Applied Corporate Finance
Exam Review
Course Introduction
Applied Corporate Finance delves into the practical aspects of financial decision-making within corporations, focusing on how theory translates into real-world business strategies. The course covers key topics such as capital budgeting, cost of capital, capital structure, dividend policy, mergers and acquisitions, and risk management. Students will analyze case studies and use financial models to evaluate investment opportunities, assess the impact of financing choices, and explore methods for creating shareholder value. Emphasis is placed on quantitative techniques and the application of financial principles in addressing complex corporate challenges, preparing students for roles in finance, consulting, and corporate management.
Recommended Textbook Corporate Finance 2nd Edition by Jonathan Berk
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Chapter 1: The Corporation
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Q1) The most senior financial manager in a corporation is usually called:
A) the chief executive officer.
B) the chief financial officer.
C) the chief operating officer.
D) the chairman of the board.
Answer: B
Q2) Which of the following is / are an advantage of incorporation?
A) Access to capital markets
B) Limited liability
C) Unlimited life
D) All of the above
Answer: D
Q3) Explain the benefits of incorporation.
Answer: 1.Limited liability
2.Unlimited life
3.Access to capital markets / availability of outside funding
Q4) Explain the difference between a sub-chapter "S" corporation and a sub-chapter "C" corporation.
Answer: 11ea7e54_8b72_55d2_ba34_77ea3b53de7f_TB1620_00
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Chapter 2: Introduction to Financial Statement Analysis
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Q1) What is the role of an auditor in financial statement analysis?
Answer: Key points:
1.To ensure that the annual financial statements are prepared accurately.
2.To ensure that the annual financial statements are prepared according to GAAP.
3.To verify that the information used in preparing the annual financial statements is reliable.
Q2) Accounts payable is a
A) Long-term Liability.
B) Current Asset.
C) Long-term Asset.
D) Current Liability.
Answer: D
Q3) Which of the following is not a reason why cash flow may not equal net income?
A) Amortization is added in when calculating net income.
B) Changes in inventory will change cash flows but not income.
C) Capital expenditures are not recorded on the income statement.
D) Depreciation is deducted when calculating net income.
Answer: A
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Chapter 3: Arbitrage and Financial Decision Making
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Q1) Assuming you just purchased 10,000 Bbls of WTI crude at the current market price,the total benefit (cost)to you if you were to refine this crude oil and sell the unleaded gasoline is closest to:
A) $730,600
B) $770,000
C) $771,400
D) $773,908
Answer: B
Q2) If the risk-free rate of interest is 7.5%,then the value of security "B" is closest to:
A) $91.00
B) $92.50
C) $93.00
D) $100.00
Answer: D
Q3) In a normal market with transactions costs,is it possible for different investors to place different values on an investment opportunity? Are there any limits on the amount that their values can differ?
Answer: Values can differ,but only up to the total amount of transactions costs.
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Chapter 4: The Time Value of Money
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Q1) If the appropriate interest rate is 15%,then Nielson Motors should:
A) Invest in this opportunity since the NPV is positive.
B) Do Not Invest in this opportunity since the NPV is positive.
C) Invest in this opportunity since the NPV is negative.
D) Do Not Invest in this opportunity since the NPV is negative.
Q2) The ranking of the four alternatives from most valuable to least valuable if the interest rate is 7% per year would be:
A) 1, 2, 3, 4
B) 4, 3, 2, 1
C) 3, 4 2, 1
D) 2, 3, 1, 4
Q3) Draw a timeline detailing the cash flows from investment "B."
Q4) Suppose that you deposit $10,000 in an account that pays 6% interest and you want to know how much will be in your account at the end of 10 years.To solve this problem in Microsoft Excel,you would use which of the following Excel formulas?
A) =FV(.06,10000,0,10)
B) =PV(.06,10000,0,10)
C) =FV(.06,10,0,10000)
D) =PV(.06,10,0,10000)
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Chapter 5: Interest Rates
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Q1) Suppose the interest rate is 9% APR with monthly compounding.Then the present value of an annuity that pays $250 every three months for the next five years is closest to:
A) $2,280
B) $3,985
C) $3,990
D) $3,995
Q2) You are in the process of purchasing a new automobile that will cost you $25,000.The dealership is offering you either a $1,000 rebate (applied toward the purchase price)or 3.9% financing for 60 months (with payments made at the end of the month).You have been pre-approved for an auto loan through your local credit union at an interest rate of 7.5% for 60 months.Should you take the $2000 rebate and finance through your credit union or forgo the rebate and finance through the dealership at the lower 3.9% APR?
Q3) The present value of receiving $1000 per year with certainty at the end of the next three years is closest to:
A) $2,737
B) $2,723
C) $2,733
D) $2,744
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Chapter 6: Investment Decision Rules
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Q1) The profitability index for project B is closest to:
A) 23.34
B) 12.64
C) 0.17
D) 0.12
Q2) The IRR of Palin's book deal is closest to:
A) -27.25%
B) -37.50%
C) 27.25%
D) 37.50%
Q3) Which of the following statements is false?
A) It is possible that an IRR does not exist for an investment opportunity.
B) If the payback period is less than a pre-specified length of time you accept the project.
C) The internal rate of return (IRR) investment rule is based upon the notion that if the return on other alternatives is greater than the return on the investment opportunity you should undertake the investment opportunity.
D) It is possible that there is no discount rate that will set the NPV equal to zero.
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Chapter 7: Fundamentals of Capital Budgeting
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Q1) Which of the following statements is false?
A) Depreciation is a method used for accounting and tax purposes to allocate the original purchase cost of the asset over its life.
B) Sometimes the firm explicitly forecast free cash flow over a shorter horizon than the full horizon of the project or investment.
C) Earnings include the cost of capital investments, but do not include non-cash charges, such as depreciation.
D) Firms often report a different depreciation expense for accounting and for tax purposes.
Q2) If RBC acquires POP,then the NPV of POP tax loss carry forwards to RBC is closest to:
A) $92 million
B) $236 million
C) $262 million
D) $320 million
Q3) What is a sunk cost? Should it be included in the incremental cash flows for a project? Why or why not?
Q4) How does scenario analysis differ from sensitivity analysis?
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Chapter 8: Valuing Bonds
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Q1) The credit spread on AAA-rated corporate bonds is:
A) 1.0%
B) 1.5%
C) 2.6%
D) 4.1%
Q2) What rating must Luther receive on these bonds if they want the bonds to be issued at par?
A) A
B) B
C) BBB
D) AA
Q3) Consider a zero coupon bond with 20 years to maturity.The amount that the price of the bond will change if its yield to maturity decreases from 7% to 5% is closest to:
A) $120
B) -$53
C) $53
D) $673
Q4) If its YTM does not change,how does a bond's cash price change between coupon payments?
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Chapter 9: Valuing Stocks
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Q1) What do you anticipate will happen to Lockheed-Martin and Boeings' stock prices are a result of this surprise announcement?
Q2) If CCM has $150 million of debt and 12 million shares of stock outstanding,then the share price for CCM is closest to:
A) $49.50
B) $11.25
C) $20.50
D) $22.75
Q3) Luther Industries has a dividend yield of 4.5% and and a cost of equity capital of 12%.Luther Industries dividends are expected to grow at a constant rate indefinitely.The grow rate of Luther's dividends are closest to:
A) 7.5%
B) 5.5%
C) 16.5%
D) 12%
Q4) Suppose you plan to hold Von Bora stock for only one year.Calculate your total return from holding Von Bora stock for the first year.
Q5) What are some common multiples used to value stocks?
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Chapter 10: Capital Markets and the Pricing of Risk
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Q1) The standard deviation of the returns on Stock A from 2000 to 2009 is closest to:
A) 33.2%
B) 16.4%
C) 31.5%
D) 11.0%
Q2) Do expected returns for individual stocks increase proportionately with volatility?
Q3) What is the expected payoff for Big Cure's Blockbuster drug?
A) $100 million
B) $0
C) $1 billion
D) $500 million
Q4) The expected return on security with a beta of 1 is closest to:
A) -4.0%
B) 3.2%
C) 4.0%
D) 8.0%
Q5) What is the market portfolio?
Q6) Which pharmaceutical company faces less risk?
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Chapter 11: Optimal Portfolio Choice and the Capital Asset Pricing Model
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Q1) Assume that the EFT you invested in returns -10%,then the realized return on your investment is closest to:
A) -20%
B) -10%
C) -24%
D) -26%
Q2) Assuming that the risk-free rate is 4% and the expected return on the market is 12%,then calculate the required return on Mary's portfolio.
Q3) What is the variance on a portfolio that has $3000 invested in Duke Energy,$4000 invested in Microsoft,and $3000 invested in Wal-Mart stock?
Q4) The volatility of a portfolio that is consists of a long position of $10000 in Wal-Mart and a short position of $2000 in Microsoft is closest to:
A) 9%
B) 14%
C) 11%
D) 12%
Q5) Calculate the correlation between Stock Y's and Stock Z's returns.
Page 13
Q6) Calculate the covariance between Stock Y's and Stock Z's returns.
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Chapter 12: The Capital Asset Pricing Model
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Q1) Which firm has the highest cost of equity capital?
A) Eenie
B) Meenie
C) Miney
D) Moe
Q2) The Market's average historical return is closest to:
A) -2.50%
B) -3.33%
C) -4.33%
D) -5.17%
Q3) In a world with taxes,which of the following is the rate we should use to evaluate an all-equity financed project with the same risk as the firm?
A) The weighted-average cost of capital
B) The pre-tax WACC
C) The cost of equity
D) The cost of debt
Q4) Assume that you have $250,000 to invest and you are interested in creating a value-weighted portfolio of these four stocks.How many shares of each of the four stocks will you hold? What percentage of the shares outstanding of each stock will you hold?
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Chapter 13: Investor Behavior and Capital Market Efficiency
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Q1) Portfolio "B"
A) is less risky than the market portfolio.
B) is overpriced.
C) has a positive alpha.
D) falls above the SML.
Q2) The market portfolio
A) is underpriced.
B) has a positive alpha.
C) is overpriced.
D) falls on the SML.
Q3) Which of the following is not an investment likely to be found in any proxy for the market portfolio?
A) Human capital
B) Stocks
C) Bonds
D) Precious metals
Q4) What does the existence of a positive alpha investment strategy imply?
Q5) Explain why the market portfolio proxy may not be efficient.
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Chapter 14: Capital Structure in a Perfect Market
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Q1) Consider the following equation:
E + D = U = A
The A in this equation represents
A) the value of the firm's debt.
B) the market value of the firm's assets.
C) the value of the firm's equity.
D) the value of the firm's unlevered equity.
Q2) Equity in a firm with debt is called
A) levered equity.
B) riskless equity.
C) unlevered equity.
D) risky equity.
Q3) Show mathematically that the stock price of RC won't change following the debt issuance and share repurchase.
Q4) The market capitalization of d'Anconia Copper before this transaction takes place is closest to:
A) $800 million
B) $900 million
C) $1,100 million
D) $1,200 million
Page 16
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Chapter 15: Debt and Taxes
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Q1) Assume that investors hold Google stock in retirement accounts that are free from personal taxes.If Google were to issue sufficient debt to reduce its taxes by $600 million per year permanently,then the amount that Google needs to borrow is closest to:
A) $14.25 billion
B) $22.00 billion
C) $24.50 billion
D) $40.75 billion
Q2) Which of the following statements is false?
A) The higher the firm's leverage, the more the firm exploits the tax advantage of debt, and the lower its WACC.
B) Corporate taxes lower the effective cost of debt financing, which translates into a reduction in the weighted average cost of capital.
C) Because the firm's free cash flow is computed without considering the firm's leverage, we account for the benefit of the interest tax shield by calculating the WACC using the before tax cost of debt.
D) The reduction in the WACC increases with the amount of debt financing.
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Q1) Which of the following statements is false?
A) The creditors must vote to accept the Chapter 11 reorganization plan, and the bankruptcy court must approve it. If an acceptable plan is not put forth, the court may ultimately force a Chapter 7 liquidation of the firm.
B) In Chapter 13 liquidation, a trustee is appointed to oversee the liquidation of the firm's assets through an auction. The proceeds from the liquidation are used to pay the firm's creditors, and the firm ceases to exist.
C) When a corporation becomes financially distressed, outside professionals, such as legal and accounting experts, consultants, appraisers, auctioneers, and others with experience selling distressed assets, are generally hired.
D) In the case of Chapter 11 reorganization, creditors must often wait several years for a reorganization plan to be approved and to receive payment.
Q2) Assume that capital markets are perfect except for the existence of corporate taxes and that your firm pays 35% of earnings in taxes.If you want to maintain ownership of at least a 50%,then calculate the minimum amount of debt that you must issue to fund the expansion.
Q3) List five general categories of indirect costs associated with bankruptcy.
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Chapter 17: Payout Policy
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Q1) Assume that Omicron uses the entire $50 million to repurchase shares.The amount of the regular yearly dividends in the future is closest to:
A) $9.00
B) $5.00
C) $4.50
D) $4.00
Q2) Which of the following statements is false?
A) Firms adjust dividends relatively infrequently, and dividends are much less volatile than earnings. This practice of maintaining relatively constant dividends is called dividend signaling.
B) When a firm increases its dividend, it sends a positive signal to investors that management expects to be able to afford the higher dividend for the foreseeable future.
C) The average size of the stock price reaction increases with the magnitude of the dividend change, and is larger for dividend cuts.
D) When managers cut the dividend, it may signal that they have given up hope that earnings will rebound in the near term and so need to reduce the dividend to save cash.
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Chapter 18: Capital Budgeting and Valuation With Leverage
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Q1) Omicron's weighted average cost of capital is closest to:
A) 7.10%
B) 7.50%
C) 9.60%
D) 8.75%
Q2) Assuming that to fund the investment Taggart will take on $250 million in permanent debt and assuming Taggart will incur a 2% underwriting fee on the new debt issue,the NPV of Taggart's new rail line is closest to:
A) $195 million
B) $200 million
C) $235 million
D) $240 million
Q3) Calculate the present value of the interest tax shield provided by Omicron's new project.
Q4) Iota's weighted average cost of capital is closest to:
A) 8.40%
B) 9.75%
C) 10.85%
D) 11.70%
Q5) Calculate the NPV for Iota's new project.
Page 20
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Chapter 19: Valuation and Financial Modeling: a Case Study
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Q1) Ideko's Accounts Receivable Days is closest to:
A) 84 days
B) 95 days
C) 90 days
D) 75 days
Q2) Assuming that Ideko has a EBITDA multiple of 8.5,then the continuation EV/Sales ratio of Ideko in 2010 is closest to:
A) 1.7
B) 1.9
C) 1.6
D) 1.8
Q3) Based upon the average P/E ratio of the comparable firms,Ideko's target market value of equity is closest to:
A) $157 million
B) $155 million
C) $193 million
D) $165 million
E) $191 million
Q4) What is the purpose of the sensitivity analysis?
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Chapter 20: Financial Options
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Q1) In describing Galt's equity as a call option,the strike price of the call option is:
A) $200 million
B) $300 million
C) $500 million
D) $700 million
Q2) The market price of an option is called the
A) American premium.
B) European premium.
C) option premium.
D) exercising premium.
Q3) This graph depicts the payoffs of
A) a short position in a put option at expiration.
B) a short position in a call option at expiration.
C) a long position in a put option at expiration.
D) a long position in a call option at expiration.
Q4) You have decided to sell (write)5 January 2009 put options on Merck with an exercise price of $45 per share.How much money will you receive and are these contracts in or out of the money?
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Chapter 21: Option Valuation
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Q1) Which of the following is not an input required by the Black-Scholes option pricing model?
A) The expected volatility of the stock
B) The expected return on the stock
C) The risk-free interest rate
D) The current stock price
Q2) Which of the following statements is false?
A) For a call written on a stock with positive beta, the beta of the call always exceeds the beta of the stock.
B) The beta of a put option written on a negative beta stock is always negative.
C) As the stock price changes, the beta of an option will change, with its magnitude falling as the option goes in-the-money.
D) A put option is a hedge, so its price goes up when the stock price goes down.
Q3) The Black-Scholes value of a one-year call option on Taggart stock with a strike price of $50 is closest to:
A) $1.45
B) $3.15
C) $4.75
D) $9.50
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Chapter 22: Real Options
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Q1) Assume that it will cost you $1 million to shut down the plant,but you are able to sell the plant for $5 million at any time.The value of the option to sell the plant will be closest to:
A) $3.0 million
B) $6.0 million
C) $5.0 million
D) $0.5 million
Q2) The idea that once a manager makes a large investment,he should not abandon the project is known as the
A) negative NPV fallacy.
B) abandonment fallacy.
C) sunk cost fallacy.
D) dependence fallacy.
Q3) Assume that Kinston has the ability to ignore the pilot production and test marketing and to go ahead and build their manufacturing plant immediately.Further assume that the probability of high or low demand is still 50%.Draw a decision tree that details Kinston Industries Mountain Bike project if Kinston goes ahead and builds the plant immediately.
Q4) Describe the two factors that affect the value of an investment timing option?
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Chapter 23: The Mechanics of Raising Equity Capital
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Q1) Which of the following statements is false?
A) In a rights offer, the firm offers the new shares only to existing shareholders.
B) Secondary shares are shares sold by existing shareholders, including the company's founder.
C) If a firm's management is concerned that its equity may be under priced in the market, by using a rights offering the firm can continue to issue equity without imposing a loss on its current shareholders.
D) In the United States most offers are rights offers.
Q2) The share of any positive return generated by venture capital firms that is taken by the firm's partners is known as
A) carried interest.
B) partner return.
C) carried capital.
D) angel interest.
Q3) Based upon the price/revenue ratio,what would be a reasonable value for KD?
Q4) What will the proceeds from the IPO be if Luther is selling 1.1 million shares?
Q5) What will the offer price of these shares be if Luther is selling 800,000 shares?
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Chapter 24: Debt Financing
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Q1) Galt Industries has just issued a callable,$1000 par value,five-year,6% coupon bond with semiannual coupon payments.The bond can be called at par in three years or anytime thereafter on a coupon payment date.If the bond is currently trading for $978.94,then it's yield to maturity is closest to:
A) 3.4%
B) 6.0%
C) 6.5%
D) 6.8%
Q2) Which of the following statements is false?
A) Before the call date, investors anticipate the optimal strategy that the issuer will follow, and the bond price reflects this strategy.
B) The yield to maturity of a callable bond is calculated as if the bond were called at the earliest opportunity.
C) A callable bond will trade at a lower price (and therefore a higher yield) than an otherwise equivalent non-callable bond.
D) The price of a callable bond can be low when yields are high, but does not rise above the call value when the yield is low.
Q3) What is the Yield to Call (YTC)on this bond?
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Chapter 25: Leasing
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Q1) Calculate the monthly lease payments for a four year $1.00 out lease of the Bulldozer.
Q2) Which of the following statements is false?
A) We can compare leasing to buying the asset using equivalent leverage by discounting the incremental cash flows of leasing versus buying using the after-tax borrowing rate.
B) A non-tax lease is attractive if it offers a better interest rate than would be available with a loan.
C) Evaluating a true tax lease is much more straightforward than evaluating a non-tax lease.
D) To determine whether a non-tax lease offers a better rate, we discount the lease payments at the firm's pre-tax borrowing rate and compare it to the purchase price of the asset.
Q3) A lease that gives the lessee the option to purchase the asset at its fair market value at the termination of the lease is called a
A) fair market value cap lease.
B) fair market value lease.
C) $1.00 out lease.
D) fixed price lease.
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Chapter 26: Working Capital Management
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Q1) Which of the following money market investments is short-term debt issued by a bank with a minimum denomination of $100,000?
A) Treasury Bill
B) Banker's Acceptance
C) Repurchase Agreement
D) Commercial Paper
E) Certificates of Deposit (CD)
Q2) The amount of cash a firm holds to counter the uncertainty surrounding its future cash needs is known as a(n)
A) speculative balance.
B) compensating balance.
C) operating balance.
D) precautionary balance.
Q3) Goldsboro Industries has an average accounts payable balance of $680,000.Its annual cost of goods sold is $4,500,000,and it receives terms of 1/10,net 40 from its suppliers.Goldsboro chooses to forgo this discount.Is Goldsboro managing its accounts payables well?
Q4) What is a compensating balance?
Q5) Describe "just-in-time" inventory management.
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Chapter 27: Short-Term Financial Planning
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Q1) Galt Industries has issued four-month commercial paper with a $8 million face value.The firm netted $7,831,000 on the sale.The effect annual rate for this financing is closest to:
A) 5.6%
B) 6.6%
C) 7.2%
D) 8.4%
Q2) When a company analyzes its short-term financing needs,it typically examines cash flows at
A) monthly intervals.
B) yearly intervals.
C) quarterly intervals.
D) weekly intervals.
Q3) The effective annual rate for Taggart if they choose alternative #1 is closest to:
A) 13.9%
B) 18.8%
C) 27.0%
D) 27.9%
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Chapter 28: Mergers and Acquisitions
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55 Verified Questions
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Sample Questions
Q1) In a ________ merger,the target's industry buys or sells to the acquirer's industry.
A) conglomerate
B) vertical
C) horizontal
D) diagonal
Q2) Which of the following statements is false?
A) Cost-reduction synergies are hard to predict and achieve.
B) Because the CEOs of small firms receive information so quickly, small firms are often able to react in timely way to changes in the economic environment.
C) Synergies usually fall into two categories: cost reductions and revenue enhancements.
D) There may also be costs associated with size.
Q3) If Microsoft merged with the Coca-Cola Company,this would be an example of a ________ merger.
A) conglomerate
B) vertical
C) horizontal
D) diagonal
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Chapter 29: Corporate Governance
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Sample Questions
Q1) Which of the following statements is false?
A) New SEC rules require firms to report option grants within two days of the grant date, which may help prevent further abuses.
B) Studies have found evidence that the practice of timing the release of information to maximize the value of CEO stock options is widespread.
C) Managers have an incentive to manipulate the release of financial forecasts so that good news comes out before options are granted and bad news is delayed until after the options are granted.
D) The factor contributing most to the climb in CEO total compensation for the 1990s was the sharp increase in the value of stock and options granted each year.
Q2) What is corporate governance?
Q3) What are some of the negative effects of increasing the sensitivity of managerial pay to firm performance?
Q4) Describe the "stakeholder" model of corporate governance.
Q5) What is the role of takeovers in corporate governance?
Q6) What is the difference between Inside,gray,and outside directors?
Q7) Describe the main requirements of the Sarbanes-Oxley Act of 2002.
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Chapter 30: Risk Management
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Sample Questions
Q1) The actuarially fair premium for this insurance policy is closest to:
A) $417,000
B) $446,000
C) $500,000
D) $568,000
Q2) The risk that arises because the value of the futures contract will not be perfectly correlated with the firm's exposure is called
A) commodity price risk.
B) basis risk.
C) liquidity risk.
D) speculation risk.
Q3) The duration of SFTSL's equity is closest to:
A) 6 years
B) 8 years
C) 10 years
D) 14 years
Q4) Assuming that your firm will purchase insurance,what is the minimum-size deductible that would leave your firm with an incentive to implement the new safety policies?
Q5) What are some of the disadvantages of long-term supply contracts?
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Chapter 31: International Corporate Finance
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Q1) After the Irish taxes are paid,the amount of the earnings before interest and after taxes in dollars from the Ireland operations is closest to:
A) $5.1 million
B) $20.5 million
C) $35.6 million
D) $29.5 million
Q2) Using the covered interest parity condition,the calculated three-year forward rate F<sub>3 </sub>is closest to:
A) $1.8568/£
B) $1.9161/£
C) $1.8961/£
D) $1.8764/£
Q3) The present value of Rearden Metal's cash outflow computed by first converting to dollars and then discounting the cash flow at the appropriate Argentine Peso rate is closest to:
A) $469,500
B) $475,000
C) $481,000
D) $484,500
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