Question 1

Which approach incorporates risk by adjusting the cash flows rather than the discount rate?

Accepted Answer

A) The RADR approach. 
B) The Capital equivalent approach. 
C) The certainty approach. 
D) The certainty equivalent approach. 
A) The RADR approach. 
B) The Capital equivalent approach. 
C) The certainty approach. 
D) The certainty equivalent approach. D

Question 2

In the calculation of WACC,each of the debt and equity securities is weighted according to its ___________ values.

Accepted Answer

marke t

Question 3

The _____________________ approach is considered the superior method of risk adjustment where the risk per unit of time is not constant.

Accepted Answer

certainty-e quivalent

Question 4

Given that a company's net operating cash flows are $2 million in perpetuity and the market value of capital is $10 million,what is the company's cost of capital?

Accepted Answer

A) 20% 
B) 15% 
C) 5% 
D) 25% 
A) 20% 
B) 15% 
C) 5% 
D) 25%

Question 5

Issue costs should be included in the calculation of cost of capital.

Accepted Answer

A) True 
 B)False

Question 6

Given that shares have an expected dividend stream of 10 cents in perpetuity and that the current market price of the shares is $2.40,calculate the cost of equity capital of these shares.

Accepted Answer

A) 8% 
B) 12% 
C) 10% 
D) 4.2% 
A) 8% 
B) 12% 
C) 10% 
D) 4.2%

Question 7

The certainty equivalent net cash flow can be defined as:

Accepted Answer

A) the net cash flow obtained from an equal investment in a government security. 
B) the NPV of a project whereby the cost of capital is adjusted by a 'no risk' factor. 
C) the NPV of a project whereby cash flows are discounted by the risk-free rate of interest. 
D) the smallest certain cash flow that a decision maker would be prepared to accept in exchange for the expected risky cash flow. 
A) the net cash flow obtained from an equal investment in a government security. 
B) the NPV of a project whereby the cost of capital is adjusted by a 'no risk' factor. 
C) the NPV of a project whereby cash flows are discounted by the risk-free rate of interest. 
D) the smallest certain cash flow that a decision maker would be prepared to accept in exchange for the expected risky cash flow.

Question 8

The shares of ABC Ltd have a market price of $4 and an annual dividend of 17.5 cents per share fully franked at the tax rate of 30 per cent.Calculate the dividend yield after company tax but before personal tax.

Accepted Answer

A) 16% 
B) 2.56% 
C) 6.25% 
D) Cannot be calculated as not enough information is provided. 
A) 16% 
B) 2.56% 
C) 6.25% 
D) Cannot be calculated as not enough information is provided.

Question 9

How are company taxes treated in estimating cash flows for a project?

Accepted Answer

A) They are ignored. 
B) They are treated as cash inflows. 
C) They are treated as cash outflows. 
D) None of the given options. 
A) They are ignored. 
B) They are treated as cash inflows. 
C) They are treated as cash outflows. 
D) None of the given options.

Question 10

The Income Tax Assessment Act allows:

Accepted Answer

A) three methods of calculating depreciation. 
B) four methods of calculating depreciation. 
C) two methods of calculating depreciation. 
D) many methods of calculating depreciation. 
A) three methods of calculating depreciation. 
B) four methods of calculating depreciation. 
C) two methods of calculating depreciation. 
D) many methods of calculating depreciation.

Question 11

Which of the following statements about the certainty equivalent approach to project evaluation is false?

Accepted Answer

A) Risk is incorporated into the analysis by adjusting cash flows rather than the discount rate. 
B) Risk is incorporated into the analysis by adjusting the discount rate rather than cash flows. 
C) Its use is only valid for projects with cash flows considered to be almost certain. 
D) Its use is only valid for cash flows such as government bonds. 
A) Risk is incorporated into the analysis by adjusting cash flows rather than the discount rate. 
B) Risk is incorporated into the analysis by adjusting the discount rate rather than cash flows. 
C) Its use is only valid for projects with cash flows considered to be almost certain. 
D) Its use is only valid for cash flows such as government bonds.

Question 12

Which of the following statements describes a limitation of the WACC approach?

Accepted Answer

A) The WACC approach can give misleading results if it is used to analyse investment decisions rather than financing decisions. 
B) There is no consensus on the taxation issues surrounding the inclusion of strategic options in the WACC approach,which can lead to incorrect inferences. 
C) Has no practical application. 
D) Can only be used directly for the whole company and to evaluate new projects that are identical to the company's existing operations. 
A) The WACC approach can give misleading results if it is used to analyse investment decisions rather than financing decisions. 
B) There is no consensus on the taxation issues surrounding the inclusion of strategic options in the WACC approach,which can lead to incorrect inferences. 
C) Has no practical application. 
D) Can only be used directly for the whole company and to evaluate new projects that are identical to the company's existing operations.

Question 13

If a company has on issue debentures paying a coupon rate of 12% p.a.and the market yield on similar securities is 18 per cent,what is the correct cost of debt the company should use when estimating the WACC?

Accepted Answer

A) None of the given options. 
B) 15% 
C) 12% 
D) 18% 
A) None of the given options. 
B) 15% 
C) 12% 
D) 18%

Question 14

Each project should be evaluated using its own cost of capital because:

Accepted Answer

A) of the effectiveness of the capital market in providing opportunities for investors to diversify. 
B) diversification by a company creates value for companies. 
C) risk of cash flows generated from a project depends upon the entire operations of a company. 
D) beta values are readily available on a project-by-project basis. 
A) of the effectiveness of the capital market in providing opportunities for investors to diversify. 
B) diversification by a company creates value for companies. 
C) risk of cash flows generated from a project depends upon the entire operations of a company. 
D) beta values are readily available on a project-by-project basis.

Question 15

Share prices of companies paying franked dividends:

Accepted Answer

A) should have increased since the introduction of dividend imputation because overseas residents would have sold this type of shares. 
B) should have increased since the introduction of dividend imputation because they have become more attractive to Australian investors. 
C) have not changed as a result of imputation. 
D) should have decreased since the introduction of dividend imputation because overseas residents are unable to use franking credits. 
A) should have increased since the introduction of dividend imputation because overseas residents would have sold this type of shares. 
B) should have increased since the introduction of dividend imputation because they have become more attractive to Australian investors. 
C) have not changed as a result of imputation. 
D) should have decreased since the introduction of dividend imputation because overseas residents are unable to use franking credits.

Question 16

A problem with estimating the cost of capital for a project using the CAPM derived from market data is that:

Accepted Answer

A) the estimate for standard deviation is not obtainable. 
B) a value for the risk-free rate of interest is not available. 
C) it is not possible to estimate systematic risk from market data. 
D) individual investment projects are not traded on a stock exchange. 
A) the estimate for standard deviation is not obtainable. 
B) a value for the risk-free rate of interest is not available. 
C) it is not possible to estimate systematic risk from market data. 
D) individual investment projects are not traded on a stock exchange.

Question 17

Calculate the weighted average cost of preference shares and ordinary shares if there are: 1 million preference shares with market value of $2.50 each and an opportunity cost of 10.8%;10 million ordinary shares with market value of $4.50 each and an opportunity cost of 16.5%.

Accepted Answer

A) 15.4% 
B) 16.9% 
C) 16.2% 
D) None of the given options. 
A) 15.4% 
B) 16.9% 
C) 16.2% 
D) None of the given options.

Question 18

The direct use of the CAPM is the best method to estimate the cost of capital.

Accepted Answer

A) True 
 B)False

Question 19

If the reducing balance method is used the allowable depreciation rate is generally:

Accepted Answer

A) two times the straight-line rate. 
B) 2.5 times the straight-line rate. 
C) three times the straight-line rate. 
D) 1.5 times the straight-line rate. 
A) two times the straight-line rate. 
B) 2.5 times the straight-line rate. 
C) three times the straight-line rate. 
D) 1.5 times the straight-line rate.

Question 20

During the year,Success Ltd shares have increased from $8 to $9 and shareholders received a final dividend of 50 cents per share,fully franked at the company tax rate of 30 per cent.Using the information above,calculate the dividend yield after company tax but before personal tax (using the beginning of the year share price)on Success shares.

Accepted Answer

A) 13.89% 
B) 7.94% 
C) 6.25% 
D) 8.93% 
A) 13.89% 
B) 7.94% 
C) 6.25% 
D) 8.93%

Exam 14: The Cost of Capital and Taxation Issues in Project Evaluation

Which approach incorporates risk by adjusting the cash flows rather than the discount rate?

In the calculation of WACC,each of the debt and equity securities is weighted according to its ___________ values.

The _____________________ approach is considered the superior method of risk adjustment where the risk per unit of time is not constant.

Given that a company's net operating cash flows are $2 million in perpetuity and the market value of capital is $10 million,what is the company's cost of capital?

Issue costs should be included in the calculation of cost of capital.

Given that shares have an expected dividend stream of 10 cents in perpetuity and that the current market price of the shares is $2.40,calculate the cost of equity capital of these shares.

The certainty equivalent net cash flow can be defined as:

The shares of ABC Ltd have a market price of $4 and an annual dividend of 17.5 cents per share fully franked at the tax rate of 30 per cent.Calculate the dividend yield after company tax but before personal tax.

How are company taxes treated in estimating cash flows for a project?

The Income Tax Assessment Act allows:

Which of the following statements about the certainty equivalent approach to project evaluation is false?

Which of the following statements describes a limitation of the WACC approach?

If a company has on issue debentures paying a coupon rate of 12% p.a.and the market yield on similar securities is 18 per cent,what is the correct cost of debt the company should use when estimating the WACC?

Each project should be evaluated using its own cost of capital because:

Share prices of companies paying franked dividends:

A problem with estimating the cost of capital for a project using the CAPM derived from market data is that:

Calculate the weighted average cost of preference shares and ordinary shares if there are: 1 million preference shares with market value of $2.50 each and an opportunity cost of 10.8%;10 million ordinary shares with market value of $4.50 each and an opportunity cost of 16.5%.

The direct use of the CAPM is the best method to estimate the cost of capital.

If the reducing balance method is used the allowable depreciation rate is generally:

Introduction

Consumption, Investment and the Capital Market

The Time Value of Money: An Introduction to Financial Mathematics

Applying the Time Value of Money to Security Valuation

Project Evaluation: Principles and Methods

The Application of Project Evaluation Methods

Risk and Return

The Capital Market

Sources of Finance: Equity

Sources of Finance: Debt

Payout Policy

Principles of Capital Structure

Capital Structure Decisions

Leasing and Other Equipment Finance

Capital Market Efficiency

Futures Contracts

Options and Contingent Claims

Analysis of Takeovers

International Financial Management

Management of Short-Term Assets: Inventory

Management of Short-Term Assets: Liquid Assets and Accounts Receivable

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