Business Finance
Practice Questions
Course Introduction
Business Finance introduces students to the fundamental principles and practices of financial management within a business environment. The course covers essential topics such as financial statement analysis, the time value of money, capital budgeting, risk and return, cost of capital, and the mechanisms for raising and allocating funds. Emphasis is placed on understanding how financial decisions impact both the shortand long-term objectives of an organization, equipping students with critical tools needed for effective decision-making, planning, and strategic financial management in todays dynamic business landscape.
Recommended Textbook
Corporate Finance A Focused Approach 5th Edition by Michael C. Ehrhardt
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17 Chapters
1391 Verified Questions
1391 Flashcards
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Page 2
Chapter 1: An overview of financial management and the financial environment
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Sample Questions
Q1) If a firm's goal is to maximize its earnings per share, this is the best way to maximize the price of the common stock and thus shareholders' wealth.
A)True
B)False
Answer: False
Q2) Which of the following statements is CORRECT?
A) One of the disadvantages of a sole proprietorship is that the proprietor is exposed to unlimited liability.
B) It is generally easier to transfer one's ownership interest in a partnership than in a corporation.
C) One of the advantages of the corporate form of organization is that it avoids double taxation.
D) One of the advantages of a corporation from a social standpoint is that every stockholder has equal voting rights, i.e., "one person, one vote."
E) Corporations of all types are subject to the corporate income tax.
Answer: A
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3
Chapter 2: Financial statements, cash flow, and taxes
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77 Verified Questions
77 Flashcards
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Sample Questions
Q1) To estimate the cash flow from operations, depreciation must be added back to net income because it is a non-cash charge that has been deducted from revenue.
A)True
B)False
Answer: True
Q2) Which of the following factors could explain why Regal Industrial Fixtures had a negative net cash flow last year, even though the cash on its balance sheet increased?
A) The company repurchased 20% of its common stock.
B) The company sold a new issue of bonds.
C) The company made a large investment in new plant and equipment.
D) The company paid a large dividend.
E) The company had high amortization expenses.
Answer: B
Q3) Net operating working capital is equal to operating current assets minus operating current liabilities.
A)True
B)False
Answer: True
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4
Chapter 3: Analysis of financial statements
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104 Flashcards
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Sample Questions
Q1) A firm wants to strengthen its financial position.Which of the following actions would increase its quick ratio?
A) Issue new common stock and use the proceeds to acquire additional fixed assets.
B) Offer price reductions along with generous credit terms that would (1)enable the firm to sell some of its excess inventory and (2)lead to an increase in accounts receivable.
C) Issue new common stock and use the proceeds to increase inventories.
D) Speed up the collection of receivables and use the cash generated to increase inventories.
E) Use some of its cash to purchase additional inventories.
Answer: B
Q2) Significant variations in accounting methods among firms make meaningful ratio comparisons between firms more difficult than if all firms used similar accounting methods.
A)True
B)False
Answer: True
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5
Chapter 4: Time value of money
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Sample Questions
Q1) Southwestern Bank offers to lend you $50, 000 at a nominal rate of 6.5%, compounded monthly.The loan (principal plus interest)must be repaid at the end of the year.Woodburn Bank also offers to lend you the $50, 000, but it will charge an annual rate of 7.0%, with no interest due until the end of the year.How much higher or lower is the effective annual rate charged by Woodburn versus the rate charged by Southwestern?
A) 0.52%
B) 0.44%
C) 0.36%
D) 0.30%
E) 0.24%
Q2) Your business has just taken out a 1-year installment loan for $72, 500 at a nominal rate of 11.0% but with equal end-of-month payments.What percentage of the 2nd monthly payment will go toward the repayment of principal?
A) 73.67%
B) 77.55%
C) 81.63%
D) 85.93%
E) 90.45%
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Chapter 5: Bonds, bond valuation, and interest rates
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100 Verified Questions
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Sample Questions
Q1) There is an inverse relationship between bonds' quality ratings and their required rates of return.Thus, the required return is lowest for AAA-rated bonds, and required returns increase as the ratings get lower.
A)True
B)False
Q2) Other things equal, a firm will have to pay a higher coupon rate on its subordinated debentures than on its second mortgage bonds.
A)True
B)False
Q3) Which of the following statements is CORRECT?
A) If a bond's yield to maturity exceeds its coupon rate, the bond will sell at par.
B) All else equal, if a bond's yield to maturity increases, its price will fall.
C) If a bond's yield to maturity exceeds its coupon rate, the bond will sell at a premium over par.
D) All else equal, if a bond's yield to maturity increases, its current yield will fall.
E) A zero coupon bond's current yield is equal to its yield to maturity.
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Chapter 6: Risk and return
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Sample Questions
Q1) Assume that investors have recently become more risk averse, so the market risk premium has increased.Also, assume that the risk-free rate and expected inflation have not changed.Which of the following is most likely to occur?
A) The required rate of return will decline for stocks whose betas are less than 1.0.
B) The required rate of return on the market, rM, will not change as a result of these changes.
C) The required rate of return for each individual stock in the market will increase by an amount equal to the increase in the market risk
D) The required rate of return on a riskless bond will decline.
E) The required rate of return for an average stock will increase by an amount equal to the increase in the market risk premium.
Q2) The CAPM is a multi-period model that takes account of differences in securities' maturities, and it can be used to determine the required rate of return for any given level of systematic risk.
A)True
B)False
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Chapter 7: Valuation of stocks and corporations
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Sample Questions
Q1) Which of the following statements is CORRECT?
A) Preferred stock is normally expected to provide steadier, more reliable income to investors than the same firm's common stock, and, as a result, the expected after-tax yield on the preferred is lower than the after-tax expected return on the common stock.
B) The preemptive right is a provision in all corporate charters that gives preferred stockholders the right to purchase (on a pro rata basis)new issues of preferred stock.
C) One of the disadvantages to a corporation of owning preferred stock is that 70% of the dividends received represent taxable income to the corporate recipient, whereas interest income earned on bonds would be tax free.
D) One of the advantages to financing with preferred stock is that 70% of the dividends paid out are tax deductible to the issuer.
E) A major disadvantage of financing with preferred stock is that preferred stockholders typically have supernormal voting rights.
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Chapter 8: Financial options and applications in corporate finance
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Sample Questions
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) The exercise value is the positive difference between the current price of the stock and the strike price.The exercise value is zero if the stock's price is below the strike price. A)True B)False
Q3) Because of the time value of money, the longer before an option expires, the less valuable the option will be, other things held constant. A)True B)False
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Page 10
Chapter 9: The cost of capital
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Sample Questions
Q1) "Capital" is sometimes defined as funds supplied to a firm by investors.
A)True
B)False
Q2) When estimating the cost of equity by use of the CAPM, three potential problems are (1)whether to use long-term or short-term rates for rRF, (2)whether or not the historical beta is the beta that investors use when evaluating the stock, and (3)how to measure the market risk premium, RPM.These problems leave us unsure of the true value of rs.
A)True
B)False
Q3) The before-tax cost of debt, which is lower than the after-tax cost, is used as the component cost of debt for purposes of developing the firm's WACC.
A)True
B)False
Q4) If a firm's marginal tax rate is increased, this would, other things held constant, lower the cost of debt used to calculate its WACC.
A)True
B)False
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11
Chapter 10: The basics of capital budgeting: evaluating cash flows
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Sample Questions
Q1) Which of the following statements is CORRECT? Assume that the project being considered has normal cash flows, with one cash outflow at t = 0 followed by a series of positive cash flows.
A) A project's MIRR is always less than its regular IRR.
B) If a project's IRR is greater than its WACC, then its MIRR will be greater than the IRR.
C) To find a project's MIRR, we compound cash inflows at the regular IRR and then find the discount rate that causes the PV of the terminal value to equal the initial cost.
D) To find a project's MIRR, the textbook procedure compounds cash inflows at the WACC and then finds the discount rate that causes the PV of the terminal value to equal the initial cost.
E) A project's MIRR is always greater than its regular IRR.
Q2) A firm should never accept a project if its acceptance would lead to an increase in the firm's cost of capital (its WACC).
A)True
B)False
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Page 12
Chapter 11: Cash flow estimation and risk analysis
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Sample Questions
Q1) Which of the following statements is CORRECT?
A) In comparing two projects using sensitivity analysis, the one with the steeper lines would be considered less risky, because a small error in estimating a variable such as unit sales would produce only a small error in the project's NPV.
B) The primary advantage of simulation analysis over scenario analysis is that scenario analysis requires a relatively powerful computer, coupled with an efficient financial planning software package, whereas simulation analysis can be done efficiently using a PC with a spreadsheet program or even with just a calculator.
C) Sensitivity analysis is a type of risk analysis that considers both the sensitivity of NPV to changes in key input variables and the probability of occurrence of these variables' values.
D) As computer technology advances, simulation analysis becomes increasingly obsolete and thus less likely to be used as compared to sensitivity analysis.
E) Sensitivity analysis as it is generally employed is incomplete in that it fails to consider the probability of occurrence of the key input variables.
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13
Chapter 12: Corporate valuation and financial planning
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Sample Questions
Q1) Which of the following statements is CORRECT?
A) When fixed assets are added in large, discrete units as a company grows, the assumption of constant ratios is more appropriate than if assets are relatively small and can be added in small increments as sales grow.
B) Firms whose fixed assets are "lumpy" frequently have excess capacity, and this should be accounted for in the financial forecasting process.
C) For a firm that uses lumpy assets, it is impossible to have small increases in sales without expanding fixed assets.
D) There are economies of scale in the use of many kinds of assets.When economies occur the ratios are likely to remain constant over time as the size of the firm increases.The Economic Ordering Quantity model for establishing inventory levels demonstrates this relationship.
E) When we use the AFN equation, we assume that the ratios of assets and liabilities to sales (A0*/S0 and L0*/S0)vary from year to year in a stable, predictable manner.
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Chapter 13: Agency conflicts and corporate governance
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Sample Questions
Q1) 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.
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) 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
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Chapter 14: Distributions to shareholders: dividends and repurchases
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Sample Questions
Q1) McCann Publishing has a target capital structure of 35% debt and 65% equity.This year's capital budget is $850, 000 and it wants to pay a dividend of $400, 000.If the company follows a residual dividend policy, how much net income must it earn to meet its capital budgeting requirements and pay the dividend, all while keeping its capital structure in balance?
A) $904, 875
B) $952, 500
C) $1, 000, 125
D) $1, 050, 131
E) $1, 102, 638
Q2) The Meltzer Corporation is contemplating a 7-for-3 stock split.The current stock price is $75.00 per share, and the firm believes that its total market value would increase by 5% as a result of the improved liquidity that it thinks would follow the split.What is the stock's expected price following the split?
A) $32.06
B) $33.75
C) $35.44
D) $37.21
E) $39.07
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Chapter 15: Capital structure decisions
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Sample Questions
Q1) It is possible that two firms could have identical financial and operating leverage, yet have different degrees of risk as measured by the variability of EPS.
A)True
B)False
Q2) Which of the following statements is CORRECT?
A) Since debt financing is cheaper than equity financing, raising a company's debt ratio will always reduce its WACC.
B) Increasing a company's debt ratio will typically reduce the marginal cost of both debt and equity financing.However, this action still may raise the company's WACC.
C) Increasing a company's debt ratio will typically increase the marginal cost of both debt and equity financing.However, this action still may lower the company's WACC.
D) Since a firm's beta coefficient it not affected by its use of financial leverage, leverage does not affect the cost of equity.
E) Since debt financing raises the firm's financial risk, increasing a company's debt ratio will always increase its WACC.
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Chapter 16: Supply chains and working capital management
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138 Verified Questions
138 Flashcards
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Sample Questions
Q1) A lockbox plan is most beneficial to firms that A) have widely dispersed manufacturing facilities.
B) have a large marketable securities portfolio and cash to protect.
C) receive payments in the form of currency, such as fast food restaurants, rather than in the form of checks.
D) have customers who operate in many different parts of the country.
E) have suppliers who operate in many different parts of the country.
Q2) Safety Window and Door Co.buys on terms of 2/15, net 60 days.It does not take discounts, and it typically pays on time, 60 days after the invoice date.Net purchases amount to $450, 000 per year.On average, how much "free" trade credit does the firm receive during the year? (Assume a 365-day year, and note that purchases are net of discounts.)
A) $18, 493
B) $19, 418
C) $20, 389
D) $21, 408
E) $22, 479
Q3) The calculated cost of trade credit can be reduced by paying late.
A)True
B)False
Page 18
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Chapter 17: Multinational financial management
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Sample Questions
Q1) In 1985, a given Japanese imported automobile sold for 1, 476, 000 yen, or $8, 200.If the car still sold for the same amount of yen today but the current exchange rate is 144 yen per dollar, what would the car be selling for today in U.S.dollars?
A) $5.964
B) $8, 200
C) $10, 250
D) $12, 628
E) $13, 525
Q2) Suppose a carton of hockey pucks sell in Canada for 105 Canadian dollars, and 1 Canadian dollar equals 0.71 U.S.dollars.If purchasing power parity (PPP)holds, what is the price of hockey pucks in the United States?
A) $14.79
B) $63.00
C) $74.55
D) $85.88
E) $147.88
Q3) A Eurodollar is a U.S.dollar deposited in a bank outside the United States.
A)True
B)False
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Page 19