Question 1

Which of these is an estimated WACC computed using some sort of proxy for the average equity risk of the projects in a particular division?

Accepted Answer

A)  average WACC 
B)  divisional WACC 
C)  proxy WACC 
D)  pure-play WACC 
A)  average WACC 
B)  divisional WACC 
C)  proxy WACC 
D)  pure-play WACC B

Question 2

Which of these makes this a true statement? The WACC formula

Accepted Answer

A)  is not impacted by taxes. 
B)  uses the after-tax costs of capital to compute the firm's weighted average cost of debt financing. 
C)  uses the pre-tax costs of capital to compute the firm's weighted average cost of debt financing. 
D)  focuses on operating costs only to keep them separate from financing costs. 
A)  is not impacted by taxes. 
B)  uses the after-tax costs of capital to compute the firm's weighted average cost of debt financing. 
C)  uses the pre-tax costs of capital to compute the firm's weighted average cost of debt financing. 
D)  focuses on operating costs only to keep them separate from financing costs. B

Question 3

Any debt and preferred stock components of capital should

Accepted Answer

A)  use project-specific, not firmwide, WACC figures. 
B)  use firmwide, not project-specific, WACC figures. 
C)  use project-specific figures. 
D)  not be issued. 
A)  use project-specific, not firmwide, WACC figures. 
B)  use firmwide, not project-specific, WACC figures. 
C)  use project-specific figures. 
D)  not be issued. B

Question 4

Which of these makes this a true statement? When determining the appropriate weights used in calculating a WACC, it should reflect

Accepted Answer

A)  the relative sizes of the total book capitalizations for each kind of security that the firm issues. 
B)  the relative sizes of the total market capitalizations for each kind of security that the firm issues. 
C)  only the market after-tax cost of debt. 
D)  only the market after-tax cost of equity. 
A)  the relative sizes of the total book capitalizations for each kind of security that the firm issues. 
B)  the relative sizes of the total market capitalizations for each kind of security that the firm issues. 
C)  only the market after-tax cost of debt. 
D)  only the market after-tax cost of equity.

Question 5

Which of the following statements is correct?

Accepted Answer

A)  The flotation-adjusted cost of equity will always be less than the cost of equity that has not been adjusted for flotation costs. 
B)  The flotation-adjusted cost of equity will always be more than the cost of equity that has not been adjusted for flotation costs. 
C)  The flotation-adjusted cost of equity may be more than or less than the cost of equity that has not been adjusted for flotation costs. 
D)  None of these choices are correct. 
A)  The flotation-adjusted cost of equity will always be less than the cost of equity that has not been adjusted for flotation costs. 
B)  The flotation-adjusted cost of equity will always be more than the cost of equity that has not been adjusted for flotation costs. 
C)  The flotation-adjusted cost of equity may be more than or less than the cost of equity that has not been adjusted for flotation costs. 
D)  None of these choices are correct.

Question 6

TAFKAP Industries has 8 million shares of stock outstanding selling at $17 per share and an issue of $20 million in 7.5 percent, annual coupon bonds with a maturity of 15 years, selling at 109 percent of par ($1,000). If TAFKAP's weighted average tax rate is 21% and its cost of equity is 12.5 percent, what is TAFKAP's WACC?

Accepted Answer

A)  11.02 percent 
B)  11.49 percent 
C)  12.16 percent 
D)  12.83 percent 
A)  11.02 percent 
B)  11.49 percent 
C)  12.16 percent 
D)  12.83 percent

Question 7

Why do we use market-value weights instead of book-value weights?

Accepted Answer

A)  Because firms often "window-dress" their financial statements. 
B)  Because we are interested in determining what the cost of financing the firm's assets would be given today's market situation and the component costs the firm currently faces, not what the historical prices would have been. 
C)  Because it is required in the Sarbanes-Oxley regulations. 
D)  None of these choices are correct. 
A)  Because firms often "window-dress" their financial statements. 
B)  Because we are interested in determining what the cost of financing the firm's assets would be given today's market situation and the component costs the firm currently faces, not what the historical prices would have been. 
C)  Because it is required in the Sarbanes-Oxley regulations. 
D)  None of these choices are correct.

Question 8

An all-equity firm is considering the projects shown as follows.
$$\begin{array} { c c } 
\text { Project } & \text { Expected Return } & \text { Beta } \
\text { A } & 9.0 \%&0.7 \
\text { B } & 20.0 \%& 1.1\
\text { C } & 15.0 \%& 1.5\
\text { D } & 18.0 \%&1.9
\end{array}$$
The T-bill rate is 4 percent and the market risk premium is 8 percent. If the firm uses its current WACC of 13 percent to evaluate these projects, which project(s) will be incorrectly accepted?

Accepted Answer

A)  Project A 
B)  Project C 
C)  Project D 
D)  Projects C and D 
A)  Project A 
B)  Project C 
C)  Project D 
D)  Projects C and D

Question 9

Which of the following statements is correct?

Accepted Answer

A)  If a new project is riskier than the firm's existing projects, then it should expect to be "charged" a higher cost of capital than the firm's overall WACC. 
B)  If a new project is riskier than the firm's existing projects, then it should expect to be "charged" a lower cost of capital than the firm's overall WACC. 
C)  The project's risk and the cost of capital to which it is compared are independent. 
D)  None of these choices are correct. 
A)  If a new project is riskier than the firm's existing projects, then it should expect to be "charged" a higher cost of capital than the firm's overall WACC. 
B)  If a new project is riskier than the firm's existing projects, then it should expect to be "charged" a lower cost of capital than the firm's overall WACC. 
C)  The project's risk and the cost of capital to which it is compared are independent. 
D)  None of these choices are correct.

Question 10

The reason that we do not use an after-tax cost of preferred stock is

Accepted Answer

A)  because preferred dividends are paid out of before-tax income. 
B)  because most of the investors in preferred stock do not pay tax on the dividends. 
C)  because we can only estimate the marginal tax rate of the preferred stockholders. 
D)  none of these choices are correct. 
A)  because preferred dividends are paid out of before-tax income. 
B)  because most of the investors in preferred stock do not pay tax on the dividends. 
C)  because we can only estimate the marginal tax rate of the preferred stockholders. 
D)  none of these choices are correct.

Question 11

Suppose that Wave Runners' common shares sell for $35 per share, are expected to set their next annual dividend at $2.00 per share, and that all future dividends are expected to grow by 10 percent per year, indefinitely. If Wave faces a flotation cost of 15 percent on new equity issues, what will be the flotation-adjusted cost of equity?

Accepted Answer

A)  6.73 percent 
B)  10.07 percent 
C)  15.71 percent 
D)  16.72 percent 
A)  6.73 percent 
B)  10.07 percent 
C)  15.71 percent 
D)  16.72 percent

Question 12

ADK Industries common shares sell for $60 per share. ADK expects to set their next annual dividend at $3.75 per share. If ADK expects future dividends to grow at 9 percent per year, indefinitely, the current risk-free rate is 4 percent, the expected rate on the market is 11 percent, and the stock has a beta of 1.5, what should be the best estimate of the firm's cost of equity, by taking an average of the 2 estimates?

Accepted Answer

A)  15.25 percent 
B)  14.50 percent 
C)  14.88 percent 
D)  15.03 percent 
A)  15.25 percent 
B)  14.50 percent 
C)  14.88 percent 
D)  15.03 percent

Question 13

Which of the following statements is correct?

Accepted Answer

A)  The weighted average cost of capital is calculated on a before-tax basis. 
B)  An increase in the market risk premium is likely to increase the weighted average cost of capital. 
C)  The weights of debt and equity should be based on the balance sheet because this is the most accurate assessment of the valuation. 
D)  All of these choices are correct. 
A)  The weighted average cost of capital is calculated on a before-tax basis. 
B)  An increase in the market risk premium is likely to increase the weighted average cost of capital. 
C)  The weights of debt and equity should be based on the balance sheet because this is the most accurate assessment of the valuation. 
D)  All of these choices are correct.

Question 14

Suppose your firm has decided to use a divisional WACC approach to analyze projects. The firm currently has 2 divisions, A and B, with betas for each division of 1.25 and 2.5, respectively. If all current and future projects will be financed with half debt and half equity, and if the current cost of equity (based on an average firm beta of 1.0 and a current risk-free rate of 4 percent) is 12 percent and the after-tax yield on the company's bonds is 8 percent, what are the WACCs for divisions A and B?

Accepted Answer

A)  11.00 percent; 16.00 percent 
B)  15.00 percent; 30.00 percent 
C)  25.00 percent; 30.00 percent 
D)  20.00 percent; 34.00 percent 
A)  11.00 percent; 16.00 percent 
B)  15.00 percent; 30.00 percent 
C)  25.00 percent; 30.00 percent 
D)  20.00 percent; 34.00 percent

Question 15

Johnny Cake Ltd. has 10 million shares of stock outstanding selling at $20 per share and an issue of $50 million in 5.12 percent, annual coupon bonds with a maturity of 13 years, selling at 93.5 percent of par ($1,000). If Johnny Cake's weighted average tax rate is 21 percent, its next dividend is expected to be $2.00 per share, and all future dividends are expected to grow at 5 percent per year, indefinitely, what is its WACC?

Accepted Answer

A)  12.64 percent 
B)  13.27 percent 
C)  13.03 percent 
D)  14.06 percent 
A)  12.64 percent 
B)  13.27 percent 
C)  13.03 percent 
D)  14.06 percent

Question 16

A firm uses only debt and equity in its capital structure. The firm's weight of equity is 35 percent. The firm's cost of equity is 14 percent and it has a tax rate of 21 percent. If the firm's WACC is 11 percent, what is the firm's before-tax cost of debt?

Accepted Answer

A)  11.88 percent 
B)  9.38 percent 
C)  5.50 percent 
D)  −3.00 percent 
A)  11.88 percent 
B)  9.38 percent 
C)  5.50 percent 
D)  −3.00 percent

Question 17

Rings N Things Industries has 40 million shares of common stock outstanding, 20 million shares of preferred stock outstanding, and 50 thousand bonds. If the common shares are selling for $25 per share, the preferred shares are selling for $15 per share, and the bonds are selling for 100 percent of par ($1,000), what would be the weights used in the calculation of Rings' WACC for common stock, preferred stock, and bonds, respectively?

Accepted Answer

A)  33.33 percent, 33.33 percent, 33.33 percent 
B)  74.07 percent, 22.22 percent, 3.71 percent 
C)  66.61 percent, 33.31 percent, 0.08 percent 
D)  17.86 percent, 10.71 percent, 71.43 percent 
A)  33.33 percent, 33.33 percent, 33.33 percent 
B)  74.07 percent, 22.22 percent, 3.71 percent 
C)  66.61 percent, 33.31 percent, 0.08 percent 
D)  17.86 percent, 10.71 percent, 71.43 percent

Question 18

A firm has 1,000,000 shares of common stock outstanding, each with a market price of $10.00 per share. It has 15,000 bonds outstanding, each selling for $900 (with a face value of $1,000). The bonds mature in 15 years, have a coupon rate of 10 percent, and pay coupons annually. The firm's equity has a beta of 1.5, and the expected market return is 20 percent. The tax rate is 21 percent and the WACC is 16 percent. What is the risk-free rate?

Accepted Answer

A)  9.16 percent 
B)  11.4 percent 
C)  4.8 percent 
D)  16.0 percent 
A)  9.16 percent 
B)  11.4 percent 
C)  4.8 percent 
D)  16.0 percent

Question 19

Paper Exchange has 10 million shares of common stock outstanding, 5 million shares of preferred stock outstanding, and 100 thousand bonds. If the common shares are selling for $25 per share, the preferred shares are selling for $10 per share, and the bonds are selling for 98 percent of par, what would be the weight used for preferred stock in the computation of Paper's WACC?

Accepted Answer

A)  12.00 percent 
B)  12.56 percent 
C)  5.00 percent 
D)  3.33 percent 
A)  12.00 percent 
B)  12.56 percent 
C)  5.00 percent 
D)  3.33 percent

Question 20

Which of the following is a situation in which you would want to use the constant-growth model approach for estimating the component cost of equity?

Accepted Answer

A)  when the firm has a low beta 
B)  when the firm has multiple divisions 
C)  when the firm's stock is expected to experience constant dividend growth 
D)  when the firm has a high level of financial leverage 
A)  when the firm has a low beta 
B)  when the firm has multiple divisions 
C)  when the firm's stock is expected to experience constant dividend growth 
D)  when the firm has a high level of financial leverage

Which of these is an estimated WACC computed using some sort of proxy for the average equity risk of the projects in a particular division?

Which of these makes this a true statement? The WACC formula

Any debt and preferred stock components of capital should

Which of these makes this a true statement? When determining the appropriate weights used in calculating a WACC, it should reflect

Which of the following statements is correct?

Why do we use market-value weights instead of book-value weights?

Which of the following statements is correct?

The reason that we do not use an after-tax cost of preferred stock is

Which of the following statements is correct?

A firm uses only debt and equity in its capital structure. The firm's weight of equity is 35 percent. The firm's cost of equity is 14 percent and it has a tax rate of 21 percent. If the firm's WACC is 11 percent, what is the firm's before-tax cost of debt?

Which of the following is a situation in which you would want to use the constant-growth model approach for estimating the component cost of equity?

Introduction to Financial Management

Reviewing Financial Statements

Analyzing Financial Statements

Time Value of Money 1: Analyzing Single Cash Flows

Time Value of Money 2: Analyzing Annuity Cash Flows

Understanding Financial Markets and Institutions

Valuing Bonds

Valuing Stocks

Characterizing Risk and Return

Estimating Risk and Return

Estimating Cash Flows on Capital Budgeting Projects

Weighing Net Present Value and Other Capital Budgeting Criteria

Working Capital Management and Policies

Financial Planning and Forecasting

Assessing Long-Term Debt, Equity, and Capital Structure

Sharing Firm Wealth: Dividends, Share Repurchases, and Other Payouts

Issuing Capital and the Investment Banking Process

International Corporate Finance

Mergers and Acquisitions and Financial Distress

Filters

Exam 11: Calculating the Cost of Capital

Which of these is an estimated WACC computed using some sort of proxy for the average equity risk of the projects in a particular division?

Which of these makes this a true statement? The WACC formula

Any debt and preferred stock components of capital should

Which of these makes this a true statement? When determining the appropriate weights used in calculating a WACC, it should reflect

Which of the following statements is correct?

Why do we use market-value weights instead of book-value weights?

Which of the following statements is correct?

The reason that we do not use an after-tax cost of preferred stock is

Which of the following statements is correct?

A firm uses only debt and equity in its capital structure. The firm's weight of equity is 35 percent. The firm's cost of equity is 14 percent and it has a tax rate of 21 percent. If the firm's WACC is 11 percent, what is the firm's before-tax cost of debt?

Which of the following is a situation in which you would want to use the constant-growth model approach for estimating the component cost of equity?

Introduction to Financial Management

Reviewing Financial Statements

Analyzing Financial Statements

Time Value of Money 1: Analyzing Single Cash Flows

Time Value of Money 2: Analyzing Annuity Cash Flows

Understanding Financial Markets and Institutions

Valuing Bonds

Valuing Stocks

Characterizing Risk and Return

Estimating Risk and Return

Estimating Cash Flows on Capital Budgeting Projects

Weighing Net Present Value and Other Capital Budgeting Criteria

Working Capital Management and Policies

Financial Planning and Forecasting

Assessing Long-Term Debt, Equity, and Capital Structure

Sharing Firm Wealth: Dividends, Share Repurchases, and Other Payouts

Issuing Capital and the Investment Banking Process

International Corporate Finance

Mergers and Acquisitions and Financial Distress

Filters