You buy a share of The Ludwig Corporation stock

You buy a share of The Ludwig Corporation stock

Subject: Business    / Finance
Question

QUESTION 1

You buy a share of The Ludwig Corporation stock for $18.75. You expect it to pay dividends of $1.70, $1.802, and $1.9101 in Years 1, 2, and 3, respectively, and you expect to sell it at a price of $26.22 at the end of 3 years.

Calculate the expected dividend yield.

6.48%

15.70%

9.07%

39.84%

13.28%

10 points

QUESTION 2

Assume that you are an intern with the Brayton Company, and you have collected the following data: The yield on the company’s outstanding bonds is 7.75%; its tax rate is 40%; the next expected dividend is $0.50 a share; the dividend is expected to grow at a constant rate of 6.00% a year; the price of the stock is $25.00 per share; the flotation cost for selling new shares is F = 5%; and the target capital structure is 25% debt and 75% common equity. What is the firm’s WACC, assuming it must issue new stock to finance its capital budget?

6.89%

7.24%

7.64%

8.55%

8.44%

10 points

QUESTION 3

Carby Hardware has an outstanding issue of perpetual preferred stock with an annual dividend of $7.00 per share. If the required return on this preferred stock is 6.5%, at what price should the preferred stock sell?

$102.55

$106.95

$107.69

$112.50

$115.38

10 points

QUESTION 4

According to the Profitability Index method of capital budgeting, one should accept a project as long as its profitability index is positive.

True

False

10 points

QUESTION 5

Yoga Center Inc. is considering a project that has the following cash flow and WACC data. What is the project’s NPV?

WACC:    14.24%
Year    0    1    2    3    4
Cash flows    -$1,200    $400    $425    $450    $475
$41.20

$45.84

$50.90

$56.50

$62.88

10 points

QUESTION 6

Companies can issue different classes of common stock. Which of the following statements concerning stock classes is CORRECT?
All common stocks, regardless of class, must have the same voting rights.
All firms have several classes of common stock.
All common stock, regardless of class, must pay the same dividend.
Some class or classes of common stock are entitled to more votes per share than other classes.
All common stocks fall into one of three classes: A, B, and C.

10 points

QUESTION 7

What is the crossover rate for these two projects?
Year    Project A    Project B
0    ($25)    ($25)
1    20    20
2    10    10
3    15    8
4    20    6

13.53%

54%

36%

17%

There is no crossover rate for these projects.

10 points

QUESTION 8

Barnette Inc.’s free cash flows are expected to be unstable during the next few years while the company undergoes restructuring. However, FCF is expected to be $50 million in Year 5, i.e., FCF at t = 5 equals $50 million, and the FCF growth rate is expected to be constant at 5% beyond that point. If the weighted average cost of capital is 12%, what is the horizon value (in millions) at t = 5?

$719

$750

$797

$850

$883

10 points

QUESTION 9

Shannon Co. is considering a project that has the following cash flow and WACC data. What is the project’s discounted payback?
WACC:    4.00%
Year    0    1    2    3    4
Cash flows    -$950    $525    $485    $445    $405
1.61 years

1.79 years

1.99 years

2.22 years

2.44 years

10 points

QUESTION 10

Which of the following statements is wrong about evaluating two independent projects with normal cash flows?

Both MIRR and IRR methods will lead to the same decision regarding accepting or rejecting the projects.

Both NPV and Payback period methods will lead to the same decision regarding accepting or rejecting the projects.

Both NPV and IRR methods will lead to the same decision regarding accepting or rejecting the projects.

Both NPV and Profitability Index methods will lead to the same decision regarding accepting or rejecting the projects.

Both NPV and MIRR methods will lead to the same decision regarding accepting or rejecting the projects.

10 points

QUESTION 11

Which of the following statements is NOT a disadvantage of the regular payback method?
Ignores cash flows beyond the payback period.
Does not directly account for the time value of money.
Does not provide any indication regarding a project’s liquidity or risk.
Does not take account of differences in size among projects.
Lacks an objective, market-determined benchmark for making decisions.

10 points

QUESTION 12

Kellner Motor Co.’s stock has a required rate of return of 12.50%, and it sells for $25.00 per share. Kellner’s dividend is expected to grow at a constant rate of 6.00%. What was the last dividend, D0? Remember, give D0, not D1.

$0.95

$1.05

$1.16

$1.22

$1.53

10 points

QUESTION 13

If a firm’s beta increased, everything else being the same, its required rate of return would

decrease.

fluctuate less than before.

fluctuate more than before.

possibly increase, possibly decrease, or possibly remain constant.

increase.

10 points

QUESTION 14

An option is a contract that gives its holder an obligation to buy or sell an asset at a predetermined price within a specified period of time.

True

False

10 points

QUESTION 15

Radiohead Inc purchased a new plastic tree making plant. The new truck cost $30,000, and it is expected to generate net after-tax operating cash flows, including depreciation, of $8,500 per year. The truck has a 5-year expected life. The expected salvage values after tax adjustments for the truck are given below. The company’s cost of capital is 12%. What is the project’s optimal economic life?
Year    Annual Operating Cash Flow    Salvage Value
0    ($30,000)    $30,000
1    8,500    20,000
2    8,500    19,000
3    8,500    15,000
4    8,500    7,000
5    8,500    0

2 years
5 years
1 year
3 years
4 years

10 points

QUESTION 16

Assume a project has normal cash flows. All else equal, which of the following statements is CORRECT?
A project’s NPV increases as the WACC declines.
A project’s MIRR is unaffected by changes in the WACC.
A project’s regular payback increases as the WACC declines.
A project’s discounted payback increases as the WACC declines.
A project’s IRR increases as the WACC declines.

10 points

QUESTION 17

Your firm has equal amounts of low-risk, average-risk, and high-risk projects. Your firm’s overall WACC is 15%. The CFO believes that this is the correct WACC for the company’s average-risk projects, but that a lower rate should be used for lower-risk projects and a higher rate for higher-risk projects. The CEO disagrees, on the grounds that even though projects have different risks, the WACC used to evaluate each project should be the same because the company obtains capital for all projects from the same sources. If the CEO’s position is accepted, what is likely to happen over time?

The company will take on too many low-risk projects and reject too many high-risk projects.

Things will generally even out over time, and, therefore, the firm’s risk should remain constant over time.

The company’s overall WACC should decrease over time because its stock price should be increasing.

The CEO’s recommendation would maximize the firm’s intrinsic value.

The company will take on too many high-risk projects and reject too many low-risk projects.

10 points

QUESTION 18

Based on the corporate valuation model, the value of Weidner Co.’s operations is $1,200 million. The company’s balance sheet shows $80 million in accounts receivable, $60 million in inventory, and $100 million in short-term investments that are unrelated to operations. The balance sheet also shows $90 million in accounts payable, $120 million in notes payable, $300 million in long-term debt, $50 million in preferred stock, $180 million in retained earnings, and $800 million in total common equity. If Weidner has 25 million shares of stock outstanding, what is the best estimate of the stock’s price per share?

$22.50

$27.67

$30.43

$33.20

$36.82

10 points

QUESTION 19

Burke Tires just paid a dividend of D0 = $1.32. Analysts expect the company’s dividend to grow by 30% this year, by 12% in Year 2, and at a constant rate of 5% in Year 3 and thereafter. The required return on this low-risk stock is 9.50%. What is the best estimate of the stock’s current market value?

$40.57

$42.65

$43.75

$44.87

$49.84

10 points

QUESTION 20

Laramie Labs uses a risk-adjustment when evaluating projects of different risk. Its overall (composite) WACC is 10%, which reflects the cost of capital for its average asset. Its assets vary widely in risk, and Laramie evaluates low-risk projects with a WACC of 8%, average-risk projects at 10%, and high-risk projects at 12%. The company is considering the following projects:

Project    Risk    Expected Return
A    High    15%
B    Average    12%
C    High    11%
D    Low    9%
E    Low    6%

Which set of projects would maximize shareholder wealth?
A and B.
A, B, and C.
A, B, and D.
A, B, C, and D.
A, B, C, D, and E.

10 points

QUESTION 21

Rolling Coins Inc (RCI) had an earnings per share (EPS) of $3.20 4 years ago. This year, the EPS was $5.50. Based on this past growth, what will be RCI’s EPS next year?

$6.08

$8.11

$6.30

$7.80

$8.02

10 points

QUESTION 22

Burnham Brothers Inc. has no retained earnings since it has always paid out all of its earnings as dividends. This same situation is expected to persist in the future. The company uses the CAPM to calculate its cost of equity, and its target capital structure consists of common stock, preferred stock, and debt. Which of the following events would REDUCE its WACC?
The flotation costs associated with issuing new common stock increase.
The company’s beta increases.
Expected inflation increases.
The flotation costs associated with issuing preferred stock increase.
The market risk premium declines.

10 points

QUESTION 23

Which of the following is NOT a capital component when calculating the weighted average cost of capital (WACC) for use in capital budgeting?

Current Assets.

Retained earnings.

Common stock raised by new share issues.

Preferred stock.

Long-term debt.

10 points

QUESTION 24

Suzanne’s Cleaners is considering a project that has the following cash flow data. What is the project’s payback?

Year    0    1    2    3    4    5
Cash flows    -$1,000    $300    $410    $340    $330    $340
2.31 years

2.56 years

2.85 years

3.16 years

3.52 years

10 points

QUESTION 25

As the price of a stock rises above the strike price, the value investors are willing to pay for a call option increases because both (1) the immediate capital gain that can be realized by exercising the option and (2) the likely exercise value of the option when it expires have both increased.

True

False