Fourth Examination Finance 3321

Fourth Examination Finance 3321

FSA3321 (Moore)Exam 4Summer 1 - 2007

Fourth Examination – Finance 3321

Summer 1 - 2007 (Moore)

Student ID:______Printed Name:______

Ethical conduct is an important component of any profession. The Texas Tech University Code of Student Conduct is in force during this exam. Students providing or accepting unauthorized assistance will be assigned a score of zero (0) for this piece of assessment. Using unauthorized materials during the exam will result in the same penalty. Ours’ should be a self-monitoring profession. It is the obligation of all students to report violations of the honor code in this course. By signing below, you are acknowledging that you have read the above statement and agree to abide by the stipulated terms.

Student’s Signature:______

Clearly Circle the BEST response for each of the following questions (Multiple Choice @5):

Consider the following information for Questions 1 through 3:

You have just estimated β for XYZ Corp. using the CAPM. Your regression results follow. In addition, you also have performed research on the 10-K to get the balance sheet information below. Your goal is to estimate the relevant costs of capital for XYZ Corp. Assume that last year’s market return was 8% and the 5-year Treasury had a yield of 5.25%. Also, you expect the long-run market risk premium to be 7% and that interest rates are not expected to change in the next 4 years. The Market Cap is $120 million and the tax rate is 30%.

1.Based on your analysis, what is the appropriate estimate of the cost of equity?

a.5.25%

b.14.00%

c.16.00%

d.19.25%

e.21.25%

2.Compute the after-tax weighted-average cost of debt of XYZ Corp.

a.4.444%

b.5.082%

c.6.335%

d.6.825%

e.9.750%

3.Assume the weighted average cost of debt is 8% and the appropriate Ke is 16%, compute WACCBT.

a.3.2%

b.9.6%

c.12.0%

d.12.8%

e.16.4%

4.Which of the following will cause estimated before-tax WACC to be most severely biased upwards?

a.P/B > 1 and using the book value of liabilities instead of market value of liabilities.

b.P/B < 1 and using the book value of liabilities instead of market value of liabilities.

c.P/B > 1 and using the book value of equity instead of market value of equity.

d.P/B < 1 and using the book value of equity instead of market value of equity.

e.P/B > 1 and using the market value of equity instead of book value of equity.

5.Which of the following is true regarding the Residual Income Valuation Model.

a.It is devoid of financial theory

b.It has the least explanatory and predictive power of the models we have considered

c.It links accounting valuations of equity to market valuations of equity

d.Normalized earnings are based upon the equity investment and DRIP income

e.It has limited interpretations since it cannot be decomposed into value drivers

6.Assume you had just performed a valuation using the residual income model. You found that 15% of the value was supported by the current book value; that 25% of the value was supported by residual income forecast annual for the next 7 years and the remainder was associated with terminal value computations. What type of firm are you valuing?

a.A manufacturer within a stable, mature industry

b.A new restaurant chain

c.A high tech company in a growing industry

d.A major retailer such as Wal-Mart

e.A University such as Texas Tech

7.The intrinsic P/B (Price to Book) multiple would be computed using:

  1. The Discounted Dividends Model
  2. The Discounted Free Cash Flow Model
  3. The Discounted Residual Income Model
  4. The Long-run Residual Income Perpetuity Model
  5. The Standard Method of Comparable method based on industry averages

8.Old Reliable Manufacturing Company's stock has a market price of $60 per share and a book value of $10 per share. If its steady state return on equity is 20 percent and its book value is expected to grow at 8 percent per year indefinitely, what is the cost of equity?

  1. 5%
  2. 10%
  3. 15%
  4. 20%
  5. 25%

9.EPAY is expected to begin paying a $3.00 per share annual dividend in 3 years. Its cost of equity is 14%, before tax WACC is 10% and the annual dividend growth rate is expected to be 4%. Determine the appropriate current share price for EPAY.

  1. $8.09
  2. $13.67
  3. $20.25
  4. $26.32
  5. $30.00

10.The following information is available for JKL corp and its competitors. Price JKL using the PEG ratio. Assume JKL’s income is expected to grow at 7.653% next year. Is JKL under or over valued relative to the observed price of $52.36(5 Points)

Problem 1 (Free Cash Flow Valuation) – 25 Points

Use the following summary financial statement information and forecasts provided by TTU Value-Metrics to value Hi-Flyer Corp. as at June 1, 2007. Assume the Free Cash Flow estimated for 2009 is the beginning of a perpetuity that will grow at 2% per year.

CFFO=Cash Flow from operating activities

CFFI=Cash Flow from investing activities

CFFF=Cash Flow from financing activities

Problem 2 (Residual Income Valuation) – 25 Points

Use the following summary financial statement information and forecasts provided by TTU Value-Metrics to value Hi-Flyer Corp. as at June 1, 2007. Assume the terminal value perpetuity beginning in 2010 is $2.80 and that it will decline at 20% per year.

CFFO=Cash Flow from operating activities

CFFI=Cash Flow from investing activities

CFFF=Cash Flow from financing activities

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