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1. Which of the following sources of information used by analysts is found outside a company’s annual report?
• unqualified.
• monthly.
• unaudited.
• notes to the financial statements.
4. Which of the following best describes why the notes that accompany the financial statements are required? The notes:
5. Information about a company’s objectives, strategies, and significant risks would most likely be found in the:
6. Information about management and director compensation would least likely be found in the:
• proxy statement.
• notes to the financial statements.
• auditor’s report.
• sources of cash flow.
7. Accounting policies, methods, and estimates used in preparing financial statements are most likely found in the:
• management commentary.
• auditor’s report.
• notes to the financial statements.
• balance sheet.
10. The financial statement that presents a shareholder’s residual claim on assets is the:
11. A company’s profitability for a period would best be evaluated using the:
12. A company’s current financial position would best be evaluated using the:
• income statement.
• statement of cash flows
• balance sheet.
• None of them
• None of them
• providing information useful for making investment decisions.
• evaluating a company for the purpose of making economic decisions.
• using financial reports prepared by analysts to make economic decisions.
14. Which of the following best describes the role of financial statement analysis?
Providing information about the performance and financial position of companies so that users can make economic decisions best
15. describes the role of:
• auditing.
• financial statement analysis.
• financial reporting.
• Income Statement
16. Which of the following statements about financial statements and reporting standards is least accurate?
• Financial statements could potentially take any form if reporting standards did not exist.
• Reporting standards focus mostly on format and presentation and allow management wide latitude in assumptions.
• Reporting standards focus mostly on format and presentation and allow management wide latitude in assumptions.
• May contain information regarding contingent losses
17. An analyst can find a company’s accounting policies that require significant judgement or estimates in:
An analyst who wants to examine a firm’s financing transactions during the most recent period is most likely to evaluate the firm’s
18. statement of:
• Financial position
• comprehensive income
• Cash flows
• balance sheet
19. Which of the following is least likely to be considered a role of financial statement analysis?
20. Which of the following statements regarding footnotes to the financial statements is least accurate? Financial statement footnotes:
21. Which of the following statements about company analysis is most accurate?
• None of them
• The complexity of spreadsheet modeling ensures precise forecasts of financial statements.
The corporate profile would include a description of the company’s business, investment activities, governance, and strengths and
• weaknesses.
• The interpretation of financial ratios should focus on comparing the company’s results over time but not with competitors.
22. When conducting a company analysis, the analysis of demand for a company’s product is least likely to consider the:
23. With respect to competitive strategy, a company with a successful cost leadership strategy is most likely characterized by:
24. Which of the following industries is most likely to be characterized as concentrated with strong pricing power?
25. Economic value is created for an industry’s shareholders when the industry earns a return:
• None of them
• Short lead time to build new plants
• High degree of concentration
• High barriers to entry
28. When graphically depicting the life- cycle model for an industry as a curve, the variables on the axes are:
29. In which of the following life- cycle phases are price wars most likely to be absent?
• Decline.
• Decrease
• Growth.
• Mature.
30. If the technology for an industry involves high fixed capital investment, then one way to seek higher profit growth is by pursuing:
• diseconomies of scale.
• removal of features that differentiate the product or service provided
• economies of scale.
• None of them
31. A population that is rapidly aging would most likely cause the growth rate of the industry producing eye glasses and contact lenses to:
• decrease.
• stable and decrease
• increase.
• not change.
32. Which factor is most likely associated with stable market share?
33. An industry that most likely has both high barriers to entry and high barriers to exit is the:
• restaurant industry.
• advertising industry.
• automobile industry.
• coffee shop industry.
34. When selecting companies for inclusion in a peer group, a company operating in three different business segments would:
35. With regard to forming a company’s peer group, which of the following statements is not correct?
• Comments from the management of the company about competitors are generally not used when selecting the peer group.
The higher the proportion of revenue and operating profit of the peer company derived from business activities similar to the subject
• company, the more meaningful the comparison.
• None of them
Comparing the company’s performance measures with those for a potential peer- group company is of limited value when the
• companies are exposed to different stages of the business cycle.
36. Which of the following statements about peer groups is most accurate?
37. A company that is sensitive to the business cycle would most likely:
• aim to develop extremely precise forecasts using the results of financial analysis.
• None of them
• develop possibilities relying exclusively on the results of financial analysis.
• use the results of financial analysis, analysis of other information, and judgment.
41. A creditor most likely would consider a decrease in which of the following ratios to be positive news?
• Debt-to-total assets.
• ROE
• Interest coverage (times interest earned).
• Return on assets.
43. Assuming no changes in other variables, which of the following would decrease ROA?
Brown Corporation had average days of sales outstanding of 19 days in the most recent fiscal year. Brown wants to improve its credit
policies and collection practices and decrease its collection period in the next fiscal year to match the industry average of 15 days. Credit
44. sales in the most recent fiscal year were $300 million, and Brown expects credit sales to increase to $390 million in the next fiscal year.
To achieve Brown’s goal of decreasing the collection period, the change in the average accounts receivable balance that must occur is
closest to:
• $0.41 million
• 1.22 million
• ($0.41 million)
• (1.22 million)
45. Which of the following would best explain an increase in receivables turnover?
Due to problems with an error in its old credit scoring system, the company had accumulated a substantial amount of uncollectible
• accounts and wrote off a large amount of its receivables.
To match the terms offered by its closest competitor, the company adopted new payment terms now requiring net payment within 30
• days rather than 15 days, which had been its previous requirement.
• None of them
• The company adopted new credit policies last year and began offering credit to customers with weak credit histories.
46. An analyst observes a decrease in a company’s inventory turnover. Which of the following would most likely explain this trend?
The company installed a new inventory management system but experienced some operational difficulties resulting in duplicate orders
• being placed with suppliers.
Due to problems with obsolescent inventory last year, the company wrote off a large amount of its inventory at the beginning of the
• period.
• None of them
• The company installed a new inventory management system, allowing more efficient inventory management.
47. Which of the following ratios would be most useful in determining a company’s ability to cover its lease and interest payments?
• total liability
• Total asset turnover.
• ROA.
• Fixed charge coverage.
48. Which ratio would a company most likely use to measure its ability to meet short-term obligations?
• cost of capital
• Payables turnover.
• Gross profit margin.
• Current ratio
49. In order to assess a company’s ability to fulfill its long-term obligations, an analyst would most likely examine:
• solvency ratios.
• liquidity ratios.
• activity ratios.
• probability
50. Comparison of a company’s financial results to other peer companies for the same time period is called:
• time-series analysis.
• initial analysis.
• cross-sectional analysis.
• technical analysis.
51. .
Company A’s ROE is higher than Company B’s in FY15, and one explanation consistent with the data is that Company A has made a
• strategic shift to a product mix with higher profit margins.
Company A’s ROE is higher than Company B’s in FY15, and one explanation consistent with the data is that Company A may have
• purchased new, more efficient equipment.
The difference between the two companies’ ROE in FY15 is very small and Company A’s ROE remains similar to Company B’s ROE
• mainly due to Company A increasing its financial leverage.
• None of the above
52. .
53. .
• net profit margin and financial leverage have decreased.
• net profit margin and financial leverage have increased.
• net profit margin and increased but leverage have decreased.
• net profit margin has decreased but its financial leverage has increased.
The data in table below appear in the five-year summary of a major international company.
54. A business combination with another major manufacturer took place in FY13.
Which of the following choices best describes reasonable conclusions an analyst might make about the company’s profitability?
The data in table below appear in the five-year summary of a major international company.
55. A business combination with another major manufacturer took place in FY13.
Which of the following choices best describes reasonable conclusions an analyst might make about the company’s liquidity?
• Comparing FY14 with FY10, the company’s liquidity improved, as indicated by an increase in its current ratio from 0.71 to 0.75.
• Comparing FY14 with FY10, the company’s liquidity deteriorated, as indicated by a decrease in interest coverage from 10.6 to 8.4.
• Comparing FY14 with FY10, the company’s liquidity improved, as indicated by an increase in its debt-to- assets ratio from 0.14 to 0.27.
• Comparing FY14 with FY10, the company’s liquidity deteriorated, as indicated by a decrease in interest coverage from 8.2 to 6.3.
The data in table below appear in the five-year summary of a major international company.
56. A business combination with another major manufacturer took place in FY13.
Which of the following choices best describes reasonable conclusions an analyst might make about the company’s solvency?
• Comparing FY14 with FY10, the company’s solvency improved, as indicated by an increase in its debt-to-assets ratio from 0.14 to 0.27.
• Comparing FY14 with FY10, the company’s solvency deteriorated, as indicated by a decrease in interest coverage from 10.6 to 8.4.
• Comparing FY14 with FY10, the company’s solvency improved, as indicated by the growth in its profits to GBP 645 million.
• None of the above
The data in table below appear in the five-year summary of a major international company.
A business combination with another major manufacturer took place in FY13.
57.
The company’s total assets at year-end FY9 were GBP 3,500 million. Which of the following choices best describes reasonable
conclusions an analyst might make about the company’s efficiency?
• Comparing FY14 with FY10, the company’s efficiency deteriorated due to asset growth faster than turnover revenue growth.
Comparing FY14 with FY10, the company’s efficiency improved, as indicated by a total asset turnover ratio of 0.86 compared with
• 0.64.
• Comparing FY14 with FY10, the company’s efficiency deteriorated, as indicated by its current ratio.
Comparing FY13 with FY11, the company’s efficiency improved, as indicated by a total asset turnover ratio of 0.64 compared with
• 0.86.
58. .
59. .
• The decline in the company’s equity results from a decline in the market value of this company’s common shares.
• The €250 increase in the company’s debt from FY3 to FY5 indicates that lenders are viewing the company as increasingly creditworthy.
The decline in the company’s equity indicates that the company may be incurring losses, paying dividends greater than income, and/or
• repurchasing shares.
• The decline in the company’s equity results from an increase in the total debt.
60. .
• The company is becoming more liquid, as evidenced by the increase in its debt-to-equity ratio from 0.35 to 0.50 from FY3 to FY5.
The company is becoming increasingly less solvent, as evidenced by the increase in its debt-to-equity ratio from 0.35 to 0.50 from FY3
• to FY5.
• The company is becoming less liquid, as evidenced by the increase in its debt-to-equity ratio from 0.35 to 0.50 from FY3 to FY5.
The company is becoming increasingly more liquid, as evidenced by the increase in its debt-to-equity ratio from 0.35 to 0.50 from FY3
•
to FY5.
61. .
62. .
• includes $4 million in other comprehensive income.
• is $18 million.
• is increased by the derivatives accounted for as hedges.
• is $22 million.
63. When preparing an income statement, which of the following items would most likely be classified as other comprehensive income?
• allows an analyst to conduct cross- sectional analysis by removing the effect of company size.
• None of them
• standardizes each line item of the income statement but fails to help an analyst identify differences in companies’ strategies.
• restates each line item of the income statement as a percentage of net income.
When calculating diluted EPS, which of the following securities in the capital structure increases the weighted average number of
65. common shares outstanding without affecting net income available to common shareholders?
For its fiscal year- end, Sublyme Corporation reported net income of $200 million and a weighted average of 50,000,000 common
66. shares outstanding. There are 2,000,000 convertible preferred shares outstanding that paid an annual dividend of $5. Each preferred
share is convertible into two shares of the common stock. The diluted EPS is closest to:
• $3.75.
• $3.52.
• $3.65.
• $3.70.
Cell Services Inc. (CSI) had 1,000,000 average shares outstanding during all of 2009. During 2009, CSI also had 10,000 options
67. outstanding with exercise prices of $10 each. The average stock price of CSI during 2009 was $15. For purposes of computing diluted
earnings per share, how many shares would be used in the denominator?
• 1006667
• 1020000
• 1003333
• 1010000
Laurelli Builders (LB) reported the following financial data for year- end 31 December: Common shares outstanding, 1 January
2,020,000 ; Common shares issued as stock dividend, 1 June 380,000 ; Warrants outstanding, 1 January 500,000; Net income
68. $3,350,000; Preferred stock dividends paid $430,000 ; Common stock dividends paid $240,000 …. Which statement about the
calculation of LB’s EPS is most accurate?
A company with no debt or convertible securities issued publicly traded common stock three times during the current fiscal year. Under
69. both IFRS and US GAAP, the company’s:
For its fiscal year- end, Calvan Water Corporation (CWC) reported net income of $12 million and a weighted average of 2,000,000
70. common shares outstanding. The company paid $800,000 in preferred dividends and had 100,000 options outstanding with an average
exercise price of $20. CWC’s market price over the year averaged $25 per share. CWC’s diluted EPS is closest to:
• $5.94.
• $5.54.
• $5.44.
• $5.33.
For 2009, Flamingo Products had net income of $1,000,000. At 1 January 2009, there were 1,000,000 shares outstanding. On 1 July
71. 2009, the company issued 100,000 new shares for $20 per share. The company paid $200,000 in dividends to common shareholders.
What is Flamingo’s basic earnings per share for 2009?
• $0.95.
• $0.91.
• $0.80.
• $0.82.
A company chooses to change an accounting policy. This change requires that, if practical, the company restate its financial statements
72. for:
• future periods
• current and future periods.
• all prior periods
• prior periods shown in a report.
Apex Consignment sells items over the internet for individuals on a consignment basis. Apex receives the items from the owner, lists
them for sale on the internet, and receives a 25 percent commission for any items sold. Apex collects the full amount from the buyer and
73. pays the net amount after commission to the owner. Unsold items are returned to the owner after 90 days. During 2009, Apex had the
following information: Total sales price of items sold during 2009 on consignment was €2,000,000. ● Total commissions retained by
Apex during 2009 for these items was €500,000. How much revenue should Apex report on its 2009 income statement?
• 2000000
• 1500000
• 500000
• 1000000
Fairplay had the following information related to the sale of its products during 2009, which was its first year of business: Revenue
74. $1,000,000; Returns of goods sold $100,000; Cash collected $800,000;Cost of goods sold $700,000; Under the accrual basis of
accounting, how much net revenue would be reported on Fairplay’s 2009 income statement?
• 200000
• 500000
• 900000
• 1000000
Denali Limited, a manufacturing company, had the following income statement information: Revenue $4,000,000 ; Cost of goods sold
76. $3,000,000; Other operating expenses $500,000; Interest expense $100,000; Tax expense $120,000; Denali’s gross profit is equal to:
• 1000000
• 320000
• 500000
• 280000
• tax expense.
• income statement.
• interest expense.
• cost of goods sold.
• None of them
• function, but not by nature.
• nature, but not by function.
• either function or nature.
79. An analyst reviewing a firm with a large, current-period restructuring charge to earnings should:
Which of the following would most likely signal that a company may be using aggressive accrual accounting policies to shift current
80. expenses to later periods? Over the last five-year period, the ratio of cash flow to net income has:
Which of the following is an indication that a company may be recognizing revenue prematurely? Relative to its competitors, the
81. company’s:
82. Which technique most likely increases the cash flow provided by operations?
84. A company wishing to increase earnings in the current period may choose to:
85. An audit opinion of a company’s financial reports is most likely intended to:
86. Which of the following best describes an opportunity for management to issue low-quality financial reports?
• Opportunity
• Pressure to achieve some performance level
• Ineffective board of directors
• Corporate concerns about financing in the future
87. Which of the following situations will most likely motivate managers to inflate earnings in the current period?
88. Which of the following situations represents a motivation, rather than an opportunity, to issue low-quality financial reports?
A company is experiencing a period of strong financial performance. In order to increase the likelihood of exceeding analysts’ earnings
89. forecasts in the next reporting period, the company would most likely undertake accounting choices that:
• Opportunity
• inflate reported revenue in the current period.
• delay expense recognition in the current period.
• accelerate expense recognition in the current period.
Which of the following conditions best explains why a company’s manager would obtain legal, accounting, and board level approval
90. prior to issuing low-quality financial reports?
• Motivation
• high earnings quality.
• Opportunity
• Rationalization
Which of the following statements most likely describes a situation that would motivate a manager to issue low-quality financial
91. reports?
• The manager has brought the company’s profitability to a level higher than competitors
• The manager has increased the market share of products significantly.
• earnings smoothing.
• The manager’s compensation is tied to stock price performance.
92. Which of the following is most likely to reflect conservative accounting choices?
• earnings smoothing.
• high earnings quality.
• understatement of asset impairment.
• low earnings quality.
94. When earnings are increased by deferring research and development (R&D)
• balance sheet
• non-compliant accounting.
• earnings management as a result of a real action.
• earnings management as a result of an accounting choice.
96. Earnings that result from non-recurring activities most likely indicate:
99. The information provided by a low-quality financial report will most likely:
• indicate earnings are not sustainable.
• decrease company value.
• adequate return on investment.
• impede the assessment of earnings quality.
100. In contrast to earnings quality, financial reporting quality most likely pertains to:
• sustainable earnings.
• other earnings
• relevant information.
• adequate return on investment.
101. Antidilutive securities should be assumed to have bee converted to common when calculating:
CXW, Inc. has issued 9,986 warrants, which were outstanding for the entire year, with an exercise price of $38. Each warrant is
convertible into 1 share of common. The average market price of CXW’s common stock for the year is $52.00 per share and its price at
102. the end of the year is $45.00 per share. In the calculation of CXW’s diluted earnings per share, how many new shares would
theoretically need to be issued to facilitate warrant conversion?
• 8.578
• 8.433
• 9.986
• 2.689
Last year, the AKB Company had net income equal to $5 million. Combined state and local taxes were 45%. The firm paid $1 million to
103. holders of its 1 million shares and $250,000 to 100,000 preferred shareholders. What was AKB’s earning per share (EPS) last year?
• 3.75
• 2.25
• 4.75
• 2.50
The ZZT Company went public on June 1, 2018, by issuing 25 million shares of common stock. In 2019, the firm additional capital by
104. issuing 2 million shares of preferred stock. What is the weighted average number shares outstanding for the year ending December
31,2019?
• 14.583.333
• 25.000.000
• 9.877.777
• 10.416.667
105. Do gains and losses, as well as expenses appear on the income statement?
The SSP Company had 5 million shares outstanding on January 1. On February 15 the board of directors approved a 3:2 stock split,
106. effective April1. What is the weighted average number of shares outstanding for the SSP Company for year-end?
• 5,875,000 shares
• 8,500,000 shares
• 7,625,000 shares
• 7,500,000 shares
107. Which of the following statements is CORRECT regarding the reporting of earnings per share (EPS)?
• The EPS when antidilutive securities are converted into share of common stock is less than basic EPS
• None of them
• Diluted EPS must be less than or equal to basic EPS.
• Basic EPS can be less than diluted EPS.
108. For a firm with a simple structure, all the following are necessary to measure basing earnings per share (EPS) EXCEPT:
109. .
• First Bank.
• All of the above
• Pioneer Trust.
• Prime Bank.
110. .
• Alpha has the lower trailing P/E multiple and higher current estimated P/E multiple.
• Delta has the higher trailing P/E multiple and lower current estimated P/E multiple.
• Alpha has the higher trailing P/E multiple and lower current estimated P/E multiple.
• Alpha has the higher trailing P/E multiple and higher current estimated P/E multiple.
111. .
• fairly valued.
• not valued.
• overvalued.
• undervalued.
112. .
• fairly valued.
• undervalued.
• not valued
• overvalued.
113. Which of the following is most likely considered a weakness of present value models?
• None of them
• Present value models cannot be used for companies that do not pay dividends.
The value of the security depends on the investor’s holding period; thus, comparing valuations of different companies for different
• investors is difficult.
• Small changes in model assumptions and inputs can result in large changes in the computed intrinsic value of the security.
114. Which type of equity valuation model is most likely to be preferable when one is comparing similar companies?
115. A disadvantage of the EV method for valuing equity is that the following information may be difficult to obtain:
• Operating income.
• Market value of debt.
• ROE
• Market value of equity.
116. Which of the following is most likely a reason for using asset- based valuation?
117. Asset- based valuation models are best suited to companies where the capital structure does not have a high proportion of:
• debt.
• time horizons.
• intangible assets.
• current assets and liabilities.
Enterprise value is most often determined as market capitalization of common equity and preferred stock minus the value of cash
118. equivalents plus the:
• historical information.
• market value of long- term debt.
• book value of debt.
• market value of debt.
An analyst has determined that the appropriate EV/EBITDA for Rainbow Company is 10.2. The analyst has also collected the following
119. forecasted information for Rainbow Company: EBITDA = $22,000,000; Market value of debt = $56,000,000; Cash = $1,500,000; The
value of equity for Rainbow Company is closest to:
• $169 million.
• $189 million.
• $224 million.
• $281 million.
120. Which of the following statements regarding the calculation of the enterprise value multiple is most likely correct?
• balance sheet
• EBITDA may not be used if company earnings are negative.
• Book value of debt may be used instead of market value of debt.
• Operating income may be used instead of EBITDA.
121. The market value of equity for a company can be calculated as enterprise value:
• plus market value of debt and preferred stock minus short- term investments.
• one- stage dividend discount model.
• minus market value of debt and preferred stock plus short- term investments.
• minus market value of debt, preferred stock, and short- term investments.
An analyst has gathered the following information for the Oudin Corporation: Expected earnings per share = 5.70; Expected dividends
122. per share = €2.70 ; Dividends are expected to grow at 2.75 percent per year indefinitely The required rate of return is 8.35 percent;
Based on the information provided, the price/earnings multiple for Oudin is closest to:
• 9.40
• 4.60
• 8.50
• 5.70
An analyst makes the following statement: “Use of P/E and other multiples for analysis is not effective because the multiples are based
123. on historical data and because not all companies have positive accounting earnings.” The analyst’s statement is most likely:
• accurate with respect to historical data and inaccurate with respect to earnings.
• inaccurate with respect to historical data and accurate with respect to earnings.
• None of them
• inaccurate with respect to both historical data and earnings.
The primary difference between P/E multiples based on comparables and P/E multiples based on fundamentals is that fundamentals-
124. based P/Es take into account:
• historical information.
• required rate of return.
• the law of one price.
• future expectations.
125. A price earnings ratio that is derived from the Gordon growth model is inversely related to the:
• growth rate.
• required rate of return.
• dividend payout ratio.
• two- stage dividend discount model.
An equity analyst has been asked to estimate the intrinsic value of the common stock of Omega Corporation, a leading manufacturer of
126. automobile seats. Omega is in a mature industry, and both its earnings and dividends are expected to grow at a rate of 3 percent
annually. Which of the following is most likely to be the best model for determining the intrinsic value of an Omega share?
127. The best model to use when valuing a young dividend- paying company that is just entering the growth phase is most likely the:
128. The Gordon growth model can be used to value dividend- paying companies that are:
Hideki Corporation has just paid a dividend of ¥450 per share. Annual dividends are expected to grow at the rate of 4 percent per year
129. over the next four years. At the end of four years, shares of Hideki Corporation are expected to sell for ¥9000. If the required rate of
return is 12 percent, the intrinsic value of a share of Hideki Corporation is closest to:
• ¥7,670.
• ¥6,850
• ¥7,220.
• ¥5,850
An analyst is attempting to value shares of the Dominion Company. The company has just paid a dividend of $0.58 per share. Dividends
130. are expected to grow by 20 percent next year and 15 percent the year after that. From the third year onward, dividends are expected to
grow at 5.6 percent per year indefinitely. If the required rate of return is 8.3 percent, the intrinsic value of the stock is closest to:
• $27.00.
• $26.00.
• $28.00.
• $25.00.
An investor is considering the purchase of a common stock with a $2.00 annual dividend. The dividend is expected to grow at a rate of 4
131. percent annually. If the investor’s required rate of return is 7 percent, the intrinsic value of the stock is closest to:
• $50.00.
• $66.67.
• $70.00.
• $69.33.
The Beasley Corporation has just paid a dividend of $1.75 per share. If the required rate of return is 12.3 percent per year and dividends
132. are expected to grow indefinitely at a constant rate of 9.2 percent per year, the intrinsic value of Beasley Corporation stock is closest to:
• $56.45.
• $15.54.
• $61.65.
• $35.54.
Two analysts estimating the value of a non- convertible, non- callable, perpetual preferred stock with a constant dividend arrive at
133. different estimated values. The most likely reason for the difference is that the analysts used different:
A Canadian life insurance company has an issue of 4.80 percent, $25 par value, perpetual, non- convertible, non- callable preferred
134. shares outstanding. The required rate of return on similar issues is 4.49 percent. The intrinsic value of a preferred share is closest to:
• $26.75.
• $26.50.
• $28.50.
• $25.00.
135. With respect to present value models, which of the following statements is most accurate?
• Present value models can be used only if a stock pays a dividend or is expected to pay a dividend.
• None of them
Present value models can be used for stocks that currently pay a dividend, are expected to pay a dividend, or are not expected to pay a
• dividend.
• Present value models can be used only if a stock pays a dividend.
136. In the free cash flow to equity (FCFE) model, the intrinsic value of a share of stock is calculated as:
• the present value of future expected FCFE minus fixed capital investment.
• the present value of future expected FCFE plus net borrowing.
• None of them
• the present value of future expected FCFE.
An investor expects to purchase shares of common stock today and sell them after two years. The investor has estimated dividends for
137. the next two years, D1 and D2, and the selling price of the stock two years from now, P2. According to the dividend discount model, the
intrinsic value of the stock today is the present value of:
An analyst who bases the calculation of intrinsic value on dividend- paying capacity rather than expected dividends will most likely use
138. the:
• a multiplier model.
• None of them
• a discounted cash flow model.
• an asset- based valuation model.
• a multiplier model.
• an asset- based valuation model.
• Price to free cash flow.
• a present value model.
141. Which of the following is most likely used in a present value model?
• income statement.
• Enterprise value.
• Free cash flow to equity.
• Price to free cash flow.
142. In asset- based valuation models, the intrinsic value of a common share of stock is based on the:
143. An analyst determines the intrinsic value of an equity security to be equal to $55. If the current price is $47, the equity is most likely:
• undervalued.
• None of them
• fairly valued.
• overvalued.
An analyst estimates the intrinsic value of a stock to be in the range of €17.85 to €21.45. The current market price of the stock is €24.35.
144. This stock is most likely:
• None of them
• undervalued.
• fairly valued.
• overvalued.
An analyst has gathered the following information for the Baku Corporation: Expected earnings per share = 7.70; Expected dividends
145. per share = €3.50 ; Dividends are expected to grow at 3.20 percent per year indefinitely The required rate of return is 8.75 percent;
Based on the information provided, the price/earnings multiple for Baku is closest to:
• 9.42
• 7.78
• 8.19
• 8.35
Hasan Corporation has just paid a dividend of $540 per share. Annual dividends are expected to grow at the rate of 5 percent per year
146. over the next four years. At the end of four years, shares of Hideki Corporation are expected to sell for $8000. If the required rate of
return is 15 percent, the intrinsic value of a share of Hasan Corporation is closest to:
• 6221
• 5850
• 6303
• 6103
An investor is considering the purchase of a common stock with a $22.00 annual dividend. The dividend is expected to grow at a rate of
147. 5 percent annually. If the investor’s required rate of return is 9 percent, the intrinsic value of the stock is closest to:
• 500
• 577.50
• 569.50
• 666.67
The Eric Corporation has just paid a dividend of $3.25 per share. If the required rate of return is 17.6 percent per year and dividends are
148. expected to grow indefinitely at a constant rate of 8.7 percent per year, the intrinsic value of Eric Corporation stock is closest to:
• 15.54
• 31.65
• 56.45
• 39.69
A French life insurance company has an issue of 7.60 percent, $35 par value, perpetual, non- convertible, non- callable preferred shares
149. outstanding. The required rate of return on similar issues is 8.49 percent. The intrinsic value of a preferred share is closest to:
• $26.75.
• $25.00.
• $31.35.
• 30.25
Ryan Leigh is preparing a presentation that analyzes the valuation of the common stock of two companies under consideration as
additions to his firm’s recommended list, Emerald Corporation and Holt Corporation. Leigh has prepared preliminary valuations of both
companies using a FCFE model and is also preparing a value estimate for Emerald using a dividend discount model. Holt’s 2007 and
2008 financial statements, contained in Exhibits 1 and 2, are prepared in accordance with US GAAP. Yandie Izzo manages a dividend
growth strategy for a large asset management firm. Izzo meets with her investment team to discuss potential investments in three
companies: Company A, Company B, and Company C. Statements of cash flow for the three companies are presented in below table.
Leigh presents his valuations of the common stock of Emerald and Holt to his supervisor, Alice Smith. Smith has the following
questions and comments:
1. “I estimate that Emerald’s long- term expected dividend payout rate is 20 percent and its return on equity is 10 percent over the long
term.”
2. “Why did you use a FCFE model to value Holt’s common stock? Can you use a DDM instead?”
3. “How did Holt’s FCFE for 2008 compare with its FCFF for the same year? I recommend you use a FCFF model to value Holt’s
150. common stock instead of using a FCFE model because Holt has had a history of leverage changes in the past.”
4. “In the last three years, about 5 percent of Holt’s growth in FCFE has come from decreases in inventory.”
Leigh responds to each of Smith’s points as follows:
1. “I will use your estimates and calculate Emerald’s long- term, sustainable dividend growth rate.”
2. “There are two reasons why I used the FCFE model to value Holt’s common stock instead of using a DDM. The first reason is that
Holt’s dividends have differed significantly from its capacity to pay dividends. The second reason is that Holt is a takeover target and
once the company is taken over, the new owners will have discretion over the uses of free cash flow.”
3. “I will calculate Holt’s FCFF for 2008 and estimate the value of Holt’s common stock using a FCFF model.”
4. “Holt is a growing company. In forecasting either Holt’s FCFE or FCFF growth rates, I will not consider decreases in inventory to be
a long- term source of growth.”
Smith’s recommendation to use a FCFF model to value Holt is:
not logical because FCFE represents a more direct approach to free cash
• flow valuation.
• not logical given the prospect of Holt changing capital structure.
• not logical because a FCFF model is used only to value the total firm.
• logical, given the prospect of Holt changing capital structure.
Ryan Leigh is preparing a presentation that analyzes the valuation of the common stock of two companies under consideration as
additions to his firm’s recommended list, Emerald Corporation and Holt Corporation. Leigh has prepared preliminary valuations of both
companies using a FCFE model and is also preparing a value estimate for Emerald using a dividend discount model. Holt’s 2007 and
2008 financial statements, contained in Exhibits 1 and 2, are prepared in accordance with US GAAP. Yandie Izzo manages a dividend
growth strategy for a large asset management firm. Izzo meets with her investment team to discuss potential investments in three
companies: Company A, Company B, and Company C. Statements of cash flow for the three companies are presented in below table.
Leigh presents his valuations of the common stock of Emerald and Holt to his supervisor, Alice Smith. Smith has the following
questions and comments:
1. “I estimate that Emerald’s long- term expected dividend payout rate is 20 percent and its return on equity is 10 percent over the long
term.”
2. “Why did you use a FCFE model to value Holt’s common stock? Can you use a DDM instead?”
3. “How did Holt’s FCFE for 2008 compare with its FCFF for the same year? I recommend you use a FCFF model to value Holt’s
151. common stock instead of using a FCFE model because Holt has had a history of leverage changes in the past.”
4. “In the last three years, about 5 percent of Holt’s growth in FCFE has come from decreases in inventory.”
Leigh responds to each of Smith’s points as follows:
1. “I will use your estimates and calculate Emerald’s long- term, sustainable dividend growth rate.”
2. “There are two reasons why I used the FCFE model to value Holt’s common stock instead of using a DDM. The first reason is that
Holt’s dividends have differed significantly from its capacity to pay dividends. The second reason is that Holt is a takeover target and
once the company is taken over, the new owners will have discretion over the uses of free cash flow.”
3. “I will calculate Holt’s FCFF for 2008 and estimate the value of Holt’s common stock using a FCFF model.”
4. “Holt is a growing company. In forecasting either Holt’s FCFE or FCFF growth rates, I will not consider decreases in inventory to be
a long- term source of growth.”
Leigh’s comment about not considering decreases in inventory to be a source of long- term growth in free cash flow for Holt is:
• None of the above.
• mistaken because decreases in inventory are a use rather than a source of cash.
• consistent with a forecasting perspective because inventory reduction has a limit, particularly for a growing firm.
• inconsistent with a forecasting perspective.
Ryan Leigh is preparing a presentation that analyzes the valuation of the common stock of two companies under consideration as
additions to his firm’s recommended list, Emerald Corporation and Holt Corporation. Leigh has prepared preliminary valuations of both
companies using a FCFE model and is also preparing a value estimate for Emerald using a dividend discount model. Holt’s 2007 and
2008 financial statements, contained in Exhibits 1 and 2, are prepared in accordance with US GAAP. Yandie Izzo manages a dividend
growth strategy for a large asset management firm. Izzo meets with her investment team to discuss potential investments in three
companies: Company A, Company B, and Company C. Statements of cash flow for the three companies are presented in below table.
Leigh presents his valuations of the common stock of Emerald and Holt to his supervisor, Alice Smith. Smith has the following
questions and comments:
1. “I estimate that Emerald’s long- term expected dividend payout rate is 20 percent and its return on equity is 10 percent over the long
term.”
2. “Why did you use a FCFE model to value Holt’s common stock? Can you use a DDM instead?”
3. “How did Holt’s FCFE for 2008 compare with its FCFF for the same year? I recommend you use a FCFF model to value Holt’s
152. common stock instead of using a FCFE model because Holt has had a history of leverage changes in the past.”
4. “In the last three years, about 5 percent of Holt’s growth in FCFE has come from decreases in inventory.”
Leigh responds to each of Smith’s points as follows:
1. “I will use your estimates and calculate Emerald’s long- term, sustainable dividend growth rate.”
2. “There are two reasons why I used the FCFE model to value Holt’s common stock instead of using a DDM. The first reason is that
Holt’s dividends have differed significantly from its capacity to pay dividends. The second reason is that Holt is a takeover target and
once the company is taken over, the new owners will have discretion over the uses of free cash flow.”
3. “I will calculate Holt’s FCFF for 2008 and estimate the value of Holt’s common stock using a FCFF model.”
4. “Holt is a growing company. In forecasting either Holt’s FCFE or FCFF growth rates, I will not consider decreases in inventory to be
a long- term source of growth.”
Holt’s FCFE (in millions) for 2008 is closest to:
• $534.
• $364.
• $175.
• $250.
Ryan Leigh is preparing a presentation that analyzes the valuation of the common stock of two companies under consideration as
additions to his firm’s recommended list, Emerald Corporation and Holt Corporation. Leigh has prepared preliminary valuations of both
companies using a FCFE model and is also preparing a value estimate for Emerald using a dividend discount model. Holt’s 2007 and
2008 financial statements, contained in Exhibits 1 and 2, are prepared in accordance with US GAAP. Yandie Izzo manages a dividend
growth strategy for a large asset management firm. Izzo meets with her investment team to discuss potential investments in three
companies: Company A, Company B, and Company C. Statements of cash flow for the three companies are presented in below table.
Leigh presents his valuations of the common stock of Emerald and Holt to his supervisor, Alice Smith. Smith has the following
questions and comments:
1. “I estimate that Emerald’s long- term expected dividend payout rate is 20 percent and its return on equity is 10 percent over the long
term.”
2. “Why did you use a FCFE model to value Holt’s common stock? Can you use a DDM instead?”
3. “How did Holt’s FCFE for 2008 compare with its FCFF for the same year? I recommend you use a FCFF model to value Holt’s
153. common stock instead of using a FCFE model because Holt has had a history of leverage changes in the past.”
4. “In the last three years, about 5 percent of Holt’s growth in FCFE has come from decreases in inventory.”
Leigh responds to each of Smith’s points as follows:
1. “I will use your estimates and calculate Emerald’s long- term, sustainable dividend growth rate.”
2. “There are two reasons why I used the FCFE model to value Holt’s common stock instead of using a DDM. The first reason is that
Holt’s dividends have differed significantly from its capacity to pay dividends. The second reason is that Holt is a takeover target and
once the company is taken over, the new owners will have discretion over the uses of free cash flow.”
3. “I will calculate Holt’s FCFF for 2008 and estimate the value of Holt’s common stock using a FCFF model.”
4. “Holt is a growing company. In forecasting either Holt’s FCFE or FCFF growth rates, I will not consider decreases in inventory to be
a long- term source of growth.”
Holt’s FCFF (in millions) for 2008 is closest to:
• $534.
• $370.
• $308.
• $422.
Ryan Leigh is preparing a presentation that analyzes the valuation of the common stock of two companies under consideration as
additions to his firm’s recommended list, Emerald Corporation and Holt Corporation. Leigh has prepared preliminary valuations of both
companies using a FCFE model and is also preparing a value estimate for Emerald using a dividend discount model. Holt’s 2007 and
2008 financial statements, contained in Exhibits 1 and 2, are prepared in accordance with US GAAP. Yandie Izzo manages a dividend
growth strategy for a large asset management firm. Izzo meets with her investment team to discuss potential investments in three
companies: Company A, Company B, and Company C. Statements of cash flow for the three companies are presented in below table.
Leigh presents his valuations of the common stock of Emerald and Holt to his supervisor, Alice Smith. Smith has the following
questions and comments:
1. “I estimate that Emerald’s long- term expected dividend payout rate is 20 percent and its return on equity is 10 percent over the long
term.”
2. “Why did you use a FCFE model to value Holt’s common stock? Can you use a DDM instead?”
3. “How did Holt’s FCFE for 2008 compare with its FCFF for the same year? I recommend you use a FCFF model to value Holt’s
154. common stock instead of using a FCFE model because Holt has had a history of leverage changes in the past.”
4. “In the last three years, about 5 percent of Holt’s growth in FCFE has come from decreases in inventory.”
Leigh responds to each of Smith’s points as follows:
1. “I will use your estimates and calculate Emerald’s long- term, sustainable dividend growth rate.”
2. “There are two reasons why I used the FCFE model to value Holt’s common stock instead of using a DDM. The first reason is that
Holt’s dividends have differed significantly from its capacity to pay dividends. The second reason is that Holt is a takeover target and
once the company is taken over, the new owners will have discretion over the uses of free cash flow.”
3. “I will calculate Holt’s FCFF for 2008 and estimate the value of Holt’s common stock using a FCFF model.”
4. “Holt is a growing company. In forecasting either Holt’s FCFE or FCFF growth rates, I will not consider decreases in inventory to be
a long- term source of growth.”
Do the reasons provided by Leigh support his use of the FCFE model to value Holt’s common stock instead of using a DDM?
• No, because FCFE is not appropriate for investors taking a control perspective.
• No, because DDM is more favorable for Leigh.
• Yes.
• No, because Holt’s dividend situation argues in favor of using the DDM.
Ryan Leigh is preparing a presentation that analyzes the valuation of the common stock of two companies under consideration as
additions to his firm’s recommended list, Emerald Corporation and Holt Corporation. Leigh has prepared preliminary valuations of both
companies using a FCFE model and is also preparing a value estimate for Emerald using a dividend discount model. Holt’s 2007 and
2008 financial statements, contained in Exhibits 1 and 2, are prepared in accordance with US GAAP. Yandie Izzo manages a dividend
growth strategy for a large asset management firm. Izzo meets with her investment team to discuss potential investments in three
companies: Company A, Company B, and Company C. Statements of cash flow for the three companies are presented in below table.
Leigh presents his valuations of the common stock of Emerald and Holt to his supervisor, Alice Smith. Smith has the following
questions and comments:
1. “I estimate that Emerald’s long- term expected dividend payout rate is 20 percent and its return on equity is 10 percent over the long
term.”
2. “Why did you use a FCFE model to value Holt’s common stock? Can you use a DDM instead?”
3. “How did Holt’s FCFE for 2008 compare with its FCFF for the same year? I recommend you use a FCFF model to value Holt’s
155. common stock instead of using a FCFE model because Holt has had a history of leverage changes in the past.”
4. “In the last three years, about 5 percent of Holt’s growth in FCFE has come from decreases in inventory.”
Leigh responds to each of Smith’s points as follows:
1. “I will use your estimates and calculate Emerald’s long- term, sustainable dividend growth rate.”
2. “There are two reasons why I used the FCFE model to value Holt’s common stock instead of using a DDM. The first reason is that
Holt’s dividends have differed significantly from its capacity to pay dividends. The second reason is that Holt is a takeover target and
once the company is taken over, the new owners will have discretion over the uses of free cash flow.”
3. “I will calculate Holt’s FCFF for 2008 and estimate the value of Holt’s common stock using a FCFF model.”
4. “Holt is a growing company. In forecasting either Holt’s FCFE or FCFF growth rates, I will not consider decreases in inventory to be
a long- term source of growth.”
Which of the following long- term FCFE growth rates is most consistent with the facts and stated policies of Emerald?
• 2 percent or higher.
• 8 percent or higher.
• 10 percent or higher.
• 5 percent or lower.
156. The Gordon growth model can be used to value dividend- paying companies that are:
• overvalued.
• undervalued.
• None of them
• fairly valued.
An analyst estimates the intrinsic value of a stock to be in the range of €16.75 to €20.45. The current market price of the stock is €23.85.
158. This stock is most likely:
• undervalued.
• None of them
• fairly valued.
• overvalued.
Yandie Izzo manages a dividend growth strategy for a large asset management firm. Izzo meets with her investment team to discuss
potential investments in three companies: Company A, Company B, and Company C. Statements of cash flow for the three companies
are presented in below table.
Izzo’s team first discusses key characteristics of Company A. The company has a history of paying modest dividends relative to FCFE,
has a stable capital structure, and is owned by a controlling investor. The team also considers the impact of Company A’s three non-
cash transactions in the most recent year on its FCFE, including the following:
Transaction 1: A $900 million loss on a sale of equipment
Transaction 2: An impairment of intangibles of $400 million
Transaction 3: A $300 million reversal of a previously recorded restructuring charge
In addition, Company A’s annual report indicates that the firm expects to incur additional non- cash charges related to restructuring over
the next few years. To value the three companies’ shares, one team member suggests valuing the companies’ shares using net income as
159. a proxy for FCFE. Another team member proposes forecasting FCFE using a sales- based methodology based on the following
equation:
FCFE = NI – (1 – DR)(FCInv – Dep) – (1 – DR)(WCInv)
Izzo’s team ultimately decides to use actual free cash flow to value the three companies’ shares. Selected data and assumptions are
provided in Exhibit 2.
The team calculates the intrinsic value of Company B using a two- stage FCFE model. FCFE growth rates for the first four years are
estimated at 10%, 9%, 8%, and 7%, respectively, before declining to a constant 6% starting in the fifth year. To calculate the intrinsic
value of Company C’s equity, the team uses the FCFF approach assuming a single- stage model where FCFF is expected to grow at 5%
indefinitely.
Based on Exhibits 1 and 2 and the proposed two- stage FCFE model, the intrinsic value of Company B’s equity is closest to:
• $79,596 million.
• $83,485 million.
• $70,602 million.
• $73,588 million.
Yandie Izzo manages a dividend growth strategy for a large asset management firm. Izzo meets with her investment team to discuss
potential investments in three companies: Company A, Company B, and Company C. Statements of cash flow for the three companies
are presented in below table.
Izzo’s team first discusses key characteristics of Company A. The company has a history of paying modest dividends relative to FCFE,
has a stable capital structure, and is owned by a controlling investor. The team also considers the impact of Company A’s three non-
cash transactions in the most recent year on its FCFE, including the following:
Transaction 1: A $900 million loss on a sale of equipment
Transaction 2: An impairment of intangibles of $400 million
Transaction 3: A $300 million reversal of a previously recorded restructuring charge
In addition, Company A’s annual report indicates that the firm expects to incur additional non- cash charges related to restructuring over
the next few years. To value the three companies’ shares, one team member suggests valuing the companies’ shares using net income as
160. a proxy for FCFE. Another team member proposes forecasting FCFE using a sales- based methodology based on the following
equation:
FCFE = NI – (1 – DR)(FCInv – Dep) – (1 – DR)(WCInv)
Izzo’s team ultimately decides to use actual free cash flow to value the three companies’ shares. Selected data and assumptions are
provided in Exhibit 2.
The team calculates the intrinsic value of Company B using a two- stage FCFE model. FCFE growth rates for the first four years are
estimated at 10%, 9%, 8%, and 7%, respectively, before declining to a constant 6% starting in the fifth year. To calculate the intrinsic
value of Company C’s equity, the team uses the FCFF approach assuming a single- stage model where FCFF is expected to grow at 5%
indefinitely.
Based on Exhibit 1, using the proposed sales- based methodology to forecast FCFE would produce an inaccurate FCFE projection for
which company?
• All the companies
• Company A
• Company B
• Company C
Yandie Izzo manages a dividend growth strategy for a large asset management firm. Izzo meets with her investment team to discuss
potential investments in three companies: Company A, Company B, and Company C. Statements of cash flow for the three companies
are presented in below table.
Izzo’s team first discusses key characteristics of Company A. The company has a history of paying modest dividends relative to FCFE,
has a stable capital structure, and is owned by a controlling investor. The team also considers the impact of Company A’s three non-
cash transactions in the most recent year on its FCFE, including the following:
Transaction 1: A $900 million loss on a sale of equipment
Transaction 2: An impairment of intangibles of $400 million
Transaction 3: A $300 million reversal of a previously recorded restructuring charge
In addition, Company A’s annual report indicates that the firm expects to incur additional non- cash charges related to restructuring over
161. the next few years. To value the three companies’ shares, one team member suggests valuing the companies’ shares using net income as
a proxy for FCFE. Another team member proposes forecasting FCFE using a sales- based methodology based on the following
equation:
FCFE = NI – (1 – DR)(FCInv – Dep) – (1 – DR)(WCInv)
Izzo’s team ultimately decides to use actual free cash flow to value the three companies’ shares. Selected data and assumptions are
provided in Exhibit 2.
The team calculates the intrinsic value of Company B using a two- stage FCFE model. FCFE growth rates for the first four years are
estimated at 10%, 9%, 8%, and 7%, respectively, before declining to a constant 6% starting in the fifth year. To calculate the intrinsic
value of Company C’s equity, the team uses the FCFF approach assuming a single- stage model where FCFF is expected to grow at 5%
indefinitely.
Based on Exhibit 1, using net income as a proxy for Company B’s FCFE would result in an intrinsic value that is:
• higher than the intrinsic value if actual FCFE were used.
• lower than the intrinsic value if actual FCFE were used.
• equal to the intrinsic value if actual FCFE were used.
• Both equal and higher than the intrinsic value if actual FCFE were used.
Yandie Izzo manages a dividend growth strategy for a large asset management firm. Izzo meets with her investment team to discuss
potential investments in three companies: Company A, Company B, and Company C. Statements of cash flow for the three companies
are presented in below table.
Izzo’s team first discusses key characteristics of Company A. The company has a history of paying modest dividends relative to FCFE,
has a stable capital structure, and is owned by a controlling investor. The team also considers the impact of Company A’s three non-
cash transactions in the most recent year on its FCFE, including the following:
Transaction 1: A $900 million loss on a sale of equipment
Transaction 2: An impairment of intangibles of $400 million
Transaction 3: A $300 million reversal of a previously recorded restructuring charge
In addition, Company A’s annual report indicates that the firm expects to incur additional non- cash charges related to restructuring over
162. the next few years. To value the three companies’ shares, one team member suggests valuing the companies’ shares using net income as
a proxy for FCFE. Another team member proposes forecasting FCFE using a sales- based methodology based on the following
equation:
FCFE = NI – (1 – DR)(FCInv – Dep) – (1 – DR)(WCInv)
Izzo’s team ultimately decides to use actual free cash flow to value the three companies’ shares. Selected data and assumptions are
provided in Exhibit 2.
The team calculates the intrinsic value of Company B using a two- stage FCFE model. FCFE growth rates for the first four years are
estimated at 10%, 9%, 8%, and 7%, respectively, before declining to a constant 6% starting in the fifth year. To calculate the intrinsic
value of Company C’s equity, the team uses the FCFF approach assuming a single- stage model where FCFF is expected to grow at 5%
indefinitely.
Based on Exhibit 1, Company A’s FCFE for the most recent year is closest to:
• $8,544 million.
• $5,318 million.
• $7,126 million.
• $6,126 million.
Yandie Izzo manages a dividend growth strategy for a large asset management firm. Izzo meets with her investment team to discuss
potential investments in three companies: Company A, Company B, and Company C. Statements of cash flow for the three companies
are presented in below table.
Izzo’s team first discusses key characteristics of Company A. The company has a history of paying modest dividends relative to FCFE,
has a stable capital structure, and is owned by a controlling investor. The team also considers the impact of Company A’s three non-
cash transactions in the most recent year on its FCFE, including the following:
Transaction 1: A $900 million loss on a sale of equipment
Transaction 2: An impairment of intangibles of $400 million
Transaction 3: A $300 million reversal of a previously recorded restructuring charge
In addition, Company A’s annual report indicates that the firm expects to incur additional non- cash charges related to restructuring over
the next few years. To value the three companies’ shares, one team member suggests valuing the companies’ shares using net income as
163. a proxy for FCFE. Another team member proposes forecasting FCFE using a sales- based methodology based on the following
equation:
FCFE = NI – (1 – DR)(FCInv – Dep) – (1 – DR)(WCInv)
Izzo’s team ultimately decides to use actual free cash flow to value the three companies’ shares. Selected data and assumptions are
provided in Exhibit 2.
The team calculates the intrinsic value of Company B using a two- stage FCFE model. FCFE growth rates for the first four years are
estimated at 10%, 9%, 8%, and 7%, respectively, before declining to a constant 6% starting in the fifth year. To calculate the intrinsic
value of Company C’s equity, the team uses the FCFF approach assuming a single- stage model where FCFF is expected to grow at 5%
indefinitely.
Which non- cash transaction should be subtracted from net income in arriving at Company A’s FCFE?
• Transaction 1 and 2
• Transaction 2
• Transaction 3
• Transaction 1
Yandie Izzo manages a dividend growth strategy for a large asset management firm. Izzo meets with her investment team to discuss
potential investments in three companies: Company A, Company B, and Company C. Statements of cash flow for the three companies
are presented in below table.
Izzo’s team first discusses key characteristics of Company A. The company has a history of paying modest dividends relative to FCFE,
has a stable capital structure, and is owned by a controlling investor. The team also considers the impact of Company A’s three non-
cash transactions in the most recent year on its FCFE, including the following:
Transaction 1: A $900 million loss on a sale of equipment
Transaction 2: An impairment of intangibles of $400 million
Transaction 3: A $300 million reversal of a previously recorded restructuring charge
In addition, Company A’s annual report indicates that the firm expects to incur additional non- cash charges related to restructuring over
the next few years. To value the three companies’ shares, one team member suggests valuing the companies’ shares using net income as
164. a proxy for FCFE. Another team member proposes forecasting FCFE using a sales- based methodology based on the following
equation:
FCFE = NI – (1 – DR)(FCInv – Dep) – (1 – DR)(WCInv)
Izzo’s team ultimately decides to use actual free cash flow to value the three companies’ shares. Selected data and assumptions are
provided in Exhibit 2.
The team calculates the intrinsic value of Company B using a two- stage FCFE model. FCFE growth rates for the first four years are
estimated at 10%, 9%, 8%, and 7%, respectively, before declining to a constant 6% starting in the fifth year. To calculate the intrinsic
value of Company C’s equity, the team uses the FCFF approach assuming a single- stage model where FCFF is expected to grow at 5%
indefinitely.
Based on Company A’s key characteristics, which discounted cash flow model
would most likely be used by the investment team to value Company A’s shares?
• FCFE
• None of the above
• DDM
• FCFF
165. .
• 8.40%.
• 4.29%.
• 6.00%.
• 7.30%
166. .
• 1.877.
• 1.989.
• 1.029.
• 1.104.
167. Using the discounted cash flow (DCF) approach, the cost of retained earnings for the company is closest to:
• 16.8%.
• 15.7%.
• 16.1%.
• 19.6%
The marginal cost of capital for TagOn, based on an average asset beta of 2.27 for the industry and assuming that new stock can be
168. issued at $8 per share, is closest to:
• 21.5 percent.
• 26.4 percent.
• 20.5 percent.
• 21.0 percent.
Using the capital asset pricing model, the cost of equity capital for a company in this industry with a debt- to- equity ratio of 0.01, asset
169. beta of 2.27, and a marginal tax rate of 23 percent is closest to:
• 17 percent.
• 24 percent.
• 21 percent.
• 28 percent.
170. The average asset beta for the pure players in this industry, Relevant, ABJ, and Opus, weighted by market value of equity is closest to:
• 2.11.
• 2.27.
• 1.97.
• 1.67.
171. The asset betas for Relevant, ABJ, and Opus, respectively, are:
• 1.80, 2.79, and 3.37.
• 1.70, 2.79, and 3.37.
• 1.70, 2.52, and 2.73.
• 1.70, 2.81, and 3.44.
In his report, Sandell would like to discuss the sensitivity of the project’s net present value to the estimation of the cost of equity. The
172. Trutan project’s net present value calculated using the equity beta without and with the country risk premium are, respectively:
• €28 million and €25 million.
• €30 million and €27 million.
• €29 million and €25 million.
• €26 million and €24 million.
As part of the sensitivity analysis of the effect of the new project on the company's cost of capital, Sandell is estimating the cost of
equity of the Trutan project considering that the Trutan project requires a country equity premium to capture the risk of the project. The
173. cost of equity for the project in this case is
closest to:
• 28.95 percent.
• 10.52 percent.
• 19.91 percent.
• 32.74 percent.
Sandell is performing a sensitivity analysis of the effect of the new project on the company's cost of capital. If the Trutan project has the
174. same asset risk as Kruspa, the estimated project beta for the Trutan project, if it is financed 80 percent with debt, is closest to:
• 3.686.
• 1.300.
• 2.635.
• 4.536.
In his estimation of the project’s cost of capital, Sandell would like to use the asset beta of Kruspa as a base in his calculations. The
175. estimated asset beta of Kruspa prior to the Trutan project is closest to:
• 1.110.
• 1.4287
• 1.327.
• 1.053.
Sandell is interested in the weighted average cost of capital of Kruspa AB prior to its investing in the Trutan project. This weighted
176. average cost of capital (WACC) is closest to:
• 9.23 percent.
• 7.65 percent.
• 11.25 percent.
• 10.17 percent.
177. Using the capital asset pricing model, Kruspa’s cost of equity capital for its typical project is closest to:
• 7.62 percent.
• 13.6 percent.
• 12.40 percent.
• 10.52 percent.
178. .
• 8 percent.
• 9 percent.
• 12 percent.
• 15 percent.
Two years ago, a company issued $20 million in long- term bonds at par value with a coupon rate of 9 percent. The company has
decided to issue an additional $20 million in bonds and expects the new issue to be priced at par value with a coupon rate of 7 percent.
179. The company has no other debt outstanding and has a tax rate of 40 percent. To compute the company's weighted average cost of
capital, the appropriate after- tax cost of debt is closest to:
• 4.2%.
• 5.4%.
• 4.8%.
• 5.2%.
Trumpit Resorts Company currently has 1.2 million common shares of stock outstanding and the stock has a beta of 2.2. It also has $10
million face value of bonds that have five years remaining to maturity and 8 percent coupon with semi-annual payments, and are priced
to yield 13.65 percent. If Trumpit issues up to $2.5 million of new bonds, the bonds will be priced at par and have a yield of 13.65
180. percent; if it issues bonds beyond $2.5 million, the expected yield on the entire issuance will be 16 percent. Trumpit has learned that it
can issue new common stock at $10 a share. The current risk-free rate of interest is 3 percent and the expected market return is 10
percent. Trumpit’s marginal tax rate is 30 percent. If Trumpit raises $7.5 million of new capital while maintaining the same debt-to-
equity ratio, its weighted average cost of capital is closest to:
• 17.5 percent.
• 14.5 percent.
• 16.5 percent.
• 15.5 percent.
Brandon Wiene is a financial analyst covering the beverage industry. He is evaluating the impact of DEF Beverage’s new product line
of flavored waters. DEF currently has a debt-to-equity ratio of 0.6. The new product line would be financed with $50 million of debt and
181. $100 million of equity. In estimating the valuation impact of this new product line on DEF's value, Wiene has estimated the equity beta
and asset beta of comparable companies. In calculating the equity beta for the product line, Wiene is intending to use DEF's existing
capital structure when converting the asset beta into a project beta. Which of the following statements is correct?
Wiene should use the new debt-to-equity ratio of DEF that would resultfrom the additional $150 million debt and $200 million equity in
• calculatingthe new product line's equity beta.
Wiene should use the new debt-to-equity ratio of DEF that would resultfrom the additional $50 million debt and $100 million equity in
• calculatingthe new product line's equity beta.
• Using DEF’s debt-to- equity ratio of 0.6 is appropriate in calculating the new product line's equity beta.
Using DEF’s debt-to-equityratio of 0.6 is not appropriate, but rather the debt-to-equity ratio of the new product, 0.5, is appropriate to
• use in calculating the new product line’s equity beta.
Wang Securities had a long-term stable debt-to-equity ratio of 0.65. Recent bank borrowing for expansion into South America raised the
182. ratio to 0.75. The increased leverage has what effect on the asset beta and equity beta of the company?
• The asset beta will remain the same and the equity beta will rise.
• None of them
• The asset beta and the equity beta will both rise.
• The asset beta will remain the same and the equity beta will decline.
The Gearing Company has an after-tax cost of debt capital of 4 percent, a cost of preferred stock of 8 percent, a cost of equity capital of
183. 10 percent, and a weighted average cost of capital of 7 percent. Gearing intends to maintain its current capital structure as it raises
additional capital. In making its capital-budgeting decisions for the average-risk project, the relevant cost of capital is:
• 4 percent.
• 7 percent.
• 6 percent.
• 8 percent.
Morgan Insurance Ltd. issued a fixed-rate perpetual preferred stock three years ago and placed it privately with institutional investors.
184. The stock was issued at $25 per share with a $1.75 dividend. If the company were to issue preferred stock today, the yield would be 6.5
percent. The stock's current value is:
• $37.31.
• $30.00.
• $25.00.
• $26.92.
185. The cost of debt can be determined using the yield-to-maturity and the bond rating approaches. If the bond rating approach is used, the:
• 6.6 percent.
• 6.8 percent.
• 6.4 percent.
• 6.2 percent.
Using the dividend discount model, what is the cost of equity capital for Zeller Mining if the company will pay a dividend of C$2.30
187. next year, has a payout ratio of 30 percent, a return on equity (ROE) of 15 percent, and a stock price of C$45?
• 15.61 percent.
• 10.61 percent.
• 10.50 percent.
• 9.61 percent.
• For a given company, the after-tax cost of debt is generally less than both the cost of preferred equity and the cost of common equity.
• None of them
The appropriate tax rate to use in the adjustment of the before-tax cost of debt to determine the after-tax cost of debt is the average tax
• rate because interest is deductible against the company's entire taxable income.
For a given company, the investment opportunity schedule is upward sloping because as a company invests more in capital projects, the
• returns from investing increase.
An increase in the time between when an order to trade a security is placed and when the order is executed most likely indicates that
190. market efficiency has:
If a market is weak- form efficient but semi- strong- form inefficient, then which of the following types of portfolio management is most
191. likely to produce abnormal returns?
If a market is semi- strong- form efficient, the risk- adjusted returns of a passively managed portfolio relative to an actively managed
194. portfolio are most likely:
• the same.
• flactuate
• higher.
• higher.
195. If markets are semi- strong- form efficient, then passive portfolio management strategies are most likely to:
196. If prices reflect all public and private information, the market is best described as:
197. If markets are semi- strong efficient, standard fundamental analysis will yield abnormal trading profits that are:
• positive.
• flactuate
• negative.
• equal to zero.
198. Which one of the following statements best describes the semi- strong form of market efficiency?
With respect to the efficient market hypothesis, if security prices reflect only past prices and trading volume information, then the
199. market is:
202. If markets are efficient, the difference between the intrinsic value and market value of a company’s security is:
• thousand
• negative.
• zero.
• positive.
203. Which of the following market regulations will most likely impede market efficiency?
204. Which of the following regulations will most likely contribute to market efficiency? Regulatory restrictions on:
205. With respect to efficient market theory, when a market allows short selling, the efficiency of the market is most likely to:
• decrease.
• flactuate
• remain the same.
• increase.
206. Regulation that restricts some investors from participating in a market will most likely:
207. In an efficient market, the change in a company’s share price is most likely the result of:
Like traditional finance models, the behavioral theory of loss aversion assumes that investors dislike risk; however, the dislike of risk in
208. behavioral theory is assumed to be:
• symmetrical.
• risk aversion.
• asymmetrical.
• leptokurtic.
• loss aversion.
• a strategy to produce future abnormal returns.
• confidence in the market.
• risk aversion.
210. With respect to rational and irrational investment decisions, the efficient market hypothesis requires:
Researchers have found that value stocks have consistently outperformed growth stocks. An investor wishing to exploit the value effect
211. should purchase the stock of companies with above- average:
212. Which of the following market anomalies is inconsistent with weak- form market efficiency?
• Momentum pattern.
• semi- strong- form efficient.
• Closed- end fund discount.
• Earnings surprise.
If a researcher conducting empirical tests of a trading strategy using time series of returns finds statistically significant abnormal returns,
213. then the researcher has most likely found:
With respect to efficient markets, a company whose share price reacts gradually to the public release of its annual report most likely
214. indicates that the market where the company trades is: