# UB MGF 401 - MGF301_Test_2_-_Fall_2009_Test_Version_I (7 pages)

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## MGF301_Test_2_-_Fall_2009_Test_Version_I

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- Pages:
- 7
- School:
- University at Buffalo, The State University of New York
- Course:
- Mgf 401 - Financial Institutions

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Name Student Number TEST 2 MGF 301 Corporation Finance Fall 2009 Please sign name in box Please tear off the answer sheet and answer all of the following questions on the answer sheet Note Total Points 100 Multiple Choice 4 points each unless otherwise indicated 1 The following arise out of a new project implemented by YT Inc Which of the following does not represent a cash flow that should be taken into account for capital budgeting purposes a An increase in required inventory levels b A decrease in income taxes paid to the government c Electricity costs to run the new machinery for the project d All of the above should be taken into account 2 Anthony has earned actual returns of 3 12 and 6 the last three years on an investment he made three years ago According to finance theory we discussed in class which of the following must be true about the expected return on this investment a E r Rf b E r Rf c E r Rf d E r 0 3 You currently own only a single stock that has 5 If you form a portfolio by buying another stock with 5 are you reducing the expected level of market risk in your portfolio a No because the portfolio still has a 5 b No because all stocks have risk and you can only reduce risk by adding a bond c Yes because the second stock will cancel out some of the variation in the first stock d Yes because the portfolio will now have a 25 4 Mark each statement about capital budgeting as true or false 2 points each a If your forecast of cash flows is not precise you should reduce your cash flow estimates so that they are conservative estimates b The time value of money is included in the IRR analysis by discounting future cash flows to the present c The Payback method ignores cash flows after the required payback period d To find the IRR you must first know the discount rate 5 If markets follow the strong form of efficient market theory which is not true a market prices should quickly reflect all private and public information b stock prices will only increase when there is news that is publicly announced Name Student Number c if stock prices over react to the announcement of information the theory is violated d all of the above are true 6 A proposed investment will cost 100 000 in year 0 It will have a life of 5 years and the cost will be depreciated using straight line to a zero salvage value For year 1 the company expects sales of 16 000 units at 5 each The variable cost is 2 per unit and the fixed costs will be 15 000 Working capital in year 0 is 12 000 and this increases to 13 000 in year 1 If taxes are 35 what is the incremental cash flow for year 1 Show your calculation 8 points 7 In question 6 which of the following formulas gives the accounting break even point a 20 000 15 000 5 b 12 000 16 000 5 2 c 16 000 15 000 5 d 20 000 15 000 5 2 8 Which of the following is true concerning the cash flow from net working capital a there is a negative cash flow when the company reduces its inventory level b cash flows from net working capital are typically negative in early years and positive in later years c cash flows from net working capital can be ignored if they net to zero over time d accounts receivable is not included in net working capital calculations 9 ABC stock has a price of 40 You expect that one year from now the price will be one of three outcomes 13 42 or 80 If each price is equally likely to occur i e probability 333 what is the expected return on the stock over the next year if you invest today Show your work 8 points 10 If the Neptune Company has 8 the expected market risk premium Rm rf is 8 and the risk free rate is 1 what is the expected return on Neptune under CAPM Show your work 6 points 2 Name Student Number 11 A company is replacing its main product with an updated version This is a big gamble for the company because the new product will either be a big hit or a disaster Which is true a the increased risk from the new product is primarily market risk b the increased risk from the new product is primarily unique risk c the increased risk cannot be reduced through diversification d none of the above are true about the risk 12 FFR Co announced on Wednesday before markets opened that revenues increased by 20 more than was previously forecast Wednesday s stock price closed at 49 which was an increase of 7 from the Tuesday close of 42 The stock prices for FFR from 20 days before to 20 days after the announcement are given below Note the large increase is the announcement day Are the price movements in the graph on the day of the announcement and the 20 days after consistent with the semi strong form of the efficient market hypothesis Explain 6 points 13 Sensitivity analysis is useful to NPV calculations because a It shows which individual assumptions are the most crucial b It shows how bad things will be if several bad events occur at the same time c It shows where there are mistakes in the calculation d None of the above 14 If markets follow semi strong form efficiency who would be more likely to beat the market i a professional stock analyst or ii an uninformed investor who throws darts to pick stocks a the professional because it takes a lot of knowledge to be successful at picking stocks b they each have the same chance at beating the market c the professional will not be able to beat the market but he will beat the uninformed investors returns d none of the above is true 3 Name Student Number 15 An investment project costs 1 000 000 in time 0 and has the following payouts C1 500 000 C2 200 000 C3 300 000 and C4 400 000 For periods C5 through C8 the cash flows will be 450 000 a If the discount rate is 10 set up the formula for calculating the NPV in as much detail as possible Note you do not have to actually solve for the answer 6 points b i calculate the payback period and ii decide whether you would accept the project if the management s payback period cutoff is 6 years 8 points 16 Which of the following is true concerning the IRR method of capital budgeting a the IRR ignores cash flows after the cutoff period b the IRR does not always select the project with the highest NPV when choosing between mutually exclusive projects c the IRR calculation tells you how many years until you get your money back …

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