BU340 Midterm Prep Day 2

Which of the following statements is CORRECT?

• Since debt capital can cause a company to go bankrupt but equity capital cannot, debt is riskier than equity, and thus the after-tax cost of debt is always greater than the cost of equity.

• The tax-adjusted cost of debt is always greater than the interest rate on debt, provided the company does in fact pay taxes.

• If a company assigns the same cost of capital to all of its projects regardless of each project's risk, then the company is likely to reject some safe projects that it actually should accept and to accept some risky projects that it should reject.

• Higher flotation costs tend to reduce the cost of equity capital.

Which of the following is NOT a capital component when calculating the weighted average cost of capital (WACC) for use in capital budgeting?

• Long-term debt.

• Accounts payable.

• Retained earnings.

• Common stock.

• Preferred stock.

The lower the firm's tax rate, the lower will be its after-tax cost of debt and also its WACC, other things held constant.

• True

• False

If a bank loan officer were considering a company’s loan request, which of the following statements would be CORRECT, other things held constant?

• The lower the company's inventory turnover ratio, the lower the interest rate the bank should charge.

• The higher the days sales outstanding ratio, the lower the interest rate the bank should charge.

• The lower the total debt to total capital ratio, the lower the interest rate the bank should charge.

• The lower the company's TIE ratio, the lower the interest rate the bank should charge.

Amram Company’s current ratio is 2.0. Considered alone, which of the following actions would lower the current ratio?

• Borrow using short-term notes payable and use the proceeds to reduce accruals.

• Borrow using short-term notes payable and use the proceeds to reduce long-term debt.

• Use cash to reduce accruals.

• Use cash to reduce short-term notes payable.

Starting to invest early for retirement reduces the benefits of compound interest.

• True

• False

A time line is meaningful even if all cash flows do not occur annually.

• True

• False

Time lines cannot be constructed for annuities unless all the payments occur at the end of the periods.

• True

• False

Disregarding risk, if money has time value, it is impossible for the present value of a given sum to exceed its future value.

• True

• False

Your bank account pays an 8% nominal rate of interest. The interest is compounded quarterly. Which of the following statements is CORRECT?

• The periodic rate of interest is 2% and the effective rate of interest is 4%.

• The periodic rate of interest is 8% and the effective rate of interest is greater than 8%.

• The periodic rate of interest is 4% and the effective rate of interest is less than 8%.

• The periodic rate of interest is 2% and the effective rate of interest is greater than 8%.