davenport finc620 week 1 quiz latest 2015

| June 8, 2016

Question
Question 1

2 out of 2 points

A. Butcher Timber Company hired your consulting firm to help them estimate the cost of common equity. The yield on the firm’s bonds is 8.75%, and your firm’s economists believe that the cost of common can be estimated using a risk premium of 3.85% over a firm’s own cost of debt. What is an estimate of the firm’s cost of common from retained earnings?

Question 2

2 out of 2 points

For a typical firm, which of the following sequences is CORRECT? All rates are after taxes, and assume that the firm operates at its target capital structure.

Question 3

2 out of 2 points

For a company whose target capital structure calls for 50% debt and 50% common equity, which of the following statements is CORRECT?

Question 4

2 out of 2 points

Assume that you are a consultant to Broske Inc., and you have been provided with the following data: D1 = $0.67; P0 = $27.50; and g = 8.00% (constant). What is the cost of common from retained earnings based on the DCF approach?

Question 5

2 out of 2 points

Which of the following statements is CORRECT?

Question 6

0 out of 2 points

The CFO of Lenox Industries hired you as a consultant to help estimate its cost of common equity. You have obtained the following data: (1) rd = yield on the firm’s bonds = 7.00% and the risk premium over its own debt cost = 4.00%. (2) rRF = 5.00%, RPM = 6.00%, and b = 1.25. (3) D1 = $1.20, P0 = $35.00, and g = 8.00% (constant). You were asked to estimate the cost of common based on the three most commonly used methods and then to indicate the difference between the highest and lowest of these estimates. What is that difference?

Question 7

2 out of 2 points

Safeco Company and Risco Inc are identical in size and capital structure. However, the riskiness of their assets and cash flows are somewhat different, resulting in Safeco having a WACC of 10% and Risco a WACC of 12%. Safeco is considering Project X, which has an IRR of 10.5% and is of the same risk as a typical Safeco project. Risco is considering Project Y, which has an IRR of 11.5% and is of the same risk as a typical Risco project.

Now assume that the two companies merge and form a new company, Safeco/Risco Inc. Moreover, the new company’s market risk is an average of the pre-merger companies’ market risks, and the merger has no impact on either the cash flows or the risks of Projects X and Y. Which of the following statements is CORRECT?

Question 8

2 out of 2 points

Sorensen Systems Inc. is expected to pay a $2.50 dividend at year end (D1 = $2.50), the dividend is expected to grow at a constant rate of 5.50% a year, and the common stock currently sells for $52.50 a share. The before-tax cost of debt is 7.50%, and the tax rate is 40%. The target capital structure consists of 45% debt and 55% common equity. What is the company’s WACC if all the equity used is from retained earnings?

Question 9

0 out of 2 points

Which of the following statements is CORRECT?

Question 10

2 out of 2 points

If a typical U.S. company correctly estimates its WACC at a given point in time and then uses that same cost of capital to evaluate all projects for the next 10 years, then the firm will most likely

Question 11

2 out of 2 points

Norris Enterprises, an all-equity firm, has a beta of 2.0. The chief financial officer is evaluating a project with an expected return of 14%, before any risk adjustment. The risk-free rate is 5%, and the market risk premium is 4%. The project being evaluated is riskier than an average project, in terms of both its beta risk and its total risk. Which of the following statements is CORRECT?

Question 12

2 out of 2 points

Which of the following statements is CORRECT?

Question 13

2 out of 2 points

Assume that you are on the financial staff of Vanderheiden Inc., and you have collected the following data: The yield on the company’s outstanding bonds is 7.75%; its tax rate is 40%; the next expected dividend is $0.65 a share; the dividend is expected to grow at a constant rate of 6.00% a year; the price of the stock is $15.00 per share; the flotation cost for selling new shares is F = 10%; and the target capital structure is 45% debt and 55% common equity. What is the firm’s WACC, assuming it must issue new stock to finance its capital budget?

Question 14

2 out of 2 points

Multi-Part 9-1:

Assume that you have been hired as a consultant by CGT, a major producer of chemicals and plastics, including plastic grocery bags, styrofoam cups, and fertilizers, to estimate the firm’s weighted average cost of capital. The balance sheet and some other information are provided below.

Assets

Current assets

$ 38,000,000

Net plant, property, and equipment

101,000,000

Total assets

$139,000,000

Liabilities and Equity

Accounts payable

$ 10,000,000

Accruals

9,000,000

Current liabilities

$ 19,000,000

Long-term debt (40,000 bonds, $1,000 par value)

40,000,000

Total liabilities

$ 59,000,000

Common stock (10,000,000 shares)

30,000,000

Retained earnings

50,000,000

Total shareholders’ equity

80,000,000

Total liabilities and shareholders’ equity

$139,000,000

The stock is currently selling for $15.25 per share, and its noncallable $1,000 par value, 20-year, 7.25% bonds with semiannual payments are selling for $875.00. The beta is 1.25, the yield on a 6-month Treasury bill is 3.50%, and the yield on a 20-year Treasury bond is 5.50%. The required return on the stock market is 11.50%, but the market has had an average annual return of 14.50% during the past 5 years. The firm’s tax rate is 40%.

Refer to Multi-Part 9-1. What is the best estimate of the after-tax cost of debt?

Question 15

2 out of 2 points

Eakins Inc.’s common stock currently sells for $45.00 per share, the company expects to earn $2.75 per share during the current year, its expected payout ratio is 70%, and its expected constant growth rate is 6.00%. New stock can be sold to the public at the current price, but a flotation cost of 8% would be incurred. By how much would the cost of new stock exceed the cost of common from retained earnings?

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