1. Risk free rate is 3%. Equity risk premium is 5%. Beta is 2. Using the Capital Asset Pricing Model, compute the cost of equity capital.

2. Earnings Before Interest and Taxes is 200. Depreciation is 50. Capital Expenditure is 55. Net additions to Working Capital is 20. Taxes are 25. Compute Cash Flow From Assets (CFFA).

3. If Net Present Value (NPV) is greater than Zero, you: a. Accept the project. b. Reject the project. c. Flip a coin. d. Sleep on it. An investment costs $1,500 at time 0. In year 1, the project will generate $250. In year 2 it will generate $500. Then, the project will generate $400 per year for three straight years. In the following year, the project is expected to be shut down and sold for a net total profit (loss) of $100.

4. If the hurdle rate for this project (based upon risk assessment) is 11%, what is the NPV of the project?

5. If the hurdle rate for the project is 25%, what is the NPV?

6. What is the payback (measured in years)? Cash flow from assets (CFFA) was $500 last year, of which interest expense was $75 and will continue forward at $75 indefinitely. (Retiring any interest-bearing debt would eliminate this $75 charge) You expect CFFA to grow by 10% next year, 5% the following year, and then 3% forever each year starting in year 3, going forward. The risk free rate is 2.8%. The Equity Risk Premium is 6.7%. Beta for this firm is 1.7. The cost of debt capital is 6%. D/E is 0.5. The tax rate is 35%. Interest Bearing Debt is $1,000.

7. What is the cost of equity capital for the company?

8. What is the Weighted Average Cost of Capital for the company?

9. What is CFFA expected to be in year 3?

10. What is the geometric growth rate of the cash flow over the first three years?

11. What is the value of the Assets?

12. What is the value of the Equity?

13. If you are planning to buy this firm using the information above relative to this problem, and you are offered to buy the firm in exchange for retiring the face value of interest-bearing debt ($1,000), should you buy it? [HINT: In this question, because you have retired the IBD, your cost of capital will be the cost of equity as you will no longer have debt. Further, you will use Cash Flow to Equity for your cash flow numbers.]

14. If you buy it for $1,000 (retiring the debt), what would the payback be, measured in years?

15. Illusory superiority bias explains:

a. Why more than half of drivers believe they are better than average.

b. Why people love the color blue more often than the color yellow.

c. Why people would allow 200 people to die rather than 400 people to be saved.

16. Behavioral finance deals with:

a. Implications of errors in judgment that are predictable and can affect financial outcomes.

b. Bad choices.

c. Errors in thinking.

d. All the above.

17. When you assign a lower than correct probability to a bad outcome and a higher than correct probability to a good outcome, your thinking has been distorted by:

a. Overoptimism

b. Confirmation bias

c. Framing

d. Overthinking

18. This occurs when you apply stereotypes or limited samples, resulting in bad decisions leading to financial losses:

a. Representativeness heuristic

b. Law of small numbers

c. Law of large numbers

d. A and B e. None of the above

19. Anchoring implies that a person continues to believe what they have always been taught, even when new information comes in that contradicts their old beliefs.

a. True

b. False