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1. Washington-Pacific invests $4 million

1. Washington-Pacific invests $4 million to buy a tract of land and plant some young pine
trees. The trees can be harvested in 12 years, at which time W-P plans to sell the forest at
an expected price of $8 million. What is W-P’s expected rate of return? Round your
answer to two decimal places.
2. With which of the following statements would most people in business agree?
It is not useful for a large corporation to develop a formal set of rules defining ethical
a. and unethical behavior. Such rules generally can’t be applied in many specific instances,
so it is better to deal with ethical issues on a case-by-case basis.

“Whistle blowers,” because of the courage it takes to blow the whistle, are generally
promoted more rapidly than other employees.

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Although people’s moral characters are probably developed before they get into a
business school, it is still useful for business schools to cover ethics, including giving
students an idea about the adverse consequences of unethical behavior to themselves,
their firms, and the nation.

A corporation’s short-run profits will almost always increase if the firm takes actions
that the government has determined are in the best interests of the nation.


Firms and government agencies almost always agree with one another regarding the
restrictions that should be placed on hiring and firing employees.

3. Which of the following statements is CORRECT?
The market value of an option depends in part on the option’s time to maturity and also
on the variability of the underlying stock’s price.

An option’s value is determined by its exercise value, which is the market price of the
stock less its striking price. Thus, an option can’t sell for more than its exercise value.


The potential loss on an option decreases as the option sells at higher and higher prices
because the profit margin gets bigger.

d. Issuing options provides companies with a low cost method of raising capital.

As the stock’s price rises, the time value portion of an option on a stock increases because
the difference between the price of the stock and the fixed strike price increases.

4. Find the following values using a financial calculator. Round your answers to the nearest
cent. (Hint: Using a financial calculator, you can enter the known values and then press
the appropriate key to find the unknown variable. Then, without clearing the TVM
register, you can “override” the variable that changes by simply entering a new value for
it and then pressing the key for the unknown variable to obtain the second answer. This
procedure can be used in parts b and d, and in many other situations, to see how changes
in input variables affect the output variable.)

a. An initial $800 compounded for 1 year at 4.2%.
b. An initial $800 compounded for 2 years at 4.2%.
c. The present value of $800 due in 1 year at a discount rate of 4.2%.
d. The present value of $800 due in 2 years at a discount rate of 4.2%.
5. Which of the following statements is CORRECT?
The statement of cash flows tells us how much cash the firm has in the form of currency
and demand deposits.
b. The balance sheet gives us a picture of the firm’s financial position at a point in time.

The four most important financial statements provided in the annual report are the
balance sheet, income statement, cash budget, and the statement of stockholders’ equity.


The income statement gives us a picture of the firm’s financial position at a point in


The statement of cash needs tells us how much cash the firm will require during some
future period, generally a month or a year.

6. A call option on the stock of Bedrock Boulders has a market price of $8. The stock sells for
$28 a share, and the option has an exercise price of $26 a share.What is the exercise value of the
call option?
What is the option’s time value?
7, Winston Washers’s stock price is $50 per share. Winston has $10 billion in total assets. Its
balance sheet shows $1 billion in current liabilities, $3 billion in long-term debt, and $6 billion in
common equity. It has 600 million shares of common stock outstanding. What is Winston’s
market/book ratio? Round your answer to two decimal places.
8, Which of the following statements best describes what you should expect if you randomly
select stocks and add them to your portfolio?
Adding more such stocks will reduce the portfolio’s beta coefficient and thus its
systematic risk.
b. Adding more such stocks will increase the portfolio’s expected rate of return.

Adding more such stocks will reduce the portfolio’s market risk but not its unsystematic

d. Adding more such stocks will reduce the portfolio’s unsystematic, or diversifiable, risk.
e. Adding more such stocks will have no effect on the portfolio’s risk.
9, Considered alone, which of the following would increase a company’s current ratio?
a. An increase in accounts receivable.
b. An increase in accounts payable.
c. An increase in accrued liabilities.
d. An increase in net fixed assets.
An increase
e. in notes
10, Which of the following statements is CORRECT?
Hedge funds are legal in Europe and Asia, but they are not permitted to
operate in the United States.

Hedge funds have more in common with investment banks than with
any other type of financial institution.


Hedge funds have more in common with commercial banks than with
any other type of financial institution.

The justification for the “light” regulation of hedge funds is that only
“sophisticated” investors with high net worths and high incomes are
d. permitted to invest in these funds, and such investors supposedly can
do the necessary “due diligence” on their own rather than have it done
by the SEC or some other regulator.

Hedge funds are legal in the United States, but they are not permitted to
operate in Europe or Asia.

11, Which of the following statements is CORRECT?
The market value of a bond will always approach its par value as its
a. maturity date approaches. This holds true even if the firm has filed for

Rising inflation makes the actual yield to maturity on a bond greater
than a quoted yield to maturity that is based on market prices.

On an expected yield basis, the expected capital gains yield will always
c. be positive because an investor would not purchase a bond with an
expected capital loss.
The yield to maturity on a coupon bond that sells at its par value
d. consists entirely of a current interest yield; it has a zero expected
capital gains yield.
The yield to maturity for a coupon bond that sells at a premium consists
e. entirely of a positive capital gains yield; it has a zero current interest
12, Nick’s Enchiladas Incorporated has preferred stock outstanding that pays a
dividend of $3 at the end of each year. The preferred stock sells for $30 a share.
What is the stock’s required rate of return? Round the answer to two decimal
13A Treasury bond that matures in 10 years has a yield of 4%. A 10-year
corporate bond has a yield of 9%. Assume that the liquidity premium on the
corporate bond is 0.4%. What is the default risk premium on the corporate bond?
Round your answer to two decimal places.
14, Ace Industries has current assets equal to $5 million. The company’s current
ratio is 2.5, and its quick ratio is 2.0.
1. What is the firm’s level of current liabilities?
3.\\2..What is the firm’s level of inventories?
15, Inflation, recession, and high interest rates are economic events that are best
characterized as being
a. company-specific risk factors that can be diversified away.

risks that are beyond the control of investors and thus should not be
considered by security analysts or portfolio managers.

c. irrelevant except to governmental authorities like the Federal Reserve.
d. systematic risk factors that can be diversified away.
e. among the factors that are responsible for market risk.
16, Which of the following statements is CORRECT?
a. Sole proprietorships are subject to more regulations than corporations.

One of the disadvantages of incorporating a business is that the owners
then become subject to liabilities in the event the firm goes bankrupt.


In any type of partnership, every partner has the same rights, privileges,
and liability exposure as every other partner.

d. Corporations of all types are subject to the corporate income tax.

Sole proprietorships and partnerships generally have a tax advantage
over many corporations, especially large ones.

17, Which of the following statements is CORRECT?
Put options give investors the right to buy a stock at a certain strike
price before a specified date.
b. Options typically sell for less than their exercise value.

LEAPS are very short-term options that were created relatively recently
and now trade in the market.


Call options give investors the right to sell a stock at a certain strike
price before a specified date.


An option holder is not entitled to receive dividends unless he or she
exercises their option before the stock goes ex dividend.

18, Call options on XYZ Corporation’s common stock trade in the market. Which
of the following statements is most correct, holding other things constant?
If XYZ’s stock price stabilizes (becomes less volatile), then the price of
its options will increase.

The price of these call options is likely to rise if XYZ’s stock price


Assuming the same strike price, an XYZ call option that expires in one
month will sell at a higher price than one that expires in three months.


The higher the strike price on XYZ’s options, the higher the option’s
price will be.

If XYZ pays a dividend, then its option holders will not receive a cash
e. payment, but the strike price of the option will be reduced by the amount
of the dividend.
19, What is the present value of a security that will pay $15,000 in 10 years if
securities of equal risk pay 5.3% annually? Round your answer to the nearest

20, Last year Roussakis Company’s operations provided a negative net cash flow,
yet the cash shown on its balance sheet increased. Which of the following
statements could explain the increase in cash, assuming the company’s financial
statements were prepared under generally accepted accounting principles?
a. The company retired a large amount of its long-term debt.
b. The company sold some of its fixed assets.
c. The company repurchased some of its common stock.
d. The company dramatically increased its capital expenditures.
e. The company had high depreciation expenses.
21, Companies E and P each reported the same earnings per share (EPS), but
Company E’s stock trades at a higher price. Which of the following statements is
a. Company E is probably judged by investors to be riskier.
b. Company E trades at a higher P/E ratio.
c. Company E must have a higher market-to-book ratio.
d. Company E probably has fewer growth opportunities.
e. Company E must pay a lower dividend.
22, What will be the nominal rate of return on a perpetual preferred stock with a
$100 par value, a stated dividend of 8% of par, and a current market price of (a)
$60, (b) $90, (c) $100, and (d) $134? Round the answers to two decimal places.
23, You plan to invest some money in a bank account. Which of the following
banks provides you with the highest effective rate of interest?
a. Bank 1; 6.1% with annual compounding.
b. Bank 2; 6.0% with monthly compounding.
c. Bank 3; 6.0% with annual compounding.
d. Bank 4; 6.0% with quarterly compounding.
e. Bank 5; 6.0% with daily (365-day) compounding.
• 24,
Which of the following events would make it more likely that a company would
choose to call its outstanding callable bonds?

a. The company’s bonds are downgraded.
b. The company’s financial situation deteriorates significantly.
c. Market interest rates rise sharply.
d. Market interest rates decline sharply.
e. Inflation increases significantly.
25, Which of the following items cannot be found on a firm’s balance sheet
under current liabilities?
a. Short-term notes payable to the bank.
b. Accrued wages.
c. Accounts payable.
d. Accrued payroll taxes.
e. Cost of goods sold.

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