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# Business finance : Solution set

If managers are making decisions to maximize shareholder wealth, then they are
Primarily concerned with making decisions that should:
a. Positively affect profits.
b. Increase the market value of the firm's common stock.
c. Either increase or have no effect on the value of the firm's
Common stock.
d. Accomplish all of the above.

2A firm has return on equity of 20% and a total asset turnover of 4. Assuming
a debt ratio of 50% and sales of \$1,000,000, calculate net income.
a. \$25,000
b. \$50,000
c. \$75,000
d. \$100,000

3The trading of negotiable certificates of deposit takes place on the:
b. New York Stock Exchange.
c. American Stock Exchange.
d. None of the above.

4As the cost of capital is increased, the:
a. IRR remains constant.
b. Payback period remains the same.
c. Discounted payback period increases.
d. Both "b" and "c".
e. All of the above

5You have just won a magazine sweepstakes and have a choice of three
alternatives. You can get \$100,000 now, or \$10,000 per year in perpetuity, or
\$50,000 now and \$150,000 at the end of 10 years. If the appropriate discount
rate is 12%, which option should you choose?
a. \$100,000 now
b. \$10,000 perpetuity
c. \$50,000 now and \$150,000 in 10 years

6The break-even quantity of output results in an EBIT level equal to:
a. Fixed costs.
b. Contribution margin.
c. Zero.
d. Variable costs.

7If the NPV of a project is positive, then the project's IRR _________________
the required rate of return.
a. must be less than
b. must be greater than
c. could be greater or less than
d. cannot be determined without actual cash flows

8Given a 360-day year, the effective annual cost of not taking advantage of the
3/10, net 30 terms offered by a supplier is:
a. 55.7%.
b. 45.4%.
c. 32.3%.
d. 28.2%.

9A company is technically insolvent when:
a. Cash outflows in a given period are greater than cash inflows.
b. Earnings before interest payments are less than the interest
payments.
c. It lacks the necessary liquidity to promptly pay its current
debt obligations.
d. The current ratio is less than 1.0.

10Monopoly Corp. is projecting sales of \$12 million next year. All sales will be
on a credit basis. The present average collection period is 45 days. Monopoly
is considering a change in selling terms from net 30 days to 2/10, net 30 in
order to speed up the collections of its receivables. Studies indicate that one
half of the firm's customers will take the discount. If Monopoly offers this
discount, how much will it cost next year? Assume a 365-day year.
a. \$87,000
b. \$98,000
c. \$103,000
d. \$112,000
e. \$120,000

11Which of the following most likely would cause a lease to be classified as a
capital lease?
a. The lease is for five or more years.
b. The lease is for \$1 million or more.
c. The lease permits the lessee to purchase the equipment at the
end of the lease for its fair market value.
d. The present value of the lease payments, calculated at the
lessee's typical rate of interest for a similar purchase
loan, is more than the original purchase price of the
equipment.&n bsp;

12UVP preferred stock pays \$5.00 in annual dividends per share. If your
required rate of return is 13%, how much will you be willing to pay for one share?
a. \$38.46
b. \$26.26
c. \$65.46
d. \$46.38

13Determine the dollar value of a three year annuity that would produce the
same NPV as the following project if the appropriate discount rate is 15%, and
initial outflow = 0.
Initial Outflow = \$1,200
Cash Flow Year 1 = \$800
Cash Flow Year 2 = \$500
Cash Flow Year 3 = \$700
a. \$250.38
b. \$673.94
c. \$146.28
d. \$430.82

14Sola Cola Corporation is undertaking a capital budgeting analysis. The
rate on 30-year U.S. Treasury bonds is 6.3%, and the return on the S&P 500
index is 18.5%. If the cost of Sola Cola's retained earnings is 19.7%,
calculate its beta.
a. 1.1
b. 1.3
c. 1.5
d. 1.7

15Zybeck Corp. projects operating income of \$4 million next year. The firm's
income tax rate is 40%. Zybeck presently has 750,000 shares of common
stock outstanding which have a market value of \$10 per share, no preferred
stock, and no debt. The firm is considering two alternatives to finance a new
product: (a) the issuance of \$6 million of 10% bonds, or (b) the issuance of
60,000 new shares of common stock. If Zybeck issues common stock this
year, what will projected EPS be next year?
a. \$2.10
b. \$2.96
c. \$2.33
d. \$1.67

16In the event that Zoldt Corporation, which has a low P/E ratio, were to
acquire Sky Corporation, which has a higher P/E ratio, an analyst can be
certain that one of the following will occur.
a. Zoldt Corp. will see an immediate decrease in P/E.
b. Zoldt Corp. will see an immediate decrease in EPS.
c. Zoldt Corp. will see an immediate increase in the growth rate
of EPS.
d. Zoldt Corp. will see an immediate increase in EPS.

17Assume that an investor owned 5,000 of Chrysler Corporation common stock
prior to the purchase of Chrysler by Daimler-Benz of Germany. At the time
of the acquisition, the dollar was worth 1.7848 German marks. Further
assume that the purchase price was equal to 107.09 marks per share.
What was the sales price of Chrysler common stock per share in U.S.
dollars?
a. \$50
b. \$191
c. \$107
d. \$60
e. None of the above

18If a company's average collection period is higher than the industry average,
then the company might be:
a. Enforcing credit conditions upon its customers which are too
&nbs p;stringent.
b. Allowing its customers too much time to pay their bills.
c. Too tough in collecting its accounts.
d. Too liquid.

19Kiosk Corp. has current assets of \$4.5 million and current liabilities of \$3.6
million. The current ratio is 1.25, and the quick ratio is 0.75. How much
does Kiosk have invested in inventory (in millions)?
a. \$0.8
b. \$1.8
c. \$2.4
d. \$2.9
e. \$3.6

20A firm has a total asset turnover of 2, a net profit margin of 5%, and a debt
ratio of 50%. If the firm has a dividend payout ratio of 20%, calculate its
sustainable growth rate.
a. 14%
b. 16%
c. 18%
d. 20%

21If you have \$20,000 in an account earning 8% annually, what constant amount
could you withdraw each year and have nothing remaining at the end of five
years?
a. \$3,525.62
b. \$5,008.76
c. \$3,408.88
d. \$2,465.78

22A firm has a degree of combined leverage of 1.25. Price per unit is \$15 and
variable cost per unit is \$5. Interest expense is \$10,000 and fixed costs are
\$190,000. Calculate the quantity of output produced.
a. 100,000 units
b. 120,500 units
c. 150,000 units
d. 200,000 units

23A stock currently sells for \$63 per share, and the required return on the
stock is 10%. Assuming a growth rate of 5%, calculate the stock's last
dividend paid. (Rounded)
a. \$1
b. \$3
c. \$5
d. \$7

24An optimal capital structure is achieved:
a. When a firm's expected profits are maximized.
b. When a firm's expected EPS are maximized.
c. When a firm's expected stock price is maximized.
e. When a firm's break-even point is achieved.

25An investor in the 40% tax bracket owning a tax-exempt bond yielding 6%
realizes an equivalent before-tax yield of:
a. 12%
b. 10%
c. 8%
d. 6%

#### Solution Preview

1 If managers are making decisions to maximize shareholder wealth, then they are
primarily concerned with making decisions that should:
a. Positively affect profits.
b. Increase the market value of the firm's common stock.
c. Either increase or have no effect on the value of the firm's
common stock.
d. Accomplish all of the above. 1. Answer: B

2 A firm has return on equity of 20% and a total asset turnover of 4. Assuming
a debt ratio of 50% and sales of \$1,000,000, calculate net income.
a. \$25,000
b. \$50,000
c. \$75,000

3 The trading of negotiable certificates of deposit takes place on the:
b. New York Stock Exchange.
c. American Stock Exchange.
d. All of the above.
e. None of the above. 3. Answer: E

4 As the cost of capital is increased, the:
a. IRR remains constant.
b. Payback period remains the same.
c. Discounted payback period increases.
d. Both "b" and "c".
e. All of the above 4. Answer: E

5 You have just won a magazine sweepstakes and have a choice of three
alternatives. You can get \$100,000 now, or \$10,000 per year in perpetuity, or
\$50,000 now and \$150,000 at the end of 10 years. If the appropriate discount
rate is 12%, which option should you choose?
a. \$100,000 now
b. \$10,000 perpetuity
c. \$50,000 now and \$150,000 in 10 years 5. Answer: A

6 The break-even quantity of output results in an EBIT level equal to:
a. Fixed costs.
b. Contribution margin.
c. Zero.
d. Variable costs. 6. Answer: C

7 If the NPV of a project is positive, then the project's IRR _________________
the required rate of return.

a. must be greater than
b. must be less than
c. could be greater or less than
d. cannot be determined without actual cash flows 7. Answer: A

8 Given a 360-day year, the effective annual cost of not taking advantage of the
3/10, net 30 terms offered by a supplier is:
a. ...

#### Solution Summary

This solution is comprised of a detailed explanation to answer if managers are making decisions to maximize shareholder wealth, then they are
Primarily concerned with making decisions that should.

\$2.19