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1) A firm is a business organization that sells goods and services. (True or False)
2) In finance we say that the goal of the firm ought to be to maximize profits. (True or False)
3) Other things being equal, it is better to receive money sooner rather than later. (True or False)
4) Financial managers evaluating decision alternatives or potential actions must consider ________.
A) only risk
B) only return
C) either risk or return
D) risk, return, and the impact on share price
5) If a firm earns a profit, it will necessarily also generate a positive cash flow. (True or False)
6) If a firm's stockholders are risk averse, the firm can make its stockholders better off by earning the
highest possible returns on its investments. (True or False)
8) A financial manager must choose between four alternative Assets: 1, 2, 3, and 4. Each asset costs
$35,000 and is expected to provide earnings over a three-year period as described below.
Based on the wealth maximization goal, the financial manager would choose ________.
A) Asset 1
B) Asset 2
C) Asset 3
D) Asset 4
9) In the most recent year, two different companies generated the same earnings per share. The stocks
of these two companies should trade at the same price. (True or False)
10) One reason that firms exist is that most investors are risk averse, so they are not willing to make
the kinds of risky investments that firms typically undertake. (True or False)
13) Investors who are risk averse will make risky investments as long as they expect compensation for
doing so. (True or False)
17) The key securities traded in the capital markets are ________.
A) commercial papers and Treasury bills
B) Treasury bills and certificates of deposit
C) stocks and bonds
D) bills of exchange and commercial papers
21) A generous philanthropist plans to make a one-time endowment to a renowned heart research
center which would provide the facility with $250,000 per year into perpetuity. The rate of interest is
expected to be 8 percent for all future time periods. How large must the endowment be?
A) $2,314,814
B) $2,000,000
C) $3,125,000
D) $3,000,000
22) Mary will receive $12,000 per year for the next 10 years as royalty for her work on a finance book.
What is the present value of her royalty income if the opportunity cost is 12 percent? Assume that
payments come at the end of each year.
A) $235,855
B) $67,803
C) $210,585
D) $75,939
23) To pay for her college education, Gina is saving $2,000 at the beginning of each year for the next
eight years in a bank account paying 12 percent interest. How much will Gina have in that account at
the end of 8th year?
A) $11,128
B) $9,935
C) $24,599
D) $27,551
24) James plans to fund his individual retirement account, beginning today, with 20 annual deposits
of $2,000. If he can earn an annual compound rate of 8 percent on his deposits, the amount in the
account 20 years from today will be ________.
A) $19,636
B) $91,524
C) $98,846
D) $21,207
25) You have been offered a project paying $300 at the beginning of each year for the next 20 years.
What is the maximum amount of money you would invest in this project if you expect 9 percent rate
of return to your investment?
A) $2,739
B) $2,985
C) $15,348
D) $16,729
26) Calculate the present value of a $10,000 perpetuity at a 6 percent discount rate.
27) Calculate the future value of an annuity of $5,000 each year for eight years, deposited at 6 percent.
28) Calculate the present value of an annuity of $3,900 each year for four years, assuming an
opportunity cost of 10 percent.
29) Dottie has decided to set up an account that will pay her granddaughter $5,000 a year indefinitely.
How much should Dottie deposit in an account paying 8 percent annual interest?
30) A wealthy industrialist wishes to establish a $2,000,000 trust fund which will provide income for
his grandchild into perpetuity. He stipulates in the trust agreement that the principal may not be
distributed. The grandchild may only receive the interest earned. If the interest rate earned on the
trust is expected to be at least 7 percent in all future periods, how much income will the grandchild
receive each year?
31) Given the following expected returns and standard deviations of assets B, M, Q, and D, which
asset has the most favorable coefficient of variation?
A) Asset B
B) Asset M
C) Asset Q
D) Asset D
32) The expected value, standard deviation of returns, and coefficient of variation for asset A are
________. (See below.)
Asset A
33) Given the following limited information about the two assets A and B, which asset seems
preferable?
34) Assuming the following returns and corresponding probabilities for asset A, compute its standard
deviation and coefficient of variation.
35) Champion Breweries must choose between two asset purchases. The annual rate of return and
related probabilities given below summarize the firm's analysis.
Table 9.3
Balance Sheet
General Talc Mines
December 31, 2019
36)
Given this after-tax cost of each source of capital, the weighted average cost of capital using book
weights for General Talc Mines is ________. (See Table 9.3)
A) 11.6 percent
B) 15.5 percent
C) 16.6 percent
D) 17.5 percent
37) General Talc Mines has compiled the following data regarding the market value and cost of the
specific sources of capital.
38) A firm has determined its optimal capital structure, which is composed of the following sources
and target market value proportions:
Debt: The firm can sell a 20-year, $1,000 par value, 9 percent bond for $980. A flotation cost of 2
percent of the face value would be required in addition to the discount of $20.
Preferred Stock: The firm has determined it can issue preferred stock at $65 per share par value. The
stock will pay an $8.00 annual dividend. The cost of issuing and selling the stock is $3 per share.
Common Stock: The firm's common stock is currently selling for $40 per share. The dividend
expected to be paid at the end of the coming year is $5.07. Its dividend payments have been growing
at a constant rate for the last five years. Five years ago, the dividend was $3.45. It is expected that to
sell, a new common stock issue must be underpriced at $1 per share and the firm must pay $1 per
share in flotation costs. Additionally, the firm's marginal tax rate is 40 percent.
Calculate the firm's weighted average cost of capital assuming the firm has exhausted all retained
earnings.
39) Promo Pak has compiled the following financial data:
(a) Calculate the weighted average cost of capital using book value weights.
(b) Calculate the weighted average cost of capital using market value weights.
40) A firm is evaluating a proposal which has an initial investment of $35,000 and has cash flows of
$10,000 in year 1, $20,000 in year 2, and $10,000 in year 3. The payback period of the project is
________.
A) 1 year
B) 2 years
C) between 1 and 2 years
D) between 2 and 3 years
41) A firm is evaluating a proposal which has an initial investment of $50,000 and has cash flows of
$15,000 per year for five years. The payback period of the project is ________.
A) 1.5 years
B) 2 years
C) 3.3 years
D) 4 years
43) Thinking in terms of the goal of wealth maximization, a project breaks even for shareholders,
meaning that it neither creates nor destroys value, if ________.
A) its NPV equals 0
B) its IRR equals 0
C) its net profit after taxes equals 0
D) its payback period is one year or less
44) A firm can accept a project with a net present value of zero because ________.
A) the project would maintain the wealth of the firm's owners
B) the project would enhance the wealth of the firm's owners
C) the project would maintain the earnings of the firm
D) the project would enhance the earnings of the firm
45) A firm is evaluating an investment proposal which has an initial investment of $5,000 and cash
flows presently valued at $4,000. The net present value of the investment is ________.
A) -$1,000
B) $9,000
C) $4,000
D) -$4,000
46) What is the IRR for the following project if its initial after-tax cost is $5,000,000 and it is expected
to provide after-tax operating cash inflows of $1,800,000 in year 1, $1,900,000 in year 2, $1,700,000 in
year 3, and $1,300,000 in year 4?
A) 15.57%
B) 0.00%
C) 13.57%
D) 12.25%
47) What is the IRR for the following project if its initial after-tax cost is $5,000,000 and it is expected
to provide an after-tax operating cash outflow of ($1,800,000) in year 1, followed by inflows of
$2,900,000 in year 2, $2,700,000 in year 3, and $2,300,000 in year 4?
A) 5.83%
B) 9.67%
C) 11.44%
D) 31.53%
48) The ________ is the discount rate that equates the present value of the cash inflows with the initial
investment.
A) payback period
B) net present value
C) cost of capital
D) internal rate of return
49) A corporation is considering expanding operations to meet growing demand. With the capital
expansion, the current accounts are expected to change. Management expects cash to increase by
$20,000, accounts receivable by $40,000, and inventories by $60,000. At the same time accounts
payable will increase by $50,000, accruals by $10,000, and long-term debt by $100,000. The change in
net working capital is ________.
A) an increase of $120,000
B) a decrease of $60,000
C) a decrease of $120,000
D) an increase of $60,000
50) A corporation is considering expanding operations to meet growing demand. With the capital
expansion the current accounts are expected to change. Management expects cash to increase by
$10,000, accounts receivable by $20,000, and inventories by $30,000. At the same time accounts
payable will increase by $40,000, accruals by $30,000, and long-term debt by $80,000. The change in
net working capital is ________.
A) an increase of $10,000
B) a decrease of $10,000
C) a decrease of $90,000
D) an increase of $80,000
Table 11.2
Computer Disk Duplicators, Inc. has been considering several capital investment proposals for the
year beginning in 2019. For each investment proposal, the relevant cash flows and other relevant
financial data are summarized in the table below. New assets will be depreciated under the MACRS
system rather than being fully expensed right away. In the case of a replacement decision, the total
installed cost of the equipment will be partially offset by the sale of existing equipment. The firm is
subject to a 40 percent tax rate on ordinary income and on long-term capital gains. The firm's cost of
capital is 15 percent.
______________________________________________________________________
*Not applicable
51) For Proposal 1, the cash flow pattern for the expansion project is ________. (See Table 11.2)
A) a mixed stream and conventional
B) a mixed stream and nonconventional
C) a perpetuity and conventional
D) an annuity and nonconventional
52) For Proposal 1, the initial outlay equals ________. (See Table 11.2)
A) $1,380,000
B) $1,440,000
C) $1,500,000
D) $1,620,000
53) For Proposal 1, the depreciation expense for year 1 is ________. (See Table 11.2)
A) $110,400
B) $115,200
C) $150,000
D) $300,000
54) For Proposal 1, the annual incremental after-tax cash flow from operations for year 1 is ________.
(See Table 11.2)
A) $60,000
B) $255,000
C) $300,000
D) $210,000
55) For Proposal 2, the cash flow pattern for the replacement project is ________. (See Table 11.2)
A) a mixed stream and conventional
B) a mixed stream and nonconventional
C) a perpetuity and conventional
D) an annuity and nonconventional
56) For Proposal 2, the book value of the existing asset at the end of the fifth year is ________. (See
Table 11.2)
A) $13,600
B) $34,400
C) $66,400
D) $80,000
57) For Proposal 2, the tax effect on the sale of the existing asset at the end of the fifth year results in
________. (See Table 11.2)
A) $12,000 tax liability
B) $14,560 tax liability
C) $25,280 tax liability
D) $16,600 tax liability
58) For Proposal 2, the initial outlay equals ________. (See Table 11.2)
A) $120,720 cash outflow
B) $164,560 cash outflow
C) $150,000 cash outflow
D) $167,520 cash outflow
59) For Proposal 2, the incremental depreciation expense for year 2 is ________. (See Table 11.2)
A) $16,800
B) $26,400
C) $38,400
D) $60,000
60) For Proposal 2, the annual incremental after-tax cash flow from operations for year 2 is ________.
(See Table 11.2)
A) $18,000
B) $24,000
C) $56,000
D) $84,000