Question 1

Smith and Jones has two separate divisions.Division X produces custom work on a pre-paid basis only for long-term customers and therefore,is subject to less risk than division Y.The company has assigned a discount rate equal to the firm's WACC minus 2 per cent to division X and a rate equal to the firm's WACC plus 3 per cent to division Y.The company has a debt-equity ratio of 0.65 and a tax rate of 35 per cent.The cost of equity is 9 per cent and the after tax cost of debt is 5 per cent.Presently,each division is considering a new project.Division Y's project provides a 9.5 per cent rate of return and division X's project provides a 6.2 per cent return.Which projects,if either,should the company accept? Assume a classical tax system.

Accepted Answer

A)  accept X and reject Y
B)  accept both X and Y
C)  reject both X and Y
D)  the answer cannot be determined without additional information
E)  reject X and accept YF) All of the above
G) A) and E)

Question 2

The cost of capital for a project should:

Accepted Answer

A)  be adjusted based on the size of the project
B)  remain constant even if a decision on accepting the project is delayed for two years
C)  meet or exceed the internal rate of return of the project
D)  never exceed the cost of capital for the overall firm
E)  be adjusted based on the risk of the projectF) B) and D)
G) A) and E)

Question 3

Katie owns 100 shares of ABC stock.Which one of the following terms is used to refer to the return that Katie and the other shareholders require on their investment in ABC?

Accepted Answer

A)  cost of debt
B)  subjective cost
C)  weighted average cost of capital
D)  pure play cost
E)  cost of equityF) C) and D)
G) D) and E)

Question 4

Which one of the following statements is accurate for a levered firm?

Accepted Answer

A)  A firm's WACC will decrease whenever the firm's tax rate decreases.
B)  The subjective approach totally ignores a firm's own WACC.
C)  WACC should be used as the required return for all proposed investments.
D)  An increase in the market risk premium will decrease a firm's WACC.
E)  A reduction in the risk level of a firm will tend to decrease the firm's WACC.F) B) and E)
G) All of the above

Question 5

A firm has a cost of equity of 10 per cent,a cost of preferred of 9 per cent,and an after tax cost of debt of 5 per cent.Given this,which one of the following will decrease the firm's cost of capital?

Accepted Answer

A)  exercising the call option on the debt
B)  decreasing the firm-specific risk associated with the firm
C)  issuing new debt to offset an increase in the dividend payout ratio
D)  increasing the systematic risk of the firm
E)  decreasing the debt-equity ratioF) C) and E)
G) D) and E)

Question 6

Western Australian Mining Pty Ltd,an Australian listed company,has 5 000 000 ordinary shares outstanding and the current market price per share is $6.50.The required rate of return for the ordinary shares is estimated to be 16%.They have issued bonds with a face value of $15 000 000 but the current market value based on a yield to maturity of 9.5% is $14 950 233.If the corporate tax rate is 30% what is the weighted average cost of capital assuming a classical tax system?

Accepted Answer

A)  13.06%
B)  9.77%
C)  8.93%
D)  12.75%
E)  11.33%F) A) and C)
G) B) and C)

Question 7

Kate is the CFO of a major firm and has the job of assigning discount rates to each project that is under consideration.Kate's method of doing this is to assign an incrementally higher rate as the risk level of the project increases over that of the current firm.Likewise,she assigns lower rates as the risk level declines.Which one of the following approaches is Kate using to assign the discount rates?

Accepted Answer

A)  subjective approach
B)  straight WACC approach
C)  divisional rating
D)  pure play approach
E)  equity ratingF) B) and D)
G) A) and E)

Question 8

When using the pure play approach,a firm is seeking a rate of return which:

Accepted Answer

A)  will cause a project to have a positive net present value
B)  is applicable to the risk level of the investment under consideration
C)  is lower than its own cost of capital
D)  matches the expected internal rate of return of the investment being considered
E)  is based on book values rather than market valuesF) B) and E)
G) None of the above

Question 9

Which one of the following statements is correct? Assume the pre-tax cost of debt is less than the cost of equity.

Accepted Answer

A)  A firm may change its capital structure if the government changes its tax policies.
B)  The cost of preferred stock decreases when the tax rate increases.
C)  A decrease in the systematic risk of a firm will increase the firm's cost of capital.
D)  A decrease in a firm's debt-equity ratio will decrease the firm's cost of capital.
E)  A decrease in the dividend growth rate increases the cost of equity.F) A) and E)
G) C) and D)

Question 10

A firm has a cost of equity of 13 per cent,a cost of preferred of 11 per cent,and an after-tax cost of debt of 6 per cent.Given this,which one of the following will increase the firm's weighted average cost of capital?

Accepted Answer

A)  redeeming shares of common stock
B)  increasing the firm's beta
C)  increasing the firm's tax rate
D)  increasing the debt-equity ratio
E)  issuing new bonds at parF) A) and B)
G) C) and E)

Exam 12: Long-Term Financing

Katie owns 100 shares of ABC stock.Which one of the following terms is used to refer to the return that Katie and the other shareholders require on their investment in ABC?

Correct Answer
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A firm has a cost of equity of 10 per cent,a cost of preferred of 9 per cent,and an after tax cost of debt of 5 per cent.Given this,which one of the following will decrease the firm's cost of capital?

Correct Answer
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Which one of the following statements is correct? Assume the pre-tax cost of debt is less than the cost of equity.

Correct Answer
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Correct Answer
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The cost of capital for a project should:

Correct Answer
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Correct Answer
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When using the pure play approach,a firm is seeking a rate of return which:

Correct Answer
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Which one of the following statements is accurate for a levered firm?

Correct Answer
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A firm has a cost of equity of 13 per cent,a cost of preferred of 11 per cent,and an after-tax cost of debt of 6 per cent.Given this,which one of the following will increase the firm's weighted average cost of capital?

Correct Answer
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Correct Answer
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Exam 12: Long-Term Financing

Katie owns 100 shares of ABC stock.Which one of the following terms is used to refer to the return that Katie and the other shareholders require on their investment in ABC?

Correct AnswerverifiedShow Answer

A firm has a cost of equity of 10 per cent,a cost of preferred of 9 per cent,and an after tax cost of debt of 5 per cent.Given this,which one of the following will decrease the firm's cost of capital?

Correct AnswerverifiedShow Answer

Which one of the following statements is correct? Assume the pre-tax cost of debt is less than the cost of equity.

Correct AnswerverifiedShow Answer

Correct AnswerverifiedShow Answer

The cost of capital for a project should:

Correct AnswerverifiedShow Answer

Correct AnswerverifiedShow Answer

When using the pure play approach,a firm is seeking a rate of return which:

Correct AnswerverifiedShow Answer

Which one of the following statements is accurate for a levered firm?

Correct AnswerverifiedShow Answer

A firm has a cost of equity of 13 per cent,a cost of preferred of 11 per cent,and an after-tax cost of debt of 6 per cent.Given this,which one of the following will increase the firm's weighted average cost of capital?

Correct AnswerverifiedShow Answer

Correct AnswerverifiedShow Answer

Correct Answer
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Correct Answer
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