Final Exam
Spring 2013
MULTIPLE CHOICE. Choose the one alternative that best completes the statement or answers the question.
1) Capital structure refers to how the firm finances its operations and growth through a combination of ______.
A) equity types B) types of earnings C) types of debt D) security types
2) ______capital structure refers to a combination of debt and equity that maximizes the value of the firm.
A) An optimal B) A minimal C) A perfect D) An irrelevant
3) Which of the statements below is FALSE?
A) In the bond market, we see different rates as the different yields on bonds for different companies.
B) In general, the cost of funds for an individual or company will be directly related to the lender's view of the risk of repayment of the funds.
C) The "riskier" borrower will most likely have to pay a lower cost for funds.
D) In the equity market, we see different rates as the different required returns for companies due to their different betas.
4) A large public firm cannot issue which of the following types of securities?
A) Preferred stock B) T-Bills C) Bonds D) Common stock
TRUE/FALSE. Write 'T' if the statement is true and 'F' if the statement is false.
5) In a perfect financial world, a company's value is dependent on its capital structure.
6) The return to the investor is the cost to the seller.
MULTIPLE CHOICE. Choose the one alternative that best completes the statement or answers the question.
7) You have a project that costs $800,000. It has a 1/3 chance of paying off $3,000,000 and a 2/3 chance of paying off $0. What is the expected profit from the new project?
A) $100,000 B) $200,000 C) $300,000 D) zero
8) Consider two companies that are alike except in borrowing choices. Company 1 has no debt financing, and Company 2 uses debt financing. The EBIT for both companies is $800. Company 1 has 400 shares outstanding and pays no interest. Company 2 has 300 shares outstanding and pays $250 in interest. What is the EPS for each company?
A) Company 1 has an EPS of $2.00 and Company 2 has an EPS of $1.50.
B) Both companies have an EPS of $2.00.
C) Company 1 has an EPS of $2.00 and Company 2 has an EPS of $1.83.
D) Both companies have an EPS of $1.83.
TRUE/FALSE. Write 'T' if the statement is true and 'F' if the statement is false.
9) Leverage magnifies both gains and losses.
MULTIPLE CHOICE. Choose the one alternative that best completes the statement or answers the question.
10) Moving from one source of funding to another in a particular order is called the ______.
A) Pecking Order Hypothesis B) Barnyard Order Hypothesis
C) Capital Market Hypothesis D) Funding Order Hypothesis
11) Information is asymmetric when one party in a transaction has a different set of ______from the other party in the transaction.
A) hypotheses B) information C) earnings D) asymmetries
12) With the background ideas of using the cheapest source first and the impact of asymmetric information, the Pecking Order Hypothesis predicts which of the following?
A) If external financing is required, firms should first seek equity financing.
B) Firms prefer internal financing second to external financing.
C) If external financing is required, firms will choose to issue the riskiest security first, starting with debt financing and using equity as a last resort.
D) If external financing is required, firms will choose to issue the safest or cheapest security first, starting with debt financing and using equity as a last resort.
13) M&M Proposition I states that, in a world of no taxes and no bankruptcy, ______.
A) the choice of financing is relevant to determining the firm's value in the short-run
B) the cost of debt increases with leverage
C) how the company finances its operations does not affect firm value
D) how the company finances its operations affects firm value
14) Which of the formulations below expresses the weighted average cost of capital (WACC) formula?
A) WACC = (E/V) × Rd + (D/V) × Re × (1 - Tc)
B) WACC = (E/V) × Re × (1 - Tc) + (D/V) × Rd
C) WACC = (E/V) × Re + (D/V) × Rd x( 1 - Tc)
D) WACC = (D/V) × Re + (E/V) × Rd × (1 - Tc)
15) The contribution of M&M comes from the fact that there is a constant trade-off ratio. Which of the statements below describe this constant trade-off ratio?
A) When a firm adds more low cost debt, it automatically increases the cost of equity so that the overall cost of capital increases.
B) When a firm adds more low cost debt, it automatically increases the cost of equity so that the overall cost of capital remains constant.
C) When a firm adds more low cost debt, it automatically increases the cost of equity so that the overall cost of capital decreases.
D) None of these
16) Transitions Inc. is an import-export company specializing in products from Asia and the West Coast. It can borrow in the debt market at 8%. Its cost of equity with 40% D/V ratio is 12%. Its corporate tax rate is 30%. If the M&M world of taxes holds true, what is the WACC for Transitions Inc. with a 40% D/V financing?
A) 7.20% B) 8.64% C) 8.00% D) 9.44%
17) Consider the Modigliani and Miller world of corporate taxes. An unleveraged (all-equity) firm value is $100 million. By adding debt, the annual interest expense is $10 million, the corporate tax rate is 40%, and the discount rate on the tax shield is 10%. What is the gain to leverage or the value added from issuing debt?
A) $160 million B) $120 million C) $100 million
D) $140 million
18) Starting a business with ______is by far the most common start-up financing.
A) personal and family funds B) venture capital
C) bank loans D) bonds and equity
19) Which of the following is NOT typically involved when a start-up business applies for a loan at a commercial bank?
A) Collateral and owner's contribution
B) Evidence of good character
C) A contract for partial ownership by the bank of the proposed firm
D) Evidence of management capability
20) The 7(a) Loan Guaranty Program of the Small Business Administration (SBA) delivers loans through ______that are guaranteed by ______.
A) commercial lenders; the SBA
B) the SBA; commercial lenders
C) banks; the Federal Reserve System
D) commercial lenders; state government
21) Angel financing is ______.
A) usually limited to the early development of a business
B) usually for medium-term loans
C) rare
D) All of the above
22) Which of the following answer choices is more characteristic of a venture capitalist than an angel investor?
A) Usually corporate entities; pooled money from range of investors; all stages of the business
B) Usually individuals or groups; invest own money; early stages of the business
C) Usually individuals or groups; pooled money from range of investors; all stages of the business
D) Usually corporate entities; often tied to individual or group expertise; early stages of the business
23) A major issue with venture capitalists and angel investors is the rate at which their funds will be used up. This is called the ______.
A) consumption or constriction rate B) IV rate
C) burn rate or bleed rate D) depreciation rate
24) Which of the following characteristics of angel financiers are not important considerations for a firm or entrepreneur seeking financing?
A) Contacts of the angel or venture capitalist
B) The exit strategy of the angel or venture capitalist
C) The financial strength of the angel or venture capitalist
D) All of the above are important considerations regarding an angel or venture capitalist
25) Western Equipment Company will issue 30-year, semiannual bonds with an 8.0% coupon rate and a $1,000 par value. Bonds of similar risk and maturity are currently selling to yield 7.0% in the market place. What is the market price of one of the firm's new bonds? Use a financial calculator to determine your answer.
A) $886.88 B) $1,124.09 C) $1,000.00 D) $1,124.72
26) The process for selling stock for the very first time is known as a/an ______.
A) primary market B) an initial public offering
C) rookie offering D) first refusal rights
27) Commercial paper has a maturity of ______.
A) nine to eighteen months B) less than 270 days
C) greater than one year D) three to five years
28) Asian Motors Inc. plans to issue $3,000,000 of commercial paper with a 6-month maturity at 98% of par value. What is the EAR?
A) 2.00% B) 4.12% C) 4.00% D) 4.08%
29) Asian Motors Inc. plans to issue $3,000,000 of commercial paper with a 6-month maturity at 98% of par value. What is the discounted selling price of the firm's commercial paper?
A) $2,700,000 B) $2,940,000 C) $2,666,667
D) $3,000,000
TRUE/FALSE. Write 'T' if the statement is true and 'F' if the statement is false.
30) In a best efforts arrangement, the investment bank pledges to use its best efforts to sell all the authorized shares and takes a cut on each individual share that it sells, but provides no guarantee as to how many shares it will sell.
MULTIPLE CHOICE. Choose the one alternative that best completes the statement or answers the question.
31) The following market information was gathered for the Blender Corporation. The firm has 1,000 bonds outstanding, each selling for $1,100.00 with a required rate of return of 8.00%. Blenders has 5,000 shares of preferred stock outstanding, selling for $40.00 per share and 50,000 shares of common stock outstanding, selling for $18.00 per share. If the preferred stock has a required rate of return of 11.00% and the common stock requires a 14.00% return, and the firm has a corporate tax rate of 30%, then calculate the firm's WACC adjusted for taxes.
A) 9.53%
B) 10.73%
C) 6.77%
D) There is not enough information to answer this question because there is no information provided about the amount of retained earnings held by the firm.
32) Your firm has an average-risk project under consideration. You choose to fund the project in the same manner as the firm's existing capital structure. If the cost of debt is 9.00%, the cost of preferred stock is 12.00%, the cost of common stock is 16.00%, and the WACC adjusted for taxes is 14.00%, what is the NPV of the project, given the expected cash flows listed here?
Category T0 T1 T2 T3
Investment -$2,000,000
NWC -$250,000 $250,000
Operating Cash Flow $850,000$850,000$850,000
Salvage $50,000
Total Incremental Cash Flow-$2,250,000 $850,000 $850,000$1,150,000
A) $2,175,879 B) $2,479,604 C) -$74,121 D) $499,604
ESSAY. Write your answer in the space provided on your answersheet.
33) Amistad Inc manufactures custom golf clubs and orders 250,000 graphite shafts per year from its manufacturer. The CEO at Amistad wishes to know the optimal EOQ. The carrying cost is $0.45 per shaft per year. The order cost is $750 per order. What is the EOQ for Amistad? What are the total annual carrying costs? What are the total annual ordering costs? Round all of your answers to the nearest dollar
or unit.