The beta of a security is calculated as: (________ of a security's return with the return on the market portfolio/________).

B) Covariance; Variance of the market return

A) Variance; Covariance of the market return

C) Covariance; Standard deviation of the market return

D) Variance; Covariance of the security return

E) Covariance; Variance of the security return

Assume you plot the monthly returns for a stock and also for the S&P 500. Using regression analysis, the straight line through these points that is developed by the analysis is referred to as the ________ which has a slope of ________ and an intercept of ________.

B) characteristic line; beta; alpha

A) security market line; alpha; gamma

C) characteristic line; alpha; beta

D) security market line; beta; gamma

E) characteristic line; gamma; alpha

Companies will generally have a ________ beta if their:

B) high; sales are highly dependent on the market cycle.

A) low; stock price is relatively low.

C) high; sales are growing at a steady rate of increase.

D) high; sales are high compared to other firms in their industry.

E) low; production costs are primarily fixed in nature.

If a firm increases its use of both operating and financial leverage, then you should expect the firm's:

A) asset beta to exceed its equity beta.

C) beta to remain constant as the increased operating leverage will offset the increased financial leverage.

E) debt beta to exceed its equity beta.

The beta of debt is commonly considered to be:

B) one-half of the equity beta.

The beta of a firm is more likely to be high under which two conditions?

B) High cyclical business activity and high operating leverage

A) High cyclical business activity and low operating leverage

C) Low cyclical business activity and low financial leverage

D) Low cyclical business activity and low operating leverage

E) Low financial leverage and low operating leverage

A firm with cyclical earnings is characterized by:

A) revenue patterns that vary with the business cycle.

B) high levels of debt in its capital structure.

A firm with high operating leverage has:

C) high fixed costs in its production process.

A) low fixed costs in its production process.

B) high variable costs in its production process.

Assume LK Metals is similar to its industry with one exception; it has low fixed costs relative to all other firms in that industry. Given this, you should expect LK Metals to have:

A) a lower beta than its industry.

B) the same beta as the industry but a lower beta than the other firms in the industry.

C) a higher beta than its industry.

D) a higher beta than the industry and all the firms within that industry.

E) the same beta as the industry but a higher beta than the other firms in the industry.

D) increases the equity beta but does not affect the asset beta.

A) increases both the asset and the equity betas.

B) decreases both the asset and the equity betas.

C) decreases the equity beta and increases the asset beta.

E) decreases the equity beta but does not affect the asset beta

An industry is likely to have a low beta if the:

A) stream of revenues within that industry is less volatile than the market.

B) economy is in a recessionary period.

C) market for its goods is highly affected by the market cycle.

D) number of firms within the industry is fairly constant.

E) industry tends to use a lot of debt financing

For a levered firm the equity beta is ________ the asset beta.

D) sometimes greater than and sometimes less than

The CAPM has an advantage over DDM because the CAPM:

A) explicitly adjusts for risk.

B) applies to firms that pay dividends.

D) specifically considers a firm's rate of growth.

E) ignores changes in the overall market over time

Which one of these is a correct means of calculating an expected rate of growth?

A) ROA × Dividend payout ratio

Lesco's is evaluating a project that has a different level of risk than the overall firm. This project should be evaluated:

C) using a beta commensurate with the project's risks.

B) using the overall firm's beta.

D) at the market rate of return.

E) at the T-bill rate of return

The discount rate applied to an individual project should be based on the:

B) risks associated with the project's cash flows.

A) sources of funding for that project.

C) sponsoring firm's average level of risk.

D) expertise of the project's managers.

E) size and duration of the project's life

If a firm applies its overall firm's beta to projects with varying levels of risk, the firm will tend to:

A) reject the riskiest projects.

B) accept all low-risk projects.

C) accept only projects of equal risk to its current operations.

D) remain at its current level of overall risk.

JR's is preparing to start a new project in an industry that differs significantly from its current operations. JR's has searched and found the beta of a firm that is a good fit as a pure play for this new project. Given this good fit, why might JR's assign a higher beta to the project than the beta of the pure play?

D) The pure play firm has more experience in the new area than JR's does.

A) JR's should assign a project beta that is based on the average of JR's and the pure play firm's betas.

B) The expected project revenues may be less cyclical than those of the pure play firm.

C) JR's may use less debt in its operations than does the pure play firm.

E) The project may incur flotation costs so a higher beta is warranted to offset the additional cost.

The cost of preferred stock:

D) is equal to the stock's dividend yield.

A) should be adjusted for taxes when computing WACC.

B) is ignored by all firms when computing WACC.

C) is generally calculated using the overall firm's beta.

E) is set equal to the pretax cost of debt since it is a fixed income security

When computing WACC, you should use the:

D) aftertax cost of debt because interest is partially, if not fully, tax deductible.

A) pretax cost of debt because most corporations pay taxes at the same tax rate.

B) pretax cost of debt because it is the actual rate the firm is paying its bondholders.

C) current yield because it is based on the current market price of debt.

E) pretax yield to maturity because it considers the current market price of debt

When computing the weighted average cost of capital, which of these are adjusted for taxes?

C) Both the cost of equity and the cost of preferred stock

D) The costs of debt and preferred stock

All else held constant, which one of these is most apt to increase the WACC of a levered firm?

A) An increase in the weight of debt

B) A decrease in a firm's equity beta

C) A decrease in the dividend growth rate

E) An increase in the risk-free rate when the equity beta exceeds 1.0

The weighted average cost of capital for a firm is the:

B) overall rate which the firm must earn on its existing assets to maintain the value of its stock.

A) discount rate which the firm should apply to all the projects it undertakes.

C) rate the firm should expect to pay on its next bond issue.

D) maximum rate which the firm should require on any projects it undertakes.

E) rate of return that the firm's preferred stockholders should expect to earn over the long term

A firm's WACC can be correctly used to discount the expected cash flows of a new project when that project will:

A) have the same level of risk as the firm's current operations.

B) be financed solely with new debt and internal equity.

C) be managed by the firm's current managers.

D) be financed based on the firm's current debt-equity ratio.

E) be financed solely with internal equity.

When valuing a firm financed with debt and equity, the individual cash flows should be discounted using:

B) the average of the DDM and CAPM costs of equity.

A firm's net cash flow is calculated as:

A) EBIT − Taxes + Depreciation − Capital spending − Increases in net working capital.

B) EBIT + Taxes + Depreciation − Capital spending − Increases in net working capital.

C) EBIT − Taxes − Depreciation − Capital spending + Increases in net working capital.

D) EBIT − Taxes + Depreciation + Capital spending − Increases in net working capital.

E) EBIT + Taxes + Depreciation − Capital spending + Increases in net working capital

Assume a levered firm plans to raise new capital to finance a project. To properly account for the flotation costs, the firm should:

D) divide the amount of project capital needed by (1 − Weighted average flotation cost).

A) subtract the pretax flotation cost from the project's NPV.

B) deduct the amount of the flotation cost from the cash flows for Year 1 of the project.

C) add the percentage of the flotation cost to the WACC when discounting the cash flows.

E) increase the target weights of both debt and equity to account for the flotation percentage

When calculating the weighted average flotation cost, the weights should be based on the:

B) firm's target capital structure.

A) mix of debt and equity that will be used to finance the specific project.

C) percentages of internal and external financing that will be used for the project.

D) firm's current mix of debt and equity.

E) average amounts of external capital raised during the past twelve months

The flotation cost of internal equity is:

B) assumed to be the same as the cost of external equity.

C) assigned a cost equal to the aftertax cost of equity.

D) assumed to be the same as the firm's return on equity.

E) assigned a cost equal to the risk-free rate.

CF Chap 13

Authored by Dung Ngọc

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MULTIPLE CHOICE QUESTION

30 sec • 10 pts

The cost of capital used to compute the present value of a project should be the rate that can be earned on:

A) the overall market portfolio.

B) the sponsoring firm's return on assets.

C) a financial asset of comparable risk.

D) a riskless asset with a similar life span.

E) the sponsoring firm's return on equity.

MULTIPLE CHOICE QUESTION

30 sec • 10 pts

If the CAPM is used to estimate the cost of equity capital, the expected excess market return is equal to the:

A) return on the stock minus the risk-free rate.

B) return on the market minus the risk-free rate.

C) beta times the market risk premium.

D) beta times the risk-free rate.

E) market rate of return

MULTIPLE CHOICE QUESTION

30 sec • 10 pts

The issuance of stock to fund a project tends to:

A) have no effect on the previous shareholders.

B) create costless benefits for the firm.

C) cause any potential gains to the firm from the project to be lost.

D) affect future dividends but not the appreciation realized by previous shareholders.

E) dilute the capital gains that would have been earned by the previous shareholders

MULTIPLE CHOICE QUESTION

30 sec • 10 pts

A project with the same level of risk as an all-equity firm should be accepted if the project's:

A) internal rate of return exceeds the firm's cost of equity capital.

B) expected rate of return exceeds the market rate of return.

C) anticipated rate of return exceeds the firm's return on assets.

D) internal rate of return is positive given this level of risk.

E) expected rate of return exceeds the risk-free rate

MULTIPLE CHOICE QUESTION

30 sec • 10 pts

Which one of these statements is correct concerning the CAPM?

A) The CAPM is the only available method for determining an appropriate discount rate for a proposed project.

B) The market rate of return is most commonly based on the forecasted return on the market for the next 5-year period.

C) CAPM is used quite frequently by firms in their capital budgeting process.

D) The expected return on the 30-year U.S. Treasury bond is the most commonly used as the risk-free rate of return.

E) An increase in the risk-free rate combined with a beta greater than 1.0 increases the discount rate computed using the CAPM

MULTIPLE CHOICE QUESTION

30 sec • 10 pts

When estimating the cost of equity using the DDM, the factor that is the most apt to add error to this estimate is the:

A) value of the last dividend.

B) firm's tax rate.

C) historical beta.

D) dividend growth rate.

E) current stock price.

MULTIPLE CHOICE QUESTION

30 sec • 10 pts

Which one of these statements related to beta is correct?

A) Firm betas have less error than industry betas.

B) Firms should always rely on their own beta rather than their industry's beta.

C) Beta is unaffected by a firm's capital structure.

D) The sample size used to compute beta may be too small to yield a reliable result.

E) Firm betas rarely vary over time

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CF Chap 13

The cost of capital used to compute the present value of a project should be the rate that can be earned on:

If the CAPM is used to estimate the cost of equity capital, the expected excess market return is equal to the:

The issuance of stock to fund a project tends to:

A project with the same level of risk as an all-equity firm should be accepted if the project's:

Which one of these statements is correct concerning the CAPM?

When estimating the cost of equity using the DDM, the factor that is the most apt to add error to this estimate is the:

Which one of these statements related to beta is correct?

The beta of a security is calculated as: ( of a security's return with the return on the market portfolio/).

Assume you plot the monthly returns for a stock and also for the S&P 500. Using regression analysis, the straight line through these points that is developed by the analysis is referred to as the which has a slope of and an intercept of .

Companies will generally have a ________ beta if their:

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