BUSINESS FINANCE -- FALL 2011 TOPIC 10: Managing Capital Financing In-Class Problems MULTIPLE CHOICE. CIRCLE the one alternative that BEST completes the statement or answers the question. 1) The before-tax cost of debt for a firm which has a 40 percent marginal tax rate is 12 percent. The after-tax cost of debt is A) 72 percent, B) 48 percent, ©) 60 percent, 1D) 12 percent. 2) A firm has issued 10 percent preferred stock, which sold for $100 per shave par value. The cost of issuing and selling the stock was §2 per share, The firm's marginal tax rate is 40 percent. The after-tax cost of the preferred stock is A) 6.1 percent, B) 39 percent. €)9.8 percent, D) 10.2 percent, 3) The approximate before-tax cost of debt for a 10-year, 8 percent, $1,000 par value bond selling at $1,150 is A) 88 percent. B) 83 percent. C) 9 percent, 1D) 6 percent, 4) A firm has a beta of 12. The market return equals 14 percent and the risk-free rate of return equals 6 percent. ‘The estimated cost of common stock equity is A) 14 percent, 8) 7.2 percent, ©) 156 percent, 1D) 6 percent, 5) A firm has common stock with a market price of $25 per share and an expected dividend of $2 per share at the end of the coming year. The growth rate in dividends has been 5 percent, Thecost of the firm’s common stock equity is ‘A) 10 percent, B) 15 percent. ©) 12 percent. D) 13 percent.6) A firm has determined its cost of each source of capital and optimal capital structure, which is composed of the following sources and target market value proportions: Target Market Source of Capital __Proportions__After-Tax Cost Tong-termdebt 40% ~~ —~SS Preferred stock 10 u Common stock equity 50 15 ‘The weighted average cost of capital is A) 16 percent B) 15 percent. C)11 percent. D) 107 percent. Table 11.1 ‘A firm has determined its optimal capital structure which is composed of the following sources and target market value proportions. Target Market Source of Capital Proportions Tong-termdebt—————S~S*~«OS Preferred stock 10 Common stock equity 70 Debt: The firm can sella 12-year, $1,000 par value, 7 percent bond for $960, A flotation cost of 2 percent of the face value would be required in addition to the discount of $40, Preferred Stock: The firm has determined it can issue preferred stock at $75 per share par value. The stock will pay a $10 annual dividend. The cost of issuing and selling the stock is $3 per share. ‘Common Stock: A firm's common stock is currently selling for $18 per share. The dividend expected to be paid at the end of the coming year is $1.74. Its dividend payments have been growing at a constant rate forthe last four years. Four years ago, the dividend was $1.50. It is expected that to sell, anew common stock issue must be underpriced $1 per share in floatation costs. Additionally, the firm's marginal tax rate is 40 percent 17) The firm's before-tax cost of debt is (See Table 11. A) 77 percent. B) 11.2 pereent. ©) 106 percent, 1D) 127 percent, '8) The firm’s after-tax cost of debt is (See Table 11.1.) A) 8.13 percent. B) 8 percent. ©) 3.25 percent. 1D) 4.6 percent. 9) The firm's after-tax cost of preferred stock is (See Table 11.1.) A) 133 percent. B) 72 percent. C) 139 percent. 1D) 83 percent.10) The firm's cost of a new issue of common stock is (See Table 11.1.) A) 9.08 percent, B) 132 percent. C)7 percent. D) 14.4 percent, 111) The firm's cost of retained earnings is (See Table 11.1.) A) 102 percent, B) 136 percent. ©) 12.7 percent. D) 139 percent 12) The weighted average cost of capital up to the point when retained earnings are exhausted is (See Table 11.1.) A) 75 percent. B) 11.2 percent. ©) 10.4 percent. D) 865 percent, 13) The weighted average cost of capital after all retained earnings are exhausted is (See Table 11.1) {A} 11.0 percent. B) 104 percent ©) 13.6 percent D) 11.5 percent.Table 11.3 Balance Sheet General Talc Mines December 31, 2003, Assets Current Aseis Cash Accounts Receivable Inventories ‘Total Current Assets Net Fixed Assets ‘Total Assets $25,000 120,000 300,000 $445,000 $500,000 Total Assets 945,090) Liabilities and Stockholders’ Equity Current Liabilities Accounts Payable Notes Payable Accruals Total Current Liabilities Long-Term Debts(150 bonds issued at $1,000 par) ‘Total Liabilities $80,000 350,000 50,000 $480,000 150,000, $630,000 Stockholders’ Equity Common Stock (7,200 shares outstanding) $180,000 Retained Earnings 135.000 Total Stockholders’ Equity $315,000 ‘Total Liabilities and Stockholders’ Equity $945,000 uy Source of Capital After-Tax Cost Long-term debt Bm Common stock equity 0 Given this after-tax cost of each source of capital, the weighted average cost of capital using book weights or General Tale Mines is (See Table 11.3) A) 1755 percent B) 166 percent. ©) 154 percent. D) 11.6 percent, 15) A corporation expects to have earnings available to common shareholders (net profits minus preferred dividends) of $1,000,000 in the coming year. The firm plans to pay 40 percent of earnings available in cash dividends. IF the firm has a target capital structure of 40 percent long-term debt, 10 percent preferred stock, and 50 percent common stock equity, what capital budget could the firm su, stock? A) $ 600,000, 3B) $2,000,000. C) $1,200,000. 'D) $800,000. ort without issuing new common16) A firm's current investment opportunity schedule and the weighted marginal cost of capital schedule are show below. Tavestment Tritial Opportunity Schedule __IRR__Investment a 15% 200,000 B 2 300,000 ic) 19 100,000 D 0 400,000 E 16___300,000 Weighted Marginal Cost of Capital Range of Total New Financin, wecc '$0-$250,000 75% 250,001-300,000 89 500,001 ~7,000,000 100 1,000,001-1,500,000 129 ‘The investment opportunities which should be selected are A)B,C, D, and E, B) A,B, C,and D. C) A,B, D, and E, D)A,B, Cand E. 17) A firm has fixed operating costs of $525,000, of which $125,000 is depreciation expense. The firm's sales price per unit is $35 and its variable cost per unt is $22.50. The firm's cash operating breakeven point in units is A) 42,000 3) 52,000. ©) 23,330 D) 32,000 18) A firm has fixed operating costs of $10,000, the sale price per unit ofits product is $25, and its variable cost per unit is $15. The ficm's operating breakeven point in units is. and its breakeven point in dollars is ‘A) 250; $6,250 B) 667; $16,675, C) 1,000; $25,000 ) 400; $10,000 19) A firm has fixed operating costs of $150,000, total sales of $1,500,000, and total variable costs of $1,275,000. The firm’s operating breakeven point in dollars is A) SLA25,000. B) $1,000,000, ©)$176,471. D) $150,000.20) A corporation has $10,000,000 of 10 percent preferred stock outstanding and a 40 percent tax rate, The amount of earnings before interest and taxes (EBIT) required to pay the preferred dividends is A) $1,666,687, B) $ 600,000. €) 81,000,000. D) $400,000, 21) A corporation has $5,000,000 of 10 percent bonds and $3,000,000 of 12 percent preferred stock outstanding. The firm's financial breakeven (BIT) assuming a 40 percent tax rate is A) $716,000. B) $1,400,000 ©) $860,000. 1D) 81,100,000, 22) A firm has a current capital structure consisting of $400,000 of 12 percent annual interest debt and 50,000 shares ‘of common stock, The firm's tax rate is 40 percent on ordinary income. If the EBIT is expected to be $200,000, the firm's earnings per share will be A) $2.40 B) $7.04 ©) 83.04 D) $1.82