Question 1

In general, equity is considered a _____ investment than debt, because payments on debt are _______.

Accepted Answer

A) Safer; lower 
B) Safer; less certain 
C) Riskier; guaranteed by the company 
D) Riskier; guaranteed by the federal government

Question 2

The weighted-average cost of capital is the return the company needs to earn after tax in order to satisfy all its security holders.

Accepted Answer

A) True 
 B)False

Question 3

Higher flotation costs will result when:

Accepted Answer

A) Raising more internal capital 
B) A firm does not issue enough stock to cover its costs 
C) A firm feels market pressure from selling additional stock 
D) Debt is issued versus equity being issued

Question 4

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% WACC = (.4 x .06) + (.2 x .12) + (.4 x .18)
= )024 + .024 + .072

Question 5

You are trying to determine the cost of equity for a publicly traded company.Which of the following is least useful?

Accepted Answer

A) The 3-month Treasury bill rate 
B) The risk premium on the market 
C) The historical beta for the firm 
D) The expected rate of return on a stock of similar risk

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

127.NuSpace Industries has 2 million shares of common stock outstanding, 1 million shares of preferred stock outstanding, and 5 thousand units bonds.The common shares are selling for $25 per share, the preferred share are selling for $15 per share, and the bonds are selling for 98% of par, what would be the weights for the common shares, preferred shares and bonds?

Accepted Answer

The answer of 127.NuSpace Industries has 2 million shares of...

Question 8

XYZ Company issues common stock that is expected to pay a dividend over the next year of $4 at a price of $25 per share.If its expected growth rate is 5%, what is XYZ's cost of common equity?

Accepted Answer

A) 9.0% 
B) 11.0% 
C) 16.0% 
D) 21.0%

Question 9

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 10

How much is added to a firm's weighted average cost of capital for 45% debt financing with a required rate of return of 10% and a tax rate of 35%?

Accepted Answer

A) 1.29% 
B) 2.93% 
C) 3.50% 
D) 4.50% Component cost of debt = .45 x (1 - .35).10
= )45 x (.65 x .10)
= )45 x .065

Question 11

What return on equity do investors seem to expect for a firm with a $55 share price, an expected dividend of $5.50, a beta of .9 and a constant growth rate of 5.5%?

Accepted Answer

A) 9.00% 
B) 10.00% 
C) 13.95% 
D) 15.50% requity =

Question 12

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 zero 
D) No, since NPV is negative NPV = -10 million + $1.25 million/.125
= -10 + 10
= 0

Question 13

Which of the following changes offer the greatest chance of changing a project's NPV from negative to positive?

Accepted Answer

A) Substituting preferred stock for debt 
B) Selling the debt at less than par value 
C) A reduction in project risk 
D) A decrease in the marginal tax rate

Question 14

What is the WACC for a firm using 55% equity with a required return of 15%, 35% debt with a required return of 8%, 10% preferred stock with a required return of 10%, and a tax rate of 35%?

Accepted Answer

A) 10.72% 
B) 11.07% 
C) 11.70% 
D) 12.05% WACC = (.35 x (1 - .35).08) + (.1 x .1) + (.55 x .15)
= 1)82% + 1.0% + 8.25%

Question 15

If a firm earns the WACC as an average return on its average-risk assets, then:

Accepted Answer

A) Equity holders will be satisfied, but bondholders will not 
B) Bondholders will be satisfied, but equity holders will not 
C) All investors will earn their minimum required rate of return 
D) The firm is investing only in positive NPV projects

Question 16

When determining the costs of each component of a firm's capital structure, the firm must evaluate the:

Accepted Answer

A) Marginal costs of new funds 
B) Total costs of new funds 
C) Average costs of new funds 
D) Average costs of old and new funds

Question 17

When determining the cost of capital for a new project, the firm should consider the:

Accepted Answer

A) Discounted rate that makes the NPV equal to zero 
B) IRR of the investment 
C) Cost of capital of a project of similar risk 
D) Cost of capital facing the firm

Question 18

Minsk Industries' capital structure features 63% equity, 7% preferred stock, and 30% debt.If the before-tax component costs of equity, preferred stock and debt are 11.60%, 9.5% and 7%, respectively, what is Minsk's WACC if the firm faces an average tax rate of 34%?

Accepted Answer

The answer of Minsk Industries' capital structure features 63% equity,...

Question 19

128.Suppose that Nexos, Inc.'s capital structure features 45% common shares, 20% preferred shares, 35% debt, and that its before-tax cost of debt is 9%, while its cost of equity for common shares and preferred shares are 12% and 15% respectively.If the appropriate weighted average tax rate is 40%, what will be Nexos's WACC?

Accepted Answer

The answer of 128.Suppose that Nexos, Inc.'s capital structure features...

Question 20

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% requity =

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

In general, equity is considered a _ investment than debt, because payments on debt are ___.