Complete the mcq:
1. Discusses three different types of returns. Identify the item in the list below that is NOT one of those three types of returns.
the actual rate of return
the expected rate of return
the risk-free rate of return
the required rate of return
2. The discount rate used in project evaluation should:
be based on the firm's overall risk.
be based on each project's risk.
be estimated using the WACC for all projects.
All of the above are correct.
3. Which of the following best describes a pure-play?
a private firm that is held in isolation in a one-company investment portfolio
a publicly traded firm that is similar to the company or project being analyzed
Both a and b are correct.
Neither a nor b is correct.
4. If a firm just paid a dividend equal to $4.00 a share, then for the WACC, in order to find the cost of equity, $4 should be:
divided by the current price of the stock, and the quotient should be added to the dividend growth rate.
divided by the current price of the stock.
multiplied by one minus the tax rate, and the difference divided by the current price of the stock.
multiplied by the sum of one plus the growth rate, and then divided by the current price of the stock; this quotient should be added to the dividend growth rate.
5. Which of the following is true of flotation costs?
They include expenses like investment banker fees and commissions.
They include the underwriting spread.
They tend to raise the cost of capital.
all of the above
6. The financing mix reflected in the WACC should:
reflect the desired mix and not necessarily the mix being used to finance a specific project.
vary from project to project, depending on how they are financed.
always reflect the firm's current capital structure.
None of these answers is correct.
7. Suppose a zero-coupon bond is selling for $614.00 today. It promises to pay $1,000 in exactly 10 years with annual compounding. What is the firm's after-tax cost of debt if this is its sole debt outstanding (assuming the firm is in the 20% tax bracket)?
4%
5%
6%
7%
8. Which of the following statements regarding business risk, financial risk, and investors' risk, is true?
Business risk is very similar to the risk of bankruptcy and is closely linked to the amount of debt in a firm's financing mix.
Financial risk is associated with the returns earned by equity investors.
Business risk is often measured by the variability of earnings before depreciation and taxes and is closely associated with the risk inherent in the goods and services a business is selling.
Investment risk is the uncertainty associated with a firm's investment projects. It can be thought of as the likelihood that the expected IRR or NPV from an investment project will not materialize.
9. Using the Capital Asset Pricing Model, estimate the required rate of return for Caterpillar Incorporated stock if the company's beta is 1.87 (as of February 1, 2013). Use a risk-free rate of 3% and a market risk premium of 6%.
8.61%
11.22%
14.22%
16.83%
10. The weighted average cost of capital is:
the average return for the company's stock over the past several years.
the average cost, including commissions, for raising capital for the firm.
an average required return for each of the sources of capital used by the firm to finance its projects, weighted by the amount contributed by each source.
interest payments and dividends, divided by the price of bonds and stock, respectively.