FSA 3321 – Fall (2004)
Exam 2 – Version 1
Moore
Second Examination – Finance 3321
Fall 2004 (Moore) – Version 1
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Where indicated, use the financial statement for Dell-U-Dead, Inc. (a large computer
manufacturer and distributor that sells in both the wholesale and retail markets).
Clearly Circle the BEST response for each of the following questions (Multiple Choice @5):
Use the attached financial statements for Dell-U-Dead Corp. to answer questions 1-3
1. Compute Dell-U-Dead’s working capital turnover for the year ended February 1, 2002.
a. 10.8
b. 87.1
c. 1.05
d. 1.43
e. 3.96
2. Compute Dell-U-Dead’s EBITDA per share for the year ended February 1, 2001.
a. $ 0.79
b. $ 1.33
c. $ 0.17
d. $ 0.35
e. $ 0.52
3. Compute Dell-U-Dead’s Sustainable Growth Rate for the year ended February 1, 2002.
(Assume no dividends are paid. Use the previous year’s ending equity to compute ROE.)
a. 26.5%
b. 38.7%
c. 46.4%
d. 22.2%
e. 42.8%
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FSA 3321 – Fall (2004)
Exam 2 – Version 1
Moore
4. Which of the following actions would decrease Dell-U-Dead’s SGR?
a. Increasing Gross Profit Margin
b. Increasing Fixed Asset Turnover
c. Reducing the Dividend Payout Rate
d. Common Share Repurchases
e. Reducing ROA
5. What is the measure that allows theoretical consistency between the underpinnings of
the residual income valuation model and the classical valuation models of finance?
a. Book value of equity
b. The cost of equity
c. Net income
d. Dividends
e. Operating cash flows
6. Manufactured Earnings is a "darling" of Wall Street analysts. Its current market price is
$15 per share, and its book value is $5 per share. The cost of equity is estimated to be 15%.
You have just estimated the long-term average ROE for the firm to be 30% per year and
have an intrinsic valuation of $20 per share. What is the growth rate in book value you used
for your valuation?
a. 7.5%
b. 10%
c. 12.5%
d. 15%
e. 17.5%
7. Based on in-class discussion, which of valuation models explains the greatest variation of
the observed stock prices?
a. Method of Comparables
b. Discounted Divdends
c. Free Cash flow to equity
d. Free cash flow to the firm
e. Residual income
8. Assume you had just performed a valuation using the residual income model. You found
that 40% of the value was supported by the current book value; that 35% of the value
was supported by residual income forecast annual for the next 7 years and the remainder
was associated with terminal value computations. What type of firm are you valuing?
a. An internet service provider such as AOL
b. EBAY
c. A micro-processor company such as Intel or AMD
d. A public utility company
e. A financial consulting firm
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FSA 3321 – Fall (2004)
Exam 2 – Version 1
Moore
Use the following information for Questions 9 and 10
Accounting-based valuation suggests that the P/B ratio has theoretical underpinnings to support
valuations. Assume the following equation is valid:
PPSt
E ROE t 1  k E  Et ROE t  2  k E 1  g t 1  Et ROE t 3  k E 1  g t 1 1  g t  2 
 1 t



1  k E 
BVE t
1  k E 2
1  k e 3
9. Which of the following would lead to a high market-to-book ratio?
a. Cost of equity is low; expected growth of book value is high; and expected future ROE
is high (relative to current period ROE).
b. Cost of equity is high; expected growth of book value is low; and expected future ROE
is low (relative to current period ROE).
c. Cost of equity is low; expected growth of book value is low; and expected future ROE
is low (relative to current period ROE).
d. Cost of equity is high; expected growth of book value is low; and expected future ROE
is low (relative to current period ROE).
e. Cost of equity is high; expected growth of book value is high; and expected future
ROE is low (relative to current period ROE).
10. Identify the appropriate theoretical valuation model the above equation converges to
a. Discounted free cash flows valuation
b. Discounted dividends valuation
c. Abnormal Earnings Growth valuation
d. Residual Income Valuation
e. none of the above
11. The present value of the terminal (continuation) value cash flow that begins in 9 years is
$10,000,000 assuming a cost of equity equal to 14%. The year 9 free cash flow
(beginning of the growing perpetuity) is $3,137,860. What is the growth rate required for
the continuation value term?
a. 1%
b. 2%
c. 3%
d. 4%
e. 5%
12. From an empirical (estimation) perspective, the main problem of the discounted dividends
valuation model (as compared to free cash flows and residual income) is that:
a. Dividend payments are too variable compared with price variability
b. The implied investment horizon to recover value is unrealistically short.
c. The amount of price variability explained by dividend variability is relatively small.
d. Next period’s dividends are relatively difficult to predict.
e. Special dividends are difficult to incorporate when firms pay regular dividends
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FSA 3321 – Fall (2004)
Exam 2 – Version 1
Moore
13. What is the primary reason that the present value of continuation value for free cash
flows is strictly larger than that of the residual income model?
a. The future terminal (continuation) cash flow is extremely sensitive to forecasting and
growth rate errors.
b. WACC is greater that ke
c. Residual income grows in an unbounded manner as time goes to infinity
d. Free cash flow grows in an unbounded manner as time goes to infinity
e. None of the above
Short Problem # 1 (Show all work to receive full credit) – 10 Points
Valuation with P/E and P/B multples
CrossTex Industries is a west Texas based natural gas producer and distributor that you are
trying to value.
Using the method of comparables, assess the value of CrossTex.
Information is provided concerning the current share price (PPS), current earnings per share
(EPS) and the current book value of equity per share (BPS) for Cross-Tex and three of its
competitors.
Required: Value CrossTex using the P/E and P/B multiples. Briefly comment on which
method comes closest to the observed market price of $41.75 per share.
CrossTex Industries
RGC Resources
Atmos Engergy Corp.
Kinder Morgan
PPS
41.75
24.33
25.75
63.40
EPS
2.83
1.78
1.55
3.11
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BPS
28.13
17.82
18.15
21.75
FSA 3321 – Fall (2004)
Exam 2 – Version 1
Moore
Short Problem # 2 (Show all work to receive full credit) – 25 Points
Use the Discounted Dividends Valuation Model to value General Electric at the end of 1999.
Assume kd = 4% and that ke = 8%
Assume after 2003 that dividends are expected to grow at 6% per year and residual income
is expected to grow at 5% per year.
Also, comment on your results.
General Electric
Forecast
year, t
EPS
DPS
BPS
Actual
1999
Forecast
2000
Forecast
2001
Forecast
2002
Forecast
2003
4.36
1.70
23.39
4.85
1.92
3.03
2.08
5.51
2.32
4.68
2.40
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FSA 3321 – Fall (2004)
Exam 2 – Version 1
Moore
Dell-U-Dead Computer Corporation
Balance Sheet (in Millions) (1 February 20XX)
ASSETS
Current Assets:
Cash and equivalents
Short-term Investments
Accounts Receivable (net)
Inventories
Other
2002
2001
$ 3,641
273
2,269
278
1,419
$ 4,910
525
2,424
400
1,467
Total Current Assets
$ 7,877
$ 9,726
826
4,373
359
100
996
2,418
290
240
Total non-current assets
$ 5,658
$ 3,499
Total Assets
$13,535
$13,670
$ 5,075
1,600
444
300
100
$ 4,286
1,550
192
450
300
$ 7,519
$ 6,778
520
302
150
120
230
509
261
120
100
280
Total Non-Current Liabilities
$ 1,322
$ 1,270
Total Liabilities
$ 8,841
$ 8,048
$ 5,605
(2,249)
1,364
( 26)
$ 4,795
--839
(12)
Total Stockholders’ Equity
$ 4,694
$ 5,622
Total Liabilities & Stockholders’ Equity
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$13,535
$13,670
Non-Current Assets:
Property, plant and equipment (net)
Investments
Goodwill
Other non-current assets
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current Liabilities:
Accounts Payable
Accrued Liabilities
Unearned Revenues
Notes Payable – Current
Other
Total Current Liabilities
Non-Current Liabilities:
Long-Term Debt
Pension Liabilities
Other Post-Retirement Benefit Liabilities
Deferred Tax Liability
Other Liabilities
Stockholders’ Equity:
Common Stock Issued and Outstanding
Treasury Stock
Retained Earnings
Other Comprehensive Income
FSA 3321 – Fall (2004)
Exam 2 – Version 1
Moore
Dell-U-Dead Computer Corporation
Income Statement (in Millions**)
For the Year Ending February 1, 20XX)=
Net Revenue
Less: Cost of Goods Sold
Gross Profit
Operating Expenses
Selling, General and Administrative
Interest Expense
Lease Expenses
Research, Development and Engineering
Special charges
Total operating expenses
Operating Income
Investment and other income (loss), net of tax
2002
2001
$31,168
25,661
$31,888
25,445
$ 5,507
$ 6,433
$ 1,824
76
884
452
482
$ 2,333
67
793
482
105
$ 3,718
$ 3,780
$ 1,789
(58)
$ 2,663
581
Income before taxes and cumulative effect
of change in accounting principle
$ 1,731
Provision for income taxes
485
$ 3,194
958
Income before cumulative effect of change
in accounting principle
$ 1,246
Cumulative effect of change in accounting principle
---
$ 2,236
59
Net Income
Earnings Per Common Share:
Basic EPS
Diluted EPS
Weighted Average Shares Outstanding:
Basic
Diluted
**
$ 1,246
$ 2,177
$ 0.48
$ 0.26
$ 0.87
$ 0.79
2,602
4,543
2,582
2,746
All items in millions of dollars except Earnings per Share data
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FSA 3321 – Fall (2004)
Exam 2 – Version 1
Moore
Dell-U-Dead Computer Corporation
Statement of Cash Flows (in Millions)
For the Year Ending February 1, 20XX
Cash Flows from Operating Activities:
Net Income
Adjustment to reconcile income to cash
provided by operating activities:
Depreciation and amortization
Tax benefits of employee stock plans
Special charges
Gains/Losses in investments
Other
Changes in:
Operating working capital
Non-current assets and liabilities
2002
2001
$ 1,246
$ 2,177
239
487
742
17
178
240
929
105
(307)
135
826
62
642
274
Net cash provided by operating activities $ 3,797
$ 4,195
Cash Flows from investing activities:
Investments in securities:
Purchases
Maturities and sales
Capital expenditures
$(5,382)
3,425
(303)
$(2,606)
2,331
(482)
$(2,260)
$ (757)
Cash flows from financing activities:
Purchase of common stock
$(3,000)
Issuance of common stock under employee plans
295
Other
3
$(2,700)
404
(9)
Net cash used in investing activities
Net cash used in financing activities
Effect of foreign exchange rates on cash
Net increase (decrease) in cash
$(2,702)
$(2,305)
(104)
(32)
$(1,269)
-8-
$ 1,101
FSA 3321 – Fall (2004)
Exam 2 – Version 1
Moore
Present Value Tables
% Rate
Periods
(n)
1
2
3
4
5
6
7
8
9
10
11
12
13
14
15
16
17
18
19
20
21
22
23
24
25
26
27
28
29
30
31
32
33
34
35
36
37
38
39
40
41
42
43
44
45
46
47
48
6.00%
0.9434
0.8900
0.8396
0.7921
0.7473
0.7050
0.6651
0.6274
0.5919
0.5584
0.5268
0.4970
0.4688
0.4423
0.4173
0.3936
0.3714
0.3503
0.3305
0.3118
0.2942
0.2775
0.2618
0.2470
0.2330
0.2198
0.2074
0.1956
0.1846
0.1741
0.1643
0.1550
0.1462
0.1379
0.1301
0.1227
0.1158
0.1092
0.1031
0.0972
0.0917
0.0865
0.0816
0.0770
0.0727
0.0685
0.0647
0.0610
7.00%
0.9346
0.8734
0.8163
0.7629
0.7130
0.6663
0.6227
0.5820
0.5439
0.5083
0.4751
0.4440
0.4150
0.3878
0.3624
0.3387
0.3166
0.2959
0.2765
0.2584
0.2415
0.2257
0.2109
0.1971
0.1842
0.1722
0.1609
0.1504
0.1406
0.1314
0.1228
0.1147
0.1072
0.1002
0.0937
0.0875
0.0818
0.0765
0.0715
0.0668
0.0624
0.0583
0.0545
0.0509
0.0476
0.0445
0.0416
0.0389
8.00%
0.9259
0.8573
0.7938
0.7350
0.6806
0.6302
0.5835
0.5403
0.5002
0.4632
0.4289
0.3971
0.3677
0.3405
0.3152
0.2919
0.2703
0.2502
0.2317
0.2145
0.1987
0.1839
0.1703
0.1577
0.1460
0.1352
0.1252
0.1159
0.1073
0.0994
0.0920
0.0852
0.0789
0.0730
0.0676
0.0626
0.0580
0.0537
0.0497
0.0460
0.0426
0.0395
0.0365
0.0338
0.0313
0.0290
0.0269
0.0249
9.00%
0.9174
0.8417
0.7722
0.7084
0.6499
0.5963
0.5470
0.5019
0.4604
0.4224
0.3875
0.3555
0.3262
0.2992
0.2745
0.2519
0.2311
0.2120
0.1945
0.1784
0.1637
0.1502
0.1378
0.1264
0.1160
0.1064
0.0976
0.0895
0.0822
0.0754
0.0691
0.0634
0.0582
0.0534
0.0490
0.0449
0.0412
0.0378
0.0347
0.0318
0.0292
0.0268
0.0246
0.0226
0.0207
0.0190
0.0174
0.0160
-9-
10.00%
0.9091
0.8264
0.7513
0.6830
0.6209
0.5645
0.5132
0.4665
0.4241
0.3855
0.3505
0.3186
0.2897
0.2633
0.2394
0.2176
0.1978
0.1799
0.1635
0.1486
0.1351
0.1228
0.1117
0.1015
0.0923
0.0839
0.0763
0.0693
0.0630
0.0573
0.0521
0.0474
0.0431
0.0391
0.0356
0.0323
0.0294
0.0267
0.0243
0.0221
0.0201
0.0183
0.0166
0.0151
0.0137
0.0125
0.0113
0.0103
11.00%
0.9009
0.8116
0.7312
0.6587
0.5935
0.5346
0.4817
0.4339
0.3909
0.3522
0.3173
0.2858
0.2575
0.2320
0.2090
0.1883
0.1696
0.1528
0.1377
0.1240
0.1117
0.1007
0.0907
0.0817
0.0736
0.0663
0.0597
0.0538
0.0485
0.0437
0.0394
0.0355
0.0319
0.0288
0.0259
0.0234
0.0210
0.0190
0.0171
0.0154
0.0139
0.0125
0.0112
0.0101
0.0091
0.0082
0.0074
0.0067
12.00%
0.8929
0.7972
0.7118
0.6355
0.5674
0.5066
0.4523
0.4039
0.3606
0.3220
0.2875
0.2567
0.2292
0.2046
0.1827
0.1631
0.1456
0.1300
0.1161
0.1037
0.0926
0.0826
0.0738
0.0659
0.0588
0.0525
0.0469
0.0419
0.0374
0.0334
0.0298
0.0266
0.0238
0.0212
0.0189
0.0169
0.0151
0.0135
0.0120
0.0107
0.0096
0.0086
0.0076
0.0068
0.0061
0.0054
0.0049
0.0043
13.00%
0.8850
0.7831
0.6931
0.6133
0.5428
0.4803
0.4251
0.3762
0.3329
0.2946
0.2607
0.2307
0.2042
0.1807
0.1599
0.1415
0.1252
0.1108
0.0981
0.0868
0.0768
0.0680
0.0601
0.0532
0.0471
0.0417
0.0369
0.0326
0.0289
0.0256
0.0226
0.0200
0.0177
0.0157
0.0139
0.0123
0.0109
0.0096
0.0085
0.0075
0.0067
0.0059
0.0052
0.0046
0.0041
0.0036
0.0032
0.0028
14.00%
0.8772
0.7695
0.6750
0.5921
0.5194
0.4556
0.3996
0.3506
0.3075
0.2697
0.2366
0.2076
0.1821
0.1597
0.1401
0.1229
0.1078
0.0946
0.0829
0.0728
0.0638
0.0560
0.0491
0.0431
0.0378
0.0331
0.0291
0.0255
0.0224
0.0196
0.0172
0.0151
0.0132
0.0116
0.0102
0.0089
0.0078
0.0069
0.0060
0.0053
0.0046
0.0041
0.0036
0.0031
0.0027
0.0024
0.0021
0.0019