its retained earnings for 2005 were $490,000. In its 2006 financial statements, it reported $60,000 of net income, and it ended 2006 with $510,000 of retained earnings. How much were paid as dividends to shareholders during 2006?
a. $20,000
b. $25,000
c. $30,000
d. $35,000
e. $40,000
Problem 2. Thomas Battery Systems Metals recently reported $9,000 of sales, $6,000 of operating costs other than depreciation, and $1,500 of depreciation. The company had no amortization charges, it had $4,000 of bonds that carry a 7% interest rate, and its federal-plus-state income tax rate was 40%. In order to sustain its operations and thus generate sales and cash flows in the future, the firm was required to make $800 of capital expenditures on new fixed assets and to invest $500 in net operating working capital. What was its free cash flow?
a. $1,000
b. $1,100
c. $1,200
d. $1,300
e. $1,400
Problem 3. For 2005, Bargain Basement Stores reported $11,500 of sales and $5,000 of operating costs (including depreciation). The company has $20,500 of investor-supplied operating assets (or capital), the weighted average cost of that capital (the WACC) was 10%, and the federal-plus-state income tax rate was 40%. What was the firm's Economic Value Added (EVA), i.e., how much value did management add to stockholders' wealth during 2005?
a. $1,700
b. $1,775
c. $1,850
d. $1,925
e. $2,000
Problem 4. Below are the 2004 and 2005 year-end balance sheets for Chloe Products:
Assets: 2005 2004
Cash $100,000 $ 85,000
Accounts receivable 432,000 350,000
Inventories 1,000,000 700,000
Total current assets $1,532,000 $1,135,000
Net fixed assets 3,000,000 2,800,000
Total assets $4,532,000 $3,935,000
Liabilities and equity:
Accounts payable $ 700,000 $ 545,000
Notes payable 800,000 900,000
Total current liabilities $1,500,000 $1,445,000
Long-term debt 1,200,000 1,200,000
Common stock 1,500,000 1,000,000
Retained earnings 332,000 290,000
Total common equity $1,832,000 $1,290,000
Total liabilities and equity $4,532,000 $3,935,000
Chloe Productions has never paid a dividend on its common stock, and it issued $1,200,000 of 10-year non-callable, long-term debt in 2004. As of the end of 2005, none of the principal on this debt had been repaid. Assume that the company’s sales in 2004 and 2005 sales were the same. Which of the following statements must be CORRECT?
a. Chloe had negative net income in 2005.
b. Chloe issued new common stock in 2005.
c. Chloe issued long-term debt in 2005.
d. Chloe repurchased some common stock in 2005.
e. Chloe increased its short-term debt in 2005.
Problem 5. Carol Industries has sales of $110,000 and accounts receivable of $12,500, and it gives its customers 30 days to pay. The industry average DSO is 25.5 days, based on a 365 day year. If the company changes its credit and collection policy sufficient to cause its DSO to fall to the industry average, and if it earns 9.5% on any cash freed-up by this change, how would that affect the firm's net income, assuming other things are held constant?
a. $422.12
b. $435.43
c. $447.86
d. $457.43
e. $469.93
Problem 6. Tandy Corp's sales last year were $400,000, and its year-end total assets were $300,000. The average firm in the industry has a total assets turnover ratio (TATO) of 2.5. The new CFO believes the firm has excess assets that can be sold so as to bring the TATO down to the industry average without affecting sales. By how much must the assets be reduced to bring the TATO to the industry average?
a. $100,000
b. $110,000
c. $120,000
d. $130,000
e. $140,000
Problem 7. McDonald Corp has $500,000 of assets, and it uses only common equity capital (zero debt). Its sales for the last year were $600,000, and its net income after taxes was $25,000. Stockholders recently voted in a new management team that has promised to lower costs and get the return on equity up to 15%. What profit margin would McDonald need in order to achieve the 15% ROE, holding everything else constant?
a. 8.00%
b. 9.50%
c. 11.00%
d. 12.50%
e. 14.00%
Problem 8. Ingram Inc has the following balance sheet:
|
Cash
|
$10,000
|
|
Accounts payable
|
$30,000
|
|
Receivables
|
50,000
|
|
Other current liabilities
|
20,000
|
|
Inventories
|
150,000
|
|
Long-term debt
|
50,000
|
|
Net fixed assets
|
90,000
|
|
Common equity
|
200,000
|
|
Total assets
|
$300,000
|
|
Total liabilities & equity
|
$300,000
|
Last year the firm had $15,000 of net income on $200,000 of sales. However, the new CFO thinks that inventories are excessive and could be lowered sufficiently to cause the current ratio is equal to the industry average, 2.5, without affecting either sales or net income. Assume inventories are sold off and not replaced to get the current ratio to 2.5, and the funds generated are used to buy back common stock at book value without changing anything else. By how much will the ROE change?
a. 4.70%
b. 4.96%
c. 5.28%
d. 5.54%
e. 5.91%
Problem 9. Suppose the real risk-free rate is 3.50%, the average future inflation rate is 2.25%, a maturity premium of 0.08% per year to maturity applies, i.e., MRP = 0.08%(t), where t is the years to maturity. Suppose also that a liquidity premium of 0.5% and a default risk premium of 0.85 applies to A-rated corporate bonds. How much higher would the rate of return be on a 5-year A-rated corporate bond than on a 5-year Treasury bond? Here we assume that the pure expectations theory is NOT valid, and disregard any cross-product terms, i.e., if averaging is required, use the arithmetic average.
a. 1.15%
b. 1.25%
c. 1.35%
d. 1.45%
e. 1.55%
Problem 10. Lili Corporation's 5-year bonds yield 6.50%, and 5-year T-bonds yield 4.40%. The real risk-free rate is r* = 2.5%, the default risk premium for Keys' bonds is DRP = 0.50% versus zero for T-bonds, the liquidity premium on Lilis' bonds is LP = 1.7%, and the maturity risk premium for all bonds is found with the formula MRP = (t – 1)*0.1%, where t = number of years to maturity. What is the inflation premium (LP) on 5-year bonds?
a. 1.50%
b. 1.60%
c. 1.70%
d. 1.80%
e. 1.90%
Problem 11. The real risk-free rate is expected to remain constant at 3% in the future, a 2% rate of inflation is expected for the next 2 years, after which inflation is expected to increase to 4%, and there is a positive maturity risk premium that increases with years to maturity. Given these conditions, which of the following statements is CORRECT?
a. The yield on a 2-year T-bond must exceed that on a 5-year T-bond.
b. The yield on a 5-year Treasury bond must exceed that on a 2-year Treasury bond.
c. The yield on a 7-year Treasury bond must exceed that of a 5-year corporate bond.
d. The conditions in the problem cannot all be true—they are internally inconsistent.
e. The Treasury yield curve under the stated conditions would be humped rather than have a consistent positive or negative slope.