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Financial Management 2017 - Quiz and Case Study Guides - Corporate Finance, 4e (Berk / DeMarzo) - Quiz - Chapter 14

Financial Management 2016 - 2017

FINANCIAL MANAGEMENT 2017 - QUIZ AND CASE STUDY GUIDES

Corporate Finance, 4e (Berk / DeMarzo)

Chapter 14   Capital Structure in a Perfect Market

 

 

Corporate Finance, 4e (Berk / DeMarzo)

Chapter 14   Capital Structure in a Perfect Market

 

14.1   Equity Versus Debt Financing

 

Use the following information to answer the question(s) below.

 

Nielson Motors (NM) has no debt.  Its assets will be worth $600 million in one year if the economy is strong, but only $300 million if the economy is weak.  Both events are equally likely.  The market value today of Nielson's assets is $400 million.

 

1) The expected return for Nielson Motors stock without leverage is closest to:

  1. A) -25.0%
  2. B) -17.5%
  3. C) -12.5%
  4. D) 12.5%

Answer:  D

Explanation:  D) E[rNM] =  =

Diff: 1

Section:  14.1 Equity Versus Debt Financing

Skill:  Analytical

 

2) Suppose the risk-free interest rate is 4%.  If Nielson borrows $150 million today at this rate and uses the proceeds to pay an immediate cash dividend, then according to MM, the market value of its equity just after the dividend is paid would be closest to:

  1. A) $0 million
  2. B) $150 million
  3. C) $250 million
  4. D) $400 million

Answer:  C

Explanation:  C) Value of equity = Total value - value of debt = $400 - 150 = $250

Diff: 1

Section:  14.1 Equity Versus Debt Financing

Skill:  Analytical

 

 

3) Suppose the risk-free interest rate is 4%.  If Nielson borrows $150 million today at this rate and uses the proceeds to pay an immediate cash dividend, then according to MM, the expected return of Nielson's stock just after the dividend is paid would be closest to:

  1. A) -17.5%
  2. B) -12.5%
  3. C) 12.5%
  4. D) 17.5%

Answer:  D

Explanation:  D) Value of equity = Total value - value of debt = $400 - 150 = $250

 

E[rNM] =  =  = 17.6%

Diff: 2

Section:  14.1 Equity Versus Debt Financing

Skill:  Analytical

4) Which of the following statements is FALSE?

  1. A) The relative proportions of debt, equity, and other securities that a firm has outstanding constitute its capital structure.
  2. B) The most common choices are financing through equity alone and financing through a combination of debt and equity.
  3. C) The project's NPV represents the value to the new investors of the firm created by the project.
  4. D) When corporations raise funds from outside investors, they must choose which type of security to issue.

Answer:  C

Explanation:  C) The project's NPV represents the value to the existing shareholders of the firm created by the project.

Diff: 1

Section:  14.1 Equity Versus Debt Financing

Skill:  Conceptual

 

 

5) Equity in a firm with debt is called:

  1. A) levered equity.
  2. B) riskless equity.
  3. C) unlevered equity.
  4. D) risky equity.

Answer:  A

Diff: 1

Section:  14.1 Equity Versus Debt Financing

Skill:  Definition

 

6) Equity in a firm with no debt is called:

  1. A) levered equity.
  2. B) unlevered equity.
  3. C) riskless equity.
  4. D) risky equity.

Answer:  B

Diff: 1

Section:  14.1 Equity Versus Debt Financing

Skill:  Definition

 

7) Which of the following statements is FALSE?

  1. A) Modigliani and Miller's conclusion verified the common view, which stated that even with perfect capital markets, leverage would affect a firm's value.
  2. B) We can evaluate the relationship between risk and return more formally by computing the sensitivity of each security's return to the systematic risk of the economy.
  3. C) Investors in levered equity require a higher expected return to compensate for its increased risk.
  4. D) Leverage increases the risk of equity even when there is no risk that the firm will default.

Answer:  A

Explanation:  A) Modigliani and Miller's conclusion went against the common view that even with perfect capital markets, leverage would affect a firm's value.

Diff: 2

Section:  14.1 Equity Versus Debt Financing

Skill:  Conceptual

8) Which of the following statements is FALSE?

  1. A) Leverage decreases the risk of the equity of a firm.
  2. B) Because the cash flows of the debt and equity sum to the cash flows of the project, by the Law of One Price the combined values of debt and equity must be equal to the cash flows of the project.
  3. C) Franco Modigliani and Merton Miller argued that with perfect capital markets, the total value of a firm should not depend on its capital structure.
  4. D) It is inappropriate to discount the cash flows of levered equity at the same discount rate that we use for unlevered equity.

Answer:  A

Explanation:  A) Leverage increases the risk of the equity of a firm.

Diff: 2

Section:  14.1 Equity Versus Debt Financing

Skill:  Conceptual

 

Use the information for the question(s) below.

 

Consider a project with free cash flows in one year of $90,000 in a weak economy or $117,000 in a strong economy, with each outcome being equally likely.  The initial investment required for the project is $80,000, and the project's cost of capital is 15%.  The risk-free interest rate is 5%.

 

9) The NPV for this project is closest to:

  1. A) $6250
  2. B) $14,100
  3. C) $10,000
  4. D) $18,600

Answer:  C

Explanation:  C) NPV =  - $80,000 = $10,000

Diff: 2

Section:  14.1 Equity Versus Debt Financing

Skill:  Analytical

 

 

10) Suppose that to raise the funds for the initial investment, the project is sold to investors as an all-equity firm. The equity holders will receive the cash flows of the project in one year.  The market value of the unlevered equity for this project is closest to:

  1. A) $94,100
  2. B) $90,000
  3. C) $86,250
  4. D) $98,600

Answer:  B

Explanation:  B) PV(equity cash flows) =  = $90,000

Diff: 2

Section:  14.1 Equity Versus Debt Financing

Skill:  Analytical

11) Suppose that to raise the funds for the initial investment the firm borrows $80,000 at the risk free rate, then the cash flow that equity holders will receive in one year in a weak economy is closest to:

  1. A) $6000
  2. B) $10,000
  3. C) $0
  4. D) $33,000

Answer:  A

Explanation:  A)  $90,000 - $80,000(1.05) = $6000

Diff: 2

Section:  14.1 Equity Versus Debt Financing

Skill:  Analytical

 

12) Suppose that to raise the funds for the initial investment the firm borrows $80,000 at the risk free rate, then the cash flow that equity holders will receive in one year in a strong economy is closest to:

  1. A) $0
  2. B) $6000
  3. C) $33,000
  4. D) $10,000

Answer:  C

Explanation:  C) $117,000 - $80,000(1.05) = $33,000

Diff: 2

Section:  14.1 Equity Versus Debt Financing

Skill:  Analytical

 

13) Suppose that to raise the funds for the initial investment the firm borrows $80,000 at the risk free rate, then the value of the firm's levered equity from the project is closest to:

  1. A) $0
  2. B) $10,000
  3. C) $6000
  4. D) $8600

Answer:  B

Explanation:  B) PV(equity cash flows) =  = $90,000 - $80,000 = $10,000

Diff: 2

Section:  14.1 Equity Versus Debt Financing

Skill:  Analytical

14) Suppose that to raise the funds for the initial investment the firm borrows $80,000 at the risk free rate, then the cost of capital for the firm's levered equity is closest to:

  1. A) 45%
  2. B) 25%
  3. C) 15%
  4. D) 95%

Answer:  D

Explanation:  D) PV(equity cash flows) =  = $90,000 - $80,000 = $10,000 (value of levered equity)

 

So, $10,000 =  

So, 1 + x =

So, x = .95

Diff: 2

Section:  14.1 Equity Versus Debt Financing

Skill:  Analytical

 

15) Suppose that to raise the funds for the initial investment the firm borrows $40,000 at the risk free rate and issues new equity to cover the remainder.  In this situation, the cash flow that equity holders will receive in one year in a weak economy is closest to:

  1. A) $90,000
  2. B) $0
  3. C) $50,000
  4. D) $48,000

Answer:  D

Explanation:  D) $90,000 - $40,000(1.05) = $48,000

Diff: 2

Section:  14.1 Equity Versus Debt Financing

Skill:  Analytical

 

16) Suppose that to raise the funds for the initial investment the firm borrows $40,000 at the risk free rate and issues new equity to cover the remainder.  In this situation, the cash flow that equity holders will receive in one year in a strong economy is closest to:

  1. A) $117,000
  2. B) $75,000
  3. C) $50,000
  4. D) $0

Answer:  B

Explanation:  B) $117,000 - $40,000(1.05) = $75,000

Diff: 2

Section:  14.1 Equity Versus Debt Financing

Skill:  Analytical

 

17) Suppose that to raise the funds for the initial investment the firm borrows $40,000 at the risk free rate and issues new equity to cover the remainder.  In this situation, the value of the firm's levered equity from the project is closest to:

  1. A) $0
  2. B) $50,000
  3. C) $90,000
  4. D) $40,000

Answer:  B

Explanation:  B) PV(equity cash flows) =  = $90,000 - $40,000 = $50,000

Diff: 2

Section:  14.1 Equity Versus Debt Financing

Skill:  Analytical

 

18) Suppose that to raise the funds for the initial investment the firm borrows $40,000 at the risk free rate and issues new equity to cover the remainder.  In this situation, the cost of capital for the firm's levered equity is closest to:

  1. A) 23%
  2. B) 25%
  3. C) 15%
  4. D) 18%

Answer:  A

Explanation:  A) PV(equity cash flows) =  = $90,000 - $40,000 = $50,000 (value of levered equity)

 

So, $50,000 =  

So, 1 + x =  

So, x = .23

Diff: 3

Section:  14.1 Equity Versus Debt Financing

Skill:  Analytical

 

19) Suppose that to raise the funds for the initial investment the firm borrows $45,000 at the risk free rate and issues new equity to cover the remainder.  In this situation, calculate the value of the firm's levered equity from the project.  What is the cost of capital for the firm's levered equity?

Answer:  PV(equity cash flows) =  = $90,000 - $45,000 = $45,000 (value of levered equity)

 

90,000 - 45,000(1.05) = $42,770

117,000 - 45,000(1.05) = $69,750

 

So, $45,000 =  

So, 1 + x =

So, x = .25

Diff: 2

Section:  14.1 Equity Versus Debt Financing

Skill:  Analytical

 

20) Two separate firms are considering investing in this project.  Firm unlevered plans to fund the entire $80,000 investment using equity, while firm levered plans to borrow $45,000 at the risk-free rate and use equity to finance the remainder of the initial investment.  Construct a table detailing the percentage returns to the equity holders of both the levered and unlevered firms for both the weak and strong economy.

Answer: 

 

Initial Value

C/F Strong Economy

C/F Weak Economy

Returns Strong Economy

Returns Weak Economy

Debt

$45,000

 $47,250

 $47,250

5%

5%

Levered Equity

$45,000

 $69,750

 $42,750

55%

-5%

 

 

 

 

 

 

Unlevered Equity

$90,000

 $117,000

 $90,000

30%

0%

 

PV(equity cash flows) =  = $90,000

C/F (weak economy) = $90,000 (unlevered) - $45,000(1.05) (debt) = $42,750 (levered)

C/F (strong economy) = $117,000 (unlevered) - $45,000(1.05) (debt) = $69,750 (levered)

Returns =

Diff: 3

Section:  14.1 Equity Versus Debt Financing

Skill:  Analytical

 

21) Two separate firms are considering investing in this project.  Firm unlevered plans to fund the entire $80,000 investment using equity, while firm levered plans to borrow $45,000 at the risk-free rate and use equity to finance the remainder of the initial investment.  Calculate the expected returns for both the levered and unlevered firm.

Answer: 

 

Initial Value

C/F Strong Economy

C/F Weak Economy

Returns Strong Economy

Returns Weak Economy

Expected Return

Debt

$45,000

 $47,250

 $47,250

5%

5%

5%

Levered Equity

$45,000

 $69,750

 $42,750

55%

-5%

25%

 

 

 

 

 

 

 

Unlevered Equity

$90,000

 $117,000

 $90,000

30%

0%

15%

 

PV(equity cash flows) =  = $90,000

C/F (weak economy) = $90,000 (unlevered) - $45,000(1.05) (debt) = $42,750 (levered)

C/F (strong economy) = $117,000 (unlevered) - $45,000(1.05) (debt) = $69,750 (levered)

Returns =

Expected return = .5(strong return) + .5(weak return)

Diff: 3

Section:  14.1 Equity Versus Debt Financing

Skill:  Analytical

 

 

22) Two separate firms are considering investing in this project.  Firm unlevered plans to fund the entire $80,000 investment using equity, while firm levered plans to borrow $45,000 at the risk-free rate and use equity to finance the remainder of the initial investment.  Calculate the risk premiums for both the levered and unlevered firm.

Answer: 

 

Initial Value

C/F Strong Economy

C/F Weak Economy

Returns Strong Economy

Returns Weak Economy

Expected Return

Debt

$45,000

 $47,250

 $47,250

5%

5%

5%

Levered Equity

$45,000

 $69,750

 $42,750

55%

-5%

25%

 

 

 

 

 

 

 

Unlevered Equity

$90,000

 $117,000

 $90,000

30%

0%

15%

 

PV(equity cash flows) =  = $90,000

C/F (weak economy) = $90,000 (unlevered) - $45,000(1.05) (debt) = $42,750 (levered)

C/F (strong economy) = $117,000 (unlevered) - $45,000(1.05) (debt) = $69,750 (levered)

Returns =

Expected return = .5(strong return) + .5(weak return)

Risk premium = expected return - risk free rate

Diff: 3

Section:  14.1 Equity Versus Debt Financing

Skill:  Analytical

 

14.2   Modigliani-Miller I: Leverage, Arbitrage, and Firm Value

 

Use the following information to answer the question(s) below.

 

Galt Industries has 50 million shares outstanding and a market capitalization of $1.25 billion.  It also has $750 million in debt outstanding.  Galt Industries has decided to delever the firm by issuing new equity and completely repaying all the outstanding debt.  Assume perfect capital markets.

 

1) The number of shares that Galt must issue is closest to:

  1. A) 15 million
  2. B) 25 million
  3. C) 30 million
  4. D) 40 million

Answer:  C

Explanation:  C) share price =  = $25

number of new shares =  = 30 million

Diff: 2

Section:  14.2 Modigliani-Miller I: Leverage, Arbitrage, and Firm Value

Skill:  Analytical

 

2) Suppose you are a shareholder in Galt industries holding 100 shares, and you disagree with this decision to delever the firm.  You can undo the effect of this decision by

  1. A) borrowing $1500 and buying 60 shares of stock.
  2. B) selling 32 shares of stock and lending $800.
  3. C) borrowing $1000 and buying 40 shares of stock.
  4. D) selling 40 shares of stock and lending $1000.

Answer:  A

Explanation:  A) share price =  = $25 → value of equity = 25 × 100 = $2500

Galt's pre-delevered Debt/Equity =  = .60 → for every $1 equity need $0.60 debt, so you need to borrow $0.60 × $2500 = $1500 and then buy $1500/$25 = 60 more shares of stock.

Diff: 2

Section:  14.2 Modigliani-Miller I: Leverage, Arbitrage, and Firm Value

Skill:  Analytical

 

3) Suppose you are a shareholder in Galt industries holding 600 shares, and you disagree with this decision to delever the firm.  You can undo the effect of this decision by:

  1. A) Borrowing $6000 and buying 240 shares of stock
  2. B) Selling 240 shares of stock and lending $6000
  3. C) Borrowing $9000 and buying 360 shares of stock
  4. D) Selling 360 shares of stock and lending $9000

Answer:  C

Explanation:  C) share price =  = $25 → value of equity = 25 × 600 = $15,000

Galt's pre-delevered Debt/Equity =  = .60 → for every $1 equity need $0.60 debt, so you need to borrow $0.60 × $15,000 = $9000 and then buy $9000/$25 = 360 more shares of stock.

Diff: 2

Section:  14.2 Modigliani-Miller I: Leverage, Arbitrage, and Firm Value

Skill:  Analytical

 

Use the following information to answer the question(s) below.

 

d'Anconia Copper is an all-equity firm with 60 million shares outstanding, which are currently trading at $20 per share.  Last month, d'Anconia announced that it will change its capital structure by issuing $300 million in debt.  The $200 million raised by this issue, plus another $200 million in cash that d'Anconia already has, will be used to repurchase existing shares of stock.  Assume that capital markets are perfect.

 

4) The market capitalization of d'Anconia Copper before this transaction takes place is closest to:

  1. A) $800 million
  2. B) $900 million
  3. C) $1100 million
  4. D) $1200 million

Answer:  D

Explanation:  D) Market Cap = 60 million shares × $20 share = $1200 million

Diff: 1

Section:  14.2 Modigliani-Miller I: Leverage, Arbitrage, and Firm Value

Skill:  Analytical

 

5) The market capitalization of d'Anconia Copper after this transaction takes place is closest to:

  1. A) $800 million
  2. B) $900 million
  3. C) $1100 million
  4. D) $1200 million

Answer:  A

Explanation:  A) Market Cap = 60 million shares × $20 share - $200 Debt - $200 Cash = $800 million

Diff: 1

Section:  14.2 Modigliani-Miller I: Leverage, Arbitrage, and Firm Value

Skill:  Analytical

 

6) At the conclusion of this transaction, the number of shares that d'Anconia Copper will repurchase is closest to:

  1. A) 5 million
  2. B) 15 million
  3. C) 20 million
  4. D) 40 million

Answer:  C

Explanation:  C) Number of shares repurchased =  = 20 million

Diff: 1

Section:  14.2 Modigliani-Miller I: Leverage, Arbitrage, and Firm Value

Skill:  Analytical

 

7) At the conclusion of this transaction, the number of shares that d'Anconia Copper will have outstanding is closest to:

  1. A) 5 million
  2. B) 15 million
  3. C) 20 million
  4. D) 40 million

Answer:  D

Explanation:  D) Number of shares repurchased =  = $20 million

Number of Shares outstanding = 60 million - 20 million repurchased = 40 million shares

Diff: 1

Section:  14.2 Modigliani-Miller I: Leverage, Arbitrage, and Firm Value

Skill:  Analytical

 

8) At the conclusion of this transaction, the value of a share of d'Anconia Copper will be closest to:

  1. A) $18.33
  2. B) $20.00
  3. C) $25.00
  4. D) $27.50

Answer:  B

Explanation:  B) Number of shares repurchased =  = $20 million

Number of Shares outstanding = 60 million - 20 million repurchased = 40 million shares

Price per share = ($1200 million - $300 million - $100 million)/40 million shares = $20 share

Diff: 2

Section:  14.2 Modigliani-Miller I: Leverage, Arbitrage, and Firm Value

Skill:  Analytical

 

9) Suppose you are a shareholder in d'Anconia Copper holding 300 shares, and you disagree with the decision to lever the firm.  You can undo the effect of this decision by

  1. A) borrowing $2000 and buying 100 shares of stock.
  2. B) selling 100 shares of stock and lending $2000.
  3. C) borrowing $1200 and buying 60 shares of stock.
  4. D) selling 60 shares of stock and lending $1200.

Answer:  D

Explanation:  D) d'Anconia Copper's  =  = .20

→ for every $1 invested you need $0.80 in equity and $0.20 in debt

 

Pre levering your portfolio consisted of 300 shares × $20 = $6000 in stock.  Of this you need to sell 20% to reinvest into bonds so you need to sell ($6000 × .2 = $1200/$20 per share = 60 shares of stock and then lend this money out.

Diff: 2

Section:  14.2 Modigliani-Miller I: Leverage, Arbitrage, and Firm Value

Skill:  Analytical

 

10) Suppose you are a shareholder in d'Anconia Copper holding 500 shares, and you disagree with the decision to lever the firm.  You can undo the effect of this decision by:

  1. A) borrowing $2000 and buying 100 shares of stock.
  2. B) selling 100 shares of stock and lending $2000.
  3. C) borrowing $1200 and buying 60 shares of stock.
  4. D) selling 60 shares of stock and lending $1200.

Answer:  B

Explanation:  B) d'Anconia Copper's  =  = .20

d'Anconia Copper's Debt/Equity = $200/$800 = .20

→ for every $1 invested you need $0.80 in equity and $0.20 in debt

 

Pre levering your portfolio consisted of 500 shares × $20 = $10,000 in stock.  Of this you need to sell 20% to reinvest into bonds so you need to sell ($10,000 × .2 = $2000/$20 per share = 100 shares of stock and then lend this money out.

Diff: 2

Section:  14.2 Modigliani-Miller I: Leverage, Arbitrage, and Firm Value

Skill:  Analytical

 

11) Which of the following is NOT one of Modigliani and Miller's set of conditions referred to as perfect capital markets?

  1. A) All investors hold the efficient portfolio of assets.
  2. B) There are no taxes, transaction costs, or issuance costs associated with security trading.
  3. C) A firm's financing decisions do not change the cash flows generated by its investments, nor do they reveal new information about them.
  4. D) Investors and firms can trade the same set of securities at competitive market prices equal to the present value of their future cash flows.

Answer:  A

Diff: 2

Section:  14.2 Modigliani-Miller I: Leverage, Arbitrage, and Firm Value

Skill:  Conceptual

12) Which of the following statements is FALSE?

  1. A) The Law of One Price implies that leverage will affect the total value of the firm under perfect capital market conditions.
  2. B) In the absence of taxes or other transaction costs, the total cash flow paid out to all of a firm's security holders is equal to the total cash flow generated by the firm's assets.
  3. C) With perfect capital markets, leverage merely changes the allocation of cash flows between debt and equity, without altering the total cash flows of the firm.
  4. D) In a perfect capital market, the total value of a firm is equal to the market value of the total cash flows generated by its assets and is not affected by its choice of capital structure.

Answer:  A

Explanation:  A) The Law of One Price implies that leverage will not affect the total value of the firm under perfect capital market conditions.

Diff: 2

Section:  14.2 Modigliani-Miller I: Leverage, Arbitrage, and Firm Value

Skill:  Conceptual

 

13) Which of the following statements is FALSE?

  1. A) As long as the firm's choice of securities does not change the cash flows generated by its assets, the capital structure decision will not change the total value of the firm or the amount of capital it can raise.
  2. B) If securities are fairly priced, then buying or selling securities has an NPV of zero and, therefore, should not change the value of a firm.
  3. C) The future repayments that the firm must make on its debt are equal in value to the amount of the loan it receives up front.
  4. D) An investor who would like more leverage than the firm has chosen can lend and add leverage to his or her own portfolio.

Answer:  D

Explanation:  D) An investor who would like more leverage than the firm has chosen can borrow and add leverage to his or her own portfolio.

Diff: 2

Section:  14.2 Modigliani-Miller I: Leverage, Arbitrage, and Firm Value

Skill:  Conceptual

 

14) Which of the following statements is FALSE?

  1. A) As long as investors can borrow or lend at the same interest rate as the firm, homemade leverage is a perfect substitute for the use of leverage by the firm.
  2. B) When investors use leverage in their own portfolios to adjust the leverage choice made by the firm, we say that they are using homemade leverage.
  3. C) The value of the firm is determined by the present value of the cash flows from its current and future investments.
  4. D) The investor can re-create the payoffs of unlevered equity by borrowing and using the proceeds to purchase the equity of the firm.

Answer:  D

Explanation:  D) The investor can re-create the payoffs of levered equity by borrowing and using the proceeds to purchase the equity of the firm.

Diff: 2

Section:  14.2 Modigliani-Miller I: Leverage, Arbitrage, and Firm Value

Skill:  Conceptual

 

15) Which of the following statements is FALSE?

  1. A) When a firm issues new shares that account for a significant percentage of its outstanding shares, the transaction is called a leveraged recapitalization.
  2. B) MM Proposition I applies to capital structure decisions made at any time during the life of the firm.
  3. C) By choosing positive-NPV projects that are worth more than their initial investment, the firm can enhance its value.
  4. D) Holding fixed the cash flows generated by the firm's assets, however, the choice of capital structure does not change the value of the firm.

Answer:  A

Explanation:  A) When a firm borrows money to repurchase shares that account for a significant percentage of its outstanding shares, the transaction is called a leveraged recapitalization.

Diff: 3

Section:  14.2 Modigliani-Miller I: Leverage, Arbitrage, and Firm Value

Skill:  Conceptual

 

16) Which of the following statements is FALSE?

  1. A) Investors can alter the leverage choice of the firm to suit their personal tastes either by borrowing and reducing leverage or by holding bonds and adding more leverage.
  2. B) On the market value balance sheet the total value of all securities issued by the firm must equal the total value of the firm's assets.
  3. C) The market value balance sheet captures the idea that value is created by a firm's choice of assets and investments.
  4. D) One application of MM Proposition I is the useful device known as the market value balance sheet of the firm.

Answer:  A

Explanation:  A) Investors can alter the leverage choice of the firm to suit their personal tastes either by borrowing and increasing leverage or by holding bonds and reducing leverage.

Diff: 3

Section:  14.2 Modigliani-Miller I: Leverage, Arbitrage, and Firm Value

Skill:  Conceptual


Use the information for the question(s) below.

 

Consider two firms, With and Without, that have identical assets that generate identical cash flows.  Without is an all-equity firm, with 1 million shares outstanding that trade for a price of $24 per share.  With has 2 million shares outstanding and $12 million dollars in debt at an interest rate of 5%.

 

17) According to MM Proposition 1, the stock price for With is closest to:

  1. A) $8.00
  2. B) $24.00
  3. C) $6.00
  4. D) $12.00

Answer:  C

Explanation:  C) Under MM I, the total value of With and Without must be the same.

 

Value(Without) = 1,000,000 × $24 = $24 million

Value(levered equity) = value(With) - debt = $24 M - $12M = $12 M

Price per share =  = $6.00

Diff: 1

Section:  14.2 Modigliani-Miller I: Leverage, Arbitrage, and Firm Value

Skill:  Analytical

 

18) Assume that MM's perfect capital market conditions are met and that you can borrow and lend at the same 5% rate as With.  You have $5000 of your own money to invest and you plan on buying Without stock.  Using homemade leverage, how much do you need to borrow in your margin account so that the payoff of your margined purchase of Without stock will be the same as a $5000 investment in With stock?

  1. A) $10,000
  2. B) $5000
  3. C) $2500
  4. D) $0

Answer:  B

Explanation:  B) Under MM I, the total value of With and Without must be the same.

 

Value(Without) = 1,000,000 × $24 = $24 million

Value(levered equity) = value(With) - debt = $24 M - $12M = $12 M

 

So, the leverage ratio of with is 50% equity to 50% debt.  To duplicate this in homemade leverage we need to have equal proportions in our portfolio, this means we need 50% equity and 50% from a margin loan.  So $5000 is our equity, and we need to match it with $5000 in a margin loan.

Diff: 2

Section:  14.2 Modigliani-Miller I: Leverage, Arbitrage, and Firm Value

Skill:  Analytical

 

19) Assume that MM's perfect capital market conditions are met and that you can borrow and lend at the same 5% rate as With.  You have $5000 of your own money to invest and you plan on buying Without stock.  Using homemade leverage you borrow enough in your margin account so that the payoff of your margined purchase of Without stock will be the same as a $5000 investment in with stock.  The number of shares of Without stock you purchased is closest to:

  1. A) 425
  2. B) 1650
  3. C) 2000
  4. D) 825

Answer:  B

Explanation:  B) Under MM I, the total value of With and Without must be the same.

 

Value(Without) = 1,000,000 × $24 = $24 million

Value(levered equity) = value(With) - debt = $24 M - $12M = $12 M

Price per share =  = $6.00

 

So, the leverage ratio of with is 50% equity to 50% debt.  To duplicate this in homemade leverage we need to have equal proportions in our portfolio, this means we need 50% equity and 50% from a margin loan.  So $5000 is our equity we need to match it with $5000 in a margin loan.  So the total invested is $10,000/$6 per share = 1667 shares

Diff: 3

Section:  14.2 Modigliani-Miller I: Leverage, Arbitrage, and Firm Value

Skill:  Analytical

 

20) Assume that MM's perfect capital market conditions are met and that you can borrow and lend at the same 5% rate as With.  You have $5000 of your own money to invest and you plan on buying With stock.  Using homemade (un)leverage, how much do you need to invest at the risk-free rate so that the payoff of your account will be the same as a $5000 investment in Without stock?

  1. A) $5000
  2. B) $0
  3. C) $2500
  4. D) $4000

Answer:  C

Explanation:  C) Under MM I, the total value of With and Without must be the same.

 

Value(Without) = 1,000,000 × $24 = $24 million

Value(levered equity) = value(With) - debt = $24 M - $12M = $12 M

 

So, the leverage ratio of with is 50% equity to 50% debt.  To duplicate this in homemade leverage we need to have equal proportions in our portfolio, this means we need 50% equity and 50% fin the risk free asset.  So $5000 is our total portfolio we need $2500 in equity (With stock) and $2500 in the risk free asset.

Diff: 2

Section:  14.2 Modigliani-Miller I: Leverage, Arbitrage, and Firm Value

Skill:  Analytical

 

21) Assume that MM's perfect capital market conditions are met and that you can borrow and lend at the same 5% rate as With.  You have $5000 of your own money to invest and you plan on buying With stock.  Using homemade (un)leverage you invest enough at the risk-free rate so that the payoff of your account will be the same as a $5000 investment in Without stock?  The number of shares of With stock you purchased is closest to:

  1. A) 100
  2. B) 425
  3. C) 1650
  4. D) 825

Answer:  B

Explanation:  B) Under MM I, the total value of With and Without must be the same.

 

Value(Without) = 1,000,000 × $24 = $24 million

Value(levered equity) = value(With) - debt = $24 M - $12M = $12 M

Price per share =  = $6.00

 

So the leverage ratio of with is 50% equity to 50% debt.  To duplicate this in homemade leverage we need to have equal proportions in out portfolio, this means we need 50% equity and 50% fin the risk free asset.  So $5000 is our total portfolio we need $2500 in equity (With stock) and $2500 in the risk free asset.

 

 = 417 shares

Diff: 3

Section:  14.2 Modigliani-Miller I: Leverage, Arbitrage, and Firm Value

Skill:  Analytical

 

Use the information for the question(s) below.

 

Luther is a successful logistical services firm that currently has $5 billion in cash.  Luther has decided to use this cash to repurchase shares from its investors, and has already announced the stock repurchase plan.  Currently Luther is an all equity firm with 1.25 billion shares outstanding.  Luther's shares are currently trading at $20 per share.

 

22) The market value of Luther's non-cash assets is closest to:

  1. A) $20 billion
  2. B) $19 billion
  3. C) $25 billion
  4. D) $24 billion

Answer:  A

Explanation:  A) = 1.25B × $20 per share = $25 billion - $5 billion cash = $20 billion

Diff: 1

Section:  14.2 Modigliani-Miller I: Leverage, Arbitrage, and Firm Value

Skill:  Analytical

 

23) After the repurchase how many shares will Luther have outstanding?

  1. A) 0.75 billion
  2. B) 1.0 billion
  3. C) 1.1 billion
  4. D) 1.2 billion

Answer:  B

Explanation:  B) $5 billion/$20 Share = .250 billion shares repurchased.

 

Shares outstanding = 1.25 - .25 = 1.0 billion

Diff: 1

Section:  14.2 Modigliani-Miller I: Leverage, Arbitrage, and Firm Value

Skill:  Analytical

 

24) With perfect capital markets, what is the market value of Luther's equity after the share repurchase?

  1. A) $15 billion
  2. B) $10 billion
  3. C) $25 billion
  4. D) $20 billion

Answer:  D

Explanation:  D) = 1.25B × $20 per share = $25 billion - $5 billion cash = $20 billion

Diff: 2

Section:  14.2 Modigliani-Miller I: Leverage, Arbitrage, and Firm Value

Skill:  Analytical

 

25) With perfect capital markets, what is the market price per share of Luther's stock after the share repurchase?

  1. A) $25
  2. B) $24
  3. C) $15
  4. D) $20

Answer:  D

Explanation:  D) = 1.25B × $20 per share = $25 billion - $5 billion cash = $20 billion/1 billion shares = $20

Diff: 2

Section:  14.2 Modigliani-Miller I: Leverage, Arbitrage, and Firm Value

Skill:  Analytical

 

26) Assume that in addition to 1.25 billion common shares outstanding, Luther has stock options given to employees valued at $2 billion.  The market value of Luther's non-cash assets is closest to:

  1. A) $22 billion
  2. B) $20 billion
  3. C) $25 billion
  4. D) $18 billion

Answer:  A

Explanation:  A) = 1.25B × $20 per share = $25 billion + $2 billion options - $5 billion cash = $22 billion

Diff: 2

Section:  14.2 Modigliani-Miller I: Leverage, Arbitrage, and Firm Value

Skill:  Analytical

 

27) Assume that in addition to 1.25 billion common shares outstanding, Luther has stock options given to employees valued at $2 billion. After the repurchase how many shares will Luther have outstanding?

  1. A) 1.0 billion
  2. B) 1.2 billion
  3. C) 0.75 billion
  4. D) 1.1 billion

Answer:  A

Explanation:  A) $5 billion/$20 Share = .250 billion shares repurchased.

Shares outstanding = 1.25 - .25 = 1.0 billion

Diff: 1

Section:  14.2 Modigliani-Miller I: Leverage, Arbitrage, and Firm Value

Skill:  Analytical

 

28) Louie's Truck Repair has assets with a market value of $8000.  The company has three types of securities: equity, $2500 of debt, and 100 warrants that are fairly priced at $20 each.  What is the value of Louie's equity?

  1. A) $5430
  2. B) $12,500
  3. C) $10,500
  4. D) $3500

Answer:  D

Explanation:  D) Equity value = Assets - debt - warrants

= $8000 - $2500 - ($20 × 100) = $3500

Diff: 2

Section:  14.2 Modigliani-Miller I: Leverage, Arbitrage, and Firm Value

Skill:  Analytical


Use the information for the question(s) below.

 

Consider two firms: firm Without has no debt, and firm With has debt of $10,000 on which it pays interest of 5% per year.  Both companies have identical projects that generate free cash flows of $1000 or $2000 each year.  Suppose that there are no taxes, and after paying any interest on debt, both companies use all remaining cash free cash flows to pay dividends each year.

 

29) Fill in the table below showing the payments debt and equity holders of each firm will receive given each of the two possible levels of free cash flows:

 

 

 

Without

 

 

 

With

 

Free Cash Flow

Interest Payments

 

Equity Dividends

 

Interest Payments

 

Equity Dividends

1000

 

 

 

 

 

 

 

2000

 

 

 

 

 

 

 

 

Answer: 

 

 

Without

 

 

 

With

 

Free Cash Flow

Interest Payments

 

Equity Dividends

 

Interest Payments

 

Equity Dividends

1000

0

 

1000

 

500

 

500

2000

0

 

2000

 

500

 

1500

Diff: 2

Section:  14.2 Modigliani-Miller I: Leverage, Arbitrage, and Firm Value

Skill:  Analytical

 

 

30) Suppose you own 10% of the equity of Without.  What is another portfolio you could hold that would provide you with the same exact cash flows?

Answer:  The cash flows for a 10% ownership stake in With and Without are shown below:

 

 

 

Without

 

 

 

With

 

Free Cash Flow

Interest Payments

 

Equity Dividends

 

Interest Payments

 

Equity Dividends

100

0

 

100

 

50

 

50

200

0

 

200

 

50

 

150

 

To achieve the same payout as Without you would need to invest $1000 in With Bond's paying 5% interest and purchase a 10% stake in With's equity paying $50 or $150 in dividends.

 

So your payoff when the firm's FCF is 1000 = 50 (interest) + 50 (dividends) = $100 (same as Without's dividends)

 

Payoff when firm's FCF is 2000 = 50 (interest) + 150 (dividends) = $200 (same as Without's dividends)

Diff: 3

Section:  14.2 Modigliani-Miller I: Leverage, Arbitrage, and Firm Value

Skill:  Analytical

31) Suppose you own 10% of the equity of With.  What is another portfolio you could hold that would provide you with the same exact cash flows?

Answer:  The cash flows for a 10% ownership stake in With and Without are shown below:

 

 

 

Without

 

 

 

With

 

Free Cash Flow

Interest Payments

 

Equity Dividends

 

Interest Payments

 

Equity Dividends

100

0

 

100

 

50

 

50

200

0

 

200

 

50

 

150

 

To achieve the same payout as Without you would need to borrow $1000 at the risk free rate of 5% interest and purchase a 10% stake in Without's equity paying $100 or $20 in dividends.

 

So your payoff when the firm's FCF is 1000 = -50 (interest) + 100 (dividends) = $50 (same as With's dividends)

 

Payoff when firm's FCF is 2000 = -50 (interest) + 200 (dividends) = $150 (same as With's dividends)

Diff: 3

Section:  14.2 Modigliani-Miller I: Leverage, Arbitrage, and Firm Value

Skill:  Analytical

 

 

32) What is a market value balance sheet and how does it differ from a book value balance sheet?

Answer:  One application of MM Proposition I is the useful device known as the market value balance sheet of the firm. A market value balance sheet is similar to an accounting balance sheet, with two important distinctions. First, ALL assets and liabilities of the firm are included—even intangible assets such as reputation, brand name, or human capital that are missing from a standard accounting balance sheet. Second, all values are current market values rather than historical costs. On the market value balance sheet the total value of all securities issued by the firm must equal the total value of the firm's assets.

       The market value balance sheet captures the idea that value is created by a firm's choice of assets and investments. By choosing positive-NPV projects that are worth more than their initial investment, the firm can enhance its value. Holding fixed the cash flows generated by the firm's assets, however, the choice of capital structure does not change the value of the firm. Instead, it merely divides the value of the firm into different securities.

Diff: 2

Section:  14.2 Modigliani-Miller I: Leverage, Arbitrage, and Firm Value

Skill:  Conceptual

14.3   Modigliani-Miller II: Leverage, Risk, and the Cost of Capital

 

1) Suppose that Taggart Transcontinental currently has no debt and has an equity cost of capital of 10%.  Taggart is considering borrowing funds at a cost of 6% and using these funds to repurchase existing shares of stock.  Assume perfect capital markets.  If Taggart borrows until they achieved a debt-to-value ratio of 20%, then Taggart's levered cost of equity would be closest to:

  1. A) 8.0%
  2. B) 9.2%
  3. C) 10.0%
  4. D) 11.0%

Answer:  D

Explanation:  D) re = ru + (ru - rd) = 10% + (10% - 6%) = 11%

Diff: 2

Section:  14.3 Modigliani-Miller II: Leverage, Risk, and the Cost of Capital

Skill:  Analytical

 

2) Suppose that Rearden Metal currently has no debt and has an equity cost of capital of 12%.  Rearden is considering borrowing funds at a cost of 6% and using these funds to repurchase existing shares of stock.  Assume perfect capital markets.  If Rearden borrows until they achieved a debt-to-equity ratio of 50%, then Rearden's levered cost of equity would be closest to:

  1. A) 10.0%
  2. B) 12.0%
  3. C) 15.0%
  4. D) 16.0%

Answer:  C

Explanation:  C) re = ru + (ru - rd) = 12% + (12% - 6%) = 15%

Diff: 2

Section:  14.3 Modigliani-Miller II: Leverage, Risk, and the Cost of Capital

Skill:  Analytical

 

Use the following information to answer the question(s) below.

 

Galt Industries has no debt, total equity capitalization of $600 million, and an equity beta of 1.2.  Included in Galt's assets is $90 million in cash and risk-free securities.  Assume the risk-free rate is 4% and the market risk premium is 6%.

 

3) Galt's enterprise value is closest to:

  1. A) $90 million
  2. B) $510 million
  3. C) $600 million
  4. D) $690 million

Answer:  B

Explanation:  B) Enterprise value = equity + debt - cash = $600 million - $90 million = $510 million

Diff: 1

Section:  14.3 Modigliani-Miller II: Leverage, Risk, and the Cost of Capital

Skill:  Analytical

4) Galt's asset beta (ie the beta of its operating assets) is closest to:

  1. A) 1.1
  2. B) 1.2
  3. C) 1.3
  4. D) 1.4

Answer:  D

Explanation:  D)  βU = βE + βD - β

              =  × 1.2 -  × 0 = 1.411765

Diff: 3

Section:  14.3 Modigliani-Miller II: Leverage, Risk, and the Cost of Capital

Skill:  Analytical

 

5) Galt's WACC is closest to:

  1. A) 10.6%
  2. B) 11.2%
  3. C) 11.8%
  4. D) 12.5%

Answer:  D

Explanation:  D)  βU = βE + βD + β

              =  × 1.2 +  × 0 = 1.411765

rwacc = rf + βu(rm - rf) = 4% + 1.411765(6%) = 12.47%

Diff: 3

Section:  14.3 Modigliani-Miller II: Leverage, Risk, and the Cost of Capital

Skill:  Analytical

 

 

6) Consider the following equation:

 

E + D = U = A

 

The E in this equation represents:

  1. A) the value of the firm's equity.
  2. B) the value of the firm's debt.
  3. C) the value of the firm's unlevered equity.
  4. D) the market value of the firm's assets.

Answer:  A

Diff: 1

Section:  14.3 Modigliani-Miller II: Leverage, Risk, and the Cost of Capital

Skill:  Conceptual

7) Consider the following equation:

 

E + D = U = A

 

The U in this equation represents:

  1. A) the value of the firm's equity.
  2. B) the market value of the firm's assets.
  3. C) the value of the firm's unlevered equity.
  4. D) the value of the firm's debt.

Answer:  C

Diff: 1

Section:  14.3 Modigliani-Miller II: Leverage, Risk, and the Cost of Capital

Skill:  Conceptual

 

8) Consider the following equation:

 

E + D = U = A

 

The A in this equation represents:

  1. A) the value of the firm's debt.
  2. B) the market value of the firm's assets.
  3. C) the value of the firm's equity.
  4. D) the value of the firm's unlevered equity.

Answer:  B

Diff: 1

Section:  14.3 Modigliani-Miller II: Leverage, Risk, and the Cost of Capital

Skill:  Conceptual

 

 

9) Which of the following statements is FALSE?

  1. A) While debt itself may be cheap, it increases the risk and therefore the cost of capital of the firm's equity.
  2. B) Although debt does not have a lower cost of capital than equity, we can consider this cost in isolation.
  3. C) We can use Modigliani and Miller's first proposition to derive an explicit relationship between leverage and the equity cost of capital.
  4. D) The total market value of the firm's securities is equal to the market value of its assets, whether the firm is unlevered or levered.

Answer:  B

Explanation:  B) Although debt has a lower cost of capital than equity, we can consider this cost in isolation.

Diff: 2

Section:  14.3 Modigliani-Miller II: Leverage, Risk, and the Cost of Capital

Skill:  Conceptual

10) Which of the following statements is FALSE?

  1. A) The levered equity return equals the unlevered return, plus an extra "kick" due to leverage.
  2. B) By holding a portfolio of the firm's equity and its debt, we can replicate the cash flows from holding its levered equity.
  3. C) The cost of capital of levered equity is equal to the cost of capital of unlevered equity plus a premium that is proportional to the market value debt-equity ratio.
  4. D) If a firm is unlevered, all of the free cash flows generated by its assets are available to be paid out to its equity holders.

Answer:  B

Explanation:  B) By holding a portfolio of the firm's equity and its debt, we can replicate the cash flows from holding its unlevered equity.

Diff: 2

Section:  14.3 Modigliani-Miller II: Leverage, Risk, and the Cost of Capital

Skill:  Conceptual

 

11) Which of the following statements is FALSE?

  1. A) If we can identify a comparison firm whose assets have the same risk as the project being evaluated, and if the comparison firm is levered, then we can use its equity cost of capital as the cost of capital for the project.
  2. B) We can calculate the cost of capital of the firm's assets by computing the weighted average of the firm's equity and debt cost of capital, which we refer to as the firm's weighted average cost of capital (WACC).
  3. C) The portfolio of a firm's equity and debt replicates the returns we would earn if the firm were unlevered.
  4. D) When evaluating any potential investment project, we must use a discount rate that is appropriate given the risk of the project's free cash flow.

Answer:  A

Explanation:  A) If we can identify a comparison firm whose assets have the same risk as the project being evaluated, and if the comparison firm is levered, then we can use its unlevered equity cost of capital as the cost of capital for the project.

Diff: 2

Section:  14.3 Modigliani-Miller II: Leverage, Risk, and the Cost of Capital

Skill:  Conceptual

 

12) Which of the following statements is FALSE?

  1. A) With no debt, the WACC is equal to the unlevered equity cost of capital.
  2. B) With perfect capital markets, a firm's WACC is dependent of its capital structure and is equal to its equity cost of capital only the firm it is unlevered.
  3. C) As the firm borrows at the low cost of capital for debt, its equity cost of capital rises, but the net effect is that the firm's WACC is unchanged.
  4. D) Although debt has a lower cost of capital than equity, leverage does not lower a firm's WACC.

Answer:  B

Explanation:  B) With perfect capital markets, a firm's WACC is independent of its capital structure and is equal to its equity cost of capital only the firm it is unlevered.

Diff: 2

Section:  14.3 Modigliani-Miller II: Leverage, Risk, and the Cost of Capital

Skill:  Conceptual

13) Which of the following statements is FALSE?

  1. A) Holding cash has the opposite effect of leverage on risk and return.
  2. B) We use the market value of the firm's net debt when computing its WACC and unlevered beta to measure the cost of capital and market risk of the firm's business assets.
  3. C) Since the WACC does not change with the use of leverage, the value of the firm's free cash flow evaluated using the WACC does not change, and so the enterprise value of the firm does not depend on its financing choices.
  4. D) Even if the firm's capital structure is more complex, the WACC is calculated by computing the weighted average cost of only the firm's debt and equity.

Answer:  D

Diff: 2

Section:  14.3 Modigliani-Miller II: Leverage, Risk, and the Cost of Capital

Skill:  Conceptual

 

14) Which of the following statements is FALSE?

  1. A) The unlevered beta measures the market risk of the firm's business activities, ignoring any additional risk due to leverage.
  2. B) If a firm holds $1 in cash and has $1 of risk-free debt, then the interest earned on the cash will equal the interest paid on the debt. The cash flows from each source cancel each other, just as if the firm held no cash and no debt.
  3. C) The unlevered beta measures the market risk of the firm without leverage, which is equivalent to the beta of the firm's assets.
  4. D) When a firm changes its capital structure without changing its investments, its levered beta will remain unaltered, however, its asset beta will change to reflect the effect of the capital structure change on its risk.

Answer:  D

Explanation:  D) When a firm changes its capital structure without changing its investments, its unlevered beta will remain unaltered, however, its equity beta will change to reflect the effect of the capital structure change on its risk.

Diff: 2

Section:  14.3 Modigliani-Miller II: Leverage, Risk, and the Cost of Capital

Skill:  Conceptual

 

 

15) The following equation:

 

X =  rE +  rD

 

can be used to calculate all of the following EXCEPT:

  1. A) the cost of capital for the firm's assets.
  2. B) the levered cost of equity.
  3. C) the unlevered cost of equity.
  4. D) the weighted average cost of capital.

Answer:  B

Diff: 2

Section:  14.3 Modigliani-Miller II: Leverage, Risk, and the Cost of Capital

Skill:  Conceptual

16) Which of the following equations would NOT be appropriate to use in a firm with risky debt?

  1. A) βE= βU+ (βU - βD)
  2. B) βU= βE + (βU- βD)
  3. C) βE= βU+ βU
  4. D) βU= βE +  βD

Answer:  C

Diff: 2

Section:  14.3 Modigliani-Miller II: Leverage, Risk, and the Cost of Capital

Skill:  Conceptual

 

17) Consider the following equation:

 

βU =  βE +  βD

 

The term  in the equation is:

  1. A) the required return on the firm's equity.
  2. B) the same as the beta of the firm's assets.
  3. C) equal to zero if the firm's debt is riskless.
  4. D) the proportion of the firm financed with equity.

Answer:  D

Diff: 1

Section:  14.3 Modigliani-Miller II: Leverage, Risk, and the Cost of Capital

Skill:  Conceptual

 

 

18) Consider the following equation:

 

βU =  βE +  βD

 

The term βD in the equation is:

  1. A) the same as the beta of the firm's assets.
  2. B) the required return on the firm's equity.
  3. C) the proportion of the firm financed with equity.
  4. D) equal to zero if the firm's debt is riskless.

Answer:  D

Diff: 2

Section:  14.3 Modigliani-Miller II: Leverage, Risk, and the Cost of Capital

Skill:  Conceptual

19) Consider the following equation:

 

βU =  βE +  βD

 

The term βU in the equation is:

  1. A) the same as the beta of the firm's assets.
  2. B) the required return on the firm's equity.
  3. C) the proportion of the firm financed with equity.
  4. D) equal to zero if the firm's debt is riskless.

Answer:  A

Diff: 2

Section:  14.3 Modigliani-Miller II: Leverage, Risk, and the Cost of Capital

Skill:  Conceptual


Use the information for the question(s) below.

 

You are evaluating a new project and need an estimate for your project's beta.  You have identified the following information about three firms with comparable projects:

 

Firm Name

Equity Beta

Debt Beta

Debt to Equity Ratio

Lincoln

1.25

0

0.25

Blinkin

1.6

0.2

1

Nod

2.3

0.3

1.5

 

20) The unlevered beta for Lincoln is closest to:

  1. A) 0.95
  2. B) 1.00
  3. C) 1.05
  4. D) 0.90

Answer:  B

Explanation:  B)

Firm Name

Equity Beta

Debt Beta

Debt to Equity Ratio

Percent Equity

Percent Debt

Unlevered Beta

Lincoln

1.25

0

0.25

0.8

0.2

1

Blinkin

1.6

0.2

1

0.5

0.5

0.9

Nod

2.3

0.3

1.5

0.4

0.6

1.1

 

% equity is calculated as

% debt is calculated as

 

the unlevered beta is calculated as βU = % equity βE + % debt βD

Diff: 2

Section:  14.3 Modigliani-Miller II: Leverage, Risk, and the Cost of Capital

Skill:  Analytical

 

21) The unlevered beta for Blinkin is closest to:

  1. A) 0.95
  2. B) 1.10
  3. C) 1.00
  4. D) 0.90

Answer:  D

Explanation:  C)

Firm Name

Equity Beta

Debt Beta

Debt to Equity Ratio

Percent Equity

Percent Debt

Unlevered Beta

Lincoln

1.25

0

0.25

0.8

0.2

1

Blinkin

1.6

0.2

1

0.5

0.5

0.9

Nod

2.3

0.3

1.5

0.4

0.6

1.1

 

% equity is calculated as

% debt is calculated as

 

the unlevered beta is calculated as βU = % equity βE + % debt βD

Diff: 2

Section:  14.3 Modigliani-Miller II: Leverage, Risk, and the Cost of Capital

Skill:  Analytical

 

 

22) The unlevered beta for Nod is closest to:

  1. A) 1.00
  2. B) 0.90
  3. C) 0.95
  4. D) 1.10

Answer:  D

Explanation:  D)

Firm Name

Equity Beta

Debt Beta

Debt to Equity Ratio

Percent Equity

Percent Debt

Unlevered Beta

Lincoln

1.25

0

0.25

0.8

0.2

1

Blinkin

1.6

0.2

1

0.5

0.5

0.9

Nod

2.3

0.3

1.5

0.4

0.6

1.1

 

% equity is calculated as

% debt is calculated as

the unlevered beta is calculated as βU = % equity βE + % debt βD

Diff: 2

Section:  14.3 Modigliani-Miller II: Leverage, Risk, and the Cost of Capital

Skill:  Analytical

 

23) Based upon the three comparable firms, what asset beta would you recommend using for your firm's new project?

Answer:  

Firm Name

Equity Beta

Debt Beta

Debt to Equity Ratio

Percent Equity

Percent Debt

Unlevered Beta

Lincoln

1.25

0

0.25

0.8

0.2

1

Blinkin

1.6

0.2

1

0.5

0.5

0.9

Nod

2.3

0.3

1.5

0.4

0.6

1.1

 

% equity is calculated as

% debt is calculated as

 

the unlevered beta is calculated as βU = % equity βE + % debt βD

the average unlevered beta for the three comparables =  = 1.0, so this is the recommended beta to use.

Diff: 2

Section:  14.3 Modigliani-Miller II: Leverage, Risk, and the Cost of Capital

Skill:  Analytical

 

Use the information for the question(s) below.

 

Consider a project with free cash flows in one year of $90,000 in a weak economy or $117,000 in a strong economy, with each outcome being equally likely.  The initial investment required for the project is $80,000, and the project's cost of capital is 15%.  The risk-free interest rate is 5%.

 

24) Suppose that you borrow $30,000 in financing the project.  According to MM proposition II, the firm's equity cost of capital will be closest to:

  1. A) 21%
  2. B) 15%
  3. C) 20%
  4. D) 25%

Answer:  C

Explanation:  C) PV(equity cash flows - unlevered) =  = $90,000

Given rE = rU + (rU - rD)

rE = .15 + (.15 - .05) = .20 or 20%

Diff: 2

Section:  14.3 Modigliani-Miller II: Leverage, Risk, and the Cost of Capital

Skill:  Analytical

25) Suppose that you borrow $60,000 in financing the project.  According to MM proposition II, the firm's equity cost of capital will be closest to:

  1. A) 45%
  2. B) 30%
  3. C) 25%
  4. D) 35%

Answer:  D

Explanation:  D) PV(equity cash flows - unlevered) =  = $90,000

Given rE = rU + (rU - rD)

rE = .15 + (.15 - .05) = .35 or 35%

Diff: 2

Section:  14.3 Modigliani-Miller II: Leverage, Risk, and the Cost of Capital

Skill:  Analytical

 

Use the information for the question(s) below.

 

Luther Industries has no debt, a total equity capitalization of $20 billion, and a beta of 1.8.  Included in Luther's assets are $4 billion in cash and risk-free securities. 

 

26) What is Luther's enterprise value?

  1. A) $16 billion
  2. B) $10.5 billion
  3. C) $24 billion
  4. D) $20 billion

Answer:  A

Explanation:  A) Enterprise value = market value - cash = $20 billion - $4 billion = $16 billion

Diff: 1

Section:  14.3 Modigliani-Miller II: Leverage, Risk, and the Cost of Capital

Skill:  Analytical

 

27) Considering the fact that Luther's Cash is risk-free,Luther's unlevered beta is closest to:

  1. A) 1.90
  2. B) 2.25
  3. C) 1.50
  4. D) 1.45

Answer:  B

Explanation:  B) βU =  βE +  βD

βU =  1.8 +  0 = 2.25

Diff: 2

Section:  14.3 Modigliani-Miller II: Leverage, Risk, and the Cost of Capital

Skill:  Analytical


Use the information for the question(s) below.

 

Consider a project with free cash flows in one year of $90,000 in a weak economy or $117,000 in a strong economy, with each outcome being equally likely.  The initial investment required for the project is $80,000, and the project's cost of capital is 15%.  The risk-free interest rate is 5%.

 

28) Suppose that you borrow only $45,000 in financing the project.  According to MM proposition II, calculate the firm's equity cost of capital.

Answer:  PV(equity cash flows - unlevered) =  = $90,000

Given rE = rU + (rU - rD)

rE = .15 + (.15 - .05) = .25 or 25%

Diff: 2

Section:  14.3 Modigliani-Miller II: Leverage, Risk, and the Cost of Capital

Skill:  Analytical

 

29) Sisyphean Bolder Movers Incorporated has no debt, a total equity capitalization of $50 billion, and a beta of 2.0.  Included in Sisyphean's assets are $12 billion in cash and risk-free securities.  Calculate Sisyphean's enterprise value and unlevered cost of equity considering the fact that Sisyphean's cash is risk-free.

Answer:  Enterprise value = market value - cash = $50 billion - $12 billion = $38 billion

 

βU =  βE +  βD

βU = 2.0 +  0 = 2.631579

Diff: 2

Section:  14.3 Modigliani-Miller II: Leverage, Risk, and the Cost of Capital

Skill:  Analytical

 

14.4   Capital Structure Fallacies

 

Use the following information to answer the question(s) below.

 

Nielson Motors is currently an all equity financed firm.  It expects to generate EBIT of $20 million over the next year.  Currently Nielson has 8 million shares outstanding and its stock is trading at $20.00 per share.  Nielson is considering changing its capital structure by borrowing $50 million at an interest rate of 8% and using the proceeds to repurchase shares.  Assume perfect capital markets.

 

1) Nielson's EPS if they choose not to change their capital structure is closest to:

  1. A) $2.00
  2. B) $2.30
  3. C) $2.50
  4. D) $2.90

Answer:  C

Explanation:  C) EPS = NI/shares outstanding = $20 million/8 million = $2.50 note NI = EBIT in this case

Diff: 1

Section:  14.4 Capital Structure Fallacies

Skill:  Analytical

 

2) Nielson's EPS if they change their capital structure is closest to:

  1. A) $2.00
  2. B) $2.30
  3. C) $2.50
  4. D) $2.90

Answer:  D

Explanation:  D) Nielson will repurchase $50 million/$20 share = 2.5 million shares

This leaves 8 million - 2.5 million = 5.5 million shares outstanding

NI = EBIT - Interest expense (no taxes) = $20 million - $50 million × 8% = $16 million available to shareholders.  EPS =NI/shares outstanding = $16 million/5.5 million = $2.91

Diff: 2

Section:  14.4 Capital Structure Fallacies

Skill:  Analytical

 

3) Which of the following statements is FALSE?

  1. A) The money taken in by the firm as a result of the share issue exactly offsets the dilution of the shares.
  2. B) Most analysts prefer to use performance measures and valuation multiples that are based on the firm's earnings before interest has been deducted.
  3. C) Because the firm's earnings per share and price-earnings ratio are affected by leverage implies that we can always reliably compare these measures across firms with different capital structures.
  4. D) In general, as long as the firm sells the new shares of equity at a fair price, there will be no gain or loss to shareholders associated with the equity issue itself.

Answer:  C

Diff: 2

Section:  14.4 Capital Structure Fallacies

Skill:  Conceptual


Use the information for the question(s) below.

 

Assume that Rose Corporation's (RC) EBIT is not expected to grow in the future and that all earnings are paid out as dividends.  RC is currently an all equity firm.  It expects to generate earnings before interest and taxes (EBIT) of $6 million over the next year.  Currently RC has 5 million shares outstanding and its stock is trading for a price of $12.00 per share.  RC is considering borrowing $12 million at a rate of 6% and using the proceeds to repurchase shares at the current price of $12.00.

 

4) Prior to any borrowing and share repurchase, RC's EPS is closest to:

  1. A) $0.60
  2. B) $1.00
  3. C) $1.20
  4. D) $0.50

Answer:  C

Explanation:  C) EPS = EBIT/Shares outstanding = $6M/5M shares = $1.20 EPS

Diff: 1

Section:  14.4 Capital Structure Fallacies

Skill:  Analytical

 

5) Prior to any borrowing and share repurchase, the equity cost of capital for RC is closest to:

  1. A) 11%
  2. B) 10%
  3. C) 12%
  4. D) 9%

Answer:  B

Explanation:  B) EPS = EBIT/Shares outstanding = $6M/5M shares = $1.20 EPS

 

V =

$12.00 =  so rU = .10

Diff: 2

Section:  14.4 Capital Structure Fallacies

Skill:  Analytical

 

6) Following the borrowing of $12 million and subsequent share repurchase, the number of shares that RC will have outstanding is closest to:

  1. A) 4.0 million
  2. B) 6.0 million
  3. C) 4.9 million
  4. D) 4.5 million

Answer:  A

Explanation:  A) $12 million/$12 per share = 1 million shares repurchased, so 5M shares initially - 1M shares repurchased = 4M total shares outstanding

Diff: 1

Section:  14.4 Capital Structure Fallacies

Skill:  Analytical

 

7) Following the borrowing of $12 million and subsequent share repurchase, the equity cost of capital for RC is closest to:

  1. A) 12%
  2. B) 9%
  3. C) 11.0%
  4. D) 10%

Answer:  C

Explanation:  C) EPS = EBIT/Shares outstanding = $6M/5M shares = $1.20 EPS

 

V =

$12.00 =  so rU = .10

rE = rU + (rU - rD)

rE = .10 + (.10 - .06) = .11 or 11%

Diff: 2

Section:  14.4 Capital Structure Fallacies

Skill:  Analytical

 

8) Following the borrowing of $12 million and subsequent share repurchase, the expected earnings per share for RC is closest to:

  1. A) $1.32
  2. B) $1.44
  3. C) $1.40
  4. D) $1.20

Answer:  A

Explanation:  A) EPS = (EBIT)/Shares outstanding = ($6M)/5M shares = $1.20 EPS (unlevered)

 

$12 million/$12 per share = 1 million shares repurchased, so 5M shares initially - 1M shares repurchased = 4M total shares outstanding.

 

EPS = (EBIT - Interest)/Shares outstanding = ($6M - .06 × $12)/4M shares = $1.32 EPS

Diff: 2

Section:  14.4 Capital Structure Fallacies

Skill:  Analytical

 

9) Following the borrowing of $12 million and subsequent share repurchase, the value of a share for RC is closest to:

  1. A) $14.00
  2. B) $13.20
  3. C) $12.00
  4. D) $10.80

Answer:  C

Explanation:  C) EPS = (EBIT)/Shares outstanding = ($6M)/5M shares = $1.20 EPS (unlevered)

 

V =

$12.00 =  so rU = .10

rE = rU + (rU - rD)

rE = .10 + (.10 - .06) = .11 or 11%

$12 million/$12 per share = 1 million shares repurchased, so 5M shares initially - 1M shares repurchased = 4M total shares outstanding.

 

EPS = (EBIT - Interest)/Shares outstanding = ($6M - .06 × $12)/4M shares = $1.32 EPS

 

V =  = $12.00

Diff: 2

Section:  14.4 Capital Structure Fallacies

Skill:  Analytical


Use the information for the question(s) below.

 

Rockwood Enterprises is currently an all equity firm and has just announced plans to expand their current business.  In order to fund this expansion, Rockwood will need to raise $100 million in new capital.  After the expansion, Rockwood is expected to produce earnings before interest and taxes of $50 million per year in perpetuity.  Rockwood has already announced the planned expansion, but has not yet determined how best to fund the expansion.  Rockwood currently has 16 million shares outstanding and following the expansion announcement these shares are trading at $25 per share.  Rockwood has the ability to borrow at a rate of 5% or to issue new equity at $25 per share.

 

10) If Rockwood finances their expansion by issuing new stock, what will Rockwood's cost of equity capital be?

  1. A) 12%
  2. B) 15%
  3. C) 8%
  4. D) 10%

Answer:  D

Explanation:  D) FIrst, since the project is already announced, any positive NPV is already reflected into Rockwood's current stock price.  So, to raise the needed $100 million at $25 per share, Rockwood will need to issue  = 4 million new shares for a total of 16 + 4 = 20 million shares outstanding.  So EPS = $50/20 = $2.50

 

V =

$25.00 = , so rU = .10

Diff: 2

Section:  14.4 Capital Structure Fallacies

Skill:  Analytical

 

11) If Rockwood finances their expansion by issuing $100 million in debt at 5%, what will Rockwood's cost of equity capital be?

  1. A) 11.25%
  2. B) 10.70%
  3. C) 12.50%
  4. D) 12.00%

Answer:  A

Explanation:  A) First, since the project is already announced, any positive NPV is already reflected into Rockwood's current stock price.  So, to raise the needed $100 million at $25 per share, Rockwood will need to issue  = 4 million new shares for a total of 16 + 4 = 20 million shares outstanding.  So EPS per share = $50/20 = $2.50

 

V =

 

$25.00 = , so rU = .10

 

Now

 

rE = rU + (rU - rD)

 

rE = .10 + (.10 - .05) = .1125 or 11.25%

Diff: 2

Section:  14.4 Capital Structure Fallacies

Skill:  Analytical

 

12) Show mathematically that the stock price of Rockwood does not depend on whether they issue new stock or borrow to fund their expansion.

Answer:  First, since the project is already announced, any positive NPV is already reflected into Rockwood's current stock price.  So, to raise the needed $100 million at $25 per share, Rockwood will need to issue  = 4 million new shares for a total of 16 + 4 = 20 million shares outstanding.  So EPS per share = $50/20 = $2.50

 

V =

$25.00 = , so rU = .10

 

Remember the price here is $25.00 per share.

 

Now:

rE = rU + (rU - rD)

rE = .10 + (.10 - .05) = .1125 or 11.25%

 

First, since the project is already announced, any positive NPV is already reflected into Rockwood's current stock price.

 

EPS =  =  = 2.8125

 

V =  =  = $25.00 same as all equity option.

Diff: 3

Section:  14.4 Capital Structure Fallacies

Skill:  Analytical


Use the information for the question(s) below.

 

Assume that Rose Corporation's (RC) EBIT is not expected to grow in the future and that all earnings are paid out as dividends.  RC is currently an all equity firm.  It expects to generate earnings before interest and taxes (EBIT) of $6 million over the next year.  Currently RC has 5 million shares outstanding and its stock is trading for a price of $12.00 per share.  RC is considering borrowing $12 million at a rate of 6% and using the proceeds to repurchase shares at the current price of $12.00.

 

13) Show mathematically that the stock price of RC won't change following the debt issuance and share repurchase.

Answer:  EPS = (EBIT)/Shares outstanding = ($6M)/5M shares = $1.20 EPS (unlevered)

 

V =

$12.00 =  so rU = .10

rE = rU + (rU - rD)

rE = .10 + (.10 - .06) = .11 or 11%

 

EPS = (EBIT - Interest)/Shares outstanding = ($6M - .06 × $12)/4M shares = $1.32 EPS

V =  = $12.00 which equals the original stock.

Diff: 2

Section:  14.4 Capital Structure Fallacies

Skill:  Analytical

 

 

14.5   MM: Beyond the Propositions

 

1) Which of the following statements is FALSE?

  1. A) Since the publication of their original paper, Modigliani and Miller's ideas have greatly influenced finance research and practice.
  2. B) Proposition I was one of the first arguments to show that the Law of One Price could have strong implications for security prices and firm values in a competitive market; it marks the beginning of the modern theory of corporate finance.
  3. C) The conservation of value principle applies only to questions of debt versus equity

or capital structure.

  1. D) The conservation of value principle for financial markets states that with perfect capital markets, financial transactions neither add nor destroy value, but instead represent a repackaging of risk (and therefore return).

Answer:  C

Diff: 2

Section:  14.5 MM: Beyond the Propositions

Skill:  Conceptual

2) The beginning of the modern theory of finance was marked by:

  1. A) the approach used by Modigliani and Miller.
  2. B) the approach used by John and Williams.
  3. C) the approach taken by Berk and DeMarzo.
  4. D) the approach taken by Dan Harris.

Answer:  A

Diff: 2

Section:  14.5 MM: Beyond the Propositions

Skill:  Definition

 

3) What is the conservation of value principle?

Answer:  With perfect capital markets, financial transactions neither add nor destroy value, but instead represent a repackaging of risk (and therefore return).

Diff: 2

Section:  14.5 MM: Beyond the Propositions

Skill:  Definition

 

 

 

 

 

 

 

 

 

 -----

Key Contents: Financial Management and Corporate Finance
------
Financial Management: Core Concepts, 3rd Edition, 2016, Raymond Brooks, Oregon State University
Financial Management: Concepts and Applications, 2015, Stephen Foerster, Richard Ivey School of Business, University of Western Ontario
Financial Management: Principles and Applications, 12th Edition, 2015, Sheridan Titman, Arthur J. Keown
International Financial Management, 2nd Edition, 2012, Geert J Bekaert, Columbia University, Robert J. Hodrick, Columbia University
------
Corporate Finance, 4th Edition, 2017, Jonathan Berk, Stanford University, Peter DeMarzo, Stanford University
Corporate Finance: The Core, 4th Edition, 2017, Jonathan Berk, Stanford University, Peter DeMarzo, Stanford University
Excel Modeling in Corporate Finance, 5th Edition, 2015, Craig W. Holden, Indiana University
Fundamentals of Corporate Finance, 3rd Edition, 2015, Jonathan Berk, Stanford University, Peter DeMarzo, Stanford University, Jarrad Harford, University of Washington

-----

Fundamentals of Investing, 13th Edition, Scott B. Smart, Lawrence J. Gitman, Michael D. Joehnk, 2017
Multinational Business Finance, 14th Edition, David K. Eiteman, Arthur I. Stonehill, Michael H. Moffett, 2016
Personal Finance, 6th Edition, 2017, Jeff Madura, Emeritus Professor of Finance; Florida Atlantic University
Personal Finance: Turning Money into Wealth, 7th Edition, 2016, Arthur J. Keown, Virginia Polytechnic Instit. and State University
Foundations of Finance, 9th Edition, 2017, Arthur J. Keown, John H. Martin
Principles of Managerial Finance, 14th Edition, 2015, Lawrence J. Gitman, Chad J. Zutter
------
Part 1: Fundamental Concepts and Basic Tools of Finance
1. Financial Management
2. Financial Statements
3. The Time Value of Money (Part 1)
4. The Time Value of Money (Part 2)
5. Interest Rates
Part 2: Valuing Stocks and Bonds and Understanding Risk and Return
6. Financial Management Bonds and Bond Valuation
7. Stocks and Stock Valuation
8. Risk and Return
Part 3: Capital Budgeting
9: Capital Budgeting Decision Models
10: Cash Flow Estimation
11: The Cost of Capital
Part 4: Financial Planning and Evaluating Performance
12. Forecasting and Short-Term Financial Planning
13. Working Capital Management
14. Financial Ratios and Firm Performance
Part 5: Other Selected Finance Topics
15. Raising Capital
16. Capital Structure
17. Dividends, Dividend Policy, and Stock Splits
18. International Financial Management
Appendix 1 Future Value Interest Factors
Appendix 2 Present Value Interest Factors
Appendix 3 Future Value Interest Factors of an Annuity
Appendix 4 Present Value Interest Factors of an Annuity
Appendix 5 Answers to Prepping for Exam Questions
------
1. Overview of Financial Management
2. Sizing Up a Business: A Non-Financial Perspective
3. Understanding Financial Statements
4. Measuring Financial Performance
5. Managing Day-To-Day Cash Flow
6. Projecting Financial Requirements and Managing Growth
7. Time Value of Money Basics and Applications
8. Making Investment Decisions
9. Overview of Capital Markets: Long-Term Financing Instruments
10. Assessing the Cost of Capital: What Investors Require
11. Understanding Financing and Payout Decisions
12. Designing an Optimal Capital Structure
13. Measuring and Creating Value
14. Comprehensive Case Study: Wal-Mart Stores, Inc.

1. Overview of Financial Management
• 1.1: Financial Management and the Cash Flow Cycle
• 1.2: The Role of Financial Managers
• 1.3: A Non-Financial Perspective of Financial Management
• 1.4: Financial Management’s Relationship with Accounting and Other Disciplines
• 1.5: Types of Firms
• 1.6: A Financial Management Framework
• 1.7: Relevance for Managers
• 1.8: Summary
• 1.9: Additional Readings
• 1.10: End of Chapter Problems
2. Sizing Up a Business: A Non-Financial Perspective
• 2.1: Sizing Up The Overall Economy
o 2.1.1: GDP Components
o 2.1.2: Sector-Related Fluctuations
o 2.1.3: Inflation and Interest Rates
o 2.1.4: Capital Markets
o 2.1.5: Economic Size-Up Checklist
• 2.2: Sizing Up the Industry
o 2.2.1: Industry Life Cycles
o 2.2.2: The Competitive Environment
o 2.2.3: Opportunities and Risks
o 2.2.4: Industry Size-up Checklist
• 2.3: Sizing Up Operations Management and Supply Risk
• 2.4: Sizing Up Marketing Management and Demand Risk
• 2.5: Sizing Up Human Resource Management and Strategy
• 2.6: Sizing Up Home Depot: An Example
• 2.7: Relevance for Managers
• 2.8 Summary
• 2.9: Additional Readings and Information
• 2.10: End of Chapter Problems
3. Understanding Financial Statements
• 3.1: Understanding Balance Sheets
o 3.1.1: Understanding Assets
o 3.1.2: Understanding Liabilities
o 3.1.3: Understanding Equity
• 3.2: Understanding Income Statements
o 3.2.1: Understanding Revenues, Costs, Expenses, and Profits
o 3.2.2: Connecting a Firm’s Income Statement and Balance Sheet
• 3.3: Understanding Cash Flow Statements
o 3.3.1: Cash Flows Related to Operating Activities
o 3.3.2: Cash Flows from Investing Activities
o 3.3.3: Cash Flows from Financing Activities
• 3.4: Relevance for Managers
• 3.5: Summary
• 3.6: Additional Readings and Sources of Information
• 3.7: End of Chapter Problems
4. Measuring Financial Performance
• 4.1: Performance Measures
o 4.1.1: Return on Equity
o 4.1.2: Profitability Measures
o 4.1.3: Resource Management Measures
o 4.1.4: Liquidity Measures
o 4.1.5: Leverage Measures
o 4.1.6: Application: Home Depot
• 4.2: Reading Annual Reports
• 4.3: Relevance for Managers
• 4.4: Summary
• 4.5: Additional Readings and Sources of Information
• 4.6: End of Chapter Problems
5. Managing Day-To-Day Cash Flow
• 5.1: Cash Flow Cycles
• 5.2: Working Capital Management
o 5.2.1: Managing Inventory
o 5.2.2: Managing Accounts Receivable
o 5.2.3: Managing Accounts Payable
o 5.2.4: Application: Home Depot
• 5.2.4.1: Orange Computers and Little Orange Computers
• 5.2.4.2: Home Depot
• 5.3: Short-Term Financing
o 5.3.1: Bank Loans
o 5.3.2: Commercial Paper
o 5.3.3: Banker’s Acceptance
• 5.4: Relevance for Managers
• 5.5: Summary
• 5.6: Additional Readings
• 5.7: End of Chapter Problems

6. Projecting Financial Requirements and Managing Growth
• 6.1: Generating Pro Forma Income Statements
o 6.1.1: Establishing the Cost of Goods Sold and Gross Profit
o 6.1.2: Establishing Expenses
o 6.1.3: Establishing Earnings
• 6.2: Generating Pro Forma Balance Sheets
o 6.2.1: Establishing Assets
o 6.2.2: Establishing Liabilities and Equity
• 6.3: Generating Pro Forma Cash Budgets
o 6.3.1: Establishing Cash Inflows
o 6.3.2: Establishing Cash Outflows
o 6.3.3: Establishing Net Cash Flows
• 6.4: Performing Sensitivity Analysis
o 6.4.1: Sales Sensitivity
o 6.4.1: Interest Rate Sensitivity
o 6.4.3: Working Capital Sensitivity
• 6.5: Understanding Sustainable Growth and Managing Growth
• 6.6: Relevance for Managers
• 6.7: Summary
• 6.8: Additional Readings and Resources
• 6.9: Problems

7. Time Value of Money Basics and Applications
• 7.1: Exploring Time Value of Money Concepts
o 7.1.1: Future Values
o 7.1.2: Present Values
o 7.1.3: Annuities
o 7.1.4: Perpetuities
• 7.2: Applying Time Value of Money Concepts to Financial Securities
o 7.2.1: Bonds
o 7.2.2: Preferred Shares
o 7.2.3: Common Equity
• 7.3: Relevance for Managers
• 7.4: Summary
• 7.5: Additional Readings
• 7.6: End of Chapter Problems

8. Making Investment Decisions
• 8.1: Understanding the Decision-Making Process
• 8.2: Capital Budgeting Techniques
o 8.2.1: Payback
• 8.2.1.1: Strengths and Weaknesses of the Payback Method
o 8.2.2: Net Present Value
• 8.2.2.1: Strengths and Weaknesses of the Net Present Value Method
o 8.2.3: Internal Rate of Return
• 8.2.3.1: Strengths and Weaknesses of the Internal Rate of Return Method
• 8.2.3.2: Modified Internal Rate of Return
• 8.3: Capital Budgeting Extensions
o 8.3.1: Profitability Index
o 8.3.2: Equivalent Annual Cost and Project Lengths
o 8.3.3: Mutually Exclusive Projects and Capital Rationing
• 8.4: Relevance for Managers
• 8.5: Summary
• 8.6: Additional Readings
• 8.7: End of Chapter Problems

9. Overview of Capital Markets: Long-Term Financing Instruments
• 9.1: Bonds
o 9.1.1: Changing Bond Yields
o 9.1.2: Bond Features
o 9.1.3: Bond Ratings
• 9.2: Preferred Shares
• 9.3: Common Shares
o 9.3.1: Historical Returns
• 9.4: Capital Markets Overview
o 9.4.1: Private versus Public Markets
o 9.4.2: Venture Capital and Private Equity
o 9.4.3: Initial Offerings versus Seasoned Issues
o 9.4.4: Organized Exchanges versus Over-The-Counter Markets
o 9.4.5: Role of Intermediaries
• 9.5: Market Efficiency
o 9.5.1: Weak Form
o 9.5.2: Semi-strong Form
o 9.5.3: Strong Form
o 9.5.4: U.S. Stock Market Efficiency
• 9.6: Relevance for Managers
• Appendix: Understanding Bond and Stock Investment Information
• 9.7: Summary
• 9.8: Additional Readings
• 9.9: End of Chapter Problems

10. Assessing the Cost of Capital: What Investors Require
• 10.1: Understanding the Cost of Capital: An Example
• 10.2: Understanding the Implications of the Cost of Capital
• 10.3: Defining Risk
• 10.4: Estimating the Cost of Debt
• 10.5: Estimating the Cost of Preferred Shares
• 10.6: Estimating the Cost of Equity
o 10.6.1: Dividend Model Approach
o 10.6.2: Capital Asset Pricing Model
• 10.6.2.1: Risk-Free Rate
• 10.6.2.2: Market Risk Premium
• 10.6.2.3: Beta
• 10.7: Estimating Component Weights
• 10.8: Home Depot Application
• 10.9: Hurdle Rates
• 10.10: Relevance for Managers
• 10.11: Summary
• 10.12: Additional Readings
• 10.13: Problems
11. Understanding Financing and Payout Decisions
• 11.1: Capital Structure Overview
• 11.2: Understanding the Modigliani-Miller Argument: Why Capital Structure Does Not Matter
• 11.3: Relaxing the Assumptions: Why Capital Structure Does Matter
o 11.3.1: Understanding the Impact of Corporate Taxes
o 11.3.2: Understanding the Impact of Financial Distress
o 11.3.3: Combining Corporate Taxes and Financial Distress Costs
o 11.3.4: Impact of Asymmetric Information
• 11.4: Understanding Payout Policies
o 11.4.1: Paying Dividends
o 11.4.2: Repurchasing Shares
o 11.4.3: Do Dividend Policies Matter?
• 11.5: Relevance for Managers
• 11.6: Summary
• 11.7: Additional Resources
• 11.8: End of Chapter Problems
• Appendix: Why Dividend Policy Doesn’t Matter: Example

12. Designing an Optimal Capital Structure
• 12.1: Factor Affecting Financing Decisions: The FIRST Approach
o 12.1.1: Maximizing Flexibility
o 12.1.2: Impact on EPS: Minimizing Cost
• 12.1.2.1: A Simple Valuation Model
• 12.1.2.2: Earnings before Interest and Taxes Break-Even: What Leverage Really Means
• 12.1.2.3: Does Issuing Equity Dilute the Value of Existing Shares?
o 12.1.3: Minimizing Risk
o 12.1.4: Maintaining Shareholder Control
o 12.1.5: Optimal Training
• 12.2: Tradeoff Assessment: Evaluating FIRST Criteria
• 12.3: Relevance for Managers
• 12.4: Summary
• 12.5: Additional Resource
• 12.6: End of Chapter Problems

13. Measuring and Creating Value
• 13.1: An Overview of Measuring and Creating Value
• 13.2: Measuring Value: The Book Value Plus Adjustments Method
o 13.2.1: Pros and Cons of the Book Value of Equity Plus Adjustments Method
• 13.3: Measuring Value: The Discount Cash Flow Analysis Method
o 13.3.1: Estimating Free Cash Flows
o 13.3.2: Estimating the Cost of Capital
o 13.3.3: Estimating the Present Value of Free Cash Flows
o 13.3.4: Estimating the Terminal Value
o 13.3.5: Estimating the Value of Equity
o 13.3.6: Pros and Cons of the Free Cash Flow to the Firm Approach
• 13.4: Measuring Value: Relative Valuations and Comparable Analysis
o 13.4.1: The Price-Earnings Method
• 13.4.1.1: Pros and Cons of the Price-Earnings Approach
o 13.4.2: The Enterprise Value-to-EBITDA Method
• 13.4.2.1: Pros and Cons of the EV/EBITDA Approach
• 13.5: Creating Value and Value-Based Management
• 13.6: Valuing Mergers and Acquisitions
o 13.6.1: Valuing Comparable M&A Transactions
• 13.7: Relevance for Managers
• 13.8: Summary
• 13.9: Additional Readings
• 13.10: End of Chapter Problems

14. Comprehensive Case Study: Wal-Mart Stores, Inc.
• 14.1: Sizing Up Wal-Mart
o 14.1.1: Analyzing the Economy
o 14.1.2: Analyzing the Industry
o 14.1.3: Analyzing Walmart’s Strengths and Weaknesses in Operations, Marketing, Management, and Strategy
• 14.1.3.1: Analyzing Walmart’s Operations
• 14.1.3.2: Analyzing Walmart’s Marketing
• 14.1.3.3: Analyzing Walmart’s Management and Strategy
o 14.1.4: Analyzing Walmart’s Financial Health
• 14.2: Projecting Walmart’s Future Performance
o 14.2.1: Projecting Walmart’s Income Statement
o 14.2.2: Projecting Walmart’s Balance Sheet
o 14.2.3: Examining Alternate Scenarios
• 14.3: Assessing Walmart’s Long-Term Investing and Financing
o 14.3.1: Assessing Walmart’s Investments
o 14.3.2: Assessing Walmart’s Capital Raising and the Cost of Capital
• 14.4: Valuing Walmart
o 14.4.1: Measuring Walmart’s Economic Value Added
o 14.4.2: Estimating Walmart’s Intrinsic Value: The DCF Approach
o 14.4.3: Estimating Walmart’s Intrinsic Value: Comparable Analysis
o 14.4.4: Creating Value and Overall Assessment of Walmart
• 14.5: Relevance for Managers and Final Comments
• 14.6: Additional Readings and Sources of Information
• 14.7: End of Chapter Problems
------
Part 1: Introduction to Financial Management
Chapter 1: Getting Started - Principles of Finance
Chapter 2: Firms and the Financial Market
Chapter 3: Understanding Financial Statements, Taxes, and Cash Flows
Chapter 4: Financial Analysis - Sizing Up Firm Performance
Part 2: Valuation of Financial Assets
Chapter 5: Time Value of Money - The Basics
Chapter 6: The Time Value of Money - Annuities and Other Topics
Chapter 7: An Introduction to Risk and Return - History of Financial Market Returns
Chapter 8: Risk and Return - Capital Market Theory
Chapter 9: Debt Valuation and Interest Rates
Chapter 10: Stock Valuation
Part 3: Capital Budgeting
Chapter 11: Investment Decision Criteria
Chapter 12: Analyzing Project Cash Flows
Chapter 13: Risk Analysis and Project Evaluation
Chapter 14: The Cost of Capital
Part 4: Capital Structure & Dividend Policy
Chapter 15: Capital Structure Policy
Chapter 16: Dividend Policy
Part 5: Liquidity Management & Special Topics in Finance
Chapter 17: Financial Forecasting and Planning
Chapter 18: Working Capital Management
Chapter 19: International Business Finance
Chapter 20: Corporate Risk Management
------
PART I: INTRODUCTION TO FOREIGN EXCHANGE MARKETS AND RISKS
Chapter 1: Globalization and the Multinational Corporation
Chapter 2: The Foreign Exchange Market
Chapter 3: Forward Markets and Transaction Exchange Risk
Chapter 4: The Balance of Payments
Chapter 5: Exchange Rate Systems
PART II: INTERNATIONAL PARITY CONDITIONS AND EXCHANGE RATE DETERMINATION
Chapter 6: Interest Rate Parity
Chapter 7: Speculation and Risk in the Foreign Exchange Market
Chapter 8: Purchasing Power Parity and Real Exchange Rates
Chapter 9: Measuring and Managing Real Exchange Risk
Chapter 10: Exchange Rate Determination and Forecasting

PART III: INTERNATIONAL CAPITAL MARKETS
Chapter 11: International Debt Financing
Chapter 12: International Equity Financing
Chapter 13: International Capital Market Equilibrium
Chapter 14: Political and Country Risk

PART IV: INTERNATIONAL CORPORATE FINANCE
Chapter 15: International Capital Budgeting
Chapter 16: Additional Topics in International Capital Budgeting
Chapter 17: Risk Management and the Foreign Currency Hedging Decision
Chapter 18: Financing International Trade
Chapter 19: Managing Net Working Capital

PART V: FOREIGN CURRENCY DERIVATIVES
Chapter 20: Foreign Currency Futures and Options
Chapter 21: Interest Rate and Foreign Currency Swaps
------
PART 1: INTRODUCTION
1. The Corporation
2. Introduction to Financial Statement Analysis
3. Financial Decision Making and the Law of One Price
PART 2: TIME, MONEY, AND INTEREST RATES
4. The Time Value of Money
5. Interest Rates
6. Valuing Bonds
PART 3: VALUING PROJECTS AND FIRMS
7. Investment Decision Rules
8. Fundamentals of Capital Budgeting
9. Valuing Stocks
PART 4: RISK AND RETURN
10. Capital Markets and the Pricing of Risk
11. Optimal Portfolio Choice and the Capital Asset Pricing Model
12. Estimating the Cost of Capital
13. Investor Behavior and Capital Market Efficiency
PART 5: CAPITAL STRUCTURE
14. Capital Structure in a Perfect Market
15. Debt and Taxes
16. Financial Distress, Managerial Incentives, and Information
17. Payout Policy
PART 6: ADVANCED VALUATION
18. Capital Budgeting and Valuation with Leverage
19. Valuation and Financial Modeling: A Case Study
PART 7: OPTIONS
20. Financial Options
21. Option Valuation
22. Real Options

PART 8: LONG-TERM FINANCING
23. Raising Equity Capital
24. Debt Financing
25. Leasing
PART 9: SHORT-TERM FINANCING
26. Working Capital Management
27. Short-Term Financial Planning
PART 10: SPECIAL TOPICS
28. Mergers and Acquisitions
29. Corporate Governance
30. Risk Management
31. International Corporate Finance
------
PART 1: INTRODUCTION
1. The Corporation
2. Introduction to Financial Statement Analysis
3. Financial Decision Making and the Law of One Price
PART 2: TIME, MONEY, AND INTEREST RATES
4. The Time Value of Money
5. Interest Rates
6. Valuing Bonds
PART 3: VALUING PROJECTS AND FIRMS
7. Investment Decision Rules
8. Fundamentals of Capital Budgeting
9. Valuing Stocks
PART 4: RISK AND RETURN
10. Capital Markets and the Pricing of Risk
11. Optimal Portfolio Choice and the Capital Asset Pricing Model
12. Estimating the Cost of Capital
13. Investor Behavior and Capital Market Efficiency
PART 5: CAPITAL STRUCTURE
14. Capital Structure in a Perfect Market
15. Debt and Taxes
16. Financial Distress, Managerial Incentives, and Information
17. Payout Policy
PART 6: ADVANCED VALUATION
18. Capital Budgeting and Valuation with Leverage
19. Valuation and Financial Modeling: A Case Study
------
------
PART 1 INTRODUCTION
Chapter 1 Corporate Finance and the Financial Manager
Chapter 2 Introduction to Financial Statement Analysis
PART 2 INTEREST RATES AND VALUING CASH FLOWS
Chapter 3 Time Value of Money: An Introduction
Chapter 4 Time Value of Money: Valuing Cash Flow Streams
Chapter 5 Interest Rates
Chapter 6 Bonds
Chapter 7 Stock Valuation
PART 3 VALUATION AND THE FIRM
Chapter 8 Investment Decision Rules
Chapter 9 Fundamentals of Capital Budgeting
Chapter 10 Stock Valuation: A Second Look
PART 4 RISK AND RETURN
Chapter 11 Risk and Return in Capital Markets
Chapter 12 Systematic Risk and the Equity Risk Premium
Chapter 13 The Cost of Capital
PART 5 LONG-TERM FINANCING
Chapter 14 Raising Equity Capital
Chapter 15 Debt Financing
PART 6 CAPITAL STRUCTURE AND PAYOUT POLICY
Chapter 16 Capital Structure
Chapter 17 Payout Policy
PART 7 FINANCIAL PLANNING AND FORECASTING
Chapter 18 Financial Modeling and Pro Forma Analysis
Chapter 19 Working Capital Management
Chapter 20 Short-Term Financial Planning
PART 8 Special Topics
Chapter 21 Option Applications and Corporate Finance
Chapter 22 Mergers and Acquisitions
Chapter 23 International Corporate Finance  

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FINANCIAL MANAGEMENT AND CORPORATE FINANCE - COLLECTION 2017 (FREE DOWNLOAD)

Financial Management: Core Concepts, 3rd Edition, 2016, Raymond Brooks, Oregon State University
Free download - PPT - Link
Free donwload - PPT - Link


Financial Management: Concepts and Applications, 2015, Stephen Foerster, Richard Ivey School of Business
Free download - PPT - Link

International Financial Management, 2nd Edition, 2012, Geert J Bekaert, Columbia University, Robert J. Hodrick
Free download - PPT 1 - Link
Free download - PPT 2 - Link

Corporate Finance, 4th Edition, 2017, Jonathan Berk, Stanford University, Peter DeMarzo, Stanford University
Free download - PPT 1 - Link
Free download - PPT 2 - Link
Free download - PPT 3 - Link

Free download Link - Core 4

Excel Modeling in Corporate Finance, 5th Edition, 2015, Craig W. Holden, Indiana University
Fundamentals of Corporate Finance, 3rd Edition, 2015, Jonathan Berk, Stanford University, Peter DeMarzo, 
Financial Management: Principles and Applications, 12th Edition, 2015, Sheridan Titman, Arthur J. Keown

 

Fundamentals of Investing, 13th Edition, Scott B. Smart, Lawrence J. Gitman, Michael D. Joehnk, 2017
Free download - PPT  - Link


Multinational Business Finance, 14th Edition, David K. Eiteman, Arthur I. Stonehill, Michael H. Moffett, 2016
Free download - PPT  - Link


Personal Finance, 6th Edition, 2017, Jeff Madura, Emeritus Professor of Finance; Florida Atlantic University
Free download - PPT  - Link


Personal Finance: Turning Money into Wealth, 7th Edition, 2016, Arthur J. Keown, 
Free download - PPT  - Link


Foundations of Finance, 9th Edition, 2017, Arthur J. Keown, John H. Martin
Free download - PPT  - Link


Principles of Managerial Finance, 14th Edition, 2015, Lawrence J. Gitman, Chad J. Zutter
 Free download - PPT  - Link

 

DOWNLOAD ALL TEST BANKs & CASE STUDY GUIDES - 2017

Corporate Finance, 4th Edition, 2017, Jonathan Berk, Stanford University, Peter DeMarzo, Stanford University - Test bank

Financial Management: Concepts and Applications, 2015, Stephen Foerster, Richard Ivey School of Business - Test bank

Financial Management: Core Concepts, 3rd Edition, 2016, Raymond Brooks, Oregon State University - Test bank

International Financial Management, 2nd Edition, 2012, Geert J Bekaert, Columbia University, Robert J. Hodrick - Test bank

Financial Management: Principles and Applications, 12th Edition, 2015, Sheridan Titman, Arthur J. Keown - Test bank

Corporate Finance: The Core, 4th Edition, 2017, Jonathan Berk, Stanford University, Peter DeMarzo - Test bank

Fundamentals of Investing, 13th Edition, Scott B. Smart, Lawrence J. Gitman, Michael D. Joehnk, 2017 - Test bank

Multinational Business Finance, 14th Edition, David K. Eiteman, Arthur I. Stonehill, Michael H. Moffett, 2016 - Test bank

Personal Finance, 6th Edition, 2017, Jeff Madura, Emeritus Professor of Finance; Florida Atlantic University - Test bank

Personal Finance: Turning Money into Wealth, 7th Edition, 2016, Arthur J. Keown - Test bank

Foundations of Finance, 9th Edition, 2017, Arthur J. Keown, John H. Martin - Test bank

Principles of Managerial Finance, 14th Edition, 2015, Lawrence J. Gitman, Chad J. Zutter - Test bank

 

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For Test Bankz, Quiz Answers and Case study Guides, email to: This email address is being protected from spambots. You need JavaScript enabled to view it.

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Good Luck and Success, Enjoy Your Study !

 

 

 

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