Question 1

Plasti-tech Inc.is financed 60% with equity and 40% with debt.Currently,its debt has a before-tax interest rate of 12%.Plasti-tech's common stock trades at $15.00 per share and its most recent dividend was $1.00.Future dividends are expected to grow by 4%.If the tax rate is 34%,what is Plasti-tech's WACC?

Accepted Answer

A)  7.39% 
B)  9.57% 
C)  9.73% 
D)  11.20%

Question 2

Calculate a firm's required rates of return for both of its equity components: Its common stock sells for $50.00 per share and will pay a $6.00 dividend which is expected to grow at a constant 5% rate.Its preferred stock sells for $22.50 per share and pays $1.80 in dividends.What accounts for the difference in returns,given that these are both forms of equity?

Accepted Answer

The answer of Calculate a firm's required rates of return...

Question 3

A project will generate $1 million net cash flow annually in perpetuity.If the project costs $7 million,what is the lowest WACC shown below that will make the NPV negative?

Accepted Answer

A)  10% 
B)  12% 
C)  14% 
D)  16%

Question 4

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 5

What percentage 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 6

What is the weighted-average cost of capital for a firm with the following sources of funds and corresponding required rates of return: $5 million common stock at 16%,$500,000 preferred stock at 10%,and $3 million debt at 9%.All amounts are listed at market values and the firm's tax rate is 35%.

Accepted Answer

The answer of What is the weighted-average cost of capital...

Question 7

The company cost of capital equals the weighted-average cost of capital (WACC)as long as the tax rate is non-zero.

Accepted Answer

A) True 
 B)False

Question 8

What is the WACC for a firm with equal amounts of debt and equity financing,a 17% before-tax company cost of capital,a 35% tax rate,and a 10% coupon rate on its debt that is selling at par value?

Accepted Answer

A)  10.40% 
B)  14.25% 
C)  15.25% 
D)  16.00%

Question 9

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

Accepted Answer

A) True 
 B)False

Question 10

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 11

How much will a firm need in cash flow before tax and interest to satisfy debtholders and equityholders if the tax rate is 35%,there is $13 million in common stock requiring a 10% return,and $6 million in bonds requiring a 6% return?

Accepted Answer

A)  $1,392,000 
B)  $1,488,000 
C)  $2,360,000 
D)  $2,480,000

Question 12

An implicit cost of increasing the proportion of debt in a firm's capital structure is that:

Accepted Answer

A)  the firm's asset beta will increase. 
B)  shareholders will demand a higher rate of return. 
C)  the tax shield will not apply to the added debt. 
D)  the equity-to-value ratio will decrease.

Question 13

If a project has zero NPV when the expected cash flows are discounted at the weighted-average cost of capital,then the project's cash flows are just sufficient to give debtholders and shareholders the return they require.

Accepted Answer

A) True 
 B)False

Question 14

A change in the company's capital structure will change the amount of taxes paid but will not change the WACC.

Accepted Answer

A) True 
 B)False

Question 15

What decision should be made on a project of above-average risk if the project's IRR exceeds the WACC?

Accepted Answer

A)  Accept the project; NPV is positive. 
B)  Reject the project; NPV is negative. 
C)  Decide after discounting at the IRR. 
D)  Decide after discounting at an appropriate rate.

Question 16

Why is it important to use market values rather than book values when determining the weighted-average cost of capital?

Accepted Answer

The answer of Why is it important to use market...

Question 17

What happens when capital structure changes?

Accepted Answer

The answer of What happens when capital structure changes?...

Question 18

What is the pretax cost of debt for a firm in the 35% tax bracket that has a 10% after-tax cost of debt?

Accepted Answer

A)  5.85% 
B)  12.15% 
C)  15.38% 
D)  25.71%

Question 19

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.

Question 20

The WACC is the rate of return that the firm must expect to earn on its average-risk investments in order to provide an acceptable return to its security holders.

Accepted Answer

A) True 
 B)False

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

A project will generate $1 million net cash flow annually in perpetuity.If the project costs $7 million,what is the lowest WACC shown below that will make the NPV negative?

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

What percentage 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?

What is the weighted-average cost of capital for a firm with the following sources of funds and corresponding required rates of return: $5 million common stock at 16%,$500,000 preferred stock at 10%,and $3 million debt at 9%.All amounts are listed at market values and the firm's tax rate is 35%.

The company cost of capital equals the weighted-average cost of capital (WACC)as long as the tax rate is non-zero.

What is the WACC for a firm with equal amounts of debt and equity financing,a 17% before-tax company cost of capital,a 35% tax rate,and a 10% coupon rate on its debt that is selling at par value?

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

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

How much will a firm need in cash flow before tax and interest to satisfy debtholders and equityholders if the tax rate is 35%,there is $13 million in common stock requiring a 10% return,and $6 million in bonds requiring a 6% return?

An implicit cost of increasing the proportion of debt in a firm's capital structure is that:

If a project has zero NPV when the expected cash flows are discounted at the weighted-average cost of capital,then the project's cash flows are just sufficient to give debtholders and shareholders the return they require.

A change in the company's capital structure will change the amount of taxes paid but will not change the WACC.

What decision should be made on a project of above-average risk if the project's IRR exceeds the WACC?

Why is it important to use market values rather than book values when determining the weighted-average cost of capital?

What happens when capital structure changes?

What is the pretax cost of debt for a firm in the 35% tax bracket that has a 10% after-tax cost of debt?

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?

The WACC is the rate of return that the firm must expect to earn on its average-risk investments in order to provide an acceptable return to its security holders.