FIN 534 Final Exam Answers Week 11 (2018)

FIN 534 Final Exam Answers Week
11 (2018)
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FIN 534 Final Exam Answers Week 11 (2018)
1. Which of the following statements is CORRECT?
2. Which of the following statements is most correct, holding other things constant, for XYZ Corporation's
traded call options?
3. The current price of a stock is $50, the annual risk-free rate is 6%, and a 1-year call option with a strike
price of $55 sells for $7.20. What is the value of a put option, assuming the same strike price and expiration
date as for the call option?
4. Suppose Acme Industries correctly estimates its WACC at a given point in time and then uses that same
cost of capital to evaluate all projects for the next 10 years, then the firm will most likely
5. Which of the following statements is CORRECT?
6. Which of the following statements is CORRECT?
7. Projects A and B are mutually exclusive and have normal cash flows. Project A has an IRR of 15% and
B's IRR is 20%. The company's cost of capital is 12%, and at that rate Project A has the higher NPV. Which of
the following statements is CORRECT?
8. The cost of capital for two mutually exclusive projects that are being considered is 12%. Project K has
an IRR of 20% while Project R's IRR is 15%. The projects have the same NPV at the 12% current cost of
capital. Interest rates are currently high. However, you believe that money costs and thus your cost of capital
will soon decline. You also think that the projects will not be funded until the cost of capital has decreased, and
their cash flows will not be affected by the change in economic conditions. Under these conditions, which of the
following statements is CORRECT?
9. Martin Manufacturing is considering two normal, equally risky, mutually exclusive, but not repeatable
projects. Martin's cost of capital is 10%. The two projects have the same investment costs, but Project A has an
IRR of 15%, while Project B has an IRR of 20%. Assuming the projects' NPV profiles cross in the upper right
quadrant, which of the following statements is CORRECT?
10. Sylvester Media is analyzing an average-risk project, and the following data have been developed. Unit
sales will be constant, but the sales price should increase with inflation. Fixed costs will also be constant, but
variable costs should rise with inflation. The project should last for 3 years, it will be depreciated on a straightline
basis, and there will be no salvage value. This is just one of many projects for the firm, so any losses can
be used to offset gains on other firm projects. The marketing manager does not think it is necessary to adjust
for inflation since both the sales price and the variable costs will rise at the same rate, but the CFO thinks an
adjustment is required. What is the difference in the expected NPV if the inflation adjustment is made vs. if it is
not made?
11. A firm is considering a new project whose risk is greater than the risk of the firm's average project,
based on all methods for assessing risk. In evaluating this project, it would be reasonable for management to
do which of the following?
12. Which of the following procedures best accounts for the relative risk of a proposed project?
13. Weber Interstate Paving Co. had $450 million of sales and $225 million of fixed assets last year, so its
FA/Sales ratio was 50%. However, its fixed assets were used at only 65% of capacity. If the company had
been able to sell off enough of its fixed assets at book value so that it was operating at full capacity, with sales
held constant at $450 million, how much cash (in millions) would it have generated?
14. The capital intensity ratio is generally defined as follows:

15. You have been asked to forecast the additional funds needed (AFN) for Houston, Hargrove, &
Worthington (HHW), which is planning its operation for the coming year. The firm is operating at full capacity.
Data for use in the forecast are shown below. However, the CEO is concerned about the impact of a change in
the payout ratio from the 10% that was used in the past to 50%, which the firm's investment bankers have
recommended. Based on the AFN equation, by how much would the AFN for the coming year change if HHW
increased the payout from 10% to the new and higher level? All dollars are in millions.
16. Which of the following is NOT normally regarded as being a barrier to hostile takeovers?
17. Sanchez Company has planned capital expenditures that total $2,000,000. The company wants to
maintain a target capital structure that is 35% debt and 65% equity. The company forecasts that its net income
this year will be $1,800,000. If the company follows a residual dividend policy, what will be its total dividend
payment?
18. The following data apply to Elizabeth's Electrical Equipment:
19. The Meltzer Corporation is contemplating a 7-for-3 stock split. The current stock price is $75.00 per
share, and the firm believes that its total market value would increase by 5% as a result of the improved
liquidity that it thinks would follow the split. What is the stock's expected price following the split?
20. After an intensive research and development effort, two methods for producing playing cards have
been identified by the Turner Company. One method involves using a machine having a fixed cost of $10,000
and variable costs of $1.00 per deck of cards. The other method would use a less expensive machine (fixed
cost = $5,000), but it would require greater variable costs ($1.50 per deck of cards). If the selling price per deck
of cards will be the same under each method, at what level of output will the two methods produce the same
net operating income (EBIT)?
21. Which of the following statements is CORRECT?
22. The Anson Jackson Court Company (AJC) currently has $200,000 market value (and book value) of
perpetual debt outstanding carrying a coupon rate of 6%. Its earnings before interest and taxes (EBIT) are
$100,000, and it is a zero growth company. AJC's current cost of equity is 8.8%, and its tax rate is 40%. The
firm has 10,000 shares of common stock outstanding selling at a price per share of $60.00.
23. Eccles Inc., a zero growth firm, has an expected EBIT of $100,000 and a corporate tax rate of 30%.
Eccles uses $500,000 of 12.0% debt, and the cost of equity to an unlevered firm in the same risk class is
16.0%.
24. Which of the following is NOT commonly regarded as being a credit policy variable?
25. Other things held constant, which of the following would tend to reduce the cash conversion cycle?
26. Which of the following statements is CORRECT?
27. If the inflation rate in the United States is greater than the inflation rate in Britain, other things held
constant, the British pound will
28. A U.S.-based company, Stewart, Inc., arranged a 2-year, $1,000,000 loan to fund a project in Mexico.
The loan is denominated in Mexican pesos, carries a 10.0% nominal rate, and requires equal semiannual
payments. The exchange rate at the time of the loan was 5.75 pesos per dollar, but it dropped to 5.10 pesos
per dollar before the first payment came due. The loan was not hedged in the foreign exchange market. Thus,
Stewart must convert U.S. funds to Mexican pesos to make its payments. If the exchange rate remains at 5.10
pesos per dollar through the end of the loan period, what effective interest rate will Stewart end up paying on
the loan?
29. Suppose a foreign investor who holds tax-exempt Eurobonds paying 9% is considering investing in an
equivalent-risk domestic bond in a country with a 28% withholding tax on interest paid to foreigners. If 9% aftertax
is the investor's required return, what before-tax rate would the domestic bond need to pay to provide the
required after-tax return?
30. Suppose the exchange rate between U.S. dollars and Swiss francs is SF 1.41 = $1.00, and the
exchange rate between the U.S. dollar and the euro is $1.00 = 1.64 euros. What is the cross-rate of Swiss
francs to euros?