Test Bank for Foundations of Financial Management 17th Edition by Stanley Block, Geoffrey Hirt, Bart

Foundations of Financial Management, 17e (Block) Chapter 1 The Goals and Activities of Financial Management 1) As finance emerged as a new field, much emphasis was placed on mergers and acquisitions.

2) Inflation is assumed to be a temporary problem that does not affect financial decisions.

3) Financial capital is composed of long-term plant and equipment, as well as other tangible investments.

4) Real capital is composed of long-term plant and equipment.

5) During the 1930s, financial practice revolved around such topics as the preservation of capital, maintenance of liquidity, the reorganization of financially troubled corporations, and bankruptcy.

6) In the mid 1950s, finance began to change to a more analytical, decision-oriented approach.

7) Recently, the emphasis of financial management has been on the relationship between risk and return.

8) The first Nobel Prizes given to finance professors were for their contributions to capital structure theory and portfolio theories of risk and return.

9) How investors handle risk is an important topic that usually only economists observe.

10) Mortgage-backed securities were devalued by accounting standards because of the high credit ratings (AAA).

11) "Credit default swaps" are one of several tools that Congress and the President of the United States have jointly developed to ease the financial crisis that began in 2008.

12) The Dodd-Frank Act was created by Congress along with its goals and regulatory responsibility, but it is facilitated by various agencies.

13) The Dodd-Frank Act contains the Volcker Rule, which encourages financial institutions to allow for more speculative investments for average investors.

14) The Dodd-Frank Act's oversight allowing regulation of banking fees and available products has been considered as not being in the best interests of a free market.

15) The Internet impacts e-commerce by creating a mechanism for improved communications between a business, its customers, and its suppliers.

16) The Internet is responsible for many new business models.

17) Businesses will increasingly rely on B2B Internet applications to speed up the cash flows through their firms.

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18) Sole proprietorship means single-person ownership and offers the advantages of simplicity of decision making and low organizational and operating costs.

19) Under the 2017 Tax Cuts and Jobs Act, the most significant change is that the corporate tax rate goes from 35 percent to 21 percent, which puts U.S. Companies on competitive footing with many other countries.

20) Profits of sole proprietorships are taxed at corporate tax rates.

21) Sole Proprietorships, partnerships and limited liability partnerships are considered pass through forms of organizations because the income passes through to the owners and is taxed at the owner's individual tax rate.

22) To reduce the burden on small firms, the government established a 25 percent deduction of qualified business income from pass through businesses.

23) There is unlimited liability in a general partnership.

24) A limited partnership limits the profits partners may receive.

25) In terms of revenues and profits, the corporation is by far the most important form of business organization in the United States.

26) As noted in Finance in Action, initial public offerings have now increased because long-term results are favored by shareholders and institutional investors.

27) Dividends paid to corporate stockholders have already been taxed once as corporate income.

28) One advantage of the corporate form of organization is that income received by stockholders is not taxable since the corporation already paid taxes on the income distributed.

29) A corporation must have more than 100 stockholders to qualify for Subchapter S designation.

30) Profits of a Subchapter S corporation are taxed at corporate tax rates.

31) The formation of a Subchapter S corporation is a way to circumvent the double taxation of a small corporation.

32) Corporate governance issues have become less important to the financial community during the first decade of the new millennium.

33) Agency theory examines the relationship between companies and their customers.

34) Institutional investors have had increasing influence over corporations with their ability to vote with large blocks of stock and replace poorly performing boards of directors.

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35) Agency theory assumes that corporate managers act to increase the wealth of corporate shareholders.

36) The Sarbanes-Oxley Act reduced agency conflicts by giving corporate managers greater flexibility to select their preferred candidates to the board of directors.

37) A major focus of the Sarbanes-Oxley Act is to make sure that publicly traded companies accurately present their assets, liabilities, and income in their financial statements.

38) The Sarbanes-Oxley Act is primarily intended to increase public scrutiny of private companies that had previously been exempt from many public disclosure requirements.

39) Timing is not a particularly important consideration in financial decisions.

40) The higher the profit of a firm, the higher the value the firm is in the market.

41) There are some serious problems with the financial goal of maximizing the earnings of the firm.

42) Maximizing Shareholder wealth can be difficult due to daily fluctuations in stock value in combination with changing investor expectations.

43) Maximizing the earnings of the firm is the main goal of financial management.

44) The ultimate measure of performance is not what the firm profits, but how the profits are valued by the investor.

45) Because socially desirable goals can hinder profitability in many instances, managers should not try to operate under the assumption of wealth maximization.

46) Insider trading involves the use of information not available to the general public to make profits from trading in a company's stock.

47) If an investor hears of a large change that a company is going to make through a news article and reacts quicker than any other investor, it is considered insider trading.

48) When an investor has the ability to control how the stock price changes, that is considered insider trading.

49) Social responsibility and profit maximization are synonymous.

50) Irrational exuberance is when companies have stock that is undervalued.

51) Financial markets exist as a vast global network of individuals and financial institutions that may be lenders, borrowers, or owners of public companies worldwide.

52) Money markets refer to those markets dealing with short-term securities having a life of one 3 Copyright © 2019 McGraw-Hill Education. All rights reserved.

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year or less.

53) Money markets refer to markets where excess corporate cash is exchanged for foreign currencies that can earn a higher return than domestic money.

54) Capital markets refer to those markets dealing with short-term securities that have a life of one year or less.

55) The primary market includes the sale of securities by way of initial public offerings.

56) When a company is looking to raise money through issuing more shares of stock, that is considered in the secondary market.

57) High-quality initial public offerings are usually sold in a primary market, such as the New York Stock Exchange. However, low-quality stocks must usually be sold in secondary markets, such as NASDAQ. 58) Although NASDAQ is a secondary market, some of the firms traded there, such as Microsoft, are large enough to move to the primary market if they so desire.

59) The secondary market characteristically has had stable prices over the past 20 years.

60) In the United States, stocks sold on either the New York Stock Exchange or NASDAQ are considered sold in the primary market.

61) New issues are sold in the secondary market.

62) Existing securities are traded in the secondary market.

63) Many companies have cross-listed their stock on multiple international stock exchanges and more than several hundred foreign companies have listed their shares on the New York Stock Exchange.

64) Higher returns always induce that stockholders should invest in a company.

65) Higher return means that the public company has lower risk.

66) Social responsibility is an expense and thus should be avoided by financial managers because it will lead to loss of income.

67) Financial management requires both short-term activities as well as long-term planning such as raising funds.

68) One of the primary disadvantages of maximizing shareholder value is that it only provides a short-term perspective.

69) If a company has a written code of ethics, they will generally avoid ethical problems.

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70) Risk management will be an important factor over the next decade.

71) With the creation of Internet trading, trading through brokers became less profitable for investors mainly because of the higher fees.

72) Which of the following did not contribute to the financial crisis?

A) Solid credit ratings from the ratings agencies B) The extension of credit to high-risk borrowers C) The merger of JPMorgan Chase and Bear Stearns D) All of the options contributed to the financial crisis.

73) Credit default swaps are A) an insurance product designed to protect financial institutions from customers who default on their loans.

B) securities with a maturity of less than one year.

C) the result of a leveling off or slowing down of stock price increases.

D) market trades in previously issued securities.

74) What should be the primary goal of financial management?

A) Increased earnings B) Maximizing cash flow C) Maximizing shareholder wealth D) Minimizing risk of the firm 75) In the past, the study of finance has included A) mergers and acquisitions.

B) raising capital.

C) bankruptcy.

D) All of the options 76) Professor Merton Miller received the Nobel Prize in Economics for his work on A) dividend policy.

B) investment theory.

C) working capital management.

D) capital structure theory.

77) Professors Harry Markowitz and William Sharpe received their Nobel Prize in Economics for their contributions to the A) options pricing model.

B) theories of working capital management.

C) theories of portfolio based management and the risk along with return on securities.

D) theories of international capital budgeting.

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78) Behavioral finance is the study of A) how investors react to accounting-based profit fluctuations.

B) how investors react to interest rates and foreign currency fluctuations.

C) how investors react to certain ways to diversify a portfolio.

D) how investors react to the amount of risk versus the amount of return in securities.

79) Which of the following is NOT addressed by the Dodd-Frank Act? A) Liquidation of non-bank financial companies such as insurance companies.

B) Identifies systematic risk of U.S. financial system.

C) Written certifications of financial statements by the CEO and CFO. D) Registration of hedge funds with the SEC. 80) Proper risk-return management means that A) the firm should take as few risks as possible.

B) the firm must determine an appropriate trade-off between risk and return.

C) the firm should earn the highest return possible.

D) the firm should value future profits more highly than current profits.

81) One of the major disadvantages of a sole proprietorship is A) that there is unlimited liability to the owner.

B) the simplicity of decision making.

C) high organizational costs.

D) high operating costs.

82) One of the major advantages of a sole proprietorship is A) that the owner has limited liability.

B) that stock in the proprietorship can be easily transferred.

C) that it is exempt from many tax rules that would otherwise apply when employees are hired by the firm.

D) low operating costs.

83) The partnership form of an organization A) avoids the double taxation of earnings and dividends found in the corporate form of organization.

B) usually provides limited liability to the partners.

C) has unlimited life.

D) simplifies decision making.

84) A corporation is A) owned by stockholders who enjoy the privilege of limited liability.

B) easily divisible between owners.

C) a separate legal entity with unlimited life.

D) All of the above

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85) With an S corporation A) income is taxed as direct income to stockholders.

B) stockholders have the same liability as members of a partnership.

C) the number of stockholders is unlimited.

D) the life of the corporation is limited.

86) An S corporation A) is similar to a partnership in that it carries unlimited liability.

B) is a separate legal entity that is treated like a normal corporation.

C) has all the organizational benefits of a corporation and its income is only taxed once.

D) All of the options 87) From the 2017 Tax Cuts and Job Act, a reason to choose sole proprietorship, partnership or corporation as a form of organization is: A) the number of people in the organization.

B) the liability of the owner.

C) the complexity involved with state and federal regulations and taxation.

D) all of the above.

88) Corporate governance is the A) relationship and exercise of oversight by the board of directors of the company.

B) relationship between the chief financial officer (CFO) and institutional investors.

C) operation of a company by the chief executive officer (CEO) and other senior executives on the management team.

D) governance of the company by the board of directors with a focus on pleasing management.

89) Many companies such as Tyco, Enron, and WorldCom that suffered financial distress in the late 1990s and early 2000s A) committed fraud.

B) had failed corporate governance oversight.

C) went bankrupt.

D) All of the options are true.

90) Agency theory examines the relationship between the A) shareholders of the firm and the firm's investment banker.

B) owners of the firm and the managers of the firm.

C) board of directors and large institutional investors.

D) shareholders and the firm's transfer agent.

91) Agency theory would imply that conflicts are more likely to occur between management and shareholders when A) the company is owned and operated by the same person.

B) management acts in the best interests of maximizing shareholder wealth.

C) the chairman of the board of directors is also the chief executive officer (CEO).

D) the board of directors exerts strong and involved oversight of management.

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92) Agency theory deals with the issue of A) when to hire an agent to represent the firm in negotiations.

B) the legal liabilities of a firm if an employee, acting as the firm's agent, injures someone.

C) the limitations placed on an employee acting as the firm's agent to obligate or bind the firm.

D) the conflicts that can arise between the viewpoints and motivations of a firm's owners and managers.

93) Agency problems are least likely to arise in which organizational form?

A) Sole proprietorship B) Limited partnership C) Corporation D) Subchapter S corporation 94) Institutional investors are important in today's business world because A) as large investors, they have more say in how businesses are managed.

B) they have a fiduciary responsibility to the workers and investors that they represent to see that the firms they own are managed in an ethical way.

C) as a group they can vote large blocks of stock for the election of board members.

D) All of the options 95) The increasing percentage ownership of public corporations by institutional investors has A) had no effect on corporate management.

B) created higher returns for the stock market in general.

C) created more pressure on public companies to manage their firms more efficiently.

D) taken away the voice of the individual investor.

96) The Sarbanes-Oxley Act was passed in an effort to A) protect small business from large corporations dominating the market.

B) ensure that partnerships divide profits among partners in a fair manner.

C) guarantee that outside auditors can control corporate accounting practices.

D) control corrupt corporate financial behavior.

97) The Sarbanes-Oxley Act set up the Public Company Accounting Oversight Board with the responsibility for all of the following except A) internal controls within companies.

B) controlling the quality of audits.

C) certifying the competence of financial executives.

D) setting rules and standards for the independence of auditors.

98) A financial manager's goal of maximizing current or short-term earnings may not be appropriate because A) it fails to consider the timing when shareholders want increased earnings and may instead consider the manager's own goals.

B) increased earnings may be accompanied by unacceptably higher levels of risk.

C) earnings are subjective; they can be defined in various ways such as accounting or economic earnings.

D) All of the options are true.

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99) Maximization of shareholder wealth is a concept in which A) increased earnings is of primary importance.

B) profits are maximized on an annual basis.

C) virtually all earnings are paid as dividends to common stockholders.

D) optimally increasing the long-term value of the firm is emphasized.

100) Which of the following is not a true statement about the goal of maximizing shareholder wealth?

A) It takes into account the timing of cash-flows.

B) It is a short-run point of view.

C) It considers risk as a factor.

D) None of the options is a false statement.

101) As mergers, acquisitions, and restructuring have increased in importance, agency theory has become more important in assessing whether A) a stock repurchase should be undertaken.

B) shareholder goals are truly being achieved by managers in the long run.

C) managers are actually agents or only employees of the firm.

D) managers are owners of the company and act the same with the same interests.

102) Insider trading occurs when A) someone has information not available to the public which they use to profit from trading in stocks.

B) corporate officers buy stock in their company.

C) lawyers, investment bankers, and others buy common stock in companies represented by their firms.

D) any stock transaction that violates the Federal Trade Commissions restrictions.

103) The major difficulty in most insider-trading cases has been A) that lenient judges have simply released the guilty individuals.

B) that insider trading, even though illegal, actually serves a beneficial economic and financial purpose.

C) that inside trades have not been legally well-defined.

D) that it is hard to figure out which owner(s) benefited from the trade.

104) What is the major difference between money markets and capital markets?

A) One is more domestic while the other is more international.

B) One includes stock while the other includes loans.

C) The size of the profit or return on the market.

D) The timing of how long the security will be held onto.

105) Capital markets do not include which of the following securities?

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106) When a corporation uses the financial markets to raise new funds, the sale of securities is made in the A) primary market.

B) secondary market.

C) online market.

D) third market.

107) Which of the following statements is not true of secondary markets?

A) After securities are sold to the public, they are traded in the secondary market between investors.

B) The secondary market prices are continually changing as investors buy and sell securities.

C) The sale of securities is made in the secondary market by way of a new issue.

D) In the secondary market, financial managers are given feedback about their firm's performance.

108) Companies that have higher risk than a competitor in the same industry will generally have A) to pay a higher interest rate than its competitors.

B) a lower relative stock price than its competitors.

C) a higher cost of funds than its competitors.

D) All of the options 109) What is financial capital as defined in the financial industry?

A) The structure of the company B) The sales price of stock C) Profits D) Money 110) The financial markets allocate capital to corporations by A) reflecting expectations of the market participants in the price of the corporation's stock.

B) requiring higher returns from companies with lower risk than their competitors.

C) rewarding companies with expected high returns with lower relative stock prices.

D) relying on the opinion of investment bankers.

111) Corporate restructuring can be a result of more institutional ownership. Restructuring can cause A) changes in the amount of assets versus the amount of liabilities of the firm.

B) the sale of low-profit margin divisions.

C) the removal of current management and/or large reductions in the workforce.

D) All of the options 112) A corporate restructuring can result in A) changes in the capital structure.

B) selling of low-profit margin divisions.

C) the board of directors exercising control of the company's major decisions.

D) All of the options are true.

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113) Which of the following is not an example of restructuring?

A) Increase or decrease the amount of common stock.

B) Eliminating profitable but unrelated divisions.

C) Merging with companies in related industries.

D) Divesting of an unprofitable division.

114) Future financial managers will need to understand A) international cash flows.

B) computerized funds transfers.

C) international currency hedging strategies.

D) All of the options are true.

115) The increase in the internationalization of financial markets has led to A) companies searching the global financial markets for low-cost funds.

B) an increase in American Depository Receipts (ADRs) on the New York Stock Exchange.

C) an increase in debt obligations denominated in foreign currency on U.S. corporate balance sheets.

D) All of the options are true.

116) The internationalization of the financial markets has A) allowed firms such as McDonald's to raise capital around the world.

B) raised the cost of capital.

C) forced companies to price everything in U.S. dollars.

D) All of the options are true.

117) The Internet has affected the financial markets by A) creating more competition between markets.

B) pushing the cost of trading down.

C) forcing brokerage companies to consolidate.

D) All of the options are true.

118) Increased productivity due to technology has A) increased corporations' reliance on debt for capital expansion needs.

B) created larger asset values on the firm's historical balance sheet.

C) made it cheaper (in terms of interest costs and timing of when money is transferred) for firms to borrow money.

D) helped to keep corporate costs in check.

119) Companies that perform well A) can sell their stock for a lower price.

B) can minimize dilution when issuing new shares.

C) can issue debt at a lower interest rate.

D) can minimize dilution when issuing new shares and can issue debt at a lower interest rate.

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120) The entity that is responsible for establishing the allocation and cost of capital is/are A) the corporation.

B) the economy.

C) investors.

D) customers.

121) The benefits of social responsibility often include A) a better reputation.

B) higher short-term earnings.

C) lower expenses.

D) None of the options 122) Who is accountable for social responsibility within a firm?

A) The board of directors B) Management C) Investors D) The financial market 123) Regarding risk levels, financial managers should A) pursue higher-risk projects because they increase value.

B) avoid higher-risk projects because they destroy value.

C) focus primarily on market fluctuations.

D) evaluate investors' desire for risk.

Foundations of Financial Management, 17e (Block) Chapter 2 Review of Accounting 1) The income statement is the major device for measuring the profitability of a firm over a period of time.

2) The income statement shows the amount of profits earned based on any one given day.

3) Sales minus cost of goods sold is equal to earnings before taxes.

4) Sales minus cost of goods sold is equal to gross profit.

5) It is not possible for a company with a high gross profit margin to have a low operating profit.

6) Gross profit margin is a measurement of how much gross profit a company generated from the amount of sales it earned.

7) Operating profit is essentially a measure of how efficient management is in generating revenues and controlling expenses.

8) Another way of writing net income after tax is earnings after taxes (EAT).

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9) Dividing earnings after taxes (which includes all profits distributed to both preferred stockholders and common stockholders) by common shares outstanding produces earnings per share.

10) The price-earnings (P/E) ratio is strongly related to the past performance of the firm.

11) Accounting income is based on verifiably completed transactions.

12) When a firm has a sharp drop off in earnings, its P/E ratio may be artificially high.

13) The P/E ratio provides no indication of investors' expectations about the future of a company.

14) The real value of a firm is the same from an economic and accounting perspective.

15) A balance sheet represents the assets, liabilities, and owner's equity of a company at a given point in time.

16) A balance sheet represents what the firm owns, owes, and ownership of a company at a given date.

17) Liquidity means that the items that can convert to cash show up as cash on the balance sheet.

18) The investments account includes marketable securities.

19) The long-term investments account represents a commitment of funds of at least one year or more.

20) Asset accounts are listed in order of their liquidity.

21) Accumulated depreciation shows up in the income statement, while depreciation expense shows up on the balance sheet.

22) Accumulated depreciation should always be equal to the depreciation expense charged in the income statement.

23) Total assets of a firm are paid for with liabilities and stockholders' equity.

24) Marketable securities are short term investments and are valued on the balance sheet at their original purchase price.

25) Book value per share of stock and market value per share of stock are usually the same dollar amount.

26) Book value per share of stock is of greater concern to the financial manager than market value per share of stock.

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27) Book value of a company is equal to net worth of a company, which is not always equal to the market value of the company.

28) Equity is a measure of the monetary contributions that have been made directly or indirectly on behalf of the owners of the company.

29) Stockholders equity is equal to liabilities plus assets.

30) Stockholders equity is equal to assets minus liabilities.

31) Retained earnings shown on the balance sheet represents profits generated from prior year's earnings less any prior dividends.

32) Balance sheet items should be adjusted for inflation when valuing a company.

33) Balance sheet items consider inflation and market value when assigning the amount to assets, liabilities, and equity accounts.

34) Cash and cash equivalents are considered anything that can convert to cash within one year.

35) The Statement of Cash Flows has three parts: operating, investing, and financing under both the indirect and direct method.

36) The statement of cash flows helps measure how the changes in a balance sheet accounts were financed between two time periods, the beginning and the ending balance.

37) Cash flow from operations is equal to earnings before taxes minus depreciation.

38) The indirect method of preparing the Cash Flow Statement basically adjusts the net income to reflect what the financials would have looked like if cash basis was used instead of accrual basis.

39) Assume that two companies both have a net income of $100,000. The firm with the highest depreciation expense will have the highest cash flow, assuming all other adjustments are equal.

40) An increase in assets represents a positive source of funds.

41) An increase in a liability account represents a source of positive funds on the cash flow statement.

42) The purchase of a new factory building would reduce the cash flows from investing activities on the statement of cash flows.

43) Paying cash dividends to common shareholders will not affect the Cash Flow Statement.

44) The sale of a firm's securities is a source of positive funds, whereas the purchase of securities is a use of funds.

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45) Depreciation is an accrual accounting entry that does not affect the cash account so it needs to be adjusted for when using the indirect method of the Cash Flow Statement.

46) Free cash flow is equal to cash flow from operating activities plus depreciation.

47) Free cash flow is equal to cash flow from operating activities minus necessary capital expenditures and normal dividend payments.

48) Beginning in 2018, one of the major changes regarding the corporate tax rate was its reduction from 35% to a flat rate of 21%.

49) The corporate tax rate change of 2018 means that corporations are no longer responsible to pay state and foreign taxes.

50) For corporations with low taxable income (less than $50,000), the effective tax rate can be as much as 40%.

51) The corporate tax rate reduction to a flat rate of 21% in 2018 was done to make the U.S. corporate tax rate more competitive with rates imposed by other countries and to encourage economic activity in the U.S. 52) Interest expense is deductible before taxes and therefore has an after-tax cost equal to the interest paid times (1 - tax rate).

53) Federal corporate tax rates have changed several times since 1980.

54) A $125,000 credit sale could be a part of a firm's cash flow from operations if money is received within the firm's same fiscal year.

55) Preferred stock dividends are tax deductible.

56) Book value per share is the most important measure of value of a firm for a stockholder.

57) An increase in accounts receivable results in a cash inflow on the statement of cash flows.

58) A decrease in bonds payable results in a cash outflow on the statement of cash flows.

59) An increase in accrued expenses results in a cash outflow on the statement of cash flows.

60) A cash flow statement is considered correct if the change in cash flow plus the beginning balance ties to the ending cash balance.

61) Although depreciation does not provide cash to the firm directly, the fact that it is tax-deductible can provide cash inflow to the company.

62) Gross profit is equal to A) sales minus cost of goods sold.

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B) sales minus selling and administrative expenses.

C) sales minus cost of goods sold and selling and administrative expenses.

D) sales minus cost of goods sold and depreciation expense.

63) Which of the following is not subtracted in arriving at operating income?

A) Interest expense B) Cost of goods sold C) Depreciation D) Selling and administrative expense 64) Increasing interest expense will have what effect on Earnings Before Interest and Taxes (EBIT)?

A) Increase it.

B) Decrease it.

C) It will have no effect.

D) There is not enough information to tell.

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65) Allen Lumber Company had earnings after taxes of $750,000 in the year 2015 with 300,000 shares outstanding on December 31, 2015. On January 1, 2016, the firm issued 50,000 new shares.

The company took the proceeds from these new shares as well as other operating improvements and earned $937,500 earnings after taxes in 2016. Earnings per share for the year 2016 were A) $2.14.

B) $2.68.

C) $3.13.

D) None of the options.

66) Consider the following information for Ball Corp.

Selling and administrative expense Depreciation expense Sales Interest expense Cost of goods sold Taxes

$

40,000 70,000 350,000 30,000 110,000 17,500

What is the operating profit for Ball Corp.?

A) $71,450 B) $90,000 C) $130,000 D) None of the options 67) Candy Company had sales of $320,000 and cost of goods sold of $112,000. What is the gross profit margin (ratio of gross profit to sales)?

A) 55% B) 65% C) 35% D) 73.3% 68) Density Farms Inc. had sales of $750,000, cost of goods sold of $200,000, selling and administrative expense of $70,000, and operating profit of $150,000. What was the value of depreciation expense?

A) $150,000 B) $230,000 C) $330,000 D) $0

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69) Elgin Battery Manufacturers had sales of $1,000,000 in 2015 and their cost of goods sold is $700,000. Selling and administrative expenses were $100,000. Depreciation expense was $80,000 and interest expense for the year was $10,000. The firm's tax rate is 30 percent. What is the dollar amount of taxes paid in 2015?

A) $36,000 B) $117,800 C) $33,000 D) $300,000 70) A firm has $1,500,000 in its common stock account and $1,000,000 in its capital paid in excess of par account. The firm issued 100,000 shares of common stock. What was the issue price (market value) if only one stock issuance has occurred?

A) $35 per share B) $25 per share C) $15 per share D) Not enough information to determine 71) A firm has $4,000 in its common stock account and $10,000 in its paid-in capital account. The firm issued 1,000 shares of common stock. What is the par value of the common stock?

A) $40 per share B) $10 per share C) $4 per share D) $14 per share 72) A firm with earnings per share of $3 and a price-earnings (P/E) ratio of 24 will have a stock market price of A) $72.00.

B) $15.00.

C) $6.67.

D) $3.00.

73) Earnings per share is A) operating profit divided by number of shares outstanding.

B) net income divided by number of shares outstanding.

C) net income divided by stockholders' equity.

D) net income minus preferred dividends divided by number of shares outstanding.

74) Price-earnings (P/E) ratio is influenced by all of the following BUT A) the business risk the firm takes on.

B) earnings per share.

C) quality of management.

D) All of the options are true.

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75) Reinvested funds into retained earnings theoretically belong to A) bond holders.

B) common stockholders.

C) employees.

D) All of the options 76) When a firm's earnings are falling more rapidly than its stock price, its P/E ratio will A) remain the same.

B) go up.

C) go down.

D) either go up or down.

77) Which of the following factors do not influence the firm's P/E ratio?

A) Past earnings B) Shares outstanding C) Volatility in business performance D) All of the options influence the firm's P/E ratio.

78) Which of the following would not be classified as a current asset?

A) Marketable securities B) Plant property and equipment C) Prepaid expenses D) Inventory 79) An item which may be converted to cash within one year or one operating cycle of the firm is classified as a A) current liability.

B) long-term asset.

C) current asset.

D) long-term liability.

80) Asset accounts on the balance sheet are listed in order of A) liquidity.

B) profitability.

C) dollar amount.

D) importance.

81) Which of the following is not a primary source of raising money or capital for the firm?

A) Assets B) Common stock C) Preferred stock D) Bonds

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82) How many of the following balance sheet items are classified as a current asset or current liability?

Retained earnings Accounts payable Plant and equipment Inventory Common stock Bonds payable Accrued wages payable Accounts receivable Preferred stock A) Three of these items.

B) Four of these items.

C) Five of these items.

D) Six of these items.

83) How many of the following items are found on the balance sheet, rather than the income statement?

Accounts receivable Retained earnings Income tax expense Accrued payable Cash Selling and administrative expenses Plant and equipment Operating expense Marketable securities Interest expense A) Three of these items are found on the balance sheet.

B) Four of these items are found on the balance sheet.

C) Five of these items are found on the balance sheet.

D) Six of these items are found on the balance sheet.

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84) How many of the following items are found on the income statement, rather than the balance sheet?

Sales Notes payable (due in six months) Bonds payable (mature in 10 years) Common stock Depreciation expense Inventories Capital in excess of par value Net income (earnings after taxes) Income tax payable A) Two of these items are found on the income statement.

B) Three of these items are found on the income statement.

C) Four of these items are found on the income statement.

D) Five of these items are found on the income statement.

85) Which account represents the cumulative earnings of the firm since the firm started, minus dividends paid?

A) Paid-in capital B) Common stock C) Retained earnings D) Accumulated depreciation 86) The major limitation of financial statements are A) their complexity.

B) their lack of comparability.

C) their use of historical cost accounting.

D) their lack of detail.

87) Net worth is equal to stockholders' equity A) plus dividends.

B) minus preferred stock.

C) plus preferred stock.

D) minus liabilities.

88) Book value is the same as A) stockholders' equity.

B) fixed assets minus long-term debt.

C) net worth.

D) current assets minus current debt.

89) Total stockholders' equity consists of A) preferred stock and common stock.

B) common stock and retained earnings.

C) common stock, preferred stock, and capital paid in excess of par.

D) preferred stock, common stock, capital paid in excess of par, and retained earnings.

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90) The net worth of a firm A) is usually the same as the firm's market value.

B) is based on current asset costs.

C) is based on current assets less current liabilities.

D) None of the options 91) The book value per share is based off of ________ data, while the market value per share is based off of ________ data.

A) short term; long term B) future; historical C) historical; future D) long term; short term 92) The primary disadvantage of accrual accounting is that A) it does not match revenues and expenses in the period in which they are incurred.

B) it does not appropriately measure accounting profit.

C) it does not recognize accounts receivable.

D) it does not adequately show the actual cash flows of the firm.

93) The statement of cash flows does not include which of the following sections?

A) Cash flows from operating activities B) Cash flows from sales activities C) Cash flows from investing activities D) Cash flows from financing activities 94) Which of the following is an outflow of cash?

A) Profitable operations B) The sale of equipment C) The sale of the company's common stock D) The payment of cash dividends 95) Which of the following is an inflow of cash?

A) Funds spent in normal business operations B) The purchase of a new factory C) The sale of the firm's bonds D) The retirement of the firm's bonds 96) A statement of cash flows allows a financial analyst to determine A) whether a cash dividend is affordable.

B) how increases in assets have been financed.

C) whether long-term assets are being financed with long-term or short-term financing.

D) All of the options

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97) Which of the following would represent a use of funds and, indirectly, a reduction in cash balances?

A) An increase in inventories B) A decrease in marketable securities C) An increase in accounts payable D) The sale of new bonds by the firm 98) Which of the following would represent a positive source of funds and, indirectly, an increase in cash balances?

A) A reduction in accounts receivable B) The repurchase of shares of the firm's stock C) A decrease in net income D) A reduction in notes payable 99) A firm's purchase of plant and equipment would be considered a A) use of cash for financing activities.

B) use of cash for operating activities.

C) source of cash for operating activities.

D) use of cash for investment activities.

100) How many of the following items decrease cash flow in the statement of cash flows?

Increase in accounts receivable Increase in notes payable Depreciation expense Increase in investments Decrease in accounts payable Decrease in prepaid expenses Dividend payment Increase in accrued expenses A) Two of these items decrease cash flow B) Three of these items decrease cash flow C) Four of these items decrease cash flow D) Five of these items decrease cash flow 101) Depreciation is a source of cash inflow because A) it is a non-cash expense, so it needs to be added back to net income when using the indirect method.

B) it supplies cash for future asset purchases.

C) it is a tax-deductible cash expense.

D) it is a taxable expense.

102) Preferred stock dividends ________ earnings available to common stockholders.

A) increase B) decrease C) do not effect D) There is not enough information to determine.

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103) Free cash flow is used to help determine: the amount of cash that is generated from the business operations, including normal sales and normal costs, payments made to owners, and purchases of property. the amount of cash that is available for extra activities that the firm may want to get involved in. the amount of cash that is considered taxable for federal income taxes.

A) Option I only B) Option II only C) Options I and III D) Options I and II. 104) Given the following, what is free cash flow?

Cash flow from operating activities Cash flow from investing activities Cash flow from financing activities Building purchases Dividends Paid

$ 200,000 $ 140,000 $ 56,000 $ 50,000 $ 20,000

A) $396,000 B) $270,000 C) $326,000 D) $130,000 105) Assuming a tax rate of 21%, depreciation expenses of $500,000 will A) reduce income by $15,000.

B) reduce taxes by $105,000.

C) reduce taxes by $150,000.

D) have no effect on income or taxes, since depreciation is not a cash expense.

106) Assuming a tax rate of 21%, the after-tax cost of interest expense of $1,000,000 is A) $1,000,000 B) $79,000 C) $790,000 D) $400,000 107) Assuming a tax rate of 21%, the after-tax cost of a $100,000 dividend payment is A) $100,000 B) $70,000 C) $30,000 D) None of the options

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108) Farah Snack Co. has earnings after taxes of $150,000. Interest expense for the year was $20,000; preferred dividends paid were $20,000; and common dividends paid were $30,000.

Taxes were $22,500. The firm has 100,000 shares of common stock outstanding. Earnings per share on the common stock was A) $1.30.

B) $1.10.

C) $0.75.

D) $0.80.

109) Gerry Co. has a gross profit of $1,200,000 and depreciation expense of $400,000. Selling and administrative expense is $250,000. Given that the tax rate is 21 percent, compute the cash flow from operations for Gerry Co. A) $834,500 B) $550,000 C) $330,000 D) None of the options 110) Hoover Inc. has current assets of $350,000 and fixed plant assets of $650,000. Current liabilities are $100,000 and long-term liabilities are $250,000. There is $120,000 in preferred stock outstanding and the firm has issued 10,000 shares of common stock. What is the firm's total equity?

A) $1,000,000.

B) $530,000 C) $350,000 D) $650,000 111) Hoover Inc. has current assets of $350,000 and fixed plant assets of $650,000. Current liabilities are $100,000 and long-term liabilities are $250,000. There is $120,000 in preferred stock outstanding and the firm has issued 10,000 shares of common stock. Compute book value (net worth) per share A) $84.00.

B) $53.00.

C) $75.00.

D) $65.00.

112) The best indication of the operational efficiency of management is A) net income.

B) earnings per share.

C) earnings before interest and taxes (EBIT).

D) gross profit.

113) Which of the following would indicate an accurate statement of cash flows?

A) Net cash flow is equal to marketable securities balance B) Net cash flows from financing activities are equal to the change in stockholder's equity C) Net cash flow is equal to the ending cash balance D) Net cash flow is equal to the change in the cash balance 25 Copyright © 2019 McGraw-Hill Education. All rights reserved.

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114) An increase of $100,000 in inventory would result in a(n) A) Decrease of net cash flow.

B) Increase in net cash flow.

C) Decrease in marketable securities.

D) Increase in bonds payable.

115) Compute the cash flows from operations using the indirect method if Star Corporation had $250,000 in net income, $30,000 in depreciation expense, a decrease of $20,000 in accounts receivable and an increase in bonds payable of $50,000.

A) $370,000 B) $300,000 C) $250,000 D) $310,000 116) One of the primary factors evaluated when a company is pursuing a leveraged buyout is A) Net cash flow.

B) Free cash flow.

C) Cash flow from financing activities.

D) Cash flow from investing activities.

Foundations of Financial Management, 17e (Block) Chapter 3 Financial Analysis 1) Ratios are used to compare different firms in the same industry.

2) Ratios are not considered as important to non-accounting functional areas of a business such as marketing, head of production and human resources.

3) Asset utilization ratios include receivable turnover, average collection period, inventory turnover, fixed asset turnover and total asset turnover.

4) Financial ratios are used to weigh and evaluate the operational performance of the firm.

5) Liquidity ratios indicate how fast a firm can generate cash to pay bills.

6) Asset utilization ratios describe how capital is being utilized to buy assets.

7) Profitability ratios allow one to measure the ability of the firm to earn an adequate profit compared to sales, total assets, and invested capital.

8) Asset utilization ratios measure the net returns on various assets such as return on total assets.

9) A trade creditor is most concerned about a firm's profitability ratios.

10) Ratios are only useful for those areas of business that involve investment decisions.

11) Debt utilization ratios are used to evaluate the firm's debt position with regard to its asset base 26 Copyright © 2019 McGraw-Hill Education. All rights reserved.

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and earning power.

12) The DuPont system of analysis emphasizes that profit generated by assets can be derived by a combination of profit levels and how fast an asset can turnover.

13) Satisfactory return on assets may be achieved through high profit margins or rapid turnover of assets, but not a combination of both.

14) Heavy use of long-term debt can be of benefit to a firm to help expand, although it adds to the firm's overall level of risk.

15) Return on equity will be higher than return on assets if there is higher amounts of debt in the capital structure.

16) Higher debt utilization ratios will always increase a firm's return on equity given a positive return on assets.

17) Return on equity will not change if the firm increases its use of debt.

18) The age of the firm's assets is not necessary for analyzing ratios.

19) Asset utilization ratios relate balance sheet assets to income statement net income.

20) A current ratio of 2 to 1 is always acceptable for a company in any industry.

21) To compute the quick ratio, accounts receivable are not included in current assets.

22) Asset utilization ratios can be used to measure the effectiveness of a firm's managers.

23) Ratios are not misleading by inflation.

24) Profitability ratios are distorted by inflation because profits are stated in current dollars, while assets and equity are stated in historical dollars.

25) As long as prices of products continue to rise faster than costs in an inflationary environment, reported profits will generally continue to rise.

26) Industries with cyclical products such as lumber and copper are more sensitive to inflation-induced profits because many sales prices and/or expenses are set by the market.

27) Although Apple Computers has a profit margin significantly greater than that of a long-time industry giant such as IBM, IBM continues to have a higher return on equity than Apple. The primary reason for this unusual condition is that IBM has a much greater equity than Apple.

28) The stock market tends to move up when inflation goes up.

29) Economists believe that prices of goods may rise before 2020 since the prices of most goods 27 Copyright © 2019 McGraw-Hill Education. All rights reserved.

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fell during the 2008-2009 recession.

30) Under generally acceptable accounting principles, two companies with identical operating results may not report identical net incomes.

31) Inflation causes phantom sources of profit that may mislead even the most alert analyst.

32) One of the major problems during inflationary times is that revenue is almost always stated in current dollars, whereas plant and equipment or inventory may have been purchased at lower levels.

33) During disinflation, stock prices tend to go up because the investor's required rate of return goes down.

34) LIFO and FIFO are two ways that companies following the generally accepted accounting principles value their inventory. One method may be preferred over the other during inflationary time periods, which results in different profits, even though both methods are legal to use.

35) Analysts agree that extraordinary gains/losses should be excluded from ratio analysis because they are one-time events, and can distort annual results from normal operations.

36) LIFO inventory pricing does a better job than FIFO in equating current costs with current revenue.

37) Trend analysis is used to project the future performance of an industry.

38) If two companies have the same return on equity (ROE), they will also have the same return on assets (ROA).

39) A company can improve its return on equity (ROE) by changing its capital structure.

40) Because ratios are historic, they have minimal value to an investor.

41) Times interest earned is an example of a profitability ratio.

42) Investors are most concerned with the liquidity ratios of a company.

43) Ratio analysis can be useful for A) historical trend analysis within a firm.

B) comparison of ratios within a single industry.

C) measuring the effects of debt or equity financing.

D) All of the options are true.

44) In examining the liquidity ratios, the primary emphasis is the firm's A) ability to effectively employ its resources.

B) overall debt position.

C) ability to pay short-term obligations on time.

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D) ability to earn an adequate return or profits.

45) Which of the following is not an asset utilization ratio?

A) Inventory turnover B) Return on assets C) Fixed asset turnover D) Average collection period 46) Which of the following is not a debt utilization ratio?

A) Debt to total assets B) Times interest earned C) Fixed asset turnover D) Fixed charge coverage 47) A short-term creditor would be most interested in A) profitability ratios.

B) asset utilization ratios.

C) liquidity ratios.

D) debt utilization ratios.

48) Which of the following is not considered to be a profitability ratio?

A) Profit margin B) Times interest earned C) Return on equity D) Return on assets (investment) 49) Which two ratios are used in the DuPont system to create return on assets?

A) Return on assets and asset turnover B) Profit margin and asset turnover C) Return on total capital and profit margin D) Inventory turnover and return on fixed assets 50) The Bubba Corp. had earnings before taxes of $400,000 and sales of $2,000,000. If it is in the 40% tax bracket, its after-tax profit margin is A) 40%.

B) 12%.

C) 20%.

D) 25%.

51) A firm has a debt-to-equity ratio of 40%, a debt of $250,000, and a net income of $100,000.

The return on equity is A) 60%.

B) 16%.

C) 30%.

D) There's not enough information to determine the return on equity.

52) A firm has a debt-to-total assets ratio of 60%, $300,000 in debt, and a net income of $50,000.

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Calculate return on equity.

A) 40% B) 20% C) 25% D) There is not enough information to calculate return on equity.

53) For a given level of profitability as measured by profit margin, the firm's return on equity will A) increase as its debt-to-assets ratio decreases.

B) decrease as its current ratio increases.

C) increase as its debt-to-assets ratio increases.

D) decrease as its times-interest-earned ratio decreases.

54) ABC Co. has an average collection period of 90 days for its accounts receivable. If total credit sales for the year were $6,000,000, what is the balance in accounts receivable at year-end? Assume a 360-day calendar year.

A) $150,000 B) $2,250,000 C) $1,500,000 D) $40,000 55) Asset utilization ratios A) relate balance sheet assets to income statement sales.

B) measure how much cash is available for reinvestment into current assets.

C) are most important to stockholders.

D) measure the firm's ability to generate a profit on sales.

56) XYZ's receivables turnover is 4x. The accounts receivable at year-end are $600,000. The average collection period is 90 days. What was the sales figure for the year assuming all sales are on credit?

A) $60,000 B) $6,000,000 C) $2,400,000 D) $54,000,000 57) If ABC's sales are $1,000,000, while accounts receivable is $100,000, inventory is $45,000, and fixed assets are $132,000, what is ABC's fixed asset turnover?

A) 7.58 B) 10.00 C) 0.13 D) 22.22 58) If XYZ's receivables turnover is 4x, what does that mean?

A) XYZ's total sales are rotated four times a year.

B) XYZ has a really good receivables turnover rate.

C) XYZ is able to collect its receivables every 90 days, or 4 times a year.

D) XYZ generates four times as much sales through receivables than sales through cash.

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59) A decreasing average receivables collection period could be associated with A) increasing account receivable.

B) decreasing sales.

C) increasing sales and decreasing accounts receivable.

D) none of the answers are correct.

60) If accounts receivable stays the same, and credit sales go up A) the average collection period will go up.

B) the average collection period will go down.

C) accounts receivable turnover will decrease.

D) the average collection period will go down and accounts receivable turnover will decrease.

61) Total asset turnover indicates the firm's A) liquidity.

B) debt position.

C) ability to use its assets to generate sales.

D) profitability.

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62) A firm only has current assets and fixed assets. Its current assets are $100,000 and total assets are $300,000. The firm's sales are $900,000. The firm's fixed asset turnover is A) 4.5x.

B) 12.0x.

C) 2.4x.

D) 5.0x.

63) A quick ratio that is much smaller than the current ratio reflects A) a small portion of current assets is in inventory.

B) a large portion of current assets is in inventory.

C) that the firm will have a high inventory turnover.

D) that the firm will have a high return on assets.

64) A firm's long-term assets = $100,000, total assets = $400,000, inventory = $50,000 and current liabilities = $200,000. What are the firm's current ratio and quick ratio?

A) Current ratio = 0.5; quick ratio = 1.25 B) Current ratio = 1.0; quick ratio = 2.0 C) Current ratio = 1.5; quick ratio = 1.25 D) Current ratio = 2.5; quick ratio = 2.0 65) Investors and financial analysts wanting to evaluate the operating efficiency of a firm's managers would primarily look at the firm's A) debt utilization ratios.

B) liquidity ratios.

C) asset utilization ratios.

D) profitability ratios.

66) An increasing average receivables collection period indicates A) the firm is generating more income.

B) accounts receivable are going down.

C) the company is becoming more efficient in its collection policy.

D) the company is becoming less efficient in its collection policy.

67) In addition to comparison with industry ratios, it is also helpful to analyze ratios using A) future projections B) historical data C) only industry ratios provide valid comparisons.

D) trend analysis and historical comparisons.

68) If a firm has both a fixed interest expense and fixed lease payments, A) times interest earned ratio will be smaller than fixed charge coverage ratio.

B) times interest earned ratio will be greater than fixed charge coverage ratio.

C) times interest earned ratio will be the same as fixed charge coverage ratio.

D) fixed charge coverage ratio cannot be computed.

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69) A firm has operating profit of $210,000 after deducting fixed lease payments of $30,000. The fixed interest expense is $50,000. What is the firm's fixed charge coverage ratio?

A) 6.00x B) 2.33x C) 2.00x D) 3.00x 70) A firm has total assets of $3,000,000 and stockholders equity is $1,000,000. What is the debt-to-total asset ratio?

A) 45% B) 75% C) 55% D) 67% 71) The higher a firm's debt utilization ratios, excluding debt-to-total assets, the A) less risky the firm's financial position.

B) more risky the firm's financial position.

C) more easily the firm will be able to pay dividends.

D) None of the options 72) If fixed lease payments are reduced and everything else remains constant, A) times interest earned goes up.

B) fixed charge coverage goes up.

C) fixed charge coverage stays the same.

D) debt to total assets goes down.

73) Industries most sensitive to inflation-induced profits are those with A) seasonal products.

B) cyclical products.

C) consumer products.

D) high-profit products.

74) Replacement cost accounting (current cost method) during a period of inflation will usually A) increase assets, decrease net income before taxes, and lower the return on equity.

B) increase assets, increase net income before taxes, and increase the return on equity.

C) decrease assets, increase net income before taxes, and increase the return on equity.

D) None of the options apply.

75) During inflation, replacement cost accounting will A) increase the value of assets.

B) lower the debt-to-asset ratio.

C) reduce incomes.

D) All of the options

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76) Income can be distorted by factors other than inflation. The most important causes of distortion for inter-industry comparisons are A) timing of revenue receipts and nonrecurring gains or losses.

B) tax write-off policy and use of different inventory methods.

C) Both of these.

D) None of the options 77) Disinflation may cause A) an increase in the value of gold, silver, and gems.

B) a reduced required return demanded by investors on financial assets.

C) additional profits through falling inventory costs.

D) None of the options are true 78) Disinflation, as compared to inflation, would normally be good for investments in A) bonds.

B) gold.

C) collectible antiques.

D) textbooks.

79) Industries most sensitive to inflation-induced profits are: A) cyclical products like lumber, copper, and rubber B) food products C) industries which inventory is a significant percentage of sales and profits.

D) all of the above.

80) A conservative company experiencing rapid price increases for its products would use LIFO to try to: A) Allow the inventory that was just purchased at a higher price to be moved to cost of goods sold, showing a lower net income.

B) Allow the inventory that was just purchased at a higher price to remain in ending inventory values and move older inventory to cost of goods sold, showing a higher net income.

C) Allow the inventory that was just purchased at a lower price to remain in ending inventory values and move older inventory to cost of goods sold, showing a lower net income.

D) Allow the inventory that was just purchased at a lower price to be moved to cost of goods sold, showing a higher net income.

81) The ________ method of inventory costing is least likely to lead to inflation-induced profits.

A) FIFO B) LIFO C) Weighted average D) Lower of cost or market

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82) Assuming proper accounting disclosure is used, a large extraordinary loss has what effect on the normal operating profits in the future?

A) It raises it.

B) It lowers it.

C) It has no effect.

D) More information is needed to determine the effect.

83) Which of the following is a potential problem of utilizing ratio analysis?

A) Trends and industry averages are historical in nature.

B) Financial data may be distorted due to price-level changes.

C) Firms within an industry may not use similar accounting methods.

D) All of the options 84) If government bonds pay 7.0% interest and insured savings accounts pay 5.0% interest, stockholders in a moderately risky firm would expect return-on-equity values of A) 5.0%.

B) 7.0%.

C) 9.0%.

D) above 7.0%.

85) The most rigorous test of a firm's ability to pay its short-term obligations is its A) current ratio.

B) quick ratio.

C) debt-to-assets ratio.

D) times-interest-earned ratio.

86) If the company's accounts receivable turnover is increasing, the average collection period A) is going up slightly.

B) is going down.

C) could be moving in either direction.

D) is going up by a significant amount.

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87) MEGAFRAME COMPUTER COMPANY Balance Sheet As of December 31 ASSETS Cash Accounts receivable Inventory Net plant and equipment Total assets LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable Accrued expenses Long-term debt Common stock Paid-in capital Retained earnings Total liabilities and stockholders' equity

$

50,000 70,000 110,000 220,000 $ 450,000

$

70,000 50,000 130,000 70,000 40,000 90,000 $ 450,000

MEGAFRAME COMPUTER COMPANY Income Statement For the year ended December 31 Sales (all on credit) Cost of goods sold Gross profit Sales and administrative expenses Depreciation Operating profit Interest expense Profit before taxes Taxes (30%)

$ 875,000 600,000 $ 275,000 30,000 55,000 $ 190,000 25,000 $ 165,000 49,500

Net income

$ 115,500

Refer to the tables above. Using the DuPont method, return on assets (investment) for Megaframe Computer is approximately A) 13%.

B) 22%.

C) 26%.

D) 35%.

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88) MEGAFRAME COMPUTER COMPANY Balance Sheet As of December 31 ASSETS Cash Accounts receivable Inventory Net plant and equipment Total assets LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable Accrued expenses Long-term debt Common stock Paid-in capital Retained earnings Total liabilities and stockholders' equity

$

50,000 70,000 110,000 220,000 $ 450,000

$

70,000 50,000 130,000 70,000 40,000 90,000 $ 450,000

MEGAFRAME COMPUTER COMPANY Income Statement For the year ended December 31 Sales (all on credit) Cost of goods sold Gross profit Sales and administrative expenses Depreciation Operating profit Interest expense Profit before taxes Taxes (30%)

$ 875,000 600,000 $ 275,000 30,000 55,000 $ 190,000 25,000 $ 165,000 49,500

Net income

$ 115,500

Refer to the tables above. Compute Megaframe's after-tax profit margin.

A) 5.7% B) 13.2% C) 15.4% D) 18.9%

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89) MEGAFRAME COMPUTER COMPANY Balance Sheet As of December 31 ASSETS Cash Accounts receivable Inventory Net plant and equipment Total assets LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable Accrued expenses Long-term debt Common stock Paid-in capital Retained earnings Total liabilities and stockholders' equity

$

50,000 70,000 110,000 220,000 $ 450,000

$

70,000 50,000 130,000 70,000 40,000 90,000 $ 450,000

MEGAFRAME COMPUTER COMPANY Income Statement For the year ended December 31 Sales (all on credit) Cost of goods sold Gross profit Sales and administrative expenses Depreciation Operating profit Interest expense Profit before taxes Taxes (30%)

$ 875,000 600,000 $ 275,000 30,000 55,000 $ 190,000 25,000 $ 165,000 49,500

Net income

$ 115,500

Refer to the tables above. The firm's return on equity is A) 23%.

B) 56%.

C) 58%.

D) 100%.

38 Copyright © 2019 McGraw-Hill Education. All rights reserved.

No reproduction or distribution without the prior written consent of McGraw-Hill Education.

90) MEGAFRAME COMPUTER COMPANY Balance Sheet As of December 31 ASSETS Cash Accounts receivable Inventory Net plant and equipment Total assets LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable Accrued expenses Long-term debt Common stock Paid-in capital Retained earnings Total liabilities and stockholders' equity

$

50,000 70,000 110,000 220,000 $ 450,000

$

70,000 50,000 130,000 70,000 40,000 90,000 $ 450,000

MEGAFRAME COMPUTER COMPANY Income Statement For the year ended December 31 Sales (all on credit) Cost of goods sold Gross profit Sales and administrative expenses Depreciation Operating profit Interest expense Profit before taxes Taxes (30%)

$ 875,000 600,000 $ 275,000 30,000 55,000 $ 190,000 25,000 $ 165,000 49,500

Net income

$ 115,500

Refer to the tables above. What is the firm's average collection period? Assume a 360-day calendar year.

A) 29 days B) 25 days C) 13 days D) 20 days

39 Copyright © 2019 McGraw-Hill Education. All rights reserved.

No reproduction or distribution without the prior written consent of McGraw-Hill Education.

91) MEGAFRAME COMPUTER COMPANY Balance Sheet As of December 31 ASSETS Cash Accounts receivable Inventory Net plant and equipment Total assets LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable Accrued expenses Long-term debt Common stock Paid-in capital Retained earnings Total liabilities and stockholders' equity

$

50,000 70,000 110,000 220,000 $ 450,000

$

70,000 50,000 130,000 70,000 40,000 90,000 $ 450,000

MEGAFRAME COMPUTER COMPANY Income Statement For the year ended December 31 Sales (all on credit) Cost of goods sold Gross profit Sales and administrative expenses Depreciation Operating profit Interest expense Profit before taxes Taxes (30%)

$ 875,000 600,000 $ 275,000 30,000 55,000 $ 190,000 25,000 $ 165,000 49,500

Net income

$ 115,500

Refer to the tables above. The firm's receivable turnover is ________. Assume a 360-day calendar year.

A) 4.4x B) 10x C) 12.5x D) 28.8x

40 Copyright © 2019 McGraw-Hill Education. All rights reserved.

No reproduction or distribution without the prior written consent of McGraw-Hill Education.

92) MEGAFRAME COMPUTER COMPANY Balance Sheet As of December 31 ASSETS Cash Accounts receivable Inventory Net plant and equipment Total assets LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable Accrued expenses Long-term debt Common stock Paid-in capital Retained earnings Total liabilities and stockholders' equity

$

50,000 70,000 110,000 220,000 $ 450,000

$

70,000 50,000 130,000 70,000 40,000 90,000 $ 450,000

MEGAFRAME COMPUTER COMPANY Income Statement For the year ended December 31 Sales (all on credit) Cost of goods sold Gross profit Sales and administrative expenses Depreciation Operating profit Interest expense Profit before taxes Taxes (30%)

$ 875,000 600,000 $ 275,000 30,000 55,000 $ 190,000 25,000 $ 165,000 49,500

Net income

$ 115,500

Refer to the tables above. Megaframe's quick ratio is ________.

A) 1.9:1 B) 1:1 C) 1.8:1 D) 12:1

41 Copyright © 2019 McGraw-Hill Education. All rights reserved.

No reproduction or distribution without the prior written consent of McGraw-Hill Education.

93) MEGAFRAME COMPUTER COMPANY Balance Sheet As of December 31 ASSETS Cash Accounts receivable Inventory Net plant and equipment Total assets LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable Accrued expenses Long-term debt Common stock Paid-in capital Retained earnings Total liabilities and stockholders' equity

$

50,000 70,000 110,000 220,000 $ 450,000

$

70,000 50,000 130,000 70,000 40,000 90,000 $ 450,000

MEGAFRAME COMPUTER COMPANY Income Statement For the year ended December 31 Sales (all on credit) Cost of goods sold Gross profit Sales and administrative expenses Depreciation Operating profit Interest expense Profit before taxes Taxes (30%)

$ 875,000 600,000 $ 275,000 30,000 55,000 $ 190,000 25,000 $ 165,000 49,500

Net income

$ 115,500

Refer to the tables above. Megaframe's current ratio is ________.

A) 1.9:1 B) 1.8:1 C) 1:1 D) 3.0:1

42 Copyright © 2019 McGraw-Hill Education. All rights reserved.

No reproduction or distribution without the prior written consent of McGraw-Hill Education.

94) MEGAFRAME COMPUTER COMPANY Balance Sheet As of December 31 ASSETS Cash Accounts receivable Inventory Net plant and equipment Total assets LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable Accrued expenses Long-term debt Common stock Paid-in capital Retained earnings Total liabilities and stockholders' equity

$

50,000 70,000 110,000 220,000 $ 450,000

$

70,000 50,000 130,000 70,000 40,000 90,000 $ 450,000

MEGAFRAME COMPUTER COMPANY Income Statement For the year ended December 31 Sales (all on credit) Cost of goods sold Gross profit Sales and administrative expenses Depreciation Operating profit Interest expense Profit before taxes Taxes (30%)

$ 875,000 600,000 $ 275,000 30,000 55,000 $ 190,000 25,000 $ 165,000 49,500

Net income

$ 115,500

Refer to the tables above. What is Megaframe Computer's total asset turnover?

A) 7.58x B) 3.6x C) 2x D) 1.94x

43 Copyright © 2019 McGraw-Hill Education. All rights reserved.

No reproduction or distribution without the prior written consent of McGraw-Hill Education.

95) MEGAFRAME COMPUTER COMPANY Balance Sheet As of December 31 ASSETS Cash Accounts receivable Inventory Net plant and equipment Total assets LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable Accrued expenses Long-term debt Common stock Paid-in capital Retained earnings Total liabilities and stockholders' equity

$

50,000 70,000 110,000 220,000 $ 450,000

$

70,000 50,000 130,000 70,000 40,000 90,000 $ 450,000

MEGAFRAME COMPUTER COMPANY Income Statement For the year ended December 31 Sales (all on credit) Cost of goods sold Gross profit Sales and administrative expenses Depreciation Operating profit Interest expense Profit before taxes Taxes (30%)

$ 875,000 600,000 $ 275,000 30,000 55,000 $ 190,000 25,000 $ 165,000 49,500

Net income

$ 115,500

Refer to the tables above. The firm's debt to total assets ratio is ________.

A) 56.1% B) 26.7% C) 28.6% D) 55.6%

44 Copyright © 2019 McGraw-Hill Education. All rights reserved.

No reproduction or distribution without the prior written consent of McGraw-Hill Education.

96) MEGAFRAME COMPUTER COMPANY Balance Sheet As of December 31 ASSETS Cash Accounts receivable Inventory Net plant and equipment Total assets LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable Accrued expenses Long-term debt Common stock Paid-in capital Retained earnings Total liabilities and stockholders' equity

$

50,000 70,000 110,000 220,000 $ 450,000

$

70,000 50,000 130,000 70,000 40,000 90,000 $ 450,000

MEGAFRAME COMPUTER COMPANY Income Statement For the year ended December 31 Sales (all on credit) Cost of goods sold Gross profit Sales and administrative expenses Depreciation Operating profit Interest expense Profit before taxes Taxes (30%)

$ 875,000 600,000 $ 275,000 30,000 55,000 $ 190,000 25,000 $ 165,000 49,500

Net income

$ 115,500

Refer to the tables above. Times interest earned for Megaframe Computer is ________.

A) 3.8x B) 4.6x C) 11x D) 7.6x

45 Copyright © 2019 McGraw-Hill Education. All rights reserved.

No reproduction or distribution without the prior written consent of McGraw-Hill Education.

97) TEW COMPANY Balance Sheet As of December 31 ASSETS Cash Accounts receivable Inventory Net plant and equipment Total assets

$

20,000 80,000 50,000 250,000 $ 400,000

LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable Accrued expenses Long-term debt Common stock Paid-in capital Retained earnings Total liabilities and stockholders' equity

$

40,000 60,000 130,000 100,000 10,000 60,000 $ 400,000

TEW COMPANY Income Statement For the year ended December 31 Sales (all on credit) Cost of goods sold Gross profit Sales and administrative expenses Fixed lease expenses Depreciation Operating profit Interest expense Profit before taxes Taxes (35%)

$ 500,000 200,000 $ 300,000 20,000 10,000 40,000 $ 230,000 20,000 $ 210,000 73,500

Net income

$ 136,500

Refer to the tables above. Compute Tew's after-tax profit margin.

A) 42.0% B) 27.3% C) 59.4% D) None of the options

46 Copyright © 2019 McGraw-Hill Education. All rights reserved.

No reproduction or distribution without the prior written consent of McGraw-Hill Education.

98) TEW COMPANY Balance Sheet As of December 31 ASSETS Cash Accounts receivable Inventory Net plant and equipment Total assets

$

20,000 80,000 50,000 250,000 $ 400,000

LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable Accrued expenses Long-term debt Common stock Paid-in capital Retained earnings Total liabilities and stockholders' equity

$

40,000 60,000 130,000 100,000 10,000 60,000 $ 400,000

TEW COMPANY Income Statement For the year ended December 31 Sales (all on credit) Cost of goods sold Gross profit Sales and administrative expenses Fixed lease expenses Depreciation Operating profit Interest expense Profit before taxes Taxes (35%)

$ 500,000 200,000 $ 300,000 20,000 10,000 40,000 $ 230,000 20,000 $ 210,000 73,500

Net income

$ 136,500

Refer to the tables above. Using the DuPont method, return on assets (investment) for Tew is approximately ________.

A) 80% B) 34.1% C) 293.0% D) None of the options

47 Copyright © 2019 McGraw-Hill Education. All rights reserved.

No reproduction or distribution without the prior written consent of McGraw-Hill Education.

99) TEW COMPANY Balance Sheet As of December 31 ASSETS Cash Accounts receivable Inventory Net plant and equipment Total assets

$

20,000 80,000 50,000 250,000 $ 400,000

LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable Accrued expenses Long-term debt Common stock Paid-in capital Retained earnings Total liabilities and stockholders' equity

$

40,000 60,000 130,000 100,000 10,000 60,000 $ 400,000

TEW COMPANY Income Statement For the year ended December 31 Sales (all on credit) Cost of goods sold Gross profit Sales and administrative expenses Fixed lease expenses Depreciation Operating profit Interest expense Profit before taxes Taxes (35%)

$ 500,000 200,000 $ 300,000 20,000 10,000 40,000 $ 230,000 20,000 $ 210,000 73,500

Net income

$ 136,500

Refer to the tables above. The firm's return on equity is ________.

A) 136.5% B) 34.13% C) 80.29% D) 57.5%

48 Copyright © 2019 McGraw-Hill Education. All rights reserved.

No reproduction or distribution without the prior written consent of McGraw-Hill Education.

100) TEW COMPANY Balance Sheet As of December 31 ASSETS Cash Accounts receivable Inventory Net plant and equipment Total assets

$

20,000 80,000 50,000 250,000 $ 400,000

LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable Accrued expenses Long-term debt Common stock Paid-in capital Retained earnings Total liabilities and stockholders' equity

$

40,000 60,000 130,000 100,000 10,000 60,000 $ 400,000

TEW COMPANY Income Statement For the year ended December 31 Sales (all on credit) Cost of goods sold Gross profit Sales and administrative expenses Fixed lease expenses Depreciation Operating profit Interest expense Profit before taxes Taxes (35%)

$ 500,000 200,000 $ 300,000 20,000 10,000 40,000 $ 230,000 20,000 $ 210,000 73,500

Net income

$ 136,500

Refer to the tables above. The firm's receivable turnover is ________. Assume a 360-day calendar.

A) 57.6x B) 1.7x C) 6.25x D) 0.2x

49 Copyright © 2019 McGraw-Hill Education. All rights reserved.

No reproduction or distribution without the prior written consent of McGraw-Hill Education.

101) TEW COMPANY Balance Sheet As of December 31 ASSETS Cash Accounts receivable Inventory Net plant and equipment Total assets

$

20,000 80,000 50,000 250,000 $ 400,000

LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable Accrued expenses Long-term debt Common stock Paid-in capital Retained earnings Total liabilities and stockholders' equity

$

40,000 60,000 130,000 100,000 10,000 60,000 $ 400,000

TEW COMPANY Income Statement For the year ended December 31 Sales (all on credit) Cost of goods sold Gross profit Sales and administrative expenses Fixed lease expenses Depreciation Operating profit Interest expense Profit before taxes Taxes (35%)

$ 500,000 200,000 $ 300,000 20,000 10,000 40,000 $ 230,000 20,000 $ 210,000 73,500

Net income

$ 136,500

Refer to the tables above. The firm's average collection period is (assume a 360-day calendar).

A) 57.6 days.

B) 222 days.

C) 55.6 days.

D) 6.3 days.

50 Copyright © 2019 McGraw-Hill Education. All rights reserved.

No reproduction or distribution without the prior written consent of McGraw-Hill Education.

102) TEW COMPANY Balance Sheet As of December 31 ASSETS Cash Accounts receivable Inventory Net plant and equipment Total assets

$

20,000 80,000 50,000 250,000 $ 400,000

LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable Accrued expenses Long-term debt Common stock Paid-in capital Retained earnings Total liabilities and stockholders' equity

$

40,000 60,000 130,000 100,000 10,000 60,000 $ 400,000

TEW COMPANY Income Statement For the year ended December 31 Sales (all on credit) Cost of goods sold Gross profit Sales and administrative expenses Fixed lease expenses Depreciation Operating profit Interest expense Profit before taxes Taxes (35%)

$ 500,000 200,000 $ 300,000 20,000 10,000 40,000 $ 230,000 20,000 $ 210,000 73,500

Net income

$ 136,500

Refer to the tables above. The firm's inventory turnover ratio is ________.

A) 10x B) 8x C) 2.7x D) 0.1x

51 Copyright © 2019 McGraw-Hill Education. All rights reserved.

No reproduction or distribution without the prior written consent of McGraw-Hill Education.

103) TEW COMPANY Balance Sheet As of December 31 ASSETS Cash Accounts receivable Inventory Net plant and equipment Total assets

$

20,000 80,000 50,000 250,000 $ 400,000

LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable Accrued expenses Long-term debt Common stock Paid-in capital Retained earnings Total liabilities and stockholders' equity

$

40,000 60,000 130,000 100,000 10,000 60,000 $ 400,000

TEW COMPANY Income Statement For the year ended December 31 Sales (all on credit) Cost of goods sold Gross profit Sales and administrative expenses Fixed lease expenses Depreciation Operating profit Interest expense Profit before taxes Taxes (35%)

$ 500,000 200,000 $ 300,000 20,000 10,000 40,000 $ 230,000 20,000 $ 210,000 73,500

Net income

$ 136,500

Refer to the tables above. The firm's fixed asset turnover ratio is ________.

A) 2.0x B) 1.6x C) 0.5x D) 1.3x

52 Copyright © 2019 McGraw-Hill Education. All rights reserved.

No reproduction or distribution without the prior written consent of McGraw-Hill Education.

104) TEW COMPANY Balance Sheet As of December 31 ASSETS Cash Accounts receivable Inventory Net plant and equipment Total assets

$

20,000 80,000 50,000 250,000 $ 400,000

LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable Accrued expenses Long-term debt Common stock Paid-in capital Retained earnings Total liabilities and stockholders' equity

$

40,000 60,000 130,000 100,000 10,000 60,000 $ 400,000

TEW COMPANY Income Statement For the year ended December 31 Sales (all on credit) Cost of goods sold Gross profit Sales and administrative expenses Fixed lease expenses Depreciation Operating profit Interest expense Profit before taxes Taxes (35%)

$ 500,000 200,000 $ 300,000 20,000 10,000 40,000 $ 230,000 20,000 $ 210,000 73,500

Net income

$ 136,500

Refer to the tables above. What is Tew's total asset turnover?

A) 2.9x B) 1.3x C) 0.63x D) 1.25x

53 Copyright © 2019 McGraw-Hill Education. All rights reserved.

No reproduction or distribution without the prior written consent of McGraw-Hill Education.

105) TEW COMPANY Balance Sheet As of December 31 ASSETS Cash Accounts receivable Inventory Net plant and equipment Total assets

$

20,000 80,000 50,000 250,000 $ 400,000

LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable Accrued expenses Long-term debt Common stock Paid-in capital Retained earnings Total liabilities and stockholders' equity

$

40,000 60,000 130,000 100,000 10,000 60,000 $ 400,000

TEW COMPANY Income Statement For the year ended December 31 Sales (all on credit) Cost of goods sold Gross profit Sales and administrative expenses Fixed lease expenses Depreciation Operating profit Interest expense Profit before taxes Taxes (35%)

$ 500,000 200,000 $ 300,000 20,000 10,000 40,000 $ 230,000 20,000 $ 210,000 73,500

Net income

$ 136,500

Refer to the tables above. Tew's quick ratio is ________.

A) 1.5:1 B) 1:1 C) 2:1 D) None of the options

54 Copyright © 2019 McGraw-Hill Education. All rights reserved.

No reproduction or distribution without the prior written consent of McGraw-Hill Education.

106) TEW COMPANY Balance Sheet As of December 31 ASSETS Cash Accounts receivable Inventory Net plant and equipment Total assets

$

20,000 80,000 50,000 250,000 $ 400,000

LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable Accrued expenses Long-term debt Common stock Paid-in capital Retained earnings Total liabilities and stockholders' equity

$

40,000 60,000 130,000 100,000 10,000 60,000 $ 400,000

TEW COMPANY Income Statement For the year ended December 31 Sales (all on credit) Cost of goods sold Gross profit Sales and administrative expenses Fixed lease expenses Depreciation Operating profit Interest expense Profit before taxes Taxes (35%)

$ 500,000 200,000 $ 300,000 20,000 10,000 40,000 $ 230,000 20,000 $ 210,000 73,500

Net income

$ 136,500

Refer to the tables above. Tew's current ratio is ________.

A) 1.5:1 B) 1:1 C) 2:1 D) None of the options

55 Copyright © 2019 McGraw-Hill Education. All rights reserved.

No reproduction or distribution without the prior written consent of McGraw-Hill Education.

107) TEW COMPANY Balance Sheet As of December 31 ASSETS Cash Accounts receivable Inventory Net plant and equipment Total assets

$

20,000 80,000 50,000 250,000 $ 400,000

LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable Accrued expenses Long-term debt Common stock Paid-in capital Retained earnings Total liabilities and stockholders' equity

$

40,000 60,000 130,000 100,000 10,000 60,000 $ 400,000

TEW COMPANY Income Statement For the year ended December 31 Sales (all on credit) Cost of goods sold Gross profit Sales and administrative expenses Fixed lease expenses Depreciation Operating profit Interest expense Profit before taxes Taxes (35%)

$ 500,000 200,000 $ 300,000 20,000 10,000 40,000 $ 230,000 20,000 $ 210,000 73,500

Net income

$ 136,500

Refer to the tables above. The firm's debt to assets ratio is ________.

A) 58% B) 33% C) 25% D) 100%

56 Copyright © 2019 McGraw-Hill Education. All rights reserved.

No reproduction or distribution without the prior written consent of McGraw-Hill Education.

108) TEW COMPANY Balance Sheet As of December 31 ASSETS Cash Accounts receivable Inventory Net plant and equipment Total assets

$

20,000 80,000 50,000 250,000 $ 400,000

LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable Accrued expenses Long-term debt Common stock Paid-in capital Retained earnings Total liabilities and stockholders' equity

$

40,000 60,000 130,000 100,000 10,000 60,000 $ 400,000

TEW COMPANY Income Statement For the year ended December 31 Sales (all on credit) Cost of goods sold Gross profit Sales and administrative expenses Fixed lease expenses Depreciation Operating profit Interest expense Profit before taxes Taxes (35%)

$ 500,000 200,000 $ 300,000 20,000 10,000 40,000 $ 230,000 20,000 $ 210,000 73,500

Net income

$ 136,500

Refer to the tables above. Times interest earned for Tew Company is ________.

A) 6.8x B) 10.5x C) 25x D) 11.5x

57 Copyright © 2019 McGraw-Hill Education. All rights reserved.

No reproduction or distribution without the prior written consent of McGraw-Hill Education.

109) TEW COMPANY Balance Sheet As of December 31 ASSETS Cash Accounts receivable Inventory Net plant and equipment Total assets

$

20,000 80,000 50,000 250,000 $ 400,000

LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable Accrued expenses Long-term debt Common stock Paid-in capital Retained earnings Total liabilities and stockholders' equity

$

40,000 60,000 130,000 100,000 10,000 60,000 $ 400,000

TEW COMPANY Income Statement For the year ended December 31 Sales (all on credit) Cost of goods sold Gross profit Sales and administrative expenses Fixed lease expenses Depreciation Operating profit Interest expense Profit before taxes Taxes (35%)

$ 500,000 200,000 $ 300,000 20,000 10,000 40,000 $ 230,000 20,000 $ 210,000 73,500

Net income

$ 136,500

Refer to the tables above. Fixed charge coverage for Tew Company is ________.

A) 23x B) 1.95x C) 1.3x D) 8.0x

58 Copyright © 2019 McGraw-Hill Education. All rights reserved.

No reproduction or distribution without the prior written consent of McGraw-Hill Education.

110) MARNI COMPANY Balance Sheet As of December 31 ASSETS Cash Accounts receivable Inventory Net plant and equipment Total assets

$

50,000 100,000 200,000 650,000 $ 1,000,000

LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable Accrued expenses Long-term debt Common stock Paid-in capital Retained earnings Total liabilities and stockholders' equity

$

100,000 90,000 250,000 100,000 50,000 410,000 $ 1,000,000

MARNI COMPANY Income Statement For the year ended December 31 Sales (all on credit) Cost of goods sold Gross profit Sales and administrative expenses Fixed lease expenses Depreciation Operating profit Interest expense Profit before taxes Taxes (40%)

$ 2,000,000 1,750,000 $ 250,000 30,000 10,000 60,000 $ 150,000 25,000 $ 125,000 50,000

Net income

$

75,000

Refer to the tables above. What is Marni's after-tax profit margin?

A) 12.5% B) 3.75% C) 30% D) None of the options

59 Copyright © 2019 McGraw-Hill Education. All rights reserved.

No reproduction or distribution without the prior written consent of McGraw-Hill Education.

111) MARNI COMPANY Balance Sheet As of December 31 ASSETS Cash Accounts receivable Inventory Net plant and equipment Total assets

$

50,000 100,000 200,000 650,000 $ 1,000,000

LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable Accrued expenses Long-term debt Common stock Paid-in capital Retained earnings Total liabilities and stockholders' equity

$

100,000 90,000 250,000 100,000 50,000 410,000 $ 1,000,000

MARNI COMPANY Income Statement For the year ended December 31 Sales (all on credit) Cost of goods sold Gross profit Sales and administrative expenses Fixed lease expenses Depreciation Operating profit Interest expense Profit before taxes Taxes (40%)

$ 2,000,000 1,750,000 $ 250,000 30,000 10,000 60,000 $ 150,000 25,000 $ 125,000 50,000

Net income

$

75,000

Refer to the tables above. Using the DuPont method, the return on assets (investment) for Marni is approximately ________.

A) 11.54% B) 7.5% C) 3.75% D) None of the options

60 Copyright © 2019 McGraw-Hill Education. All rights reserved.

No reproduction or distribution without the prior written consent of McGraw-Hill Education.

112) MARNI COMPANY Balance Sheet As of December 31 ASSETS Cash Accounts receivable Inventory Net plant and equipment Total assets

$

50,000 100,000 200,000 650,000 $ 1,000,000

LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable Accrued expenses Long-term debt Common stock Paid-in capital Retained earnings Total liabilities and stockholders' equity

$

100,000 90,000 250,000 100,000 50,000 410,000 $ 1,000,000

MARNI COMPANY Income Statement For the year ended December 31 Sales (all on credit) Cost of goods sold Gross profit Sales and administrative expenses Fixed lease expenses Depreciation Operating profit Interest expense Profit before taxes Taxes (40%)

$ 2,000,000 1,750,000 $ 250,000 30,000 10,000 60,000 $ 150,000 25,000 $ 125,000 50,000

Net income

$

75,000

Refer to the tables above. Using the DuPont method, the return on equity for Marni is approximately ________.

A) 9.3% B) 26.8% C) 13.4% D) 15%

61 Copyright © 2019 McGraw-Hill Education. All rights reserved.

No reproduction or distribution without the prior written consent of McGraw-Hill Education.

113) MARNI COMPANY Balance Sheet As of December 31 ASSETS Cash Accounts receivable Inventory Net plant and equipment Total assets

$

50,000 100,000 200,000 650,000 $ 1,000,000

LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable Accrued expenses Long-term debt Common stock Paid-in capital Retained earnings Total liabilities and stockholders' equity

$

100,000 90,000 250,000 100,000 50,000 410,000 $ 1,000,000

MARNI COMPANY Income Statement For the year ended December 31 Sales (all on credit) Cost of goods sold Gross profit Sales and administrative expenses Fixed lease expenses Depreciation Operating profit Interest expense Profit before taxes Taxes (40%)

$ 2,000,000 1,750,000 $ 250,000 30,000 10,000 60,000 $ 150,000 25,000 $ 125,000 50,000

Net income

$

75,000

Refer to the tables above. The firm's receivable turnover is ________. Assume a 360-day calendar.

A) 10x B) 5.6x C) 20x D) 12x

62 Copyright © 2019 McGraw-Hill Education. All rights reserved.

No reproduction or distribution without the prior written consent of McGraw-Hill Education.

114) MARNI COMPANY Balance Sheet As of December 31 ASSETS Cash Accounts receivable Inventory Net plant and equipment Total assets

$

50,000 100,000 200,000 650,000 $ 1,000,000

LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable Accrued expenses Long-term debt Common stock Paid-in capital Retained earnings Total liabilities and stockholders' equity

$

100,000 90,000 250,000 100,000 50,000 410,000 $ 1,000,000

MARNI COMPANY Income Statement For the year ended December 31 Sales (all on credit) Cost of goods sold Gross profit Sales and administrative expenses Fixed lease expenses Depreciation Operating profit Interest expense Profit before taxes Taxes (40%)

$ 2,000,000 1,750,000 $ 250,000 30,000 10,000 60,000 $ 150,000 25,000 $ 125,000 50,000

Net income

$

75,000

Refer to the tables above. The firm's average collection period is_______, assuming a 360-day calendar.

A) 18 days.

B) 277 days.

C) 5.6 days.

D) 20 days.

63 Copyright © 2019 McGraw-Hill Education. All rights reserved.

No reproduction or distribution without the prior written consent of McGraw-Hill Education.

115) MARNI COMPANY Balance Sheet As of December 31 ASSETS Cash Accounts receivable Inventory Net plant and equipment Total assets

$

50,000 100,000 200,000 650,000 $ 1,000,000

LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable Accrued expenses Long-term debt Common stock Paid-in capital Retained earnings Total liabilities and stockholders' equity

$

100,000 90,000 250,000 100,000 50,000 410,000 $ 1,000,000

MARNI COMPANY Income Statement For the year ended December 31 Sales (all on credit) Cost of goods sold Gross profit Sales and administrative expenses Fixed lease expenses Depreciation Operating profit Interest expense Profit before taxes Taxes (40%)

$ 2,000,000 1,750,000 $ 250,000 30,000 10,000 60,000 $ 150,000 25,000 $ 125,000 50,000

Net income

$

75,000

Refer to the tables above. The firm's inventory turnover ratio is ________.

A) 10x B) 3.75x C) 0.4x D) 0.1x

64 Copyright © 2019 McGraw-Hill Education. All rights reserved.

No reproduction or distribution without the prior written consent of McGraw-Hill Education.

116) MARNI COMPANY Balance Sheet As of December 31 ASSETS Cash Accounts receivable Inventory Net plant and equipment Total assets

$

50,000 100,000 200,000 650,000 $ 1,000,000

LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable Accrued expenses Long-term debt Common stock Paid-in capital Retained earnings Total liabilities and stockholders' equity

$

100,000 90,000 250,000 100,000 50,000 410,000 $ 1,000,000

MARNI COMPANY Income Statement For the year ended December 31 Sales (all on credit) Cost of goods sold Gross profit Sales and administrative expenses Fixed lease expenses Depreciation Operating profit Interest expense Profit before taxes Taxes (40%)

$ 2,000,000 1,750,000 $ 250,000 30,000 10,000 60,000 $ 150,000 25,000 $ 125,000 50,000

Net income

$

75,000

Refer to the tables above. The firm's fixed asset turnover ratio is ________.

A) 3.1x B) 1.5x C) 2x D) 0.1x

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117) MARNI COMPANY Balance Sheet As of December 31 ASSETS Cash Accounts receivable Inventory Net plant and equipment Total assets

$

50,000 100,000 200,000 650,000 $ 1,000,000

LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable Accrued expenses Long-term debt Common stock Paid-in capital Retained earnings Total liabilities and stockholders' equity

$

100,000 90,000 250,000 100,000 50,000 410,000 $ 1,000,000

MARNI COMPANY Income Statement For the year ended December 31 Sales (all on credit) Cost of goods sold Gross profit Sales and administrative expenses Fixed lease expenses Depreciation Operating profit Interest expense Profit before taxes Taxes (40%)

$ 2,000,000 1,750,000 $ 250,000 30,000 10,000 60,000 $ 150,000 25,000 $ 125,000 50,000

Net income

$

75,000

Refer to the tables above. What is Marni's total asset turnover?

A) 13.3x B) 4x C) 1x D) 2x

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118) MARNI COMPANY Balance Sheet As of December 31 ASSETS Cash Accounts receivable Inventory Net plant and equipment Total assets

$

50,000 100,000 200,000 650,000 $ 1,000,000

LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable Accrued expenses Long-term debt Common stock Paid-in capital Retained earnings Total liabilities and stockholders' equity

$

100,000 90,000 250,000 100,000 50,000 410,000 $ 1,000,000

MARNI COMPANY Income Statement For the year ended December 31 Sales (all on credit) Cost of goods sold Gross profit Sales and administrative expenses Fixed lease expenses Depreciation Operating profit Interest expense Profit before taxes Taxes (40%)

$ 2,000,000 1,750,000 $ 250,000 30,000 10,000 60,000 $ 150,000 25,000 $ 125,000 50,000

Net income

$

75,000

Refer to the tables above. Marni's quick ratio is A) 0.79:1 B) 0.34:1 C) 1.84:1 D) None of the options

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119) MARNI COMPANY Balance Sheet As of December 31 ASSETS Cash Accounts receivable Inventory Net plant and equipment Total assets

$

50,000 100,000 200,000 650,000 $ 1,000,000

LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable Accrued expenses Long-term debt Common stock Paid-in capital Retained earnings Total liabilities and stockholders' equity

$

100,000 90,000 250,000 100,000 50,000 410,000 $ 1,000,000

MARNI COMPANY Income Statement For the year ended December 31 Sales (all on credit) Cost of goods sold Gross profit Sales and administrative expenses Fixed lease expenses Depreciation Operating profit Interest expense Profit before taxes Taxes (40%)

$ 2,000,000 1,750,000 $ 250,000 30,000 10,000 60,000 $ 150,000 25,000 $ 125,000 50,000

Net income

$

75,000

Refer to the tables above. Marni's current ratio is ________.

A) 0.80:1 B) 0.5:1 C) 1.84:1 D) None of the options

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120) MARNI COMPANY Balance Sheet As of December 31 ASSETS Cash Accounts receivable Inventory Net plant and equipment Total assets

$

50,000 100,000 200,000 650,000 $ 1,000,000

LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable Accrued expenses Long-term debt Common stock Paid-in capital Retained earnings Total liabilities and stockholders' equity

$

100,000 90,000 250,000 100,000 50,000 410,000 $ 1,000,000

MARNI COMPANY Income Statement For the year ended December 31 Sales (all on credit) Cost of goods sold Gross profit Sales and administrative expenses Fixed lease expenses Depreciation Operating profit Interest expense Profit before taxes Taxes (40%)

$ 2,000,000 1,750,000 $ 250,000 30,000 10,000 60,000 $ 150,000 25,000 $ 125,000 50,000

Net income

$

75,000

Refer to the tables above. The firm's debt-to-asset ratio is ________.

A) 44% B) 33% C) 19% D) 2.27%

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121) MARNI COMPANY Balance Sheet As of December 31 ASSETS Cash Accounts receivable Inventory Net plant and equipment Total assets

$

50,000 100,000 200,000 650,000 $ 1,000,000

LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable Accrued expenses Long-term debt Common stock Paid-in capital Retained earnings Total liabilities and stockholders' equity

$

100,000 90,000 250,000 100,000 50,000 410,000 $ 1,000,000

MARNI COMPANY Income Statement For the year ended December 31 Sales (all on credit) Cost of goods sold Gross profit Sales and administrative expenses Fixed lease expenses Depreciation Operating profit Interest expense Profit before taxes Taxes (40%)

$ 2,000,000 1,750,000 $ 250,000 30,000 10,000 60,000 $ 150,000 25,000 $ 125,000 50,000

Net income

$

75,000

Refer to the tables above. Times interest earned for Marni Company is ________.

A) 3x B) 5x C) 80x D) 6x

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122) MARNI COMPANY Balance Sheet As of December 31 ASSETS Cash Accounts receivable Inventory Net plant and equipment Total assets

$

50,000 100,000 200,000 650,000 $ 1,000,000

LIABILITIES AND STOCKHOLDERS' EQUITY Accounts payable Accrued expenses Long-term debt Common stock Paid-in capital Retained earnings Total liabilities and stockholders' equity

$

100,000 90,000 250,000 100,000 50,000 410,000 $ 1,000,000

MARNI COMPANY Income Statement For the year ended December 31 Sales (all on credit) Cost of goods sold Gross profit Sales and administrative expenses Fixed lease expenses Depreciation Operating profit Interest expense Profit before taxes Taxes (40%)

$ 2,000,000 1,750,000 $ 250,000 30,000 10,000 60,000 $ 150,000 25,000 $ 125,000 50,000

Net income

$

75,000

Refer to the tables above. Fixed charge coverage for Marni Company is ________.

A) 15x B) 7.5x C) 0.9x D) 4.6x

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123) If Randolph Co. has sales of $3,000,000, net income of $200,000, and total asset turnover of 1.5x, what is its return on assets (ROA)?

A) 10% B) 17% C) 14% D) 6% 124) If Baxter Unlimited has annual sales of $5,000,000 (80% on credit), and receivables equal to 35% of credit sales, what is its receivables turnover?

A) 3.6 times B) 2.9 times C) 2.3 times D) 7.9 times 125) If Crossroads International has $3,000,000 in total sales (75% on credit) and receivables of $500,000, what is its average collection period? Assume a 360-day calendar year.

A) 80 days B) 60 days C) 4.5 days D) 6 days 126) All of the following are common examples of possible distortion in reported income except A) inflation.

B) treatment of nonrecurring items.

C) reporting of cash.

D) reporting of revenue.

127) Trend and industry analysis provide all of the following information except A) benchmarking.

B) the progress of the company.

C) a basis for decision making about capital structure.

D) future information about the company.

128) If Turnpoint Inc. has net income of $400,000, assets of $5,000,000, sales of $2,000,000, and debt of 2,000,000, what is its return on equity (ROE)?

A) 13.3% B) 8% C) 66.7% D) 2%

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129) In 2016, Turnpoint Inc. had net income of $400,000, assets of $5,000,000, sales of $2,000,000, and debt of 2,000,000. In 2017, Turnpoint Inc. had net income of $700,000, assets of $4,000,000, sales of $1,300,000, and debt of 2,000,000. Did Turnpoint Inc's return on equity improve from 2016 to 2017?

A) No B) Yes C) Stayed the same D) Not enough information to answer 130) In 2016, Bubble Inc. had net income of $500,000, assets of $5,000,000, sales of $2,000,000, and debt of 2,000,000. In 2017, Bubble Inc. had net income of $600,000, assets of $7,000,000, sales of $1,300,000, and debt of 2,000,000. Did Bubble Inc's return on assets improve from 2016 to 2017?

A) No B) Yes C) Stayed the same D) Not enough information to answer 131) In 2016, Bubble Inc. had net income of $500,000, assets of $5,000,000, sales of $2,000,000, and equity of $2,000,000. In 2017, Bubble Inc. had net income of $600,000, assets of $7,000,000, sales of $1,300,000, and equity of $1,700,000. Is Bubble Inc's 2017 debt to total asset better than its 2016 debt to total assets?

A) No B) Yes C) Stayed the same D) Not enough information to answer Foundations of Financial Management, 17e (Block) Chapter 4 Financial Forecasting 1) Financial forecasting is used to develop the exact future outcome, otherwise it is useless to a company.

2) An increase in sales and/or profits means there is also an increase in cash on the balance sheet.

3) An increase in sales and profits generates the necessary cash required for economic growth of a company.

4) The longer the financial forecast (i.e. 5 to 10 years), the better for the company.

5) Profit is generally adequate to finance significant growth.

6) Pro forma income statements follow the creation of the sales forecast and production plan.

7) Pro forma statements are generally prepared six months to a year into the future.

8) Pro forma income statements and balance sheets refer to projected financial statements.

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9) The generation of sales and profits ensures that there will be adequate cash on hand to meet financial obligations as they come due.

10) Sales projections and the ability to accurately predict the future have a large impact on cash flow expectations.

11) Production planning depends upon the beginning and ending accounts receivable levels, as well as the projected monthly sales level.

12) If Wiggle Corp has beginning inventory of 100 units, projected sales of 400 units, and desired ending inventory of 200 units, production must be planned for 300 units.

13) Growth in sales volume prevents a shortage of cash funds.

14) The main consideration in constructing a pro forma income statement is the costs specifically associated with units sold during the time period.

15) The value of ending inventory should be equal to beginning inventory plus total production costs minus cost of goods sold, all from the same time frame.

16) The generation of sales and profits does not necessarily ensure there will be adequate cash on hand to meet financial obligations as they come due.

17) It is helpful to break down the income statement into smaller monthly periods to enable evaluation of seasonal patterns of cash inflows and outflows.

18) A cash budget is unnecessary since we know how many units will be sold and produced every month, which is assumed to be the cash inflows and outflows.

19) The most significant purpose of the cash budget is to plan accounts payable payments.

20) The main consideration for cash payments are monthly costs associated with inventory manufactured during the period and disbursements for general and administrative expenses, interest payments, taxes and dividends.

21) The primary purpose of the cash budget is to allow the firm to anticipate the need for outside funding or excess funds to be invested.

22) The primary purpose of the cash budget is to forecast income.

23) Companies generally prefer to maintain some minimum cash balance.

24) The balance sheet represents declining changes in the corporation over time.

25) A pro forma balance sheet needs data from the prior balance sheet, pro forma income statement, and cash flow in order for it to be complete.

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26) Generally, the pro forma income statement and balance sheet must be created before the cash budget is completed.

27) A higher growth rate in sales will often require more external funds.

28) The purpose of pro-forma financial statements is so that cash is never left short and a financial outlook of the firm is created and analyzed.

29) Making the pro-forma financial statements as complicated as possible is always best.

30) An increase in accounts receivable and/or a decrease in accounts payable will usually reduce the amount of new external funds required.

31) The percent-of-sales method for financial forecasting assumes that balance sheet accounts maintain a relatively constant relationship to sales.

32) The percent-of-sales forecast is likely to be most accurate when used with cyclical companies.

33) The percent-of-sales method would be more accurate under a steady sales assumption than with cyclical sales.

34) The percent-of-sales method would not result in very accurate financials if used for a tourism company.

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35) An increase in sales accompanied by an increase in accounts payable will reduce the amount of new external funds required, all else being equal.

36) As the dividend payout ratio declines, more external funds are required.

37) A lower dividend payout ratio will decrease the firm's need for borrowing.

38) Compared to a firm operating at 100% of capacity, firms that are operating at less than full capacity will require greater new external funds when sales increase.

39) A firm that is currently operating at 100% of capacity has an increase in sales. For every percentage increase in sales, the same percentage increase will be needed in current assets and current liabilities.

40) Required new funds shows that the firms need more cash during times of company growth, especially if sales increases.

41) The cash budget approach to financial forecasting assumes that balance sheet accounts maintain a constant relationship to cash.

42) Lower profit margins resulting from increased competition would mean a lower need for external funds.

43) Level production schedules usually have the advantage of reducing overall production costs.

44) The finance department should work independently without input from other departments because there may be significant biases when creating pro forma financial statements.

45) Total production costs on the production schedule should be equal to cost of goods sold in the pro forma income statement.

46) The percent-of-sales method provides the most accurate and detailed method of forecasting necessary funds.

47) The calculation of cash receipts requires a breakout of cash and credit sales and cash collections history.

48) In using a systems approach to financial planning, it is necessary to develop a A) pro forma income statement.

B) cash budget.

C) production plan.

D) All of the options are true.

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49) When developing a pro forma income statement, which of the following steps are not used?

A) Establish a marketing projection.

B) Determine a production schedule and the associated use of new material, direct labor and overhead to arrive at gross profit.

C) Compute other expenses D) Determine profit by completing the actual pro forma statement.

50) The key initial element in developing all pro forma statements is A) a cash budget.

B) an income statement.

C) a sales forecast.

D) a collections schedule.

51) In the development of the pro forma financial statements, the last step in the process is the development of the A) cash budget.

B) pro forma balance sheet.

C) pro forma income statement.

D) capital budget.

52) In developing the pro forma income statement, we follow four important steps: 1) Compute other expenses.

2) Determine a production schedule.

3) Establish a sales projection.

4) Determine profit by completing the pro forma income statement.

What is the correct order for these four steps?

A) 1,2,3,4 B) 3,2,4,1 C) 2,1,3,4 D) 3,2,1,4 53) Pro forma financial statements are A) the most comprehensive means of financial forecasting.

B) often required by prospective creditors.

C) projections of financial statements for a future period.

D) All of the options are true.

54) A rapid rate of growth in sales may require A) higher dividend payments to shareholders.

B) increased borrowing by the firm to support the sales increase.

C) the firm to be more lenient with credit customers.

D) sales forecasts to be made less frequently.

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55) Required production during a planning period will depend on the A) beginning inventory of products.

B) sales during the period.

C) desired level of ending inventory.

D) All of the options are true.

56) XYZ Co. has forecasted June sales of 400 units and July sales of 700 units. The company maintains ending inventory equal to 125% of next month's sales. June beginning inventory reflects this policy. What is June's required production?

A) 750 units B) 0 units C) 775 units D) 400 units 57) In order to estimate production requirements, we A) subtract projected sales in units from desired ending inventory and add beginning inventory.

B) add projected sales in units to desired ending inventory and subtract beginning inventory.

C) add beginning inventory to desired ending inventory and divide by two.

D) add beginning inventory to desired ending inventory and subtract projected sales in units.

58) A firm has beginning inventory of 450 units at a cost of $10 each. Production during the period was 500 units at $12 each. If sales were 700 units, what is the cost of goods sold (assume FIFO)?

A) $7,500 B) $8,000 C) $7,900 D) $8,100 59) MG Lighting had sales of 500 units at $100 per unit last year. The marketing manager projects a 15 percent decrease in unit volume this year because a 10 percent price increase is needed to pass rising costs through to customers. Returned merchandise will represent 3.2 percent of total sales.

What is MG Lighting net dollar sales projection for this year?

A) $26,976 B) $69,344 C) $72,800 D) $45,254 60) In calculating gross profits, a firm utilizing LIFO inventory accounting would assume that A) all sales were from the current production.

B) all sales were from the beginning inventory.

C) sales were from the current production until current production was depleted, and then sales were from the beginning inventory.

D) all sales were for cash.

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61) When the cost of raw materials is increasing, FIFO accounting A) yields higher ending inventory values than LIFO. B) produces higher unit sales than using LIFO. C) yields higher cost of goods sold than LIFO. D) All of the options are true.

62) In calculating gross profits, a firm utilizing FIFO inventory accounting would assume that A) all sales were from the current production.

B) all sales were from the beginning inventory.

C) sales were from the beginning inventory until it was depleted, and then sales were from the current production.

D) all sales were for cash.

63) In financial statements, the number of units shown to be sold is ________ than the number of the units produced.

A) higher.

B) lower.

C) the same.

D) either higher or lower.

64) The pro forma income statement is important to the overall process of constructing the pro forma balance sheet because it allows us to determine a value for A) change in retained earnings.

B) gross profit.

C) interest expense.

D) prepaid expenses.

65) A firm has beginning inventory of 400 units at a cost of $12 each. Production during the period was 700 units at $13 each. If sales were 800 units, what is the value of the ending inventory using LIFO? A) $2,750 B) $3,600 C) $3,300 D) $3,850 66) In general, a firm with higher amounts of sales on credit has A) lower needs to borrow.

B) higher needs to borrow.

C) more rapidly collection of credit sales.

D) more ability to buy raw materials on credit.

67) The need for an increase or decrease in short-term borrowing can be predicted by A) ratio analysis.

B) trend analysis.

C) a cash budget.

D) an income statement.

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68) A firm has forecasted sales of $4,500 in April, $3,000 in May, and $5,000 in June. All sales are on credit. 30% is collected in the month of the sale, and the remainder in the following month.

How much cash is collected in June?

A) $1,500 B) $5,250 C) $4,050 D) $3,600 69) A firm has forecasted sales of $4,500 in April, $3,000 in May, and $5,000 in June. All sales are on credit. 30% is collected in the month of the sale, and the remainder in the following month.

What will be the balance in accounts receivable at the end of June?

A) $1,950 B) $6,500 C) $4,550 D) $3,500 70) Wiggles Right forecasted inventory purchases of $5,000 in October, $4,000 in November, and $4,000 in December. All purchases are on credit. 40% is paid in the month of the purchase, and the remainder is paid in the following month. How much cash is paid in November?

A) $5,400 B) $4,800 C) $6,000 D) $4,600 71) GS Cookie Co. forecasts cash receipts for January and February of $18,000 and $20,000, with cash payments of $6,000 and $8,000, respectively. GS Cookie's cash balance at the beginning of January was $5,000, a level that it attempts to maintain. At the beginning of the year, GS Cookie has a $15,000 balance outstanding on its line of credit at the local bank. Based on its cash budget, how much of the line of credit can GS Cookie repay in January?

A) $12,000 B) $15,000 C) $4,000 D) None.

72) GS Cookie Co. forecasts cash receipts for January and February of $18,000 and $20,000, with cash payments of $6,000 and $8,000, respectively. GS Cookie's cash balance at the beginning of January was $5,000, a level that it attempts to maintain. At the beginning of the year, GS Cookie has a $15,000 balance outstanding on its line of credit at the local bank. Based on its cash budget, how much of the line of credit can GS Cookie repay in January and February combined?

A) $12,000 B) $15,000 C) $4,000 D) $17,000

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73) In the construction of the cash payments schedule, the major cash payment is generally A) the general and administrative expense.

B) costs associated with manufacturing inventory.

C) interest and dividends.

D) payments for new plant and equipment.

74) The difference between total receipts and total payments is referred to as A) cumulative cash flow.

B) beginning cash flow.

C) net cash flow.

D) cash balance.

75) Net cash flow is equal to A) income after taxes minus depreciation.

B) income after taxes minus dividends.

C) cash receipts minus cash payments.

D) cash receipts minus cash payments minus depreciation.

76) In developing data for accounts receivable for the pro forma balance sheet, the analyst is most likely to turn to the A) pro forma income statement.

B) cash budget.

C) prior balance sheet.

D) statement of retained earnings.

77) In a cash budget, the cumulative cash balance is equal to A) net cash flow minus the beginning cash balance.

B) net cash flow plus the beginning cash balance.

C) the cumulative loan balance minus the ending cash balance.

D) the cumulative loan balance plus the ending cash balance.

78) Which of the following is most likely to increase the final number for notes payable for short-term borrowing needs in the pro forma balance sheet?

A) A decrease in inventory.

B) An increase in retained earnings.

C) A decrease in accounts payable.

D) A decrease in accounts receivable.

79) The percent-of-sales method of financial forecasting A) is more detailed than a cash budget approach.

B) requires more time than a cash budget approach.

C) assumes that balance sheet accounts maintain a constant relationship to sales.

D) provides a month-to-month breakdown of data.

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80) A firm has targeted a 20% growth in sales this year. Last year's cash as a percent of sales was 10%, accounts receivable 30%, and inventory 25%. What percentage growth in current liabilities is required to support the growth in sales under the percent-of-sales forecasting method?

A) 32% B) 13% C) 8% D) Not enough information to determine 81) In the percent-of-sales method, an increase in dividends A) will increase required new funds.

B) will decrease required new funds.

C) has no effect on required new funds.

D) More information is needed.

82) Which of the following is untrue of the percent-of-sales method?

A) It is much easier than tracing through various cash flows to arrive at the pro forma statements.

B) It is a broad-brush approach when compared to developing pro forma statements.

C) The output is less meaningful because it doesn't give the month-to-month breakdown of data when compared to pro forma statements.

D) Changes in sales levels is not an important aspect of this method.

83) In the percent-of-sales method, if (A/S) and (L/S) both increase, A) RNF stays the same.

B) RNF goes down.

C) RNF goes up.

D) More information is needed.

84) In forecasting a firm's cash needs for some future period A) the percent-of-sales method is a "broad-brush" approach.

B) cash budgets are more exact than the percent-of-sales method.

C) a cash budget approach can deal effectively with both level and seasonal production schedules.

D) All of the options.

85) When using the percent-of-sales method in forecasting the funds needed, which of the following is not true?

A) Required new funds increase as sales decrease.

B) Required new funds decrease as profit margin increases.

C) Required new funds increase as assets increase.

D) As the tax rate increases, the required new funds increase.

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86) BHS Inc. determines that sales will rise from $400,000 to $550,000 next year. Spontaneous assets are 60% of sales, and spontaneous liabilities are 30% of sales. BHS has an 8% profit margin and a 40% dividend payout ratio. What is the level of required new funds?

A) $18,600 B) $138,600 C) $3,600 D) No new funds are needed 87) Firms that successfully increase their inventory turnover ratio will, among other things, A) be able to reduce their borrowing needs.

B) be able to reduce their dividend payments to stockholders.

C) find it more difficult to be given credit by their resource suppliers.

D) have a greater need for high balances in their cash accounts.

88) If Excel Inc. has projected sales of $30,000 in January, $20,000 in February, and $20,000 in March, where 20% of sales are cash sales and the remaining credit sales are collected the month after, what are the cash receipts in March?

A) $20,000 B) $16,000 C) $21,400 D) $10,300 89) If the actual A/R at the end of February was $12,000 and projected sales in March are $50,000, where 70% of sales are on credit, 60% of credit sales are collected in the month of the sale, and 40% are collected in the month after the sale, what is the projected A/R balance on the pro forma balance sheet for the end of March?

A) $14,000 B) $48,000 C) $20,000 D) $35,000 90) If the actual A/R at the end of February was $12,000 and projected sales in March are $50,000, where 70% of sales are on credit, 60% of credit sales are collected in the month of the sale, and 40% are collected in the month after the sale, what amount of cash is collected during March?

A) $36,000 B) $14,000 C) $48,000 D) $35,000 91) If projected net cash outflow for November is ($10,000), the beginning cash balance is $4,000, the minimum cash balance is $3,000, and the beginning loan balance is $8,000, what will be the cumulative loan balance at the end of November?

A) $14,000 B) $5,000 C) $17,000 D) $22,000 83 Copyright © 2019 McGraw-Hill Education. All rights reserved.

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92) If projected net cash outflow for November is ($10,000) and the beginning cash balance is $4,000, which is the minimum cash balance required by the bank, what amount of loan would be needed for November?

A) $14,000 B) $5,000 C) $10,000 D) $22,000 93) If projected net cash outflow for January is ($6,500), the beginning cash balance is $16,000, the minimum cash balance is $5,000, and the beginning loan balance is $4,500, what will be the cash balance on the pro forma cash budget at the end of January?

A) $5,000 B) $10,000 C) $12,000 D) $4,500 94) If projected net cash outflow for January is ($6,500), the beginning cash balance is $16,000, the minimum cash balance is $5,000, and the beginning loan balance is $4,500, what will be cumulative amount of loan at the end of January?

A) $4,500 B) $10,000 C) $12,000 D) $0 Foundations of Financial Management, 17e (Block) Chapter 5 Operating and Financial Leverage 1) "Operating leverage" is the use of fixed costs to magnify returns at high levels of operation.

2) Operating leverage works best when product volume is increasing.

3) Operating leverage emphasizes the impact of using fixed assets in the business.

4) When a business decides to go with a heavy commitment to fixed costs in the manufacturing process, they are employing operating leverage.

5) Financial leverage emphasizes the impact of using debt in the business.

6) When a business decides to use debt in financing their firm, they are engaging in financial leverage.

7) Operating leverage determines how income from operations is to be divided between debt holders and stockholders.

8) Operating leverage will change when a firm alters the mix of fixed capital resources and variable labor that it uses.

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9) Contribution margin is equal to fixed costs minus variable costs.

10) Contribution margin represents the amount of sales left over after fixed costs are paid.

11) Property taxes and depreciation expense are examples of variable costs.

12) Sales commissions and raw materials are variable costs.

13) The difference between variable cost and fixed cost is that the cost amount fluctuates differently based on how many units are sold.

14) The contribution margin is equal to sales price per unit minus total costs per unit.

15) As the contribution margin rises, the break-even point goes down.

16) To determine the break-even point for a company, you divide the contribution margin by the fixed costs.

17) Break-even analysis helps a company determine what amount of quantity it needs to sell in order to reach zero profit.

18) A lower sales price for the firm's product will reduce the firm's break-even point.

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19) If economic conditions were expected to be favorable, an investor would likely prefer a firm with a low degree of leverage.

20) The use of financial leverage must consider both risk and maximizing profit.

21) The use of debt is not typically needed for firms in industries that offer some degree of stability, are in a positive stage of growth, and are operating in favorable economic conditions.

22) Managers who are risk-averse and uncertain about the future would most likely minimize combined leverage.

23) Management should tailor the use of leverage to meet the company's own risk-taking desires.

24) Cash break-even analysis eliminates the non-cash charges from fixed costs in order to obtain the amount of quantity sold which is necessary in order for cash inflow to equal the cash outflow.

25) The degree of operating leverage is a number indicating the relationship between the percentage change in sales to the percentage change in earnings per share.

26) The lower a firm's break-even point, the lower amount of quantity which needs to be sold in order to reach a profit of zero.

27) Based on the example in the textbook, the calculation below is of a conservative firm.

DOL =

=

=

= 2.7

28) Based on the example in the textbook, the calculation below is of a leveraged firm.

DOL =

=

=

= 1.6

29) The lower a firm's break-even point, the better for the firm.

30) The closer a firm is to its break-even point, the lower the degree of operating leverage it will be.

31) Degree of operating leverage should be computed only over a profitable range of business operations.

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32) Linear break-even analysis assumes that the change in costs have the same relationship with the change in volume.

33) Linear break-even analysis and operating leverage are only valid within a relevant range of unit production.

34) Financial leverage primarily affects the asset side of the balance sheet.

35) Operating leverage primarily affects the asset side of the balance sheet, while financial leverage affects the liabilities and net worth side of the balance sheet.

36) The degree of financial leverage measures the percentage change in earnings per share (EPS) for every percentage change in earnings before interest and taxes (EBIT).

37) If a firm has a degree of financial leverage (DFL) of 2.0, earnings per share will change 2% for every 1% change in sales volume.

38) The degree of financial leverage is not influenced by the interest rate on debt, only the amount borrowed.

39) A firm with a high degree of financial leverage could face financial difficulty even though it is in a stable industry.

40) Operating income is not the same thing as earnings before interest and taxes (EBIT).

41) Operating leverage influences the bottom half of the income statement while financial leverage deals with the top half.

42) The degree of combined leverage is the sum of the degree of operating leverage and the degree of financial leverage.

43) A firm with a high degree of combined leverage will, other things being equal, experience higher earnings in the expansionary part of the business cycle.

44) Firms with cyclical sales should employ a high degree of leverage.

45) In order to conduct a cash break-even analysis, the analyst must add back depreciation from fixed costs.

46) An example of an adjustment for a cash break-even analysis would be adding back increases in accounts receivable.

47) Degree of combined leverage considers the impact of a change in volume on the change in operating income.

48) Reducing the number of outstanding shares will always increase financial leverage since earnings per share will be higher, all else stays the same.

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49) The concept of operating leverage involves the use of ________ to magnify returns at high levels of operation.

A) fixed costs B) variable costs C) marginal costs D) semivariable costs 50) Which of the following questions does break-even analysis attempt to address?

A) How much do changes in volume affect costs and profits?

B) At what point does the firm have zero profit?

C) What is the most efficient level of fixed assets to employ?

D) All of the options 51) In break-even analysis, the contribution margin is defined as A) sales price minus variable cost.

B) sales price minus fixed cost.

C) variable cost minus fixed cost.

D) fixed cost minus variable cost.

52) At the break-even point, a firm's profits are A) greater than zero.

B) less than zero.

C) equal to zero.

D) Not enough information is given to determine.

53) If a firm sells 40,000 units and the contribution margin on the firm's single product is $4.00 per unit and fixed costs are $60,000, what will the firm's operating profit be at this level of sales volume?

A) $100,000 B) $30,000 C) $15,000 D) $145,000 54) If sales units exceeds the break-even point in units, the firm will experience A) an operating loss.

B) an operating profit.

C) an increase in plant and equipment.

D) an increase in stock price.

55) The break-even point can be calculated as A) variable costs divided by contribution margin per unit.

B) total costs divided by contribution margin per unit.

C) variable costs times contribution margin per unit.

D) fixed costs divided by contribution margin per unit.

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56) A highly automated plant would generally have A) more variable than fixed costs.

B) more fixed than variable costs.

C) all fixed costs.

D) all variable costs.

57) If fixed costs rise while other variables stay constant A) the break-even point rises.

B) the degree of operating leverage increases.

C) total profit declines.

D) All of the options are true.

58) If the sales price per unit decreases because of competition but the cost structure remains the same A) the break-even point rises.

B) the degree of combined leverage declines.

C) the degree of financial leverage declines.

D) All of the options are true.

59) If a firm has fixed costs of $60,000, a sales price of $7.00 per unit, and a break-even point of 25,000 units, the variable cost per unit is ________.

A) $5.00 B) $4.60 C) $5.40 D) $4.00 60) If a firm has fixed costs of $85,000, a variable cost per unit of $10 and sales price per unit of $15, what is the firm's breakeven point in units?

A) 15,000 units B) 17,000 units C) 5,667 units D) 3,400 units 61) If a firm has fixed costs of $50,000, a variable cost per unit of $5 and sales price per unit of $20, what is the firm's breakeven point in units?

A) 3,333 units B) 10,000 units C) 4,667 units D) 3,334 units 62) If a firm has fixed costs of $30,000, a variable cost per unit of $.75, and a break-even point of 5,000 units, the sales price per unit is ________.

A) $2.50 B) $6.75 C) $4.00 D) $4.50 89 Copyright © 2019 McGraw-Hill Education. All rights reserved.

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63) If a firm has a sales price per unit of $6.00, a variable cost per unit of $4.00, and a break-even point of 40,000 units, fixed costs are equal to ________.

A) $27,000 B) $90,000 C) $80,000 D) $50,000 64) If a firm with $49,000 in fixed costs breaks even on 7,000 units, how many units must the firm sell to earn $30,000 in operating profit?

A) 30,000 units B) 11,286 units C) 15,824 units D) There is not enough information to determine the unit sales required.

65) A firm has operating profit of $15,000 on unit sales of 10,000 units. Fixed costs are $30,000.

What is the firm's break-even in units?

A) Less than 6,000 units.

B) 6,000 units.

C) More than 6,000 units D) There is not enough information to determine the unit break-even point.

66) A firm's break-even point will rise if A) fixed costs decrease.

B) contribution margin increases.

C) sales price per unit rises.

D) variable cost per unit rises.

67) Davison Toaster Corp. sells its products for $150 per unit. It has the following costs: Rent Factory labor Executive salaries Raw materials

$ $ $ $

115,000 20 200,000 6

per unit per unit

The break-even point is A) less than 3,000 units.

B) 3,000 units.

C) more than 3,500 units.

D) Not enough information has been provided to determine the break-even point.

68) Which of the following is true about the concept of leverage?

A) At the break-even point, operating leverage is equal to zero.

B) Combined leverage measures the impact of operating and financial leverage on EBIT. C) Financial leverage measures the impact of fixed costs on earnings.

D) None of the options are true.

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69) A weakness of break-even analysis is that it assumes A) revenue and costs are a linear (constant) function of volume.

B) sales prices and costs increase when the economy is strong and confidence is high.

C) the cost of goods sold goes up as revenue increases.

D) None of the options are true.

70) Which of the following statements regarding financial leverage are true.

A) financial leverage reflects the amount of debt used in the capital structure of the firm.

B) financial leverage primarily affects the right side of the balance sheet.

C) financial leverage determines how the operation is to be financed.

D) all of the above.

71) A high degree of operating leverage means A) there are high labor costs.

B) there is high debt.

C) there is a large amount of equity.

D) there are high fixed costs.

72) Which of the following is concerned with the change in operating profit as a result of a change in unit volume?

A) Financial leverage B) Break-even point C) Operating leverage D) Combined leverage 73) Cash break-even analysis A) is helpful in analyzing the short-term outlook of the firm, particularly when it is in trouble financially.

B) is important when analyzing long-term profitability.

C) includes depreciation expense as a fixed cost when calculating the degree of financial leverage.

D) None of the options are true.

74) The degree of operating leverage may be defined as A) the percent change in operating income divided by the percent change in unit volume.

B) Q(P − VC) divided by Q(P − VC) − FC. C) S − TVC divided by S − TVC − FC. D) All of the options are true.

75) Loretta & Niece's fixed costs are $425,000, including $25,000 of depreciation expense. The price of each unit sold is $120, and the variable cost per unit is $60. How many units must the firm sell to reach the cash break-even point?

A) 6,667 units B) 7,333 units C) 7,083 units D) 3,542 units 76) Conservatively leveraged Firm A and highly leveraged Firm B operate at the same level of 91 Copyright © 2019 McGraw-Hill Education. All rights reserved.

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earnings before interest and taxes. Which firm has a higher change in volume?

A) Firm A B) Firm B C) The change in volume does not affect the amount of leverage.

D) There is not enough information to answer the question.

77) The degree of operating leverage is computed as A) percent change in operating profit divided by percent change in net income.

B) percent change in unit volume divided by percent change in operating profit.

C) percent change in EPS divided by percent change in operating income.

D) percent change in operating income divided by percent change in unit volume.

78) Firm A employs a high degree of operating leverage; Firm B takes a more conservative approach. Which of the following comparative statements about firms A and B is true?

A) Firm A has a lower break-even point than Firm B, but Firm A's profit grows faster after the breakeven.

B) Firm A has a higher break-even point than Firm B, but Firm A's profit grows slower after the breakeven.

C) Firm B has a lower break-even point than Firm A, but Firm A's profit grows faster after the breakeven.

D) Firm B has a lower break-even point than Firm A, and profit grows the same rate for both companies after the break-even point 79) Firms with a high degree of operating leverage are A) easily capable of surviving large changes in sales volume.

B) usually trading off lower levels of risk for higher profits.

C) significantly affected by changes in interest rates.

D) trading off higher fixed costs for lower per-unit variable costs.

80) Financial leverage deals with A) the relationship of fixed and variable costs.

B) the relationship of debt and equity in the capital structure.

C) the entire income statement.

D) the entire balance sheet.

81) A conservative financing plan involves A) heavy reliance on debt.

B) heavy reliance on equity.

C) a high degree of financial leverage.

D) a high degree of combined leverage.

82) A firm's earnings per share is not impacted by its financing plan at the point when A) debt is equal to equity.

B) return on assets equals return on equity.

C) the cost of borrowed funds equals the return on equity.

D) the cost of borrowed funds equals the return on assets.

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83) If EBIT equals $200,000 and interest equals $40,000, what is the degree of financial leverage?

A) 5.33x B) 1.25x C) 0.8125x D) 4.33x 84) The degree of financial leverage is concerned with the relationship between A) changes in volume and changes in EPS. B) changes in volume and changes in EBIT. C) changes in EBIT and changes in EPS. D) changes in EBIT and changes in operating income.

85) When a firm employs no debt A) it has a financial leverage of one.

B) it has a financial leverage of zero.

C) its operating leverage is equal to its financial leverage.

D) it will not be profitable.

86) If a firm has the lowest possible degree of operating leverage and the lowest possible degree of financial leverage, then A) DOL equals 1, and DFL equals 0.

B) DOL equals 0, and DFL equals 1.

C) DOL equals 1, and DFL equals 1.

D) None of the options 87) Combined leverage is concerned with the relationship between A) changes in EBIT and changes in EPS. B) changes in volume and changes in EPS. C) changes in volume and changes in EBIT. D) changes in EBIT and changes in net income.

88) Which of the following is not true about leverage?

A) Operating leverage influences the top half of the income statement, determining EBIT. B) Financial leverage deals with the bottom half of the income statement, determining EPS. C) Combined leverage utilizes the entire income statement, showing the impact of change in volume on EBIT. D) None of the options 89) If the business cycle is just beginning its upswing, which firm would you anticipate would be likely to show the best growth in EPS over the next year? Firm A has high combined leverage and Firm B has low combined leverage.

A) Firm A B) Firm B C) Indifferent between the two D) It depends on how much financial leverage each firm has 90) Use the below information to answer the following question.

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Sales (100,000 units) Variable costs Contribution margin Fixed manufacturing costs Operating income Interest Earnings before taxes Taxes (30%) Net income

$ 1,000,000 300,000 700,000 200,000 500,000 75,000 425,000 127,500 $ 297,500

Refer to the table. The degree of operating leverage is ________.

A) 1.40x B) 1.56x C) 3.33x D) 2.22x 91) Use the below information to answer the following question.

Sales (100,000 units) Variable costs Contribution margin Fixed manufacturing costs Operating income Interest Earnings before taxes Taxes (30%) Net income

$ 1,000,000 300,000 700,000 200,000 500,000 75,000 425,000 127,500 $ 297,500

Refer to the table. The degree of financial leverage is ________.

A) 1.29x B) 4.20x C) 3.50x D) 1.18x

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92) Use the below information to answer the following question.

Sales (100,000 units) Variable costs Contribution margin Fixed manufacturing costs Operating income Interest Earnings before taxes Taxes (30%) Net income

$ 1,000,000 300,000 700,000 200,000 500,000 75,000 425,000 127,500 $ 297,500

Refer to the table. The degree of combined leverage is ________.

A) 2.22x B) 1.90x C) 2.95x D) 1.65x 93) Use the below information to answer the following question.

Sales (1,000 units) Variable costs Contribution margin Fixed manufacturing costs Operating income Interest Earnings before taxes Taxes (30%) Net income Shares Outstanding

$

$

200,000 110,000 90,000 40,000 50,000 10,000 40,000 12,000 28,000 1,000

Refer to the table. This firm's break-even point in units is A) 445 units.

B) 634 units.

C) 714 units.

D) 180 units.

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94) Use the below information to answer the following question.

Sales (1,000 units) Variable costs Contribution margin Fixed manufacturing costs Operating income Interest Earnings before taxes Taxes (30%) Net income Shares Outstanding

$

$

200,000 110,000 90,000 40,000 50,000 10,000 40,000 12,000 28,000 1,000

Refer to the table. The degree of operating leverage (DOL) is ________.

A) 1.62x B) 1.80x C) 3.50x D) 1.40x 95) Use the below information to answer the following question.

Sales (1,000 units) Variable costs Contribution margin Fixed manufacturing costs Operating income Interest Earnings before taxes Taxes (30%) Net income Shares Outstanding

$

$

200,000 110,000 90,000 40,000 50,000 10,000 40,000 12,000 28,000 1,000

Refer to the table. The degree of financial leverage (DFL) is ________.

A) 3.50x B) 1.40x C) 1.95x D) 1.25x

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96) Use the below information to answer the following question.

Sales (1,000 units) Variable costs Contribution margin Fixed manufacturing costs Operating income Interest Earnings before taxes Taxes (30%) Net income Shares Outstanding

$

$

200,000 110,000 90,000 40,000 50,000 10,000 40,000 12,000 28,000 1,000

Refer to the table. The degree of combined leverage (DCL) is ________.

A) 3.08x B) 5.45x C) 2.25x D) 6.83x 97) Heavy use of long-term debt may be beneficial in an inflationary economy because A) the debt may be repaid in more "expensive" dollars.

B) nominal interest rates exceed real interest rates.

C) inflation is associated with the peak of a business cycle.

D) the debt may be repaid in "cheaper" dollars.

98) Under which of the following conditions could the overuse of financial leverage be detrimental to the firm?

A) In a stable industry.

B) When there is cyclical demand for the firm's products.

C) During an upswing in the business cycle.

D) When there is low interest cost compared to return on assets.

99) Firm A produces semiconductors using highly technical machinery; Firm B is a retail clothing store with little use of machinery. Consider which firm employs a higher degree of operating leverage and then answer the following question: "Which of the following comparative statements about firms A and B is true?"

A) A has a lower break-even point than B, but A's profit grows faster after the breakeven.

B) A has a higher break-even point than B, but A's profit grows slower after the breakeven.

C) B has a lower break-even point than A, but A's profit grows faster after the breakeven.

D) B has a lower break-even point than A, and profit grows at the same rate for both companies after the break-even point.

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100) A factory that relies on highly technical machinery may choose to reduce its overall leverage position by A) selling its machinery.

B) increasing its accounts receivable.

C) utilizing a higher level of equity.

D) decreasing their variable costs per unit.

101) If TechCor has fixed costs of $60,000, variable costs of $1.20/unit, a sales price/unit of $7, and depreciation expense of $25,000, what is its cash breakeven in units?

A) 6,034 units B) 11,458 units C) 12,375 units D) 45,833 units 102) Green Co. has total debt of $400,000, a cost to borrow funds of 6%, and an EBIT of $42,500.

From a financial perspective, Green Co. has profits at A) breaking even.

B) lower than the breakeven point.

C) higher than the break-even point.

D) in need of new financing.

Foundations of Financial Management, 17e (Block) Chapter 6 Working Capital and the Financing Decision 1) A firm will generally generate more financing from internal sources if the firm is experiencing sales growth.

2) Supply chain management has little impact on financial performance and is primarily a marketing and management concept.

3) Many companies such as McDonald's have embraced supply chain management using Web-based procedures.

4) Working capital management is relatively unimportant for a small business.

5) Working capital management involves the financing and management of the current assets of the firm.

6) The financial managers generally devote little time to the management of working capital.

7) A business person's failure to realize the firm is carrying self-liquidating inventory can result in inadequate financing arrangements.

8) Liquidating current assets is like liquidating fixed assets since they have lives greater than one year.

9) The key to current asset planning is the ability to forecast sales accurately and then match 98 Copyright © 2019 McGraw-Hill Education. All rights reserved.

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production schedules with the sales forecast.

10) One of the primary benefits of implementing supply chain management is reducing inventory on hand.

11) Permanent current assets are not similar to fixed assets because they are fully liquidated within the year.

12) Walmart requires manufacturers to ship goods with RFID tags so it can better track inventory and reduce the need for supply chain management.

13) When a company produces more than it sells, inventory rises.

14) When a company sells more than it produces, its inventory levels increase.

15) When using level production, inventory will peak in the month where unit sales trend above the planned production level.

16) Cash, accounts receivables, and inventory all move monthly in the same direction under level production.

17) Level production methods smooth production schedules and utilize manpower and equipment more efficiently than seasonal production methods.

18) The use of point-of-sale terminals has made it easier for many retail store managers to manage their inventory.

19) The cash budget combines the cash receipts and cash payments schedules in determining cash flow.

20) Ideally, permanent current assets should be financed exclusively with short-term borrowings.

21) Industries like manufacturing, retailing and utilities are considered seasonal and may exhibit uneven or seasonal demand 22) As a general rule, it is desirable to finance the permanent assets, including "permanent current assets," with long-term debt and equity.

23) Increased use of long-term financing is generally a more conservative approach to current asset financing.

24) A "risky" financial plan will use long-term financing for fixed assets, permanent current assets, and a portion of temporary current assets.

25) Short-term financing is risky because of the possibility of rising short-term rates and the inability to pay off debt within a short period of time.

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26) Short-term interest rates are generally lower than long-term interest rates.

27) By using long-term capital to cover short-term needs, the firm is virtually assured of becoming technically insolvent.

28) Heavy use of long-term financing generally leads to lower financing costs.

29) During an economic "boom" period, a shortage of low-cost financing alternatives exists.

30) The "term structure of interest rates" refers to the relationship between yields on debt and their maturities.

31) The "term structure of interest rates" represents the competitive cost of funds for the various short-term sources of funds such as Treasury bills, commercial paper, and bank CDs. 32) The "term structure of interest rates" is a schedule that tells when a company's bonds mature and shows how many dollars a firm must pay in interest payments.

33) Yield curves change very little in the short run (i.e. one year or less).

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34) If the liquidity premium theory was the only correct theory, yield curves would always be upward-sloping.

35) Long-term funds may be used by a financial manger to cover short-term needs and protect against the danger of not being able to provide adequate short-term financing during tight money periods.

36) The term structure of interest rates will influence the ratio of long-term financing to short-term financing used at any given time.

37) It is not necessary to understand interest rate movements when deciding the structure of short-term debt relative to long-term debt.

38) The behavior of various kinds of financial institutions determines the shape of the yield curve, according to the market segmentation theory.

39) The market segmentation theory is the only theory that has any significant impact on interest rates.

40) According to the expectations hypothesis, when long-term interest rates are higher than short-term interest rates, long-term rates are expected to decline.

41) According to the expectations hypothesis, when long-term interest rates are higher than short-term interest rates, short-term rates are expected to rise.

42) As a general rule, the interest rate on short-term funds is higher than on long-term funds.

43) Short-term interest rates have historically been more volatile than long-term rates.

44) A successful financial manager is very interested in the term structure of interest rates but is not concerned with the relative volatility or historical level of interest rates.

45) Short-term interest rates are more dependent upon inflation than on current demand for money.

46) Interest rates and inflation are inversely related.

47) During tight money periods, short-term financing may be difficult to find.

48) Expected value techniques allow consideration of more than one possible outcome.

49) In periods of tight money, long-term rates are typically higher than short-term rates.

50) If we examine the ratio of working capital to sales, we can see that for the last several decades, firms' liquidity has been increasing.

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51) Heavy risk exposure due to short-term borrowing can be compensated for by carrying more illiquid assets.

52) Heavy use of long-term financing can generate more profit for the company during a tight money period.

53) Use of long-term financing and the carrying of highly liquid assets is a high-risk combination.

54) Firms with predictable cash-flow patterns should assume relatively low levels of risk.

55) Firms with highly volatile and perishable inventory should assume relatively low levels of risk.

56) The more short-term financing there is relative to long-term financing, the riskier the financial structure.

57) Immediate access to capital markets allows greater risk-taking capability.

58) Working capital management primarily involves long-term planning.

59) The aggressive financing plan involves utilizing long-term financing for permanent and temporary current assets.

60) Expected value analysis requires taking the difference between the actual projected outcome and the historic outcome times its probability and then summing these totals.

61) Expected value analysis involves assigning "weights" to various expected future profit outcomes by their respective probabilities of occurrence.

62) Long-term financing is usually less expensive than short-term financing because firms have longer periods of time to pay off long-term debt.

63) The three most important factors when selecting a financing plan are risk, asset liquidity, and timing.

64) Generally, a downward sloping yield curve indicates a forthcoming economic boom.

65) Pressure to increase current asset buildup often results from A) a decline in sales growth.

B) rapidly expanding sales.

C) increased demands of short-term creditors.

D) None of the options are true.

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66) Working capital management is primarily concerned with the management and financing of A) cash and inventory only.

B) current assets and current liabilities.

C) current assets.

D) receivables and payables.

67) A financial executive devotes the most time to A) long-range planning.

B) capital budgeting.

C) short-term financing.

D) working capital management.

68) The term "permanent current assets" implies A) the same thing as fixed assets.

B) nonmarketable assets.

C) some minimum level of current assets that are not self-liquidating.

D) inventory.

69) The concept of a self-liquidating asset implies that A) the working capital associated with a product will be liquidated within a one-year period.

B) all the product will be sold, receivables collected, and bills paid over the time period specified.

C) assets associated with the production of a product will be liquidated over the depreciable life of the assets.

D) self-liquidating assets will be financed by long-term sources of capital.

70) Well-implemented Web-based supply chain management has all of the following benefits except A) it reduces inventory on hand.

B) it speeds up the ordering and delivery process.

C) it limits the number of suppliers bidding for a company's business.

D) it decreases overall costs.

71) Permanent current assets are not a factor in a manager's decision-making process when all current assets are A) financed by short-term debt.

B) long-term in nature.

C) self-liquidating.

D) internally financed.

72) RFID chips have been used to A) track livestock.

B) track marathon runners' times.

C) track inventory at retailers.

D) All of the options are true.

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73) Tinbergen Cans expects sales next year to be $50,000,000. Inventory and accounts receivable (combined) will increase $8,000,000 to accommodate this sales level. The company has a profit margin of 6 percent. Its dividend payout is 30 percent of profit. How much external financing will the firm have to seek? Assume there is no increase in liabilities other than that which will occur with the external financing.

A) No external financing will be needed.

B) Less than $1,000,000 of external financing is needed.

C) Between $1,000,000 and $5,000,000 of external financing is needed.

D) More than $5,000,000 of external financing is needed.

74) Samuelson will produce 20,000 units in January using level production. If each unit costs $500 to manufacture, what is the dollar value of ending inventory in January if beginning inventory is 10,000 units and January sales are 15,000?

A) Less than $5,000,000 B) Between $5,000,000 and $10,000,000 C) Greater than $10,000,000 D) There will be a shortage of inventory.

75) Samuelson has a beginning inventory balance on January 1 of 12,000 units and desires an ending balance of 20% of the next month's sales. If sales are expected to be 17,000 for January and 20,000 for February, what is the ending balance as of January 31?

A) 4,000 units B) 5,500 units C) 3,400 units D) 8,400 units 76) Samuelson has a beginning inventory balance on January 1 of 12,000 units and desires an ending balance of 20% of the next month's sales. If sales are expected to be 17,000 for January and 20,000 for February, what amount of units does Samuelson have to produce during the month of January?

A) 4,000 units B) 9,000 units C) 3,400 units D) 8,400 units 77) One advantage of level production is that A) manpower and equipment are used efficiently at lower cost.

B) current assets fluctuate more than with seasonal production.

C) seasonal bulges and sharp declines in current assets occur.

D) None of the options are advantageous.

78) Companies that sell electricity are characterized by A) fluctuating production to match sales.

B) seasonal sales.

C) low inventories due to computer inventory management.

D) fluctuating production to match sales and seasonal sales.

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79) If a firm uses level production with seasonal sales and sales decline further than expected, A) inventory will increase.

B) inventory will decrease.

C) accounts receivables will increase.

D) inventory and accounts receivables will increase.

80) Retail companies like Target and Macy's exhibit sales patterns that are most typically influenced by A) cyclical economic indicators.

B) competitive prices.

C) seasonality.

D) sales promotions.

81) Retail companies like Target and Macy's are more likely to have A) stable sales and earnings per share.

B) cyclical sales but less volatile earnings per share.

C) cyclical sales and more volatile earnings per share.

D) cyclical sales but stable accounts receivable and inventory.

82) The use of cash budgeting procedures A) helps the firm plan its current asset levels for a given production plan.

B) makes managing inventory easier under seasonal production.

C) illustrates fluctuating levels of current assets for a given production plan.

D) All of the options are correct.

83) In company XYZ, assume that level production happens throughout the year and that receivables are collected in two equal installments over a two-month period subsequent to the sales period. If XYZ wants to develop a cash budget, which of the following steps is required?

A) Calculate ending accounts receivable balances.

B) Calculate cost of goods sold.

C) Estimate monthly net cash flow and bank borrowing or repayments.

D) Calculate ending inventory.

84) When actual sales are greater than forecasted sales A) inventory will decline.

B) production schedules might have to be revised upward.

C) accounts receivable will rise.

D) All of the options are true.

85) When actual sales are greater than production, A) inventory will decline.

B) production schedules might have to be revised upward.

C) accounts receivable will rise.

D) All of the options are true.

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86) Normally, permanent current assets should be financed by A) long-term funds.

B) short-term funds.

C) borrowed funds.

D) internally generated funds.

87) Ideally, which of the following type of assets should be financed with long-term financing?

A) Fixed assets only B) Fixed assets and temporary current assets C) Fixed assets and permanent current assets D) Temporary and permanent current assets 88) A conservatively financed firm would A) use long-term financing for all fixed assets and short-term financing for all other assets.

B) finance a portion of permanent assets and short-term assets with short-term debt.

C) use equity to finance fixed assets, use long-term debt to finance permanent assets, and use short-term debt to finance fluctuating current assets.

D) use long-term financing for three items: permanent current assets, fixed assets, and a portion of the short-term fluctuating assets. Then use short-term financing for all other short-term assets.

89) Generally, more use is made of short-term financing because A) short-term interest rates are generally lower than long-term interest rates.

B) most firms do not have basic access to the capital markets.

C) short-term financing is usually more predictable than long-term financing.

D) short-term interest rates are generally lower than long-term interest rates and most firms do not have basic access to the capital markets.

90) The term structure of interest rates A) is an indication of investors' expectations about inflation and future interest rates.

B) will be downward sloping if short-term interest rates are higher than long-term rates.

C) will be upward sloping under normal conditions.

D) All of the options are true.

91) The term structure of interest rates A) changes daily to reflect current competitive conditions in the money and capital markets.

B) plots returns for securities of different risk.

C) shows the relative interest rate spread between bonds with different risk ratings such as AAA, AA, A, BBB, and so on.

D) depicts interest rates for T-bills over the last year.

92) Which of the following statements regarding yield curves is true?

A) Yields on corporate debt securities will move in the same direction as government securities.

B) Yields on corporate debt securities are considered a greater financial risk and will have higher interest rates.

C) Yield curves for corporate securities change daily to reflect current competitive conditions.

D) All of the options above are correct.

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93) The term structure of interest rates is influenced by A) inflation.

B) money supply.

C) Federal Reserve activities.

D) All of the options are correct.

94) Financial managers can accurately predict future interest rates beyond a few months by A) calculating the anticipated inflation rate.

B) gauging the Fed's decision regarding the target federal funds rate.

C) measuring investor sentiment and consumer confidence indices.

D) None of the options are correct.

95) The belief that investors require a higher return to entice them into holding long-term securities is the viewpoint of the A) expectations hypothesis.

B) market segmentation theory.

C) liquidity premium theory.

D) market credit crunch theory.

96) The term structure of interest rates A) is often referred to as the yield curve.

B) depicts the relative level of short- and long-term interest rates.

C) is usually constructed with U.S. government securities of varying maturities.

D) All of the options are true.

97) Yield curves change daily to reflect A) changing conditions in the money and capital markets.

B) new inflation expectations.

C) changing conditions in the overall economy.

D) All of the options are correct.

98) U.S. government securities are used to construct yield curves because A) they are free of default risk.

B) the large number of maturities form a continuous curve.

C) they are free of default risk and the large number of maturities form a continuous curve.

D) None of the options are correct.

99) As the economy moves through a business cycle, which of the following "term structure of interest rates" theories dominates the shape of the yield curve.

A) The expectations hypothesis.

B) The market segmentation theory.

C) The liquidity premium theory.

D) None of these theories dominate the shape of the yield curve.

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100) Some analysts believe that the term structure of interest rates is determined by the behavior of various types of financial institutions. This theory is called the A) expectations hypothesis.

B) market segmentation theory.

C) liquidity premium theory.

D) theory of industry supply and demand for bonds.

101) The theory of the term structure of interest rates, which suggests that long-term rates are determined by the average of short-term rates expected over the time that a long-term bond is outstanding, is the A) expectations hypothesis.

B) segmentation theory.

C) liquidity premium theory.

D) market average rate theory.

102) A "normal" term structure of interest rates would depict A) short-term rates are higher than long-term rates.

B) long-term rates are higher than short-term rates.

C) no general relationship between short- and long-term rates.

D) intermediate rates (one to five years) are lower than both the short-term and long-term rates.

103) A firm will usually increase the ratio of short-term debt to long-term debt when A) short-term debt has a lower cost than long-term equity.

B) the term structure is inverted and expected to shift down.

C) the term structure is upward sloping and expected to shift up.

D) the firm is undertaking a large capital budgeting project.

104) A firm will usually increase the ratio of long-term debt to short-term debt when A) short-term debt has a lower cost than long-term equity.

B) future interest rates are expected to increase.

C) long-term debt has a lower cost than long-term equity.

D) future interest rates are expected to decrease.

105) Which of the following yield curves would be present during a period of high economic growth?

A) Upward sloping B) Downward sloping C) Horizontal D) Humped 106) An inverted yield curve would suggest that A) interest rates are expected to rise.

B) interest rates are expected to fall.

C) inflation is expected to rise in the future.

D) long-term rates are being pushed up by Federal Reserve policy.

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107) When the term structure of interest rates is downward sloping and interest rates are expected to decline, the A) financial manager generally borrows short-term.

B) financial manager borrows at the lower long-term rates.

C) corporation's ratio of short-term to long-term debt is low.

D) None of the options are true.

108) During tight money periods, generally A) long-term rates are higher than short-term rates.

B) short-term rates are higher than long-term rates.

C) short-term rates are equal to long-term rates.

D) the relationship between short- and long-term rates remains unchanged.

109) Which of the following techniques allows explicit consideration of more than one possible outcome?

A) Operating leverage B) Present value C) Least-squares regression D) Expected value 110) Under normal conditions (60% probability), Financing Plan A will produce a $30,000 higher return than Plan B. Under tight money conditions (40% probability), Plan A will produce $40,000 less than Plan B. What is the expected value of return?

A) $34,000 B) $4,000 C) $4,800 D) $2,000 111) Under normal conditions (70% probability), Plan A will produce a $20,000 higher return than Plan B. Under tight money conditions (30% probability), Plan A will produce $100,000 less than Plan B. What is the expected value of return?

A) $28,000 B) ($16,000) C) $44,000 D) ($2,000) 112) Which of the following is a reason for diminishing liquidity in modern corporations?

A) Just-in-time inventory programs.

B) Better utilization of cash via computers.

C) Increased use of point-of-sale terminals.

D) All of the options are reasons for diminishing liquidity.

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113) Kuznets Rental Center requires $500,000 in financing over the next two years. Kuznets can borrow long-term debt at 8 percent interest per year for two years. Alternatively, Kuznets can borrow short-term debt at 6 percent interest in the first year and 9 percent interest in the second year. Assuming Kuznets pays off the interest at the end of each year, which of the following statements is true?

A) Kuznets will end up paying more in total interest under the long-term financing plan.

B) Kuznets will end up paying less in total interest under the long-term financing plan.

C) Kuznets will pay less in the first year under the long-term financing plan.

D) Kuznets will pay less in the second year under the short-term financing plan.

114) Hicks Health Clubs, Inc., expects to generate an annual EBIT of $750,000 and needs to obtain financing for $1,200,000 of assets. The company's tax bracket is 40%. If the firm uses short-term debt, its rate will be 7.5%, and if it uses long-term debt, its rate will be 9%. By how much will earnings after taxes change if the company chooses the more conservative financing plan instead of the more aggressive plan?

A) $10,000 B) ($10,800) C) ($18,000) D) $6,000 115) Hicks Health Clubs, Inc., expects to generate an annual EBIT of $750,000 and needs to obtain financing for $1,200,000 of assets. The company's tax bracket is 40%. If the firm uses short-term debt, its rate will be 7.5%, and if it uses long-term debt, its rate will be 9%. By how much will earnings after taxes change if the company chooses to use short-term debt financing for the first year?

A) $10,000 B) $10,800 C) $18,000 D) $6,000 116) Hicks Health Clubs, Inc., expects to generate an annual EBIT of $750,000 and needs to obtain financing for $1,200,000 of assets. Its tax bracket is 40%. If the firm uses short-term debt, its rate will be 7.5%, and if it uses long-term debt, its rate will be 9%. By how much will their earnings after taxes change if they choose the more aggressive financing plan instead of the more conservative plan?

A) $10,800 B) ($10,000) C) ($6,000) D) $6,000 117) An aggressive, risk-oriented firm will likely A) borrow long-term and carry low levels of liquidity.

B) borrow short-term and carry low levels of liquidity.

C) borrow long-term and carry high levels of liquidity.

D) borrow short-term and carry high levels of liquidity.

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118) A manager can be aggressive if the firm has all of the following EXCEPT A) predictable cash-flow patterns.

B) high amounts of permanent current assets.

C) a stable inventory price.

D) basic access to capital markets.

119) Risk exposure due to heavy short-term borrowing can be compensated for by A) carrying highly liquid assets.

B) carrying many illiquid assets.

C) carrying longer term, more profitable current assets.

D) carrying more receivables to increase cash flow.

120) Which of the following combinations of asset structures and financing patterns is likely to create the least volatile earnings?

A) Illiquid assets and heavy short-term borrowing B) Illiquid assets and heavy long-term borrowing C) Liquid assets and heavy long-term borrowing D) Liquid assets and heavy short-term borrowing 121) Which of the following combinations of asset structures and financing patterns is likely to create the most volatile earnings?

A) Illiquid assets and heavy short-term borrowing B) Illiquid assets and heavy long-term borrowing C) Liquid assets and heavy long-term borrowing D) Liquid assets and heavy short-term borrowing 122) An aggressive working capital policy would have which of the following characteristics?

A) A high ratio of long-term debt to fixed assets B) A low ratio of short-term debt to fixed assets C) A high ratio of short-term debt to long-term sources of funds D) A short average collection period 123) The following are the expected one-year T-bill rates for the next four years: 3%, 4%, 5%, and 6%. According to the basic model of the expectations hypothesis, what would you expect the rate for three-year securities to be?

A) 4% B) 4.5% C) 6% D) 3.75% 124) The following are the expected one-year T-bill rates for the next four years: 2%, 3%, 4%, and 5%. According to the basic model of the expectations hypothesis, what would you expect the rate for four-year securities to be?

A) 4.5% B) 4.25% C) 3% D) 3.5% 111 Copyright © 2019 McGraw-Hill Education. All rights reserved.

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125) Riley Co. is considering a short-term or long-term financing plan of $4,000,000 assets. It expects the following one-year interest rates over the next three years: 6.5%, 7.75%, and 9%. The long-term interest rate will be 7.5% during those three years. What will be the difference in interest costs over the three years?

A) Long-term interest will be $630,000 more than short-term interest.

B) Long-term interest will be $30,000 less than short-term interest.

C) Long-term interest will be $140,000 less than short-term interest.

D) None of the options are true.

126) Genetech has $4,000,000 in assets. It has decided to finance 30% with long-term financing (9% rate) and 70% with short-term financing (7%) rate. What will be its annual interest costs?

A) $78,000 B) $126,000 C) $440,000 D) $304,000 127) Genetech has $4,000,000 in assets. It has decided to finance 30% with long-term financing (9% rate) and 70% with short-term financing (7%) rate. Assuming a 21% tax rate, what will its annual after-tax interest costs be?

A) $81,000 B) $147,000 C) $182,400 D) $240,160 128) When the yield curve is upward sloping, generally a financial manager should A) utilize long-term financing.

B) utilize short-term financing.

C) wait to see what will happen with future financing.

D) utilize long-term equity.

129) When the yield curve is downward sloping, generally a financial manager should A) expect an economic boom.

B) utilize long-term financing.

C) increase investment and the level of financing overall.

D) utilize short-term financing.

Foundations of Financial Management, 17e (Block) Chapter 7 Current Asset Management 1) For most modern corporations, the more cash they have, the better off they are.

2) In the management of cash and marketable securities, the primary concern is profitability.

3) Minimizing cash balances can improve overall corporate profitability.

4) "Float" has been largely reduced because of electronic payments and improvements in 112 Copyright © 2019 McGraw-Hill Education. All rights reserved.

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business-to-business relationships.

5) For most firms, the primary motive for holding cash is the transaction motive.

6) Reasons for holding cash could be for transaction balances, compensating balances for banks, and other precautionary needs.

7) Cash flows are independent of the payment pattern of customers, the speed at which suppliers and creditors process checks, and the efficiency of the banking system.

8) Cash balances are usually determined by the amount of cash flowing through the firm on a yearly basis.

9) A primary goal of cash management is to ensure that the inflows and outflows of cash are synchronized.

10) Proper management of sales, receivables, payables, and inventory form the basis of cash flow.

11) The cash-generating process for a firm is continuous, even though cash flow can be sporadic.

12) Computerized cash management and electronic funds transfer allow firms to carry smaller cash balances.

13) Float is the difference between the cash balance on the corporate books and the amount currently credited to the corporation by the bank.

14) "Float" is the name given for a short-term loan between suppliers and buyers.

15) There are two kinds of float: mail float and clearing float.

16) Checks can be cleared only through the Federal Reserve System.

17) Unfortunately, float is too complicated to be effectively managed through any combination of disbursement and collection strategies.

18) It is possible for companies to operate with negative cash balances on their books.

19) A lock-box system is a method of extending disbursements.

20) A lock-box is used to safeguard the corporation's marketable securities.

21) When utilizing a lockbox system, a customer typically sends a check to the bank, a bank employee picks up the check and processes the check electronically and then sends record of payment to the company's finance center.

22) A lock-box is used by the selling corporation to speed up the check collection and check-clearing process.

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23) "Extended disbursement float" has to do with the length of time a corporation takes to collect bills.

24) Cost-benefit is not a consideration in development of a cash management system, only safety and liquidity.

25) Electronic funds transfer will likely increase the use of float.

26) The use of automated clearinghouses (ACHs) saves money for consumers, corporations, and financial institutions by reducing transaction costs.

27) It is less expensive to clear a check through the Federal Reserve System than to process an automatic fund transfer through an automated clearinghouse.

28) The "SWIFT" transfer system was developed to aid regional bank fund transfers within the United States.

29) SWIFT has combated the growing issue of electronic fraud with smart card technology that no longer requires users to manually log in to the network, and thus eliminates any paper trail.

30) Every message routed through SWIFT is encrypted and every money transaction is authorized by another code for security purposes.

31) Multinational firms find it difficult to shift funds from one country to another.

32) In general, cash management at the international level employs the same techniques as domestic cash management.

33) Eurodollars are U.S. dollars held on deposit by foreign banks.

34) Stretching out the maturity of marketable securities can rarely result in a loss.

35) The investment of excess short-term funds is usually diversified between short- and long-term marketable securities.

36) Cash management becomes more important as the level of short-term interest rates rises.

37) Treasury bills are unique in that they trade on a premium basis.

38) Because they generally run a surplus budget, government agencies are able to issue securities with slightly lower yields than direct Treasury issues.

39) Certificates of deposit purchased in small denominations of $1,000 at commercial banks or savings and loan organizations are readily marketable.

40) When considering risk and popularity, banker's acceptances are ranked behind Treasury bills 114 Copyright © 2019 McGraw-Hill Education. All rights reserved.

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and commercial paper as a vehicle for short-term investments.

41) Small-denomination certificates of deposit are usually more liquid than large-denomination CDs. 42) The rate on Eurodollar certificates of deposit is usually lower than domestic certificates of deposit.

43) Bankers' acceptances are short-term securities that arise from foreign trade.

44) The 5 Cs of credit include "character, capital, capacity, conditions, and collateral."

45) One way businesses try to overcome the risk associated with new customers is to access a credit scoring report that will predict the probability of a customer causing credit problems in the future.

46) Because of changing economic conditions, it is difficult for companies such as Dun & Bradstreet to devise models predicting payment problems and the probability of bankruptcy 12 months in the future.

47) Finding out who is ultimately responsible for a bad debt can be helped by Dun & Bradstreet's D-U-N-S (Data Universal Number System) that tracks relationships and the ownership of businesses within Dun & Bradstreet's information base.

48) If a firm averages $2,000 in daily credit sales and offers 60-day terms, the average accounts receivable balance will be $120,000.

49) If a firm's average accounts receivable balance increases, this could be because the company improved what customers it extended credit to.

50) If a firm's average collection period increases, this could be because the company gave credit to customers with a low credit report.

51) Return on investment is the major decision criteria in credit decisions.

52) Inventories are usually the most liquid, but lowest-yielding, current asset of a firm.

53) Seasonal production allows for maximum efficiency in machinery and manpower use.

54) The "economic ordering quantity" helps a firm determine the most efficient order size to place.

55) The two basic costs associated with inventory are production cost and ordering cost.

56) A reduction in carrying costs would increase the economic order quantity.

57) Lower ordering costs would tend to increase a firm's economic order quantity.

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58) Assuming that inventory is used up at a constant rate and safety stock is zero, the average inventory will be half the re-order size.

59) A stock out occurs when a firm runs out of inventory and is unable to sell or deliver the product requested.

60) A stock out saves the firm money because little inventory is held on hand, which saves on storage costs.

61) Maintaining a safety stock will always guard against an "EOQ point" from occurring.

62) Just-in-time inventory systems can leave manufacturers empty-handed if suppliers can't keep up with product growth rates.

63) Just-in-time inventory management typically pushes the cost of holding inventory from the manufacturer to the manufacturer's suppliers.

64) The use of "float" has dramatically increased since the Check Clearing for the 21st Century Act was passed.

65) When considering offering a cash discount, a firm must weigh the benefits of freed-up cash with the cost of the cash discount.

66) A cash discount typically lowers the average collection period of a firm.

67) When considering a potential customer, the firm should overlook the customer's credit history if the customer is purchasing a huge order.

68) When selecting marketable securities, the company should always select securities with longer maturities if they offer higher yields.

69) If a company would like to reduce its average collection period, it can either offer a cash discount or increase net terms.

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70) Level production allows a company to reduce inventory and maximize efficiency as compared to seasonal production.

71) Cash should have a higher required return than accounts receivable because it is more liquid.

72) Inventory should have a higher required return than cash because it is less liquid.

73) Liquidity of an asset has nothing to do with measuring the required rate of return on the asset.

74) In managing cash and marketable securities, what should be the manager's primary concern?

A) Maximization of profit B) Maximization of liquid assets C) Acceptable return on investment D) Liquidity and safety 75) One of the first considerations in cash management is A) to have as much cash as possible on hand.

B) synchronization of cash inflows and cash outflows.

C) profitability.

D) to put any excess cash into accounts receivable.

76) Which of the following is not a valid reason for holding cash?

A) To meet transaction requirements.

B) To earn the highest return possible.

C) To satisfy emergency needs for funds.

D) To provide a compensating balance for a bank.

77) Cash flow does not rely on which of the following?

A) The payment arrangements of customers.

B) The monetary policy of the Federal Reserve.

C) The speed at which suppliers and creditors process checks.

D) The efficiency of the banking system.

78) The difference between the amount of cash on the firm's books and the amount credited to it by its bank is A) an overdraft.

B) interest revenue.

C) extended disbursement.

D) float.

79) "Float" takes place because A) a firm is early in paying its bills.

B) the level of cash on the firm's books is equal to the level of cash in the bank.

C) a lag exists between writing a check and clearing it through the banking system.

D) a customer writes checks without adequate supporting balances.

80) Which of the following is the most liquid asset?

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A) Prepaid expenses B) Inventory C) Cash equivalents D) Accounts receivable 81) Which of the following is not a method of speeding up collections of cash?

A) Lock-box system.

B) Regional collection centers.

C) Extended disbursement float.

D) All of the options are methods for speeding up collections.

82) The system whereby funds are moved between computer terminals without use of checks is A) electronic funds transfer.

B) float.

C) a lock-box system.

D) magnetic character recognition.

83) How will widespread adoption of electronic funds transfer affect the use of "float"?

A) It will increase its use somewhat.

B) It will decrease its use somewhat.

C) It will virtually eliminate its use.

D) It will have no effect on its use.

84) Which of the following is not a strategy to expedite the collection and check-clearing process?

A) Utilizing a variety of collection centers throughout a marketing area.

B) Utilizing a lockbox system.

C) Mailing checks and waiting for the check to clear.

D) Utilizing electronic payment between banks.

85) Automated clearinghouses are commonly used by consumers to make direct payments for A) insurance premiums.

B) mortgage payments.

C) utility bills.

D) All of the options are true.

86) One of the major cost savings for consumers using automated clearinghouses is A) saving great amounts of money on postage.

B) saving time paying bills through check writing.

C) the security of having the payments and deposits directly deposited or deducted from your account.

D) All of the options are true.

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87) Which of the following is not a true statement about automated clearinghouses (ACHs)?

A) Automated clearinghouses are responsible for the check clearing process between commercial banks and the Federal Reserve Banks.

B) Commercial transactions using automated clearinghouses have been growing at close to 17% per year since 1989.

C) Debits drawn on automated clearinghouses cost less than half that of checks processed through financial institutions.

D) The ability to reduce transactions costs and create convenience is driving the growth of automated clearinghouses.

88) Some of the services provided around the clock by SWIFT are A) international payments between banks.

B) foreign exchange.

C) trade finance transactions.

D) All of the options are true.

89) International cash management is more complex than domestic-based cash management because of A) liquidity management issues.

B) different banking systems.

C) currency fluctuation risk.

D) All of the options are true.

90) SWIFT's implementation of the "smart card" is expected to A) decrease the likelihood of electronic fraud.

B) remove the need for secret information to be sent through the mail.

C) guarantee the identity of the sender.

D) All of the options are true.

91) International cash management systems are more complex than domestic cash management systems because A) many developing countries still use a cash payments system.

B) some countries rely on electronic funds transfer more than the U.S. C) liquidity management, involving short-term cash balances and deficits, has to be managed across international boundaries and time zones and is subject to the risks of currency fluctuations.

D) None of the options are true.

92) International cash management systems are more complex than domestic cash management systems because of A) the risk involved in currency fluctuations.

B) the changing interest rates across countries.

C) varying time zones across countries.

D) All of the options are true.

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93) The corporate sweep account is an account A) that allows companies to maintain zero balances in their checking accounts, with their excess cash moved into an interest-earning account.

B) that allows companies to write checks on zero balance accounts with the understanding that when the check is presented for payment, money will be moved from the interest-bearing account to the appropriate payment account.

C) that allows companies to move their lockbox collections into an interest-bearing checking account.

D) that allows companies to maintain zero balances in their checking accounts, with their excess cash moved into an interest-earning account and lets companies write checks on zero balance accounts with the understanding that when the check is presented for payment, money will be moved from the interest-bearing account to the appropriate payment account.

94) A multinational company may prefer to hold sizeable cash balances in one currency rather than another because A) of high interest rates existing in one country.

B) one country's currency may be weak relative to the other.

C) the company is looking to do business in the country with that currency in the future.

D) all of the options are true.

95) The problem in stretching out the maturity of marketable securities is that A) you are legally locked in until the maturity date.

B) longer-term securities always make less interest than shorter-term securities.

C) there is a greater possibility that the value of the security will drop because of interest rate fluctuations.

D) interest rates are generally lower over time.

96) Which of the following is not a factor influencing the selection of a marketable security?

A) Yield B) Maturity C) Float D) Safety 97) Generally, the safest and most marketable instrument for short-term investment is A) commercial paper.

B) large denomination certificate.

C) Treasury notes.

D) Treasury bills.

98) Which of the following securities typically trades on a discount basis?

A) Treasury notes B) Treasury bills C) Money market funds D) Certificates of deposit

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99) A firm that wishes to minimize risk when investing idle cash would be LEAST likely to buy A) commercial paper.

B) long-term corporate bonds.

C) certificates of deposit.

D) Treasury bills of the U.S. government.

100) A banker's acceptance A) is a draft drawn on a bank and paid by that bank when presented to it.

B) may be accepted by the bank for future payment.

C) can be traded in a relatively liquid market until maturity.

D) All of the options are true.

101) Eurodollar certificates of deposit A) are not marketable investments.

B) are used by banks to loan out funds to anyone seeking U.S. dollars.

C) pay interest rates usually lower than the rates on U.S. treasury bills.

D) are European currencies deposited into international U.S. branch banks.

102) In comparison to securities issued by the U.S. Treasury, securities issued by U.S. government agencies A) are significantly riskier than Treasury securities.

B) are much less liquid than Treasury securities.

C) yield slightly more than Treasury securities.

D) usually require the payment of higher commissions than Treasury securities.

103) Which of the following securities represents an unsecured promissory note issued by a corporation?

A) Certificates of deposit B) Savings accounts C) Commercial paper D) Money market fund 104) Eurodollars A) can only be redeemed at U.S. banks or their branches in European countries.

B) are U.S. dollars that have been converted into several European currencies.

C) may be borrowed by anyone who wishes to hold U.S. dollars.

D) can only be redeemed at U.S. banks or their branches in any foreign country.

105) Money market funds are A) accounts that allow small investors to participate in buying large-denomination securities.

B) extremely risky but high-yielding accounts used by large corporations to finance operations.

C) accounts that allow small investors to buy shares in companies that then buy shares of common stock.

D) pools of bonds held by large utility companies.

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106) Characteristics of a money market mutual fund include A) the purchase of shares by investors, the proceeds of which are reinvested into liquid short-term securities.

B) a required minimum balance of $2,500.

C) the ability to be readily marketable.

D) None of the options are true.

107) Characteristics of a money market deposit account include A) a lower risk than money market funds.

B) insurance by federal agencies.

C) generally a limit of three deposits or withdrawals per month.

D) All of the options are true.

108) Which of the following are characteristics of money market investments?

A) Money market funds are offered by banks.

B) Money market funds are insured up to $100,000 by federal agencies.

C) The minimum balance for money market deposit accounts is normally $5,000.

D) None of the options are true.

109) Money market funds A) are modeled after money market deposit accounts.

B) are insured up to $100,000.

C) have a minimum balance of $2,500.

D) earn competitive market rates of return.

110) The three primary policy variables to consider when extending credit include all of the following except A) credit standards.

B) the level of inflation.

C) the terms of trade.

D) collection policy.

111) The most subjective and also significant segment of the 5 Cs of credit for giving final approval is A) capacity.

B) collateral.

C) character.

D) conditions.

112) Dun & Bradstreet is known for providing A) interest rate information to cash managers.

B) credit scoring reports that rank a company's payment habits relative to its peer group.

C) cash management systems to corporate treasurers.

D) consumer credit reports to credit card companies.

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113) When developing a credit scoring report, many variables would be considered. Which of the following best represents the major factors Dun & Bradstreet would examine?

A) The age of the management team, the dollar amount of sales, net profits, and long-term debt.

B) The age of the company, the number of employees, and the level of current assets.

C) The financial statements, satisfactory or slow payment experiences, and negative public records (suits, liens, judgments, and bankruptcies).

D) The company's cash balances, return on equity, and its average tax rates.

114) Which of the following is not a valid quantitative measure for accounts receivable collection policies?

A) Average collection period B) Aging of accounts receivables C) Ratio of debt to equity D) Ratio of bad debts to credit sales 115) Variables important to credit scoring models include A) age of company in years.

B) negative public records.

C) facility ownership.

D) All of the options are true.

116) Inventory is usually divided into three basic categories except A) projected sales.

B) work in process.

C) finished goods.

D) raw materials.

117) Which of the following is generally considered to be the least liquid of current assets?

A) Accounts receivable B) Inventory C) Marketable securities D) Cash equivalents 118) Companies that are mostly influenced by seasonal sales have to make a choice between A) level production and inventory buildup.

B) seasonal production and an uneven workforce.

C) a stable workforce and a fluctuating workforce.

D) All of the options are true.

119) The costs of carrying inventory do not include A) the interest on funds tied up in inventory.

B) the cost of warehouse space.

C) ordering costs.

D) insurance and handling costs.

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120) For a given firm, holding other factors constant, ordering costs per unit generally A) decline as average inventory increases.

B) increase in proportion to increases in inventory.

C) are considered fixed costs.

D) are negotiated.

121) Use of the economic order quantity A) determines the reorder point.

B) provides the lowest overall inventory costs.

C) determines the safety stock.

D) All of the options are true.

122) The economic order quantity A) assumes that inventory usage is seasonal.

B) assumes that delivery times of each order are consistent.

C) considers stock-outs.

D) All of the options are true.

123) When using the economic order quantity model A) ordering costs increase as the level of inventory increases.

B) carrying costs decrease as the level of inventory increases.

C) costs are minimized when total carrying costs and total ordering costs are equal.

D) None of the options are true.

124) The amount of safety stock that a firm carries depends upon A) the predictability of inventory usage.

B) the time period necessary to fill inventory orders.

C) the riskiness of the storage facility.

D) the predictability of inventory usage and the time period necessary to fill inventory orders.

125) A Just-In-Time (JIT) inventory management program has all but which of the following requirements?

A) Quality production B) Large safety stocks C) Close ties between suppliers, manufacturers, and customers D) Minimizing inventory levels 126) Cost savings from Just-In-Time (JIT) inventory management include(s) A) reduced overhead expenses.

B) lower inventory financing costs.

C) greater productivity.

D) All of the options are true.

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127) All of the following are benefits of just-in-time inventory ordering systems except that JIT A) reduces warehouse space.

B) saves utility and manpower costs.

C) reduces inventory costs.

D) prevents stock outs.

128) If average daily remittances are $6 million, and "extended disbursement float" adds two days to the disbursement schedule, how much should the firm be willing to pay for a cash management system if the firm earns 7% on excess funds?

A) $420,000 B) $1,200,000 C) $0 D) $840,000 129) Price Corp. is considering selling to a group of new customers and creating new annual sales of $90,000. Five percent will be uncollectible. The collection cost on all accounts is 3% of new sales, the cost of producing and selling is 80% of sales, and the firm is in the 21% tax bracket.

What is the profit on new sales?

A) $8,532 B) $9,660 C) $7,245 D) $10,710 130) Waldron Inc. is considering selling to a group of new customers that will bring in credit sales of $24,000 with a return on sales of 5%. The only new investment will be in accounts receivable.

Waldron has a turnover ratio of 6 to 1 between sales and accounts receivable. What is Waldron Inc.'s expected return on investment?

A) 30% B) 25% C) 5% D) 0.8% 131) Modos Company has deposited $3,500 in checks received from customers. It has written $1,400 in checks to its suppliers. The initial bank and book balance was $600. If $1,600 of its customers' checks have cleared, but only $600 of its own, calculate its float.

A) $1,200 B) $1,100 C) $300 D) $700 132) Massa Machine Tool expects total sales of $60,000. The price per unit is $10. The firm estimates an ordering cost of $25 per order, with an inventory cost of $0.70 per unit. What is the optimum order size?

A) 327 units B) 655 units C) 447 units D) 207 units 125 Copyright © 2019 McGraw-Hill Education. All rights reserved.

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133) Assuming that we can earn a 10% return on accounts receivable, which of the following strategies to finance an increase in our accounts receivable balance would be optimal?

A) An increase in bank loans that would cost us 8% B) A decrease in inventories that are earning a 16% return C) A reduction in marketable securities that are earning a return of 14% D) An increase in accounts payable that would cost our firm 15% 134) If a company can implement cash management systems and save three days by reducing remittance time and one day by increasing disbursement time based on $2,000,000 in average daily remittances and $2,500,000 in average daily disbursements and its return on freed-up funds is 10%, what is the maximum that it should spend on the system?

A) $2,000,000 B) $650,000 C) $850,000 D) $1,000,000 135) All of the following are methods of controlling receivables except A) offering a cash discount.

B) reducing net terms.

C) using DBIS. D) reducing cash sales.

136) Level production offers all of the following benefits except A) lower overtime usage.

B) maximum efficiency.

C) greater storage space.

D) higher use of capacity.

137) We expect that we can receive annual incremental income after taxes of $25,000, including an adjustment for uncollectible accounts. What is the maximum commitment to A/R that we should be willing to assume if our firm's minimum required after-tax return is 8%?

A) $36,000 B) $312,500 C) $168,000 D) $180,000 138) All of the following are examples of carrying costs except A) interest expense.

B) warehouse space.

C) shipping costs.

D) insurance premiums.

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139) The inventory decision model provides which type of information?

A) Optimal total inventory B) Optimal safety stock C) Optimal order size D) Optimal carrying cost per unit 140) Warren Enterprises expects 20,000 unit sales, has ordering costs of $20 per order, carrying costs of $1.00 per unit, and desires to keep 100 units in safety stock. Assuming level production, what should be its average inventory?

A) 200-300 B) 301-400 C) 401-500 D) 501-600 Foundations of Financial Management, 17e (Block) Chapter 8 Sources of Short-Term Financing 1) The largest source of short-term funds for most companies is suppliers (trade credit).

2) Larger firms tend to be net users of trade credit, rather than net providers.

3) Small companies finance a relatively greater proportion of their assets through trade credit than do larger firms.

4) The cost of not taking a 2/10, net 30 cash discount is usually less than the prime rate.

5) Accounts payable is a spontaneous source of funds that usually grows as the business expands.

6) The cost of NOT taking a discount is higher for terms of 2/10, net 60 than for 2/10, net 30.

7) "Stretching the payment period" refers to the practice of trying to take a trade discount after the discount period.

8) On 2/10, net 30 trade terms, if the discount is not taken, the buyer is said to receive 20 days of free credit.

9) Firms can almost always increase the amount of time they take to pay for purchases without incurring problems.

10) Approximately 40% of all short-term financing is in the form of accounts payable or trade credit.

11) Approximately 40% of all short-term financing is in the form of loans from the bank.

12) Trade credit is usually extended for periods of one year or more.

13) Attempting to "stretch the payment period" to receive additional short-term financing is an 127 Copyright © 2019 McGraw-Hill Education. All rights reserved.

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acceptable form of financing as long as it is not carried out to an abusive extent. (i.e. going from a 30- to a 35-day average payment).

14) A cash discount calls for a reduction in price if payment cannot be made within a specified time period.

15) Leontief's Wigs can take a cash discount but has to borrow money from the bank to do so. The bank offers a 16% interest rate. The terms of the cash discount are 2/10, net 60. Because of this, Leontief's should borrow from the bank to take the discount.

16) Myrdal Boots can take a cash discount but has to borrow money from the bank to do so. The bank offers a 12% interest rate. The terms of the cash discount are 3/10, net 90. Because of this, Myrdal Boots should borrow from the bank to take the discount.

17) Even during slack loan periods, banks will never loan out money at an interest rate lower than the prime rate because the prime rate is their best rate.

18) The lender's primary concern is whether the borrower's capacity to generate accounts receivables is sufficient to liquidate the loan as it comes due.

19) The London Interbank Offered Rate (LIBOR) is used to set a base lending rate for some U.S. domestic corporate loans.

20) Although the prime rate is the rate that U.S. banks charge their most credit-worthy customers, the prime rate is normally higher than the London Interbank Offered Rate (LIBOR).

21) Compensating balances are important for banks because their existence allows them to make loans at lower quoted rates.

22) A compensating balance will be lower in periods of tight money than in periods of credit easing.

23) Compensating balances are a way for banks to recover the cost of corporate services provided, but not directly charged.

24) Compensating balances represent unfair hidden costs of borrowing.

25) Monthly installment loans usually increase the effective interest rate of borrowing by approximately 2 times the stated interest rate.

26) The annual percentage rate (APR) is a measure of the effective rate of interest on a loan on an annualized basis.

27) The annual percentage rate requires the use of the actuarial method of compounded interest when calculating the APR. 28) The term "credit crunch" refers to a period in which the interest rate on credit is so high that 128 Copyright © 2019 McGraw-Hill Education. All rights reserved.

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firms cannot afford to borrow money.

29) Commercial paper is an unsecured short-term IOU from a large financially secure company.

30) It is easier for small firms to obtain financing through bank loans than through the commercial paper market.

31) Small businesses frequently find commercial paper a useful means of obtaining funds when it is not possible to raise funds by other means.

32) Commercial paper represents secured short-term borrowing by large companies.

33) Issuers of commercial paper can be divided into finance paper or direct paper, dealer paper, and asset-backed commercial paper.

34) One major advantage of commercial paper is that it can always be "rolled over" (reissued) when it matures.

35) All commercial paper involves the physical transfer of actual paper certificates.

36) Firms using commercial paper are generally required to maintain commercial bank lines of credit equal to the amount of the paper outstanding.

37) The commercial paper market is available to all New York Stock Exchange companies.

38) One major disadvantage of commercial paper is that if the company's credit quality declines, refinancing existing commercial paper might be impossible to achieve through a new issue of commercial paper.

39) Finance paper usually carries a higher rate of interest than direct paper.

40) Finance paper, unlike commercial paper, represents a long-term, unsecured promissory note.

41) One advantage to an issuer of commercial paper is that the issuer eliminates the need for maintaining compensating balances and credit lines with a commercial bank.

42) Factoring accounts receivable, unlike pledging accounts receivable, typically passes the risk of loss on the accounts receivable to the buyer.

43) One major advantage of factoring accounts receivable is that the selling firm receives money from its accounts receivable faster than if it waited until the customers paid.

44) Eurodollar loans are similar to U.S. bank loans in that they are usually short-term to intermediate-term in nature.

45) A Eurodollar loan is a loan denominated in dollars and made by a foreign bank holding dollar deposits.

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46) In times of tight credit in the United States, Eurodollar loans become difficult to obtain.

47) It is difficult to acquire a loan in U.S. dollars outside the United States.

48) The sale of securities backed by the receivables of large credit-worthy firms is a large and growing source of financing.

49) General Motors Acceptance Corporation (GMAC) is one of the biggest issuers of asset-backed securities.

50) The biggest categories of asset-backed securities are home equity loans, automobile receivables, and credit card receivables.

51) The sale of asset-backed securities can sometimes enable the issuing firm to acquire lower-cost funds than it normally would receive from a bank loan or bond offering.

52) A blanket inventory lien is where items are not identified or tagged, and there is no physical transfer of control of the inventory by the borrower.

53) A trust receipt acknowledges that the lender trusts the borrower to repay the loan before any dividends are paid.

54) The movement of the exchange rate between two currencies can increase the total cost of a loan by making the principal repayment require more money than the original amount of the loan.

55) The most common form of short-term financing is a bank loan.

56) The higher the cost of bank financing, the more beneficial it is to take the cash discount.

57) A self-liquidating loan is preferable to a bank because it generally provides them with a higher return.

58) At historically low interest rate levels, compensating balances increase.

59) A term loan is less risky to the bank, thus they provide a fixed rate to the customer.

60) The annual percentage rate (APR) is generally lower than the interest rate stated by the bank.

61) Hedging refers to a transaction that avoids any financial risks.

62) Companies can use hedging to eliminate all or some foreign currency risk.

63) What is generally the largest source of short-term credit for small firms?

A) Bank loans B) Commercial paper C) Installment loans 130 Copyright © 2019 McGraw-Hill Education. All rights reserved.

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D) Trade credit 64) Trade credit may be used to finance a major part of a firm's working capital when A) the firm extends less liberal credit terms than the supplier.

B) the firm extends more liberal credit terms than the supplier.

C) the firm and the supplier both extend the same credit terms.

D) neither the firm nor the supplier extends credit.

65) Trade credit is considered what type of loan?

A) when a firm owes money to a supplier.

B) when a firm owes money to a customer.

C) when a firm owes money to a bank.

D) all of the answers are true.

66) A large manufacturing firm has been selling on a 3/10, net 30 basis. The firm changes its credit terms to 2/20, net 90. What change might be expected on the balance sheets of the manufacturing firm?

A) Decreased receivables B) Increased receivables C) Increased payables D) Decreased payables 67) The cost of not taking the discount on trade credit of 2/10, net 30 is approximately ________.

A) 44.54% B) 43.20% C) 36.73% D) None of these options are true 68) Large firms tend to be A) net users of trade credit.

B) net suppliers of trade credit.

C) firms with high levels of profitability.

D) firms with low levels of inventory turnover and accounts receivable turnover.

69) From the banker's point of view, short-term bank credit is an excellent way of financing A) fixed assets.

B) permanent working capital needs.

C) repayment of long-term debt.

D) seasonal bulges in inventory and receivables.

70) The cost of not taking the discount on trade credit of 3/20, net 90 is approximately ________.

A) 15.9% B) 16.3% C) 18.0% D) 17.4% 71) Bank loans to business firms 131 Copyright © 2019 McGraw-Hill Education. All rights reserved.

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A) are usually short-term in nature.

B) are preferred by the banker to be self-liquidating.

C) may require compensating balances.

D) All of these options are true.

72) Commercial bank term loans A) usually carry fixed interest rates.

B) are very short-term in nature.

C) are offered to superior credit applicants.

D) are very short-term in nature and are offered to superior credit applicants.

73) Kantorovich Company normally takes 30 days to pay for its average daily credit purchases of $2,000. It has average daily sales of $3,000, and collects accounts in 25 days. What is its net credit position?

A) $15,000 B) $1,000 C) ($1,000) D) ($15,000) 74) Recent problems facing the U.S. financial system were the result of all but which one of the following?

A) A huge increase in the amount of mortgage-backed securities being bundled up and sold in the markets B) A huge drop in the value of mortgage-backed securities C) An increase in the use of commercial paper for short-term financing D) The government permitting commercial and investment banks to merge 75) The prime rate A) is the rate a bank charges its risky customers.

B) has been quite volatile during the past two decades, moving several percentage points in a 12-month period.

C) is usually lower than Treasury bill rates.

D) None of these options are true.

76) The London Interbank Offered Rate (LIBOR) A) competes with the U.S. Prime Rate for those companies with an international presence.

B) has been lower than the U.S. Prime Rate for at least the last decade.

C) is an estimate of the interbank lending rate for London banks.

D) all of these options are correct.

77) LIBOR is A) a resource used in production.

B) an interest rate paid on Eurodollar loans in the London market.

C) an interest rate paid by European firms when they borrow Eurodollar deposits from U.S. banks.

D) the interest rate paid by the British government on its long-term bonds.

78) Compensating balances 132 Copyright © 2019 McGraw-Hill Education. All rights reserved.

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A) are used by banks as a substitute for charging service fees.

B) are created by having a sweep account.

C) lower the effective rate.

D) are used to reward new accounts.

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79) General Rent-All's officers arrange a $50,000 loan for the company. The company is required to maintain a minimum checking account balance of 10% of the outstanding loan. This practice is called A) an installment loan.

B) a compensating balance.

C) a discounted loan.

D) a balloon payment.

80) Analog Computers needs to borrow $475,000 from the Midland Bank. The bank requires a 15% compensating balance. How much money will Analog need to borrow in order to end up with $475,000 spendable cash?

A) $546,250 B) $758,264 C) $558,824 D) $71,250 81) If Analog Computers can borrow at 8% annually for three years, what is the effective rate of interest on a $1,000,000 loan where a 15% compensating balance is required?

A) 11.18% B) 17.27% C) 9.41% D) 24% 82) A term loan is usually characterized by A) a maturity of one to seven years.

B) a variable interest rate.

C) monthly or quarterly installment payments.

D) all of these options are true.

83) In determining the cost of bank financing, which is the most important factor?

A) The prime rate B) The nominal rate C) The effective rate D) The discount rate 84) Mr. Jones borrows $4,500 for 90 days and pays $75 interest. What is his approximate effective rate of interest?

A) 9.3% B) 6.7% C) 11.7% D) 1.7%

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85) Von Hayek's Kayaks can borrow $12,500 for 60 days at a cost of $220 interest. What is the effective rate of interest?

A) 8.3% B) 9.8% C) 10.6% D) 1.8% 86) Kenneth's Arrows and Bows borrows $15,000 for one year at an 8% annual interest rate. What is the effective rate of interest if the loan is discounted?

A) Less than 8.5% B) More than 8.5% but less than 9.5% C) More than 9.5% but less than 10.5% D) More than 10.5% 87) East Coast Cleaners borrows $20,000 for 120 days and pays $400 interest. What is the effective rate of interest if the loan is discounted?

A) Less than 5.5% B) More than 5.5% but less than 6.0% C) More than 6.0% but less than 6.5% D) More than 6.5% 88) Ms. Smith borrowed $2,000 at an 8% stated rate of interest and was to pay back the loan in 24 monthly payments. What is her effective rate of interest using the installment loan formula?

A) 10.5% B) 15.4% C) 18.9% D) 22.0% 89) The required compensating balance is usually computed as a A) percentage of the customer's loans outstanding.

B) factor of accounts receivable.

C) percentage of the bank's commitments toward future loans to the customer.

D) percentage of the customer's loans outstanding or percentage of the bank's commitments toward future loans to the customer.

90) Holland Construction Co. has an outstanding 180-day bank loan of $475,000 at an annual interest rate of 7.5%. The company is required to maintain a 15% compensating balance in its checking account. What is the effective interest rate on the loan? Assume the company would not normally maintain this average amount.

A) 11.2% B) 19.0% C) 22.45% D) 8.8%

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91) Koopman's Chickens, Inc. plans to borrow $275,000 from its bank for one year. The annual rate of interest is 9%, but a compensating balance of 20% is required. What is the effective rate of interest?

A) Less than 10% B) More than 10% but less than 11.6% C) More than 11.6% but less than 12% D) More than 12% 92) Friedman Roses Inc. needs $65,000 in funds for expansion. With a compensating balance requirement of 20%, how much will the firm need to borrow?

A) $16,000 B) $81,250 C) $100,000 D) $78,000 93) Commercial paper is very popular with many firms because A) it can usually be issued below the prime rate.

B) it satisfies the firm's need for long-term funds.

C) there are no required lines of credit at the bank.

D) it is very simple to roll over (refinance) in times of economic turmoil.

94) The Truth in Lending law is primarily designed to protect A) corporate borrowers.

B) banks.

C) consumers.

D) investors in municipal bonds.

95) Commercial paper offers which of the following advantages to the issuer?

A) It may be issued below the prime rate.

B) It requires no compensating balances.

C) It is secured by corporate assets to protect the buyer.

D) It may be issued below the prime rate and requires no compensating balances.

96) Which of the following is NOT a characteristic of commercial paper?

A) It is issued by large firms.

B) It has a one- to two-year maturity.

C) Its rates are usually below prime rates on business loans.

D) All of these options are commercial paper characteristics.

97) Which of the following is NOT a category of commercial paper?

A) finance companies B) commercial companies C) asset-backed D) All of these options are commercial paper categories

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98) Commercial paper that is sold without going through a broker or dealer is known as A) direct paper.

B) dealer paper.

C) a book-entry transaction.

D) term paper.

99) Commercial paper that is sold without the use of an actual paper certificate is known as A) finance paper.

B) dealer paper.

C) book-entry paper.

D) term paper.

100) Which of the following is not a true statement about commercial paper?

A) Finance paper is sold directly to the lender by the finance company.

B) Finance paper is also referred to as direct paper.

C) Dealer paper is sold directly to the lender by a finance company.

D) Industrial companies, utility firms, or finance companies too small to sell direct paper sell dealer paper instead.

101) Multinational firms have found that they can lower borrowing costs A) by borrowing Eurodollars at a lower rate than the U.S. Prime Rate.

B) by borrowing foreign currencies through foreign subsidiaries at rates lower than the U.S. prime rate and then converting these foreign loans into dollars.

C) by using more bankers' acceptances.

D) by borrowing Eurodollars at a lower rate than the U.S. prime rate and by borrowing foreign currencies through foreign subsidiaries at rates lower than the U.S. prime rate and then converting these foreign loans into dollars.

102) Accounts receivable may be used as a source of financing by A) pledging the receivables as loan collateral.

B) "factoring" the receivables to a finance company.

C) selling securities backed by the receivables.

D) All of these options are correct.

103) Which of the following best describes the benefits to the borrower of selling asset-backed securities?

A) Due to the portfolio effect, the borrower can package up low-quality accounts receivable and sell them for a premium price.

B) The borrower trades future cash flows for current cash flows.

C) The asset-backed security is likely to carry a high credit rating of AA or better.

D) The borrower trades future cash flows for current cash flows and the asset-backed security is likely to carry a high credit rating of AA or better.

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104) Which of the following is associated with the recession of 2007-2009?

A) Hundreds of bank failures occurred.

B) The Federal Reserve and the Federal Deposit Insurance Corporation forced large banks at risk of collapse to be taken over by healthy banks.

C) Commercial banks and investment banks were allowed to merge.

D) All of these options are correct.

105) The extent to which inventory financing may be used depends on the A) marketability of pledged goods.

B) price stability of goods.

C) perishability of goods.

D) all of these options are correct.

106) Which of the following is NOT a method for lenders to control pledged inventory?

A) Factoring B) Blanket inventory liens C) Trust receipts D) Warehousing 107) Which method of controlling pledged inventory provides the greatest degree of security to the lender?

A) Overall inventory liens B) Warehousing C) Trust receipts D) Blanket inventory liens 108) Which of the following is NOT a method for controlling pledged inventory?

A) Blanket inventory liens B) Floor planning C) Public warehousing D) Each of the above is an inventory control method.

109) Hedging refers to A) avoiding high-risk investment opportunities.

B) a transaction that reduces risk exposure.

C) the same thing as asset diversification.

D) avoiding the financial futures market.

110) The "financial futures market" A) is a place in Chicago where future stocks are traded.

B) allows for the delivery of financial instruments at a future point in time.

C) is of particular value to small investors in managing their portfolios.

D) is a place in Chicago where future stocks are traded and is of particular value to small investors in managing their portfolios

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111) Firms exposed to the risk of interest rate changes may reduce that risk by A) obtaining a Eurodollar loan.

B) hedging in the commodities market.

C) hedging in the financial futures market.

D) pledging or factoring accounts receivable.

112) If a firm has invested in corporate bonds, it may engage in a financial futures contract in order to protect itself from A) declining interest rates.

B) rising interest rates.

C) inflation.

D) changes in hedging activities.

113) The effective rate on a loan with a 7% stated rate and 15% compensating balance is approximately ________.

A) 11% B) 7.2% C) 8.2% D) 1.1% 114) The effective rate on a $20,000 installment loan with quarterly payments and $2,000 in total interest for two years is approximately ________.

A) 16% B) 7.4% C) 29.5% D) 8.9% 115) Which of the following is NOT evident during a credit crunch?

A) The Fed tightens the money supply.

B) There are higher business requirements for funds.

C) A decrease in interest rates occurs.

D) Massive withdrawals from savings deposits occur.

116) Which of the following is NOT a benefit of commercial paper to a corporation?

A) It is often issued at below the prime interest rate.

B) There are no compensating balance requirements.

C) It is less risky.

D) It provides prestige to the issuer.

117) Which of the following is NOT a reason why a company may choose to pledge accounts receivable?

A) A lower interest rate.

B) The borrowing capacity fluctuates with accounts receivable.

C) It provides another source of financing for companies with lower credit ratings.

D) All of these are reasons for pledging accounts receivable.

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Chapter 9 The Time Value of Money 1) An amount of money to be received in the future is worth less today than the stated present value amount.

2) Discounting refers to devaluing the item from the higher future value amount to the present value amount through the consideration of interest.

3) The process of earning more interest on a previous period's interest is called future value.

4) Compounding refers to the growth process that turns $1 today into a greater value several periods in the future.

5) The interest factor for the future value of a single sum is equal to (1 + n)i.

6) The time value of money is not a useful concept in determining the value of a bond or in capital investment decisions.

7) If a single amount were put on deposit at a given interest rate and allowed to grow, its future value could be determined by reference to a "future value of $1" table.

8) The time value of money concept is fundamental to the analysis of cash inflow and outflow decisions covering multiple periods of time.

9) The future value is the same concept as the way money grows in a bank account.

10) Time value of money considers many changes to the value of the dollar such as interest, inflation, deflation, etc.

11) A major disadvantage to time value of money is that is only considers one item that changes the value of the dollar such as interest.

12) Cash flow decisions that ignore time value of money will probably not be as accurate as those decisions that do consider time value of money.

13) The present value of a positive future inflow can become negative as discount rates become higher and higher.

14) The interest factor for a future value (FVIF) is equal to (1 + i)n.

15) The formula PV = FV(1 + n)i will determine the present value of $1.

16) Present value is the opposite of the future value.

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17) The concept of present value is a sum payable in the present is worth less in the future than in the stated amount today.

18) To determine the current worth of four annual payments of $1,000 at 4% annual interest, one would refer to a time value of money table for the present value of $1.

19) As the interest rate increases, the interest factor (IF) for the present value of $1 increases.

20) The interest factor for the present value of a single amount is the reciprocal of the future value interest factor.

21) The interest factor for the present value of a single sum is equal to (1 + i)/i.

22) Higher interest rates reduce the present value amount.

23) In determining the future value of an ordinary annuity, the final payment is not compounded at all.

24) The future value of an ordinary annuity assumes that the payments are received at the end of the year and that the last payment does not compound.

25) Time value of money can be calculated in a few different ways such as time value of money tables, calculator, excel, and/or equation, which all come up with a very similar answer.

26) The future value of an annuity table provides a "shortcut" for calculating the future value of a steady stream of payments, denoted as A. The same value can be calculated directly from the following equation:

27) The present value of an annuity table provides a "shortcut" for calculating the present value of a steady stream of payments, denoted as A. The same value can be calculated directly from the following equation:

28) The amount of annual payments necessary to accumulate a desired future total can be found by reference to the present value of an annuity table.

29) If an individual's cost of capital were 6%, the person would prefer to receive $110 at the end of one year rather than $100 right now.

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30) In evaluating capital investment projects, current outlays must be judged against the current value of future benefits.

31) The farther into the future any given amount is received, the larger its present value.

32) The interest factor for the future value of an annuity is simply the sum of the interest factors for the future value using the same number of periods.

33) An annuity is a series of consecutive payments of equal amount.

34) Using semiannual compounding rather than annual compounding will increase the future value of an annuity.

35) Compounding more than once a year (semiannually, quarterly, or monthly) will increase the interest rate and number of periods used in the calculations.

36) When the inflation rate is zero, the present value of $1 is identical to the future value of $1.

37) The amount of annual payments necessary to repay a mortgage loan can be found by reference to the present value of an annuity table.

38) In paying off a mortgage loan, the amount of the periodic payment that goes toward the reduction of principal increases over the life of the mortgage.

39) The time value of money concept becomes less critical as the prime rate of lending increases.

40) Discounted at 6%, $1,000 received three years from now is worth less than $800 received today.

41) Discounted at 10%, $1,000 received at the end of each year for three years is worth less than $2,700 received today.

42) When adjusting for semiannual compounding of an annuity, the adjustments include multiplying the periods and annuity payment amount by 2.

43) Calculation of the yield of an investment provides the total return over multiple years.

44) To calculate "Future or Present Values of an "Annuity Due," we must assume that payments happen twice as often.

45) Under what conditions must a distinction be made between money to be received today and money to be received in the future?

A) A period of recession B) When idle money can earn a positive return C) When there is no risk of nonpayment in the future D) When current interest rates are different from expected future rates 142 Copyright © 2019 McGraw-Hill Education. All rights reserved.

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46) As the compounding rate becomes lower and lower, the future value of inflows approaches A) 0.

B) the present value of the inflows.

C) infinity.

D) More information is needed to answer the question.

47) Time value of money considers which of the following item(s) that change the value of money?

A) Inflation B) Interest C) Currency changes D) All of the options are true 48) If you invest $10,000 today at 10% interest, how much will you have in 10 years?

A) $13,860 B) $25,940 C) $3,860 D) $80,712 49) In determining the future value of a single amount, one must consider A) the periodic payments at a given interest rate and time.

B) the future value at a given interest rate and time.

C) the future periodic payments discounted at a given interest rate and time.

D) the present value at a given interest rate and time.

50) The concept of time value of money is important to financial decision making because A) it emphasizes earning a return on invested capital.

B) it recognizes that earning a return makes $1 today worth more than $1 received in the future.

C) it can be applied to future cash flows in order to compare different streams of income.

D) All of these options are true.

51) As the discount rate becomes higher and higher, the present value of inflows approaches A) 0.

B) minus infinity.

C) plus infinity.

D) More information is needed.

52) How much must you invest today at 8% interest in order to see your investment grow to $8,000 in 10 years?

A) $3,070 B) $3,704 C) $3,105 D) $17,272

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53) How much must you invest today at 10% interest in order to see your investment grow to $5,000 in 3 years?

A) $3,050 B) $3,555 C) $7,105 D) $3,755 54) An annuity may best be defined as A) a payment at a fixed interest rate.

B) a series of payments of unequal amount.

C) a series of yearly payments, regardless of amount.

D) a series of consecutive payments of equal amounts.

55) You are to receive $12,000 at the end of five years. The available yield on investments is 6%.

Which table would you use to determine the value of that sum today?

A) Present value of an annuity of $1 B) Future value of an annuity of $1 C) Present value of $1 D) Future value of $1 56) You are to receive $12,000 at the end of each of five years. The available yield on investments is 6%. Which table would you use to determine the value of that sum today?

A) Present value of an annuity of $1 B) Future value of an annuity of $1 C) Present value of $1 D) Future value of $1 57) As the interest rate increases, the present value A) increases.

B) decreases.

C) remains the same.

D) Not enough information is given to tell.

58) As the time period until receipt increases, the present value A) decreases.

B) remains the same.

C) increases.

D) Not enough information is given to tell.

59) A company wants to find the yield on an investment that requires a certain amount today in which then returns a single amount some time in the future. Which time value of money table would the company use?

A) the present value of $1 or the future value of $1.

B) the future value of an annuity of $1.

C) present value of an annuity of $1.

D) None of these are correct.

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60) If a father and mother set aside a certain amount each year for their daughter's college fund, which table would be used to determine the amount necessary to be put away each year in order to reach a certain goal once the daughter attends college?

A) The present value of $1 B) The future value of $1.

C) The future value of an annuity of $1.

D) Present value of an annuity of $1.

61) Shah sets aside $2,000 each year for five years. After five years, he then withdraws the funds on an equal annual basis for the next four years. If Shah wishes to determine the amount of the annuity to be withdrawn in years 6 through 9, he should use the following two tables in this order: A) present value of an annuity of $1; future value of an annuity of $1 B) future value of an annuity of $1; present value of an annuity of $1 C) future value of an annuity of $1; present value of $1 D) future value of an annuity of $1; future value of $1 62) To save for her newborn son's college education, Lea Wilson will invest $1,000 at the end of each year for the next 20 years. The interest rate is 10%. What is the future value?

A) $8,514 B) $2,980 C) $63,440 D) $57,275 63) To save for a new car, Samuel Smith will invest $3,000 at the end of each year for the next 5 years. The interest rate is 8%. What is the future value?

A) $15,000 B) $2,980 C) $17,601 D) $13,518 64) If you were to put $1,000 in the bank at 6% interest each year for the next 10 years, which table would you use to find the ending balance in your account?

A) Present value of $1 B) Future value of $1 C) Present value of an annuity of $1 D) Future value of an annuity of $1 65) If you were to put $1,000 in the bank at 6% interest each year for the next 10 years, how much would you have as an ending balance in your account?

A) $6,975 B) $15,937 C) $7,716 D) $13,181

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66) The interest factor (IF) for the future value of an ordinary annuity is 4.641 at 10% for four years. If we wish to accumulate $8,000 by the end of four years, how much should the annual payments be?

A) $2,500 B) $2,000 C) $1,724 D) $37,128 67) Mr. Blochirt is creating a college investment fund for his daughter. He will put in $1,000 per year for the next 5 years starting one year from now and expects to earn a 6% annual rate of return.

How much money will his daughter have when she starts college?

A) $4,212 B) $12,263 C) $5,000 D) $5,637 68) Mr. Nailor invests $5,000 in a money market account at his local bank. He receives annual interest of 8% compounded for four years. How much total return will his investment earn during this time period?

A) $3,675 B) $1,800 C) $6,254 D) $8,570 69) Lou Lewis borrows $10,000 to be completely repaid over 10 years at 8%. Repayment of principal in the first year is ________.

A) $1,493 B) $693 C) $690 D) $885 70) Sharon Smith will receive $1 million in 20 years. The discount rate is 10%. As an alternative, she can receive $200,000 today. Which should she choose?

A) The $200,000 today.

B) The $1 million in 20 years.

C) Both equal the same value.

D) Neither option would be preferred.

71) Pedro Gonzalez will invest $5,000 at the end of each year. If the interest rate is 8%, what will the value be after three years?

A) $12,885 B) $6,300 C) $16,230 D) $15,400

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72) Ambrin Corp. expects to receive $2,000 at the end of each year for 10 years. Then the corporation expects to receive $3,500 per year for the following 10 years, at the end of each year.

What is the approximate present value of this 20-year cash flow? Use an 8% discount rate.

A) $24,294 B) $27,870 C) $32,389 D) $2,547 73) Fishermen's Corp. is considering purchasing a boat. If the boat was purchased, it is expected to receive $20,000 at the end of the first year, $40,000 at the end of the second year, and $60,000 at the end of the third year within its business. What is the boat worth to Fishermen's Corp today, assume an 8% discount rate.

A) $120,000 B) $100,440 C) $47,640 D) $98,756 74) Dr. J. wants to buy a Dell computer that will cost $3,000 three years from today. He would like to set aside an equal amount at the end of each year in order to accumulate the amount needed. He can earn an 8% annual return. How much should he set aside at the end of each year?

A) $879 B) $627 C) $924 D) $9,738 75) Mr. Fish wants to build a house in ten years. He estimates that the total cost will be $150,000.

If he can put aside $10,000 at the end of each year, what rate of return must he earn in order to have the amount needed?

A) Between 8% and 10% B) Between 6% and 8% C) Above 10% D) Between 4% and 6% 76) Babe Ruth Jr. has agreed to play for the Cleveland Indians for $3 million per year for the next 10 years. What table would you use to calculate the value of this contract in today's dollars?

A) Present value of an annuity B) Present value of a single amount C) Future value of an annuity D) Future value of a dollar 77) Football player Walter Johnson signs a contract calling for payments of $250,000 per year, which begins 10 years from now and then continue for five more years after that. To find the value of this contract today, which table or tables should you use?

A) The future value of $1 B) The future value of an annuity of $1 and the future value of $1 C) The present value of an annuity of $1 and the present value of $1 D) The present value of $1 and the future value of $1 147 Copyright © 2019 McGraw-Hill Education. All rights reserved.

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78) Mike Carlson will receive $12,000 a year from the end of the third year to the end of the 12th year (10 payments). The discount rate is 10%. The present value today of this deferred annuity is ________.

A) $61,450 B) $42,185 C) $60,909 D) $55,379 79) The shorter the length of time between a present value and its corresponding future value, A) the lower the present value, relative to the future value.

B) the higher the present value, relative to the future value.

C) the higher the interest rate used in the discounting to the present value.

D) None of these options are correct.

80) A dollar today is worth more than a dollar to be received in the future because A) a stated rate of return is guaranteed on all investment opportunities.

B) the dollar can be invested today and earn interest.

C) inflation will increase the purchasing power of a future dollar.

D) None of these options are true.

81) The higher the interest rate used in determining the future value of a $1 annuity, A) the smaller the future value at the end of the period.

B) the greater the future value at the end of a period.

C) the greater the present value at the beginning of a period.

D) None of these options. The interest has no effect on the future value of an annuity.

82) Mr. Darden is selling his house for $200,000. He bought it for $164,000 ten years ago. What is the annual return on his investment?

A) 2% B) Between 3% and 4% C) 10% D) Less than 1% 83) Mr. Bubble wants to sell his bubble machine for $1,000,000, but it might take awhile before it is valued that high. He bought it for $149,000 and is earning annual interest of 10% on the machine. How long will Mr. Bubble have to wait before the machine is valued at $1,000,000?

A) 20 years B) 10 years C) 5 years D) More than 20 years 84) Increasing the number of periods will increase all of the following except A) the present value of an annuity.

B) the present value of $1.

C) the future value of $1.

D) the future value of an annuity.

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85) Joe Nautilus has $210,000 and wants to retire. What approximate return must his money earn so he may receive annual benefits of $30,000 for the next 10 years?

A) Greater than 10% B) Between 8% and 10% C) Between 6% and 8% D) Lower than 6% 86) You will deposit $2,000 today. It will grow for five years at 12% interest, but compounded semiannually. You will then withdraw the funds annually over the next four years at the end of each year, with an annual interest rate of 8%. Your annual withdrawal will be approximately ________.

A) $2,340 B) $4,332 C) $797 D) $1,082 87) You will deposit $200,000 today. It will grow for five years at 12% interest, but compounded semiannually. What will your investment grow to?

A) $111,600 B) $1,120,000 C) $352,468 D) $358,200 88) Carol Thomas will pay out $6,000 at the end of year two and $8,000 at the end of year three.

Then Carol will receive $10,000 at the end of year four. With an interest rate of 10%, what is the net value of the payments versus receipts in today's dollars?

A) ($7,326) B) ($10,242) C) ($17,794) D) ($4,134) 89) John Doeber borrowed $150,000 to buy a house. His loan cost was 16% annually because of his bad credit score. He promised to repay the loan in 5 years on a quarterly basis. How much are the quarterly payments?

A) $11,453 B) $45,811 C) $13,113 D) $11,038 90) John Doeber borrowed $150,000 to buy a house. His loan cost was 6% and he promised to repay the loan in 10 equal annual payments. What is the principal outstanding after the first loan payment?

A) $143,555 B) $134,560 C) $141,200 D) $138,620 149 Copyright © 2019 McGraw-Hill Education. All rights reserved.

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91) John Doeber borrowed $150,000 to buy a house. His loan cost was 6% and he promised to repay the loan in 10 equal annual payments. What are John's annual payment amounts?

A) $15,000 B) $20,380 C) $15,445 D) $11,453 92) A home buyer signed a 20-year, 8% mortgage for $72,500. Given the following information, how much should the annual loan payments be?

A) $1,584 B) $7,384 C) $15,555 D) $15,588 93) A retirement plan guarantees to pay to you or your estate a fixed amount for 20 years. At the time of retirement, you will have $73,425. The plan anticipates earning 8% interest. Given the following information, how much will you be able to take out on an annual basis while you are retired?

A) $1,435 B) $13,070 C) $7,479 D) $13,102 94) After 10 years, some shares of stock originally purchased for $500 total were sold for $900 total. What was the yield on the investment? Choose the closest answer.

A) 10% B) 4% C) 8% D) 6% 95) Dr. Stein has just invested $10,000 for his son (age 7). The money will be used for his son's education 10 years from now. He calculates that he will need $21,598 for his son's education by the time the boy goes to school. What rate of return will Dr. Stein need to achieve this goal? Choose the closest answer.

A) 10% B) 8% C) 4% D) 1% 96) The future value of a $500 investment today at 8% annual interest compounded semiannually for five years is ________.

A) $805 B) $814 C) $740 D) $923

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97) Dan would like to save $1,500,000 by the time he retires in 30 years and believes he can earn an annual return of 8%. How much does he need to invest in each of the following years to achieve his goal?

A) $13,241 B) $133,239 C) $10,727 D) $52,450 98) Sydney saved $10,000 during her first year of work after college and plans to invest it for her retirement in 20 years. How much will she have available for retirement if she can make 8% on her investment?

A) $2,150 B) $457,620 C) $46,610 D) $217,250 99) Luke believes that he can invest $5,000 per year for his retirement in 30 years. How much will he have available for retirement if he can earn 8% on his investment and begins investing one year from now?

A) $566,400 B) $681,550 C) $150,000 D) $162,000 100) Ian would like to save $2,000,000 by the time he retires in 30 years. If he believes that he can achieve a 6% rate of return, how much does he need to deposit each year, starting one year from now, to achieve his goal?

A) $12,065 B) $37,500 C) $5,790 D) $25,298 101) Jeff believes he will need a $60,000 annual income during retirement. If he can achieve a 6% return during retirement and believes he will live 20 years after retirement, how much does he need to save by the time he retires? Assume he'll start drawing his money out one year after his retirement.

A) $724,055 B) $1,600,000 C) $688,200 D) $209,320

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102) If Allison has saved $1,000,000 upon retirement, how much money can she live on each year if she can earn 4% per year and will end with $0 when she expects to die 30 years after retirement?

A) $40,000 B) $20,953 C) $17,830 D) $57,830 103) Kathy has $50,000 to invest today and would like to determine whether it is realistic for her to achieve her goal of buying a home for $150,000 in 10 years with this investment. What return must she achieve in order to buy her home in 10 years?

A) Above 10% B) Between 8% to 10% C) Exactly 10% D) Below 8% 104) If Gerry makes a deposit of $1,500 at the end of each quarter for five years, how much will he have at the end of the five years assuming a 12% annual return and quarterly compounding?

A) $40,305 B) $30,000 C) $108,078 D) $161,220 105) Sara would like to evaluate the performance of her portfolio over the past 10 years. What compound annual rate of return has she achieved if she invested $12,000 ten years ago and now has $25,000?

A) Between 4% and 6% B) Above 10% C) Between 8% and 10% D) Between 6% and 8% Foundations of Financial Management, 17e (Block) Chapter 10 Valuation and Rates of Return 1) The valuation of a financial asset is based on the concept of determining the present value of future cash flows that this financial asset will accumulate.

2) The prices of financial assets are based on the expected value of future cash flows, the discount rate, and past dividends.

3) The market-determined required rate of return is the appropriate discount rate used in valuation calculations.

4) The discount rate depends on the market's perceived level of risk associated with an individual security.

5) By using different discount rates, the market allocates capital to companies based on their risk, efficiency, and expected returns.

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6) In estimating the market value of a bond, the coupon rate should be used as the discount rate.

7) Most bonds promise both a periodic return and a lump-sum payment.

8) A 10-year bond pays 6% annual interest in semiannual payments. The current market yield to maturity is 4%. The appropriate interest factors used to calculate the sales price of this bond should be in the TVM tables under 2% for 20 periods.

9) The price of a bond is equal to the present value of all future interest payments added to the present value of the principal.

10) The coupon rate is used to calculate the bond's interest amount, while the yield is used to calculate the present value of both the interest amount and principal amount of the bond.

11) When the interest rate on a bond and its yield to maturity are equal, the bond will trade at par value or equal to its principal amount.

12) An increase in the yield of a bond compared to the coupon rate would be associated with an increase in the price of a bond.

13) You hold a long-term bond yielding 10%. If interest rates fall before you sell the bond, you will sell at a higher price than if interest rates had been constant.

14) When a bond trades at a discount to par, the yield to maturity on the bond will exceed the required return.

15) The yield to maturity is always equal to the coupon rate of a bond.

16) The appropriate discount rate for the valuation of bonds is called the yield to maturity.

17) The required rate of return is the rate of return the investor demands for giving up the current use of the funds on a noninflation-adjusted basis.

18) The coupon rate of bonds is equal to the stated rate on the bond's contract.

19) The total required rate of return is equal to the real rate of return plus the inflation premium.

20) The yield to maturity is also known as the discount rate and is the rate of return required by bondholders.

21) Historically, the real rate of return has been about 2% to 3%.

22) The required rate of return is the payment demanded by the investors for foregoing their ability to use the funds themselves.

23) The inflation premium is based on past and current inflation levels.

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24) The "risk-free rate of return" is equal to the inflation premium plus the real rate of return.

25) The risk premium is equal to the required yield to maturity (or rate of return) minus both the real rate of return and the inflation premium.

26) The "risk premium" is primarily concerned with business risk, financial risk, and inflation risk.

27) "Business risk" relates to the inability of the firm to meet its debt obligations as they come due.

28) Risk premiums are higher for riskier securities, but the risk premium cannot be higher than the required rate of return.

29) High-risk corporate bonds are referred to as junk bonds.

30) There is a negative correlation between risk and the return investors demand.

31) When inflation rises, bond sales prices fall.

32) An increase in inflation will cause a bond's required return to rise.

33) The higher the yield to maturity on a bond, the closer to par the bond will trade.

34) The closer the yield to maturity on a bond to the stated rate, the closer to par the bond will trade.

35) The longer the maturity of a bond, the greater the impact on price to changes in market interest rates.

36) As time to maturity increases, bond price sensitivity decreases.

37) The further the yield to maturity of a bond moves away from the bond's coupon rate, the greater the price-change effect will be.

38) The price of preferred stock is determined by dividing the fixed dividend payment by the required rate of return.

39) Preferred stock may not have the same ownership privileges as common stock, but preferred stock offers a fixed dividend stream supported by a binding contractual obligation.

40) Preferred stock would be valued the same as a common stock with a zero dividend growth rate.

41) When inflation rises, preferred stock prices fall.

42) The variable growth model is most useful for firms in emerging industries.

43) The value of a share of stock is the present value of the expected stream of future dividends.

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44) Valuation of a common stock with no dividend growth potential is treated in the same manner as preferred stock.

45) The risk premium relates to the inability of the firm to hold its competitive position and maintain stability and growth in earnings.

46) The constant dividend growth valuation formula is P0 = D1/(Ke - g).

47) The variable growth dividend model can be used for both constant and variable growth stocks.

48) To use a dividend valuation model, a firm must have a constant growth rate, and the discount rate must not exceed the growth rate.

49) The drawback of the future stock value procedure is that it does not consider dividend income.

50) Future stock value is equal to P0 = D1/(Ke - g), assuming a constant growth in dividends.

51) Firms with an expectation for great potential tend to trade at low P/E ratios.

52) The price-earnings ratio is another tool used to measure the value of common stock.

53) Firms with high expectations for the future tend to trade at high P/E ratios.

54) A stock that has a high required rate of return because of its risky nature will usually have a high P/E ratio.

55) The fact that small businesses are usually illiquid does not affect their valuation process.

56) Even though the IRS tries to minimize occurrences, small business owners often intermingle business and personal expenses in order to minimize taxable income.

57) Valuation of financial assets requires knowledge of A) company valuation.

B) an appropriate discount rate.

C) past asset performance.

D) future cash flows and an appropriate discount rate.

58) The market allocates capital to companies based on A) risk.

B) efficiency.

C) expected returns.

D) all of these options are true.

59) In a general sense, the value of any asset is the A) value of the dividends received from the asset.

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B) present value of the cash flows expected to be received from the asset.

C) value of past dividends and price increases for the asset.

D) future value of the expected earnings discounted by the asset's cost of capital.

60) Which of the following financial assets is likely to have the highest required rate of return based on risk?

A) Corporate bond B) U.S. Treasury bill C) Certificate of deposit D) Common stock 61) A bond that has a "yield to maturity" greater than its coupon interest rate will sell for a price A) below par.

B) at par.

C) above par.

D) that is equal to the face value of the bond plus the value of all interest payments.

62) Which of the following is not one of the components included in the required rate of return on a bond?

A) Risk premium B) Real rate of return C) Inflation premium D) Market yield

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63) A 20-year bond pays 6% annually on a face value of $1,000. If similar bonds are currently yielding 4%, what is the market value of the bond? Use time value of money tables in Appendix B and Appendix D. A) $1,271.40 B) $573.50 C) $770.80 D) Not enough information is given to tell.

64) A 10-year bond, with a par value equaling $1,000, pays 7% annually. If similar bonds are currently yielding 6% annually, what is the market value of the bond? Use semiannual analysis.

Use time value of money tables in Appendix B and Appendix D. A) $700.00 B) $927.50 C) $1,074.70 D) $1,520.70 65) A 10-year zero-coupon bond that yields 6% is issued with a $1,000 par value. What is the issuance price of the bond? Use time value of money table in Appendix B. A) $558 B) $64 C) $614 D) $1,000 66) A 5-year zero-coupon bond was issued with a $1,000 par value to yield 8%. What is the approximate market value of the bond? Use time value of money table in Appendix B. A) $597 B) $681 C) $275 D) $482 67) Which of the following does NOT influence the yield to maturity for a security?

A) Required real rate of return B) Risk free rate C) Business risk D) Historic yields 68) An increase in the riskiness of a particular security would NOT affect A) the risk premium for that security.

B) the premium for expected inflation.

C) the total required return for the security.

D) investors' willingness to buy the security.

69) If the inflation premium for a bond goes up, the sales price of the bond A) is unaffected.

B) goes down.

C) goes up.

D) More information is needed for an answer.

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70) If the yield to maturity on a bond is greater than the coupon rate, you can assume A) interest rates have decreased.

B) the sales price is below par.

C) the sales price is above par.

D) risk premiums have decreased.

71) The risk premium is likely to be highest for A) U.S. government bonds investment.

B) corporate bonds investment.

C) utility company stock investment.

D) either corporate bonds or utility company stock investments.

72) Which of the following is not considered a factor to influence the bondholders required rate of return?

A) Risk premium B) Other investments by the bondholder C) Business risk D) Financial risk 73) The return measure that an investor demands for giving up current use of funds, without adjusting for purchasing power changes or the real rate of return, is the A) risk premium.

B) inflation premium.

C) dividend yield.

D) discount rate.

74) The relationship between a bond's sales price and the yield to maturity A) changes at a constant level for each percentage change of yield to maturity.

B) is an inverse relationship.

C) is a linear relationship.

D) changes at a constant level for each percentage change of yield to maturity and is an inverse relationship.

75) The longer the time to maturity A) the greater the bond price increase from an increase in interest rates.

B) the less the bond price increase from an increase in interest rates.

C) the greater the bond price increase from a decrease in interest rates.

D) the less the bond price decrease from a decrease in interest rates.

76) A higher interest rate (discount rate) would A) reduce the price of corporate bonds.

B) reduce the price of preferred stock.

C) reduce the price of common stock.

D) all of these options are true.

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77) A bond pays 7% annual interest in semiannual payments for 10 years. The current yield on similar bonds is 9%. To determine the market value of this bond, you must A) find the interest factors (IFs) for 20 periods at 3.5%.

B) find the interest factors (IFs) for 10 periods at 7%.

C) find the interest factors (IFs) for 10 periods at 9%.

D) find the interest factors (IFs) for 20 periods at 4.5%.

78) A 20-year bond pays 9% on a face value of $1,000. If similar bonds are currently yielding 6%, what is the market value of the bond? Use annual analysis. Use time value of money tables in Appendix B and Appendix D. A) Under $1,300 B) Exactly $1,000 C) Over $1,300 D) Not enough information is given to tell.

79) A 10-year bond pays 5% on a face value of $1,000. If similar bonds are currently yielding 10%, what is the market value of the bond? Use annual analysis. Use time value of money tables in Appendix B and Appendix D. A) $693.25 B) $386.00 C) $3,390.85 D) $1,386.09 80) An issue of preferred stock is paying an annual dividend of $1.50. The growth rate for the firm's common stock is 5%. What is the preferred stock price if the required rate of return is 7%?

A) $21.43 B) $30.00 C) $22.50 D) None of these options are correct 81) Which is a characteristic of the price of preferred stock?

A) Since preferred stock dividends are fixed, they are tax-deductible.

B) Because preferred stock has no maturity, the price analysis is similar to that of debt.

C) Preferred stock is valued as a perpetuity.

D) None of these options are true.

82) Preferred stock has all but which of the following characteristics?

A) No stated maturity.

B) A fixed dividend payment that carries a higher precedence than common stock dividends.

C) The same binding contractual obligation as debt.

D) Preferred lacks the full ownership privilege of common stock.

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83) The price of preferred stock may react strongly to a change in Kp (required rate of return) because A) preferred stock may be cumulative.

B) preferred stock dividends have to be paid before common stock dividends.

C) there is no maturity date.

D) corporate recipients of preferred stock dividends may receive a partial tax exemption.

84) The growth rate for the firm's common stock is 7%. The firm's preferred stock is paying an annual dividend of $3. What is the preferred stock price if the required rate of return is 8%?

A) $3.00 B) $37.50 C) $50.00 D) None of these options 85) Will an increase in inflation have a larger impact on the price of a bond or preferred stock?

A) The bond.

B) The preferred stock.

C) The impact will be the same.

D) Inflation doesn't affect either the bond or the preferred stock price.

86) The value of a common stock is based on its A) past performance.

B) historic dividends.

C) current earnings.

D) value of future benefits to the holder.

87) The dividend valuation model stresses the A) importance of earnings per share.

B) importance of dividends and legal rules for maximum payment.

C) relationship of dividends to market prices.

D) relationship of dividends to earnings per share.

88) A common stock that pays a constant dividend can be valued as if it were A) a corporate bond.

B) a stock paying a growing dividend.

C) preferred stock.

D) a discount bond.

89) The dividend on preferred stock is most similar to A) a common stock with no growth in dividends.

B) a common stock with a constant growth in dividends.

C) a common stock with a variable growth in dividends.

D) a certificate of deposit.

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90) Preferred stock valuation uses a constant dividend while common stock can receive dividends based on fixed growth or dividends based on earnings. Why is this statement true?

A) Preferred stock receives just as much dividends as common stock.

B) Since not many companies use preferred stock, they just made the calculations easier.

C) Preferred stock receives dividends based on a set amount where common stock can receive dividends either equal to preferred stock or based on earnings.

D) Common stock dividends usually grow faster than preferred stock dividends.

91) An issue of common stock's most recent dividend is $1.75. Its growth rate is 5.7%. What is its price if the market's rate of return is 7.7%?

A) $24.63 B) $87.50 C) $92.50 D) None of these options are correct 92) An issue of common stock is selling for $57.20. The year-end dividend is expected to be $2.32, assuming a constant growth rate of 4%. What is the required rate of return?

A) 10.3% B) 10.1% C) 8.1% D) None of these options are correct 93) An issue of common stock is expected to pay a dividend of $5.15 at the end of the year. Its growth rate is equal to 6%. If the required rate of return is 10%, what is its current price?

A) $128.75 B) $36.92 C) $96.00 D) None of these options are correct 94) If expected dividends grow at 7% and the appropriate discount rate is 9%, what is the value of a stock with an expected dividend one year from now of $1.00?

A) $62.88 B) $19.41 C) $29.12 D) $50.00 95) Stock valuation models are dependent upon A) expected dividends, future dividend growth, and an appropriate discount rate.

B) past dividends, flotation costs, and bond yields.

C) historical dividends, historical growth, and an appropriate discount rate.

D) All of these options are true.

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96) If a company's stock price (P0) goes up, and nothing else changes, Ke (the required rate of return) should A) go up.

B) go down.

C) remain unchanged.

D) More information is needed for an answer.

97) An issue of common stock has just paid a dividend of $2.00. Its growth rate is equal to 4%. If the required rate of return is 7%, what is its current price?

A) $19.04 B) $80.00 C) $69.33 D) None of these options are correct 98) An issue of common stock is expected to pay a dividend of $3 at the end of the year. Its growth rate is equal to 3%, and the current share price is $40. What is the required rate of return on the stock?

A) Between 7% and 10% B) Between 10% and 12% C) Between 12% and 14% D) Between 14% and 17% 99) The Required Rate of Return for common stock is Ke = (D1/P0) + g. What are the assumptions of the model?

A) Growth (g) is constant to infinity.

B) The price earnings ratio stays the same.

C) The firm must pay a dividend to use this model.

D) All of these options are assumptions of the model.

100) The required return by investors is directly influenced by all of the following except: A) Inflation B) U.S. Treasury rates C) Dividends D) Risk 101) The required return by investors is important to financial managers except for which of the following reasons?

A) It influences the firm's cost of financing.

B) It influences their stock price.

C) It is the primary driver of their financial ratios.

D) It helps when pricing new issues of securities.

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102) The market allocates capital to firms based on all of the following except: A) Higher risk requires lower returns due to higher expectations B) The level of efficiency C) Expected returns D) The degree of past performance 103) Market Enterprises would like to issue $1,000 bonds and needs to determine the approximate rate it would need to pay investors. A firm with similar risk recently issued bonds which currently have the following features: a 5% coupon rate, 10 years until maturity, and a current price of $1,170.50. At what rate would Market Enterprises expect to issue bonds, assuming annual interest payments? Please round to the closest answer. (Solve this problem using either Excel's "Goal Seek" function, plug into tvm tables, or a financial calculator.)

A) 6% B) 3% C) 5% D) 4% 104) Star Corp. issued bonds two years ago with a 7% coupon rate. The bonds are currently trading for $928 in the market. Which of the following most likely has occurred since the time of issue?

A) Interest yields decreased B) Inflation increased C) Risk decreased D) Real rates of return decreased 105) As a bond approaches its maturity date, its sales price approaches A) the price of comparable bonds.

B) U.S. Treasury bond prices.

C) the par value.

D) the par adjusted for yield to maturity.

106) Two years ago, Maple Enterprises issued 4%, 20-year bonds, and Temple Corp issued 4%, 10-year bonds. Since their time of issue, interest rates have increased. Which of the following statements is true of each firm's bond prices in the market, assuming they have equal risk?

A) Maple's decreased more than Temple's.

B) Temple's decreased more than Maple's.

C) Maple's increased more than Temple's.

D) They are both priced the same.

107) All of the following adjustments must be made when interest is paid semiannually versus annually EXCEPT: A) Annual interest rate divided by 2 B) Total number of years divided by 2 C) Annual yield to maturity divided by 2 D) Annual coupon payment divided by 2

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108) Doug has been approached by his broker to purchase a $1,000 bond for $795. He believes the bond should yield 8%. The bond pays a 5% annual coupon rate and has 10 years left until maturity.

What should Doug's analysis of the bond indicate to him? Use annual analysis. Use time value of money tables in Appendix B and Appendix D. A) The bond is undervalued; he should purchase it.

B) The bond is undervalued; he should not purchase it.

C) The bond is overvalued; he should purchase it.

D) The bond is overvalued; he should not purchase it.

109) Which of the following regarding preferred stock is true?

A) If the price decreases, the required rate of return has decreased.

B) If the required rate of return increases, the price decreases.

C) If the required rate of return increases, the price increases.

D) The price in the market remains at par.

110) Which of the following is an asset that is usually valued using time value of money?

A) Plant property and equipment B) Investment C) Accounts receivable D) Inventory Foundations of Financial Management, 17e (Block) Chapter 11 Cost of Capital 1) It is standard practice to evaluate investment decisions using the cost of the specific financing method involved.

2) The calculation of the cost of capital depends upon the historical cost of funds.

3) The cost of capital for each source of funds is dependent on current market conditions and expected rates of return.

4) The cost of capital refers to the cost that a company takes on to purchase a big project.

5) In determining the cost of debt, a firm could use its yields and prices of outstanding bonds.

6) The cost of debt is equal to the current bond yield on bonds of similar risk class, adjusted for the corporate tax rate.

7) The cost of debt needs to consider tax, while the cost of stock does not need to consider tax.

8) The amount of debt capital used by a corporation is not related to the availability of equity funds from retained earnings and new common stock.

9) A firm's cost of preferred stock is equal to the preferred dividend divided by the net price after flotation costs.

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10) Beginning in 2022, a company can only deduct interest of up to 30% of its earnings before interest and taxes (EBIT).

11) Earnings before interest, taxes, depreciation and amortization is lower than EBIT as long as the company has depreciation or amortization expenses.

12) For companies with very high interest expense, or very low EBIT, the interest expense limitation will reduce the tax advantage to issuing debt and the equation, K d (Cost of debt) = Y(1 − T ), would need to be adjusted to reflect the impact of the new tax law.

13) A firm's cost of preferred stock is equal to the preferred dividend divided by market price plus the dividend growth rate (Kp = D/P0 + g).

14) The cost of new common stock is greater than the cost of outstanding common stock.

15) In determining the cost of preferred stock, the earnings on outstanding preferred stock may be used as a proxy.

16) The out-of-pocket cost of common stock is a good approximation of the cost of common stock equity.

17) The discount rate that equates a future stream of expected dividends to the current price is a good approximation of the cost of common stock.

18) Ke represents an expected return to stockholders as well as a cost to the firm.

19) The cost of retained earnings is considered to be equal to the required rate of return on a firm's outstanding common stock.

20) Retained earnings represent an internal source of funds that is raised without the payment of interest or cost to the firm's stockholders.

21) The only difference in the cost of retained earnings (Ke) and the cost of new common stock (Kn) is the flotation cost on new common stock.

22) Regardless of the particular source of funds utilized for a project, the required rate of return, or discount rate, will be the weighted average cost of capital.

23) The measurement of common stock equity in weighted average cost of capital uses the cost of retained earnings (Ke), but not the cost of new common stock (Kn).

24) The use of the optimum capital structure minimizes the cost of capital.

25) All firms within particular industries have similar optimum capital structures.

26) A firm should always be at a single optimum debt-to-equity ratio to minimize its cost of 165 Copyright © 2019 McGraw-Hill Education. All rights reserved.

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capital.

27) Weights used to calculate the weighted average cost of capital Ka are derived from the optimum capital structure.

28) Taking on additional debt will reduce the cost of equity.

29) Firms in stable industries are advised to keep debt levels very low so that shareholders, rather than creditors, receive the benefits of steady cash flows.

30) Most firms are able to use 60% to 70% debt in their capital structure without exceeding norms acceptable to most creditors and investors.

31) Although the after-tax cost of debt is below the cost of equity, firms cannot increase their use of debt to endless amounts.

32) According to traditional financial theory, the cost of capital curve is U-shaped over the range of debt-equity mixes.

33) A firm that does not earn the cost of capital in the short run will probably be in bankruptcy.

34) A firm that does not earn the cost of capital in the long run will not maximize shareholder wealth.

35) Companies prefer to maintain some financing flexibility in order to choose the lowest-cost source of funds at a single point in time.

36) The use of the weighted average cost of capital assumes that the firm is in its optimum capital structure range and the cost of each component stays constant over the range of financing.

37) The weighted average cost of capital calculates the average current cost of issued or new issuance of debt and equity for a firm.

38) Larger bond issues can lower "liquidity risk," or the possibility that an investor will not be able to sell a bond quickly and easily.

39) Market values rather than book values should be used for determining the optimal capital structure; however, in practice, book value is commonly used.

40) In determining the optimum capital structure, it is assumed that the firm will raise capital in the same proportions every year.

41) The pretax cost of debt is generally less than the pretax cost of equity.

42) The capital asset pricing model (CAPM) relates the risk-return tradeoffs of individual assets to market returns.

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43) In the capital asset pricing model (CAPM), beta measures the volatility of the market.

44) Under the capital asset pricing model (CAPM), the required return for common stock (or other investments) can be described by the following formula: Kj = Rf + b(Km − Rf), where Km is equal to the return expected in the market as measured by an appropriate index.

45) Per the capital asset pricing model, the slope of the security market line (SML) must be 1.0.

46) The financial managers of the firm decide on its cost of capital for financing projects.

47) The cost of debt, preferred stock, and common equity must all be adjusted for tax implications.

48) Although debt financing is generally cheaper than equity financing, financial managers should not use debt financing significantly above the industry standard because it can increase the firm's overall cost of capital.

49) The cost of capital generally varies inversely with the size of the capital structure.

50) As the risk-free rate increases, the required rate of return for common stock decreases.

51) A firm with a higher beta than another firm will have a higher required rate of return.

52) The slope of the security market line (SML) will often increase when the economy is in a boom period.

53) Each project should be judged against A) the specific means of financing used to support its implementation.

B) the existing interest rate at that point in time.

C) the cost of new common stock equity.

D) None of these options are true.

54) Financial capital does not include A) stocks.

B) bonds.

C) preferred stocks.

D) working capital.

55) The overall weighted average cost of capital is used instead of costs for individual sources of funds because A) the use of the cost for individual sources of capital would make investment decisions inconsistent.

B) a project with the highest return would always be accepted under the specific cost criteria.

C) investments funded by low-cost debt would have an advantage over other investments.

D) the use of the cost for specific sources of capital would make investment decisions inconsistent, and investments funded by low-cost debt would have an advantage over other investments.

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56) Debreu Beverages has an optimal capital structure that is 70% common equity, 20% debt, and 10% preferred stock. Debreu's pretax cost of equity is 9%. Its pretax cost of preferred equity is 7%, and its pretax cost of debt is also 5%. If the corporate tax rate is 21%, what is the weighted average cost of capital?

A) Between 7% and 8% B) Between 8% and 9% C) Between 9% and 10% D) Between 10% and 12% 57) Debreu Beverages has an optimal capital structure that is 70% common equity, 10% preferred stock, and 20% debt. Debreu's pretax cost of equity is 9%. Its pretax cost of preferred equity is 7%, and its pretax cost of debt is also 5%. If the corporate tax rate is 21%, what is the weighted average cost of capital?

A) 8.74% B) 8% C) 5.2% D) 7.79%

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58) Given an optimal capital structure that is 50% debt and 50% common stock, calculate the weighted average cost of capital for the company given the following additional information: Bond coupon rate Bond yield to maturity Dividend, expected Price, common Growth rate Corporate tax rate

8% 5% $ 5 $ 80 5% 21%

A) Less than 6%.

B) More than 6% and less than 7%.

C) More than 7% and less than 8%.

D) More than 8%.

59) For a firm paying 5% for new debt, the higher the firm's tax rate A) the higher the after-tax cost of debt.

B) the lower the after-tax cost of debt.

C) the after-tax cost is unchanged.

D) Not enough information to judge.

60) If a firm's bonds are currently yielding 6% in the marketplace, why would the firm's cost of debt be lower?

A) Interest rates have changed.

B) Additional debt can be issued more cheaply than the original debt.

C) There should be no difference; the cost of debt is the same as the bond's market yield.

D) Interest is tax-deductible, so tax savings are considered.

61) The cost of a firm's debt is determined by taking the A) present value of the interest payments and principal times one minus the tax rate.

B) coupon rate on bonds times one minus the tax rate.

C) yield on bonds issued minus the corporation's marginal tax rate.

D) None of these options are true.

62) The coupon rate on a debt issue is 6%. If the yield to maturity on the debt is 9%, what is the after-tax cost of debt in the weighted average cost of capital if the firm's tax rate is 21%?

A) 3.96% B) 4.08% C) 7.11% D) 7.92%

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63) The coupon rate on an issue of debt is 8%. The yield to maturity on this issue is 10%. The corporate tax rate is 21%. What would be the approximate after-tax cost of debt for a new issue of bonds?

A) 5.28% B) 2.48% C) 7.9% D) 3.14% 64) A firm's cost of financing, in an overall sense, is equal to its A) weighted average cost of capital.

B) required yield that investors seek for various kinds of securities.

C) required rate of return that investors seek for various kinds of securities.

D) all of these options are true.

65) A firm has $50 million in assets and its optimal capital structure is 60% equity. If the firm has $12 million in retained earnings available to invest, at what asset level will the firm need to issue additional stock? (Assume no growth in retained earnings.)

A) The firm should have already issued additional stock.

B) The firm can increase assets by $30 million.

C) The firm can increase assets by $20 million.

D) There is insufficient information to determine an answer.

66) Tobin's Barbeque has a bank loan at 8% interest and an after-tax cost of debt of 6%. What will the after-tax cost of debt be if a new loan is taken out yielding 11%.

A) 7.52% B) 8.25% C) 13.33% D) None of these options are true.

67) The pre-tax cost of debt for a new issue of debt is determined by A) the investor's required rate of return on issued stock.

B) the coupon rate of existing debt.

C) the yield to maturity of outstanding or comparable bonds.

D) All of these options are true.

68) Lewis, Schultz, and Nobel Development Corp. has an after-tax cost of debt of 4.5%. With a tax rate of 21%, what is the yield on the debt?

A) 4.5% B) 9.0% C) 1.89% D) 5.70% 69) The after-tax cost of preferred stock to the issuing corporation A) is the same as the before-tax cost.

B) is usually lower than the cost of debt.

C) is dependent on the firm's tax bracket.

D) None of these options are true.

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70) A firm is paying an annual dividend of $2.65 for its preferred stock that is selling for $57.00.

There is a selling cost of $3.30. What is the after-tax cost of preferred stock if the firm's tax rate is 21%?

A) 3.30% B) 4.93% C) 5.79% D) 6.11% 71) Firm X has a tax rate of 21%. The price of its new preferred stock is $75 and its flotation cost is $3.15. The cost of new preferred stock is 8%. What is the firm's dividend?

A) $7.18 B) $5.75 C) $7.56 D) $4.03 72) The cost of equity capital in the form of new common stock will be higher than the cost of retained earnings because of A) the existence of taxes.

B) the existence of flotation costs.

C) investors' unwillingness to purchase additional shares of common stock.

D) the existence of financial leverage.

73) If the flotation cost goes up, the cost of retained earnings will A) go up.

B) go down.

C) stay the same.

D) slowly increase.

74) Flotation cost is the A) cost of holding stock on hand.

B) cost of issuing new debt.

C) cost of issuing new stock.

D) sales price of common stock.

75) Why is the cost of debt normally lower than the cost of preferred stock?

A) Preferred stock dividends are tax deductions.

B) Interest on debt is tax deductible.

C) Preferred stock dividends must be paid before common stock dividends.

D) Common stock dividends are not tax-deductible.

76) If flotation costs go down, the cost of new preferred stock will A) go up.

B) go down.

C) stay the same.

D) slowly increase.

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77) A firm's preferred stock pays an annual dividend of $2, and the stock sells for $65. Flotation costs for new issuances of preferred stock are 5% of the stock value. What is the after-tax cost of preferred stock if the firm's tax rate is 21%?

A) 1.2% B) 1.58% C) 3.24% D) 5.26% 78) Ten years ago, Stigler Company issued $100 par value preferred stock yielding 6%. The preferred stock is now selling for $102 per share. What is the approximate current yield or cost of the preferred stock? (Disregard flotation costs.)

A) 7.76% B) 8% C) 5.9% D) There is not enough information to answer the question.

79) A firm's debt-to-equity ratio varies at times because A) a firm will want to sell common stock when prices are high and bonds when interest rates are low.

B) a firm will want to take advantage of timing its fund-raising in order to minimize costs over the long run.

C) the market allows some leeway in the debt-to-equity ratio before penalizing the firm with a higher cost of capital.

D) All of these are accurate statements.

80) Using the constant dividend growth model for common stock, if the market price of stock (P0) goes up, A) the assumed cost goes up.

B) the assumed cost goes down.

C) the assumed cost remains unchanged.

D) Further information is needed to answer the question.

81) New common stock is more expensive than required rate of return (Ke) because new common stock has to A) compensate for risk.

B) compensate for more dividends.

C) compensate for expansionary problems.

D) cover distribution costs.

82) In computing the cost of common equity, if the dividend (D1) goes downward and market price (P0) goes up, required rate of return (Ke) will A) go up.

B) go down.

C) stay the same.

D) slowly increase.

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83) In determining the cost of retained earnings A) the dividend valuation model is inappropriate.

B) flotation costs are included.

C) growth is not considered.

D) the capital asset pricing model can be used.

84) Within the capital asset pricing model A) the risk-free rate is usually higher than the return in the market.

B) the higher the beta, the lower the required rate of return.

C) beta measures the volatility of an individual stock relative to a stock market index.

D) dividends are considered in the calculations.

85) Using the constant growth model, a firm's expected dividend yield (D1) is 4% of the stock price, and its growth rate is 5%. If the tax rate is 21%, what is the firm's cost of equity?

A) 10% B) 6.65% C) 9.0% D) 5.85% 86) Expected cash dividends are $3.00, the dividend yield is 4%, flotation costs are 4% of price, and the growth rate is 3%. Compute the approximate cost of new common stock.

A) 7.00% B) 7.2% C) 6.9% D) 4.2% 87) A firm's stock is selling for $65. The dividend yield is 6%. A 7% growth rate is expected for the common stock. The firm's tax rate is 21%. What is the firm's cost of retained earnings?

A) 8.16% B) 13.00% C) 12.35% D) 7.8%.

88) A firm's stock is selling for $62. The next annual dividend is expected to be $3.00. The growth rate is 9%. The flotation cost is $5.00. What is the cost of retained earnings?

A) 13.84% B) 12.46% C) 12.7% D) None of these options are correct 89) For many firms, the cheapest and most important source of equity capital is in the form of A) debt.

B) common stock.

C) preferred stock.

D) retained earnings.

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90) Retained earnings has a cost associated with it because A) new funds must be raised.

B) there is an opportunity cost associated with stockholder funds.

C) Ke > g.

D) flotation costs increase the cost of funding.

91) There may be a change in the marginal cost of capital curve when A) the tax rate charged to investors changes.

B) the firm has exhausted its supply of retained earnings.

C) the firm is limited in the amount of depreciation it can take.

D) the tax rate charged to investors changes and the firm has exhausted its supply of retained earnings.

92) The after-tax cost of debt will almost always be below A) the before-tax cost of debt.

B) the weighted average cost of capital.

C) the cost of equity.

D) all of these options are true.

93) The optimal capital structure for firms in cyclical industries should contain ________ than firms in stable industries.

A) more debt B) less debt C) an equal amount of debt D) None of these options are valid. There is no relationship between the cyclical nature of an industry and optimal capital structure.

94) The component parts of the cost of capital should be weighted by their proportion in the firm's A) current capital structure.

B) historical capital structure.

C) optimum capital structure.

D) expected capital structure.

95) Which of the following is NOT true about debt financing and the weighted average cost of capital?

A) Debt is usually the cheapest source of financing.

B) As the level of debt increases beyond the optimum capital structure, the cost of capital increases.

C) No debt in the firm's capital structure will minimize the firm's weighted average cost of capital.

D) None of these options are false.

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96) A firm in a stable industry should use A) a large amount of debt to lower the cost of capital.

B) no debt at all.

C) preferred stock in place of debt.

D) a limited amount of debt to lower the cost of capital.

97) Although debt financing is usually the cheapest component of capital, it cannot be used in excess because A) interest rates may change.

B) the firm's stock price will increase and raise the cost of equity financing.

C) the financial risk of the firm may increase and thus drive up the cost of all sources of financing.

D) underwriting costs may change.

98) A firm in a cyclical industry should use A) a large amount of debt to lower the cost of capital.

B) no debt at all.

C) preferred stock in place of debt.

D) a limited amount of debt to lower the cost of capital.

99) Most firms are able to use ________% debt in their capital structure without exceeding norms acceptable to creditors and investors.

A) 30-50 B) 40-60 C) 50-70 D) 60-80 100) Marginal cost of capital A) recognizes that cost of capital does not stay constant as more funds are raised.

B) usually provides the same capital budgeting choices as the use of weighted average cost of capital.

C) can be defined as the cost of capital when no retained earnings are available for expansion.

D) None of these options apply.

101) The weighted average cost of capital is used as a discount rate because A) it is an indication of how much the firm is earning overall.

B) as long as the cost of capital is earned, the common stock value of the firm will be maintained.

C) it is comparable to the prevailing market interest rates.

D) returns below the cost of capital will cover all fixed costs associated with capital and provide an excess return to stockholders.

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102) Use of the marginal cost of capital A) acknowledges that when retained earnings are used up as a source of equity, the cost of capital rises as new common stock is sold to support more growth.

B) recognizes that the return from the last dollar of funds generated should be greater than or equal to the cost of the last dollar of funds raised.

C) acknowledges that when retained earnings are used up as a source of equity, the cost of capital rises as new common stock is sold to support more growth and recognizes that the return from the last dollar of funds generated should be greater than or equal to the cost of the last dollar of funds raised.

D) None of these options are correct.

103) The general rule for using the weighted average cost of capital (WACC) in capital budgeting decisions is to accept all projects with A) rates of return greater than or equal to the WACC. B) rates of return less than the WACC. C) rates of return equal to or less than the WACC. D) positive rates of return.

104) Oak Enterprises has a beta of 1.2, the market return is 8%, and the T-bill rate is 4%. Its tax rate is 21%. What is its expected required return of common equity?

A) Between 11% and 12% B) Between 8% and 9% C) Between 7% and 8% D) Between 5% and 6% 105) All of the following are important considerations for minimizing the cost of capital EXCEPT: A) future inflation rates B) industry debt ratios C) future economic conditions D) current coupon rates of outstanding debt Foundations of Financial Management, 17e (Block) Chapter 12 The Capital Budgeting Decision 1) Capital budgeting decisions involve a minimum time horizon of five years.

2) A good capital budgeting program requires that a number of steps be taken in the decision-making process. The first step is the explanation of data.

3) Possibly the most overlooked part of the capital budgeting process is the search for new opportunities through innovation and creative thinking.

4) In most capital budgeting decisions, the emphasis should be on reported earnings rather than cash flows.

5) Even though one project may have superior cash flows, top management may sometimes choose a project that inflates earnings instead of cash flow.

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6) The first administrative consideration in any capital budgeting process is collection of data.

7) It is not unusual for a corporate president to be as sensitive to after-tax income as cash flows.

8) Capital budgeting is only a concern of finance and accounting personnel.

9) We add depreciation to net income to arrive at a true earnings picture.

10) The payback method is very basic but it gives the user an understanding of when the cost of the initial project will be completely paid off.

11) The payback method is not really a theoretically correct approach.

12) A rapid payback may be important to firms having rapid technological development.

13) Using the payback method can be appropriate when the time value of money is considered.

14) Depreciation is important in calculating projected cash flows because it lowers the profits, but does not affect the cash account.

15) To find the exact internal rate of return for projects with uneven cash flows, we can interpolate between two factors from the time value of money table: present value of a $1.

16) With non-mutually exclusive events and no capital rationing, we will usually arrive at the same conclusions using either the net present value or internal rate of return methods.

17) The internal rate of return is the interest rate that equates the cash outflows of an investment with the subsequent cash inflows.

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18) The net present value's primary advantage over the internal rate of return method is that it does not require the time value of money calculations that the internal rate of return requires.

19) Non-mutually exclusive alternatives can be accepted at the same time.

20) The selection of a mutually exclusive project means that all other projects with a positive net present value may also be selected.

21) The profitability index is calculated by dividing the project's net present value by the present value of the projected cash outflows.

22) It is the difference in the reinvestment assumptions that can be significant in determining when to use the net present value or internal rate of return methods.

23) Under the net present value method, cash flows are assumed to be reinvested at the firm's weighted average cost of capital.

24) For high-internal rate of return investments, it is perfectly acceptable to assume that reinvestment will occur at an equally high, if not higher, rate.

25) The modified internal rate of return method assumes that inflows are reinvested at 80% of the internal rate of return.

26) Under capital rationing, a firm will maximize profitability.

27) The net present value profile allows a firm to examine the project's net present value over time without any adjustments.

28) The net present values' weakness is that it does not provide a decision for mutually exclusive investments.

29) Net present value (NPV) is considered a theoretically correct method and is also often the preferred investment selection method in practice.

30) When using accelerated depreciation, the present value of future cash flows increases.

31) The internal rate of return (IRR) measures the profitability of investments as a return percentage.

32) Under the "modified accelerated-cost-recovery system" (MACRS) of depreciation, cash flow tends to decline with the passage of time.

33) Although firms can elect to use straight-line depreciation for their external financial reporting, the MACRS depreciation schedules have exceeded in use over other depreciation methods for tax purposes.

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34) In most cases, asset lives are shorter under MACRS depreciation than they would be with straight-line depreciation.

35) Most real estate property is depreciated over a 10-year period.

36) For a small business, it is possible for the purchase price of an asset to be expensed rather than depreciated.

37) Under MACRS depreciation, taxes paid in the first year of an asset's life are subtracted from the base used to calculate depreciation expense.

38) Under MACRS depreciation, there are no tax credits for the purpose of calculating the base for depreciation expenses.

39) Under MACRS depreciation, the tax life of an asset and its economically useful life are assumed to be the same.

40) If an asset is sold for a price above its book value, the difference is considered taxable income to the firm.

41) A tax loss on the sale of a depreciable asset used in business or trade may be written off against income.

42) In a replacement decision, a book loss on an old asset can be a valuable feature.

43) The dollar amount of losses incurred when an old asset is sold below book value is added to the purchase price of a new asset in calculating the base for depreciation.

44) Cash flow is used for a net present value analysis, while earnings are used for the internal rate of return and payback analysis.

45) When net present value and internal rate of return analysis provide inconsistent rankings of projects, the financial manager should generally move forward with the project that has the highest internal rate of return.

46) Investors discount the later years of a long-term project at a lower rate because they are generally less precise.

47) It is more likely for financial managers to focus on cash flow and corporate executives to focus on earnings of the company.

48) Capital rationing is generally a positive action for a firm because it prevents rapid growth, which can drive up the cost of capital.

49) The reinvestment assumption is a downside of the internal rate of return method of analysis because it assumes that cash flows are reinvested at the cost of capital.

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50) In a general sense, "cash flow" can be said to equal A) operating income less taxes plus depreciation.

B) operating income less taxes.

C) operating income before depreciation and taxes plus depreciation.

D) operating income after taxes minus depreciation.

51) The reason cash flow is used in capital budgeting is because A) cash rather than income is used to purchase new machines.

B) cash outlays need to be evaluated in terms of the present value of the resultant cash inflows.

C) to ignore the tax shield provided from depreciation would ignore the cash flow provided by the machine, which should be reinvested to replace older machines.

D) All of these options are true.

52) The first step in the capital budgeting process is A) collection of data.

B) idea development.

C) assign probabilities.

D) determine cash flows.

53) Which of the following is not a step in the capital budgeting decision-making process?

A) Search for and discovery of investment opportunities.

B) Collection of data.

C) Evaluation and decision making.

D) All of the above are steps used in this process 54) Capital budgeting is primarily concerned with A) capital formation in the economy.

B) planning future financing needs.

C) evaluating investment alternatives.

D) minimizing the cost of capital.

55) An appropriate capital budgeting process requires that the following steps be taken in which order? a) Collection of data b) Reevaluation and adjustment c) Evaluation and decision making d) Search for and discovery of investment opportunities A) d, a, c, b B) d, a, b, c C) d, b, a, c D) b, d, a, c

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56) Assume a corporation has earnings before depreciation and taxes of $82,000, depreciation of $45,000, and that it has a 25% combined tax bracket. What are the after-tax cash flows for the company?

A) $72,750 B) $82,000 C) $42,000 D) $127,000 57) Assume a project has earnings before depreciation and taxes of $15,000, depreciation of $25,000, and that the firm has a 25% combined tax bracket. What are the after-tax cash flows for the project?

A) A positive $17,500 B) A positive $19,000 C) A loss of $21,000 D) A positive $28,000 58) Which of the following is not a time-adjusted method for ranking investment proposals?

A) The net present value method B) The payback method C) The internal rate of return method D) All of these options are time-adjusted methods.

59) Which of the following statements about the "payback method" is true?

A) The payback method considers cash flows after the payback has been reached.

B) The payback method does not consider the time value of money.

C) The payback method uses discounted cash-flow techniques.

D) The payback method generally leads to the same decision as other investment selection methods.

60) There are several disadvantages to the payback method, among them: A) Payback ignores the interest that is earned during the period of time the project is in place.

B) Payback emphasizes receiving money back as fast as possible for reinvestment.

C) Payback is basic to use and understand.

D) Payback can be used in conjunction with time-adjusted methods of evaluation.

61) The payback method has several disadvantages, among them: A) Payback fails to choose the optimum or most economic solution to a capital budgeting problem.

B) Payback ignores cash inflows after the payback period.

C) Payback fails to choose the optimum or most economic solution to a capital budgeting problem, and it ignores cash inflows after the payback period.

D) None of these options are disadvantages.

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62) Assume a $6,500 investment and the following cash flows for two alternatives.

Year 1 2 3 4 5

Investment X $ 1,000 1,800 1,700 2,000

Investment Y $ 1,300 2,000 1,100 1,500 600

Under the payback method, which of the following could be concluded?

A) Investment X should be selected.

B) Investment Y should be selected.

C) Investment X and Y provide the same payback period.

D) The investments are not comparable since they have different time frames.

63) The Dammon Corp. has the following investment opportunities: Machine A ($10,000 cost) Inflows year 1 $ 6,000 year 2 3,000 year 3 3,000 year 4 -0-

Machine B ($22,500 cost) Inflows year 1 $ 12,000 year 2 7,500 year 3 1,500 year 4 1,500

Machine C ($35,500 cost) Inflows year 1 $-0year 2 30,000 year 3 5,000 year 4 20,000

Under the payback method and assuming these machines are mutually exclusive, which machine(s) would Dammon Corp. choose?

A) Machine A B) Machine B C) Machine C D) Machine A and B 64) Suppose that interest rates (and, therefore, the firm's weighted average cost of capital) increase.

This WOULD NOT CHANGE the capital budgeting choices a firm would make if it A) uses payback method analysis.

B) uses net present value analysis.

C) uses internal rate of return analysis.

D) uses profitability indices.

65) You buy a new piece of equipment for $7,360, and you receive a cash inflow of $1,000 per year for 10 years. What is the internal rate of return?

A) 4% B) 6% C) 8% D) 10%

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66) You require an internal rate of return of 8% to accept a project. If the project will yield $10,000 per year for 10 years, what is the maximum amount that you would be willing to invest in the project?

A) $51,400 B) $67,100 C) $100,000 D) $144,870 67) How would the salvage value be treated in a net present value calculation?

A) Disregard the salvage B) As a positive cash flow in the final year that the asset is used C) As a negative cash flow in the final year that the asset is used D) As a negative cash flow in the first year that the asset is used 68) The longer the life of an investment A) the more significant the discount rate.

B) the less significant the discount rate.

C) the more it can initially cost.

D) the less it can initially cost.

69) Stone Inc. is evaluating a project with an initial cost of $9,500. Cash inflows are expected to be $1,500, $1,500, and $10,000 in the three years over which the project will produce cash flows. If the discount rate is 6%, what is the net present value of the project?

A) $11,150 B) $26,930 C) $8,430 D) $1,650 70) Assuming that a firm has no capital rationing constraint and that a firm's investment alternatives are not mutually exclusive, the firm should accept all investment proposals A) for which it can obtain financing.

B) that have a positive net present value.

C) that have positive cash flows.

D) that provide returns greater than the after-tax cost of debt.

71) If projects are mutually exclusive A) they can only be accepted under capital rationing.

B) the selection of one alternative precludes the selection of other alternatives.

C) the payback method should be used.

D) only the net present value method can be used.

72) The internal rate of return and net present value methods A) always give the same investment decision answer.

B) never give the same investment decision answer.

C) usually give the same investment decision answer.

D) always give conclusions different from the payback method.

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73) A characteristic of capital budgeting is that A) a large amount of money is always involved.

B) the net present value must be negative to be accepted.

C) the internal rate of return must be greater than the cost of capital.

D) the time horizon is at least five years.

74) A project requires an investment of $2,500 and has a net present value of $430. If the internal rate of return is 10%, what is the profitability index for the project?

A) 0.25 B) 2.33 C) 0.70 D) 1.17 75) With non-mutually exclusive projects, A) the payback method will select the best project.

B) only one project can be accepted.

C) the IRR, NPV, and payback methods are all treated equally in the decision making process.

D) the net present value and the internal rate of return methods will accept or reject the same projects.

76) The net present value method (NPV) is a more conservative technique for selecting investment projects than the internal rate of return method because the NPV method A) assumes that cash flows are reinvested at the project's internal rate of return.

B) concentrates on the liquidity aspects of investment projects.

C) assumes that cash flows are reinvested at the firm's weighted average cost of capital.

D) None of these options are true.

77) The ________ assumes returns are reinvested at the cost of capital.

A) payback method B) internal rate of return method C) net present value method D) capital rationing procedure 78) In using the internal rate of return method, it is assumed that cash flows can be reinvested at A) the cost of equity.

B) the cost of capital.

C) the internal rate of return.

D) the prevailing interest rate.

79) For acceptable investments, the reinvestment assumption under the internal rate of return is generally A) higher acceptance than under the net present value method.

B) lower acceptance than under the net present value method.

C) at the cost of capital.

D) below the cost of capital.

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80) The internal rate of return assumes that funds are reinvested at the A) cost of capital.

B) yield on the investment.

C) minimal acceptable rate to the corporation.

D) yield to maturity.

81) If an investment project has a positive net present value, then the internal rate of return is A) less than the cost of capital.

B) greater than the cost of capital.

C) equal to the cost of capital.

D) indeterminate, because it depends on the length of the project.

82) As the cost of capital increases A) fewer projects are accepted.

B) more projects are accepted.

C) project selection remains unchanged.

D) None of these options 83) The net present value (NPV) method is considered to be a better method of evaluation than the internal rate of return (IRR) method because the NPV method A) uses time value of money while IRR does not.

B) is a more liberal method of analysis.

C) assumes that cash flows can be reinvested at the firm's more conservative cost of capital.

D) None of these options are true.

84) The modified internal rate of return (MIRR) assumes that A) inflows are invested at the traditional interest rate of return.

B) inflows are reinvested at the cost of capital.

C) outflows must be funded with debt.

D) outflows must be funded with equity.

85) The modified internal rate of return (MIRR) is used to A) help bridge the reinvestment assumption difference between NPV and IRR. B) calculate a new discount rate using future value of the cash inflows and the original value of the investment.

C) give a more conservative outlook.

D) all of the answers are true.

86) Capital rationing A) is a way of preserving the assets of the firm over the long term.

B) is a less than optimal way to arrive at capital budgeting decisions.

C) assures stockholder wealth maximization.

D) assures maximum potential profitability.

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87) If a firm is experiencing no capital rationing, it should accept all investment proposals A) as long as it has available funds.

B) that return an amount equal to or greater than the cost of capital.

C) that return an amount greater than the cost of equity.

D) that are available, regardless of return.

88) A firm may adopt capital rationing because A) it is hesitant to use external sources of financing.

B) it wishes to maximize profits.

C) it wishes to maximize growth.

D) all of the options are true.

89) Capital rationing assumes that A) a limited amount of capital is available.

B) a limited amount of investments are available.

C) maximum profitability will be obtained.

D) a limited amount of investments are available and maximum profitability will be obtained.

90) The net present value profile A) doesn't work if projects have a negative net present value.

B) is a substitute for the internal rate of return method.

C) graphically portrays the relationship between the discount rate and the net present value.

D) measures the initial cost to the present value of all future earnings.

91) Which of the following is not a step in creating the net present value profile?

A) Determine the net present value at a zero discount rate.

B) Determine the net present value at a normal discount rate.

C) Determine the project's internal rate of return.

D) Determine the payback for the project.

92) Using higher discount rates, A) accelerated cost recovery depreciation is more valuable than straight line.

B) straight-line depreciation is more valuable than the accelerated cost recovery system of depreciation.

C) depreciation policy makes no difference.

D) later year depreciation has a higher net present value.

93) Which statement(s) are true about depreciation?

A) Depreciation is a non-cash expense that provides tax shield benefits.

B) The greater the depreciation expenses in earlier years, the higher the present value of the project.

C) For tax purposes, the MACRS depreciation schedules supersede the old methods of sum-of-the-years' digits, double declining balance, and so on.

D) All of these are true.

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94) Which statement(s) are true about the tax law changes in 2017?

A) Congress wanted businesses to invest more in long-lived assets.

B) Companies are temporarily allowed to take 100% bonus depreciation in the first year that an asset is placed in service.

C) This bonus will be phased out beginning in 2023 and expire by 2027.

D) All of these are true.

95) The Wet Corp. has an investment project that will reduce expenses by $25,000 per year for three years. The project's cost is $55,000. If the asset is part of the three-year MACRS category (33% first year depreciation) and the company's combined tax rate is 25%, what is the cash flow from the project in year 1?

A) $4,521 B) $15,100 C) $23,287 D) $16,667 96) An asset fitting into the 7-year MACRS category was purchased two years ago for $72,000.

The book value of this asset is now ________.

A) $44,064 B) $31,200 C) $48,317 D) $51,429 97) For MACRS depreciation, automobiles and light trucks fit into the A) 3-year MACRS category.

B) 5-year MACRS category.

C) 7-year MACRS category.

D) 10-year MACRS category.

98) With the exception of real estate investments, MACRS depreciation is beneficial to corporations because it A) increases total depreciation.

B) lengthens the lives of assets for depreciation purposes.

C) shortens the lives of assets for depreciation purposes.

D) classifies assets into specific, well-understood groups for depreciation purposes.

99) A firm purchases an asset falling into the 3-year MACRS category for $48,000. The second year's depreciation expense for this asset would be ________.

A) $34,710 B) $21,360 C) $16,000 D) The answer cannot be determined without knowing second-year earnings before depreciation and taxes.

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100) Which of the following does MACRS depreciation provide to corporations?

A) Increases total depreciation.

B) Lengthens the lives of assets for depreciation purposes.

C) Shortens the lives of assets for depreciation purposes.

D) Full-year versus half-year convention.

101) Elective expensing has the following characteristic: A) It is primarily beneficial to large businesses.

B) It is exclusively used for financial reporting.

C) It allows a more rapid write-off than MACRS depreciation.

D) It is primarily beneficial to large businesses and it allows a more rapid write-off than MACRS depreciation.

102) At higher tax rates, depreciation is A) more beneficial.

B) less beneficial.

C) unaffected.

D) None of these options are correct.

103) If the capital budgeting decision includes a replacement analysis, then A) a gain from the sale of the old asset will represent a tax savings inflow.

B) only incremental cash flows should be considered.

C) the sale price and tax savings will increase the cash inflows throughout the asset's life.

D) net present value can no longer be measured in replacement analysis.

104) An equipment replacement decision, under incremental analysis, requires A) calculating the present value of all cash flows associated with the new equipment minus the salvage value of the old asset.

B) calculating the present value of all changes in cash flows from the old equipment to the new equipment.

C) subtracting the purchase price of the old equipment from the purchase price of the new equipment.

D) Two of the options are correct.

105) In a replacement decision, if an old asset sells below its book value A) a gain has incurred.

B) a loss has incurred.

C) there is no gain or loss since it is replaced.

D) the net present value is negative.

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106) Firm X is considering the replacement of an old machine with one that has a purchase price of $70,000. The current market value of the old machine is $18,000 but the book value is $32,000.

The firm's combined tax rate is 30%. What is the net cash outflow for the new machine after considering the sale of the old machine? Disregard the effect of depreciation of the new machine if acquired.

A) $47,800 B) $70,000 C) $52,000 D) $40,100 107) A firm is selling an old asset below book value in a replacement decision. As the firm's tax rate is raised, the net cash outflow (purchase price less proceeds from the sale of the old asset) would A) go up.

B) go down.

C) remain the same.

D) More information is required to determine an answer.

108) Project X has a cost of $100,000 and provides the following annual earnings: year 1 $35,000; year 2 $25,000; year 3 $175,000; and year 4 $10,000. Under the payback method, in which year is the investment recouped?

A) Year 2 B) Year 3 C) Year 4 D) Not enough information is given to determine an answer.

109) Project XYZ has a cost of $200,000 and provides the following annual cash inflows: year 1 $35,000; year 2 $25,000; year 3 $175,000; and year 4 $10,000. What is the net present value of this investment, assuming the discount rate is 8%?

A) $135 B) $4,687 C) $101,050 D) $200,135 110) All of the following is information required to create a net present value profile except for which one?

A) NPV at a 0 discount rate B) NPV at the risk-free rate C) NPV at the cost of capital D) IRR of investment

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111) A firm utilizes a strategy of capital rationing, which is currently $375,000 and is considering the following two projects: Project A has a cost of $335,000 and the following cash flows: year 1 $140,000; year 2 $150,000; and year 3 $100,000. Project B has a cost of $365,000 and the following cash flows: year 1 $220,000; year 2 $110,000; and year 3 $150,000. Using a 6% cost of capital, which decision should the financial manager make?

A) Select project A. B) Select project B. C) Do not select either project.

D) Select both projects.

112) A firm utilizes a strategy of capital rationing, which is currently $375,000 and is considering the following two projects: Project A has a cost of $335,000 and the following cash flows: year 1 $140,000; year 2 $150,000; and year 3 $100,000. Project B has a cost of $365,000 and the following cash flows: year 1 $220,000; year 2 $110,000; and year 3 $150,000. Using a 6% cost of capital, what is the net present value of project A? A) $25,930 B) $14,520 C) $11,589 D) $19,230 113) A firm utilizes a strategy of capital rationing, which is currently $375,000 and is considering the following two projects: Project A has a cost of $335,000 and the following cash flows: year 1 $140,000; year 2 $150,000; and year 3 $100,000. Project B has a cost of $365,000 and the following cash flows: year 1 $220,000; year 2 $110,000; and year 3 $150,000. Using a 6% cost of capital, what is the internal rate of return of project B? A) Higher than 6% B) Lower than 6% C) Exactly 6% D) Can not be determined from the given information 114) Technology Corp. is considering a $238,160 investment in a new marketing campaign that it anticipates will provide annual cash flows of $52,000 for the next five years. The firm has a 6% cost of capital. What should the analysis indicate to the firm's managers?

A) IRR is 8%. Accept the project.

B) IRR is 3%. Reject the project.

C) IRR is 4%. Reject the project.

D) IRR is 6%. Accept the project.

Foundations of Financial Management, 17e (Block) Chapter 13 Risk and Capital Budgeting 1) A basic assumption in financial theory is that most investors and managers are risk seekers.

2) If we are risk-averse, a risky investment with an 8% return will be preferred over an 8% risk-free investment.

3) Risk is not only measured in terms of losses, but also in terms of variability.

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4) The expected value is a weighted average of the outcomes multiplied by their probabilities of occurrence.

5) Investment A may have a higher standard deviation than investment B and still have less risk.

6) Expected value is defined as ΣDP where the outcomes are D and probabilities are P. 7) If possible outcomes are D and probabilities are P, the standard deviation is defined as σ= 8) The standard deviation is the measure of dispersion or variability around the expected value.

9) The coefficient of correlation represents the standard deviation divided by the expected value.

10) The equation for the coefficient of variation is (V) =

11) Generally, the higher the coefficient of variation a project has, the higher the discount rate it should be assigned.

12) The cost of capital is assumed to contain no risk for the firm.

13) A common stock with a beta of 1.0 is said to be of equal risk with the market.

14) Beta is another measurement of risk and measures the stability of returns on an individual stock relative to the stock market index of returns.

15) Regardless of risk, no projects should be accepted unless they earn more than the firm's weighted average cost of capital.

16) As the time horizon becomes shorter, more uncertainty enters the forecast.

17) As the time horizon increases, the standard deviation for each forecast of cash flow normally increases.

18) Simulation models allow the analyst to test possible changes in the variables used in the model.

19) Decision trees present a tabular or graphical comparison of projected decision outcomes.

20) A firm might be willing to accept high risk in a given investment if the portfolio effect (for the whole firm) is beneficial.

21) In order to reduce risk, one should diversify into areas that are positively correlated with 191 Copyright © 2019 McGraw-Hill Education. All rights reserved.

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current areas of involvement.

22) Projects that are totally uncorrelated should provide some overall reduction in portfolio risk.

23) The highest possible value for positive correlation is +1.

24) Projects with high positive correlation are sometimes valuable because they allow us to smooth out the overall performance of the firm during a business cycle.

25) Combining assets with highly correlated returns will greatly reduce portfolio risk.

26) Projects that are totally uncorrelated provide more overall risk reduction than negatively correlated projects.

27) Assume that Widget Repair Corporation provides services to 100 customers whose decision to change suppliers is uncorrelated. The portfolio effect suggests that the entrepreneur/owner of Widget, who is compensated on the basis of the firm's profits, may have lower cash-flow risk than a clerk who works full-time for Widget on a fixed salary.

28) Insurance companies take advantage of the portfolio effect by insuring many different homeowners against loss. However, the risks of loss for individual homes in hurricane-prone or earthquake-prone areas such as Florida and California are highly correlated. This suggests that insurance companies should avoid writing (or consider canceling) some customers' policies in Florida and California, even when the policies are both needed by homeowners and expected to be highly profitable to the insurer.

29) When choosing portfolios of assets, management should try to achieve the highest possible return at a given level of risk.

30) Selection of portfolio combinations from the efficient frontier will depend upon our willingness to assume risk.

31) The investor's portfolio should always be on the efficient frontier.

32) The efficient frontier is always along the left-most portion of the risk-return trade-off diagram in which risk is measured on the X-axis and return is measured on the Y-axis.

33) In considering the share price effect on risk-return trade-offs, our goal should always be to earn the highest return possible.

34) Generally, because of the unpredictability of earnings, cyclical stocks are given higher price-earnings multiples than growth stocks.

35) The capital budgeting decisions of a firm will have no effect on the share price of the common stock.

36) Choosing projects with returns equal to the company norm but having a higher level of risk 192 Copyright © 2019 McGraw-Hill Education. All rights reserved.

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will most likely lower the company's stock price.

37) Sensitivity analysis helps the financial planner determine how sensitive shareholders will be to changes in investment strategy.

38) Cyclical businesses are likely to have higher costs of capital than firms with less variability in earnings. Therefore, more cyclical firms should typically use a higher discount rate in project evaluation.

39) The coefficient of variation is calculated to help correlate the standard deviation and the relative expected value of an investment, which makes it easier to compare different sized investments.

40) The coefficient of variation considers how an investment impacts the total risk of the firm, while the coefficient of correlation considers the specific risk of an investment.

41) The higher the risk of an investment, the lower the required rate of return by investors.

42) An investment with a $500 standard deviation and a $5,000 expected value has a higher risk than an investment with a $4,000 standard deviation and a $50,000 expected value.

43) Investors tend to decrease required rates of return over time for projects with longer lives.

44) The measure of risk is best described as A) potential loss.

B) the variability of outcomes around some expected value.

C) the probability of expected values.

D) the potential expected loss.

45) The term "risk-averse" means that A) an individual refuses to take risks.

B) most investors and businessmen seek risk.

C) an individual will seek to avoid risk or be compensated with a higher return.

D) only investment proposals with no risk should be accepted.

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46) Which of the following is a false statement?

A) Risky investments may produce large losses.

B) Risky investments may produce large gains.

C) The coefficient of variation is a risk measure.

D) Risk-averse investors cannot be induced to invest in risky assets.

47) The concept of being risk-averse means A) investors don't want to take on any risk.

B) investors would usually prefer investments with high standard deviations and a greater opportunity for gain.

C) that the greater the risk, the lower the expected return must be.

D) that for a given situation, investors would prefer relative certainty to uncertainty, and the greater the risk, the higher the expected return must be.

48) If one project has a higher standard deviation than another, A) it may have a lower risk.

B) it may have a lower expected value.

C) it has fewer possible outcomes.

D) it may be riskier, but this can only be determined by the coefficient of variation.

49) Firm X is considering a project and its analysts have projected the following outcomes and their probabilities.

$ $ $

Outcome 4,600 7,800 13,500

Probability of Outcome 30% 45% 25%

Assumptions pessimistic moderately successful optimistic

What is the expected value of the outcomes?

A) $3,375 B) $8,633 C) $8,265 D) Cannot be determined. Depends upon which prediction is correct.

50) A project has the following projected outcomes in dollars: $250, $350, and $500. The probabilities of their outcomes are 25%, 50%, and 25%, respectively. What is the expected value of these outcomes?

A) $362.5 B) $89.4 C) $94.5 D) $178.3

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51) The standard deviation can be defined as A) B) C) D) 52) Modigliani and Associates has forecasted the following payoffs from a project:

Outcome $ 0 $ 3,500 $ 6,000

Probability of Outcome 20% 60% 20%

Assumptions pessimistic moderately successful optimistic

What is the expected value of the outcomes?

A) $0 B) $3,300 C) $3,700 D) Cannot be determined. Depends upon which prediction is correct.

53) Buchanan Corp. forecasts the following payoffs from a project:

Outcome $ 2,000 $ 4,000 $ 6,000

Probability of Outcome 40% 60% 30%

Assumptions pessimistic moderately successful optimistic

What is the expected value of the outcomes?

A) $5,000 B) $4,000 C) $5,300 D) The forecast is incorrect and must be modified before finding the expected value.

54) The coefficient of variation (V) can be defined as the A) expected value multiplied by the standard deviation.

B) standard deviation divided by the mean (expected value).

C) mean (expected value) divided by the standard deviation.

D) standard deviation squared, divided by the expected value.

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55) If three investment alternatives all have some degree of risk and different expected returns, which of the following measures could best be used to rank the risk levels of the projects?

A) The coefficient of correlation B) The coefficient of variation C) The standard deviation of returns D) The net present value 56) In determining the appropriate discount rate for an individual project, the financial manager will be most influenced by the A) expected value.

B) internal rate of return.

C) standard deviation.

D) coefficient of variation.

57) Which of the following is a characteristic of beta?

A) Beta measures only the volatility of returns on an individual bond relative to a bond market index.

B) A beta of 1.0 has zero risk.

C) A beta of less than 1.0 has less risk than the market.

D) A beta is always equal to 1.0.

58) A project's coefficient of variation is 0.55. The project has a positive coefficient of correlation of 0.20. The expected value is $1,200. What is the standard deviation?

A) $400 B) $220 C) $660 D) $1,200 59) Which investment has the least amount of risk?

A) Standard deviation = $450, expected return = $4,500 B) Standard deviation = $600, expected return = $400 C) Standard deviation = $500, expected return = $800 D) Standard deviation = $400, expected return = $5,000 60) A project's cash flows have a beta of 1.2, a standard deviation of $340, and a coefficient of variation of 0.40. What is the expected cash flow?

A) $850 B) $167 C) $2,400 D) $500 61) Which investment has the least amount of risk?

A) Coefficient of variation = 8%, expected return = $800 B) Coefficient of variation = 8%, standard deviation = $200 C) Standard deviation = $300, expected return = $5,000 D) Standard deviation = $100, expected return = $80 196 Copyright © 2019 McGraw-Hill Education. All rights reserved.

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62) Risk may be integrated into capital budgeting decisions by A) adjusting the standard deviation of possible outcomes.

B) determining the expected value.

C) adjusting the discount rate.

D) adjusting the time horizon.

63) The firm's highest risk-adjusted discount should be applied to A) the repair of old machinery.

B) a new product in a related field.

C) a new product in a foreign market.

D) the purchase of new equipment.

64) Using the risk-adjusted discount rate approach, projects with high coefficients of variation will have ________ net present values than projects with low coefficients of variation and similar cash flows.

A) somewhat higher B) substantially higher C) lower D) either somewhat higher or substantially higher 65) Using the risk-adjusted discount rate approach, the firm's weighted average cost of capital is applied to projects with A) no risk.

B) low risk.

C) normal risk.

D) high risk.

66) In order to evaluate risk, management may also set qualitative risk classes. Rank these four projects from least risky to most risky, all other things being equal.

1. Completely new market in United States.

2. Completely new market in South America.

3. Addition to normal product line.

4. Repair to old machinery.

A) 4, 3, 1, 2 B) 1, 2, 3, 4 C) 3, 4, 1, 2 D) 4, 3, 2, 1

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67) Place the following investment decisions in order from the lowest risk to the highest risk: (a) purchase of replacement machinery (b) new product in a foreign market (c) new product in the local market (d) repair of existing machinery A) b, c, a, d B) d, a, b, c C) d, b, a, c D) d, a, c, b 68) A "what if" simulation using a computer helps to A) reduce the risk associated with a particular investment.

B) determine the effects of changes in certain variables.

C) increase the accuracy of the inputs.

D) make data entry more complicated.

69) Simulation models allow the planner to A) reduce the standard deviations of projects.

B) plan ahead for all possible changes in each variable.

C) deal with the uncertainty of investment risk.

D) test possible changes in each variable and deal with the uncertainty in forecasting outcomes.

70) Which of the following is a common approach in dealing with uncertainty?

A) A Monte Carlo simulation B) An internal rate of return C) The net present value D) Beta 71) A Monte Carlo simulation model uses A) random variables as inputs.

B) a point estimate.

C) the cost of capital.

D) portfolio risk.

72) A tool that helps to organize the decision process by presenting a graphical comparison of investment choices is called a A) module hierarchy diagram.

B) "what if" simulation.

C) decision tree.

D) None of these options are correct.

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73) Which ways can a decision tree be presented to help lay out the sequence of decisions that can be made?

A) Tabular B) Graphical C) A and B D) None of these options are correct.

74) The "portfolio effect" in capital budgeting refers to A) the relationship of stocks to bonds.

B) the degree of correlation between various investments.

C) the coefficient of variation.

D) the risk-adjusted discount rate.

75) An example of negative correlation may exist between the A) forest products and housing industries.

B) jewelry and discount furniture industries.

C) steel and aluminum industries.

D) oil and auto industries.

76) A correlation coefficient of zero indicates A) the projects have the same expected value.

B) there is no correlation and no risk reduction when the projects are combined.

C) there is no correlation, but there is some risk reduction when the projects are combined.

D) the projects have the same standard deviation.

77) In order to reduce risk in a firm, the firm would seek to enter a business that A) has a high positive correlation with its present business.

B) has a zero correlation with its present business.

C) has a high negative correlation with its present business.

D) has a high negative variation with its present business.

78) The lower the coefficient of correlation, the greater the A) risk when projects are combined.

B) risk reduction when projects are combined.

C) return when projects are combined.

D) standard deviation when projects are combined.

79) The coefficient of correlation A) takes on values anywhere from 0 to +1.

B) takes on values anywhere from −1 to 0.

C) takes on values anywhere from −1 to +1.

D) takes on values of 0 or larger.

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80) Portfolio risk is evaluated differently than individual project risk. In evaluating portfolio risk, we A) need to consider the impact of a given project on the overall risk of the firm.

B) recognize that a risky investment may create a portfolio with less risk.

C) need to consider how the returns of the projects in the portfolio are correlated.

D) all of these options are true.

81) Projects that are negatively correlated A) reduce the standard deviation of returns for the firm.

B) increase the possible losses of the firm.

C) are generally in the same industry.

D) none of these options are correct.

82) A correlation coefficient of ________ provides no risk reduction.

A) 0 B) −1 C) +1 D) +0.5 83) A correlation coefficient of ________ provides the greatest risk reduction.

A) 0 B) −1 C) +1 D) +0.5 84) Projects that are totally uncorrelated provide A) no risk reduction.

B) some risk reduction.

C) extreme risk reduction.

D) risk has nothing to do with correlation.

85) A correlation coefficient of ________ provides the greatest possible risk reduction to the firm.

A) −2 B) −1 C) 0 D) +1 86) A project that carries a normal amount of risk and does not affect the risk exposure of the firm should be discounted back at the A) coefficient of variation.

B) beta.

C) risk-free rate.

D) firm's weighted average cost of capital.

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87) The "efficient frontier" indicates A) alternatives with neutral combinations of risk and return.

B) alternatives with the highest returns.

C) alternatives with the best combination of risk and return.

D) alternatives with no risk.

88) All of the following are methods of evaluating the risk of a project EXCEPT A) The net present value profile B) A Monte Carlo simulation C) Decision trees D) The coefficient of variation 89) When considering the efficient frontier, financial managers should adhere to all of the following guidelines EXCEPT A) Select the projects on the leftmost and uppermost sector of the possible projects.

B) Prefer the project on the far right side of the efficient frontier because it offers the highest return.

C) Maximize return for a given level of risk.

D) Minimize risk for a given level of return.

90) Which of the following combinations of investments would provide the firm with the highest negative correlation?

A) Fabric firm and retail firm B) Telecommunications firm and Internet firm C) Soft drink manufacturer and health care firm D) Airline company and gasoline manufacturer Foundations of Financial Management, 17e (Block) Chapter 14 Capital Markets 1) The European Central Bank issues bonds, notes, and bills denominated in the Euro currency.

2) The European Union (EU) includes Britain, Germany, France, Italy, and seven other European countries.

3) The European Central Bank that was created with the European Monetary Union has no control over monetary policy but is responsible for clearing transactions between the countries.

4) Capital markets consist of securities having maturities greater than one year.

5) The "capital structure" of the firm consists of long-term debt and equity.

6) Money markets are the simplest form of capital markets because they involve trading in U.S. dollars.

7) Short-term markets that comprise securities with maturities of less than one month are referred to as money markets.

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8) The euro is the only official currency in the Eurozone. It has a liquidity and size second only to the U.S. dollar.

9) Capital markets are becoming increasingly international as investors and issuers seek out the best risk-return opportunities.

10) Upon entering the capital markets, an investor might invest in common stocks, preferred stock, negotiable certificates of deposit, and convertible securities.

11) In the last decade, the Chinese have invested in U.S. securities and real assets.

12) Corporations tend to shift from debt financing to equity financing during bull markets.

13) Municipal securities are called "tax-exempt" because no federal taxes must be paid on interest received.

14) The stock market far exceeds the bond market in terms of size of new capital raised.

15) U.S. government agency securities are directly guaranteed by the full faith and credit of the U.S. Treasury.

16) Interest rates stayed relatively low during the 2012-2015 time frame, so more and more companies took on long-term debt rather than short-term debt.

17) In the new issues market for corporate capital, common stocks account for the largest percentage of new funds raised.

18) Federal government agency issues, though backed directly by the U.S. Treasury, are deemed substantially more risky than regular government issues.

19) The capital markets serve as a way of allocating available capital to the most efficient user.

20) The size of the common stock market is larger than the size of the corporate bond market.

21) As corporate bonds mature and become due for payment, it's common for the borrowing corporation to replace this debt with the issuance of new bonds.

22) The market for common stocks dominates the corporate bond markets in size.

23) The main reason for the small amount of financing with preferred stock is that dividends on preferred stock are not tax deductible, as is the interest paid on bonds.

24) Retained earnings account for the majority of internally generated corporate funds.

25) When an investor buys stock in the stock market, he is purchasing shares from a company.

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26) Internal funds generated by corporations include retained earnings and non-cash expenses such as depreciation.

27) Securities issued by states and municipalities are referred to as statutory bonds and municipal bonds, respectively.

28) Households and the government are mainly considered to be suppliers of funds, while corporations are generally considered users of funds.

29) Financial intermediaries channel funds into the capital markets from the household sector.

30) The highest suppliers of funds to the U.S. credit markets are foreign investors.

31) As interest rates begin to rise, this provides motivation for companies to issue long-term debt.

32) The major suppliers of funds to the U.S. credit markets are foreign suppliers, mutual funds, and federal, state, and local governments.

33) Financial intermediaries help eliminate inefficiencies such as indirect investment by households.

34) Brokers on the organized stock exchange act as an agent for the person buying or selling securities.

35) Brokers actually own the securities they buy and sell on the floor of the exchange.

36) The NASDAQ Market is composed of large nationwide companies that are traded in the over-the-counter market.

37) The NYSE purchased Archipelago (an ECN) in order to expand its floor-trading capabilities.

38) The NASDAQ Small-Cap Market is composed of smaller regionally based companies that often remain controlled by their founders so that fewer shares are available to the public.

39) Regional exchanges are primarily engaged in dual trading activities, although some local stocks are listed on regional exchanges only.

40) The NASDAQ market is the primary market for international securities.

41) NASD regulates stockbrokers and brokerage firms.

42) A key variable of market efficiency is the certainty of the income stream. The most efficient market is for corporate securities.

43) The "strong form" of the efficient market hypothesis states that prices reflect all public information only.

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44) The efficient market hypothesis is generally concerned with the impact of information on the behavior of stock prices.

45) The weak form of the efficient market hypothesis states that an investor can profit by using past price data.

46) Markets are efficient when prices adjust rapidly to new information, continuous markets exist, and large dollar trades can be absorbed without large price movements.

47) The market for U.S. government securities is the most efficient in the world.

48) Commission rates for stock transactions are fixed as a result of the Securities Act Amendments of 1975.

49) The purpose of the Securities Act of 1933 is to protect the investors by forcing companies to reveal more relevant financial information.

50) The Sarbanes-Oxley Act of 2002 holds the CEO and CFO legally accountable for the accuracy of their firm's financial statements.

51) The Sarbanes-Oxley Act of 2002 holds a firm's internal auditors legally accountable for the accuracy of their firm's financial statements.

52) The Sarbanes-Oxley Act of 2002 has ensured that financial executives refrain from fraudulent activities.

53) The largest net supplier of funds is the U.S. Treasury and other agencies of the government.

54) If a subscriber wants to buy a stock through an ECN with no sell order, the order will be executed and then matched after a sell order arrives.

55) The future of the NYSE is uncertain due to their unwillingness to adapt to the increase in internationalization and electronic trading in the markets.

56) Many attribute the U.S. crisis of 2008-2009 to financial problems that happened in other countries.

57) The Federal National Mortgage Association buys mortgage loans from local lenders, bundles them together, and resells them as securities.

58) Fannie Mae, Freddie Mac, and Sallie Mae are private stockholder-owned corporations whose stocks are traded on the NYSE. 59) In times of recession, a company's retained earnings may decline as a percent of internal funds.

60) One of the advantages of the BATS exchange is that it simply matches orders in a very fast pace.

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61) A three-sector economy consists of business, government, and households, with the household sector being the major supplier of funds for investment.

62) A key influence in recent years has been the growth in market value of futures exchanges.

63) All of these are recognized as important influences in the development of the banking crisis of 2008 and the resulting credit crisis EXCEPT A) Consumers, especially homeowners, took on too much debt.

B) Too many subprime loans were repackaged and sold as securities.

C) The U.S. government promised to buy unlimited amounts of debt from FHLB. D) Real estate prices collapsed.

64) Which of the following was NOT a major supplier of funds to credit markets in 2008?

A) Households B) Government sponsored agencies C) Mutual funds and ETFs D) All of the options were major suppliers of funds 65) The 1994 North American Free Trade Agreement was established between the U.S., Canada, and Mexico which helped A) reduce trade barriers.

B) allow trade to happen between these countries.

C) lower the amount of illegal trading.

D) all of the answers are correct.

66) When global capital markets collectively react to international events, like Russia's default on its sovereign debt, it is common to find A) that there is no impact on the trade of foreign goods.

B) an impact on the ability to raise capital.

C) that Wall Street firms are so diversified that they are not affected by this event.

D) all of these options are true.

67) Which of the following is not a money market instrument?

A) Treasury bills B) Commercial paper C) Negotiable certificates of deposit D) Treasury bonds 68) The euro is A) established in all of the European countries.

B) a common currency with monetary policy controlled by the European Central Bank.

C) the most important international currency.

D) all of these options are true.

69) The formation of the European Monetary Union and its single currency Euro is expected to A) eliminate foreign currency risk between its member countries.

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B) create stock and bond prices denominated in euros.

C) have stock and bond indexes tracking a combined group of common stocks and bonds from the member countries.

D) all of these options are true.

70) During the next several years, the major threat to the dominance of the U.S. money and capital markets is expected to come from A) Russia's difficulty in transforming its economy into a capitalistic one.

B) Japan's prolonged recession and banking crisis.

C) the Eurozone countries comprising the European Monetary Union and a single currency.

D) the huge Chinese economy and its billion-plus people.

71) Global capital markets are influenced by A) interest rates.

B) investor confidence.

C) relative economic growth.

D) all of these options are true.

72) Companies list their stock around the globe to A) capitalize on the inefficiency inherent in foreign markets.

B) decrease liquidity for their stockholders.

C) take advantage of currency differences.

D) increase liquidity for their stockholders and provide opportunities for the sale of new stock in foreign countries.

73) Foreign investors have preferred to invest in the United States EXCEPT for which of the following reasons?

A) Less stringent regulation of securities markets.

B) The political stability of the U.S. government.

C) The U.S. dollar is the world's international currency.

D) All of these options are reasons that foreign investors prefer to invest in the United States.

74) With respect to the United States and its relationship with the rest of the world, it can be said that A) the U.S. has invested more dollars in the rest of the world than foreign countries have invested in the U.S. B) the U.S. has actively helped foreign countries finance their government deficits.

C) foreign investors hold large positions in U.S. government securities.

D) all of these options are true.

75) Financial instruments in the capital markets generally fall under which category in the balance sheet?

A) Short-term liabilities and equity B) Long-term liabilities and equity C) Near cash assets D) Retained earnings 206 Copyright © 2019 McGraw-Hill Education. All rights reserved.

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76) Corporations prefer bonds over preferred stock for financing their operations because A) preferred stocks require a dividend.

B) bond interest rates change with the economy, while stock dividends remain constant.

C) the after-tax cost of debt is less than the cost of preferred stock.

D) None of these options are true.

77) In general, when interest rates are expected to rise, financial managers A) try to lock in long-term financing at low cost.

B) balance the company's debt structure with more short-term debt and less long-term debt.

C) accept more risk.

D) rely more on internal sources of funds rather than external sources.

78) Federally sponsored credit agencies include all but which of the following?

A) Securities Investor Protection Corporation (SIPC) B) Federal Home Loan Banks (FHLB) C) Student Loan Marketing Association (Sallie Mae) D) Federal National Mortgage Association (Fannie Mae) 79) Which of the following is an internal source of funds?

A) Cash flow from depreciation (tax shield) B) Net loss C) Repurchase of debt securities D) Bank loan

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80) The major supplier of funds for investment in the whole economy is A) businesses.

B) households.

C) government.

D) financial institutions.

81) Financial intermediaries serve which of the following purposes?

A) They allow for indirect investment in the capital markets by households.

B) They aid in the flow of funds through the economy.

C) They help provide allocation of funds to the best investments.

D) All of these options are correct.

82) Which of the following is not an example of indirect investment by a household?

A) Investment in a mutual fund's shares B) Investment in an original offering of corporate securities C) Investment in life insurance D) A savings deposit in a commercial bank 83) Which of the following are benefits of financial intermediaries?

A) Increase market liquidity B) Provide a direct market for investors C) Act as agents of the government D) Increase market liquidity and provide a direct market for investors 84) The purpose of secondary trading is to A) provide liquidity and competition between investments.

B) provide a market to issue securities not handled in primary trading.

C) provide jobs for brokers and dealers.

D) provide lower commissions than on the organized exchanges.

85) The most important capital markets in the world (in terms of dollar value) are located in A) New York.

B) London.

C) Toronto.

D) Tokyo.

86) Which federally supported credit agency was established to trade student loan debt?

A) Fannie Mae B) Freddie Mac C) Farmer Mac D) Sallie Mae 87) Guidelines for insider trading require that: A) the investor never profit from the sale of securities.

B) the investor includes everyone but employees of the company.

C) the investor hold securities for at least six months.

D) all of the answers are correct.

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88) Middle- to small-sized companies that are centered in one city or state would most likely be found on the A) NASDAQ National Market.

B) NASDAQ Small Cap Market.

C) Supplemental list.

D) New York Stock Exchange.

89) The emergence of trading via ECNs has A) provided a unique advantage not offered by the NYSE. B) lowered the cost of trading.

C) made trading more difficult for insider traders.

D) all of these options are true.

90) Which characteristic is not true of electronic communication networks (ECNs)?

A) automatically match buy and sell orders at specific prices via computers.

B) have forced organized security exchanges to make significant changes in their operations and structures.

C) have increased the cost of trading.

D) none of these options are false.

91) Which of the following is NOT a criterion for an efficient market?

A) Prices adjust rapidly to new information.

B) Large dollar amounts of securities can be absorbed without price destabilization.

C) Each successive trade is made at a price close to the previous trade.

D) Computerized handling of transactions is necessary.

92) Security markets are efficient EXCEPT for when which of the following exists?

A) Security prices follow the leading indicators such as the DJIA very closely.

B) The markets absorb large dollar amounts of stock without destabilizing the price.

C) Prices adjust rapidly to new information.

D) There is a continuous market where each successive trade is made at a price close to the previous trade.

93) The efficient market hypothesis deals primarily with A) random speculation in securities.

B) the degree to which prices adjust to new information.

C) the degrees to which price movements are the result of past trends.

D) how an investor can significantly outperform the market in general.

94) The efficient market hypothesis has several forms. The weak form states that A) past price data is unrelated to future prices.

B) prices reflect all public information.

C) all information both public and private is immediately reflected in stock prices.

D) none of these options are true.

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95) Security markets provide liquidity A) by allowing corporations to raise funds by buying new issues.

B) by creating a market in which owners may easily turn an investment into cash through a purchase.

C) by allowing corporations to raise funds by selling new issues and by creating a market in which owners may easily turn an investment into cash through its sale.

D) none of these options are correct.

96) The "semi-strong" form of the efficient market hypothesis states that A) past price data is unrelated to future prices.

B) prices reflect all public information.

C) all information both public and private is immediately reflected in stock prices.

D) none of these options are correct.

97) The "strong" form of the efficient market hypothesis states that A) past price data is positively correlated to future prices.

B) prices reflect all public information.

C) all information both public and private is immediately reflected in stock prices.

D) none of these options are correct.

98) The Securities Act of 1933 is primarily concerned with A) original issues of securities.

B) secondary trading of securities.

C) the national securities markets.

D) protecting customers of bankrupt securities firms.

99) The Securities Act of 1933 did not A) require that all securities sold in more than one state be registered with the SEC. B) hold corporate officers liable for losses for those who were misled by false information in the prospectus.

C) set guidelines for insiders who trade in the securities of their own firm.

D) require a prospectus for all new issues of securities, which contains all information appearing in the registration statement.

100) Of the following efficient market hypotheses, researchers have stated that the ________ market is not efficient.

A) weak B) semi-strong C) strong D) weak and semi-strong 101) Markets in general are considered efficient when A) Prices adjust rapidly to new information B) There is a continuous market, in which each successive trade is made at a price close to the previous price.

C) The market can absorb large dollar amounts of securities without destabilizing the prices.

D) all of the above are true.

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102) The Securities Exchange Act of 1934 is primarily concerned with A) a central market system.

B) regulation of organized exchanges.

C) protecting customers of bankrupt securities firms.

D) original issues of securities.

103) Dark pools are considered: A) areas in the market that securities are considered worthless.

B) areas in the market where securities are traded and concealed from the public market.

C) areas in the market where an investor would generally not make any money.

D) trades that hedge fund, mutual fund, and insurance companies tend to stay away from.

Foundations of Financial Management, 17e (Block) Chapter 15 Investment Banking: Public and Private Placement 1) The investment banker is someone who buys large new issues of stocks and then sells them to the public after the stock price has risen.

2) The entire area of investment banking is becoming more competitive.

3) An investment banker acts as a middleman between a corporation needing funds and investors with funds.

4) Among several other roles, as a middleman, the investment banker is responsible for designing and packaging a security offering and selling it to the public.

5) The year 2008 will likely go down in history as one of the worst environments for companies wishing to go public.

6) Over 51 percent of the total revenue made through investment banking was generated by just 10 global banking firms.

7) When a new issue of bonds is sold, all the proceeds go to the owners of the company.

8) When the stock market is rising and high, companies hold off on the issue of new common stock.

9) The Glass-Steagall Act of the 1930s required U.S. banks to separate their commercial banking operations and their investment banking operations into two different entities.

10) The Glass-Steagall Act of the 1930s was created to separate U.S. bank's commercial and investment sections, which later because an advantage to the U.S. banks because foreign banks were affected by having them combined.

11) The Gramm-Leach-Bliley Act repealed the Bretton Woods Agreement.

12) Smaller investment banking houses may handle distributions for relatively unknown 211 Copyright © 2019 McGraw-Hill Education. All rights reserved.

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corporations on a "best-efforts" basis.

13) The term "underwriter" is synonymous with risk-taker or risk-bearer.

14) Large well-established investment bankers often distribute new issues on a best-efforts basis.

15) Only a small amount of security issues are sold on a "best-efforts" basis.

16) In today's market environment, most investment banking houses specialize in underwriting and do not engage in the dealer-broker function.

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17) The period of market stabilization usually lasts two or three days after the initial offering, but may extend up to 30 days for difficult-to-distribute securities.

18) The investment banking industry has shifted its emphasis from mergers and acquisitions to underwriting new securities.

19) The movement of non-brokerage firms into the brokerage area has forced traditional securities firms to expand their staffs.

20) Investment banking has changed from a very competitive, price-sensitive environment to one where relationships determine who gets the business.

21) Continued consolidation is not expected in the investment banking industry, as market share and global competition have stabilized.

22) "Best efforts" and "direct" methods account for a relatively small portion of investment banking roles.

23) Because there is more uncertainty involved in the initial market reaction to common stock, a larger "underwriting spread" often exists for stocks, compared to other types of offerings.

24) The investment banking industry has shifted its activities to underwriting new securities, rather than advising on mergers and acquisitions.

25) The underwriting spread is the guaranteed minimum profit to an investment bank for each share distributed.

26) An underwriting syndicate is a group of investment bankers who help to distribute a new issue for a company.

27) One purpose of an underwriting syndicate is to distribute securities to the public.

28) The out-of-pocket cost to issue new common stock is always paid by the investment banker.

29) The issuing company desires to have as little underpricing of new securities as possible.

30) An underpriced offering represents a permanent lost opportunity to the issuing firm.

31) Underpricing is when an investment banker sets the stock price above the market price to ensure that a profit is made.

32) The goal of underpricing is to ensure that a large amount of shares of stock is sold.

33) When stock is exchanged in the NYSE that is considered secondary offerings, while when stock is exchanged during an initial public offering that is considered primary offerings.

34) When a firm issues new stock, it always results in a dilution of earnings in the long run.

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35) When a firm issues new stock, it can result in a dilution of earnings in the short run.

36) IPOs generally underperform compared to the general market in the immediate aftermarket.

37) In 2011, IPOs rose tremendously since the market started to pick up.

38) The term "underpricing" describes the process of setting the spread between the participants of the investment banking syndicate.

39) When a company goes public, an initial public offering must occur to sell the ownership of the company to the public.

40) Investment bankers can help a firm undertake a secondary offering when the company is too small for a primary offering IPO. 41) While manipulation of security prices is normally illegal, the SEC allows underwriters to temporarily support the price of stocks that they have brought to market.

42) After an IPO has been issued and the price of the stock drops tremendously, the investment banker is to blame since they probably miscalculated the original stock price.

43) Shelf registration has nearly eliminated competition in the investment banking industry.

44) Only the stronger investment bankers are in a position to benefit from the shelf registration process.

45) The SEC Rule 415 allows an issuing corporation to quickly take advantage of market conditions.

46) Shelf registration requires the firm to file one comprehensive registration statement, which outlines the company's indefinite financial plan.

47) Shelf registration has helped larger investment banking firms become larger, while smaller investment banking firms are left behind.

48) Shelf registration is most frequently used with new issues of common stock.

49) Shelf registration primarily gives large, strong companies flexibility in the timing of debt or equity issues.

50) When a company first goes public, a registration statement must be filed with the New York Stock Exchange.

51) Generally, the larger the dollar value of an issue, the smaller is the spread as a percentage of the offering price.

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52) Google's IPO was controversial because Google used a Dutch investment banking firm to underwrite the IPO. 53) Private placement eliminates the expensive and lengthy registration process with the Securities and Exchange Commission.

54) Even though the firm may pay a lower interest rate on a private placement, it will pay higher out-of-pocket costs than a public offering.

55) Privately placed bonds are the most popular method of raising long-term corporate debt.

56) Investment banks are hesitant to issue bonds when they perceive the interest rate to be low.

57) Leveraged buy-outs usually entail the use of a large proportion of debt to take control of the firm.

58) A major trend of privatization in foreign markets began after 1984.

59) Privatization may have different meanings when used in the U.S. compared to foreign markets.

60) Privatization in many foreign markets means selling companies to the public that were previously owned by the state or government.

61) A branch of investment banking that has been very opportunistic in recent years has been the increase in sales of foreign securities of companies formerly owned by the government.

62) The primary rationale for repealing the Glass-Steagall Act was that the U.S. Congress recognized the international competitive disadvantage for US commercial and investment banks.

63) The "best efforts" method of underwriting is the most common method used in issuances.

64) If the retail price of a stock issuance is $17.50 and the issuers' price is $15.50, the total spread is 11.4%.

65) If the retail price of a stock issuance is $17.50 and the syndicate members' price is $15.50, the total spread is 11.4%.

66) A lower equity spread usually means that there is a lower amount of uncertainty in equity compared to other types of capital.

67) Generally, the larger amount of shares issued means that the spread percentage would be lower.

68) Because of their lower levels of risk to the underwriter, smaller issuances have lower spread percentages than large issuances.

69) Investment banking is highly concentrated with the top 10 underwriters controlling 90% of the 215 Copyright © 2019 McGraw-Hill Education. All rights reserved.

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global market for stocks and bonds.

70) Stock prices for Amazon and eBay managed to avoid the turbulent price movements that followed the collapse of the Internet bubble.

71) Which of the following is not a key role of an investment banker?

A) Market-maker B) Underwriter C) Acting as a transfer agent D) Agent in private placement 72) The investment banker's function involves all of the following EXCEPT A) Taking a portion of the risk in the distribution of an issue.

B) Always ensuring a company that a given amount of equity can be sold so that long-range financial planning can be made accurately.

C) Making a market by buying and selling a security to ensure a liquid market.

D) Contracting to buy securities from the corporation and resell them to other security dealers and the public.

73) The investment banker may advise clients on a continuing basis about A) the types of securities being sold.

B) the number of shares for distribution.

C) the timing of the sale.

D) all of these options are correct.

74) Which investment bank underwrote the most bonds in 2013 and 2014?

A) Merrill Lynch B) J.P. Morgan C) Deutsche Bank D) Citigroup 75) The Glass-Steagall Act prohibited A) retail brokerage firms from having investment banking operations.

B) commercial banks from combining investment banking and commercial banking functions.

C) investment banks from selling both debt and equity securities.

D) insurance companies from selling investment products.

76) Investment banking is changing dramatically into an industry where A) investment bankers are using larger syndicates to distribute initial public offerings.

B) investment bankers are becoming increasingly larger so that they can take on more risk and have less need for large syndicates.

C) investment bankers don't need a distribution network because most new issues are sold directly to institutional investors.

D) new investment banking firms are being established to deal with the increasing number of companies looking for capital.

77) When investment bankers act in the function of "underwriters," they 216 Copyright © 2019 McGraw-Hill Education. All rights reserved.

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A) give a "firm commitment" to purchase the securities from the corporation at a set price.

B) guarantee that the company will not suffer a decline in earnings after taxes.

C) are allowed to sell as many securities as possible and return the rest unsold.

D) are allowed to give advice to the company's management.

78) The risk function of investment banking is categorized mainly under A) underwriting function.

B) market-maker function.

C) advisor function.

D) agent function.

79) In issuing stock, the term "spread" refers to A) the profit the managing investment banker gets for an issue of stock.

B) the disparity between the initial asking price and the average price for the stock issued some months later.

C) the difference between what the corporation gets for new issues of stock and what the public pays for the stock.

D) the total cost to the corporation for issuing new stock.

80) The managing investment banker is typically responsible for A) putting a syndicate together to aid in the distribution and share the underwriting risk.

B) determining the value (price) of the company.

C) stabilizing the offering during the distribution period.

D) all of these options are the responsibility of the investment banker.

81) An investment banker most commonly makes money from A) commissions from buyers.

B) fees from other investment bankers in the syndicate.

C) the spread between the issue price and proceeds to the issuer.

D) artificially supporting the stock price during and after the offering.

82) Which of the following activities is not a service provided by investment bankers?

A) Underwriting initial public offerings B) Raising capital via mutual fund offerings C) Advising in mergers D) Advising on restructurings 83) Raybac is about to go public. Its present stockholders own 500,000 shares. The new public issue will represent 700,000 shares. The shares will be priced at $25 to the public with a 5% spread. The out-of-pocket costs in addition to the spread will be $450,000. What are the net proceeds to Raybac?

A) $17,500,000 B) $17,050,000 C) $17,075,000 D) $16,175,000 84) Raybac is about to go public. Its present stockholders own 500,000 shares. The new public 217 Copyright © 2019 McGraw-Hill Education. All rights reserved.

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issue will represent 700,000 shares. The shares will be priced at $25 to the public with a 5% spread. The out-of-pocket costs in addition to the spread will be $450,000. What are the total per-share underwriting fees to the investment banker?

A) $1.50 B) $23.50 C) $1.25 D) $1.89 85) In a public distribution, the dealer group will generally pay a A) higher price for the stock than the public.

B) lower price for the stock than the managing investment banker.

C) higher price for the stock than the managing investment banker.

D) lower price for the stock than members of the investment banking syndicate group.

86) When a firm sells a new issue through an investment banker, the costs incurred A) are the "give up" expense of the spread, plus the legal and accounting fees, printing expense, and other small fees.

B) are the spread to the underwriter, which includes all the costs of legal and accounting fees, printing expense, and other small fees.

C) are dependent upon the number of underwriters in the syndicate.

D) are the "give up" expense of the spread, plus the legal and accounting fees, printing expense, and other small fees, and are dependent upon the number of underwriters in the syndicate.

87) Generally, the total cost to issue securities (as a percent of total proceeds) A) is greater for common stock than for debt and increases as the size of the issue increases.

B) is greater for debt than for common stock and decreases as the size of the issue increases.

C) is greater for debt than for common stock and increases as the size of the issue increases.

D) is greater for common stock than for debt and decreases as the size of the issue increases.

88) Dilution of earnings occurs because A) a new issue of common stock creates more shares outstanding, which often reduces earnings per share temporarily.

B) the company suffers a decline in earnings after taxes.

C) the investment banker collects an underwriting fee.

D) all of these options are correct.

89) Market stabilization A) is the action by the managing investment banker to keep the price of newly issued securities from falling below the issue price to the public.

B) usually lasts 2 to 3 days, but can last up to 30 days if a security is difficult to distribute.

C) cannot always maintain high initial prices—a case in point being the Facebook issue, sold in May of 2012.

D) all of these options are true.

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90) Underpricing occurs A) when additional shares are to be issued for companies with securities already publicly traded.

B) to aid in the market's reception of the securities.

C) in large secondary offerings.

D) all of these options are true.

91) Maxwell Corp. is coming to the market with a new offering of 450,000 shares of stock at $22 to the public. Maxwell will receive $19 per share. The firm has one million shares outstanding and earnings of $6 million before recording the new issue. What is the amount of dilution in earnings per share?

A) $1.86 B) $1.38 C) $1.77 D) $6.00 92) Maxwell Corp. is coming to the market with a new offering of 450,000 shares of stock at $22 to the public. Maxwell will receive $19 per share. The firm has one million shares outstanding and earnings of $6 million before recording the new issue. What is the amount of earnings per share after the stock issuance?

A) $2.79 B) $1.38 C) $4.14 D) $6.00 93) Maxwell Corp. is coming to the market with a new offering of 450,000 shares of stock at $22 to the public. Maxwell will receive $19 per share. The firm has one million shares outstanding and earnings of $6 million before recording the new issue. What is the spread in dollars?

A) $19 B) $22 C) $3 D) $41 94) Firm X needs to net $12,800,000 from the sale of common stock. Its investment banker has informed the firm that the retail price will be $22 per share, and that Firm X will receive $18.50 per share. Out-of-pocket costs are $250,000. How many shares must be sold to achieve the desired net to the issuing firm? (Round up answer to nearest whole number) A) 581,526 B) 654,545 C) 659,091 D) 705,406

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95) Newdex has net income of $3,000,000 (INCLUDING the effect of expected out-of-pocket costs) and 1,000,000 shares outstanding. It needs to raise $5,000,000 in funds for a new asset. Its investment banker plans to sell an issue of common stock to the public for $40, less a spread of 10%. How much must Newdex's after-tax income increase by to prevent dilution of earnings per share?

A) $40,000 B) $416,667 C) $350,000 D) $375,000 96) Newdex has net income of $3,000,000 (INCLUDING the effect of expected out-of-pocket costs) and 1,000,000 shares outstanding. It needs to raise $5,000,000 in funds for a new asset. Its investment banker plans to sell an issue of common stock to the public for $40, less a spread of 10%. How much must Newdex's after-tax income be to prevent dilution of earnings per share?

A) $3,040,000 B) $3,416,667 C) $3,350,000 D) $3,375,000 97) The market stabilization function usually A) is performed by the issuing company.

B) lasts six to nine months.

C) provides price support for the stock during the distribution period.

D) is illegal.

98) In countries where stocks are publicly traded, IPOs are underpriced A) in very few countries.

B) in less than half the countries.

C) in every country.

D) none of these options are true.

99) IPOs in some countries other than the U.S. mean that A) stocks, which are currently owned by the government, are sold to the public.

B) stocks, which are currently owned by the state, are sold to the public.

C) stocks, which are currently owned by private owners, are sold to the public.

D) all of these options are true.

100) Shelf registration A) allows firms to file with the SEC 20 days before the issue date.

B) is advantageous primarily to smaller investment banking firms.

C) allows firms to issue securities faster when market conditions are more favorable.

D) more than one of the options are true.

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101) Under SEC Rule 415, shelf registration A) requires that companies registering securities, file a detailed statement for ongoing SEC review and approval.

B) has been used more frequently for equity than debt issues.

C) has allowed smaller investment bankers to compete for more business.

D) allows a corporation to issue securities when market conditions are more advantageous than current conditions.

102) Which of the following is not true about SEC Rule 415?

A) It permits companies to file one comprehensive registration statement, which outlines the firm's plans for future long-term financing.

B) It allows firms to issue securities when market conditions are appropriate, without further SEC approval.

C) It is consistent with the traditional requirements of the SEC. D) All of these options are true.

103) Shelf registration has been most frequently used with A) common stock.

B) preferred stock.

C) debt.

D) commercial paper.

104) Which of the following is considered an advantage (for the issuing corporation) of going public?

A) The president becomes more of a "public relations person" B) Ownership is more controlled by the company C) Increased liquidity for the corporation's shareholders D) Increasing the amount of shares authorized to sell 105) All of the following are advantages of going public EXCEPT A) More funds are available to publicly traded firms.

B) The fact that a company is public helps in bank negotiations and marketing.

C) Publicly traded stocks afford the stockholders more liquidity.

D) The firm must disseminate more information to the public on corporate affairs.

106) Which of the following is an advantage of going public?

A) The firm can more easily become active in mergers and acquisitions.

B) The company is owned by many entities/individuals, making it more diverse.

C) An erosion in value may take place after the initial offering.

D) There is low cost with going public.

107) Publicly traded companies generally have A) more pressure for short-term performance.

B) less pressure for short-term performance.

C) very strong stock market performance.

D) low distribution costs in selling securities.

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108) Which of the following characteristics are not an advantage of being a publicly traded company?

A) Tapping into the security markets for a greater amount of funds.

B) Prestige is helpful in bank negotiations, executive recruitment and the marketing of products.

C) Allows the firm to play the merger game, using marketable securities for the purchase of other firms.

D) Compliance costs because of various public disclosure requirements.

109) Which of the following characteristics is not a disadvantage of being a publicly traded company?

A) Compliance costs because of various public disclosure requirements.

B) Prestige is helpful in bank negotiations, executive recruitment and the marketing of products.

C) Company must make all information available to the public through SEC and State filings.

D) Tremendous pressure for short-term performance placed on the firm by analysts and large institutional investors.

110) Which of the following statements about Hambrecht's Open IPO auctions is false?

A) The auctions are built on the principles of Dutch tulip auctions.

B) Auctions give small investors a chance to participate in IPOs. C) Google Inc. and Morningstar Inc. have utilized the auction format in recent years.

D) Auctions are popular with institutional investors.

111) Which of the following is not an advantage of private placement?

A) No expensive registration process B) Typically lower interest rates C) More flexibility in negotiation D) No extensive public relations requirements 112) Which of the following are advantages of being privately placed?

A) Lower costs B) Basic registration with the SEC C) More investors available to purchase shares D) Two of the options are correct 113) Private placement of corporate bonds A) has increased in use as new bond issues increased.

B) exceed 70% of all long-term corporate debt outstanding.

C) are more expensive to issue than publicly placed bonds.

D) have lower interest rates than mortgage-backed securities.

114) Which of the following is an advantage to private bond placement over public offerings?

A) Higher interest costs B) Greater flexibility in negotiating terms C) Higher SEC registration fees D) Lower interest costs

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115) Which of the following is a characteristic of leveraged buyouts?

A) Buyouts are usually financed by debt.

B) Some corporate assets are often sold after the buy-out is completed.

C) Funds for the buy-out are raised through securities markets.

D) all the options are characteristics of a leveraged buyout.

116) ________ occurs when a company is broken up into smaller divisions and sold for a profit.

A) Liquidation B) Internal reorganization C) Chapter 11 D) Restructuring 117) A company's value based on the assumption that its divisions would be sold individually is called its ________ value.

A) book B) market C) break up D) real 118) Which of the following is not a recent trend in investment banking?

A) Consolidation of capital among a few investment bankers B) Specialization of investment banking C) The use of shelf registration by smaller investment bankers D) The movement of non-brokerage firms into the brokerage area 119) Which of the following statements about secondary offerings is FALSE? A) Secondary offerings may occur when holders of large blocks of stock wish to sell too many shares for normal channels to handle.

B) Secondary offerings occur after an IPO. C) Secondary offerings occur when an investment banker underwrites the sale of stock for existing stockholders, rather than for the company.

D) There is a trend away from the use of secondary offerings.

120) Dilution is A) the short-term impact of a new issuance upon earnings per share.

B) the result of underwriting expenses.

C) generally acceptable by corporations and investors since it should be overcome with time.

D) two of the options are true.

121) In order to avoid long-term dilution, a corporation should determine whether the necessary additional earnings from the issue are realistic relative to their historic A) profit margin.

B) times interest earned.

C) total asset turnover.

D) return on assets.

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122) Which of the following is NOT a characteristic of market stabilization?

A) It may last up to 30 days.

B) It may be difficult to achieve.

C) It is often illegal.

D) It can protect the underwriting syndicate as well as investors.

123) Which of the following is NOT true about IPOs? A) They are good deals for investors who buy them at a public offering and then sell them quickly afterward.

B) They are very popular among companies because of the easy assess to money.

C) They are initially underpriced in every country where stocks are publicly traded.

D) They usually result in dilution of earnings per share.

Foundations of Financial Management, 17e (Block) Chapter 16 Long-Term Debt and Lease Financing 1) Although the times interest earned ratio of many corporations went down tremendously during the 2007-2008 financial crisis, the ratio has been increasing steadily mainly because companies took advantage of the recent low interest rates.

2) One of several reasons that companies might choose to issue bonds is to shift their capital structure from more equity ownership to more debt borrowing.

3) Homebuilding companies, like D.R. Horton Inc., realized significant losses in 2008-2009, but have realized gains since then.

4) Par value and face value on a bond generally are the same.

5) A bond indenture is a bond with no specific collateral securing it.

6) When a company defaults on a secured debt, it is rare for the secured asset to be sold and the proceeds distributed to the debtor.

7) Debentures are commonly issued by small companies.

8) When a company is obligated contractually to pay interest on debt, it must pay the interest even if it shows no profit for the year, or else it may go bankrupt.

9) Bonds may be recalled only if there is a specific call provision in the bond.

10) The fact that interest payments on debt are fixed is both an advantage and a drawback to both parties involved.

11) An after-acquired property clause means that any new property acquired is placed under the original mortgage claim.

12) If a corporation offers greater protection to a given class of bondholders, it must raise the 224 Copyright © 2019 McGraw-Hill Education. All rights reserved.

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interest rate on its bonds to make them more attractive to investors.

13) Because of the legal problems associated with specific asset claims in a secured bond offering, the trend is for companies to issue more debentures.

14) During a default situation, a bondholder is better off with a secured loan because debenture bonds don't give the bondholder any protection.

15) The call feature is usually advantageous to the bondholder.

16) The call premium tends to increase with the passage of time.

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17) Under a sinking fund provision, money is set aside every year until the bond matures, and the money is used to purchase bonds from willing sellers.

18) A bondholder is one that buys the bond, while the bond issuer is the one that sells the bond.

19) In the U.S., bond issuers can be either corporations or the government.

20) Long-term bond prices are more volatile than short-term bond prices, given an equal percentage change in the interest rate.

21) The maturity date is the final date on which repayment of the bond interest is due.

22) The coupon rate is the actual interest rate on the bond and is usually payable in semiannual installments.

23) The value of bonds will move in the opposite direction from the market interest rates.

24) If an investor expect interest rates to go up, the investor should buy a long-term bond now.

25) If an investor expect interest rates to go up, the investor should sell a long-term bond now.

26) The "yield to maturity" is the internal rate of return on a bond.

27) The coupon rate is the actual interest that the seller pays, which may not equal the amount that the seller incurs for an expense.

28) During economic upswings, spreads between bonds of different ratings tend to widen.

29) When interest rates rise, bond refunding becomes quite popular.

30) As interest rates decline, bond refunding should become more common.

31) Refunding a bond occurs when the company sells more bonds of the same series with maturity and a coupon equal to the bonds sold earlier.

32) A bond can only be easily refunded if it has a call feature.

33) The costs of bond refunding are the call premium and the underwriting costs on the old and new bond issue.

34) The payment of a call premium may generally be taken as an immediate tax write-off.

35) The costs of bond refunding are the call premium and the underwriting cost on the new bond issue.

36) The weighted average cost of capital is generally used as the discount rate in a bond-refunding decision.

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37) Zero-coupon bonds are sold at a deep discount primarily because investors are not interested in owning them.

38) Zero-coupon bonds are more risky then other bonds because there is no interest payments involved during the life of the bond.

39) The prices of zero-coupon bonds tend to react violently to large swings in interest rates.

40) Zero-coupon bonds are sold at face value because no interest is paid.

41) The difference between the initial bond price and the maturity value is amortized for tax purposes over the life of a zero-coupon bond.

42) An advantage of the zero coupon bond is that there is no coupon, so the yield to maturity is locked in for the life of the bond.

43) The disadvantage of a zero-coupon bond to an investor is that the annual increase in the bond is taxable as ordinary income and no annual cash payments are received to pay for the tax charges.

44) The primary advantage of investing in floating rate bonds is that the bonds will maintain a more stable market value within a reasonable limit.

45) The initial floating rate bond price is inversely related to changes in interest rates.

46) A floating rate bond has a reasonably stable price, but actual interest payments received change often over the life of the bond.

47) A Eurobond is a bond payable in the borrower's currency but sold outside the borrower's country.

48) In an inflationary economy, debt is adjusted for inflation and must be paid back with "more expensive dollars."

49) A capital (or "financing") lease usually calls for an annual expense deduction equal to the lease payment.

50) Lease obligations, whether capital or operating, currently appear only in the footnotes of U.S. corporate financial statements.

51) Under a sinking fund arrangement, semiannual or annual contributions are made by the corporation into a fund administered by a trustee for purposes of debt retirement.

52) Bonds with serial payment provisions are paid off in installments over the life of the issue.

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53) The lessee is the one making the rental payments, while the lessor is the one receiving the rental payments.

54) In an operating lease situation, the lessee shows the asset and the debt on its financial statements.

55) Leasing land through an operating lease provides a tax advantage to the lessee in that lease payments are tax-deductible, while there is no deduction for the landowner.

56) The essence of the treatment of long-term, non-cancelable capital leases is the same as if the company had borrowed the money and bought the asset.

57) The inclusion of leases on the balance sheet as an asset and liability has lowered firm's debt-to-equity ratio.

58) An operating lease is generally a long-term, non-cancelable obligation.

59) A capital lease has many of the characteristics of a long-term debt obligation.

60) Bond refunding is generally advantageous to the investor because the investor gets a higher future interest rate.

61) Many companies try to maintain investment grade status due to the significant yield differential when rated with a junk-bond status.

62) Bond ratings start with Aaa and end with C or Aaa1 and end with C3.

63) A low bond rating during a bad economic time means that the company will have to issue new bonds at a higher rate.

64) Yield spreads between investment grade and junk bond ratings are usually greater during economic boom periods.

65) A challenge for multinational corporations is trying to get the right financing for certain operating activity expectations.

66) The coupon rate of the bond varies indirectly with changes in market interest rates.

67) Senior debentures usually provide lower interest rates than junior secured debt.

68) Bonds provide stable pricing because they offer a fixed coupon rate and maturity date unlike stocks.

69) When making a decision to refund, outflows in the form of financing costs related to redeeming and reissuing securities and inflows represented by savings in annual interest costs and tax savings are involved.

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70) The greater use of debt by corporations since the late 1970s is best shown by the A) declining "times interest covered" ratio.

B) small amount of common stock sold.

C) rising cost of interest.

D) inability of earnings to keep up with inflation.

71) The main cause for the increase in corporate debt in America is A) rapid business expansion.

B) inflationary impacts.

C) drop in interest rates.

D) all of these options are true.

72) The term debenture refers to A) long-term, secured debt.

B) long-term, unsecured debt.

C) the after-acquired property clause.

D) a document covering the specific terms of the offering.

73) The document that outlines the covenants and duties existing between bondholders and the issuing corporation is called A) an indenture.

B) a debenture.

C) secured debt.

D) protective covenants.

74) Which of the following bonds offers the most security to the bondholder?

A) Junior mortgage bonds B) Senior mortgage bonds C) Debenture bonds D) Income bonds 75) An indenture is A) the section of a corporation's bylaws pertaining to bond issues.

B) the summary of the essential features of a stock issue.

C) the contract between a corporation and a trustee acting for bondholders.

D) the underwriting contract.

76) A debenture represents A) debt not secured by a specific asset.

B) secured debt.

C) a long document covering every detail of a bond issue.

D) debt that is subordinate to preferred stock.

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77) Which of the following is the lowest in priority of claims against a bankrupt firm?

A) An unsecured bond B) A senior debenture C) Common stock D) Federal taxes 78) Many bonds have some orderly, preplanned, alternative system of repayment. Which of the following apply?

A) Sinking funds B) Serial bonds C) Income bonds D) Sinking funds and serial bonds 79) A serial bond repayment plan involves a(n) A) lump-sum payment at maturity.

B) conversion of debt to common stock.

C) early redemption of all debt.

D) series of installments to retire the debt over the life of the issue.

80) Which of the following best represents the hierarchy of creditor and stockholder claims?

A) Common stock, senior secured debt, subordinated debentures B) Senior debentures, subordinated debentures, junior secured debt C) Senior secured debt, subordinated debentures, common stock D) Preferred stock, secured debt, debentures 81) A "subordinated debenture" A) must be transferred with the bond to which it is attached.

B) is used mainly by railroad companies and usually specifies equipment as collateral.

C) entitles the bondholder to purchase shares of common stock at a specific price.

D) is an unsecured bond with an inferior claim on assets in the event of liquidation.

82) Which of the following properly represents the hierarchy of creditor and stockholder claims?

A) Common stock, senior secured debt, subordinated debentures B) Preferred stock, common stock, subordinated debentures C) Debentures, preferred stock, common stock D) State taxes, preferred stockholders, wages due to workers 83) A call provision, which allows the corporation to force an early maturity on a bond issue, usually contains all but which of the following characteristics?

A) Most bonds must be outstanding at least five years before being called.

B) After the call date, the call premium tends to decline over time.

C) The provision typically calls for debt conversion into common stock.

D) The corporation will pay a premium over par for the bonds.

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84) A bond with a call provision would generally be sold to yield A) less than a noncallable bond of similar character.

B) the same as a similar noncallable bond.

C) more than a noncallable bond of similar character.

D) the same as similar convertible bonds.

85) A call feature allows A) the bondholder to redeem the bond before the maturity date.

B) the corporation to redeem the bond before the maturity date.

C) the corporation to convert the bond to common stock.

D) the bondholder to demand increased collateral.

86) The "call" provision on some bonds allows A) the bondholder to redeem the bond earlier than maturity, but usually involves a call premium.

B) the corporation to request additional capital contributions from the bondholder.

C) the corporation to redeem the bonds earlier than maturity but usually for a premium over the par value.

D) the bondholder to convert the bond into preferred stock.

87) Buchanan Corp. is refunding $10 million worth of 10% debt. The new bonds will be issued for 8%. The corporation's tax rate is 35%. The call premium is 9%. What is the net cost of the call premium after taxes?

A) $390,000 B) $1,080,000 C) $585,000 D) $702,000 88) A conversion feature allows A) the bondholder to redeem the bond before the maturity date.

B) the corporation to convert the bond to other debt.

C) the bondholder to convert the bond to common stock.

D) the bondholder to demand increased collateral.

89) The dollar interest received divided by the market price of the bond is called the A) par value.

B) coupon rate.

C) current yield.

D) yield to maturity.

90) The true measure of the return on a bond is its A) par value.

B) coupon rate.

C) current yield.

D) yield to maturity.

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91) Prices of existing bonds move ________ as market interest rates move ________.

A) up; up B) up; down C) Bond prices don't move as market interest rates move.

D) Only new bond prices move with the market interest rate.

92) Which of the following is not a form of yield on a bond?

A) Coupon rate (nominal yield) B) Current yield C) Dividend yield D) Yield to maturity 93) With regard to interest rates and bond prices, it can be said that A) a 1% change in interest rates will cause a greater change in long-term bond prices than short-term prices.

B) a 1% change in interest rates will cause a greater change in short-term bond prices than long-term prices.

C) long-term rates are more volatile than short-term rates.

D) a decrease in interest rates will cause bond prices to fall.

94) A bond with a coupon rate of 6.5% (assume it is paid once annually), maturing in 10 years at a value of $1,000 and a current market price of $695, will have a current yield of A) 11.3%.

B) 10.2%.

C) 9.4%.

D) 8.5%.

95) Short-term bond yields are generally ________ than long-term bond yields, whereas long-term bond prices are generally ________ than short-term bond prices.

A) more volatile, less volatile B) less volatile, more volatile C) less volatile, less volatile D) more volatile, more volatile 96) Which company is a leader in rating bonds?

A) Goldman Sachs B) Bloomberg C) ValueLine D) Moody's Investor Service 97) The higher the bond rating, A) the higher the interest rate on a bond.

B) the lower the interest rate on a bond.

C) the higher the call premium.

D) the lower the call premium.

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98) A bond with an annual coupon rate of 6.5%, maturing in 10 years at a value of $1,000 and a current market price of $899.35, will have a yield to maturity (using the approximation formula) of A) between 5% and 6%.

B) between 6% and 7.5%.

C) between 7.5% and 8.5%.

D) between 8.5% and 10%.

99) Solow Corp. has a bond with annual interest payments of $109 maturing in 10 years at a value of $1,000 per bond. The current market price is $960. What will the nominal yield be?

A) 9.1% B) 12.5% C) 11.6% D) 10.9% 100) Allais Company's bond has an $85 annual interest payment that will mature in 10 years at a value of $1,000. The bond has a current market price of $1,140. What is the nominal yield of the bond?

A) 6.5% B) 12.4% C) 8.5% D) 10% 101) Investors consider which of the following to be the most important measure of bond returns?

A) The coupon rate B) The yield to maturity C) The current yield D) None of these options 102) Which of the following does a bond's rating NOT depend on?

A) The corporation's debt-to-equity ratio B) The corporation's size C) The ability of the firm to make interest payments D) The coupon rate on the bond 103) An Aa2 bond is rated lower than a ________ bond.

A) Aa1 B) Aa3 C) A1 D) A2

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104) If investors are enthusiastic about the future, the spread between yields on high-grade and low-grade bonds A) increases.

B) stays the same.

C) decreases.

D) None of these options are true.

105) Bond refunding typically occurs when A) interest rates in the market are sufficiently less than the coupon rate on the old bond.

B) interest rates in the market have risen above the coupon rates on the old bond.

C) the price of the old bond is less than par.

D) a related sinking fund has accumulated enough money to retire the bond issue.

106) A corporation's underwriting cost on a newly issued bond A) is an immediate outflow and immediate tax write-off.

B) is an immediate tax write-off with a deferred outflow.

C) is a deferred outflow and deferred tax write-off.

D) is an immediate outflow and deferred tax write-off.

107) The higher the tax rate, the ________ the net underwriting cost on the new bond issue, from a cash flow point of view.

A) higher B) lower C) higher or lower D) substantially higher 108) Which of the following represents an inflow in a bond refunding decision?

A) The call premium B) The write-off of underwriting cost C) The cost savings from lower interest rates D) Two of the options are correct 109) Which of the following does not represent a tax implication in the bond refunding decision?

A) The call premium.

B) The cost savings in lower interest rates.

C) Underwriting costs of a new issue.

D) All of these options have tax implications.

110) What discount rate is used in the net present value of the refunding decision?

A) The before-tax cost of the new debt B) The after-tax cost of new debt C) The weighted average cost of capital D) The after-tax cost of total firm capital

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111) Which of the following is not a characteristic of a zero-coupon bond?

A) It doesn't pay interest during the life of the bond.

B) It is sold at a deep discount from face value.

C) The bond's price does not change during the life of the bond.

D) It provides a means for corporations to take annual deductions without cash being exchanged.

112) From the corporate issuer viewpoint, a zero-coupon bond allows the firm to A) receive deferred income for tax purposes.

B) reduce the multiplier of the initial investment.

C) defer payment obligations.

D) take advantage of low volatility.

113) Zero-coupon bonds A) provide no annual interest payments.

B) have highly stable prices even with changing interest rates.

C) provide an investor with tax-free income until maturity.

D) Two of the options are correct.

114) Floating rate bonds A) have interest payments based on some overall market rate.

B) have a better capacity for constant market value.

C) usually have very broad limits that interest payments cannot exceed.

D) All of these options are correct.

115) Which of the following is an advantage of floating rate bonds to investors?

A) They allow for locking in a multiplier of the initial investment.

B) Their prices tend to be highly stable regardless of interest rate changes.

C) They are sold at a deep discount.

D) All of these options are correct.

116) From an investors' point of view, when is the best time to own a floating rate bond?

A) When the bond sells for a discount.

B) When interest rates are expected to fall.

C) When interest rates are expected to rise.

D) Any time, the interest rate fluctuations don't affect the floating rate bond.

117) In general, how often are floating rate bonds adjusted to meet the market conditions?

A) Daily B) Weekly C) Monthly or Quarterly D) Annually

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118) The Haavelmo Widget Corporation (lessee) has just signed a 60-month lease on an asset with a six-year life. The lessor will retain the title to the property at the end of the lease, and the present value of the minimum lease payments is $470,000. The estimated fair value of the property is $600,000. Is this an operating lease?

A) No B) Yes C) Yes, if the company elects to treat the lease as an operating lease D) More information is required to determine an answer.

119) Floating rate bonds are most likely to be popular with investors when it is anticipated that A) interest rates will stay the same.

B) interest rates will go up.

C) interest rates will go down.

D) short-term interest rates will be higher than long-term interest rates.

120) A Eurobond is a A) bond payable in the investor's currency but sold outside the borrower's country.

B) bond payable in the investor's currency but sold inside the borrower's country.

C) bond payable in the borrower's currency and sold inside the borrower's country.

D) bond payable in the borrower's currency but sold outside the borrower's country.

121) Disclosure requirements for a Eurobond are ________ demanding than those of the Securities and Exchange Commission or other domestic regulatory agencies.

A) more B) less C) the same D) More information is needed to determine an answer.

122) The disadvantages of debt to the corporation include all but which of the following?

A) Debt may have to be paid back with "cheaper" dollars because of inflation.

B) Interest and principal payments must be met regardless of performance results.

C) Indenture agreements may place burdensome restrictions on the firm.

D) Too much debt may depress the firm's stock price.

123) Which of the following is not a financial advantage to companies using debt?

A) Debt is paid back in "cheaper" dollars during inflationary periods.

B) Bond holders have no control over the actions of management.

C) The cost of debt can lower the weighted overall cost of capital.

D) Interest payments are tax deductible.

124) Leasing is a popular form of financing because A) lease provisions are generally less restrictive than a bond indenture.

B) the lessor likely has experience with the equipment being leased.

C) the lessee may not be financially able to purchase.

D) all of these options are true.

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125) Which of the following are advantages of leasing?

A) A lease obligation may be substantially less restrictive than the provisions of a bond indenture.

B) There may be no down payment requirement as in a purchase.

C) The negative effects of obsolescence may be eliminated.

D) All of these options are advantages.

126) Which one of these conditions qualifies a lease as a "finance lease?"

A) The lease contains a bargain purchase price at the end of the lease.

B) The lease must have a value of at least $10 million.

C) The present value of the minimum lease payments is at least 75% of the fair value of the asset.

D) All of these options are correct.

127) An operating lease A) has a lease term equal to 75% or more of the estimated property.

B) is usually short-term and is often cancelable at the option of the lessee.

C) must appear on the balance sheet.

D) none of these options are correct.

128) Long-term financing leases currently A) appear both on the balance sheet and in the footnotes to the annual report.

B) appear only in the footnotes to the annual report.

C) appear on the company's statement of retained earnings.

D) do not appear on any financial statements.

129) Bond ratings are significantly based on all of the following EXCEPT A) The times interest earned ratio B) The debt-to-equity ratio C) The current ratio D) The return on assets 130) An advantage to the corporation of issuing zero coupon bonds is A) lower interest rates than conventional bonds.

B) cash inflow with lower cash outflow than conventional bonds.

C) tax benefits due to amortization.

D) none of these options are advantages.

131) An investor would consider investing in a zero coupon bond because of the A) tax benefits of amortization.

B) lower volatility.

C) ability to lock in a multiplier of the initial investment.

D) none of these options are reasons to invest in zero coupons.

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132) Floating rate bonds provide which one of the following advantages?

A) A lower risk for the issuing corporation B) A higher initial rate received by the investor C) Higher tax advantages for the investor than a conventional bond D) A fixed market value for the investor 133) The benefits of debt to the corporation include all of the following EXCEPT A) Tax-deductible interest payments B) Increases the stock value when used heavily C) Fixed obligation D) Generally a lower overall cost than equity 134) Which of the following statements regarding the June 2009 bankruptcy of General Motors (GM) is false?

A) The government provided more than $50 billion in the bailout.

B) The common stockholders received no cash.

C) The U.S. government still owns some of the common stock of GM as of 2014.

D) The secured debtholders were paid off in full.

135) Dairy Corp. has a $20 million bond obligation outstanding and a coupon rate of 8%. Dairy Corp. has the ability to buy back the debt at 7% above par and issue new debt at 6.5%, so it is considering refunding this bond. Assume the underwriting cost for the old issue was $100,000 and the new issue is $200,000, with a tax rate of 40%. What is the net cost of call premium?

A) $1,300,000 B) $840,000 C) $560,000 D) $1,040,000 136) When calculating net present value for a bond refunding calculation, all of the following are considered either outflows or inflows EXCEPT: A) Cost savings with the new interest rates.

B) Net loss from underwriting cost on old issue.

C) Net cost of underwriting expense on new issue.

D) Net cost of call premium.

137) Time value of money is calculated in all of the bond refunding calculations except ________ because this is a one-time exchange of cash that happens on the day it is refunded.

A) Cost savings with the new interest rates.

B) Net gain from underwriting cost on old issue.

C) Net cost of underwriting expense on new issue.

D) Net cost of call premium.

Foundations of Financial Management, 17e (Block) Chapter 17 Common and Preferred Stock Financing 1) Common stockholders have a residual claim to income; in other words they are last in line during an elimination of the company.

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2) Common stockholders have a legal claim to dividend income.

3) A common stockholder cannot force a company into bankruptcy for eliminating the dividend.

4) Stock classes are similar to bond ratings in that they are used to rank the performance of different corporations' stock.

5) Stock classes may differ in voting rights, dividend rights, and claims to income during company elimination.

6) Occasionally, a company will have several classes of common stock, with each class carrying different rights to dividends and income.

7) Common stockholders may assign a proxy, or the power to cast their ballot, only when majority voting is in place.

8) Each common stockholder has the ability to vote, and may assign a proxy if they desire to pass the voting right along.

9) Under majority voting, it is easier for minority stockholders to elect directors to the board.

10) The particular type of shareholder voting used has become less important with the influence of takeovers, leveraged buy-outs, and other challenges to management control.

11) Bondholders never have any control over the actions of a firm.

12) The increasing sophistication of individual investors has decreased the role of institutional investors in the stock market.

13) Under cumulative voting, holding 30% of the shares outstanding will guarantee an investor the ability to elect three of nine directors to the board.

14) Under majority voting, any group of stockholders owning over 50 percent of the common stock may elect all of the directors.

15) Hewlett-Packard's capital stock has recovered from the loss of confidence brought about by the failure to find a successful CEO and the multimillion-dollar severance packages the ousted executives received.

16) Stockholders always have preemptive rights when new issues of stock are offered.

17) A rights offering may be of limited value to shareholders.

18) After a rights offering, the common stock price will sell at the subscription price.

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expansions.

20) When a stock sells ex-rights, the sale of the shares no longer entitles the purchaser to receive a right to purchase future stock.

21) The difference between the rights-on and ex-rights price is equal to the subscription price divided by N, where N is the number of rights needed to purchase a new share of stock.

22) The difference between the rights-on and ex-rights common stock price is equal to the value of a right to purchase future stocks, all other things being equal.

23) The ex-rights date usually takes place after the end of the subscription period.

24) If the current market value of Markowitz Corp stock is $61 and 10 rights are required to buy one additional share of Markowitz at the subscription price of $50, then the rights are worth $1.00.

25) Stock purchased through a rights offering may carry lower margin requirements.

26) The margin requirement specifies the amount of cash or equity that must be deposited with a brokerage house or a bank, with the balance of funds eligible for borrowing.

27) A poison pill will raise the potential for maximizing shareholder value because it deters takeover bids.

28) American Depository Receipts (ADRs) are certificates that give foreign stockholders a legal claim on U.S. companies' foreign stock.

29) Although American Depository Receipts (ADRs) are traded in the U.S. in dollars, U.S. investors may still incur foreign currency risk.

30) Preferred stock dividends are a tax-deductible expense for a corporation.

31) The after-tax cost of debt is usually cheaper than issuing preferred stock to the corporation, all things being equal.

32) Preferred stock generally has a lower after-tax cost than debt to the corporation.

33) To the security holder, preferred stock usually offers higher risk and lower after-tax return compared to bonds.

34) To the individual recipient, preferred stock dividends offer no tax advantage over bonds.

35) If a company has preferred stock, it must pay the dividends on the preferred even if it shows no profit for the year.

36) Participating preferred stock may receive an extra dividend in a particularly good year when earnings are above a stated level.

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37) Generally, the receipt of corporate bond interest is more valuable than preferred dividends to corporate investors.

38) The "convertible exchangeable" feature of preferred shares gives companies the sole right to force preferred stock holders to exchange for common stock.

39) Some preferred stocks are "participating preferreds," allowing for an increase in the preferred stock dividend when additional profits are available after common stock dividends have been paid.

40) Participating preferred stock is advantageous to common stockholders because it receives more dividends.

41) The market price of "floating rate" preferred stock is less volatile than that of regular preferred stock.

42) Floating rate preferred stock allows shareholders to receive more or less than the quoted dividend based on the firm's success.

43) Floating rate preferred stock would be ideal to have when the stock price fluctuates and when there are tax benefits to owning preferred stock.

44) The floating rate feature on preferred stock causes more volatility in its price.

45) Participating preferred stock gives its owners voting rights.

46) Dutch Auction preferred stocks, unlike standard preferred stocks, are typically used as short-term instruments.

47) If a corporation pays no taxes because it is losing money, a preferred stock issuance becomes more attractive than normal, relative to a debt issuance.

48) A rights offering is generally financially advantageous to the investor because it provides them with additional shares of stock.

49) Investors are usually in favor of poison pills because they prevent takeovers.

50) American Depository Receipts (ADRs) are subject to foreign exchange risk unlike direct methods of investing in the foreign exchange market.

51) Preferred stock would generally provide a lower before-tax yield to investors than secured debt due to its lower risk.

52) Due to the 2017 Tax Cuts and Jobs Act, for companies owning between 20 and 80 percent of another company, any dividends received from that company are taxed at 35 percent, however most companies don't fall into this category.

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53) Due to the 2017 Tax Cuts and Jobs Act, for companies owning less than 20 percent of another company, the tax exclusion was reduced from 70 to 50 percent.

54) An increasing proportion of shares in the U.S. are owned by A) individual investors.

B) corporations (Treasury stock).

C) institutions.

D) governments.

55) Which of the following is not a true statement?

A) Common stockholders have a residual claim to income.

B) Bondholders may force a corporation into bankruptcy for failure to make interest payments.

C) Common stockholders are legally entitled to some dividend.

D) A minority interest can still elect members to the Board of Directors under cumulative voting even though someone else owns 51% of the stock.

56) When comparing common stock of the same company, it is fair to say that A) all shares, no matter how many classes, are all created with the same equal rights.

B) companies sometimes have two different classes of shares with unequal rights to dividends and votes.

C) the Securities and Exchange Commission allows only one class of common stock.

D) investors are indifferent between class A and class B shares.

57) A proxy is A) a device for circumventing regular voting procedures.

B) a coupon attached to each share of stock and used by the shareholder in casting their vote on current issues.

C) an authorization of a registered stockholder to another person to act in their place at the meeting.

D) a warrant allowing a stockholder to purchase a specified number of additional shares at a given price.

58) Which of the following statements is true with respect to cumulative voting?

A) Cumulative voting permits multiple votes for a single director.

B) Cumulative voting gives minority shareholders a better chance of being represented on the board of directors.

C) If six directors are to be elected and you own 100 shares, you may vote all 600 votes for one director and none for the others.

D) All of these options are true.

59) The purpose of cumulative voting is A) to maintain majority control of the board of directors.

B) to allow minority stockholders the possibility of a voice on the board of directors.

C) to obstruct unfriendly mergers and takeover efforts.

D) to prevent the dilution of common stock through preemptive rights offerings.

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A) the common stockholders.

B) the preferred stockholders.

C) the bondholders.

D) two of the options are true.

61) Given that there are 4,000,000 shares outstanding in Miller Corp., how many shares will be required for a minority group of stockholders to elect two of the nine members on the board of directors? (Assume cumulative voting is required.)

A) 800,001 B) 1,000,001 C) 1,090,910 D) 888,889 62) Sharpe Products has one million outstanding shares and seven directors to be elected.

Cumulonimbus Holdings owns 200,000 shares of Sharpe. How many directors can Cumulonimbus elect with cumulative voting?

A) 0 B) 1 C) 2 D) 3 63) Coase Corp. has 10,000,000 outstanding shares. There are 11 directors on the firm's board. The Becker family owns 2,300,000 shares of Coase Corp. How many directors can the Becker family be assured of electing by themselves if Coase Corp. uses majority voting?

A) Zero B) One C) Two D) Three 64) A rights offer made to existing shareholders with the sole purpose of making it more difficult for another firm to acquire the company is called A) a preemptive right.

B) a poison pill.

C) ex-rights.

D) rights-on.

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65) A possible advantage to a rights offering is that A) current shareholders are protected against dilution.

B) the firm has a built-in market of knowledgeable investors.

C) distribution costs are lower than a public offering.

D) All of these options are true.

66) The effect of a rights offering on a stockholder is A) the right to sell stocks, in which the stockholder's wealth only increases if the stock is sold.

B) the right to own more stocks, in which the stockholder's wealth increases only if the new stock is purchased.

C) the right to own more shares at a cheaper price, while the wealth of the stockholder's original shares goes up.

D) the right to own more shares at a cheaper price, but the wealth of the stockholder's original shares goes down.

67) The most important feature of the preemptive right is that the rights A) may be sold for profit.

B) possibly protect the stockholders' shares against dilution.

C) may accumulate more votes.

D) are nontransferable.

68) If a corporate charter includes a provision for preemptive rights, the original stockholders A) must sell their stock to the company.

B) get first option to buy additional issues of common stock.

C) may purchase existing treasury stock.

D) cannot utilize cumulative voting procedures.

69) "Preemptive rights" means that A) existing shareholders can prevent management from issuing additional common stock.

B) common shareholders can "preempt" preferred shareholders for dividends.

C) existing shareholders are guaranteed an opportunity to retain their proportional share of ownership.

D) management can preempt the right of shareholders to receive dividends if earnings are down.

70) Which of the following actions will provide the greatest increase in wealth to shareholders when a company conducts a rights offering?

A) Exercise the right to buy new shares to increase wealth.

B) Sell the rights themselves and hold existing shares and cash.

C) Exercise the rights and sell the shares to increase wealth.

D) None of these options are true.

71) A rights offering A) gives the firm a built-in market for new securities.

B) will likely lead to considerably higher distribution costs.

C) will increase the shareholder's total valuation.

D) is the most expensive way to raise capital.

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72) Which of the following best represents a benefit of a rights offering?

A) Rights offerings increase return on equity.

B) Rights offerings substantiate higher debt-to-equity ratios.

C) Rights offerings have lower margin requirements.

D) None of these options are true.

73) Kuhns Corp. has 200,000 shares of preferred stock outstanding that is cumulative and 100,000 common stock outstanding. The preferred dividend is $3.00 per share and has not been paid for three years. If Kuhns earned $1 million this year, what could be the maximum payment to the preferred stockholders on a per share basis?

A) $9.00 per share B) $15.00 per share C) $6.00 per share D) $5.00 per share 74) A stock is said to sell "ex-rights" A) when the period in which the subscription privilege is to be exercised has expired.

B) when the stockholder buys the stock, they no longer get a right toward the future purchase of stock.

C) after the rights have all been exercised and the new issue is completely sold.

D) after the terms of the subscription have been made public.

75) The subscription rate of a new offering is generally ________ than the rights-on price and ________ than the ex-rights price.

A) higher; higher B) higher; lower C) lower; higher D) lower; lower 76) Which one of the following statements is false?

A) Poison pills encourage current owners to purchase more stock in the company.

B) Poison pills discourage potential high takeover bids.

C) Stockholders have to approve the acceptance of poison pill strategies before a corporation can use them.

D) Many institutional investors are opposed to the poison pill.

77) Five rights are necessary to purchase one share of Fogel stock at $50. A right sells for $4. The ex-rights value of Fogel stock is ________.

A) $70 B) $46 C) $74 D) $50

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78) Seven rights are necessary to purchase one share of Fogel stock at $34. The ex-rights value of Fogel stock is $48. The right sells for $________.

A) $14 B) $11 C) $48 D) $2 79) North stock sells for $65 rights-on, and the subscription price is $55. Nine rights are required to purchase one share. The value of a right is ________.

A) $0.11 B) $1.11 C) $1.00 D) $1.50 80) Tricki Corp stock sells for $45 rights-on, and the subscription price is $35. Ten rights are required to purchase one share. Tomorrow the stock of Tricki will go ex-rights. What is Tricki's expected price when it begins trading ex-rights?

A) $47.23 B) $44.00 C) $44.09 D) $45.00 81) Which one of the following is NOT an advantage that American Depository Receipts (ADRs) have over investing in actual shares of a foreign stock?

A) ADRs are an effective barrier to foreign currency risk.

B) Unlike direct foreign stock, ADRs have financial statements presented in a GAAP format.

C) Dividends are paid in dollars and are easier to collect than actual shares of foreign stock.

D) ADRs are more liquid and less expensive than buying foreign stock directly.

82) American Depository Receipts (ADRs) are A) receipts sent to foreign stockholders who own American companies.

B) proof of ownership for Eurodollar deposits held by Americans.

C) certificates that have a legal claim on an ownership interest in a foreign company's common stock.

D) certificates in U.S. companies that allow foreign investors to buy shares of American companies.

83) American Depository Receipts A) have annual reports and financial statements presented in English.

B) pay dividends in dollars.

C) are more liquid and less expensive to buy than foreign stock.

D) all of these answers are true.

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84) Which would NOT be considered an American Depository Receipts (ADR) stock in the U.S.?

A) Heineken B) Nestle C) Sony D) Intel 85) Preferred stock may be good for a company because it A) expands the capital base of the firm without diluting the common stock ownership.

B) does not require interest payment in times of financial trouble, but are tax-deductible when dividends are paid.

C) is not as costly as common stock or bonds.

D) has no future negative ramifications when dividend payments are missed.

86) The following are primary purchasers of preferred stock except A) corporate investors.

B) insurance companies.

C) pension funds.

D) individual investors.

87) Which of the following is NOT true about preferred stock?

A) 70% of dividends are nontaxable to other corporations that hold preferred stock.

B) The after-tax cost is higher than debt with the same yield.

C) Dividends are legal obligations of the firm.

D) Preferred stocks are typically cumulative with respect to dividends.

88) Preferred stock is often sold by companies A) wanting to balance their capital structures.

B) that have a large amount of debt relative to equity.

C) looking for the taxable advantages of preferred dividends over common stock dividends.

D) that have a large amount of debt relative to equity and that want to balance their capital structures.

89) The par value on a preferred stock entitles the holder to A) priority on all cumulative dividends.

B) an established amount of money if the company is liquidated.

C) a minimum amount of convertible common stock.

D) none of these options are true.

90) Which of the following is not a very common feature of preferred stock?

A) Cumulative dividends B) Voting rights C) Call feature D) The conversion feature

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91) The Harsanyi Corp. is considering four investments. Which provides the highest after-tax return for Harsanyi Corp. if it is in the 21% federal tax bracket? Assume the tax rate on dividends is 15%.

A) Treasury bonds at 5.0% B) Corporate bonds at 8.0% C) Municipal bonds at 5.0% D) Preferred stock at 6.0% 92) The Nash Corp. is considering four investments. Which provides the highest after-tax return for Nash Corp. if it is in the 21% federal tax bracket? Assume the tax rate on dividends is 15%.

A) Treasury bonds at 4% B) Corporate bonds at 7.5% C) Municipal bonds at 7.25% D) Preferred stock at 7.5% 93) To the corporate investor, preferred stock offers which of the following advantages?

A) A higher yield than debt, everything else being equal before taxes.

B) 30% of preferred dividends are tax-exempt.

C) 70% of preferred dividends are tax-exempt.

D) 70% of preferred dividends are tax-exempt and have a higher yield than debt, all else equal before taxes.

94) Buggy Whip Manufacturing Company is issuing preferred stock yielding 8%. Selten Corporation is considering buying the stock. Assume that Buggy's tax rate is 0% due to continuing heavy tax losses, and Selten's tax rate is 21%. What is the after-tax preferred yield for Selten?

Assume the tax rate on dividends is 15%.

A) 7.22% B) 5.33% C) 7.64% D) 8.00% 95) If a preferred stock is of the cumulative type, A) dividends must be paid on an equal basis with common stock, so long as earnings permit.

B) dividends cannot be passed if they are earned.

C) dividends must be paid, and if not a liability is created.

D) unpaid dividends of one period must be carried forward and paid in subsequent periods before anything can be paid to common stockholders.

96) Which of the following statements about floating rate preferred stock is true?

A) The dividend rate changes quarterly.

B) The price of the stock fluctuates with the market.

C) The dividend rate is tied to the inflation rate.

D) More than one of the options is true.

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97) The floating rate feature on preferred stock allows the shareholders A) to receive more dividends than the quoted yield when the firm enjoys a good year.

B) to pay lower taxes when the dividend yield increases.

C) to receive dividends that the corporation did not pay in previous years.

D) to receive a higher or lower dividend yield depending on current competitive market conditions.

98) "Dutch auction" preferred stock A) is issued first to the bidder willing to accept the lowest yield.

B) matures periodically, and is then re-auctioned at a subsequent bidding.

C) allows corporate investors to take advantage of preferred stock tax benefits.

D) all of these options are true.

99) Which of the following is the correct order of securities based on risk and return? (From most risk-return to least risk-return.)

A) Common stock, subordinated debentures, secured debt, Treasury bills B) Preferred stock, common stock, subordinated debentures, secured debt C) Common stock, long-term government bonds, secured debt, subordinated debt D) Common stock, secured debt, subordinated debentures, preferred stock 100) Which of the following is an advantage of American Depository Receipts (ADRs)?

A) No foreign currency exchange risk B) Financial statements are written in English C) Financial statements are translated quickly D) Less frequent reporting of financial results 101) Which of the following is NOT a primary investor in preferred stock?

A) Commercial banks B) Corporations C) Insurance companies D) Pension funds 102) A corporate investor of preferred stock receiving a before-tax preferred yield of 8.5%, and having a corporate tax rate of 21%, would receive an after-tax preferred yield of approximately ________. Assume the tax rate on dividends is 15%.

A) 10.2% B) 7.7% C) 8.12% D) 9.3% 103) An individual investing in preferred stock receiving a before-tax preferred yield of 6.75% and having a tax rate of 25% would receive an after-tax preferred yield of ________. Assume the tax rate on dividends is 15%.

A) 6.75% B) 5.1% C) 5.7% D) 6.1% 249 Copyright © 2019 McGraw-Hill Education. All rights reserved.

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104) Common stockholders rights include all of the following EXCEPT: A) Fixed dividend yield B) Voting rights C) First option to purchase new shares D) Residual claim to income 105) Which of the following statements is false with respect to the use of rights in financing?

A) Rights offerings are used by many U.S. companies.

B) Shares are usually priced at a premium.

C) Rights offerings are especially popular in Europe.

D) All of these statements are true.

Foundations of Financial Management, 17e (Block) Chapter 18 Dividend Policy and Retained Earnings 1) The "marginal principle of retained earnings" states that corporate investment should provide a return equal to or higher than what a stockholder could earn.

2) Dividends are the active variable in the "marginal principle of retained earnings."

3) At the maturity stage (Stage IV) of the life cycle, the firm will usually pay out about 15-25% of earnings in dividends.

4) A corporate life cycle shows the change of the company's inventory and productivity.

5) Life cycle growth analysis can be helpful in determining a firm's ability to pay dividends.

6) In the growth stage (Stage III) of the life cycle, the company focuses on growth of the stock and usually doesn't pay any cash dividends.

7) A major drawback to an investor is that dividends are viewed as a passive variable, so a fixed income is never guaranteed.

8) One reason that investors may prefer stock dividends over cash dividends is so the investor is provided with some growth or life cycle information about the company.

9) In Stage I of a firm's life cycle, the firm will pay high dividends to shareholders in order to attract additional investors.

10) In Stage II of a firm's life cycle, expansion continues, but at a decreasing rate.

11) Generally, dividends should be changed when a corporation reaches a new level of permanent income.

12) One of the major influences on dividends is the corporate growth rate in sales and the subsequent return on assets.

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13) When a firm raises its dividends, the information content is usually positive for investors.

14) Dividends may be relevant to distribute because they help resolve uncertainty about the firm and its future.

15) Stable dividends may cause a higher discount rate for the firm, thereby raising the value of the firm.

16) Stability of dividends is not important to stockholders, especially to those that rely on fixed income.

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17) Regardless of the situation, no well-managed firm would borrow money to pay dividends to stockholders.

18) Dividends can only be distributed if the firm has positive income in the year the dividend is paid.

19) Retained earnings accurately portray the liquidity position of the firm.

20) A firm will pay dividends as long as it has cash available.

21) Corporations are partially exempt from taxes on dividends received from other corporations.

22) Investors' income level is used to determine their preference for dividends rather than capital gains.

23) Stockholders in general prefer large dividends to small dividends.

24) If a stock dividend is given out and then a cash dividend, the stockholder will receive greater total cash dividends.

25) The Internal Revenue Service generally places a higher tax rate on long-term capital gains than it does upon ordinary or "qualified" dividends.

26) Because the capital gains tax is lower than other income, there are tax advantages to a stock repurchase option.

27) A general rule of thumb would be that firms with a faster growth rate have smaller dividend payout ratios.

28) Investors in high marginal tax brackets usually prefer companies that reinvest most of their earnings, thus creating more growth in earnings and stock prices and deferring taxes into the future.

29) A firm paying a stock dividend will experience a drop in its earnings per share but its shareholders' total claim on earnings will increase.

30) A rapid growth firm can often expect a shift in the type of its typical stockholder as the firm moves into maturity.

31) Most dividends, like interest on corporate bonds, are paid semiannually.

32) Under current tax law (2013), long-term capital gains are taxed at a lower rate than "ordinary" dividends.

33) Investors should try to invest in tax-exempt retirement accounts to try to avoid the higher taxes placed on some investments.

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34) Even though capital gains are taxed at a lower rate, there are some acts that charge higher amounts of tax on investment income above a certain amount.

35) The dividend payout ratio is the dividend divided by the stock price.

36) The dividend payout ratio includes both stock dividends and cash dividends.

37) The dividend yield is the cash dividend divided by the current market price of the stock.

38) The dividend yield is defined by the amount of return the stockholder is getting in the form of cash dividends compared to the stock market price.

39) Following the payment of a stock dividend, the firm's stock price tends to drop slightly.

40) To receive a dividend on common stock, an investor must purchase the stock before the ex-dividend date.

41) When a firm that previously paid regular dividends ceases to do so, the stock is ex-dividend until the firm resumes regular dividend payments.

42) Stock dividends usually enhance the overall wealth of the company's stockholders.

43) Stock dividends may be utilized to provide information to investors about growing companies.

44) A stock split involves a reduction in the firm's retained earnings account.

45) The accounting treatment for a stock split is different from a stock dividend in that there is no transfer of funds from retained earnings to the capital accounts, but merely a reduction in par value and a proportionate increase in the number of outstanding shares.

46) Distribution of 20-25% or greater of outstanding shares as a stock dividend is generally treated as a stock split.

47) Stock splits are usually utilized to place stock in a lower-price trading range.

48) Stock splits increase the amount of shares, decreases the par value per share, and decreases the overall value of common stock in the equity section of the balance sheet.

49) Stock dividends and stock splits have the same impact on retained earnings.

50) A reverse stock split is normally used by those firms whose stock price has been stable for several years.

51) The repurchase of a corporation's own stock will generally have a negative impact on the stock market price.

52) Firms with extra money should always repurchase their own stock, thus increasing the value of 253 Copyright © 2019 McGraw-Hill Education. All rights reserved.

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the firm.

53) Dividend reinvestment plans provide the stockholder with an opportunity to buy additional shares of stock with the cash dividend paid by the company.

54) The cash savings from reduced dividend payments resulting from a stock repurchase strategy can allow the company to increase its dividends for remaining shareholders.

55) The 2017 Tax Act reduced the corporate tax rate to 21% and instituted a territorial tax system that taxes income in the country where income is generated.

56) The 2017 Tax Act has motivated companies to bring money home from other countries at low tax rates and to buy back stock.

57) With a dividend reinvestment plan, an investor might receive fractional shares.

58) The goal of a company in the growth life-cycle stage should be to maximize dividends to shareholders.

59) Investors in the retirement phase of their life cycle tend to prefer reinvestment of dividends by firms.

60) Investors in the retirement phase of their life cycle tend to prefer steady cash dividends from firms.

61) As tax rates on dividends have decreased, the preference for retention of earnings has increased.

62) One situation in which a stock dividend may be beneficial to the investor is when the cash dividend per share remains constant.

63) A stock dividend is often used when the company has high cash levels, but feels that a stock dividend would be more beneficial to the investors.

64) The "ex-dividend date" will typically be before the "holder of record date."

65) One way companies responded to the financial crisis of 2008-2009 was to cut their cash dividends to stockholders.

66) For the most part, companies not directly associated with the financial crisis of 2008-2009 did not cut their dividend payments to stockholders.

67) A dividend reinvestment plan provides the investor with an opportunity to buy additional shares of stock with the cash dividend paid by the company.

68) Research shows that firms that repurchase their shares exhibit positive stock price returns.

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69) According to the "marginal principle of retained earnings," dividends are A) the active variable.

B) the passive variable.

C) not usually paid.

D) a certain fixed percentage of earnings.

70) The marginal principle of retained earnings means that each potential project to be financed by retained earnings must A) provide a higher rate of return than the stockholders can on their after-tax dividend income.

B) yield a return equal to or greater than the marginal cost of capital.

C) provide enough return to pay the corporation's marginal tax rate.

D) provide enough return to pay future dividends.

71) The primary argument against the "marginal principle of retained earnings" is A) the uncertainty surrounding capital investment projects.

B) the lack of ability to adequately measure corporate investment returns.

C) the diversity of stockholders and their potential investment returns.

D) its failure to consider stockholder preferences.

72) The residual theory of dividend policy asserts that A) sufficient dividends are paid to maintain a stable total dividend payment—any residual is invested internally by the firm.

B) sufficient dividends are paid to maintain a stable dividend payout ratio—any residual is invested internally by the firm.

C) dividends are paid out of the residual remaining after internal investments are made by the firm.

D) dividend payments are adjusted to maintain dividends at a constant percentage of total cash flows.

73) In which phase of the life cycle would one most likely encounter stock dividends?

A) Phase II B) Phase III C) Phase IV D) Phase II and Phase III 74) Which of the following is NOT true about the life-cycle growth and dividend policy?

A) In the maturity stage, a firm usually pays moderate to high dividends.

B) In the development stage, a firm usually pays stock dividends and some low cash dividends.

C) In the expansion stage, a firm pays low to moderate cash dividends and occasionally may have stock splits.

D) In the growth stage, a firm pays stock dividends.

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75) In Stage II (the growth stage), sales and returns on assets will be growing at increasing rates.

Which of the following is true?

A) Earnings are now available for large dividends.

B) Stock dividends are common.

C) Acquisition of new assets will be stable.

D) The payout ratio will be close to 50% by now.

76) In the maturity stage, a firm A) is growing about the same rate as the economy as a whole.

B) has returns on assets lower than those of the industry norm.

C) loses market share and suffers a decline in profitability.

D) pays out all earnings in dividends.

77) In the initial stage (Stage I), the corporation A) has a product yet to be accepted in the marketplace.

B) anticipates rapid growth in sales and earnings.

C) needs all its earnings for reinvestment in new assets.

D) all of these options are true.

78) When a firm enters Stage III of its life cycle, which of the following is NOT likely to be observed?

A) Dividend payout ratios are likely to rise to a moderate level of 20-30% of earnings.

B) More competition is likely to enter the firm's market.

C) Sales begin to decrease.

D) Stock splits are common.

79) When a firm enters Stage IV of its life cycle, A) dividend payout ratios are likely to rise to a moderate level of 20-30% of earnings.

B) the firm has reached maturity.

C) the organization must retain earnings in preparation for cycling back into Stage I of the life cycle.

D) stock splits are common.

80) Stockholders may prefer cash dividends to reinvestment A) because dividends may resolve some uncertainty.

B) because dividend payments have an information content.

C) because investors may prefer current cash to future cash.

D) all of these options are correct.

81) A major desire of stockholders regarding dividend policy is A) frequent stock dividends.

B) dividend stability.

C) high payouts when earnings are up, and lower payouts when earnings are down.

D) to give out no dividends, so that the company can use the cash towards future growth.

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82) Which of the following does not affect a company's dividend policy?

A) Legal rules concerning capital impairment B) The efficient market hypothesis C) Access to capital markets D) The tax position of shareholders 83) Firm X has declared a stock dividend that pays one share of stock for every five shares owned.

After the stock dividend, earnings per share will A) remain the same.

B) decline 20%.

C) decline 5%.

D) Not enough information is given to determine an answer.

84) The Tax Cuts and Jobs Act of 2017 A) left the rates on dividends and long-term capital gains the same, but increased the amount of income needed before the tax became effective.

B) taxes short-term and long-term capital gains at the same rate.

C) eliminated the tax rate on dividends to avoid double taxation.

D) made high dividend paying stock less attractive to high income investors.

85) Which of the following generally does NOT influence the dividend policy of the firm?

A) The cash position of the firm B) The desire for control C) Seasonal changes in the level of income D) Investors' expectations of the future based on dividend policy 86) Lucas Inc. earned $15 million last year and retained $6 million. Lucas has 5 million shares outstanding, and the current price of Lucas shares is $30 per share. What is the dividend payout ratio?

A) 2.67% B) 4% C) 40% D) 60% 87) Mirrlees Furniture earned $750,000 last year and had a 30% dividend payout ratio. How much did the firm add to its retained earnings?

A) $225,000 B) $525,000 C) $750,000 D) $0 88) Dobson's Auto earned $500,000 last year and had a 20% dividend payout ratio. How much did the firm add to its retained earnings?

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89) The "ex-dividend date" is the date A) on which recipients of the dividend are determined.

B) the dividend is paid.

C) the dividend is declared.

D) which no longer includes dividend payments for stock bought on that date.

90) According to the law, dividends may be funded from A) past earnings.

B) current earnings.

C) future earnings.

D) past earnings and current earnings.

91) A stock dividend will A) increase the value of a share of stock.

B) decrease the "capital in excess of par" account.

C) decrease the retained earnings account.

D) none of these options are correct.

92) A stock dividend will A) increase the total value of stockholders' equity.

B) decrease the total value of stockholders' equity.

C) not affect the total value of stockholders' equity.

D) change the total value of stockholders' equity but the direction cannot be determined unless the market price and par value is known.

93) CBA Inc. has 400,000 shares outstanding with a $5 par value. The shares were issued for $12.

The stock is currently selling for $34. CBA has $5,000,000 in retained earnings and has declared a stock dividend that will increase the number of outstanding shares by 6%. What will be the "capital in excess of par account" after the stock dividend?

A) $7,685,000 B) $2,685,000 C) $3,496,000 D) $2,385,000 94) CBA Inc. has 400,000 shares outstanding with a $5 par value. The shares were issued for $12.

The stock is currently selling for $34. CBA has $5,000,000 in retained earnings and has declared a stock dividend that will increase the number of outstanding shares by 6%. What will be the "common stock" account after the stock dividend?

A) $2,816,000 B) $2,120,000 C) $3,496,000 D) $2,000,000

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95) CBA Inc. has 400,000 shares outstanding with a $5 par value. The shares were issued for $12.

The stock is currently selling for $34. CBA has $5,000,000 in retained earnings and has declared a stock dividend that will increase the number of outstanding shares by 6%. How many shares will be outstanding after the stock dividend?

A) 376,000 B) 424,000 C) 400,000 D) 9,328,000 96) The primary purpose of a stock split is to A) indicate the firm's desire to retain funds.

B) increase the investor's overall wealth.

C) reduce the threat of a takeover by creating more shares.

D) bring the stock price to a lower trading range.

97) Which of the following balance sheet accounts will be affected by a stock dividend but not by a stock split?

A) Retained earnings B) Cash C) Common stock D) Dividends-in-arrears 98) A 2-for-1 stock split is declared. In this case, which of the following statements is true?

A) The cash account declines.

B) The common stock account rises.

C) The retained earnings fall.

D) The par value of the common stock is reduced.

99) The stockholders' equity section of the balance sheet of the XYZ Corp. is as follows: Common stock ($6 par) Retained earnings Total

$ $ $

24,000,000 125,000,000 149,000,000

If the company now splits its stock 3-for-1, which of the following is correct?

A) The par value per share will remain at $6.

B) The market price per share will probably remain unchanged.

C) The book value per share will decline to $17.60.

D) The par value per share will decline to $2.00.

100) A stock split A) is treated by accountants just like a stock dividend.

B) reduces the retained earnings account.

C) does not change the total dollar amount in the common stock account.

D) increases corporate wealth.

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101) At what payout percentage is a stock dividend typically considered a stock split, in accordance with the recommendation of the Financial Accounting Standards Board?

A) 10% B) 15% C) 25% D) 33% 102) A reverse stock split A) occurs when a company wants to increase the price of its common stock because the market hasn't recognized the improvements the company has made in achieving profitability.

B) means the company exchanges fewer new shares in place of older shares.

C) eliminates any previous stock dividend.

D) is more popular in bull markets than in bear markets.

103) Reverse stock splits take place in many cases A) to avoid delisting by the stock exchanges and NASDAQ. B) to decrease the market price of the common stock.

C) because there may be simply too many shares outstanding from previous stock splits.

D) all of these options are correct.

104) A firm with excess cash and few investment alternatives might logically A) declare a stock dividend.

B) split its stock two-for-one.

C) repurchase some of its own shares.

D) choose to issue preferred stock.

105) A firm may repurchase its own stock in the market because A) it will increase the stockholders' wealth.

B) the firm's stock is temporarily depressed.

C) it provides positive informational content.

D) all of these options are correct.

106) Management may repurchase shares of its own stock in the market A) to buy stock that management felt is considerably underpriced.

B) for employee stock options.

C) to use in a merger.

D) all of these options are true.

107) A corporation may wish to repurchase some of its shares for all of the following reasons EXCEPT: A) The stock may be needed for future mergers.

B) The corporation's executives will financially benefit if the stock is resold later at a substantial profit.

C) It can stabilize or increase the market price of the stock.

D) The stock may be needed for an employee compensation plan.

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108) Some dividend reinvestment plans allow the stockholder to acquire shares of stock A) from the company's unissued shares.

B) in the market through the company's transfer agent.

C) at a discount from the market price.

D) all of these options are correct.

109) All of the following uses of annual earnings would contribute toward an increase in shareholder value EXCEPT: A) To repurchase shares B) To invest in projects with high profit potential, regardless of the risk C) To pay off debt D) all of these options increase shareholder value 110) A firm will repurchase its own shares in the market because A) it can stabilize the market price.

B) the firm believes the shares are selling too low.

C) it could eventually provide benefit to shareholders.

D) all of these options are correct.

111) Which of the following is NOT a benefit of dividend reinvestment plans to firms?

A) Increased cash flow for reinvestment B) No underwriting fees required C) Leads to higher earnings per share D) All of these options are benefits.

Foundations of Financial Management, 17e (Block) Chapter 19 Convertibles, Warrants, and Derivatives 1) A convertible security is one that can be converted into common stock only at the option of the issuer.

2) If a $1,000 par value convertible bond has a conversion ratio of 1 bond to 70 shares, the bond conversion price is $14.29.

3) The face value of a convertible bond divided by the conversion price equals the number of shares a bondholder will receive upon conversion.

4) The conversion price divided into the market value of a convertible bond provides the conversion ratio.

5) The conversion premium represents the dollar difference between the conversion value and the pure bond value.

6) The conversion premium is equal to the market price minus the conversion value.

7) Conversion premiums are found by subtracting the current stock price from the bond's semiannual interest payment.

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8) Conversion premiums are influenced heavily by expectations of future stock performance.

9) A conversion premium is ultimately the additional amount given up to convert the bond to stock.

10) Generally, once a convertible bond trades at a certain premium to its intrinsic value, or at a certain multiple of its conversion price, the bond must be converted into common stock.

11) A convertible bond has two separate sources of value: the bond investment value and the bond conversion value.

12) A pure bond value is the value of a non-convertible bond with the same amount of risk as the convertible bond being measured.

13) A convertible bond carries an element of downside risk if its "floor value" were to exceed the price of the company's stock.

14) A convertible bond has both a downside limit (the pure bond value) and an upside limit (the conversion price).

15) The downside risk is defined as the difference between the market price and the floor value of a bond.

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16) To calculate the downside risk of a bond in percent, divide the dollar amount by which the market price could fall (before it reaches the floor value) by the market price.

17) If market rates of interest change, the "floor value" of a convertible bond can change.

18) The floor value of a bond can change if market interest rates for competitive bonds change.

19) Convertible securities are attractive because of their downside protection characteristics, as well as their upside potential.

20) For the most downside protection, an investor should search for convertibles trading below par value near their floor value.

21) The downside protection of a convertible bond's floor value insulates the investor from any possible loss.

22) Generally speaking, convertible bonds reverse the risk-return trade-off that applies to most investments.

23) The interest rate on convertible bonds is typically one-third higher than similar non-convertible issues.

24) If you purchased a convertible bond when first issued, you would pay more for the shares of stock you are entitled to than if you purchased the shares directly on the market at that point in time.

25) The primary issuers of convertible bonds are smaller companies with low credit scores and high risk, but are growing.

26) In general, the average size of convertible issues is small compared to normal bond issues.

27) On average, convertible bonds have conversion premiums of less than 10% at the time of issue.

28) A call provision is commonly used by a corporation to force conversion into common stock.

29) Forced conversion refers to the corporation calling a convertible bond. This is ideal when the market price of the stock is above the conversion price by more than a small percentage.

30) A forced conversion will typically alter the corporate balance sheet favorably.

31) Basic earnings per share includes all convertible bonds outstanding.

32) "Basic earnings per share" does not include the dilutive effects of all of a firm's convertible bonds.

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33) "Diluted earnings per share" must assume the conversion of all convertible securities, even if they haven't been converted.

34) In order to calculate basic earnings per share, the earnings after taxes must be adjusted for the elimination of the convertible bond interest expense.

35) Warrants never sell for more than their intrinsic value.

36) A warrant may carry a speculative premium above intrinsic value if the warrant isn't going to expire for a while.

37) Because a warrant is dependent on the market movement of an underlying stock, it is highly speculative in nature.

38) Warrants are similar to convertible debt in that they give the warrant holder the right to acquire common stock.

39) Warrants are similar to convertible debt in that they require the issuance of debt in order to obtain the right to acquire common stock.

40) Warrants are often attached to debt securities to increase the debt issue's attractiveness to investors.

41) The premium for a warrant would increase if its underlying common stock has a negative market outlook.

42) A warrant's speculative premium equals the market price of the underlying common stock minus the option price.

43) A warrant is of huge benefit to the warrant holder when the stock rises far above the exercise price.

44) A warrant is of huge benefit to the company when the stock rises far above the exercise price.

45) As a financing device for creating common stock, warrants are usually more desirable than convertible bonds.

46) Warrants are considered in-the-money when the exercise price is above the current market price.

47) Warrants are considered in the computation of "diluted earnings per share," but not in "basic earnings per share."

48) Theoretically, stock options are granted to employees so that the employees will make decisions that benefit the owners or shareholders.

49) Most corporations include call provisions in agreements relating to the issue of warrants.

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50) Forced conversions of convertible bonds occur when unethical corporate executives call corporate bonds prematurely.

51) In one stroke through forced conversion, the balance sheet changes, the debt becomes equity, and the debt disappears. The result is that the debt-to-equity ratio and the debt-to-asset ratio decline.

52) Convertible bonds and convertible preferred stock are used on a regular basis by corporations to diversify their capital structure.

53) The conversion value is equal to the conversion ratio times the conversion price.

54) When the market price of a common stock rises above the conversion price, the convertible bond should always be converted immediately before it drops.

55) The conversion premium of a convertible bond is generally greater when the market price of the stock is below the conversion price.

56) Convertible bonds offer minimal risk of loss to the investor due to their floor value.

57) Investors will generally choose the call price rather than the shares of stock during a forced conversion.

58) A "put option" is the right to purchase securities at a predetermined price.

59) A "call option" is the right to purchase securities at a predetermined price.

60) "Futures contracts" can lock in prices, interest rates, and foreign currency exchange rates, compelling both parties to complete a transaction in accordance with these terms at a later date.

61) A convertible security is almost always A) a security that can be converted into any other type of security.

B) a debt security that can only be converted into preferred or common stock.

C) a security that can be converted into common stock at the holder's option.

D) a security that can be converted into common stock only at the option of the issuing corporation.

62) A convertible bond is currently selling for $970. It is convertible into 15 shares of common stock that presently sell for $50 per share. The conversion premium is A) $90.

B) $220.

C) 57 shares.

D) 13 shares.

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63) If the price of common stock associated with a convertible bond is less than the conversion price A) the bond will sell at its pure bond value.

B) the bond will sell at its par value.

C) the bond will sell at its conversion value.

D) there is not enough information to tell what the bond price will be.

64) The conversion ratio is the A) price at which a convertible security is exchanged into common stock.

B) ratio of conversion value to market value of a convertible security.

C) number of shares of common stock that the convertible debt may be converted into.

D) ratio of the conversion premium to market value of a convertible security.

65) The conversion premium will be large A) if investors have great expectations for the price of the common stock.

B) if interest rates decline.

C) when the conversion value is much greater than the pure bond value.

D) when the stock price is very stable.

66) Which of the following is true?

A) As the price of common stock increases, the market price of a convertible bond and the conversion premium increase.

B) As the price of common stock increases, the market price of a convertible bond and the conversion value increase.

C) As the price of common stock increases, the conversion value and the floor price increase.

D) Two of the options are true.

67) What is the difference between the conversion value and conversion premium?

A) The conversion value is the total value received if converted and the conversion premium is the difference between the value that would be received and how much the bond is selling for.

B) The conversion value is the total value of what the bond is selling for and the conversion premium is the difference between the value that would be received and how much the bond is selling for.

C) The conversion value is the total value received if converted and the conversion premium is the difference between the value that would be received and the par value of the stock.

D) There is no difference since conversion value and conversion premium mean the same thing.

68) Expectations of a significant increase in the price of a firm's common stock will result in A) large conversion premiums for the firm's convertible bonds.

B) small conversion premiums for the firm's convertible bonds.

C) negative conversion premiums for the firm's convertible bonds.

D) no effect at all on conversion premiums.

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69) A convertible bond is currently selling for $1,125. It is convertible into 20 shares of common stock that presently sell for $40 per share. The conversion premium is A) $325.

B) $800.

C) 66.74 shares.

D) 23.8 shares.

70) A $1,000 par value bond with a conversion price of $50 has a conversion ratio of A) $40.

B) 40 shares.

C) $20.

D) 20 shares.

71) The theoretical floor value for a convertible bond is its A) conversion price.

B) conversion value.

C) par value.

D) pure bond value.

72) The floor price of a convertible bond cannot fall below A) the conversion ratio.

B) the conversion price.

C) the conversion premium.

D) the pure bond value.

73) The price of a convertible bond A) has downside as well as upside limitations.

B) has only upside limitations.

C) has only downside limitations.

D) has no upside or downside limitations.

74) The conversion premium is the greatest and the downside risk the smallest when A) the conversion value equals the pure bond value.

B) the conversion value is greater than the pure bond value.

C) the conversion value is less than the pure bond value.

D) the stock price is expected to go up drastically.

75) The "floor" or pure bond value of a convertible bond is found by A) multiplying the price of the firm's common stock by the conversion ratio.

B) multiplying the bond's conversion premium by the price of the firm's common stock.

C) multiplying the price of the firm's common stock by the conversion ratio and adding the present value of the bond's face value.

D) adding the present value of the bond's interest payments to the present value of the bond's face value.

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76) The interest rate on convertibles is generally ________ the interest rate on similar nonconvertible instruments.

A) greater than B) less than C) the same as D) at least twice 77) A convertible bond is often utilized A) as a sweetener when selling debt.

B) to sell common stock at prices higher than those prevailing when funds are needed.

C) when there is no demand for straight debt.

D) all of these options are true.

78) A disadvantage to the investor of a convertible bond is that A) the stock price may never rise above the conversion price.

B) if interest rates rise, the pure bond value (floor price) will decline.

C) the interest rate on convertibles is generally one-third below the coupon rate on straight bonds of similar risk.

D) all of these options are disadvantages.

79) The difference between convertible debt and non-convertible debt is A) convertible debt is not affected by interest rate changes, while non-convertible debt is.

B) convertible debt is not considered a liability since it can be exchanged for stock, while non-convertible debt is.

C) convertible debt can be converted into stock at any point in time, while non-convertible debt can not.

D) convertible debt can come with downside protection, while non-convertible debt does not.

80) Conversion price is usually set ________ the prevailing market price of the common stock at the time the bond issue is sold.

A) at B) below C) above D) one half 81) Which of the following is not a characteristic of convertible bond issues?

A) The average size of the offering is small.

B) A 15-20% conversion premium at the time of issue is common.

C) Large companies with billions of dollars in sales and assets are the primary issuers.

D) Primary issuers tend to have less than AAA bond credit ratings.

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82) If the stock price rises substantially above the conversion price, an advantage to the corporation would be that A) the premium would decrease.

B) the floor price would offer the investor downside protection.

C) the bond would most likely be converted into common stock and the debt would not have to be repaid.

D) None of these options are advantages to the corporation.

83) One advantage to the corporation in selling a convertible bond is A) the interest rate on a convertible is lower than a straight debt issue of equal risk.

B) the bond may never get converted into common stock and create dilution.

C) if interest rates fall, the bond is likely to be refunded.

D) all of these options are advantages.

84) Which of the following characteristics are drawbacks of convertible bonds?

A) Downside protection has minimal effectiveness if the bond is bought at a large premium over floor value.

B) Interest rates on the debt-instrument part of a convertible bond are frequently below market interest rates.

C) Conversion may be forced on the bondholder by call provisions on the convertible bond.

D) All of these options are drawbacks of convertibles.

85) The principle device used by the corporation to force conversion A) is setting the conversion price above the current market price.

B) is reducing the amount of interest payments.

C) is buying bonds back at below par value.

D) is a call provision.

86) When a company has a convertible bond in its capital structure, A) it can reduce its debt-to-equity ratio by calling the bond.

B) there is no effect on the firm's diluted earnings per share.

C) there is no advantage to the firm in forcing conversion of the bonds.

D) all of these options are correct.

87) A step-up in the conversion price refers to A) the ability of the company to step up the maturity of the bond to an earlier date.

B) the provision that decreases the conversion ratio the longer a convertible bond is held.

C) a refunding of a convertible bond when the conversion value equals the pure bond value.

D) none of these options are true.

88) The computation of "basic earnings per share" will include consideration of A) retained earnings.

B) shares outstanding.

C) shares outstanding and convertible securities.

D) all of these options are correct.

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89) Mirrlees Corp. has $3,000,000 bonds convertible into 50 shares per $1,000 bond. Mirrlees has 1,000,000 outstanding shares. Mirrlees has a tax rate of 21%. The average Aa bond yield at the time of issue was 10%. Compute the "basic earnings per share" if after-tax earnings are $1,400,000.

A) $0.71 B) $1.25 C) $1.33 D) $1.40 90) Mirrlees Corp. has $3,000,000 bonds convertible into 50 shares per $1,000 bond. Mirrlees has 1,000,000 outstanding shares. Mirrlees has a tax rate of 21%. The average Aa bond yield at the time of issue was 10%. Compute the "diluted earnings per share" if after-tax earnings are $1,400,000.

A) $1.42 B) $1.25 C) $1.33 D) $1.17 91) Vickrey Technology has had net income of $1,500,000 in the current fiscal year. There are 1,000,000 shares of common stock outstanding along with convertible bonds, which have a total face value of $8 million. The $8 million is represented by 5,000 different $1,000 bonds. Each $1,000 bond owes and pays 4% interest. The conversion ratio is 30. The firm is in a 21% tax bracket. What is Vickrey's "diluted earnings per share?"

A) $1.44 B) $1.81 C) $2.00 D) $1.30 92) Jacobs Company has warrants outstanding, which are selling at a $2.50 premium above intrinsic value. Each warrant allows its owner to purchase one share of common stock at $26. If the common stock currently sells for $30, what is the warrant price?

A) $6.40 B) $6.75 C) $7.25 D) $6.50 93) Which of the following is true about warrants?

A) At high stock prices, the warrant premium is high.

B) A rising stock price is usually followed by an increase in the price of the warrant.

C) Warrants usually allow the purchase of common and preferred stock.

D) All of these options are true.

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94) The Burma Hat Company's warrant is trading for $10.20. The warrant carries the option to purchase two shares of common stock for $48. What is the speculative premium if the stock price is $51.30?

A) $3.30 B) $3.60 C) $6.60 D) $10.20 95) Warrants are A) long-term options to sell shares of the issuing firm's stock.

B) fairly stable, low-risk investments.

C) investments whose value is directly related to the price of the underlying stock.

D) structured to sell for precisely their intrinsic value.

96) The intrinsic value of a warrant to buy four shares of Merton stock at $53 per share is $20.

What is the current market price of Merton stock?

A) $55.00 B) $59.00 C) $58.00 D) None of these options are correct 97) Rocky Scholes Swimwear's warrant is trading for $10.00. The warrant carries the option to purchase a half share of common stock for $50. What is the speculative premium if the stock price is $65?

A) $1.00 B) $2.50 C) $5.00 D) $15.00 98) Sen Corporation warrants carry the right to buy 10 shares of Sen common stock at $11.00 per share. The common stock has a current market price of $11.75 per share. The intrinsic or minimum value of one Sen warrant is ________.

A) $0 B) $1.50 C) $15 D) $7.50 99) A warrant that does not expire until several years into the future provides its owner the opportunity to buy a stock. If the stock price rises, the warrant will probably sell for A) less than its intrinsic value.

B) exactly its intrinsic value.

C) more than its intrinsic value.

D) less than or equal to its intrinsic value.

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100) A contract giving the owner the right to buy or sell an asset at a fixed price for a given period of time is A) a common stock.

B) an option.

C) a futures contract.

D) a capital investment.

101) A derivative is a financial instrument whose value is determined by A) a regulatory body such as the SEC. B) an underlying security.

C) futures and options.

D) None of these options are correct.

102) Options contracts are different than futures contracts because A) options are not traded on organized exchanges.

B) options do not create an obligation for the owner of the instrument.

C) options are derivatives.

D) options allow exchanges to happen today while futures are only in the future.

103) The owner of a call has A) the right and the obligation to buy an asset at a given price.

B) the right and the obligation to sell an asset at a given price.

C) the right but not the obligation to buy an asset at a given price.

D) the right but not the obligation to sell an asset at a given price.

104) The owner of a put has A) the right and the obligation to buy an asset at a given price.

B) the right and the obligation to sell an asset at a given price.

C) the right but not the obligation to buy an asset at a given price.

D) the right but not the obligation to sell an asset at a given price.

105) Which contract is an option?

A) A call B) A put C) A futures contract D) Both a call and a put 106) All of the following are advantages to the corporation of issuing convertibles EXCEPT: A) Provides a low-cost financing alternative for large, high-quality companies.

B) Is used when the corporation believes its stock is undervalued.

C) Generally is lower cost than straight debt.

D) Provides access for small companies to the debt market.

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107) The following benefits occur to the corporation after a forced conversion of a convertible bond EXCEPT: A) Lower times interest earned ratio B) Lower debt-to-asset ratio C) Higher earnings after taxes D) All of these options are benefits.

108) Which of the following characteristics are true of a forced conversion?

A) The balance sheet changes B) The debt becomes equity C) The debt disappears D) All of these characteristics are true.

109) All of the following are motivation for firms to issue warrants EXCEPT: A) Firms may be allowed to issue debt at a lower rate when warrants are included B) Warrants are used as a sweetener during merger negotiations C) Warrants are more desirable than convertible securities for creating new common stock D) All of these options are motivations to issue warrants.

Foundations of Financial Management, 17e (Block) Chapter 20 External Growth through Mergers 1) In a merger, two or more companies are combined to form an entirely new entity.

2) One motivation to merge is through tax savings.

3) U.S. is different from other countries in regards to what is considered taxable income. If income is earned overseas, the company still has to pay tax to the U.S. government regardless if the income has already been charged tax in another country.

4) Risk-averse investors may discount the future earnings of the merged firm at a higher rate if they move in different directions during business cycles.

5) One potential advantage of a merger to the acquiring firm is the "portfolio effect," which attempts to achieve risk reduction while perhaps maintaining the rate of return for the firm.

6) The potential of a tax loss carryforward has no effect when considering the acquisition of a company.

7) Too much diversification has led many companies to sell off companies previously acquired during the merger boom.

8) Mergers often improve the financing flexibility that a larger company has available.

9) A tax loss carryforward of $1,000,000 for company ZZZ is not usually worth $1,000,000 in today's dollars to a firm that might acquire company ZZZ. 273 Copyright © 2019 McGraw-Hill Education. All rights reserved.

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10) The stock market's reaction to divestitures may actually be positive if the divestiture is perceived to rid the company of an unprofitable business, or if it seems to sharpen the company's focus.

11) The portfolio effect of a merger is greatest for the stockholders of the firm being acquired.

12) The desire to expand management and marketing capabilities is a direct financial motive for an acquisition.

13) The 2017 Tax Cuts and Jobs Act created a territorial tax system where taxes are accrued in the country where the income is earned.

14) The 2017 Tax Cuts and Jobs Act has put US companies on the same footing as foreign competitors and eliminates the need for inversions, meaning US companies no longer need to keep foreign earnings abroad to avoid paying US taxes when they bring the cash back to the US. 15) Synergy is said to take place when the merged companies are greater than the individual companies working separately.

16) Under the 2017 Tax Act, the benefit of net operating losses carried forward is not impacted by the lower tax rate of 21 percent.

17) Synergy effect is said to happen when the merged companies are able to work together and eliminate some of the repeated divisional tasks, proving that the company is better off being merged.

18) Vertical integration usually represents acquisition of a competitor.

19) An example of horizontal integration is if Macy's and JC Penney were to merge.

20) Antitrust policy can preclude the acquisition of a competitor.

21) Most mergers are horizontal in nature in order to avoid the potential antitrust complications involved with the elimination of competition.

22) In a horizontal merger, the integration that occurs comes from acquiring companies that supply resources to the company's production process.

23) While a horizontal merger may improve profitability, it will not necessarily reduce the portfolio risk of the acquiring company.

24) Horizontal integration is usually prohibited or severely restricted by government antitrust regulations.

25) Synergy is the greatest and most easily measured nonfinancial benefit in a merger.

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value.

27) A motive for selling stockholders may be the bias against smaller companies.

28) A cash purchase of one company by another is similar to a capital budgeting decision.

29) Following a merger, the change in the risk profile of the merged companies may influence the price earnings ratio just as much as the change in the overall growth rate.

30) Stockholders of acquired firms in mergers tend to be more concerned with future earnings and dividends exchanged than with the market value exchanged.

31) By using cash instead of stock, a company may diminish the perceived dilutive effects of a merger.

32) If the purchasing firm's price earnings ratio is greater than the acquired firm's price earnings, the surviving firm will automatically get an increase in earnings per share.

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33) The earnings-per-share impact of a merger is influenced by relative price-earnings ratios and the terms of exchange.

34) A "takeover tender offer" describes the attempted purchase of a firm with the consent of that firm's management.

35) A "takeover tender offer" lets a company attempt to acquire a target firm against its will.

36) For mergers occurring after 2001, goodwill must be amortized and written off over 40 years or less.

37) For mergers occurring after 2001, goodwill is valued and placed on the balance sheet as an asset and impairment is the only way to devalue it.

38) Goodwill is created when the purchasing firm pays more than what the acquired firm is worth.

39) The existing management of a firm is almost always ready to accept an offer for the purchase of the firm at a price above the market price.

40) If an acquiring firm's merger proposal was rejected by a target firm's management and board of directors, the acquiring firm could utilize a tender offer to gain control of the target firm.

41) Leveraged takeovers occur to firms that have an unusually large cash to total assets position.

42) "Poison pills" are strategies that reduce the value of a firm if it is taken over by a corporate raider.

43) Leveraged buyouts are restricted to "outside" tender offers.

44) The "two-step buyout" procedure allows the acquiring firm to pay a lower total price than if a single offer is made.

45) The "two-step buyout" procedure induces stockholders to delay their reaction to the offer, since they will receive a higher price later.

46) After a merger has been announced, subsequent cancellation generally causes the potential acquiree's stock to decline in value.

47) Although corporate managers have a responsibility to act in the shareholders' best interest, management frequently opposes acquisitions due to personal motives.

48) One of the reasons that companies merge with other companies is to secure access to a competing industry.

49) Multinational mergers provide economic and political diversification, which can lead to a higher cost of capital for the new firm.

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50) Selling stockholders generally receive a price below the current market value of their prior stock during a merger.

51) It is possible to merge with a company so that the merger results in the same earnings per share but still lowers the new firm's cost of capital.

52) A business combination of two or more companies in which the resulting firm maintains the identity of the acquiring company is defined as a A) consolidation.

B) holding company.

C) conglomerate.

D) merger.

53) Which one of the following types of mergers is most likely to lead to diversification benefits?

A) A horizontal merger B) A vertical merger C) A tax-free exchange D) A conglomerate merger 54) When a tobacco firm merges with a steel company, it would be called A) a horizontal merger.

B) a vertical merger.

C) a conglomerate merger.

D) a consolidation.

55) Which of the following is NOT a potential benefit of a merger?

A) An improved financing posture B) A portfolio effect C) Dilution of earnings per share D) A tax loss carryforward 56) The rising ratio of divestitures to new acquisitions that occurred in the past suggests that A) poison pills are no longer effective as a defense against takeovers.

B) too much diversification strained the operating capabilities of many firms.

C) the portfolio effect has been a highly successful method of reducing risk.

D) multinational firms are increasingly considered high risk investments.

57) The direct financial motives for merger activity include all of the following EXCEPT: A) The portfolio effect B) An improved financial posture and greater debt C) The utilization of tax loss carryforwards D) Vertical integration

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58) The Celluloid Collar Corporation has $210,000 in tax loss carryforwards. The Bowstring Shirt Company, a firm in the 21% tax bracket, would be willing to pay (on a non-discounted basis) the sum of ________ for Celluloid Collar Corporation's carryforward alone.

A) $108,000 B) $52,000 C) $44,100 D) $700,000 59) Synergy is said to occur when the whole is A) equal to the sum of the parts.

B) less than the sum of the parts.

C) greater than the sum of the parts.

D) greater than or equal to the sum of the parts.

60) Synergy is said to occur when the merged company is A) able to eliminate divisions that were doing the same tasks.

B) able to combine the marketing efforts of all merged companies.

C) able to get the employees from all merged companies to work towards one company goal.

D) all of the answers are correct.

61) Synergy is A) the 2 + 2 = 3 effect.

B) the 2 + 2 = 4 effect.

C) the 2 + 2 = 5 effect.

D) always present in a merger.

62) In planning mergers, there is a tendency to ________ synergistic benefits.

A) overestimate B) underestimate C) correctly estimate D) not estimate 63) Which of the following is NOT a motive for stockholders of the acquired company to sell?

A) The opportunity to diversify B) Gaining a tax advantage C) An attractive price D) Avoiding bias against smaller businesses 64) Which of the following types of mergers decreases competition?

A) A horizontal merger B) A vertical merger C) A cash purchase D) A stock-for-stock exchange

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65) Which of the following types of mergers goes against the antitrust policy?

A) A horizontal merger B) A vertical merger C) A cash purchase D) A stock-for-stock exchange 66) Which of the following is NOT a financial motive, but rather an operating motive for mergers and consolidations?

A) The portfolio diversification effect B) Tax loss carryforward C) Greater financing capability D) Synergy 67) An example of a horizontal merger would be A) Pepsi and Sears.

B) McDonald's and Pillsbury.

C) Pepsi and Frito Lay. D) Coca-Cola and Dr Pepper.

68) The elimination of overlapping functions and the meshing of two firms' strong areas or products creates the managerial incentive for mergers known as A) horizontal integration.

B) vertical integration.

C) synergy.

D) the portfolio effect.

69) Selling stockholders who are offered cash or another company's stock in a merger may be willing to part with the shares because A) the offered shares may be more marketable.

B) the price they are offered may be above market value.

C) they can attain a greater degree of diversification as a result.

D) all of these options are true.

70) Nonfinancial motives for mergers include A) synergy.

B) the portfolio effect.

C) vertical integration.

D) synergy and vertical integration.

71) Which of the following terms is not specifically related to an unfriendly buyout?

A) Takeover tender offer B) White knight C) Saturday night special D) Synergy

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72) Aardvark Software Inc. can purchase all the stock of Zebra Computer Services for $1,200,000 in cash. Zebra is expected to generate net after-tax cash flows of $100,000 per year for each of the next 12 years. Based solely on the facts provided, Aardvark should A) not purchase Zebra Computer Services.

B) purchase Zebra Computer Services.

C) purchase Zebra only if Aardvark's cost of capital is between 5% and 10%.

D) purchase Zebra only if Aardvark's cost of capital is above 10%.

73) Which of the following is NOT a form of compensation that selling stockholders could receive?

A) Stock B) Cash C) Stock options D) Fixed income securities 74) The Prada Corporation is considering a merger with the Stone Company, which has 500,000 outstanding shares selling for $30. An investment banker has advised that to succeed in its merger, Prada Corp. would have to offer $45 per share for Stone's stock. Currently, Prada Corp. stock is selling for $25. How many shares of Prada Corp. stock would have to be exchanged to acquire all of Stone Company's stock?

A) 266,667 B) 600,000 C) 900,000 D) 20,000 75) Earnings per share of the purchasing firm usually goes in which direction during a merger?

A) EPS will increase immediately if the purchased firm has a lower P/E ratio.

B) EPS will decrease immediately if the purchased firm has a lower P/E ratio.

C) EPS is not affected by the merger.

D) EPS will increase in the future if the purchased firm is less aggressive.

76) In the event that Active Corp., which has a low P/E ratio, acquires Basic Corp., which has a higher P/E ratio, we could be assured that one of the following would occur, with everything else being equal. Which one would occur?

A) Active Corp. will have an immediate increase in EPS. B) Active Corp. will have an immediate decrease in EPS. C) Active Corp. will have an immediate increase in the growth rate of EPS. D) Active Corp. will have an immediate decrease in the P/E ratio.

77) The portfolio effect in a merger has to do with A) increasing EPS. B) reducing risk.

C) creating tax advantages.

D) writing off goodwill.

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78) White knights A) advise companies on ways to avoid being taken over.

B) offer a higher purchase price and "friendlier offer" in the event of an unsolicited and unfriendly takeover attempt.

C) attempt to make money in the stock market on stocks that are likely merger candidates.

D) buy depressed stock of quality companies when merger talks are discontinued.

79) The price that a company has to pay to purchase another firm is usually A) the book value.

B) the market value.

C) some premium over the current market value.

D) some discount of the current market value.

80) The typical merger premium is ________.

A) 0-20% B) 40% C) 40-60% D) 80-100% 81) The two-step buyout is a recent merger ploy that has which of the following characteristics?

A) It is negotiated in a social, rather than a business setting.

B) The acquiring firm offers to pay a very high price for the target company's stock, and a short time later announces another price that may be higher or lower.

C) The acquiring firm offers to pay a very high price for the target company's stock for a limited time only, after which it will pay a lower price.

D) It forces stockholders to sell out.

82) Under a two-step buyout procedure A) shareholders receive a higher total price than if a single offer is made.

B) the second offer is at a higher price per share.

C) shareholders are encouraged to react quickly to the offer.

D) two of the options are correct.

83) In regard to two-step buyouts, A) the SEC highly approves of them.

B) the FTC highly approves of them.

C) the SEC is keeping a close eye on them.

D) the FTC is keeping a close eye on them.

84) Which of the following is NOT a potential challenge to a merger?

A) Anti-trust laws B) Dilution C) Firm valuation D) Synergy

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85) Under the Financial Accounting Standards Board's SFAS 141 and 142, which of the following occurred?

A) Goodwill is now amortized.

B) At least four times per year, goodwill must be tested to determine if it is impaired.

C) It allowed a one-time write-down of all past goodwill impairment.

D) It created pooling of interests accounting.

86) To qualify for a pooling of interests, which of the following criteria does not need to be met?

A) The acquiring corporation issues only common stock, with rights identical to its old outstanding voting stock, in exchange for substantially all of the other company's voting stock.

B) The acquired firm's stockholders do not maintain an ownership position in the surviving firm.

C) The combined entity does not intend to dispose of a significant portion of the assets of the combined companies within two years.

D) The combination is effected in a single transaction.

87) Which of the following is NOT a method of avoiding a takeover?

A) Increasing the firm's cash level B) Moving corporate offices to advantageous states C) Staggering the election of boards of directors D) Buying back shares Foundations of Financial Management, 17e (Block) Chapter 21 International Financial Management 1) The North American Free Trade Association (NAFTA) continues to generate more foreign trade despite some negative political views.

2) During the global financial crisis that began in late 2008, the dollar fell in value relative to the British pound and the euro.

3) All of the countries that joined the "Eurozone" have experienced economic success for various reasons.

4) One benefit in joining the "Eurozone" was to have easy access to borrowing.

5) When a country has a weak currency relative to other countries, visiting that country is much more expensive for people that don't live in that country.

6) An exporter is able to satisfy foreign demand for a product while avoiding long-term investment in that foreign country, although this method is considered riskier than all other alternatives.

7) A Multinational corporation can take the form of an exporter, licensing agreement, joint venture and a fully owned foreign subsidiary.

8) Companies such as Coca-Cola and McDonald's generate more than 50% of their sales revenues from foreign activities.

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9) A joint venture with a private entrepreneur in a host country exposes the multinational corporation to the least amount of political risk.

10) In recent years, fully owned foreign subsidiaries are experiencing increased political pressure from foreign governments.

11) A foreign affiliate may be an exporter, a joint venture, or a fully owned foreign subsidiary.

12) A foreign affiliate lowers the portfolio risk of its parent company because the foreign and domestic economies tend to be fairly similar.

13) Multinational firms tend to have a lower level of portfolio risk than comparable U.S. firms.

14) Investors and firms who diversify their U.S. portfolios by buying foreign stocks or investing in foreign subsidiaries take on a much higher level of portfolio risk than if they had invested in domestic stocks or companies only.

15) There is no guarantee that any currency will stay strong relative to other currencies, but the dollar is an exception.

16) A forward exchange rate can be used to help establish the value of a currency at a future point in time.

17) Currency exchange rates may be either floating or fixed.

18) In a free market, the exchange rate between two currencies is determined by the supply of and demand for those currencies with the influence of the central bank.

19) Fundamental factors, such as inflation, interest rates, balance of payments and government policies do not play much of a role in explaining short and long term fluctuations of a currency value.

20) A foreign exchange rate specifies how much a currency is worth in terms of another currency.

21) The purchasing power parity theory of exchange rates suggests that exchange rates will adjust until the cost of equivalent goods is approximately equal in each country.

22) The purchasing power parity theory states that currency exchange rates tend to vary inversely with their respective purchasing powers in order to provide similar purchasing powers.

23) "Balance of payments" is a method of keeping the foreign exchange market in equilibrium.

24) A "bear market" (declining stock prices) will tend to exert a depressing effect on the value of a country's currency.

25) According to the interest rate parity theory, interest rates along with exchange rates adjust until the foreign exchange market and the money market are in equilibrium.

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26) The term balance of payments refers to the flow of economic transactions between the residents of one country and the residents of another.

27) Political risk and labor unrest will tend to strengthen a country's currency.

28) The expected future value of a currency is reflected in its spot rate.

29) The future rates of currency tend to increase for dates further in the future because of the increasing uncertainty over time.

30) A tactic a country can use to promote cheap exports may be to deliberately pursue a policy of maintaining an undervalued currency.

31) Forward contracts tend to be created on organized exchanges like the International Money Market of the Chicago Mercantile Exchange.

32) Foreign exchange risk is the risk that a person or business will not be able to exchange currencies.

33) Translation exposure occurs because of changes in foreign exchange rates.

34) Transaction exposure results in foreign exchange gains and losses.

35) Transaction exposure associated with changes in the exchange rate between countries can be hedged with a currency futures contract.

36) A money market hedge does not require the use of a futures exchange.

37) A firm that perhaps suffers a loss as a result of a decline in the value of the Japanese yen could offset part of that risk by selling Japanese yen futures.

38) Political risks include the possibility that a government may expropriate a firm's profits, or worse, repatriate all of the firm's assets.

39) In Germany, restrictions limiting labor layoffs have encouraged companies to reduce investment there. Thus, in the long run, these labor protection laws actually could result in higher unemployment in Germany.

40) When a bank issues a "letter of credit," the bank absorbs ALL of the credit risk of the exporter.

41) In the financing of a foreign affiliate, the simplest and most common arrangement is a direct loan from the parent company to the subsidiary.

42) In a fronting loan arrangement, the intermediary bank extends a risk-free loan to the foreign affiliate.

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43) A fronting loan disguises the identity of a parent multinational corporation that infuses money into a foreign subsidiary. This technique is intended to reduce the political risk of operating a subsidiary in a foreign country.

44) The lending rate for borrowers in the Eurodollar market is based on the prime lending rate.

45) The most widely used currency in the Eurobond market is the euro.

46) Eurobond issues are sold simultaneously in several national capital markets, but denominated in a currency different from that of the nation in which the bonds are issued.

47) Selling common stock to residents of foreign countries is illegal in most countries, although it minimizes risk for any multinational corporation.

48) Because of political risk, it is generally disadvantageous for U.S. firms to list their stocks on the world stock exchanges.

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49) When the euro rises and the dollar falls, foreign travel to Europe becomes cheaper for Americans.

50) When a multinational corporation's foreign assets and liabilities are exposed to losses and gains due to changing exchange rates, this is called accounting or translation exposure.

51) A rising euro and a falling dollar will cause an increase in U.S. exports to Europe.

52) A licensing agreement provides a U.S. multinational corporation with a guarantee that it will be able to export the product to the foreign market.

53) As inflation in any "Eurozone" country increases, while the U.S. experiences no change in inflation, the exchange rate of the euro to the dollar will increase.

54) The possibility of political risk may be excluded when an investor considers maximizing expected returns.

55) An example of comparing cross rates for countries is like comparing the U.S. dollar to the Japanese yen.

56) A multinational corporation may be defined as A) a company that owns property in a foreign country.

B) a company that hires foreign laborers.

C) a company that carries on some business activity outside of its own national borders.

D) all of the options are true.

57) Multinational corporations (MNC) may take several forms. An exporter could be described as A) a MNC that produces a product within its own borders, but sells in a foreign market.

B) the least risky political arrangement.

C) a MNC willing to commit itself to long-term foreign investment.

D) More than one of the options is correct.

58) In a licensing agreement, the multinational corporation will very likely A) be able to compete with the local domestic manufacturers.

B) experience lower tariffs by the foreign government.

C) allow a foreign firm to use its technology in exchange for a fee.

D) none of these options are true.

59) A form of multinational corporation (MNC) that exposes the firm to the least amount of political risk, and is therefore the preferred arrangement by both business and foreign governments, is called A) an exporter.

B) a licensing agreement.

C) a joint venture.

D) a fully owned foreign subsidiary.

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corporation (MNC) organization?

A) Exporter/importer B) Licensing agreements C) Joint ventures D) Fully owned foreign subsidiaries 61) For a U.S. company, foreign business operations are more complex because the A) host country's economy may be different from the domestic economy.

B) rules of taxation are different.

C) structure and operations of financial markets vary.

D) all of these options are true.

62) A fully owned foreign subsidiary is a form of MNC (multinational corporation) in which A) a local entrepreneur buys the firm in its own foreign country.

B) the MNC owns and operates the firm by itself.

C) the foreign government gives its full cooperation.

D) none of these options are true.

63) A particular country's pattern of importing more than is being exported is likely to A) depress that country's currency.

B) depress other countries' currencies.

C) increase the value of that country's currency.

D) more than one of the options is correct.

64) Which of the following is NOT an accusation made against multinational corporations (MNCs) by foreign countries?

A) MNCs cause instability in their currencies in international money and foreign exchange markets.

B) MNCs contribute to unemployment and avoid taxes.

C) MNCs exploit local labor with low wages.

D) All of these options are accusations made by critics of MNCs. 65) If one Czech crown is equal to $0.05 U.S. dollar, the U.S. dollar is equal to how many Czech crowns?

A) 25.00 B) 4.00 C) 20.00 D) 400.00 66) As exchange rates change, the rates A) change the relative purchasing power between countries.

B) can affect imports and exports between those two countries.

C) will affect the flow of funds between the countries.

D) all of these options are true.

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67) If prices double in New York while the prices in Germany remain the same, the purchasing power of the dollar relative to the euro A) should increase by 50%.

B) should increase by 100%.

C) should decrease by 50%.

D) should decrease by 100%.

68) When Country A's currency strengthens against Country B's, citizens of Country A will A) pay less to buy Country B's products.

B) pay more to buy Country B's products.

C) pay more to buy domestically produced products.

D) not be affected by the change in their currency's value.

69) You travel to Cancun Mexico for spring break. The current exchange rate is 13 pesos to the dollar. When you arrive, you convert $1,000 into how many pesos?

A) 1,300 pesos B) 80 pesos C) 13,000 pesos D) 77 pesos 70) You are leaving Mexico and have 290 pesos to change into dollars. The exchange rate is now 12 pesos to the dollar. Approximately how many dollars will you receive?

A) $3025.00 B) $24.17 C) $264.00 D) $3,480.00 71) In the past, the U.S. dollar's exchange rate with the Iceland krona was 0.0008 dollars per krona.

If today the exchange rate is 0.0006 dollars per krona, the dollar A) strengthened against the krona.

B) weakened against the krona.

C) is not highly correlated to the krona.

D) The answer cannot be determined without knowing the number of kronas needed to buy a dollar.

72) While shopping in the Mexican market, you find that limes cost 11 pesos each. You remember that back in the U.S., they cost 80 cents each. If the purchasing power parity theory holds, the rate of exchange is A) 13.75 pesos/dollar or 7.3 cents/peso.

B) 80 pesos/dollar or 1.25 cents/peso.

C) 7.3 pesos/dollar or 13.75 cents/peso.

D) 11 pesos/dollar or 0.80 cents/peso.

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73) Which of the following factors will NOT increase the value of a currency in foreign markets?

A) High interest rates in that country B) High inflation in that country C) A positive balance of payments with that country D) A strong stock market rally in that country 74) Which of the following are strategies that can be used to minimize transaction exposure?

A) Hedging in the forward exchange market.

B) Hedging in the money market.

C) Hedging in the currency futures market.

D) All are strategies used to minimize transaction exposure.

75) The interplay between interest rate differentials and exchange rates such that each adjusts until the foreign exchange market and the money market reach equilibrium is called the A) purchasing power parity theory.

B) balance of payments.

C) interest rate parity theory.

D) multinational corporation.

76) The value of a country's currency may increase by A) continuous excessive government spending.

B) a stock market rally in that country.

C) an increase in that country's money supply.

D) More than one of the options is correct.

77) The belief that shifts in exchange rates result from increasing or decreasing demand for a country's exports (or the corresponding opposite movements in supply of a country's imports) forms the basis for the A) purchasing power theory of exchange rates.

B) interest rate parity theory of exchange rates.

C) balance of payments theory of exchange rates.

D) government intervention theory of exchange rates.

78) Which of the following statements about forward exchange rates is false?

A) They reduce uncertainty about the future value of currencies.

B) They reflect expectations about the future value of currencies.

C) They are usually slightly lower than the spot rate.

D) All of these options are true.

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79) The following are the prices in the foreign exchange market between the U.S. dollar and another local currency (LC).

Spot 3-month forward 6-month forward

$0.03112/LC $0.03117/LC $0.03118/LC

What was the approximate discount or premium on a three-month forward for LC? A) 0.643% premium B) 0.013% premium C) 0.013% discount D) 0.643% discount 80) The spot rate of the British pound to the dollar is $1.15. The 180-day forward rate is $1.17.

Thus, the approximate annualized forward premium is ________.

A) 1.018% B) 3.571% C) 7.273% D) 3.478% 81) The Swiss franc is selling for $0.9412 and the British pound is selling for $1.5119. The cross rate between the franc and the pound (the number of Swiss francs that would buy one British pound) is approximately: A) 0.161 B) 1.61 C) 0.0322 D) 3.22 82) Assume that you had U.S. dollar quotes for the Japanese yen and the British pound. If you want to know the yen/pound exchange rate, you would rely on A) forward rates.

B) cross rates.

C) The Wall Street Journal.

D) hedge ratios.

83) Which of the following hedging strategies is not used to minimize transaction exposure?

A) The Eurobond market B) The forward exchange market C) The money market D) The currency futures market 84) Which of the following kinds of risk is NOT uniquely associated with multinational corporations (MNCs)?

A) Exchange rate risk B) Business risk C) Political risk D) None of these options are uniquely associated with MNCs. 290 Copyright © 2019 McGraw-Hill Education. All rights reserved.

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85) The possibility of experiencing a drop in revenue or an increase in costs in an international transaction due to a change in foreign exchange rates is called A) foreign exchange risk.

B) political risk.

C) translation exposure.

D) hedging risk.

86) Which of the following is not commonly used to minimize transaction exposure in foreign exchange dealings?

A) Hedging in the forward exchange market B) Hedging in the money market C) Hedging in the stock market D) Hedging in the currency futures market 87) A firm exposed to exchange rate risk can hedge its risk by A) using the forward exchange market.

B) borrowing in international money markets.

C) utilizing foreign currency futures markets.

D) All of these options are true.

88) Which of the following hedging strategies involves a loan without a futures contract?

A) The Eurobond market B) The forward exchange market C) The money market D) An International Money Market (IMM) contract 89) What has motivated American firms to move their operations to foreign countries?

A) Trade barriers, lower production costs, access to skilled workers, and U.S. tax deferral B) Trade barriers, lower production costs, access to natural resources, and manufacturing C) Import tariffs, foreign unions, foreign technology, and expropriation D) Lower production costs, U.S. tax deferral, access to natural resources, manufacturing, and expropriation 90) Which of the following is not a reason for U.S. firms operating in foreign markets?

A) Less expensive labor B) Better economic and political environment (in the U.S.) C) Tax incentives D) To achieve international diversification 91) Which of the following statements about foreign affiliates is (are) true?

A) In general, foreign affiliates are more profitable than domestic businesses.

B) Foreign affiliates usually lower the portfolio risk of the parent company.

C) Foreign affiliates may have a significant positive impact on the host company's economic growth, employment, trade, and balance of payments.

D) All of these options are true.

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92) A portfolio of international stocks in comparison to purely U.S. stocks generally shows A) a lower percentage risk for a given number of stocks.

B) higher percentage risk for a given number of stocks.

C) the same percentage risk for a given number of stocks.

D) a lower percentage return for a given number of stocks.

93) Which of the following is an inducement for foreign investment in the United States?

A) Shortage of land in foreign countries B) Advanced technology C) Large market size D) All of these options are inducement for investment in U.S. 94) To minimize exposure to political risk, a multinational firm may establish a joint venture with a local entrepreneur or a group of multinationals, or A) purchase an insurance policy from the Foreign Credit Insurance Association (FCIA).

B) hedge in the Eurodollar market.

C) purchase an insurance policy from the Overseas Private Investment Corporation (OPIC).

D) any combination of the options.

95) To minimize exposure to political risk, a multinational firm may: A) establish a joint venture with a local entrepreneur or a group of multinationals B) purchase an insurance policy from the Foreign Credit Insurance Association (FCIA).

C) hedge in the Eurodollar market.

D) purchase an insurance policy from any foreign company within the area that the corporation is doing business.

96) The Overseas Private Investment Corporation (OPIC) A) loans money to multinational firms.

B) does feasibility studies for multinational firms.

C) sells insurance policies to qualified multinational firms.

D) sells foreign investments.

97) The Export-Import Bank (Eximbank) A) lends money to foreign purchasers of U.S. goods.

B) issues letters of credit.

C) makes parallel loans.

D) makes fronting loans.

98) In a parallel loan arrangement, an example would be where A) the United States parent firm lends dollars to the U.S. affiliate, while the Dutch parent firm lends guilders to the Dutch affiliate.

B) the United States parent firm lends dollars to the Dutch affiliate, while the Dutch parent lends guilders to the American affiliate.

C) the United States parent lends guilders to the Dutch affiliate, while the Dutch parent lends dollars to the American affiliate.

D) the parent firms lend funds to each other, while the affiliates lend funds to each other.

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99) A loan arrangement in which a parent company reduces its political risk by using an intermediary bank rather than a direct transfer of funds to a subsidiary is called a(n) A) parallel loan.

B) Eximbank direct loan.

C) fronting loan.

D) Overseas Private Investment Corporation (OPIC).

100) Which of the following is not an advantage of borrowing in the Eurodollar market?

A) Greater availability of credit B) Lower overhead costs for lending banks C) The absence of compensating balance requirements D) A constant lending rate over time 101) Eurodollars are A) United States dollars deposited in foreign banks.

B) foreign dollars deposited in United States banks.

C) investments of common market countries.

D) the euro used in many European countries.

102) The Eurodollar market has a lower borrowing cost as compared to the U.S. because of A) lower inflation abroad.

B) higher inflation in the United States.

C) slower money growth in the United States.

D) smaller overhead costs and the absence of a compensating balance requirement abroad.

103) In the Eurobond market, A) the interest rate is very high.

B) the security is denominated in a currency that is different from that of the nation in which the bonds are issued.

C) the Swiss franc is the most important currency.

D) disclosure requirements are very strict.

104) Which of the following statements is true about international equity (stock) markets?

A) Japanese households are large investors in common stock.

B) Commercial banks are generally not involved in the international securities business.

C) Some foreign investors are more risk-averse than their counterparts in the United States and prefer dividend income over less certain capital gains.

D) Foreign exchanges never include the listing of U.S. firms.

105) An American Depository Receipt "ADR" is used to A) facilitate investment in foreign shares by American investors.

B) allow American investors to participate in the debt securities of other countries.

C) guarantee dividends from foreign companies.

D) insure against foreign exchange currency risk.

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106) The Eurobond market has which of the following characteristics?

A) Eurobond issues are denominated in the currency where the bond issue is sold.

B) Disclosure requirements in the Eurobond market are much less stringent than those required by the U.S. Securities and Exchange Commission.

C) Eurobond issues are underwritten by the European Central Bank.

D) Eurobond issues are always denominated in euros.

107) A long-term debt issue sold simultaneously in several different national capital markets, but denominated in a currency different from that of the national market where the issue occurred is called a(n) A) World bond.

B) International capital bond.

C) Floating bond.

D) Eurobond.

108) Which of the following statements about the International Finance Corporation (IFC) is false?

A) The decision to assist a venture depends on both the profitability of the project and the potential benefit to the host country's economy.

B) The IFC assumes no managerial responsibility and exercises no voting rights.

C) The IFC may either buy equity shares or provide long-term loans.

D) All of these options are true.

109) The International Finance Corporation (IFC) is A) a unit of the World Bank charged with the responsibility of providing capital to multinational corporations and others involved in international trade.

B) a regulatory agency for international trade.

C) a private firm that provides accounts receivable financing to international firms.

D) a foreign affiliate of 10 major U.S. banks.

110) Which of the following events will NOT affect world markets?

A) A currency crisis B) Government defaults on foreign debt C) Terrorism D) All of these options affect world markets.

111) Which of the following is NOT an example of a factor that can significantly influence exchange rates?

A) The cost to purchase a loaf of bread in the U.S. has increased by $0.50 while the cost has remained the same in London.

B) The cost of capital has increased by 2% in the U.S. and has decreased by 2% in Germany.

C) Interest rates on short-term investments in the U.S. have decreased to 4% while interest rates in Japan are at 8%.

D) The U.S. has begun to export a higher level of goods to China than the prior year.

E) All of the above are factors that influence exchange rates.

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112) If a forward discount is prevalent in U.S. dollars to Swiss francs, A) the forward rate is lower than the spot rate.

B) the forward rate is higher than the spot rate.

C) markets will expect the Swiss Franc to appreciate relative to the dollar.

D) the forward rate is lower than the spot rate and markets expect the Swiss franc to appreciate relative to the dollar.

113) Which of the following is true of forward and spot rates?

A) The premium or discount is usually 7-10%.

B) Spot and forward transactions generally occur on the organized exchange.

C) The length of a forward and spot contract is generally between zero and six months.

D) Both the forward and spot rate occur in the over-the-counter market.

114) Which of the following groups is NOT subject to foreign exchange risk?

A) Importers and exporters B) Investors C) Multinational corporations D) All of these options are subject to foreign exchange risk.

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