1. The cost of internal equity is cheaper than the cost of external equity.

Which of the following

statements is (are) correct?
I. External equity may incur expenses that are deducted from the capital received for the sale
of the

security.

II. Corporations generally discount the price of the securities that are sold to the public in order
to raise

capital.

a. Only statement I is correct.

b. Only statement II is correct.
c. Both statements I and II are correct.
d. Neither statement I nor II is correct.

2. Which of the following is not a dividend policy?

a. Stockholders of small firms favor a dividend policy of retention.
b. Stockholders who prefer a high dividend payout are unwilling to pay extra for
the stock of companies that provide a higher yield mostly because they are living on a fixed
income.
c. Stockholders prefer the delay of the payment of dividends if there is a
corresponding increase in capital gains.
d. Stockholders want dividends and they want them to be consistent.

3. The capital impairment restriction, a legal constraint on dividend payments, states that __.
a. only the current year's earnings may be used for dividend payments
b. a firm’s capital surplus can be used to make dividend payments
c. dividends may not be paid out of stockholders' equity
d. a firm's capital cannot be used to make dividend payments

4. For firms subject to the 40% marginal tax rate, the after-tax cost of __ is roughly three-fifths
the cost of preferred stock.
a. retained earnings
b. new common stock
c. long-term debt
d. None of these are correct

5. Mid-South Utilities will sell $10 million of $100 par value preferred stock that will pay an
annual dividend of $9.75. Mid-South will receive $93.98 per share after flotation costs. If the
issue must be retired in 20 years, what is the cost of the preferred issue?
10.50%
6. The most appropriate weights to use in calculating a firm's cost of capital are the proportions
of the components in the firm's __ capital structure.

Long range
Induatry
Historical
Current

7. Which of the following would be considered an alternative dividend policy?

I. Passive residual approach

II. Increasing dollar dividend approach

I only

8. Alpha Products maintains a capital structure of 40% debt and 60% common equity. To finance
its capital budget for next year, the firm will sell $50 million of 11% debentures at par and
finance the balance of its $125 million capital budget with retained earnings. Next year Alpha
expects net income to grow 7% to $140 million, and dividends also are expected to increase 7%
to $1.40 per share and to continue growing at that rate for the foreseeable future. The current
market value of Alpha's stock is $30. If the firm has a marginal tax rate of 40%, what is its
weighted cost of capital for the coming year?
9.6
11.6
9.8
8.6

8. In recent years, ___ has (Have) been a major source of equity financing for private industry.

Retention of earning
Common stock sales
DRIPs
Preferred stock sales

9. The passive residual dividend policy asserts that ____.

Retain earning, being the residual earnings of the firm, should always be paid out to existing
stockholder.
Dividend should be paid only when the firm has ready access to new equity markets.
dividends should be paid out only if the firm does not have enough acceptable
investment projects to utilize all earnings internally.

10. Dividend payments from foreign subsidiaries represent __.

a. the primary means of transferring funds to the parent company
 b. the effects of exchange risk
c. a way to avoid taxes
d. a movement from a weak to a stronger currency

11. What is the cost of common stock for Foggy Futures Weather Forecasters? The firm is in the
40% tax bracket. The optimal capital structure is listed below:

Source of Capital Weight

Long-Term Debt 25%
Preferred Stock 20%
Common Stock 55%

Debt: The firm can issue $1,000 par value, 8% coupon interest bonds with a 20-year maturity
date. The bond has an average discount of $30 and flotation costs of $30 per bond. The selling
price is $1,000.
Preferred Stock: The firm can sell preferred stock with a dividend that is 8% of the
current price. The stock costs $95. The cost of issuing and selling the stock is expected to be $5
per share.
Common Stock: The firm’s common stock is currently selling for $90 per share. The firm expects
to pay cash dividends of $7 per share next year. The dividends have been growing at 6%. The
stock must be discounted by $7, and flotation costs are expected to amount to $5 per share.
Retained Earnings: The firm expects to have enough retained earnings in the coming year
to be used in place of any new stock being issued.
a. 19.75%
b. 14.97%
c. 12.25%
d. 13.22%

12.Which of the following statements regarding the cost of capital is (are) correct?
I. The weighted cost of capital is the discount rate used when computing the net present value.

II. The after-tax cost of capital is weighted by the proportions of the capital components in the
firm’s long-range target capital structure.

a. Only statement I is correct.

b. Only statement II is correct.
c. Both statements I and II are correct.
d. Neither statement I nor II is correct.

13. Which of the accounts listed is not part of a firm's working capital?
a. Plant and equipment
b. Marketable securities
 c. Cash
d. Accounts receivable

14. In examining the term structure of interest rates, the interest rates of __ have exceeded
short-term rates.
a. commercial paper
b. corporate bonds
c. notes payable
d. marketable securities

15. Mid-States Utility Company just issued a $3.20 cumulative preferred stock at a price to the
public of $30 a share. The flotation costs were $1.50 a share, and the issue will be retired in 20
years at its $30 par value. What is the cost of this preferred issue?

11.3%

16. Which of the following is not an alternative dividend policy?

a. Stable dollar
b. Passive residual
c. Constant earnings
d. Constant payout

17. Wellington Gas has a target capital structure of 50% common equity, 40% debt, and 10%
preferred stock. The cost of retained earnings is 16%, and the cost of new equity (external) is
16.7%. Wellington can sell debentures that will have an after-tax cost of 8.3% and the after-tax
cost of preferred stock will be 11.9%. What is the marginal cost of capital before and after the
break point?
a. 12.51% and 12.86%
b. 14.23% and 14.68%
c. 11.18% and 11.53%
d. 12.51% and 11.53%
18. Investors can form earnings growth expectations from various sources, including __.
a. potential sales growth
b. current earnings and retention rates
c. investors’ required rate of return
d. assumed product development
19. There are two primary ways that capital is raised. Which of the following statements is (are)
correct?
I. Capital is raised internally by using retained earnings.

II. Capital is raised externally by selling fixed assets.

a. Only statement I is correct.

b. Only statement II is correct.
 c. Both statements I and II are correct.
d. Neither statement I nor II is correct
20. The constant growth valuation model approach to calculating the cost of equity assumes
that __.
a. dividends are constant
b. earnings and dividends grow at a constant rate, but stock price growth is
indeterminate
c. the growth rate is greater than or equal to ke
d. earnings, dividends, and stock price will grow at a constant rate

21. The dividend __ states that investors will tend to be attracted to firms that have dividend
policies consistent with the investor's objectives.
a. signal
b. "clientele effect"
c. passive residual theory
d. "informational content

22. On the ex-dividend date, the __.

a. buyer has four business days to register his/her purchase
b. buyer of the stock is entitled to the dividend
c. seller of the stock is entitled to the dividend
d. corporation records all security owners

23. A passive residual dividend policy suggests that the firm will __.
a. pay the same percentage of earnings in dividends every year
b. pay a dividend only after all viable investment projects have been exhausted
c. pay the same dollar amount of dividends every year
d. omit a dividend in the next period
24. The cost of external equity is greater than the cost of internal equity because __.
a. it increases the market price of the stock
b. dividends are increased
c. it decreases the earnings per share
d. of the flotation costs

25. For firms subject to the 40% marginal tax rate, the after-tax cost of __ is roughly three-fifths
the cost of preferred stock.
a. retained earnings
b. new common stock
c. long-term debt
d. None of these are correct

27. Many __ contain provisions requiring firms to maintain a minimum net working capital
provision.
a. None of these are correct
 b. bond indentures
c. loan agreements with commercial banks and bond indentures
d. loan agreements with commercial bank
28. What is the cost of preferred stock for Foggy Futures Weather Forecasters? The firm is in the
40% tax bracket. The optimal capital structure is listed below:

Source of Capital Weight

Long-Term Debt 25%
Preferred Stock 20%
Common Stock 55%

Debt: The firm can issue $1,000 par value, 8% coupon interest bonds with a 20-year maturity
date. The bond has an average discount of $30 and flotation costs of $30 per bond. The selling
price is $1,000.
Preferred Stock: The firm can sell preferred stock with a dividend that is 8% of the
current price. The stock costs $95. The cost of issuing and selling the stock is expected to be $5
per share.
Common Stock: The firm’s common stock is currently selling for $90 per share. The firm expects
to pay cash dividends of $7 per share next year. The dividends have been growing at 6%. The
stock must be discounted by $7, and flotation costs are expected to amount to $5 per share.
Retained Earnings: The firm expects to have enough retained earnings in the coming year
to be used in place of any new stock being issued.
a. 8.44%
b. 4.9%
c. 7.88%
d. 11.55%

29. A firm’s working capital position is important from an internal and external standpoint.
Which of the following is not true?
a. Provisions for a minimum working capital position are often included in
restrictive covenants.
b. It measures a firm’s risk.
c. A working capital position determines its level of common stock sales.
d. A firm’s policy often affects its ability to obtain debt

30. The more frequent the compounding, the ___.

a. greater the amount deposited
b. lesser the future value
c. greater the effective interest rate
d. greater the present value
31. Operational plans are generally conducted at two levels. Which length of time is typically
considered long-term?
a. 5 years
b. 2 years
c. 10 years
d. 12-18 months

32. Laserscope has an inventory conversion period of 45 days, a receivables conversion period of
42 days, and a payables deferral period of 51 days. What is the length of its cash conversion
cycle?
a. 54 days
b. 36 days
c. cannot be determined from the information given
d. 48 days.

34. In order for a stock to qualify for inclusion on the "legal lists," a firm must __.
a. have a record of continuous and stable dividends
b. have 10 continuous profitable quarters
c. have assets in excess of $500,000
d. register with the Securities Exchange Commission (SEC)
35. __ financial planning models seek to maximize (or minimize) the value of some objective
function, such as profits (or costs).
a. Deterministic
b. Optimization
c. Probabilistic
d. None of these are correct

36. When preparing a cash budget, once a firm has estimated its cash receipts the firm must
____.
a. pay dividends to its stockholders
b. determine the desired cash balance
c. plan a pro forma statement
d. schedule disbursements

37. Cisco Systems wishes to analyze the joint impact of its working capital investment and
financing policies on shareholder return. The company has $24 million in fixed assets. Cisco
wishes to maintain a debt ratio of 40%. The company's tax rate is also 40%. The following
information was developed for the two policies under consideration (dollars in millions):

Aggressive

Conservative
Investment in current assets
$28

$34

Amount of short term debt

$16

$10

EBIT
$5.4

$5.8

Interest rate–LTD (%)

12.0

11.0

Interest rate–STD (%)

7.5

7.0

For the aggressive approach, Cisco's ROE is __ and for the conservative approach the ROE is __.

a. 4.18%; 3.77%
b. 11.62%; 10.48%
c. 6.97%; 6.29%
d. None of these are correct

Jackie plans to open her own bookstore in 10 years. To raise the "seed" money, she has
committed the $10,000 she now has in a mutual fund. In addition, she plans to save $2,000 per
year (end of year) for the next 5 years and $3,000 per year (end of year) for the following 5
years. How much "seed" money will Jackie have in 10 years if the investments earn 10 percent
per year compounded annually?
Answers:
a. $159,370
b. $63,925
c. $44,255
d. $76,129
Question 2
0 out of 0.5 points

What monthly rate of interest will yield an annual effective rate of interest of 14%?
Answers:
a. 1.14%
b. 1.17%
c. 1.10%
d. 1.08%
Question 3
0.5 out of 0.5 points

The relationship among interest rates of debt securities that differ in their length of time to
maturity is referred to as _____.
Answers:
a. both the term structure of interest rates and the investment opportunity curve
b. investment opportunity curve
c. term structure of interest rates
d. risk-return tradeoff function
Question 4
0.5 out of 0.5 points

Laserscope Inc. is trying to determine the best combination of short-term and long-term debt to
employ in financing its assets. Laserscope will have $16 million in current assets and $20 million
in fixed assets next year and expects operating income (EBIT) to be $4.1 million. The company's
tax rate is 40%, and its debt ratio is 50%. The firm's debt will be financed by one of the following
policies:

Amount of

Interest rate

Financing policy
Short-term debt

LTD (%)

STD(%)

Aggressive
$12
11.0

7.5

Conservative
6

10.3

7.0

What is the return on shareholder's equity under each policy?

Answers:
a. aggressive = 8.47% and conservative = 8.14%
b. aggressive = 7.67% and conservative = 8.81%
c. aggressive = 12.70% and conservative = 12.22%
d. aggressive = 4.23% and conservative = 4.07%
Question 5
0.5 out of 0.5 points

Five years after an accident, you received $100,000 to pay the medical expenses incurred at the
time of the accident. What is the present value (at the time of the accident) of the payment?
Assume interest rates are 9%.
Answers:
a. $65,000
b. $70,800
c. $68,100
d. $153,900
Question 6
0.5 out of 0.5 points

A firm’s working capital position is important since it _____.

Answers:
a. is much more in demand due to its scarcity.
b. is a measure of risk.
c. is a measure of efficiency.
d. reflects the amount of short-term liabilities that the firm must consider.
Question 7
0.5 out of 0.5 points
The historic beta of a firm is of little use as a forecast of the firm's future systematic risk
characteristics when the firm is ____.
Answers:
a. growing at a rate of 7-10 percent a year
b. expanding an existing product line
c. expanding into a new product line
d. All of these are correct
Question 8
0 out of 0.5 points

____ is the statistical technique that helps the analyst classify observations (firms) into two or
more predetermined groups based on certain characteristics of the observation.
Answers:
a. Deterministic analysis
b. Optimization
c. Discriminant analysis
d. Sensitivity analysis
Question 9
0.5 out of 0.5 points

The firm's receivables conversion period (measured in days) is equal to its accounts receivable
divided by its ____.
Answers:
a. annual credit sales/365
b. annual credit sales
c. annual sales/365
d. None of these are correct
Question 10
0.5 out of 0.5 points

What is the present value of $1,000 received 2 years from today if the nominal interest rate is
9% and compounded monthly?
Answers:
a. $833
b. $914
c. $836
d. $842
Question 11
0.5 out of 0.5 points

Mid-States Utility Company just issued a $3.20 cumulative preferred stock at a price to the
public of $30 a share. The flotation costs were $1.50 a share, and the issue will be retired in 20
years at its $30 par value. What is the cost of this preferred issue?
Answers:
a. 11.3%
b. 10.3%
c. 10.7%
d. 11.6%
Question 12
0.5 out of 0.5 points

Runners Ink, Inc. had sales last year of $700,000, and 35% of its sales are for cash, with the
remainder buying on terms of net 30 days. If the receivables conversion period is actually 38
days, what is Runners Ink's accounts receivable?
Answers:
a. $72,877
b. $25,507
c. $47,370
d. None of these are correct
Question 13
0.5 out of 0.5 points

What is the future value of a $10,000 college tuition fund if the nominal rate of interest is 12
percent compounded monthly for five years?
Answers:
a. $18,170
b. $16,122.26
c. $16,105.10
d. $17,623.42
Question 14
0.5 out of 0.5 points

Laserscope has an inventory conversion period of 45 days, a receivables conversion period of 42

days, and a payables deferral period of 51 days. What is the length of its cash conversion cycle?
Answers:
a. 36 days
b. 48 days
c. cannot be determined from the information given
d. 54 days
Question 15
0.5 out of 0.5 points

____ financial planning models seek to maximize (or minimize) the value of some objective
function, such as profits (or costs).
Answers:
a. Deterministic
b. Optimization
c. Probabilistic
d. None of these are correct
Question 16
0.5 out of 0.5 points

Heleveton Industries is 100% equity financed. Its current beta is 1.1. The expected market risk
premium is 8.5%, and the risk-free rate is 4.2%. If Heleveton changes its capital structure to 25%
debt, it estimates its beta will increase to 1.2. If the after-tax cost of debt will be 6%, should
Heleveton make the capital structure change?
Answers:
a. No, stock price would decrease due to increased risk
b. No, cost of capital increases by 0.85%
c. Yes, cost of capital decreases 1.67%
d. Yes, cost of capital decreases by 2.52%
Question 17
0.5 out of 0.5 points

Your grandparents put $1,000 into a savings account for you when you were born 20 years ago.
This account has been earning interest at a compound rate of 7 percent. What is its value today?
Answers:
a. $3,026
b. $1,967
c. $3,583
d. $3,870
Question 18
0.5 out of 0.5 points

The capital impairment restriction, a legal constraint on dividend payments, states that ____.
Answers:
a. dividends may not be paid out of stockholders' equity
b. only the current year's earnings may be used for dividend payments
c. a firm’s capital surplus can be used to make dividend payments
d. a firm's capital cannot be used to make dividend payments
Question 19
0.5 out of 0.5 points

Historic average capital costs are ____ making new (marginal) resource allocation decisions.
Answers:
a. not relevant for
b. very useful when
c. the relevant costs for
d. necessary for
Question 20
0.5 out of 0.5 points
Cash budgeting can be employed effectively by management to ___________.
Answers:
a. control retained earnings
b. aid them in capital budgeting
c. coordinate cash and deferred expenses
d. identify potential cash flow problems in advance
Question 21
0.5 out of 0.5 points

Retained earnings are a cheaper source of funds than the sale of new equity because ____.
Answers:
a. retention defers the payment of taxable dividends to shareholders
b. there are no flotation costs
c. new shares are usually priced below current market price
d. All of these are correct
Question 22
0.5 out of 0.5 points

The cost of common stock equity may be estimated by using which of the following?
Answers:
a. Dupont analysis
b. Capital asset pricing model
c. Price/Earnings ratio
d. Earnings curve
Question 23
0.5 out of 0.5 points

Pluega Inc. issued a $100 million 8.27% coupon debenture bond due in the next 20 years. The
bonds each sold for $996. If the bonds pay interest semi-annually, what is Pluega's after cash
cost of debt? Assume 40% tax rate.
Answers:
a. 4.96%
b. 4.99%
c. 8.30%
d. 3.32%
Question 24
0.5 out of 0.5 points

A firm's cash conversion cycle is equal to its operating cycle minus its ____.
Answers:
a. inventory conversion period
b. receivables conversion period
c. payables deferral period
d. None of these are correct
Question 25
0.5 out of 0.5 points

Lenders normally feel that the relative risk associated with short-term debt is ____ the risk
associated with long-term debt.
Answers:
a. lower than
b. equal to
c. higher than
d. twice
Question 26
0.5 out of 0.5 points

What is the weighted average cost of capital for Mud Bug Corporation?

Source of Capital

Capital Components

Cost

Long-Term Debt

$60,000

5.6%

Preferred Stock

$15,000

10.6%

Common Stock

$75,000

13.0%

Answers:
a. 9.8%
b. 8.5%
c. 10.2%
d. 6.9%
Question 27
0.5 out of 0.5 points

Zappin’ Skeeters Corporation needs to know its cost of retained earnings. Based on the
following information, compute the cost of retained earnings: The stock sells for $25, flotation
costs are $3, and the firm is in the 35% tax bracket.

Year

Dividend

2014

$1.55

2013

$1.40

2012

$1.35

2011

$1.32

Answers:
a. 12.56%
b. 15.71%
c. 9.11%
d. 10.72%
Question 28
0.5 out of 0.5 points

According to the ____ dividend policy, a firm that has more funds than it needs should pay a
cash dividend to shareholders.
Answers:
a. stable dollar
b. constant payout ratio
c. passive residual
d. reinvestment
Question 29
0.5 out of 0.5 points

Which of the following statements is true concerning companies that do not pay dividends?
Answers:
a. The cost of equity capital can be estimated using the Capital Asset Pricing Model.
b. The cost of equity capital is equal to the growth short-term rate of earnings per share.
c. The dividend capitalization model can be used to determine an accurate cost of equity capital.
d. None of these are correct
Question 30
0.5 out of 0.5 points

Whipple Industries Inc. is in the process of determining its optimal capital budget for next year.
The following investment projects are under consideration:

Required

Expected Rate

Project

Investment

of Return

$2 million

20.0%

$3 million

15.0%

$1 million

13.5%

D
$4 million

13.0%

$1 million

12.5%

$3 million

12.0%

$5 million

11.5%

The firm's marginal cost of capital schedule is as follows:

Amount of
Funds Raised
Cost

$0 - $6 million
12.0%

$6 million - $12 million

12.5%

$12 million - $18 million

13.5%

Over $18 million

15.0%
Determine Whipple's optimal capital budget (in dollars) for the coming year.

Answers:
a. $11 million
b. $14 million
c. $10 million
d. $5 million
Question 31
0.5 out of 0.5 points

Computerized financial planning models may be classified as any of the following EXCEPT _____.
Answers:
a. deterministic
b. optimistic
c. probabilistic
d. None of these are correct
Question 32
0.5 out of 0.5 points

Determine the weighted cost of capital for the Mills Company that will finance its optimal capital
budget with $120 million of long-term debt (k d = 12.5%) and $180 million in retained earnings
(k e = 16.0%). Mills' present capital structure is considered optimal. The company's marginal tax
rate is 40%. (Compute answer to nearest 0.1%.)
Answers:
a. 11.9%
b. 14.6%
c. 12.6%
d. 14.3%
Question 33
0.5 out of 0.5 points

In examining the term structure of interest rates, the interest rates of ____ have exceeded
short-term rates.
Answers:
a. commercial paper
b. notes payable
c. corporate bonds
d. marketable securities
Question 34
0.5 out of 0.5 points
Bay State Technology has determined that its cost of equity is 15% and its after-tax cost of debt
is 7.2%. Bay State expects to earn $14 million after taxes next year and, as a new firm, does not
pay any dividends. The stock sells for $24. Bonds are currently selling at par value. Compute Bay
State's weighted cost of capital. A partial balance sheet is shown below:

Current liabilities
$ 300,000

Long-term debt
$1,000,000

Common stock at $1 par

$100,000

Paid in capital
$900,000

Retained earnings
$3,000,000

Total liabilities and stockholders' equity

$5,300,000

Answers:
a. 13.4%
b. 11.6%
c. 13.1%
d. 12.7%
Question 35
0.5 out of 0.5 points

Getrag expects its sales to increase 20% next year from its current level of $4.7 million. Getrag
has current assets of $660,000, net fixed assets of $1.5 million, and current liabilities of
$462,000. All assets are expected to grow proportionately with sales. If Getrag has a net profit
margin of 10%, what additional financing will be needed to support the increase in sales? Getrag
does not pay dividends.
Answers:
a. $283,200
b. No financing needed, surplus of $224,400
c. $339,600
d. No financing needed, surplus of $524,400
Question 36
0.5 out of 0.5 points
Peerless believes that its sales next year will increase 20 percent from the current level of
$800,000. Management calculates that assets must increase $110,000 to support the new sales
level, and current liabilities will increase $70,000. What total financing will be needed?
Answers:
a. $1,600
b. $33,600
c. $8,000
d. $40,000
Question 37
0.5 out of 0.5 points

The financial plan that is a “blueprint” detailing where the firm wants to be at some future point
in time is the ___________.
Answers:
a. FASB Plan
b. Operational Plan
c. Strategic Plan
d. Executive Manifest
Question 38
0.5 out of 0.5 points

Tefft Industries has an average inventory of $170,000, sells on terms of 2/10, net 30, and its cost
of sales is $540,000. What is Tefft's inventory conversion period?
Answers:
a. 105 days
b. cannot be determined from the data given
c. 85 days
d. 115 days
Question 39
0.5 out of 0.5 points

Sherwood Packing had sales of $3.2 million and a gross profit margin of 35% last year. If
Sherwood's inventory averaged $0.4 million last year, what was the length of the inventory
conversion period?
Answers:
a. 130.4 days
b. 70.2 days
c. 45.6 days
d. 195.5 days
Question 40
0.5 out of 0.5 points

Computerized financial planning models may be classified as any of the following EXCEPT
____________.
Answers:
a. deterministic
b. optimistic
c. probabilistic
d. None of these are correct