You will be evaluating three projects for Hasbro Toys. Hasbro's cost of capital or discount rate is 8%.

The first project (A) will cost $25,000 initially. The project will then return cash flows of $10,000 for 5 years.

The second project (B) will cost $50,000 initially. The project will then return cash flows of $30,000 for the next 2 years and $10,000 for 2 years after that.

The third project (C) will cost $30,000 initially. The project will then return cash flows of $11,000 for 3 years.

Q1: What is Project A's Payback Period?

Q2: What is Project B's Payback Period?

Q3: What is Project C's Payback Period?

Q2

NEW PROJECT ANALYSIS

You must evaluate a proposal to buy a new milling machine. The base price is $118,000, and shipping and installation costs would add another $6,000. The machine falls into the MACRS 3-year class, and it would be sold after 3 years for $64,900. The applicable depreciation rates are 33%, 45%, 15%, and 7%. The machine would require a $9,500 increase in net operating working capital (increased inventory less increased accounts payable). There would be no effect on revenues, but pretax labor costs would decline by $44,000 per year. The marginal tax rate is 35%, and the WACC is 12%. Also, the firm spent $5,000 last year investigating the feasibility of using the machine.

1. How should the $5,000 spent last year be handled?
   1. Only the tax effect of the research expenses should be included in the analysis.
   2. Last year's expenditure should be treated as a terminal cash flow and dealt with at the end of the project's life. Hence, it should not be included in the initial investment outlay.
   3. Last year's expenditure is considered as an opportunity cost and does not represent an incremental cash flow. Hence, it should not be included in the analysis.
   4. Last year's expenditure is considered as a sunk cost and does not represent an incremental cash flow. Hence, it should not be included in the analysis.
   5. The cost of research is an incremental cash flow and should be included in the analysis.
   
   -Select-IIIIIIIVV

2. What is the initial investment outlay for the machine for capital budgeting purposes, that is, what is the Year 0 project cash flow? Round your answer to the nearest cent.
   $

3. What are the project's annual cash flows during Years 1, 2, and 3? Round your answer to the nearest cent. Do not round your intermediate calculations.

   Year 1 $

   Year 2 $

   Year 3 $

4. Should the machine be purchased?
   -Select-YesNo

The pure expectations theory, or the expectations hypothesis, asserts that long-term interest rates can be used to estimate future short-term interest rates.

Based on the pure expectations theory, is the following statement true or false?

The pure expectations theory assumes that a one-year bond purchased today will have the same return as a one-year bond purchased five years from now.

False

True

The yield on a one-year Treasury security is 4.2300%, and the two-year Treasury security has a 5.7105% yield. Assuming that the pure expectations theory is correct, what is the market’s estimate of the one-year Treasury rate one year from now? (Note: Do not round your intermediate calculations.)

7.212%

6.1302%

8.2217%

9.1592%

Recall that on a one-year Treasury security the yield is 4.2300% and 5.7105% on a two-year Treasury security. Suppose the one-year security does not have a maturity risk premium, but the two-year security does and it is 0.15%. What is the market’s estimate of the one-year Treasury rate one year from now? (Note: Do not round your intermediate calculations.)

7.8751%

6.908%

5.8718%

8.7732%

Suppose the yield on a two-year Treasury security is 5.83%, and the yield on a five-year Treasury security is 6.20%. Assuming that the pure expectations theory is correct, what is the market’s estimate of the three-year Treasury rate two years from now? (Note: Do not round your intermediate calculations.)

6.61%

6.53%

7.10%

6.45%

Orange Turtle Group buys on terms of 3.5/15, net 45 from its chief supplier.

If Orange Turtle receives an invoice for $1,545.78, what would be the true price of this invoice?

a. $1,491.68

b. $1,267.93

c. $1,118.76

d. $1,044.18

The nominal annual cost of the trade credit extended by the supplier is _____.

a. 43.29%

b. 36.66%

c. 39.75%

d. 44.17%

The effective annual rate of interest on trade credit is _______.

a. 63.72%

b. 44.82%

c. 54.00%

d. 55.08%

Suppose Orange Turtle does not take advantage of the discount and then chooses to pay its supplier late. On average, Orange Turtle will pay its supplier on the 50th day after the sale. As a result, Orange Turtle can decrease its nominal cost of trade credit by _____ by paying late.

a. 11.99

b. 7.26

c. 11.36

d. 6.31

Work in Process—Assembly Department
Bal., 3,000 units, 25% completed 8,625 / To Finished Goods, 69,000 units

Direct materials, 71,000 units @ $2 142,000 /

Direct labor 190,200 /

Factory overhead 73,900 /

Bal. ? units, 25% completed ? /

Based on the above data, determine the different costs listed below.

If required, round your interim calculations to two decimal places.

1. Cost of beginning work in process inventory completed this period.	$
2. Cost of units transferred to finished goods during the period.	$
3. Cost of ending work in process inventory.	$
4. Cost per unit of the completed beginning work in process inventory, rounded to the nearest cent.

The balance sheet for Tempest, Inc., is shown here in market value terms. There are 26,000 shares of stock outstanding.

Market Value Balance Sheet
Cash	$	156,000
Fixed assets		514,800		Equity	$	670,800
Total	$	670,800		Total	$	670,800

  

The compay has announced it is going to repurchase $26,000 worth of stock instead of paying a dividend of $1.00.
a.	What effect will this transaction have on the equity of the firm? (Input the answer as positive value. Do not round intermediate calculations and round your answer to the nearest whole number, e.g., 32.)
b.	How many shares will be outstanding after the repurchase? (Do not round intermediate calculations and round your answer to the nearest whole number, e.g., 32.)
c.	What will the price per share be after the repurchase? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.)

You are evaluating a product for your company. You estimate the sales price of product to be $160 per unit and sales volume to be 10,600 units in year 1; 25,600 units in year 2; and 5,600 units in year 3. The project has a 3 year life. Variable costs amount to $85 per unit and fixed costs are $206,000 per year. The project requires an initial investment of $342,000 in assets which will be depreciated straight-line to zero over the 3 year project life. The actual market value of these assets at the end of year 3 is expected to be $46,000. NWC requirements at the beginning of each year will be approximately 16% of the projected sales during the coming year. The tax rate is 30% and the required return on the project is 11%. What will the year 2 cash flows for this project be?

Multiple Choice

• $1,234,000

• $1,120,000

• $1,600,000

• $1,746,000

What is a firm's weighted-average cost of capital if the stock has a beta of 1.1, Treasury bills yield 4%, and the market portfolio offers an expected return of 16%? In addition to equity, the firm finances 70% of its assets with debt that has a yield to maturity of 10%. The firm is in the 35% marginal tax bracket.

Pagemaster Enterprises is considering a change from its current capital structure. The company currently has an all-equity capital structure and is considering a capital structure with 25 percent debt. There are currently 4,500 shares outstanding at a price per share of $60. EBIT is expected to remain constant at $33,000. The interest rate on new debt is 7 percent and there are no taxes.

a.	Rebecca owns $18,000 worth of stock in the company. If the firm has a 100 percent payout, what is her cash flow? (Do not round intermediate calculations and round your answer to 2 decimal places, 32.16.)
b.	What would her cash flow be under the new capital structure assuming that she keeps all of her shares? (Do not round intermediate calculations and round your answer to 2 decimal places, 32.16.)
c.	Suppose the company does convert to the new capital structure. Show how Rebecca can maintain her current cash flow. (Do not round intermediate calculations and round your answer to 2 decimal places, 32.16.)

-Hypothetical situation: A couple of years ago, the Federal Reserve expressed concerns that the economy was heating up. The fear was that this would initiate inflationary pressure. To keep this from happening too rapidly, they began raising interest rates. They raised the Fed funds rate four times during 2018.

Theoretically, what should be the impact on the economy and the stock market?

Has this been the reaction we have seen from the market? Why or why not?

The following information relates to Questions 1-6.

Modern Auto, an automobile parts supplier, has made an offer to acquire Sky Systems, creator of software for the airline industry. The offer is to pay Sky Systems’ shareholders the current market value of their stock in Modern Auto’s stock. The relevant information it used in those calculations is given below:

	Modern Auto	Sky Systems
Share price	$40	$25
Shares outstanding (millions)	40	15
Earnings (millions)	$100	$30

Although the total earnings of the combined company will not increase and are estimated to be $130 million, Charles Wilhelm (treasurer of Modern Auto) argues that there are two attractive reasons to merge. First, Wilhelm says, “The merger of Modern Auto and Sky Systems will result in lower risk for our shareholders because of the diversification effect.” Second, Wilhelm also says, “If our EPS increases, our stock price will increase in line with the EPS increase because our P/E will stay the same.”

              Sky Systems managers are not interested in the offer by Modern Auto. The managers, instead, approach HiFly, Inc., which is in the same industry as Sky Systems, to see if it would be interested in acquiring Sky Systems. HiFly is interested, and both companies believe there will be synergies from this acquisition. If HiFly were to acquire Sky Systems, it would do so by paying $400 million in cash.

              HiFly is somewhat concerned whether antitrust regulators would consider the acquisition of Sky Systems an antitrust violation. The market in which the two companies operate consists of eight competitors. The largest company has a 25 percent market share. HiFly has the second largest market share of 20 percent. Five companies, including Sky Systems, each have a market share of 10 percent. The smallest company has a 5 percent market share.

Note: For the multiple choice questions throughout the document, please bold and italicize the correct answer.

1. The acquisition of Sky Systems by Modern Auto and the acquisition of Sky Systems by HiFly, respectively, would be examples of a
   1. horizontal merger and a vertical merger.
   2. vertical merger and a horizontal merger.
   3. conglomerate merger and a vertical merger.
   4. conglomerate merger and a horizontal merger.
2. Are Wilhelm’s two statements about his share holders benefiting from the diversification effect of the merger and about the increase in the stock price, respectively, correct?

	The Merger Will Result in Lower Risk for Shareholders	Stock Price Will Increase in Line with the EPS Increase
A.	No	No
B.	No	Yes
C.	Yes	No
D.	Yes	Yes

3. Which of the following defenses best describes the role of HiFly in the acquisition scenario?
   1. Crown jewel.
   2. Pac-Man.
   3. White knight.
   4. White squire.
4. If Sky Systems were to be acquired by Modern Auto under the terms of the original offer, the post-merger EPS of the new company would be ______________

Show your work to get full credit

5. Suppose HiFly acquires Sky Systems for the stated terms. The gain to Sky Systems shareholders resulting from the merger transaction would be ______________

Show your work to get full credit

6. If HiFly and Sky Systems attempt to merge, what would be the increase in the Herfindahl-Hirschman Index (HHI) and the probable action by the Department of Justice and the FTC, respectively, in response to the merger announcement?

	Increase in the HHI	Probable Response of Department of Justice and FTC
A.	290	To challenge the merger
B.	290	To investigate the merger
C.	400	To challenge the merger
D.	400	To investigate the merger

You’ve decided that you want $1,000,000 in your investment account when you retire 25 years from today. If you already have $100,000 in the account, and it earns a nominal rate of 8% per year, compounded quarterly, how much money will you have to deposit into that account per year in order to reach your goal?

6. Calculating Annuity Values. For each of the following annuities, calculate the present value.

Annuity Payment Years Interest Rate

  $2,100    7 5%

1,095    9 10%

   11,000 18 8%   

30,000 28 14%

You invest $100 in a risky asset with an expected rate of return of 15% and a standard deviation of 15% and a T-bill with a rate of return of 5% (and a standard deviation of 0).

6. What percentages of your money must be invested in the risky asset and the risk-free asset, respectively, to form a portfolio with an expected return of 13%?

A) 20% and 80% B) 25% and 75% C) 80% and 20% D) 75% and 25%

7. What percentages of your money must be invested in the risk-free asset and the risky asset, respectively, to form a portfolio with a standard deviation of 8%?

A) 67% and 33% B) 53% and 47% C) 27% and 73% D) 47% and 53%

8. A portfolio that has an expected return of 23% is formed by

A) borrowing $40 at the risk-free rate and investing the total amount ($140) in the risky asset. B) borrowing $80 at the risk-free rate and investing the total amount ($180) in the risky asset. C) borrowing $60 at the risk-free rate and investing the total amount ($160) in the risky asset. D) borrowing $85 at the risk-free rate and investing the total amount ($185) in the risky asset.

9. The slope of the CAL formed with the risky asset and the risk-free asset is equal to

A) 0.5667. B) 0.6667. C) 0.7667 D) 0.4667.

Calculate the value of a $50,000 investment currently held in an investment fund that earns a nominal rate of 8% annually, compounded weekly, for 10 years.  What is the effective interest rate?