1. (TCO 4) Which of the following is true regarding the evaluation of projects? (Points : 4)
sunk costs should be included
erosion effects should be considered
financing costs need to be included
opportunity costs are irrelevant

2. (TCO 4) There are several disadvantages to the payback method, among them: (Points : 4)
payback ignores cash flows beyond the cutoff.
payback can be used in conjunction with time adjusted methods of evaluation.
payback is easy to use and to understand.
none of the above is a disadvantage.

3. (TCO 3 and 4) You can ensure that an investment is expected to create value for (Points : 4)
have a PI equal to zero.
produce negative rates of return.
have positive AARs.
have positive IRRs.
have positive NPVs.

4. (TCO 3 and 4) Portman’s is considering adding a new product to its lineup. This product is expected to generate sales for three years, after which time the product will be discontinued. What is the project’s net present value, if the firm wants to earn a 12 percent rate of return?

Year 0 1 2 3
Cash flow -$62,000 $10,730 $20,190 $40,340 (Points : 4)
$7,611.08
$6,795.61
$1,084.41
$4,862.07
$9,682.26

5. (TCO 4) Leward Manufacturing is spending $115,000 to update its equipment. This is necessary if the firm wishes to be competitive in the marketplace and provide a wide array of product models. The company estimates that these updates will improve its cash inflows by $27,500 a year, for eight years. What is the payback period? (Points : 4)
4.18 years
5.82 years
6.62 years
7.79 years
This project never pays back

6. (TCO 4) Ignoring the option to expand: (Points : 4)
overestimates the internal rate of return on a project.
ignores the possibility that a negative net present value project might be positive, given changes over time.
ignores the possibility that one variable is the primary source of the forecasting risk associated with a project.
underestimates the net present value of a project.

7. (TCO 4) ____________, refers to the situation a firm faces when it has positive net present value projects, but cannot obtain financing for those projects. (Points : 4)
capital planning.
soft rationing.
capital rationing.
hard rationing.
a sunk cause.

8. (TCO 4) ABC Cameras is considering an investment that will have a cost of $10,000 and the following cash flows: $6,000 in year 1, $4,000 in year 2 and $3,000 in year 3. Assume the cost of capital is 10%. Which of the following is true regarding this investment? (Points : 4)
The net present value of the project is approximately $1,011
This project should be accepted because it has a negative net present value
This project’s payback period is 10 years or more
All of the above are true

9. (TCO 4) Assume Company X plans to invest $60,000 in new computers. Using Tables 9.6 and 9.7 of your textbook (Page 277), which is the second year depreciation amount under MACRS? (Points : 4)
$12,000
$19,200
$19,800
None of the above

10. (TCO 1 and 4) Assume a project has earnings before depreciation and taxes of $120,000, depreciation of $40,000, and that the firm has a 30 percent tax bracket. What are the after-tax cash flows for the project? (Points : 4)
$56,000
$96,000
a loss of $21,000
none of these

11. (TCO 8) Which of the following statements is true regarding systematic risk? (Points : 4)
is diversifiable
is the total risk associated with surprise events
it is measured by beta
it is measured by standard deviation

12. (TCO 8) Which statement is true regarding risk? (Points : 4)
the expected return is usually the same as the actual return
a key to assess risk is determining how much risk an investment adds to a portfolio
risks can always be decreased or mitigated by the financial manager
the higher the risk, the lower the return investors require for the investment

13. (TCO 8) The stock of Hobby Town has an expected return of 8.8 percent. Given the information below, what is the expected return on this stock if the economy is normal?
State of Economy Probability of State of Economy Rate of Return
Recession .10 -.09
Normal .70 ?
Boom .20 .26 (Points : 4)
3.86 percent
4.42 percent

6.43 percent
7.28 percent
8.21 percent

14. (TCO 8) You own a portfolio that consists of $8,000 in stock A, $4,600 in stock B, $13,000 in stock C, and $5,500 in stock D. What is the portfolio weight of stock D? (Points : 4)
17.68 percent
17.91 percent
18.42 percent
19.07 percent
19.46 percent

15. (TCO 8) Stock A has an expected return of 14 percent and a beta of 1.3. Stock B has an expected return of 10 percent and a beta of .9. Both stocks have the same reward-to-risk ratio. What is the risk-free rate? (Points : 4)
1.0 percent
1.8 percent
2.3 percent
2.5 percent
3.1 percent

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Page 2

1. (TCO 8) If the financial markets are strong form efficient, then: (Points : 4)
only the most talented analysts can determine the true value of a security.
only company insiders have a marketplace advantage.
technical analysis provides the best tool to gain a marketplace advantage.
no one person has an advantage in the marketplace.
every security offers the same rate of return.

2. (TCO 5) Royal Petroleum Co. can buy a piece of equipment that can be financed with debt at an after-tax cost of 8 percent and common equity at a cost of 20 percent. Assume debt and common equity each represent 50 percent of the firm’s capital structure. What is the weighted average cost of capital? (Points : 4)
between 4% and 10%
between 11 and 12%
between 12 and 13%
exactly 14%
more than 14%

3. (TCO 5, 6 and 7) An issue of common stock’s most recent dividend is $3.75. Its growth rate is eight percent. What is its price if the market’s rate of return is 16 percent? (Points : 4)
$25.01
$46.88
$50.63
none of these

4. (TCO 5, 6 and 7) Which of the following is true regarding the cost of debt? (Points : 4)
It is the return that the firm’s creditors demand on new borrowing.
It is always equal to the weighted cost of capital.
An appropriate method to compute the cost of debt is using the coupon rate of current bonds outstanding.
All of the above are true.

5. (TCO 5) Which of the following is true regarding the cost of retained earnings? (Points : 4)
it is irrelevant to the WACC
requires new funds to be raised
need to be adjusted for the flotation costs
have a cost, which is the opportunity cost associated with stockholder funds

6. (TCO 4) A project has the following cash flows. What is the internal rate of return?

Year 0 1 2 3
Cash flow -$520,000 $112,900 $367,200 $204,600 (Points : 4)
less than 10%
approximately 14%
more than 16%
more than 18% but less than 20%

7. (TCO 5, 6 and 7) Which one of the following is a correct statement regarding a firm’s weighted average cost of capital (WACC)? (Points : 4)
the WACC can be used as the required return for all new projects.
the WACC of a leveraged firm will decrease when the tax rate decreases.
an increase in the market risk premium will tend to decrease a firm’s WACC.
the WACC is a starting point for the subjective approach to setting discount rates.
a reduction in the risk level of a firm will tend to increase the firm’s WACC.

8. (TCO 5, 6 and 7) The preferred stock of Blue Sky Air pays an annual dividend of $7.25 a share and sells for $54 a share. The tax rate is 35 percent. What is the firm’s cost of preferred stock? (Points : 4)
8.56 percent
9.32 percent
11.85 percent
13.43 percent
14.47 percent

9. (TCO 2) Which one of the following statements is true concerning a bankruptcy? (Points : 4)
a Chapter 7 bankruptcy is a reorganization proceeding.
a “prepack” is intended to shorten the time a firm spends in bankruptcy.
the absolute priority rule applies to both Chapter 7 and Chapter 11 bankruptcy proceedings, and must be adhered to by the courts.
creditors cannot force a firm into bankruptcy, even though they might like to do so.
a reorganization plan, can only be approved if the firm’s creditors all agree with the plan.

10. (TCO 5) Which of the following statements is true regarding the cost of capital? (Points : 4)
All other being equal, it is preferable to use market value weights than book value weights
The WACC is the most appropriate discount rate for all projects.
Should not include the cost of retained earnings.
Depends primarily on the source of the funds, not the use.

11. (TCO 2) Select any actions that do not affect the cash account. (Points : 4)
Goods are sold cash
An interest payment on a notes payable is made
A payment due is received from a client
Dividends are paid to shareholders
Inventory is purchased and paid for with credit

12. (TCO 2) Which of the following statements is true? (Points : 4)
The optimal credit policy minimizes the total cost of granting credit.
Firms should avoid offering credit at all cost.
An increase in a firm’s average collection period generally indicates that an increased number of customers are taking advantage of the cash discount.
Character, refers to the ability of a firm to meet its credit obligations out its operating cash flows.
The optimal credit policy, is the policy that produces the largest amount of sales for a firm.

13. (TCO 2) All else constant, a decrease in the accounts receivable period will: (Points : 4)
lengthen the accounts payable period.
shorten the inventory period.
lengthen the operating cycle.
shorten the cash cycle.
shorten the accounts payable period.

14. (TCO 2) Highland, Inc. has the following estimated quarterly sales for next year. The accounts receivable period is 30 days. How much does the firm expect to collect in the fourth quarter? Assume that each month has 30 days.

Q1 Q2 Q3 Q4
Sales $3,200 $4,500 $4,400 $2,900 (Points : 4)
$3,250
$3,400
$3,600
$3,750
$3,900

15. (TCO 1) Which one of the following actions best matches the primary goal of financial management? (Points : 4)
increasing the net, working capital while lowering the long-term asset requirements
improving the operating efficiency, thereby increasing the market value of the stock
increasing the firm’s market share
reducing fixed costs and increasing variable costs
increasing the liquidity of the firm by transferring short-term debt into long-term debt

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Page 3

1. (TCO 1) Which of the following are capital structure concerns?

I. how to obtain short-term financing
II. the company’s financing mix
III. the cost of funds
IV. how and where to raise money (Points : 4)
I and II
I, II and III
II, III and IV
I, III and IV
All of the above

2. (TCO 1) Market values reflect which of the following: (Points : 4)
The amount someone is willing to pay today for an asset.
The value of the asset based on generally-accepted accounting principles.
The asset’s historical cost.
A and B only
None of the above

3. (TCO 1) Use the following tax table to answer this question:

Taxable Income Tax Rate
$0- $50,000 15%
$50,001- 75,000 25
$75,001- 100,000 34
$100,001- 335,000 39
$335,001- 10,000,000 34

Riddell, Inc. earned $144,320 in taxable income for the year. How much tax does the company owe on this income? (Points : 4)
$39,535
$49,069
$51,285
$56,285
$78,535

4. (TCO 3) Regional Bank offers you an APR of 19 percent compounded semiannually, and Local Bank offers you an EAR of 20.10 percent for a new automobile loan. You should choose ______________ because its _______ is lower. (Points : 4)
Regional Bank, APR
Local Bank, EAR
Regional Bank, EAR
Local Bank, APR

5. (TCO 3) You deposited $8,000 in your bank account today. Which of the following will increase the future value of your deposit, assuming that all interest is reinvested? Assume the interest rate is a positive value. Select all that apply: (Points : 4)
a decrease in the interest rate
increasing the initial amount of your deposit
decreasing the frequency of the interest payments
extending the length of the investment period

6. (TCO 3) Thirteen years from now, you will be inheriting $30,000. What is this inheritance worth to you today, if you can earn four percent interest compounded annually? (Points : 4)
$18,017.22
$20,741.87
$23,190.98
$26,359.88
$28,846.15

7. (TCO 3) The new home that you want to buy costs $249,500. You plan to make a cash down payment of 20 percent and finance the balance over 10 years at 6.75 percent. What will be the amount of your monthly mortgage payment? (Points : 4)
$2,291.89
$2,809.10
$3,287.46
$3,412.67
$4,145.68

8. (TCO 3) Which type of loan is comparable to the present value of a future lump sum? (Points : 4)
effective annual rate
amortized
interest-only
annual percentage
pure discount

9. (TCO 3) Fanta Cola has $1,000 par value bonds outstanding at 12 percent interest. The bonds mature in 25 years. What is the current price of the bond if the YTM is 13 percent? Assume annual payments. (Points : 4)
$1078
$1085
$927
$1000

10. (TCO 6) The market where new securities are offered is called the _____ market. (Points : 4)
primary
main
secondary
principal
dealer

11. (TCO 7) A taxpaying, levered firm’s optimal capital structure: (Points : 4)
is 100 percent equity financing.
consists of equal amounts of debt and equity financing.
is the mixture of debt and equity financing that minimizes the firm’s aftertax cost of debt.
is the mixture of debt and equity financing that minimizes the weighted average cost of capital.
is 100 percent debt financing.

12. (TCO 3) SmithKline Company’s bonds are currently selling for $1,157.75 per $1000 par-value bond. The bonds have a 10 percent coupon rate and will mature in 10 years. What is the approximate yield to maturity? (Points : 4)
6.96%
7.69%
11.0%
12.1%

13. (TCO 8) Which of the following is true regarding bonds? (Points : 4)
Bonds do not carry default risk.
Bonds are not sensitive to changes in the interest rates.
Moody’s and Standard and Poor’s provide information regarding a bond’s interest rate risk.
Municipal bonds are not free of default risk.
None of the above is true

14. (TCO 8) Which one of the following bonds is the most sensitive to interest rate movements? (Points : 4)
zero-coupon, five year
seven percent annual coupon, five year
zero-coupon, 10 year
five percent semi-annual coupon, 10 year
five percent annual coupon, 10 year

15. (TCO 6) Star Industries has one bond issue outstanding. An indenture provision prohibits the firm from redeeming the bonds during the first two years. This provision is referred to as a _____ provision. (Points : 4)
deferred call
market
liquidity
debenture
sinking fund

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Page 4

1. (TCO 6) Which of the following is true regarding income bonds? (Points : 4)
Are relatively uncommon
Can be exchanged for a fixed number of shares at maturity only
Can be exchanged for a fixed number of shares before maturity
Allow the holder to require the issuer to buy the bond back

2. (TCO 6 and 7) The term debenture refers to (Points : 4)
long-term, secured debt.
long-term, unsecured debt.
the after-acquired property clause.
a document covering the specific terms of the debt issue.

3. (TCO 6) Company A has a bond outstanding with $90 annual interest payment, a market price of $820, and a maturity date in five years. Assume the par value to be $1,000. What is the bond’s current yield? (Points : 4)
9%
14%
11%
Cannot be determined
None of the above

4. (TCO 2) Which one of the following practices will reduce a firm’s collection float? (Points : 4)
utilizing zero-balance accounts
depositing checks weekly, rather than daily
requiring all customers pay by check, rather than with cash
installing a lockbox system

paying all bills five days sooner

5. (TCO 2) Storage and tracking costs, insurance and taxes, and losses due to theft are examples of: (Points : 4)
Inventory depletion costs
Sunk costs
Carrying costs
Shortage costs

6. (TCO 1) Recent announcements of massive layoffs have increased stock prices for certain companies. Critics argue that this reaction encourages companies to fire employees. Do you agree or disagree? (Points : 10)

7. (TCO 4) What are sunk costs? Provide at least two real-life examples of sunk costs for a project. Should sunk costs be included as incremental cash flows? Why or why not? Explain your rationale. (Points : 10)

8. (TCO 8) What is the difference between business risk and financial risk? If Company A has a higher business risk than Company B, should its cost of capital be higher? Why or why not? Explain your rationale. (Points : 10)

9. (TCO 2) What are the costs associated with extending (or not extending) a credit policy to customers? (Points : 10)

10. (TCO 6 and 7) How can you calculate the cost of debt? What methods can you use? Provide at least two examples. (Points : 10)