Cisco®
CompTIA
Checkpoint
ISC
EC-Council
EXIN
Fortinet
ITIL®
Juniper
Microsoft
VMware
Avaya
SAP
Google
Salesforce
Amazon
Palo Alto Networks
ISC2
All Vendors
  2. Home
  3. Exams
  4. Test Prep
  5. CFA-Level-I

Free Test Prep CFA-Level-I Exam Questions (page: 31)

Page 31 of 496
PDF with 3963 Questions

Ace Consulting, a multinational corporate finance consulting firm, is analyzing the profitability of a new line of superconductors designed by Clay Industries, a large industrial firm. In their analysis, Ace Consulting has developed a detailed statistical model that generates random values for key variables, and these random numbers are incorporated into the analysis. Using this proprietary statistical software, Ace Consulting is allowed to formulate a computer-based model of the superconductor's expected cash flows and NPV, given any randomly selected value for seven essential variables. Which of the following choices best describes this technique for measuring stand-alone risk?

  1. Relational computation analysis
  2. Monte Carlo simulation
  3. Sensitivity analysis
  4. Scenario analysis
  5. Regression analysis
  6. Marco Polo simulation

Answer(s): B

Explanation:

In this example, Ace Consulting has developed a statistical model which generates random values for seven key variables. Using this information, Ace can provide Clay Industries with an expected range of NPV and IRR for any assumed variable values. This process is referred to as Monte Carlo simulation, and is so named because the first Monte Carlo models were incorporated into the mathematical analysis of Casino gambling.



Cepeda Corporation requires a computer system for the next ten years, and is in the process of choosing among two mutually exclusive alternatives. System A costs $50,000 today, and will produce positive net cash flows of $12,000 a year for the next ten years (t = 1 through t = 10). System B costs $30,000 today and will produce positive net cash flows of $11,000 a year for the next five years. After five years, System B can be replaced under the same terms. The company's cost of capital is 10 percent. What is the equivalent annual annuity (EAA) of the best system?

  1. $6,261.18
  2. $3,862.73
  3. $5,002.39
  4. $3,086.07
  5. $2,373.48

Answer(s): B

Explanation:

First find the NPV's of each system over its initial life.
System A: CF(0) = -50,000; CF(1-10)= 12,000; I = 10; solve for NPV = $23,734.81. System B: CF(0) = -30,000; CF(1-5)= 11,000; I = 10, solve for NPV = $11,698.65. Second, find the value of the EAA of each system.
System A: N = 10; I = 10; PV = -23,734.81; FV = 0; solve for PMT = EAA = $3,862.73. System B: N = 5; I = 10; PV = -11,698.65; FV = 0; solve for PMT = EAA = $3,086.07. Given System A has a higher EAA, it is the better of the two systems.



Rollins Corporation is constructing its MCC schedule. Its target capital structure is 20 percent debt, 20 percent preferred stock, and 60 percent common equity. Its bonds have a 12 percent coupon, paid semiannually, a current maturity of 20 years, and sell for $1,000. The firm could sell, at par, $100 preferred stock, which pays a 12 percent annual dividend, but flotation costs of 5 percent would be incurred. Rollins' beta is 1.2, the risk-free rate is 10 percent, and the market risk premium is 5 percent. Rollins is a constant growth firm, which just paid a dividend of $2.00, sells for $27.00 per share, and has a growth rate of 8 percent. The firm's policy is to use a risk premium of 4 percentage points when using the bond-yield-plus-risk- premium method to find k(s). The firm's net income is expected to be $1 million, and its dividend payout ratio is 40 percent. Flotation costs on new common stock total 10 percent, and the firm's marginal tax rate is 40 percent.
What is Rollins' retained earnings break point?

  1. $800,000
  2. $1,000,000
  3. $1,200,000
  4. $1,400,000
  5. $600,000

Answer(s): B

Explanation:

Retained earnings = 0.6($1,000,000) = $600,000.
BP(RE) = $600,000/0.6 = $1,000,000.



A firm's dividend growth rate is 3.2% when the dividend payout ratio equals 37%. It is expected to pay a dividend of $2.2 next year. If the cost of external equity for the firm equals 19.2% and the firm's stock is currently priced at $14.1, the flotation cost of equity equals ________.

  1. 1.78%
  2. 0.89%
  3. 2.50%
  4. 1.91%

Answer(s): C

Explanation:

IF F is the percentage flotation cost and P is the amount of new equity raised per new share, then Ke = D1/[P (1-F)] + g, where Ke is the cost of external equity. Here, g = 3.2%, D1 = $2.2, P = $14.1 and Ke = 19.2%.
Therefore, 19.2% = 2.2/(14.1*(1-F)) + 3.2%. Solving for F gives F = 2.5%.



The management of Clay Industries have adhered to the following capital structure: 50% debt, 35% common equity, and 15% perpetual preferred equity. The following information applies to the firm:
Before-tax cost of debt, i.e. yield to maturity of the outstanding senior long-term debt = 9.5% Combined State/Federal tax rate = 35%
Cost of common equity = 14.45%
Annual preferred dividend = $2.75
Preferred stock net offering price = $28.50
Given this information, what is the Weighted Average Cost of Capital for Clay Industries?

  1. 9.60%
  2. 10.45%
  3. The WACC for Clay Industries cannot be calculated from the information given.
  4. 11.27%
  5. 6.52%
  6. 8.67%

Answer(s): A

Explanation:

The calculation of the Weighted Average Cost of Capital is as follows: {fraction of debt * [yield to maturity of outstanding long-term debt][1-combined state/federal income tax rate]} + {fraction of preferred stock * [annual dividend/net offering price]} + {fraction of common stock * cost of equity}. The cost of common equity can be calculated using three methods, the Capital Asset Pricing Model (CAPM), the Dividend-Yield-plus-Growth-Rate (or Discounted Cash Flow) approach, and the Bond- Yield-plus-Risk-Premium approach. In this example, the cost of equity is given, so none of the three approaches is necessary. However, the cost of debt and preferred stock must be calculated. The cost of debt is found by multiplying the before tax cost of debt (9.5%) by (1-tax rate). Incorporating the given figures into this equation will yield a cost of debt at 6.175%. Determining the cost of perpetual preferred stock is relatively straightforward, simply divide the annual preferred dividend ($2.75) by the net price of preferred stock ($28.50), which yields a cost of preferred stock of 9.65%. These figures can now be incorporated into the WACC equation, which is provided below: {[50% debt * 9.5% * (1- 35%)] + [15% * ($2.75/$28.50)] + [35% * 14.45%]} = 9.60%



Which of the following is not expressly incorporated into the Degree of Total Leverage (DTL) calculation?

  1. None of these answers
  2. Discount rate
  3. Interest expense
  4. Fixed costs
  5. Sales
  6. Variable costs

Answer(s): B

Explanation:

The Degree of Total Leverage (DTL) calculation measures the percentage change in EPS from a given percentage change in sales. The equation used to produce DTL is as follows: {DTL = [(Sales - Variable Costs) / (Sales - Variable Costs - Fixed Costs - Interest Expense)]. As you can see, the DTL calculation does not involve the use of an explicit discount rate.



Company D has a 50 percent debt ratio, whereas Company E has no debt financing. The two companies have the same level of sales, and the same degree of operating leverage. Which of the following statements is most correct?

  1. None of these answers are correct.
  2. If sales increase 10 percent for both companies, then Company D will have a larger percentage increase in its operating income (EBIT).
  3. All of these answers are correct.
  4. If EBIT increases 10 percent for both companies, then Company D's net income will rise by more than 10 percent, while Company E's net income will rise by less than 10 percent.
  5. If sales increase 10 percent for both companies, then Company D will have a larger percentage increase in its net income.

Answer(s): E

Explanation:

After the sales increase, the percentage increase in EBIT will be the same for both companies. Company E's net income will rise by exactly 10%.



Which of the following statements is most correct?

  1. The optimal capital structure is the one that maximizes EBIT, and this always calls for a debt ratio, which is lower than the one that maximizes expected EPS.
  2. When financial leverage is used, the graphical probability distribution of net income would tend to be more peaked than a distribution where no leverage is present, other things held constant.
  3. From an operational standpoint the goal of maintaining financial flexibility translates into maintaining adequate reserve borrowing capacity.
  4. While business risk varies from one industry to another and can change over time, it affects all firms equally within a particular industry.
  5. All of these statements are false.

Answer(s): C

Explanation:

Even in normal times, a firm should maintain a reserve borrowing capacity, which is the ability to borrow money at a reasonable cost when good investment opportunities arise.



Viewing page 31 of 496
Viewing questions 241 - 248 out of 3963 questions



Post your Comments and Discuss Test Prep CFA-Level-I exam prep with other Community members:

CFA-Level-I Exam Discussions & Posts