final 5 fundamentals of corporate finance, 4th edition brealey

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 final 5  fundamentals of corporate finance, 4th edition   brealey

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Name Section ID # (Professor Alagurajah’s Sections O (Wednesdays, 7-10 pm) and S (Thursdays, 7-10 pm), Professor Li’s Sections M (Thursdays, 2:30-5:30 pm) and Q (Mondays, 7-10 pm), Professor Tissenbaum’s Sections P (Internet) and R (Mondays, 4-7 pm), and Professor Yildirim’s Sections N (Tuesdays, 7-10 pm) and T (Tuesdays, 2:30-5:30 pm).) AK/ADMS 3530.03 Finance Final Exam Winter 2007 April 26, 2007 Type A Exam This exam consists of 50 multiple choice questions and carries a total of 100 points Choose the response which best answers each question Circle your answer below, and fill in your answers on the bubble sheet Only the bubble sheet is used to determine your exam score Please not forget to write your name and ID # at the top of this cover page and on the bubble sheet Also please write the type of your exam (A or B) on the bubble sheet Please note the following points: 1) Read the questions carefully and use your time efficiently 2) Choose the answers that are closest to yours, because of possible rounding 3) Keep at least decimal places in your calculations and final answers 4) Each question is worth points 5) Unless otherwise stated, interest rates are annual, and bonds have a face value (or par value) of $1,000 6) You may use the back of the exam paper as your scrap paper Numerical questions (2 points each) What is the present value of the following payment stream, discounted at percent annually: $1,000 at the end of year 1, $2,000 at the end of year 2, and $3,000 at the end of year 3? A) B) C) D) $5,022.11 $5,144.03 $5,423.87 $5,520.00 What is the present value of a four-year annuity of $100 per year that begins two years from today if the discount rate is percent? A) B) C) D) $297.22 $323.86 $356.85 $388.97 $3,000 is deposited into an account paying 10 percent annually, to provide three annual withdrawals of $1,206.34 beginning in one year How much remains in the account after the second withdrawal? A) B) C) D) $587.32 $1,096.67 $1,206.34 $1,326.97 Approximately how much should be accumulated by the beginning of retirement to provide a $2,500 monthly check (to be paid at the end of each month) that will last for 25 years, during which time the fund will earn percent interest with monthly compounding? A) B) C) D) $261,500 $323,800 $578,700 $690,000 An investor buys a ten-year, percent coupon bond for $1,050, holds it for one year and then sells it for $1,040 What was the investor's rate of return over the 1-year holding period? Assume coupons are paid annually A) B) C) D) 5.71 percent 6.00 percent 6.67 percent 7.00 percent A bond with 10 years until maturity, an percent coupon rate, and an percent original yield to maturity increased in price to $1,107.83 yesterday What appears to have happened to interest rates? Coupons are paid annually A) B) C) D) Rates increased by 2.00 percent Rates decreased by 2.00 percent Rates increased by 0.72 percent Rates decreased by 1.50 percent Which of the following statements is correct about a stock currently selling for $50 per share that has a 16 percent expected return and a 10 percent expected capital appreciation? A) B) C) D) Its expected dividend exceeds the actual dividend Its expected return will exceed the actual return It is expected to pay $3 in dividends for next year It is expected to pay $8 in dividends for next year An investor receives a 15 percent total return by purchasing a stock for $40 and selling it after one year with a 10 percent capital gain How much was received in dividend income during the year? A) B) C) D) $2.00 $2.20 $4.00 $6.00 Because of its age, your car costs $4,000 annually in maintenance expense You could replace it with a newer vehicle costing $8,000 Both vehicles would be expected to last four more years If your opportunity cost is percent, what would be the maximum annual maintenance expense on the newer vehicle to still justify its purchase? A) B) C) D) $1,250 $1,585 $2,000 $2,415 10 The profitability index for a project costing $40,000 and returning $15,000 annually for four years at an opportunity cost of capital of 12 percent is: A) B) C) D) 0.139 0.320 0.500 0.861 11 What is the minimum number of years that an investment costing $500,000 must return $65,000 per year at a discount rate of 13 percent in order to be an acceptable investment? A) B) C) D) 8.69 years 14.00 years 27.51 years An infinite number of years 12 You can continue to use your less efficient machine at a cost of $8,000 annually for the next five years Alternatively, you can purchase a more efficient machine for $12,000 plus $5,000 annual maintenance for the next five years At a cost of capital of 15 percent, you should: A) B) C) D) Buy the new machine and save $388 in equivalent annual costs Buy the new machine and save $600 in equivalent annual costs Keep the old machine and save $388 in equivalent annual costs Keep the old machine and save $580 in equivalent annual costs 13 What is the approximate IRR for a project that costs $100,000 and provides annual cash inflows of $30,000 for six years? A) B) C) D) 19.9 percent 30.0 percent 32.3 percent 80.0 percent Use the following information to answer Questions 14 – 17 Jensen Industries is considering purchasing a new Numerically Controlled Drilling Press The press costs $100,000, and belongs to a 15% CCA rate asset class (declining balance method) and the half-year rule applies The press is estimated to have cash flow savings of $34,000 per year for years and will require an immediate increase in Net Working Capital of $5,000, which will be recovered when the machine is sold at the end of year Initially assume there is zero salvage value The discount rate is 10% and the tax rate is 40% 14 What is Jensen’s CCA in Year and Year 2? A) B) C) D) $7,500; $12,750 $7,500; $13,875 $15,000; $12,750 $15,000; $13,875 15 What is the present value of Jensen’s CCA tax shield? A) B) C) D) $5,367 $11,667 $19,419 $22,909 16 Should Jensen accept the project? A) B) C) D) Yes, because the NPV is positive, and it exceeds $10,000 Yes, because the NPV is positive, although it is less than $10,000 No, because the NPV is negative, and it is between and -$10,000 No, because the NPV is negative, and it is between -$10,000 and $100,000 17 By how much will the NPV increase if Jensen is able to obtain a $10,000 salvage value at the end of Year 6? A) B) C) D) $1,824 $4,290 $5,645 $6,000 18 What happens to the NPV of a one-year project if fixed costs are increased from $400 to $600, the firm is profitable, has a 15 percent tax rate and employs a 12 percent cost of capital? A) B) C) D) NPV decreases by $200.00 NPV decreases by $170.00 NPV decreases by $151.79 NPV decreases by $116.07 19 Fixed costs including depreciation have increased at Leverage, Inc from $4 million to $6 million in an effort to reduce variable costs What must the new variable-cost percentage be to leave accounting break-even at $20 million? A) B) C) D) 60 percent 65 percent 70 percent 75 percent 20 Approximately how much was paid to invest in a project that has an NPV break-even level of sales of $5 million, annual cash flows determined by: 0.1 × sales – $300,000, a six-year life, and an percent discount rate? A) B) C) D) $416,667 $924,576 $1,016,678 $2,311,450 21 What percentage change in sales occurs if profits increase by percent when the firm's degree of operating leverage is 4.5? A) B) C) D) 0.33 percent 0.67 percent 1.50 percent 3.33 percent 22 If an asset's expected return is 10 percent, which represents a 20 percent return in a good economy and a percent loss in a bad economy, what is the probability of a good economy? A) B) C) D) 60.00 percent 40.00 percent 33.33 percent 18.33 percent 23 What is the approximate standard deviation of returns for a one-year project that is equally likely to return 100 percent as it is to provide a 100 percent loss? A) B) C) D) percent 50 percent 71 percent 100 percent 24 What is the approximate variance of returns (in percentages squared) if over the past three years an investment returned 8.0 percent, -12.0 percent, and 15.0 percent? A) B) C) D) 31 131 182 961 25 What is the standard deviation of a five-stock portfolio that produced portfolio returns of -4%, 2% and 5% with equal probability? A) B) C) D) 2.90% 3.24% 3.74% 4.58% 26 What is the expected rate of return on a portfolio that will decline in value by 13 percent in a recession, will increase by 16 percent in normal times, and will increase by 23 percent during boom times if each scenario has equal likelihood? A) B) C) D) 8.67 percent 13.00 percent 13.43 percent 17.33 percent 27 If a stock consistently goes up (down) by 1.6 percent when the market portfolio goes down (up) by 1.2 percent then the stock’s beta: A) B) C) D) equals 0.75 equals 1.33 equals -0.75 equals -1.33 28 Which of the following statements is correct when Treasury bills yield 7.5 percent and the market risk premium is 9.5 percent? A) B) C) D) The S&P 500 would be expected to yield about 8.50 percent The S&P 500 would be expected to yield about 9.50 percent The S&P 500 would be expected to yield about 12.68 percent The S&P 500 would be expected to yield about 17.00 percent 29 When Treasury bills yield percent and the expected return on the market is 16 percent, then the risk premium on a stock is equal to: A) B) C) D) percent 16 percent percent times the stock's beta percent plus the risk-free rate 30 An investor was expecting an 18 percent return on her portfolio with beta of 1.25 before the market risk premium increased from percent to 10 percent Based on this change, what return will now be expected on the portfolio? A) B) C) D) 20.0 percent 20.5 percent 22.5 percent 26.0 percent 31 What happens to the expected return on an asset if the asset beta decreases from 1.5 to 1.2, the risk-free rate increases from percent to percent, and the market expected return decreases from percent to percent? A) B) C) D) It increases from 7.4 percent to 11.5 percent It increases from 13.4 percent to 17.5 percent It decreases from 11.5 percent to 7.4 percent It decreases from 17.5 percent to 13.4 percent 32 A project will generate $750,000 of cash flows annually for four years The initial outlay is $2 million The expected return on Treasury bills is percent and the market risk premium is percent What is the highest project beta that will justify acceptance of the project? A) B) C) D) 0.00 1.00 1.56 2.31 33 If a firm is 42% debt-financed and the value of equity equals $47 million, which of the following is correct about firm value and the value of debt? There are only debt and equity in the firm’s capital structure Firm value A) $81 million B) $47 million C) $42 million D) $81 million Value of debt $34 million $81 million $20 million $42 million Use the following information to answer Questions 34 - 37 Eastman Chemical has 38 million shares of common stock outstanding The book value per share is $42 but the stock sells for $58 It also has 700,000, percent semiannual coupon bonds outstanding, par value $1,000 each The bonds have 10 years to maturity and sell for 86 percent of par Eastman’s common stock is twice as risky as the market portfolio The firm has 14 million shares of percent preferred stock outstanding which currently sell for $63 per share The face value per preferred share is $100 The T-bills yield 5.25%, and the market risk premium is assumed to be 4.15% Eastman is in the 35% corporate income tax bracket 34 Eastman’s after-tax cost of debt is: A) B) C) D) 4.53% 6.45% 6.96% 7.40% 35 Eastman’s cost of equity is: A) B) C) D) 9.40% 13.55% 14.65% 24.05% 10 36 Eastman’s cost of preferred stock is: A) B) C) D) 4.85% 5.00% 6.22% 7.94% 37 What is the discount rate that Eastman should use to evaluate a project which is very similar to the firm’s existing business? A) B) C) D) 8.56% 9.25% 11.22% 13.55% Conceptual questions (2 points each) 38 When a manager does not accept a positive-NPV project, shareholders face an opportunity cost in the amount of the: A) B) C) D) project's initial cost project's NPV project's discounted cash flows soft capital rationing budget 39 When mutually exclusive projects have different lives, the project which should be selected will have the: A) B) C) D) highest IRR longest life highest NPV, discounted at the opportunity cost of capital lowest equivalent annual cost 11 40 When should the net working capital investments be included in the estimation of cash flows? A) Never B) At the beginning of the project C) At the end of a project D) Any time during the life of a project 41 Capital budgeting investments are evaluated with the assumption that projects are: A) 100 percent -debt financed B) 100 percent -equity financed C) 50 percent -equity and 50 percent -debt financed D) 25 percent -equity and 75 percent -debt financed 42 If sensitivity analysis indicates none of the individual variables will cause a negative NPV under pessimistic conditions, then the: A) B) C) D) project is assured to be successful project's discount rate should be reduced economic forecasts are possibly overly optimistic interaction of the variables should be considered 43 The opportunity to alter production technology gives managers: A) B) C) D) the flexibility to adapt to changing situations increased cash flow from operations the opportunity to expand production the ability to expand product lines 12 44 Which of the following concerns is likely to be most important to portfolio investors seeking diversification? A) B) C) D) Total volatility of each individual securities Standard deviation of individual securities Correlation of returns between securities Achieving the risk-free rate of return 45 The risk premium that is offered on common stock is equal to the: A) B) C) D) 46 expected return on the stock real rate of return on the stock excess of expected return over a risk-free return expected return on the S&P 500 index The standard deviations of individual stocks are generally higher than the standard deviation of the market portfolio because individual stocks: A) B) C) D) offer higher returns have more systematic risk not have unique risk have no diversification of risk 47 Stock returns can be explained by the stock's _ and the stock's A) B) C) D) beta; unique risk beta; market risk unique risk; firm-specific risk aggressive risk; defensive risk 13 48 What will happen to a stock that offers a lower risk premium than predicted by the CAPM? A) B) C) D) Its beta will increase Its beta will decrease Its price will decrease until yield is increased Its price will increase until yield is reduced 49 Generally speaking, the optimal capital mix that minimizes the weighted average cost of capital also: A) maximizes EPS B) maximizes share price C) minimizes the required rate of return on equity D) minimizes bankruptcy costs 50 Firms have various sources of financing Which one of the following does not incur flotation costs? A) Long-term debt B) Preferred stock C) Common stock D) Retained earnings 14 ... standard deviation of a five-stock portfolio that produced portfolio returns of -4 %, 2% and 5% with equal probability? A) B) C) D) 2.90% 3.24% 3.74% 4.58% 26 What is the expected rate of return on... -equity financed C) 50 percent -equity and 50 percent -debt financed D) 25 percent -equity and 75 percent -debt financed 42 If sensitivity analysis indicates none of the individual variables will... What happens to the NPV of a one-year project if fixed costs are increased from $400 to $600, the firm is profitable, has a 15 percent tax rate and employs a 12 percent cost of capital? A) B) C)

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