Finance 3155

Exam 1 – Tuesday, September 30, 2008

Dr. Dowling                                                                                        Name  _______________

 

Instructions: You are to answer all of the following questions.  Where calculation is involved in obtaining a solution to a question, you are reminded that the award of credit is dependent upon proper justification.  Good Luck!!!!

 

 

1)  Agency costs include which of the following 
A)  preferred dividend payments

B)  cost of goods sold.

C)  monitoring expenditures.

D)      bonding and structuring expenses.

 

 


Table 2.1

Balance Sheet

Cole Egan Enterprises

December 31, 2005

           

      Cash                         $4,500                   Accounts Payable        $12,000                        

      Accounts Receivable                                 Notes Payable                     

      Inventory                                                   Accurals                             $1,000               

            Total Current Assets                                Total Current Liabilities

      Net Fixed Assets                                        Long-Term Debt                     

            Total Assets                                         Stockholders’ Equity

                                                                          Total Liabilities and S.E.

 


Information (2005 values)

      1. Sales totaled $115,000                               5. The average collection period was 65 days.

      2. The gross profit margin was 25 percent.        6. The current ratio was 2.40.

      3. Inventory turnover was 3.0.                       7. The total asset turnover was .93.

      4. There are 360 days in the year.                      8. The debt ratio was 53.8 percent.

     

 

2) Total current assets for CEE in 2005 were ________. (See Table 2.1

1.       (S-COGS)/S = .25 thus (COGS)/S = .75 and COGS = .75(S) = .75($115,000) = $86,250

2.       IT = 3 = COGS/I, thus I = COGS/3 = $28,750

3.       ACP = 65 days = AR/Average Daily Sales => AR = ADS(65) => AR = 65($115,000/360) => AR = $20,763.89

4.       Current Assets = Cash + AR + I => $4,500 + $20,763.89 + $28,750 = $54,013.89

 
 

 

 

 

 

 

 

 

 


3)  The strict application of the percent-of-sales method to prepare a pro forma income statement assumes the firm has no fixed costs. Therefore, the use of the past cost and expense ratios generally tends to ________ profits when sales are increasing.
A)  accurately predict
B)  understate

C)  have no effect on
D) overstate


 

4) The New York Soccer Association would like to accumulate $10,000 by the end of 4 years from now to finance a big soccer weekend for its members. The Association currently has a promise of $2,500 at the end of the 3rd year and wishes to raise the balance by arranging annual fund-raising events. How much money should they raise at each annual fund-raising event assuming 8 percent rate of interest?

1.       Need $10,000 minus the value in year 4 of the $2,500 received at the end of year 3.

2.       => $10,000 - $2,500(1.08)1 =  $10,000 - $2,700 = $7,300 need in 4 years.

3.       $7,300 is the FV of a 4 year annuity so PMT = FVA\FVIFA = $7,300\4.506 = $1,620.02

4.       So they must raise $1,620.02 each year for four years to have $10,000.

 
 

 

 

 


5)   Calculate the present value at the beginning of the 5th year of $5,800 received at the end of year 1, $6,400 received at the

      beginning of year 2, and $8,700 at the end of year 3, assuming an opportunity cost of 13 percent.

1.       FV at beginning of Y5 of $5,800 received at end of Y1 = $5,800(1.13)3 = $5,800(1.443) = $8,368.80

2.       FV at beginning of Y5 of $6,400 received at beginning of Y2 = $6,400(1.13)3 = $6,400(1.443) = $9,234.54

3.       FV at beginning of Y5 of $8,700 received at end of Y3 = $8,700(1.13)1 = $8,700(1.113) = $9,386.10

4.       FV = 1 + 2 + 3 = $8,368.80 + $9,234.54 + $9,386.10 = $27,434.34

 
 

 

 

 

 

 

 

 


6) Ashley owns stock in a company which has consistently paid a growing dividend over the last five years. In January of the first year Ashley owned the stock, she received $1.71 per share and for the remainder of the five year period, she received dividends at the end of the year. The last dividend received at the end of the fifth year, was $2.89 per share. What is the growth rate of the dividends over the last five years?

1.       PV0 = $1.71, FV5 = $2.89 and N = 5

2.       FV5 = PV0(1 + g)5 => $2.89 = $1.71(1 + g)5 => $2.89\$1.71 = (1 + g)5 => $2.89\$1.71 = (1 + g)5

3.       1.69 = (1 + g)5=> (1.69)1/5= (1 + g) => (1.69).2= (1 + g) => 1.111 = 1 + g

4.       Then,  g = 1.111 – 1 => g = .111 => g = 11.1%

 
 

 

 

 

 

 

 


7)  Find the equal annual end-of-year payment on $50,000, 10 year, and 15 percent loan.

1.       PVA = $50,000, N = 10 and i = 15%

2.       PVA = Pmt PVIFA for I = 15% and N = 10

3.       $50,000 = PMT (5.019)

4.       PMT = $50,000 \ 5.019 =>

5.       PMT = $9,962.60

 
 

 

 

 

 

 

 

 


8.   In general, with an amortized loan, the amount of the payment going to cover interest remains constant over the life of the loan while the principal portion of each payment grows over the life of the loan. The total amount of the payment remains constant over the life of the loan. FALSE!

     

9. Ken borrows $15,000 from a bank at 10 percent annually compounded interest to be repaid in six equal installments.

      Calculate the interest paid in the twelfth year.


The interest paid in the twelfth year is zero ($0) NADA since the loan was paid off in six years…

 
 

 

 

 

 


10. What annual rate of return would Natalie need to earn if she deposits $20,000 per year into an account starting today in order to have a total of $1,000,000 in 30 years?

1.       FV30 = $1,000,000, PMT = $20,000.00 and N = 30, We are to find the rate of return i

2.       The trick to the problem is to recognize that we are dealing with an annuity due. So,

3.       FV30Due = (PMT FVIFA for unknown i and N = 30)x( 1 + i) => FV30Due = PMT x FVIFA for unknown i and N = 30 x( 1 + i) =>

4.       Setting FV = $1,000,000, N = 30, PMT = $20,000 AND remembering to set the display to BEGIN for an annuity due on your calculator, we obtain the value 3.117% - which is the correct answer…

 

 
 

 

 

 

 

 

 

 


11. Jason is 21 years old and will retire at age 71. He will receive retirement benefits but the benefits are not going to be enough

      to make a comfortable retirement life for him. Jason has estimated that an additional $45,000 a year over his retirement

benefits will allow him to have a satisfactory life. How much should Jason deposit today in an account paying 6 percent interest to meet his goal? Assume Jason will have 18 years of retirement

1.       First we need to find out how much Jason will need in the bank when he turns 71 to be able to withdraw $45,000 per year for 18 years.  Thus we have to find the PV of an annuity where the PMT = $45,000, N = 18 and i = 6%. => PVA = PMT PVIFAN=30, i = 6% = $45,000 (10.828) => PVA = $487,242.16 => this is the amount he needs in the bank in 50 years.

2.       The question is how much must we deposit today in order for Jason to have his wish, thus we need to know the PV of the amount he needs in the bank ($487,242.16) at age 71 =>

3.       PV0 = $487,242.16 PVIFN=50 and i=6% => $487,242.16 (1.06)-50 => $487,242.16(.0543) =>

4.      PV0 = $26,451.58

 
 

 

 

 

 

 

 

 

 

 

 

 


12) Congratulations! You have just won the lottery! However, the lottery bureau has just informed you that you can take your winnings in one of two ways. Choice X pays $1,750,000 today. Choice Y pays $1,000,000 at the end of five years from now. Which would you choose and why would you choose it?

I really thought that this was a freebie since you were offered $1,750,000 today or a lesser amount in the future.  I expected everyone to respond that they would prefer more to less (greed) and want the $1,750,000 today.  For the unusual folk among us who wonder about the possibility of waiting, the only way that one would take the lesser amount in the future ($1,000,000 in N = 5) would be the existence of negative interest rates (deflation) in excess of 11.843%.  Should such exist, one would be better off waiting and accepting the $1,000,000 in five years.

 
 

 

 

 

 

 

 

 

 


13) The effective annual rate (EAR) is the nominal rate of interest, found by multiplying the periodic rate by the number of

      periods in one year. - FALSE

14) In the statement of cash flows, retained earnings are handled through the adjustment of which two accounts?

A)  Revenue and cost.
B) Assets and liabilities.

C)          Net profits and dividends.
D)             Depreciation and purchases.

 

15) The percent-of-sales method of developing a pro forma balance sheet estimates values of certain balance sheet accounts while others are calculated. In this method, the firm's external financing is used as a balancing, or plug, figure. TRUE


 

                                               

      The financial analyst for Sportif, Inc. has compiled sales and disbursement estimates for the coming months of January through May. Historically, 65 percent of sales are for cash with the remaining 35 percent collected in the following month. The ending cash balance in January is $3,000. Prepare a cash budget for the months of February through May to answer the following multiple choice questions.

            Table 3.3

 

Month

Sportif, Inc

Disbursements

Sales

January

$5,000

$6,000

February

$6,000

$7,000

March

$10,000

$4,000

April

$10,000

$5,000

May

$10,000

$5,000

 

 

 

 

 

 

 

 

 

16) The ending cash balance for March is (See Table 3.3

1.       January ECB was $3000

2.       Feb

a.       Inflows

                                                               i.      35% of January’s Sales = .35x$5,000 = $1,750

                                                             ii.      65% of February’s Sales = .65x$6,000 = $3,900

b.      Disbursements

                                                               i.      $7,000

c.       FEB ECB  = January’s ECB + a – b = $3,000 + $5,650 - $7,000 = $1,650

3.       March

a.       Inflows

                                                               i.      35% of February’s Sales = .35x$6,000 = $2,100

                                                             ii.      65% of March’s Sales = .65x$10,000 = $6,500

b.      Disbursements

                                                               i.      $4,000

c.       MARCH ECB  = February’s ECB + a – b = $1,650 + $8,600 - $4,000 = $4,750

 

 
 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 


17)  Key inputs to short-term financial planning are

      A)   operating budgets.

      B) leverage analysis.

      C)  sales forecasts, and operating and financial data.

      D)  economic forecasts

 

 

 

                              Table 3.6

                      Income Statement

                 Ace Manufacturing, Inc.

      For the Year Ended December 31, 2005

 

18) Ace Manufacturing, Inc., is preparing pro forma financial statements for 2006. The firm utilized the percent-of-sales method to estimate costs for the next year. Sales in 2005 were $2 million and are expected to increase to $2.4 million in 2006. The firm has a 40 percent tax rate.  Given the 2005 income statement in Table 3.6, estimate retained earnings for 2006.

What we are asked to calculate here is the addition to retained earnings using a percent- of- sales methodology.  Thus we need to find the change in RE = New Sales Level xProfit Margin on Sales x (1 – the dividend payout ratio).

1.       Profit Margin On Sales for ’05 = NI/Sales = $252,000/$2,000,000 = .126

2.       The Dividend Payout Ratio = Dividends/Net Income = $100,000\$252,000 = .397

3.       The Change in Retained Earnings = New Sales Level x Profit Margin on Sales x (1 – the dividend payout ratio) as stated abive =>$2,400,000 x .126 x (1-.397) => The Change in Retained Earnings = $2,400,000 x .126 x .603 = $182,347.20.

 
 

 

 

 

 

 

 

 

 

 

 

 


19) Allocation of the historic costs of fixed assets against the annual revenue they generate is called
A)   depletion
B)   operating income.

      C)   appreciation

      D) depreciation.

 

1.       NOPAT =( EBIT – I) x (1-t) = ($140,000 - $50,000) x (1 - .4) => $90,000 x .6 => $54,000

 
20) Calculate net operating profit after taxes (NOPAT) if a firm has sales of $1,000,000, operating profit (EBIT) of $100,000, cost-of-goods sold of $65,000, depreciation of $69,000 and interest expense of $50,000.  The tax rate is 40%.

 

 

21) Operating cash flow (OCF) is equal to the firm's net operating profits after taxes minus all non-cash charges. FALSE

22) A firm plans to retire outstanding bonds in the next planning period. The statements that will be affected are the pro forma income statement, pro forma balance sheet, cash budget, and statement of retained earnings. True

 

23) The statement of cash flows may also be called the
A)  10K    

      B)   amortization table

      C) statement of retained earnings

      D)         sources and uses statement

 

24)  The financial leverage multiplier is an indicator of how much ________ a corporation is utilizing.
A)   operating leverage
B) short-term debt

      C)   long-term debt
D) total debt

 

25) Due to inflationary effects, inventory costs and depreciation write-offs can differ from their true values, thereby distorting profits. TRUE

 

26) Current accounting standards are such that the use of differing accounting treatment (especially relative to inventory and depreciation) generally does not distort the results of either cross-sectional or time-series ratio analysis. FALSE

 

27) In an effort to analyze Clockwork Company finances, Jim realized that he was missing the company's net profits after taxes for the current year. Find the company's net profits after taxes using the following information.

      Return on total assets = 12%                   Total Asset Turnover = 1.05

      Cost of Goods Sold = $125,000                Gross Profit Margin = 0.25


1.       Gross Profit Margin = (S – COGS\Sales) = .25 => (COGS\Sales) = .75 => S = (COGS\ .75) => S = ($125,000 \.75) => S = $166,666.67

2.       TAT = 1.05 = (S\TA) => TA = (S\1.05) => TA = ($166,666.67 \ 1.05) => TA = $158,730.16

3.       Return on Total Assets = .12 => (NI \ TA) = .12 => NI = .12(TA) => NI = $19,047.62

 
 

 

 

 

 

 

 


Table 2.2                                                                                Income Statement

Dana Dairy Products Key Ratios                                                     Dana Dairy Products

                                                                      For the Year Ended 12/31/2005

 

 

 

 

 

 

 

 

 

 

 

 

 


                                             Balance Sheet

                                       Dana Dairy Products

                                         December 31, 2005

 

28) The return on equity for Dana Dairy Products for 2004 was (See Table 2.2)

Referring to Table 2.2, ROE2004 = 4%

 


 

 

29) Publicly-owned corporations are not required by the Securities and Exchange Commission (SEC) and individual state securities commissions to provide their stockholders with an annual            stockholders' report. FALSE

 


30) The modified DuPont formula does not relate the firm's return on equity to the

     A)   net profit margin.
B)   financial leverage multiplier.

      C)  return on equity (ROE).
D)  fixed asset turnover.

 

31)  Time-series analysis evaluates performance of firms over time using financial ratios. TRUE


32)  Financial analysis and planning is not concerned with analyzing the mix of assets and liabilities.
FALSE

33) Higher cash flow and less risk

      A) have the same effect on share price.

      B)   have an inverse effect on share price

      C)   adversely affect share price.

      D)  have no effect on share price.

 

34)  The primary emphasis of the financial manager is the use of

      A) cash flow.
B)   accrued earnings

      C)   organization charts.
D)  profit incentives.

 

35) Money is created by a financial relationship between suppliers and demanders of short-term funds. FALSE

 

36)  Which of the following legal forms of organization is characterized by limited liability?

      A) Partnership.
B) Corporation.

      C)   Professional partnership.
D)  Sole proprietorship.

 

37) Capital markets involve the trading of securities with maturities of one year or less while money markets involve the buying and selling of securities with maturities of more than one year. FALSE