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FIN 6100 Exam 3 Questions With Complete Solutions

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Cost of Capital Definition - ANS The cost of capital (WACC) is the overall interest rate that companies pay to finance operations and assets, used in project valuation and investment decisions. What Determines WACC? - ANS WACC reflects the risk of the project, not just the funding source. Different divisions and projects within a company may have different WACCs. WACC Formula - ANS WACC = Wd Kd (1-T) + We Ke, where Wd and We are the weights of debt and equity, and Kd and Ke are their respe...

Derivative - ANS A contract between two individuals that has cash flows based on the value of some asset or event What are derivative contracts? - ANS Contracts between two individuals or entities. In a derivative contract, what happens to cash flow between the parties? - ANS Whatever cash flow one party gains, the other has to lose an identical amount. Types of Derivatives - ANS Forwards, futures, options, swaps Swaps - ANS used to trade expenses with another party Interest Rate Swaps - ...

A bond that makes no coupon payments and is initially priced at a deep discount is called a _____ bond. - ANS zero coupon The written agreement between a corporation and the bondholder's representative is called the - ANS indenture Bonds below BBB or Baa are called - ANS junk bonds If a bond was issued at par, the quoted price of the bond will not necessarily equal the par value of the bond after issuance because - ANS market interest rates have changes and or interest have accrued Th...

What is the cost of capital? - ANS the overall interest rate that companies pay to finance operations and the purchase of assets. What happens if a company is earning more than their WACC rate? Less than? - ANS more: they are increasing the value of its equity less: losing value for shareholders WACC formula? What do the different parts stand for? - ANS WACC = WdKd(1-T) + WeKe Wd: weight of debt Kd: cost of debt (interest rate) T: Tax shield (cost of debt after interest) We: weight of ...

Side Effects - ANS Which of the following items would you find in the operating cash flow? a) Side Effects b) Net salvage value of assets c) Opportunity Costs d) WACC Internal rate of return - ANS Which decision rule compares the rate of return earned on your investment to the weighted average cost of capital when deciding whether you want to accept a project? a) Net present value b) Internal rate of return c) Profitability index d) Payback period False - ANS The net income shown on ...