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```					                                Sample Mid-term Test 1

Instructions: The exam has 6 pages, including this cover sheet. Check to ensure that your exam is
complete. There are 30 multiple choice questions. Enter your choice on the Scantron sheet. Also
circle the best answer on the exam booklet. Show all your works for multiple choice questions on the
exam booklet, which can be used in case any dispute arises. Show all your works in the space
provided below the question. All questions are worth one point. You have precisely 70 minutes to
complete the exam.

Instruction on the use of the Scantron FORM F-288-ERI
On the front:
(1) Write in the instructor name for INSTRUCTOR, the course number for CLASS, and the
section number for HOUR/DAY.
(2) Write in your I.D. number in I.D. NUMBER. Then, bubble in your I.D. number. The first digit
of your student ID should be marked in the first column, and not in the second column. Do not
leave the first column blank.
(4) Leave the PHONE NUMBER and CODE blank.

On the back:
(1) Bubble in your I.D. again in I.D. NUMBER. It should be identical to the number you used on
the front. The first digit of your student ID should be marked in the first column, and not in the
second column. Do not leave the first column blank.
(2) Leave the TEST FORM and EXAM# blank.
(3) Mark your answers by filling up the corresponding rectangular boxes completely.
(4) If you erase an answer, erase it completely.

Name:______________

Student ID:__________

1
1. The process of finding the future value of a cash flow is called compounding and the process of
finding the present value of a future cash flow is called discounting.
(a) True
(b) False

2. We can find the future value of multiple uneven cash flows by applying the future value equation
repeatedly for each cash flow and adding the resulting future values together.
(a) True
(b) False

3. For a single cash flow of a dollar, its present value and future value are reciprocals of each other.
(a) True
(b) False

4. The interest rate on a loan with monthly payments is different from one with the same nominal
annual interest rate but quarterly payments. We must convert both interest rates into EAR to compare
the rates of return.
(a) True
(b) False

5. If a bank uses quarterly compounding for savings accounts, the effective annual rate will be less
than the nominal annual rate.
(a) True
(b) False

6. Suppose that the nominal rate is 12% where interest is compounded monthly, the effective annual
rate will be 12.68%.
(a) True
(b) False

7. If the annual interest rate is 12% and the interest is compounded quarterly, the effective quarterly
interest rate is 3%.
(a) True
(b) False

8. Dome Hotels Inc. needs to arrange financing for its expansion program. Bank A offers to lend
Dome the required funds on a loan where interest must be paid monthly, and the quoted rate is 8
percent. Bank B will charge 9.3 percent, with interest due at the end of the year. What is the
difference in the effective annual rates charged by the two banks?
(a) 0.00%
(b) 0.50%
(c) 0.70%
(d) 1.00%
(e) 1.25%

9. You have just borrowed \$100,000 to buy a new car. The loan agreement calls for 60 monthly
payments of \$2,224.45 each to begin one month from today. What is the nominal annual rate on this
loan?
(a) 11.00%
(b) 12.00%
(c) 13.00%

2
(d) 14.00%
(e) 15.00%

10. Most corporate bonds contain a call provision, which gives the issuer the right to call the bonds
for redemption. The call premium is the difference between call price and par value.
(a) True
(b) False

11. Yield to maturity is the rate of return earned on a bond held to maturity.
(a) True
(b) False

12. Last year Ceejay Corporation paid a dividend of \$1.60 a share. It is expected to experience a 6
percent annual growth rate of dividends indefinitely. The required rate of return on the firm’s stock
is 11.65%. The price per share of the firm’s stock is currently \$22.69.
(a) True
(b) False

13. At maturity, bond prices will be higher than par if the coupon interest rate is higher than the
market interest rate.
(a) True
(b) False

14. Thomas Brothers Inc. is expected to pay a \$0.50 per share at the end of the year (i.e. D1=\$0.50).
The dividend is expected to grow at a constant rate of 7% a year. The required rate of return on the
stock is 15%. Then, the fair price of a share of the stock is \$6.25.
(a) True
(b) False

15. Current yield is the ratio of the annual interest payment to the bond’s market price. This is the
rate of return from receiving coupon payments.
(a) True
(b) False

16. The nominal annual interest rate on a 10-year, 10% coupon, semiannual bond that sells for
\$834.72 is 13.0%.
(a) True
(b) False

17. If the dividend of a stock is expected to grow at 30% for the first three years, then at a constant
rate of 6%, the stock price at the end of year 3 is \$46.58 given that the dividend that was just paid was
\$1 and the required rate of return is 16%.
(a) True
(b) False

18. Ceejay Corporation's stock is currently selling at an equilibrium price of \$30 per share. The firm
has been experiencing a 6 percent annual growth rate. Last year's earnings per share, EPS0, was
\$4.00 and the dividend payout ratio is 40 percent. The risk-free rate is 8 percent, and the market risk
premium is 5 percent. Then, the dividend paid last year was \$1.60.
(a) True
(b) False

3
19. Considering each action independently and holding other things constant, an increase in the
accrual accounts (accrued wages and taxes) would increase a firm’s need for additional capital.
(a) True
(b) False

20. Your company has the following balance sheet (in millions of dollars):

Current assets             \$4.0       Accounts payable                                 \$0.8
Net fixed assets            4.0       Notes payable                                     1.0
Accrued wages and taxes                           0.2
Total current liabilities                        \$2.0
Long-term debt                                    1.5
Common equity                                     1.5
____       Retained earnings                                 3.0
Total assets               \$8.0       Total liabilities and equity                     \$8.0

You have determined the following facts: (1) last year's sales were \$10 million; (2) The expected rate
of sales growth is 31.96%; (3) a profit margin of 3 percent is projected; (4) fixed assets were used to
full capacity; and (5) all assets as well as spontaneous liabilities as shown on the balance sheet are
expected to grow proportionally with sales. Further, your boss estimates she will need to raise \$2
million externally by issuing new debt or common stock next year. If the above assumptions hold,
what will be the increase in the company’s spontaneous financing? (Hint: You can use the AFN
equation to help answer this problem.)

(a) \$1.0 million
(b) \$2.0 million
(c) \$0.6392 million
(d) \$0.3196 million
(e) \$3.196 million

The following description applies to questions 21-25.
Mayflower Shipping Company’s financial statements are shown below. On the basis of 2001 income
statement and balance sheet, 2002 pro forma income statement and balance sheet have been constructed
using the percent of sales method. All the standard assumptions of percent of sales methods have been used.
The first two passes are shown in the table. Note that it is the firm’s policy to fund all external funds
requirement with notes payable.

Mayflower Shipping:
Financial Statements (Thousands of Dollars)
Income Statement
2001               2002
Assumptions   1ST PASS    Additions             2ND PASS
Sales                                  \$   36,000    1.15     \$    41,400             \$              41,400
Operating Costs                        \$   32,440 90.11%      \$    37,306             \$              37,306
EBIT                                  \$     3,560             \$     4,094             \$               4,094
Less Interest                         \$       560             \$       560 \$       213 \$                 773
EBT                                   \$     3,000                \$       3,534                \$          3,321
Taxes (40%)                           \$     1,200                \$       1,414                \$          1,328
Net Income                            \$     1,800                \$       2,120                \$          1,993

4
Dividends(0.45%)                      \$       810                  \$          954               \$        897
Add. To retained earnings             \$       990                  \$      1,166 \$        (70) \$         1,096

Balance Sheet                                2001                      2002
Assumptions       1ST PASS     Additions       2ND PASS
Assets
Cash                                  \$      1,080          3%     \$      1,242                 \$       1,242
A/R                                   \$      6,480         18%     \$      7,452                 \$       7,452
Inventory                             \$      9,000         25%     \$     10,350                 \$      10,350
CA                                     \$    16,560         46%     \$     19,044                 \$      19,044
PPE                                    \$    12,600         35%     \$     14,490                 \$      14,490
TA                                     \$    29,160         81%     \$     33,534                 \$      33,534

Liabilities and equity
A/P                                  \$      4,320          12% \$          4,968               \$         4,968
Accruals                             \$      2,880           8% \$          3,312               \$         3,312
Notes payable                        \$      2,100              \$          2,100 \$       2,128 \$         4,228
Total current liabilities            \$      9,300                  \$     10,380                 \$      12,508
Mortgage bonds                       \$      3,500                  \$      3,500                 \$       3,500
Total debt                           \$     12,800                \$       13,880               \$        16,008
Common stock                         \$      3,500                \$        3,500               \$         3,500
Retained earnings                    \$     12,860 \$        1,166 \$       14,026 \$        (70) \$        13,956
Total common equity                  \$     16,360                  \$     17,526                 \$      17,456
Total liabilities and equity         \$     29,160                  \$     31,406                 \$      33,464

21. What is the assumed growth rate of sales?
(a)      10%
(b)      15%
(c)      20%
(d)      25%
(e)      30%

22. According to the analysis shown in the table what is the cumulative AFN according to the first pass
analysis?
(a)       \$2,760,000
(b)       \$1,520,000
(c)       \$825,556
(d)       \$2,128,000
(e)       \$2,198,000

23. Notice that the first pass balance sheet is not balanced yet. What should be the notes payable in
order for the first pass balance sheet to be balanced?
(a)         \$4,298,000
(b)         \$4,228,000
(c)         -\$70,000
(d)         \$1,096,000

5
(e)       \$2,198,000

24. Notice that the second pass balance sheet is not balanced yet. What should be the notes payable
in order for the second pass balance sheet to be balanced?
(a)       \$4,298,000
(b)       \$4,228,000
(c)       -\$70,000
(d)       \$1,096,000
(e)       \$2,198,000

25. What is the assumed interest rate on the new debt?
(a)       10%
(b)       11%
(c)       12%
(d)       13%
(e)       14%

26. A zero coupon bond is a bond which pays no annual interest; it provides compensation to investors in
the form of capital appreciation. It is also called a deep discount bond because it is offered at a deep
discount.
(a) True
(b) False

27 Redeemable bonds are bonds for which bondholders have the right to sell the bonds back to the issuing
firms at a pre-specified price.
(a) True
(b) False

28. A floating rate bond is a bond whose interest rate fluctuates with shifts in the general level of interest
rates.
(a) True
(b) False

29. Sinking fund provision refers to the requirement that the issuer must retire a portion of the bond issue
each year.
(a) True
(b) False

30. Convertible bonds are bonds which can be exchanged for common stock at the option of issuers.
(a) True
(b) False

6

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