Advanced Corporate Finance
Pre-Test Questions
Course Introduction
Advanced Corporate Finance delves into the complex financial decisions faced by modern corporations, emphasizing the key concepts and tools used in valuation, capital structure, and corporate strategy. The course explores topics such as mergers and acquisitions, leveraged buyouts, risk management, and corporate governance, providing students with an in-depth understanding of how financial managers create value and manage risks in dynamic markets. Through case studies, real-world applications, and advanced financial modeling techniques, students develop the analytical skills necessary to address sophisticated financial challenges and to support strategic decision-making at the highest levels of corporate finance.
Recommended Textbook
Corporate Finance 1st European Edition by David Hillier
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Page 2
Chapter 1: Introduction to Corporate Finance
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Q1) The owners of a limited liability company prefer:
A)being taxed like a corporation.
B)having liability exposure similar to that of a sole proprietor.
C)being taxed personally on all business income.
D)having liability exposure similar to that of a general partner.
E)being taxed like a corporation with liability like a partnership.
Answer: C
Q2) Dealer markets:
A)are reserved strictly for trading debt securities.
B)only exist outside of Europe.
C)are called over-the-counter markets.
D)include the Euronext and London Stock Exchanges.
E)list only the securities of the largest firms.
Answer: C
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Chapter 2: Corporate Governance
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Q1) Which of the following are disadvantages of a partnership?
I.limited life of the firm
II.personal liability for firm debt
III.greater ability to raise capital than a sole proprietorship
IV.lack of ability to transfer partnership interest
A)I and II only.
B)III and IV only.
C)II and III only.
D)I,II,and IV only.
E)I,III,and IV only.
Answer: D
Q2) Corporate Governance Regulation is intended to:
A)protect financial managers from investors.
B)not have any affect on foreign companies.
C)reduce corporate revenues.
D)protect investors from corporate abuses.
E)decrease audit costs for firms.
Answer: D
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Page 4
Chapter 3: Financial Statement Analysis and Long-Term Planning
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Q1) _____ refers to the cash flow that results from the firm's ongoing,normal business activities.
A)Cash flow from operating activities
B)Capital spending
C)Net working capital
D)Cash flow from assets
E)Cash flow to creditors
Answer: A
Q2) Which one of the following accounts is generally the most liquid?
A)Inventory
B)Building
C)Accounts receivable
D)Equipment
E)Patent
Answer: C
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Page 5
Chapter 4: Discounted Cash Flow Valuation
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Q1) Marko plc is considering the purchase of ABC Co.Marko believes that ABC Co.can generate cash flows of £5,000,£9,000,and £15,000 over the next three years,respectively.After that time,Marko feels ABC will be worthless.Marko has determined that a 14% rate of return is applicable to this potential purchase.What is Marko willing to pay today to buy ABC Co.?
A)£19,201.76
B)£21,435.74
C)£23,457.96
D)£27,808.17
E)£31,758.00
Q2) What is the present value of a payment of £21,000 three years from now if the effective annual interest rate is 4%?
A)£17,951
B)£18,480
C)£18,658
D)£18,669
E)£19,218
Q3) Using the example of a savings account,explain the difference between the stated rate and the annual percentage rate.
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Page 6
Chapter 5: How to Value Bonds and Shares
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Q1) The yield to maturity is:
A)the rate that equates the price of the bond with the discounted cash flows.
B)the expected rate to be earned if held to maturity.
C)the rate that is used to determine the market price of the bond.
D)equal to the current yield for bonds priced at par.
E)All of the above.
Q2) Martha's Vineyard recently paid a 3.60 annual dividend on its ordinary equity.This dividend increases at an average rate of 3.5% per year.The share is currently selling for 62.10.What is the market rate of return?
A)2.5%
B)3.5%
C)5.5%
D)6.0%
E)9.5%
Q3) One basis point is equal to:
A).01%.
B).10%.
C)1.0%.
D)10%.
E)100%.
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Chapter 6: Net Present Value and Other Investment Rules
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Q1) When two projects both require the total use of the same limited economic resource,the projects are generally considered to be:
A)independent.
B)marginally profitable.
C)mutually exclusive.
D)acceptable.
E)internally profitable.
Q2) An investment cost £10,000 with expected cash flows of £3,000 for 5 years.The discount rate is 15.2382%.The NPV is ___ and the IRR is ___ for the project.
A)£0; 15.2382%
B)£3.33; 27.2242%
C)£5,000; 0%
D)Can not answer without one or the other value as input.
E)None of the above.
Q3) Given the goals of firm value and shareholder wealth maximization,we have stressed the importance of net present value (NPV).And yet,many financial decision-makers at some of the most prominent firms in the world continue to use less desirable measures such as the payback period and the average accounting return (AAR).Why do you think this is the case?
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Page 8
Chapter 7: Making Capital Investment Decisions
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Q1) Thornley Machines is considering a 3-year project with an initial cost of 618,000.The project will not directly produce any sales but will reduce operating costs by 265,000 a year.The equipment is depreciated straight-line to a zero book value over the life of the project.At the end of the project the equipment will be sold for an estimated 60,000.The tax rate is 34%.The project will require 23,000 in extra inventory for spare parts and accessories.Should this project be implemented if Thornley's requires a 9% rate of return? Why or why not?
A)No; The NPV is - 2,646.00.
B)Yes; The NPV is 27,354.00.
C)Yes; The NPV is 32,593.78.
D)Yes; The NPV is 43,106.54.
E)Yes; The NPV is 196,884.40.
Q2) The increase you realize in buying power as a result of owning a bond is referred to as the _____ rate of return.
A)inflated
B)realized
C)nominal
D)real
E)risk-free
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Chapter 8: Risk Analysis, Real Options, and Capital Budgeting
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Q1) Conducting scenario analysis helps managers see the:
A)impact of an individual variable on the outcome of a project.
B)potential range of outcomes from a proposed project.
C)changes in long-term debt over the course of a proposed project.
D)possible range of market prices for their firm's stock over the life of a project.
E)allocation distribution of funds for capital projects under conditions of hard rationing.
Q2) Adept NV is analyzing a proposed project.The company expects to sell 2,500 units,give or take 10%.The expected variable cost per unit is 8 and the expected fixed costs are 12,500.Cost estimates are considered accurate within a plus or minus 5% range.The depreciation expense is 4,000.The sale price is estimated at 16 a unit,give or take 2%.The company bases its sensitivity analysis on the expected case scenario.What is the sales revenue under the optimistic case scenario?
A) 40,000
B) 43,120
C) 44,000
D) 44,880
E) 48,400
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Page 10
Chapter 9: Risk and Return: Lessons From Market History
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Q1) A equity had returns of 11%,1%,9%,15%,and -6% for the past five years.Based on these returns,what is the approximate probability that this equity will earn at least 23% in any one given year?
A)0.5%
B)1.0%
C)2.5%
D)5.0%
E)16.0%
Q2) Over the period of 1926 to 2005 in the US,the average rate of inflation was _____ %.
A)2.0
B)2.7
C)3.1
D)3.8
E)4.3
Q3) You earned a total return of -5% on NoDotCom this year,earned -40% last year,and earned 30% two years ago.Calculate both the three-year holding period return and the average three year return.
Q4) What are the lessons learned from capital market history? What evidence is there to suggest these lessons are correct?
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Chapter 10: Return and Risk: The Capital Asset Pricing Model
Capm
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Q1) A portfolio has 50% of its funds invested in Security One and 50% of its funds invested in Security Two.Security One has a standard deviation of 6.Security Two has a standard deviation of 12.The securities have a coefficient of correlation of 0.5.Which of the following values is closest to portfolio variance?
A).0027
B).0063
C).0095
D).0104
E)One must have covariance to calculate expected value.
Q2) If the correlation between two shares is +1,then a portfolio combining these two shares will have a variance that is:
A)less than the weighted average of the two individual variances.
B)greater than the weighted average of the two individual variances.
C)equal to the weighted average of the two individual variances.
D)less than or equal to average variance of the two weighted variances,depending on other information.
E)None of the above.
Q3) Why are some risks diversifiable and some nondiversifiable?
Give an example of each.
Page 12
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Chapter 11: Factor Models and the Arbitrage Pricing Theory
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Q1) Which of the following is true about the impact on market price of a security when a company makes an announcement and the market has discounted the news?
A)The price will change a great deal; even though the impact is primarily in the future,the future value is discounted to the present.
B)The price will change little,if at all,since the impact is primarily in the future.
C)The price will change little,if at all,since the market considers this information unimportant.
D)The price will change little,if at all,since the market considers this information untrue.
E)The price will change little,if at all,since the market has already included this information in the security's price.
Q2) A factor is a variable that:
A)affects the returns of risky assets in a systematic fashion.
B)affects the returns of risky assets in an unsystematic fashion.
C)correlates with risky asset returns in a unsystematic fashion.
D)does not correlate with the returns of risky assets in an systematic fashion.
E)None of the above.
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Chapter 12: Risk, cost of Capital, and Capital Budgeting
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Sample Questions
Q1) The slope of the characteristic line is the estimated:
A)intercept.
B)beta.
C)unsystematic risk.
D)market variance.
E)market risk premium.
Q2) Assuming the CAPM or one-factor model holds,what is the cost of equity for a firm if the firm's equity has a beta of 1.2,the risk-free rate of return is 2%,the expected return on the market is 9%,and the return to the company's debt is 7%?
A)10.4%
B)10.8%
C)12.8%
D)14.4%
E)None of the above.
Q3) Beta measures depend highly on the:
A)direction of the market variance.
B)overall cycle of the market.
C)variance of the market and asset,but not their co-movement.
D)covariance of the security with the market and how they are correlated.
E)All of the above.
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Chapter 13: Corporate Financing Decisions and Efficient
Capital Markets
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Q1) If you excel in analyzing the future outlook of firms,you would prefer that the financial markets be ____ form efficient so that you can have an advantage in the marketplace.
A)weak
B)semiweak
C)semistrong
D)strong
E)perfect
Q2) Suppose your cousin invests in the stock market and doubles her money in a single year while the market,on average,earned a return of only about 15%.Is your cousin's performance a violation of market efficiency?
Q3) Event studies have been used to examine:
A)IPOs,SEOs,and other equity issuances.
B)changes in earnings.
C)mergers and acquisitions.
D)most financial events.
E)All of the above.
Q4) Explain why it is that in an efficient market,investments have an expected NPV of zero.
Q5) Define the three forms of market efficiency.
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Chapter 14: Long-Term Financing: An Introduction
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Q1) If cumulative voting is permitted:
A)the total number of votes a shareholder has is equal to the number of shares owned.
B)the total number of votes a shareholder has is equal to the number of shares owned times the average number of years the shareholder has owned the shares.
C)the total number of votes a shareholder has can be calculated as the number of shares owned times the number of directors to be elected.
D)the total number of votes a shareholder has is equal to the number of shares times the number of board meetings the shareholder has attended.
E)None of the above.
Q2) If a group other than management solicits the authority to vote shares to replace management,a _____ is said to occur.
A)proxy fight
B)shareholder derivative action
C)tender offer
D)vote of confidence
E)None of the above.
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16
Chapter 15: Capital Structure: Basic Concepts
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Q1) Spartan Ltd has an unlevered cost of capital of 11%,a cost of debt of 8%, and a tax rate of 35%.What is the target debt-equity ratio if the targeted cost Of equity is 12%?
A).44
B).49
C).51
D).56
E).62
Q2) A firm has zero debt in its capital structure.Its overall cost of capital is 9%.The firm is considering a new capital structure with 40% debt.The interest rate on the debt would be 4%.Assuming that the corporate tax rate is 34%,what would its cost of equity capital with the new capital structure be?
A)10.3%
B)11.0%
C)11.2%
D)13.9%
E)None of the above.
Q3) Explain homemade leverage and why it matters.
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Chapter 16: Capital Structure: Limits to the Use of Debt
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Q1) The Aggie Company has EBIT of £50,000 and market value debt of £100,000 outstanding with a 9% coupon rate.The cost of equity for an all equity firm would be 14%.Aggie has a 35% corporate tax rate.Investors face a 20% tax rate on debt receipts and a 15% rate on equity.Determine the value of Aggie.
A)£120,000
B)£162,948
C)£258,537
D)£263,080
E)£332,143
Q2) The costs of avoiding a bankruptcy filing by a financially distressed firm are classified as _____ costs.
A)flotation
B)direct bankruptcy
C)indirect bankruptcy
D)financial solvency
E)capital structure
Q3) What are the advantages of a prepackaged bankruptcy for a firm? What are the disadvantages?
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Chapter 17: Valuation and Capital Budgeting for the Levered Firm
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Q1) The Azzon Oil Company is considering a project that will cost 50 million and have a year-end after-tax cost savings of 7 million in perpetuity.Azzon's before tax cost of debt is 10% and its cost of equity is 16%.The project has risk similar to that of the operation of the firm,and the target debt-equity ratio is 1.5.What is the NPV for the project if the tax rate is 34%?
Q2) In order to value a project which is not scale enhancing you need to:
A)typically calculate the equity cost of capital using the risk adjusted beta of another firm in the industry before calculating the WACC.
B)typically increase the beta of another firm in the same line of business and then calculate the discount rate using the SML.
C)typically you can simply apply your current cost of capital.
D)discount at the market rate of return since the project will diversify the firm to the market.
E)typically calculate the equity cost of capital using the risk adjusted beta of another firm in another industry before calculating the WACC.
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Page 19
Chapter 18: Dividend and Other Payouts
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Q1) Edie's Health and Beauty Supply has 125,000 shares outstanding with a par value of £1 per share and a market value of £5 a share.The company has retained earnings of £76,500 and additional paid in capital of £340,000.The company just announced a 1-for-5 reverse stock split.What will the par value per share be after the split?
A)£0.20
B)£0.50
C)£1.00
D)£2.50
E)£5.00
Q2) The Retail Outlet has 6,000 shares outstanding with a par value of £1.00 per share.The current market value of the firm is £420,000.The statement of financial position shows the additional paid in capital account value of £136,000 and retained earnings of £234,000.The company just announced a 2-for-1 stock split.What will the market price per share be after the split?
A)£35
B)£40
C)£55
D)£70
E)£140
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Page 20
Chapter 19: Equity Financing
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Q1) The reputational capital of investment bankers is based on their roles as intermediaries with more in-depth knowledge of the issuer.Investment bankers maintain their reputation by:
A)certifying the issue.
B)monitoring the issuing firm's management and performance.
C)pricing issues fairly.
D)All of the above.
E)None of the above.
Q2) A firm commitment arrangement with an investment banker occurs when:
A)the syndicate is in place to handle the issue.
B)the spread between the buying and selling price is less than one percent.
C)the issue is solidly accepted in the market evidenced by a large price increase.
D)when the investment banker buys the security for less than the offering price and accepts the risk of not being able to sell them.
E)when the investment banker sells as much of the security as the market can bear without a price decrease.
Q3) Discuss what a Dutch auction is and how it works.
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Chapter 20: Debt Financing
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Q1) Zero coupon bonds eliminate interest rate risk in some cases by:
A)removing default risk.
B)removing marketability risk.
C)removing reinvestment rate risk.
D)removing call risk.
E)All of the above.
Q2) A firm wishes to issue a perpetual callable bond.The current interest rate is 6%.Next year,there is a 30% chance that the interest rate will be 4.5% and a 70% chance that the rate will be 8.0%.The bond is callable at 1,000 plus an additional coupon payment and it will be called if the interest rate drops to 4.5%. If the bond sells for par today,what is the coupon?
A) 45.00
B) 45.87
C) 70.00
D) 75.62
E) 80.00
Q3) An income bond is unique in at least one characteristic.Explain what is different about income bonds and why they exist.Why are they not more popular?
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Page 22
Chapter 21: Leasing and Off-Balance-Sheet Financing
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Q1) The Plastic Iron Company has decided to acquire a new electronic milling machine.Plastic Iron can purchase the machine for £87,000 which has an expected life of 8 years and will be depreciated using 7 class MACRS rates of .1428,.2449,.1749,.125,.0892,.0892,.0892 and any remainder in year 8.Miller Leasing has offered to lease the machine to Plastic Iron for £14,000 a year for 8 years.Plastic Iron has an 18.64% cost of equity,12% cost of debt,a 1:1 D/E ratio and faces a 34% marginal tax rate.Should they lease or buy?
Show all work.
Q2) An operating lease's primary characteristics are:
A)fully amortized,lessee maintain equipment and there is not cancellation clause.
B)not fully amortized,lessor maintains equipment and there is a cancellation clause.
C)fully amortized,lessor maintain equipment and there is a cancellation clause.
D)not fully amortized,lessor maintains equipment and there is not cancellation clause.
E)fully amortized,lessee maintain equipment and lessee can acquire assets at end of lease for fair market value.
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23
Chapter 22: Options and Corporate Finance
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Q1) The intrinsic value of a call is:
I.the value of the call if it were about to expire.
II.equal to the lower bound of a call's value.
III.another name for the market price of a call.
IV.always equal to zero if the call is currently out of the money.
A)I and III only.
B)II and IV only.
C)I and II only.
D)II,III,and IV only.
E)I,II,and IV only.
Q2) The assets of Blue Light Specials are currently worth 2,100.These assets are expected to be worth either 1,800 or 2,300 one year from now.The company has a pure discount bond outstanding with a 2,000 face value and a maturity date of one year.The risk-free rate is 5%.What is the value of the equity in this firm?
A) 166.67
B) 231.42
C) 385.71
D) 405.00
E) 714.29
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Page 24
Chapter 23: Options and Corporate Finance: Extensions and Applications
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Q1) Increasing the number of intervals in the binomial model causes the price shift parameters to change.New estimates are related to:
A)the standard deviation of the underlying asset.
B)the up state multiplier equals the standard deviation divided root n.
C)the number of intervals in a year.
D)All of the above.
E)None of the above.
Q2) A firm in the extraction industry whose major assets are cash,equipment and a closed facility may appear to have extraordinary value.This value can be primarily attributed to:
A)the potential sale of the company.
B)the low exercise price held by the shareholders.
C)the option to open the facility when prices rise dramatically.
D)All of the above.
E)None of the above.
Q3) Why would the company pay the executive in options as opposed to salary?
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Chapter 24: Warrants and Convertibles
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Q1) A convertible bond is selling for 1,222.70.It has 10 years to maturity,a 1,000 face value,and a 10% coupon paid semi-annually.Similar non-convertible bonds are priced to yield 8%.The conversion ratio is 40.The equity currently sells for 30.125 per share.Calculate the convertible bond's option value.
Q2) The holders of Xenron Corporation's bond with a face value of 1,000 can exchange that bond for 35 shares of equity.The equity is selling for 22.00.What is the conversion price?
A) 22.00
B) 28.57
C) 35.00
D) 1,000.00
E)No conversion premium is given.
Q3) Kida Consultants has 100,000 shares of equity outstanding.The firm's value net of debt is 2 million.Kida has 1,000 warrants outstanding with an exercise price of 18,where each warrant entitles the holder to purchase one share of equity.Calculate the gain from exercising a single warrant.
Q4) Illustrate and explain how a convertible bond value is based on both debt and equity value.What is the option value?
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Chapter 25: Financial Risk Management With Derivatives
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Q1) Firm A is paying £750,000 in interest payments a year while Firm B is paying LIBOR plus 75 basis points on £10,000,000 loans.The current LIBOR rate is 6.5%.Firm A and B have agreed to swap interest payments.What is the net payment this year?
A)Firm A pays £750,000 to Firm B
B)Firm B pays £725,000 to Firm A
C)Firm B pays £25,000 to Firm A
D)Firm A pays £25,000 to Firm B
E)None of the above.
Q2) You hold a forward contract to take delivery of Treasury bonds in 9 months.If the entire term structure of interest rates shifts down over the 9-month period,the value of the forward contract will have _____ on the date of delivery.
A)risen
B)fallen
C)not changed
D)either risen or fallen,depending on the maturity of the T-bond
E)collapsed
Q3) The futures markets are labeled as pure speculation and even gambling.Why is this an inaccurate portrayal of the markets function?
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Chapter 26: Short-Term Finance and Planning
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Q1) Baker Industries has a 45 day trade receivables period.The estimated quarterly sales for this year,starting with the first quarter,are £1,200,£1,400,£1,900 and £3,200,respectively.How much does the firm expect to collect in the third quarter? Assume that a year has 360 days.
A)£1,300
B)£1,400
C)£1,650
D)£1,900
E)£2,550
Q2) Which of the following is not included in current liabilities?
A)Trade payables.
B)Prepaid insurance.
C)Accrued expenses payable.
D)Taxes payable.
E)Notes payable.
Q3) List and describe the three basic types of secured inventory loans.What are the advantages and disadvantages of each type of loan?
Q4) Restrictive short-term financial policies regarding current asset management include three basic actions.List and briefly describe each action.
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Chapter 27: Cash Management
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Q1) When a firm writes a cheque,there is an immediate decrease in _____ cash,but no immediate change in _____ cash.
A)bank; collected B)ledger; book C)bank; ledger D)book; bank
E)None of the above
Q2) The Timberline firm expects a total need of 12,500 over the next 3 months.They have a beginning cash balance of 1,500,and cash is replenished when it hits zero.The fixed cost of selling securities to replenish cash balances is 3.50.The interest rate on marketable securities is 8% per annum.There is a constant rate of cash disbursement and no cash receipts during the month. Using the Baumol model,what is the optimum cash holding?
A) 362.28
B) 1,045.83
C) 1,251.86
D) 3,613.82
E)None of the above.
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Page 29
Chapter 28: Credit Management
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Q1) When a firm sells its trade receivables to a financial institution,it is called:
A)captive financing.
B)collateralization.
C)securitization.
D)legalization.
E)None of the above.
Q2) Lory Corporation has variable cost per unit of £.35 per £1 of sales.The firm offers a 2% discount for orders paid within 15 days if the customer increases their order size by 5%.A customer normally orders £75,000,and is considering the discount.Normally,the customer pays within 30 days with no discount.Lory 's cost of debt capital is 12%.Would Lory be wise to offer the discount?
Calculate the NPV of the decision.
Q3) The three components of credit policy are:
A)collection policy,credit analysis,and interest rate determination.
B)collection policy,credit analysis,and terms of the sale.
C)collection policy,interest rate determination,and repayment analysis.
D)credit analysis,repayment analysis,and terms of the sale.
E)interest rate determination,repayment analysis and terms of sale.
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Chapter 29: Mergers and Acquisitions
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Q1) A contract wherein the bidding firm agrees to limit its holdings in the target firm is called a:
A)supermajority amendment.
B)standstill agreement.
C)greenmail provision.
D)poison pill amendment.
E)white knight provision.
Q2) Jennifer's Boutique has 2,100 shares outstanding at a market price per share of £26.Sally's has 3,000 shares outstanding at a market price of £41 a share.Neither firm has any debt.Sally's is acquiring Jennifer's for £58,000 in cash.What is the merger premium per share?
A)£1.43
B)£1.62
C)£1.81
D)£2.04
E)£2.07
Q3) Describe the three basic legal procedures that one firm can use to acquire another and briefly discuss the advantages and disadvantages of each.
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Chapter 30: Financial Distress
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Q1) If a firm has a equity based insolvency in both book and market value terms and liquidates:
A)the payoff will not be 100% to all investors.
B)the unsecured creditors are likely to get less than full value.
C)the equityholders typically should receive nothing.
D)All of the above.
E)None of the above.
Q2) Many corporations choose Reorganisation bankruptcy proceedings voluntarily because the management can:
A)take up to 120 days to file a reorganization plan.
B)continue to run the business.
C)reorganize if the required fractions of creditors approve of the plan and it is confirmed reorganization takes place.
D)All of the above.
E)None of the above.
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32
Chapter 31: International Corporate Finance
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Q1) The theory that real interest rates are equal across countries is called:
A)the unbiased forward rates condition.
B)uncovered interest rate parity.
C)the international Fisher effect.
D)purchasing power parity.
E)interest rate parity.
Q2) _____ holds because of the possibility of covered interest arbitrage.
A)Uncovered interest parity
B)Interest rate parity
C)The international Fisher effect
D)Unbiased forward rates
E)Purchasing power parity
Q3) The unbiased forward rate is a:
A)condition where a future spot rate is equal to the current spot rate.
B)guarantee of a future spot rate at one point in time.
C)condition where the spot rate is expected to remain constant over a period of time.
D)relationship between the future spot rate of two currencies at an equivalent point in time.
E)predictor of the future spot rate at the equivalent point in time.
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Page 33