5.an investor-owned enterprise, is currently 100% equity financed. The CFO is considering a recapitalization plan under which the firm would issue long-term debt with a yield of 9% and use the proceeds to repurchase common stock. The recapitalization would not change the company’s total assets, nor would it affect the firm’s basic earning power, which is currently 6%. The CFO believes that this recapitalization would reduce the CCC and increase stock price. Which of the following would also be likely to occur if the company goes ahead with the recapitalization plan?
The company’s earnings per share would increase.
The company’s net income would increase.
The company’s ROA would increase.
The company’s ROE would decline.
The company’s cost of equity would decrease.
6. companies “Good Heart” (GH) and “Living With” (LW) provide in home caregiving services in the Orlando area, have identical tax rates, total assets, and basic earning power ratios, and their basic earning power exceeds their before-tax cost of debt, R(Rd). However, Company GH has a higher debt ratio and thus more interest expense than Company LW. Which of the following statements is CORRECT?
Company GH has a lower ROE than Company LW.
Company GH has a higher net income than Company LW.
Company GH has a lower ROA than Company LW.
The two companies have the same ROA.
The two companies have the same ROE.
7. The Lake M Inc. (LMHC) is an investor-owned firm. Due to Lake Mary’s policy of limited housing development, LMHC’s EBIT is expected to remain constant over time at $100,000 per year. The corporate tax rate is 30%. LMHC uses $500,000 of 12.0% debt, and the cost of equity to an unlevered firm in the same risk class is 16.0%.
What is the value of the firm according to MM with corporate taxes?
$587,500
$710,875
$528,750
$475,875
$646,250
8. Which of the following statements is CORRECT? Assume that the project being considered has normal cash flows, with one outflow followed by a series of inflows.
A project’s NPV is found by discounting the cash flows at the IRR.
If a project’s NPV is greater than zero, then its IRR must be less than zero.
The lower the CCC used to calculate it, the lower the calculated NPV will be.
The NPV of a relatively low risk project should be found using a relatively high WACC.
If a project’s NPV is less than zero, then its IRR must be less than the CCC.
9. Which of the following statements is CORRECT? Assume that the project being considered has normal cash flows, with one outflow followed by a series of inflows.
To find a project’s IRR, we must solve for the discount rate that causes the PV of the inflows to equal the PV of the project’s costs.
A project’s regular IRR is found by compounding the cash inflows at the CCC to find the terminal value (TV), then discounting this TV at the CCC.
To find a project’s IRR, we must find a discount rate that is equal to the WACC.
If a project’s IRR is greater than the CCC, then its NPV must be negative.
A project’s regular IRR is found by discounting the cash inflows at the CCC to find the present value (PV), then compounding this PV to find the IRR.
10. Which of the following statements is CORRECT? Assume that the project being considered has normal cash flows, with one outflow followed by a series of inflows.
If a project’s IRR is smaller than the WACC, then its NPV will be positive.
A project’s regular IRR is found by compounding the initial cost at the WACC to find the terminal value (TV), then discounting the TV at the WACC.
A project’s IRR is the discount rate that causes the PV of the inflows to equal the project’s cost.
If a project’s IRR is positive, then its NPV must also be positive.
A project’s regular IRR is found by compounding the cash inflows at the WACC to find the present value (PV), then discounting to find the IRR.
11. Which of the following statements is CORRECT? Assume that the project being considered has normal cash flows, with one outflow followed by a series of inflows.
If a project’s payback is positive, then the project should be rejected because it must have a negative NPV.
The longer a project’s payback period, the more desirable the project is normally considered to be by this criterion.
One drawback of the payback criterion for evaluating projects is that this method does not properly account for the time value of money.
The regular payback ignores cash flows beyond the payback period, but the discounted payback method overcomes this problem.
12. Assume a project has normal cash flows. All else equal, which of the following statements is CORRECT?
The project’s MIRR is unaffected by changes in the CCC.
The project’s NPV increases as the CCC declines.
The project’s IRR increases as the CCC declines.
The project’s regular payback increases as the CC decline