19. Which one of the following comparisons between debt and equity is correct?

a.Both creditors and stockholders vote to elect the board of directors.

b.The stockholders are the firm's owners but have a lower claim to the firm's assets than do the creditors.

c.The stockholders have first claim to the firm's assets but the creditors are the owners.

d.Stockholders are the owners of the firm but the creditors vote on all major decisions.

20. Which one of the following statements is correct?

a.Firms tend to avoid short-term financing under both restrictive and flexible financing policies.

b.A firm with a flexible financing policy secures sufficient long-term financing to fund all its assets.

c.A firm with a restrictive financing policy frequently invests in marketable securities.

d.A firm with a flexible financing policy tends to use short-term financing on a frequent basis.

21.Which of the following statements about forms of business organization is true?

a.The primary advantages of a limited liability company are the means of taxation and the limits on the liabilities assumed by the owners.

b.A limited partnership is generally expensive to form.

c.Under a general partnership, each partner's potential loss is limited to his or her investment in the firm but he or she has unlimited say over the daily operations of the partnership.

d.A sole proprietor can generally raise unlimited equity to finance his or her business activities.

Use the following information to answer Questions 22 36.

Kentucky Hardware Company (KHC) is considering an investment project that requires a new machine for producing special tools. This new machine costs $800,000 and will be depreciated over five years on a straight-line basis toward zero salvage value. KHC paid a consulting company $50,000 last year to help them decide whether there is sufficient demand for the special tools. In addition to the investment on the machine, KHC invests $30,000 in net working capital. KHC also has estimated the performance of the new machine and believes that the new machine will produce $450,000 per year in sales, $200,000 per year in cost of goods sold, and $30,000 per year in administrative expenses. The company pays $45,000 in interest expenses annually and has average tax rate 35%.

In order to get an estimate of cost of capital, KHC collect the following information.

Debt: 10,000 6.4% coupon bonds outstanding, $1,000 par value, 25 years to maturity, selling for 110.69% of par; the bonds make semiannual payments.

Common stock: 495,000 shares outstanding, selling for $63 per share; the beta is 1.05; KHCs most recent dividend was $2.73 per share, and dividends are expected to grow at an annual rate of 5% indefinitely.

Preferred stock: 35,000 shares outstanding, selling for $72 per share; the preferred stock dividend is $3.5 per share.

Market: 8.8% market risk premium and 0.75% risk-free rate.

22. How much money does KHC need to spend to start the investment project (i.e., project cash flow at time 0)?

a.$30,000

b.$1,030,000

c.$830,000

d.$2,530,000

23. What is the project cash flow in Year 5? a.$199,000

b.$229,000

c. $171,250

d.$137,500

24. What is the after-tax cost of debt for KHC?

a.4.20%

b.3.64%

c.5.60%

d.1.96%

25. What is the cost of preferred stock for KHC?

a.6.25%

b.4.86%

c. 3.24%

d.5.25%

26. What is the cost of equity for KHC by using the dividend growth model?

a.12.77%

b.10.33%

c.9.55%

d.11.66%

27.What is the cost of equity for KHC by using the capital asset pricing model?

a.8.87%

b.11.76%

c.9.99%

d.12.55%

28. What is KHCs market value capital structure?

a.$38,610,000

b.$44,774,000

c.$51,017,760

d.$28,957,760

29. What is the weighted average cost of capital for KHC?

a.9%

b.11%

c.10%

d.8% 30. What is the payback period for the investment project?

a.4.15 years

b. 4.58 years

c.6.01 years

d. 3.82 years

31. What is the net present value for the investment project?

a.$23,619.42

b.$69,023.88

c.-$15,033.21

d.-$25,278.31

32. What is the internal rate of return for the investment project?

a.8.43%

b.6.54%

c.7.32%

d. 9.21%

33. What is the profitability index for the project?

a.1.07

b.0.98

c.-0.98

d.-1.07

34.Should KHC accept the project?

a. Yes because the payback period is longer than the project life.

b.Yes because the net present value is negative.

c.No because the profitability index is negative.

d.No because the internal rate of return is lower than the cost of capital.