Question 1
1. Eurodollar deposits are (a) Deposits that may be made in euros or dollars. (b) Euro denominated deposits that are redeemable in dollars. (c) Dollar denominated deposits made in banks in Europe. (d) Euro denominated deposits made in the US. 2. Eurodollar deposits follow the money-market day-count convention. Suppose a deposit is made for 92 days at a Libor rate of 4% on a notional amount of $100. The interest amount is (a) 1.0082 (b) 1.0099 (c) 1.0101 (d) 1.0222 3. Consider a 6?12 FRA where the underlying six-month period is 183 days and the notional is $100. The FRA fixed rate is 5%. At maturity of the contract the underlying Libor for six months is 7%. What is the settlement amount on the FRA? Assume the Actual/360 convention. (a) 0.9683 (b) 0.9687 (c) 0.9817 (d) 1.0167 4. The payoff of the FRA has the following property (a) It is convex in the Libor rate. (b) It is linear in the Libor rate. (c) It is concave in the Libor rate. (d) None of the above. 5. You are given the following data concerning a 6?12 FRA. The first six-month period is 182 days and the second is 183 days. The Libor rate for six months is 5% and for one year is 6%. The arbitrage-free price of the 6?12 FRA, assuming the Actual/360 day-count convention, is (a) 5.50% (b) 6.22% (c) 6.55% (d) 6.82% 6. A $100 notional 6?12 FRA has the following features at inception. The first six month period is 182 days and the second is 183 days. The locked-in rate on the FRA is 6%. After one month the 5?11 FRA is trading at a fair strike of 6.2% with 151 days in the first five month period. What is the value of the FRA to the buyer if the five-month Libor rate at this point is is 5%? (a) +0.0965 (b) 0.0965 (c) (d) ?0.0986 7. ABC Inc. has to borrow money to undertake a seasonal business expansion in six months time. They will need additional working capital funding for six months and wish to hedge themselves against a rise in interest rates in six month?s time. They should (a) Take a short position in a 6?12 FRA. (b) Take a long position in a 6?12 FRA. (c) Lend the notional amount for one year and borrow the same amount for six months, both at the spot rates prevailing today. (d) Lend the notional for one year, wait six months, and borrow the same amount for six months at the spot rate prevailing then. 8. You are long 5 eurodollar futures contracts. If the Libor rate underlying the contract increases by 5 basis points, your position gains the following value: (a) $25 (b) +$25 (c) $125 (d) +$125 9. The September eurodollar contract is trading at 95. You have a 90-day borrowing commencing in September for $500,000,000 that you wish to hedge using futures. How many eurodollar futures contracts should you buy (rounded off to the nearest integer)? (a) 490 (b) 492 (c) 494 (d) 500 10. The convexity bias between FRAs and eurodollar futures implies that (a) The futures results in greater cash outflows or smaller cash inflows than the FRA. (b) The futures settlement amount is convex in Libor rates. (c) The futures results in greater cash inflows or lower cash outflows than the FRA. (d) The FRA payoff minus the futures payoff is convex in Libor rates. 11. In satisfaction of a US Treasury bond futures contract, the short position delivers a 15-year 9% bond instead of the standard bond. What is the conversion factor on this delivery? Assume the last coupon on the bond was just paid. (a) 1.255 (b) 1.294 (c) 1.354 (d) 1.446 12. The quoted price on a 91-day Treasury bill is 5. What is the cash price of the bill? (a) 95.00 (b) 98.50 (c) 98.74 (d) 98.75 13. All else being equal, a bond with a higher coupon has a duration that is ________ than that of a bond with a lower coupon. (a) greater than. (b) less than. (c) equal to. (d) undetermined in relation to. 14. Bonds A and B both have a duration of exactly one year. An equally-weighted portfolio of these bonds will have a duration of (a) Greater than 1 year because duration is additive. (b) Equal to one year because the average duration is still one year. (c) Less than one year, because duration is a measure of risk, and combining two bonds into a portfolio diversifies away risk. (d) Cannot say because the outcome depends on the interaction of specific cash flows of both bonds. 15. Your bond portfolio has a value of $10,600,000 with a duration of 2.2 years. How many 90-day US Treasury bill futures contracts do you need to hedge this exposure if the futures contract is priced at $995,000? Assume you are carrying out duration-based hedging. (a) 1.21 (b) 5.86 (c) 10.65 (d) 93.75 16. You plan to borrow $1,000,000 for six months (183 days) in six months? time (182 days). The current Libor rate for six months is 6%. You want to hedge your interest-rate exposure by using 90-day eurodollar futures contracts that mature in six months. Using PVBP analysis, how 90-day eurodollar futures contracts are needed for this hedge? (a) 1.79 (b) 1.85 (c) 1.92 (d) 2.00 17. Ceteris paribus, as interest rates rise, which of these statements is most likely to be true? (a) The duration of bonds rises. (b) The duration of bonds falls. (c) Newly issued bonds have a higher duration than bonds issued some time ago. (d) The volatility of bonds increases. 18. You borrow money at Libor with a floating-rate note for one year with two semi-annual payments. What position do you need to add to this note to fix the cost of borrowing for the entire year? (a) Sell a FRA. (b) Buy a FRA. (c) Buy a one-year zero-coupon bond and short a 1.5-year zero-coupon bond. (d) Buy a six-month zero-coupon bond and short a one-year zero-coupon bond. 19. A $100,000,000 FRA has a fixed rate of 4%. The first three-month period is for 91 days and the second one for 92 days. The 91-day Libor rate is 3% and the 183-day Libor rate is 3.5%. The value of this contract to the buyer of the FRA is (a) (b) (c) (d) 20. When you are short a position in a FRA, you are effectively (a) Long the three-month zero-coupon bond, and long the six-month zero-coupon bond. (b) Long the three-month zero-coupon bond, and short the six-month zero-coupon bond. (c) Short the three-month zero-coupon bond, and long the six-month zero-coupon bond. (d) Short the three-month zero-coupon bond, and short the six-month zero-coupon bond. 21. A long position in a FRA can be replicated using (a) A six-month borrowing combined with a 9-month investment. (b) A six-month investment combined with a 9-month borrowing. (c) A six-month investment combined with a 3-month borrowing. (d) A six-month borrowing combined with a 3-month investment. 22. You anticipate a three-month borrowing in 6 months? time. To hedge the interest-rate exposure you can go either (a) Long a FRA or long a eurodollar futures contract maturing in 6 months. (b) Short a FRA or long a eurodollar futures contract maturing in 6 months. (c) Long a FRA or short a eurodollar futures contract maturing in 6 months. (d) Short a FRA or short a eurodollar futures contract maturing in 6 months. 23. A long position in a eurodollar futures contracts expiring in June may be used to hedge interest-rate exposure resulting from a planned (a) 90-day borrowing ending in June. (b) 90-day borrowing beginning in June. (c) 90-day investment ending in June. (d) 90-day investment beginning in June. 24. You are long an FRA and long a eurodollar futures contract expiring in 3 months. Assume the fixed rate in the FRA is the same as the rate locked-in via the eurodollar futures contract. If interest rates jump down by 100 basis points, (a) There is no net cash flow consequence because you are perfectly hedged. (b) You will lose more on the FRA than you will make on the eurodollar futures. (c) You will make more on the FRA than you will lose on the eurodollar futures. (d) You will lose less on the FRA than you will make on the eurodollar futures. 25. You are short an FRA and short a eurodollar futures contract expiring in 3 months. Assume the fixed rate in the FRA is the same as the rate locked in via the eurodollar futures contract. If interest rates jump up by 100 basis points, (a) You will lose money on both the FRA and the eurodollar futures. (b) You make money on the FRA but lose on the eurodollar futures. (c) You make money on both the FRA and the eurodollar futures. (d) You lose money on the FRA but make money on the eurodollar futures. 26. Suppose the duration of a bond portfolio is 2. This means (a) The final cash flow from the portfolio will occur in two years. (b) The weighted-average maturity of the portfolio?s cash flows is 2 years. (c) The portfolio is fully equivalent to a 2-year zero-coupon bond. (d) The portfolio is fully equivalent to a 2-year par-coupon bond. 27. The largest markets for derivatives based on notional outstandings are (a) Equity derivatives. (b) Interest-rate derivatives. (c) Commodity derivatives. (d) Currency derivatives. 28. Which of the following is a valid completion of the sentence??An American option ...?? (a) Reflects the higher impatience of Americans relative to Europeans. (b) Is traded in America and Europe, whereas European options are only traded in Europe. (c) Is exercisable prior to maturity whereas European options are not. (d) All of the above. 29. The writer of a put option on a stock (a) Has the right but not the obligation to sell the stock. (b) Has the right but not the obligation to buy the stock. (c) Has the obligation but not the right to sell the stock. (d) Has the obligation but not the right to buy the stock. 30. The premium of an option is (a) The price of the option. (b) The value of the right but not the obligation to undertake a purchase or sale of the underlying asset. (c) Is always non-negative. (d) All of the above. 31. The value of the following position for options at the same strike price is always zero: (a) A long call and a long put. (b) A short call and a short put. (c) Both (a) and (b). (d) Neither (a) nor (b). 32. Which of the following statements is true of an option?s payoff? (a) The gross payoff is always strictly greater than the net payoff. (b) The gross payoff is always strictly less than the net payoff. (c) The gross payoff can be greater or less than than the net payoff. (d) The gross payoff is equal to the net payoff in virtually all cases. 33. If your directional view is that stock prices are going to fall, you should (a) Sell stock now. (b) Sell call options. (c) Buy put options. (d) All of the above are profitable strategies. 34. If you believe that stock prices are going to fall for sure, then given a fixed amount of capital, you should (a) Sell stock now. (b) Sell call options. (c) Buy put options. (d) All of the above. 35. If you expect stock volatility to fall but have no particular view of direction, then you should (a) Sell stock now. (b) Sell call options. (c) Buy put options. (d) All of the above. 36. If you expect stock volatility to rise but have no particular view of direction, then you should (a) Sell stock now. (b) Sell call options. (c) Buy put options. (d) All of the above. 37. A call option with a strike of K = 100 is purchased at a premium of $4. The stock price at maturity is $105. The net payoff of the option is (a) $1 (b) $5 (c) $96 (d) $101 38. You have a portfolio with long positions in both puts and calls. The volatility in the market rises. (a) Your portfolio gains in value. (b) Your portfolio gains on the calls and loses on the puts. (c) Your portfolio gains on the puts and loses on the calls. (d) Your portfolio is now more risky and is therefore worth less than before. 39. You anticipate that volatility will increase sharply and the stock price will fall. Select the most profitable of the following portfolios to hold, given your views: (a) Long stock and long calls. (b) Short stock and long puts. (c) Long calls and short puts. (d) Short stock and short calls. 40. For a call and a put written on the same underlying but at at possibly different strike prices, (a) Both call and put options may be in-the-money at the same time. (b) If the call is in-the-money, then the put will be out-of-the-money. (c) If one of the options is out-of-the-money, then the other one is guaranteed to be in-the-money. (d) At least one option will be in-the-money. 41. You have a long position in a stock that you purchased for $100, and a short position in a put option on the same stock at strike K = 100. At maturity the stock price is $95, and you liquidate your stock and option positions. Your gross payoff (cash flow) is (a) $0 (b) $5 (c) $90 (d) $95 42. You have a long position in a stock that you purchased for $100, a short position in a call and a long position in a put, both at strike K = 100. At maturity the stock price is ST, and you liquidate your stock and option positions. Your gross payoff (cash flow) is (a) 0 (b) ST.? 100 (c) 100 (d) 100 ? ST 43. You sold a call option at strike 105 for a price of $3 and sold a put option at strike 95 for a price of $2, both options with the same maturity. In what range of stock prices at maturity will you make money or not lose (on your net payoff)? (a) 90?110 (b) 93?102 (c) 95?105 (d) 97?108 44. You have $100 to invest. You can invest it in one of two alternatives. The first is to invest it in a stock that is trading for $100. The second is to buy three-month 100-strike calls on the stock that are currently trading at $4 each. You expect the stock price to appreciate with a maximum price after three months of $110. What is the maximum return on investment you can generate using stock and options? (a) 10% (b) 50% (c) 150% (d) 250% 45. You have $100 to invest in a stock (or options on the stock). The stock is trading for $100. The three-month 100?strike calls on the stock are trading at $4 each. The minimum stock price you expect to see after three months is $60. What is the worst case return on investment you can possibly end up with using stock and/or options? (a) ?100% (b) ?40% (c) 0% (d) +6% 46. You hold the following portfolio: a long position in a European call option on gold with a strike of $975 per oz, a short position in a European put option on gold with a strike of $975 per oz, and a short forward position in gold with a delivery price of $1,000 per oz. All three contracts expire in one month. The value of your position is (a) Positive. (b) Negative. (c) Zero. (d) Can be positive, negative, or zero. 47. A seller of a naked put option will want the value of the underlying asset to _______ and a buyer of a naked call option will want the value of the underlying asset to ______. (a) decrease, decrease (b) decrease, increase (c) increase, decrease (d) increase, increase 48. You sell an IBM call option for $4. The strike price of the option is $120, and the maturity is one year. At maturity, the price of the IBM stock is $126. Your profit/loss over the entire transaction is: (a) $3 profit (b) $2 loss (c) $6 loss (d) $4 profit 49. Which of the following statements is TRUE? (a) The maximum possible loss to the buyer of a call option is unlimited (b) The maximum possible loss to the seller of a call option is unlimited (c) The maximum possible loss to the buyer of a put option is unlimited (d) The maximum possible loss to the seller of a put option is unlimited 50. If you expect the price of a stock to decrease and its volatility to increase, then the most appropriate strategy to use is a (a) Long put (b) Short put (c) Long Call (d) Short call
Question 2
Alison Barnard?Three-Page Paper (p. 70) Review the case and consider Alison?s background and answer the following. Does Alison have enough experience to start a boutique jeans business? How important is it to have experience in an industry before you start a business in that same industry? Describe the market; how will Alison differentiate the business from the other premium jean stores in the area? Is this business going to be so dependent on Alison that she will never be able to grow the store? Is it destined to remain a one-location boutique? Will a one-location boutique be enough to keep Alison satisfied? How much will she be taking out of this business? Is it a satisfactory career for an MBA? What will be needed if this business is to grow beyond the 600-square-foot shop on Hanover Street? What resources did Alison need to start the business, where and from who did she get them, and what did she spend them on? Did she acquire the resources wisely? Please compare and contrast how Kalin Penchev started Malincho with how Alison started In*Jean*ius. http://devry.vitalsource.com/books/9781118518052/id/B2-15 CASE: Alison Barnard Having spent her Saturday morning redesigning window displays, folding inventory, and following up with a supplier who seemed disinclined to take back an entire shipment she felt was unacceptable, Alison Barnard, 27, was finally settled at her desk in the corner?fully intending to make some progress on her growing management task list. Chief among those neglected missions was getting up to speed on her software system for monitoring sales and inventory. In-jean-ius, her upscale ?jeans and t-shirt? boutique in Boston?s North End, was attracting professional and wealthy women from Maine to Rhode Island. As one of many satisfied customers wrote, ?Alison has an uncanny ability to match up the right person with the perfect pair of jeans. If you have ever gone ?jean shopping? you know that that is not an easy thing to do! Experience In-jean-ius for yourself. You won?t shop for jeans anywhere else again.? March 2006. Alison looked up from her work with a weary smile. Open just over six months, and actuals are tracking nearly twice my projections?. As it had from the very beginning, running her hit venture continued to consume nearly every waking hour. The creative, high-energy founder was far less concerned with burning out than with having the day-to-day concerns usurp her ability to plan and manage for growth. And with only one full-time employee?not yet fully trained?Alison couldn?t expect much relief anytime soon. Her attention was suddenly drawn to an exchange between her salesperson and a well-dressed, middle-aged woman who was favoring a sleek pair of low rises. From where she sat, Alison could see that the woman was built for something a bit less daring. When the associate began fishing for the correct size in that style, Alison left her desk (and her task list) to steer the sale toward a more conservative brand that would ultimately prove to offer the best fit. Another satisfied customer?. Alison Barnard: Shopper Like many rural-suburban American teens, young Alison Barnard had been an avid shopper. But there was something more. The daughter of a serial entrepreneur and an enterprising mother, she had developed an eye for opportunity and value-add that she ceaselessly trained on the business of creating a unique upscale shopping experience: trends, service, selection, presentation, decor. Despite her keen interest in retailing, she headed off for college with a more conservative career track in mind: I really thought I wanted to be in brand management, marketing, or retail consulting. I figured that someday I would have a store but thought it might be something I?d do when I retired, like you kind of hung out in your store. But I had all of these ideas. I like clothing, I like the shopping experience, and I like dealing with people. One idea was to have an all-black store because black apparel is such a staple for any woman?s wardrobe. In May of 2002, Alison received her undergraduate degree in business from the University of Richmond. Back in the Boston area, her first job was with a dot-com startup. She left there for an interesting opportunity with another high-potential venture. While the work environment there was most definitely not for her, that ?mistake? would have a major impact on her career trajectory. 70 71 Catalysts Hired as part of the seminar development team at a medical device company in Cambridge, Massachusetts, Alison quickly discovered that her talents weren?t exactly appreciated: They were part of this old boy network that really looked down on females. They told me, for example, that I needed to cover on Thursdays for the receptionist when she went to lunch. Swell. I hated that place, and I immediately began interviewing for something better. At one point, I went on a job interview, and since my boss approved of higher education, I told her I had gone to Babson College to investigate their MBA program. When I checked into it in order to support my little lie, I found out that Babson had a one-year program that looked really interesting; you?re there, you?re focused and doing it, and then you?re out. Alison began the One-Year MBA at Babson in the spring of 2003. Since she was still brainstorming retail store concepts with anyone who would engage, her mom?s hairdresser suggested that as a next step she ought to get some floor time in the real world. That summer Alison started work as a part-timer at an upscale boutique near Boston. Although she still had no immediate plans to develop a new venture, her MBA studies melded well with her exposure to retailing: I quickly realized that my first concept about an all-black store was a bad idea. Women buy black, but they don?t shop for it. They?ll even go into a store and say they want anything but black?because they have too much black in their wardrobe. But then in the end, they?ll buy something black. At the time, I was really getting into jeans myself. At Babson, I wore jeans and a t-shirt every day. My first pair was Sevens, one of the early entrants into what I would call the premium denim revolution. Jeans are no longer just weekend wear; they are worn in the workplace and for going out. Premium denim has become a fashion staple, and women now have an average of about eight pairs of jeans in their wardrobe. So an all-jeans store became sort of my fun idea?something I thought would be just another idea that would be passed by. Still, my concept was interesting enough to attract a team in class to do the business plan. It wasn?t long before Alison was certain that she could run a shop of her own. She was still drawn to the $6.3 billion women?s denim market, a highly fragmented space with hundreds of manufacturers and inconsistent retail offerings, from boutiques, chain stores, and department stores. Still, she felt that she ?would have to jump on it right away before anyone else did??it was now or never: I had been keeping my idea secret from the store owners because I didn?t trust them at all. Sure, they liked me, but they also had money and resources. That summer, I was attending a fashion show with one of the owners. He said that he had always wanted to open a jeans and t-shirt store but that his business partner?a woman?wasn?t interested in the concept. At that point, I told him about my idea, and before you know it, we were talking about going into business together. 73 74 He called a few times after the trip to talk it over. We never touched on details like money or ownership breakdown, but we did go to look at a spot in Wellesley [Massachusetts]. But then he just dropped it; never talked about it again. It was as if we had never had a conversation about it! That?s the sort of thing you get from a lot of people in this industry. But how was I going to do it alone? Where was I going to get the money? Commitments Based on her projections (see Exhibit 2.3), Alison expected her retail store would have first-year sales of just over $375,000. She had also calculated that startup costs, including build-out and inventory, would be in the range of $125,000. She was confident that she could attract investors, but first she wanted to secure a location that would be acceptable to what she was sure would be her toughest constituency: Fashion denim manufacturers are represented by showrooms in New York City and in LA [Los Angeles]. They are very committed to their brands?and very particular about whom they will sell to. To avoid saturation, they won?t sell to a store that is too close to another client, and they will even shut off an established shop that locates a new store too close to another buyer. Territory protection is a great asset for existing stores, but it makes it very hard to find locations that have the right customer traffic and are not in conflict with existing vendors. Alison?s boyfriend, Bryan, was active in the Boston real estate market. On weekends, Alison often accompanied him as he made the rounds to various properties he was managing. One icy morning in early 2005, Alison fell for a corner location in the North End: This place was a bit removed from the busiest section of Hanover Street, but the outside was SO nice; all dark wood, newly redone. I had Bryan call the number because as a real estate agent, I knew they would take him seriously. He set up a meeting with the landlord?a top neurosurgeon who owned the building as an investment. He had already denied seven previous proposals, but said he liked mine a lot. Soon, they were talking hard numbers: I learned a lot in negotiating with him because he had a huge ego?just like a lot of good surgeons do. I had to figure out how to make him feel he was still getting something out of it. He was also getting stuck on little details. For example, he wanted to control my window displays and be able to go to arbitration over it. And the space may have been beautiful on the outside, but the inside was unbelievably awful. It was scary. It needed new floors, new ceilings, new walls, and a new heating system. In late February, Alison signed a three-year lease that included a few months of free rent?she now had until September. All along, her father had felt strongly that she should have lined up the capital first: My dad was saying, ?What are you thinking?? He totally disagreed with what I was doing, but I told him I?d find the money. He loaned me the deposit on the location, and he called up my uncle, who is an accountant. The three of us sat down and came up with an investment offering. This place was a bit removed from the busiest section of Hanover Street, but the outside was SO nice; all dark wood, newly redone. I had Bryan call the number because as a real estate agent, I knew they would take him seriously. He set up a meeting with the landlord?a top neurosurgeon who owned the building as an investment. He had already denied seven previous proposals, but said he liked mine a lot. Soon, they were talking hard numbers: I learned a lot in negotiating with him because he had a huge ego?just like a lot of good surgeons do. I had to figure out how to make him feel he was still getting something out of it. He was also getting stuck on little details. For example, he wanted to control my window displays and be able to go to arbitration over it. And the space may have been beautiful on the outside, but the inside was unbelievably awful. It was scary. It needed new floors, new ceilings, new walls, and a new heating system. In late February, Alison signed a three-year lease that included a few months of free rent?she now had until September. All along, her father had felt strongly that she should have lined up the capital first: My dad was saying, ?What are you thinking?? He totally disagreed with what I was doing, but I told him I?d find the money. He loaned me the deposit on the location, and he called up my uncle, who is an accountant. The three of us sat down and came up with an investment offering. Finding the Money Before she went the equity route, Alison wanted to investigate other avenues. The news was not good: My dad referred me to some people he knew at Boston Private Bank?very conservative. Talks went fine until they became insistent that, if they were going to do anything, they would have to have a guarantor for the loan?a co-signer. Well, I wasn?t going to do that; I wanted this to be my responsibility. I tried to get an SBA loan through a small bank on the North Shore, but I had no collateral, and I was paying off student loans. They said no way because, even though the SBA would be backing it, a bad loan would give them a worse rating through the SBA. I looked into grants, but the process was too long. I also tried to get startup funding through the Hatchery Program at Babson. They said no as well; that really surprised me. With the clock ticking on her lease, Alison went ahead with the investor plan she had crafted with her closest advisors: We were not going to give people the option of deciding how much money they could invest. Instead, we said this is the deal: There are six slots of $25,000 each, and your options are full equity, debt/equity, or full debt. 1 76 77 I sent an e-mail to all my contacts saying that this is where I am and that I was looking for investors. A lot of people responded to me; I was shocked. A former classmate at Babson (who had started a men?s skin-care line) e-mailed to say that he was very upset with me because he thought I was giving up way too much equity. But I didn?t look at it that way at all. It was a different business model; he was going to the masses, and I was very local. Her father was in for one share; all equity. He uncle let her choose, so she set him up as a debt/equity investor. She had a Babson woman (who had always liked her idea) in for all equity and a private investor in Denver for all debt. The final two shares were to be all equity: A guy I used to work with told me he wanted to do $50,000, but he wanted to do it for 15% equity instead of 12.5%. I quickly said no. I had deals in place with other people; those are the terms. He said that?s fine, he?d still like to do it. Armed with a bit of cash and some solid commitments, Alison charged forward to make her vision a bricks-and-mortar reality. Building Momentum (and Shelving) Having initially envisioned a space in the range of 1,800 square feet, Alison found the 600 square foot shell to be a significant creative challenge?so much so that she hired an expert: I needed to accommodate a starting inventory of around 600 pairs of jeans and a selection of tops (see Exhibit 2.4). My biggest concern was we had to have wide enough aisles to walk around. I thought I could do it myself, but against my better judgment, I hired an interior designer. I worked with him and came up with a compact shelving system that started almost at the floor and went up only as high as I could reach. I am 5?5???, and that is about the average. If someone was shorter, I could get it for them. I really wanted my store to feel very comfortable and warm?like you?re in a good friend?s closet. But the designer never quite got the need to maximize the space. She added with a smile that she had been able to attract effective talent to the task of building out her vision: Bryan built all of the shelving with his father, an engineer. I showed them my drawings, gave them the measurements, and they did it. He actually project managed the build-out, and we did a lot of the work together. I saved so much money because of him. We painted it ourselves, and did other little things here and there. The contractors knew him well, and since he gives them so much business, they were willing to cut us breaks here and there. I went around and found furniture pieces for practical use that would make it feel more homey, like an armoire, a big dining room table, and a couple of benches. The furniture is all white, so the store has a shabby-chic feeling to it. To monitor her sales and margins, Alison invested in a high-end software inventory system. The trouble was that the salesperson had yet to train her, and he wasn?t returning her calls. But that challenge would have to wait; it was time to buy. The denim reps that did sell to her demanded full payment up front. Using bank cards secured with her mother?s credit, Alison pulled together a $75,000 inventory of jeans, tops, and accessories like trendy shoes and jewelry. That?s when she was given a bit of a scare: A month before I opened, my last investor calls to say he?s going to knock his investment down because he didn?t want to be an aggressive shareholder. I panicked; I was in the final phases of my build-out, I had done all my buying, and here he was telling me I was going to be $25,000 short! Despite her angst, Alison decided to sit tight. Things were moving along nicely, and it wasn?t long before she realized that she?d be able to open her store without the additional capital. In-jean-ius A week before her opening in July 2005, Alison hired a friend of a friend as her first employee. Her mom was there to help out, along with her 17-year-old sister. The plan was to be open from around lunchtime to just past dinnertime, six days a week, and stay open a bit later on Sundays. Alison explained that it was soon evident that the location required a flexible approach: The North End is interesting because in the summer they have a variety of feasts and festivals. I was often staying open until nearly midnight. I was working all the time?anything that would make a sale. I immediately surpassed my business plan estimates, and it kept building. As a new retailer in town, she attracted a few of the usual suspects who thought they might be able to take advantage of the young proprietor. They thought wrong: The area is safe, but like any city neighborhood, it has its share of drug addicts. The first week I was open, two junkies came in. The guy was distracting me while the girl was stealing. I knew what was going on, but I didn?t see her take anything. The general idea is that unless you see them do it, you can?t do anything. When they left, a girl walks in and says, ?Excuse me, those two just walked out with a pair of jeans.? Well, I am not a very tough person?I grew up in the suburbs?and I don?t know what I was thinking or what came over me, but I ran after them. I took the jeans out of the guy?s hand and the bag off of her shoulder. I told her that I knew she had jewelry of mine, and I found it in there. I walked away from them to call the police. They ran away and my neighbors got in their car to go find them. They took my younger sister with them because she knew what they looked like. They found them and brought them back to the store so I could positively ID them. They were arrested and taken away. From then on, everyone in the North End thought hey, she?s tough?and the druggies, who all talk, stayed away. Soon after that, Alison was in hot pursuit again: I chased another girl down the street, and when I wouldn?t let her get in her car, she tried to punch me. Bryan tells me all the time I have to stop doing that; someday I could get hurt. Of course, I tell my employees not to do anything like that; just call the police. But I take it so personally; that?s mine, you?re stealing from me! How can you do that? Don?t you know I?m a new business? Over the next few months, Alison?s total loss to theft was a single pair of shoes and a pair of earrings. The other good news was that sales continued to track far ahead of her estimates. In the first six months, the store had generated a net income of $20,307 on sales of $294,061. Alison explained that, although word of mouth was an important factor in her early success, attracting the imagination of the local press had been key: I?m not the only one who has had this idea, and other trendy jeans stores have definitely gotten their share of press, but people are really taking to my message: ?You?re going to get help, and we?re going to work with you to find jeans that fit. We have jeans for everybody.? Nobody else is saying that this is all about fit, and that?s the message that I relay in every piece of PR that I send out. And they keep coming to talk to me. While the young entrepreneur was thrilled with how things were going, she was ready to start spending less time on the sales floor and more time with strategic and management challenges. Easier said than done. Fold or Finance? Since the local press always seemed to focus on her skills and her story, Alison wondered how that might impact her ability to replicate her concept: How do you grow when the store is about you? People come here because they like dealing with me. How do I duplicate myself? That?s not to say that someone can?t do what I?m doing and do it well, but employees are never going to treat people exactly the way you do. I have a lot of learning to do in terms of managing my employees, delegating, and sharing my knowledge. One of her many priorities was to develop a training manual that, in addition to describing the particular fit characteristics of various brands, would clearly articulate her vision for customer service. She thought of contacting the Ritz-Carlton in Boston?to her mind a master of customer service?to see if they might let her review their training materials. Until she did have some documentation in place though, she?d have to communicate her philosophy on the fly: I sort of torture my employees when they?re hired. They have to come in and spend a few hours trying on everything in the store?like a restaurant that requires their servers to try everything on the menu so they can talk about it. I am also pretty strict about keeping the store neat and organized. I think that is so important in a small space like this. Whenever I come into the store, I can immediately see items that are unfolded or out of place My office is a desk in the corner, so I?m right there to offer help or teach them the little tricks I?ve learned. I also try to stay at my desk and let them take care of whoever comes in, but I can?t just keep quiet if they are not saying the right thing. I always have to get my two cents in. Now that she had a full-time employee nearly up to speed and a sharp former classmate from Babson working on weekends as a fun job, Alison had begun to carve out some time each week to recharge: I have had to give up spending much time with Bryan, and that has been a huge problem. My taking Sundays has become so important because we get to spend time together. Despite the fact 80 81 that he is also an entrepreneur, he has had a really big struggle with the idea that he is number two to this business. That?s been hard and it?s something we?re working on. Her other challenging relationship was with the numbers: Nailing down the actuals is a big issue for me, and I am in the process of doing that. I?m not bad with fnancials, but they are a bit intimidating; I am really just much more into customer service and marketing. There are so many other things that I could be doing to bring in sales, so I?d rather do those things first. It?s true; I would rather have my store neat and folded than work on my fnancials. That is always my first priority. If the store looks good, then I can do other things. The problem is that I am constantly rearranging the store, and that is my way of being creative: putting different things together, doing the windows over every week. My uncle does my accounting, and I am paying close enough attention to know I?m doing much better than my projections, but I need to focus on it more. And I need to find a training course for that inventory software so I can run those reports and coordinate things the right way. Down by One It had been one of the best-selling days to date. Alison closed her shop at 8:30 that night and returned to her desk with the absurd idea that she might have some energy left for paperwork. It wasn?t just that she was tired; she now had a brand-new challenge on her plate: that day her one full-time employee had given her two-week notice. Preparation Questions 1. Is this business scalable? Discuss the limitations and challenges. 2. What tasks and goals should Alison be focusing on at this stage of her venture? 3. Discuss the signing of a lease prior to having the money. What was the risk? 4. Discuss her fund-raising and valuation. If you were an equity investor, what return expectations would you have? 5. If women are coming to Alison?s store from all over, how important is location? Discuss the implications for growth.
Question 3
I have four questions I need answered. Just the answers to compare. 1. Capital rationing. You are considering a project that has an initial cost of $1,200,000. If you take the project, it will produce net cash flows of $300,000 per year for the next six years. If the appropriate discount rate for the project is 10 percent, what is the profitability index of the project? a) 1.09 b) 2.09 c) 2.18 d) 0.09 2. What might cause a firm to face capital rationing? a) If a firm rejects some capital investments that are expected to generate positive NPV?s. b) If investors require returns for their capital that are too high. 3. How firms estimate their cost of capital: The WACC for a firm is 19.75 percent. You know that the firm is financed with $75 million of equity and $25 million of debt. The cost of debt capital is 7 percent. What is the cost of equity for the firm? a)19.75% b) 24.00% c) 58.00% 4. he cost of debt: Bellamee, Inc., has semiannual bonds outstanding with five years to maturity and are priced at $920.87. If the bonds have a coupon rate of 7 percent, then what is the YTM for the bonds? a) 9.0% b) 9.2%
Question 4
Problem 11-4A The equity sections from Salazar Group?s 2011 and 2012 year-end balance sheets follow. Stockholders? Equity (December 31, 2011) Common stock - $4 par value, 50,000 shares authorized, 20,000 shares issued and outstanding?????? $ 80,000 Paid-in capital in excess of par value, common stock?????... 60,000 Retained earnings????????????????????? 160,000 Total stockholders? equity?????????????????? $300,000 Stockholders? Equity (December 31, 2012) Common stock - $4 par value, 50,000 shares authorized, 23,700 shares issued, 1,5000 shares in treasury?? $ 94,800 Paid-in capital in excess of par value, common stock?????... 89,600 Retained earnings ($15,000 restricted by treasury stock)????? 200,000 384,400 Less cost of treasury stock?????????????????? (15,000) Total stockholders? equity?????????????????? $369,000 The following transactions and events affected its equity during year 2012. Jan. 5 Declared a $0.50 per share cash dividend, date of record January 10. Mar. 20 Purchased treasury stock for cash. Apr. 5 Declared a $0.50 per share cash dividend, date of record April 10. July 5 Declared $0.50 per share cash dividend, date of record July 10. July 31 Declared a 20% stock dividend when the stock?s market value is $12 per share. Aug. 14 Issued the stock dividend that was declared om July 31. Oct. 5 Declared a $0.50 per share cash dividend, date of record October 10. REQUIRED 1. How many common shares are outstanding on each cash dividend date? 2. What is the total dollar amount for each of the four cash dividends? 3. What is the amount of the capitalization of retained earnings for the stock dividend? 4. What is the per share cost of the treasury stock purchased? 5. How much net income did the company earn during year 2012?
Question 5
Question 1 Which of the following would be an example of a fixed cost? Answer raw materials sales commissions utilities property taxes . 3 points Question 2 A mixed cost Answer contains both a fixed and variable component is always easy to separate will decrease as output increases none of the answers are correct . 3 points Question 3 When a mixed cost is graphed the slope of the line equals Answer the fixed cost per unit of output the total cost per unit the sales price per unit the variable cost per unit of the activity driver . 3 points Question 4 The scatter graph method Answer is the most accurate method has the advantage of objectivity may reveal the presence of outliers none of the answers are correct . 3 points Question 5 The relevant range Answer is the normal range of output is the range of output where cost relationships are valid may change from period to period all of the answers are correct . 3 points Question 6 Which of the following would probably be a discretionary fixed cost for a law firm? Answer salary of receptionist cost of television commercials depreciation on furniture and equipment cost of legal forms . 3 points Question 7 Figure 3-2. Lassiter Toys, Inc. Cost of Materials No. of toys Total cost produced of materials 100,000 $20,000 200,000 $40,000 300,000 $60,000 See Figure 3-2: The cost behavior of the materials cost is Answer fixed mixed variable step . 3 points Question 8 Figure 3-2. Lassiter Toys, Inc. Cost of Materials No. of toys Total cost produced of materials 100,000 $20,000 200,000 $40,000 300,000 $60,000 See Figure 3-2: What should the total materials cost be at a production level of 220,000 toys? Answer $88,000 $44,000 $22,000 $132,000 . 3 points Question 9 Figure 3-2. Lassiter Toys, Inc. Cost of Materials No. of toys Total cost produced of materials 100,000 $20,000 200,000 $40,000 300,000 $60,000 See Figure 3-2: What is the materials cost per unit of output? Answer $.20 $.10 $.60 $.40 . 3 points Question 10 Figure 3-3. Okafor Company manufactures skis. The management accountant wants to calculate the fixed and variable costs associated with the leasing of machinery. Data for the past four months were collected. Month Lease cost Machine hours April $ 21,000 550 May 16,500 420 June 19,000 510 July 22,230 570 See Figure 3-3: Using the high-low method calculate the variable rate for the lease cost Answer $38.20 $38.18 $61.50 $37.25 . 3 points Question 11 Figure 3-3. Okafor Company manufactures skis. The management accountant wants to calculate the fixed and variable costs associated with the leasing of machinery. Data for the past four months were collected. Month Lease cost Machine hours April $ 21,000 550 May 16,500 420 June 19,000 510 July 22,230 570 See Figure 3-3: Using the high-low method calculate the fixed cost of leasing Answer $482 $516 $420 $456 . 3 points Question 12 Figure 3-3. Okafor Company manufactures skis. The management accountant wants to calculate the fixed and variable costs associated with the leasing of machinery. Data for the past four months were collected. Month Lease cost Machine hours April $ 21,000 550 May 16,500 420 June 19,000 510 July 22,230 570 See Figure 3-3: What would Okafor Company?s cost formula be to estimate the cost of leasing within the relevant range? Answer total lease cost = $456 + ($38.20 ? machine hours) total lease cost = $516 + ($38.18 ? machine hours) total lease cost = $420 + ($37.25 ? machine hours) none of the answers are correct . 3 points Question 13 Figure 3-3. Okafor Company manufactures skis. The management accountant wants to calculate the fixed and variable costs associated with the leasing of machinery. Data for the past four months were collected. Month Lease cost Machine hours April $ 21,000 550 May 16,500 420 June 19,000 510 July 22,230 570 See Figure 3-3: What would the estimate of Okafor Company?s total lease cost be at a level of 500 machine hours? Answer $19,606 $19,556 $16,464 $18,546 . 3 points Question 14 Figure 3-6. Taran Company incurred the following costs for the months of January and February. Type of Cost January February Insurance $ 5,000 $ 5,000 Utilities 4,000 6,000 Depreciation 3,500 3,500 Materials 10,000 20,000 See Figure 3-6: From the information above we can assume that Answer insurance and depreciation are fixed costs output decreased from January to February output stayed the same from January to February insurance is a mixed cost . 3 points Question 15 Figure 3-6. Taran Company incurred the following costs for the months of January and February. Type of Cost January February Insurance $ 5,000 $ 5,000 Utilities 4,000 6,000 Depreciation 3,500 3,500 Materials 10,000 20,000 See Figure 3-6: Assume that output was 5,000 units in January and 10,000 units in February, utility cost is a mixed cost, and the fixed cost of utilities was $3,000. What was the variable rate per unit of output for utilities cost in January? Answer $.20 $.40 $.60 $.30 . 3 points Question 16 Figure 3-6. Taran Company incurred the following costs for the months of January and February. Type of Cost January February Insurance $ 5,000 $ 5,000 Utilities 4,000 6,000 Depreciation 3,500 3,500 Materials 10,000 20,000 See Figure 3-6: If output was 5,000 units in January and 10,000 units in February we can assume that Answer utilities and materials are variable costs utilities, insurance, and depreciation are fixed costs insurance and depreciation are mixed costs materials is the only variable cost . 3 points Question 17 Figure 4-1. Foster Company makes power tools. The budgeted sales are $420,000, budgeted variable costs are $147,000, and budgeted fixed costs are $227,500. Refer to Figure 4-1. What is the budgeted operating income? Answer $273,000 $227,500 $45,500 $374,500 $567,000 . 3 points Question 18 Figure 4-1. Foster Company makes power tools. The budgeted sales are $420,000, budgeted variable costs are $147,000, and budgeted fixed costs are $227,500. Refer to Figure 4-1. What is the variable cost ratio? Answer 35% 54% 89% 19% 50% . 3 points Question 19 Figure 4-1. Foster Company makes power tools. The budgeted sales are $420,000, budgeted variable costs are $147,000, and budgeted fixed costs are $227,500. Refer to Figure 4-1. What is the breakeven point in sales dollars? Answer $350,000 $420,000 $650,000 $780,000 $567,000 . 3 points Question 20 Figure 4-1. Foster Company makes power tools. The budgeted sales are $420,000, budgeted variable costs are $147,000, and budgeted fixed costs are $227,500. Refer to Figure 4-1. What is the contribution margin? Answer $90,000 $183,000 $36,000 $273,000 $374,500 . 3 points Question 21 Figure 4-1. Foster Company makes power tools. The budgeted sales are $420,000, budgeted variable costs are $147,000, and budgeted fixed costs are $227,500. Refer to Figure 4-1. What is the contribution ratio? Answer 35% 65% 54% 89% 50% . 3 points Question 22 Figure 4-6. Xeller Company makes electronic keyboards. The practice model price is $220 and variable expenses are $190. The deluxe model price is $340 and variable expenses are $250. The professional model price is $1,200 and variable expense per unit is $800. Total fixed expenses are $187,000. Generally, Xeller sells 6 practice models and 3 deluxe models for every professional model sold. Refer to Figure 4-6. Using the sales mix stated in the facts from Figure 4-6 to form a package, what is the total package contribution margin? Answer $850 $450 $520 $1,890 $587 . 3 points Question 23 Figure 4-6. Xeller Company makes electronic keyboards. The practice model price is $220 and variable expenses are $190. The deluxe model price is $340 and variable expenses are $250. The professional model price is $1,200 and variable expense per unit is $800. Total fixed expenses are $187,000. Generally, Xeller sells 6 practice models and 3 deluxe models for every professional model sold. Refer to Figure 4-6. What is the number of practice models sold at breakeven? Answer 850 220 180 1,320 440 . 3 points Question 24 Figure 4-6. Xeller Company makes electronic keyboards. The practice model price is $220 and variable expenses are $190. The deluxe model price is $340 and variable expenses are $250. The professional model price is $1,200 and variable expense per unit is $800. Total fixed expenses are $187,000. Generally, Xeller sells 6 practice models and 3 deluxe models for every professional model sold. Refer to Figure 4-6. What is the number of deluxe models sold at breakeven Answer 220 660 1,320 850 440 . 3 points Question 25 Figure 4-6. Xeller Company makes electronic keyboards. The practice model price is $220 and variable expenses are $190. The deluxe model price is $340 and variable expenses are $250. The professional model price is $1,200 and variable expense per unit is $800. Total fixed expenses are $187,000. Generally, Xeller sells 6 practice models and 3 deluxe models for every professional model sold. Refer to Figure 4-6. What is the number of professional models sold at breakeven? Answer 220 850 400 4,675 440 . 3 points Question 26 Figure 4-6. Xeller Company makes electronic keyboards. The practice model price is $220 and variable expenses are $190. The deluxe model price is $340 and variable expenses are $250. The professional model price is $1,200 and variable expense per unit is $800. Total fixed expenses are $187,000. Generally, Xeller sells 6 practice models and 3 deluxe models for every professional model sold. Refer to Figure 4-6. What is the overall sales revenue at breakeven? Answer $778,800 $387,200 $1,288,700 $2,067,800 $968,000 . 3 points Question 27 If fixed costs increase, the break-even point in units will Answer increase decrease remain the same remain the same; however, contribution per unit will decrease . 3 points Question 28 If the contribution margin per unit decreases, the break-even point in units Answer will increase will decrease will remain the same cannot be determined from the information given . 3 points Question 29 Firm X and Firm Y are competitors within the same industry. Firm X produces its product using large amounts of direct labor. Firm Y has replaced direct labor with investment in machinery. Projected sales for both firms are 15% LESS than in the prior year. Which statement regarding projected profits is TRUE? Answer Firm X will lose more profit than Firm Y Firm Y will lose more profit than Firm X Firm X and Firm Y will lose the same amount of profit. Neither Firm X nor Firm Y will lose profit. . 3 points Question 30 Figure 4-10. A company provided the following data: Sales $540,000 Variable costs $378,000 Fixed costs $120,000 Expected production and sales in units 40,000 Refer to Figure 4-10. What is the break-even point in sales dollars? Answer $498,000 $400,000 $171,429 $112,500 $150,000 . 4 points Question 31 Figure 4-10. A company provided the following data: Sales $540,000 Variable costs $378,000 Fixed costs $120,000 Expected production and sales in units 40,000 Refer to Figure 4-10. How much sales in dollars is necessary to generate a profit of $30,000? Answer $528,000 $500,000 $214,286 $100,000 $150,000 . 3 points Question 32 If sales remain the same and the margin of safety increases, which of the following is true? Answer the breakeven point has increased the breakeven point has decreased fixed costs have increased none of these is true . 3 points Question 33 Operating leverage is the relative mix of Answer revenues earned and manufacturing costs fixed and variable costs high-volume and low-volume products manufacturing costs and period costs revenues earned and variable costs . 3 points Save and Submit
