The discount rate that makes the net present value of an investment exactly equal to
zero is called the:
A. external rate of return.
B. internal rate of return.
C. average accounting return.
D. profitability index.
E. equalizer.
Answer:
A firm that adopts a flexible short-term financial policy is more apt to have:
A. lower carrying costs than shortage costs.
B. lower shortage costs than carrying costs.
C. stricter limits on credit sales than the average firm.
D. a relatively low level of current assets.
E. greater short-term financing needs than if the firm adopted a restrictive policy.
Answer:
The effects of financial leverage depend on the operating earnings of the company.
Based on this relationship, assume you graph the EPS and EBI for a firm, while
ignoring taxes. Which one of these statements correctly states a relationship illustrated
by the graph?
A. Financial leverage decreases the slope of the EPS line.
B. Below the break-even point unlevered structures have a lower EPS for every dollar
of EBI than levered structures do.
C. Above the break-even point the increase in EPS for unlevered structures is greater
than that of levered structures for every dollar increase in EBI.
D. Leverage only provides value above the break-even point.
E. Above the break-even point, the unlevered structure is preferred.
Answer:
Angie’s is analyzing a proposed project. The company expects to sell 1,800 units, give
or take 6 percent. The expected variable cost per unit is $39 and the expected fixed
costs are $32,500. Cost estimates are considered accurate within a plus or minus 4
percent range. The depreciation expense is $6,400. The sale price is estimated at $64 a
unit, give or take 2 percent. What is the amount of the fixed cost per unit under the
worst-case scenario?
A. $24.55
B. $16.67
C. $19.98
D. $16.02
E. $18.43
Answer:
“A commodity costs the same regardless of what currency is used to purchase it or
where it is selling.” This statement expresses the concept of:
A. absolute purchasing power parity.
B. relative purchasing power parity.
C. the international Fisher effect.
D. unbiased forward rates.
E. interest rate parity.
Answer:
Insolvency can be defined as:
A. not having cash.
B. being illiquid.
C. an inability to pay one’s debts.
D. an inability to increase one’s debts.
E. the present value of payments being less than assets.
Answer:
Which one of these statements is true?
A. The Black Scholes model is most applicable to complex situations.
B. The binomial model is limited to a two-period time sequence.
C. The binomial model is limited to ten time intervals for any single analysis.
D. The binomial model is basically equivalent to the Black Scholes model when there is
a single time interval.
E. The Black Scholes model is simpler to use, but for complex situations, the binomial
model is preferred.
Answer:
The common stock of Mercury Motors is selling for $28.97 a share while one-year U.S.
Treasury securities are currently yielding 2.8 percent. What is the current value per
share of a one-year call option on Mercury Motors stock if the exercise price is $22.50
and you assume the option will finish in the money?
A. $6.29
B. $6.40
C. $6.65
D. $7.67
E. $7.08
Answer:
For investment projects, the internal rate of return (IRR):
A. rule indicates acceptance of an investment when the IRR is less than the discount
rate.
B. is the rate generated solely by the cash flows of the investment.
C. is used primarily to rank projects of varying sizes.
D. is the rate that causes the net present value of a project to equal the project’s initial
cost.
E. can effectively be used to compare all types of projects.
Answer:
Northern Woods is considering two methods of production for a new product. The first
method will require fixed assets costing $450,000 that will be depreciated straight-line
to zero over the project life, annual fixed costs of $316,000, and variable costs per unit
of $8.64. The second method will require fixed assets costing $790,000, annual fixed
costs of $211,000, and variable costs per unit of $6.57. The new product will sell for
$20 a unit, have a life of 3 years, a discount rate of 16 percent, and a tax rate of 35
percent. Should the produce be produced and if so, which method of production should
be implemented? Justify your answer.
A. yes; Method A; because it has the lower initial cost
B. yes; Method A; because it will break-even on a financial basis with fewer annual
sales
C. yes; Method B; because it has lower annual costs
D. yes; Method B; because it has a lower financial break-even quantity
E. no; neither method of production provides a means of obtaining a financial
break-even point within the expected life of the project
Answer:
The accounts receivable policy is generally set by the:
A. purchasing manager.
B. credit manager.
C. controller.
D. production manager.
E. payables manager.
Answer:
An increase in which one of the following will decrease the value of a call option?
A. interest rate
B. exercise price
C. time to expiration
D. stock volatility
E. underlying asset price
Answer:
Leslie purchased 100 shares of GT stock on Wednesday, June 7th. Marti purchased 100
shares of GT stock on Thursday, July 8th. GT declared a dividend on June 20th to
shareholders of record on July 12th that is payable on August 1st. Which one of the
following statements concerning the dividend paid on August 1st is correct given this
information?
A. Neither Leslie nor Marti are entitled to the dividend.
B. Leslie is entitled to the dividend but Marti is not.
C. Marti is entitled to the dividend but Leslie is not.
D. Both Marti and Leslie are entitled to the dividend.
E. Both Marti and Leslie are entitled to one-half of the dividend amount.
Answer:
The returns on a portfolio over the last five years were: –5.2 percent, 21.6 percent, 4.5
percent, 11.7 percent, and 5.9 percent. What is the standard deviation of these returns?
A. 8.82%
B. 9.21%
C. 9.86%
D. 9.08%
E. 9.73%
Answer:
Rubber Tires receives three checks a month. The first check averages $842,000 and
clears in 1.2 days. The second check averages $318,000 and clears in .7 days. The third
check averages $465,000 and clears in 2 days. What is the average daily float? Assume
a 30-day month.
A. $69,600
B. $72,100
C. $73,600
D. $74,500
E. $68,900
Answer:
Wilbert’s Clothing Stores just paid a $1.20 annual dividend and increases its dividend
by 2.5 percent annually. You would like to purchase 100 shares of stock in this firm but
realize that you will not have the funds to do so for another three years. If you desire a
10 percent rate of return, how much should you expect to pay for 100 shares when you
can afford to buy this stock? Ignore trading costs.
A. $1,640
B. $1,681
C. $1,723
D. $1,766
E. $1,810
Answer:
A project is expected to create operating cash flows of $26,500 a year for four years.
The initial cost of the fixed assets is $62,000. These assets will be worthless at the end
of the project. An additional $3,000 of net working capital will be required throughout
the life of the project. What is the project’s net present value if the required rate of
return is 12 percent?
A. $19,208.11
B. $14,028.18
C. $15,306.09
D. $17,396.31
E. $21,954.17
Answer:
Net present value:
A. cannot be used when deciding between two mutually exclusive projects.
B. is more useful than the internal rate of return when comparing different sized
projects.
C. is rarely used by small firms according to the Graham and Harvey survey.
D. is not as widely used in practice as payback and discounted payback.
E. ignores the risk of a project.
Answer:
Selling goods and services on credit is:
A. an investment in a customer.
B. never necessary unless customers cannot pay for the goods.
C. a decision independent of customers.
D. permissible only if your bank lends the money.
E. never a wise decision.
Answer:
Shawn has $2,500 invested at a guaranteed rate of 4.35 percent, compounded annually.
What will his investment be worth after five years?
A. $2,997.04
B. $3,288.00
C. $3,321.32
D. $3,093.16
E. $2,857.59
Answer:
If the CAPM is used to estimate the cost of equity capital, the expected excess market
return is equal to the:
A. return on the stock minus the risk-free rate.
B. difference between the return on the market and the risk-free rate.
C. beta times the market risk premium.
D. beta times the risk-free rate.
E. market rate of return.
Answer:
Which one of the following is an example of unsystematic risk?
A. the inflation rate increases unexpectedly
B. the federal government lowers income taxes
C. an oil tanker runs aground and spills its cargo
D. interest rates decline by one-half of one percent
E. the GDP rises by .5 percent more than anticipated
Answer:
Suppose Carz common stock has a market factor beta of .9, the risk-free rate is 3.5
percent, inflation is expected to be 2.6 percent, and the expected market risk premium is
7.2 percent. What is the expected return based on the one-factor arbitrage pricing
model?
A. 13.05%
B. 9.98%
C. 7.72 %
D. 12.32%
E. 12.58%
Answer:
A criticism of the CAPM is that it:
A. ignores the rate of return on the market portfolio.
B. ignores the risk-free rate.
C. requires a single measure of systematic risk.
D. utilizes too many factors.
E. contradicts the single-factor APT model.
Answer:
The Galley purchased some 3-year MACRS property two years ago at a cost of
$19,800. The MACRS rates are 33.33 percent, 44.44 percent, 14.82 percent, and 7.41
percent. The firm no longer uses this property so is selling it today at a price of $13,500.
What is the amount of the pretax profit on the sale?
A. $11,140.48
B. $9,098.46
C. $10,500.00
D. $8,016.67
E. $10,702.40
Answer:
If the producer of a product has entered into a fixed price sale agreement for that output,
the producer faces:
A. a nice steady profit because the output price is fixed.
B. an uncertain profit if the input prices are volatile. This risk can be reduced by a short
hedge.
C. an uncertain profit if the input prices are volatile. This risk can be reduced by a long
hedge.
D. a modest profit if the input prices are stable. This risk can be reduced by a long
hedge.
E. a modest profit if the input prices are stable. This risk can be reduced by a short
hedge.
Answer:
The cost of preferred stock:
A. should be adjusted for taxes when computing WACC.
B. is ignored by all firms when computing WACC.
C. is generally calculated using the overall firm’s beta.
D. is equal to the stock’s dividend yield.
E. is set equal to the pretax cost of debt since it is a fixed income security.
Answer:
The Beacon has proposed a reorganization plan based on a going-concern value of $1.3
million after court costs and delinquent wages and taxes. The proposed financial
structure is $400,000 in new mortgage debt, $200,000 in subordinated debt, and
$700,000 in new equity. Secured creditors currently have a mortgage lien for $600,000
and the unsecured creditors are owed $950,000. What should the unsecured creditors
receive if the reorganization plan is approved?
A. $700,000 in equity securities
B. $200,000 in subordinated debt and $700,000 in equity securities
C. $950,000 in new equity securities
D. 61.3% of the new mortgage debt, 61.3% of the subordinated debt, and 61.3% of new
equity
E. 82.6% of the subordinated debt and 82.6% of new equity
Answer:
The Meldrum Co. is analyzing a proposed project. The company expects to sell 3,000
units, give or take 15 percent. The expected variable cost per unit is $8 and the expected
fixed costs are $12,500. Cost estimates are considered accurate within a plus or minus 5
percent range. The depreciation expense is $4,000. The sale price is estimated at $18 a
unit, give or take 2 percent. What is the amount of the fixed cost per unit under the
worst-case scenario?
A. $4.17
B. $4.66
C. $5.15
D. $5.35
E. $6.02
Answer:
Which one of the following parties is considered a stakeholder of a firm?
A. customer
B. short-term creditor
C. long-term creditor
D. preferred stockholder
E. common stockholder
Answer:
A cost that has already been paid, or the liability to pay has already been incurred, is
a(n):
A. salvage value expense.
B. net working capital expense.
C. sunk cost.
D. opportunity cost.
E. erosion cost.
Answer:
Seven years ago, Carlos took out a 30-year mortgage for $185,000 at 5.6 percent. He
has made all of the monthly payments as agreed. What is his current loan balance?
A. $ 157,308.74
B. $141,833.33
C. $164,621.06
D. $148,211.09
E. $142,779.47
Answer:
Suppose you own a risky asset with an expected return of 12.6 percent and a standard
deviation of 18.2 percent. If the returns are normally distributed, the most accurate
probability that the stock will return more than 50 percent in any one given year is less
than:
A. .025%.
B. .05%.
C. 2.5%.
D. .05%.
E. 1.25%.
Answer:
Discuss MM Propositions I and II in a world with taxes. List the basic assumptions,
results, and intuition of the model.
Answer:
What are the lessons learned from capital market history? What evidence is there to
suggest these lessons are correct?
Answer:
What is the pecking order theory and what are the implications that arise from this
theory?
Answer:
The IRR rule is said to be a special case of the NPV rule. Explain why this is so and
why IRR has some limitations NPV does not.
Answer:
Discuss some potential shortcomings of the standard decision tree analysis.
Answer:
Explain how inventory is managed under an ABC inventory system.
Answer:
Why would the company pay the executive in options as opposed to salary?
Answer:
Compensating balances are often included as a requirement for a line of credit. These
balances provide income to banks but add to the cost of financing for the borrower.
Why, then, would borrowers agree to such an arrangement?
Answer:
Explain how a convertible bond’s value is determined.
Answer:
Explain the main differences between debt and equity.
Answer:
Explain why executives who hold stock options prefer stock repurchases over stock
dividends.
Answer:
Identify several of the differences between a forward contract and a futures contract.
Answer:
Why is cash flow management important?
Answer: