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fundamentals corporate finance

Questions and Answers of Fundamentals Corporate Finance

a. What is an efficient market?b. What are the forms of market efficiency?
a. If you wanted to forecast what the stock market is going to do over the next year, should you use an arithmetic or geometric average?b. If you wanted to forecast what the stock market is going to
a. In words, how do we calculate a variance? A standard deviation?b. With a normal distribution, what is the probability of ending up more than one standard deviation below the average?c. Assuming
a What do we mean by excess return and risk premium ?b What was the real (as opposed to nominal) risk premium on the common stock portfolio?c What was the nominal risk premium on corporate bonds? The
a. With 20/20 hindsight, what do you say was the best investment for the period from 1926 through 1935?b. Why doesn’t everyone just buy small stocks as investments?c. What was the smallest return
a. What are the two parts of total return?b. Why are unrealized capital gains or losses included in the calculation of returns?c. What is the difference between a dollar return and a percentage
Use the results of Problem 25 to find the accounting, cash, and financial break-even quantities for the company in Problem 27.Data From Problem 25:This problem concerns the effect of taxes on the
In Problem 27, suppose you're confident about your own projections, but you're a little unsure about Detroit's actual machine screw requirement. What is the sensitivity of the project OCF to changes
Show that if we consider the effect of taxes, the degree of operating leverage can be written as:DOL = 1 + [FC × (1 − T ) − T × D ]/OCF Notice that this reduces to our previous result if T
In the previous problem, you feel that the values are accurate to within only ±10 percent. What are the best-case and worst-case NPVs?Data From Previous Problem:McGilla Golf has decided to sell a
In the previous problem, what is the degree of operating leverage at the given level of output? What is the degree of operating leverage at the accounting break-even level of output?Data From
In the previous problem, what will be the new degree of operating leverage in each case?Data From Previous Problem:At an output level of 10,000 units, you have calculated that the degree of operating
At an output level of 10,000 units, you have calculated that the degree of operating leverage is 2.35. The operating cash flow is $43,000 in this case. Ignoring the effect of taxes, what are fixed
In each of the following cases, find the unknown variable:
a. What is forecasting risk? Why is it a concern for the financial manager?b. What are some potential sources of value in a new project?
In each of the following cases, calculate the accounting break-even and the cash break-even points. Ignore any tax effects in calculating the cash break-even.
Night Shades Inc. (NSI) manufactures biotech sunglasses. The variable materials cost is $5.43 per unit, and the variable labor cost is $3.13 per unit. a. What is the variable cost per unit?b.
Conch Republic Electronics is a midsized electronics manufacturer located in Key West, Florida. The company president is Shelley Couts, who inherited the company. When it was founded over 70 years
Going all the way back to Chapter 1, recall that we saw that partnerships and proprietorships can face difficulties when it comes to raising capital. In the context of this chapter, the implication
a. What is capital rationing? What types are there?b. What problems does capital rationing create for discounted cash flow analysis?
a What is operating leverage?b How is operating leverage measured?c What are the implications of operating leverage for the financial manager?
a. If a project breaks even on an accounting basis, what is its operating cash flow?b. If a project breaks even on a cash basis, what is its operating cash flow?c. If a project breaks even on a
a. How are fixed costs similar to sunk costs?b. What is net income at the accounting break-even point? What about taxes?c. Why might a financial manager be interested in the accounting break-even
a. What are scenario, sensitivity, and simulation analysis?b. What are the drawbacks to the various types of what-if analysis?
a What is forecasting risk? Why is it a concern for the financial manager?b What are some potential sources of value in a new project?
Your company has been approached to bid on a contract to sell 17,500 voice recognition (VR) computer keyboards a year for four years. Due to technological improvements, beyond that time they will be
Vandalay Industries is considering the purchase of a new machine for the production of latex. Machine A costs $2,900,000 and will last for six years. Variable costs are 35 percent of sales, and fixed
In the previous problem, suppose the fixed asset actually falls into the three-year MACRS class. All the other facts are the same. What is the project’s year 1 net cash flow now? Year 2? Year 3?
In the previous problem, suppose the required return on the project is 12 percent. What is the project’s NPV?Data From Previous Problem:Summer Tyme, Inc., is considering a new three-year expansion
An asset used in a four-year project falls in the five-year MACRS class for tax purposes. The asset has an acquisition cost of $7,900,000 and will be sold for $1,400,000 at the end of the project. If
a. In setting a bid price, we used a zero NPV as our benchmark. Explain why this is appropriate.b. Under what circumstances do we have to worry about unequal economic lives? How do you interpret the
a. What are the top-down and bottom-up definitions of operating cash flow?b. What is meant by the term depreciation tax shield?
a. Why is it important to consider changes in net working capital in developing cash flows? What is the effect of doing so?b. How is depreciation calculated for fixed assets under current tax law?
a. What is the definition of project operating cash flow? How does this differ from net income?b. For the shark attractant project, why did we add back the firm’s net working capital investment in
a. What is a sunk cost? An opportunity cost?b. Explain what erosion is and why it is relevant.c. Explain why interest paid is not a relevant cash flow for project evaluation.
a. What are the relevant incremental cash flows for project evaluation?b. What is the stand-alone principle?
The Yurdone Corporation wants to set up a private cemetery business. According to the CFO, Barry M. Deep, business is "looking up." As a result, the cemetery project will provide a net cash inflow of
Consider the following two mutually exclusive projects:Whichever project you choose, if any, you require a 15 percent return on your investment.a. If you apply the payback criterion, which investment
For the cash flows in the previous problem, what is the NPV at a discount rate of zero percent? What if the discount rate is 10 percent? If it is 20 percent? If it is 30 percent?Data From Previous
a. What are the most commonly used capital budgeting procedures?b. If NPV is conceptually the best procedure for capital budgeting, why do you think multiple measures are used in practice?
a. What does the profitability index measure?b. How would you state the profitability index rule?
a. Under what circumstances will the IRR and NPV rules lead to the same accept–reject decisions? When might they conflict?b. Is it generally true that an advantage of the IRR rule over the NPV rule
a. What is an average accounting rate of return (AAR)?b. What are the weaknesses of the AAR rule?
a. In words, what is the discounted payback period? Why do we say it is, in a sense, a financial or economic break-even measure?b. What advantage(s) does the discounted payback have over the ordinary
a. In words, what is the payback period? The payback period rule?b. Why do we say that the payback period is, in a sense, an accounting breakeven measure?
a. What is the net present value rule?b. If we say an investment has an NPV of $1,000, what exactly do we mean?
The chapter shows that in the two-stage dividend growth model, the growth rate in the first stage, g1 , can be greater than or less than the discount rate, R. Can they be exactly equal?
Antiques R Us is a mature manufacturing firm. The company just paid a $10.46 dividend, but management expects to reduce the payout by 4 percent per year indefinitely. If you require an 11.5 percent
For the company in the previous problem, what is the dividend yield? What is the expected capital gains yield?Data From Previous Problem:The next dividend payment by Hot Wings, Inc., will be $2.10
a. What is the difference between a securities broker and a securities dealer?b. Which is bigger, the bid price or the ask price? Why?c. How does NASDAQ differ from the NYSE?
a. What is a proxy?b. What rights do stockholders have?c. Why is preferred stock called preferred ?
a. What are the relevant cash flows for valuing a share of common stock?b. Does the value of a share of stock depend on how long you expect to keep it?c. What is the value of a share of stock when
Ashes Divide Corporation has bonds on the market with 14.5 years to maturity, a YTM of 6.8 percent, and a current price of $924. The bonds make semiannual payments. What must the coupon rate be on
a. What is the term structure of interest rates? What determines its shape?b. What is the Treasury yield curve?c. What six components make up a bond’s yield?
a. What is the difference between a nominal and a real return? Which is more important to a typical investor?b. What is the Fisher effect?
a. Why do we say bond markets may have little or no transparency?b. In general, what are bid and ask prices?c. What is the difference between a bond’s clean price and dirty price?
a. What does a bond rating say about the risk of fluctuations in a bond’s value resulting from interest rate changes?b. What is a junk bond?
a. Why might an income bond be attractive to a corporation with volatile cash flows? Can you think of a reason why income bonds are not more popular?b. What do you think would be the effect of a put
a. What are the distinguishing features of debt compared to equity?b. What is the indenture? What are protective covenants? Give some examples.c. What is a sinking fund?
a. What are the cash flows associated with a bond?b. What is the general expression for the value of a bond?c. Is it true that the only risk associated with owning a bond is that the issuer will not
Ben Bates graduated from college six years ago with a finance undergraduate degree. Although he is satisfied with his current job, his goal is to become an investment banker. He feels that an MBA
What is the future value of $2,100 in 17 years assuming an interest rate of 8.4 percent compounded semiannually?
The Maybe Pay Life Insurance Co. is trying to sell you an investment policy that will pay you and your heirs $25,000 per year forever. If the required return on this investment is 7.2 percent, how
a. What is a pure discount loan? An interest-only loan?b. What does it mean to amortize a loan?c. What is a balloon payment? How do you determine its value?
a. If an interest rate is given as 12 percent compounded daily, what do we call this rate?b. What is an APR? What is an EAR? Are they the same thing?c. In general, what is the relationship between a
a. In general, what is the present value of an annuity of C dollars per period at a discount rate of r per period? The future value?b. In general, what is the present value of a perpetuity?
a. Describe how to calculate the future value of a series of cash flows.b. Describe how to calculate the present value of a series of cash flows.c. Unless we are explicitly told otherwise, what do we
You have just received notification that you have won the $1 million first prize in the Centennial Lottery. However, the prize will be awarded on your 100th birthday (assuming you’re around to
Take a look back at Example 5.7. Is it deceptive advertising? Is it unethical to advertise a future value like this without a disclaimer?Example 5.7:Businesses sometimes advertise that you should
a. What is the basic present value equation?b. What is the Rule of 72?
a. What do we mean by the present value of an investment?b. The process of discounting a future amount back to the present is the opposite of doing what?c. What do we mean by discounted cash flow, or
a. What do we mean by the future value of an investment?b. What does it mean to compound interest? How does compound interest differ from simple interest?c. In general, what is the future value of $1
After Chris completed the ratio analysis for S&S Air (see Chapter 3), Mark and Todd approached him about planning for next year's sales. The company had historically used little planning for
In Problem 25, suppose the firm wishes to keep its debt–equity ratio constant. What is EFN now?Data From Problem 25:The most recent financial statements for Moose Tours, Inc., follow. Sales for
Redo Problem 27 using sales growth rates of 30 and 35 percent in addition to 20 percent. Illustrate graphically the relationship between EFN and the growth rate, and use this graph to determine the
a What are some important elements that are often missing in financial planning models?b Why do we say planning is an iterative process?
a How is a firm’s sustainable growth related to its accounting return on equity (ROE)?b What are the determinants of growth?
a What is the basic idea behind the percentage of sales approach?b Unless it is modified, what does the percentage of sales approach assume about fixed asset capacity usage?
a What are the basic components of a financial plan?b Why is it necessary to designate a plug in a financial planning model?
a What are the two dimensions of the financial planning process?b Why should firms draw up financial plans?
What is Tobin's Q for Smolira Golf? What assumptions are you making about the book value of debt and the market value of debt? What about the book value of assets and the market value of assets? Are
Based on the balance sheets given for Just Dew It, calculate the following financial ratios for each year:a. Current ratio.b. Quick ratio.c. Cash ratio.d. NWC to total assets ratio.e. Debt–equity
For each account on this company's balance sheet, show the change in the account during 2009 and note whether this change was a source or use of cash. Do your numbers add up and make sense? Explain
If Roten Rooters, Inc., has an equity multiplier of 2.80, total asset turnover of 1.15, and a profit margin of 5.5 percent, what is its ROE?
If Roten Rooters, Inc., has an equity multiplier of 2.80, total asset turnover of 1.15, and a profi t margin of 5.5 percent, what is its ROE?
a What are the five groups of ratios? Give two or three examples of each kind.b Given the total debt ratio, what other two ratios can be computed? Explain how.c Turnover ratios all have one of two
a Why is it often necessary to standardize financial statements?b Name two types of standardized statements and describe how each is formed.
a What is a source of cash? Give three examples.b What is a use, or application, of cash? Give three examples.
Sunset Boards is a small company that manufactures and sells surfboards in Malibu. Tad Marks, the founder of the company, is in charge of the design and sale of the surfboards, but his background is
Refer to the corporate marginal tax rate information in Table 2.3 .Table 2.3:a. Why do you think the marginal tax rate jumps up from 34 percent to 39 percent at a taxable income of $100,001, and then
Referring back to the General Motors example used at the beginning of the chapter, note that we suggested that General Motors' stockholders probably didn't suffer as a result of the reported loss.
Referring back to the General Motors example used at the beginning of the chapter, note that we suggested that General Motors' stockholders probably didn't suffer as a result of the reported loss.
Suppose a company's operating cash flow has been negative for several years running. Is this necessarily a good sign or a bad sign?
a What is the cash flow identity? Explain what it says.b What are the components of operating cash flow?c Why is interest paid not a component of operating cash flow?
a What is the difference between a marginal and an average tax rate?b Do the wealthiest corporations receive a tax break in terms of a lower tax rate? Explain.
a What is the income statement equation?b What are the three things to keep in mind when looking at an income statement?c Why is accounting income not the same as cash flow? Give two reasons.
a What is the balance sheet identity?b What is liquidity? Why is it important?c What do we mean by financial leverage?d Explain the difference between accounting value and market value. Which is more
Critics have charged that compensation to top managers in the United States is simply too high and should be cut back. For example, focusing on large corporations, Ray Irani of Occidental Petroleum
a What is a dealer market? How do dealer and auction markets differ?b What does OTC stand for? What is the large OTC market for stocks called?c What is the largest auction market in the United States?
a What is an agency relationship?b What are agency problems and how do they come about? What are agency costs?c What incentives do managers in large corporations have to maximize share value?

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