1. Which of the following statements is CORRECT?

a. Beta measures market risk, which is generally the most relevant risk measure for a publicly-owned
firm that seeks to maximize its intrinsic value. However, this is not true unless all of the firm's
stockholders are well diversified.
b. The WACC is calculated using a before-tax cost for debt that is equal to the interest rate that must be
paid on new debt, along with the after-tax costs for common stock and for preferred stock if it is used.
c. The relevant WACC can change depending on the amount of funds a firm raises during a given year.
Moreover, the WACC at each level of funds raised is a weighted average of the marginal costs of each
capital component, with the weights based on the firm's target capital structure.
d. An increase in the risk-free rate is likely to reduce the marginal costs of both debt and equity.
e. The bond-yield-plus-risk-premium approach to estimating the cost of common equity involves adding
a risk premium to the interest rate on the company's own long-term bonds. The size of the risk
premium for bonds with different ratings is published daily in The Wa

2. Which of the following items should a company report directly in its monthly cash budget?
a. New shares issued in a stock dividend.
b. New shares issued in a stock split.
c. Its monthly depreciation expense.
d. Cash proceeds from selling one of its divisions.
e. Accrued interest on zero coupon bonds that it issued.

3. Suppose your credit card issuer states that it charges a 15.00% nominal annual rate, but you must
make monthly payments, which amounts to monthly compounding. What is the effective annual
rate?
a. 16.08%
b. 16.88%
c. 17.72%
d. 15.27%
e. 18.61%
4. If Firms X and Y have the same net income, number of shares outstanding, and price per share,
then their P/E ratios must also be the same.

5. If a project with normal cash flows has an IRR greater than the cost of capital, the
project must also have a positive NPV.
6. 2.41%
7. The beta coefficient of "the market," which is the same as the beta of an average stock.
8. 11,262.88
9. One advantage of forming a corporation is that equity investors are usually exposed to
less liability than in a regular partnership.
10. 1,503.75
11. If a firm reports a loss on its income statement, then the retained earnings account as
shown on the balance sheet will be negative.
12. If a company receives trade credit under terms of 2/10 net 30, this implies that the
company has 10 days of free trade credit.
13. 929,404
14. The total return on a bond during a given year is the sum of the coupon interest
payments received during the year and the change in the value of the bond from the
beginning to the end of the year.
15. 0
16. To find a project's MIRR, the textbook procedure compounds cash inflows at the cost of
capital and then finds the discount rate that causes the PV of the terminal value to equal
the initial cost.
17. 0.61
18. 28.4
19. Sensitivity analysis is a type of risk analysis that considers both the sensitivity of NPV to
changes in key input variables and the probability of occurrence of these variables'
values.
20. 5.08
21. personal taxes decrease the value of using corporate debt.
22. If the yield to maturity remains constant, the bond's price one year from now will be
lower than its current price.
23. There is an "opportunity cost" associated with using reinvested earnings, hence they are
not "free."
24. 5000
25. 4.66
26. 320,000
27. 27,175
28. Borrow using short-term notes payable and use the cash to increase inventories.
29. If the cost of capital is 9%, Project B's NPV will be higher than Project A's.
30. If the marginal investor becomes more risk averse, the required return on Stock B will
increase by more than the required return on Stock A.
31. 19.27%
32. If market interest rates remain at 10%, Bond Z's price will be 10% higher one year from
today.
33. Consult with key competitors about the optimal set of prices to charge, i.e., the prices
that will maximize profits for our firm and its competitors.
34. borrowing on its line of credit
35. 32
36. 2.08
37. 8.95
38. 0.37
39. 25.57
40. Sunk costs that have been expensed for tax purposes.
41. $48
42. For a bond of any maturity, a 1.0 percentage point increase in the market interest rate
(rd) causes a larger dollar capital loss than the capital gain stemming from a 1.0
percentage point decrease in the interest rate.
43. $500
44. 7.57
45. Additional funds needed (AFN) are typically raised using a combination of notes payable,
long-term debt, and common stock. Such funds are non-spontaneous in the sense that
they require explicit financing decisions to obtain them.
46. 16.90
47. The bond's expected capital gains yield is positive.
48. -7.92
49. HD should have a higher times interest earned (TIE) ratio than LD.
50. Relative to a coupon-bearing bond with the same maturity, a zero coupon bond has
more interest rate price risk but less reinvestment rate risk.
51. One advantage of the NPV over the IRR is that NPV assumes that cash flows will be
reinvested at the cost of capital, whereas IRR assumes that cash flows are reinvested at
the IRR. The NPV assumption is generally more appropriate.
52. The bond's yield to maturity is greater than its coupon rate.
53. 883
54. The company sold some of its fixed assets.
55. 2.04
56. 1.13
57. An NPV profile graph is designed to give decision makers an idea about how a project's
contribution to the firm's value varies with the cost of capital.
58. The WACC that should be used in capital budgeting is the firm's marginal, after-tax cost
of capital.
59. Stock X pays a higher dividend per share than Stock Y.
60. Heidee would have the lower net income as shown on the income statement.
61. One reason some people prefer the MIRR to the regular IRR is that the MIRR is based on
a generally more reasonable reinvestment rate assumption.
62. Two bonds have the same maturity and the same coupon rate. However, one is callable
and the other is not. The difference in prices between the bonds will be greater if the
current market interest rate is below the coupon rate than if it is above the coupon rate.
63. 20-year, zero coupon bond.
64. 3.38%
65. The transactions would raise Lofland's financial strength as measured by its current ratio
but lower Smaland's current ratio
66. 11.11%
67. If a coupon bond is selling at par, its current yield equals its yield to maturity.
68. 455
69. An increase in the corporate tax rate is likely to encourage a company to use more debt
in its capital structure.
70. 993.01
71. 12.51
72. Small businesses that qualify under the Tax Code can elect not to pay corporate taxes,
but then their owners must report their pro rata shares of the firm's income as personal
income and pay taxes on that income.
73. You should recommend that the project be accepted because (1) its NPV is positive and
(2) although it has two IRRs, in this case it would be better to focus on the MIRR, which
exceeds the cost of capital. You should explain this to the president and tell him that the
firm's value will increase if the project is accepted.
74. The prices of all stocks would decline, but the decline would be greatest for high-beta
stocks.
75. 17,646
76. 3.20
77. The NPV method assumes that cash flows will be reinvested at the cost of capital, while
the IRR method assumes reinvestment at the IRR.
78. Project A, which has average risk and an IRR = 9%.
79. Bond A's capital gains yield is greater than Bond B's capital gains yield.
80. 40.64
81. 10.44%
82. -487.50
83. 4,166,620
84. The required returns on all stocks have fallen, but the decline has been greater for
stocks with lower betas.
85. The corporate tax rate increases.
86. The firm's net cash flow would increase.
87. The price of the call option will increase by less than $2, but the percentage increase in
price will be more than 10%.
88. 44.46
89. The dividend yield on a constant growth stock must equal its expected total return
minus its expected capital gains yield.
90. 72
91. 130.01
92. -5.78
93. 33.75
94. 33.50
95. 498,339
96. 23,261
97. Beta measures market risk, which is, theoretically, the most relevant risk measure for a
publicly-owned firm that seeks to maximize its intrinsic value. This is true even if not all
of the firm's stockholders are well diversified.
98. 425
99. Sound working capital policy is designed to maximize the time between cash
expenditures on materials and the collection of cash on sales.
100. Free cash flow (FCF) is defined as follows:
FCF = EBIT(1 − T)
+ Depreciation and Amortization
− Capital expenditures required to sustain operations
− Required changes in net operating working capital.