### Which of the following statements about the cost of capital is incorrect?

Select one:

a. A company’s target capital structure affects its weighted average cost of capital.

b. Weighted average cost of capital calculations should be based on the after-tax-costs of all the individual capital components.

c. If a company’s tax rate increases, then, all else equal, its weighted average cost of capital will increase.

d. The cost of retained earnings is equal to the return stockholders could earn on alternative investments of equal risk.

e. Flotation costs can increase the cost of preferred stock.

### Bouchard Company’s stock sells for $20 per share, its last dividend (D0) was $1.00, and its growth rate is a constant 6 percent. What is its cost of common stock, rs?

Select one:

a. 5.0%

b. 5.3%

c. 11.0%

d. 11.3%

e. 11.6%

### A company’s balance sheets show a total of $30 million long-term debt with a coupon rate of 9 percent. The yield to maturity on this debt is 11.11 percent, and the debt has a total current market value of $25 million. The balance sheets also show that that the company has 10 million shares of stock; the total of common stock and retained earnings is $30 million. The current stock price is $7.5 per share. The current return required by stockholders, rS, is 12 percent. The company has a target capital structure of 40 percent debt and 60 percent equity. The tax rate is 40%. What weighted average cost of capital should you use to evaluate potential projects?

Select one:

a. 8.55%

b. 9.33%

c. 9.36%

d. 9.87%

e. 10.67%

### Which of the following is not considered a capital component for the purpose of calculating the weighted average cost of capital as it applies to capital budgeting?

Select one:

a. Long-term debt.

b. Common stock.

c. Accounts payable.

d. Preferred stock.

e. All of the above are considered capital components for WACC and capital budgeting purposes.

### Rollins Corporation is estimating its WACC. Its target capital structure is 20 percent debt, 20 percent preferred stock, and 60 percent common equity. Its bonds have a 12 percent coupon, paid semiannually, a current maturity of 20 years, and sell for $1,000. The firm could sell, at par, $100 preferred stock which pays a 12 percent annual dividend, but flotation costs of 5 percent would be incurred. Rollins’ beta is 1.2, the risk-free rate is 10 percent, and the market risk premium is 5 percent. Rollins is a constant-growth firm which just paid a dividend of $2.00, sells for $27.00 per share, and has a growth rate of 8 percent. The firm’s policy is to use a risk premium of 4 percentage points when using the bond-yield-plus-risk-premium method to find rs. The firm’s marginal tax rate is 40 percent.

What is Rollins’ component cost of debt?

Select one:

a. 10.0%

b. 9.1%

c. 8.6%

d. 8.0%

e. 7.2%

### Rollins Corporation is estimating its WACC. Its target capital structure is 20 percent debt, 20 percent preferred stock, and 60 percent common equity. Its bonds have a 12 percent coupon, paid semiannually, a current maturity of 20 years, and sell for $1,000. The firm could sell, at par, $100 preferred stock which pays a 12 percent annual dividend, but flotation costs of 5 percent would be incurred. Rollins’ beta is 1.2, the risk-free rate is 10 percent, and the market risk premium is 5 percent. Rollins is a constant-growth firm which just paid a dividend of $2.00, sells for $27.00 per share, and has a growth rate of 8 percent. The firm’s policy is to use a risk premium of 4 percentage points when using the bond-yield-plus-risk-premium method to find rs. The firm’s marginal tax rate is 40 percent.

What is Rollins’ cost of preferred stock?

Select one:

a. 10.0%

b. 11.0%

c. 12.0%

d. 12.6%

e. 13.2%

### A major disadvantage of the payback period method is that it

Select one:

a. Is useless as a risk indicator.

b. Ignores cash flows beyond the payback period.

c. Does not directly account for the time value of money.

d. All of the answers above are correct.

e. Only answers b and c are correct.

### Which of the following statements is most correct?

Select one:

a. If a project’s internal rate of return (IRR) exceeds the cost of capital, then the project’s net present value

(NPV) must be positive.

b. If Project A has a higher IRR than Project B, then Project A must also have a higher NPV.

c. The IRR calculation implicitly assumes that all cash flows are reinvested at a rate of return equal to the

cost of capital.

d. Answers a and c are correct.

e. None of the answers above is correct.

### Your company has a cost of capital equal to 10%. If the following projects are mutually exclusive (indicating you can only choice one project at a time), and you only have the information that is provided, which should you accept?

Select one:

a. A

b. B

c. C

d. B and C

e. E …Information provided is insufficient to answer this question

### Project X has an internal rate of return of 20 percent. Project Y has an internal rate of return of 15 percent. Both projects have a positive net present value. Which of the following statements is most correct?

Select one:

a. Project X must have a higher net present value than Project Y.

b. If the two projects have the same WACC, Project X must have a higher net present value.

c. Project X must have a shorter payback than Project Y.

d. Both answers b and c are correct.

e. None of the above answers is correct.

### The internal rate of return of a capital investment

Select one:

a. Changes when the cost of capital changes.

b. Is equal to the annual net cash flows divided by one half of the project’s cost when the cash flows are an

annuity.

c. Must exceed the cost of capital in order for the firm to accept the investment.

d. Is similar to the yield to maturity on a bond.

e. Answers c and d are correct.

### The Seattle Corporation has been presented with an investment opportunity which will yield cash flows of $30,000 per year in Years 1 through 4, $35,000 per year in Years 5 through 9, and $40,000 in Year 10. This investment will cost the firm $150,000 today, and the firm’s cost of capital is 10 percent. Assume cash flows occur evenly during the year. What is the payback period for this investment?

Select one:

a. 5.23 years

b. 4.86 years

c. 4.00 years

d. 6.12 years

e. 4.35 years

### You are considering the purchase of an investment that would pay you $5,000 per year for Years 1-5, $3,000 per year for Years 6-8, and $2,000 per year for Years 9 and 10. If you require a 14 percent rate of return, and the cash flows occur at the end of each year, then how much should you be willing to pay for this investment?

Select one:

a. $15,819.27

b. $21,937.26

c. $32,415.85

d. $38,000.00

e. $52,815.71

### Which of the following statements is most correct?

Select one:

a. The constant growth model takes into consideration the capital gains earned on a stock.

b. It is appropriate to use the constant growth model to estimate stock value even if the growth rate never

becomes constant.

c. Two firms with the same dividend and growth rate must also have the same stock price.

d. Statements a and c are correct.

e. All of the statements above are correct.

### Which of the following statements is most correct.

Select one:

a. The constant growth rate stock valuation model is P0 = D1/(rs – g).

b. If a stock has a required rate of return rs = 12 percent, and its dividend grows at a constant rate of 5

percent, this implies that the stock’s dividend yield is 5 percent.

c. The price of a stock is the present value of all expected future dividends, discounted at the dividend

growth rate.

d. Statements a and c are correct.

e. All of the statements above are correct.

### A stock’s dividend is expected to grow at a constant rate of 5 percent a year. Which of the following statements is most correct?

Select one:

a. The expected return on the stock is 5 percent a year.

b. The stock’s dividend yield is 5 percent.

c. The stock’s price one year from now is expected to be 5 percent higher.

d. Statements a and c are correct.

e. All of the statements above are correct.

### A share of common stock has just paid a dividend of $3.00. If the expected long-run growth rate for this stock is 5 percent, and if investors require an 11 percent rate of return, what is the price of the stock?

Select one:

a. $50.00

b. $50.50

c. $52.50

d. $53.00

e. $63.00

### The Jones Company has decided to undertake a large project. Consequently, there is a need for additional funds. The financial manager plans to issue preferred stock with a perpetual annual dividend of $5 per share and a par value of $30. If the required return on this stock is currently 20 percent, what should be the stock’s market value?

Select one:

a. $150

b. $100

c. $ 50

d. $ 25

e. $ 10

### Albright Motors is expected to pay a year-end dividend of $3.00 a share (D1 = $3.00). The stock currently sells for $30 a share. The required (and expected) rate of return on the stock is 16 percent. If the dividend is expected to grow at a constant rate, g, what is g?

Select one:

a. 13.00%

b. 10.05%

c. 6.00%

d. 5.33%

e. 7.00%

### Waters Corporation has a stock price of $20 a share. The stock’s year-end dividend is expected to be $2 a share (D1 = $2.00). The stock’s required rate of return is 15 percent and the stock’s dividend is expected to grow at the same constant rate forever. What is the expected price of the stock seven years from now?

Select one:

a. $28

b. $53

c. $27

d. $23

e. $39

## Answers

- c
- d
- d
- c
- e
- d
- e
- a
- e
- e
- e
- b
- b
- a
- a
- c
- c
- d
- c
- a