BUS 330: Corporate Finance I American University In Bulgaria

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1AMERICAN UNIVERSITY IN BULGARIABUS 330:CORPORATE FINANCE IFALL 2012, AUBGMIDTERM EXAM 1Name: ___________________________________ ID _________Version1Solution GuideINSTRUCTIONS:1.You have 75 minutes to complete the exam.2.The exam is worth a total of 100 points.3.You may use a calculator and scratch paper sheets. You must hand in the sheets withyour exam (put your name on it).4.Allocate your time wisely. Use the number of points assigned to each problem asyour guide.5.In order to getfull crediton the problems, you must show ALL your work!6.You can getpartial creditsif you show your calculations or provide arguments tosupport your answer.7.No creditswill be warded if you fail to state your assumptions or conclusionsexplicitly.

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2Part A:Multiplechoice questions (16points in total):1.Which of the following statements is CORRECT?a.One of the disadvantages of incorporating a business is that the owners then becomesubject to liabilities in the event the firm goes bankrupt.b.Sole proprietorships are subject to more regulations than corporations.c.In any type of partnership, every partner has the same rights, privileges, and liabilityexposure as every other partner.d.Sole proprietorships and partnerships generally have a tax advantage over manycorporations, especially large ones.e.Corporations of all types are subject to the corporate income tax.Answer:D2.Which of the following statements is CORRECT?a.The cash flows for an ordinary (or deferred) annuity all occur at the beginning ofthe periods.b.If a series ofunequalcash flows occurs at regular intervals, such as once a year,then the series is by definition an annuity.c.The cash flowsforan annuity due must all occur at the ends of the periods.d.The cash flows for an annuity must all be equal, and they must occur at regularintervals, such as once a year or once a month.e.If some cash flows occur at thebeginningof the periods while others occur at theends, then we have what the textbook defines as a‘variable’annuity.Answer: D3.Which of the following statements is CORRECT?a.The more depreciation a firm reports, the higher its tax bill, other things held constant.b.People sometimes talk about the firm’s net cash flow, which is shown as the lowest entryon the income statement, hence it is often called "the bottom line.”c.Depreciation reduces a firm’s cash balance, so an increase in depreciation wouldnormally lead to a reduction in the firm’s net cash flow.d.Net cash flow (NCF) is often defined as follows:Net Cash Flow = Net Income + Depreciation and Amortization Charges.a.Depreciation and amortization are not cash charges, so neither of them has an effect on afirm’s reported profits.Answer: D4.The term “additional funds needed (AFN)” is generally defined as follows:a.Funds that are obtained automatically from routine business transactions.b.Funds that a firm must raise externally from non-spontaneous sources, i.e., byborrowing or by selling new stockor bondsto support operations.c.The amount of assets required per dollar of sales.d.The amount of internally generated cash in a given year minus the amount of cashneeded to acquire the new assets needed to support growth.e.A forecasting approach in which the forecasted percentage of sales for eachbalance sheet account is held constant.Answer: B

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35.Which of the following statements is CORRECT?a.The primary difference between EVA and accounting net income is that when netincome is calculated, a deduction is made to account for thecost of commonequity, whereas EVA represents net income before deducting thedollar cost ofthe equity capital the firm uses.b.MVA gives us an idea about how muchbookvalue a firm’s management hasadded during the last year.c.MVA stands for market value added, and it is defined as follows:MVA = (Shares outstanding)(Stock price) + Book value of common equity.d.EVA stands for economic value added, and it is defined as follows:EVA = EBIT(1-T)–(Investor-supplied operatingcapital) x (A-T cost of capital).e.EVA gives us an idea about how much value a firm’s management has added overthe firm’soveralllife.Answer: D6.A 15-year bond with a face value of $1,000 currently sells for $850.Which of thefollowing statements is CORRECT?a.The bond’s coupon rate exceeds its current yield.b.The bond’s current yield exceeds its yield to maturity.c.The bond’s yield to maturity is greater than its coupon rate.d.The bond’s current yield is equal to its coupon rate.e.If the yield to maturity stays constant until the bond matures, the bond’s price willremain at $850.Answer: C7.Inflation, recession, and highinterestrates are economic events that are bestcharacterized as being:a.Systematic risk factors that can be diversified away.b.Company-specificrisk factorsthatcan be diversified away.c.Among the factors that areresponsiblefor market risk.d.Risks that are beyond thecontrolof investors and thus should not beconsideredby securityanalystsor portfolio managers.e.Irrelevant except togovernmentalauthorities like the Federal Reserve.Answer:C8.If markets are in equilibrium, which of the following conditions will exist?a.Eachstock’sexpected return shouldnotequal its realized return as seen by themarginal investor.b.Eachstock’sexpected return should equal its required return as seen by themarginal investor.c.All stocks should have the same expected return as seen by the marginal investor.d.Theexpectedand required returns on stocks and bonds should be equal.e.All stocks should have the same realized return during the coming year.Answer:B

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