1) On an accrual basis income statement, revenues equal cash receipts and expenses
equal cash expenditures.
2) A grocery store decides to offer beer for sale and this decision results in more potato
chip sales. This is an example of a synergistic effect.
3) Whenever the internal rate of return on a project equals that project’s required rate of
return, the net present value equals zero.
4) Net income is the best measure to use for evaluating a firm’s profits on assets
because it includes the effect of financing as well as the effect of operations.
5) The cash conversion cycle cannot be negative.
6) The Beta of a T-bill is one.
7) Pro forma statements are important since they formally report the performance of the
firm during the previous reporting period.
8) Operating leverage contributes ultimately to the variability of a firm’s earnings per
share.
9) The residual dividend theory is based on the observation that flotation costs make the
cost of new common stock significantly higher than the cost of retained earnings.
10) Under the ideal conditions of perfect capital markets, dividend policy has no effect
upon share price.
11) The investment banker prefers to avoid a negotiated purchase because it tends to be
the least profitable arrangement for the investment banker.
12) Adding stocks to a bond portfolio will increase the riskiness of the portfolio because
stocks have higher standard deviations of returns than bonds.
13) An acceptable project should have a net present value greater than or equal to zero
and a profitability index greater than or equal to one.
14) A closely-held company whose owners are trying to maintain control would be less
likely to pay dividends so that all earnings may be retained to finance future growth.
15) Compounding effectively raises the cost of short-term credit.
16) One example of the hedging principle is to reduce a company’s foreign exchange
risk by purchasing futures contracts, which are called hedges.
17) Profits represent money that can be spent, and as such, form the basis for
determining the value of financial decisions.
18) John has to pay $1,000 per month for his mortgage for another 5 years, but he is
considering paying the mortgage off in one lump sum. John cannot calculate the present
value of the payments using the annuity formulas because his payments are monthly
and not once per year.
19) The payback period ignores the time value of money and therefore should not be
used as a screening device for the selection of capital budgeting projects.
20) Compare the risk of a 90-day unsecured promissory note issued by Southwest
Airlines to a 20-year U.S. Government Treasury Bond.
A) The Treasury Bond has a lower financial risk, but a higher interest rate risk
B) The Treasury Bond has a lower financial risk and a lower interest rate risk
C) The Treasury Bond has a lower interest rate risk, but higher financial risk
D) The Treasury Bond has a higher interest rate risk, and a higher financial risk
21) It is your 6th birthday today. You have a trust fund with $50,000 that is earning 8%
per year. You expect to withdraw $30,000 per year for 7 years starting on your 22nd
birthday for graduate school. How much money will be left in the trust fund after your
last withdrawal (rounded to the nearest $10)?
A) $125,660
B) $35,780
C) $4,140
D) You will not have enough money to pay for graduate school
22) Consider a project with the following information:
After-taxAfter-tax
AccountingCash Flow
YearProfits fromOperations
1$799$750
21501,000
32001,200
Initial outlay = $1,500
Compute the profitability index if the company’s discount rate is 10%.
A) 15.8
B) 1.61
C) 1.81
D) 0.62
23) If a firm extends 4/10, net 60-day terms of sale, what is the cost in terms of nominal
APR? Assume a 360-day year.
A) 29.40%
B) 30.0%
C) 23.99%
D) 27.86%
24) Which of the following should be included in an analysis of a new project’s cash
flows?
A) any sales from existing products that would be lost if customers were expected to
purchase a new product instead
B) all financing costs
C) all sunk costs
D) no opportunity costs
25) Which of the following statements best represents the “Agency Problem”?
A) Managers might attempt to benefit themselves in terms of salary and perquisites at
the expense of shareholders
B) The agency problem results from the separation of management and the ownership
of the firm
C) The agency problem may interfere with the implementation of maximizing
shareholder wealth
D) all of the above
26) A bond matures in 20 years, at which time it pays the owner $1,000. It also pays
$70 at the end of each of the next 20 years. If similar bonds are currently yielding 7%,
what is the market value of the bond?
A) over $1,000
B) under $1,000
C) exactly $1,000
D) cannot be determined from the information given
27) All of the following are benefits of organized stock exchanges EXCEPT
A) increased stock price volatility
B) continuous markets
C) fair security prices
D) easier access to new capital for business expansion
28) Mutually exclusive projects occur when
A) projects have uneven cash flows
B) more than one firm can use the projects
C) a set of investment proposals perform essentially the same task
D) projects are independent
29) Assume that Federated Stores, whose credit card billings total $120 billion per year,
were to implement a lockbox arrangement that would speed up the collection of its
credit card billings by 2 full days. If Federated could earn 3.5% on its marketable
securities, how much would the firm earn per year from such a lockbox arrangement?
Assume a 365-day year.
A) $316.99 million
B) $244.58 million
C) $230.14 million
D) $183.50 million
30) Quantum, Inc. declared a $2 per share dividend on October 1 . The date of record is
October 20th, the ex-dividend date is October 18th, and the payment date is October
31st. Mitchell owns a share of stock on October 1 . Mitchell sells his share to Gene on
October 18th, Gene sells the share to Dimitri on October 20th, and Dimitri sells the
share to Hank on October 30th. Who will receive the dividend?
A) Mitchell
B) Gene
C) Dimitri
D) Hank
31) A corporate bond has a coupon rate of 9%, a face value of $1,000, a market price of
$850, and the bond matures in 15 years. Therefore, the bond’s yield to maturity is
A) 9%
B) 24%
C) 11.1%
D) 13.45%
32) Interstate Appliance Inc. is considering the following 3 mutually exclusive projects.
Projected cash flows for these ventures are as follows:
Plan APlan BPlan C
InitialInitialInitial
Outlay=$3,600,000Outlay=$6,000,000Outlay=$3,500,000
Cash Flow:Cash Flow:Cash Flow:
Yr 1=$ -0-Yr 1=$4,000,000Yr 1=$2,000,000
Yr 2= -0-Yr 2= 3,000,000Yr 2= -0-
Yr 3= -0-Yr 3= 2,000,000Yr 3=2,000,000
Yr 4= -0-Yr 4= -0-Yr 4=2,000,000
Yr 5=$7,000,000Yr 5= -0-Yr 5=2,000,000
If Interstate Appliance has a 12% cost of capital, what decision should be made
regarding the projects above?
A) accept plan A
B) accept plan B
C) accept plan C
D) accept Plans A, B and C
33) The terminal warehouse agreement differs from the field warehouse agreement in
that
A) the cost of the terminal warehouse agreement is lower due to the lower degree of
risk
B) the borrower of the field warehouse agreement can sell the collateral without the
consent of the lender
C) the warehouse procedure differs for both agreements
D) the terminal agreement transports the collateral to a public warehouse
34) CraftCo, Inc.’s projected sales for the first six months of 2012 are given below:
Jan.$500,000April$490,000
Feb.$740,000May$740,000
Mar.$380,000June$610,000
40% of sales are collected in cash at time of sale, 50% are collected in the month
following the sale, and the remaining 10% are collected in the second month following
the sale. Cost of goods sold is 60% of sales. Purchases are made in the month prior to
the sales, and payments for purchases are made in the month of the sale. Total other
cash expenses are $40,000/month. The company’s cash balance as of February 28, 2012
will be $25,000. Excess cash will be used to retire short-term borrowing (if any).
CraftCo, Inc. has no short term borrowing as of February 28, 2012 Assume that the
interest rate on short-term borrowing is 1% per month. The company must have a
minimum cash balance of $15,000 at the beginning of each month. What is CraftCo,
Inc.’s total cash disbursements for April 2012?
A) $294,000
B) $334,000
C) $374,000
D) $414,000
35) Richenstein Enterprises is in the business of selling dishwashers. The firm needs
$192,000 to finance an anticipated expansion in receivables due to increased sales.
Richenstein’s credit terms are net 40, and its average monthly credit sales are $180,000.
In general, the firm’s customers pay within the credit period; thus, the firm’s average
accounts receivable balance is $240,000.
The comptroller of Richenstein Enterprises, Mr. Gee, approached their bank for the
needed capital, pledging the accounts receivable as collateral. The bank offered to make
the loan at a rate of 2 percent over prime plus a 1 percent processing charge on all
receivables pledged. The bank agreed to loan up to 80 percent of the face value of the
receivables pledged.
a.Estimate the cost of the receivables loan to Richenstein where the firm borrows the
$192,000. The prime rate is currently 13%.
b.Gee also requested a line of credit for $192,000 from the bank. The bank agreed to
grant the necessary line of credit at a rate of 4% over prime and required a 12%
compensating balance Gee currently maintains an average demand deposit of $40,000.
Estimate the cost of the line of credit to Richenstein.
c.Which source of credit should Richenstein Enterprises select?
36) All of the following forms of business organizations provide limited liability to all
owners EXCEPT
A) limited liability company
B) S-type corporation
C) corporation
D) limited partnership
37) Which of the following types of risk is diversifiable?
A) unsystematic, or company-unique risk
B) betagenic, or ecocentric risk
C) systematic risk
D) market risk
38) Determine the effective annualized cost of forgoing the trade discount on terms 1/20
net 45.
A) 14.55%
B) 15.24%
C) 16.780%
D) 20.69%
39) Preferred stock valuation usually treats the preferred stock as a
A) capital asset
B) perpetuity
C) common stock
D) long-term bond
40) 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
41) The four basic determinants of business risk include all of the following EXCEPT
A) the stability of the domestic economy
B) the level of fixed cost used in the company’s production process
C) sensitivity to the business cycle
D) competitive pressures in the firm’s industry
42) DYI Construction Co. is considering a new inventory system that will cost
$750,000. The system is expected to generate positive cash flows over the next four
years in the amounts of $350,000 in year one, $325,000 in year two, $150,000 in year
three, and $180,000 in year four. DYI’s required rate of return is 8%. What is the
payback period of this project?
A) 4.00 years
B) 3.09 years
C) 2.91 years
D) 2.50 years
43) Which of the following would be considered the firm’s optimal capital structure?
A) Stock Price = $25, Earnings Per Share = $10, Cost of Equity Capital = 15%
B) Stock Price = $23, Earnings Per Share = $11, Cost of Equity Capital = 18%
C) Stock Price = $24, Earnings Per Share = $12, Cost of Equity Capital = 17%
D) Stock Price = $20, Earnings Per Share = $12, Cost of Equity Capital = 20%
44) Which of the following statements would NOT be a valid use of pro forma financial
statements?
A) to determine a firm’s needs for financing
B) to enhance a firm’s ability to offer shareholders guaranteed operating results
C) to analyze the effects of a firm’s forecasts on its financial performance
D) to serve as a benchmark when comparing actual results to planned activities
45) Brett’s Gift Box estimates that it will sell 30,000 porcelain figurines next year.
Because porcelain figurines are so easily damaged, the average per unit carrying cost of
the figurines is $25. The per order cost of ordering is $800. Assume that Brett wants a
safety stock of 75 figurines. If Brett reorders the figurines based on the economic order
quantity, what is Brett’s average inventory of porcelain figurines?
A) 768
B) 854
C) 628
D) 700
46) What was the average annual rate of return on long-term government bonds
(30-Year Treasury Bonds) during the period 1987 to 2011?
A) 4.14%
B) 5.88%
C) 6.14%
D) 7.82%
47) Except for the effects of small transaction costs, the forward premium or discount
should be equal and opposite in size to the difference in the national interest rates for
securities of the same maturity. What is the name of this theory?
A) the purchasing power parity theory
B) the Bobby Fisher effect
C) interest rate parity theory
D) the law of one price
48) Which of the following bond provisions will make a bond more desirable to
investors, other things being equal?
A) The bond is convertible
B) The bond is callable
C) The coupon rate is lower
D) The bond is subordinated
49) Discuss whether the standard deviation of a portfolio is, or is not, a weighted
average of the standard deviations of the assets in the portfolio. Fully explain your
answer.
50) Redesign Corp is considering a new strategy that would increase its expected return
from 12% to 13.9%, but would also increase its beta from 1.2 to 1.8 . If the risk free
rate is 5% and the return on the market is expected to be 10%, should Redesign change
its strategy?
51) Bill wants to buy a new boat in 7 years. He expects the new boat will cost $28,000.
Bill has $18,000 in an investment account today. What rate of return must Bill earn on
his investments to be able to buy the boat on time?
52) Howton Mining expects to have credit sales of $8,000,000 this year. First National
Bank is offering Howton Mining a lock-box system for $1,200 per month. Howton
Mining estimates that the new lock-box system will reduce float by 4.5 days. What rate
of return must Howton Mining earn on its marketable securities to make it worthwhile
for the company to institute this lock-box system? Use a 365-day year.
53) AAC, Inc. is planning to issue $5,000,000 in 180-day maturity notes paying a rate
of 12 percent per annum. The company expects to incur costs of approximately $20,000
in dealer placement fees and other expenses of issuing the commercial paper. The
company plans to back up their commercial paper offering with a line of credit from a
bank for $5,000,000. The compensating balance requirement is 10 percent of the line of
credit. The company normally maintains $450,000 in its accounts with the bank. What
is the effective cost of the commercial paper offering?
54) A retirement home in Florida costs $200,000 today. Housing prices in Florida are
increasing at a rate of 4% per year. Joe wants to buy the home in 8 years when he
retires. Joe has $25,000 right now in a savings account paying 8% interest per year. Joe
wants to make eight equal annual deposits into the savings account starting today. How
much must each deposit be so Joe will have enough money in his savings account to
buy the retirement home when he retires?
55) The Meacham Tire Company is considering two mutually exclusive projects with
useful lives of 3 and 6 years. The after-tax cash flows for projects S and L are listed
below.
The required rate of return on these projects is 14 percent. What decision should be
made? As part of your answer, calculate the NPV assuming a replacement chain for
Project S, and also calculate the equivalent annual annuity for each project.