Commerce 2FA3
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Name: ________________________________
Student Number: _______________________
Commerce 2FA3
Instructor: K. Brewer
Duration of Examination: 2 Hours
THIS
EXAMINATION
PAPER
INCLUDES
12
PAGES
AND
35
QUESTIONS. YOU ARE RESPONSIBLE FOR ENSURING THAT YOUR
COPY OF THE PAPER IS COMPLETE. BRING ANY DISCREPANCY TO
THE ATTENTION OF YOUR INVIGILATOR.
Special Instructions:
a) Use of Casio FX-991 calculator only is allowed for this exam.
b) Each multiple-choice question has only one right answer.
Indicate your answer on the OMR scan sheet as specified in the
instructions on page 2. Correct answers will be worth 1 mark
and wrong or missing answers will be worth zero. There is no
correction factor.
c) A formula sheet will be distributed with this exam. No other
references are allowed.
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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)
Seven-year pure discount bonds sell for $52.50 per $100 face value. Market
expectations for interest rates seven years from now are 6% for a 1-year
investment and 5.5% for a 2-year investment. How much should an eightyear pure discount bond with a $1000 face value sell for if UET holds?
a) $469.46
b) $495.28
c) $497.63
d) $525.00
e) $627.41
3)
Four-year investments currently yield 5% and five-year investments also
yield 5%. If the liquidity preference theory (LPT) holds, what do investors
expect the 1-year rate to be in 4 years?
a) 5%
b) less than 5%
c) greater than 5%
d) You can't say since market yields for different maturities are
independently determined by market forces
e) none of the above
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4)
Which of the following is a legitimate reason the valuation of common stock
is generally harder than the valuation of bonds?
I)
Future cash flows on stocks are not known in advance.
II)
Common stocks don't have a maturity date.
III)
Common stock valuation is sensitive to estimates of the
dividend growth rate.
a) I only
b) I and II only
c) I and III only
d) II and III only
e) I, II, and III
5)
A stock's next expected dividend divided by the current stock price is the:
a) Total yield.
b) Current yield.
c) Earnings yield.
d) Dividend yield.
e) Capital gains yield
6)
Which of the following statements about dividends is false?
a) A corporation can be sued for not paying undeclared dividends.
b) The payment of dividends is at the discretion of the board of directors.
c) Preferred stock dividends often represent a tax-advantaged investment
for some corporations.
d) Dividends paid to shareholders represent a return on the capital directly
or indirectly contributed to the corporation by shareholders.
e) The payment of dividends by the corporation is not a tax-deductible
business expense.
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7)
What would you pay for a share of ABC Corporation stock today if the next
dividend will be $2 per share, your required return on equity investments is
12%, and the stock is expected to be worth $110 one year from now?
a) $95
b) $100
c) $110
d) $115
e) $120
8)
ABC Company's preferred stock is selling for $25 a share. If the required
return is 12%, what will the dividend be two years from now?
a) $2.39
b) $2.50
c) $3.00
d) $3.30
e) $3.76
9)
The current price of XYZ stock is $50. Dividends are expected to grow at 7%
indefinitely and the most recent dividend was $1. What is the required rate
of return on XYZ stock?
a) 9.0%
b) 9.1%
c) 9.3%
d) 10.6%
e) 11.2%
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10) 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
12% to invest in Paradise Properties, what percentage of that $30 per share
represents the growth potential of the company?
a) 8.33
b) 15.0
c) 44.4
d) 55.6
e) cannot be determined from the information given
11) Ptavv Inc. is has a current dividend yield of 8% 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
12) DDT's most recent dividend was $5.00. The firm is experiencing financial
difficulties and dividend growth is expected to slow to 2% per year for the
next 5 years before the company returns to its long term growth rate of 5%.
If investors have a required rate of return of 11%, at what price should DDT
be trading?
a) $62.89
b) $64.15
c) $75.36
d) $76.87
e) $87.50
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13) 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) senior
b) retractable
c) convertible
d) cumulative
e) participating
14) Saskatchewan Steel Ltd. and Alberta Copper Inc. both recently announced
earnings of $400,000. Both companies have common shares outstanding of
250,000 and rates of return of 10%. Saskatchewan Steel has a new project
that will generate net cash flows of $50,000 per year forever. Alberta
Copper has a new project that will generate net cash flows of $40,000 per
year forever. The stock price of Saskatchewan Steel should be _______
greater than the stock price of Alberta Steel.
a) $0.04
b) $0.40
c) $3.60
d) $4.00
e) $100,000
15) The appropriate discount rate for a firm is
a) the central bank overnight rate
b) the firm’s cost of capital
c) the prime rate
d) the firm’s marginal tax rate
e) none of the above
16) A project should be accepted if _________.
a) Its net present value is greater than zero
b) Its average accounting return is greater than 15%
c) its IRR is greater than the company's cost of capital
d) The payback period is longer than the arbitrary cutoff value
e) both a) and c)
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17) Suppose a project costs $500 and produces cash flows of $125 over each of
the following six years. There is no salvage value and all cash flows are on
an after-tax basis. What is the IRR of the project?
a) Less than 10%
b) Between 10% and 15%
c) Between 15% and 20%
d) Over 20%
e) It would depend on the company's cost of capital
18) For a conventional investment project, if the NPV > 0, then the
a) the PI is less than 1
b) the AAR exceeds the IRR
c) the IRR is greater than the firm's cost of capital
d) the project does not pay back on a discounted basis
e) the payback period is shorter than the firm's required cutoff point
19) Which of the following can cause a project to have multiple IRRs?
a) The project is a disinvestment project
b) The project has conventional cash flows
c) The project has a large initial negative cash flow
d) The project cash flows are considered to be non-conventional
e) Two or more mutually exclusive investments are being considered
20) Your firm is planning to buy a new metal stamping press. The CFO presents
you with two analyses: one for a press that is automated, requiring little
labor to operate, and another that is manual, requiring a significant amount
of labor to operate. This is an example of a decision involving
a) crossover projects
b) independent projects
c) positive NPV projects
d) working capital projects
e) mutually exclusive projects
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21) A project under consideration will generate after-tax cash flows of $15,000
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) $23,750
b) $48,513
c) $71,250
d) $75,282
e) $150,000
22) If a conventional investment has a(n) ___________ of 1.12 it can be said the
investment generates $1.12 in present value benefits for each dollar
invested.
a) Payback period
b) net present value
c) profitability index
d) internal rate of return
e) average accounting return
23) You have a choice between 2 mutually exclusive investments. If you require
a 14% return, which investment should you choose?
A
B
Year Cash Flow
Cash Flow
0
–$150,000
–$120,000
1
50,000
72,000
2
90,000
50,000
3
70,634
40,000
a) Project A because it has a higher NPV
b) Project B because it has a higher NPV
c) Project B because it has the higher IRR
d) Either one, because the have the same PI
e) Project B because it has a smaller initial investment
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24) The value of a cash flow that the firm could have received if they did not
accept the project is called
a) a sunk cost
b) a direct cost
c) an alternative cost
d) an opportunity cost
e) an incremental cost
25) MGD Enterprises Inc. is considering an investment project that requires the
purchase of a machine (CCA class 8, 20%) for $237,500. The machine has an
expected life of 8 years and an expected salvage value of $0. MGD has an
average tax rate of 27.5%, a marginal tax rate of 32% and a cost of capital of
12.5%. What is the value of the CCA tax shield assuming that this is the only
class 8 transaction this year and that the pool will not be left empty when
the project ends?
a) $37,959
b) $40,192
c) $44,171
d) $46,769
e) none of the above
26) PNE Industries Inc. is considering a capital budgeting proposal. When the
discount rate is zero, the NPV is -$3 million. 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 -$3.5 million. 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
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27) If projects A and B are projects with negative interdependence, which of the
following is true?
a) You can’t do both A and B
b) NPV (A+B) > NPV (A) + NPV (B)
c) NPV (A+B) = NPV (A) + NPV (B)
d) NPV (A+B) < NPV (A) + NPV (B)
e) None of the above.
28) Management at AAE Inc. is considering two proposals for an upgrade to
current production line. Project A would cost $45,000 and save $12,000 per
year for 7 years. Project B would cost $64,000 and save 20,000 per year over
its 5-year life. All figures are on an after tax basis. The projects are mutually
exclusive and repeatable. What decision should the management make if
AAE's cost of capital is 12%?
a) Project A because it has a higher NPV
b) Project B because it has a higher NPV
c) Project B because it has the higher IRR
d) Project A because it has the higher EAA
e) Project B because it has the higher EAA
29) A golf course/property developer buys twice as much land as is needed to
build an 18-hole golf course and housing development so that, if things go
very well, a second 18-hole golf course and housing project can be added to
the project. The developer is prepared to exercise _________.
a) the option to quit
b) the option to expand
c) the option to abandon
d) the option to wait
e) the option to rebuild
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30) FGU Inc. is considering a capital budgeting proposal that costs $15 million
to start and would generate either $5 million per year or $3 million per year
for the next 7 years. Which cash flow is appropriate will be known after the
first year, there is a 50% chance of each. The project includes the option to
shut down at the end of the first year with a salvage value of $13 million. All
amounts are on an after-tax basis. What is the NPV of the project if FGU has
a cost of capital of 16%?
a) -$2.9 million
b) -$1.2 million
c) $1.5 million
d) $2.0 million
e) $5.2 million
31) A previous bond covenant has restricted your capital spending to $10
million per year. You have identified 5 projects with the following
characteristics.
Project A costs $2.5 million with a PI of 1.05
Project B costs $3.0 million with a PI of 1.07
Project C costs $2.0 million with a PI of 1.09
Project D costs $4.0 million with a PI of 1.12
Project E costs $3.5 million with a PI of 1.10
Which projects should you accept?
a) A, B, C
b) B, C, D
c) C, D, E
d) A, C, E
e) None of the above
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32) HRC faces hard capital rationing of $1,000,000 per year. They currently have
identified six project with a cost $250,000 each and a NPV of $60,000 each.
The projects can be delayed with no adverse effects. HRC has a cost of
capital of 12%. How much is the capital rationing costing HRC on a present
value basis?
a) $ 12,857
b) $ 14,400
c) $ 53,571
d) $ 60,000
e) $120,000
33) One of the most commonly used measures of the total risk of an investment
is
a) The inflation rate
b) The risk premium
c) The standard deviation
d) The return on investment
e) The standard normal distribution
34) Based on publicly available information you would expect XYZ Inc. to pay an
annual dividend of $2.25 at the end of this year, and you would expect
dividends to grow at an annual rate of 8%. The appropriate discount rate
for XYZ is 15%. The board has accepted a project that will allow the next
dividend to be $2.75, with the 8% growth rate to continue after that point.
At what price should shares of XYZ trade if the market is strong form
efficient?
a) $32.14
b) $34.71
c) $37.13
d) $39.29
e) $42.43
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35) Suppose you purchase a stock expecting the price to rise in the coming
year. After one year, your stock has actually decreased in value, due
primarily to adverse information released during the year. Which of the
following describes this result?
a) This is a violation of strong form efficiency.
b) This is a violation of semi-strong form efficiency.
c) This is a violation of weak form efficiency.
d) This is a violation of all forms of market efficiency.
e) This is not a violation of market efficiency.
* * * The End * * *
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