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Finance Exam 2
TUTORIAL EXAM 2
1. An increase in financial leverage generally results
in a higher return on equity (ROE).
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·
True
·
False
2. A company’s return on assets should be
greater than its return on equity.
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·
True
·
False
3. An optimal current ratio should be
greater than 1.0.
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·
True
·
False
4. GoodTimes, Inc. has asset turnover of
0.5 times, a net profit margin of 10% and average total assets of $100, what is
its net income (assuming no unusual items)?
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$50
·
$500
·
$5
·
The
answer cannot be determined with the information provided
5.
Which of the following ratios appears on a common-size balance sheet?
I. Debt to asset ratio
II. Net working capital to total assets
III. Net profit margin
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I
, II, III
·
I
only
·
I and III
·
III
only
6. Common-size financial statements are
constructed in order to:
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Adjust
for inflation and risk
·
Facilitate comparisons of
different-sized companies
·
To
comply with SEC requirements
·
All
of the above
7. A company builds a new plant and
finances its construction by issuing stock. Which ratio is least likely to be
affected, all else being equal?
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Current ratio
·
Debt
to equity ratio
·
Debt
to asset ratio
·
Net
fixed assets to total assets
8. A company has net working capital of
$0, current liabilities of $25 and total assets equal to $100. What is its
current ratio?
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·
0.0
·
1.0
·
0.5
·
4.0
9.
Analysis of a company’s financial statements: Below are simplified
versions of the balance sheet and income statement for Toys by Tom, Inc.
Use this information to answer question 9.
Sales in 2003 were
$10,000. Therefore, the compounded average growth rate is:
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8.6%
·
6.7%
·
6.3%
·
Not enough information available
10.
Analysis of a company’s financial statements: Below are simplified
versions of the balance sheet and income statement for Toys by Tom, Inc.
Use this information to answer question 10.
A 15% increase in
inventory turns for Toys by Tom, Inc. would bring this ratio to ____,
suggesting ________ in ________.
.gif” alt=”https://eproduct.hbsp.harvard.edu/eproduct/product/finance/content/item/4282/toys_by_tom_financial_statements.png”>
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109 days; a deterioration;
profitability
·
3.9
days; a deterioration; profitability
·
4.8
times; an improvement; efficiency
·
3.9
times; an improvement; efficiency
11. The cash cycle measures the days
required to produce finished goods or delivered services.
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True
·
False
12. In general, an increase in a liability
is a source of funds.
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True
·
False
13. The sustainable growth rate is the
maximum growth rate achievable over an extended period of time.
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·
True
·
False
14. The cash conversion cycle is
calculated as:
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Days
in Inventory + Collection Period
·
Days
in Inventory – Payables Period
·
Days in Inventory + Collection
Period – Payables Period
·
None
of the above
15. Which of following are sources of cash
in a statement of sources and uses?
I. Collection of accounts receivables
II. Reduction of long-term debt
III. Payment of dividends
IV. Reduction in the cash account
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·
I
only
·
II
and III
·
III
and IV
·
I and IV
16. Which of the following actions, all
else being equal, will increase the sustainable growth rate?
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Increasing
asset turnover
·
Reducing dividend payout
·
Increasing
leverage
·
All
of the above
17. Biases can and should always be
eliminated in financial forecasts.
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·
True
·
False
18. Which of the following is commonly
forecasted as a percent of sales:
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·
Common
stock
·
Gross profit
·
Long-term
debt
·
Revolving
credit
19.
External funding needs are computed as:
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Projected total assets –
(projected liabilities + projected net worth)
·
Projected
total assets – (actual liabilities + net worth)
·
Projected
current assets – (projected current liabilities + net worth)
·
None
of the above
20. “Real” activities create
cash for a business, while “financial” activities distribute cash
within the company.
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True
·
False
21. The item that roughly divides
“real” from “financial” activities on an income statement
is:
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·
EBIT
·
Interest Expense
·
SG&A
Expense
·
None
of the above
22. The cost of debt is generally lower
than the cost of equity.
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·
True
·
False
23. The Static Tradeoff theory of capital
structure implies that firms with higher business risk have should have lower
leverage.
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·
True
·
False
24. A share repurchase is financially
equivalent to a dividend.
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·
True
·
False
25. The Pecking Order Theory of capital
structure implies a unique optimum capital structure.
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·
True
·
False
26. A firm is all equity financed, with
10,000 outstanding shares with a market value of $20 each. Its net income was
$30,000, and it decides to pay a cash dividend of $2,000. Calculate the value
of each share after the dividend payout.
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·
$22.8
·
$20.0
·
$19.8
·
Not
enough information
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27. Grandma’s Applesauce, Inc. has a 0.60
probability of a good year with operating cash flow of $50,000; and 0.40
probability of a bad year with operating cash flow of $30,000. The company has
a debt of $35,000 with 8 percent interest due next year. Assuming the company
has no means of servicing its debt other than operations, and a 0% tax rate,
which of the following is true?
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Shareholders
expected claim is $12,200
·
Creditors
expected claim is $37,800
·
Creditors
expected claim is $34,680
·
None of the above
28. The owners of a firm facing a high
probability of bankruptcy prefer to invest in ____ projects, because ______.
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·
safer;
riskier projects make bankruptcy more likely
·
no
new; the firm is likely to go bankrupt anyway
·
risky; the shareholders have
little to lose and might win if successful
·
risky;
creditors prefer taking a gamble rather than having the company default
29. Which of the
following expresses the value of a levered firm (VL)
in the Static Tradeoff model of optimal capital structure? [Note: VU
denotes the value of the unlevered firm; CFD denotes expected costs of
financial distress; and PV denotes present value.]
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·
VL
= PV(Tax Shield) – PV(CFD)
·
VL
= VU
+ PV(Tax Shield) / PV(CFD)
·
VL
= VU
+ PV(Tax Shield) – PV(CFD)
·
VL =
VU + PV(Tax Shield)
30. A company has net income of $20,000
and a tax rate of 35 percent. Its total debt is $25,000, with principal
payments of $5,000 due at the end of each year and an annual interest rate of
8%. What will be the company’s interest tax shield in the upcoming year?
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·
$8,750
·
$700
·
$9,450
·
$2,450
31. Which of the following is correct?
I. Tax shields make debt financing more
attractive, all else equal.
II. A firm’s debt ratio falls when it uses excess
cash to pay dividends.
III. The cost of equity is low for firms that pay
no dividends, all else equal.
IV. Bankruptcy costs decrease the benefits of
debt financing all else equal.
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·
I
and IV
·
I,
II and IV
·
I, III and IV
·
I,
II, III and IV
32. The Pecking Order Theory of capital
structure rests on an assumption of
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·
Agency
costs
·
Barriers
to entry
·
Asymmetric information
·
Tax
shields and cost of financial distress
33. Which of the following are equivalent
under M&M proposition I?
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·
Maximizing
firm value and maximizing firm profit
·
Maximizing firm value and
minimizing the cost of capital
·
Minimizing
firm’s cost of capital and minimizing firm’s debt burden
·
Maximizing
profit and minimizing taxes
34. Share repurchases and dividend payouts
are most likely to differ in their
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·
effects on a firm’s capital
structure
·
effects
on corporate taxes
·
effects
on corporate cash flow
·
effects
on shareholders’ personal taxes
35. A perpetuity is a stream of cash flows
that lasts forever.
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·
True
·
False
36. The higher the opportunity cost of
capital the higher the NPV.
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·
True
·
False
37. A project with an internal rate of
return greater than the cost of capital should always be accepted.
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·
True
·
False
38. The phenomenon of compounding connotes
which of the following?
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·
Investment
of principal for a prolonged period.
·
Interest
earned over a prolonged period.
·
Earning
income on previously earned income.
·
Rising interest rates over time.
39. If you invest $2,000 today for three
years at 5% interest paid annually, you will earn a total of $_____ in
interest. Assume you re-invest all interest.
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·
205.00
·
300.00
·
315.25
·
500.00
40. Enterprise Free Cash Flows should
include:
I. Capital expenditures
II. Financing costs
III. Taxes
IV. Working capital requirements
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·
I
and IV
·
I, II and IV
·
I
, III and IV
·
I,
II, III, IV
41. You are trying to decide whether to
accept or reject a one-year project. The project is estimated to generate
$5,000 in incremental gross profit, which includes $200 in depreciation.
Incremental SG&A expense is $400. At a 35% tax rate, the after-tax incremental
cash flow is:
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·
$2,990
·
$3,190
·
$3,250
·
$3,510
42.
You are saving money for a down payment on a house. Suppose you want to have
total savings of $20,000 in 10 years time and you have currently $5,000. What
annual interest rate do you need to earn on your initial investment, assuming
you contribute no additional savings?
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10.0%
·
18.5%
·
12.5%
·
15.0%
43. What is the present value of a growing
perpetuity that makes a payment of $100 in the first year, which thereafter
grows at 3% per year? Apply a discount rate of 7%.
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·
$
2,000
·
$
3,500
·
$ 2,500
·
$
4,000
44. A company’s beta (from the CAPM) is
affected by its capital structure.
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·
True
·
False
45. The cost of capital for an
all-equity-financed company that pays no dividends is zero.
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·
True
·
False
46. The beta for the market as a whole
equals 1.0.
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·
True
·
False
47.
What is the risk premium for a stock where
·
the risk free rate is 5.1%
·
the equity market risk premium is 5.0%
·
the beta of the stock is 1.2
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·
11.1%
·
6.1%
·
6.0%
·
12.1%
48. What is the expected return on a risky
investment where
·
the risk free rate is 5.1%
·
the investment’s beta is 1.4
·
the equity market risk premium is 5.0%
·
the cost of debt is 4.5%
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·
10.8%
·
9.6%
·
12.1%
·
9.2%
49. Which is a commonly used proxy for the
“risk-free rate”?
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·
the average historical interest
rate on long-term government bonds
·
the
current market rate interest rate on a government-insured savings account
·
the
current yield to maturity on a long-term government bond
·
the
rate of return on a low volatility stock
50. In the CAPM, the parameter beta
measures:
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·
non-systematic
(diversifiable) risk
·
systematic (non-diversifiable)
risk
·
total
risk
·
risk-adjusted
stock returns
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