Practice Exams, Volume 2, Exam 1, PM, Q85 The formula used in the answer is incorrect. The Initial Outlay = 332+110+90-0.4(90-0) TNOCF= 110+113-0.4(113-0) The CF for the final period is correct, but the other part of the final period CF, the TNOCF, is incorrect. Can anyone confirm error or explain? Practice Exams, Volume 2, Exam 2, AM, Q26 Why doesn’t the financial leverage ratio change? We changed the assets and used the new numerator in the asset T/O ratio, why wouldn’t we use the same numerator in the financial leverage ratio? The answer in the book is not clear. Can anyone confirm error or explain? Thank you!

Correction Exam 1, Question 85. Please disregard this question. The sale of the old equipment should be accounted for in the initial outlay. Posted: 2010-05-21

What about ? 39? It’s not in the Errata (follow copy and paste from another thread) “If BioTLabs establishes a dividend and issues additional debt, the most likely effect on FCFF will be:” a) no effect b) a decrease in FCFF c) an increase in FCFF I put C, but the answer was A stating that changing the capital structure by increasing debt will have no impact on FCFF but will initially increase FCFE blah blah blah. I disagree with this. If you increase the amount of debt FCFF will increase by the amount of the tax shield generated by the interest payment by the amount of int exp x tax rate. Am I missing something here?

Interest shouldnt go into your tax calculation. EBIT *(1-tr)

yeah, I can see that in the materials now. It just doesn’t make sense in my head I guess. If you decrease the amount of taxes paid by the firm (a real cash flow), shouldn’t that be included as a cash inflow (much like you add back DEP after you include the tax shield). I’ll have to triple check this on my equity review wednesday.

That’s right, when you add back Int * (1 - tax rate) you are adding it to NI, which has already subtracted that value out. The idea is the amount of cash available to the FIRM, before debt and equity. So, it follows that if you are paying more interest to debt or dividends to equity, it doesn’t actually change the amount of cash available to the Firm itself, b/c that measure is before you pay any amount to debt or equity

ok, i kind of get it now. pg 402 of the CFAI equity book has a decent explanation (although I still am hazy on it). NI = (EBIT - Int)(1-t) = EBIT(1-t) - Int(1-t) FCFF = NI + Dep + Int(1-t) - FCInv - WCInv Substitution for NI FCFF = EBIT(1-t) +Dep - FCInv - WCInv Still doesn’t make sense to me but I’ll atleast know that I have a problem w/ it which will make me remember that I’m wrong and to do it the other way come test time.

FCFF is a question of what is available for the firm to pay pay debt and equity (that’s the simple way of looking at it). An increase in debt does not change the amount avaiable to the firm for it to pay its debt or equity. That number is driven by earnings and investments, etc, as show in the equations above.