Appendix Answers to Select Basic Problems A-3
bre44380_app_A1-A10 3 10/09/15 08:14 PM
CHAPTER 11- (a) False; (b) True; (c) True; (d) False.
- First consider whether renting the building and opening
the Taco Palace is positive NPV. Then consider whether
to buy (instead of renting) based on your optimistic
view of local real estate. - The secondhand market value of older planes falls by
enough to make up for their higher fuel consumption.
Also, the older planes are used on routes where fuel
efficiency is relatively less important.
CHAPTER 12- (a) True; (b) True; (c) False; (d) True.
- Monitoring is costly and encounters diminishing
returns. Also, completely effective monitoring would
require perfect information. - ROI = 1.6/20 = .08 or 8%. Net return = 8 − 11.5
= − 3.5%. EVA = 1.6 − (.115 × 20) = − $.7 million.
EVA is negative. - Not usually by creative accounting, but by reducing or
delaying discretionary advertising, maintenance, R&D,
or other expenses.
CHAPTER 13- c
- (a) False; (b) False; (c) True; (d) False; (e) False; (f) True.
- 6 − (−.2 + 1.45 × 5) = −1.05%.
- Decrease. The stock price already reflects an expected
25% increase. The 20% increase conveys bad news rela-
tive to expectations. - a. Evidence that two securities with identical cash
flows (e.g., Royal Dutch Shell and Shell Transport &
Trading) can sell at different prices.
b. Small-cap stocks and high book-to-market stocks
appear to have given above-average returns for their
level of risk.
c. IPOs provide relatively low returns after their first
few days of trading.
d. Stocks of firms that announce unexpectedly good
earnings perform well over the coming months.
In each case there appear to have been opportunities for
earning superior profits.
CHAPTER 14- (a) False; (b) True; (c) True.
- (a) subordinated; (b) floating rate; (c) convertible; (d)
warrant; (e) common stock; preferred stock.
CHAPTER 9
- Overestimate.
- .60, or 60% of variation, was due to market movements;
the remaining 40% of the variation—was diversifiable.
Diversifiable risk shows up in the scatter about the
fitted line. The standard error of the estimated beta was
.17. If you said that the true beta was 2 × .17 = .34 either
side of your estimate, you would have a 95% chance of
being right. - Beta of assets = .5 × .15 + .5 × 1.25 = .7.
- Suppose that the expected cash flow in year 1 is 100,
but the optimistic forecast is 107. The true PV for the
first cash flow is 107/1.08 = 92.59. Discounting 107 at
15% gives approximately the same answer: 107/1.15 =
93.04. But this fudge-factor adjustment breaks down for
later cash flows. For year 2, the true PV = 100/1.08^2 =
85.73. Discounting at 15% gives 107/1.15^2 = 80.91. - (a) False; (b) False; (c) True.
CHAPTER 10
- (a) False; (b) True; (c) True.
- a. Analysis of how a single input affects a project’s
N P V.
b. Project NPV is recalculated by changing several
inputs to new, but consistent, values.
c. Determines the level of future sales at which project
profitability or NPV equals zero.
d. An extension of scenario analysis that explores
all possible outcomes and weights each by its
probability.
e. A graphical technique for displaying possible future
events and decisions taken in response to those events.
f. Option to invest, disinvest, or modify a project at a
future date.
g. The additional present value created by the option
to bail out of a project, and recover part of the initial
investment, if the project performs poorly.
h. The additional present value created by the option
to invest more and expand output, if a project
performs well. - a. Describe how project cash flow depends on the
underlying variables.
b. Specify probability distributions for forecast errors
for these variables.
c. Draw from the probability distributions to simulate
the cash flows. - The proportion of proposed projects having positive
NPVs at the corporate hurdle rate is independent of the
hurdle rate.