Finance 254

UNIVERSITY OF ILLINOIS AT URBANA-CHAMPAIGN

College of Commerce and Business Administration

DEPARTMENT OF FINANCE

FINANCE 254 Exam 2 Spring 2002

Conflict FORM A

INSTRUCTIONS:

This exam has 31 multiple choice questions divided into a Conceptual Question section and a Problem section. The (15) conceptual questions are 4 points each and the (16) problems are 5 points each for a total of 140 points. Choose the best answer to each question and encode your answer on the enclosed bubble (answer) sheet.

On the bubble (answer) sheet, first make sure the test form encoded on the bubble sheet matches the test form listed above the instructions on the front page of your exam. Then encode (1) your name, (2) your social security number in the student number box, (3) your UI Direct NetworkID, and (4) your course code from the table below for your TA and section meeting time in the section box.

Teaching Assistant	time & day	Section code
Fernanda Toros	9 Fri	00001
Fernanda Toros	10 Fri	00002
Fernanda Toros	11 Fri	00003
Taie Wang	9 Fri	00004
Taie Wang	10 Fri	00005
Taie Wang	11 Fri	00006
Sangwoo Lee	9 Thur	00007
Sangwoo Lee	10 Thur	00008
Sangwoo Lee	9 Fri	00009
Minqiang Li	10 Thur	00010
Minqiang Li	11 Thur	00011
Minqiang Li	2 Thur	00012
Lisa Hewgill	12 Thur	00013
Lisa Hewgill	12 Fri	00014
Lisa Hewgill	1 Fri	00015
Ron Stauber	10 Thur	00016
Ron Stauber	1 Thur	00017
Martin Maurer	9 Thur	00018
Martin Maurer	12 Thur	00019
Martin Maurer	1 Thur	00020
Seth Patel	12 Fri	00021
Seth Patel	1 Fri	00022
Seth Patel	2 Fri	00023

Before leaving the exam room you must turn in your Exam and Answer Sheet.

Print your name, your TA’s name, and your course code below.

______________________________________ ________________ ___________

First Name Last Name TA Name Course Code

Finance 254 Spring 2002

Exam 2 Form A

Section I: Conceptual Questions 1-15 are 4 points each.

1. Which of the following transactions does not affect the quick ratio?

A. land held for investment is sold for cash

B. equipment is purchased and is financed by a long-term debt issue

C. inventories are sold for cash

D. inventories are sold on a credit basis

2. Which of the following statements is true?

A. As a general rule, management would want to reduce the firm's average collection period.

B. As a general rule, management would want to reduce the firm's accounts receivable turnover ratio.

C. As a general rule, management would want to increase the firm's average collection period.

D. As a general rule, a firm will not be financially affected by how long is required to collect its accounts receivable.

3. Which of the following is not a limitation related to the usage of ratios when reviewing a firm's performance?

A. Many firms experience seasonality in their operations.

B. Ratios cannot be used to compare firms that are in the same industry if one firm's sales are higher than another.

C. Some firm's operate in a variety of business lines, which makes it difficult to make comparisons.

D. Accounting practices differ widely among firms.

4. Which of the following is not a driving force of the operating profit

margin?

A. The average selling price for each product.

B. The ability to control all of the firm's expenses.

C. The ability to control general and administrative expenses.

D. The number of units of product sold.

5. A discretionary form of financing would be:

A. notes payable

B. accounts payable

C. accrued expenses

D. none of the above

6. Assume all else remains the same. Which of the following statements is true?

A. The lower a firm's profit margin, the higher the discretionary financing a firm will need.

B. The higher a firm's profit margin, the more discretionary financing a firm will require.

C. The lower a firm's profit margin, the more cash a firm will have to reinvest.

D. A relationship between a firm's profit margin and its requirement for external financing does not exist.

7. Holding other things constant, a firm's "discretionary financing needed" (the additional funds required in order to finance a firm) would be reduced if the firm experienced an increase in which of the following?

A. The dividend pay-out ratio

B. The profit margin

C. The accounts receivable average collection period

D. The expected growth rate in sales

E. The income tax rate

8. If current market interest rates rise, what will happen to the value of outstanding bonds?

A. They will rise.

B. They will fall.

C. They will remain unchanged.

D. There is no connection between current market interest rates and the value of outstanding bonds.

9. Which of the following statements is true?

A. When investors' required rate of return equals the bond's coupon rate, then the market value of the bond may be selling at par value.

B. When investors' required rate of return exceeds the bond's coupon rate, then the market value of the bond will be greater than par value.

C. When investors' required rate of return is less than the bond's coupon rate, then market value of the bond will be greater than par value.

D. When investors' required rate of return is less than the bond's coupon rate, then the market value of the bond will be less than par value.

10. Which of the following bonds is sold by a corporation at a discount and pays no interest?

A. An indenture bond.

B. A zero coupon bond.

C. A junk bond.

D. A Eurobond.

11. Which of the following statements about bonds is true?

A. Bond prices move in the same direction as market interest rates.

B. If market interest rates change, long-term bonds will fluctuate more in value than short-term bonds.

C. Long-term bonds are less risky than short-term bonds.

D. If market interest rates are higher than a bonds coupon interest rate, then the bond will sell above its par value.

E. None of the above.

12. All of the following affect the value of a share of common stock except:

A. the par value of stock

B. the risk-free rate

C. the future growth in dividends

D. the future dividends

13. Preferred stock is similar to a bond because:

A. it has a maturity at which time the corporation repays par value

B. it has a fixed amount to the investor

C. it represents an ownership interest

D. all of the above

14. All of the following statements regarding common stock are true except:

A. Common stockholders are the owners of the firm.

B. The potential return to common stockholders is limitless.

C. Common stockholders bear less risk than bondholders, but less risk than preferred stockholders.

D. Common stockholders do not always receive dividends.

15. MAD Inc. has a sustainable growth rate of 10% and a debt ratio of 40%. Which of the following statements is true if MAD Inc. forecasts a 15% growth rate in sales and plans to raise any discretionary financing needed through debt financing?

A. MAD Inc.’s projected debt ratio will stay the same.

B. MAD Inc.’s projected debt ratio will decrease.

C. MAD Inc.’s projected debt ratio will increase.

D. MAD Inc. won’t need any discretionary financing.

Section II: Problems 16-31 are 5 points each.

16. Water Works, Inc. has a current ratio of 1.33, current liabilities of $540,000, and inventory of $400,000. What is Water Work' quick ratio?

A. 1.11

B. 0.86

C. 1.90

D. 0.59

17. Snort and Smiley Incorporated has a debt ratio of .42, noncurrent liabilities of $20,000 and total assets of $70,000. What is Snort and Smiley's level of current liabilities?

A. $8,400

B. $9,400

C. $12,340

D. $10,600

18. Dew Point Dynamite, Inc. generated a 1.23 total asset turnover in its latest fiscal year on assets of $2,112,077. The firm has total liabilities of $950,997. The firm's net profit margin was 10.3%. What is Dew Point's return on equity? Round to the nearest 0.1%.

A. 23.0%

B. 12.6%

C. 5.5%

D. 18.2%

Use the following information and the percent of sales method to answer questions. Below is the 2001 year-end balance sheet for Banner Inc. Sales for 2001 were $1,600,000 and are expected to be $2,000,000 during 2002. Banner’s profit margin is expected to be 3% in 2002 and they plan to pay out $30,000 in dividends in 2002.

Banner Inc.

Balance Sheet

December 31, 2001

Assets

Current assets $890,000

Net fixed assets 1,000,000

Total $1,890,000

Liabilities and Owners' Equity

Accounts payable $160,000

Accrued expenses 100,000

Notes payable 700,000

Long-term debt 300,000

Total liabilities 1,260,000

Common stock (plus paid-in-capital) 360,000

Retained earnings 270,000

Common equity 630,000

Total $1,890,000

19. Banner plans to raise any 2002 discretionary financing needed through long-term debt financing. What will be Banner’s projected 2002 debt ratio?

A. 67%

B. 70%

C. 72%

D. 75%

20. Banner is trying evaluate the sensitivity of its financing requirements to the assumptions it is making about its profit margin and dividends. Use the DFN model to forecast Banner's discretionary financing needs if its net profit margin is expected to be 2 percent, and its dividend payout ratio is 60 percent. Under these assumptions, DFN will be

A. $391,500.

B. $375,500.

C. $383,500.

D. $352,500.

21. Terminator Bug Company bonds have a 14% coupon rate. Interest is paid semi-annually. The bonds have a par value of $1,000 and will mature 10 years from now. Compute the value of Terminator Bonds if investors' required rate of return is 12%.

A. $1,114.70

B. $1,149.39

C. $894.06

D. $1,000.00

22. Brookline, Inc. just sold an issue of 30-year bonds for $1,107.20. Investors require a rate of return on these bonds of 7.75% The bonds pay interest semi-annually. What is the coupon rate of the bonds?

A. 7.750%

B. 11.072%

C. 9.375%

D. 8.675%

23. You are considering the purchase of Rolex bonds that were issued 2 years ago. When the bonds were sold to the public they had a 20-year maturity and a 6.375% coupon interest rate, payable annually. The bond is currently selling for $934.25. What is the yield to maturity on the bonds?

A. 5.80%

B. 13.48%

C. 10.11%

D. 7.03%

24. Beta Inc. has bonds outstanding that mature in 5 years. The bonds have $1,000 par value, and pay interest annually at a rate of 10 percent which is also the current required rate of return on the bonds. This bond's duration is

A. 5.00.

B. 4.60.

C. 4.25.

D. 4.17.

Use the following bond quote information to answer the next 2 questions. Assume that each bond has a $1,000 par value, pays semi-annual coupon payments and matures on today’s date in the maturity year.

Bond	Cur. Yld.	Vol.	Close	Net Chg.
Doh! 8 ½ 10	9.3	5	91 ½	-1/2
Tweaks 10s20	10.0	12	100	+1/4

25. What is Doh!’s yield to maturity?

A. 8.5%

B. 9.3%

C. 9.8%

D. 10.1%

26. Assume you buy Tweaks today and sell the bond a year later when the bonds required return is 9.2%. What would be your total rate of return?

A. 10.0%

B. 12.8%

C. 17.0%

D. 20.1%

27. Sacramento Light & Power issued preferred stock in 1998 that had a par value of $85. The preferred stock pays a dividend of 5.75%. Investors require a rate of return of 6.50% today on this stock. What is the value of the preferred stock today? Round to the nearest $1.

A. $100

B. $85

C. $75

D. $61

28. Little Feet Shoe Co. just paid a dividend of $1.65 on its common stock. This company's dividends are expected to grow at a constant rate of 3% indefinitely. If the required rate of return on this stock is 11%, compute the current value of per share of LFS stock.

A. $20.63

B. $21.24

C. $15.00

D. $55.00

29. White Sink, Inc. just paid a dividend of $5.55 per share on its common stock and the firm is expected to generate constant growth of 12.25% over the foreseeable future. The common stock is currently selling for $73.75 per share. The firm's dividend payout ratio is 40%, and White's marginal tax rate is 40%. What is the rate of return that common stockholders expect? Round to the nearest 0.1%.

A. 8.5%

B. 20.7%

C. 15.5%

D. 19.8%

30. Harbuck’s Coffee is a constant growth stock has a beta of 1.2. The risk-free rate is 2.3% and the market risk premium is 10%. Harbuck’s current dividend is $1.90 and is expected to grow at 10% annually forever. What’s the value of Harbuck’s Coffee stock?

A. $44.19

B. $48.60

C. $123.38

D. $137.61

31. Burns Nuclear Power currently pays a dividend of $5 a share. This dividend is expected to grow 20% in year 1, 12% in year 2, and 10% in year 3. After year 3, the dividend is expected to grow at a constant annual rate of 5%. What is the value of this stock if the require return is 14%?

A. $65.43

B. $73.63

C. $89.72

D. $93.63