mock midterm test 1

If the risk of an investment project differs from the overall firm's risk then the:

• A. market rate of return should be used as the project's discount rate.

• B. project's discount rate must be adjusted based on the risks of the project's cash flows.

• C. project's discount rate must be adjusted based on the sources of project financing.

• D. average rate used for all prior projects should be used as the new project's discount rate.

• E. project's initial cost should be increased/decreased to account for the increase/decrease in risk.

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

• A. Variance; Covariance of the market return

• B. Covariance; Variance of the market return

• C. Covariance; Standard deviation of the market return

• D. Variance; Covariance of the security return

• E. Covariance; Variance of the security return

MM Proposition II is the proposition that:

• A. supports the argument that the capital structure of a firm is irrelevant to the value of the firm.

• B. the cost of levered equity depends solely on the return on debt, the debt-equity ratio, and the tax rate.

• C. a firm's cost of equity capital is a positive linear function of the firm's capital structure.

• D. the cost of equity is equivalent to the required return on the total assets of a levered firm.

• E. supports the argument that the size of the pie does not depend on how the pie is sliced.

The interest tax shield has no value for a firm when:

• A. the firm's debt-equity ratio is exactly equal to 1.

• B. the firm's debt-equity ratio is exactly .5.

• C. the firm is unlevered.

• D. shareholders fully utilize homemade leverage.

• E. RWACC equals R0.

The cost of equity for RJ Corporation is 8.4 percent and the debt-equity ratio is .6. The expected return on the market is 10.4 percent and the risk-free rate is 3.8 percent. Using the common assumption for the debt beta, what is the asset beta

• A. .70

• B. .44

• C. .62

• D. .67

• E. .59

In calculating NPV using the flow-to-equity approach the discount rate is the:

• A. all-equity cost of capital.

• B. cost of equity for the levered firm.

• C. all-equity cost of capital minus the weighted average cost of debt.

• D. weighted average cost of capital.

• E. all-equity cost of capital plus the weighted average cost of debt.

The APV method to value a project should be used when:

• A. a project's level of debt is known over the life of the project.

• B. a project's target debt-to-value ratio is constant over the life of the project.

• C. a project's debt financing is unknown over the life of the project.

• D level of market interest rates is expected to vary over the project's life.

Subsidized financing ________ the APV ___________.

• A. has no impact on; as the lower interest rate is offset by the lower discount rate

• B. decreases; by decreasing the NPV of the loan

• C. increases; by increasing the NPV of the loan

• D. has no impact on; as the interest tax deduction is not allowed for subsidized loans

• E. increases; because subsidies offset all tax payments.

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

• A. the market rate of return.

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

• C. (1 + WACC)T.

• D. (1 + CAPM)T.

• E. (r - g).

Comparing two otherwise equivalent firms, the beta of the common stock of a levered firm is _______ the beta of the common stock of an unlevered firm.

• A. roughly equivalent to

• B. significantly less

• C. slightly less

• D. greater than

• E. equal to