FIN 201 Pre Test/Study Guide Ch 10-13, 16 EXAM

1. Define mutual exclusivity and describe ways in which projects can be mutually exclusive.
2. Relate the idea of cost of capital to the opportunity cost concept. Is the cost of capital the opportunity cost of project money?
3. Explain the rationale behind of the NPV method in your own words. Why is a higher NPV
concept sleep better than the lower one?
4. You are a financial analysis at the Owens company. A proponent of various ideas have provided you with business forecasts from which you have developed financial projections including project cash flows. You have also calculated each project IRR with the following results:
Project
A IRR
19.67% Comments
Marketing’s project, an almost totally new field B 19.25% Proposed by manufacturing, also a very different field C 18.05% proposed by engineering, a familiar field You were now in a meeting with senior managers that was called to discuss the options. You
have just presented the above information. After your presentation, the vice president of marketing stands, congratulates you on a fine job, and states that the figures clearly show that Project A
is the best option. She also says that your financial analysis shows the project a has the full backing of the finance department. All eyes, including the CFO’s, turn to you. How do you respond?
1 8. In 1983 the Bell Telephone System was broken up resulting in the creation of seven regional
telephone companies. The “Baby Bells,” as they were called, were freed from many of the
regulatory constraints under which the Bell System operated, and at the same time have a
great deal of money. The management of these young giants were determined to be more
than the staid old-line telephone companies they'd been in the past. They were quite vocal in
declaring their intentions to undertake ventures and any number of new fields, despite the
fact that virtually all of their experience was in a regulated environment of the old telephone
system. Many stockholders were alarmed and concerned by these statements. Comment on
what their concerns may have been.
Why is it desirable to construct capital budgeting rules so the higher risk projects become
less acceptable than lower risk projects?
A number of investment projects are under consideration at your company. You’ve calculated
the cost of capital based on market values and rates, and analyze the projects using IRR and
NPV. Several projects are marginally acceptable. While watching the news last night you
learned that most economists predict a rise in interest rates over the next year. Should you
modify your analysis in light of this information? Why?
Under what conditions might larger balances in inventory and accounts receivable not help
the firm to run more smoothly and efficiently.
Discuss the idea of stretching payables clearly indicating the pros and cons of the idea. 1 Assume the following facts about a firms financing in the next year: 5.
6. 7. Proportion of capital projects funded by debt
Proportion of capital projects funded by equity
Return received by bondholders
Return received by stockholders = 45%
= 55%
= 8.0%
= 14.0% The weighted average cost of capital of this project is:
A. 11.0%
B. $113,000
C. 11.3%
D. 10.7%
1 Atlantis Inc. is considering two mutually exclusive projects with the following cash flows: Year
Project A
Project B 0
($120,000)
($100,000) 1
$60,000
$60,000 2
$40,000
$50,000 3
$60,000
$0 4
$80,000
$0 If Atlantis accepts projects that pay back into years or less which should be undertaken? Why?
A
E.
F.
G. Project A
Project B
Both projects
Neither project 1 Little Giant is building a manufacturing plant that will require a cash outlay of $300,000 for
the initial purchase of a building, $450,000 for remodeling the first year, and $710,000 for
new equipment in the second year. If the firms cost of capital is 12%, What is the present
value of the net investment had time 0? A
H.
I.
J. $1,460,000
$1,132,070
$1,267,720
$300,000 1 Determined the (after-tax) component cost of a 50 million debt issue that the Mattingly Corporation is planning to place with a large insurance company. Assume the company is subject
to a 40% tax rate. This long-term debt issue will yield 12% to the insurance company. A
K.
L.
M. 4.8%
7.2%
12.0%
none of the above 1 Assume the following information about the firms capital components: Debt
Preferred stock
Common stock Capital Structure
$20,000
$20,000
$60,000 Cost
8%
11%
14% The firm’s W ACC is:
A 11.00%
N. 11.90%
O. 12.20%
P. 12.05%
1 If a vendors invoice states terms of sale of 2/10 net 30, the implied annual cost of interest
from foregoing the discount would be: A 18.25%
Q. 2.0%
R. 12%
S. 36.5%