1) If a project permits a reduction in the level of working capital, this reduction is
assumed to increase cash flows.
2) Market value added is the same as economic value added.
3) The decision to offer credit depends on the probability of payment. You should grant
credit if the expected profit from doing so is greater than the profit from refusing.
4) The statement of cash flows shows the firm’s cash inflows and outflows from
operations as well as from its investments and financing activities.
5) Strictly speaking, the purchase of the stock or assets of another firm is an acquisition.
6) The project cost of capital depends on the project and hence also on the risk of the
company.
7) Once you recognize the fact that debt also increases financial risk and causes
shareholders to demand a higher return on their investment, debt is no cheaper than
equity.
8) The intent of technical analysis is to discover patterns in past stock prices.
9) Securities with the same expected risk should offer the same expected rate of return.
10) The reduction in value over time of intangible assets is known as amortization.
11) Strictly speaking, merger means the combination of all the assets and liabilities of
two firms.
12) The short-term decisions of financial managers are comprised of:
A.capital structure decisions
B.investment decisions
C.financing decisions
D.both investment and financing decisions
13) If the difference between forward and spot exchange rates is positive, interest rate
parity would predict that:
A.the difference in interest rates between countries will be negative
B.the difference in interest rates between countries will be positive
C.there will be no difference in interest rates between countries
D.the difference will be quickly eliminated
14) A manager’s compensation plan that offers financial incentives for increases in
quarterly profitability may create agency problems in that:
A.the managers are not motivated by personal gain
B.the board of directors may claim the credit
C.short-term, not long-term profits become the focus
D.investors desire stable profits
15) What would be the approximate expected price of a stock when dividends are
expected to grow at a 25% rate for 3 years, then grow at a constant rate of 5%, if the
stock’s required return is 13% and next year’s dividend will be $4.00?
A.$61.60
B.$62.08
C.$68.62
D.$79.44
16) A currently used machine costs $10,000 annually to run. What is the maximum that
should be paid to replace the machine with one that will last 3 years and cost only
$4,000 annually to run? The opportunity cost of capital is 12%.
A.$2,000
B.$9,607
C.$14,411
D.$24,018
17) Why is it likely that firms use straight-line depreciation methods for reporting to
shareholders?
A.It increases the NPV of the project
B.It decreases the tax liability of the project
C.It mirrors the market value of the assets
D.It allows asset balances to decline more slowly
18) Last year’s return on equity was 30%. This year the ROE has decreased to 20%,
while the same amount of earnings was generated this year. The firm has no preferred
stock. What caused the decrease?
A.Equity decreased by 10%
B.Equity decreased by 50%
C.Equity increased by 10%
D.Equity increased by 50%
19) What does empirical evidence suggest about the distribution of gains from mergers?
A.Shareholders of the acquired firm gain the most
B.Shareholders of the acquiring firm gain the most
C.Neither group of shareholders is likely to gain
D.Both groups of shareholders gain equally
20) Marginal tax rates are based on:
A.net income
B.total income
C.an additional dollar of income
D.earnings before interest and taxes
21) In a partnership form of organization, income tax liability, if any, is incurred by:
A.the partnership itself
B.the partners individually
C.both the partnership and the partners
D.neither the partnership nor the partners
22) A firm issued three checks for $25,000, $15,000, and $13,000 on January 31, and
deposited a $30,000 check into the bank account. None of the checks were cleared by
February 1 . What is the net float from these transactions?
A.-$23,000
B.+$23,000
C.-$83,000
D.+$83,000
23) Why might an individual or organization be willing to swap fixed-rate loans for
floating-rate loans?
A.They may perceive that interest rates are ready to increase
B.Their cash flows may vary directly with interest rates
C.Floating rates are not lower than fixed rates
D.They may be able to postpone the payment of principal
24) Which one of the following would not be included among the benefits of shelf
registration?
A.Reduction of lead time for security issuance
B.No additional registration necessary for 5 years
C.Issuer can take advantage of favorable conditions
D.Issuer can search for best underwriting terms
25) Which of the following statements about floating-rate preferred stock is correct?
A.Its dividends increase as interest rates increase
B.Its market price increases at a set rate annually
C.It is the only stock issued without a par value
D.Its dividends are deductible for tax purposes by the paying corporation
26) What is the amount of the annual interest tax shield for a firm with $3 million in
debt that pays 12% interest if the firm is in the 35% tax bracket?
A.$126,000
B.$234,000
C.$360,000
D.$1,050,000
27) Macro events only are reflected in the performance of the market portfolio because:
A.the market portfolio has no individual firms
B.only macro events are tracked by economists
C.unique risks have been diversified away
D.firm-specific events would be too numerous to list
28) A stock investor owns a diversified portfolio of 15 stocks. What will be the likely
effect on portfolio standard deviation from adding one more stock?
A.A slight increase will occur
B.A large increase will occur
C.A slight decrease will occur
D.A large decrease will occur
29) Perhaps the best way to reduce macro risk in a stock portfolio is to invest in stocks
that:
A.have only unique risks
B.have diversified away the macro risk
C.have low exposure to business cycles
D.pay guaranteed dividends
30) Which of the following costs probably should not be allocated to the investment
needed for a new project?
A.Increase in accounts receivable
B.New warehouse, built for this project
C.25% of the Vice President’s salary
D.Labor expense for employees in new warehouse
31) Calculate a firm’s WACC given that the total value of the firm is $2,000,000,
$600,000 of which is debt, the cost of debt and equity is 10% and 15%, respectively,
and the firm pays no taxes.
A.9.0%
B.11.5%
C.13.5%
D.14.4%
32) Which of the following methods may be particularly cost-effective to smaller
issuers of securities?
A.Seasoned offerings
B.Private placement
C.General cash offer
D.Best efforts underwriting
33) A firm’s internal growth rate is all of the following except:
A.the rate below which external financing is needed
B.the ratio of reinvested earnings to assets
C.the maximum growth rate without external sources of new capital
D.determined by the plowback ratio, ROE, and the ratio of equity to assets
34) A proposed project has a positive NPV when evaluated at the company cost of
capital. If the firm employs debt in its capital structure, will the project remain
acceptable after evaluation with the WACC?
A.Yes, using the WACC will increase the NPV
B.No, using the WACC will decrease the NPV
C.The project may now become unacceptable
D.There will be no change in the project’s NPV
35) When two borrowers engage in a currency swap, they agree to:
A.trade one currency for another, thus avoiding the foreign exchange market
B.make payments on each other’s borrowings in a different currency
C.pay to each other any depreciation or appreciation of the currency
D.exchange fixed-rate interest payments for variable-rate interest payments
36) Your broker suggests that you can make consistent, excess profits by purchasing
stocks on the 20th of the month and selling them on the last day of the month. If this is
true, then:
A.the market is only semistrong-form efficient
B.the market violates even weak-form efficiency
C.insiders will be the only investors to profit
D.prices follow a random walk
37) A stock is selling at $85 at the expiration of an option contract. Which of the
following options will most likely be exercised?
A.Buyer of a call option with exercise price of $65
B.Buyer of a put option with exercise price of $65
C.Buyer of a call option with exercise price of $85
D.Buyer of a put option with exercise price of $85
38) When an investment pays only simple interest, this means:
A.the interest rate is lower than on comparable investments
B.the future value of the investment will be low
C.the earned interest is nontaxable to the investor
D.interest is earned only on the original investment
39) Which of the following about dividends versus stock repurchases is true in the
United States?
A.The relative size of each has held constant since 1980
B.The size of repurchases has grown relative to dividends since 1980
C.The size of repurchases has shrunk relative to dividends since 1980
D.The overall value of stock repurchases has remained constant since 1980
40) CBA Corp. is worth $15 million as a stand-alone firm. ABC Corp. has offered
350,000 shares valued at $50 each to merge with CBA. After the merger, however,
ABC’s shares are worth only $45 per share. What was the cost of the merger?
A.-$1.75 million
B.$0.75 million
C.$1.75 million
D.$3.25 million
41) How much would an investor lose if she purchased a 30-year zero-coupon bond
with a $1,000 par value and 10% yield to maturity, only to see market interest rates
increase to 12% 1 year later? (Hint: How much would the price change from a year
earlier?)
A.$19.93
B.$20.00
C.$23.93
D.$25.66
42) What is the expected return on a portfolio that will decline in value by 13% in a
recession, will increase by 16% in normal times, and will increase by 23% during boom
times if each scenario has equal likelihood?
A.8.67%
B.13.00%
C.13.43%
D.17.33%
43) Current 1-year interest rates are 4% and 8% in the United States and Spain,
respectively. The anticipated inflation in the United States is 2%. If International Fisher
effect holds, what is the expected inflation in Spain?
A.4.00%
B.4.04%
C.5.92%
D.6.00%
44) If a firm earns the WACC as an average return on its average-risk assets, then:
A.equityholders will be satisfied, but bondholders will not
B.bondholders will be satisfied, but equityholders will not
C.all investors will earn their minimum required rate of return
D.the firm is investing in only positive NPV projects
45) A firm issues 100,000 equity shares with a total market value of $5,000,000. The
firm’s market value of debt is also of equal amount (i.e., $5,000,000). The firm is
expected to generate $1.5 million in operating income and pay $250,000 in interest.
Ignoring taxes, this will generate $12.50 earnings per share. What will happen to EPS if
the firm’s borrowing and interest expense increases by 75% and the number of shares in
circulation is cut by 75% (assuming that the share price remains unchanged with this
change in capital structure)?
A.EPS decrease to $10.00
B.EPS stay at $12.50
C.EPS increase to $30.00
D.EPS increase to $42.50
46) Which of the following statements is likely to be correct for a decision tree that
indicates a 30% chance of making a $250,000 profit and a 70% chance of sustaining a
$140,000 loss?
A.The decision should be yes whenever the amount of possible profit exceeds the
amount of possible loss
B.The decision should be no whenever there is a possibility of loss
C.The expected value is positive before discounting
D.The expected value is negative before discounting
47) A proposed investment must earn at least as much as the ______ if it is to be
deemed acceptable.
A.company cost of capital
B.risk-free rate
C.market risk premium
D.project cost of capital
48) If a firm’s DOL is 4.0 with a profit of $2,000,000 and depreciation of $500,000,
what are its fixed costs?
A.$5,000,000
B.$5,500,000
C.$6,000,000
D.$7,500,000
49) Most of the beneficial effects of diversification will have been received by the time
a portfolio of common stocks contains _____ stocks.
A.2
B.5
C.20
D.50
50) A manager estimates that her firm benefits from an average float time of 6 days.
Which of the following is true if the firm averages $15,000 per day in payments?
A.The firm is losing interest on $90,000 per year
B.The firm’s ledger balance averages $90,000 more than the bank’s ledger balance
C.The firm has $45,000 in net float
D.The available balance at the bank is $90,000 greater than shown on the firm’s books
51) Determine the expected return on equity for a firm with a WACC of 12%, $500,000
in 9% debt, and $800,000 in equity. Both debt and equity are shown at market values,
and the firm pays no taxes. How can the expected return on equity be reduced?
52) Why does the SEC deem it necessary to require the issuance of a prospectus prior to
security issuance?
53) Distinguish between a firm’s capital budgeting decisions and its financing decisions
by giving examples of each.
54) Is there a rule for finding optimal capital structure?
55) What is the law of one price? When would you expect it to hold and when would
you not expect it to hold?
56) How is the internal rate of return of a project calculated and what must you look out
for when using the internal rate of return rule?
57) Create the statement of sources and uses of cash from the following entries:
