FIN 540 Midterm

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FIN 540 MIDTERMQuestion 1Which of the following statements about valuing a firm using the APV approach is mostCORRECT?AnswerThe horizon value is calculated by discounting the free cash flows beyond the horizon date andany tax savings at the levered cost of equity.The horizon value is calculated by discounting the free cash flows beyond the horizon date andany tax savings at the cost of debt.The horizon value is calculated by discounting the expected earnings at the WACC.The horizon value is calculated by discounting the free cash flows beyond the horizon date andany tax savings at the WACC.The horizon value must always be more than 20 years in the future.8 pointsQuestion 2Operating leases often have terms that includeAnswermaintenance of the equipment by the lessor.full amortization over the life of the lease.very high penalties if the lease is cancelled.restrictions on how much the leased property can be used.much longer lease periods than for most financial leases.8 pointsQuestion 3From the lessee viewpoint, the riskiness of the cash flows, with the possible exception of theresidual value, is about the same as the riskiness of the lessee'sAnswerequity cash flows.capital budgeting project cash flows.debt cash flows.pension fund cash flows.sales.8 pointsQuestion 4Which of the following is generallyNOTtrue and an advantage of going public?AnswerFacilitates stockholder diversification.Increases the liquidity of the firm's stock.Makes it easier to obtain new equity capital.Establishes a market value for the firm.Makes it easier for owner-managers to engage in profitable self-dealings.8 pointsQuestion 5Which of the following statements isNOTCORRECT?Answer

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When a corporation’s shares are owned by a few individuals who own most of the stock or arepart of the firm’s management, we say that the firm is “closely, or privately, held.”“Going public” establishes a firm’s true intrinsic value and ensures that a liquid market willalways exist for the firm’s shares.Publicly owned companies have sold shares to investors who are not associated withmanagement, and they must register with and report to a regulatory agency such as the SEC.When stock in a closely held corporation is offered to the public for the first time, the transactionis called “going public,” and the market for such stock is called the new issue market.It is possible for a firm to go public and yet not raise any additional new capital.8 pointsQuestion 6Which of the following statements is most CORRECT?AnswerTax considerations often play a part in mergers.If one firm has excess cash, purchasing anotherfirm exposes the purchasing firm to additional taxes.Thus, firms with excess cash rarelyundertake mergers.The smaller the synergistic benefits of a particular merger, the greater the scope for striking abargain in negotiations, and the higher the probability that the merger will be completed.Since mergers are frequently financed by debt rather than equity, a lower cost of debt or a greaterdebt capacity are rarely relevant considerations when considering a merger.Managers who purchase other firms often assert that the new combined firm will enjoy benefitsfrom diversification, including more stable earnings.However, since shareholders are free todiversify their own holdings, and at what’s probably a lower cost, diversification benefits isgenerally not a valid motive for a publicly held firm.Operating economies are never a motive for mergers.8 pointsQuestion 7Which of the following statements is most CORRECT?AnswerA conglomerate merger is one where a firm combines with another firm in the same industry.Regulations in the United States prohibit acquiring firms from using common stock to purchaseanother firm.Defensive mergers are designed to make a company less vulnerable to a takeover.Hostle mergers always create value for the acquiring firm.In a tender offer, the target firm’s management always remain after the merger is completed.8 pointsQuestion 8Which of the following statements is most CORRECT?AnswerIf new debt is used to refund old debt, the correct discount rate to use in the refunding analysis isthe before-tax cost of new debt.The key benefits associated with refunding debt are the reduction in the firm's debt ratio and thecreation of more reserve borrowing capacity.

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