Question 1: Langston Labs has an overall (composite) WACC of 10%, which reflects the cost of capital for its average asset. Its assets vary widely in risk, and Langston evaluates low-risk projects with a WACC of 8%, average projects at 10%, and high-risk projects at 12%. The company is considering the following projects:
Project Risk Expected Return
A High 15%
B Average 12
C High 11
D Low 9
E Low 6
Which set of projects would maximize shareholder wealth?
A. A & B
B. A, B & C
C. A, B and D
D. A, B, C, and D
E. A, B, C, D & E
Question 2: Your company, Q4 Inc., is considering a new project whose data are shown below. The required equipment has a 3-year tax life, and the MACRS rates for such property are 33%, 45%, 15%, and 7% for Years 1 through 4. Revenues and other operating costs are expected to be constant over the project's 10-year operating life. What is the project's operating cash flow during Year 4?
Equipment cost (depreciable basis) $70,000
Sales revenues, each year $50,000
Operating costs excl. depr'n $25,000
Tax rate 35.0%
A. $16, 213 B. 17,067 C. 17,965 D. 18,863 E. 19,806
Question 3: California Hideaways is considering a new project whose data are shown below. The equipment that would be used has a 3-year tax life, would be depreciated by the straight-line method over its 3-year life, and would have zero salvage value. No new working capital would be required. Revenues and other operating costs are expected to be constant over the project's 3-year life. What is the project's NPV? (Hint: Cash flows are constant in Years 1-3.)
WACC 10.0 %
Net investment cost (depreciable basis) $65,000
Straight-line depr'n rate 33.3333%
Sales revenues, each year $60,000
Operating costs excl. depr'n, each year $25,000
Tax Rate 35.0%
A. $8,499 B. $8,946 C. $9,417 D. $9,913 E $10,340
Question 4: Mihov Inc. hired you as a consultant to help estimate its cost of capital. You have been provided with the following data. (1): rd = yield on the firm's bonds = 7.00% and the risk premium over its own debt cost = 4.00%. (2) rRF = 5.00%, RPM = 6.00%, and b = 1.25. (3) D1 = $1.20; P0 = $35.00 and g = 8.00% (constant). You were asked to estimate the cost of equity based on the three most commonly used methods and then to indicate the difference between the highest and lowest of these estimates. What is that difference?
A. 1.13% B. 1.50% C. 1.88% D. 2.34% E. 2.58%