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Exam 4: Capital Budgeting and Business Valuation

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Question 31

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You have an issue of preferred stock that is paying a $3 annual dividend. A fair rate of return on this investment is calculated to be 13.5%. What is the value of this preferred stock issue?

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$3/x = .13...

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Question 32

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Total assets of a firm are $1,000,000 and the total liabilities are $400,000. There are 250,000 common shares outstanding. The market price of the stock is $15 and net income for the past year was $150,000. a. Calculate the book value of the firm. b. Calculate the book value per share. c. Calculate the P/E ratio.

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$1,000,000 - 400,000 = $600,00...

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Question 33

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Why may the IRR and NPV methods differ in their ranking of two mutually exclusive projects? Assume both projects are acceptable under either method.

The amount that each common stockholder would received if the firm closed is called the:

Use the following information to answer the question below. You have been asked by the CEO of Gastric Anxiety Supplier (GAS) to evaluate the proposed acquisition of a new Standardized Test Templater (PowerPoint based) for the firm's accounting area. A recently completed $100,000 marketing survey demonstrates a high demand for the product. The equipment's basic price is $740,000 and it would cost another $220,000 to modify it for high altitude (Wasatch Mountain) use. The templater will be assigned to an asset class with a CCA rate of 60% declining balance. It will be sold after 3 years for $200,000. Use of the equipment would require a one-time increase in net working capital (spare parts inventory) of $75,000. The templater would have no effect on revenues, but it is expected to save the firm $440,000 per year in pre-tax operating costs, mainly labor. The firm's tax rate is 40 percent. Gastric uses a discount rate of 20%. -What is the additional (nonoperating) cash flow in year 3?

Interest rates are falling. Which bond will go up more in price: a five year bond or a 25 year bond of the same risk level( assume they have the same coupon)? Why%

Use the following information to answer the question below. You have been asked to render an opinion to your boss as to whether your employer should enter into the short-term capital project described below. The project requires the purchase of a new piece of equipment for a price of $25,000. The firm has paid a consultant $1,000 to estimate the revenues expected from the project. The firm that ships the equipment and installs it in our plant will charge $500. The project's incremental operating cashflows before taxes will be $15,000 per year for three years. At the end of three years the equipment will be sold for $7344. The equipment will go into an asset class with a CCA rate of 40%. The tax rate is 34% and the firm's required rate of return is 17%. (Note:this is not the only asset in the pool.) -Based on your net cash flows that you have calculated in the question above, what is the: a. payback period b. net present value c. internal rate of return

Explain what is meant by firm risk in capital budgeting decisions.

Which of the following is a correct capital budgeting decision rule?

The present value of the salvage value is:

What is the relevant cash flow in year three for the following projected cash flows of a new and an old machine?

Incremental cash flow can best be described as:

Use the following information to answer the question below. Five years ago Unicorp issued 8% semiannual coupon bonds. The bonds had a par value of $1000 and had an original maturity of 20 years when issued. -Assume the bond was issued at par with an 8% coupon payable semi annually. If you bought it two years after issue with a yield to maturity of 7% and sold it three years later at a yield to maturity of 9%, what would be your capital gain or loss on the transaction?

Super Corp dividends had a growth rate of 12% per year but that rate has declined to 8% per year. Super Corp has just paid a dividend of $1.00 and the stock is priced at $13. What is the required return of the common stock?

Which of the following is not an example of a sunk cost?

Two years ago you bought a 10 year bond for $1,000 (par value) with an 8% coupon payable semi annually.Today when you sell the bond YTM have fallen to 6%. What price will you receive for the bond?

Use the following information to answer the question below. You have been asked by the CEO of Gastric Anxiety Supplier (GAS) to evaluate the proposed acquisition of a new Standardized Test Templater (PowerPoint based) for the firm's accounting area. A recently completed $100,000 marketing survey demonstrates a high demand for the product. The equipment's basic price is $740,000 and it would cost another $220,000 to modify it for high altitude (Wasatch Mountain) use. The templater will be assigned to an asset class with a CCA rate of 60% declining balance. It will be sold after 3 years for $200,000. Use of the equipment would require a one-time increase in net working capital (spare parts inventory) of $75,000. The templater would have no effect on revenues, but it is expected to save the firm $440,000 per year in pre-tax operating costs, mainly labor. The firm's tax rate is 40 percent. Gastric uses a discount rate of 20%. -What is the net operating cash flows in year 3?

If a new machine requires an increase in current assets from $50,000 to $60,000 and current liabilities from $30,000 to $50,000, the dollar change in net working capital is:

Use the following information to answer the question below. Five years ago Unicorp issued 8% semiannual coupon bonds. The bonds had a par value of $1000 and had an original maturity of 20 years when issued. -If the bond is currently priced at $1142.36, what is its yield-to-maturity?

Use the following information to answer the question below. ACM, Inc. paid a $2.00 dividend yesterday. The dividend is expected to grow at a 20 percent annual rate for each of the next three years. After this period, the dividend will grow at 6 percent forever. The required rate of return on ACM is 15%. -What is the present value of the stock price at the end of the supernormal growth phase?