Introduction to Finance Test Bank
Course Introduction
Introduction to Finance provides students with a foundational understanding of financial principles and the role of finance in business and personal contexts. The course explores key concepts such as time value of money, risk and return, financial markets, investment strategies, corporate finance, and financial decision-making. Students will learn how to analyze financial statements, evaluate investment opportunities, and understand the functions of major financial institutions. Through real-world examples and fundamental analytical tools, the course prepares students to make informed financial choices and serves as a basis for more advanced study in finance.
Recommended Textbook Finance Applications and Theory 2nd Edition by Marcia Millon Cornett
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20 Chapters
2330 Verified Questions
2330 Flashcards
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Page 2
Chapter 1: Introduction to Financial Management
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65 Flashcards
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Sample Questions
Q1) Which of the following is the firm's highest-level financial manager?
A) Chief Executive Officer
B) Chief Financial Officer
C) Board of Directors
D) Corporate Governance
Answer: B
Q2) Not all cash a company generates will be returned to the investors. Which of the following will NOT reduce the amount of capital returned to the investors?
A) retained earnings
B) taxes
C) dividends
D) None of these will reduce the amount of capital returned to the investors.
Answer: C
Q3) The most common type of business in the United States is the __________.
A) Corporation
B) Partnership
C) Sole Proprietorship
D) Hybrid organization such as a limited liability company
Answer: C
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Page 3
Chapter 2: Reviewing Financial Statements
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Sample Questions
Q1) What are the costs and benefits of holding liquid securities on a firm's balance sheet?
Answer: The more liquid assets a firm holds, the less likely the firm will be to experience financial distress. However, liquid assets generate no profits for a firm. For example, cash is the most liquid of all assets, but it earns no return for the firm. In contrast, fixed assets are illiquid, but provide the means to generate revenue. Thus, managers must consider the trade-off between the advantages of liquidity on the balance sheet and the disadvantages of having money sit idle rather than generating profits.
Q2) How do taxes influence how corporate managers' and investors' structure transactions and capitalize their companies?
Answer: Many firms pay out much of their earnings in taxes. The focus on this chapter has been income taxes, but there are other taxes that a company must pay, too. Many companies will look for transactions with tax advantages. One such example would be to finance their company with debt versus equity. Interest payments are deductible from income taxes, whereas dividend payments are not.
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4
Chapter 3: Analyzing Financial Statements
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131 Flashcards
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Sample Questions
Q1) This measures the operating return on the firm's assets, irrespective of financial leverage and taxes.
A) Basic earnings power ratio
B) Profit margin
C) Return on assets
D) Return on equity
Answer: A
Q2) Debt Management Ratios Tierre's Ts, Inc. reported a debt to equity ratio of 3 times at the end of 2011. If the firm's total assets at year-end are $15 million, how much of their assets is financed with equity?
A) $3.75m
B) $5m
C) $11.25m
D) $45m
Answer: A
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Chapter 4: Time Value of Money 1: Analyzing Single Cash Flows
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Sample Questions
Q1) Compounding with Different Interest Rates A deposit of $700 earns interest rates of 10 percent in the first year and 7 percent in the second year. What would be the second year future value?
A) $771.07
B) $819.00
C) $823.90
D) $1519.00
Q2) Assume that you borrow $2000 from your sister and that you will pay her back in one lump sum. She charges you 9% interest in year 1 and increases the rate by 1% per year until the loan is paid off. How much will you owe if you wait until year 3 to pay off the loan?
A) $2,467.91
B) $2,661.78
C) $2,775.23
D) $2,809.53
Q3) Why is a dollar worth more today than a dollar received one year from now?
Q4) Show the time line for a $1000 cash inflow today, a $1262.48 cash outflow in year four, and a 6 percent interest rate.
Q5) How does compounding help build wealth (or increase debt) over time?
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Chapter 5: Time Value of Money 2: Analyzing Annuity Cash
Flows
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148 Flashcards
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Sample Questions
Q1) What is the amount of interest and repayment of principal balance in month 2 for a loan of $10,000, paid monthly over 5 years at a 7% APR?
A) Interest = $101.32; Principal repayment = $57.51
B) Interest = $57.52; Principal repayment = $140.49
C) Interest = $157.52; Principal repayment = $40.49
D) Interest = $107.52; Principal repayment = $40.49
Q2) Investing for Retirement Monica has decided that she wants to build enough retirement wealth that, if invested at 7 percent per year, will provide her with $3,000 monthly income for 30 years. To date, she has saved nothing, but she still has 20 years until she retires. How much money does she need to contribute per month to reach her goal?
A) $671.78
B) $865.62
C) $3,000.00
D) $7,025.77
Q3) Which of the following will increase the future value of an annuity?
A) The number of periods increases.
B) The amount of the annuity increases.
C) The interest rate increases.
D) All of the these will increase the future value of an annuity.
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Chapter 6: Understanding Financial Markets and Institutions
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Sample Questions
Q1) Suppose we observe the three-year Treasury security rate (<sub>1</sub>R<sub>3</sub>) to be 11%, the expected one-year rate next year E(<sub>2</sub>r<sub>1</sub>) to be 4%, and the expected one-year rate the following year E(<sub>3</sub>r<sub>1</sub>) to be 5%. If the unbiased expectations theory of the term structure of interest rates holds, what is the one-year Treasury security rate, <sub>1</sub>R<sub>1</sub>?
A) 18.57%
B) 10.19%
C) 23.19%
D) 25.24%
Q2) The Wall Street Journal reports that the rate on 4-year Treasury securities is 7.50% and the rate on 5-year Treasury securities is 9.15%. According to the unbiased expectations hypotheses, what does the market expect the 1-year Treasury rate to be four years from today, E(<sub>5</sub>r<sub>1</sub>)?
A) 16.0%
B) 18.4%
C) 15.9%
D) 13.7%
Q3) What is a derivative security and what determines its value?
Q4) What does the "term structure of interest rates" mean?
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Chapter 7: Valuing Bonds
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Sample Questions
Q1) Possible shapes for the yield include all of the following except ____________.
A) Humped
B) Downward sloping
C) Flat
D) All of these are possible shapes.
Q2) Yield to Call A 4.75 percent coupon bond with 12 years left to maturity can be called in 2 years. The call premium is one year of coupon payments. It is offered for sale at $1037.35. What is the yield to call of the bond? (Assume that interest payments are paid semi-annually and par value is $1,000.)
A) 4.60%
B) 4.68%
C) 4.75%
D) 5.05%
Q3) If a bond is selling at a premium, then ________________________________.
A) its coupon rate must be greater than its yield
B) its coupon rate must be less than its yield
C) its coupon rate must be equal to its yield
D) its coupon rate must be equal to one-half the yield to maturity for a 5-year bond
Q4) Describe the relationship between interest rate changes and bond prices.
Page 9
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Chapter 8: Valuing Stocks
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Sample Questions
Q1) Consider a firm that had been priced using a 12 percent growth rate and a 16 percent required return. The firm recently paid a $5.00 dividend. The firm has just announced that because of a new joint venture, it will likely grow at a 12.5 percent rate. How much should the stock price change (in dollars and percentage)?
A) $21.50; 13.72%
B) $21.50; 16.14%
C) $20.71; 14.79%
D) $20.71; 19.93%
Q2) Expected Return American Eagle Outfitters (AEO) recently paid a $0.38 dividend. The dividend is expected to grow at a 15.5 percent rate. At the current stock price of $24.07, what is the return shareholders are expecting?
A) 15.50%
B) 15.52%
C) 17.08%
D) 17.32%
Q3) What are the differences between common stock and preferred stock?
Q4) Consider two firms with the same P/E ratio. Explain how one could be described as expensive compared to the other.
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Page 10
Chapter 9: Characterizing Risk and Return
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Sample Questions
Q1) Portfolio Weights An investor owns $2,000 of Adobe Systems stock, $4,000 of Dow Chemical, and $6,000 of Office Depot. What are the portfolio weights of each stock?
A) Adobe System = 0.3333, Dow Chemical = 0.3333, Office Depot = 0.3333
B) Adobe System = 0.1667, Dow Chemical = 0.3333, Office Depot = 0.5
C) Adobe System = 0.3333, Dow Chemical = 0.1667, Office Depot = 0.5
D) Adobe System = 0.2, Dow Chemical = 0.4, Office Depot = 0.6
Q2) This is the concept and procedure for combining securities into a portfolio to minimize risk.
A) firm specific theory
B) modern portfolio theory
C) optimal portfolio theory
D) total portfolio theory
Q3) What is the source of firm-specific risk? What is the source of market risk?
Q4) This index tracks 500 companies which allows for a great deal of diversification.
A) Nasdaq
B) Fortune 500
C) S&P 500
D) Wall Street Journal
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Chapter 10: Estimating Risk and Return
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Sample Questions
Q1) Estee Lauder's upcoming dividend is expected to be $0.65 and its stock is selling at $45. The firm has a beta of 1.1 and is expected to grow at 10% for the foreseeable future. Compute Estee Lauder's required return using both CAPM and the constant growth model. Assume that the market portfolio will earn 11 percent and the risk-free rate is 4 percent.
A) CAPM: 11.2%; Constant Growth Model: 10.97%
B) CAPM: 11.7%; Constant Growth Model: 11.44%
C) CAPM: 10.1%; Constant Growth Model: 11.46%
D) CAPM: 9.2%; Constant Growth Model: 9.56%
Q2) IBM has a beta of 1.0 and Apple Computer has a beta of 3.0. Which of the following statements must be correct?
A) The market risk premium for Apple must be larger than the market risk premium of IBM.
B) If investors become more risk averse, the expected return of Apple will increase more than the expected return on IBM.
C) Apple's expected rate of return must be three times as large as IBM's.
D) None of these statements is correct.
Q3) The constant growth model requires what information for computing shareholders' required return?
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Page 12
Chapter 11: Calculating the Cost of Capital
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Sample Questions
Q1) Crab Cakes Ltd. has 5 million shares of stock outstanding selling at $15 per share and an issue of $10 million in 10 percent, annual coupon bonds with a maturity of 25 years, selling at 97 percent of par ($1000). If Crab Cakes' weighted average tax rate is 30 percent, its next dividend is expected to be $1.00 per share, and all future dividends are expected to grow at 5 percent per year, indefinitely, what is its WACC?
A) 8.42%
B) 10.84%
C) 11.16%
D) 11.52%
Q2) Which of the following will impact the cost of equity component in the weighted average cost of capital?
A) The risk-free rate
B) Beta
C) Expected return on the market
D) All of these
Q3) Why do we use market-based weights instead of book-value weights when computing the WAAC?
Q4) Denote the impact that flotation costs have on capital budgeting decisions.
Q5) List and explain all the components of the WACC equation.
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Chapter 12: Estimating Cash Flows on Capital Budgeting Projects
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116 Flashcards
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Sample Questions
Q1) The best approach to convert an infinite series of asset purchases into a perpetuity is known as the
A) Net working capital approach
B) Net present value approach
C) Equivalent annual cost approach
D) Equivalent annual cash flow approach
Q2) Your firm needs a machine which costs $90,000, and requires $30,000 in maintenance for each year of its 5-year life. After 5 years, this machine will be replaced. The machine falls into the MACRS 5-year class life category. Assume a tax rate of 35% and a discount rate of 13%. What is the depreciation tax shield for this project in year 5?
A) $471.74
B) $1,347.84
C) $3,628.80
D) $6,739.20
Q3) Everything held constant, would you rather depreciate a project with straight-line depreciation or with DDB?
Q4) How would you compute the equity flotation cost if a firm were going to use a mixture of retained earnings and new equity to finance a project? Give an example.
Page 14
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Chapter 13: Weighing Net Present Value and Other Capital Budgeting Criteria
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Sample Questions
Q1) All of the following are strengths of NPV except _______________.
A) It works equally well for independent and mutually exclusive projects
B) Managers have a preference for using a statistic that is in percent instead of dollars
C) It uses a conservative reinvestment rate assumption
D) These are all strengths of the NPV statistic
Q2) Use the discounted payback decision rule to evaluate this project; should it be accepted or rejected?
A) 1.23 years, accept
B) 2.45 years, accept
C) 2.77 years, accept
D) 5.36 years, reject
Q3) All of the following capital budgeting tools are suitable for non-normal cash flows except ____.
A) MIRR
B) Profitability Index
C) Payback
D) NPV
Q4) For a project with normal cash flows, what would you expect the relationship to be between the MIRR and the IRR?
Page 15
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Chapter 14: Working Capital Management and Policies
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Sample Questions
Q1) Which of the following approach for determining the target cash balance assumes that the distribution of daily net cash flows is normally distributed, and allows for both cash inflows and outflows?
A) The Baumol Model
B) The Miller-Orr Model
C) The Merton Model
D) The Interbank Financial Model
Q2) Which of the following resemble checks, but differ in that they are payable by the firm issuing them rather than payable by a bank?
A) drafts
B) concentration banking
C) wire transfers
D) zero-balance account
Q3) Which of these is the period of time after a check has been written, but not yet cleared and deposited?
A) liquid current assets
B) safety stock
C) overnight securities
D) float
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Page 16
Chapter 15: Financial Planning and Forecasting
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Sample Questions
Q1) Abracadabra Inc. has total assets of $106,000 and a debt ratio of 40%. If last year's sales were $145,000 and sales are expected to grow 10% in the future, what is Abracadabra's capital intensity ratio?
A) 0.73
B) 1.37
C) 0.44
D) 2.27
Q2) All of the following will tend to increase spontaneously with sales except
A) Accrued wages
B) Notes payable
C) Accounts payable
D) All of the above will tend to increase spontaneously with sales.
Q3) What is computed by dividing the amount of assets tied directly to sales (A*) by the amount of current sales (S0)?
A) capital intensity ratio
B) current ratio
C) quick ratio
D) spontaneous assets
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Page 17
Chapter 16: Assessing Long-Term Debt, Equity, and Capital Structure
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Sample Questions
Q1) Which of the following statements is correct?
A) Increasing the amount of firm debt increases both the expected cash flows to equity holders and the number of shares outstanding.
B) Increasing the amount of firm debt increases both the expected cash flows to equity holders and the amortization.
C) Increasing the amount of firm debt increases both the expected cash flows to equity holders and the volatility of those cash flows.
D) Increasing the amount of firm debt increases both the expected cash flows to equity holders and the tax liability.
Q2) If bondholders of a firm in financial distress felt that they could recoup more of their investment by renegotiating their claims with the firm and allowing it to continue to operate, what type of bankruptcy would they probably push for?
A) Chapter 11
B) Chapter 13
C) Chapter 7
D) Chapter 9
Q3) Explain why utility firms tend to have fairly high debt ratios.
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Page 18
Chapter 17: Sharing Firm Wealth: Dividends, Share
Repurchases, and Other Payouts
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Sample Questions
Q1) What will happen to the price of the stock once the stock goes ex-dividend?
A) It will decrease.
B) It will increase.
C) It will stay the same.
D) One cannot determine what will happen to the price of the stock in this situation.
Q2) If a firm has retained earnings of $4 million, a common shares account of $7 million, and additional paid-in-capital of $3 million, how much would be transferred in (or out) of these accounts in response to a 20 percent stock dividend, respectively?
A) -20%, 0%, +20%
B) -20%, +20%, 0%
C) -50%, +20%, +20%
D) -50%, +25%, +25%
Q3) What would prompt a firm like GE to start paying out a much higher percentage of its earnings as dividends?
Q4) Why might a firm announce a reverse stock split?
Q5) What type of clientele would you expect to prefer dividends over capital gains? Why?
Q6) Explain the residual dividend model.
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Chapter 18: Issuing Capital and the Investment Banking Process
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Sample Questions
Q1) Which of these is the fee charged by a bank on any unused balances of a loan commitment line at the end of the loan commitment period?
A) back-end (or commitment) fee
B) simple interest expense
C) discounted interest
D) up-front (or facility) fees
Q2) Renee's Boutique, Inc., needs to raise $300 million to finance firm expansion. In discussions with its investment bank, Renee's learns that the bankers recommend a debt issue with an offer price of $1,000 per bond and they will charge an underwriter's spread of 7.125 percent of the gross price. How many bonds will Renee's Boutique need to sell in order to receive the $300 million they need?
A) 302,396
B) 329,048
C) 316,947
D) 323,015
Q3) The rate on commercial paper is generally higher than the prime rate.
A) True
B) False
Q4) How does a best effort underwriting differ from a firm commitment underwriting?
Page 20
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Chapter 19: International Corporate Finance
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Sample Questions
Q1) Convert each of the following indirect quotes to dollar direct quotes:
- $1 = 3.95 Saudi Arabian Riyal
- $1 = 41.45 Philippine Peso
- $1 = 0.58 Latvian Lat
$1 equals:
A) .22 Riyal; .02 Peso; 1.75 Lat
B) .25 Riyal; .02 Peso; 1.72 Lat
C) .38 Riyal; .05 Peso; 1.72 Lat
D) .38 Riyal; .02 Peso; 1.95 Lat
Q2) Which of these is the trade agreement between South American countries to create their own free trade zone?
A) South American Union
B) South American Free Trade Agreement (SAFTA)
C) South American Monetary Fund (SAMF)
D) Mercosur
Q3) Which of these is a political and economic union of 27 European countries?
A) European Union
B) European Free Trade Agreement (EFTA)
C) European Monetary Fund (EMF)
D) Mercosur
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Chapter 20: Mergers and Acquisitions and Financial
Distress
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Sample Questions
Q1) Valuation of a Merger The managers of BSW Inc. have been approached by EAG Corp. for a possible merger. EAG Corp. is asking a price of $50 million to be purchased by BSW Inc. The two firms currently have cumulative total cash flows of $2.5 million that are growing at 2 percent annually. Managers of EAG estimate that because of synergies the merged firm's cash flows will increase by an additional 5 percent for the first three years following the merger. After the first three years, managers of EAG have estimated that cash flows will grow at a rate of 2 percent. The WACC for the merged firms is 12 percent. Managers of BSW Inc. agree that cash flows should grow at an additional 5 percent for the first three years, but are unsure of the long-term growth rate in cash flows estimated by EAG. Calculate the minimum growth rate needed after the first three years such that BSW Inc. would see this merger as a positive NPV project.
A) 5.00%
B) 6.925%
C) 1.728%
D) 12.00%
Q2) How can managers' personal incentives result in value-destroying mergers and acquisitions?
Q3) Why is NPV valuation an appropriate tool to use in the evaluation of a merger target?
Page 22
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