Ch. 9-16 + Ch. 7 Questions and Answers

Ch. 9-16 + Ch. 7 Questions and Answers Which one of the following markets involve liquid securities with standardized contract features such as stocks and bonds? a. private financial market b. derivatives market c. commodities market d. real estate market e. public financial market public financial market Which of the following markets involve direct two-party negotiations over illiquid, non-standardized contracts such as bank loans and direct placement of debt? a. primary market b. secondary market c. options market d. private financial market e. public financial market private financial market Which of the following is an example of rent on financial capital? a. interest on debt b. dividends on stock c. collateral on equity d. a and b e. a, b, and c a and b Which of the following describes the observed or stated interest rate? a. real rate b. nominal rate c. risk-free rate d. prime rate e. inflation rate nominal rate Which of the following describes the interest rate in addition to the inflation rate expected on a risk-free loan? a. real rate b. nominal rate c. risk-free rate d. prime rate e. inflation rate real rate Which of the following describes the interest rate on debt that is virtually free of default risk? a. real rate b. nominal rate c. risk-free rate d. prime rate e. inflation rate risk-free rate Which of the following describes the interest rate charged by banks to their highest quality customers? a. real rate b. nominal rate c. risk-free rate d. prime rate e. inflation rate prime rate Which of the following is not a component in determining the cost of debt? a. inflation premium b. default risk premium c. liquidity premium d. maturity premium e. interest rate premium interest rate premium The additional interest rate premium required to compensate the lender for the probability that a borrower will not be able to repay interest and principal on a loan is known as? a. inflation premium b. default risk premium c. liquidity premium d. maturity premium e. investment risk premium default risk premium The additional premium added to the real interest rate by lenders to compensate them for a debt instrument which cannot be converted to cash quickly at its existing value is called? a. inflation premium b. default risk premium c. liquidity premium d. maturity premium e. investment risk premium liquidity premium The added interest rate charged due to the inherent increased risk in long-term debt is called? a. inflation premium b. default risk premium c. liquidity premium d. maturity premium e. investment risk premium maturity premium Suppose the real risk free rate of interest is 4%, maturity risk premium is 2%, inflation premium is 6%, the default risk on similar debt is 3%, and the liquidity premium is 2%. What is the nominal interest rate on this venture's debt capital? a. 13% b. 14% c. 15% d. 16% e. 17% 17% A venture has raised $4,000 of debt and $6,000 of equity to finance its firm. Its cost of borrowing is 6%, its tax rate is 40%, and its cost of equity capital is 8%. What is the venture's weighted average cost of capital? a. 8.0% b. 7.2% c. 7.0% d. 6.2% e. 6.0% 6.2% Your venture has net income of $600, taxable income of $1,000, operating profit of $1,200, total financial capital including both debt and equity of $9,000, a tax rate of 40%, and a WACC of 10%. What is your venture's EVA? a. $400,000 b. $200,000 c. $ 0 d. ($180,000) e. ($300,000) ($180,000) The "risk-free" interest rate is the sum of: a. a real rate of interest and an inflation premium b. a real rate of interest and a default risk premium c. an inflation premium and a default risk premium d. a default risk premium and a liquidity premium e. a liquidity premium and a maturity premium a real rate of interest and an inflation premium Venture investors generally use which one of the following target rates to discount the projected cash flows of ventures in the "startup" stage of their life cycles: a. 20% b. 25% c. 40% d. 50% 40% Which of the following components is not typically included in the rate on short-term U.S. treasuries? a. liquidity premium b. default risk premium c. market risk premium d. b and c e. a, b, and c a, b, and c The word "risk" developed from the early Italian word "risicare" and means: a. don't care b. take a chance c. to dare d. to gamble to dare The difference between average annual returns on common stocks and returns on long-term government bonds is called a: a. default risk premium b. maturity premium c. risk-free premium d. liquidity premium e. market risk premium market risk premium What has been the approximate average annual rate of return on publicly traded small company stocks since the mid-1920s? a. 10% b. 16% c. 25% d. 30% e. 40% 16% Venture investors generally use which one of the following target rates to discount the projected cash flows of ventures in the "development" stage of their life cycles: a. 15% b. 20% c. 25% d. 40% e. 50% 50% Corporate bonds might involve which of the following types of "premiums." a. inflation premium b. default risk premium c. liquidity premium d. maturity premium e. all of the above f. none of the above all of the above Which of the following venture life cycle stages would involve seasoned financing rather than venture financing? a. Development stage b. Startup stage c. Survival stage d. Rapid-growth stage e. Maturity stage Maturity stage A venture's "riskiness" in terms of possible poor performance or failure would be considered to be "very high" in which of the following life cycle stages: a. Startup stage b. Survival stage c. Rapid-growth stage d. Maturity stage Startup stage Which of the following types of financing would be associated with the highest target compound rate of return? a. public and seasoned financing b. second-round and mezzanine financing c. first-round financing d. startup financing e. seed financing seed financing The cost of equity for a firm is 20%. If the real interest rate is 5%, the inflation premium is 3%, and the market risk premium is 2%, what is the investment risk premium for the firm? a. 10% b. 12% c. 13% d. 15% 12% Use the SML model to calculate the cost of equity for a firm based on the following information: the firm's beta is 1.5; the risk free rate is 5%; the market risk premium is 2%. a. 4.5% b. 8.0% c. 9.5% d. 10.5% 8.0% Calculate the weighted average cost of capital (WACC) based on the following information: the capital structure weights are 50% debt and 50% equity; the interest rate on debt is 10%; the required return to equity holders is 20%; and the tax rate is 30%. a. 7% b. 10% c. 13.5% d. 17.5% e. 20% 13.5% Calculate the weighted average cost of capital (WACC) based on the following information: the equity multiplier is 1.66; the interest rate on debt is 13%; the required return to equity holders is 22%; and the tax rate is 35%. a. 11.5% b. 13.9% c. 15.0% d. 16.6% 16.6% Calculate the after-tax WACC based on the following information: nominal interest rate on debt = 16%; cost of common equity = 30%; equity to value = 60%; debt to value = 40%; and a tax rate = 25%. a. 10% b. 16% c. 19.8% d. 22.8% e. 30% 22.8% Calculate the after-tax WACC based on the following information: nominal interest rate on debt = 12%; cost of common equity = 25%; common equity = $700,000; interest-bearing debt = $300,000; and a tax rate = 25%. a. 15% b. 16.4% c. 20.2% d. 22.8% e. 30% 20.2% Over the past 90 or so years, the average annual rates of return in the U.S. have been highest for which of the following securities? a. Five-year government bonds b. Twenty-year corporate bonds c. Large-company stocks d. Small-company stocks Small-company stocks Over the past 90 or so years, the variability (standard deviation) of average annual rates of return in the U.S. have been lowest for which of the following securities? a. Five-year government bonds b. Twenty-year corporate bonds c. Large-company stocks d. Small-company stocks Five-year government bonds Venture capital holding period returns (all stages) for the 20-year period ending in 2014, were approximately: a. 34% b. 25% c. 14% d. 7% 34% Venture capital holding period returns (all stages) for the 10-year period ending in 2014, were approximately: a. 20% b. 15% c. 10% d. 5% 10% Estimate a firm's NOPAT based on: Net sales = $2,000,000; EBIT = $600,000; Net income = $20,000; and Effective tax rate = 30%. a. $600,000 b. $420,000 c. $150,000 d. $70,000 e. $40,000 $420,000 Estimate a firm's economic value added (EVA) based on: NOPAT = $400,000; amount of financial capital used = $1,600,000; and WACC = 19%. a. $26,000 b. $36,000 c. $96,000 d. $54,000 e. $64,000 $96,000 Find a venture's "economic value added" (EVA) based on the following information: EBIT = $200,000; financial capital used = $500,000; WACC = 20%; effective tax rate = 30%. a. $20,000 b. $25,000 c. $30,000 d. $40,000 e. $50,000 $40,000 Which of the following is not a step in forecasting sales for a seasoned firm? a. forecast future growth rates based on possible scenarios and the probabilities of those scenarios. b. attempt to corroborate the projected sales growth rates analyzing both industry growth rates and the firm's own past market share. c. refine the sales forecast by using the sales force as a direct contact with both existing and potential customers. d. take into consideration the likely impact of major operating changes within the firm on the sales forecast. e. consider the effects of changes in the firm's debt/equity blend on the sales forecasts. consider the effects of changes in the firm's debt/equity blend on the sales forecasts. Which of the following statements is incorrect? a. forecasting sales is the first step in creating projected financial statements b. financial forecasting tends to be more accurate for mature ventures than for early-stage ventures c. forecasting is relatively unimportant for early-stage ventures with little historical financial data d. a and b e. a and c forecasting is relatively unimportant for early-stage ventures with little historical financial data During which round of financing is a venture typically most accurate in forecasting sales? a. seasoned financing b. mezzanine financing c. first round financing d. startup financing e. seed financing seasoned financing During which life cycle stage is a venture typically most accurate in forecasting sales? a. rapid growth stage b. startup stage c. development stage d. early-maturity stage e. survival stage early-maturity stage Public or seasoned financing is generally associated with which one of the following life cycle stages: a. development stage b. startup stage c. survival stage d. rapid-growth stage e. early-maturity stage early-maturity stage A "new" venture usually begins its sales forecast by first: a. forecasting industry sales and expressing the venture's sales as a percent of industry sales b. using a "bottom-up" market-driven approach c. extrapolating past sales d. working with existing and potential customers forecasting industry sales and expressing the venture's sales as a percent of industry sales An "expected value" is: a. a simple average of a set of scenarios or possible outcomes b. a weighted average of a set of scenarios or possible outcomes c. the highest scenario value or outcome d. the lowest scenario value or outcome a weighted average of a set of scenarios or possible outcomes Lola is in the process of forecasting the sales growth rate for an early-stage venture specializing in the production of durable running shoes. Lola predicts a .2 probability of an 80% growth in sales, a .3 probability of a 60% growth in sales, a .4 probability of a 40% growth in sales, and a .1 probability of a 10% decrease in sales. What is the expected sales growth rate of the venture? a. 47% b. 49% c. 51% d. 53% 49% Which one of the following life cycle stages would generally be associated with the second lowest sales forecasting accuracy? a. early-maturity b. rapid-growth c. survival d. start-up e. development start-up Internally generated funds which are available for distribution to owners of for reinvestment back into the business to support future growth can be characterized by which of the following? a. operating income b. operating cash flow c. net income d. net cash flow e. pre-tax income net income Which of the following is not part of the financial forecasting process used to project financial statements? a. forecast sales b. forecast tax rates c. project the income statement d. project the balance sheet e project the statement of cash flows forecast tax rates A firm projects net income to be $500,000, intends to pay out $125,000 in dividends, and had $2 million of equity at the beginning of the year. The firm's sustainable growth rate is: a. 5% b. 18.75% c. 6.25% d. 4.69% e. none of the above 18.75% A firm has net income of $320,000 on sales of $3,200,000. Its assets total $2,000,000; the equity at the beginning of the year was $1,600,000 and dividends paid were $80,000. What is the sustainable growth rate? a. 5% b. 15% c. 6.25% d. 4.69% e. none of the above 15% A sales growth rate based on the retention of profits is referred to as the: a. real sales growth rate b. sustainable sales growth rate c. spontaneous sales growth rate d. nominal sales growth rate e. weighted average sales growth rate sustainable sales growth rate Which one of the following ratios is not part of the "standard" return on equity (ROE) model? a. net profit margin b. asset turnover c. equity multiplier d. retention rate retention rate If beginning of period common equity is $200,000 and end of period common equity is $300,000, the sustainable growth rate is: a. 33% b. 40% c. 50% d. 67% e. 75% 50% Use the following information to estimate a venture's sustainable growth rate: Net income = $200,000; Total assets = $1,000,000; equity multiple based on beginning common equity = 2.0 times; and Retention rate = 25%. a. 50% b. 25% c. 20% d. 10% e. 5% 10% If a venture has a return on assets (ROA) = 10%, an equity multiplier based on beginning equity = 3.5 times, and a retention rate = 50%, the sustainable growth rate would be: a. 10% b. 17.5% c. 35% d. 40% e. 20.5% 17.5% If a venture has a return on assets (ROA) = 10%, an equity multiplier based on beginning equity = 4.0 times, and a dividend payout ratio of 60%, the sustainable growth rate would be: a. 10% b. 16% c. 20% d. 24% e. 40% 16% If a venture has a return on assets (ROA) = 12%, an equity multiplier based on beginning equity = 3.0 times, and a sustainable growth rate of 18%, the retention rate would be: a. 10% b. 20% c. 30% d. 40% e. 50% 50% . A venture's common equity was $50,000 at the end of last year. If the venture's common equity at the end of this year was $60,000, what was its sustainable sales growth rate? a. 5% b. 10% c. 15% d. 20% e. 25% 20% A venture's common equity account increased by $100,000 the past year and ended the year at $500,000. What was its sustainable sales growth rate? a. 5% b. 10% c. 15% d. 20% e. 25% 25% Determine a venture's sustainable growth rate based on the following information: sales = $1,000,000; net income = $100,000; common equity at the beginning of the year = $500,000; and the retention rate = 50%. a. 10% b. 15% c. 20% d. 25% e. 30% 10% Determine a venture's sustainable growth rate based on the following information: sales = $1,000,000; net income = $150,000; common equity at the end of last year = $520,000; and the dividend payout percentage = 20%. a. 10% b. 16% c. 20% d. 24% e. 30% 30% Determine a firm's "financial policy" multiplier based on the following information: sustainable growth rate = 20%; net profit margin = 10%; and asset turnover = 2 times. a. 1.00 b. 1.25 c. 1.50 d. 1.75 e. 2.00 1.00 Determine a firm's "return on assets" percentage based on the following information: sustainable growth rate = 20%; total assets $500,000; beginning of year common equity $200,000; and dividend payout percentage = 60%. a. 10.0% b. 12.5% c. 15.0% d. 17.5% e. 20.0% 20.0% The financial funds needed to acquire assets necessary to support a firm's sales growth is called: a. spontaneously generated funds b. additional funds needed c. addition in retained earnings d. financial capital needed financial capital needed The increase in accounts payables and accruals that occur with a sales increase is called: a. spontaneously generated funds b. additional funds needed c. addition in retained earnings d. financial capital needed spontaneously generated funds The financial funds still needed to finance asset growth after using spontaneously generated funds and any increase in retained earnings is called: a. spontaneously generated funds b. additional funds needed c. addition in retained earnings d. financial capital needed additional funds needed Which one of the following would increase a firm's need for additional funds? a. an increasing profit margin b. a decreasing expected sales growth rate c. an increase in accruals d. an increasing dividend payout rate e. a decrease in assets an increasing dividend payout rate Your firm recorded sales for the most recent year of $10 million generated from an asset base of $7 million, producing a $500,000 net income. Sales are projected to grow at 20%, causing spontaneous liabilities to increase by $200,000. In the most recent year, $200,000 was paid out as dividends, and the current payout ratio will continue in the upcoming years. What is your firm's AFN? a. $200,000 b. $600,000 c. $840,000 d. $960,000 e. $1,400,000 $840,000 Which of the following is a forecasting method used to project financial statements? a. percent-of-sales method b. percent-of-expenses method c. GNP-ratio method d. a and b e. a, b, and c percent-of-sales method When projecting financial statements, one would first , and then proceed to : a. project of the balance sheet, forecast sales. b. forecast sales, project the income statement c. forecast sales, project the balance sheet d. forecast sales, project the statement of cash flows forecast sales, project the income statement When long-term financial planning efforts set cash as a percentage of sales or as a fixed dollar amount for planning purposes, the projected cash flow statement is said to be a ________ forecasting statement. a. dynamic b. passive c. conservative d. checking checking The present value of the venture's expected future cash flows is called? a. going-concern value b. present value c. terminal value d. reversion value e. net present value going-concern value The value today of all future cash flows discounted to the present at the investor's required rate of return is called? a. going-concern value b. present value c. terminal value d. reversion value e. net present value present value The value of the venture at the end of the explicit forecast period is called the horizon value, or what? a. going-concern value b. present value c. terminal value d. reversion value e. net present value terminal value The present value of the terminal value is called? a. going-concern value b. present value c. terminal value d. reversion value e. net present value reversion value The present value of a set of future flows plus the current undiscounted flow is called? a. going-concern value b. present value c. terminal value d. reversion value e. net present value net present value The calculation of equity valuation cash flows nets the cash impact of all other balance sheet and income accounts to focus on the ______ account as the repository of any remaining cash flow. a. cash b. debt c. equity d. non-interest-bearing liabilities e. net income equity Equity valuation cash flow = Net income plus a. Depreciation and amortization expense minus the change in net operating working capital plus capital expenditures plus net debt issues b. Depreciation and amortization expense plus the change in net operating working capital plus minus capital expenditures plus net debt issues c. Depreciation and amortization expense minus the change in net operating working capital plus capital expenditures minus net debt issues d. Depreciation and amortization expense minus the change in net operating working capital plus minus capital expenditures plus net debt issues e. Depreciation and amortization expense minus the change in net operating working capital plus capital expenditures plus net debt issues Depreciation and amortization expense minus the change in net operating working capital plus minus capital expenditures plus net debt issues In a wildly successful first year in business that started and ended with no required cash, your firm has operating income of $989,000, net income of $637,000, current assets of $900,000, current liabilities of $659,000, net capital expenditures were $690,000, and depreciation was $460,000. The firm has never financed itself with debt. What is your equity valuation cash flow? a. $648,000 b. $900,000 c. $2,028,000 d. $166,000 $166,000 Your firm has been in business for two years. In its first year, the firm ended with $227,000 of current assets, long-term assets of $143,000, $70,000 in surplus cash, current liabilities of $52,000, and long-term assets of $68,000. At the end of the second year, current assets were $279,000, long-term assets of $195,000, surplus cash of $90,000, current liabilities of $62,000, and long-term assets of $78,000. What is your firm's change in net operating working capital? a. $22,000 b. $62,000 c. $42,000 d. $244,000 e. $32,000 $22,000 The equity valuation method involving explicitly forecasted dividends to provide surplus cash of zero is called? a. maximum dividend method b. pseudo dividend method c. sustainable growth method d. dividend payout method maximum dividend method The equity valuation method involving zero explicitly forecasted dividends and an adjustment to working capital to strip surplus cash is called? a. maximum dividend method b. pseudo dividend method c. sustainable growth method d. dividend payout method pseudo dividend method "Just in time" capital injections by equity investors is a reference to a. sustainable growth b. the present value of the terminal value c. equity investors' providing money only when needed d. dividend payout equity investors' providing money only when needed The maximum dividend method is a. the cleanest for valuing assets, but creates problems valuing surplus cash b. the cleanest for valuation purposes but its dividend-laden financial statements can dramatically understate the firm's cash position c. the cleanest for cash planning, but creates problems valuing the venture by discounting the dividends d. calculated by directly discounting the cash flow statement's projected dividend flow to investors, but ignores risks associated with periodic gluts of surplus cash the cleanest for valuation purposes but its dividend-laden financial statements can dramatically understate the firm's cash position The pseudo dividend method is a. the cleanest for valuing assets, but creates problems valuing surplus cash b. the cleanest for valuation purposes but its dividend-laden financial statements can dramatically understate the firm's cash position c. the cleanest for cash planning, but creates problems valuing the venture by discounting the dividends d. calculated by directly discounting the cash flow statement's projected dividend flow to investors, but ignores risks associated with periodic gluts of surplus cash the cleanest for cash planning, but creates problems valuing the venture by discounting the dividends "Required cash" is? a. the cash needed to pay interest expense b. a valuation method for early stage ventures c. cash needed to cover a venture's day-to-day operations d. cash available to pay as a dividend cash needed to cover a venture's day-to-day operations Most discounted cash flow valuations involve using cash flows from an: a. historical period, an explicit forecast period, and a terminal value b. historical period and a terminal value c. historical period and an explicit forecast period d. explicit forecast period and a terminal value explicit forecast period and a terminal value Which one of the following equity valuation methods records surplus cash on the balance sheet but assumes that the surplus cash is paid out over time for valuation purposes? a. maximum dividend method b. pseudo dividend method c. sustainable growth method d. return on equity method pseudo dividend method When estimating the terminal value of a venture using an equity valuation method, a perpetuity growth equation is often applied that uses the capitalization rate for discounting purposes. This "cap" rate is measured as the: a. equity discount rate minus the perpetuity growth rate b. equity discount rate plus the perpetuity growth rate c. risk-free rate plus the perpetuity growth rate d. risk-free rate minus the perpetuity growth rate equity discount rate minus the perpetuity growth rate A venture's going-concern value is the: a. present value of the expected future cash flows b. net present value of the current and expected future cash flows c. future value of the expected cash flows d. net future value of the current and expected cash flows present value of the expected future cash flows