Test 2 review questions Quiz 3 Which of

Test 2 review questions

Quiz 3 Which of the following statements is most correct? a. Portfolio diversification can reduce the variability of returns on an individual stock to zero b. When company-specific risk has been diversified, the inherent risk that remains is market risk, which is constant for all securities in the market. c. It is possible to have a situation where the market risk of a single stock is less than that of a well diversified portfolio. d. The SML relates required returns to firms' market risk. The slope and intercept of this line can be controlled by the financial manager.

PS 5 • 32. A stock is not expected to pay a dividend over the next four years. Five years from now, the company anticipates that it will establish a dividend of $1. 00 per share (i. e. , D 5 = $1. 00). Once the dividend is established, the market expects that the dividend will grow at a constant rate of 5 percent per year forever. The risk-free rate is 5 percent, the company's beta is 1. 2, and the market risk premium is 5 percent. The required rate of return on the company’s stock is expected to remain constant. What is the current stock price? • • • a. b. c. d. e. $ 7. 36 $ 8. 62 $ 9. 89 $10. 98 $11. 53

PS 5 • If market is weak form efficient and a rational investor expects a stock to have a higher expected return than the return to S&P 500 index, then which of the following statements is true A. This stock has higher systematic risk (systematic risk= non-diversifiable risk, I use these two terms interchangeably) B. The investor has some positive private information about the stock C. Some good public news just got released about this stock D. This stock has outperformed S&P 500 index in the past

PS 6 Question 23. Scranton Shipyards has $20 million in total net operating capital. The company’s WACC is 10 percent. The company has the following income statement: Sales $10. 0 million Operating costs 6. 0 million Operating income (EBIT) $ 4. 0 million Interest expense 2. 0 million Earnings before taxes (EBT) $ 2. 0 million Taxes (40%) 0. 8 million Net income $ 1. 2 million What is Scranton’s EVA? a. $ 400, 000 b. -$ 800, 000 c. $1, 200, 000 d. $2, 000 e. $4, 000

PS 6 Question 21. Assume that a company currently depreciates its fixed assets over 7 years. Which of the following would occur if a tax law change forced the company to depreciate its fixed assets over 10 years instead? a. The company’s tax payment would increase. b. The company’s cash position would increase. c. The company’s net income would increase. d. Answers a and c are correct. e. Answers b and c are correct. f. What would happen to net cash flow?

PS 7 Question 8. year: Perry Technologies Inc. had the following financial information for the past Inventory turnover = 8 Quick ratio = 1. 5 Sales = $860, 000 Current ratio = 1. 75 What were Perry’s current liabilities? a. $430, 000 b. $500, 000 c. $107, 500 d. $ 61, 429 e. $573, 333

XLU valuation at the end of 2014 Year Date Sum of Dividends 2003 $ 0. 797 2004 $ 0. 874 2005 $ 1. 010 2006 $ 1. 119 2007 $ 1. 095 2008 $ 1. 235 2009 $ 1. 273 2010 $ 1. 271 2011 $ 1. 368 2012 $ 1. 445 2013 $ 1. 465 2014 Growth Rate 9. 7% 15. 6% 10. 8% -2. 1% 12. 8% 3. 1% -0. 2% 7. 6% 5. 6% 1. 4% 2. 8% 1. 506 Assumptions • beta=0. 4 • market risk premium is 6% • Future growth rate is the average growth rate over the past 5 years 1 Mo 3 Mo 6 Mo 1 Yr 2 Yr 3 Yr 5 Yr 7 Yr 10 Yr 20 Yr 30 Yr 12/29/14 0. 01 0. 03 0. 12 0. 25 0. 72 1. 14 1. 72 2. 02 2. 22 2. 51 2. 78 12/30/14 0. 03 0. 12 0. 23 0. 69 1. 11 1. 68 2. 00 2. 20 2. 49 2. 76 12/31/14 0. 03 0. 04 0. 12 0. 25 0. 67 1. 10 1. 65 1. 97 2. 17 2. 47 2. 75

Ratio analysis • What is the trend in Microdrive’s ROE from 2011 to 2012? – A. Improving – B. Deteriorating

Du. Pont/Alt Du. Pont decomposition • Microdrive’s CEO invites you to analyze why ROE is deteriorating. • Which correctly identifies the sources of the problem? – A. Inventory Turnover , Days Sales Outstanding, Debt-toequity ratio, Operating Profit Margin – B. Fixed assets turnover ratio, Operating Profit Margin – C. Inventory Turnover , Operating Profit Margin, Debt-toequity ratio, – D. Inventory Turnover , Days Sales Outstanding, Fixed assets turnover ratio, Debt-to-equity ratio – E. Inventory Turnover, Days Sales Outstanding, Fixed assets turnover ratio, Debt financing cost

Assume Micro. Drive’s 2011 CF statement is the same as that in 2012 • What would be the FCF in 2011 for Micro. Drive?