FIN650-Module 6 � Static Online Exam 2

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FIN650-Module 6–Static Online Exam 2The cost of debt is equal to one minus the marginal tax rate multiplied by the average couponrate on all outstanding debt.a. Trueb. FalseThe cost of preferred stock to a firm must be adjusted to an after-tax figure because 70% ofdividends received by a corporation may be excluded from the receiving corporation's taxableincome.a. Trueb. FalseThe cost of common stock is the rate of return the marginal stockholder requires on the firm'scommon stock.a. Trueb. FalseFor capital budgeting and cost of capital purposes, the firm should always consider retainedearnings as the first source of capital, i.e., use these funds first, because retained earnings haveno cost to the firm.a. Trueb. FalseThe cost of debt, rd, is normally less than rs, so rd(1-T) will normally be less than rs.Therefore, as long as the firm is not completely debt financed, the weighted average cost ofcapital (WACC) will normally be greater than rd(1-T).a.Trueb.b. FalseThe lower the firm's tax rate, the lower will be its after-tax cost of debt and WACC, other thingsheld constant.a. Trueb. FalseA firm should never undertake an investment if accepting the project would lead to an increasein the firm's cost of capital.a. Trueb. FalseBecause "present value" refers to the value of cash flows that occur at different points in time, aseries of present values should not be summed to determine the value of a capital budgetingproject.a. Trueb. FalseWhich of the following statements is CORRECT? Assume that the project being considered hasnormal cash flows, with one outflow followed by a series of inflows.A) A project’s NPV is found by compounding the cash inflows at the IRR to find the terminalvalue (TV), then discounting the TV at the WACC.B) The lower the WACC used to calculate it, the lower the calculated NPV will be.C) If a project’s NPV is less than zero, then its IRR must be less than the WACC.

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D) The NPV of a relatively low-risk project should be found using a relatively high WACC.Which of the following statements is CORRECT? Assume that the project being considered hasnormal cash flows, with one outflow followed by a series of inflows.A) A project’s NPV is found by compounding the cash inflows at the IRR to find the terminalvalue (TV), then discounting the TV at the WACC.B) The lower the WACC used to calculate it, the lower the calculated NPV will be.C) If a project’s NPV is less than zero, then its IRR must be less than the WACC.D) If a project’s NPV is greater than zero, then its IRR must be less than zero.E) The NPV of a relatively low-risk project should be found using a relatively high WACC.In theory, any capital budgeting investment rule should depend solely on forecasted cash flowsand the opportunity cost of capital. The rule itself should not be affected by managers' tastes, thechoice of accounting method, or the profitability of other independent projects.a.Trueb. FalseWhen considering two mutually exclusive projects, the firm should always select that projectwith an internal rate of return that is higher, provided the projects have the same initial cost. Thisstatement is true regardless of whether the projects can be repeated or not.a. Trueb. FalseWhich of the following is NOT a cash flow and thus should not be reflected in the analysis of acapital budgeting project?A) Changes in net operating working capital.B) Shipping and installation costs.C) Cannibalization effects.D) Opportunity costs.E) Sunk costs that have been expensed for tax purposes.Suppose Tapley Corporation uses a WACC of 8% for below-average risk projects, 10% foraverage-risk projects, and 12% for above-average risk projects.Which of the followingindependent projects should Tapley accept, assuming that the company uses the NPV methodwhen choosing projects?A) Project A, which has average risk and an IRR = 9%.B) Project B, which has below-average risk and an IRR = 8.5%.C) Project C, which has above-average risk and an IRR = 11%.D) Without information about the projects' NPVs we cannot determine which one or onesshould be accepted.E) All of the projects should be accepted.Since the focus of capital budgeting is on cash flows rather than on net income, changes innoncash balance sheet accounts such as inventory are not relevant in a capital budgeting analysis.a. Trueb. FalseIf an investment project would make use of land which the firm currently owns, the projectshould be charged with the opportunity cost of the land.

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