TAMUC Fin504 exams WEEK 12 EXAM

Question 1. Question
: Rank in ascending order
(lowest to highest) the relative risk associated with holding the preferred
stock, common stock and bonds of a firm:

Student Answer: preferred stock, bonds, common stock

bonds, common stock, preferred stock

common stock, preferred stock, bonds

bonds, preferred stock, common stock

Points Received: 3 of 3
Comments:

Question 2. Question
: The quality of a debenture
depends on the

Student Answer: general credit-worthiness of the issuing
company

value of the assets used as collateral

the coupon rate of the debenture

length of time to maturity

Points Received: 3 of 3
Comments:

Question 3. Question
: An AT&T 5½05 bond with a
current yield of 6.2% must be selling ____ its face value.

Student Answer: above

at

below

any of the above could be correct

Points Received: 3 of 3
Comments:

Question 4. Question
: Up in Smoke Tobacco Shops’
bond carries a 9 percent coupon, pays interest semiannually, and has 10 years
to maturity. What is the bond’s yield to maturity if the bond is selling for
$937.75 (rounded to the nearest whole percent)?

Student Answer: 8.0%

10.0%

9.0%

7.0%

Question 5. Question
: Determine the yield to
maturity to the nearest tenth of 1 percent of a zero coupon bond with 8 years
to maturity that is currently selling for $404.

Student Answer: 11.3%

12.3%

11.7%

12.0%

Question 6. Question
: What is the value of a
Northern Pacific bond with an 11 percent coupon, maturing in 15 years? Assume
the market rate for this bond is 14 percent and that the interest is paid
semiannually.

Student Answer: $1,000

$790.74

$813.50

$853.30

3 of 3
Comments:

Question 7. Question
: What is the required rate of
return to the investor who is willing to purchase a Duke Power preferred stock
with a $8.70 dividend, a par value of $100, and a current market price of $87?

Student Answer: 10.7%

8.7%

9.4%

10.0%

Question 8. Question
: ICX Company has an issue of
perpetual bonds (par value to $1,000) that pays 5% annual interest. Determine
the yield (to the nearest tenth of 1 percent) if the bonds are currently
selling for $625.

Student Answer: 5.0%

8.0%

3.1%

6.25%

Question 9. Question
: Equipment trust certificates
are used mainly by

Student Answer: equipment manufacturers

oil drilling companies

state governments

trucking companies

Question 10. Question
: All of the following types of
bonds are secured except

Student Answer: collateral trust

mortgage

debentures

equipment trust certificates

Points Received: 3 of 3
Comments:

Question 11. Question
: The call feature is an
advantage to the issuing firm

Student Answer: if the bond has a floating rate

if interest rates decline

if the bond has a low par value

if interest rates increase

Points Received: 3 of 3
Comments:

Question 12. Question
: Which of the following is not
a characteristic of common stock:

Student Answer: has no maturity date

considered a permanent form of long-term
financing

has claims on assets prior to those of
preferred stock

is a residual form of ownership

Points Received: 3 of 3
Comments:

Question 13. Question
: Common stockholders have a
number of general rights, including all of the following except:

Student Answer: voting rights

management rights

asset rights

dividend rights

Points Received: 3 of 3
Comments:

Question 14. Question
: In a reverse stock split

Student Answer: the number of shares are decreased

the market value is decreased

retained earnings decrease

par value decreases

Points Received: 3 of 3
Comments:

Question 15. Question
: When a stock is split 2 for 1,
then the ____ figure on the firm’s balance sheet is cut in half.

Student Answer: value of the common stock

par value

capital surplus

retained earnings

Points Received: 3 of 3
Comments:

Question 16. Question
: Keeping Pace Enterprises,
makers of track and field equipment, has common stock that sells for $29, and
its dividends are expected to grow at a rate of 9 percent annually. If
investors in Pace require a return of 14%, what is the expected dividend next
year?

Student Answer: $1.33

$2.40

$1.45

$1.60

Points Received: 3 of 3
Comments:

Question 17. Question
: Chill Pill Pharmaceuticals is
expecting a growth rate of 14% for the next two years due to its new drug.
Thereafter it should level to an 8% growth rate. The last dividend paid was
$.65 per share. What price should the stock sell for if investors require 12%
return.

Student Answer: $18.14

$22.75

$19.47

$20.16

Points Received: 3 of 3
Comments:

Question 18. Question
: Haulin’ It Towing Company is
selling a stock for $16. The stock just
paid a dividend of $.60 and this dividend is expected to grow by 15% per year
for three years. After that it will grow
at a constant rate of 4%. The stock’s
beta is 1.7, the risk-free rate of interest is 1.75% and the market risk
premium is 5.25%. Should you buy the stock? (Round to dollars and cents or two decimal
points)
Hint: You need to use the CAPM to get cost of equity before
you can solve for the price based on abnormal growth.

Student Answer: No, the stock is not a good value since it is
only worth about $8.
No, the stock is not a good value since it is
only worth about $12.
Yes, the stock is a good value since it
should sell for about $25.
Yes, the stock is a good value since it
should sell for about $18.

Question 19. Question
: Beta is defined as:

Student Answer: a measure of volatility of a security’s
returns relative to the returns of a broad-based market portfolio of
securities.
the ratio of the variance of market returns
to the covariance of returns on a security with the market
the inverse of the slope of the security
regression line

all of the above

Points Received: 3 of 3
Comments:

Question 20. Question
: Kermit Industries current
common stock dividend is $1.35 per share and the dividend is expected to grow
at 6% per year into the foreseeable future. Currently the risk-free rate is
4.5% and the estimated market risk premium is 8.5%. Merrill Lynch has estimated
KI’s beta to be 1.10. Compute the expected price for KI’s common stock.

Student Answer: $17.20

$10.33

$18.23

$49.35

Question 21. Question
: Phoenix Company common stock
is currently selling for $20 per share. Security analysts at Smith Blarney have
assigned the following probability distribution to the rate of return on
Phoenix stock one year from now:

Rate of
Return Probability
-20% 0.25
0% 0.30
+20% 0.25
+40% 0.20

Assuming that Phoenix is not expected to pay any dividends
during the coming year, determine the expected rate of return on Phoenix Stock.

Student Answer: 8%

0%

10%

40%

:

Question 22. Question
: Phoenix Company common stock
is currently selling for $20 per share. Security analysts at Smith Blarney have
assigned the following probability distribution to the rate of return on Phoenix stock one year from
now:

Rate of
Return Probability
-20% 0.25
0% 0.30
+20% 0.25
+40% 0.20

Assuming that Phoenix is not expected to pay any dividends
during the coming year, determine the coefficient of variation for the rate of
return on Phoenix stock.

Student Answer: 0.0

2.68

2.61

0.275

:

Question 23. Question
: Quick Start, Inc. is expected
to pay a dividend of $1.05 next year and dividends are expected to continue
their 7 percent annual growth rate. The SML has been estimated as follows:

kj = 0.08 + 0.064?j

If Quick Start has a beta of 1.1, what would happen to its
stock price if inflation expectations went from the current 5 percent to 8
percent?
Hint: You need to compute two different values for Ke and
that leads to two different values in the stock. Remember changes in inflationary expectations
in chapter 8 and combine that with the equity valuation from chapter 7.

Student Answer: decrease $8.14

decrease $3.55

decrease $3.18

stock price will not change

Points Received: 3 of 3
Comments:

Question 24. Question
: An investor, who believes the
economy is slowing down, wishes to reduce the risk of her portfolio. She
currently owns 12 securities, each with a market value of $3,000. The current
beta of the portfolio is 1.21 and the beta of the riskiest security is 1.62.
What will the portfolio beta be if the riskiest security is replaced with a
security of equal market value but a beta of 0.80?

Student Answer: 1.14

1.18

1.05

1.10

Question 25. Question
: Determine the (after-tax)
percentage cost of a $50 million debt issue that the Mattingly Corporation is
planning to place privately with a large insurance company. Assume that the
company has a 40% marginal tax rate. This long-term debt issue will yield 12%
to the insurance company.

Student Answer: 4.8%

7.2%

12.0%

10.6%

Question 26. Question
: Calculate the after-tax cost
of preferred stock for Ohio Valley Power Company, which is planning to sell
$100 million of $3.25 cumulative preferred stock to the public at a price of
$25 per share. Flotation costs are $1.00 per share. Ohio Valley has a marginal
income tax rate of 40%.

Student Answer: 13.0%

7.8%

8.12%

13.54%

Question 27. Question
: The Allegheny Valley Power
Company common stock has a beta of 0.80. If the current risk-free rate is 6.5%
and the expected return on the stock market as a whole is 16%, determine the
cost of equity capital for the firm (using the CAPM).

Student Answer: 14.1%

7.6%

6.5%

13.0%

Question 28. Question
: The following financial
information is available on Rawls Manufacturing Company:

Current per share market price $48.00
Current (t = 0) per share dividend $3.50
Expected long-term growth rate 5.0%

Rawls can issue new common stock to net the company $44 per
share. Determine the cost of internal equity capital using the dividend
capitalization model approach. (Compute answer to the nearest 0.1%).

Student Answer: 12.3%

13.4%

13.0%

12.7%

Question 29. Question
: Rank in ascending order
(lowest to highest) investors’ required rates of return on the various types of
corporate securities.

Student Answer: preferred stock, corporate debt, common stock

common stock, preferred stock, corporate debt

preferred stock, common stock, corporate debt

corporate debt, preferred stock, common stock

Question 30. Question
: A firm with a 40 percent
marginal tax rate has a capital structure of $60,000,000 in debt and
$140,000,000 in equity. What is the firm’s weighted cost of capital if the
marginal pretax cost of debt is 12 percent, the firm’s average pretax cost of
debt outstanding is 8%, and the cost of equity is 14.5 percent?

Student Answer: 13.75%

11.59%

12.31%

10.45%

Question 31. Question
: Easy Slider Inc. sold a 15
year $1,000 face value bond with a 10 percent coupon rate. Interest is paid
annually. After flotation costs, Easy Slider received $928 per bond. Compute
the after-tax cost of debt for these bonds if the firm’s marginal tax rate is
40 percent.

Student Answer: 6.0%

7.2%

7.8%

6.6%

Question 32. Question
: Wright Express(WE) has a
capital structure of 30% debt and 70% equity. WE is considering a project that
requires an investment of $2.6 million. To finance this project, WE plans to
issue 10-year bonds with a coupon interest rate of 12%. Each of these bonds has
a $1,000 face value and will be sold to net WE $980. If the current risk-free
rate is 7% and the expected market return is 14.5%, what is the weighted cost
of capital for WE? Assume WE has a beta of 1.20 and a marginal tax rate of 40%.

Student Answer: 14.9%

12.4%

13.4%

16.0%

Question 33. Question
: Due to Flotation costs,

Student Answer: debt is the costliest source for a firm among
all the components of cost of capital.
Cost of external common equity exceeds cost
of retained earnings.
companies do not normally float any issues

dividends are paid on a monthly basis