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fundamentals of corporate finance

Questions and Answers of Fundamentals Of Corporate Finance

Managing Currency Risk. General Gadget Corp. (GGC) is a United States–based multinational firm that makes electrical coconut scrapers. These gadgets are made only in the United States using local
Currency Risk. If investors recognize the impacts of inflation and exchange rate changes on a firm’s cash flows, changes in exchange rates should be reflected in stock prices. How would the stock
International Capital Budgeting. An American firm is evaluating an investment in Indonesia.The project costs 500 billion Indonesian rupiah and it is expected to produce an income of 250 billion
Working Capital Management. Indicate how each of the following six different transactions that Dynamic Mattress might make would affect (i) cash and (ii) net working capital:a. Paying out a $2
Short-Term Financial Plans. Fill in the blanks in the following statements:a. A firm has a cash surplus when its ________ exceeds its ________. The surplus is normally invested in ________.b. In
Sources and Uses of Cash. State how each of the following events would affect the firm’s balance sheet. State whether each change is a source or use of cash.a. An automobile manufacturer increases
Cash Conversion Cycle. What effect will the following events have on the cash conversion cycle?a. Higher financing rates induce the firm to reduce its level of inventory.b. The firm obtains a new
Managing Working Capital. A new computer system allows your firm to more accurately monitor inventory and anticipate future inventory shortfalls. As a result, the firm feels more able to pare down
Cash Conversion Cycle. Calculate the accounts receivable period, accounts payable period, inventory period, and cash conversion cycle for the following firm: Income statement data: Sales 5,000 Cost
Cash Conversion Cycle. What effect will the following have on the cash conversion cycle?a. Customers are given a larger discount for cash transactions.b. The inventory turnover ratio falls from 8 to
Compensating Balances. Suppose that Dynamic Sofa (a subsidiary of Dynamic Mattress)has a line of credit with a stated interest rate of 10 percent and a compensating balance of 25 percent. The
Compensating Balances. The stated bank loan rate is 8 percent, but the loan requires a compensating balance of 10 percent on which no interest is earned. What is the effective interest rate on the
Factoring. A firm sells its accounts receivables to a factor at a 1.5 percent discount. The average collection period is 1 month. What is the implicit effective annual interest rate on the factoring
Discount Loan. A discount bank loan has a quoted annual rate of 6 percent.a. What is the effective rate of interest if the loan is for 1 year and is paid off in one payment at the end of the year?b.
Compensating Balances. A bank loan has a quoted annual rate of 6 percent. However, the borrower must maintain a balance of 25 percent of the amount of the loan, and the balance does not earn any
Forecasting Collections. Here is a forecast of sales by National Bromide for the first 4 months of 2001 (figures in thousands of dollars):On average, 50 percent of credit sales are paid for in the
Forecasting Payments. If a firm pays its bills with a 30-day delay, what fraction of its purchases will be paid for in the current quarter? In the following quarter? What if its payment delay is 60
Short-Term Planning. Paymore Products places orders for goods equal to 75 percent of its sales forecast in the next quarter. What will be orders in each quarter of the year if the sales forecasts for
Forecasting Payments. Calculate Paymore’s cash payments to its suppliers under the assumption that the firm pays for its goods with a 1-month delay. Therefore, on average, twothirds of purchases
Forecasting Collections. Now suppose that Paymore’s customers pay their bills with a 2-month delay. What is the forecast for Paymore’s cash receipts in each quarter of the coming year? Assume
Forecasting Net Cash Flow. Assuming that Paymore’s labor and administrative expenses are $65 per quarter and that interest on long-term debt is $40 per quarter, work out the net cash inflow for
Short-Term Financing Requirements. Suppose that Paymore’s cash balance at the start of the first quarter is $40 and its minimum acceptable cash balance is $30. Work out the shortterm financing
Short-Term Financing Plan. Now assume that Paymore can borrow up to $100 from a line of credit at an interest rate of 2 percent per quarter. Prepare a short-term financing plan. Use Table 2.9 to
Short-Term Plan. Recalculate Dynamic Mattress’s financing plan (Table 2.9) assuming that the firm wishes to maintain a minimum cash balance of $10 million instead of $5 million.Assume the firm can
Sources and Uses of Cash. The accompanying tables show Dynamic Mattress’s year-end 1998 balance sheet and its income statement for 1999. Use these tables (and Table 2.3) to work out a statement of
Cash Budget. The following data are from the budget of Ritewell Publishers. Half the company’s sales are transacted on a cash basis. The other half are paid for with a 1-month delay.The company
Float. A company has the following cash balances:a. Calculate the payment float and availability float.b. Why does the company gain from the payment float?c. Suppose the company adopts a policy of
Float. General Products writes checks that average $20,000 daily. These checks take an average of 6 days to clear. It receives payments that average $22,000 daily. It takes 3 days before these checks
Lock Boxes. Anne Teak, the financial manager of a furniture manufacturer, is considering operating a lock-box system. She forecasts that 300 payments a day will be made to lock boxes with an average
Cash Management. Complete the following passage by choosing the appropriate term from the following list: lock-box banking, wire transfer, payment float, concentration banking, availability float,
Lock Boxes. Sherman’s Sherbet currently takes about 6 days to collect and deposit checks from customers. A lock-box system could reduce this time to 4 days. Collections average$10,000 daily. The
Lock Boxes. The financial manager of JAC Cosmetics is considering opening a lock box in Pittsburgh. Checks cleared through the lock box will amount to $300,000 per month. The lock box will make cash
Collection Policy. Major Manufacturing currently has one bank account located in New York to handle all of its collections. The firm keeps a compensating balance of $300,000 to pay for these services
Economic Order Quantity. Assume that Everyman’s Bookstore uses up cash at a steady rate of $200,000 a year. The interest rate is 2 percent and each sale of securities costs $20.a. How many times a
Economic Order Quantity. Genuine Gems orders a full month’s worth of precious stones at the beginning of every month. Over the course of the month, it sells off its stock, at which point it
Economic Order Quantity. Patty’s Pancakes orders pancake mix once a week. The mix is used up by the end of the week, at which point more is reordered. Each time Patty orders pancake mix, she spends
Economic Order Quantity. A large consulting firm orders photocopying paper by the carton.The firm pays a $30 delivery charge on each order. The total cost of storing the paper, including forgone
Economic Order Quantity. Micro-Encapsulator Corp. (MEC) expects to sell 7,200 miniature home encapsulators this year. The cost of placing an order from its supplier is $250.Each unit costs $50 and
Inventory Management. Suppose now that the supplier in the previous problem offers a 1 percent discount on orders of 1,800 units or more. Should MEC accept the supplier’s offer?
Inventory Management. A just-in-time inventory system reduces the cost of ordering additional inventory by a factor of 100. What is the change in the optimal order size predicted by the economic
Cash Management. A firm maintains a separate account for cash disbursements. Total disbursements are $100,000 per month spread evenly over the month. Administrative and transaction costs of
Float Management. The Automated Clearinghouse (ACH) system uses electronic communication to provide next-day delivery of payments. The processing cost of making a payment through the ACH system is
Float Management. A parent company settles the collection account balances of its subsidiaries once a week. (That is, each week it transfers any balances in the accounts to a central account.) The
Float Management. Knob, Inc., is a nationwide distributor of furniture hardware. The company now uses a central billing system for credit sales of $182.5 million annually. First National, Knob’s
Cash Management. If cash flows change unpredictably, the firm should allow the cash balance to move within limits.a. What three factors determine how far apart these limits are?b. How far should the
Optimal Cash Balances. Suppose that your weekly cash expenses are $80. Every time you withdraw money from the automated teller at your bank, you are charged 15 cents. Your bank account pays interest
Cash Management. Suppose that the rate of interest increases from 4 to 8 percent per year.Would firms’ cash balances go up or down relative to sales? Explain.
Cash and Inventory Management. According to the economic order quantity inventory model and the Baumol model of cash management, what will happen to cash balances and inventory levels if the firm’s
Float Management. Some years ago, Merrill Lynch increased its float by mailing checks drawn on West Coast banks to customers in the East and checks drawn on East Coast banks to customers in the West.
Trade Credit Rates. Company X sells on a 1/20, net 60, basis. Customer Y buys goods with an invoice of $1,000.a. How much can Company Y deduct from the bill if it pays on Day 20?b. How many extra
Terms of Sale. Complete the following passage by selecting the appropriate terms from the following list (some terms may be used more than once): acceptance, open, commercial, trade, the United
Terms of Sale. Indicate which firm of each pair you would expect to grant shorter or longer credit periods:a. One firm sells hardware; the other sells bread.b. One firm’s customers have an
Payment Lag. The lag between purchase date and the date at which payment is due is known as the terms lag. The lag between the due date and the date on which the buyer actually pays is termed the due
Bankruptcy. True or false?a. It makes sense to evaluate the credit manager’s performance by looking at the proportion of bad debts.b. When a company becomes bankrupt, it is usually in the interests
Trade Credit Rates. A firm currently offers terms of sale of 3/20, net 40. What effect will the following actions have on the implicit interest rate charged to customers that pass up the cash
Trade Credit and Receivables. A firm offers terms of 2/15, net 30. Currently, two-thirds of all customers take advantage of the trade discount; the remainder pay bills at the due date.a. What will be
Terms of Sale. Microbiotics currently sells all of its frozen dinners cash on delivery but believes it can increase sales by offering supermarkets 1 month of free credit. The price per carton is $50
Credit Decision/Repeat Sales. Locust Software sells computer training packages to its business customers at a price of $101. The cost of production (in present value terms) is $95.Locust sells its
Bankruptcy. Explain why equity can sometimes have a positive value even when companies petition for bankruptcy.
Credit Decision. Look back at Example 3. Cast Iron’s costs have increased from $1,000 to$1,050. Assuming there is no possibility of repeat orders, and that the probability of successful collection
Credit Analysis. Financial ratios were described earlier. If you were the credit manager, to which financial ratios would you pay most attention?
Credit Decision. The Branding Iron Company sells its irons for $50 apiece wholesale. Production cost is $40 per iron. There is a 25 percent chance that a prospective customer will go bankrupt within
Credit Policy. As treasurer of the Universal Bed Corporation, Aristotle Procrustes is worried about his bad debt ratio, which is currently running at 6 percent. He believes that imposing a more
Credit Decision/Repeat Sales. Surf City sells its network browsing software for $15 per copy to computer software distributors and allows its customers 1 month to pay their bills.The cost of the
Credit Policy. A firm currently makes only cash sales. It estimates that allowing trade credit on terms of net 30 would increase monthly sales from 200 to 220 units per month. The price per unit is
Credit Analysis. Use the data in Example 3. Now suppose, however, that 10 percent of Cast Iron’s customers are slow payers, and that slow payers have a probability of 30 percent of defaulting on
Credit Analysis. Look back at the previous problem, but now suppose that if a customer defaults on a payment, you can eventually collect about half the amount owed to you. Will you be more or less
Credit Policy. Jim Khana, the credit manager of Velcro Saddles, is reappraising the company’s credit policy. Velcro sells on terms of net 30. Cost of goods sold is 85 percent of sales.Velcro
Credit Analysis. Galenic, Inc., is a wholesaler for a range of pharmaceutical products. Before deducting any losses from bad debts, Galenic operates on a profit margin of 5 percent.For a long time
Bond Yields. If a bond with par value of $1,000 and a coupon rate of 8 percent is selling at a price of $970, is the bond’s yield to maturity more or less than 8 percent? What about the current
Bond Pricing. A 6-year Circular File bond pays interest of $80 annually and sells for $950.What is its coupon rate, current yield, and yield to maturity?
Bond Pricing. If Circular File (see question 4) wants to issue a new 6-year bond at face value, what coupon rate must the bond offer?
Bond Yields. An AT&T bond has 10 years until maturity, a coupon rate of 8 percent, and sells for $1,050.a. What is the current yield on the bond?b. What is the yield to maturity?
Financial Pages. Refer to Figure 3.2. What is the current yield of the 61⁄4 percent, August 2002 maturity bond? What was the closing ask price of the bond on the previous day?
Bond Prices and Returns. One bond has a coupon rate of 8 percent, another a coupon rate of 12 percent. Both bonds have 10-year maturities and sell at a yield to maturity of 10 percent.If their yields
Bond Returns.a. If the AT&T bond in problem 6 has a yield to maturity of 8 percent 1 year from now, what will its price be?b. What will be the rate of return on the bond?c. If the inflation rate
Bond Pricing. A General Motors bond carries a coupon rate of 8 percent, has 9 years until maturity, and sells at a yield to maturity of 9 percent.a. What interest payments do bondholders receive each
Bond Pricing. A 30-year maturity bond with face value $1,000 makes annual coupon payments and has a coupon rate of 8 percent. What is the bond’s yield to maturity if the bond is selling fora.
Bond Pricing. Repeat the previous problem if the bond makes semiannual coupon payments.
Bond Pricing. Fill in the table below for the following zero-coupon bonds. The face value of each bond is $1,000. Price Maturity (Years) Yield to Maturity $300 30 $300 8% 10 10%
Bond Pricing. Sure Tea Co. has issued 9 percent annual coupon bonds which are now selling at a yield to maturity of 10 percent and current yield of 9.8375 percent. What is the remaining maturity of
Bond Prices and Yields.a. Several years ago, Castles in the Sand, Inc., issued bonds at face value at a yield to maturity of 8 percent. Now, with 8 years left until the maturity of the bonds, the
Interest Rate Risk. Consider three bonds with 8 percent coupon rates, all selling at face value. The short-term bond has a maturity of 4 years, the intermediate-term bond has maturity 8 years, and
Rate of Return. A 2-year maturity bond with face value $1,000 makes annual coupon payments of $80 and is selling at face value. What will be the rate of return on the bond if its yield to maturity at
Real Returns. Suppose that you buy a 1-year maturity bond for $1,000 that will pay you back $1,000 plus a coupon payment of $60 at the end of the year. What real rate of return will you earn if the
Real Returns. Now suppose that the bond in the previous problem is a TIPS (inflation-indexed)bond with a coupon rate of 4 percent. What will the cash flow provided by the bond be for each of the four
Real Returns. Now suppose the TIPS bond in the previous problem is a 2-year maturity bond.What will be the bondholder’s cash flows in each year in each of the inflation scenarios?
Interest Rate Risk. Suppose interest rates increase from 8 percent to 9 percent. Which bond will suffer the greater percentage decline in price: a 30-year bond paying annual coupons of 8 percent, or
Dividend Discount Model. Amazon.com has never paid a dividend, but its share price is$66 and the market value of its stock is $22 billion. Does this invalidate the dividend discount model?
Dividend Yield. Favored stock will pay a dividend this year of $2.40 per share. Its dividend yield is 8 percent. At what price is the stock selling?
Preferred Stock. Preferred Products has issued preferred stock with a $7 annual dividend that will be paid in perpetuity.a. If the discount rate is 12 percent, at what price should the preferred
Constant-Growth Model. Waterworks has a dividend yield of 8 percent. If its dividend is expected to grow at a constant rate of 5 percent, what must be the expected rate of return on the company’s
Dividend Discount Model. How can we say that price equals the present value of all future dividends when many actual investors may be seeking capital gains and planning to hold their shares for only
Rate of Return. Steady As She Goes, Inc., will pay a year-end dividend of $2.50 per share.Investors expect the dividend to grow at a rate of 4 percent indefinitely.a. If the stock currently sells for
Dividend Yield. BMM Industries pays a dividend of $2 per quarter. The dividend yield on its stock is reported at 4.8 percent. What price is the stock selling at?
Stock Values. Integrated Potato Chips paid a $1 per share dividend yesterday. You expect the dividend to grow steadily at a rate of 4 percent per year.a. What is the expected dividend in each of the
Constant-Growth Model. A stock sells for $40. The next dividend will be $4 per share. If the rate of return earned on reinvested funds is 15 percent and the company reinvests 40 percent of earnings
Constant-Growth Model. Gentleman Gym just paid its annual dividend of $2 per share, and it is widely expected that the dividend will increase by 5 percent per year indefinitely.a. What price should
Constant-Growth Model. Arts and Crafts, Inc., will pay a dividend of $5 per share in 1 year. It sells at $50 a share, and firms in the same industry provide an expected rate of return of 14 percent.
Constant-Growth Model. Eastern Electric currently pays a dividend of about $1.64 per share and sells for $27 a share.a. If investors believe the growth rate of dividends is 3 percent per year, what

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