CORPORATE FINANCE FINAL EXAM

Question 1

What factor is fixed if you establish a scholarship fund in perpetuity?
A) interest rate B) present value C) discount rate D) payment amount

Answer 1

B) present value

Question 2

Given a set future value, which of the following will contribute to a lower present value?
A) lower discount factor B) fewer time periods
C) higher discount rate D) less frequent discounting

Answer 2

C) higher discount rate

Question 3

Investors who buy which type of bond will be guaranteed a capital loss if they hold the bond to
maturity?
A) premium bond B) discount bond
C) junk bond D) zero-coupon bond

Answer 3

A) premium bond

Question 4

If an investor purchases a bond when its current yield is higher than the coupon rate, then the bond’s
price will be expected to:
A) be less than the face value at maturity.
B) exceed the face value at maturity.
C) decline over time, reaching par value at maturity.
D) increase over time, reaching par value at maturity.

Answer 4

D) increase over time, reaching par value at maturity.

Question 5

The existence of an upward-sloping yield curve suggests that:
A) bonds will not return as much as common stocks.
B) bonds should be selling at a discount to par value.
C) interest rates will be increasing in the future.
D) real interest rates will be increasing soon.

Answer 5

C) interest rates will be increasing in the future.

Question 6

When market interest rates exceed a bond’s coupon rate, the bond will:
A) decrease its coupon rate. B) increase its coupon rate.
C) sell for more than par value. D) sell for less than par value

Answer 6

D) sell for less than par value

Question 7

Which one of the following is most apt to be correct for a CCC-rated bond, compared to a
BBB-rated bond?
A) the CCC bond will have a higher price for the same term.
B) the CCC bond will have a shorter term.
C) the CCC bond will have a variable-coupon rate.
D) the CCC bond will offer a higher promised yield to maturity.

Answer 7

D) the CCC bond will offer a higher promised yield to maturity.

Question 8

Which of the following would not be associated with a zero-coupon bond?
A) discount bond B) interest-rate risk C) yield to maturity D) current yield

Answer 8

D) current yield

Question 9

Many investors may be drawn to bonds with capital gains only because:
A) high coupon payments. B) long periods until maturity.
C) reduced taxation on capital gains. D) no taxation on capital gains.

Answer 9

C) reduced taxation on capital gains

Question 10

Stocks that have the same expected risk should:
A) have the same price. B) have the same sustainable growth rate.
C) offer the same dividend payment. D) have the same expected rate of return

Answer 10

D) have the same expected rate of return.

Question 11

In the calculation of rates of return on common stock, dividends are and capital gains are
A) not guaranteed; not guaranteed B) guaranteed; not guaranteed
C) guaranteed; guaranteed D) not guaranteed; guaranteed

Answer 11

A) not guaranteed; not guaranteed

Question 12

If stock prices follow a random walk, which of the following statement(s) is(are) correct?
A) Both successive stock price changes are not related and the history of stock prices cannot be
used to predict future returns to investors
B) the history of stock prices cannot be used to predict future returns to investors
C) successive stock price changes are not related
D) None of the choices are correct.

Answer 12

A) Both successive stock price changes are not related and the history of stock prices cannot be

Question 13

Security prices are said to follow a “random walk,” which means that:
A) it is impossible to know whether stocks offer higher returns than bonds.
B) successive price changes are unpredictable.
C) stock selection for portfolio composition is unimportant.
D) investment analysts are unnecessary.

Answer 13

B) successive price changes are unpredictable.

Question 14

The g in the constant-growth dividend model refers to:
A) the annual growth rate for stock price.
B) The annual growth rate for stock price and for dividends.
C) the annual growth rate for dividends.
D) None of the choices are correct.

Answer 14

B) The annual growth rate for stock price and for dividends.

Question 15

Which mutually exclusive project would you select, if both are priced at $1,000 and your discount rate is 15
percent; Project A with three annual cash flows of $1,000, or Project B, with three years of zero cash flow
followed by three years of $1,500 annually?
A) Project B
B) you are indifferent since the NPVs are equal
C) Project A
D) Neither project should be selected

Answer 15

C) Project A

Question 16

soft capital rationing:
A) should be costless to the shareholders of the firm.
B) solves the problem of investment timing.
C) is used to determine mutually exclusive projects.
D) is costly to shareholders.

Answer 16

A) should be costless to the shareholders of the firm.

Question 17

If a Project’s expected rate of return exceeds its opportunity cost of capital, one would expect:
A) the opportunity cost of capital to be too low.
B) the IRR to exceed the opportunity cost of capital.
C) the NPV to be zero.
D) the profitability index to exceed 1.0.

Answer 17

B) the IRR to exceed the opportunity cost of capital.

Question 18

A project has a payback period of five years and the firm employs a 10 percent cost of capital.
Which of the following statements is correct concerning this Project’s discounted payback?
A) discounted payback will decrease if the Project’s IRR exceeds 10 percent.
B) discounted payback will exceed five years.
C) discounted payback will increase if the Project’s IRR is less than 10 percent.
D) discounted payback will be less than five years

Answer 18

B) discounted payback will exceed five years.

Question 19

If projects A and B are independent, which of the following is true?
A) Value (A + B) = value (A) + value (B)
B) Value (A + B) > value (A) + value (B)
C) Value (A + B) < value (A) + value (B)
D) Value (A + B) - value (B) > value (A)

Answer 19

A) Value (A + B) = value (A) + value (B)

Question 20

f the opportunity cost of capital for a project exceeds the Project’s IRR, then the project has a(n):
A) acceptable payback period. B) positive NPV.
C) positive profitability index. D) negative NPV.

Answer 20

D) negative NPV.

Question 21

Soft capital rationing is imposed upon a firm from ________ sources, while hard capital rationing is imposed from
________ sources.
A) External; external B) External; internal
C) Internal; external D) Internal; internal

Answer 21

C) Internal; external

Question 22

A Project’s payback period is determined to be four years. If it is later discovered that additional cash flows will be
generated in years five and six, then:
A) the Project’s payback period will be reduced.
B) the Project’s payback period will be unchanged.
C) the Project’s payback period will be increased.
D) the discount rate must be known to determine whether the payback period changes.

Answer 22

B) the Project’s payback period will be unchanged.

Question 23

If a project has a cost of $50,000 and a profitability index of 0.4, then:
A) its IRR is 20 percent
B) its cash inflows are $70,000
C) the present value of its cash inflows is $30,000
D) its NPV is $20,000

Answer 23

D) its NPV is $20,000

Question 24

A stream of equal cash payments lasting forever is termed as:
a. an annuity.
b. an annuity due.
c. an installment plan.
d. a perpetuity.

Answer 24

d. a perpetuity.

Question 25

When an investment pays only simple interest, this means: a. the interest rate is lower than on comparable investments. b. the future value of the investment will be low. c. the earned interest is nontaxable to the investor. d. interest is earned only on the original investment.

Answer 25

d. interest is earned only on the original investment.

Question 26

The concept of compound interest refers to: a. earning interest on the original investment. b. payment of interest on previously earned interest. c. investing for a multiyear period of time. d. determining the APR of the investment.

Answer 26

b. payment of interest on previously earned interest.

Question 27

Which one of the following bond values will change when interest rates change? a. the expected cash flows b. the present value c. the coupon payment d. the maturity value

Answer 27

b. the present value

Question 28

When market interest rates exceed a bond's coupon rate, the bond will: a. sell for less than par value. b. sell for more than par value. c. decrease its coupon rate. d. increase its coupon rate.

Answer 28

a. sell for less than par value.

Question 29

A "convertible bond" provides the option to convert: a. a bond into shares of common stock. b. fixed-rate coupon payments into variable-rate payments. c. a zero-coupon bond to a coupon-paying bond. d. a junk bond to a zero-coupon investment-grade bond.

Answer 29

a. a bond into shares of common stock.

Question 30

Which of the following describes a seasoned offering? a. an IPO of common stock for a well-known firm b. an IPO that is offered during the best buying season c. an additional equity issue from a publicly traded firm d. any shares traded in the secondary market are seasoned offerings

Answer 30

c. an additional equity issue from a publicly traded firm

Question 31

Which of the following should increase the firm's sustainable growth rate? a. increase the dividend payout ratio b. decrease the required return c. decrease the ROE d. increase the plowback ratio

Answer 31

d. increase the plowback ratio

Question 32

Common stock can be valued using the perpetuity valuation formula if the: a. discount rate is expected to remain constant. b. dividends are not expected to grow. c. growth rate in dividends is not constant. d. none of the above

Answer 32

b. dividends are not expected to grow.

Question 33

The correct method to handle overhead costs in capital budgeting is to: A) ignore them in all cases. B) ignore all except identifiable incremental amounts. C) allocate a portion to each project. D) allocate them to projects with the highest NPVs

Answer 33

B) ignore all except identifiable incremental amounts.

Question 34

When the real rate of interest is less than the nominal rate of interest, then: A) inflation must be added to the nominal rate. B) nominal flows should be discounted with real rates. C) inflation is expected to occur. D) investment returns do not increase purchasing power.

Answer 34

C) inflation is expected to occur.

Question 35

New projects or products can have an indirect effect on the firm as well as a direct effect. Which of the following appears to be an indirect effect of launching a new product? A) additional working capital is required. B) sales of our similar product will decline. C) the sales force will need to be increased. D) additional machinery must be purchased.

Answer 35

B) sales of our similar product will decline.

Question 36

A cost should be considered sunk when it: A) is replaced by costs that are not yet sunk. B) produces no additional sales revenues. C) is fully depreciated. D) has no effect on future flows.

Answer 36

D) has no effect on future flows.

Question 37

Which of the following methods will provide a correct analysis for capital budgeting purposes? A) discounting real cash flows with nominal rates. B) discounting real cash flows with real rates. C) discounting nominal cash flows with real rates. D) all of the above methods will provide similar results.

Answer 37

B) discounting real cash flows with real rates.

Question 38

The "recovery" of an additional investment in working capital is assumed to: A) be a sunk cost. B) occur at the end of the project's life. C) occur whenever the project first shows a profit. D) occur at the beginning of the project's life.

Answer 38

B) occur at the end of the project's life.

Question 39

The value of a proposed capital budgeting project depends upon the: A) increase in total sales produced. B) total cash flows produced. C) accounting profits produced. D) incremental cash flows produced.

Answer 39

D) incremental cash flows produced.

Question 40

Working capital will affect incremental cash flows if: A) current liabilities change more than current assets. B) inventory changes from previous levels. C) current assets change more than current liabilities. D) net working capital changes from previous levels.

Answer 40

D) net working capital changes from previous levels.

Question 41

Which of the following statements regarding investment in working capital is incorrect? A) working capital is recovered at the end of the project. B) the working capital may change during the life of the project. C) investment in working capital, unlike investment in plant and equipment, represents a positive cash flow. D) the cash flow is measured by the change in working capital, not the level of working capital.

Answer 41

C) investment in working capital, unlike investment in plant and equipment, represents a positive cash flow.

Question 42

The additional inventory investment that is often required for new projects can be partially funded by: A) reducing accounts receivable. B) increasing accounts payable. C) decreasing equipment purchases. D) switching to accelerated depreciation methods.

Answer 42

B) increasing accounts payable.

Question 43

What two elements are represented in security returns? A. a premium for market risk and for unique risk B. a premium for unique risk and a premium for firm-specific risk C. a premium for diversification and a premium for portfolio risk D. a premium for time value of money and a premium for market risk

Answer 43

D. a premium for time value of money and a premium for market risk

Question 44

Given recent evidence concerning the CAPM, which of the following portfolios might be expected to plot above the security market line? A. a portfolio of cyclical stocks. B. a portfolio that includes borrowed funds. C. a portfolio of smaller companies. D. a portfolio split between Treasury bills and the market index.

Answer 44

C. a portfolio of smaller companies.

Question 45

A stock with a Beta greater than 1.0 would be termed: A. an aggressive stock, expected to increase more than the market increases. B. a defensive stock, expected to decrease more than the market increases. C. an aggressive stock, expected to decrease more than the market increases. D. a defensive stock, expected to increase more than the market decreases.

Answer 45

A. an aggressive stock, expected to increase more than the market increases.

Question 46

Investing borrowed funds in a stock portfolio will: A. increase the Beta of the portfolio. B. decrease the volatility of the portfolio. C. decrease the expected return on the portfolio. D. increase the market risk premium.

Answer 46

A. increase the Beta of the portfolio.

Question 47

If Treasury bills are yielding 10% at a time when the market risk premium is 6%, then the: A. market portfolio should yield 4%. B. market portfolio should yield 6%. C. market portfolio should yield 16%. D. market portfolio should yield 22%.

Answer 47

C. market portfolio should yield 16%.

Question 48

The line plotted to fit observations of a stock's returns versus the market's returns determines the: A. security market line. B. Beta of the stock. C. market risk premium. D. capital asset pricing model.

Answer 48

B. Beta of the stock.

Question 49

Why do stock market investors appear not to be concerned with unique risks when calculating expected rates of return? A. there is no method to quantify unique risks. B. unique risks are assumed to be diversified away. C. unique risks are compensated by the risk-free rate. D. Beta includes a component to compensate unique risk. ANSWER

Answer 49

B. unique risks are assumed to be diversified away.

Question 50

Which of the following risks would be classified as a unique risk for an auto manufacturer? A. interest rates B. steel prices C. business cycles D. foreign exchange rates

Answer 50

B. steel prices

Question 51

Treasury bonds have provided a higher historical return than Treasury bills, which can be attributed to: A. greater default risk. B. a higher level of unique risk. C. greater price risk due to longer maturities. D. the fact that they are less frequently traded than bills.

Answer 51

C. greater price risk due to longer maturities.

Question 52

A corporation donates a valuable painting from its private collection to an art museum. Which of the following is incremental cash flow associated with the donation? A. The current market value of the painting B. The price the firm paid for the painting C. The deduction from income that it declares for its charitable gift D. The future price of the painting after one year

Answer 52

A. The current market value of the painting

Question 53

A new project requires an increase in both current assets and current liabilities of $125,000 each. What is the overall impact on net working capital investment? A. an increase of zero. B. an increase of $125,000. C. an increase of $250,000. D. an increase of $62,500, when averaged over the life of the project.

Answer 53

A. an increase of zero.

Question 54

When is it appropriate to include sunk costs in the evaluation of a project? A. include sunk costs when they are relatively large B. include sunk costs if it improves the project's NPV C. include sunk costs if they are considered to be overhead costs D. it is never appropriate to include sunk costs

Answer 54

D. it is never appropriate to include sunk costs

Question 55

Which of the following net working capital changes would increase a firm’s net cash flow? A. A decrease in bank debt B. An increase in accounts receivable C. An increase in inventories D. An increase in accounts payable

Answer 55

D. An increase in accounts payable

Question 56

Which of the following companies would you expect to be least exposed to macro risks? A. A luxury cruise line B. An automobile manufacturer C. An airline D. An electric utility

Answer 56

D. An electric utility

Question 57

Risk factors that are expected to affect only a specific firm are referred to as: A. market risk. B. diversifiable risk. C. systematic risk. D. risk premiums.

Answer 57

B. diversifiable risk.

Question 58

Which of the following risk types can be diversified by adding stocks to a portfolio? A. systematic risk B. unique risk C. default risk D. market risk

Answer 58

B. unique risk

Question 59

In general, which stocks should be combined in a portfolio, if the goal is to reduce overall risk? A. stocks with returns that are positively correlated. B. stocks with returns that are negatively correlated. C. stocks with returns that are not correlated. D. stocks that have the highest expected returns.

Answer 59

B. stocks with returns that are negatively correlated.

Question 60

Decreases in the risk-free rate will reduce: A. the market risk premium. B. the stock's risk premium. C. the stock's Beta. D. the stock's expected return.

Answer 60

D. the stock's expected return.

Question 61

A stock's Beta measures the: A. average return on the stock. B. variability in the stock's returns compared to that of the market portfolio. C. difference between the return on the stock and return on the market portfolio. D. market risk premium on the stock.

Answer 61

B. variability in the stock's returns compared to that of the market portfolio.

Question 62

The graph showing the relationship between the market risk of the security (beta) and its expected return is called: A. stock's Beta. B. security market line. C. market risk premium. D. stock's unique risk.

Answer 62

B. security market line.

Question 63

In practice, the market portfolio is often represented by: A. a portfolio of Canadian Treasury securities. B. a diversified stock market index. C. an investor's mutual fund portfolio. D. the historic record of stock market returns.

Answer 63

B. a diversified stock market index.

Question 64

A stock with a Beta greater than 1.0 would be termed: A. an aggressive stock, expected to increase more than the market increases. B. a defensive stock, expected to decrease more than the market increases. C. an aggressive stock, expected to decrease more than the market increases. D. a defensive stock, expected to increase more than the market decreases.

Answer 64

A. an aggressive stock, expected to increase more than the market increases.

Question 65

Which of the following changes offer the greatest chance of changing a project's NPV from negative to positive? A. Substituting preferred stock for debt. B. Selling the debt at less than par value. C. A reduction in project risk. D. A decrease in the marginal tax rate.

Answer 65

C. A reduction in project risk.

Question 66

Changing the capital structure by adding debt will not: A. increase the return that shareholders require. B. leave the WACC unaffected. C. decrease debt holder risk. D. increase the cost of debt.

Answer 66

C. decrease debt holder risk.

Question 67

The weighted average cost of capital should be used on projects of similar risk that are funded through: A. debt issues. B. retained earnings. C. Depreciation. D. any external financing.

Answer 67

D. any external financing.

Question 68

In general, equity is considered a _____ investment than debt, because payments on debt are _______. A. safer; lower B. safer; less certain C. riskier; guaranteed by the company D. riskier; guaranteed by the federal government

Answer 68

C. riskier; guaranteed by the company

Question 68

The company cost of capital: A. measures what investors want from the company. B. depends on current profits and cash flows. C. is measured using security book values. D. depends on historical profits and cash flows.

Answer 68

A. measures what investors want from the company.

Question 69

Companies making smaller security issues may prefer to issue them through: A. a private placement because lower rates of return can be offered. B. a private placement because it is cheaper than a public issue. C. a public issue because it is cheaper than a private placement. D. a public issue because more exposure will be achieved.

Answer 69

B. a private placement because it is cheaper than a public issue.

Question 70

Underwriters are used for all of the following except: A. selling securities to the public. B. making initial public offerings. C. assisting a company in raising cash. D. providing equity capital for young businesses.

Answer 70

C. assisting a company in raising cash.

Question 71

Before a stock can be sold in Canada it must: A. be approved by the Federal Government. B. be approved by the Federal Securities Commission. C. be Approved by the applicable Provincial Commission. D. be approved by shareholders only.

Answer 71

C. be Approved by the applicable Provincial Commission.

Question 72

Which of the following methods may be particularly cost effective to smaller issuers of securities? A. seasoned offerings B. private placement C. general cash offer D. best efforts underwriting

Answer 72

B. private placement

Question 73

The primary reason for an underwriters' syndication is to: A. monitor the actions of the different underwriters. B. reduce the risk of selling a large issue. C. increase the size of the spread. D. avoid the scrutiny of the Securities and Exchange Commission.

Answer 73

B. reduce the risk of selling a large issue.

Question 74

In a firm commitment, the underwriter: A. encounters virtually no risk because the spread is fixed. B. is allowed to sell the shares at any price they choose. C. is protected against being stuck with unsold shares. D. is allowed to sell the shares at a price slightly higher than the price they paid to the company.

Answer 74

D. is allowed to sell the shares at a price slightly higher than the price they paid to the company.

Question 75

One strategy that appears to be used by certain underwriters to reduce the risk of marketing a stock is to: A. offer a firm commitment on the issue. B. set the initial stock price below its true value. C. sell the securities in foreign countries. D. offer price rebates on the stock purchases

Answer 75

B. set the initial stock price below its true value.

Question 76

Crowdfunding may be used by entrepreneurs seeking to raise millions of dollars for a new enterprise, but often it is a method for individuals to raise a few thousand dollars. In contrast to traditional venture capital projects, a relatively small proportion of projects are high-tech and many are for artistic activities or movie production. The payoff for investors may be in cash, but many crowdfunded projects offer A. samples of the product. B. high rates of return. C. low rates of return. D. insider information

Answer 76

A. samples of the product.

Question 77

When a company expects to maintain its dividend payments in the future, it will issue: A) regular dividends. B) extra dividends. C) stock dividends. D) special dividends

Answer 77

A) regular dividends

Question 78

When the firm has a high retention ratio, thus paying low dividends, the dividend is a by-product of what kind of decision? A) borrowing B) financing C) capital budgeting D) debt policy

Answer 78

C) capital budgeting

Question 79

What is the most likely prediction after a firm reduces its regular dividend payment? A) retained earnings are expected to decrease. B) earnings are expected to decline. C) share price is expected to increase. D) investment is expected to increase

Answer 79

B) earnings are expected to decline.

Question 80

An investor who owns stock on the company's ________ date will receive the dividends declared. A) ex-dividend B) payment C) record D) with-dividend

Answer 80

D) with-dividend

Question 81

Which of the following is the order in which key dividend dates occur: A) with-dividend, ex- dividend, record, declaration, payment. B) record, declaration, with-dividend, payment, ex-dividend. C) declaration, with-dividend, ex-dividend, record, payment. D) declaration, with-dividend, record, ex-dividend, payment.

Answer 81

C) declaration, with-dividend, ex-dividend, record, payment

Question 82

Corporations may have a legitimate preference for dividends over capital gains because: A) 30% ofdividends received by corporations are exempt from taxation. B) 70% of dividends received by corporations are exempt from taxation. C) capital gains have a 50% tax rate. D) dividends received by corporations are not taxable.

Answer 82

B) 70% of dividends received by corporations are exempt from taxation.

Question 83

Modigliani and Miller (MM)'s proposition concerning dividends contends that shareholders will: A)offer higher prices for higher dividend payouts. B) offer higher prices for lower dividend payouts. C) not offer higher prices for higher dividend payouts. D) only purchase stocks that have high dividend payouts

Answer 83

C) not offer higher prices for higher dividend payouts.

Question 84

Why are dividend changes rather than their absolute level perceived to be more important to managers and shareholders? A) MM states that the absolute level of dividends is irrelevant B) changes determine whether borrowing must occur C) dividend changes are thought to signal future expectations D) managers only change dividends under threatening conditions

Answer 84

C) dividend changes are thought to signal future expectations

Question 85

An assumption of the MM dividend irrelevance proposition is: A) capital gains are offset by receiving no dividend. B) extra cash dividends are offset by a capital loss. C) extra cash dividends are offset by a capital gain. D) investors are willing to pay higher prices for shares with higher payouts.

Answer 85

B) extra cash dividends are offset by a capital loss.

Question 86

A firm's dividend policy involves a trade-off between: A) a large asset base and a small asset base. B) internal versus external financing of investment. C) high share price versus low share price. D) growth versus no growth in investment

Answer 86

B) internal versus external financing of investment.

Question 87

Why is it not sufficient to state that a merger should occur simply because the economic gains are positive? A. Gains are typically of an accounting nature B. Shareholders of the target may capture all gains C. Merger cost should be negative after discounting D. The merger's gain must also exceed its NPV

Answer 87

B. Shareholders of the target may capture all gains

Question 88

A conglomerate merger occurs when: A. both partners are large in size. B. large synergies are expected to develop. C. firms from different industries merge. D. both management teams remain intact after the merger.

Answer 88

C. firms from different industries merge.

Question 89

Mergers may provide reductions in average production cost as a result of: A. increased market share. B. a more efficient management. C. economies of scale. D. diversification.

Answer 89

C. economies of scale.

Question 90

If Canfor (lumber products) were to acquire a national homebuilding firm, the combination would be termed a: A. Horizontal merger. B. Vertical merger. C. Conglomerate merger. D. A spin-off by the national homebuilding firm.

Answer 90

B. Vertical merger.

Question 91

In which merger type would it be least likely to observe economies of scale? A. Horizontal B. Vertical C. Conglomerate D. It is equally likely to observe economies of scale in all merger types

Answer 91

B. Vertical

Question 92

If an automobile manufacturer were to acquire one of the firms listed in the answer options, which acquisition would be called a horizontal merger? A. A steel mill B. A rival manufacturer C. A tire producer D. A bank

Answer 92

B. A rival manufacturer