QUESTION 1
In the lease versus buy decision, leasing is often preferable
| A. | because the lessee owns the property at the end of the least term. |
| B. | because lease obligations do not affect the firm's risk as seen by investors. |
| C. | because, generally, no down payment is required, and there are no indirect interest costs. |
| D. | because it has no effect on the firm's ability to borrow to make other investments. |
| E. | because the lessee may have greater flexibility in abandoning the project in which the leased property is used than if the lessee bought and owned the asset. |
2 points
QUESTION 2
The tighter the probability distribution of its expected future returns, the greater the risk of a given investment as measured by its standard deviation.
True
False
2 points
QUESTION 3
Ratio analysis involves analyzing financial statements in order to appraise a firm's financial position and strength.
True
False
2 points
QUESTION 4
Which of the following statements is CORRECT?
| A. | If the returns on two stocks are perfectly positively correlated (i.e., the correlation coefficient is +1.0) and these stocks have identical standard deviations, an equally weighted portfolio of the two stocks will have a standard deviation that is less than that of the individual stocks. |
| B. | If a stock has a negative beta, its expected return must be negative. |
| C. | A portfolio with a large number of randomly selected stocks would have less market risk than a single stock that has a beta of 0.5. |
| D. | According to the CAPM, stocks with higher standard deviations of returns must also have higher expected returns. |
| E. | A portfolio with a large number of randomly selected stocks would have more market risk than a single stock that has a beta of 0.5, assuming that the stock's beta was correctly calculated and is stable. |
2 points
QUESTION 5
Many leases written today combine the features of operating and financial leases. Such leases are often called "combination leases."
True
False
2 points
QUESTION 6
The owner of a convertible bond owns, in effect, both a bond and a call option.
True
False
2 points
QUESTION 7
If a firm raises capital by selling new bonds, it is called the "issuing firm," and the coupon rate is generally set equal to the required rate on bonds of equal risk.
True
False
2 points
QUESTION 8
Which of the following statements is most CORRECT?
| A. | Warrants can sometimes be detached and traded separately from the debt with which they were issued, but this is unusual. |
| B. | One important difference between warrants and convertibles is that convertibles bring in additional funds when they are converted, but exercising warrants does not bring in any additional funds. |
| C. | The coupon rate on convertible debt is normally set below the coupon rate that would be set on otherwise similar straight debt even though investing in convertibles is more risky than investing in straight debt. |
| D. | Warrants have an option feature but convertibles do not. |
| E. | The value of a warrant to buy a safe, stable stock should exceed the value of a warrant to buy a risky, volatile stock, other things held constant. |
2 points
QUESTION 9
Because of improvements in forecasting techniques, estimating the cash flows associated with a project has become the easiest step in the capital budgeting process.
True
False
2 points
QUESTION 10
The form of organization for a business is not an important issue, as this decision has very little effect on the income and wealth of the firm's owners.
True
False
2 points
QUESTION 11
Two important issues in corporate governance are (1) the rules that cover the board's ability to fire the CEO and (2) the rules that cover the CEO's ability to remove members of the board.
True
False
2 points
QUESTION 12
The "preferred" feature of preferred stock means that it normally will provide a higher expected return than will common stock.
True
False
2 points
QUESTION 13
If an investment project would make use of land which the firm currently owns, the project should be charged with the opportunity cost of the land.
True
False
2 points
QUESTION 14
Operating leases help to shift the risk of obsolescence from the user to the lessor.
True
False
2 points
QUESTION 15
Starting to invest early for retirement increases the benefits of compound interest.
True
False
2 points
QUESTION 16
Market risk refers to the tendency of a stock to move with the general stock market. A stock with above-average market risk will tend to be more volatile than an average stock, and its beta will be greater than 1.0.
True
False
2 points
QUESTION 17
Other things held constant, an increase in the cost of capital will result in a decrease in a project's IRR.
True
False
2 points
QUESTION 18
An option is a contract that gives its holder the right to buy or sell an asset at a predetermined price within a specified period of time.
True
False
2 points
QUESTION 19
The optimal distribution policy strikes that balance between current dividends and capital gains that maximizes the firm's stock price.
True
False
2 points
QUESTION 20
If the current price of a stock is below the strike price, then an option to buy the stock is worthless and will have a zero value.
True
False
2 points
QUESTION 21
The desire for floating-rate bonds, and consequently their increased usage, arose out of the experience of the early 1980s, when inflation pushed interest rates up to very high levels and thus caused sharp declines in the prices of outstanding bonds.
True
False
2 points
QUESTION 22
Taylor Inc. estimates that its average-risk projects have a WACC of 10%, its below-average risk projects have a WACC of 8%, and its above-average risk projects have a WACC of 12%. Which of the following projects (A, B, and C) should the company accept?
| A. | Project C, which is of above-average risk and has a return of 11%. |
| B. | Project A, which is of average risk and has a return of 9%. |
| C. | None of the projects should be accepted. |
| D. | All of the projects should be accepted. |
| E. | Project B, which is of below-average risk and has a return of 8.5%. |
2 points
QUESTION 23
To finance the construction of a new plant, Pietersen Corporation must raise an additional $10,000,000 of equity capital through the sale of common stock. The firm currently has an EPS of $5.40 and a P/E ratio of 10, with 1,200,000 shares outstanding. If the firm wants its ex-rights price to be $50, what subscription price must it set on the new shares?
| A. | $39.28 |
| B. | $50.00 |
| C. | $29.55 |
| D. | $41.80 |
| E. | $33.78 |
2 points
QUESTION 24
Which of the following statements is CORRECT, assuming positive interest rates and holding other things constant?
| A. | A 30-year, $150,000 amortized mortgage will have larger monthly payments than an otherwise similar 20-year mortgage. |
| B. | A bank loan's nominal interest rate will always be equal to or less than its effective annual rate. |
| C. | The present value of a 5-year, $250 annuity due will be lower than the PV of a similar ordinary annuity. |
| D. | If an investment pays 10% interest, compounded annually, its effective annual rate will be less than 10%. |
| E. | Banks A and B offer the same nominal annual rate of interest, but A pays interest quarterly and B pays semiannually. Deposits in Bank B will provide the higher future value if you leave your funds on deposit. |
2 points
QUESTION 25
Which of the following statements is CORRECT?
| A. | In the statement of cash flows, a decrease in inventories is reported as a use of cash. |
| B. | In the statement of cash flows, a decrease in accounts receivable is reported as a use of cash. |
| C. | In the statement of cash flows, depreciation charges are reported as a use of cash. |
| D. | In the statement of cash flows, a decrease in accounts payable is reported as a use of cash. |
| E. | Dividends do not show up in the statement of cash flows because dividends are considered to be a financing activity, not an operating activity. |
2 points
QUESTION 26
The term "additional funds needed (AFN)" is generally defined as follows:
| A. | A forecasting approach in which the forecasted percentage of sales for each balance sheet account is held constant. |
| B. | Funds that are obtained automatically from routine business transactions. |
| C. | Funds that a firm must raise externally from non-spontaneous sources, i.e., by borrowing or by selling new stock to support operations. |
| D. | The amount of internally generated cash in a given year minus the amount of cash needed to acquire the new assets needed to support growth. |
| E. | The amount of assets required per dollar of sales. |
2 points
QUESTION 27
The cash flows associated with common stock are more difficult to estimate than those related to bonds because stock has a residual claim against the company versus a contractual obligation for a bond.
True
False
2 points
QUESTION 28
Which of the following statements is CORRECT?
| A. | The NPV method automatically deals correctly with externalities, even if the externalities are not specifically identified, but the IRR method does not. This is another reason to favor the NPV. |
| B. | Identifying an externality can never lead to an increase in the calculated NPV. |
| C. | Both the NPV and IRR methods deal correctly with externalities, even if the externalities are not specifically identified. However, the payback method does not. |
| D. | An example of an externality is a situation where a bank opens a new office, and that new office causes deposits in the bank's other offices to increase. |
| E. | An externality is a situation where a project would have an adverse effect on some other part of the firm's overall operations. If the project would have a favorable effect on other operations, then this is not an externality. |
2 points
QUESTION 29
Time lines can be constructed in situations where some of the cash flows occur annually but others occur quarterly.
True
False
2 points
QUESTION 30
A warrant is an option, and as such it cannot be used as a "sweetener."
True
False
2 points
QUESTION 31
BLW Corporation is considering the terms to be set on the options it plans to issue to its executives. Which of the following actions would decrease the value of the options, other things held constant?
| A. | The life of the option is increased, i.e., the time until it expires is lengthened. |
| B. | The exercise price of the option is increased. |
| C. | The Federal Reserve takes actions that increase the risk-free rate. |
| D. | BLW's stock price becomes more risky (higher variance). |
| E. | BLW's stock price suddenly increases. |
2 points
QUESTION 32
Convertible debentures for Kulik Corporation were issued at their $1,000 par value in 2012. At any time prior to maturity on February 1, 2032, a debenture holder can exchange a bond for 25 shares of common stock. What is the conversion price, Pc?
| A. | $48.62 |
| B. | $40.00 |
| C. | $42.00 |
| D. | $46.31 |
| E. | $44.10 |
2 points
QUESTION 33
A stock is expected to pay a dividend of $0.75 at the end of the year. The required rate of return is rs = 10.5%, and the expected constant growth rate is g = 6.4%. What is the stock's current price?
| A. | $18.29 |
| B. | $17.39 |
| C. | $19.22 |
| D. | $18.75 |
| E. | $17.84 |
2 points
QUESTION 34
If a firm's goal is to maximize its earnings per share, this is the best way to maximize the price of the common stock and thus shareholders' wealth.
True
False
2 points
QUESTION 35
The common stock of Southern Airlines currently sells for $33, and its 8% convertible debentures (issued at par, or $1,000) sell for $850. Each debenture can be converted into 25 shares of common stock at any time before 2025. What is the conversion value of the bond?
| A. | $783.75 |
| B. | $744.56 |
| C. | $825.00 |
| D. | $866.25 |
| E. | $707.33 |
2 points
QUESTION 36
Which of the following statements is CORRECT?
| A. | If interest rates increase, the price of a 10-year coupon bond will decline by a greater percentage than the price of a 10-year zero coupon bond. |
| B. | If a bond's yield to maturity exceeds its annual coupon, then the bond will trade at a premium. |
| C. | If a coupon bond is selling at par, its current yield equals its yield to maturity. |
| D. | If a coupon bond is selling at a premium, its current yield equals its yield to maturity. |
| E. | If a coupon bond is selling at a discount, its price will continue to decline until it reaches its par value at maturity. |
2 points
QUESTION 37
A proxy is a document giving one party the authority to act for another party, including the power to vote shares of common stock. Proxies can be important tools relating to control of firms.
True
False
2 points
QUESTION 38
Projects S and L are equally risky, mutually exclusive, and have normal cash flows. Project S has an IRR of 15%, while Project L's IRR is 12%. The two projects have the same NPV when the WACC is 7%. Which of the following statements is CORRECT?
| A. | Project S's NPV is more sensitive to changes in WACC than Project L's. |
| B. | If the WACC is 13%, Project S will have the lower NPV. |
| C. | If the WACC is 6%, Project S will have the higher NPV. |
| D. | If the WACC is 10%, both projects will have positive NPVs. |
| E. | If the WACC is 10%, both projects will have a negative NPV. |
2 points
QUESTION 39
A firm's AFN must come from external sources. Typical sources include short-term bank loans, long-term bonds, preferred stock, and common stock.
True
False
2 points
QUESTION 40
Which of the following could explain why a business might choose to operate as a corporation rather than as a sole proprietorship or a partnership?
| A. | Less of a corporation's income is generally subjected to taxes than would be true if the firm were a partnership. |
| B. | Corporate shareholders escape liability for the firm's debts, but this factor may be offset by the tax disadvantages of the corporate form of organization. |
| C. | Corporations generally find it relatively difficult to raise large amounts of capital. |
| D. | Corporations generally face relatively few regulations. |
| E. | Corporate investors are exposed to unlimited liability. |
2 points
QUESTION 41
The cost of debt is equal to one minus the marginal tax rate multiplied by the average coupon rate on all outstanding debt.
True
False
2 points
QUESTION 42
Amram Company's current ratio is 1.9. Considered alone, which of the following actions would reduce the company's current ratio?
| A. | Use cash to reduce accruals. |
| B. | Borrow using short-term notes payable and use the proceeds to reduce long-term debt. |
| C. | Use cash to reduce accounts payable. |
| D. | Borrow using short-term notes payable and use the proceeds to reduce accruals. |
| E. | Use cash to reduce short-term notes payable. |
2 points
QUESTION 43
ESOPs were originally designed to help improve worker productivity, but today they are also used to help prevent hostile takeovers.
True
False
2 points
QUESTION 44
High current and quick ratios always indicate that a firm is managing its liquidity position well.
True
False
2 points
QUESTION 45
A firm should never accept a project if its acceptance would lead to an increase in the firm's cost of capital (its WACC).
True
False
2 points
QUESTION 46
"Capital" is sometimes defined as funds supplied to a firm by investors.
True
False
2 points
QUESTION 47
Heavy use of off-balance sheet lease financing will tend to
| A. | affect a company's cash flows but not its degree of risk. |
| B. | make a company appear less risky than it actually is because its stated debt ratio will appear lower. |
| C. | make a company appear more risky than it actually is because its stated debt ratio will be increased. |
| D. | affect the lessee's cash flows but only due to tax effects. |
| E. | have no effect on either cash flows or risk because the cash flows are already reflected in the income statement. |
2 points
QUESTION 48
As a firm's sales grow, its current assets also tend to increase. For instance, as sales increase, the firm's inventories generally increase, and purchases of inventories result in more accounts payable. Thus, spontaneous liabilities that reduce AFN arise from transactions brought on by sales increases.
True
False
2 points
QUESTION 49
On the balance sheet, total assets must always equal total liabilities and equity.
True
False
2 points
QUESTION 50
The annual report contains four basic financial statements: the income statement, balance sheet, statement of cash flows, and statement of stockholders' equity.
True
False
