Question 1

Because the market equity beta reflects the level of operating leverage, financial leverage, variability of sales, and other characteristics of a firm, there are situations where an analyst might have to adjust the beta because of changes in the capital structure. A situation that might require an analyst to estimate a new levered beta is a ___________________________________.

Accepted Answer

The answer of Because the market equity beta reflects the...

Question 2

The following data pertains to Zonk Corp., a manufacturer of ball bearings (dollar amounts in millions):
$\begin{array}{llcc}
  \text { Total assets } &\$6,840  \
 \text { Interest-beaning debt } &\$3,562\
 \text {  Average pre-tax borrowing cost} &11.59\%\
 \text {Common equity:  } &\
 \text { Book value } &\$2,560\
 \text { Market value } &\$12,850\
\text { Income tax rate } &35\%\
 \text {Market equity beta  } &1.24\
\end{array}$
-
 Assuming that riskless rate is 4.2% and the market premium is 6.2% calculate Zonk's cost of equity capital:

Accepted Answer

A)  10.4% 
B)  7.69% 
C)  11.89% 
D)  2.0%

Question 3

The following data pertain to Loren Corporation (dollar amounts in thousands):
 $\begin{array}{lc}
\text { Total Assets } & \$ 10,254 \
\text { Interest-Bearing Debt } & \$ 1,257 \
\text { Average Pre-tax borrowing cost } & 9.20 \% \
\text { Common Equity: } & \
\text { Book Value } & \$ 5,624 \
\text { Market Value } & \$ 21,479 \
\text { Income Tax Rate } & 32 \% \
\text { Market Equity Beta } & 1.56 \
\text { Riskless interest rate } & 3.8 \% \
\text { Market risk premium } & 6.5 \%
\end{array}$
 Using this information, calculate the following:
 a. Loren Corporation's cost of equity capital
b. The weight on debt capital that should be used to calculate Loren's weightech-average cost of capital.
c. Loren Corporation'sweighted-average cost of capital

Accepted Answer

The answer of The following data pertain to Loren Corporation...

Question 4

Explain the theory behind the dividends valuation approach. Why are dividends value-relevant to common equity shareholders?

Accepted Answer

The answer of Explain the theory behind the dividends valuation...

Question 5

Implementing a dividend valuation model to determine the value of the common shareholders' equity requires an analyst to measure three elements. What are the three elements that the analyst needs to measure?

Accepted Answer

The answer of Implementing a dividend valuation model to determine...

Question 6

For each of the following companies, determine the total dividends paid to common equity holders in order to value the firm:
 $\begin{array}{llll}
&&\underline{\text { Company}}&\
\text { (amounts in thousands) } &\underline{\text { Adam }} &\underline{\text { Baxter }} & \underline{\text { Cooper }} \
\text { Dividends Paid to Common Shareholders } &  \$ 124 & \$2,134&\$325 \
\
\text { Common Stock Repurchases } & \$ 412 & \$ 140 & \$ 1,247\
\
\text { Common Stock Issued} &\$95 &\$1,985 &\$145 
\end{array}$

Accepted Answer

The answer of For each of the following companies, determine...

Question 7

One criticism in using the CAPM to calculate the cost of equity capital is that ______________________________ and the __________________________________________________ are quite sensitive to the time period and methodology used in their computation.

Accepted Answer

The answer of One criticism in using the CAPM to...

Question 8

Firm-specific factors that increase the firm's nondiversifiable risk include all of the following except:

Accepted Answer

A)  exposure to interest rate changes 
B)  exposure to inflation 
C)  exposure to management competence 
D)  exposure to cyclicality

Question 9

The historical discount rate of the firm may be a good indicator of the appropriate discount rate to apply to the firm in the future, when all of the following conditions hold true except:

Accepted Answer

A)  The current risk of the firm is the same as the expected future risk of the firm. 
B)  Expected future interest rates are likely to equal current interest rates. 
C)  The existing capital structure of the firm is the same as the expected future capital structure of the firm. 
D)  The current mix of debt and equity financing is equal.

Question 10

Which of the following is not a problem with using a dividend-based valuation formula

Accepted Answer

A)  dividends are arbitrarily established 
B)  dividends represent a transfer of wealth to shareholders 
C)  some firms do not pay a regular periodic dividend 
D)  it is a challenge to forecast the final liquidating dividend

Question 11

Bridgetron
An analyst wants to value the sum of the debt and equity capital of the firm and is provided with the following information:
 $\begin{array}{llcc}
  \text { Total assets } &\$25,675  \
 \text {Interest-Bearing Debt } &\$18,525\
 \text { Average pre-tax borrowing cost } &9.25\%\
 \text {Common equity.  } &\
 \text { Book value } &\$8,950\
 \text { Market value } &\$34,956\
 \text {  Income tax Rate} &35\%\
 \text {  Market Equity Beta}&1.05 \
\text { Risk-free Rate }&3.8\%\
 \text {Market Premium  } &5.7\%
\end{array}$

An analyst wants to value the common shareholders' equity of Bridgetron, compute the relevant cost of capital that should be used.

Accepted Answer

The answer of Bridgetron
An analyst wants to value the sum...

Question 12

Returns on systematic risk-free securities (like U.S. Treasury securities) should exhibit what type of correlation with returns on a diversified marketwide portfolio of stocks?

Accepted Answer

A)  nearly perfect correlation. 
B)  perfect correlation. 
C)  no correlation. 
D)  Unable to tell without specifics about the portfolio.

Exam 11: Risk-Adjusted Expected Rates of Return and the Dividends Valuation Approach