1 .Asset-basedvaluation models are most appropriate for a firm that:
A)is being liquidated.
B)has significantintangible assets.
C)has cyclical earnings.
The correct answer was: A
Asset-based valuationmodels are appropriate for a firm that is being liquidated because when a firmceases to operate as a going concern, its value to equity owners depends on thedifference between the fair value of its assets and liabilities. Asset-basedmodels are unlikely to be reliable for estimating the value of firms that havesignificant intangible assets because fair values of such assets are oftendifficult to determine. Such a firm may or may not have cyclical earnings.
2 . Which of thefollowing statements concerning security valuation is least accurate?
A)A firm with a $1.50dividend last year, a dividend payout ratio of 40%, a return on equity of 12%,and a 15% required return is worth $18.24.
B)The best way tovalue a company with no current dividend but who is expected to pay dividendsin three years is to use the temporary supernormal growth (multistage) model.
C)The best way tovalue a company with high and unsustainable growth that exceeds the requiredreturn is to use the temporary supernormal growth (multistage) model.
The correct answer was:A
A firm with a $1.50dividend last year, a dividend payout ratio of 40%, a return on new investmentof 12%, and a 15% required return is worth $20.64. The growth rate is (1 –0.40) × 0.12 = 7.2%. The expected dividend is then ($1.50)(1.072) = $1.61. Thevalue is then (1.61) / (0.15 – 0.072) = $20.64.
3 . Utilizing theinfinite period dividend discount model, all else held equal, if the requiredrate of return (Ke) decreases, the model yields a price that is:
A)reduced, due toincreased spread between growth and required return.
B)reduced, due to thereduction in discount rate.
C)increased, due to asmaller spread between required return and growth.
The correct answer wasC
The denominator of thesingle-stage DDM is the spread between required return Ke, and expected growthrate, g. The smaller the denominator, all else held equal, the larger thecomputed value.
4 . Which of thefollowing industries is likely to be most sensitive to the business cycle?
A)Confectionery.
B)Automobile.
C)Pharmaceutical.
The correct answer wasB
The automobileindustry is cyclical because demand for new autos fluctuates with the businesscycle. The confectionery industry tends to be non-cyclical and defensivebecause demand for candy tends to be stable through the business cycle. Thepharmaceutical industry is non-cyclical because demand for medicines isindependent of the business cycle.
5 . What value wouldbe placed on a stock that currently pays no dividend but is expected to startpaying a $1 dividend five years from now? Once the stock starts payingdividends, the dividend is expected to grow at a 5 percent annual rate. Theappropriate discount rate is 12 percent.
A)$8.11.
B)$9.08.
C)$14.29.
The correct answer wasB
P4 = D5/(k-g) =1/(.12-.05) = 14.29
P0 = [FV = 14.29; n =4; i = 12] = $9.08.
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