Samplepractice Exam Questions and Answers

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Sample/practice exam, questions and answers
Corporate Finance (University of Mumbai)
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Question 1 - 87234
The two major types of risk affecting a firm are:
A) financial risk and cash flow risk.

B) business risk and financial risk.
C) business risk and collection risk.
The correct answer was B) business risk and financial risk.
Business risk is the uncertainty regarding the operating income of a company. Financial risk refers to
the uncertainty caused by the fixed cost associated with borrowed money.
Question 5 - 97597
A company is considering the purchase of a copier that costs $5,000. Assume a cost of capital of 10
percent and the following cash flow schedule:
 Year 1: $3,000
 Year 2: $2,000
 Year 3: $2,000
Determine the project's NPV and IRR.

NPV IRR
A) $883 20%
B) $243 20%
C) $883 15%
The correct answer was A) $883 20%
To determine the NPV, enter the following:

PV of $3,000 in year 1 = $2,727, PV of $2,000 in year 2 = $1,653, PV of $2,000 in year 3 = $1,503.
NPV = ($2,727 + $1,653 + $1,503) − $5,000 = 883.
You know the NPV is positive, so the IRR must be greater than 10%. You only have two choices, 15%
and 20%. Pick one and solve the NPV. If it is not close to zero, then you guessed wrong; select the
other one.
[3000 ÷ (1 + 0.2)1 + 2000 ÷ (1 + 0.2)2 + 2000 ÷ (1 + 0.2)3] − 5000 = 46 This result is closer to zero
(approximation) than the $436 result at 15%. Therefore, the approximate IRR is 20%.
Question 6 - 96775
Which of the following statements is least accurate regarding the marginal cost of capital’s role in
determining the net present value (NPV) of a project?
Projects for which the present value of the after-tax cash inflows is greater than the present
A)
value of the after-tax cash outflows should be undertaken by the firm.
The NPVs of potential projects of above-average risk should be calculated using the
B)
marginal cost of capital for the firm.
C) When using a firm’s marginal cost of capital to evaluate a specific project, there is an implicit
assumption that the capital structure of the firm will remain at the target capital structure over

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the life of the project.
B was correct!
calculate NPV -> WACC=MCC
The WACC is the appropriate discount rate for projects that have approximately the same level of risk
as the firm’s existing projects. This is because the component costs of capital used to calculate the
firm’s WACC are based on the existing level of firm risk. To evaluate a project with above (the firm’s)
average risk, a discount rate greater than the firm’s existing WACC should be used. Projects with
below-average risk should be evaluated using a discount rate less than the firm’s WACC. An additional
issue to consider when using a firm’s WACC (marginal cost of capital) to evaluate a specific project is
that there is an implicit assumption that the capital structure of the firm will remain at the target capital
structure over the life of the project. These complexities aside, we can still conclude that the NPVs of
potential projects of firm-average risk should be calculated using the marginal cost of capital for the
firm. Projects for which the present value of the after-tax cash inflows is greater than the present value
of the after-tax cash outflows should be undertaken by the firm.
Question 7 - 97494
A firm is planning a $25 million expansion project. The project will be financed with $10 million in debt
and $15 million in equity stock (equal to the company's current capital structure). The before-tax
required return on debt is 10% and 15% for equity. If the company is in the 35% tax bracket, what cost
of capital should the firm use to determine the project's net present value (NPV)?
A) 12.5%.
B) 9.6%.
C) 11.6%.
The correct answer was C) 11.6%.
WACC = (E / V)(RE) + (D / V)(RD)(1 − TC)
WACC = (15 / 25)(0.15) + (10 / 25)(0.10)(1 − 0.35) = 0.09 + 0.026 = 0.116 or 11.6%
Question 9 - 140463 ?
The effect of a company announcement that they have begun a project with a current cost of $10 million
that will generate future cash flows with a present value of $20 million is most likely to:
A) only affect value of the firm’s common shares if the project was unexpected.
B) increase the value of the firm’s common shares by $20 million.
C) increase value of the firm’s common shares by $10 million.
The correct answer was A) only affect value of the firm’s common shares if the project was
unexpected.
Stock prices reflect investor expectations for future investment and growth. A new positive-NPV project
will increase stock price only if it was not previously anticipated by investors.

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Question 10 - 97490
The NPV profile is a graphical representation of the change in net present value relative to a change in
the:
A) prime rate.
B) internal rate of return.
C) discount rate.
The correct answer was C) discount rate.
As discount rates change the net present values change. The NPV profile is a graphic illustration of how
sensitive net present values are to different discount rates. By comparison, every project has a single
internal rate of return and payback period because the values are determined solely by the investment’s
expected cash flows.
Question 11 - 96785 ?
The debt of Savanna Equipment, Inc. has an average maturity of ten years and a BBB rating. A market
yield to maturity is not available because the debt is not publicly traded, but the market yield on debt
with similar characteristics is 8.33%. Savanna is planning to issue new ten-year notes that would be
subordinate to the firm’s existing debt. The company’s marginal tax rate is 40%. The most appropriate
estimate of the after-tax cost of this new debt is:
A) 5.0%.
B) Between 3.3% and 5.0%.
C) More than 5.0%.
The correct answer was C) More than 5.0%.
The after-tax cost of debt similar to Savanna’s existing debt is k d(1 - t) = 8.33%(1 - 0.4) = 5.0%.
Because the anticipated new debt will be subordinated in the company’s debt structure, investors will
demand a higher yield than the existing debt carries. Therefore, the appropriate after-tax cost of the
new debt is more than 5.0%.
Question 12 - 98220
Nippon Post Corporation (NPC), a Japanese software development firm, has a capital structure that is
comprised of 60% common equity and 40% debt. In order to finance several capital projects, NPC will
raise USD1.6 million by issuing common equity and debt in proportion to its current capital structure.
The debt will be issued at par with a 9% coupon and flotation costs on the equity issue will be 3.5%.
NPC’s common stock is currently selling for USD21.40 per share, and its last dividend was USD1.80
and is expected to grow at 7% forever. The company’s tax rate is 40%. NPC’s WACC based on the cost
of new capital is closest to:
A) 11.8%.
B) 9.6%.
C) 13.1%.

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The correct answer was A) 11.8%.
kd = 0.09(1 – 0.4) = 0.054 = 5.4%

kce = [(1.80 × 1.07) / 21.40] + 0.07 = 0.16 = 16.0%
WACC = 0.6(16.0%) + 0.4(5.4%) = 11.76%
Flotation costs, treated correctly, have no effect on the cost of equity component of the WACC.
Question 15 - 97840
Assume that a company has equal amounts of debt, common stock, and preferred stock. An increase in
the corporate tax rate of a firm will cause its weighted average cost of capital (WACC) to:
A) rise.
B) fall.
C) more information is needed.
B was correct!
Recall the WACC equation:
WACC = [wd × kd × (1 − t)] + (wps × kps) + (wce × ks)
The increase in the corporate tax rate will result in a lower cost of debt, resulting in a lower WACC for
the company.
Question 16 - 96536
A company is considering the purchase of a copier that costs $5,000. Assume a cost of capital of 10
percent and the following cash flow schedule:
 Year 1: $3,000
 Year 2: $2,000
 Year 3: $2,000
Determine the project's payback period and discounted payback period.
Payback Period Discounted Payback Period

A) 2.0 years 2.4 years
B) 2.0 years 1.6 years
C) 2.4 years 1.6 years
The correct answer was A) 2.0 years 2.4 years
Regarding the regular payback period, after 1 year, the amount to recover is $2,000 ($5,000 - $3,000).
After the second year, the amount is fully recovered.
The discounted payback period is found by first calculating the present values of each future cash flow.
These present values of future cash flows are then used to determine the payback time period.
3,000 / (1 + .10)1 = 2,727

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2,000 / (1 + .10)2 = 1,653
2,000 / (1 + .10)3 = 1,503.
Then:
5,000 - (2,727 + 1,653) = 620
620 / 1,503 = .4.
So, 2 + 0.4 = 2.4.
Question 17 - 127343
The following information applies to a corporation:
 The company has $200 million of equity and $100 million of debt.
 The company recently issued bonds at 9%.
 The corporate tax rate is 30%.
 The company's beta is 1.125.
If the risk-free rate is 6% and the expected return on the market portfolio is 14%, the company’s after-
tax weighted average cost of capital is closest to:
A) 10.5%.
B) 12.1%.
C) 11.2%.
B was correct!
ks = RFR + β(Rm − RFR)

= 6% + 1.125(14% − 6%) = 15%
WACC = [D/(D + E)] × kd(1 − t) + [E/(D + E)] × ks

= (100/300)(9%)(1 − 0.3) + (200/300)(15%) = 12.1%
Question 18 - 96568
Which of the following statements regarding the internal rate of return (IRR) is most accurate? The IRR:
and the net present value (NPV) method lead to the same accept/reject decision for
A)
independent projects.
B) can lead to multiple IRR rates if the cash flows extend past the payback period.
C) assumes that the reinvestment rate of the cash flows is the cost of capital.
The correct answer was A) and the net present value (NPV) method lead to the same accept/reject
decision for independent projects.
NPV and IRR lead to the same decision for independent projects, not necessarily for mutually exclusive
projects. IRR assumes that cash flows are reinvested at the IRR rate. IRR does not ignore time value of

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money (the payback period does), and the investor may find multiple IRRs if there are sign changes
after time zero (i.e., negative cash flows after time zero).
Question 19 - 98212
The most accurate way to account for flotation costs when issuing new equity to finance a project is to:
A) increase the cost of equity capital by dividing it by (1 – flotation cost).

B) increase the cost of equity capital by multiplying it by (1 + flotation cost).
adjust cash flows in the computation of the project NPV by the dollar amount of the flotation
C)
costs.
The correct answer was C) adjust cash flows in the computation of the project NPV by the dollar
amount of the flotation costs.
Question 21 - 87216
Annual fixed costs at King Mattress amount to $325,000. The variable cost of raw materials and labor is
$120 for the typical mattress. Sales prices for mattresses average $160. How many units must King
Mattress sell to break even?
A) 40.
B) 8,125.
C) 2,708.
B was correct!
QBreakeven = Fixed Cost / (Price – Variable Cost)

QBreakeven = $325,000 / (160 – 120) = 8,125
Landen, Inc. uses several methods to evaluate capital projects. An appropriate decision rule for Landen
would be to invest in a project if it has a positive:
A) profitability index (PI).

B) net present value (NPV).
C) internal rate of return (IRR).
B was correct!
The decision rules for net present value, profitability index, and internal rate of return are to invest in a
project if NPV > 0, IRR > required rate of return, or PI > 1.
Question 24 - 97274
Which of the following statements about NPV and IRR is least accurate?
A) For mutually exclusive projects you should use the IRR to rank and select projects.
B) For independent projects if the IRR is > the cost of capital accept the project.

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C) The NPV method assumes that all cash flows are reinvested at the cost of capital.
The correct answer was A) For mutually exclusive projects you should use the IRR to rank and select
projects.
For mutually exclusive projects you should use NPV to rank and select projects.
Two projects being considered by a firm are mutually exclusive and have the following projected cash
flows:
Project 1 Cash
Year Project 2 Cash Flow
Flow
0 −$4.0 ?
1 $3.0 $1.7
2 $5.0 $3.2
3 $2.0 $5.8
The crossover rate of the two projects’ NPV profiles is 9%. What is the initial cash flow for Project 2?
A) −$4.22.
B) −$4.51.
C) −$5.70.
The correct answer was A) −$4.22.
The crossover rate is the rate at which the NPV for two projects is the same. That is, it is the rate at
which the two NPV profiles cross. At a discount rate of 9%, the NPV of Project 1 is: CF 0 = –4; CF1 = 3;
CF2 = 5; CF3 = 2; I = 9%; CPT → NPV = $4.51. Now perform the same calculations except that we need
to set the unknown CF0 = 0. The remaining entries are: CF1 = 1.7; CF2 = 3.2; CF3 = 5.8; I = 9%; CPT →
NPV = $8.73. Since by definition the crossover rate produces the same NPV for both projects, we know
that both projects should have an NPV = $4.51. Since the NPV of Project 2 (with CF 0 = 0) is $8.73, the
unknown cash flow must be a large enough negative amount to reduce the NPV for Project 2 from
$8.73 to $4.51. Thus the unknown initial cash flow for Project 2 is determined as $4.51 = $8.73 + CF 0,
or CF0 = −$4.22.
Question 27 - 96780
Mason Webb makes the following statements to his boss, Laine DeWalt about the principles of capital
budgeting.
Statement 1: Opportunity costs are not true cash outflows and should not be considered in a capital
budgeting analysis.
Statement 2: Cash flows should be analyzed on an after-tax basis.
Should DeWalt agree or disagree with Webb’s statements?
Statement 1 Statement 2

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A) Agree Agree
B) Disagree Disagree
C) Disagree Agree
The correct answer was C) Disagree Agree
DeWalt should disagree with Webb’s first statement. Cash flows are based on opportunity costs. Any
cash flows that the firm gives up because a project is undertaken should be charged to the project.
DeWalt should agree with Webb’s second statement. The impact of taxes must be considered when
analyzing capital budgeting projects.
Question 28 - 87152 ?
If central bank actions caused the risk-free rate to increase, what is the most likely change to cost of
debt and equity capital?
A) Both increase.
B) Both decrease.
C) One increase and one decrease.
The correct answer was A) Both increase.
An increase in the risk-free rate will cause the cost of equity to increase. It would also cause the cost of
debt to increase. In either case, the nominal cost of capital is the risk-free rate plus the appropriate
premium for risk.
Lane Industries has a project with the following cash flows:
Year Cash Flow

0 −$200,000
1 60,000
2 80,000
3 70,000
4 60,000
5 50,000
The project's cost of capital is 12%. The discounted payback period is closest to:
A) 3.9 years.
B) 2.9 years.
C) 3.4 years.
The correct answer was A) 3.9 years.
The discounted payback period method discounts the estimated cash flows by the project’s cost of
capital and then calculates the time needed to recover the investment.

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Cumulative
Discounted
Year Cash Flow Discounted
Cash Flow
Cash Flow
0 −$200,000 −$200,000.00 −$200,000.00
1 60,000 53,571.43 −146,428.57
2 80,000 63,775.51 −82,653.06
3 70,000 49,824.62 −32,828.44
4 60,000 38,131.08 5,302.64
5 50,000 28,371.30 33,673.98
discounted payback period =number of years until the year before full recovery +
Question 31 - 119459 (đn)
Corporate governance defines the appropriate rights, role, and responsibilities of:
A) management, the board of directors, and shareholders.

B) management only.
C) management and the board of directors.
The correct answer was A) management, the board of directors, and shareholders.
Corporate governance defines the appropriate rights, roles, and responsibilities of a corporation’s
management, the board of directors, and shareholders.
Question 33 - 97235 ref
At a recent Haggerty Semiconductors Board of Directors meeting, Merle Haggerty was asked to discuss
the topic of the company’s weighted average cost of capital (WACC).
At the meeting Haggerty made the following statements about the company’s WACC:
Statement 1: A company creates value by producing a higher return on its assets than the cost of
financing those assets. As such, the WACC is the cost of financing a firm’s assets and can be viewed
as the firm’s opportunity cost of financing its assets.
Statement 2: Since a firm’s WACC reflects the average risk of the projects that make up the firm, it is
not appropriate for evaluating all new projects. It should be adjusted upward for projects with greater-
than-average risk and downward for projects with less-than-average risk.
Are Statement 1 and Statement 2, as made by Haggerty CORRECT?
A) Correct Correct
B) Correct Incorrect

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C) Incorrect Correct
The correct answer was A) Correct Correct
Each statement that Haggerty has made to the board of directors regarding the weighted average cost
of capital is correct. New projects should have a return that is higher than the cost to finance those
projects.
Question 34 - 96604
Which of the following firms is most likely to use a discounted cash flow technique as its primary capital
budgeting tool?
A) A large, publicly held U.S. firm where managers hold MBA degrees.
B) A large, publicly held European firm that has managers with no formal business education.
C) A small, privately held European firm that has managers with no formal business education.
The correct answer was A) A large, publicly held U.S. firm where managers hold MBA degrees.
Companies that favor discounted cash flow capital budgeting techniques such as NPV and IRR over
payback period or other non-DCF capital budgeting techniques tend to have the following
characteristics:
 Location: European firms tend to favor payback period.

 Size: Smaller firms tend to favor payback period.
 Ownership: Private firms tend to favor payback period.
 Management education: The more highly educated a firm’s management, the more likely it is to
use a DCF capital budgeting technique as its primary tool.
Question 40 - 97777
Cullen Casket Company is considering a project that requires a $175,000 cash outlay and is expected
to produce cash flows of $65,000 per year for the next four years. Cullen’s tax rate is 40% and the
before-tax cost of debt is 9%. The current share price for Cullen stock is $32 per share and the
expected dividend next year is $1.50 per share. Cullen’s expected growth rate is 5%. Cullen finances
the project with 70% newly issued equity and 30% debt, and the flotation costs for equity are 4.5%.
What is the dollar amount of the flotation costs attributable to the project, and that is the NPV for the
project, assuming that flotation costs are accounted for correctly?
Dollar amount
NPV of project
of floatation costs
A) $7,875 $30,510
B) $5,513 $32,872
C) $5,513 $30,510
B was correct!
In order to determine the discount rate, we need to calculate the WACC.

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After-tax cost of debt = 9.0% (1 – 0.40) = 5.40%

Cost of equity = ($1.50 / $32.00) + 0.05 = 0.0469 + 0.05 = 0.0969, or 9.69%
WACC = 0.70(9.69%) + 0.30(5.40%) = 8.40%
Since the project is financed with 70% newly issued equity, the amount of equity capital raised is 0.70 ×
$175,000 = $122,500
Flotation costs are 4.5 percent, which equates to a dollar flotation cost of $122,500 × 0.045 =
$5,512.50.
Question 41 - 97500
Jamal Winfield is an analyst with Stolzenbach Technologies, a major computer services company
based in the U.S. Stolzenbach’s management team is considering opening new stores in Mexico, and
wants to estimate the cost of equity capital for Stolzenbach’s investment in Mexico. Winfield has
researched bond yields in Mexico and found that the yield on a Mexican government 10-year bond is
7.7%. A similar maturity U.S. Treasury bond has a yield of 4.6%. In the most recent year, the standard
deviation of Mexico's All Share Index stock index and the S&P 500 index was 38% and 20%
respectively. The annualized standard deviation of the Mexican dollar-denominated 10-year
government bond over the last year was 26%. Winfield has also determined that the appropriate beta to
use for the project is 1.25, and the market risk premium is 6%. The risk free interest rate is 4.2%. What
is the appropriate country risk premium for Mexico and what is the cost of equity that Winfield should
use in his analysis?
Country Risk Premium for Mexico Cost of Equity for Project

A) 5.89% 17.36%
B) 4.53% 19.06%
C) 4.53% 17.36%
The correct answer was C) 4.53% 17.36%
CRP = Sovereign Yield Spread(Annualized standard deviation of equity index ÷ Annualized standard
deviation of sovereign bond market in terms of the developed market currency)
= (0.077 – 0.046)(0.38 ÷ 0.26) = 0.0453, or 4.53%
Cost of equity = RF + β[E(RMKT) – RF + CRP] = 0.042 + 1.25[0.06 + 0.0453] = 0.1736 = 17.36%
Note that you are given the market risk premium, which equals E(R MKT) – RF.
Question 47 - 100682 *
Utilitarian Co. is looking to expand its appliances division. It currently has a beta of 0.9, a D/E ratio of
2.5, a marginal tax rate of 30%, and its debt is currently yielding 7%. JF Black, Inc. is a publicly traded
appliance firm with a beta of 0.7, a D/E ratio of 3, a marginal tax rate of 40%, and its debt is currently
yielding 6.8%. The risk-free rate is currently 5% and the expected return on the market portfolio is 9%.
Using this data, calculate Utilitarian’s weighted average cost of capital for this potential expansion.
A) 4.2%.

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B) 5.7%.
C) 7.1%.
B was correct!
Question 48 - 87214
Jayco, Inc. has a division that makes red ink for the accounting industry. The unit has fixed costs of
$10,000 per month, and is expected to sell 40,000 bottles of ink per month. If the variable cost per
bottle is $2.00 what price must the division charge in order to breakeven?
A) $2.50.
B) $2.75.
C) $2.25.
The correct answer was C) $2.25.
40,000 = $10,000/(P - $2)

40,000P – $80,000 = $10,000
P = $90,000/40,000 = $2.25.
Question 50 - 97186
Stolzenbach Technologies has a target capital structure of 60% equity and 40% debt. The schedule of
financing costs for the Stolzenbach is shown in the table below:
Amount of New Debt (in After-tax Cost of Amount of New Equity (in Cost of Equity
millions) Debt millions)
$0 to $199 4.5% $0 to $299 7.5%
$200 to $399 5.0% $300 to $699 8.5%
$400 to $599 5.5% $700 to $999 9.5%

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Stolzenbach Technologies has breakpoints for raising additional financing at both:
A) $500 million and $700 million.

B) $400 million and $700 million.
C) $500 million and $1,000 million.
The correct answer was C) $500 million and $1,000 million.
Stolzenbach will have a break point each time a component cost of capital changes, for a total of three
marginal cost of capital schedule breakpoints.
Break pointDebt > $200mm = ($200 million ÷ 0.4) = $500 million
Break pointDebt > $400mm = ($400 million ÷ 0.4) = $1,000 million
Break pointEquity > $300mm = ($300 million ÷ 0.6) = $500 million
Break pointEquity > $700mm = ($700 million ÷ 0.6) = $1,167 million
Question 51 - 97767
Ravencroft Supplies is estimating its weighted average cost of capital (WACC). Ravencroft’s optimal
capital structure includes 10% preferred stock, 30% debt, and 60% equity. They can sell additional
bonds at a rate of 8%. The cost of issuing new preferred stock is 12%. The firm can issue new shares
of common stock at a cost of 14.5%. The firm’s marginal tax rate is 35%. Ravencroft’s WACC is closest
to:
A) 11.5%.
B) 13.3%.
C) 12.3%.
0.10(12%) + 0.30(8%)(1 – 0.35) + 0.6(14.5%) = 11.46%.
Question 52 - 98110
Given the following information about capital structure, compute the WACC. The marginal tax rate is
40%.
Percent of Before-Tax
Type of
Capital Component
Capital
Structure Cost
Bonds 40% 7.5%

Preferred
5% 11.0%
Stock
Common Stock 55% 15.0%
A) 13.3%.

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B) 7.1%.
C) 10.6%.
WACC = (Wd)(Kd (1 − t)) + (Wps)(Kps) + (Wce)(Ks)
WACC = 0.4(7.5%)(1 − 0.4) + 0.05(11%) + 0.55(15%) = 10.6%.
Question 53 - 96628
A firm has average days of receivables outstanding of 22 compared to an industry average of 29 days.
An analyst would most likely conclude that the firm:
A) has better credit controls than its peer companies.

B) has a lower cash conversion cycle than its peer companies.
C) may have credit policies that are too strict.
The correct answer was C) may have credit policies that are too strict.
The firm’s average days of receivables should be close to the industry average. A significantly lower
average days receivables outstanding, compared to its peers, is an indication that the firm’s credit
policy may be too strict and that sales are being lost to peers because of this. We can not assume that
stricter credit controls than the average for the industry are “better.” We cannot conclude that credit
sales are less, they may be more, but just made on stricter terms. The average days of receivables are
only one component of the cash conversion cycle.
Question 54 - 96599
In a recent staff meeting, David Hurley, stated that analysts should understand that financial ratios
mean little by themselves. He advised his colleagues to evaluate financial ratios carefully. During the
discussion he made the following statements:
Statement 1: A company can be compared with others in its industry by relating its financial ratios to
industry norms. However, care must be taken because many ratios are industry-specific, but not all
ratios are important to all industries.
Statement 2: Comparing a company to the overall economy is useless because overall business
conditions are constantly changing. Specifically, it is not the case that financial ratios tend to improve
when the economy is strong and weaken during recessionary times.
Are statements 1 and 2 as made by Hurley regarding financial ratio analysis CORRECT?
A) Incorrect Correct
B) Correct Incorrect
C) Correct Correct

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B was correct!
Financial ratios are meaningless by themselves. To have meaning an analyst must use them with
other information. An analyst should evaluate financial ratios based on industry norms and economic
conditions. Statement 1 is correct. However, statement 2 is not because financial ratios tend to improve
when the economy is strong and weaken when the economy is in a recession. So, financial ratios
should be reviewed in light of the current stage of the business cycle.
Question 55 - 97438
A company is considering a $10,000 project that will last 5 years.
 Annual after tax cash flows are expected to be $3,000

 Target debt/equity ratio is 0.4
 Cost of equity is 12%
 Cost of debt is 6%
 Tax rate 34%
D/E=2/5 D=2/7, E=5/7
What is the project's net present value (NPV)?
A) -$1,460.
B) $+1,245
C) +$1,460.
The correct answer was C) +$1,460.
First, calculate the weights for debt and equity
wd + we = 1
we = 1 − wd
wd / we = 0.40
wd = 0.40 × (1 − wd)
wd = 0.40 − 0.40wd
1.40wd = 0.40
wd = 0.286, we = 0.714
Second, calculate WACC
WACC = (wd × kd) × (1 − t) + (we × ke) = (0.286 × 0.06 × 0.66) + (0.714 × 0.12) = 0.0113 + 0.0857 =
0.0970
Third, calculate the PV of the project cash flows
N = 5, PMT = -3,000, FV = 0, I/Y = 9.7, CPT → PV = 11,460

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Question 56 - 97942
Helmut Humm, manager at a large U.S. firm, has just been assigned to the capital budgeting area to
replace a person who left suddenly. One of Humm’s first tasks is to calculate the company’s weighted
average cost of capital (WACC) – and fast! The CEO is scheduled to present to the board in half an
hour and needs the WACC – now! Luckily, Humm finds clear notes on the target capital component
weights. Unfortunately, all he can find for the cost of capital components is some handwritten notes. He
can make out the numbers, but not the corresponding capital component. As time runs out, he has to
guess.
Here is what Humm deciphered:
 Target weights: wd = 30%, wps = 20%, wce = 50%, where wd, wps, and wce are the weights used
for debt, preferred stock, and common equity.
 Cost of components (in no particular order): 6.0%, 15.0%, and 8.5%.
 The cost of debt is the after-tax cost.
If Humm guesses correctly, the WACC is:
A) 9.2%.
B) 11.0%.
C) 9.0%.
B was correct!
If Humm remembers to order the capital components from cheapest to most expensive, he can
calculate WACC. The order from cheapest to most expensive is: debt, preferred stock (which acts like a
hybrid of debt and equity), and common equity.
Then, using the formula for WACC = (wd)(kd) + (wps)(kps) + (wce)(kce)
where wd, wps, and we are the weights used for debt, preferred stock, and common equity.
WACC = (0.30 × 6.0%) + (0.20 × 8.5%) + (0.50 × 15.00%) = 11.0%.
Question 57 - 97034***
Bailey Manufacturing Co. (Bailey) designs and manufactures a hoses and fittings for a wide range of
industrial applications. After closing the books on 2004, Bailey’s executive management team had a
meeting to discuss their goals and priorities for 2005. This meeting, held every January, is an
opportunity for each of Bailey’s division managers to present proposals for the projects that they are
considering for investment during the upcoming year. Bradley Conover is the chief financial officer for
Bailey Manufacturing Co. He has received proposals for five different projects that are deemed to have
the highest priority from Bailey’s division managers.
Before evaluating the projects, Conover must make some pro forma forecasts for 2005. According to
Bailey’s 2005 pro forma income statement, Conover expects Bailey to earn a net profit of $7,000. He
also expects the firm to maintain its current dividend payout ratio of 50%. The firm has a target capital
structure of 70% equity and 30% debt. Conover estimates the applicable corporate tax rate to be 35%.
Conover’s next step is to evaluate capital market conditions. Because Bailey is in an economically
sensitive industry, the firm has a greater than average level of systematic risk. Conover estimates that
the beta applicable for a standard project for the firm is 1.5. Over the last three years, the U.S. economy
has been in a sustained expansion, and Bailey has enjoyed strong profit growth. This strong growth has
allowed Bailey to fund most of its capital budget internally. However, many economists believe that
growth will slow in 2005 despite the government’s accommodative fiscal policy. As a result, Conover

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believes that management’s aggressive goals and objectives imply that Bailey will need to seek
external capital.
Conover calls a meeting with Derek Munn, CFA, an investment banker with Lyndon Capital Corp. Using
Conover’s forecasts, Munn believes that Bailey will be able to issue new debt at a cost of 9% and new
equity at a cost of 18%. Munn also gives Conover a research report that says the 2005 expected return
for the market is 11%, and three-month Treasury bills will yield 5%.
The expected cash flows from the top five projects identified by Bailey’s division managers are shown in
Figure 1 below. Projects A, C and E are independent projects and projects B and D are mutually
exclusive.
Figure 1
Year Project A Project B Project C Project D Project E
0 (1,000) (2,500) (1,750) (4,000) (2,000)

1 100 500 200 1,400 300
2 250 900 300 1,400 400
3 450 1,200 600 1,400 700
4 650 1,200 700 1,400 700
5 0 700 800 1,400 700
Part 1)
Conover starts his analysis by estimating the firm’s current weighted average cost of capital (WACC).
What is the firm’s current WACC?
A) 11.56%.
B) 18.00%.
C) 15.30%.
Cost of Equity = 0.05 + 1.5(0.11 − 0.05) = 0.14
WACC = wdkd(1 − t) + weke = 0.30(0.09)(1 − 0.35) + 0.70(0.14) = 0.1156
Part 2)
Assuming all of the projects have equal risk, Conover creates an investment opportunity set (IOS) by
ranking the projects starting with the most favorable to the least favorable project as follows:
A) ABCDE.
B) DBCAE.
C) DBACE.
The correct answer was C) DBACE.
Start by calculating the NPV of each project as follows:
NPV(A) = (1,000) + 100 / (1.1156)1 + 250 / (1.1156)2 + 450 / (1.1156)3 + 650 / (1.1156)4 + 0 = 34.26
NPV(B) = (2,500) + 500 / (1.1156)1 + 900 / (1.1156)2 + 1200 / (1.1156)3 + 1200 / (1.1156)4 + 700 /
(1.1156)5 = 715.44

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NPV(C) = (1,750) + 200 / (1.1156)1 + 300 / (1.1156)2 + 600 / (1.1156)3 + 700 / (1.1156)4 + 800 /
(1.1156)5 = 17.34
NPV(D) = (4,000) + 1,400 / (1.1156)1 + 1,400 / (1.1156)2 + 1,400 / (1.1156)3 + 1,400 / (1.1156)4 +
1,400 / (1.1156)5 = 1,102.18
NPV(E) = (2,000) + 300 / (1.1156)1 + 400 / (1.1156)2 + 700 / (1.1156)3 + 700 / (1.1156)4 + 700 /
(1.1156)5 = (48.51)
Ranking the projects starting with the highest NPV to lowest NPV: DBACE.
Part 3)
Conover calculates new WACC beyond the retained earnings break-even point as:
A) 15.30%.
B) 14.36%.
C) 18.00%.
B was correct!
Cost to issue new equity is given as 18%.
WACC = wdkd(1 − t) + weke = 0.30(0.09)(1 − 0.35) + 0.70(0.18) = 0.1436.
Part 4)
Based on the investment opportunity schedule (IOS) and marginal cost of capital (MCC) schedule,
which projects should be accepted?
A) A, B, and D.
B) A and D.
C) A, B, C, and D.
B was correct!
Pro forma earnings are $7,000 and the dividend payout ratio is 50%, meaning that Bailey’s retained
earnings for 2005 are estimated to be $7,000 (1 – 0.5) = $3,500.
The retained earnings break-even point is calculated as follows: $3,500 / 0.70 = $5,000.
Projects B and D are mutually exclusive therefore only the project with the highest NPV is chosen,
NPV(D) = 1,102.18. Project A has the next highest NPV(A) = 34.26. The total investment required for
projects D and A is $5,000. Therefore, new equity must be issued before considering other projects.
The new WACC is 14.36% including the increased cost of 18% for equity. The remaining projects have
IRR below the new WACC and their NPVs are negative using the higher WACC. Projects D and A are
the only projects that should be accepted.
Part 5)
Conover uses a technique involving random variables in a simulation to estimate the NPV of the
projects. This technique is known as:
A) bootstrapping.
B) Monte Carlo.
C) scenario analysis.
B was correct!
Part 6)
Project C is similar in risk to a company in their same industry that has an average leveraged beta of
1.2. If Conover uses a pure play method to evaluate project C, what is the appropriate cost of equity
capital for the project?

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A) 11.2%.
B) 12.2%.
C) 10.3%.
B was correct!
Project C is similar in risk to an industry that has an average beta of 1.2. Therefore, we use the capital
asset pricing model and the industry average beta to calculate the cost of equity capital for Project C:
Cost of Equity Capital for Project C = 0.05 + 1.2(0.11 − 0.05) = 0.122.
Question 58 - 97505
If a project has a negative cash flow during its life or at the end of its life, the project most likely has:
A) a negative internal rate of return.

B) more than one internal rate of return.
C) multiple net present values.
B was correct!
Projects with unconventional cash flows (where the sign of the cash flow changes from minus to plus to
back to minus) will have multiple internal rates of return. However, one will still be able to calculate a
single net present value for the cash flow pattern.
Question 60 - 97744
Which of the following events will reduce a company's weighted average cost of capital (WACC)?
A) An increase in expected inflation.

B) A reduction in the company's bond rating.
C) A reduction in the market risk premium.
The correct answer was C) A reduction in the market risk premium.
An increase in either the company’s beta or the market risk premium will cause the WACC to increase
using the CAPM approach. A reduction in the market risk premium will reduce the cost of equity for
WACC.
Question 63 - 97511
A firm has $3 million in outstanding 10-year bonds, with a fixed rate of 8% (assume annual payments).
The bonds trade at a price of $92 per $100 par in the open market. The firm’s marginal tax rate is 35%.
What is the after-tax component cost of debt to be used in the weighted average cost of capital (WACC)
calculations?

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A) 9.26%.
B) 5.40%.
C) 6.02%.
If the bonds are trading at $92 per $100 par, the required yield is 9.26% (N = 10; PV = –92; FV = 100;
PMT = 8; CPT I/Y = 9.26). The equivalent after-tax cost of this financing is: 9.26% (1 – 0.35) = 6.02%.
When a company is evaluating two mutually exclusive projects that are both profitable but have
conflicting NPV and IRR project rankings, the company should:
A) accept the project with the higher internal rate of return.

B) accept the project with the higher net present value.
C) use a third method of evaluation such as discounted payback period.
B was correct!
Net present value is the preferred criterion when ranking projects because it measures the firm’s
expected increase in wealth from undertaking a project.
Question 65 - 96607
The marginal cost of capital is:
A) the cost of the last dollar raised by the firm.

B) tied solely to the specific source of financing.
C) equal to the firm's weighted cost of funds.
The correct answer was A) the cost of the last dollar raised by the firm.
The “marginal” cost refers to the last dollar of financing acquired by the firm assuming funds are raised
in the same proportion as the target capital structure. It is a percentage value based on both the returns
required by the last bondholders and stockholders to provide capital to the firm. Regardless of whether
the funding came from bondholders or stockholders, both debt and equity are needed to fund projects.
Question 66 - 96777
Financing costs for a capital project are:
A) captured in the project’s required rate of return.

B) subtracted from the net present value of a project.
C) subtracted from estimates of a project’s future cash flows.

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The correct answer was A) captured in the project’s required rate of return.
Financing costs are reflected in a project’s required rate of return. Project specific financing costs
should not be included as project cash flows. The firm's overall weighted average cost of capital,
adjusted for project risk, should be used to discount expected project cash flows.
Question 67 - 96594
Osborn Manufacturing uses the NPV and IRR methods as its primary tools for evaluating capital
projects. Which of the following most likely describes Osborn Manufacturing with regard to firm
ownership and company size?
Firm ownership Company size

A) Public Small
B) Private Large
C) Public Large
The correct answer was C) Public Large
Question 68 - 87218
Hughes Continental is assessing its business risk. Which of the following factors would least likely be
considered in the analysis?
A) Input price variability.

B) Debt-equity ratio.
C) Unit sales levels.
Question 69 - 96776
Ashlyn Lutz makes the following statements to her supervisor, Paul Ulring, regarding the basic
principles of capital budgeting:
Statement 1: The timing of expected cash flows is crucial for determining the profitability of a capital
budgeting project.
Statement 2: Capital budgeting decisions should be based on the after-tax net income produced by the
capital project.
Which of the following regarding Lutz’s statements is most accurate?
A) Correct Correct
B) Incorrect Correct
C) Correct Incorrect
The correct answer was C) Correct Incorrect

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Lutz’s first statement is correct. The timing of cash flows is important for making correct capital
budgeting decisions. Capital budgeting decisions account for the time value of money. Lutz’s second
statement is incorrect. Capital budgeting decisions should be based on incremental after-tax cash flows,
not net (accounting) income.
Question 72:
Levenworth Industries has the following capital structure on December 31, 2006:
Book Value Market Value

Debt outstanding $8 million $10.5 million
Preferred stock outstanding $2 million $1.5 million
Common stock outstanding $10 million $13.7 million
Total capital $20 million $25.7 million
What is the firm’s target debt and preferred stock portion of the capital structure based on existing
capital structure?
Debt Preferred Stock

A) 0.40 0.10
B) 0.41 0.06
C) 0.41 0.10
B was correct!
The weights in the calculation of WACC should be based on the firm’s target capital structure, that is,
the proportions (based on market values) of debt, preferred stock, and equity that the firm expects to
achieve over time. Book values should not be used. As such, the weight of debt is 41% ($10.5 ÷ $25.7),
the weight of preferred stock is 6% ($1.5 ÷ $25.7) and the weight of common stock is 53% ($13.7 ÷
$25.7).
Question 73 - 87161
Stock splits:
A) do not in and of themselves affect firm value.

B) are less common than stock dividends.
C) increase firm value.
The correct answer was A) do not in and of themselves affect firm value
Question 75 - 97466
Edelman Enginenering is considering including an overhead pulley system in this year's capital budget.
The cash outlay for the pully system is $22,430. The firm's cost of capital is 14%. After-tax cash flows,
including depreciation are $7,500 for each of the next 5 years.
Calculate the internal rate of return (IRR) and the net present value (NPV) for the project, and indicate
the correct accept/reject decision.
NPV IRR Accept/Reject

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A) $15,070 14% Accept

B) $3,318 20% Accept
C) $15,070 14% Reject
B was correct!
Using the cash flow keys:

CF0 = -22,430; CFj = 7,500; Nj = 5; Calculate IRR = 20%
I/Y = 14%; Calculate NPV = 3,318
Because the NPV is positive, the firm should accept the project.
Question 80 - 100681 *
A publicly traded company has a beta of 1.2, a debt/equity ratio of 1.5, ROE of 8.1%, and a marginal tax
rate of 40%. The unlevered beta for this company is closest to:
A) 1.071.
B) 0.632.
C) 0.832.
B was correct!
The unlevered beta for this company is calculated as:
Which of the following factors is most likely to cause a firm to need short-term financing?
A) Operating cash inflows that fluctuate seasonally.

B) Return of principal from maturing investments.
C) Shorter cash conversion cycle than the industry average.
The correct answer was A) Operating cash inflows that fluctuate seasonally.
Firms with operating cash inflows that fluctuate seasonally are likely to experience short-term
imbalances between cash inflows and cash outflows and must forecast these imbalances to manage
their net daily cash positions, for example by arranging short-term borrowing over seasons when
operating cash inflows are expected to be relatively low and operating cash outflows are relatively high.

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Paying a cash dividend is most likely to result in:
A) an increase in liquidity ratios.

B) the same impact on liquidity and leverage ratios as a stock dividend.
C) an increase in financial leverage ratios.
The correct answer was C) an increase in financial leverage ratios.
cash giảm asset -> tăng D/E or D/A
A cash dividend will increase leverage ratios such as debt-to-equity and debt-to-assets, reflecting a
decrease in the denominator. A cash dividend should decrease liquidity ratios such as the current ratio
and cash ratio, due to the decrease in cash in the numerator. Unlike a cash dividend, a stock dividend
or a stock split has no impact on liquidity or financial leverage ratios.
Question 83 - 97487
When using net present value (NPV) profiles:
A) one should accept all independent projects with positive NPVs.

the NPV profile's intersection with the vertical y-axis identifies the project's internal rate of
B)
return.
C) one should accept all mutually exclusive projects with positive NPVs.
The correct answer was A) one should accept all independent projects with positive NPVs.
Question 84 - 96552
With respect to inventory management,:
a firm with inventory turnover higher than the industry average can be expected to have
A)
better profitability as a result.
an increase in days of inventory on hand can be the result of either good or poor inventory
B)
management.
a decrease in a firm’s days of inventory on hand indicates better inventory management and
C)
can lead to increased profits.
B was correct!
An increase in inventory could indicate poor sales and an accumulation of obsolete items or could be
the result of a conscious effort to have adequate supplies to avoid losses from not having items to
satisfy customer orders (stock outs). Higher-than-average inventory turnover could indicate better
inventory management or could indicate that a less than optimal inventory is being maintained by the
company.

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Question 86 - 87176
Which of the following statements regarding leverage is most accurate?
A firm with high business risk is more likely to increase its use of financial leverage than a
A)
firm with low business risk.
B) A firm with low operating leverage has a small proportion of its total costs in fixed costs.
High levels of financial leverage increase business risk while high levels of operating
C)
leverage will decrease business risk.
B was correct!
A firm with high operating leverage has a high percentage of its total costs in fixed costs.
Question 87 - 97578
A firm has $4 million in outstanding bonds that mature in four years, with a fixed rate of 7.5% (assume
annual payments). The bonds trade at a price of $98 in the open market. The firm’s marginal tax rate is
35%. Using the bond-yield plus method, what is the firm’s cost of equity risk assuming an add-on of
4%?
A) 12.11%.
B) 11.50%.
C) 13.34%.
If the bonds are trading at $98, the required yield is 8.11%, and the market value of the issue is $3.92
million. To calculate this rate using a financial calculator (and figuring the rate assuming a $100 face
value for each bond), N = 4; PMT = 7.5 = (0.075 × 100); FV = 100; PV = -98; CPT → I/Y = 8.11. By
adding the equity risk factor of 4%, we compute the cost of equity as 12.11%.
Which one of the following statements about the marginal cost of capital (MCC) is most accurate?
A) The MCC is the cost of the last dollar obtained from bondholders.
A breakpoint on the MCC curve occurs when one of the components in the weighted average
B)
cost of capital changes in cost.
C) The MCC falls as more and more capital is raised in a given period.
B was correct!
Question 89 - 97208
Deighton Industries has 200,000 bonds outstanding. The par value of each corporate bond is $1,000,
and the current market price of the bonds is $965. Deighton also has 6 million common shares
outstanding, with a book value of $35 per share and a market price of $28 per share. At a recent board
of directors meeting, Deighton board members decided not to change the company’s capital structure in

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a material way for the future. To calculate the weighted average cost of Deighton’s capital, what weights
should be assigned to debt and to equity?
tính dựa trên market value
Debt Equity
A) 48.85% 51.15%
B) 56.55% 43.45%
C) 53.46% 46.54%
The correct answer was C) 53.46% 46.54%
In order to calculate the weighted average cost of capital (WACC), market value weights should be
used.
For the bonds = 200,000 × $965 = $193,000,000

For the stocks = 6,000,000 × $28 = $168,000,000
$361,000,000
The weight of debt would be: 193,000,000 / 361,000,000 = 0.5346 = 53.46%

The weight of common stock would be: 168,000,000 / 361,000,000 = 0.4654 = 46.54%
Question 90 - 98178 ĐN
Project sequencing is best described as:
an investment in a project today that creates the opportunity to invest in other

A)
projects in the future.
arranging projects in an order such that cash flows from the first project fund subsequent
B)
projects.
C) prioritizing funds to achieve the maximum value for shareholders, given capital limitations.
The correct answer was A) an investment in a project today that creates the opportunity to invest in
other projects in the future.
Projects are often sequenced through time so that investing in a project today may create the
opportunity to invest in other projects in the future. Note that funding from the first project is not a
requirement for project sequencing.
Question 93 - 87186
Variability in a firm’s operating income is most closely related to its:
A) internal risk.
B) business risk.
C) financial risk.
B was correct!

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Business risk is the uncertainty regarding the operating income of a company. Financial risk refers to
the uncertainty caused by the fixed cost associated with borrowed money.
Question 94 - 97192
Which of the following statements about the discounted payback period is least accurate? The
discounted payback:
A) frequently ignores terminal values.

B) method can give conflicting results with the NPV.
C) period is generally shorter than the regular payback.
The correct answer was C) period is generally shorter than the regular payback.
The discounted payback period calculates the present value of the future cash flows. Because these
present values will be less than the actual cash flows it will take a longer time period to recover the
original investment amount.
Compared to the prior year, Chart Industries has reported that its operating cycle has remained
relatively stable while its cash conversion cycle has decreased. The most likely explanation for this is
that the firm:
A) has improved its inventory turnover.

B) is paying its bills for raw materials more rapidly.
C) is relying more on its suppliers for short-term liquidity.
The correct answer was C) is relying more on its suppliers for short-term liquidity.
The cash conversion cycle is its operating cycle minus its average days payables outstanding.
Therefore, the firm’s average days payables must have increased, a clear indication that the firm is
relying more heavily on credit from its suppliers. Improved inventory turnover would tend to increase
both the operating and cash conversion cycles. Relaxed credit policies would tend to increase the firm’s
operating cycle as receivables turnover would tend to decrease.
Question 97 - 96547
Which of the following statements about independent projects is least accurate?
A) If the internal rate of return is less than the cost of capital, reject the project.
The net present value indicates how much the value of the firm will change if the project is
B)
accepted.
The internal rate of return and net present value methods can yield different accept/reject
C)
decisions for independent projects.

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The correct answer was C) The internal rate of return and net present value methods can yield
different accept/reject decisions for independent projects.
For independent projects the IRR and NPV give the same accept/reject decision. For mutually exclusive
projects the IRR and NPV techniques can yield different accept/reject decisions.
The uncertainty in return on assets due to the nature of a firm’s operations is known as:
A) financial leverage.
B) tax efficiency.
C) business risk.
The correct answer was C) business risk.
Which of the following statements about the internal rate of return (IRR) and net present value (NPV) is
least accurate?
For mutually exclusive projects, if the NPV rankings and the IRR rankings give conflicting
A)
signals, you should select the project with the higher IRR.
B) The discount rate that causes the project's NPV to be equal to zero is the project's IRR.
The IRR is the discount rate that equates the present value of the cash inflows with the
C)
present value of the outflows.
The correct answer was A) For mutually exclusive projects, if the NPV rankings and the IRR rankings
give conflicting signals, you should select the project with the higher IRR.
The NPV method is always preferred over the IRR, because the NPV method assumes cash flows are
reinvested at the cost of capital. Conversely, the IRR assumes cash flows can be reinvested at the IRR.
The IRR is not an actual market rate.
Which of the following statements about the payback period is NOT correct?
A) The payback method considers all cash flows throughout the entire life of a project.
B) The payback period provides a rough measure of a project's liquidity and risk.
The payback period is the number of years it takes to recover the original cost of the
C)
investment.
The correct answer was A) The payback method considers all cash flows throughout the entire life of
a project.
The payback period does not take any cash flows after the payback point into consideration.

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The after-tax cost of preferred stock is always:
A) less than the before-tax cost of preferred stock.

B) equal to the before-tax cost of preferred stock.
C) higher than the cost of common shares.
B was correct!
The after-tax cost of preferred stock is equal to the before-tax cost of preferred stock, because
preferred stock dividends are not tax deductible. The cost of preferred shares is usually higher than the
cost of debt, but less than the cost of common shares.
A company has the following capital structure:
 Target weightings: 30% debt, 20% preferred stock, 50% common equity.
 Tax Rate: 35%.
 The firm can issue $1,000 face value, 7% semi-annual coupon debt with a 15-year maturity for
a price of $1,047.46.
 A preferred stock issue that pays a dividend of $2.80 has a value of $35 per share.
 The company’s growth rate is estimated at 6%.
 The company's common shares have a value of $40 and a dividend in year 0 of D 0 = $3.00.
The company's weighted average cost of capital is closest to:
A) 9.84%.
B) 9.28%.
C) 10.53%.
Step 1: Determine the after-tax cost of debt:
The after-tax cost of debt [kd (1 – t)] is used to compute the weighted average cost of capital. It is the
interest rate on new debt (kd) less the tax savings due to the deductibility of interest (k dt).
Here, we are given the inputs needed to calculate kd: N = 15 × 2 = 30; PMT = (1,000 × 0.07) / 2 = 35;
FV = 1,000; PV = -1,047.46; CPT → I = 3.25, multiply by 2 = 6.50%.
Thus, kd (1 – t) = 6.50% × (1 – 0.35) = 4.22%
Step 2: Determine the cost of preferred stock:
Preferred stock is a perpetuity that pays a fixed dividend (D ps) forever. The cost of preferred stock (kps) =
Dps / P
where: Dps = preferred dividends.

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P = price
Here, kps = Dps / P = $2.80 / $35 = 0.08, or 8.0%.
Step 3: Determine the cost of common equity:
kce = (D1 / P0) + g
where: D1 = Dividend in next year
P0 = Current stock price
g = Dividend growth rate
Here, D1 = D0 × (1 + g) = $3.00 × (1 + 0.06) = $3.18.
kce = (3.18 / 40) + 0.06 = 0.1395 or 13.95%.
Step 4: Calculate WACC:
WACC = (wd)(kd) + (wps)(kps) + (wce)(kce)
where wd, wps, and wce are the weights used for debt, preferred stock, and common equity.
Here, WACC = (0.30 × 4.22%) + (0.20 × 8.0%) + (0.50 × 13.95%) = 9.84%.
A $100 par, 8% preferred stock is currently selling for $80. What is the cost of preferred equity?
A) 10.8%.
B) 10.0%.
C) 8.0%.
B was correct!
kps = $8 / $80 = 10%

lOMoARcPSD|5736486
Which of the following is least likely to be useful to an analyst when estimating the cost of raising capital
through the issuance of non-callable, nonconvertible preferred stock?
A) The stated par value of the preferred issue.

B) The preferred stock’s dividend rate.
C) The firm’s corporate tax rate.
The correct answer was C) The firm’s corporate tax rate.
The corporate tax rate is not a relevant factor when calculating the cost of preferred stock.
The cost of preferred stock, kps is expressed as:

kps = Dps / P
where:
Dps = divided per share = dividend rate × stated par value
P = market price
The cost of preferred stock is equal to the preferred stock dividend:
A) divided by its par value.

B) divided by the market price.
C) multiplied by the market price.
B was correct!
The cost of preferred stock, kps, is Dps ÷ price.
A firm is considering a $200,000 project that will last 3 years and has the following financial data:
 Annual after-tax cash flows are expected to be $90,000.

 Target debt/equity ratio is 0.4.
 Cost of equity is 14%.
 Cost of debt is 7%.
 Tax rate is 34%.
Determine the project's payback period and net present value (NPV).
Payback Period NPV

A) 2.43 years $18,716
B) 2.22 years $18,716
C) 2.22 years $21,872
B was correct!

lOMoARcPSD|5736486
Payback Period
$200,000 / $90,000 = 2.22 years
NPV Method
First, calculate the weights for debt and equity
wd + we = 1
we = 1 − wd
wd / we = 0.40
wd = 0.40 × (1 − wd)
wd = 0.40 − 0.40wd
1.40wd = 0.40
wd = 0.286, we = 0.714
Second, calculate WACC
WACC = (wd × kd) × (1 − t) + (we × ke) = (0.286 × 0.07 × 0.66) + (0.714 × 0.14) = 0.0132 + 0.100 =
0.1132
Third, calculate the PV of the project cash flows
90 / (1 + 0.1132)1 + 90 / (1 + 0.1132)2 + 90 / (1 + 0.1132)3 = $218,716
And finally, calculate the project NPV by subtracting out the initial cash flow
NPV = $218,716 − $200,000 = $18,716

lOMoARcPSD|5736486
Question 1 - 94917
An investor sold a 30-year bond at a price of $850 after he purchased it at $800 a year ago. He
received $50 of interest at the time of the sale. The annualized holding period return is:
A) 12.5%.
B) 6.25%.
C) 15.0%.
The holding period return (HPR) is calculated as follows:
HPR = (Pt − Pt-1 + Dt) / Pt
where:
Pt = price per share at the end of time period t
Dt = cash distributions received during time period t.
Here, HPR = (850 − 800 + 50) / 800 = 0.1250, or 12.50%.
Question 3 - 93937
A local bank advertises that it will pay interest at the rate of 4.5%, compounded monthly, on regular
savings accounts. What is the effective rate of interest that the bank is paying on these accounts?
A) 4.65%.
B) 4.50%.
C) 4.59%.
(1 + 0.045 / 12)12 − 1 = 1.0459 − 1 = 0.0459.
Question 4 - 93689
An investor has two stocks, Stock R and Stock S in her portfolio. Given the following information on the
two stocks, the portfolio's standard deviation is closest to:
 σR = 34%
 σS = 16%
 rR,S = 0.67
 WR = 80%
 WS = 20%
A) 7.8%.
B) 8.7%.
C) 29.4%.

lOMoARcPSD|5736486
The formula for the standard deviation of a 2-stock portfolio is:
s = [WA2sA2 + WB2sB2 + 2WAWBsAsBrA,B]1/2
s = [(0.82 × 0.342) + (0.22 × 0.162) + (2 × 0.8 × 0.2 × 0.34 × 0.16 × 0.67)]1/2 = [0.073984 + 0.001024 +
0.0116634]1/2 = 0.08667141/2 = 0.2944, or approximately 29.4%.
Question 5 - 93665
Joe Mayer, CFA, projects that XYZ Company's return on equity varies with the state of the economy in
the following way:
State of Economy Probability of Occurrence Company Returns

Good .20 20%
Normal .50 15%
Poor .30 10%
The standard deviation of XYZ's expected return on equity is closest to:
A) 1.5%.
B) 12.3%.
C) 3.5%.
In order to calculate the standard deviation of the company returns, first calculate the expected return,
then the variance, and the standard deviation is the square root of the variance.
The expected value of the company return is the probability weighted average of the possible
outcomes: (0.20)(0.20) + (0.50)(0.15) + (0.30)(0.10) = 0.145.
The variance is the sum of the probability of each outcome multiplied by the squared deviation of each
outcome from the expected return: (0.2)(0.20 - 0.145)2 + (0.5)(0.15 - 0145)2 + (0.3)(0.1-0.145)2 =
0.000605 + 0.0000125 + 0.0006075 = 0.001225.
The standard deviation is the square root of 0.001225 = 0.035 or 3.5%.
Question 7 - 93914
The First State Bank is willing to lend $100,000 for 4 years at a 12% rate of interest, with the loan to be
repaid in equal semi-annual payments. Given the payments are to be made at the end of each 6-
month period, how much will each loan payment be?
A) $16,104.
B) $25,450.
C) $32,925.
The correct answer was A) $16,104.
N = 4 × 2 = 8; I/Y = 12/2 = 6; PV = -100,000; FV = 0; CPT → PMT = 16,103.59.

lOMoARcPSD|5736486
Question 9 - 93676
Compute the standard deviation of a two-stock portfolio if stock A (40% weight) has a variance of
0.0015, stock B (60% weight) has a variance of 0.0021, and the correlation coefficient for the two stocks
is –0.35?
A) 2.64%.
B) 1.39%.
C) 0.07%.
The standard deviation of the portfolio is found by:
[W12σ12 + W22σ2 2+ 2W1W2σ1σ2ρ1,2]0.5
= [(0.40)2(0.0015) + (0.60)2 (0.0021) + (2)(0.40)(0.60)(0.0387)(0.0458)(–0.35)]0.5
= 0.0264, or 2.64%.
Question 10 - 93746
Suppose you are going to deposit $1,000 at the start of this year, $1,500 at the start of next year, and
$2,000 at the start of the following year in an savings account. How much money will you have at the
end of three years if the rate of interest is 10% each year?
A) $4,000.00.
B) $5,346.00.
C) $5,750.00.
B was correct!
Future value of $1,000 for 3 periods at 10% = 1,331

Future value of $1,500 for 2 periods at 10% = 1,815
Future value of $2,000 for 1 period at 10% = 2,200
Total = $5,346
N = 3; PV = -$1,000; I/Y = 10%; CPT → FV = $1,331

N = 2; PV = -$1,500; I/Y = 10%; CPT → FV = $1,815
N = 1; PV = -$2,000; I/Y = 10%; CPT → FV = $2,200
Question 17 - 96022

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Financial managers should always select the project that provides the highest net present value (NPV)
whenever NPV and IRR methods conflict, because maximizing:
A) shareholder wealth is the goal of financial management.

B) the shareholders' rate of return is the goal of financial management.
C) revenues is the goal of financial management.
The correct answer was A) shareholder wealth is the goal of financial management.
Focusing on the maximization of earnings does not consider the differences in risk across projects,
while focusing on revenues precludes concern for the expenses incurred. Earning a higher return on a
small project provides less of a benefit than earning a slightly lower rate of return on a much larger
project.
Question 20 - 95283
The internal rate of return (IRR) method and net present value (NPV) method of project selection will
always provide the same accept or reject decision when:
A) the projects are mutually exclusive.

B) up-front project costs are under $1.0 million.
C) the projects are independent.
The correct answer was C) the projects are independent.
Question 21 - 93568
A T-bill with a face value of $100,000 and 140 days until maturity is selling for $98,000. What is its
holding period yield?
A) 5.25%.
B) 2.04%.
C) 5.14%.
B was correct!
The holding period yield is the return the investor will earn if the T-bill is held to maturity. HPY =
(100,000 – 98,000) / 98,000 = 0.0204, or 2.04%.
Question 37 - 93766
An investor deposits $10,000 in a bank account paying 5% interest compounded annually. Rounded to
the nearest dollar, in 5 years the investor will have:
A) $12,500.
B) $12,763.
C) $10,210.
B was correct!

lOMoARcPSD|5736486
PV = 10,000; I/Y = 5; N = 5; CPT → FV = 12,763.
or: 10,000(1.05)5 = 12,763.
Question 42 - 95440
The bank discount of a $1,000,000 T-bill with 135 days until maturity that is currently selling for
$979,000 is:
A) 5.6%.
B) 6.1%.
C) 5.8%.
($21,000 / 1,000,000) × (360 / 135) = 5.6%.
Question 43 - 95309
A stock is currently worth $75. If the stock was purchased one year ago for $60, and the stock paid a
$1.50 dividend over the course of the year, what is the holding period return?
A) 22.0%.
B) 27.5%.
C) 24.0%.
B was correct!
(75 − 60 + 1.50) / 60 = 27.5%.
Question 45 - 93711
The covariance of returns on two investments over a 10-year period is 0.009. If the variance of returns
for investment A is 0.020 and the variance of returns for investment B is 0.033, what is the correlation
coefficient for the returns?
A) 0.350.
B) 0.444.
C) 0.687.
The correct answer was A) 0.350.
The correlation coefficient is: Cov(A,B) / [(Std Dev A)(Std Dev B)] = 0.009 / [(√0.02)(√0.033)] = 0.350.

lOMoARcPSD|5736486
Question 49 - 93662
Use the following data to calculate the standard deviation of the return:
 50% chance of a 12% return

A) 1.7%.
B) 3.0%.
C) 2.5%.
The standard deviation is the positive square root of the variance. The variance is the expected value of
the squared deviations around the expected value, weighted by the probability of each observation. The
expected value is: (0.5) × (0.12) + (0.3) × (0.1) + (0.2) × (0.15) = 0.12. The variance is: (0.5) × (0.12 −
0.12)2 + (0.3) × (0.1 − 0.12)2 + (0.2) × (0.15 − 0.12)2 = 0.0003. The standard deviation is the square root
of 0.0003 = 0.017 or 1.7%.
Question 53 - 93848
Assume that the following returns are a sample of annual returns for firms in the clothing industry. Given
the following sample of returns, what are the sample variance and standard deviation respectively?
Firm 1 Firm 2 Firm 3 Firm 4 Firm 5

15% 2% 5% (7%) 0%
64.5;
A)
8.0.
51.6;
B)
7.2.
32.4;
C)
5.7.
The correct answer was A) 64.5; 8.0.
The sample variance is found by taking the sum of all squared deviations from the mean and dividing by
(n − 1). [(15 − 3)2 + (2 − 3)2 + (5 − 3)2 + (-7 − 3)2 + (0 − 3)2] / (5 − 1) = 64.5
The sample standard deviation is found by taking the square root of the sample variance. √64.5 = 8.03
Question 54 - 93836
An investment offers $100 per year forever. If Peter Wallace’s required rate of return on this investment
is 10%, how much is this investment worth to him?
A) $1,000.
B) $10,000.
C) $500.

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For a perpetuity, PV = PMT ÷ I = 100 ÷ 0.10 = 1,000.
Question 55 - 93557
With respect to the units each is measured in, which of the following is the most easily directly
applicable measure of dispersion? The:
A) standard deviation.
B) covariance.
C) variance.
The correct answer was A) standard deviation.
The standard deviation is in the units of the random variable itself and not squared units like the
variance. The covariance would be measured in the product of two units of measure.
Question 59 - 93638
If $2,500 were put into an account at the end of each of the next 10 years earning 15% annual interest,
how much would be in the account at the end of ten years?
A) $41,965.
B) $27,461.
C) $50,759.
The correct answer was C) $50,759.
N = 10; I = 15; PMT = 2,500; CPT → FV = $50,759.
Question 60 - 93889
An individual borrows $200,000 to buy a house with a 30-year mortgage requiring payments to be made
at the end of each month. The interest rate is 8%, compounded monthly. What is the monthly mortgage
payment?
A) $2,142.39.
B) $1,480.46.
C) $1,467.53.
The correct answer was C) $1,467.53.
With PV = 200,000; N = 30 × 12 = 360; I/Y = 8/12; CPT → PMT = $1,467.53.

lOMoARcPSD|5736486
Question 63 - 93630
An investor will receive an annuity of $5,000 a year for seven years. The first payment is to be received
5 years from today. If the annual interest rate is 11.5%, what is the present value of the annuity?
A) $13,453.
B) $23,185.
C) $15,000.
The correct answer was C) $15,000.
With PMT = 5,000; N = 7; I/Y = 11.5; value (at t = 4) = 23,185.175. Therefore, PV (at t = 0) =
23,185.175 / (1.115)4 = $15,000.68.
Question 66 - 94379
An investor has a portfolio with 10% cash, 30% bonds, and 60% stock. Last year, the cash returns was
2.0%, the bonds’ return was 9.5%, and the stocks’ return was –32.5%. What was the return on the
investor’s portfolio?
A) –33.33%.
B) –7.00%.
C) –16.45%.
The correct answer was C) –16.45%.
Find the weighted mean. (0.10)(0.02) + (0.30)(0.095) + (0.60)(–0.325) = –16.45%.
Question 68 - 95669
If the historical mean return on an investment is 2.0% and the standard deviation is 8.8%, what is the
coefficient of variation (CV)?
A) 4.40.
B) 1.76.
C) 6.80.
The correct answer was A) 4.40.
The CV = the standard deviation of returns / mean return or 8.8% / 2.0% = 4.4.
Question 69 - 93765

lOMoARcPSD|5736486
What is the total present value of $200 to be received one year from now, $300 to be received 3 years
from now, and $600 to be received 5 years from now assuming an interest rate of 5%?
A) $980.89.
B) $919.74.
C) $905.87.
B was correct!
200 / (1.05) + 300 / (1.05)3 + 600 / (1.05)5 = 919.74.
Question 71 - 93559 *
Personal Advisers, Inc., has determined four possible economic scenarios and has projected the
portfolio returns for two portfolios for their client under each scenario. Personal’s economist has
estimated the probability of each scenario as shown in the table below. Given this information, what is
the covariance of the returns on Portfolio A and Portfolio B?
Scenario Probability Return on Portfolio A Return on Portfolio B
A 15% 18% 19%
B 20% 17% 18%
C 25% 11% 10%
D 40% 7% 9%
A) 0.890223.
B) 0.002019.
C) 0.001898.
The correct answer was C) 0.001898.
S P (S) Return on Portfolio A RA – E(RA) Return on Portfolio B RB – E(RB) [RA – E(RA)]

x [RB – E(RB)]
x P(S)
A 15% 18% 6.35% 19% 6.45% 0.000614
B 20% 17% 5.35% 18% 5.45% 0.000583

lOMoARcPSD|5736486
C 25% 11% –0.65% 10% –2.55% 0.000041
D 40% 7% –4.65% 9% –3.55% 0.000660
E(RA) =11.65% E(RB) =12.55% Cov(RA,RB) =0.001898
Question 72 - 93794
What will $10,000 become in 5 years if the annual interest rate is 8%, compounded monthly?
A) $14,693.28.
B) $14,898.46.
C) $14,802.44.
B was correct!
FV(t=5) = $10,000 × (1 + 0.08 / 12)60 = $14,898.46
N = 60 (12 × 5); PV = -$10,000; I/Y = 0.66667 (8% / 12months); CPT → FV = $14,898.46
Question 73 - 93777
What is the maximum an investor should be willing to pay for an annuity that will pay out $10,000 at the
beginning of each of the next 10 years, given the investor wants to earn 12.5%, compounded annually?
A) $62,285.
B) $52,285.
C) $55,364.
Using END mode, the PV of this annuity due is $10,000 plus the present value of a 9-year ordinary
annuity: N=9; I/Y=12.5; PMT=-10,000; FV=0; CPT PV=$52,285; $52,285 + $10,000 = $62,285.
Or set your calculator to BGN mode then N=10; I/Y=12.5; PMT=-10,000; FV=0; CPT PV= $62,285.
Question 79 - 93877

lOMoARcPSD|5736486
Compute the present value of a perpetuity with $100 payments beginning four years from now. Assume
the appropriate annual interest rate is 10%.
A) $683.
B) $751.
C) $1000.
B was correct!
Compute the present value of the perpetuity at (t = 3). Recall, the present value of a perpetuity or
annuity is valued one period before the first payment. So, the present value at t = 3 is 100 / 0.10 =
1,000. Now it is necessary to discount this lump sum to t = 0. Therefore, present value at t = 0 is 1,000 /
(1.10)3 = 751
Question 81 - 93659
Tully Advisers, Inc., has determined four possible economic scenarios and has projected the portfolio
returns for two portfolios for their client under each scenario. Tully’s economist has estimated the
probability of each scenario, as shown in the table below. Given this information, what is the standard
deviation of expected returns on Portfolio B?
Scenari Probabilit Return on Portfolio Return on Portfolio

o y A B
A 15% 18% 19%
B 20% 17% 18%
C 25% 11% 10%
D 40% 7% 9%
A) 4.34%.
B) 9.51%.
C) 12.55%.
Scenario Probability Return on Portfolio B P × [RB – E(RB)]2
A 15% 19% 0.000624

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B 20% 18% 0.000594
C 25% 10% 0.000163
D 40% 9% 0.000504
E(RB) = 12.55% σ2 = 0.001885
σ = 0.0434166
Question 89 - 93686
Assume two stocks are perfectly negatively correlated. Stock A has a standard deviation of 10.2% and
stock B has a standard deviation of 13.9%. What is the standard deviation of the portfolio if 75% is
invested in A and 25% in B?
A) 0.00%.
B) 0.17%.
C) 4.18%.
The standard deviation of the portfolio is found by:
[W12 σ12 + W22 σ22 + 2W1W2σ1σ2r1,2]0.5, or [(0.75)2(0.102)2 + (0.25)2(0.139)2 + (2)(0.75)(0.25)(0.102)(0.139)

(–1.0)]0.5 = 0.0418, or 4.18%.
Question 90 - 93718
The correlation coefficient for a series of returns on two investments is equal to 0.80. Their covariance
of returns is 0.06974 . Which of the following are possible variances for the returns on the two
investments?
A) 0.02 and 0.44.

B) 0.08 and 0.37.
C) 0.04 and 0.19.

lOMoARcPSD|5736486
The correct answer was C) 0.04 and 0.19.
The correlation coefficient is: 0.06974 / [(Std Dev A)(Std Dev B)] = 0.8. (Std Dev A)(Std Dev B) =
0.08718. Since the standard deviation is equal to the square root of the variance, each pair of variances
can be converted to standard deviations and multiplied to see if they equal 0.08718. √0.04 = 0.20 and
√0.19 = 0.43589. The product of these equals 0.08718.
Question 91 - 94149
For the past three years, Acme Corp. has generated the following sample returns on equity (ROE): 4%,
10%, and 1%. What is the sample variance of the ROE over the last three years?
A) 21.0%.
B) 4.6%.
C) 21.0(%2).
The correct answer was C) 21.0(%2).
[(4 − 5)2 + (10 − 5)2 + (1 − 5)2] / (3 − 1) = 21(%2).
Question 93 - 93790
If a person needs $20,000 in 5 years from now and interest rates are currently 6% how much do they
need to invest today if interest is compounded annually?
A) $14,683.
B) $14,945.
C) $15,301.
B was correct!
PV = FV / (1 + r)n = 20,000 / (1.06)5 = 20,000 / 1.33823 = $14,945
N = 5; I/Y = 6%; PMT = 0; FV = $20,000; CPT → PV = -$14,945.16
An investor expects a stock currently selling for $20 per share to increase to $25 by year-end. The
dividend last year was $1 but he expects this year's dividend to be $1.25. What is the expected holding
period return on this stock?
A) 31.25%.
B) 24.00%.
C) 28.50%.

lOMoARcPSD|5736486
Return = [dividend + (end − begin)] / beginning price
R = [1.25 + (25 − 20)] / 20 = 6.25 / 20 = 0.3125
In order to calculate the net present value (NPV) of a project, an analyst would least likely need to know
the:
A) timing of the expected cash flows from the project.

B) internal rate of return (IRR) of the project.
C) opportunity cost of capital for the project.
B was correct!
The NPV is calculated using the opportunity cost, discount rate, expected cash flows, and timing of the
expected cash flows from the project. The project’s IRR is not used to calculate the NPV
What is the effective annual rate if the stated rate is 12% compounded quarterly?
A) 57.35%.
B) 12.00%.
C) 12.55%.
EAR = (1 + 0.12 / 4)4 – 1 = 12.55%
The estimated annual after-tax cash flows of a proposed investment are shown below:
Year 1: $10,000
Year 2: $15,000
Year 3: $18,000
After-tax cash flow from sale of investment at the end of year 3 is $120,000
The initial cost of the investment is $100,000, and the required rate of return is 12%. The net present
value (NPV) of the project is closest to:
A) $63,000.
B) $19,113.
C) -$66,301.

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B was correct!
10,000 / 1.12 = 8,929
15,000 / (1.12)2 = 11,958
138,000 / (1.12)3 = 98,226
NPV = 8,929 + 11,958 + 98,226 − 100,000 = $19,113
Alternatively: CFO = -100,000; CF1 = 10,000; CF2 = 15,000; CF3 = 138,000; I = 12; CPT → NPV =
$19,112.
There is a 30% chance that the economy will be good and a 70% chance that it will be bad. If the
economy is good, your returns will be 20% and if the economy is bad, your returns will be 10%. What is
your expected return?
A) 13%.
B) 17%.
C) 15%.
The correct answer was A) 13%.
Expected value is the probability weighted average of the possible outcomes of the random variable.
The expected return is: ((0.3) × (0.2)) + ((0.7) × (0.1)) = (0.06) + (0.07) = 0.13.
Question 3 - 98156
A listing of all the firm’s journal entries by date is called the:
A) general journal.
B) general ledger.
C) adjusted trial balance.
The correct answer was A) general journal.
A listing of all the journal entries in order by date is called the “general journal.” The general ledger sorts
the entries in the general journal by account. At the end of the accounting period, an initial trial balance
is prepared that shows the balances in each account. If any adjusting entries are needed, they will be
recorded and reflected in an adjusted trial balance. The account balances from the adjusted trial
balance are presented in the financial statements.
Question 6 - 98172
Beta Company reported the following financial statement information:

lOMoARcPSD|5736486
December 31, 2006:
Assets
$58,000
Liabilities
28,000
December 31, 2007:
Assets
?
Liabilities
38,000
During 2007:
Stockholder investments 15,500
Net income 18,000
Dividends 7,750
Calculate Beta’s total assets and stockholders’ equity as of December 31, 2007.
Total assets Stockholders' equity

A) $93,750 $30,000
B) $79,250 $55,750
C) $93,750 $55,750
The correct answer was C) $93,750 $55,750
Stockholders’ equity, as of December 31, 2006, was $30,000 ($58,000 assets – $28,000 liabilities) and
stockholders’ equity, as of December 31, 2007, was $55,750 ($30,000 beginning equity + $15,500
stockholder investments + $18,000 net income – $7,750 dividends). Total assets, as of December 31,
2007, are $93,750 ($38,000 liabilities + $55,570 stockholders’ equity).
Question 7 - 98167
What is the fundamental balance sheet equation?
A) Assets = Stockholders' Equity - Liabilities (A = E - L).

B) Assets = Liabilities + Stockholders' Equity (A = L + E).

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C) Liabilities = Assets + Stockholders' Equity (L = A + E).
B was correct!
The fundamental balance sheet equation is Assets = Liabilities + Stockholders’ Equity (A = L + E). This
is the fundamental accounting relationship that sets the basis for recording all financial transactions.
Question 15 - 98129
Accruals are best described as requiring an accounting entry:
A) when an expense has been incurred.

B) when the earliest event in a transaction occurs.
C) only when a good or service has been provided.
B was correct!
Accruals require an accounting entry when the earliest event occurs (paying or receiving cash,
providing a good or service, or incurring an expense) and one or more offsetting entries as the
exchange is completed.
A company’s operating revenues for a reporting period are most likely to be shown on its:
A) income statement.
B) cash flow statement.
C) balance sheet.
The correct answer was A) income statement.
Question 25 - 98166
The following amounts were drawn from the records of JME Company: total assets = $1,200; total
liabilities = $750; contributed capital = $600. Based on this information alone, retained earnings must be
equal to:
A) $150.
B) −$150.
C) $450.
B was correct!
equity = contributed capital + retained earning
(1,200 − 750 − 600) = −150

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Question 28 - 98087 đn
Which description of the objective of financial statements is most accurate? The objective of financial
statements is:
A) to provide securities analysts with objective data about a firm’s financial prospects.
B) to provide a wide range of users with information about a firm’s financial prospects.
to provide economic decision makers with useful information about a firm’s financial
C)
performance and changes in financial position.
The correct answer was C)
Question 31 - 97698
An analysis of the industry reveals that firms have been paying out 45% of their earnings in dividends,
asset turnover = 1.2; asset-to-equity (A/E) = 1.1 and profit margins are 8%. What is the industry’s
projected growth rate?
A) 4.55%.
B) 5.81%.
C) 4.95%.
B was correct!
ROE = profit margin × asset turnover × A/E = 0.08 × 1.2 × 1.1 = 0.1056
RR = (1 - 0.45) = 0.55
g = ROE × RR = 0.1056 × 0.55 = 0.0581
How would the collection of accounts receivable most likely affect the current and cash ratios?
Current ratio Cash ratio

A) Increase Increase
B) No effect No effect
C) No effect Increase
The correct answer was C) No effect Increase
Collecting receivables increases cash and decreases accounts receivable. Thus, current assets do not
change and the current ratio is unaffected. Because the numerator of the cash ratio only includes cash
and marketable securities, collecting accounts receivable increases the cash ratio.
Question 36 - 97032
If a firm has a net profit margin of 0.05, an asset turnover of 1.465, and a leverage ratio of 1.66, what is
the firm's ROE?

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A) 12.16%.
B) 3.18%.
C) 5.87%.
One of the many ways to express ROE = net profit margin × asset turnover × leverage ratio
ROE = (0.05)(1.465)(1.66) = 0.1216
Question 41 - 97476
If the inventory turnover ratio is 7, what is the average number of days the inventory is in stock?
A) 70 days.
B) 25 days.
C) 52 days.
The correct answer was C) 52 days.
Average Inventory Processing Period = 365 / inventory turnover = 365 / 7 = 52 days.
Question 45 - 97387
Juniper Corp. has the following transactions in 20X5.
 Juniper’s equipment with a book value of $55,000 was sold for $85,000 cash.
 A parcel of land was purchased for $100,000 worth of Juniper common stock.
 ABC company paid Juniper preferred dividends of $40,000.
 Juniper declared and paid a $100,000 cash dividend.
Under U.S. GAAP, what is cash flow from financing (CFF) for Juniper for 20X5?
A) −$100,000.
B) −$60,000.
C) −$115,000.
The correct answer was A) −$100,000.
The only item involving cash flow from financing (CFF) was the payment of a cash dividend by Juniper.
The sale of equipment affects cash flow from investing (CFI), the purchase of land has no effect on
cash, and the preferred dividends received are cash flow from operations under U.S. GAAP.

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Question 49 - 97916
A company has a receivables turnover of 10, an inventory turnover of 5, and a payables turnover of 12.
The company’s cash conversion cycle is closest to:
A) 30 days.
B) 79 days.
C) 37 days.
B was correct!
Cash conversion cycle = receivables days + inventory processing days – payables payment period.
Receivables days = 365 / receivables turnover = 365 / 10 = 36.5 days.
Inventory processing days = 365 / inventory turnover = 365 / 5 = 73.0 days.
Payables payment period = 365 / payables turnover = 365 / 12 = 30.4 days.
Cash collection cycle = 36.5 + 73.0 – 30.4 = 79.1 days.
Question 51 - 95268
Which of the following would NOT be a component of cash flow from investing?
A) Purchase of equipment.
B) Sale of land.
C) Dividends paid.
The correct answer was C) Dividends paid.
Dividends paid is not a component of cash flow from investing, it is a component of cash flow from
financing. The other items are all components of cash flow from investing.
Question 52 - 97923
XYZ, Inc., latest Income Statement, Balance Sheet and Statement of Cash Flows are below. Use this
information to answer the following questions:
Income Statement
Sales Revenue 19,580

Cost of Goods Sold 7,319
Gross Margin 12,261
Wage Expense 900
SG&A 4,336
Depreciation Expense 662
5,898
Income from Operations 6,363
Other Income/Expenses

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Interest Expense (750)

Gain on Sale of Land 119
(631)
Pretax Income 5,732
Income tax 1,605
Net Income 4,127
Balance Sheet
12/31/04 12/31/03
Assets
Current Assets
Cash 2,098 410
Accounts receivable 4,570 4,900
Inventory 4,752 4,500
Prepaid SGA 877 908
Total 12,297 10,718
Land 0 4,000
Property, Plant & Equipment 11,000 11,000
Accumulated Depreciation (5,862) (5,200)
Total Assets 17,435 20,518
Cash Flow from Operations
Net Income 4,127

Increase in Accounts Receivable 330
Increase in Accounts Payable (489)
Increase in Inventory (252)
Increase in Wages Payable 94
Increase in Prepaid SGA 31
Depreciation 662
Gain on Sale of Land (119)
Net cash from Operations 4,384
Cash Flow from Investments
Sale of Land 4,119
Net Cash from Investments 4,119
Cash Flow from Financing
Retirement of LT Debt (6,042)
Dividends Paid (773)
Net Cash from Financing (6,815)
Net Increase in Cash 1,688
Beginning Cash 410
Ending Cash 2,098

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Liabilities and Equity
12/31/0
12/31/03
4
Current Liabilities
Accounts Payable 4,651 5,140
Wages Payable 2,984 2,890
Dividends Payable 100 100
Total 7,735 8,130
Long term Debt 1,346 7,388
Equity
Common Stock 4,000 4,000
Retained Earnings 4,354 1,000
Total Liabilities and Equity 17,435 20,518
Part 1)
At the end of 2004, what were XYZ’s current, quick and cash ratios?
Current Ratio Quick Ratio Cash Ratio

A) 1.59 1.59 0.27
B) 1.59 0.86 0.27
C) 1.48 0.86 0.27
B was correct!
Current ratio = current assets / current liabilities = 12,297 / 7,735 = 1.59
Quick ratio = (cash + receivables) / current liabilities = 2,098 + 4,570 / 7,735 = 0.86
Cash ratio = cash / current liabilities = 2,098 / 7,735 = 0.271
Part 2)
What was the return on equity (ROE) based on year-end equity?
A) 0.67.
B) 0.49.
C) 0.58.
B was correct!
ROE = net income / equity = 4,127 / 8,354 = 0.49
Question 56 - 93535
Which of the following items would NOT be included in cash flow from investing?
A) Selling stock of the company.

B) Proceeds related to acquisitions.
C) Buying or selling a building.

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The correct answer was A) Selling stock of the company.
Selling stock of the company would be a financing cash flow.
Question 57 - 97905
Which type of a capital structure contains no dilutive securities?
A) Basic.
B) Simple.
C) Complex.
B was correct!
A complex capital structure contains potentially dilutive securities such as options, warrants, or
convertible securities. There is no basic capital structure but there are basic earnings per share which
does NOT consider the effects of any dilutive securities in the computation of EPS.
Question 58 - 97806
An analyst has gathered the following information about a company:
Balance Sheet
Assets
Cash 100
Accounts Receivable 750
Marketable Securities 300
Inventory 850
Property, Plant & Equip 900
Accumulated Depreciation (150)
Total Assets 2750
Liabilities and Equity

Accounts Payable 300
Short-Term Debt 130
Long-Term Debt 700
Common Stock 1000
Retained Earnings 620
Total Liab. and Stockholder's equity 2750
Income Statement

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Sales 1500
COGS 1100
Gross Profit 400
SG&A 150
Operating Profit 250
Interest Expense 25
Taxes 75
Net Income 150
What is the receivables collection period?
A) 183.
B) 243.
C) 365.
The correct answer was A) 183.
Receivables turnover = 1,500(sales) / 750(receivables) = 2.0
Average receivables collection period = 365 / 2 = 182.5 or 183

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Sample/practice exam, questions and answers

Corporate Finance (University of Mumbai)

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The two major types of risk affecting a firm are:

A) financial risk and cash flow risk.

The correct answer was B) business risk and financial risk.

Determine the project's NPV and IRR.

The correct answer was A) $883 20%

To determine the NPV, enter the following:

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the life of the project.

calculate NPV -> WACC=MCC

The correct answer was C) 11.6%.

WACC = (E / V)(RE) + (D / V)(RD)(1 − TC)

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The correct answer was C) discount rate.

The correct answer was C) More than 5.0%.

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The correct answer was A) 11.8%.

kd = 0.09(1 – 0.4) = 0.054 = 5.4%

Recall the WACC equation:

WACC = [wd × kd × (1 − t)] + (wps × kps) + (wce × ks)

Determine the project's payback period and discounted payback period.

Payback Period Discounted Payback Period

The correct answer was A) 2.0 years 2.4 years

3,000 / (1 + .10)1 = 2,727

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2,000 / (1 + .10)2 = 1,653

2,000 / (1 + .10)3 = 1,503.

5,000 - (2,727 + 1,653) = 620

620 / 1,503 = .4.

So, 2 + 0.4 = 2.4.

The following information applies to a corporation:

ks = RFR + β(Rm − RFR)

WACC = [D/(D + E)] × kd(1 − t) + [E/(D + E)] × ks

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A) increase the cost of equity capital by dividing it by (1 – flotation cost).

QBreakeven = Fixed Cost / (Price – Variable Cost)

A) profitability index (PI).

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The correct answer was A) −$4.22.

Statement 2: Cash flows should be analyzed on an after-tax basis.

Should DeWalt agree or disagree with Webb’s statements?

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The correct answer was C) Disagree Agree

The correct answer was A) Both increase.

Lane Industries has a project with the following cash flows:

Year Cash Flow

The correct answer was A) 3.9 years.

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Question 31 - 119459 (đn)

A) management, the board of directors, and shareholders.

Question 33 - 97235 ref

Are Statement 1 and Statement 2, as made by Haggerty CORRECT?

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The correct answer was A) Correct Correct

 Location: European firms tend to favor payback period.

In order to determine the discount rate, we need to calculate the WACC.

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After-tax cost of debt = 9.0% (1 – 0.40) = 5.40%

Country Risk Premium for Mexico Cost of Equity for Project

The correct answer was C) 4.53% 17.36%

= (0.077 – 0.046)(0.38 ÷ 0.26) = 0.0453, or 4.53%