Chapter 14 Test Bank Part 2

CHAPTER 14—COMPANY ANALYSIS AND STOCK VALUATION
What is the implied growth duration of Bowe Industries given the following:
S&P Industrials Bowe Industries

P/E Ratios 15 25
Average Growth (%) 5.0 15.0
Dividend Yield .06 .02
a. 3.2 years
b. 6.6 years
c. 8.6 years
d. 9.7 years
e. 10.6 years
ANS: D
ln (25/15) = T ln [1 + .15 + .02)/(1 + .05 + .06)]
T = 9.7 years
PTS: 1 OBJ: Multiple Choice Problem
49. What is the implied growth duration of Casey Industries given the following:
S&P Industrials Casey Industries

P/E Ratios 15 20
a. 3.2 years
b. 2.8 years
c. 4.8 years
d. 9.6 years
e. 13.2 years
ANS: B
ln (20/15) = T ln [1 + .15 + .06)/(1 + .05 + .04)]
T = 2.8 years
50. What is the implied growth duration of Jones Industries given the following:
S&P Industrials Jones Industries

P/E Ratios 12 15
a. 7.2 years
b. 10.9 years
c. 12.5 years
d. 13.9 years
e. 15.2 years
ANS: C
ln (15/12) = T ln [1 + .10 + .03)/(1 + .06 + .05)]
T = 12.5 years
51. What is the implied growth duration of Freed Industries given the following:
S&P Industrials Freed Industries

P/E Ratios 19 22
a. 1.8 years
b. 1.3 years
c. 5.0 years
d. 4.5 years
e. 3.5 years
ANS: A
ln (22/19) = T ln [1 + .16 + .08)/(1 + .11 + .033)]
T = 1.8 years
52. What is the implied growth duration of Howard Industries given the following:
S&P Industrials Howard Industries

P/E Ratios 14 24
a. 11.5 years
b. 16.8 years
c. 22.6 years
d. 18.4 years
e. 20.6 years
ANS: E
ln (24/14) = T ln [1 + .12 + .04)/(1 + .06 + .07)]
T = 20.6 years
Exhibit 14.2
USE THE INFORMATION BELOW FOR THE FOLLOWING PROBLEM(S)
Modular Industries currently has a 16% annual growth rate while the market average is 6 percent. The
market multiple is 10.
53. Refer to Exhibit 14.2. Determine the justified P/E ratio for Modular Industries assuming Modular
can maintain its superior growth rate for the next 5 years.
a. 6.4
b. 13.1
c. 16.5
d. 23.8
e. 15.7
ANS: E
ln (X) = 5 ln (1.16/1.06)
ln (X) = 5 ln (1.094)
ln (X) = 5 (.090) = 0.45 X = 1.57
Thus, the P/E ratio would be 1.57  10 = 15.7
54. Refer to Exhibit 14.2. Determine the P/E ratio for Modular Industries assuming Modular can
maintain its superior growth rate for the next 8 years.
a. 6.4
b. 20.5
c. 16.5
d. 23.8
e. 29.5
ANS: B
ln (X) = 8 ln (1.16/1.06)
ln (X) = 8 ln (1.094)
ln (X) = 8 (.090) = 0.72 X = 2.05
The P/E would be 10  2.05 = 20.5
Exhibit 14.3
Harcourt Industries currently has an 18% annual growth rate while the market average is 8 percent. The
market multiple is 12.
55. Refer to Exhibit 14.3. Determine the justified P/E ratio for Harcourt Industries assuming Harcourt
can maintain its superior growth rate for the next 9 years.
a. 5.98
b. 13.13
c. 21.20
d. 58.68
e. 26.65
ANS: E
ln (X) = 9 ln (1.18/1.08)
ln (X) = 9 ln (1.093)
ln (X) = 9 (.089) = .801 X = 2.22
The P/E would be 2.22  12 = 26.65
56. Refer to Exhibit 14.3. Determine the P/E ratio for Harcourt Industries assuming Harcourt can
a. 4.25
b. 12.50
c. 15.67
d. 30.10
e. 42.80
ANS: C
ln (X) = 3 ln (1.18/1.08)
ln (X) = 3 ln (1.093)
ln (X) = 3 (.089) = .269 X = 1.306
The P/E would be 12  1.306 = 15.67
Exhibit 14.4
The Valentine Company currently has a 14% annual growth rate while the market average is 4 percent.
The market multiple is 15.
57. Refer to Exhibit 14.4. Determine the justified P/E ratio for the Valentine Company assuming
Valentine can maintain its superior growth rate for the next 10 years.
a. 3.0
b. 9.2
c. 16.6
d. 28.6
e. 37.6
ANS: E
ln (X) = 10 ln (1.14/1.04)
ln (X) = 10 ln (1.096)
ln (X) = 10 (.092) = .92 X = 2.51
Thus, the P/E ratio would be 2.51  15 = 37.6
58. Refer to Exhibit 14.4. Determine the P/E ratio for the Valentine Company assuming Valentine can
a. 23.7
b. 16.4
c. 15.3
d. 8.3
e. 3.8
ANS: A
ln (X) = 5 ln (1.14/1.04)
ln (X) = 5 ln (1.096)
ln (X) = 5 (.092) = .46 X = 1.584
The P/E would be 15  1.584 = 23.7
59. Given Gitech's beta of 1.55 and a risk free rate of 8 percent, what is the expected rate of return
assuming a 14 percent market return?
a. 12.4%
b. 14.3%
c. 17.3%
d. 20.4%
e. 29.7%
ANS: C
K1 = 8 + 1.55 (14  08) = 17.3%
60. The expected rate of return on Research Industries is twice the 12 percent expected rate of return
from the market. What is Research's beta if the risk free rate is 6 percent?
a. 2
b. 3
c. 4
d. 5
e. 6
ANS: B
24 = 6 + (12  6)
18 = (6)   = 3
61. Given Birdchip's beta of 1.25 and a risk free rate of 6 percent, what is the expected rate of return
a. 1%
b. 10%
c. 11%
d. 12%
e. 31%
ANS: C
K1 = 6 + 1.25 (12  8) = 11.0%

62. The expected rate of return on Rewind Industries is 2.5 times the 12 percent expected rate of
return from the market. What is Rewind's beta if the risk free rate is 6 percent?
a. 2
b. 3
c. 4
d. 5
e. 6
ANS: C
30 = 6 + (12  6)
24 = (6)   = 4
63. Given Gilbert's beta of 1.10 and a risk free rate of 5 percent, what is the expected rate of return
a. 21.5%
b. 10.5%
c. 5.5%
d. 15.5%
e. 16.5%
ANS: B
K1 = 5 + 1.10 (10  5) = 10.5%
64. The expected rate of return on Rooter Industries is 1.5 times the 16 percent expected rate of return
from the market. What is Research's beta if the risk free rate is 8 percent?
a. 2
b. 3
c. 4
d. 5
e. 6
ANS: A
24 = 8 + (16  8)
16 = (8)   = 2
65. ABC Co. has paid annual dividends in the past five years of $.20, $.25, $.28, $.33, and $.36.
Calculate the average growth rate of its dividends.
a. 1.16%
b. 1.80%
c. 12.47%
d. 15.83%
e. None of the above
ANS: D
Average dividend growth rate = [Dn/D0]1/n  1
= [$.36/$.20]1/4  1
= [1.80]1/4  1
= 1.1583  1 = .1583 or 15.83%
Exhibit 14.5
Wal-Blue Industry
DPS 1.00 1.50
Total Asset Turnover 3.20 2.50
Net Profit Margin 3.50% 3.00%
EPS 4.00 3.00
Total Assets/Equity 3.00 4.00
66. Refer to Exhibit 14.5. What are the ROE's for Wal-Blue and its industry?
a. 24.3% and 27.0%
b. 29.7% and 27.0%
c. 29.7% and 30.0%
d. 33.6% and 30.0%
e. 34.5% and 31.5%
ANS: D
ROE = Total asset turnover  Net profit margin  Total assets/equity
ROE (Wal-Blue) = 3.20  .035  3.00 = .336 or 33.6%
ROE (Industry) = 2.50  .03  4.00 = .300 or 30.0%
67. Refer to Exhibit 14.5. What are the expected sustainable growth rates for Wal-Blue and its
industry?
a. 25.2% and 15.0%
b. 30.0% and 17.5%
c. 25.2% and 17.5%
d. 27.5% and 12.5%
e. 30.0% and 15.0%
ANS: A
g = ROE  RR = ROE  (1  dividend payout)
g (Wal-Blue) = .336  (1  1.00/4.00) = .336  .75 = .252 or 25.2%
g (Industry) = .300  (1  1.50/3.00) = .300  .50 = .150 or 15.0%

68. A firm has a current price of $40 a share, an expected growth rate of 11 percent and expected
dividend per share (D1) of $2. Given its risk you have a required rate of return for it of 12 percent. Your
expected rate of return and investment decision is as follows:
a. 10%  do not buy
b. 12%  do not buy
c. 14%  buy
d. 16%  buy
e. 18%  buy
ANS: D
Expected rate of return = Di/P0 + g
= $2.00/$40.00 + 11%
= 5% + 11% = 16%
Buy, expected return (16%) exceeds required return (12%).
69. A firm has a current price of $40 a share, an expected growth rate of 11 percent and expected
dividend per share (D1) of $2. Given its risk you have a required rate of return for it of 12 percent.
Assuming that you expect the stock price to increase to $42 during the investment period, your expected
rate of return and decision would be:
a. 10%  do not buy
b. 12%  do not buy
c. 14%  buy
d. 16%  buy
e. 18%  buy
ANS: A
Do not buy, expected return (10%) does not exceed the required return (12%).
70. Based on the information provided, calculate the intrinsic value in 2010 of a share of INV Corp.
using the FCFF (free cash flow to the firm) model. For 2010 the FCFF was $30,000, total debt was
$20,000, and there were 12000 shares outstanding. The required rate of return is 9% and the estimated
growth rate in FCFF is 6.5%.
a. $104.83
b. $153.25
c. $112.50
d. $94.92
e. $80.45
ANS: A
71. Based on the information provided, calculate the intrinsic value in 2010 of a share of INV Corp.
using the Present Value of Earnings Model (infinite holding period). For 2010 net income was $250,000,
total debt was $50,000, and there were 206,263 shares outstanding. The required rate of return is 12% and
the estimated growth rate in earnings is 5.5%.
a. $19.43
b. $23.98
c. $28.52
d. $22.73
e. $15.50
ANS: A
72. You are provided with the following information about Javier Corporation. Sales for the year
2010 were $500,000, the Net Profit Margin (NPM) was 15%. Analysts project sales to grow by 12% next
year (that is 2011). However, because of more competition, the NPM is expected to decline by 10% for
the year 2010. The expected P/E multiple for the year 2011 is 22. The total number of shares outstanding
is 20,000. Use the earnings multiplier model to calculate the expected price for Javier Corporation in the
year 2011.
a. $74.25
b. $61.6
c. $82.5
d. $83.16
e. $101.64
ANS: D
The price is calculated as follows
Sales for 2005 = 500,000(1.12) = 560,000
New NPM = .15(1  .1) = .135
2005 NPM = 560,000(.135) = 75,600
EPS = 75,600/20,000 = $3.78
Price = 3.78(22) = $83.16
Exhibit 14.6
You are provided with the following information on Kayray Corporation. Your ultimate objective is to
calculate the EVA for the firm.
LIFO reserve 60
Net plant, property, and equipment 1325
Other assets 30
Goodwill 325
Accumulated Goodwill amortized 65
PV of Operating leases 140
Tax benefit from interest on expenses 10
Tax benefit from interest on leases 5
Taxes on non-operating income 2
Implied interest on op. lease 9.5
Increase in LIFO reserve 12
Goodwill amortization 15
Operating profit 550
Income tax expense 215
Net working capital 440
WACC 0.12
73. Refer to Exhibit 14.6. Calculate the adjusted operating profits before taxes.
a. $586.5
b. $225.64
c. $825.23
d. $831.56
e. $692.5
ANS: A
Operating profit 550
+ implied interest on op. lease 9.5
+ an increase in LIFO reserve 12
+ goodwill amortization 15
= Adjusted Operating profits before taxes 586.5
74. Refer to Exhibit 14.6. Calculate the cash operating expenses for the firm.
a. 225
b. 228
c. 232
d. 242
e. 252
ANS: B
Income tax expense 215
+ tax benefit from interest on expenses 10
+ tax benefit from interest on leases 5
 taxes on non-operating income 2
= Cash Operating expenses 228
75. Refer to Exhibit 14.6. Calculate the capital for the firm.
a. 1725
b. 1953
c. 2524
d. 2385
e. 1987
ANS: D
Net working capital 440
+ LIFO reserve 60
+ Net plant, property, and equipment 1325
+ Other assets 30
+ Goodwill 325
+ Accumulated Goodwill amortized 65
+ PV of Operating leases 140
= Capital 2385
76. Refer to Exhibit 14.6. Calculate the dollar cost of capital.

a. 286.2
b. 207
c. 234.36
d. 238.44
e. 302.9
ANS: A
WACC 0.12
Dollar cost of capital = Capital  WACC 286.2
77. Refer to Exhibit 14.6. Calculate the firm's EVA.

a. 85.2
b. 72.3
c. 65.8
d. 89.5
e. 78.2
ANS: B
EVA = 586.5  228  286.2 = 72.3
78. The Peterson Company has FCFF of $1000. FCFF is expected to grow by 12% next year. The
cost of capital is 12% and the level of debt is $5000. The number of shares outstanding is 500. Calculate
the firm's share price.
a. $44
b. $55
c. $34.19
d. $47.23
e. $50
ANS: A
79. The Pekay Company has FCFE of $800. FCFE is expected to grow by 7% next year. The cost of
capital is 7% and the level of debt is $4000. The number of shares outstanding is 700. Calculate the firm's
share price.
a. $44.25
b. $65.12
c. $38.19
d. $40.76
e. $50.56
ANS: D
Exhibit 14.7
At the end of the year 2010 the BRK Corporation had free cash flow to equity (FCFE) of $250,000 and
shares outstanding of 200,000. The company projects the following annual growth rates in FCFE:
Year Growth Rate

2011 10%
2012 15%
2013 20%
2014 25%
2015 20%
2016 15%
2017 10%
2018 7%
From year 2019 onward growth in FCFE is expected to remain constant at 5% per year. The stock has a
beta of 1.3 and the current market price is $55. Currently the yield on 10-year Treasury notes is 5% and
the equity risk premium is 4%.
80. Refer to Exhibit 14.7. Calculate the required rate of return on equity.
a. 5%
b. 9.2%
c. 10.2%
d. 10%
e. 4.3%
ANS: C
k = 0.05 + 1.3(0.04) = 0.102
81. Refer to Exhibit 14.7. Calculate the present value now (Year 2010) of FCFE during the period of
increasing growth (that is for years 2011 to 2014).
a. $1,719,119
b. $1,715,784
c. $1,115,195
d. $1,434,903
e. $1,809,171
ANS: C
The table below shows the relevant calculations (note that these calculations were carried out using Excel
and there may be some rounding differences).
T Year g FCFE k PV yr 2014 PV yr 2006

0 2004 $250,000 0.102
1 2005 0.1 $275,000 0.102 $249,546
2 2006 0.15 $316,250 0.102 $260,416
3 2007 0.2 $379,500 0.102 $283,574
4 2008 0.25 $474,375 0.102 $321,659 $1,115,195
5 2009 0.2 $569,250 0.102 $350,264
6 2010 0.15 $654,638 0.102 $365,520
7 2011 0.1 $720,101 0.102 $364,857
8 2012 0.07 $770,508 0.102 $15,558,341 $354,262 $1,434,903
9 2013 0.05 $809,034 0.102
PV constant growth $7,153,368
Intrinsic Value $9,703,465
Intrinsic price per share $48.52
The future FCFE are calculated by applying the appropriate growth rates. For example FCFE for the year
2005 is calculated as 250,000(1.1) = 275,000
The present value = 275,000/(1.102) = 249,546
Summing up the present value of the cash flows for years 2005 to 2008 = $1,115,195
declining growth (that is for years 2015 to 2018).
a. $1,719,119
b. $1,715,784
c. $1,115,195
d. $1,434,903
e. $1,809,171
ANS: D
Present value of cash flows for the years 2009 to 2012 = $1,434,903

constant growth (that is for years 2019 onwards).
a. $7,153,368
b. $9,703,476
c. $15,558,341
d. $8,986,012
e. $6,789,125
ANS: A
The present value of the cash flows during the constant growth period is calculated as follows:
PV year 2012 = 809,034/(0.102  0.05) = $15,558,341

Present value now = 15,558,341/(1.102)8 = $7,153,368
84. Refer to Exhibit 14.7. Calculate the intrinsic value of the stock now (Year 2010).
a. $55
b. $48.52
c. $77.79
d. $35.77
e. $62.34
ANS: B
Intrinsic value per share = (1,115,195 + 1,434,903 + 7,153,368)/200,000 = $48.52
Exhibit 14.8
At the end of the year 2010 the CKL Corporation had operating free cash flow (OFCF) of $300,000 and
shares outstanding of 100,000. Total debt is currently $10,000,000. The company projects the following
annual growth rates in OFCF
Year Growth Rate

2011 25%
2012 20%
2013 15%
2014 10%
2015 12%
2016 14%
2017 16%
2018 18%
From year 2019 onward growth in OFCF is expected to remain constant at 5% per year. The stock has a
beta of 1.1 and the current market price is $80. Currently the yield on 10-year Treasury notes is 5% and
the equity risk premium is 4%. The firm can raise debt at a pre-tax cost of 9%. The tax rate is 25%. The
proportion of equity is 55% and the proportion of debt is 45%.
85. Refer to Exhibit 14.8. Calculate the required rate of return on equity.
a. 8.2%
b. 9.4%
c. 9.0%
d. 10.3%
e. 7.3%
ANS: B
Required return on equity = k = 0.05 + 1.1(0.04) = 0.094
86. Refer to Exhibit 14.8. Calculate the weighted average cost of capital (WACC).
a. 8.2%
b. 9.4%
c. 9.0%
d. 10.3%
e. 7.3%
ANS: A
WACC = (0.55)(0.094) + (0.45)(0.09)(1  0.25) = 0.082
87. Refer to Exhibit 14.8. Calculate the present value now (Year 2010) of OFCF during the period of
a. $1,044,612
b. $1,554,823
c. $1,898,096
d. $1,327,547
e. $1,579,326
ANS: B
The table below shows the relevant calculations (note that these calculations were carried using Excel and
there may be some rounding differences)
T Year g OFCF WACC PV yr 2014 PV yr 2006

0 2004 $300,000 0.082
1 2005 0.25 $375,000 0.082 $346,580
2 2006 0.2 $450,000 0.082 $384,378
3 2007 0.15 $517,500 0.082 $408,534
4 2008 0.1 $569,250 0.082 $415,331 $1,554,823
5 2009 0.12 $637,560 0.082 $429,917
6 2010 0.14 $726,818 0.082 $452,963
7 2011 0.16 $843,109 0.082 $485,616
8 2012 0.18 $994,869 0.082 $32,644,140 $529,600 $1,898,096
9 2013 0.05 $1,044,612 0.082
PV of constant growth $17,377,494
Intrinsic Value $20,830,412
less debt $10,000,000
Equity value $10,830,412
Intrinsic price per share $108.30
The future OFCF are calculated by applying the appropriate growth rates. For example OFCF for the year
2005 is calculated as 300,000(1.25) = 375,000
The present value = 375,000/(1.082) = 346,580
Summing up the present value of the cash flows for years 2005 to 2008 = $1,554,823
a. $1,044,612
b. $1,554,823
c. $1,898,096
d. $1,327,547
e. $1,579,326
ANS: C
Present value of cash flows for the years 2009 to 2012 = $1,898,096
constant growth (that is for years 2019 onwards).
a. $19,644,612
b. $15,558,546
c. $17,377,494
d. $20,779,025
e. $10,779,025
ANS: C
The present value of the cash flows during the constant growth period is calculated as follows:
PV year 2012 = 1,044,612/(0.082  0.05) = $32,644,140

Present value now = 32,644,140/(1.082)8 = $17,377,494
90. Refer to Exhibit 14.8. Calculate the total intrinsic value of the firm.
a. $19,644,612
b. $15,558,546
c. $17,327,250
d. $20,830,412
e. $10,779,025
ANS: D
Intrinsic value = (1,554,823 + 1,898,096 + 17,377,494) = $20,830,412
91. Refer to Exhibit 14.8. Calculate the intrinsic value of the stock now (Year 2010).
a. $155.55
b. $173.27
c. $196.44
d. $207.79
e. $108.30
ANS: E
Intrinsic value per share = (20,830,412  10,000,000)/100,000 = $108.30
Exhibit 14.9
The Rollerball Corporation's industry averages are as follows:

Net Profit Margin = 7.5%; Total Asset Turnover = 2.2; Total Assets/Equity = 2.0
Rollerball Corporation has the following financial statements for year ending 12/31/2008. (000's omitted)
Sales 5,450
Cost of Goods Sold 3,250
Gross Profit 2,200
Depreciation 820
Operating Expenses 470
Administration Exp. 115
Operating Profit 795
Interest Expense 88
Profit Before Taxes 707
Taxes 247
Net Income 460
Dividends 250
Assets Liabilities
Cash 100 Notes Payable 850
Accounts Receivable 1,250 Accounts Payable 1,550
Inventory 1,125 Total Current Liab. 2,400
Total Current Assets 2,475 Long Term Debt 425
Net Fixed Assets 1,450 Common Stock 400
Total Assets 3,925 Retained Earnings 700
Total Liab. & Earnings 3,925
92. Refer to Exhibit 14.9. Calculate Rollerball Corporation's Net Profit Margin.
a. 3.9%
b. 8.4%
c. 14.6%
d. 40.4%
e. 41.8%
ANS: B
NI/Sales = 460/5,450 = 0.084
93. Refer to Exhibit 14.9. Calculate Rollerball Corporation's Total Asset Turnover.
a. 0.72
b. 0.85
c. 1.39
d. 1.65
e. 2.31
ANS: C
Sales/Total Assets = 5,450/3,925 = 1.39
94. Refer to Exhibit 14.9. Calculate Rollerball Corporation's Total Assets/Equity ratio.
a. 3.57
b. 4.28
c. 5.61
d. 7.35
e. 9.81
ANS: A
TA/Equity = 3,925/(400 + 700) = 3.57
95. Refer to Exhibit 14.9. Calculate the return on equity (ROE) for Rollerball Corporation and the
Industry.
Rollerball Industry Average

a. 115.0% 67.5%
b. 65.7% 33.0%
c. 41.8% 33.0%
d. 19.1% 15.7%
e. 8.7% 15.7%
ANS: C
Rollerball = NI/Equity = 460/1,100 = 0.418; Industry = .075*2.2*2.0 = 0.33
96. Refer to Exhibit 14.9. Calculate the sustainable growth rate for Rollerball Corporation.
a. 19.1%
b. 22.7%
c. 27.5%
d. 52.5%
e. 62.5%
ANS: A
(1  250/460)*0.418 = 0.191

97. Johnson Company just paid an annual dividend of $1.75. The next dividend will be paid one year
from today. Johnson Company expects a constant growth of 5% in dividends forever. The required rate of
return for this company's common stock is 13%. What is the value of one share of common stock?
a. $1.55
b. $13.46
c. $14.13
d. $21.88
e. $22.97
ANS: E
Using DDM:
Exhibit 14.10
Left-Aid Corporation
DPS $2.45
Total Asset Turnover 3.80
Net Profit Margin 6.50%
EPS $3.50
Total Assets/Equity 1.60
98. Refer to Exhibit 14.10. What is the Left-Aid Corporation's return on equity (ROE)?
a. 25.5%
b. 27.4%
c. 29.7%
d. 35.6%
e. 39.5%
ANS: E
ROE = Total asset turnover  Net profit margin  Total assets/equity
ROE = 3.80  .065  1.60 = .3952 or 39.52%
99. Refer to Exhibit 14.10. What is Left-Aid Corporation's expected sustainable growth rate?
a. 11.9%
b. 18.7%
c. 22.1%
d. 27.7%
e. 30.0%
ANS: A
g = ROE  RR = ROE  (1  dividend payout)
g = .3952  (1  2.50/3.50) = .3952  .3 = .1186 or 11.86%

Exhibit 14.11
Investment Beta Analyst's Estimated Return

Stock X 2.3 15.5%
Stock Y 1.2 13.6%
Market Portfolio 1.0 11.5%
Risk-free rate 4.0%
100. Refer to Exhibit 14.11. What is the required rate of return for Stock X based on the capital asset
pricing model (CAPM)?
a. 15.5%
b. 17.3%
c. 21.3%
d. 26.5%
e. 30.5%
ANS: C
Required return = 0.04 + 2.3(0.115  0.04) = 0.04 + 2.3(0.075) = 0.2125 or 21.3%
101. Refer to Exhibit 14.11. What is the required rate of return for Stock Y based on the capital asset
pricing model (CAPM)?
a. 11.5%
b. 13.0%
c. 13.6%
d. 14.8%
e. 15.5%
ANS: B
Required return = 0.04 + 1.2(0.115  0.04) = 0.04 + 1.2(0.075) = 0.13 or 13.0%
102. Refer to Exhibit 14.11. Based on the analyst's estimated return and the stocks' betas the analyst
should
a. Sell both Stock X and Stock Y
b. Sell Stock X and Buy Stock Y
c. Buy Stock X and Sell Stock Y
d. Buy both Stock X and Stock Y
e. None of the above
ANS: B
Stock X's required return, 21.3%, is greater than estimated return, 15.5%, so Sell X.
Stock Y's required return, 13.0%, is less than estimated return, 13.6%, so Buy Y.

Chapter 14 Test Bank Part 2

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Chapter 14 Test Bank Part 2

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CHAPTER 14—COMPANY ANALYSIS AND STOCK VALUATION

S&P Industrials Bowe Industries

PTS: 1 OBJ: Multiple Choice Problem

S&P Industrials Casey Industries

PTS: 1 OBJ: Multiple Choice Problem

S&P Industrials Jones Industries

PTS: 1 OBJ: Multiple Choice Problem

S&P Industrials Freed Industries

PTS: 1 OBJ: Multiple Choice Problem

S&P Industrials Howard Industries

PTS: 1 OBJ: Multiple Choice Problem

Thus, the P/E ratio would be 1.57  10 = 15.7

PTS: 1 OBJ: Multiple Choice Problem

The P/E would be 10  2.05 = 20.5

PTS: 1 OBJ: Multiple Choice Problem

The P/E would be 2.22  12 = 26.65

PTS: 1 OBJ: Multiple Choice Problem

The P/E would be 12  1.306 = 15.67

PTS: 1 OBJ: Multiple Choice Problem

Thus, the P/E ratio would be 2.51  15 = 37.6

PTS: 1 OBJ: Multiple Choice Problem

The P/E would be 15  1.584 = 23.7

PTS: 1 OBJ: Multiple Choice Problem

PTS: 1 OBJ: Multiple Choice Problem

PTS: 1 OBJ: Multiple Choice Problem

PTS: 1 OBJ: Multiple Choice Problem

PTS: 1 OBJ: Multiple Choice Problem

PTS: 1 OBJ: Multiple Choice Problem

PTS: 1 OBJ: Multiple Choice Problem

PTS: 1 OBJ: Multiple Choice Problem

ROE (Wal-Blue) = 3.20  .035  3.00 = .336 or 33.6%

ROE (Industry) = 2.50  .03  4.00 = .300 or 30.0%

PTS: 1 OBJ: Multiple Choice Problem

g (Wal-Blue) = .336  (1  1.00/4.00) = .336  .75 = .252 or 25.2%

g (Industry) = .300  (1  1.50/3.00) = .300  .50 = .150 or 15.0%

PTS: 1 OBJ: Multiple Choice Problem

Buy, expected return (16%) exceeds required return (12%).

PTS: 1 OBJ: Multiple Choice Problem

PTS: 1 OBJ: Multiple Choice Problem

PTS: 1 OBJ: Multiple Choice Problem

Sales for 2005 = 500,000(1.12) = 560,000

New NPM = .15(1  .1) = .135

2005 NPM = 560,000(.135) = 75,600

EPS = 75,600/20,000 = $3.78

Price = 3.78(22) = $83.16

PTS: 1 OBJ: Multiple Choice Problem

PTS: 1 OBJ: Multiple Choice Problem

PTS: 1 OBJ: Multiple Choice Problem

PTS: 1 OBJ: Multiple Choice Problem

76. Refer to Exhibit 14.6. Calculate the dollar cost of capital.

Dollar cost of capital = Capital  WACC 286.2

PTS: 1 OBJ: Multiple Choice Problem

77. Refer to Exhibit 14.6. Calculate the firm's EVA.

PTS: 1 OBJ: Multiple Choice Problem

PTS: 1 OBJ: Multiple Choice Problem

PTS: 1 OBJ: Multiple Choice Problem

Year Growth Rate

PTS: 1 OBJ: Multiple Choice Problem

T Year g FCFE k PV yr 2014 PV yr 2006

PTS: 1 OBJ: Multiple Choice Problem

PTS: 1 OBJ: Multiple Choice Problem

PV year 2012 = 809,034/(0.102  0.05) = $15,558,341

PTS: 1 OBJ: Multiple Choice Problem