1) Two advantages of financing with current liabilities are flexibility and lower interest
cost.
2) The opportunity cost of any choice you make is the highest-valued alternative that
you had to give up when you made the choice.
3) Ratios that examine profit relative to investment are useful in evaluating the overall
effectiveness of the firm’s management.
4) The main purpose of using a payable-through draft system is to gain effective control
over field payments.
5) In a lockbox system, customer payments are collected directly by the bank and
deposited immediately in the corporation’s account.
6) Financial structure includes long- and short-term sources of funds.
7) If a firm were to unexpectedly omit payment of its quarterly dividend, that firm’s
stock price would probably drop.
8) Exchange rate risk exists in International Trade Contracts, Foreign Portfolio
Investments, and in Direct Foreign Investments.
9) Commercial paper is an example of spontaneous financing because it is generated by
the day-to-day operations of a company.
10) Under current accounting rules, the plant and equipment account shows the
historical cost (purchase price) of, plus any subsequent improvements to, the plant and
equipment.
11) The future value of an annuity will increase if the interest rate goes up, but the
present value of the same annuity will decrease as the interest rate goes up.
12) The first step in a corporation’s financial forecasting process is the determination of
the firm’s financing needs.
13) A balance sheet reflects the current market value of a firm’s assets and liabilities.
14) ________ is a short-term promissory note sold by large corporations to raise cash.
A) Repurchase agreement
B) Money market mutual fund
C) Commercial paper
D) U.S. Treasury bills
15) In capital budgeting analysis, when computing the weighted average cost of capital,
the CAPM approach is typically used to find which of the following?
A) market value weight of equity
B) pretax component cost of debt
C) after-tax component cost of debt
D) component cost of internal equity
16) Which of the following statements about International Financial Reporting
Standards (IFRS) is NOT true?
A) IFRS sets out broad and general principles that accountants should follow when
preparing financial statements
B) IFRS leaves LESS room for discretion than GAAP does
C) IFRS offers simplicity but also possibly more leeway for accounting malpractice
than does GAAP
D) In 2008, the Securities and Exchange Commission (SEC) announced its plan to
convert U.S. companies from GAAP to IFRS
17) How much would you be willing to pay (rounded to the nearest dollar) for a 20-year
ordinary annuity if the payments are $4,500 per year and you want to earn a rate of
return equal to 5.5% per year?
A) $84,500
B) $63,445
C) $56,734
D) $53,777
18) Baxter Inc. has a target capital structure of 30% debt, 15% preferred stock, and 55%
common equity. The company’s after-tax cost of debt is 7%, its cost of preferred stock
is 11%, its cost of retained earnings is 15%, and its cost of new common stock is 16%.
The company stock has a beta of 1.5 and the company’s marginal tax rate is 35%. What
is the company’s weighted average cost of capital if retained earnings are used to fund
the common equity portion?
A) 11.20%
B) 12.00%
C) 13.80%
D) 14.45%
19) Dividend changes may be used by management as a credible communication tool to
signal investors about future earnings under which of the following dividend policy
theories?
A) the clientele effect
B) the residual dividend theory
C) the information effect
D) the expectations theory
20) Which of the following investments is clearly preferred to the others for a
risk-averse investor?
Investment
A14%12%
B22%20%
C18%16%
A) Investment A
B) Investment B
C) Investment C
D) cannot be determined without additional information
21) The A corporation has an operating profit margin of 20%, operating expenses of
$500,000, and financing costs of $15,000. Therefore
A) the corporation’s gross profit margin is less than 20%
B) the corporation’s net profit margin is greater than 20%
C) the corporation’s gross profit margin is greater than 20%
D) the corporation’s gross profit margin is equal to 20% because gross profit is not
affected by operating expenses or financing costs
22) Table 4-5
Yen Inc.
Balance Sheet
Yen Inc.
Income Statement
For the year ended December 31, 2010
Based on the information contained in Tables 4-5, what was Yen’s operating profit
margin for 2010?
A) 26.50%
B) 21.34%
C) 14.29%
D) 11.67%
23) Septon Inc. has an average collection period of 74 days. What is the accounts
receivable turnover ratio for Septon Inc.?
A) 4.93
B) 2.47
C) 2.66
D) 1.74
24) Statutory restrictions on dividend payments include all of the following EXCEPT
A) if liabilities exceed assets
B) if the amount of the dividend exceeds the firm’s retained earnings
C) if the dividend is being paid from capital invested in the firm
D) if, because of the dividend payment, the firm intends to sell new common stock to
fund its capital budget
25) Which of the following is (are) true?
A) In general, the higher the number of positive NPV investment opportunities for a
firm, the lower the dividend payout ratio
B) If the clientele effect is correct, firms should follow a constant dividend payout ratio
policy
C) According to the informational content of dividends, an increase in dividends is
always a positive signal
D) In industries with volatile earnings, the residual dividend policy results in the most
consistent dividend stream
26) Stock W has the following returns for various states of the economy:
State of the EconomyProbabilityStock W’s Return
Recession9%-72%
Below Average16%-15%
Average51%16%
Above Average14%35%
Boom10%85%
Stock W’s standard deviation of returns is
A) 12%
B) 29%
C) 37%
D) 43%
27) Assume that a firm has a steady record of paying high dividends for years. A new
management team decided to cut the current year’s dividend in half without disclosing
why. The market value of the stock fell 35% on the day the dividend cut was
announced. Which of the following would best explain the stock market’s reaction to
the announcement?
A) empirical theory
B) dividend irrelevance theory
C) residual dividend theory
D) information effect
28) Rogue Industries reported the following items for the current year: Sales =
$3,000,000; Cost of Goods Sold = $1,500,000; Depreciation Expense = $170,000;
Administrative Expenses = $150,000; Interest Expense = $30,000; Marketing Expenses
= $80,000; and Taxes = $300,000; Rogue’s operating profit margin is equal to
A) 25.67%
B) 35.67%
C) 36.67%
D) 50.00%
29) Which of the following would NOT normally be considered a “flotation cost”?
A) underwriter’s spread
B) dividends
C) legal fees
D) printing and engraving expenses
30) You are considering buying some stock in Continental Grain. Which of the
following are examples of non-diversifiable risks?
I.Risk resulting from a general decline in the stock market.
II.Risk resulting from a possible increase in income taxes.
III.Risk resulting from an explosion in a grain elevator owned by Continental.
IV.Risk resulting from a pending lawsuit against Continental.
A) I and II
B) III and IV
C) I only
D) II, III, and IV
31) A corporation with very high growth prospects and many positive NPV projects to
fund may want to increase its dividend based on
A) the tax bias against capital gains
B) the residual dividend theory
C) the information effect
D) the very low agency costs of the corporation
32) Stan’s Cans, Inc. expects to earn $150,000 next year after taxes on sales of
$2,200,000. Stan’s manufactures only one size of garbage can. Stan sells his cans for $8
apiece and they have a variable cost of $2.40 apiece. Stan’s tax rate is currently 34%.
a.What are the firm’s expected fixed costs for next year?
b.What is the break-even point in units?
33) Your firm is considering an investment that will cost $920000 today. The
investment will produce cash flows of $450,000 in year 1, $270,000 in years 2 through
4, and $200,000 in year 5. The discount rate that your firm uses for projects of this type
is 11.25%. What is the investment’s net present value?
A) $540,000
B) $378,458
C) $192,369
D) $112,583
34) Which of the following actions would improve a firm’s liquidity?
A) purchasing inventories for cash
B) purchasing inventory on trade credit
C) purchasing inventory with long-term debt
D) buying machinery with long-term debt
35) Table 4-2
Drummond Company
Balance Sheet
Based on the information in Table 4-2, the acid-test ratio is
A) 1.17
B) 1.33
C) 1.39
D) 2.15
36) Fred and Ethel are both considering buying a corporate bond with a coupon rate of
8%, a face value of $1,000, and a maturity date of January 1, 2025. Which of the
following statements is MOST correct?
A) Because both Fred and Ethel will receive the same cash flows if they each buy a
bond, they both must assign the same value to the bond
B) If Fred decides to buy the bond, then Ethel will also decide to buy the bond, if
markets are efficient
C) Fred and Ethel will only buy the bonds if the bonds are rated BBB or above
D) Fred may determine a different value for a bond than Ethel because each investor
may have a different level of risk aversion, and hence a different required return
37) The Missouri River Pendant Company uses commercial paper to satisfy part of its
short-term financing requirements. Next week, it intends to sell $18 million in 90-day
maturity paper on which it expects to have to pay discounted interest at an annual rate
of 7 percent per annum. In addition, Stoney River expects to incur a cost of
approximately $25,000 in dealer placement fees and other expenses of issuing the
paper. What is the effective annual cost of credit to Missouri River?
A) 7.7%
B) 7.5%
C) 7.3%
D) 7.1%
38) Which of the following would be considered a fixed cost in a manufacturing
setting?
A) depreciation
B) direct labor
C) sales commissions
D) direct materials
39) CrochetCo is considering an investment in a project which would require an initial
outlay of $350,000 and produce expected cash flows in years 1-5 of $95,450 per year.
You have determined that the current after-tax cost of the firm’s capital (required rate of
return) for each source of financing is as follows:
Cost of Long-Term Debt7%
Cost of Preferred Stock11%
Cost of Common Stock15%
long-term debt currently makes up 25% of the capital structure, preferred stock 15%,
and common stock 60%. What is the net present value of this project?
A) -$9,306
B) $2,149
C) $5,983
D) $11,568
40) Which of the following is NOT considered in the calculation of incremental cash
flows?
A) tax saving due to increased depreciation expense
B) interest payments if new debt is issued
C) increased dividend payments if additional preferred stock is issued
D) B and C
41) A $1,000 par value 14-year bond with a 10 percent coupon rate recently sold for
$965. The yield to maturity is
A) 10.49%
B) 10.00%
C) 8.87%
D) 6.50%
42) If you want to have 1$2,500 in 57 months, how much money must you put in a
savings account today? Assume that the savings account pays 4.5% and it is
compounded quarterly (round to nearest $1).
A) $8,459
B) $10,106
C) $10,387
D) $11,129
43) Which of the following investments has the highest effective annual return (EAR)?
(Assume that all CDs are of equal risk.)
A) a bank CD that pays 7.00 percent interest compounded daily
B) a bank CD that pays 7.10 percent compounded monthly
C) a bank CD that pays 7.30 percent annually
D) a bank CD that pays 7.25 percent compounded semiannually
44) For accounting purposes a stock split has been defined as a stock dividend
exceeding
A) 25 percent
B) 35 percent
C) 50 percent
D) 66 2/3 percent
45) What is the value on 1/1/13 of the following cash flows:
Date Cash ReceivedAmount of Cash
1/1/14$14,000
1/1/15$20,000
1/1/16$30,000
1/1/17$43,000
1/1/18$57,000
Use a 7% discount rate, and round your answer to the nearest $10.
A) $153,270
B) $128,490
C) $112,350
D) $107,330
46) The present value of a single future sum
A) increases as the number of discount periods increases
B) is generally larger than the future sum
C) depends upon the number of discount periods
D) increases as the discount rate increases
47) In the basic EOQ model the optimal inventory level is the point at which
A) total cost is minimized
B) total revenue is maximized
C) carrying costs are minimized
D) ordering costs are minimized
48) Each of the following factors may cause a corporation to lower its dividend payout
ratio EXCEPT
A) the corporation’s earnings predictability is high
B) the corporation’s current and quick ratios are higher than industry average
C) the corporation’s retained earnings balance is high
D) current common shareholders are unable to participate in new equity offerings
49) Symco Corp. needs $500,000 for 90 days to get through a period of unexpectedly
high oil prices. Symco’s line of credit with the bank allows the company to borrow at
6% per year with a compensating balance of 10% of the amount borrowed. Currently,
Symco has no money on deposit with the bank.
a.Calculate the amount Symco must borrow to meets its needs plus the compensating
balance.
b.What is the annual percentage rate for this financing?
c.If the bank requires discount interest, what is the annual percentage rate for this
financing?
50) Kohler Manufacturing typically achieves one of three production levels in any
given year: 8 million pounds of steel, 10 million pounds of steel, or 16 million pounds
of steel. In tracking some of its costs, Kohler’s controller discovered one cost that was
$10 per pound at a production level of 8 million pounds, $8 per pound at a production
level of 10 million pounds, and $5 per pound at a production level of 16 million
pounds. This is an example of a
A) variable cost
B) fixed cost
C) semivariable cost
D) semifixed cost
51) The manager of Golden Ray Corporation receives a bonus if company profits
exceed $1,000,000 this year. During the final week of the year, the manager changes an
accounting policy that will increase reported profits from $950,000 to $1,025,000,
triggering his bonus. The change in profits of $75,000 will reverse itself in the next
year, and the accounting change has no impact on Golden Ray’s cash flow. Discuss the
above situation as it relates to both an agency problem and efficient markets.
52) If you are willing to pay $1,077 for a 15-year $1,000 par value bond that pays 9
percent interest semiannually, what is your expected rate of return?
53) What is the information effect associated with dividends? Why does it occur?
54) What is arbitrage? Assume that the dollar is quoted $1 = £0.625 in New York and
the pound sterling is quoted as £1 = $1.63 in London. Is there an arbitrage opportunity?
If so, what would an astute trader do? What will happen to the quotes as trades are
made at current prices?
55) Complete the following balance sheet using the information given. Round account
balances to the nearest dollar.
56) Your son will be attending an expensive university in 12 years. You deposit $5,000
per year for 12 years, beginning today. How much money will be in the college fund 12
years from now if the fund earns 8% per year?
57) Memory, Inc. expects earnings per share this year to be $8. If earnings per share
grow at an average annual rate of 6 percent and if Baker pays 60 percent of its earnings
as dividends, what will the expected dividend per share be in 7 years?
58) Your friend Ricky took a finance class and learned about the risk/return tradeoff.
Wanting a high return, Ricky invested in a risky, start-up technology company. A year
later the company went bankrupt and Ricky lost his entire investment. Ricky is furious
with his finance professor for misleading him, claiming he was taught that higher return
goes with higher risk. Explain how Ricky misinterpreted the risk/return tradeoff.
59) A corporation decides to cut its dividend from $2 per share to $1.50 per share. Give
two rationales/theories to explain why this action may cause the stock price to decrease
and two rationales/theories to explain why this action may cause the stock price to
increase.
60) The Rosewood Corporation established a line of credit with a local bank. The
maximum amount that can be borrowed under the terms of the agreement is $500,000 at
a rate of 10 percent. A compensating balance averaging 15 percent of the loan is
required. Prior to the agreement, Rosewood had maintained an account at the bank
averaging $25,000. Any additional funds needed for the compensating balance will also
have to be borrowed at the 10 percent rate. If the firm needs $280,000 for 6 months,
what is the annual cost of the loan?