Financial Markets and Institutions
Exam Preparation Guide
Course Introduction
This course offers a comprehensive overview of financial markets and institutions, exploring their roles within the global economic system. Students will analyze the structure, functions, and operations of key financial markets, including money, capital, and foreign exchange markets, as well as the wide range of financial institutions such as commercial banks, investment banks, insurance companies, and mutual funds. The course covers the mechanisms of trading, regulation, risk management, and the impact of monetary policy on financial systems. Emphasis is placed on understanding how these institutions facilitate the flow of funds, support investment and economic growth, and respond to financial innovations and crises.
Recommended Textbook
Fundamentals of Corporate Finance 3rd Australian Edition by Berk DeMarzo
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Chapter 1: Corporate Finance and the Financial Manager
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Sample Questions
Q1) Based on the information shown above, what payment would you receive from selling 1 000 shares of Gold Seam Corp?
A)$91 810
B)$91 650
C)$91 700
D)$91 350
Answer: D
Q2) What is the principal guiding factor for the financial manager?
Answer: Maximising shareholder wealth is the paramount guiding factor for the financial manager.
Q3) Which of the following are major duties of a financial manager? I. To make investment decisions
II. To make financing decisions
III. To manage cash flow from operating activities
A)I only
B)I and II only
C)I and III only
D)all of the above
Answer: D
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Chapter 2: Introduction to Financial Statement Analysis
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Q1) Which of the following is NOT a reason that the income statement does not accurately indicate how much cash a firm has earned?
A)It includes cash inflows from services rendered.
B)It does not include entries for expenditures on inventory.
C)It does not include entries for collection of money from account receivables.
D)It includes entries for the depreciation of assets.
Answer: A
Q2) Which of the following balance sheet equations is INCORRECT?
A)Assets = Liabilities + Shareholders' Equity
B)Assets - Current Liabilities = Long-term Liabilities + Shareholders' Equity
C)Assets - Liabilities = Shareholders' Equity
D)Assets - Current Liabilities = Long-term Liabilities
Answer: D
Q3) Which ratio would you use to measure the financial health of a firm by assessing that firm's leverage?
A)market debt-equity ratio
B)current or quick ratio
C)debt-equity or equity multiplier ratio
D)market-to-book ratio
Answer: C
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Chapter 3: Time Value of Money: an Introduction
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Sample Questions
Q1) To compute the future value of a cash flow, you must A)discount it.
B)arbitrage it.
C)compound it.
D)double it.
Answer: C
Q2) What is the future value (FV)of $20 000 in four years, assuming the interest rate is 12% per year?
A)$32 020.64
B)$28 292.66
C)$31 470.39
D)$17 096.08
Answer: C
Q3) Any arbitrage opportunity will exploit any mispricing to restore the Law of One Price. A)True
B)False
Answer: True
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Chapter 4: Time Value of Money: Valuing Cash Flow
Streams
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Sample Questions
Q1) A bank offers a home buyer a 30-year mortgage at 7% per year. If the home buyer borrows $225 000 from the bank, how much must be repaid every year?
A)$18 131.94
B)$19 307.27
C)$18 311.49
D)$13 907.72
Q2) You are considering investing in a zero-coupon bond that will pay you its face value of $1 000 in ten years. If the bond is currently selling for $485.20, then the internal rate of return (IRR)for investing in this bond is closest to:
A)8.0%
B)7.5%
C)12%
D)10%
Q3) The internal rate of return (IRR)is the interest rate that sets the net present value (NPV)of the cash flows equal to zero
A)True
B)False
Q4) Can we apply the growing perpetuity equation for negative growth as well?
Page 6
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Chapter 5: Interest Rates
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Sample Questions
Q1) Ursula wants to buy an $18 999 used car. She has savings of $2 000 plus an $800 trade-in. She wants her monthly payments to be about $272. Which of the following loans offers monthly payments closest to $270?
A)6.5% APR for 36 months
B)6.5% APR for 48 months
C)6.5% APR for 72 months
D)6.5% APR for 60 months
Q2) Joseph buys a Jeep for $60 000, financing it with a five-year 6.5% APR loan paid monthly. He decides to pay an extra $50 per month in addition to his monthly payments. Approximately how long will he take to pay off the loan under these conditions?
A)4 years, 9 months
B)4 years, 4 months
C)4 years, 10 months
D)4 years, 6 months
Q3) The effective annual rate on your firm's borrowings is closest to:
A)5.13%
B)5.09%
C)5.06%
D)5.12%
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Chapter 6: Bond Valuation
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Sample Questions
Q1) A five-year bond with a $1 000 face value has a yield to maturity of 5.5% and its coupon rate is 6.0% paid annually. The dirty price of this bond exactly six months after its second coupon payment is closest to:
A)$1 043.49
B)$684.67
C)$1 005.87
D)$983.93
Q2) A $1 000 bond with a coupon rate of 5.4% paid semi-annually has five years to maturity and a yield to maturity of 7.5%. If interest rates rise and the yield to maturity increases to 7.8%, what will happen to the price of the bond?
A)fall by $11.59
B)rise by $12.16
C)fall by $9.82
D)The price of the bond will not change.
Q3) What care, if any, should be taken regarding the timing of the cash flows while drawing the timeline and associated cash flows of a coupon bond?
Q4) Assuming that this bond trades for $1 035.44, then the YTM for this bond is equal to:
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Chapter 7: Share Valuation: the Dividend-Discount Model
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Sample Questions
Q1) Matilda Industries pays a dividend of $2.45 per share and is expected to pay this amount indefinitely. If Matilda's equity cost of capital is 7%, which of the following would be expected to be closest to Matilda's share price?
A)$32.25
B)$21.98
C)$35.00
D)$21.42
Q2) The Busy Bee Corporation had a share price at the start of the year of $25.18, paid a dividend of $0.62 at the end of the year, and had a share price of $27.91 at the end of the year. Which of the following is closest to the rate of return of investments in companies with equal risk to Busy Bee Corporation for this period?
A)17%
B)13%
C)15%
D)10%
Q3) A company can increase its dividend payments by issuing more shares.
A)True
B)False
Q4) How can the dividend-discount model handle changing growth rates?
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Chapter 8: Investment Decision Rules
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Sample Questions
Q1) A delivery service is buying 600 tyres for its fleet of vehicles. One supplier offers to supply the tyres for $85 per tyre, payable in one year. Another supplier will supply the tyres for $20 000 down today, then $50 per tyre, payable in one year. What is the difference in PV between the first and the second offer, assuming interest rates are 8.5%?
A)-$1 000
B)$645
C)$276
D)$1 000
Q2) Most corporations measure the value of a project in terms of present value (PV).
A)True
B)False
Q3) If WiseGuy Ltd uses the payback period rule to choose projects, which of the projects (Project A or Project B)will rank highest?
A)Project A
B)Project B
C)Project A and Project B have the same ranking.
D)Cannot calculate a payback period without a discount rate.
Q4) What is the decision criteria using the Net Present Value rule?
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Chapter 9: Fundamentals of Capital Budgeting
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Sample Questions
Q1) Cameron Industries is purchasing a new chemical vapour depositor in order to make silicon chips. It will cost $8 million to buy the machine and $25 000 to have it delivered and installed. Building a clean room in the plant for the machine will cost an additional $2 million. The machine is expected to have a working life of five years. If straight-line depreciation is used, what are the annual depreciation expenses in this case?
A)$1 600 000
B)$2 005 000
C)$1 550 000
D)$1 605 000
Q2) Luther Industries has outstanding tax loss carryforwards of $70 million from losses over the past four years. If Luther earns $15 million per year in pre-tax income from now on, in how many years will Luther first pay taxes?
A)4 years
B)7 years
C)5 years
D)2 years
Q3) What is the correct tax rate that should be used for capital budgeting decisions?
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Chapter 10: Share Valuation: a Second Look
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Sample Questions
Q1) Gooringa Oil announces that an exploratory well that it has sunk in a new area has shown the existence of substantial oil reserves. The exploitation of these reserves is expected to increase Gooringa's free cash flow by $100 million per year for eight years. If investors had not been expecting this news, what is the most likely effect on Gooringa's share price upon the announcement, given that Gooringa has 80 million shares outstanding, no debt, and an equity cost of capital of 10%?
A)rise by $6.67
B)no effect
C)rise by $8.30
D)rise by $5.78
Q2) On a particular date, AirCo has a share price of $77.50 and an EPS of $5.00. Its competitor, RoadCo, had an EPS of $0.80. What would be the expected share price of RoadCo on this date, if estimated using the method of comparables?
A)$12.40
B)$13.98
C)$18.39
D)$10.49
Q3) Which is the best valuation technique when using comparables?
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Chapter 11: Risk and Return in Capital Markets
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Sample Questions
Q1) Volatility a reasonable measure of risk when evaluating the investment in a single share.
A)True
B)False
Q2) Suppose you bought a $62 share a month ago. It paid a dividend of $0.75 today and then you sold it for $65. What was your return on the investment?
A)7.75%
B)6.00%
C)6.25%
D)6.05%
Q3) A portfolio of shares where each share has a large component of independent risk benefits when such shares are held in a portfolio, because the independent risks are averaged out. This is also referred to as 'diversification of risks'.
A)True
B)False
Q4) Common risk is also called 'correlated risk'.
A)True
B)False
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Chapter 12: Systematic Risk and the Equity Risk Premium
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Sample Questions
Q1) Which of the following statements is FALSE?
A)Because the prices of shares do not move identically, some of the risk is averaged out in a portfolio.
B)The covariance and correlation allow us to measure the co-movement of returns.
C)The amount of risk that is eliminated in a portfolio depends on the degree to which the shares face common risks and their prices move together.
D)Correlation is the expected product of the deviations of two returns.
Q2) A share market comprises 5 000 shares of company A and 2 000 shares of company
B. Assume the share prices for companies A and B are $20 and $35, respectively. What is the capitalisation of the market portfolio?
A)$165 000
B)$170 000
C)$150 000
D)$185 000
Q3) The Capital Asset Pricing Model (CAPM)says that the excess return on an investment is equal to its beta times the market risk premium.
A)True
B)False
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Chapter 13: The Cost of Capital
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Q1) Preference shares of Dunmovin pay a dividend of $3.50 each year and trade at a price of $25. What is the cost of preference share capital for Dunmovin?
A)14.0%
B)12.8%
C)12.6%
D)13.5%
Q2) The costs of external financing must be deducted from the net present value (NPV)of a project to evaluate if it is worth undertaking.
A)True
B)False
Q3) Your estimate of the market risk premium is 6%. The risk-free rate of return is 4.5% and General Motors has a beta of 1.6. What is General Motors' cost of equity capital?
A)14.1%
B)13.9%
C)13.5%
D)14.4%
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Chapter 14: Raising Capital
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Sample Questions
Q1) Underpricing of an IPO would most likely be greatest in which of the following markets?
A)Australia
B)United States
C)China
D)Japan
Q2) After the venture capitalist's investment, the post-money valuation of the angel investor's shares is closest to:
A)$5.0 million
B)$4.0 million
C)$3.1 million
D)$6.5 million
Q3) Newly listed firms tend to perform exceptionally well in the three to five years after their IPOs.
A)True
B)False
Q4) A prospectus is a document issued by a company setting out the terms of its equity issue.
A)True
B)False
Page 16
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Chapter 15: Debt Financing
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Sample Questions
Q1) A company issues a callable (at par)20-year, 5% coupon bond with annual coupon payments. The bond can be called at par in one year after release or any time after that on a coupon payment date. On release, it has a price of $102 per $100 of face value. What is the yield to maturity of this bond when it is released?
A)5.60%
B)6.66%
C)4.84%
D)2.40%
Q2) The issuers of bonds do not seek to minimise the strength and number of covenants in a bond agreement because covenants can increase the flexibility of the company issuing the bond.
A)True
B)False
Q3) Bonds issued by a foreign company in a local market, intended for local investors, and denominated in the local currency are known as:
A)Eurobonds.
B)foreign bonds.
C)kangaroo bonds.
D)domestic bonds.
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Chapter 16: Capital Structure
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Sample Questions
Q1) As the level of debt increases, the tax benefits of debt increase until
A)interest costs exceed dividend payments.
B)tax shield benefits exceeds distress costs.
C)employee costs exceed interest expense.
D)raw material costs exceed dividend payments.
Q2) Agency costs arise when:
A)input costs are higher than interest costs.
B)interest costs exceed dividend payments.
C)conflicts of interest exist between stakeholders.
D)there are high labour costs.
Q3) Suppose Blank Company has only one project, as forecast above, and an unlevered cost of equity of 8%. What is the value of the company?
A)$23 148.15
B)$41 666.67
C)$32 407.40
D)cannot be determined with the information given
Q4) Equity-debt holder conflicts are more likely to arise if the risk of financial distress is high.
A)True
B)False
18
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Chapter 17: Payout Policy
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Q1) Assume that Vezuvo uses the entire $75 million to repurchase shares. The amount of the regular annual dividends in the future is closest to:
A)$5.75.
B)$5.00.
C)$9.00.
D)$7.50.
Q2) Assume that you own 2 500 shares of Vezuvo stock and that Vezuvo uses the entire $75 million to pay a special dividend. Suppose you are unhappy with Vezuvo's decision and would prefer that Vezuvo used the excess cash to repurchase shares. The number of shares that you would have to buy in order to undo the special cash dividend that Vezuvo paid is closest to:
A)375.
B)425.
C)250.
D)275.
Q3) The financial manager should try to maximise size of the dividends paid to shareholders.
A)True
B)False
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Chapter 18: Financial Modelling and Pro-Forma Analysis
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Q1) Assuming that Ideko has a EBITDA multiple of 8.5, then the continuation enterprise value of Ideko in 2018 is closest to:
A)$272.8 million
B)$152.8 million
C)$301.7 million
D)$181.7 million
Q2) Compute the after-tax interest expense for a firm with Interest earned from Excess Cash = $5 000, Interest on Debt = $8 000, and a tax rate of 30%.
A)$2 500
B)$2 700
C)$2 100
D)$2 200
Q3) Based upon the average price-earnings ratio of the comparable firms, Loop's target market value of equity is closest to:
A)$191 million
B)$157 million
C)$155 million
D)$193 million
E)$165 million
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Chapter 19: Working Capital Management
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Sample Questions
Q1) Which of the following would decrease a firm's cash conversion cycle?
A)increase the accounts payable days
B)increase the accounts receivable days
C)increase the inventory days
D)increase the cash days
Q2) The 'credit period' is the number of days the buyer gets to take advantage of the cash discount.
A)True
B)False
Q3) If a firm wishes to invest cash that might be needed at short notice in the very near future, they would be most likely to invest in which of the following securities?
A)Australian shares
B)Treasury notes
C)term deposits
D)Treasury bonds
Q4) A 'collection float' is the amount of time it takes for a firm to be able to use funds after a customer has paid for its goods.
A)True
B)False
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Chapter 20: Option Applications and Corporate Finance
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Q1) Suppose you are looking to exploit opportunities in the options markets. The price of a call option on Massive Industries with a maturity of one year and an exercise price of $150 is $15, and the share price is $140. What should the price of a put option be to preclude profitable opportunities? The risk-free rate of interest is 5%.
A)$17.86
B)$21.45
C)$25.00
D)$19.63
Q2) For every owner of a call option, there is also an option writer (the person who takes the other side).
A)True
B)False
Q3) The ________ is the total number of contracts of a particular option that have been written and not yet closed.
A)turnover
B)local turnover
C)open interest
D)mark interest
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Chapter 21: Mergers and Acquisitions
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Q1) The 1990s era was known for hostile, 'bust-up' takeovers, in which the acquirer purchased a poorly-performing conglomerate and sold off its individual business units for more than the purchase price.
A)True
B)False
Q2) In practice, most acquirers pay a substantial acquisition premium, which is the percentage difference between the acquisition price and the premerger price of the target firm.
A)True
B)False
Q3) Consider the following equation: The term x in this equation refers to
A)the pre-merger, or standalone, value of the acquirer.
B)new shares to pay for the target.
C)the pre-merger (standalone)value of the target.
D)the value of the synergies created by the merger.
Q4) The 1980s era was known as the 'conglomerate wave' because firms typically acquired firms in unrelated businesses.
A)True
B)False
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Chapter 22: International Corporate Finance
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Q1) IBM enters into a forward contract to purchase 200 000 euros at a rate of $1.50/euro one year from today. If the spot exchange rate is $2/euro one year later, what is the dollar amount that IBM must pay to receive the euros?
A)$200 000
B)$300 000
C)$225 000
D)$400 000
Q2) Pooling of all foreign tax liabilities on earnings allows corporations to reduce their overall taxes.
A)True
B)False
Q3) A floating exchange rate means that the rate changes constantly depending on the quantity supplied and demanded for the currency.
A)True
B)False
Q4) A 'forward exchange rate' is the rate that a firm can tie in for a future transaction date.
A)True B)False
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Chapter 23: Insurance and Risk Management
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Q1) Which of the following statements regarding long-term supply contracts is FALSE?
A)Long-term supply contracts are designed to eliminate credit risk.
B)Long-term supply contracts insulate the firms from commodity price risk.
C)Long-term supply contracts are bilateral contracts negotiated by a buyer and a seller.
D)The market value of the contract at any point in time may not be easy to determine, making it difficult to track gains and losses.
Q2) To insure their assets against hazards such as fire, storm damage, vandalism, earthquakes and other natural and environmental risks, firms commonly purchase
A)key personnel insurance.
B)business interruption insurance.
C)business liability insurance.
D)property insurance.
Q3) What is the actuarially fair cost of full insurance?
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