Home work, 1. The acceptance of a capital budgeting project is usually evaluated on its, Financial Accounting

Home work, Financial Accounting

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1.
The acceptance of a capital budgeting project is usually evaluated on its own merits. That is, capital budgeting decisions are treated separately from capital structure decisions. In reality, these decisions may be highly interwoven. This may result in:

firms rejecting positive NPV, all equity projects because changing to a capital structure with debt will always create negative NPV.

never considering capital budgeting projects on their own merits.

corporate financial managers first checking with their investment bankers to determine the best type of capital to raise before valuing the project.

firms accepting some negative NPV all equity projects because changing the capital structure adds enough positive leverage tax shield value to create a positive NPV.

firms never changing the capital structure because all capital budgeting decisions will be subsumed by capital structure decisions.

2.
Although the three capital budgeting methods are equivalent, they all can have difficulties making computation impossible at times. The most useful methods or tools from a practical standpoint are:

APV because debt levels are unknown in future years.

WACC because projects have constant risk and target debt to value ratios.

Flow-to-equity because of constant risk and that managers think in terms of optimal debt to equity ratios.

Both A and B.

Both B and C.
3.
The WACC approach to valuation is not as useful as the APV approach in leveraged buyouts because:

there is greater risk with a LBO.

the capital structure is changing.

there is no tax shield with the WACC.

the value of the levered and unlevered firms are equal.

the unlevered and levered cash flows are separated which cannot be used with the WACC approach.

4.
The Webster Corp. is planning construction of a new shipping depot for its single manufacturing plant. The initial cost of the investment is $1 million. Efficiencies from the new depot are expected to reduce costs by $100,000 forever. The corporation has a total value of $60 million and has outstanding debt of $40 million. What is the NPV of the project if the firm has an after tax cost of debt of 6% and a cost equity of 9%?

$428,571

$444,459

$565,547

$1,000,000

None of the above is the correct NPV.
5.
Debt capacity is often given as a reason for the value of the stock falling when equity is issued. The reason for this is:

the high issue costs of a debt offering must be paid by the shareholders.

the priority position of the equity is lowered.

management has information that the probability of default has risen, limiting the debt capacity and causing the firm to raise equity capital.

All of the above.

None of the above
6.
In comparison to debt issuance expenses, the total direct costs of equity issues are:

considerably less.

about the same.

meaningless.

considerably greater.

None of the above.

7.

The Wordsmith Corporation has 10,000 shares outstanding at $30 each. They expect to raise $150,000 by a rights offering with a subscription price of $25. How many rights must you turn in to get a new share?

0.60

1.20

1.67

2.00

Insufficient data to determine

8.
The Holly Corporation has a new rights offering that allows you to buy one share of stock with 4 rights and $25 per share. The stock is now selling ex-rights for $30. The price rights-on is:

$21.00

$25.00

$30.00

$31.25

impossible to determine without the cum-rights price.

9.
Which of the following is probably not a good reason for leasing instead of buying?

Taxes may be reduced by leasing.

Leasing may reduce transactions costs.

Leasing may provide a beneficial reduction of uncertainty.

All of the above are good reasons.

All of the above are not good reasons.

10.
Some assets are leased more than others because:

the value of the asset under a lease is not highly affected by term of use or maintenance decisions.

a lease may be used to fool clients into "buying" high priced assets above market value.

leasing allows sellers to attract clients with low prices as the basis for setting the contract.

Both A and B.

Both A and C.
11.
In valuing the lease versus purchase option, the relevant cash flows are the:

tax shield from depreciation.

investment outlay for the equipment.

a decrease in the firm''s operating costs that are not affected by leasing.

All of the above are relevant.

None of the above are relevant.

12.
Your firm is considering leasing a new robotic milling control system. The lease lasts for 5 years. The lease calls for 6 payments of $300,000 per year with the first payment occurring at lease inception. The system would cost $1,050,000 to buy and would be straight-line depreciated to a zero salvage value. The actual salvage value is zero. The firm can borrow at 8%, and the corporate tax rate is 34%.

What is the NPV of the lease?

$-111,690

$-295,040

$-305,388

$-309,690

None of the above

13.
If you consider the equity of a firm to be an option on the firm''s assets then the act of paying off debt is comparable to _____ on the assets of the firm.

purchasing a put option

purchasing a call option

exercising an in-the-money put option

exercising an in-the-money call option

selling a call option
14.
You can realize the same value as that derived from stock ownership if you:

sell a put option and invest at the risk-free rate of return.

buy a call option and write a put option on a stock and also borrow funds at the risk-free rate.

sell a put and buy a call on a stock as well as invest at the risk-free rate of return.

lend out funds at the risk-free rate of return and sell a put option on the stock.

borrow funds at the risk-free rate of return and invest the proceeds in equivalent amounts of put and call options.

15.
The market price of ABC stock has been very volatile and you think this volatility will continue for a few weeks. Thus, you decide to purchase a one-month call option contract on ABC stock with a strike price of $25 and an option price of $1.30. You also purchase a one-month put option on ABC stock with a strike price of $25 and an option price of $.50. What will be your total profit or loss on these option positions if the stock price is $24.60 on the day the options expire?

-$180

-$140

-$100

$0

$180

16.
What is the intrinsic value of the August 25 call?

$0.10

$5.86

$6.15

$10.00

$25.00
17.
A chocolate company which uses the futures market to lock in the price of cocoa to protect a profit is an example of:

a long hedge.

a short hedge.

purchasing futures to guard against a potential loss.

Both A and C.

Both B and C.

18.
You hold a forward contract to take delivery of U.S. Treasury bonds in 9 months. If the entire term structure of interest rates shifts down over the 9-month period, the value of the forward contract will have _____ on the date of delivery.

risen

fallen

not changed

either risen or fallen, depending on the maturity of the T-bond

Collapsed

19.
A bond manager who wishes to hold the bond with the greatest potential volatility would be wise to hold:

short-term, high-coupon bonds.

long-term, low-coupon bonds.

long-term, zero-coupon bonds.

short-term, zero-coupon bonds.

short-term, low-coupon bonds.

20.
Calculate the duration of a 4-year $1,000 face value bond, which pays 8% coupons annually throughout maturity and has a yield to maturity of 9%.

3.29 years

3.57 years

3.69 years

3.89 years

4.00 years
21.
Leslie purchased 100 shares of GT, Inc. stock on Wednesday, June 7th. Marti purchased 100 shares of GT, Inc. stock on Thursday, July 8th. GT declared a dividend on June 20th to shareholders of record on July 12th and payable on August 1st. Which one of the following statements concerning the dividend paid on August 1st is correct given this information?

Neither Leslie nor Marti are entitled to the dividend.

Leslie is entitled to the dividend but Marti is not.

Marti is entitled to the dividend but Leslie is not.

Both Marti and Leslie are entitled to the dividend.

Both Marti and Leslie are entitled to one-half of the dividend amount.

22.
The fact that flotation costs can be significant is justification for:

a firm to issue larger dividends than its closest competitors.

a firm to maintain a constant dividend policy even if it frequently has to issue new shares of stock to do so.

maintaining a constant dividend policy even when profits decline significantly.

maintaining a high dividend policy.

maintaining a low dividend policy and rarely issuing extra dividends.

23.
Nu Tech, Inc. is a technology firm with good growth prospects. The firm wishes to do something to acknowledge the loyalty of its shareholders but needs all of its available cash to fund its rapid growth. The market price of its stock is currently trading in the middle of its preferred trading range. The firm could consider:

issuing a liquidating dividend.

a stock split.

a reverse stock split.

issuing a stock dividend.

a special cash dividend.

24.
Murphy''s, Inc. has 10,000 shares of stock outstanding with a par value of $1.00 per share. The market value is $8 per share. The balance sheet shows $32,500 in the capital in excess of par account, $10,000 in the common stock account, and $42,700 in the retained earnings account. The firm just announced a 10% (small) stock dividend. What will the balance in the retained earnings account be after the dividend?

$34,700

$35,700

$42,700

$49,700

$50,700

25.
When evaluating an acquisition, you should:

concentrate on book values and ignore market values.

focus on the total cash flows of the merged firm.

apply the rate of return that is relevant to the incremental cash flows.

ignore any one-time acquisition fees or transaction costs.

ignore any potential changes in management.
26.
The shareholders of a target firm benefit the most when:

an acquiring firm has the better management team and replaces the target firm''s managers.

the management of the target firm is more efficient than the management of the acquiring firm which replaces them.

the management of both the acquiring firm and the target firm are as equivalent as possible.

their current management team is kept in place even though the managers of the acquiring firm are more suited to manage the target firm''s situation.

their management team is technologically knowledgeable yet ineffective.

27.
In a merger or acquisition, a firm should be acquired if it:

generates a positive net present value to the shareholders of an acquiring firm.

is a firm in the same line of business in which the acquirer has expertise.

is a firm in a totally different line of business which will diversify the firm.

pays a large dividend which will provide a cash pass through to the acquirer.

None of the above.

28.
Alto and Solo are all-equity firms. Alto has 2,400 shares outstanding at a market price of $24 a share. Solo has 4,000 shares outstanding at a price of $17 a share. Solo is acquiring Alto for $63,000 in cash. The incremental value of the acquisition is $5,500. What is the net present value of acquiring Alto to Solo?

$100

$400

$1,200

$2,400

$5,500
29.
Successful private workouts are better for firms than formal bankruptcy because:

direct costs are considerably lower in private workouts.

private workout firms can issue new debt senior to all prior debt.

stock price increases are greater for private workouts than for firms emerging from formal bankruptcy.

Both A and B.

Both A and C.

30.
The net payoff to creditors in formal bankruptcy may be low in present value terms because:

the financial structure may be complicated with several groups and types of creditors.

indirect costs of bankruptcy may have been costly in lost revenues and poor maintenance.

administrative costs are high and increase with the complexity and length of time in the formal bankruptcy process.

All of the above.

None of the above.

31.
Credit scoring models are used by lenders to:

determine the borrowers capacity to pay.

aid in the prediction of default or bankruptcy.

determine the optimal debt equity ratio.

Both A and B.

Both A and C.

32.
The management of Magic Mobile Homes has proposed to reorganize the firm. The proposal is based on a going-concern value of $2 million. The proposed financial structure is $750,000 in new mortgage debt, $250,000 in subordinated debt and $1,000,000 in new equity. All creditors, both secured and unsecured, are owed $2.5 million dollars. Secured creditors have a mortgage lien for $1,500,000 on the factory. The corporate tax rate is 34%.

How much should the secured creditors receive?

$1,000,000

$1,250,000

$1,333,333

$1,500,000

None of the above

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