UGA FINA 3000 POPE: Test 2 T/F Questions

Firms favor straight-line depreciation over accelerated depreciation because it leads to higher NPVs for a capital budgeting project.

false

We value a share of preferred stock using the present value of a perpetuity formula.

true

Using the Security Market Line, if the Federal Reserve reduces the risk free rate, we should see an increase in stock prices.

true

If we increase the accounts payable for the firm, we will increase the FCF for the current year (everything else held constant).

true

In class, we identified one strength of the multiples model is that it uses the cost of capital.

false

The IRR rules is better to use than the NPV rule because the NPV rule can be biased based on the scale of the project.

false

The security market line shows the required return of an investment as a function of its beta.

true

The interest rate used in the NPV calculation for a capital budgeting project only represents that required return for shareholders in the firm.

false

The market portfolio risk premium is smaller for larger firms than smaller firms.

false

A project with a shorter payback period will always have a larger NPV than a project with a longer payback period.

false

A company decides to enter a business that is outside their normal scope of business activity and risk. The new business is riskier than the typical project considered by the firm. If the firm uses its cost of capital, there is a chance that the firm may accept a project that should be rejected.

true

An analyst is trying to estimate the cost of capital for Uber. The analyst observes that Uber has existing debt on its balance sheet that pays a 4% annual coupon rate. The analyst decides to use 4% as the cost of debt in the WACC calculation. Is this correct reasoning?

false

Free cash flow measures the cash created by the firm after all investments are made and after all dividends and interest are paid.

false

Another name for relevant risk is diversifiable risk.

false

In Modigliani and Miller's proposition related to taxes, the optimal capital structure is to use as much leverage as possible.

true

The term "i-flipping" refers to the practice of short selling a stock and profiting with the price of the stock falls.

false

In class, we discussed Coca-Cola acquiring BodyArmor. This deal is unusual in that Coke is using all debt to finance the deal.

false

Monte-Carlo Simulation can give you a usable result with one trial.

false

All else equal, a firm with more cyclical revenues will have a higher beta than a firm with non-cyclical revenues.

true

In our personal finance lecture, Dr. Pope suggested that most students would want to have an income fund as part of their 401K when starting work.

false

If projects are mutually exclusive, we favor the NPV rule over the IRR rule.

true

The weighted average cost of capital (WACC) only includes the required return for common shareholders (for all capital structures).

false

For capital budgeting, the NPV will be higher if you can take more depreciation earlier in the life of the project.

true

When the Federal Reserve announced the interest rate increase, the stock market rallied for a gain. This goes against conventional wisdom and our security market line graph.

true

For a student just graduating Terry and starting a 401k plan, Dr. Pope would likely favor a mid-cap fund over an income fund.

true

All else equal, a firm with cyclical revenues would have a higher beta than a firm with non-cyclical revenues.

true

Preferred stock dividends most closely resemble our time value of money growing annuity formula.

false

A firm is considering a new capital budgeting project that will be outside their normal business activities. The project is believed to have more systematic risk than the firm's normal business. If the firm uses its firm beta, there is a chance that the firm could accept a project that should possibly be rejected.

true

Suppose that Academy Sports decides to open up a smoothie bar within their retail stores. This would likely create a positive side effect for the existing stores.

true

If we increase leverage for a firm, the result will be increased expected return for the shareholder, and increased risk.

true

The yearly free cash flows for a firm can be negative.

true

If two projects are mutually exclusive, we would favor the IRR rule over the NPV rule to pick the best project.

false

If we are only considering one project, the NPV and IRR rule will always agree.

true

Sensitivity analysis involves changing the value of one variable and observing the impact on NPV.

true

Modigliani and Miller argue that a firm's value is independent of its capital structure in a world with no taxes and no default risk.

true

If we were to rank based on risk to the investor, preferred stock would be considered riskier than debt and common stock.

false

When a project has a positive NPV, this means that the extra wealth created by the project will be shared with all investor types.

false

The market portfolio risk premium is constant for all stocks.

true

An all equity firm would have a capital structure of 100% common equity and would also be considered highly leveraged.

false

A firm with more cyclical revenue will have a higher beta than a similar firm with non-cyclical revenue.

true

Stock A has a stand-alone risk of 50%, while the relevant risk of the market portfolio is 30%. We can say Stock A always has a higher beta than the market portfolio.

false

With our security market line graph, we would expect stock prices to increase if the Federal Reserve Bank reduced the risk free rate.

true

according to the security market line graph, stock prices and the risk free rate have an inverse relationship

A DRIP investment features high liquidity.

false

The greater a firm's percentage of fixed costs, the greater the firm's degree of operating leverage.

true

The higher the correlation between stock "i" returns and the returns on the market portfolio, the greater the relevant risk for stock "i".

true

The risk-free investment should always have a beta equal to zero.

true

A strength of the payback rule is that it always gives us the same result as the NPV rule.

false

The IRR is better to use than the NPV rule because the NPV rule can be biased based on the scale of the project.

false

The interest rate used in the NPV calculation for a capital budgeting project only represents the required return for shareholders in the firm.

false

If the market value of an asset is greater than the book value of an asset, we will pay taxes on the sale.

true

Firms favor straight-line depreciation because it leads to higher NPV for a capital budgeting project.

false

We value a share of preferred stock using our growing perpetuity formula.

false

When the firm sells a fixed asset at a loss, the NSV is just equal to the market value of the asset.

false

If we increase the inventory for the firm, we will decrease the FCF for the current year (everything else held constant).

true

An entrepreneur has a successful pizza store in East Athens. To grow the business, the entrepreneur has decided to build another store in West Athens. The entrepreneur is concerned that the new store will pull customers away from the existing store. In class, we called this a negative side effect.

true

In class, we identified a strength of the multiples model as it uses the cost of capital.

false

All else equal, a firm with a higher beta would have a larger cost of capital than a firm with a smaller beta.

true

All else equal, a firm with more cyclical revenues will have a lower beta than a firm with non-cyclical revenues.

false

In terms of risk facing the investor, preferred stock is riskier than common stock but safer than debt.

false

A student is traveling to Barcelona for Thanksgiving break. The hotel and food in Barcelona will cost an estimated 4,000 Euros. If the exchange rate is 1.25 dollars for one Euro, the student will need $3,200 to cover this expense on the trip.

false

A DRIP investment is likely favored by a long-term, passive investor.

true

Firms favor accelerated depreciation because it leads to a higher net salvage value when the project ends.

false

If the market value of an asset is greater than the book value of an asset, we will pay taxes on the sale.

true

A firm decides to pay a dividend in 2019. This will result in a decrease in their free cash flow for the year?

false

A firm is considering replacing a manufacturing machine on its production floor. If the firm accepts this project, the firm will sell the old manufacturing machine. Selling the old machine represents an opportunity cost for this project that will be subtracted from the initial free cash flow.

false

Preferred stock is generally considered less risky than common stock.

true

We would never end a project that is generating positive cash flows.

false

Sensitivity analysis is our risk analysis measure where we consider 2 or 3 cases for our capital budgeting cash flows, such as Bad, Expected, and Good. We then find the NPV for each outcome.

false

Our advantage of the discounted cash flow model is that we use firm financials to help find enterprise value.

true

For our weighted average cost of capital, we will use the coupon rate from existing bonds as our cost of debt.

false

If the market value of an asset is significantly less than the book value, the net salvage value can be negative.

false

An inverted yield curve has been a predictor of positive economic growth in recent economic times.

false