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Chapter 01: An Overview of Financial Management
True / False
Note that there is an overlap between the T/F and multiple-choice questions, as some of the T/F statements are used in
multiple-choice questions.
Multiple Choice: True/False
1. In most corporations, the CFO ranks under the CEO.
a.
True
b.
False
2. The Chairman of the Board must also be the CEO.
a.
True
b.
False
3. The board of directors is the highest ranking body in a corporation, and the chairman of the board is the highest ranking
individual. The CEO generally works under the board and its chairman, and the board generally has the authority to
remove the CEO under certain conditions. The CEO, however, cannot remove the board, but he or she can endeavor to
have the board voted out and a new board voted in should a conflict arise. It is possible for a person to simultaneously
serve as CEO and chairman of the board, though many corporate control experts believe it is bad to vest both offices in
the same person.
a.
True
Chapter 01: An Overview of Financial Management
b.
False
4. Partnerships and proprietorships generally have a tax advantage over corporations.
a.
True
b.
False
5. A disadvantage of the corporate form of organization is that corporate stockholders are more exposed to personal
liabilities in the event of bankruptcy than are investors in a typical partnership.
a.
True
b.
False
Chapter 01: An Overview of Financial Management
6. An advantage of the corporate form of organization is that corporations are generally less highly regulated than
proprietorships and partnerships.
a.
True
b.
False
7. Some partners in a partnership may have different rights, privileges, and responsibilities than other partners.
a.
True
b.
False
8. One advantage of the corporate form of organization is that it avoids double taxation.
a.
True
b.
False
Chapter 01: An Overview of Financial Management
9. It is generally harder to transfer one's ownership interest in a partnership than in a corporation.
a.
True
b.
False
10. One danger of starting a proprietorship is that you may be exposed to personal liability if the business goes bankrupt.
This problem would be avoided if you formed a corporation to operate the business.
a.
True
b.
False
11. If a corporation elects to be taxed as an S corporation, then it can avoid the corporate tax. However, its stockholders
will have to pay personal taxes on the firm's net income.
a.
True
b.
False
Chapter 01: An Overview of Financial Management
12. If a corporation elects to be taxed as an S corporation, then both it and its stockholders can avoid all Federal taxes.
This provision was put into the Federal Tax Code in order to encourage the formation of small businesses.
a.
True
b.
False
13. It is generally less expensive to form a corporation than a proprietorship because, with a proprietorship, extensive
legal documents are required.
a.
True
b.
False
14. The more capital a firm is likely to require, the greater the probability that it will be organized as a corporation.
a.
True
b.
False
Chapter 01: An Overview of Financial Management
15. One disadvantage of forming a corporation rather than a partnership is that this makes it more difficult for the firm's
investors to transfer their ownership interests.
a.
True
b.
False
16. Organizing as a corporation makes it easier for the firm to raise capital. This is because corporations' stockholders are
not subject to personal liabilities if the firm goes bankrupt and also because it is easier to transfer shares of stock than
partnership interests.
a.
True
b.
False
17. In order to maximize its shareholders' value, a firm's management must attempt to maximize the stock price in the
long run, or the stock's "intrinsic value."
a.
True
b.
False
Chapter 01: An Overview of Financial Management
18. If management operates in a manner designed to maximize the firm's expected profits for the current year, this will
also maximize the stockholders' wealth as of the current year.
a.
True
b.
False
19. In order to maximize its shareholders' value, a firm's management must attempt to maximize the expected EPS.
a.
True
b.
False
Chapter 01: An Overview of Financial Management
20. In order to maximize its shareholders' value, a firm's management must attempt to maximize the stock price on a
specific target date.
a.
True
b.
False
21. As a result of financial scandals occurring during the past decade, there has been a strong push to improve business
ethics.
a.
True
b.
False
22. There are many types of unethical business behavior. One example is where executives provide information that they
know is incorrect to banks and to stockholders. It is illegal to provide such information to banks, but it is not illegal to
provide it to stockholders because they are the owners of the firm, not outsiders.
a.
True
b.
False
Chapter 01: An Overview of Financial Management
23. A stock's market price would equal its intrinsic value if all investors had all the information that is available about the
stock. In this case the stock's market price would equal its intrinsic value.
a.
True
b.
False
24. If a stock's market price is above its intrinsic value, then the stock can be thought of as being undervalued, and it
would be a good buy.
a.
True
b.
False
25. If a stock's intrinsic value is greater than its market price, then the stock is overvalued and should be sold.
a.
True
b.
False
Chapter 01: An Overview of Financial Management
26. For a stock to be in equilibrium as the book defines it, its market price should exceed its intrinsic value.
a.
True
b.
False
27. The term "marginal investor" means an investor who is active in the market and would tend to buy a stock if its price
fell and sell it if it rose, barring any new information coming out about the stock. It is the "marginal investor" who
determines the actual stock price.
a.
True
b.
False
28. Managers always attempt to maximize the long-run value of their firms' stocks, or the stocks' intrinsic values. This is
exactly what stockholders desire. Thus, conflicts between stockholders and managers are not possible.
a.
True
Chapter 01: An Overview of Financial Management
b.
False
29. A hostile takeover is said to occur when another corporation or group of investors gains voting control over a firm and
replaces the old managers. If the old managers were managing the firm inefficiently, then hostile takeovers can improve
the economy. However, hostile takeovers are controversial, and legislative actions have been taken to make them more
difficult to undertake.
a.
True
b.
False
30. If a lower level person in a firm does something illegal, like "cooking the books" to understate costs and thereby
increase profits above the correct profits because he or she was told to do so by a superior, the lower level person cannot
be prosecuted but the superior can be prosecuted.
a.
True
b.
False
Chapter 01: An Overview of Financial Management
31. If someone deliberately understates costs and thereby increases profits, this can cause the stock price to rise above its
intrinsic value. The stock price will probably fall in the future. Also, those who participated in the fraud can be
prosecuted, and the firm itself can be penalized.
a.
True
b.
False
32. If a firm's board of directors wants to maximize value for its stockholders in general (as opposed to some specific
stockholders), it should design an executive compensation system whose focus is on the firm's long-term value.
a.
True
b.
False
Multiple Choice
Multiple Choice: Conceptual
Please note that some of the answer choices, or answers that are very close, are used in different questions. This has
caused us no difficulties, but please take this into account when you make up exams.
Chapter 01: An Overview of Financial Management
33. Which of the following statements is CORRECT?
a.
One of the disadvantages of incorporating your business is that you could become subject to the firm's
liabilities in the event of bankruptcy.
b.
Proprietorships are subject to more regulations than corporations.
c.
In any partnership, every partner has the same rights, privileges, and liability exposure as every other partner.
d.
Corporations of all types are subject to the corporate income tax.
e.
Proprietorships and partnerships generally have a tax advantage over corporations.
34. Which of the following statements is CORRECT?
a.
One of the advantages of the corporate form of organization is that it avoids double taxation.
b.
It is easier to transfer one's ownership interest in a partnership than in a corporation.
c.
One of the disadvantages of a proprietorship is that the proprietor is exposed to unlimited liability.
d.
One of the advantages of a corporation from a social standpoint is that every stockholder has equal voting
rights, i.e., "one person, one vote."
e.
Corporations of all types are subject to the corporate income tax.
35. Which of the following statements is CORRECT?
a.
One advantage of forming a corporation is that equity investors are usually exposed to less liability than they
Chapter 01: An Overview of Financial Management
would be in a partnership.
b.
Corporations face fewer regulations than proprietorships.
c.
One disadvantage of operating a business as a proprietor is that the firm is subject to double taxation, because
taxes are levied at both the firm level and the owner level.
d.
It is generally less expensive to form a corporation than a proprietorship because, with a proprietorship,
extensive legal documents are required.
e.
If a partnership goes bankrupt, each partner is exposed to liabilities only up to the amount of his or her
investment in the business.
36. Relaxant Inc. operates as a partnership. Now the partners have decided to convert the business into a corporation.
Which of the following statements is CORRECT?
a.
Relaxant's shareholders (the ex-partners) will now be exposed to less liability.
b.
The company will probably be subject to fewer regulations and required disclosures.
c.
Assuming the firm is profitable, none of its income will be subject to federal income taxes.
d.
The firm's investors will be exposed to less liability, but they will find it more difficult to transfer their
ownership.
e.
The firm will find it more difficult to raise additional capital to support its growth.
37. Which of the following statements is CORRECT?
a.
Corporations generally face fewer regulations than proprietorships.
b.
Corporate shareholders are exposed to unlimited liability.
Chapter 01: An Overview of Financial Management
c.
It is usually easier to transfer ownership in a corporation than in a partnership.
d.
Corporate shareholders are exposed to unlimited liability, but this factor is offset by the tax advantages of
incorporation.
e.
There is a tax disadvantage to incorporation, and there is no way any corporation can escape this disadvantage,
even if it is very small.
38. Which of the following could explain why a business might choose to operate as a corporation rather than as a
proprietorship or a partnership?
a.
Corporations generally face fewer regulations.
b.
Less of a corporation's income is generally subject to federal taxes.
c.
Corporate shareholders are exposed to unlimited liability, but this factor is offset by the tax advantages of
incorporation.
d.
Corporate investors are exposed to unlimited liability.
e.
Corporations generally find it easier to raise large amounts of capital.
39. The primary operating goal of a publicly-owned firm interested in serving its stockholders should be to
Chapter 01: An Overview of Financial Management
a.
Maximize its expected total corporate income.
b.
Maximize its expected EPS.
c.
Minimize the chances of losses.
d.
Maximize the stock price per share over the long run, which is the stock's intrinsic value.
e.
Maximize the stock price on a specific target date.
40. Which of the following statements is CORRECT?
a.
In most corporations, the CFO ranks above the CEO.
b.
By law in most states, the chairman of the board must also be the CEO.
c.
The board of directors is the highest ranking body in a corporation, and the chairman of the board is the
highest ranking individual. The CEO generally works under the board and its chairman, and the board
generally has the authority to remove the CEO under certain conditions. The CEO, however, cannot remove
the board, but he or she can endeavor to have the board voted out and a new board voted in should a conflict
arise. It is possible for a person to simultaneously serve as CEO and chairman of the board, though many
corporate control experts believe it is bad to vest both offices in the same person.
d.
The CFO generally reports to the firm's chief accounting officer, who is normally the controller.
e.
The CFO is responsible for raising capital and for making sure that capital expenditures are desirable, but he
or she is not responsible for the validity of the financial statements, as the controller and the auditors have that
responsibility.
41. Which of the following statements is CORRECT?
