ATTENTION: The Singapore Copyright Act applies to the use of this document.

Nanyang Technological University Library

B6025

NANYANG TECHNOLOGICAL UNIVERSITY

TRIMESTER 1 EXAMINATION 2013-2014

B6025 Finance
October 2013

Time Allowed: 2 hours

INSTRUCTIONS
1

This paper contains FIVE(5) questions and comprises SEVEN(7) pages.

Answer ALL questions.

The number of marks allocated is shown at the end of each question.

Begin your answer to each question on a separate page of the answer book.

In your answers for Questions 2, 3, 4, and 5, show all work for full credit.
Answers will be graded for content and appropriate presentation.

This is an open book examination.

ATTENTION: The Singapore Copyright Act applies to the use of this document. Nanyang Technological University Library

B6025

Question 1
This question consists of TEN(10) multiple choice questions. Choose the correct
answer from the alternatives given. In your ANSWER BOOK, write the correct answer
(A), (B), (C), (D) or (E) next to the question number. Write in one column. Each
multiple choice question carries four marks.
(1)

Suppose you are buying your first house for US$210,000, and are making a
US$20,000 down payment. You have arranged to finance the remaining amount
with a 30-year, monthly payment, amortized mortgage at a 6.5% nominal
interest rate. What will your equal monthly payments (in US$) be?
(A)
(B)
(C)
(D)
(E)

(2)

$1,083.84
$1,140.88
$1,200.93
$1,260.98
$1,324.02

You observe the following information regarding Companies X and Y:

Company X has a higher expected return than Company Y.

Company X has a lower standard deviation of returns than Company Y.
Company X has a higher beta than Company Y.

Given this information, which of the following statements is CORRECT?

(A)
(B)
(C)
(D)
(E)
(3)

Company X has more company-specific risk than Company Y.

Company X has a lower coefficient of variation than Company Y.
Company X has less market risk than Company Y.
Company Xs returns will be negative when Ys returns are positive.
Company Xs stock is a better buy than Company Ys stock.

A 10-year bond with a 9% annual coupon has a yield to maturity of 8%. Which
of the following statements is CORRECT?
(A)
(B)
(C)
(D)
(E)

The bond is selling below its par value.

The bond is selling at a discount.
If the yield to maturity remains constant, the bonds price one year from
now will be lower than its current price.
The bonds current yield is greater than 9%.
None of the answers above is correct.

Note: Question 1 continues on page 3

2

ATTENTION: The Singapore Copyright Act applies to the use of this document. Nanyang Technological University Library

B6025

Question 1 (continued)
(4)

Ezzell Enterprises bonds currently sell for $1,165. They have a 15-year
maturity, an annual coupon of $95, and a par value of $1,000. What is their
yield-to-maturity (YTM)?
(A)
(B)
(C)
(D)
(E)

(5)

6.20%
6.53%
6.87%
7.24%
7.62%

Which of the following statements is most correct?

(A)
(B)
(C)
(D)
(E)

If a market is weak-form efficient, this means that you can expect to beat
the market by using technical analysis that relies on the charting of past
prices.
If the stock market is semistrong-form efficient, this means the expected
return on stocks and bonds should be the same.
If the stock market is semistrong-form efficient, this means that highbeta stocks should have the same expected return as low-beta stocks.
Market efficiency says that the actual realized returns on all stocks will
be equal to the expected rates of return.
None of the statements above is correct.

Note: Question 1 continues on page 4

3

ATTENTION: The Singapore Copyright Act applies to the use of this document. Nanyang Technological University Library

B6025

Question 1 (continued)
(6)

Rowell Company spent $3 million two years ago to build a plant for a new
product. It then decided not to go forward with the project, so the building is
available for sale or for a new product. Rowell owns the building free and
clear--there is no mortgage on it. Which of the following statements is
CORRECT?
(A)
(B)
(C)
(D)
(E)

(7)

Since the building has been paid for, it can be used by another project
with no additional cost. Therefore, it should not be reflected in the cash
flows for any new project.
If the building could be sold, then the after-tax proceeds that would be
generated by any such sale should be charged as a cost to any new
project that would use it.
This is an example of an externality, because the very existence of the
building affects the cash flows for any new project that Rowell might
consider.
Since the building was built in the past, its cost is a sunk cost and thus
need not be considered when new projects are being evaluated, even if it
would be used by those new projects.
If there is a mortgage loan on the building, then the interest on that loan
would have to be charged to any new project that used the building.

Which of the following statements concerning the asymmetric information

theory of capital structure is false?
(A)
(B)
(C)
(D)
(E)

If outside funds are required, managers would issue new common stock
if they believe their stock is overvalued.
If outside funds are required, managers would issue debt when they
believe their stock is undervalued.
Investors recognize managers' incentives and hence tend to mark down a
firm's stock price when new common stock is issued.
Firms should maintain a reserve debt capacity, so that they can always
issue debt under relatively favorable terms.
None of the above.

Note: Question 1 continues on page 5

4

ATTENTION: The Singapore Copyright Act applies to the use of this document. Nanyang Technological University Library

B6025

Question 1 (continued)
(8)

Which of the following would be most likely to lead to a decrease in a firms

willingness to pay dividends?
(A)
(B)
(C)
(D)
(E)

(9)

Suppose you believe that Delva Corporation's stock price is going to decline
from its current level of $82.50 sometime during the next 5 months. For
$510.25 you could buy a 5-month put option giving you the right to sell 100
shares at a price of $85 per share. If you bought this option for $510.25 and
Delva's stock price actually dropped to $60, what would your pre-tax net profit
be?
(A)
(B)
(C)
(D)
(E)

(10)

Its earnings become more stable.

Its access to the capital markets increases.
Its R&D efforts pay off, and it now has more high-return investment
opportunities.
Its accounts receivable decreases due to a change in its credit policy.
Its stock price has increased over the last year by a greater percentage
than the increase in the broad stock market averages.

-$510.25
$1,989.75
$2,089.24
$2,193.70
$2,500.00

Which of the following are NOT ways risk management can be used to increase
the value of a firm?
(A)
(B)
(C)
(D)
(E)

Risk management can increase debt capacity.

Risk management can help a firm maintain its optimal capital budget.
Risk management can reduce the expected costs of financial distress.
Risk management can help firms minimize taxes.
Risk management can allow managers to defer receipt of their bonuses
and thus postpone tax payments.
(TOTAL: 40 marks)

ATTENTION: The Singapore Copyright Act applies to the use of this document. Nanyang Technological University Library

B6025

Question 2
After graduation, you plan to work for Dynamo Corporation for 12 years and then start
your own business. You expect to save and deposit $7,500 a year for the first 6 years
and $15,000 annually for the following 6 years, with the first deposit being made a year
from today. In addition, your grandfather just gave you a $25,000 graduation gift which
you will deposit immediately. If the deposit account earns 9% compounded annually,
how much will you have when you start your business 12 years from now?
(13 marks)
277,797.03
Question 3
Rick Kish has a $100,000 stock portfolio. $32,000 is invested in a stock with a beta of
0.75 and the remainder is invested in a stock with a beta of 1.38. These are the only
two investments in his portfolio. The market risk premium is 6.00% and the risk-free
rate is 2.00%. What is his portfolios expected return in equilibrium?
(13 marks)
9.07%
Question 4
Roxie Epoxys balance sheet shows a total of $50 million long-term debt with a coupon
rate of 8.00% and a yield to maturity of 7.00%. This debt currently has a market value
of $55 million. The balance sheet also shows that that the company has 20 million
shares of common stock, and the book value of the common equity (common stock plus
retained earnings) is $65 million. The current stock price is $8.25 per share;
stockholders' required return, ks, is 10.00%; and the firm's tax rate is 40%. Assuming
the firm is currently at its target capital structure, estimate the firms WACC.
8.55

(14 marks)

ATTENTION: The Singapore Copyright Act applies to the use of this document. Nanyang Technological University Library

B6025

Question 5
Emperor Ltd is considering a project with the following cash flows. Cash flows in
parentheses denote negative cash flows.
Year
0
1
2
3
4
5

Cash Flows
(800)
1,500
1,500
1,500
(1,500)
(2,500)

The WACC for the project is 10%. What are the project's discounted payback period,
NPV, IRR, and MIRR? Should Emperor Ltd undertake the new project?
(20 marks)
NPV: 353.45
IRR:
PB: 0.53 years
IRR: 3.63%
MIRR: 12.21%
- END OF PAPER -