Corporate Finance Practice Exam
Course Introduction
Corporate Finance explores the fundamental principles and analytical frameworks governing financial decision-making within corporations. The course covers key topics such as capital budgeting, valuation of projects and firms, risk and return, cost of capital, capital structure, dividend policy, and working capital management. Students will gain practical skills in analyzing financial statements, evaluating investment opportunities, and understanding how financial strategies align with organizational objectives, preparing them for roles in financial management, investment banking, and corporate advisory services.
Recommended Textbook
Fundamentals of Corporate Finance 5th Canadian Edition by Richard A Brealey
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Page 2
Chapter 1: Goals and Governance of the Firm
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Sample Questions
Q1) When a corporation decides to issue long-term debt in order to pay for the acquisition of real assets, it has made a:
A)Capital budgeting decision.
B)Financing decision.
C)Money market decision.
D)Secondary market decision.
Answer: B
Q2) What general factors may influence the decision of whether to organize as a sole proprietorship, a partnership, or a corporation?
Answer: Factors that may influence the decision concerning organizational form would include: amount of capital needed in relation to amount of capital that can be raised, estimated sales volume, the extent of managerial expertise, the willingness to share profits, the importance of limited liability, a desire for the permanence of the organization, the issue of double taxation.
Q3) A major disadvantage of partnerships is that they have "double taxation" of profits.
A)True
B)False
Answer: False
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3
Chapter 2: Financial Markets and Institutions
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Q1) The cost of capital for corporate investment is set by the rates of return on investment opportunities in financial markets.
A)True
B)False
Answer: True
Q2) As corporations grow, their requirements for outside capital can expand dramatically.
A)True
B)False
Answer: True
Q3) Suppose Cryogenic Concepts expects a 10 percent return on a new product investment, when top-quality corporate bonds are also offering 10 percent rates of return.What should the firm do?
A)Invest in the new product.
B)Invest in the top-quality corporate bonds.
C)Pay out cash to its shareholders.
D)Either (a) or (b).
Answer: C
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Chapter 3: Accounting and Finance
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Q1) If net income is positive, then cash flow from operations is positive also for that period.
A)True
B)False
Answer: False
Q2) A balance sheet portrays the value of a firm's assets and liabilities:
A)Over an annual period
B)Over any stated period of time
C)At any stated point in time
D)At the end of the calendar year
Answer: C
Q3) Which of the following is not a typical reason for differences between profit and cash flow?
A)Depreciation expense
B)Income taxes
C)Changing levels of accounts receivable
D)Accrual accounting practices
Answer: B
Q4) What are the firm's earnings before interest and taxes?
Answer: 11ea68e2_3ec4_6fe6_935e_31662b342463_TB1770_00
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Chapter 4: Measuring Corporate Performance
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Q1) Which of the following is correct for a firm with a debt-equity ratio of .45 if long-term debt equals 500 and equity equals 2,000? The firm has:
A)Current liabilities that is valued at 400
B)Current assets that is valued at 400
C)Retained earnings that are valued at 900
D)preferred stock of 400 Total Debt = Current Debt + Long Term Debt
Debt/Equity Ratio = .45
Therefore, Debt/Equity Ratio x Shareholder Equity = Value of Total Debt )45 x 2,000 = 900 Total Debt
Therefore, if Total Debt = 900 = Current Debt + Long Term Debt 900 = Current Debt + 500
Q2) The income statement of a firm shows the value of its assets and liabilities over a specified period of time.
A)True
B)False
Q3) The use of leverage will always act to increase a firm's ROE.
A)True
B)False
Q4) What may make simple comparisons of financial ratios misleading?
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Chapter 5: The Time Value of Money
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Q1) A perpetuity of $5,000 per year beginning today is said to offer a 15 percent interest rate.What is its present value?
A)$33,333.33
B)$37,681.16
C)$38,333.33
D)$65,217.39 PV = $5,000 +
Q2) Approximately how much must be saved for retirement in order to withdraw $100,000 per year for the next 25 years if the balance earns 8 percent annually, and the first payment occurs one year from now?
A)$1,067,000
B)$1,250,000
C)$2,315,000
D)$2,500,000 PV = $100,000 = $100,000 x (12.5 -1.8252)
Q3) Discuss the statement, "Money has a time value."
Q4) The Rule of 72 states that the time it will take for an investment to double in value equals approximately 72/r, where r is expressed as a percentage.
A)True
B)False
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Chapter 6: Valuing Bonds
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Q1) How much should you pay for a $1,000 bond with 10 percent coupon, annual payments, and five years to maturity if the interest rate is 12 percent?
A)$927.90
B)$981.40
C)$1,000.00
D)$1,075.82 Using the BAII Plus Calculator:
Q2) What is the coupon rate for a bond with three years until maturity, a price of $1,053.46, and a yield to maturity of 6%?
A)6%
B)8%
C)10%
D)11% Using the BAII Plus calculator:
Q3) Zero-coupon bonds are issued at prices considerably below face value, and the investor's return comes from the difference between the purchase price and the payment of face value at maturity.
A)True
B)False
Q4) Why are long-term bonds more sensitive to changes in interest rates than short-term bonds?
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Chapter 7: Valuing Stocks
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Q1) To justify a high P/E ratio, the market must believe one of the following about a firm:
A)It has low growth opportunities
B)It will have constant dividends forever
C)It has high growth opportunities
D)It will use low depreciation to increase earnings
Q2) Which of the following should increase the firm's sustainable growth rate?
A)Increase the dividend payout ratio
B)Decrease the required return
C)Decrease the ROE
D)Increase the plowback ratio
Q3) Security prices are said to follow a "random walk," which means that:
A)Stock selection for portfolio composition is unimportant
B)It is impossible to know whether stocks offer higher returns than bonds
C)Investment analysts are unnecessary
D)Successive price changes are unpredictable
Q4) The dividend discount model should not be used to value stocks in which the dividend does not grow.
A)True
B)False
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Chapter 8: Net Present Value and Other Investment Criteria
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Q1) Which of the following should be assumed about a project that requires a $100,000 investment at time-period zero, then returns $20,000 annually for five years?
A)The NPV is negative
B)The NPV is zero
C)The profitability index is 1.0
D)The IRR is zero
Q2) When we compare assets with different lives, we should select the machine that has the lowest equivalent annual annuity.
A)True
B)False
Q3) Because of deficiencies associated with the payback method, it is seldom used in corporate financial analysis today.
A)True
B)False
Q4) The IRR is the rate of return on the cash flows of the investment, also known as the opportunity cost of capital.
A)True
B)False
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Chapter 9: Using Discounted Cash-Flow Analysis to Make Investment Decisions
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Sample Questions
Q1) A tax shield is equal to the reduction in:
A)Tax liability resulting from a deductible expense
B)Taxable income resulting from a deductible expense
C)Cash flow from an expense
D)Net income
Q2) Your forecast shows $500,000 annually in sales for each of the next three years.If your second and third year predictions have failed to incorporate 5 percent expected annual inflation, how far off in total dollars is your three-year forecast?
A)$25,000
B)$50,000
C)$52,550
D)$76,250
Q3) Allocations of overhead should not affect a project's incremental cash flows unless the:
A)Project actually increased overhead expenses
B)Overhead cannot be recovered at the end of the project
C)Overhead cannot be allocated to other projects
D)Accountant is required to allocate costs to this project
Q4) What are the three methods to calculate cash flow from operations?
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Chapter 10: Project Analysis
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Sample Questions
Q1) The greater the ratio of variable costs to sales, the:
A)More each additional sale contributes to coverage of fixed costs
B)Lower the level of profitability
C)More units must be sold to cover fixed charges
D)Lower the benefit of conducting a sensitivity analysis
Q2) What-if analysis can help identify the inputs that are most worth refining before you commit to a project.
A)True
B)False
Q3) A 4 year project is estimated to produce a product with the following information: selling price = $57 per unit; variable costs are $32 per unit; fixed costs are $9,000; required return is 12%; initial investment = $18,000.Calculate the financial break-even.
A)597
B)540
C)525
D)490
Q4) A project that breaks even in accounting terms will surely have a negative NPV.
A)True
B)False
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Chapter 11: Introduction to Risk, Return, and the Opportunity
Cost
of Capital
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Q1) The historical record fails to show that investors have received a risk premium for holding risky assets.
A)True
B)False
Q2) Which of the following companies might you expect to be exposed to less macro risk?
A)A large producer of flour
B)A regional airline
C)A major commercial bank
D)An electric utility
Q3) A maturity premium is offered on long-term Treasury bonds due to:
A)The risk of changing interest rates
B)The risk of default
C)Their unique risk
D)Their systematic risk
Q4) The TSX 300 index is:
A)The most representative of stock market indexes
B)An index of Canada's major corporations
C)An index of 300 major stocks
D)An equally weighted index of all stocks traded on the New York Stock Exchange
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Chapter 12: Risk, Return, and Capital Budgeting
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Q1) Discuss the nature and uses of CAPM, including the method of determining expected returns.
Q2) What effect might operating leverage be expected to have on a project's Beta?
A)Beta will increase
B)Beta will decrease
C)Beta will not be affected
D)The effect depends on the market risk premium
Q3) Stock A has a current price of $25.00, a Beta of 1.25, and a dividend yield of 6%.If the Treasury bill yield is 5% and the market portfolio is expected to return 14%, what should Stock A sell for at the end of an investor's two year investment horizon?
Q4) The average of Beta values for all individual stocks is:
A)Greater than 1.0; most stocks are aggressive
B)Less than 1.0; most stocks are defensive
C)Unknown; Betas are continually changing
D)Exactly 1.0; these stocks represent the market
Q5) Investors expect the market rate of return this year to be 14%.A stock with a Beta of .8 has an expected rate of return on the market portfolio is 11%, is a security with a Beta of 1.25 and an expected rate of return of 11% overpriced or underpriced?
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Chapter 13: The Weighted-Average Cost of Capital and Company Valuation
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Q1) What is the most difficult aspect in determining a firm's weighted average cost of capital?
A)Estimating the cost of equity
B)Estimating the cost of preferred stock
C)Estimating the cost of debt
D)Deriving weights for each cost
Q2) ABC company has a capital structure with debt and equity.Debt - $50 million face value bonds maturing in 15 years with a coupon rate of 4% paid semi-annually.Similar bonds are selling at 97.5.Equity - There are 2,000,000 shares outstanding.The investor's return is 10%.The next dividend is $3.5 with a growth rate of 4% into the future.Tax rate is 30%.Given the following information, calculate its WACC.
Q3) With respect to issues related to the cost of capital:
A)An increase in the debt ratio will result in greater risk for debt holders but not equity holders
B)The cost of capital is the return a firm must earn before tax to satisfy security holders
C)The WACC is the correct discount rate for average-risk projects
D)The expected return on equity is relevant to capital budgeting decisions
Q4) Can WACC be used to value an entire business?
Page 15
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Chapter 14: Introduction to Corporate Financing and Governance
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Q1) What is the after-tax cost to a corporation in the 35 % tax bracket of paying $50,000 in preferred-stock dividends?
A)$17,500
B)$32,500
C)$50,000
D)$76,923 After-tax cost of preferred stock dividends: = before-tax cost = $50,000
Q2) Other things being equal, discuss how the following provisions can affect the yield to maturity of bonds: Call provision Restriction on further borrowing Provision on specific collateral for the bond Option to convert the bonds into shares
Q3) A company is about to issue new shares of stock.If the par value per share is $4.00, the price of the new shares will most likely be:
A)Less than $4.00
B)Equal to $4.00
C)Greater than $4.00
D)Equal to the capital surplus
Q4) What are recent trends in a firm's use of different sources of finance?
Page 16
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Chapter 15: Venture Capital, Ipos, and Seasoned Offerings
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Q1) What is the market value placed on a firm in which an entrepreneur invests $1 million and a venture capitalist invests $3 million in first-stage financing for a 50% interest in the firm?
A)$4 million
B)$6 million
C)$7 million
D)$8 million
Q2) Stanfield Inc.needs to raise $12.5 million in capital.The company's investment bankers recommend an offer price (or gross proceeds) of $15 per share; and Stanfield will receive $14 per share.How many shares of stock will Don's need to sell in order to receive the $12.5 million they need? Calculate the underwriter's spread on the issue.
Q3) If an underwriter charges the public $40 per share for a new issue after having promised the issuer $38 per share, the spread per share is:
A)$1.00
B)$2.00
C)$38.00
D)$40.00
Q4) What is the expected stock price after the rights are issued?
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Page 17
Chapter 16: Debt Policy
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Q1) Which of the following is a safe assumption for a firm in which the PV of the tax shield is approximately equal to the costs of financial distress?
A)The tax shield has been calculated incorrectly
B)The firm is too heavily levered financially
C)The firm has reached its optimal debt level
D)The firm appears to have low risk of financial distress
Q2) When corporate taxes are considered, how does leverage affect the WACC?
A)An increase in leverage will be offset by a decrease in equity financing, thus leaving WACC unchanged
B)Changes in leverage will affect the WACC only if the interest rate on debt changes
C)Increased leverage will increase the WACC
D)Increased leverage will decrease the WACC
Q3) Calculate the annual value of an interest tax shield under the assumption that a firm maintains debt at a permanent $1,000,000 level and rate of 12%.The corporate tax rate is 35%.If there is no chance of financial distress, how does the value of the firm change as a result of this debt?
Q4) What can be promised by loan covenants? What cannot be ensured by loan covenants?
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Page 18
Chapter 17: Payout Policy
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Q1) If an asset has a positive salvage of $1,000, exactly equal to UCC, then the lease analysis for an asset alone in its pool will show the following cash flows for that phenomenon.
A)The salvage is a cost to leasing; there is no terminal loss or gain
B)The salvage is a cost of owning, the terminal loss is $1,000
C)Salvage has no effect on leasing, since it belongs to the owner
D)The tax shelter for the terminal gain will be $1,000
Q2) Since salvage is more risky than other lease analysis cash flows, it is logical, though not always practical, to use a higher discount rate for salvage in present value calculations in such analysis.
A)True
B)False
Q3) Nantec Company is considering a three year financial lease.A cash flow schedule was developed that reflects the cost of the machine, CCA tax shields and after tax lease payments.The company has a 12% return requirement and a 40% tax rate. What is the value of the lease?
Q4) 115.Calculate the net cash flow of lease, given lease payments of $10,500; lease payment tax benefits of $4,150; and CCA tax shield of $2,200
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Page 19
Chapter 18: Long-Term Financial Planning
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Q1) Compare the after-tax returns for a corporation that invests in preferred stock with a 12% dividend versus a common stock with no dividend but a 16% capital gain.The corporation's tax rate is 35%.The:
A)Common stock returns 2.60% more than preferred
B)Preferred stock returns 0.34% more than common
C)Common stock returns 2.32% more than preferred
D)Returns are equal on an after-tax basis After-tax returns:
Preferred Stock: 12% - (12% x 35% x 30%) = 10.74%
Common Stock: 16% - (16% x 35%) = 10.40%
Q2) According to MM, "homemade" dividends are created by:
A)Purchasing only stocks that continually increase their regular dividends
B)Selling a portion of your non-dividend paying holdings
C)Purchasing Treasury bills rather than common stocks
D)Withdrawing cash from savings on dividend payment dates
Q3) A policy of dividend "smoothing" refers to:
A)Maintaining a constant dividend payout ratio
B)Keeping the regular dividend at the same level indefinitely
C)Maintaining a steady progression of dividend increases over time
D)Alternating cash dividends with stock dividends
Q4) How are dividends paid and how do companies decide on dividend payments?
Page 20
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Chapter 19: Short-Term Financial Planning
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Q1) List and briefly describe the components of a financial planning model.
Q2) Financial planning focuses on the big picture.
A)True
B)False
Q3) Debt can be used as a plug item in financial planning.
A)True
B)False
Q4) List and briefly describe the components of a financial planning model.
Q5) Which of the following is not a reason for building financial plans?
A)Considering options
B)Contingency planning
C)Choosing the optimal plan
D)Forcing consistency
Q6) A planner's percentage of sales model forecasts that sales will grow by 20% next year.If costs of goods sold are proportionate at 70% of sales, then costs of goods sold will:
A)Grow to 90% of sales
B)Grow in dollars by 70%
C)Not change in dollar amount
D)Increase by 20% in dollar terms
21
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Chapter 20: Working Capital Management
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Q1) When a firm finances long-term assets with short-term sources of funding, it:
A)Reduces the risk of cash shortage
B)Will have lower interest expense
C)Improves the leverage ratio
D)Is ignoring the principle of matched maturities
Q2) Create the statement of sources and uses of cash from the following entries:
Q3) How high can accounts receivable be allowed to grow before the firm's receivables period exceeds 50 days if annual sales equal $5 million and the cash conversion cycle equals 75 days?
A)$342,466
B)$684,932
C)$1,027,397
D)$1,712,329 receivables period =
Q4) The cost of issuing commercial paper is generally lower than that of a line of credit.
A)True
B)False
Q5) How does long-term financing policy affect short-term financing requirements?
Q6) Describe a firm's cash conversion cycle and its uses.
Q7) Create the statement of sources and uses of cash from the following entries:
Page 22
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Chapter 21: Mergers, Acquisitions, and Corporate Control
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Q1) Which of the following represents a serious concern for those firms employing the Baumol model of cash management?
A)Market illiquidity when selling bills
B)High interest-rate risk
C)Low rates of return on Treasury bills
D)A volatile rate of cash disbursements
Q2) The Quick Corp.has implemented procedures to cut 1.5 days from their cash collection process.Annual sales (all charge sales) are $30 million and the opportunity cost of funds is 9 percent.What is the value of the annual savings, and how much would the savings be worth if the speed-up in collections can be considered permanent?
Q3) Cheques that have been deposited may not be immediately available for use due to:
A)Availability float
B)Payment float
C)Net float
D)Electronic transfer
Q4) Where do firms invest excess funds until they are needed to pay bills?
Q5) What is float and why can it be valuable?
Q6) What is the availability float?
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Chapter 22: International Financial Management
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Q1) CumChan is contemplating an extension of its credit period from net 15 to net 60.Currently, the CumChan sells 500,000 units annually at a price of $1.20 per unit.The average cost per unit is $0.85.The credit period extension is expected to increase sales by 60,000 units, and increase bad-debt losses by $10,500 per year.The marginal cost per unit for the decreased number of units to be produced is $0.75.If CumChan's tax rate is 45%, and the interest rate on short-term bank loans is 10%, should the firm increase its credit period? What underlying assumptions are important in our analysis?
Q2) Calculate the implied cost of trade credit for firms that do not take advantage of cash discounts, based on terms of sale of: 5/15, net 60.By how much does this implied cost change if the discount is increased by 1% and the net payment period is increased to 90 days?
Q3) At what point does a customer's unpaid account become delinquent when the terms of sale are 2/10, net 60?
A)11 days after the sale
B)31 days after the sale
C)61 days after the sale
D)71 days after the sale
Q4) How do firms decide whether to grant credit to a customer?
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Chapter 23: Options
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Q1) Contrary to logic, firms that enjoy complementary resources in the production process are rarely good candidates for merger.
A)True
B)False
Q2) Amendments to the corporate charter that attempt to circumvent mergers are known as poison pills.
A)True
B)False
Q3) Why might shareholders of an acquiring firm prefer to finance mergers with stock rather than with cash?
A)Stock financing is always less costly due to tax consequences
B)EPS fall when mergers are financed with cash
C)Target-firm shareholders will bear part of the cost if merger benefits were overestimated
D)All merger gains go to the acquirer when financed with stock
Q4) A merger between two firms in a similar industry is an example of vertical merger.
A)True
B)False
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Chapter 24: Risk Management
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Q1) What can be said about the spot exchange rate of Dollars for pounds if nominal interest rates are higher in Canada than in Great Britain?
A)It should exceed the forward rate of Dollars for pounds
B)It should be less than the forward rate of Dollars for pounds
C)It is expected to increase
D)It is expected to remain constant
Q2) If you buy Yen forward when the Yen is selling at a forward premium, you will get:
A)More Yen than if you buy on spot market
B)Fewer Yen than if you buy on spot market
C)The same number of Yen as on the spot market, but with a lower commission
D)The expectation of more Yen, but the difference is not locked in
Q3) History has shown a positive relationship between higher interest rates and higher subsequent rates of inflation.
A)True
B)False
Q4) What is the basic difference between hedgers and speculators?
Q5) How can companies use swaps to change the risk of securities that they have issued?
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Page 26
Chapter 25: Conclusion
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Q1) The lower limit on value of a call option is:
A)Zero
B)Less than zero
C)Stock price minus exercise price
D)Exercise price
Q2) Joe sold a put option on ZZZ Corp.with an exercise price of $40.The option expires tomorrow and ZZZ is currently trading at $28 per share.The option premium was $4 per share.What is Joe's profit <loss> per share if the option is exercised tomorrow?
A)($16)
B)($8)
C)$8
D)$16
Q3) What options may be provided in financial securities?
Q4) What is the payoff to buyers and sellers of call and put options?
Q5) The value of a call option increases as the strike price increases.
A)True
B)False
Q6) How, in general, is value derived from options on real assets?
Q7) Which graph represents a selling a put option?
Page 27
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Chapter 26: What We Do and Do Not Know About Finance
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Q1) The customary delivery procedure at the expiration of a commodity futures contract is:
A)Delivering the commodity to the futures buyer
B)Delivering the commodity to the futures exchange
C)Offsetting the initial futures position and settling in cash
D)Adding the profit or loss to your margin account and continuing to trade
Q2) If the market for corn futures has more prospective sellers than buyers, then one would expect:
A)The price of corn futures to decrease
B)The price of corn futures to increase
C)Some traders to change from seller to buyer
D)The market to cease operations until demand is rebalanced
Q3) Which of the following is a source of profit for a swap dealer?
A)Commission charged on the sale of bonds
B)Bid-ask spread
C)Margin account
D)Option premium
Q4) All financial futures contracts are written on a deliverable asset.
A)True
B)False
To view all questions and flashcards with answers, click on the resource link above. Page 28