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In an efficient market, a security with a beta of 1.03 will have a rate of return that plots
on the SML just to the right of the market return
If the risk-free rate of return decreases while the market rate of return remains constant, then the:
slope of the security market line will increase
All else constant, which one of the following will decrease the slope of the security market line (SML)?
a decrease in the market rate of return
All else constant, which of the following will increase the aftertax cost of debt for a firm?
I. increase in the yield to maturity of the firm's outstanding debt
IV. decrease in the firm's tax rate
Which one of the following represents the best estimate for a firm's pre-tax cost of debt?
weighted average yield-to-maturity on the firm's outstanding debt
Which one of the following will decrease the aftertax cost of debt for a firm?
an increase in tax rates
All else constant, an increase in a firm's cost of debt
will result in an increase in the firm's cost of capital
The cost of preferred stock
is equal to the stock's dividend yield
Which of the following statements related to preferred stock are correct?
I. A decrease in the market value of preferred stock will increase a firm's weighted average cost of capital.
II. Preferred stock pays a constant dividend.
Which of the following will affect the capital structure weights of a firm?
III. increase in the market value of the firm's common stock
IV. increase in the firm's debt-equity ratio
A change in a firm's tax rate will affect the firm's aftertax cost of
II. debt IV. capital
Which one of the following statements is correct concerning capital structure weights?
The issuance of additional shares of common stock will decrease the weight of the preferred stock.
Which one of the following is a correct statement?
Current tax laws favor debt financing.
The rate of return that corresponds to the current risk level and capital structure of a firm is referred to as the
weighted average cost of capital
Which one of the following is a correct statement regarding a firm's weighted average cost of capital (WACC)?
The WACC is a starting point for the subjective approach to setting discount rates
The rate of return on its existing assets that a firm must earn to maintain the current value of the firm's stock is called the
weighted average cost of capital
A firm has a cost of equity of 10 percent, a cost of preferred of 9 percent, and an aftertax cost of debt of 5 percent. Given this, which one of the following will decrease the firm's weighted average cost of capital?
issuing new debt
All else constant, the weighted average cost of capital for a firm will decrease if
a firm's bonds start selling at a premium rather than at a discount
A firm that uses its weighted average cost of capital as the required return for all of its projects will
increase the risk level of the firm over time
Temple Manufacturing has three divisions. Division A has been in existence the longest and has the most stable sales. Division B has been in existence for ten years and is slightly less risky than the overall firm. Division C is the research and development side of the business. When allocating funds, the firm should probably
assign the highest cost of capital to division C because it is most likely the riskiest of the three divisions
A firm uses its weighted average cost of capital to evaluate the proposed projects for all of its varying divisions. By doing so, the firm
automatically gives preferential treatment in the allocation of funds to its riskiest division
Alicia, who is a divisional manager, complains bitterly that her division's required return for its projects is one percent higher than the return required for any other division of the firm. Management's knowledge of which of the following most likely contribute to the higher rate requirement for Alicia's division?
I. Alicia tends to overestimate the projected cash inflows on her projects.
II. Alicia tends to underestimate the variable costs of her projects. IV. Alicia's division presents greater risk to the firm than any of the other divisions.
The cost of capital for a project is primarily determined by the project's
level of risk
The cost of capital for a project depends primarily on the
use of the funds
Dover Industrial Products has three divisions. Division A is the core of the business and represents 75 percent of the firm's operations. Division B is involved only with contractual short-term projects and therefore has about 10 percent less risk than division A. Division C develops and markets new products and is about 10 percent riskier than division A and about equal in size to division B. The manager of division A has suggested that the operations of his division be increased by 5 percent next year. The proposed project should probably be assigned a required return that is equal to _____ percent of the firm's weighted average cost of capital
100
Which one of the following is the key factor for determining the cost of capital that should be assigned to an individual project?
use of the requested funds
Kitchens and More remodels residential kitchens and bathrooms. Delta Builders constructs new homes. If Kitchens and More considers expanding into new home construction, its management should evaluate such expansion using which one of the following as the required return for the project?
Delta Builders' cost of capital
Which one of the following factors is the primary consideration when searching for a comparable firm to use in the pure play approach to assigning a discount rate to a proposed project?
firm's operations
When using the pure play approach, a firm is seeking a rate of return that
applies to the risk level of the project
Kathy's Quilts is a brick-and-mortar quilt and fabric retailer. The firm is considering expanding its operations to include Internet sales. Which one of the following would be the best firm to use in a pure play approach to this project? 

a fabric store that sells primarily online
The managers of Jones' Supply uses the firm's weighted average cost of capital (WACC) as the required return for projects similar to those of the firm's existing operations. For projects of higher risk, they use a rate equal to WACC plus 1.5 percent. For projects of lower risk, they subtract 1 percent from the WACC. Which approach is the firm using to determine the required return for a project? 

subjective
A firm has multiple divisions of similar nature, yet varying degrees of risk. To assign required rates of return in the simplest manner possible and yet address the differences among the divisions, the firm should use the _____ approach.
subjective
A firm that assigns every project to a risk class which determines the required rate of return for the project is using the _____ approach
subjective
Last week, Lester's Electronics paid an annual dividend of $2.10 on its common stock. The company has a longstanding policy of increasing its dividend by 3 percent annually. This policy is expected to continue. What is the firm's cost of equity if the stock is currently selling for $44.60 a share? 

7.85 percent
Guy's Mills announced this morning that its next annual dividend will be decreased to $1.60 a share and that all future dividends will be decreased by an additional 2 percent annually. The stock price after the announcement was $21.20 a share. What is the firm's cost of equity capital?
5.55 percent
Deltronics just paid its first annual dividend of $.20 a share. The firm plans to increase the dividend by 4 percent per year indefinitely. What is the firm's cost of equity if the current stock price is $11 a share?
5.89 percent
Vogan's Wood Products would like to issue new equity shares if its cost of equity declines to 9 percent. The company pays a constant annual dividend of $1.75 a share. What does the market price of the stock need to be for the firm to issue the new shares?
$19.44
The common stock of Pittsburgh Steel Products has a beta of 1.42 and a standard deviation of 21.6 percent. The market rate of return is 12.5 percent and the risk-free rate is 5 percent. What is the cost of equity for Pittsburgh Steel Products?
15.65 percent

Wilson's has a cost of equity of 12.4 percent. The market risk premium is 8.4 percent and the risk-free rate is 3.7 percent. The company is acquiring a competitor, which will increase the company's beta to 1.4. What effect, if any, will the acquisition have on Wilson's cost of equity capital?
increase of 3.06 percent
The common stock of Bywater, Inc. has 16 percent less systematic risk than the overall market. Currently, the market risk premium is 8.6 percent while the U.S. Treasury bill is yielding 5.2 percent. What is Bywater, Inc.'s cost of equity?
12.42 percent
Sabrina's just paid an annual dividend of $1.79 per share. This dividend is expected to increase by 2.5 percent annually. Currently, the firm has a beta of .87 and a stock price of $31 a share. The risk-free rate is 4.5 percent and the market rate of return is 11.8 percent. What is the cost of equity capital for Sabrina's?
9.63 percent
Ziegler's Supply has a beta of 1.06, a variance of .0124, a dividend growth rate of 2.8 percent, a stock price of $27 a share, and an expected annual dividend of $1.10 per share next year. The market rate of return is 10.8 percent and the risk-free rate is 4.1 percent. What is the cost of equity for Ziegler's Supply?
9.04 percent

The market rate of return is 12.8 percent and the risk-free rate is 3.9 percent. River Tours has 35 percent more systematic risk than the market and has a growth rate of 5.8 percent. The firm's stock is currently selling for $48 a share and has a dividend yield of 4 percent. What is the firm's cost of equity?
12.86 percent
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