QUESTION
QUESTION
QUESTION
2. Business risk is concerned with the operations of the firm. Which of the following is not
associated with (or not a part of) business risk?
a. Demand variability
b. Sales price variability
c. The extent to which operating costs are fixed.
d. Changes in required returns due to financing decisions.
3. The firm's target capital structure is consistent with which of the following?
a. Maximum earnings per share (EPS).
b. Minimum cost of debt (kd).
c. Minimum cost of equity (ks).
d. weighted average cost of capital (WACC).
4. Which of the following factors is likely to encourage a corporation to increase the proportion
of debt in its capita structure?
a. An increase in the corporate tax rate.
b. An increase in the personal tax rate
c. An increase in the company's degree of operating leverage.
d. The company's assets become less liquid.
5. Which of the following would increase the likelihood that a company would increase its debt
ratio in its capital structure?
a. An increase in costs incurred when filing for bankruptcy.
b. An increase in the corporate tax rate.
c. An increase in the personal tax rate.
d. An increase in the firm's business risk.
9. A decrease in a firm's willingness to pay dividends is likely to result from an increase in its
a. Earnings stability.
b. Access to capital markets.
c. Profitable investment opportunities.
d. Collection of accounts receivable.
10. The lease analysis should compare the cost of leasing to the
a. Cost of owning using debt.
b. Cost of owning using equity
c. After-tax cost of debt to measure the effect of leasing on the cost of equity
d. Average cost of all fixed charges.
12. Which of the following would not have an influence on the optimal dividend policy?
a. The possibility of accelerating or delaying investment projects
(All of the above can have an effect on dividend policy)
13. A stock split will cause a change in the total dollar amounts shown in which of the following
balance sheet accounts?
a. Common stock.
b. Paid-in capital.
c. Retained earnings.
d. None of the statements above is correct.
14. If a firm adheres strictly to the residual dividend policy, a sale of new common stock by the
company would suggest that
a. The dividend payout ratio has remained constant.
b. The dividend payout ratio is increasing.
c. No dividends were paid for the year.
d. The dividend payout ratio is decreasing
15. Which of the following is not commonly regarded as being a corporate's credit policy
variable?
a. Credit period.
b. Collection policy.
c. Credit standards
d. Credit manager salary
16. The riskiness of the cash flows to the lessee with the possible exception of residual value, is
about the same the riskiness of the lessee's
a. Equity cash flows.
b. Capital budgeting project cash flows
c. Debt cash flows.
d. Pension fund cash flows.
17. Which of the following actions will enable a company to raise additional equity capital (that
is, which of the following will raise the total book value of equity)?
a. The establishment of a new-stock dividend reinvestment plan
b. A stock split.
c. The establishment of an open-market purchase dividend reinvestment plan.
d. A stock repurchase.
19. Other things held constant, which of the following will cause an increase in working capital?
a. Cash is used to buy marketable securities.
b. A cash dividend in declared and paid
c. Merchandise is sold at a profit, but the sale is on credit
d. Lone-term bonds are returned with the proceeds of
21. Which one of the following aspects of banks is consideredmost relevant to businesses when
choosing a bank?
a. Convenience of location
b. Competitive cost of services provided.
c. Size of the bank's deposits.
d. Loyalty and willingness to assume lending risks,
22. The Price Company will produce $5,000 widgets nextyear. Variable costs will equal 40
percent of sales, whilefixed costs will total $110,000. At what price must eachwidget be sold
for the company to achieve an EBIT of$95,000?
a. $2:00
b. $4.45
c. $5.00
d. $6.21
23. Texas Products Inc has a division that makes burlap bags for the citrus industry. The division
has fixed costs of $10.000 per month, and it expect to sell 42,000 bags per month. If the
variable cost per bag is $2.00, what price must the division charge in order to break even?
a. $2.24
b. $2.47
c. $2.82
d. $2.00
24. Loiselle Graphics recently announced a 3-for-1 stock split. Prior to the split, the company a
stock was trading at $90 per share. The split had no effect on the wealth of the company's
investor, what will be the new stock price?
a. $270
b. $ 45
c. $180
d. $ 30
Question 4 ( Marks)
Callison Airlines is deciding whether to pursue a restricted or relaxed current asset investment
policy. Callison's annual sales are expected to total $3.6 million, its fixed assets turnover ratio equals
4.0, and its debt and common equity are each 50 percent of total assets. EBIT is $150,000, the
interest rate on the firm's debt is 10 percent, and the firm's tax rate is 40 percent. If the company
follows a restricted policy, its total assets turnover will be 2.5. Under a relaxed policy, its total assets
turnover will be 2.2.
1. If the firm adopts a restricted policy, how much will it save in interest expense what is the
difference in the projected ROEs between the restricted and relaxed policies?
2. Assume now the company expects that if it adopts a restricted policy, its sales will fall by 15
percent, EBIT will fall by 10 percent, but its total assets turnover, debt ratio, interest rate,
and tax rate will remain the same. In this situation, what is the difference in the projected
ROEs between the restricted and relaxed policies?
Question 6 (3 Marks)
Your company has decided that its capital budget during the coming year will be $20 million. Its
optimal capital structure is 60percent equity and 40 percent debt. Its earnings before interest and
taxes (BIT) are projected to be $34.667 million for the year.The company has $200 million of assets;
its average interest rate on outstanding debt is 10 percent; and its tax rate is 40 percent. Ifthe
company follows the residual dividend policy and maintains the same capital structure, what will its
dividend payout ratio be?
Question 3 (4 Marks)
Balance Sheet
Income Statement
For the year ended December 31, 2007
Sales 3,600,000
EBIT 320,280
Interest 18,280
EBIT 302,000
Dividends 108,000
Suppose that in 2008 sales increase by 10% over 2007 sales and that 2008 dividends will increase to
$112,000. Construct the pro forma financial statements using the percent of sales method. Assume
the firm operated at full capacity in 2007, Use an interest rate of 13% on the debt balance at the
beginning of the year.
Question 5 (4 Marks)
The balance sheet of Roop Industries is shown below. The 12/31/2007 value of operations is $651
million and there are 10 million shares of common equity. What is the price per share?
Balance Sheet
31 Dec 07
(Million of Dollars)
The Randolph Teweles Company (RTC) has decided to acquire a new truck, One alternative is to
lease the truck on a 4-year guideline contract for a lease payment of $10,000 per year, with
payments to be made at the beginning of each year. The lease would include maintenance.
Alternatively, RTC could purchase the truck outright for $40,000, financing the purchase by a bank
loan for the net purchase price and amortizing the loan over a 4-year period at an interest rate of
10% per year.
Under the borrow-to-purchase arrangement, RTC would have to maintain the truck at a cost of
$1,000 per year, payable at year end. The truck falls into the MACRS 3-year class. It has a residual
value of $10,000, which is the expected market value after 4 years, when RTC plans to replace the
truck irrespective of whether it leases or buys. RTC has a marginal federal-plus-state tax rate of 40%.
The company has no growth opportunities so the company pays out all of the earning
dividend’syoung’s stock price can be calculated simply dividing earning per share by the required on
equity capital which currently equals the WACC because the company has no debt.
The consultant believes that the company would be much better off it were change its capital
structure to 40 percent debt and 60 percent equity after meeting with investment bankers the
concludes that the company could issue $1,200 million of debt at a before tax cost of 7 percent
leaving the company with interest expense of $84 million the $1,200 million raised from the debt
issues would be used to repurchase stock at $32 per share. The repurchase will have no effect on
that firms EBIT however after the repurchase the cost of equity will increase to 11 percent if the frim
follow the consultant advice what will be its estimated stock price after the capital structure change?