FIN 4020: Test #1 questions and Answers 2024
1. What 3 things affect value?: 1. Amount of cashflows
2. Timing of cashflows
3. Riskiness of cashflows
2. If a number has subscript 0, what does that indicate?: The current value.
3. From what 2 sources does common stock derive its value?: Dividends and share appreciation
4. How is a stock with constant dividend growth valued?: D1/(Ke - g)
5. How are stocks with non-constant dividend growth valued?: Compound the dividend by
multiplying the new growth rate with the compounded dividend for each year.
6. How is the risk free rate determined?: Use the federal funds rate and be sure to maturity match
(for example; if the project of interest has a 30yr maturity, use the 30yr federal funds rate).
7. What is the dividend discount model?: An equation that calculates the cost of equity: Ke =
(D1/P) + g (calculates the internal cost of equity).
8. Should you account for taxes when calculating the cost of preferred stock?-
: NO
9. How should debt be calculated when calculating capital weights?: Find the market value of debt.
10.How should equity be calculated when calculating capital weights?: Find the market value of
equity (shares outstanding x current share price).
11.How is the cost of preferred stock calculated?: Kp = Dp/P
12.When an all-equity firm invests in a project with assets similar to its own assets, what should be
used as the discount rate?: The cost of equity (Ke)
13.When a firm with both debt and equity invests in a project with assets similar to its own
assets, what should be used as the discount rate?: The WACC
14.When a conglomerate firm invests in a project with assets similar to its own assets, what
should be used as the discount rate?: NOT the WACC
15.When a firm invests in an asset that is different from its existing assets, what should be used as
the discount rate?: It should look for firms with compa- rable projects and use their cost of
capital.
16.What should capital budgeting achieve?: 1. Focus on cashflows
2. Account for TVM
3. Account for project risk
4. Leads to decisions that increase shareholder wealth
17. What are the 5 capital budgeting methods?: 1. Payback period
2. NPV
3. IRR
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1. What 3 things affect value?: 1. Amount of cashflows
2. Timing of cashflows
3. Riskiness of cashflows
2. If a number has subscript 0, what does that indicate?: The current value.
3. From what 2 sources does common stock derive its value?: Dividends and share appreciation
4. How is a stock with constant dividend growth valued?: D1/(Ke - g)
5. How are stocks with non-constant dividend growth valued?: Compound the dividend by
multiplying the new growth rate with the compounded dividend for each year.
6. How is the risk free rate determined?: Use the federal funds rate and be sure to maturity match
(for example; if the project of interest has a 30yr maturity, use the 30yr federal funds rate).
7. What is the dividend discount model?: An equation that calculates the cost of equity: Ke =
(D1/P) + g (calculates the internal cost of equity).
8. Should you account for taxes when calculating the cost of preferred stock?-
: NO
9. How should debt be calculated when calculating capital weights?: Find the market value of debt.
10.How should equity be calculated when calculating capital weights?: Find the market value of
equity (shares outstanding x current share price).
11.How is the cost of preferred stock calculated?: Kp = Dp/P
12.When an all-equity firm invests in a project with assets similar to its own assets, what should be
used as the discount rate?: The cost of equity (Ke)
13.When a firm with both debt and equity invests in a project with assets similar to its own
assets, what should be used as the discount rate?: The WACC
14.When a conglomerate firm invests in a project with assets similar to its own assets, what
should be used as the discount rate?: NOT the WACC
15.When a firm invests in an asset that is different from its existing assets, what should be used as
the discount rate?: It should look for firms with compa- rable projects and use their cost of
capital.
16.What should capital budgeting achieve?: 1. Focus on cashflows
2. Account for TVM
3. Account for project risk
4. Leads to decisions that increase shareholder wealth
17. What are the 5 capital budgeting methods?: 1. Payback period
2. NPV
3. IRR
1/
