Fight Finance

Question 26  APR, effective rate

A European bond paying annual coupons of 6% offers a yield of 10% pa.

Convert the yield into an effective monthly rate, an effective annual rate and an effective daily rate. Assume that there are 365 days in a year.

All answers are given in the same order:

### r_\text{eff, monthly} , r_\text{eff, yearly} , r_\text{eff, daily} ###

(a) 0.0041, 0.05, 0.0001.

(b) 0.0080, 0.1, 0.0003.

(c) 0.0083, 0.1, 0.0003.

(d) 0.0083, 2.1384, 0.0031.

(e) 0.0083, 0.1047, 0.0033.

Question 55  NPV, DDM

A stock is expected to pay the following dividends:

Cash Flows of a Stock
Time (yrs)	0	1	2	3	4	...
Dividend ($)	0.00	1.15	1.10	1.05	1.00	...

After year 4, the annual dividend will grow in perpetuity at -5% pa. Note that this is a negative growth rate, so the dividend will actually shrink. So,

• the dividend at t=5 will be ##$1(1-0.05) = $0.95##,
• the dividend at t=6 will be ##$1(1-0.05)^2 = $0.9025##, and so on.

The required return on the stock is 10% pa. Both the growth rate and required return are given as effective annual rates.

What will be the price of the stock in four and a half years (t = 4.5)?

(a) $5.2615

(b) $6.0386

(c) $6.3333

(d) $6.6425

(e) $11.9040

Question 89  WACC, CFFA, interest tax shield

A retail furniture company buys furniture wholesale and distributes it through its retail stores. The owner believes that she has some good ideas for making stylish new furniture. She is considering a project to buy a factory and employ workers to manufacture the new furniture she's designed. Furniture manufacturing has more systematic risk than furniture retailing.

Her furniture retailing firm's after-tax WACC is 20%. Furniture manufacturing firms have an after-tax WACC of 30%. Both firms are optimally geared. Assume a classical tax system.

Which method(s) will give the correct valuation of the new furniture-making project? Select the most correct answer.

(a) Discount the project's unlevered CFFA by the furniture manufacturing firms' 30% WACC after tax.

(b) Discount the project's unlevered CFFA by the company's 20% WACC after tax.

(c) Discount the project's levered CFFA by the company's 20% WACC after tax.

(d) Discount the project's levered CFFA by the furniture manufacturing firms' 30% WACC after tax.

(e) The methods outlined in answers (a) and (c) will give the same valuations, both are correct.

Question 364  PE ratio, Multiples valuation

Which firms tend to have high forward-looking price-earnings (PE) ratios?

(a) Illiquid small private companies.

(b) Exchange-listed companies operating in stagnant industries with negative growth prospects.

(c) Exchange-listed companies expected to have temporarily high earnings over the next year, but with lower earnings later.

(d) Exchange-listed companies operating in high-risk industries with very high required returns on equity.

(e) Exchange-listed companies whose assets include a very large proportion of cash.

Question 369  interest tax shield, CFFA

One formula for calculating a levered firm's free cash flow (FFCF, or CFFA) is to use earnings before interest and tax (EBIT).

###\begin{aligned} FFCF &= (EBIT)(1-t_c) + Depr - CapEx -\Delta NWC + IntExp.t_c \\ &= (Rev - COGS - Depr - FC)(1-t_c) + Depr - CapEx -\Delta NWC + IntExp.t_c \\ \end{aligned} \\###

Does this annual FFCF or the annual interest tax shield?

Question 438  option, no explanation

Two put options are exactly the same, but one matures in one year and the other matures in two years. Which option would you expect to have the higher price, the option which matures or , or should they have the price?

Question 526  real and nominal returns and cash flows, inflation, no explanation

How can a nominal cash flow be precisely converted into a real cash flow?

(a) ##C_\text{real, t}=C_\text{nominal,t}.(1+r_\text{inflation})^t##

(b) ##C_\text{real,t}=\dfrac{C_\text{nominal,t}}{(1+r_\text{inflation})^t} ##

(c) ##C_\text{real,t}=\dfrac{C_\text{nominal,t}}{r_\text{inflation}} ##

(d) ##C_\text{real,t}=C_\text{nominal,t}.r_\text{inflation} ##

(e) ##C_\text{real,t}=C_\text{nominal,t}.r_\text{inflation}.t##

Question 551  fully amortising loan, time calculation, APR

You just entered into a fully amortising home loan with a principal of $600,000, a variable interest rate of 4.25% pa and a term of 25 years.

Immediately after settling the loan, the variable interest rate suddenly falls to 4% pa! You can't believe your luck. Despite this, you plan to continue paying the same home loan payments as you did before. How long will it now take to pay off your home loan?

Assume that the lower interest rate was granted immediately and that rates were and are now again expected to remain constant. Round your answer up to the nearest whole month.

(a) 301 months

(b) 288 months

(c) 271 months

(d) 270 months

(e) 75 months

Question 729  book and market values, balance sheet, no explanation

If a firm makes a profit and pays no dividends, which of the firm’s accounts will increase?

(a) Asset revaluation reserve.

(b) Foreign currency translation reserve.

(c) Retained earnings, also known as retained profits.

(d) Contributed equity, also known as paid up capital.

(e) General reserve.

Question 742  price gains and returns over time, no explanation

For an asset's price to quintuple (be five times as big, say from $1 to $5) every 5 years, what must be its effective annual capital return?

(a) 20% pa.

(b) 37.973% pa.

(c) 43.0969% pa.

(d) 56.9031% pa.

(e) 80% pa.