Question 1

When calculating the WACC,it is standard practice to subtract ________ to compute the net debt outstanding.

Accepted Answer

A) equity 
B) dividends 
C) cash and risk-free securities 
D) coupons 
E) risk-free interest rate 
A) equity 
B) dividends 
C) cash and risk-free securities 
D) coupons 
E) risk-free interest rate C

Question 2

An all-equity firm produced a dividend flow of $40,000 last year.The market value of the firm is $800,000 and the dividend is expected to increase at 5% each year.What is the cost of equity capital for this firm?

Accepted Answer

A) 9.18% 
B) 9.75% 
C) 10.25% 
D) 11.89% 
E) 12.05% 
A) 9.18% 
B) 9.75% 
C) 10.25% 
D) 11.89% 
E) 12.05% C

Question 3

Internal financing is more costly than external financing because of issuance costs.

Accepted Answer

A) True 
 B)False  False

Question 4

SAP Inc.received a $2 million grant under its Small Business Innovation program.SAP invested the grant money and developed a system to remove metal contaminants from storm water in shipyards.The firm estimates that each shipyard spends $600,000 a year on storm water clean-up efforts.If SAP is able to sign up and retain four shipyards from the first year onwards,what is the present value (PV)of the project (net of investment)if the cost of capital for SAP is 15% per year? Assume a cost of operations and other costs for SAP equal 40% of revenue.

Accepted Answer

A) $6.3 million 
B) $6.7 million 
C) $7.6 million 
D) $7.9 million 
E) $8.3 million 
A) $6.3 million 
B) $6.7 million 
C) $7.6 million 
D) $7.9 million 
E) $8.3 million

Question 5

The book value of equity of a firm is $100 million and the market value of equity is $200 million.The face value of debt of the firm is $50 million and the market value of debt is $60 million.What is the market value of assets of the firm?

Accepted Answer

A) $150 million 
B) $160 million 
C) $260 million 
D) $250 million 
E) $110 million 
A) $150 million 
B) $160 million 
C) $260 million 
D) $250 million 
E) $110 million

Question 6

A firm has outstanding debt paying annual coupons,with a coupon rate of 10%,and 8 years to maturity.The firm's bonds are currently trading at a price of $875.50 per $1000 face value.What is the firm's cost of debt if it has a tax rate of 25%?

Accepted Answer

A) 7.5% 
B) 10% 
C) 9.4% 
D) 12.6% 
E) 11.2% 
A) 7.5% 
B) 10% 
C) 9.4% 
D) 12.6% 
E) 11.2%

Question 7

Lululemon Athletica has a current share price of $52.50,and a market capitalization of $7 billion.The company is expected to pay a dividend of $0.20 per share,with a dividend growth rate of 3% per year.The firm has $4 billion of debt with a yield to maturity of 7%.If the firm's tax rate is 25%,what is Lululemon's WACC?

Accepted Answer

A) 4.07% 
B) 4.33% 
C) 3.82% 
D) 4.71% 
E) 3.94% 
A) 4.07% 
B) 4.33% 
C) 3.82% 
D) 4.71% 
E) 3.94%

Question 8

The outstanding debt of Berstin Corp.has ten years to maturity,a current yield of 7%,and a price of $95.Assume the debt has a face value of $100.What is the pretax cost of debt if the tax rate is 30%.

Accepted Answer

A) 4.9% 
B) 6.5% 
C) 7.0% 
D) 7.37% 
E) 8.15% 
A) 4.9% 
B) 6.5% 
C) 7.0% 
D) 7.37% 
E) 8.15%

Question 9

Epiphany is an all-equity firm with an estimated market value of $300,000.The firm sells $100,000 of debt and uses the proceeds to purchase outstanding equity.Compute the weight in equity and the weight in debt after the proposed financing and repurchase of equity.

Accepted Answer

A) 0.2,0.8 
B) 0.25,0.75 
C) 0.67,0.33 
D) 0.5,0.5 
E) 0.75,0.25 
A) 0.2,0.8 
B) 0.25,0.75 
C) 0.67,0.33 
D) 0.5,0.5 
E) 0.75,0.25

Question 10

Your estimate of the market risk premium is 6%.The risk-free rate of return is 5% and General Motors has a beta of 1.2.What is General Motors' cost of equity capital?

Accepted Answer

A) 12.2% 
B) 11.8% 
C) 12.9% 
D) 11.4% 
E) 10.8% 
A) 12.2% 
B) 11.8% 
C) 12.9% 
D) 11.4% 
E) 10.8%

Question 11

To attract capital from outside investors,a firm must offer potential investors an expected return that is commensurate with the level of risk that they can bear.

Accepted Answer

A) True 
 B)False

Question 12

The firm's overall cost of capital that is a blend of the costs of the different sources of capital is known as the firm's:

Accepted Answer

A) weighted average cost of capital. 
B) cost of equity infusion. 
C) cost of debt. 
D) cost of preferred stock. 
E) cost of financing. 
A) weighted average cost of capital. 
B) cost of equity infusion. 
C) cost of debt. 
D) cost of preferred stock. 
E) cost of financing.

Question 13

Ford Motor Company is discussing new ways to recapitalize the firm and raise additional capital.Its current capital structure has a 10% weight in equity,20% in preferred stock,and 70% in debt.The cost of equity capital is 15%,the cost of preferred stock is 10%,and the pretax cost of debt is 8%.What is the weighted average cost of capital for Ford if its marginal tax rate is 30%?

Accepted Answer

A) 7.01% 
B) 7.42% 
C) 7.98% 
D) 8.01% 
E) 8.73% 
A) 7.01% 
B) 7.42% 
C) 7.98% 
D) 8.01% 
E) 8.73%

Question 14

Garwood Garages will pay a dividend of $2.55 next year,and expects its dividends to grow at 3% per year.The current price of Garwood stock is $18.25 per share.What is Garwood's cost of equity?

Accepted Answer

A) 17% 
B) 14% 
C) 15% 
D) 13% 
E) 20% 
A) 17% 
B) 14% 
C) 15% 
D) 13% 
E) 20%

Question 15

Why do we use leverage if it increases the risk of a firm?

Accepted Answer

For a particular firm,the cost of debt i

Question 16

Holding everything else constant,an increase in cash ________ the firm's net debt.

Accepted Answer

A) will decrease 
B) will have no impact on 
C) will increase 
D) may increase or decrease 
E) will not change 
A) will decrease 
B) will have no impact on 
C) will increase 
D) may increase or decrease 
E) will not change

Question 17

When we use the WACC to assess a project,we assume that the ________ ratio does not change.

Accepted Answer

A) reward to systematic risk 
B) risk to reward 
C) debt to equity 
D) volatility to systematic risk 
E) current 
A) reward to systematic risk 
B) risk to reward 
C) debt to equity 
D) volatility to systematic risk 
E) current

Question 18

Portentious Door Company has outstanding corporate debt paying a 5% semiannual coupon,with a current yield to maturity of 6%.If the firm's tax rate is 15%,what is its effective cost of debt?

Accepted Answer

A) 5% 
B) 4.25% 
C) 5.1% 
D) 6% 
E) 5.5% 
A) 5% 
B) 4.25% 
C) 5.1% 
D) 6% 
E) 5.5%

Question 19

One should use accounting-based book values rather than market values of debt and equity to determine the weights for the different sources of capital.

Accepted Answer

A) True 
 B)False

Question 20

Verano Inc.has two business divisions-a software product line and a waste water clean-up product line.The software business has a cost of equity capital of 10% and the waste water clean-up business has a cost of equity capital of 7%.Verano has 50% of its revenue from software and the rest from the waste water business.Verano is considering a purchase of another company in the waste water business using equity financing.What is the appropriate cost of capital to evaluate the business?

Accepted Answer

A) 10% 
B) 7% 
C) 8.5% 
D) 9% 
E) 6.5% 
A) 10% 
B) 7% 
C) 8.5% 
D) 9% 
E) 6.5%

Exam 12: Determining the Cost of Capital

When calculating the WACC,it is standard practice to subtract ________ to compute the net debt outstanding.

An all-equity firm produced a dividend flow of $40,000 last year.The market value of the firm is $800,000 and the dividend is expected to increase at 5% each year.What is the cost of equity capital for this firm?

Internal financing is more costly than external financing because of issuance costs.

The book value of equity of a firm is $100 million and the market value of equity is $200 million.The face value of debt of the firm is $50 million and the market value of debt is $60 million.What is the market value of assets of the firm?

A firm has outstanding debt paying annual coupons,with a coupon rate of 10%,and 8 years to maturity.The firm's bonds are currently trading at a price of $875.50 per $1000 face value.What is the firm's cost of debt if it has a tax rate of 25%?

The outstanding debt of Berstin Corp.has ten years to maturity,a current yield of 7%,and a price of $95.Assume the debt has a face value of $100.What is the pretax cost of debt if the tax rate is 30%.

Epiphany is an all-equity firm with an estimated market value of $300,000.The firm sells $100,000 of debt and uses the proceeds to purchase outstanding equity.Compute the weight in equity and the weight in debt after the proposed financing and repurchase of equity.

Your estimate of the market risk premium is 6%.The risk-free rate of return is 5% and General Motors has a beta of 1.2.What is General Motors' cost of equity capital?

To attract capital from outside investors,a firm must offer potential investors an expected return that is commensurate with the level of risk that they can bear.

The firm's overall cost of capital that is a blend of the costs of the different sources of capital is known as the firm's:

Garwood Garages will pay a dividend of $2.55 next year,and expects its dividends to grow at 3% per year.The current price of Garwood stock is $18.25 per share.What is Garwood's cost of equity?

Why do we use leverage if it increases the risk of a firm?

Holding everything else constant,an increase in cash ________ the firm's net debt.

When we use the WACC to assess a project,we assume that the ________ ratio does not change.

Portentious Door Company has outstanding corporate debt paying a 5% semiannual coupon,with a current yield to maturity of 6%.If the firm's tax rate is 15%,what is its effective cost of debt?

One should use accounting-based book values rather than market values of debt and equity to determine the weights for the different sources of capital.

Corporate Finance and the Financial Manager

Introduction to Financial Statement Analysis

The Valuation Principle: the Foundation of Financial Decision Making

The Time Value of Money

Interest Rates

Bonds

Valuing Stocks

Investment Decision Rules

Fundamentals of Capital Budgeting

Risk and Return in Capital Markets

Systematic Risk and the Equity Risk Premium

Risk and the Pricing of Options

Raising Equity Capital

Debt Financing

Capital Structure

Payout Policy

Financial Modelling and Pro Forma Analysis

Working Capital Management

Short-Term Financial Planning

Risk Management

International Corporate Finance

Leasing

Mergers and Acquisitions

Corporate Governance

Filters