Commerce 2FA3
Mid-term exam, March 16, 2001
Version A
1)
I want this exam to be marked with the grading scheme for
a) Version A
b) Version B
c) Version C
d) Version D
e) Version E
2)
XYZ Inc. has just paid an annual dividend of $2.75. Dividends are expected
to grow at an annual rate of 8%. What price should XYZ Inc.’s common
stock trade at if the appropriate discount rate for XYZ is 15%?
a) 18.33
b) 19.80
c) 37.13
d) 39.29
e) 42.43
3)
HiTek Inc. has never paid a dividend; EPS is currently $2 and is growing at a
rate of 20% annually. This growth rate is expected to continue for 5 years.
After that time they are expected to start paying dividends. The first
dividend, six years from today, is expected to be $3 and is expected to grow
at 6% indefinitely. At what price should HiTek's share be trading if the
required rate of return is 17%?
a) There's not enough information to find the price
b) $27.27
c) $12.44
d) $21.44
e) $27.32
4)
Paradise Properties is trading at $30 per share. According to their annual
report their earnings last year were $8,500,000. There are 4.25 million
shares of Paradise Properties outstanding. If investors require a return of
15% to invest in Paradise Properties, what percentage of that $30 per share
represents the growth potential of the company?
a) 15
b) 8.33
c) 55.6
d) 6.67
e) 16.67
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Commerce 2FA3
Mid-term exam, March 16, 2001
Version A
5)
Ptavv Inc. is has a current dividend yield of 7% and cost of capital of 15%. If
the current price of Ptavv's shares is $23, what price should you expect
Ptavv's shares to be trading at one year from now?
a) $23.00
b) $24.61
c) $24.84
d) $26.45
e) none of the above
6)
DDT's latest dividend was $5.00. The firm is experiencing financial
difficulties and the dividend is expected to shrink at a rate of 5% per year for
3 years before the company can return to profitability. After that time, the
dividends are expected to grow at 8% per year indefinitely. If investors have
a required rate of return of 12%, at what price should DDT be trading?
a) $41.67
b) $84.45
c) $87.23
d) $93.28
e) None of the above
7)
A preferred share feature that means that any missed dividends have to be
paid to the preferred shareholders before the common shareholders can
receive dividends is called
a) retractable
b) participating
c) convertible
d) senior
e) cumulative
8)
TWC has a class of preferred shares outstanding that has a stated value of
$100 and an annual dividend of $7.50. If those preferred shares are selling
for $93.75, what rate of return are investors requiring to invest in this issue?
a) 7.5%
b) 8.0%
c) 8.5%
d) 9.375%
e) none of the above
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Commerce 2FA3
9)
Mid-term exam, March 16, 2001
Version A
The appropriate discount rate for a firm is
a) the current T-Bill rate
b) the firm’s cost of capital
c) the prime rate
d) the firm’s marginal tax rate
e) none of the above
10) A project under consideration will generate after-tax cash flows of $5,000
per year for the next ten years. The payback period is 4.75 years. The firm's
cost of capital is 15%. What is the initial investment required for this
project?
a) $50,000
b) $25,094
c) $23,750
d) $16,171
e) $1,344
11) If project A has an IRR of 10% and project B has an IRR of 20% then
a) project A is preferred to project B
b) project B is preferred to project A
c) project A has a negative NPV
d) both projects have a positive NPV
e) the projects cannot be ranked without further information
12) The acceptance of a project implies that
a) its IRR is greater than 15%
b) its NPV is greater than its IRR
c) its NPV is greater than zero
d) its IRR is greater than the cost of capital for a disinvestment project
e) The payback period is greater than 1 year
13) If the NPV of a project is positive, the project’s profitability index (PI) must
be
a) greater than 1
b) less than 1
c) greater than zero
d) less than zero
e) unable to be determined without further information
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Commerce 2FA3
Mid-term exam, March 16, 2001
Version A
14) The MIRR will be higher than the IRR
a) under no circumstances
b) if the cost of capital is higher than the IRR
c) if the cost of capital is lower than the IRR
d) if the cost of capital is equal to the IRR
e) if the project has non-conventional cash flows
15) Which of the following is not a drawback of IRR?
a) You can get two or more answers.
b) The project’s scale is not taken into account
c) You need to know the firm’s cost of capital to calculate IRR
d) IRR implicitly assumes that cashflows can be reinvested at the IRR
e) The decision criteria is different for investment and disinvestment
projects
16) BGC Inc. is considering purchasing a machine for $100,000. The machine is
in class 8 (20%) for CCA purposes. This is the only transaction that will affect
class 8 this year. The machine is expected to generate $55,000 per year in
pre-tax cash flows for 5 years. At that time it will be scrapped for $10,000.
The CCA pool will not be left empty or with a negative balance. What is the
NPV of this project if BGC has a cost of capital of 15% and a marginal tax
rate of 40%?
a) $35,823
b) $36,959
c) $105,735
d) $109,570
e) none of the above
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Commerce 2FA3
Mid-term exam, March 16, 2001
Version A
17) HPL Inc. is evaluating two proposals for the use of factory space freed up by
the introduction of smaller, more efficient machinery. The projects are
therefore mutually exclusive. Project A has a NPV of $200,000 and would
last 5 years before it needed to be replaced. Project B has a NPV of
$225,000 and can be repeated after 6 years. HPL's cost of capital is 12%.
Which Project is preferred?
a) Project B because the NPV is higher
b) Project B because it lasts for 6 years before needing replacement
c) Project B on the basis of EAA
d) Project A on the basis of EAA
e) HPL should do both projects
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Commerce 2FA3
Mid-term exam, March 16, 2001
Version A
The following information applies to questions 18 – 20. Vista Engineering has a
hard rationing limit of $500,000 on its capital spending. Vista is considering the
following capital investment proposals.
Project
A
B
C
D
E
Initial Cost
$200,000
$175,000
$150,000
$150,000
$300,000
NPV _
$20,000
$12,500
$15,000
$22,500
$17,000
18) Which set of projects should the firm accept if all of the projects could be
postponed with no adverse effect on their cash flows?
a) A & E
b) A, C & D
c) C, D & E
d) B, C & D
e) All of the projects
19) How much is the hard capital rationing costing Vista this year if they have a
cost of capital of 12% and all of the projects can be postponed with no
adverse effect on their cash flows?
a) nothing
b) $29,500
c) $26,339
d) $3,161
e) there is not enough information given to estimate the cost
20) Which set of projects should the firm accept if project B had to be done now
or never and the other projects could be postponed with no adverse effect
on their cash flows?
a) A & E
b) A, C & D
c) C, D & E
d) B, C & D
a) All of the projects
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Commerce 2FA3
Mid-term exam, March 16, 2001
Version A
21) The value of a cash flow that the firm could have received if they did not
accept the project is called
a) a relevant cost
b) an alternative cost
c) an opportunity cost
d) an incremental cost
e) a direct cost
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Commerce 2FA3
Mid-term exam, March 16, 2001
Version A
The following information applies to questions 22 - 26. PNE Industries Inc. is
considering a capital budgeting proposal. The NPV is -$3 million when the
discount rate is zero. As the discount rate increases the NPV rises to 0 at r=3.7%
reaches a maximum of $4 million at r=12.7% falling back to 0 at r=22.5%. As the
discount rate approaches infinity, the NPV approaches -$2.5 million.
22) This project is best described as
a) a conventional investment project
b) a disinvestment or finacing project
c) a project with non-conventional cash flows
d) a mutually exclusive project
e) a complete waste of time
23) The internal rate of return (IRR) that would be found by a spreadsheet trial
and error routine with an initial guess of 25% would be
a) 0%
b) 3.7%
c) 12.7%
d) 22.5%
e) infinity
24) The initial cost of the project is
a) $2.5 million
b) $3.0 million
c) $3.5 million
d) $4.0 million
e) none of the above
25) If the cost of capital of PNE Industries Inc. is 15%, they should
a) reject the project due to negative NPV
b) accept the project on the basis of Payback
c) reject the project because their cost of capital exceeds 12.7%
d) reject the project because they can find 2 IRRs
e) accept the project on the basis of NPV
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Commerce 2FA3
Mid-term exam, March 16, 2001
Version A
26) The total (not discounted) cash inflows of the project are $25 million. What
are the total (not discounted) outflows of the project?
a) $22 million
b) $28 million
c) $27.5 million
d) $22.5 million
e) unable to be determined from the information given
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27) What is the present value of the tax shield on a $50,000 class 8 asset (20%)
for a firm with a cost of capital of 14%, an average tax rate of 27% and a
marginal tax rate of 36% that has net acquisitions of $100,000 in class 8?
a) $7,454
b) $7,941
c) $9,938
d) $10,588
e) impossible to calculate from the numbers given
28) If projects A and B are independent, which of the following is true?
a) NPV A+B > NPV A + NPV B
b) NPV A+B < NPV A + NPV B
c) NPV A+B = NPV A + NPV B
d) You can’t do both A and B
e) None of the above.
29) FMW Inc. bought a piece of land for $100,000 eight years ago. The land has
appreciated in value at a rate of 5% per year. FMW has a cost of capital of
14%, an average tax rate of 26% and a marginal tax rate of 38%. The
current capital gains inclusion rate is 50%. What cost should be charged a
project that makes use of this property?
a) $100,000
b) $119,674
c) $138,674
d) $147,746
e) none of the above
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Commerce 2FA3
Mid-term exam, March 16, 2001
Version A
30) A project with an apparently negative NPV may become viable if you
consider…
a) MIRR instead of IRR
b) payback instead of NPV
c) the use of internally generated funds
d) managerial options
e) none of the above
31) Who is least likely to believe in weak form market efficiency?
a) A finance professor
b) A technical analyst
c) The manager of an index linked mutual fund
d) A fundamental analyst
e) All of the above are likely to believe in weak form efficiency
32) If markets were strong form efficient, which of the following situations
would yield excess returns?
a) Analyzing a company’s earnings report
b) Identifying a pattern in a company’s stock price
c) Obtaining insider information
d) Following the advice of your broker’s newsletter
e) None of the above
33) The concept of an efficient market implies
a) all shares of stock have the same expected returns
b) stock prices do not fluctuate
c) prices reflect all available information
d) there is no upward trend in stock prices
e) none of the above
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Commerce 2FA3
Mid-term exam, March 16, 2001
Version A
The following information applies to questions 34 – 36. FAP is currently paying a
constant annual dividend of $2.50. Investors require a return of 12% on FAP
shares. You have found out that the new management of FAP is planning to
change strategy. Dividends will be cut by 40% and reinvested in the company. In
the future dividends are expected to grow by 8% per year. This new strategy will
be announced next week and will increase the required rate of return to 14%.
34) If the market is strong form efficient, what is the current price of FAP?
a) $17.86
b) $20.83
c) $25.00
d) $37.50
e) there is not enough information given to find the price
35) If the market is semi-strong form efficient, what is the current price of FAP?
a) $17.86
b) $18.75
c) $20.83
d) $25.00
e) $37.50
36) If you think that this inside information must be already included in the
price, you believe that the market is
a) not efficient
b) weak form efficient
c) semi-strong form efficient
d) strong form efficient
e) overpriced
* * * * The End * * * *
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