GB550 final exam

Question 1.1.Last year Ellis Inc.’s earnings per share were $3.50, and its growth rate during the prior 5 years was 9.0% per year. If that growth rate were maintained, how many years would it take for Ellis’ EPS to triple? (Points : 4)

9.29
10.33
11.47
12.75

Question 2.2.Jose now has $500. How much would he have after 6 years if he leaves it invested at 5.5% with annual compounding? (Points : 4)

$591.09
$622.20
$654.95
$689.42

Question 3.3.Which of the following statements is CORRECT? (Points : 4)

It is generally more expensive to form a proprietorship than a corporation because, with a proprietorship, extensive legal documents are required.
Corporations face fewer regulations than sole proprietorships.
One disadvantage of operating a business as a sole proprietorship is that the firm is subject to double taxation, at both the firm level and the owner level.
One advantage of forming a corporation is that equity investors are usually exposed to less liability than in a regular partnership.
If a regular partnership goes bankrupt, each partner is exposed to liabilities only up to the amount of his or her investment in the business.

Question 4.4.A $50,000 loan is to be amortized over 7 years, with annual end-of-year payments. Which of these statements is CORRECT? (Points : 4)

The annual payments would be larger if the interest rate were lower.
If the loan were amortized over 10 years rather than 7 years, and if the interest rate were the same in either case, the first payment would include more dollars of interest under the 7-year amortization plan.
The proportion of each payment that represents interest as opposed to repayment of principal would be lower if the interest rate were lower.
The last payment would have a higher proportion of interest than the first payment.

Question 5.5.Which of the following could explain why a business might choose to operate as a corporation rather than as a sole proprietorship or a partnership? (Points : 4)

Corporations generally find it relatively difficult to raise large amounts of capital.
Less of a corporation’s income is generally subjected to taxes than would be true if the firm were a partnership.
Corporate shareholders escape liability for the firm’s debts, but this factor may be offset by the tax disadvantages of the corporate form of organization.
Corporate investors are exposed to unlimited liability.

Question 6.6.An investor is considering starting a new business. The company would require $475,000 of assets, and it would be financed entirely with common stock. The investor will go forward only if she thinks the firm can provide a 13.5% return on the invested capital, which means that the firm must have an ROI of 13.5%. How much net income must be expected to warrant starting the business?
(Points : 4)

$52,230
$54,979
$57,873
$64,125

Question 7.7.Companies generate income from their “regular” operations and from other sources like interest earned on the securities they hold, which is called non-operating income. Lindley Textiles recently reported $12,500 of sales, $7,250 of operating costs other than depreciation, and $1,000 of depreciation. The company had no amortization charges and no non-operating income. It had $8,000 of bonds outstanding that carry a 7.5% interest rate, and its federal-plus-state income tax rate was 40%. How much was Lindley’s operating income, or EBIT? (Points : 4)

$3,462
$3,644
$3,836
$4,250

Question 8.8.Which of the following items cannot be found on a firm’s balance sheet under current liabilities?
(Points : 4)

Accounts payable.
Short-term notes payable to the bank.
Accrued wages.
Cost of goods sold.

Question 9.9.High current and quick ratios always indicate that a firm is managing its liquidity position well. (Points : 4)

True
False

Question 10.10.Other things held constant, which of the following actions would increase the amount of cash on a company’s balance sheet? (Points : 4)

The company repurchases common stock.
The company pays a dividend.
The company issues new common stock.
The company gives customers more time to pay their bills.

Question 11.11.Quigley Inc.’s bonds currently sell for $1,080 and have a par value of $1,000. They pay a $100 annual coupon and have a 15-year maturity, but they can be called in 5 years at $1,125. What is their yield to maturity (YTM)?
(Points : 4)

8.56%
9.01%
9.46%
9.93%

Question 12.12.Preston Inc.’s stock has a 25% chance of producing a 30% return, a 50% chance of producing a 12% return, and a 25% chance of producing a -18% return. What is the firm’s expected rate of return?
(Points : 4)

7.72%
8.12%
8.55%
9.00%

Question 13.13.Which of the following events would make it more likely that a company would choose to call its outstanding callable bonds? (Points : 4)

The company’s bonds are downgraded.
Market interest rates rise sharply.
Market interest rates decline sharply.
The company’s financial situation deteriorates significantly.

Question 14.14.Inflation, recession, and high interest rates are economic events that are best characterized as being: (Points : 4)

systematic risk factors that can be diversified away.
company-specific risk factors that can be diversified away.
among the factors that are responsible for market risk.
risks that are beyond the control of investors and thus should not be considered by security analysts or portfolio managers.

Question 15.15.Which is the best measure of risk for a single asset held in isolation, and which is the best measure for an asset held in a diversified portfolio? (Points : 4)

Variance; correlation coefficient.
Standard deviation; correlation coefficient.
Beta; variance.
Coefficient of variation; beta.

Question 16.16.Consider the following information and then calculate the required rate of return for the Scientific Investment Fund, which holds 4 stocks. The market’s required rate of return is 15.0%, the risk-free rate is 7.0%, and the Fund’s assets are as follows: 30

Stock Investment Beta
A $ 200,000 1.50
B 300,000 -0.50
C 500,000 1.25
D 1,000,000 0.75
(Points : 4)

10.67%
11.23%
11.82%
13.10%

Question 17.17.Calculate the required rate of return for Mercury, Inc., assuming that (1) investors expect a 4.0% rate of inflation in the future, (2) the real risk-free rate is 3.0%, (3) the market risk premium is 5.0%, (4) Mercury has a beta of 1.00, and (5) its realized rate of return has averaged 15.0% over the last 5 years.

(Points : 4)

10.29%
10.83%
11.40%
12.00%

Question 18.18.The CAPM is a multi-period model which takes account of differences in securities’ maturities, and it can be used to determine the required rate of return for any given level of systematic risk. (Points : 4)

True
False

Question 19.19.Which is the best measure of risk for an asset held in isolation, and which is the best measure for an asset held in a diversified portfolio? (Points : 4)

Variance; correlation coefficient.
Standard deviation; correlation coefficient.
Beta; variance.
Coefficient of variation; beta.

Question 20.20.It is possible for a firm to have a positive beta, even if the correlation between its returns and those of another firm are negative. (Points : 4)

True
False

Question 21.21.Teall Development Company hired you as a consultant to help them estimate its cost of capital. You have been provided with the following data: D1 = $1.45; P0 = $22.50; and g = 6.50% (constant). Based on the DCF approach, what is the cost of common from retained earnings? 69(Points : 4)

11.10%
11.68%
12.30%
12.94%

Question 22.22.A company’s perpetual preferred stock currently sells for $92.50 per share, and it pays an $8.00 annual dividend. If the company were to sell a new preferred issue, it would incur a flotation cost of 5.00% of the issue price. What is the firm’s cost of preferred stock? (Points : 4)

7.81%
8.22%
8.65%
9.10%

Question 23.23.Which of the following statements is CORRECT? Assume that the project being considered has normal cash flows, with one outflow followed by a series of inflows. (Points : 4)

The longer a project’s payback period, the more desirable the project is normally considered to be by this criterion.
One drawback of the regular payback for evaluating projects is that this method does not properly account for the time value of money.
If a project’s payback is positive, then the project should be rejected because it must have a negative NPV.
The regular payback ignores cash flows beyond the payback period, but the discounted payback method overcomes this problem.

Question 24.24.No conflict will exist between the NPV and IRR methods, when used to evaluate two equally risky but mutually exclusive projects, if the projects’ cost of capital exceeds the rate at which the projects’ NPV profiles cross. (Points : 4)

True
False

Question 25.25.When working with the CAPM, which of the following factors can be determined with the most precision? (Points : 4)

The market risk premium (RPM).
The beta coefficient, bi, of a relatively safe stock.
The most appropriate risk-free rate, rRF.
The expected rate of return on the market, rM.

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