A corporate bond maturing in 5 years carries a 10% coupon ...
Spring 2003 FINANCIAL MANAGEMENT P. Kadapakkam
Sample Exam Questions
Part A (80 points)
1. a. (10) Crum Co’s balance sheet and income statement for 2001 are given below. The firm expects sales to grow by 50% in 2002. Operating costs, spontaneous liabilities and assets will increase in proportion to sales. The company plans to finance any additional funds needed using debt at an interest rate of 10%. What is the company’s projected funds needed for 2002? Assume interest expenses are 10% of the beginning year of debt balance.
2001 2002 – 1st pass
Sales $1,000
Operating costs 800
EBIT 200
Interest 16
EBT 184
Taxes (40%) 73.6
Net Income 110.40
Dividends (60%) 66.24
Addn. To RE 44.16
Cash 30
A/R 150
Inventories 200
Total CA 380
Gross FA 700
Accum.Depreciation 80
Net FA 620
Total assets 1000
A/P and accruals 150
Debt 200
Common stock 150
Retained Earnings 500
Total Liab.& Equity 1000
b. (10) Construct the Year 2002 Statement of Cash Flows for Crum.
2. (10) Sheila expects that her daughter will start college 5 years from now. She expects the tuition and other expenses for the first year to be $10,000. She expects these costs to increase by 3% annually. She expects that her daughter will finish college in 4 years. She has set aside $7,000 already in a bank account for the college expenses. If she can earn 10% on her money, what should her annual savings be over the next 5 years in order to meet her daughter’s college expenses fully? (All college expenses have to be paid at the beginning of the year.)
3. a. (6) A corporate bond maturing in 8 years carries a 7% coupon rate. If the required yield to maturity on the bond is 6% and the interest is paid semi-annually, what should be the current market price of the bond ? (The first interest payment will be received 6 months from now.) Is the bond selling at a premium or discount? Why?
b.
(9 points) CC Inc. stock recently paid a dividend of $3. The company expects to boost the dividend at a rate of 15% for the next two years. Thereafter, the growth rate is expected to be 5%. The required return on the stock is 12%. What is the expected stock price one year from now just after next year's dividend is paid? (may ask for price today)
4. a. (5) Securities A,B and C have betas of 0.7,1.0 and X, respectively. An equally weighted portfolio of the 3 securities, has a beta of 1.1. If A is replaced by another security with a beta of 1.2, what will be the beta of the new portfolio?
b. (5)Given a risk-free rate of 5% and a S&P 500 Index return of 12%, what should be the expected return on a security with a beta of 0.7?
5. (10)Lippo In. reports the following capital structure on its balance sheet:
Debt $ 20 m, Preferred stock $ 10 m, Common stock $ 20 m
The debt has 10 years to maturity, carries a coupon rate of 6%, and sells at 86.58% of face value. The preferred shares have a face value of $100 each and pay an annual dividend of $11. They sell at $105 each. There are 1 million shares with a market price of $30 each. The stock has a beta of 1.2. The risk-free rate is 5%. Assume that the risk premium on the market portfolio is 6%. The tax rate is 40%. (Assume that flotation costs are negligible.)
a. What is the after-tax cost of debt, preferred stock and common stock?
b. What is the weighted average cost of capital for the firm, if the current capital structure based on market values is the optimal capital structure?
6. a. (5) Zerog Corp. had EBIT of $450 million in 2001. It had interest expense of $30 million and a tax rate of 40%. Balance sheet data are given below in millions of dollars.
2000 2001
Cash 50 60
A/R 150 180
Inventories 300 360
Total CA 500 600
Net FA 1000 1200
Total assets 1500 1800
A/P and accruals 100 120
Debt 300 350
Common stock 600 600
Retained Earnings 500 730
Total Liab.& Equity 1500 1800
What is the FCF for the year 2001?
6.b.(10) A company’s free cash flow (FCF) is expected to be $10 million next year, $20 million in the second year, and $30 million in the third year. The FCF is expected to increase at the rate of 4% thereafter. The WACC for the company is 10%. The company’s balance sheet shows $20 million in short-term investments that are unrelated to operations. The balance sheet also shows $50 million in accounts payable, $90 million in notes payable, $30 million in long-term debt, $40 million in preferred stock, and $100 million in total common equity. If the company has 10 million shares of stock, what is your best estimate for the stock price per share? ($29.88)
Part B. Discussion questions worth 20 points.
Answers to Part A sample questions:
1. a. AFN=$357.80 2. Annual Savings = $4,106 3. a. $1062.81 b.Price of stock at time 1 = $56.68 4.a. 1.27 b. 9.9% 5. a. 4.8%,10.48%,12.2% b. 9.67%
6. a. -$10m b. $29.88
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