1. The primary goal of financial management is to:
A. Maximize current dividends per share of the existing stock
B. Maximize the current value per share of the existing stock
C. Avoid financial distress
D. Minimize operational costs and maximize time efficiency
2. Which one of the following is not a tool or technique used by a financial statement analyst ?
A. Common-size financial statement
B. Trend analysis
C. Random sampling analysis
D. Industry comparison or peer analysis
3. ABCs has a profit margin of 5 per cent and asset turnover of 1.2 and an equity multiplier of 1.4. Based on duo point identity, which of the following is the closest to its return on equity:
A. 6.7 percent
B. 8.4 percent
C. 10.1 percent
D. 14.6 percent
4. The financial planning method in which accounts vary depending on a firm’s predicted sales level is called the _____ approach.
A. percentage of sales
B. sales dilution
C. sales reconciliation
5. Portfolio P consists of equal amounts of securities A B and C security A has a bet of 1.5 security B has a beta of 2.5 and security c has a beta of 0.5. According to CAPM, which security has the lowest expected rate of return?
6. Old Country Inc. imposes a payback cut-off of three years for its international investment projects. If the company has the following two independent projects available, should they accept either of them?
Year CF Project A CF Project B
0- 50000 -70000
1 30000 15000
2 21000 22000
3 10000 31000
4 5000 240000
A. Project A
B. Project A and B
C. Project B
D. Neither project A or B
7. The primary reason that company projects with positive net present values are considered acceptable is that:
A. They create value for the owners of the firm
B. The project’s rate of return exceeds the rate of inflation.
C. NPV always generates a positive value
D. The required cash inflows are exceeded by the actual cash inflows
8. Jack’s Construction Co. has 80,000 bonds outstanding that are selling at par value. Bonds with similar characteristics are yielding 8.5%. The company also has 4 million shares of common stock outstanding. The stock has a beta of 1.1 and sells for $40 a share. In the calculation of WACC, which of the following capital structure should be used?
A. Weight of debt is 1/3; weight of equity is 2/3
B. Weight of debt is 2/3; weight of equity is 1/3
C. Weight of debt is 1/2; weight of equity is 1/2
D. Cannot be determined
9. In investment appraisal, the discount rate assigned to an individual project should be based on the:
A. The firms’ weighted average cost of capital
B. The actual sources of funding used for the project
C. The risk level of the project itself
D. An average of the firms’ overall cost of capital for the past five years
10. Wayne’s of New York specializes in clothing for female executives living and working in the financial district of New York City. Allen’s of PA specializes in clothing for women who live and work in the rural areas of Western Pennsylvania. Both firms are currently considering expanding their clothing line to encompass working women in the rural upstate region of New York State. Wayne’s currently has a cost of capital of 11 percent while Allen’s cost of capital is 9 percent. The expansion project has a projected net present value of $36,900 at a 9 percent discount rate and a net present value of -$13,200 at an 11 percent discount rate. Which firm or firms should expand into rural New York State?
A. Wayne’s only
B. Neither Wayne’s nor Allen’s
C. Allen’s only
D. Both Wayne’s and Allen’s
11. The Gearing Company has an after-tax cost of debt capital of 4 percent, a cost of preferred stock of 8 percent, a cost of equity capital of 10 percent, and a weighted average cost of capital of 7 percent. Gearing intends to maintain its current capital structure as it raises additional capital. In making its capital-budgeting decisions for the average-risk project, the relevant cost of capital is:
A. 4 Percent
B. 10 Percent
C. 7 Percent
D. None of the above
12. The cash flows as the NPV and IRR for the two projects are shown below. The cash flows as well as the NPV and IRR for the two projects are shown below. The two projects are mutually exclusive. What is the appropriate investment decision?
A. Invest in both projects because both are profitable
B. Invest in Project 1 because it has the higher IRR
C. Invest in Project 2 because it has the higher NPV
D. Cannot be decided
13. Shirley Shea has evaluated an investment proposal and found that its payback period is one year, it has a negative NPV, and it has a positive IRR. Is this combination of results possible’?
B. No, because a project with a positive IRR has a positive NPV.
C. No, because a project with such a rapid payback period has a positive NPV
14. Raymond Cordier is the business development manager of Aerotechnique S.A., aprivate Belgian subcontractor of aerospace parts. Although Aerotechnique is not listed on the Belgian stock exchange, Cordier needs to evaluate the levered beta for the company. He has access to the following information:
(1) The average levered and average unlevered betas for the group of comparable companies operating in different European countries are 1.6 and 1.0, respectively!
(2) Aerotechnique’s debt-to-equity ratio, based on market values, is 1.4.
Ignoring taxes, the equity beta for Aerotechnique is closest to:
D. None of the above
15. According to Higgins 5-factor model for financial decisions, each company can find an optimal capital structure precisely based on calculation:
A. True B. False
1. List and briefly describe the three basic questions addressed by a financial manager
2. Briefly describe and discuss Higgins 5-factor model for financing decisions
Problem Solving/Mini cases
1. Financial data for Industrial Inc. follows
|Year 1||Year 2|
|Cost of goods sold||141,829||209,628|
|Cash flow from operations||-35,831||12,538|
|Total Current Assets||462,593||249,801|
|Total Current Liabilities||44,919||90,558|
a. Calculate the current and quick ratio at the end of each year. How has the company’s short-term liquidity changed over the period?
b. Assuming a 365-day year for all calculation, compute the following rations and provide your interpretation of the company’s performance as suggested by these ratios?
2. The inventory turnover each year.
2. Harley-Davidson, Inc. has the following rations for the year 2010 through 2014
|Profit Margin (%)||11.4||12.3||13.5||15.5||16.7|
|Retention ratio (%)||91.3||91.9||92.8||92.2||86.6|
|Asset turnover (x)||1.25||1.14||1.11||1.00||0.97|
|Assets (End of year million)||$2,436||3,118||3,861||4,923||5,843|
|Equity (End of year million)||1,406||1,756||2,233||2,958||3,219|
|Growth Rate in sales (%)||17.8||16.4||21.4||14.0||8.5|
|Sustainable growth rate (%)|
Fill in the blanks in the table by calculating Haley Davidson’s Sustainable growth rate (%) for each year:
A. Did Harley Davidson have a growth problem?
B. What the company could have done to cope with its sustainable growth problems?
3. Thames Inc.’s most recent dividend was $2.40 per share (i.e., D0 = $2.40). The dividend is expected to grow at a rate of 6 percent per year. The risk-free rate is 5 percent and the return on the market is 9 percent. If the company’s beta is 1.3, what is the price of the stock today?
4. Jorge Ricard is a financial analyst with Zeale Corporation. Rocard is in the process of estimating the cost of capital of Zeale Corporation. The following information is provided:
Market value of debt $50 million
Market value of equity $60 million
Ricard has estimated the before-tax costs of capital for Zeale’s debt and equity as 4 percent and 6 percent, respectively. What is Zeale Corporations’ weighted average cost of capital if Zeale’s marginal tax rate is 30 percent?
5. Phone Home, Inc. is considering a new 6-year expansion project that requires an initial fixed asset investment of $5.876 million. The fixed asset will be depreciated straight-line to zero over its 6-year tax life, after which time it will be worthless. The project is estimated to generate $5,328,000 in annual sales, with costs of $2,131,200. The tax rate is 32 percent.
(1) What is the annual operating cash flow for this project?
(2) Suppose the company’s WACC is 10 percent. The expansion proposal is somewhat riskier than the usual project the firm undertakes; management uses the subjective approach and applies an adjustment factor of +2 percent to the cost of capital for such risky projects. What is the project’s NPV .
(3) Suppose the project also requires an initial investment in net working capital of 300,000. At the end of the project, the salvage value of the net working capital would be $280,000 and the fixed assets will have a market value of $180,000. What is the project’s year 0 net cash flow? Year 1? Year 2? Year 3?