Principles of Finance, 6e
Besley/Brigham
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1. The projected balance sheet method of forecasting is based on which of the following assumptions?
a.
All balance sheet accounts are tied directly to sales.
b.
Most balance sheet accounts are tied directly to sales.
c.
The current level of total assets is optimal for the current sales level.
d.
Answers a and c above.
e.
Answers b and c above.
ANSWER:
e
POINTS:
1
DIFFICULTY:
Easy
ACCREDITING STANDARDS:
Blooms Taxonomy-5 – Knowledge
Business Program-6 – Reflective Thinking
DISC-FIN-01 – Stocks and Bonds
DISC-FIN-03 – Capital Budgeting and Cost of Capital
Time Estimate-a – 5 min.
TOPICS:
Projected Balance Sheet Method
2. The projected balance sheet forecasting method produces accurate results unless which of the following condition(s) is
(are) present?
a.
Fixed assets are “lumpy.”
b.
Strong economies of scale are present.
c.
Excess capacity exists because of a temporary recession.
d.
Answers a, b, and c all make the projected balance sheet method inaccurate.
e.
Answers a and c make the projected balance sheet method inaccurate, but, as the text explains, the assumption
of increasing economies of scale is built into the projected balance sheet method.
ANSWER:
d
POINTS:
1
DIFFICULTY:
Easy
ACCREDITING STANDARDS:
Blooms Taxonomy-5 – Knowledge
Business Program-6 – Reflective Thinking
DISC-FIN-01 – Stocks and Bonds
DISC-FIN-03 – Capital Budgeting and Cost of Capital
Time Estimate-a – 5 min.
TOPICS:
Projected Balance Sheet Method
3. Which of the following statements is correct?
a.
One of the key steps in the development of pro forma financial statements is to identify those assets and
liabilities which increase spontaneously with net income.
b.
The first, and most critical, step in constructing a set of pro forma financial statements is establishing the sales
forecast.
c.
Pro forma financial statements as discussed in the text are used primarily to assess a firm’s historical
performance.
d.
All else equal, if a firm operates at full capacity, the greater its payout ratio, the less additional funds that will
be needed for a particular growth in sales.
e.
The projected balance sheet forecasting method produces accurate results when fixed assets are lumpy and
Principles of Finance, 6e
Besley/Brigham
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when economies of scale are present.
ANSWER:
b
POINTS:
1
DIFFICULTY:
Easy
ACCREDITING STANDARDS:
Blooms Taxonomy-5 – Knowledge
Business Program-6 – Reflective Thinking
DISC-FIN-01 – Stocks and Bonds
DISC-FIN-03 – Capital Budgeting and Cost of Capital
Time Estimate-a – 5 min.
TOPICS:
Forecasting Concepts
4. Assume a portion of a firm’s long-term funds includes either debt or preferred stock. Which of the following statements
is correct?
a.
The firm must possess operating leverage, which means that a change in net income will result in a greater
percentage change in earnings before interest and taxes (EBIT).
b.
The firm has financial leverage, which means that a change in sales will result in a greater percentage change
in EBIT.
c.
The firm has financial leverage, which means that a change in EBIT will result in a greater percentage change
in earnings per share (EPS).
d.
The firm doesn’t have leverage, because leverage is created through the use of common equity financing only.
e.
None of the above is a correct answer.
ANSWER:
c
POINTS:
1
DIFFICULTY:
Easy
ACCREDITING STANDARDS:
Blooms Taxonomy-5 – Knowledge
Business Program-6 – Reflective Thinking
DISC-FIN-01 – Stocks and Bonds
DISC-FIN-03 – Capital Budgeting and Cost of Capital
Time Estimate-a – 5 min.
TOPICS:
Leverage
5. Which of the following is a key determinant of operating leverage?
a.
Level of debt.
b.
Physical location of production facilities.
c.
Cost of debt.
d.
Technology.
e.
Capital structure.
ANSWER:
d
POINTS:
1
DIFFICULTY:
Easy
ACCREDITING STANDARDS:
Blooms Taxonomy-5 – Knowledge
Business Program-6 – Reflective Thinking
DISC-FIN-01 – Stocks and Bonds
DISC-FIN-03 – Capital Budgeting and Cost of Capital
Principles of Finance, 6e
Besley/Brigham
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a.
Level of debt.
b.
Technology.
c.
Labor costs.
d.
Amount of fixed assets used by the firm.
e.
Variable cost of goods sold.
ANSWER:
a
POINTS:
1
DIFFICULTY:
Easy
ACCREDITING STANDARDS:
Blooms Taxonomy-5 – Knowledge
Business Program-6 – Reflective Thinking
DISC-FIN-01 – Stocks and Bonds
DISC-FIN-03 – Capital Budgeting and Cost of Capital
Time Estimate-a – 5 min.
TOPICS:
Financial Leverage
9. The financial breakeven point for a firm is defined as the level of ____ that produces ____ equal to zero.
a.
sales; EBIT.
b.
sales; gross profit.
c.
EPS; sales.
d.
gross profit; EBIT.
e.
EBIT; EPS.
ANSWER:
e
POINTS:
1
DIFFICULTY:
Easy
ACCREDITING STANDARDS:
Blooms Taxonomy-5 – Knowledge
Business Program-6 – Reflective Thinking
DISC-FIN-01 – Stocks and Bonds
DISC-FIN-03 – Capital Budgeting and Cost of Capital
Time Estimate-a – 5 min.
TOPICS:
Financial Breakeven Point
10. Which of the following is (are) typically part of the cash budget?
a.
Payments lag.
b.
Payment for plant construction.
c.
Cumulative cash.
d.
All of the above.
e.
Only answers a and c above.
ANSWER:
d
POINTS:
1
DIFFICULTY:
Easy
ACCREDITING STANDARDS:
Blooms Taxonomy-5 – Knowledge
Business Program-6 – Reflective Thinking
DISC-FIN-01 – Stocks and Bonds
Principles of Finance, 6e
Besley/Brigham
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DISC-FIN-03 – Capital Budgeting and Cost of Capital
Time Estimate-a – 5 min.
TOPICS:
Cash Budget
11. Considering each action independently and holding other things constant, which of the following actions would
reduce the firm’s need for additional capital?
a.
An increase in the dividend payout ratio.
b.
A decrease in the profit margin.
c.
A decrease in the days sales outstanding.
d.
An increase in expected sales growth.
e.
A decrease in the accrual accounts (accrued wages and taxes).
ANSWER:
c
POINTS:
1
DIFFICULTY:
Moderate
ACCREDITING STANDARDS:
Blooms Taxonomy-5 – Knowledge
Business Program-6 – Reflective Thinking
DISC-FIN-01 – Stocks and Bonds
DISC-FIN-03 – Capital Budgeting and Cost of Capital
Time Estimate-a – 5 min.
TOPICS:
Additional Funds Needed
12. Holding other things constant, the additional funds required for financing the firm’s operations would be reduced with
an increase in the firm’s
a.
Dividend payout ratio.
b.
Profit margin.
c.
Cost of external funds.
d.
Expected growth rate in sales.
e.
Tax rate.
ANSWER:
b
POINTS:
1
DIFFICULTY:
Moderate
ACCREDITING STANDARDS:
Blooms Taxonomy-5 – Knowledge
Business Program-6 – Reflective Thinking
DISC-FIN-01 – Stocks and Bonds
DISC-FIN-03 – Capital Budgeting and Cost of Capital
Time Estimate-a – 5 min.
TOPICS:
Additional Funds Needed
13. Which of the following statements is correct?
a.
Any forecast of financial requirements involves determining how much money the firm will need and is
obtained by adding together increases in assets and spontaneous liabilities and subtracting operating income.
b.
The projected balance sheet method of forecasting financial needs requires only a forecast of the firm’s balance
sheet. Although a forecasted income statement helps clarify the financing needs, it is not essential to the
balance sheet method.
Principles of Finance, 6e
Besley/Brigham
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c.
Because dividends are paid after taxes from retained earnings, dividends are not included in the projected
balance sheet method of forecasting.
d.
The projected balance sheet method forces recognition of the fact that new financing creates additional
financial obligations. For instance, new financing can increase expenses which can actually decrease taxes but
increase the projected financial need.
e.
Financing feedback describes the effect on the firm’s stock price of the announcement that the firm will sell
new equity or debt to raise needed capital.
ANSWER:
d
POINTS:
1
DIFFICULTY:
Moderate
ACCREDITING STANDARDS:
Blooms Taxonomy-5 – Knowledge
Business Program-6 – Reflective Thinking
DISC-FIN-01 – Stocks and Bonds
DISC-FIN-03 – Capital Budgeting and Cost of Capital
Time Estimate-a – 5 min.
TOPICS:
Projected Balance Sheet Method
14. The degree of operating leverage has which of the following characteristics?
a.
The closer the firm is operating to breakeven quantity, the smaller the DOL.
b.
A change in quantity demanded will produce the same percentage change in EBIT as an identical change in
price per unit of output, other things held constant.
c.
The DOL is not a fixed number for a given firm, but will depend upon the time zero values of the economic
variables Q (Quantity), P (Price), and V (Volume).
d.
The DOL relates the change in net income to the change in net operating income.
e.
If the firm has no debt, the DOL will equal 1.
ANSWER:
c
POINTS:
1
DIFFICULTY:
Moderate
ACCREDITING STANDARDS:
Blooms Taxonomy-5 – Knowledge
Business Program-6 – Reflective Thinking
DISC-FIN-01 – Stocks and Bonds
DISC-FIN-03 – Capital Budgeting and Cost of Capital
Time Estimate-a – 5 min.
TOPICS:
DOL
15. The degree of financial leverage for Aries Inc. is 3.0, and the degree of financial leverage for Common Capital
Corporation is 6.2. According to this information, which firm is considered to have greater overall (total) risk?
a.
Aries Inc.
b.
Common Capital Corporation.
c.
The degree of financial leverage is a measure of financial risk, so the only conclusion that can be made with
the information given is that Common Capital Corporation has greater financial risk than Aries Inc.⎯ we
cannot tell which firm has greater total risk.
d.
To determine which firm has the greater total risk, we need to know the financial breakeven point of each
firm.
Principles of Finance, 6e
Besley/Brigham
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© 2015 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license
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e.
None of the above is a correct answer.
ANSWER:
c
POINTS:
1
DIFFICULTY:
Moderate
ACCREDITING STANDARDS:
Blooms Taxonomy-5 – Knowledge
Business Program-6 – Reflective Thinking
DISC-FIN-01 – Stocks and Bonds
DISC-FIN-03 – Capital Budgeting and Cost of Capital
Time Estimate-a – 5 min.
TOPICS:
Leverage and Risk
16. The degree of financial leverage has which of the following characteristics?
a.
The closer the firm is operating to its financial breakeven point, the smaller the DFL.
b.
Other things held constant, if a firm has fixed financial costs, such as interest, a change in EBIT will result in
an equivalent change in EPS.
c.
For a particular firm, the DFL is not a fixed number⎯its value depends on the level of operations and the fixed
financial costs associated with those operations.
d.
The DFL relates the change in EBIT to the change in sales.
e.
If a firm has common stock, it is impossible for its DFL to equal 1.0.
ANSWER:
c
POINTS:
1
DIFFICULTY:
Moderate
ACCREDITING STANDARDS:
Blooms Taxonomy-5 – Knowledge
Business Program-6 – Reflective Thinking
DISC-FIN-01 – Stocks and Bonds
DISC-FIN-03 – Capital Budgeting and Cost of Capital
Time Estimate-a – 5 min.
TOPICS:
DFL
17. If a firm’s degree of total leverage (DTL) is 8.0, which of the following must be correct?
a.
The firm must have fixed operating costs.
b.
The firm must have fixed financial costs.
c.
The firm must have both fixed operating costs and fixed financial costs.
d.
The firm must have some fixed costs, but not enough information is given to determine whether the fixed costs
are operating, financial, or both.
e.
With the information given, we cannot tell whether the firm has any fixed costs (either operating or financial)
at all.
ANSWER:
d
POINTS:
1
DIFFICULTY:
Moderate
ACCREDITING STANDARDS:
Blooms Taxonomy-5 – Knowledge
Business Program-6 – Reflective Thinking
DISC-FIN-01 – Stocks and Bonds
DISC-FIN-03 – Capital Budgeting and Cost of Capital
Principles of Finance, 6e
Besley/Brigham
Chapter 08
EBIT
= PQ − VQ − FC
$95,000
= P(55,000) −(0.4)P(55,000) −$110,000
$205,000
= 33,000P
Common stock
3,200
Retained earnings
4,000
Total assets
$36,200
Total liabilities and equity
$36,200
Jill has just invented a non-slip wig for men which she expects will cause sales to double, increasing after-tax net income
to $1,000. She feels that she can handle the increase without adding any fixed assets. (1) Will Jill need any outside capital
if she pays no dividends? (2) If so, how much?
a.
No; zero
b.
Yes; $7,700
c.
Yes; $1,700
d.
Yes; $700
e.
No; there will be a $700 surplus.
ANSWER:
d
RATIONALE:
Balance sheet solution:
Pro Forma Balance Sheet
Cash
$ 1,600
Accounts payable
$ 700
Accounts receivable
900
Accrued wages
300
Inventory
1,900
Notes payable
2,000
Net fixed assets
34,000
Mortgage
26,500
Common stock
3,200
Retained earnings
5,000
Total assets
$38,400
Total liabilities & equity
$37,700
AFN = $38,400 − $37,700 = $700.
POINTS:
1
DIFFICULTY:
Easy
ACCREDITING STANDARDS:
Blooms Taxonomy-1 – Analyzing
Business Program-3 – Analytic
DISC-FIN-01 – Stocks and Bonds
DISC-FIN-05 – Financial Analysis and Cash Flows
Time Estimate-a – 5 min.
TOPICS:
Additional Funds Needed
23. The Price Company will produce 55,000 widgets next year. Variable costs will equal 40 percent of sales, while
operating fixed costs will total $110,000. At what price must each widget be sold for the company to achieve an EBIT of
$95,000?
a.
$2.00
b.
$4.45
c.
$5.00
d.
$5.37
e.
$6.21
ANSWER:
e
Principles of Finance, 6e
Besley/Brigham
Chapter 08
Accounts receivable
21
Notes payable
40.0
Fixed assets
180
Common stock
80.0
d.
$5,500
e.
The answer depends on this year’s sales level.
ANSWER:
c
RATIONALE:
Balance sheet solution:
Pro Forma Balance Sheet
Accounts payable
$ 1,500
Current assets
$ 7,500
Accruals
1,500
Net fixed assets
15,000
Long-term debt
5,000
Common equity
10,000
Total assets
$22,500
Total liabilities and
equity
$18,000
AFN = $22,500 − $18,000 = $4,500.
POINTS:
1
DIFFICULTY:
Moderate
ACCREDITING STANDARDS:
Blooms Taxonomy-1 – Analyzing
Business Program-3 – Analytic
DISC-FIN-03 – Capital Budgeting and Cost of Capital
DISC-FIN-05 – Financial Analysis and Cash Flows
Time Estimate-a – 5 min.
TOPICS:
Additional Funds Needed
26. A firm has the following balance sheet:
Cash
$ 20
Accounts payable
$ 20
Accounts receivable
20
Notes payable
40
Inventory
20
Long-term debt
80
Fixed assets
180
Common stock
80
Retained earnings
20
Total assets
$240
Total liabilities and equity
$240
Sales for the year just ended were $400, and fixed assets were used at 80 percent of capacity, but its current assets were at
optimal levels. Sales are expected to grow by 5 percent next year, the profit margin is 5 percent, and the dividend payout
ratio is 60 percent. How much additional funds (AFN) will be needed?
a.
$4.6
b.
−$6.4 (Surplus)
c.
$2.4
d.
−$4.6 (Surplus)
e.
$0.8
ANSWER:
b
RATIONALE:
S0 = $400. S1 = S0 × 1.05 = $420. SCapacity = $400/0.80 = $500. No new fixed assets are
needed to support sales increase. Balance sheet solution:
Pro Forma Balance Sheet
Cash
$ 21
Accounts payable
$ 21.0
Principles of Finance, 6e
Besley/Brigham
Chapter 08
POINTS:
1
DIFFICULTY:
Moderate
Business Program-3 – Analytic
b.
175,000 units
c.
75,000 units
d.
200,000 units
e.
0 units
ANSWER:
b
RATIONALE:
Calculate the old and new breakeven volumes using the old data and new projections:
Old QBE = $120,000/($1.20 − $0.60) = $120,000/$0.60 = 200,000 units. New QBE =
$240,000/($1.05 − $0.41) = $240,000/$0.64 = 375,000 units. Change in breakeven
volume = 375,000 − 200,000 = 175,000 units.
POINTS:
1
DIFFICULTY:
Moderate
ACCREDITING STANDARDS:
Blooms Taxonomy-1 – Analyzing
Business Program-3 – Analytic
DISC-FIN-03 – Capital Budgeting and Cost of Capital
DISC-FIN-05 – Financial Analysis and Cash Flows
Time Estimate-a – 5 min.
TOPICS:
Change in Breakeven Volume
30. Martin Corporation currently sells 180,000 units per year at a price of $7.00 per unit; its variable cost is $4.20 per unit;
and fixed operating costs are $400,000. Martin is considering expanding into two additional states which would increase
its fixed costs to $650,000 and would increase its variable unit cost to an average of $4.48 per unit. If Martin expands it
expects to sell 270,000 units at $7.00 per unit. By how much will Martin’s operating breakeven sales dollar level change?
a.
$183,333
b.
$456,500
c.
$805,556
d.
$910,667
e.
$1,200,000
ANSWER:
c
RATIONALE:
Calculate the initial breakeven volume in dollars:
Calculate
the new breakeven volume in sales dollars:
The
Principles of Finance, 6e
Besley/Brigham
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© 2015 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license
distributed with a certain product or service or otherwise on a password-protected website for classroom use.
2010
2011
1st pass
2011
2nd pass
Sales
$1,000.00
Operating costs
800.00
EBIT
$ 200.00
Interest
16.00
EBT
$ 184.00
Taxes (40%)
73.60
Net Income
$ 110.40
Dividends (60%)
66.24
Add’n to R.E.
$ 44.16
Current Assets
$ 700.00
Net fixed Assets
300.00
Total assets
$1,000.00
A/P and Accruals
$ 150.00
N/P 8.00%
200.00
Common stock
150.00
Retained earnings
500.00
Total Liab & Equity
$1,000.00
AFN
Profit Margin
11.04%
ROE
16.98%
Debt/Assets
35.00%
Current ratio
2.00 times
Payout Ratio
60.00%
AFN Financing:
Weights:
Dollars:
Interest
Expense:
N/P
0.3500
Common Stock
0.6500
Growth rate: 50.00%
1.0000
a.
16.98%
b.
23.73%
c.
25.68%
d.
19.61%
e.
23.24%
ANSWER:
d
RATIONALE:
2011
2011