FM05 Online Exam Assignment AIMA 2020

Subject Code: FM05

Subject Name: Corporate Finance

Component name: Term end

Question 1:- As the beneficiary of a life insurance policy, you have two options for receiving the insurance proceeds. You can receive a lump sum of $200,000 today or receive payments of $1,400 a month for 20 years. If you can earn 6 percent on your money, which option should you take and why? a)   You should accept the payments because they are worth $201,846 to you today.

1. b) You should accept the payments because they are worth $201,210 to you today.
2. c) You should accept the $200,000 because the payments are only worth $189,311 to you today.
3. d) You should accept the $200,000 because the payments are only worth $195,413 to you today.

Question 2:- Which of the following should be included in the analysis of a proposed project?

1. a) Incremental and sunk costs only
2. b) Opportunity costs, erosion, and sunk costs
3. c) Opportunity costs and synergy only
4. d) Synergy, erosion, opportunity costs, and incremental costs

Question 3:- Uptown Furniture purchased a corner lot 5 years ago at a cost of $670,000. The lot was recently valued at $640,000. At the time of the purchase, the company spent $45,000 to grade the lot and another $100,000 to pave the lot for commuter parking. The company now wants to build a new retail store on the site. The building cost is estimated at $1.6 million. What amount should be used as the initial cash flow for this building project?

1. a) “$”1,600,000
2. b) “$”2,240,000
3. c) “$”2,385,000
4. d) “$”2,270,000

Question 4:- Roy is analyzing a 5-year project with an initial cost of $210,000, a required return of 16 percent, and a probability of success of 62 percent. If the project fails, it will generate an annual after-tax cash flow of –$48,500. If the project succeeds, the annual after-tax cash flow will be $79,000. He has further determined that if the project fails, he will shut it down after the first year and lose all of his original investment. If, however, the project is a success, he can expand it with no additional investment and increase the after-tax cash flow to $154,000 a year for Years 2–5. At the end of Year 5, the project would be terminated and have no salvage value. What is the net present value of this project at Time 0?

655. a) “$”46,655.42
656. b) “$”32,560.35
657. c) “$”47,297.19
658. d) “$”62,543.35

Question 5:- When comparing levered versus unlevered capital structures, leverage works to increase EPS for high levels of EBIT because interest payments on the debt ___________

1. a) increase as EBIT increases.
2. b) stay fixed, leaving more income to be distributed over fewer shares.
3. c) stay fixed, leaving less income to be distributed over fewer shares.
4. d) decrease as EBIT increases.

Question 6:- Which one of these events might cause the biggest challenge to the MM propositions?

1. a) An increase in the corporate tax rates
2. b) A decrease in the cost of debt
3. c) A change in tax laws to treat interest and dividends equally
4. d) An increase in a firm`s unlevered WACC

Question 7:- What does the present value of the tax shield from debt formula assume?

1. a) The debt is perpetual.
2. b) The interest rate on the debt is less than cost of equity.
3. c) The debt will not be replaced when paid.
4. d) Interest on the debt is paid only when the debt matures.

Question 8:- Simpson`s is an all-equity firm that has 400,000 shares of stock outstanding. The company is in the process of borrowing $1.5 million at 5 percent interest to repurchase 30,000 of the firm`s outstanding shares. Ignore taxes. What will be the market value of equity after the repurchase?

20. a) $20.0 million
21. b) $19.2 million
22. c) $18.5 million
23. d) $19.8 million

Question 9:- Which one of these statements is a correct implication of the pecking order theory?

1. a) Companies like financial slack so they can reduce their external capital needs.
2. b) External financing should be limited to debt issues.
3. c) The target debt level occurs when the marginal benefit of debt equals the marginal cost of debt.
4. d) Profitable firms use more debt.

Question 10:- A highly automated plant would generally have

1. a) more variable than fixed costs.
2. b) more fixed than variable costs.
3. c) all fixed costs.
4. d) all variable costs.

Question 11:- If a firm has fixed costs of $60,000, a sales price of $7.00 per unit, and a break-even point of 25,000 units, the variable cost per unit is _____.

5. a) “$”5.00
6. b) “$”4.60
7. c) “$”5.40
8. d) “$”4.00

Question 12:- If a firm with $49,000 in fixed costs breaks even on 7,000 units, how many units must the firm sell to earn $30,000 in operating profit?

1. a) 30,000 units
2. b) 15,824 units
3. c) 11,286 units
4. d) There is not enough information to determine the unit sales required.

Question 13:- A conservatively financed firm would

1. a) use long-term financing for all fixed assets and short-term financing for all other assets.
2. b) finance a portion of permanent assets and short-term assets with short-term debt.
3. c) use equity to finance fixed assets, use long-term debt to finance permanent assets, and use short-term debt to finance fluctuating current assets.
4. d) use long-term financing for three items: permanent current assets, fixed assets, and a portion of the short-term fluctuating assets. Then use short-term financing for all other short-term assets.

Question 14:- A firm will usually increase the ratio of long-term debt to short-term debt when

1. a) short-term debt has a lower cost than long-term equity.
2. b) future interest rates are expected to increase.
3. c) long-term debt has a lower cost than long-term equity.
4. d) future interest rates are expected to decrease.

Question 15:- The York Company has arranged a line of credit that allows it to borrow up to $53 million at any time. The interest rate is .629 percent per month. Additionally, the company must deposit 3 percent of the amount borrowed in a non-interest bearing account. The bank uses compound interest on its line-of-credit loans. What is the effective annual rate on this line of credit?

7. a) 15%
8. b) 06%
9. c) 81%
10. d) 95%

Question 16:- Which of the following could be the cause of a lengthening cash cycle?

1. a) Increasing the inventory turnover
2. b) Issuing credit to less credit-worthy customers than in previous periods
3. c) Increasing the accounts payable period
4. d) Extending the time period before paying a supplier for a credit purchase

Question 17:- Which one of these statements is correct?

1. a) If a firm adopts a restrictive short-term financial policy, its current assets will be greater than if it adopts a flexible policy.
2. b) If a firm switches from a flexible short-term financial policy to a restrictive policy, it is likely to see an increase in its uncollectible accounts receivable.
3. c) If a firm switches from a restrictive short-term financial policy to a flexible policy, its operating cycle will most likely decrease.
4. d) Future cash flows are expected to be higher if a firm adopts a flexible, rather than a restrictive, short-term financial policy.

Question 18:- D&M sells its inventory in 67 days on average. Their customers generally charge their purchases on a credit card with payment being received in 2 days. The company takes 61 days on average to pay for its purchases. Given this information, what is the length of the company’s cash cycle?

1. a) 42 days
2. b) 36 days
3. c) 17 days
4. d) 8 days

Question 19:- In a true merger, not a consolidation, the acquirer

1. a) and the target firm become a new firm with a new name.
2. b) accepts the responsibility for the debts of the target firm.
3. c) obtains only the assets of the target firm.
4. d) is totally absorbed by the acquired firm.

Question 20:- Which one of these defines the maximum price that a bidder should pay for a target firm?

1. a) Summation of the target firm`s market value plus the value of the synergy created by the merger
2. b) Summation of the target firm`s market value plus the merger premium minus any long-term debt
3. c) An amount equal to the premium created by a merger of the bidder and target firms
4. d) Target firm`s total market value as a stand-alone entity

Case Study

Deepti Machine Tools is considering replacing an existing machine with a new machine costing Rs. 20,000. The older machine was fully depreciated to its actual salvage value of Rs. 2,000 prior to 2019. The new machine will be depreciated over its ten-year projected life using straight line depreciation and will have a Rs. 3,000 salvage value. It is anticipated that the new machine will reduce labour cost by Rs.3,000 per year. Their cost of capital is 14% and their marginal tax rate is 40%. Deepti`s Income Statement 2019 provides the following information:

Sales = Rs. 2,50,000;

Total expenses = Rs. 2,15,000 which includes :Materials = 75,000; Labour = 1,00,000; Administration = 21,000; Depreciation = 19,000.

Question 21:- If Deepti buys the machine how will the after tax profit get impacted?

1. a) It will increase by Rs. 3,000
2. b) It will increase by Rs. 1,300
3. c) It will increase by Rs. 780
4. d) Will not get impacted.

Question 22:- If Deepti requires an after-tax return on investment of 14% should they buy the new machine?

1. a) No, as the NPV is negative
2. b) Yes, as the NPV is positive
3. c) Yes , because the after tax profit increases
4. d) Yes, because the after tax cash-inflow increases

Question 23:- If the cost of capital is 14% what will be the NPV of the buying the machine?

1. a) 4,255
2. b) 2480
3. c) -4255
4. d) -2480

Question 24:- Assume the old machine could get sold for Rs. 6,000. And the tax rate is increased to 48%.How would it impact the cash outflow for the new machine?

1. a) The cash outflow would now be Rs. 15,920
2. b) The cash outflow would now be Rs. 18,000
3. c) The cash outflow would now be Rs. 17,000
4. d) None of the above are correct

Question 25:- Assume the old machine could get sold for Rs. 6,000 and the tax rate is increased to 48%. Would this affect the profitability of the project?

1. a) Is still profitable as the NPV is positive
2. b) Is still profitable as the after tax profit increases
3. c) Is still profitable as the after tax cash-inflow increases
4. d) Is rejected as the NPV is negative