Question 1

Sports Corp. has 10 million shares of common stock outstanding, 5 million shares of preferred stock outstanding, and 1 million bonds. If the common shares are selling for $25 per share, the preferred shares are selling for $12.50 per share, and the bonds are selling for 97 percent of par, what would be the weight used for common stock in the computation of Sports' WACC?

Accepted Answer

A)  18.59 percent 
B)  19.49 percent 
C)  62.50 percent 
D)  79.75 percent

Question 2

PAW Industries has 5 million shares of common stock outstanding with a market price of $8.00 per share and par value of $1 per share. The company also has outstanding preferred stock with a market value of $10 million, and 100,000 bonds outstanding, each with face value $1,000 and selling at 96 percent of par value. The cost of common stock is 19 percent, the cost of preferred stock is 15 percent, and the cost of debt is 9 percent. All costs are given at the before-tax level. If PAW's tax rate is 21 percent, what is the WACC?

Accepted Answer

A)  10.91 percent 
B)  10.38 percent 
C)  12.51 percent 
D)  14.33 percent

Question 3

Which of these are fees paid by firms to investment bankers for issuing new securities?

Accepted Answer

A)  flotation costs 
B)  interest expense 
C)  seller financing charges 
D)  user fees

Question 4

Suppose that TNT, Inc. has a capital structure of 43 percent equity, 23 percent preferred stock, and 34 percent debt. If the after-tax component costs of equity, preferred stock and debt are 15.4 percent, 10 percent and 7 percent, respectively, what is TNT's WACC if the firm faces an average tax rate of 21 percent?

Accepted Answer

A)  9.45 percent 
B)  11.30 percent 
C)  10.64 percent 
D)  8.93 percent

Question 5

Pumpkin Pie Industries has 5 million shares of common stock outstanding, 1 million shares of preferred stock outstanding, and 10 thousand bonds. If the common shares are selling for $50 per share, the preferred shares are selling for $31 per share, and the bonds are selling for 98 percent of par ($1,000), what would be the weights used in the calculation of Pumpkin Pie's WACC for common stock, preferred stock, and bonds, respectively?

Accepted Answer

A)  33.33 percent, 33.33 percent, 33.33 percent 
B)  83.19 percent, 16.64 percent, 0.17 percent 
C)  85.97 percent, 10.67 percent, 3.38 percent 
D)  27.93 percent, 17.32 percent, 54.75 percent

Question 6

Which of the following makes this a true statement? If the new project does significantly increase the firm's overall risk

Accepted Answer

A)  the increased risk will be borne equally amongst the bondholders, preferred stockholders, and common stockholders. 
B)  the increased risk will be borne disproportionately by bondholders. 
C)  the increased risk will be borne disproportionately by preferred stockholders. 
D)  the increased risk will be borne disproportionately by common stockholders.

Question 7

Marme Inc. has preferred stock selling for 137 percent of par that pays an 11 percent annual dividend. What would be Marme's component cost of preferred stock?

Accepted Answer

A)  11.00 percent 
B)  8.03 percent 
C)  8.17 percent 
D)  10.16 percent

Question 8

Solar Shades has 8 million shares of common stock outstanding, 4 million shares of preferred stock outstanding, and 10 thousand bonds. If the common shares are selling for $13 per share, the preferred shares are selling for $30 per share, and the bonds are selling for 105 percent of par, what would be the weight used for common stock in the computation of Solar Shades' WACC?

Accepted Answer

A)  33.33 percent 
B)  44.35 percent 
C)  46.42 percent 
D)  66.61 percent

Question 9

Which of these statements is true regarding divisional WACC?

Accepted Answer

A)  Using a divisional WACC versus a WACC for the firm's current operations will result in quite a few incorrect decisions. 
B)  Using a simple firmwide WACC to evaluate new projects would give an unfair advantage to projects that present more risk than the firm's average beta. 
C)  Using a simple firmwide WACC to evaluate new projects would give an unfair advantage to projects that present less risk than the firm's average beta. 
D)  Using a firmwide WACC to evaluate new projects would have no impact on projects that present less risk than the firm's average beta.

Question 10

A firm has 4,000,000 shares of common stock outstanding, each with a market price of $12.00 per share. It has 25,000 bonds outstanding, each selling for $980 (with a face value of $1,000). The bonds mature in 20 years, have a coupon rate of 9 percent, and pay coupons semiannually. The firm's equity has a beta of 1.5, and the expected market return is 21 percent. The tax rate is 21 percent and the WACC is 15 percent. What is the risk-free rate?

Accepted Answer

A)  7.12 percent 
B)  6.28 percent 
C)  9.22 percent 
D)  19.36 percent

Question 11

Which of the following is a reason why the divisional cost of capital approach may cause problems if new projects are assigned to the wrong division?

Accepted Answer

A)  Managers in different divisions may use different methods to calculate the WACC. 
B)  The expected return of the new project may be incorrect. 
C)  If projects are assigned to the wrong division, the risk of that division may be significantly different than the risk of the project, implying that the project will be evaluated with a divisional cost of capital that is much different from what a project-specific cost of capital would be. 
D)  None of these choices are correct.

Question 12

When calculating the weighted average cost of capital, weights are based on

Accepted Answer

A)  book values. 
B)  book weights. 
C)  market values. 
D)  market betas.

Question 13

KatyDid Clothes has a $150 million ($1,000 face value) 15-year bond issue selling for 106 percent of par that carries a coupon rate of 8 percent, paid semiannually. What would be KatyDid's before-tax component cost of debt?

Accepted Answer

A)  3.67 percent 
B)  7.34 percent 
C)  8.12 percent 
D)  7.09 percent

Question 14

Which of the following statements is correct?

Accepted Answer

A)  A decrease in the firm's marginal corporate tax rate will decrease the weighted average cost of capital. 
B)  Flotation costs can decrease the weighted average cost of capital. 
C)  The cost of debt is based on the cost of all liabilities, including accounts payable and accruals. 
D)  None of these choices are correct.

Question 15

Crab Cakes Ltd. has 5 million shares of stock outstanding selling at $15 per share and par value $1 per share. The company has an issue of $10 million in 10 percent, annual coupon bonds with a maturity of 25 years, selling at 97 percent of par ($1,000). If Crab Cakes' weighted average tax rate is 21 percent, its next dividend is expected to be $1.00 per share, and all future dividends are expected to grow at 5 percent per year, indefinitely, what is its WACC?

Accepted Answer

A)  8.42 percent 
B)  10.84 percent 
C)  11.27 percent 
D)  11.52 percent

Question 16

OMG Inc. has 4 million shares of common stock outstanding, 3 million shares of preferred stock outstanding, and 50 thousand bonds. If the common shares are selling for $21 per share, the preferred shares are selling for $10 per share, and the bonds are selling for 111 percent of par ($1,000), what weight should you use for debt in the computation of OMG's WACC?

Accepted Answer

A)  32.74 percent 
B)  29.86 percent 
C)  25.79 percent 
D)  21.86 percent

Question 17

JackITs has 5 million shares of common stock outstanding, 1 million shares of preferred stock outstanding, and 20 thousand bonds. If the common shares are selling for $28 per share, the preferred shares are selling for $13.50 per share, and the bonds are selling for 98 percent of par, what would be the weight used for common stock in the computation of JackITs' WACC?

Accepted Answer

A)  33.33 percent 
B)  80.88 percent 
C)  83.08 percent 
D)  91.19 percent

Question 18

TellAll has 10 million shares of common stock outstanding, 20 million shares of preferred stock outstanding, and 100 thousand bonds. If the common shares are selling for $32 per share, the preferred shares are selling for $20 per share, and the bonds are selling for 106 percent of par, what would be the weight used for preferred stock in the computation of TellAll's WACC?

Accepted Answer

A)  33.33 percent 
B)  48.43 percent 
C)  55.55 percent 
D)  66.45 percent

Question 19

The ________ approach to computing a divisional weighted average cost of capital (WACC) uses the average beta of projects in each division to calculate the WACC.

Accepted Answer

A)  subjective 
B)  objective 
C)  firmwide 
D)  implicit

Question 20

Cup Cake Ltd. has 20 million shares of stock outstanding selling at $25 per share and an issue of $30 million in 8 percent, annual coupon bonds with a maturity of 16 years, selling at 98 percent of par ($1,000). If Cup 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 4 percent per year, indefinitely, what is its WACC?

Accepted Answer

A)  7.94 percent 
B)  10.00 percent 
C)  11.69 percent 
D)  11.79 percent

Exam 11: Calculating the Cost of Capital