Advanced Corporate Finance Exam
Bank
Course Introduction
Advanced Corporate Finance delves into the complex financial decisions faced by corporations, focusing on topics such as capital structure, risk management, mergers and acquisitions, corporate governance, and valuation techniques. The course emphasizes analytical frameworks and quantitative methods for making strategic financial decisions, including tools for assessing investment opportunities, financing options, and the effects of financial policies on firm value. Case studies and practical examples are used to illustrate real-world applications, equipping students with the skills required to address sophisticated problems in contemporary corporate finance settings.
Recommended Textbook
Corporate Finance A Focused Approach 6th Edition by Michael C. Ehrhardt
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Page 2
Chapter 1: An Overview of Financial Management and the Financial Environment
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Sample Questions
Q1) Which of the following statements is CORRECT?
A) If expected inflation increases, interest rates are likely to increase.
B) If individuals in general increase the percentage of their income that they save, interest rates are likely to increase.
C) If companies have fewer good investment opportunities, interest rates are likely to increase.
D) Interest rates on all debt securities tend to rise during recessions because recessions increase the possibility of bankruptcy, hence the riskiness of all debt securities.
E) Interest rates on long-term bonds are more volatile than rates on short-term debt securities like T-bills.
Answer: A
Q2) The major advantage of a regular partnership or a corporation as a form of business organization is the fact that both offer their owners limited liability, whereas proprietorships do not.
A)True
B)False
Answer: False
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3
Chapter 3: Analysis of Financial Statements
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Sample Questions
Q1) Chambliss Corp.'s total assets at the end of last year were $305,000 and its EBIT was 62,500. What was its basic earning power (BEP)?
A) 18.49%
B) 19.47%
C) 20.49%
D) 21.52%
E) 22.59%
Answer: C
Q2) Which of the following would indicate an improvement in a company's financial position, holding other things constant?
A) The current and quick ratios both increase.
B) The inventory and total assets turnover ratios both decline.
C) The debt ratio increases.
D) The profit margin declines.
E) The EBITDA coverage ratio declines.
Answer: A
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Chapter 4: Time Value of Money
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Sample Questions
Q1) Your girlfriend just won the Florida lottery. She has the choice of $15,000,000 today or a 20-year annuity of $1,050,000, with the first payment coming one year from today. What rate of return is built into the annuity?
A) 3.44%
B) 3.79%
C) 4.17%
D) 4.58%
E) 5.04%
Q2) Suppose a State of North Carolina bond will pay $1,000 ten years from now. If the going interest rate on these 10-year bonds is 5.5%, how much is the bond worth today?
A) $585.43
B) $614.70
C) $645.44
D) $677.71
E) $711.59
Q3) A time line is meaningful even if all cash flows do not occur annually. A)True B)False
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Chapter 5: Bonds, Bond Valuation, and Interest Rates
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Q1) Which of the following statements is CORRECT?
A) All else equal, a bond that has a coupon rate of 10% will sell at a discount if the required return for bonds of similar risk is 8%.
B) The price of a discount bond will increase over time, assuming that the bond's yield to maturity remains constant.
C) For a given firm, its debentures are likely to have a lower yield to maturity than its mortgage bonds.
D) When large firms are in financial distress, they are almost always liquidated, whereas smaller firms are generally reorganized.
E) The total return on a bond during a given year consists only of the coupon interest payments received.
Q2) A bond has a $1,000 par value, makes annual interest payments of $100, has 5 years to maturity, cannot be called, and is not expected to default. The bond should sell at a premium if interest rates are below 10% and at a discount if interest rates are greater than 10%.
A)True
B)False
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Page 6
Chapter 6: Risk, Return, and the Capital Asset Pricing Model
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Q1) If the returns of two firms are negatively correlated, then one of them must have a negative beta.
A)True
B)False
Q2) Stock A has a beta of 0.8, Stock B has a beta of 1.0, and Stock C has a beta of 1.2. Portfolio P has 1/3 of its value invested in each stock. Each stock has a standard deviation of 25%, and their returns are independent of one another, i.e., the correlation coefficients between each pair of stocks is zero. Assuming the market is in equilibrium, which of the following statements is CORRECT?
A) Portfolio P's expected return is equal to the expected return on Stock A.
B) Portfolio P's expected return is less than the expected return on Stock B.
C) Portfolio P's expected return is equal to the expected return on Stock B.
D) Portfolio P's expected return is greater than the expected return on Stock C.
E) Portfolio P's expected return is greater than the expected return on Stock B.
Q3) Managers should under no conditions take actions that increase their firm's risk relative to the market, regardless of how much those actions would increase the firm's expected rate of return.
A)True
B)False
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Page 7
Chapter 7: Stocks, Stock Valuation, and Stock Market
Equilibrium
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Sample Questions
Q1) If D<sub>0</sub> = $1.75, g (which is constant) = 3.6%, and P<sub>0</sub> = $32.00, what is the stock's expected total return for the coming year?
A) 8.37%
B) 8.59%
C) 8.81%
D) 9.03%
E) 9.27%
Q2) The expected total return on a share of stock refers to the dividend yield less any commissions paid when the stock is purchased and sold. A)True
B)False
Q3) You, in analyzing a stock, find that its expected return exceeds its required return. This suggests that you think A) the stock should be sold.
B) the stock is a good buy.
C) management is probably not trying to maximize the price per share.
D) dividends are not likely to be declared.
E) the stock is experiencing supernormal growth.
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Chapter 8: Financial Options and Applications in Corporate Finance
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Q1) BLW Corporation is considering the terms to be set on the options it plans to issue to its executives. Which of the following actions would decrease the value of the options, other things held constant?
A) The exercise price of the option is increased.
B) The life of the option is increased, i.e., the time until it expires is lengthened.
C) The Federal Reserve takes actions that increase the risk-free rate.
D) BLW's stock price becomes more risky (higher variance).
E) BLW's stock price suddenly increases.
Q2) An option is a contract that gives its holder the right to buy or sell an asset at a predetermined price within a specified period of time.
A)True
B)False
Q3) If the market is in equilibrium, then an option must sell at a price that is exactly equal to the difference between the stock's current price and the option's strike price.
A)True
B)False
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Chapter 9: The Cost of Capital
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Q1) For capital budgeting and cost of capital purposes, the firm should assume that each dollar of capital is obtained in accordance with its target capital structure, which for many firms means partly as debt, partly as preferred stock, and partly common equity.
A)True
B)False
Q2) The cost of debt is equal to one minus the marginal tax rate multiplied by the interest rate on new debt.
A)True
B)False
Q3) When estimating the cost of equity by use of the bond-yield-plus-risk-premium method, we can generally get a good idea of the interest rate on new long-term debt, but we cannot be sure that the risk premium we add is appropriate. This problem leaves us unsure of the true value of r<sub>s</sub>.
A)True
B)False
Q4) "Capital" is sometimes defined as funds supplied to a firm by investors.
A)True
B)False
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Chapter 10: The Basics of Capital Budgeting: Evaluating Cash Flows
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Q1) When evaluating mutually exclusive projects, the modified IRR (MIRR) always leads to the same capital budgeting decisions as the NPV method, regardless of the relative lives or sizes of the projects being evaluated.
A)True
B)False
Q2) Assume a project has normal cash flows. All else equal, which of the following statements is CORRECT?
A) A project's NPV increases as the cost of capital declines.
B) A project's MIRR is unaffected by changes in the cost of capital.
C) A project's regular payback increases as the cost of capital declines.
D) A project's discounted payback increases as the cost of capital declines.
E) A project's IRR increases as the cost of capital declines.
Q3) The IRR method is based on the assumption that projects' cash flows are reinvested at the project's risk-adjusted cost of capital.
A)True
B)False
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Chapter 11: Cash Flow Estimation and Risk Analysis
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Q1) Which of the following rules is CORRECT for capital budgeting analysis?
A) Only incremental cash flows, which are the cash flows that would result if a project is accepted, are relevant when making accept/reject decisions.
B) Sunk costs are not included in the annual cash flows, but they must be deducted from the PV of the project's other costs when reaching the accept/reject decision.
C) A proposed project's estimated net income as determined by the firm's accountants, using generally accepted accounting principles (GAAP), is discounted at the WACC, and if the PV of this income stream exceeds the project's cost, the project should be accepted.
D) If a product is competitive with some of the firm's other products, this fact should be incorporated into the estimate of the relevant cash flows. However, if the new product is complementary to some of the firm's other products, this fact need not be reflected in the analysis.
E) The interest paid on funds borrowed to finance a project must be included in estimates of the project's cash flows.
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Page 12
Chapter 12: Financial Planning and Forecasting Financial Statements
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Q1) Which of the following statements is CORRECT?
A) The first, and perhaps the most critical, step in forecasting financial requirements is to forecast future sales.
B) Forecasted financial statements, as discussed in the text, are used primarily as a part of the managerial compensation program, where management's historical performance is evaluated.
C) The capital intensity ratio gives us an idea of the physical condition of the firm's fixed assets.
D) The AFN equation produces more accurate forecasts than the forecasted financial statement method, especially if fixed assets are lumpy, economies of scale exist, or if excess capacity exists.
E) Perhaps the most important step when developing forecasted financial statements is to determine the breakdown of common equity between common stock and retained earnings.
Q2) A firm will use spontaneous funds to the extent possible; however, due to credit terms, contracts with workers, and tax laws there is little flexibility in their usage.
A)True B)False
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Chapter 13: Corporate Valuation, Value-Based
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Sample Questions
Q1) Two important issues in corporate governance are (1) the rules that cover the board's ability to fire the CEO and (2) the rules that cover the CEO's ability to remove members of the board.
A)True
B)False
Q2) The CEO of D'Amico Motors has been granted some stock options that have provisions similar to most other executive stock options. If D'Amico's stock underperforms the market, these options will necessarily be worthless.
A)True
B)False
Q3) Which of the following is NOT normally regarded as being a good reason to establish an ESOP?
A) To enable the firm to borrow at a below-market interest rate.
B) To make it easier to grant stock options to employees.
C) To help prevent a hostile takeover.
D) To help retain valued employees.
E) To increase worker productivity.
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Page 14
Chapter 14: Distributions to Shareholders: Dividends and Repurchases
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Sample Questions
Q1) The capital budget of Creative Ventures Inc. is $1,000,000. The company wants to maintain a target capital structure that is 30% debt and 70% equity. The company forecasts that its net income this year will be $800,000. If the company follows a residual dividend policy, what will be its total dividend payment?
A) $100,000
B) $200,000
C) $300,000
D) $400,000
E) $500,000
Q2) Which of the following should not influence a firm's dividend policy decision?
A) A strong preference by most shareholders for current cash income versus capital gains.
B) Constraints imposed by the firm's bond indenture.
C) The fact that much of the firm's equipment has been leased rather than bought and owned.
D) The fact that Congress is considering changes in the tax law regarding the taxation of dividends versus capital gains.
E) The firm's ability to accelerate or delay investment projects.
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Chapter 15: Capital Structure Decisions
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Q1) When a firm has risky debt, its equity can be viewed as an option on the total value of the firm with an exercise price equal to the face value of the debt.
A)True
B)False
Q2) Larsen Films' is analyzing its cost structure. Its fixed operating costs are $470,000, its variable costs of $2.80 per unit produced, and its products sell for $4.00 per unit. What is the company's breakeven point, i.e., at what unit sales volume would income equal costs?
A) 391,667
B) 411,250
C) 431,813
D) 453,403
E) 476,073
Q3) The major contribution of the Miller model is that it demonstrates that
A) personal taxes decrease the value of using corporate debt.
B) financial distress and agency costs reduce the value of using corporate debt.
C) equity costs increase with financial leverage.
D) debt costs increase with financial leverage.
E) personal taxes increase the value of using corporate debt.
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Page 16
Chapter 16: Working Capital Management
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Q1) Uncertainty about the exact lives of assets prevents precise maturity matching in an ex post (i.e., after the fact) sense even though it is possible to match maturities on an ex ante (expected) basis.
A)True
B)False
Q2) Suppose a firm changes its credit policy from 2/10 net 30 to 3/10 net 30. The change is meant to meet competition, so no increase in sales is expected. The average accounts receivable balance will probably decline as a result of this change.
A)True
B)False
Q3) The risk to the firm of borrowing using short-term credit is usually greater than if it used long-term debt. Added risk stems from (1) the greater variability of interest costs on short-term than long-term debt and (2) the fact that even if its long-term prospects are good, the firm's lenders may not be willing to renew short-term loans if the firm is temporarily unable to repay those loans.
A)True
B)False
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Page 17
Chapter 17: Multinational Financial Management
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Q1) If the United States is running a deficit trade balance with China, then in a free market we would expect the value of the Chinese yuan to depreciate against the U.S. dollar.
A)True
B)False
Q2) Exchange rates influence a multinational firm's inventory policy because changing currency values can affect the value of inventory.
A)True
B)False
Q3) Suppose Stackpool Inc. had inventory in Britain valued at 240,000 pounds one year ago. The exchange rate for dollars to pounds was 1£ = 2 U.S. dollars. This year the exchange rate is 1£ = 1.82 U.S. dollars. The inventory in Britain is still valued at 240,000 pounds. What is the gain or loss in inventory value in U.S. dollars as a result of the change in exchange rates?
A) $240,000
B) $43,200
C) $0
D) $43,200
E) $47,473
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Page 18