Hi can I have some help with number 7 on this past-practice exam so i can study it incase theres a similar one on this years final?

MGF 301 Fall 2013 1. On its deposits, your bank is paying 2% annual interest that is compounded two times each day. Which of the following is true? a) It is impossible to compound more frequently than daily b) The bank will pay you more interest than it would under annual compounding c) If the interest is compounded monthly, this would result in the bank paying an effective annual rate of more than 12% d) Non of the above 2. You have won an accident settlement in court and can choose between the following choices of payment plans A: $10,000 immediately and $10,000 at the end of each year for 7 years B: $60,000 immediately C: $20,000 immediately and $20,000 at the end of each year fro 3 years If we are not sure of the discount rate, but we know it is greater than Rf, mark each of the following true(T) or false (F): 2 points each ____ a. Plan A will never have the highest present value among plans A,B &C ____ b. For a very low discount rate, plan C will have the highest present value ____ c. If you calculate the future value in time 10 for each plan, the plan witht eh highest present value will also have the highest future value 3. ABC Corporation has a book value of equity of $40 million, retained earnings of $50,000,000 and a market value of equity of $120 million. ABC has decided to issue 1,000,000 new shares of stock to their current stockholders for a price of $21 per share. Calculate the market value of equity after the new shares are issued (assuming retained earnings =0) a) $21 million b) $61 million c) $191 million d) $141 million 4. In 1997, WXZ corp issued a 9% bond with face value of $1,000 and a 30 year maturity. The bond was issued with a price of $980 and war rated BB by Standard & Poors. Approximately what was the yield to maturity in 1997 when the bond was first issued? a) the yield to maturity was above 9% b) the yield to maturity was equal to 9% c) the yield to maturity was below 9% d) it is impossible to tell from the information given 5. If the expected inflation rate is 3%, which of the following is true? a) price levels in the economy are expected to fall because of exchange rates b) the nominal rate of interest must be at least 3% c) the real rate of interest must be at least 3% d) none of the above 6. The stock of WTC is currently selling for a price of $40 per share and there are 1,000,000 shares outstanding. The bonds of WTC have a face value of $30 million and sell at a price of 120 percent of face value. The yield to maturity on the bonds is 7% and the tax rate is 35%. If the required return on equity is 11%, calculate the WACC. Show your work. (6 points) 7. Your company is deciding whether to manufacturer its new product in Taiwan. You have estimated that the annual cost of production for the next 6 years in Taiwan will be 40 million Taiwan Dollars per year. If the exchange rate is $1 U.S. =29.7 Taiwan Dollars, and the discounts rate is 10%. Calculate the present value of the costs of manufacturing in U.S. Dollars if the annuity factor for 6 years at 10% is 4.355. Show your calculation (8 points) 8. While markets were closed, a company announced that its earning were 20% higher than last year's earnings. When markets opened, the company's stock price decreased rom the previous day. How can this result be explained if markets follow semi strong form market efficiency? a) investors are fooled by the news and react inappropriately b) before the announcement, investors were expecting earnings to go up by 40% c) the company has a low beta which can lead to no movement in the stock price d) this result cannot be explained under semi strong form market efficiency 9. Ben wants to pay $25,000 in cash to buy his father's Mercedes when the lease is up in three years. Ben gets paid bi-weekly (i.e. every two weeks or 26 times peryear) and he wants to put aside equal amounts from each paycheck so that he has $25,000 after three years. To find out how much to put into a bank account paying interest, he has divided $25,000 by 78 to find that he needs to put aside $320.52 every two weeks so that he has $25,000 in three years. Which of the following is true? a) the time value of money does not affect Ben because he is saving not borrowing b) if Rf>0, Ben is putting aside more than he needs to reach his goal c) Ben's plan will not result in him having at least $25,000 after three years because he is ignoring the time value of money d) none of the above is true 10. In time 0, an American investor bought 100 shares of LBL at a price of 50 (or 50 UK pounds) when the exchange rate was $1.70/1 (or $1.70 dollars = 1 pound). In time 1, the company paid a dividend of 1 and the stock was selling for 44 after the dividend. What is the rate of return to the investor if the exchange rate is $1.6/1 in time 1? Show your work. (8 points) 11. Baby products Inc. has 4,000,000 shares of stock issued and outstanding. The expected earnings of the company are $8 million next year. The discount rate is 11%. a) If Baby Products grows at 5% per year and the return on equity is 10%, calculate the plowback ratio. (6 points) b) If the dividend paid by Baby Products is expected to grow at the rate in (a) above, what should be the price of its stock using the constant growth (growing perpetuity) stock pricing model? (6 points) c) If Baby products is a publicly traded company, how do analysts estimate the beta of the company? Explain. (6 points) 12. If a company is considering expanding its business to produce a new product in a new line of business with greater risk than the company's current operations. Is the WACC appropriate as the discount rate for its NPV calculation? a) no, because the product will have a different market risk b) yes, because WACC is always the correct discount rate c) yes, because the new product is in a new line of business d) no, because the WACC does not give a rate of return 13. The following arise out of a new product (X) proposed by YT Inc. To produce this product, the company will stop producing a different product (Y) and use product Y's production line. Which is the following is a cash flow that should be considered for capital budgeting purposes? a) the annual increase in the electricity bill caused by the utility's rates going up (even though usage is expected to stay the same) b) the project's proportional share of the CEO's current salary c) research costs on the product that have already been spent d) the cost of closing down production of product Y 14. An investor has earned -5%, 6% and -10% over the last three years from an investment. Which of the following is true? a) the investment has E(r) 0 but had bad luck c) this investment could have been in the risk free rate d) none of the above 15. A company has a 5 year 7% bond that pays interest semi-annually, has a face value of $1,000 and has YTM = 7%. Which of the following is the correct method for finding the price? a) price = 70/(1.07)+70/(1.07^2)+ ...+70/(1.07^5) + 1000/(1.07^3) b) price= 35/(1.045)+35/(1.045^2)+...+35/(1.045^10)+1000/(1.045^10) c) price =45/(1.035)+45/(1.033^2)+...+45/(1.035^10)+1000/(1.035^10) d) price = 35/(1.035)+35/(1.035^2)+...+35/(1.035^10)+1000(1.035^10) 16. Jon is conducting a capital budgeting analysis using NPV for a major expansion of his company. He wants the project approved because this will mean he does not have to lay-off employees on his team. Because there is a lot of uncertainty in NPV analysis anyway, Jon has decided to increase all of his revenue estimates so that they are best case scenarios. Which of the following is true about Jon's approach? a) It doesn't matter what cash flows Jon uses as he will get the same NPV because NPB depends on the discounts rate b) Jon's analysis is appropriate because any of the outcomes are possible so he might as well pick the most favorable to get his project is approved c) Jon's analysis is likely to decrease the value of his company d) NPV analysis requires the use of best case Scenario cash flows 17. Mark each statement about capital budgeting as true of false (2 points each) ___ a. The IRR is less reliable than NPV in choosing between mutually exclusive projects ___ b. The payback method can be used for cash flows that go on in perpetuity ___ c. Scenario analysis is useful in deciding how bad things will be if several bad events occur at the same time ___ d. The time value of money is an important consideration in the IRR method 18. If markets follow the semi-strong form of efficient market theory, which is true? a) insiders will not be able to profit from private information b) a good stock analyst can beat the market using public information filed with the SEC c) stock prices are randomly caused and do not react to new information d) none of the above 19. If the Neptune Company has = .9, the expected market risk premium is 9% and the risk free rate is 2%. What is the required return on capital under CAPM? a) .09x.9(.11-.02) b) .02+.9(.11-.02) c) .02+.9(.11) d) .02+.9(.09-.02) 20. An investment project costs 75,000 in time 0 and has the following payouts. C1=10,000, C2=12,000, C3=14,000 and cash flow for time 4 in 16,000 which will increase in perpetuity at a 4% rate for time 5, time 6, etc. The required rate of return is 8%. Set up the formula for calculating the NPV (Note: you do not have to solve for the answer) (6 points) 21. Manila Inc. announced last night while markets were closed that its new cancer drug caused the death of three patients in a clinical trial and was being pulled from the market. Draw a graph indicating the market reactions to the announcement by the company. (Including the day before and after the announcements). Assume semi-strong market efficiency. Label your graph (6 points). 22. The working capital requirements for a new project are due to the required inventory levels. The firm requires an inventory valued at $20,000 in time period 0. $40,000 in time 1, and $0 in time 2. If these are the only working capital requirements, which of the following is true? a) the cash flow arising from working capital requirements in time period 2 is $-40,000 b) the cash flow arising from working capital requirements in time period 2 is $-20,000 c) there are no cash flows in time period 2 arising from working capital requirements d) the cash flow arising from working capital requirements in time period 2 is $40,000 23. Students were asked to from an equally weighted portfolio of either 2 stocks (Group A) or 10 stocks (Group B) in a contest trying to pick the worst stocks. The winner was the student who lost the most money, which of the following is true? a) a student in Group A who chooses 2 stocks with low overall risk will most likely be the winner b) if markets follow the semi-strong form of market efficiency, it is easier to pick stocks that are going down because investors are focused on stocks that are going up c) if a student in Group A chooses 2 stocks in the same industry, this will increase the probability of the student winning the contest d) a student in group B will win because diversification improves the return on an investment 24. AGG Inc's earnings are not heavily dependent on fluctuations in the economy. AGG has steady earnings regardless of the state of the economy. Which is true about the company? a) an investor in the company can diversify some of the company's overall risk b) the company has high market risk c) the company has no unique risk d) the company has a greater than 1