Question 1

What is the yield to maturity on Dotte Inc.'s bonds if its after-tax cost of debt is 10% and its tax rate is 35%?

Accepted Answer

A)  6.50% 
B)  13.50% 
C)  15.38% 
D)  16.42%

Question 2

Find the required rate of return for equity investors of a firm with a beta of 1.3 when the risk free rate is 5%,the market risk premium is 5%,and the return on the market is 10%.

Accepted Answer

A)  11.5% 
B)  13.0% 
C)  16.5% 
D)  18.0%

Question 3

What coupon rate is being paid on debt for a firm with an after-tax cost of debt of 7.5% and a tax rate of 40%?

Accepted Answer

A)  10.5% 
B)  12.0% 
C)  12.5% 
D)  18.75%

Question 4

A firm with an unchanging asset beta of 1.0 has a debt beta of zero when 20% of the capital structure is debt,and is estimated to have a debt beta of .15 if debt went as high as 50% of the capital structure.What is the range for the equity beta under these circumstances?

Accepted Answer

The answer of A firm with an unchanging asset beta...

Question 5

Which component is more likely to be biased if book values are used in the calculation of WACC rather than market values?

Accepted Answer

A)  debt. 
B)  preferred stock. 
C)  common stock. 
D)  all categories should be equally biased.

Question 6

The company cost of capital is the return that is expected on a portfolio of the company's:

Accepted Answer

A)  existing securities. 
B)  equity securities. 
C)  debt securities. 
D)  proposed securities.

Question 7

What would you estimate to be the required rate of return for equity investors if a stock sells for $40 and will pay a $4.40 dividend that is expected to grow at a constant rate of 5%?

Accepted Answer

A)  7.6% 
B)  12.0% 
C)  12.6% 
D)  16.0%

Question 8

Calculation of company costs of capital should be conducted with market values whenever possible.

Accepted Answer

A) True 
 B)False

Question 9

According to CAPM estimates,what is the cost of equity for a firm with beta of 1.5 when the risk-free interest rate is 6% and the expected return on the market portfolio is 15%?

Accepted Answer

A)  19.5% 
B)  21.0% 
C)  22.5% 
D)  24.0%

Question 10

The company cost of capital does not make an adjustment for the tax effect.

Accepted Answer

A) True 
 B)False

Question 11

Which of the following should be expected to occur when a firm significantly increases its proportion of debt financing?

Accepted Answer

A)  the required return on debt will decrease. 
B)  the required return on equity will decrease. 
C)  the company cost of capital will increase. 
D)  the company cost of capital will remain unchanged.

Question 12

What % age of value should be allocated to equity in WACC computations for a firm with $50 million in debt selling at 85% of par,$50 million in book value of equity,and $65 million in market value of equity?

Accepted Answer

A)  50.0% 
B)  54.1% 
C)  56.5% 
D)  60.5%

Question 13

Should a project be accepted if it offers an annual after-tax cash flow of $1,250,000 indefinitely,costs $10 million,is riskier than the firm's average projects,and the firm uses a 12.5% WACC?

Accepted Answer

A)  Yes, since NPV is positive. 
B)  Yes, since a zero NPV indicates marginal acceptability. 
C)  No, since NPV is greater than zero. 
D)  No, since NPV is negative.

Question 14

Capital structure decisions refer to the:

Accepted Answer

A)  dividend yield of the firm's stock. 
B)  blend of equity and debt used by the firm. 
C)  capital gains available on the firm's stock. 
D)  maturity date for the firm's securities.

Question 15

What will be the effect of using book value of debt in WACC decisions if interest rates have decreased substantially since a firm's long-term bonds were issued?

Accepted Answer

A)  the debt-to-value ratio will be overstated. 
B)  the debt-to-value ratio will be understated. 
C)  there will be no effect on WACC decisions. 
D)  cannot be determined without knowing interest rates.

Question 16

A company's CFO wants to maintain a target debt-to-equity ratio of 1/4.If the WACC is 18.6%,and the pretax cost of debt is 9.4%,what is the cost of common equity assuming a tax rate of 34%?

Accepted Answer

A)  19.90% 
B)  20.90% 
C)  21.70% 
D)  22.73%

Question 17

An increase in a firm's debt ratio will have no effect on the required rate of return for equity holders.

Accepted Answer

A) True 
 B)False

Question 18

What is the WACC for a firm with 40% debt,20% preferred stock and 40% equity if the respective costs for these components are 6% after-tax,12% after-tax,and 18% before-tax? The firm's tax rate is 35%.

Accepted Answer

A)  9.48% 
B)  11.16% 
C)  12.00% 
D)  15.60%

Question 19

Interest tax shields are available to the firm on debt and preferred stock but not on common equity.

Accepted Answer

A) True 
 B)False

Question 20

The company cost of capital,pretax for a firm with a 60/40 debt/equity split,8% cost of debt,15% cost of equity,and a 35% tax rate would be:

Accepted Answer

A)  7.02% 
B)  9.12% 
C)  10.80% 
D)  13.80%

Exam 13: The Weighted-Average Cost of Capital and Company Valuation

What is the yield to maturity on Dotte Inc.'s bonds if its after-tax cost of debt is 10% and its tax rate is 35%?

Find the required rate of return for equity investors of a firm with a beta of 1.3 when the risk free rate is 5%,the market risk premium is 5%,and the return on the market is 10%.

What coupon rate is being paid on debt for a firm with an after-tax cost of debt of 7.5% and a tax rate of 40%?

A firm with an unchanging asset beta of 1.0 has a debt beta of zero when 20% of the capital structure is debt,and is estimated to have a debt beta of .15 if debt went as high as 50% of the capital structure.What is the range for the equity beta under these circumstances?

Which component is more likely to be biased if book values are used in the calculation of WACC rather than market values?

The company cost of capital is the return that is expected on a portfolio of the company's:

What would you estimate to be the required rate of return for equity investors if a stock sells for $40 and will pay a $4.40 dividend that is expected to grow at a constant rate of 5%?

Calculation of company costs of capital should be conducted with market values whenever possible.

According to CAPM estimates,what is the cost of equity for a firm with beta of 1.5 when the risk-free interest rate is 6% and the expected return on the market portfolio is 15%?

The company cost of capital does not make an adjustment for the tax effect.

Which of the following should be expected to occur when a firm significantly increases its proportion of debt financing?

What % age of value should be allocated to equity in WACC computations for a firm with $50 million in debt selling at 85% of par,$50 million in book value of equity,and $65 million in market value of equity?

Should a project be accepted if it offers an annual after-tax cash flow of $1,250,000 indefinitely,costs $10 million,is riskier than the firm's average projects,and the firm uses a 12.5% WACC?

Capital structure decisions refer to the:

What will be the effect of using book value of debt in WACC decisions if interest rates have decreased substantially since a firm's long-term bonds were issued?

A company's CFO wants to maintain a target debt-to-equity ratio of 1/4.If the WACC is 18.6%,and the pretax cost of debt is 9.4%,what is the cost of common equity assuming a tax rate of 34%?

An increase in a firm's debt ratio will have no effect on the required rate of return for equity holders.

What is the WACC for a firm with 40% debt,20% preferred stock and 40% equity if the respective costs for these components are 6% after-tax,12% after-tax,and 18% before-tax? The firm's tax rate is 35%.

Interest tax shields are available to the firm on debt and preferred stock but not on common equity.

The company cost of capital,pretax for a firm with a 60/40 debt/equity split,8% cost of debt,15% cost of equity,and a 35% tax rate would be: