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Corporate Finance - Final Exam PROBLEMS
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Final Exam Prep, Ch. 11-18 from Fundamentals of Corporate Finance textbook
Terms in this set (47)
Precise Machinery is analyzing a proposed project. The company expects to sell 2,100 units, give or take 5 percent. The expected variable cost per unit is $260 and the expected fixed costs are $589,000. Cost estimates are considered accurate within a plus or minus 4 percent range. The depreciation expense is $129,000. The sales price is estimated at $750 per unit, plus or minus 2 percent.
a) What is the sales revenue under the worst case scenario?
$1,466,325
Sales; Worst case = (2,100 0.95) ($750 .98) = $1,466,325
(Precise Machinery)
b) What is the contribution margin per unit under the best case scenario?
$515.40
Contribution margin; best case = ($750 1.02) - ($260 0.96) = $515.40
(Precise Machinery)
c) What is the amount of the total costs per unit under the worst case scenario?
$577.45
Total costs per unit; worst case =
[($2,100 0.95) (260 1.04) + ($589,000 1.04)]/(2,100 0.95) = $577.45
(Precise Machinery)
d) The tax rate at Precise Machinery is 35 percent. The company is conducting a sensitivity analysis on the sales price using a sales price estimate of $755. What is the operating cash flow based on this analysis?
$337,975
OCF {[(755 - $260) 2,100] - $589,000} {1 - 0.35} + ($129,000 0.35) = $337,975
(Precise Machinery)
e) The company is conducting a sensitivity analysis with fixed costs of $590,000. What is the OCF given this analysis?
$330,500
OCF {[(750 - $260) 2,100] - $590,000} {1 - 0.35} + ($129,000 0.35) = $330,500
The Coffee Express has computed its fixed costs to be $0.34 for every cup of coffee it sells given annual sales of 212,000 cups. The sales price is $1.49 per cup while the variable cost per cup is $0.63. How many cups of coffee must it sell to break-even on a cash basis?
83,814
cash break-even = ($0.34 212,000)/($1.49 - $0.63) = 83,814 cups
You are considering a new product launch. The project will cost $630,000, have a 5-year life, and have no salvage value; depreciation is straight-line to zero. Sales are projected at 160 units per year, price per unit will be $24,000, variable cost per unit will be $12,000, and fixed costs will be $283,000 per year. The required return is 11 percent and the relevant tax rate is 34 percent. Based on your experience, you think the unit sales, variable cost, and fixed cost projections given here are probably accurate to within 9 percent. What is the worst case NPV?
$2,654,241
Unit sales; Worst = 160 (1 - 0.09) = 145.6 units
Variable cost per unit; Worst = $12,000 (1 + 0.09) = $13,080
Fixed costs; Worst = $283,000 (1 + 0.09) = $308,470
OCF; Worst = [($24,000 - $13,080)(145.6) - $308,470][1 - 0.34] + 0.34($630,000/5) = $888,618.12
Nice Shoes has decided to sell a new line of Android sneaker shoes. The shoes will sell for $500 per pair and have a variable cost of $200 per pair. The company spent $113,000 for a marketing study that determined the company will sell 58,000 pairs per year for 7 years. The marketing study also determined that the company will lose sales of 15,000 pairs of its high-priced shoes. The high-priced shoes sell at $700 per pair and have variable costs of $300. The company will also increase sales of its cheap sneaker shoes by 9,000 pairs. The cheap shoes sell for $200 per pair and have variable costs of $100 per set. The fixed costs each year will be $7,559,000. The company has also spent $1,133,000 on research and development for the new sneaker shoes. The plant and equipment required will cost $21,000,000 and will be depreciated on a straight-line basis. The new shoes will also require an increase in net working capital of $1,053,000 that will be returned at the end of the project. The tax rate is 40 percent, and the cost of capital is 8 percent. What is the IRR?
7.51 percent
Sales = ($500 58,000) + ($700 (-15,000) + ($200 9,000) = $20,300,000
Variable costs = (-$200 58,000) + (-$300 (-15,000)) + (-$100 9,000) = -$8,000,000
Depreciation = $21,000,000/7 = $3,000,000
Hybrid cars are touted as a "green" alternative; however, the financial aspects of hybrid ownership are not as clear. Consider a hybrid model that has a list price of $5,420 (including tax consequences) more than a comparable car with a traditional gasoline engine. Additionally, the annual ownership costs (other than fuel) for the hybrid were expected to be $420 more than the traditional model. The EPA mileage estimate is 23 mpg for the traditional model and 25 mpg for the hybrid model. Assume the appropriate interest rate is 10 percent, all cash flows occur at the end of the year, you drive 15,900 miles per year, and keep either car for 6 years. What price per gallon would make the decision to buy they hybrid worthwhile?
$30.10
A proposed project has a contribution margin per unit of $13.10, fixed costs of $74,000, depreciation of $12,500, variable costs per unit of $22, and a financial break-even point of 11,360 units. What is the operating cash flow at this level of output?
$74,816
OCF; financial break-even = (11,360 $13.10) - $74,000 = $74,816
We are evaluating a project that costs $854,000, has a 15-year life, and has no salvage value. Assume that depreciation is straight-line to zero over the life of the project. Sales are projected at 154,000 units per year. Price per unit is $41, variable cost per unit is $20, and fixed costs are $865,102 per year. The tax rate is 33 percent, and we require a 14 percent return on this project. Suppose the projections given for price, quantity, variable costs, and fixed costs are all accurate to within 14 percent. What is the worst-case NPV?
$1,993,870
OCF; Worst = {[($41 0.86) - ($20 1.14)][154,000 0.86] - ($865,102 1.14)}{1 - 0.33) + ($854,000/15)(0.33) = $463,658.70
A project has the following estimated data: price = $74 per unit; variable costs = $39.22 per unit; fixed costs = $6,500; required return = 8 percent; initial investment = $8,000; life = 4 years. Ignore the effect of taxes. What is the degree of operating leverage at the financial break-even level of output?
3.691
DOL = 1 + (6,500/$2,415.37) = 3.691
A year ago, you purchased 400 shares of Stellar Wood Products, Inc. stock at a price of $8.62 per share. The stock pays an annual dividend of $0.10 per share. Today, you sold all of your shares for $4.80 per share. What is your total dollar return on this investment?
-$1,488
Total dollar return = ($4.80 - $8.62 + $0.10) 400 = -$1,488
Last year, you purchased a stock at a price of $47.10 a share. Over the course of the year, you received $2.40 per share in dividends while inflation averaged 3.4 percent. Today, you sold your shares for $49.50 a share. What is your approximate real rate of return on this investment?
6.79 percent
Nominal return = ($49.50 - $47.10 + $2.40)/$47.10 = 10.19 percent
Approximate real return = 0.1019 - 0.034 = 6.79 percent
The common stock of Air United, Inc., had annual returns of 15.6 percent, 2.4 percent, -11.8 percent, and 32.9 percent over the last four years, respectively. What is the standard deviation of these returns?
19.05 percent
Average return = (0.156 + 0.024 - 0.118 + 0.329)/4 = -.09775
=[1/(4 - 1)] [(0.156 - 0.09775)2 + (0.024 - 0.09775)2 + (-0.118 - 0.09775)2 + (0.329 - 0.09775)2] = 19.05 percent
A stock had returns of 15 percent, 8 percent, 12 percent, -21 percent, and -4 percent for the past five years. Based on these returns, what is the approximate probability that this stock will return at least 15 percent in any one given year?
greater than 16.0 percent
Average return = (0.15 + 0.08 + 0.12 - 0.21 - 0.04)/5 = 0.02
= [1/(5 - 1)] [(0.15 - 0.02)2 + (0.08 - 0.02)2 + (0.12 - 0.02)2 + (-0.21 - 0.02)2 + (-0.04 - 0.02)2] = 0.1475
Upper end of 68 percent range = 0.02 + 0.1475 = 16.75 percent
Probability of earning at least 15 percent in any one year is greater than 16 percent.
A stock had returns of 16 percent, 4 percent, 8 percent, 14 percent, - 9 percent, and -5 percent over the past six years. What is the geometric average return for this time period?
4.26 percent
Geometric average = (1.16 1.04 1.08 1.14 0.91 0.95)1/6 - 1 = 4.26 percent
A stock had the following prices and dividends. What is the geometric average return on this stock?
Year Price Dividend
1 16.40 -
2 16.62 0.50
3 15.48 0.50
4 9.15 0.25
-15.21 percent
Return for year 2 = ($16.62 - $16.40 + $0.50)/$16.40 = 4.3902 percent
Return for year 3 = ($15.48 - $16.62 + $0.50)/$16.62 = -3.8508 percent
Return for year 4 = ($9.15 - $15.48 + $0.25)/$15.48 = -39.2765 percent
Geometric return = (1.043902 0.961492 0.607235)1/3 - 1 = -15.21 percent
What is the standard deviation of the returns on a portfolio that is invested in stocks A, B, and C? Twenty five percent of the portfolio is invested in stock A and 40 percent is invested in stock C.
Return if state occurs: A B C
5% boom: 17% 6% 22%
55% normal: 8% 10% 15%
40% recession: -3% 19% -25%
7.83 percent
E(r)Boom = (0.25 0.17) + (0.35 0.06) + (0.40 0.22) = 0.1515
E(r)Normal = (0.25 0.08) + (0.35 0.10) + (0.40 0.15) = 0.115
E(r)Bust = (0.25 -0.03) + (0.35 0.19) + (0.40 -0.25) = -0.041
E(r)Portfolio = (0.05 0.1515) + (0.55 0.115) + (0.40 -0.041) = 0.054425
VarPortfolio = [0.05 (0.1515 - 0.054425)2] + [0.55 (0.115 - 0.054425)2] + [0.40 (-0.041 - 0.054425)2] = 0.006132
Std dev = .006132 = 7.83 percent
What is the beta of the following portfolio?
Stock Invested Security Beta
A $6,700 1.58
B $4,900 1.23
C $8,500 0.79
1.16
ValuePortfolio = $6,700 + $4,900 + $8,500 = $20,100
BetaPortfolio = ($6,700/$20,100 1.58) + ($4,900/$20,100 1.23) + ($8,500/$20,100 0.79) = 1.16
The risk-free rate of return is 3.9 percent and the market risk premium is 6.2 percent. What is the expected rate of return on a stock with a beta of 1.21?
11.40 percent
E(r) = 0.039 + (1.21 0.062) = 11.40 percent
Which one of the following stocks is correctly priced if the risk-free rate of return is 3.2 percent and the market rate of return is 11.76 percent?
E. (1.62 beta - expected return 17.07%)
E(r)E = 0.032 + [1.62 (0.1176 - 0.032)] = 0.1707 Stock E is correctly priced.
Miller Motors has decided to sell 1,600 shares of stock through a Dutch auction. The bids received are as follows:
Bidder Quantity Price
A 400 $24
B 300 $23
C 1,000 $21
D 1,500 $20
E 2,900 $19
How much will Miller Motors receive in total from selling the 1,600 shares? Ignore all transaction and flotation costs.
C. $33,600
Total cash received = 1,600 x $21 = $33,600
Richard has an outstanding order with his stock broker to purchase 1,000 shares of every IPO. The next three IPOs are each priced at $30 a share and will all start trading on the same day. Richard is allocated 1,000 shares of IPO A, 400 shares of IPO B, and 100 shares of IPO C. On the first day of trading IPO A opened at $31.50 a share and ended the day at $26 a share. IPO B opened at $31 a share and finished the day at $32 a share. IPO C opened at $36.50 a share and ended the day at $40.25 a share. What is Richard's total profit or loss on these three IPOs as of the end of the first day of trading?
-$2,175
Total profit = [1,000 x ($26 - $30)] + [400 x ($32 - $30)] + [100 x ($40.25 - $30)] = -$2,175
Wear Ever is expanding and needs $12.6 million to help fund this growth. The firm estimates it can sell new shares of stock for $32.50 a share. It also estimates it will cost an additional $340,000 for filing and legal fees related to the stock issue. The underwriters have agreed to a 7.5 percent spread. How many shares of stock must Wear Ever sell if it is going to have $12.6 million available for its expansion needs?
430,437 shares
Total value of issue = ($12,600,000 + $340,000) /(1 - 0.075) = $13,989,189.19
Number of shares needed = $13,989,189.19/$32.50 = 430,437 shares
A.K. Stevenson wants to raise $7.5 million through a rights offering. The subscription price is set at $24. Currently, the company has 2.1 million shares outstanding with a current market price of $25 a share. Each shareholder will receive one right for each share of stock they currently own. How many rights will be needed to purchase one new share of stock in this offering?
6.72 rights
Number of rights issued = 1 2.1m = 2.1m; Number of shares needed = $7.5m/$24 = 312,500; Rights needed for each new share = 2.1m/312,500 = 6.72 rights
Jennifer owns 12,000 shares of Calico Clothing. Currently, there are 1.6 million shares of stock outstanding. The company has just announced a rights offering whereby 200,000 shares are being offered for sale at a subscription price of $14 a share. The current stock price is $16 a share. Assume that Jennifer sells her rights and that all rights are exercised. What percentage of the firm will Jennifer own after the rights offering?
0.67 percent
New ownership percentage = 12,000/(1.6m + 0.2m) = 0.67 percent
Underwater Experimental is considering a project which requires the purchase of $498,000 of fixed assets. The net present value of the project is $22,500. Equity shares will be issued as the sole means of financing the project. What will the new book value per share be after the project is implemented given the following current information on the firm?
Shares Outstanding 60,000
Book Value $720,000
Market Value $936,000
Net Income $108,000
$13.25
Current market value per share = $936,000/60,000 = $15.60
Number of new shares needed = $498,000/$15.60 = 31,923.08 shares
New book value per share = ($720,000 + $498,000)/(60,000 + 31,923.08) = $13.2
Wagner Trucking is considering investing in a new project that will cost $13 million and increase net income by 6.5 percent. This project will be completely funded by issuing new equity shares. Currently, the firm has 1.25 million shares of stock outstanding with a market price of $42 per share. The current earnings per share are $1.82. What will the earnings per share be if the project is implemented?
$1.55
New earnings per share = ($1.82 x 1.25m 1.065)/[1.25m + ($13m/$42)] = $1.55
Kelso Electric is debating between a leveraged and an unleveraged capital structure. The all equity capital structure would consist of 40,000 shares of stock. The debt and equity option would consist of 25,000 shares of stock plus $280,000 of debt with an interest rate of 7 percent. What is the break-even level of earnings before interest and taxes between these two options? Ignore taxes.
$52,267
EBIT/40,000 = [EBIT - ($280,000 x 0.07)]/25,000; EBIT = $52,267
Bright Morning Foods has expected earnings before interest and taxes of $48,600, an unlevered cost of capital of 13.2 percent, and debt with both a book and face value of $25,000. The debt has an 8.5 percent coupon. The tax rate is 34 percent. What is the value of the firm?
$251,500
VU = [$48,600 x (1 - 0.34)] /0.132 = $243,000
VL = $243,000 + (0.34 x $25,000) = $251,500
Down Bedding has an unlevered cost of capital of 13 percent, a cost of debt of 7.8 percent, and a tax rate of 32 percent. What is the target debt-equity ratio if the targeted cost of equity is 15.51 percent?
.71
RE = 0.1551 = 0.13 + (0.13 - 0.078) x D/E x (1 - 0.32); D/E = 0.71
Young's Home Supply has a debt-equity ratio of 0.80. The cost of equity is 14.5 percent and the aftertax cost of debt is 4.9 percent. What will the firm's cost of equity be if the debt-equity ratio is revised to 0.75?
14.23 percent
WACC = [(1.0/1.8) x 0.145] + [(0.8/1.8) x 0.049] = 0.102333;
WACC = 0.102333 = [(1.0/1.75) x RE] + [(0.75/1.75) x 0.049; RE = 14.23 percent
Percy's Wholesale Supply has earnings before interest and taxes of $106,000. Both the book and the market value of debt is $170,000. The unlevered cost of equity is 15.5 percent while the pre-tax cost of debt is 8.6 percent. The tax rate is 38 percent. What is the firm's weighted average cost of capital?
13.45 percent
VU = [$106,000x (1 - 0.38)]/0.155 = $424,000
VL = $424,000 + (0.38 x $170,000) = $488,600
VE = $488,600 - $170,000 = $318,600
RE = 0.155 + (0.155 - 0.086) x ($170,000/$318,600) x (1 - 0.38) = 0.177827
WACC = [($318,600/$488,600) x 0.177827] + [($170,000/$488,600) x 0.086 x (1 - 0.38)] = 13.45 percent
Webster United is paying a $1.10 per share dividend today. There are 350,000 shares outstanding with a market price of $23 per share. Ignore taxes. Before the dividend, the company had earnings per share of $1.74. As a result of this dividend, the:
price-earnings ratio will be 12.59.
Price-earnings ratio after the dividend = ($23 - $1.10)/$1.74 = 12.59
Al owns 800 shares of The Good Life Co. The company recently issued a statement that it will pay a dividend per share of $0.55 this year and a $0.60 per share dividend next year. Al does not want any dividend income this year but does want as much dividend income as possible next year. Al earns 8.5 percent on his investments. Ignoring taxes, what will Al's total homemade dividend be next year?
$957.40
Homemade dividend income for next year = [($0.55 x 1.085) + $0.60] x 800 = $957.40
Delaware Trust has 450 shares of common stock outstanding at a market price per share of $27. Currently, the firm has excess cash of $400, total assets of $28,900, and net income of $1,320. The firm has decided to pay out all of its excess cash as a cash dividend. What will the earnings per share be after this dividend is paid?
$2.93
Earnings per share = $1,320/450 = $2.93
Western Mountain Water has 11,000 shares of stock outstanding with a par value of $1 per share. The current market value of the firm is $135,000. The balance sheet shows a capital in excess of par value account balance of $68,000 and retained earnings of $49,000. The company just announced a 2-for-1 stock split. What will the capital in excess of par value account balance be after the split?
$68,000
The paid in surplus account will remain at $68,000 as a stock split has no effect on this account.
East Coast Marina has 220,000 shares of stock outstanding. The current market value of the firm is $18.92 million. The company has retained earnings of $3.8 million, paid in surplus of $6.7 million, and a common stock account value of $220,000. The company is planning a 3-for-2 stock split. What will the market price per share be after the split?
$57.33
Market price per share = ($18.92m/220,000 shares) x 2/3 = $57.33
The common stock of Checkers, Inc. is selling for $56 a share and the par value per share is $1. Currently, the firm has a total market value of $812,000. How many shares of stock will be outstanding if the firm does a 3-for-2 stock split?
21,750 shares
Number of shares = ($812,000/$56) x 3/2 = 21,750 shares
Denver Interiors, Inc., has sales of $836,000 and cost of goods sold of $601,000. The firm had a beginning inventory of $41,000 and an ending inventory of $47,000. What is the length of the inventory period?
26.72 days
D. 30.53 days
E. 33.69 days
Inventory turnover = $601,000/[($41,000 + $47,000)/2] = 13.65909
Inventory period = 365/13.65909 = 26.72 days
The Blue Star has sales of $387,000, costs of goods sold of $259,000, average accounts receivable of $9,800, and average accounts payable of $12,600. How long does it take for the firm's credit customers to pay for their purchases?
9.24 days
Receivables turnover = $387,000/$9,800 = 39.4898
Receivables period = 365/39.4898 = 9.24 days
The Mountain Top Shoppe has sales of $512,000, average accounts receivable of $31,400 and average accounts payable of $24,800. The cost of goods sold is equivalent to 71 percent of sales. How long does it take The Mountain Top Shoppe to pay its suppliers?
24.90 days
Payables turnover = ($512,000 x 0.71)/$24,800 = 14.6581
Payables period = 365/14.6581 = 24.90 days
Your firm has an inventory turnover rate of 14, a payables turnover rate of 8, and a receivables turnover rate of 19. How long is your firm's operating cycle?
45.28 days
Inventory period = 365/14 = 26.07 days
Accounts receivable period = 365/19 = 19.21 days
Operating cycle = 26.07 + 19.21 days = 45.28 days
West Chester Automation has an inventory turnover of 16 and an accounts payable turnover of 11. The accounts receivable period is 36 days. What is the length of the cash cycle?
25.63 days
Cash cycle = (365/16) + 36 - (365/11) = 25.63 days
The Mish Mash Store has a beginning cash balance of $440 on March 1. The firm has projected sales of $610 in February, $680 in March, and $740 in April. The cost of goods sold is equal to 70 percent of sales. Goods are purchased one month prior to the month of sale. The accounts payable period is 30 days and the accounts receivable period is 10 days. The firm has monthly cash expenses of $160. What is the projected ending cash balance at the end of March? Assume every month has 30 days.
$461
March collections = (10/30) $610 + (20/30) $680 = $657
March disbursements for payables = 0.70 ($680) = $476
March ending cash balance = $440 + $657 - $476 - $160 = $461
Fancy Footwear has a line of credit with a local bank in the amount of $80,000. The loan agreement calls for interest of 7 percent with a compensating balance of 5 percent, which is based on the total amount borrowed. The compensating balance will be deposited into an interest-free account. What is the effective interest rate on the loan if the firm needs to borrow $75,000 for one year to cover operating expenses?
7.37 percent
Amount borrowed = $75,000/(1 - 0.05) = $78,947.37
Annual interest = $78,947.37 x 0.07 = $5,526.32
Effective interest rate = $5,526.32/$75,000 = 7.37 percent
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