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Ronaldo Inc. has a capital budget of $1,000,000, but it wants to maintain a target capital structure of 50% debt and 50% equity. The company forecasts this year’s net income to be $1,000,000. If the company follows a residual dividend policy, what will be its dividend payout ratio?

a. 30%

b. 50%

c. 20%

d. 40%

ABC Communications recently completed a 5-for-4 stock split. Prior to the split, its stock price was $70 per share. The firm’s total market value increased by 20% as a result of the split. What was the price of the company’s stock following the stock split?

a. $50.4

b. $61.6

c. $46.2

d. $67.2

Brandi Co. has an unlevered beta of 1.30. The firm currently has no debt, but is considering changing its capital structure to be 30% debt and 70% equity. If its corporate tax rate is 40%, what is Brandi’s levered beta?

a. 1.26

b. 1.38

c. 1.51

d. 1.63

e. 1.75

Brandi Co. has a levered beta of 1.30. The firm currently has 30% debt, but is considering changing its capital structure to be 0% debt and 100% equity. If its corporate tax rate is 40%, what is Brandi’s unlevered beta?

a. 0.80

b. 0.88

c. 0.95

d. 1.03

e. 2.0

Brandi Co. has a beta of 1.00. The firm currently has 30% debt, but is considering changing its capital structure to be 20% debt and 80% equity. If its corporate tax rate is 40%, what is Brandi’s levered beta at 20% debt level?

Hint: First calculate unlevered beta using old capital structure and then calculate levered beta using the new capital structure.

a. 1.19

b. 0.91

c. 1.01

d. 1.75

e. 1.10

On average, a firm purchases $2,000,000 in merchandise a month. It has inventories equal to two month purchases on hand at all times. If the firm analyzes its accounts using a 360-day year, what is the firm’s inventory conversion period?

IC = Inv/Avg. daily purchases

a. 120 days

b. 30.0 days

c. 60 days

d. 15.0 days

e. 7.5 days

Helena Furnishings wants to sharply reduce its cash conversion cycle. Which of the following steps would reduce its cash conversion cycle?

a. Everything else being same, the company decreases its average inventory.

b. Everything else being same, the company increases the credit period provided to customers.

c. Everything else being same, the company pays faster to its suppliers.

d. All of the statements above are correct.

e. None of the statements above are correct.

The Danser Company expects to have sales of $40,000 in January, $40,000 in February, and $40,000 in March. If 25 percent of sales are for cash and get a 10 percent discount, 50 percent are credit sales paid in the month following the sale, and 25 percent are credit sales paid 2 months following the sale, what are the cash receipts from sales in March?

a. $44,000

b. $40,000

c. $36,000

d. $39,000

e. $30,000

The president of Lowell Inc. has asked you to evaluate the proposed acquisition of a new computer. The computer’s price is $60,000, and it falls into the MACRS 3-year class (33% in year 1, 45% in year 2, 15% in year 3, and 7% in year 4). Purchase of the computer would require an increase in net operating working capital of $2,000. The computer would increase the firm’s before-tax revenues by $20,000 per year but would also increase operating costs by $5,000 per year. The computer is expected to be used for 4 years and then be sold for $25,000. The firm’s marginal tax rate is 40 percent, and the project’s cost of capital is 14 percent. What is the net investment required at t = 0?

a. -$42,000

b. -$62,000

c. -$38,600

d. -$37,600

e. -$36,600

The president of Lowell Inc. has asked you to evaluate the proposed acquisition of a new computer. The computer’s price is $60,000, and it falls into the MACRS 3-year class (33% in year 1, 45% in year 2, 15% in year 3, and 7% in year 4). Purchase of the computer would require an increase in net operating working capital of $2,000. The computer would increase the firm’s before-tax revenues by $20,000 per year but would also increase operating costs by $5,000 per year. The computer is expected to be used for 4 years and then be sold for $25,000. The firm’s marginal tax rate is 40 percent, and the project’s cost of capital is 14 percent. What is the operating cash flow in Year 2?

a. $19,800

b. $10,240

c. $11,687

d. $13,453

$16200

The president of Lowell Inc. has asked you to evaluate the proposed acquisition of a new computer. The computer’s price is $60,000, and it falls into the MACRS 3-year class (33% in year 1, 45% in year 2, 15% in year 3, and 7% in year 4). Purchase of the computer would require an increase in net operating working capital of $2,000. The computer would increase the firm’s before-tax revenues by $20,000 per year but would also increase operating costs by $5,000 per year. The computer is expected to be used for 4 years and then be sold for $25,000. The firm’s marginal tax rate is 40 percent, and the project’s cost of capital is 14 percent. What is the total value of the terminal year non-operating cash flows (after-tax salvage value + working capital recovered) at the end of Year 4?

a. $17,000

b. $18,680

c. $21,000

d. $25,000

e. $27,000

The president of Lowell Inc. has asked you to evaluate the proposed acquisition of a new computer. The computer’s price is $60,000, and it falls into the MACRS 3-year class (33% in year 1, 45% in year 2, 15% in year 3, and 7% in year 4). Purchase of the computer would require an increase in net operating working capital of $2,000. The computer would increase the firm’s before-tax revenues by $20,000 per year but would also increase operating costs by $5,000 per year. The computer is expected to be used for 4 years and then be sold for $25,000. The firm’s marginal tax rate is 40 percent, and the project’s cost of capital is 14 percent. What is the project’s NPV?

a. $2,622

b. $2,803

c. $2,917

d. -$7,029

e. -$10,809

When evaluating a new project, the firm should consider all of the following factors except:

a. Changes in working capital attributable to the project.

b. Previous expenditures associated with a market test to determine the feasibility of the project, if the expenditures have been expensed for tax purposes.

c. The current market value of any equipment to be replaced.

d. The resulting difference in depreciation expense if the project involves replacement.

e. All of the statements above should be considered.

The current price of a stock is $50 and the annual risk-free rate is 8 percent. A call option with an exercise price of $55 and one year until expiration has a current value of $7.20. What is the value of a put option (to the nearest dollar) written on the stock with the same exercise price and expiration date as the call option? (Use put-call parity)

a. $9.00

b. $5.00

c. $6.00

d. $7.00

e. $8.00

Deeble Construction Co.’s stock is trading at $30 a share. There are also call options on the company’s stock, some with an exercise price of $25 and some with an exercise price of $35. All options expire in three months. Which of the following best describes the value of these options?

a. The options with the $25 exercise price have an exercise value equal to $5.

b. The options with the $25 exercise price will sell for $5.

c. The options with the $25 exercise price will sell for less than the options with the $35 exercise price.

d. The options with the $35 exercise price have an exercise value greater than $0.

Albright Motors is expected to pay a year-end dividend of $3.00 a share (D1 = $3.00). The stock currently sells for $30 a share. The required (and expected) rate of return on the stock is 17 percent. If the dividend is expected to grow at a constant rate, g, what is g?

a. 5.00%

b. 6.00%

c. 8.00%

d. 9.00%

e. 7.00%

Dabney Electronics currently has no debt. Its operating income (EBIT) is $30 million and its tax rate is 40 percent. It pays out all of its net income as dividends and has a zero growth rate. It has 2.5 million shares of stock outstanding. If it moves to a capital structure that has 40 percent debt and 60 percent equity (based on market values), its investment bankers believe its weighted average cost of capital would be 10 percent. What would its stock price be immediately after issuing debt if it changes to the new capital structure?

(Hint: Find value of the firm after capitalization using Va = FCF1/(WACC-g), and then calculate price of the stock using P0 = [S + (D – D0) ] / n0)

a. $72

b. $90

c. $200

d. $48

e. $60

Which of the following statements about the cost of capital is INCORRECT?

a. A company’s target capital structure affects its weighted average cost of capital.

b. Weighted average cost of capital calculations should be based on the after-tax-costs of all the individual capital components.

c. If a company’s tax rate increases, then, all else equal, its weighted average cost of capital will increase.

d. Flotation costs can increase the cost of preferred stock.

Cartwright Brothers’ stock is currently selling for $40 a share. The stock is expected to pay a $4 dividend at the end of the year. The stock’s dividend is expected to grow at a constant rate of 12 percent a year forever. The risk-free rate (kRF) is 7 percent and the market risk premium (kM – kRF) is 5 percent. What is the stock’s beta?

a. 5.00

b. 1.00

c. 2.00

d. 3.00

e. 4.00

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