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Questions and Answers of Finance

Describe the reasoning behind the static tradeoff hypothesis.
How do agency costs affect a firm’s optimal capital structure? How can differences in agency costs explain capital structure differences across countries?
How do you expect the capital structures of two firms to differ if one is involved in steel production and the other does designs software to solve business problems?
What implications might the pecking order and market-timing hypotheses have for an optimal capital structure? Is the weighted average cost of capital still an important concept under these
AQ&Q has EBIT of $2 million, total assets of $10 million, stockholders’ equity of $4 million, and pretax interest expense of 10 percent. a. What is AQ&Q’s indifference level of EBIT? b. Given its
URA, Incorporated, has operating income of $5 million, total assets of $45 million, outstanding debt of $20 million, and annual interest expense of $3 million. a. What is URA’s indifference level
Stern's Stews, Inc., is considering a new capital structure. Its current and proposed capital structure follows:
Redo Problem 4, assuming that the less leveraged capital structure will result in a borrowing cost of 10% and a common stock price of $40.
A firm has sales of $10 million, variable costs of $4 million, fixed expenses of $1.5 million, interest costs of $2 million and has a 30 percent average tax rate.a. Compute its DOL, DFL, and DCL.b.
The income statements for Genatron Manufacturing for 2013 and 2014 are listed in the text. Assuming one-half of the general and administrative expenses are fixed costs, estimate Genatron’s degree
The Nutrex Corporation wants to calculate its weighted average cost of capital. Its target capital structure weights are 40 percent long-term debt and 60 percent common equity. The before-tax cost
The balance sheets for the Genatron Manufacturing Corporation for the years 2013 and 2014 are listed in the text. a. Calculate the weighted average cost of capital based on book value weights.
The Basic Biotech Corporation wants to determine its weighted average cost of capital. Its target capital structure weights are 50 percent long-term debt and 50 percent common equity. The before-tax
Derive equation 18-8 for the internal growth rate. Let S = last year's sales revenue; A = last year's total assets; D = last year's total liabilities; E = last year's stockholder's equity; NI/S =the
Using the same notation used in the previous problem, now assume that the firm will raise some funds externally in order to keep the firm's debt-to-equity (D/E) ratio constant.a. What will this
Below are items from recent financial statements from Moss and Mole Manufacturing (listed in text). a. Find M&MM's internal growth rate. b. Find their sustainable growth rate.
The following information is from the financial statements of Bagel’s Biscuits (in text) a. Find Bagel’s internal growth rate. b. Compute Bagel’s sustainable growth rate.
Income statements for Mount Lewis Copy Centers for 2013 and 2014 appear below (in the text).a. Compute and interpret the degree of operating leverage, degree of financial leverage, and degree of
Using the income statements from the Mount Lewis Copy Centers for 2013 and 2014 in Problem 17, find the percentage change in sales, EBIT, and net income. Use them to compute the degree of operating
Here's a recent income statement from TC1 Telecommunications Services, Inc. (numbers are in millions) Sales...................................... $53.7 Costs of goods sold..............
Company A1 intends to raise $3 million by either of two financing plans:Plan A: Sell 100,000 shares of stock at $30 net to firmPlan B: Issue $3 million in long term bonds with a 10 percent
10+1 Corp. intends to raise $5 million by one of two financing plans:Plan A: Sell 1,250,000 shares at $4 per share net to the firm.Plan B: Issue $5 million in ten-year debentures with a 9 percent
Champion Telecommunications is restructuring. Currently Champion has no debt outstanding. After it restructures, debt will be $5 million. The rate offered to bondholders is 10 percent. Champion
How did the Sarbanes–Oxley Act impact corporations’ financial reports?
How did the recession of 2007–2009 compare with other recessions since the Great Depression in terms of length?
What effect did the recession of 2007–2009 have on government regulation?
What advantages does a sole proprietorship offer? What is a major drawback of this type of organization?
In a corporation, what group has the ultimate responsibility for protecting and managing the stockholders' interests?
What document is necessary to form a corporation?
In terms of the life of the securities offered, what is the difference between money and capital markets?
Assume you are looking at many companies with equal risk. Which ones will have the highest stock prices?
Explain the relationship between inventory turnover and purchasing needs.
What is meant by a step-up in the conversion price?
Explain the difference between basic earnings per share and diluted earnings per share.
What are the differences between a call option and a put option?
Discuss the various uses for break-even analysis.
How does the interest rate on new debt influence the use of financial leverage?
Using Standard & Poor’s data or annual reports, compare the financial and operating leverage of Chevron, Eastman Kodak, and Delta Airlines for the most current year. Explain the relationship
Differentiate between the spot exchange rate and the forward exchange rate.
What factors beyond the normal domestic analysis go into a financial feasibility study for a multinational firm?
What is a letter of credit?
Indicate whether each of the following assets should be valued at fair market value (FMV), lower of cost or market (LCM), or historical cost (HC) on the balance sheet. For certain assets, historical
Norris Co. purchased $36,000 of marketable securities on March 1, 2016. On the company€™s fiscal year closing date, December 31, 2016, the securities had a market value of $27,000. During 2016,
The following information pertains to Botter Supply Co. for 2016:1. Purchased $100,000 of marketable investment securities.2. Earned $10,000 of cash investment revenue.3. Sold for $30,000 securities
Molten, Inc., began 2016 with $100,000 in both cash and common stock. The company engaged in the following investment transactions during 2016:1. Purchased $20,000 of marketable investment
Complete the following table for the three categories of marketable investment securities:
The following transactions pertain to Harrison Imports for 2016:1. Started business by acquiring $30,000 cash from the issue of common stock.2. Provided $90,000 of services for cash.3. Invested
Woody€™s Catering experienced the following independent events:1. Acquired cash from issuing common stock.2. Purchased inventory on account.3. Paid cash to purchase marketable securities
RequiredUsing Tables I, II, III, or IV in this appendix, calculate the following:a. The future value of $30,000 invested at 8 percent for 10 years.b. The future value of eight annual payments of
Barry Rich is a business major at State U. He will be graduating this year and is planning to start a consulting business. He will need to purchase computer equipment that costs $25,000. He can
Billy Dan and Betty Lou were recently married and want to start saving for their dream home. They expect the house they want will cost approximately $325,000. They hope to be able to purchase the
Carr Corporation issued $50,000 of 6 percent, 10-year bonds on January 1, 2016, for a price that reflected a 7 percent market rate of interest. Interest is payable annually on December 31.
What is an efficient portfolio, and what role should such a portfolio play in investing?
What is the capital asset pricing model (CAPM)? What role does beta play in the model? What is the risk premium? How is the security market line (SML) related to the CAPM?
Describe traditional portfolio management. Give three reasons why traditional portfolio managers like to invest in well-established companies.
What is modern portfolio theory (MPT)? What is the feasible or attainable set of all possible portfolios? How is it derived for a given group of investments?
What is the efficient frontier? How is it related to the attainable set of all possible portfolios? How can it be used with an investor’s utility function to find the optimal portfolio?
Define and differentiate among the diversifiable, undiversifiable, and total risk of a portfolio. Which is considered the relevant risk? How is it measured?
Define beta. How can you find the beta of a portfolio when you know the beta for each of the assets included within it?
Explain how you can reconcile the traditional and modern portfolio approaches.
How can the return and standard deviation of a portfolio be determined? Compare the calculation of a portfolio’s standard deviation to that for a single asset.
What is correlation, and why is it important with respect to asset returns? Describe the characteristics of returns that are (a) Positively correlated, (b) Negatively correlated, (c) Uncorrelated.
What is diversification? How does the diversification of risk affect the risk of the portfolio compared to the risk of the individual assets it contains?
Discuss how the correlation between asset returns affects the risk and return behavior of the resulting portfolio. Describe the potential range of risk and return when the correlation between two
What benefit, if any, does international diversification offer the individual investor? Compare and contrast the methods of achieving international diversification by investing abroad versus
Briefly define and give examples of each of the following components of total risk. Which type of risk matters, and why? a. Diversifiable risk b. Undiversifiable risk
Explain what is meant by beta. What type of risk does beta measure? What is the market return? How is the interpretation of beta related to the market return?
What range of values does beta typically exhibit? Are positive or negative betas more common? Explain.
Your portfolio had the values in the following table for the 4 years listed. Calculate your average return over the 4-year period.
Use the table of annual returns in Problem for Home Depot (HD) and Lowe€™s (LOW) to create an Excel spreadsheet that calculates the standard deviation of annual returns for HD, LOW, and the
Use the table of annual returns in Problem for Home Depot (HD) and Lowe€™s (LOW) to create an Excel spreadsheet that calculates the correlation coefficient for HD and LOW annual returns.In
Use the table of annual returns in Problem for Home Depot (HD) and Lowe€™s (LOW) to create an Excel spreadsheet that calculates returns for portfolios comprised of HD and LOW using the
Create an Excel spreadsheet that graphs the portfolio return and standard deviation combinations found in Problem for Home Depot and Lowe€™s.In problem Use the table of annual returns in
Imagine you wish to estimate the betas for 2 investments, A and B. You have gathered the following return data for the market and for each of the investments over the past 10 years,
A security has a beta of 1.2. Is this security more or less risky than the market? Explain. Assess the impact on the required return of this security in each of the following cases. a. The market
Assume the betas for securities A, B, and C are as shown here.SecurityBetaA ..........1.4B ..........0.8C .......... -0.9a. Calculate the change in return for each security if the market experiences
Referring to Problem 5.18, assume you have a portfolio with $20,000 invested in each of investments A, B, and C. What is your portfolio beta? In problem Security Beta A .......... 1.4 B
Using your data from Problem, calculate the portfolio standard deviation.In problem
Referring to Problem, using the portfolio beta, what would you expect the value of your portfolio to be if the market rallied 20%? Declined 20%? In problem assume you have a portfolio with $20,000
Use the capital asset pricing model to find the required return for each of the following securities in light of the data given.
Jay is reviewing his portfolio of investments, which include certain stocks and bonds. He has a large amount tied up in U.S. Treasury bills paying 3%. He is considering moving some of his funds from
The risk-free rate is currently 7%, and the market return is 12%. Assume you are considering the following investments. Investment Beta A ............. 1.5 B
Portfolios A through J, which are listed in the following table along with their returns (rp) and risk (measured by the standard deviation, sp), represent all currently available portfolios in the
For his portfolio, Jack Cashman randomly selected securities from all those listed on the New York Stock Exchange. He began with one security and added securities one by one until a total of 20
If portfolio A has a beta of 1.5 and portfolio Z has a beta of -1.5, what do the two values indicate? If the return on the market rises by 20%, what impact, if any, would this have on the returns
Stock A has a beta of 0.8, stock B has a beta of 1.4, and stock C has a beta of -0.3.a. Rank these stocks from the most risky to the least risky.b. If the return on the market portfolio increases by
Jeanne Lewis is attempting to evaluate 2 possible portfolios consisting of the same 5 assets but held in different proportions. She is particularly interested in using beta to compare the risk of the
Referring to Problem, if the risk-free rate is 2% and the market return is 12%, calculate the required return for each portfolio using the CAPM.In problem
Assume you are considering a portfolio containing 2 assets, L and M. Asset L will represent 40% of the dollar value of the portfolio, and asset M will account for the other 60%. The expected returns
Referring to Problem, assume that each of the 5 assets has an expected return as shown in the table below. Based on these figures and the weights in Problem 5.28, calculate the expected return on
Refer to Problem. Assume that asset L represents 60% of the portfolio and asset M is 40%. Calculate the average expected return and standard deviation of expected portfolio returns over the 6-year
You have been given the following return data on 3 assets€”F, G, and H€”over the period 2015€“2018.Using these assets, you have isolated 3 investment
You have been asked for your advice in selecting a portfolio of assets and have been supplied with the following data.You have been told that you can create 2 portfolios€”one consisting of assets
Referring to Problem earlier, what would happen if you constructed a portfolio consisting of assets A, B, and C, equally weighted? Would this reduce risk or enhance return?In problem
Assume you wish to evaluate the risk and return behaviors associated with various combinations of assets V and W under 3 assumed degrees of correlation: perfect positive, uncorrelated, and perfect
The following table contains annual returns for the stocks of Home Depot (HD) and Lowe€™s (LOW). The returns are calculated using end-of-year prices (adjusted for dividends and stock
a. Analyze Walt's argument and explain why a mutual fund investment may be overdiversified. Also explain why one does not necessarily have to have hundreds of thousands of dollars to diversify
a. Briefly assess Susan's financial situation and develop a portfolio objective for her that is consistent with her needs. b. Evaluate the portfolio left to Susan by her father. Assess its apparent
What role, if any, do an investor's personal characteristics play in determining portfolio policy? Explain.
Briefly discuss holding period return (HPR) and yield as measures of investment return. Are they equivalent? Explain.

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