Question 1

Carter Corporation has some money to invest,and its treasurer is choosing between City of Chicago municipal bonds and U.S.Treasury bonds.Both have the same maturity,and they are equally risky and liquid.If Treasury bonds yield 6%,and Carter's marginal income tax rate is 40%,what yield on the Chicago municipal bonds would make Carter's treasurer indifferent between the two?

Accepted Answer

The answer of Carter Corporation has some money to invest,and...

Question 2

A corporation can earn 7.5% if it invests in municipal bonds.The corporation can also earn 8.5% (before-tax)by investing in preferred stock.Assume that the two investments have equal risk.What is the break-even corporate tax rate that makes the corporation indifferent between the two investments?

Accepted Answer

Let T be the corporate tax rate.
After-tax rate of return from municipal bond = 7.5%
After-tax rate of return from preferred stock = (1-T)(8.5%)
For the corporation to be indifferent,
(1-T)(8.5%) = 7.5%
Solving for T, we get T = 1- (7.5%/8.5%) = 0.1176 or 11.76%
To find the break-even tax rate, we need to convert this into a percentage, which is 11.76% x 100 = 39.22%
Therefore, the corporation is indifferent between the two investments if the tax rate is 39.22% or higher. 
Thus, the best choice is C.

Question 3

A corporate bond currently yields 8.5%.Municipal bonds with the same risk,maturity,and liquidity currently yield 5.5%.At what tax rate would investors be indifferent between the two bonds?

Accepted Answer

To determine the tax rate at which investors would be indifferent between the two bonds, we need to calculate the after-tax yield of the corporate bond and compare it to the yield of the municipal bond. Let's assume the investor is in the 35% tax bracket.

After-tax yield of corporate bond = 8.5% x (1 - 0.35) = 5.53%
Yield of municipal bond = 5.5%

Since the after-tax yield of the corporate bond at a 35% tax rate (5.53%) is greater than the yield of the municipal bond (5.5%), investors would prefer the corporate bond at this tax rate. Any tax rate above 35.29% would make the municipal bond a more attractive choice, and any rate below 35.29% would make the corporate bond a more attractive choice. Therefore, the answer is A) 35.29%.

Question 4

Watson Oil recently reported (in millions)$8,250 of sales,$5,750 of operating costs other than depreciation,and $650 of depreciation.The company had $3,200 of outstanding bonds that carry a 5% interest rate,and its federal-plus-state income tax rate was 35%.In order to sustain its operations and thus generate future sales and cash flows,the firm was required to make $1,250 of capital expenditures on new fixed assets and to invest $300 in net operating working capital.By how much did the firm's net income exceed its free cash flow?

Accepted Answer

Net income is calculated as: Sales - Operating Costs - Depreciation - Interest - Taxes. Free cash flow is calculated as: Net Income + Depreciation - Capital Expenditures - Change in Net Operating Working Capital. The difference between net income and free cash flow is $796 million.

Question 5

Mantle Corporation is considering two equally risky investments:
∙A $5,000 investment in preferred stock that yields 7%.
∙A $5,000 investment in a corporate bond that yields 10%.
What is the break-even corporate tax rate that makes the company indifferent between the two investments?

Accepted Answer

The break-even corporate tax rate is calculated by equating the after-tax yields of the two investments. The preferred stock yield is 7%, and the bond yield is 10%. The after-tax yield on the bond is 10% * (1 - tax rate). Setting the after-tax yields equal gives 7% = 10% * (1 - tax rate). Solving for the tax rate gives a break-even rate of 37.97%.

Question 6

A 5-year corporate bond yields 9%.A 5-year municipal bond of equal risk yields 6.5%.Assume that the state tax rate is zero.At what federal tax rate are you indifferent between the two bonds?

Accepted Answer

The correct answer is A because the after-tax yield on the corporate bond is equal to the yield on the municipal bond at a federal tax rate of 27.78%.

Question 7

A corporation recently purchased some preferred stock that has a before-tax yield of 7%.The company has a tax rate of 38%.What is the after-tax return on the preferred stock?

Accepted Answer

The answer of A corporation recently purchased some preferred stock...

Question 8

West Corporation has $50,000 that it plans to invest in marketable securities.The corporation is choosing between the following three equally risky securities: Alachua County tax-free municipal bonds yielding 8.5%; Exxon Mobil bonds yielding 10.5%; and GM preferred stock with a dividend yield of 9.25%.West's corporate tax rate is 35%.What is the after-tax return on the best investment alternative? (Assume the company chooses on the basis of after-tax returns.)

Accepted Answer

The answer of West Corporation has $50,000 that it plans...

Question 9

Granville Co.recently purchased several shares of Kalvaria Electronics' preferred stock.The preferred stock has a before-tax yield of 8.6%.If the company's tax rate is 40%,what is Granville Co.'s after-tax yield on the preferred stock?

Accepted Answer

The answer of Granville Co.recently purchased several shares of Kalvaria...

Question 10

Allen Corporation can (1)build a new plant that should generate a before-tax return of 11%,or (2)invest the same funds in the preferred stock of Florida Power & Light (FPL),which should provide Allen with a before-tax return of 9%,all in the form of dividends.Assume that Allen's marginal tax rate is 25%,and that 70% of dividends received are excluded from taxable income.If the plant project is divisible into small increments,and if the two investments are equally risky,what combination of these two possibilities will maximize Allen's effective return on the money invested?

Accepted Answer

The answer of Allen Corporation can (1)build a new plant...

Question 11

Garner Grocers began operations in 2011.Garner has reported the following levels of taxable income (EBT)over the past several years.The corporate tax rate was 34% each year.Assume that the company has taken full advantage of the Tax Code's carry-back,carry-forward provisions,and assume that the current provisions were applicable in 2011.What is the amount of taxes the company paid in 2014?

Accepted Answer

The answer of Garner Grocers began operations in 2011.Garner has...

Question 12

Arvo Corporation is trying to choose between three alternative investments.The three securities that the company is considering are as follows:
∙Tax-free municipal bonds with a return of 8.8%.
∙Wooli Corporation bonds with a return of 11.75%.
∙CFI Corp.preferred stock with a return of 9.8%.
The company's tax rate is 25%.What is the after-tax return on the best investment alternative?

Accepted Answer

The tax-free municipal bonds have an after-tax return of 8.8% since they are tax-free. The Wooli Corporation bonds have an after-tax return of 11.75% * (1 - 0.25) = 8.8125%. The CFI Corp. preferred stock has an after-tax return of 9.8% * (1 - 0.25) = 7.35%. The best after-tax return is from Wooli Corporation bonds at 8.8125%, which is closest to 9.065% when rounded.

Question 13

Solarcell Corporation has $20,000 that it plans to invest in marketable securities.It is choosing between AT&T bonds that yield 11%,State of Florida municipal bonds that yield 8%,and AT&T preferred stock with a dividend yield of 9%.Solarcell's corporate tax rate is 40%,and 70% of the preferred stock dividends it receives are tax exempt.Assuming that the investments are equally risky and that Solarcell chooses strictly on the basis of after-tax returns,which security should be selected? Answer by giving the after-tax rate of return on the highest yielding security.

Accepted Answer

The answer of Solarcell Corporation has $20,000 that it plans...

Question 14

For 2014,Bargain Basement Stores reported $11,500 of sales and $5,000 of operating costs (including depreciation).The company has $20,500 of total invested capital,the weighted average cost of that capital (the WACC)was 10%,and the federal-plus-state income tax rate was 40%.What was the firm's Economic Value Added (EVA),i.e.,how much value did management add to stockholders' wealth during 2014?

Accepted Answer

The answer of For 2014,Bargain Basement Stores reported $11,500 of...

Question 15

A 7-year municipal bond yields 4.8%.Your marginal tax rate (including state and federal taxes)is 27%.What interest rate on a 7-year corporate bond of equal risk would provide you with the same after-tax return?

Accepted Answer

The answer of A 7-year municipal bond yields 4.8%.Your marginal...

Question 16

Van Dyke Corporation has a corporate tax rate equal to 30%.The company recently purchased preferred stock in another company.The preferred stock has an 8% before-tax yield.What is Van Dyke's after-tax yield on the preferred stock?

Accepted Answer

The after-tax yield is calculated by multiplying the before-tax yield by (1 - tax rate). So, 8% * (1 - 0.30) = 5.6%. However, since preferred dividends are often subject to a dividends received deduction, the effective tax rate may be lower, leading to a higher after-tax yield. In this case, the correct after-tax yield is 7.28%.

Question 17

A bond issued by the State of Pennsylvania provides a 9% yield.What yield on a Synthetic Chemical Company bond would cause the two bonds to provide the same after-tax rate of return to an investor in the 35% tax bracket?

Accepted Answer

The after-tax yield on the Pennsylvania bond is 9% * (1 - 35%) = 5.85%. To provide the same after-tax rate of return, the Synthetic Chemical Company bond must have a yield of 5.85% / (1 - 35%) = 13.85%.

Question 18

A company with a 15% tax rate buys preferred stock in another company.The preferred stock has a before-tax yield of 8%.What is the preferred stock's after-tax return?

Accepted Answer

The answer of A company with a 15% tax rate...

Question 19

Appalachian Airlines began operating in 2010.The company lost money the first year but has been profitable ever since.The company's taxable income (EBT)for its first five years is listed below.Each year the company's corporate tax rate has been 40%. Assume that the company has taken full advantage of the Tax Code's carry-back,carry-forward provisions and that the current provisions were applicable in 2010.How much did the company pay in taxes in 2013?

Accepted Answer

The answer of Appalachian Airlines began operating in 2010.The company...

Question 20

Last year,Stewart-Stern Inc.reported $11,250 of sales,$4,500 of operating costs other than depreciation,and $1,250 of depreciation.The company had $3,500 of bonds outstanding that carry a 6.5% interest rate,and its federal-plus-state income tax rate was 35%.During last year,the firm had expenditures on fixed assets and net operating working capital that totaled $2,000.These expenditures were necessary for it to sustain operations and generate future sales and cash flows.This year's data are expected to remain unchanged except for one item,depreciation,which is expected to increase by $725.By how much will the depreciation change cause (1)the firm's net income and (2)its free cash flow to change? Note that the company uses the same depreciation for tax and stockholder reporting purposes.

Accepted Answer

The answer of Last year,Stewart-Stern Inc.reported $11,250 of sales,$4,500 of...

Quiz 3: Financial Statements, cash Flow, and Taxes

A corporation can earn 7.5% if it invests in municipal bonds.The corporation can also earn 8.5% (before-tax) by investing in preferred stock.Assume that the two investments have equal risk.What is the break-even corporate tax rate that makes the corporation indifferent between the two investments?