Corporate Finance
Practice Questions
Course Introduction
Corporate Finance explores the principles and techniques essential for making sound financial decisions within a corporate setting. The course covers key topics such as capital budgeting, financial analysis, risk management, cost of capital, corporate valuation, and capital structure decisions. Students will analyze how firms raise and allocate capital, evaluate investment opportunities, and manage financial resources to maximize shareholder value. Real-world case studies and practical applications emphasize the role of financial managers in strategic planning, funding, and growth initiatives in a dynamic business environment.
Recommended Textbook
Fundamentals of Corporate Finance Third Canadian Edition by Jonathan Berk
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Page 2
Chapter 1: Corporate Finance and the Financial Manager
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Q1) A company's board of directors chooses to provide a comprehensive health care plan for the families of all employees,despite the large cost.They argue that this will not only increase the number of employees who stay with the firm,and thus reduce some costs involved in employee turnover,but also increase the employees' diligence and industry.What general principle is being argued by the board of directors?
A)In a conflict between stakeholders in a company,the most important stakeholder is not always the stockholders.
B)Some activities that decrease shareholders' wealth may have intangible benefits which increase the strength of the company overall.
C)When a conflict of interest arises between shareholders and other stakeholders,in general,the correct solution is the one that creates the greatest good for the greatest number of stakeholders.
D)Ethical decisions should be assessed on their moral value,not on their value in dollars and cents.
E)Decisions involving employees must take fairness into account.
Answer: B
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3
Chapter 2: Introduction to Financial Statement Analysis
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Q1) A firm has EBIT of $15 million,interest expense of $1 million,and pays taxes of $4 million.The firm has a market-to-book ratio of 5.75.If the firm has 30 million shares outstanding at a current price of $12 per share,what is its ROE?
A)24%
B)2.8%
C)16%
D)4.2%
E)18%
Answer: C
Q2) What is a firm's gross profit?
A)the difference between the sales and other income generated by the firm,and all costs,taxes,and expenses incurred by the firm in a given period
B)the difference between sales revenues and the costs associated with those sales
C)the difference between sales revenues and cash expenditures associated with those sales
D)earnings before interest and taxes are deducted
E)earnings after interest is deducted but before taxes are deducted
Answer: B
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4
Chapter 3: The Valuation Principle: the Foundation of Financial Decision Making
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Q1) What is the future value (FV)of $72,000 in 25 years,assuming the interest rate is 5.5% per year?
A)$1.9 million
B)$274,564
C)$171,000
D)$1.8 million
E)$144,000
Answer: B
Q2) To enable costs and benefits to be compared,they are typically converted into cash value at the time the benefit is received.
A)True
B)False
Answer: False
Q3) What is one of the prerequisite conditions for the Valuation Principle to work?
Answer: The availability of competitive market prices is a prerequisite for the Valuation Principle to be effective and efficient.
Q4) How does arbitrage help the Law of One Price?
Answer: Any arbitrage opportunity will exploit any mispricing to restore the Law of One Price.
5
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Chapter 4: The Time Value of Money
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Q1) You are saving money to buy a car.If you save $300 per month starting one month from now at an interest rate of 4%,how much will you be able to spend on the car after saving for 4 years?
A)$41,778.96
B)$15,287.27
C)$15,587.88
D)$13,286.65
E)$15,939.84
Q2) If $10,000 is invested in a certain business at the start of the year,the investor will receive $3000 at the end of each of the next four years.What is the net present value (NPV)of this business opportunity if the interest rate is 7% per year?
A)$148.53
B)$161.63
C)$172.45
D)$178.88
E)$183.43
Q3) Can we apply the annuity or perpetuity equations to cash flows that do NOT arrive at regular intervals?
Q4) Can we apply the growth perpetuity equation for negative growth as well?
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Chapter 5: Interest Rates
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Q1) The net present value (NPV)of an investment that costs $2700 and pays $1000 certain at the end of one,three,and five years is closest to:
A)$21.47
B)$1665.62
C)-$100.26
D)-$71.38
E)$0
Q2) A bank offers an account with an APR of 6% and an EAR of 6.09%.How does the bank compound interest for this account?
A)weekly compounding
B)monthly compounding
C)semi-annual compounding
D)annual compounding
E)daily compounding
Q3) What is the implied assumption about interest rates when the equation to calculate the present value (PV)of perpetuity is used?
Q4) What care,if any,should be taken when cash flows occur in periodicities that are shorter than a year-e.g.,quarterly or monthly cash flows?
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Chapter 6: Bonds
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Q1) A university issues a bond with a face value of $10,000 and a coupon rate of 5.65% that matures on 07/15/2020.The holder of such a bond receives coupon payments of $282.50.How frequently are coupon payments made in this case?
A)monthly
B)quarterly
C)semi-annually
D)annually
E)biannually
Q2) Shown above is information from FINRA regarding one of Caterpillar Financial Services' bonds.How much would the holder of such a bond earn each coupon payment for each $100 in face value if coupons are paid annually?
A)$1.38
B)$3.95
C)$4.00
D)$4.36
E)$5.17
Q3) Why do bond prices increase as the next coupon payment gets closer?
Q4) How are the cash flows of a zero-coupon bond different from those of a coupon bond?
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Chapter 7: Valuing Stocks
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Q1) Aerelon Airways,a commercial airline,suffers a major crash.As a result,passengers are considered to be less likely to choose Aerelon as their carrier,and it is expected free cash flows will fall by $20 million per year for five years.If Aerelon has 65 million shares outstanding,an equity cost of capital of 12%,and no debt,by how much would Aerelon's shares be expected to fall in price as a result of this accident?
A)$0.98
B)$1.11
C)$1.28
D)$1.45
E)$1.76
Q2) Midwest Corporation is expected to pay an annual dividend of $0.45 per share in the coming year,and to trade for $31.10 at the end of the year.If investments with the same risk as Midwest's stock have an expected return of 8.5%,what is the most you would pay today for Midwest's stock?
A)$31.10
B)$29.08
C)$31.55
D)$28.25
E)$30.65
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Page 9
Chapter 8: Investment Decision Rules
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Q1) You have an investment opportunity in Germany that requires an investment of $250,000 today and will produce a cash flow of 208,650 in one year with no risk.Suppose the risk-free rate of interest in Germany is 6% and the current competitive exchange rate is 0.78 to $1.00.What is the net present value (NPV)of this project? Would you take the project?
A)NPV = 0; No
B)NPV = 2358; No
C)NPV = 2358; Yes
D)NPV = 13,650; Yes
E)NPV = $36,225; Yes
Q2) If WiseGuy Inc.uses the IRR rule to choose projects,which of the projects will rank highest?
A)Project A
B)Project B
C)Project C
D)Project D
E)Project E
Q3) How can you calculate the y-intercept of a net present value (NPV)profile without using TVM concepts?
Q4) What is the general shape of the net present value (NPV)profile?
Page 10
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Chapter 9: Fundamentals of Capital Budgeting
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Q1) A firm reports that in a certain year it had unlevered net income of $4.5 million,a capital cost allowance (CCA)deduction of $2.8 million,capital expenditures of $2.3 million,and net working capital decreased by $1.5 million.What is the firm's free cash flow for that year?
A)$2.4 million
B)$6.5 million
C)$8.1 million
D)$11.1 million
E)$5.5 million
Q2) The amount that Ford Motor Company owes in taxes next year without the launch of the new SUV is closest to:
A)$24.0 million
B)$56.0 million
C)$31.5 million
D)$13.5 million
E)$10.5 million
Q3) Why does the Canada Revenue Agency (CRA)have a half-year rule for capital cost allowance (CCA)calculations?
Q4) What is the most important function of sensitivity analysis?
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Chapter 10: Risk and Return in Capital Markets
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Q1) Treasury bill returns are 5%,4%,3%,and 6% over four years.The standard deviation of returns of Treasury bills is:
A)1.51%
B)1.11%
C)1.00%
D)1.29%
E)1.43%
Q2) When investing for a long horizon,investors care about the volatility of ________ returns and not the volatility of ________ returns.
A)average,cumulative
B)cumulative,average
C)mean,cumulative
D)mean,average
E)average,mean
Q3) What is the difference between systematic and unsystematic risk?
Q4) Investors should earn a risk premium for bearing unsystematic risk.
A)True
B)False
Q5) Why must riskier investments offer higher expected returns?
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Chapter 11: Systematic Risk and the Equity Risk Premium
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Q1) The Capital Asset Pricing Model asserts that the ________ return is equal to the risk-free rate plus a risk premium for systematic risk.
A)realized return
B)expected return
C)holding period return
D)ex-post return
E)average return
Q2) Correlation is the degree to which the returns of two stocks share common risks.
A)True
B)False
Q3) Historically,the average excess return of the S&P/TSX Composite Index over the return of Government of Canada bonds has been ________ and is a proxy for the market risk premium.
A)between 10% and 12%
B)between 14% and 16%
C)between 5% and 7%
D)between 11% and 13%
E)between 4% and 6%
Q4) Is it possible for a stock to have high total risk but low systematic risk?
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Chapter 12: Determining the Cost of Capital
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Q1) Different divisions with differing lines of business use different costs of capital because their cost of ________ could be different.
A)debt
B)equity
C)capital
D)assets
E)common stock capital
Q2) The firm's overall cost of capital that is a blend of the costs of the different sources of capital is known as the firm's:
A)weighted average cost of capital.
B)cost of equity infusion.
C)cost of debt.
D)cost of preferred stock.
E)cost of financing.
Q3) Between the two models Constant Dividend Growth Model (CDGM)and Capital Asset Pricing Model (CAPM),which is a better method for computation of the cost of equity?
Q4) What is the difference between the effective cost of debt and the cost of debt?
Q5) What is the assumption about risk when using WACC to evaluate a project?
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Chapter 13: Risk and the Pricing of Options
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Q1) ________ options allow the holder to exercise the option on any date up to and including the expiration date.
A) Canadian
B) American
C) European
D) Brazilian
E) Chinese
Q2) The value of an otherwise identical American call option is ________ if the exercise date is ________.
A)higher,longer
B)lower,longer
C)higher,closer
D)unchanged,closer
E)unchanged,longer
Q3) Although the payouts on a long position in an options contract are never negative,the profit from purchasing and holding it could be negative.
A)True
B)False
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Chapter 14: Raising Equity Capital
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Q1) Which of the following is a reason why an investor would choose to invest in new and growing firms as a limited partner in a venture capital firm rather than making those investments directly by themselves?
A)Venture capital firms use their control of the companies they invest in to protect those investments.
B)The investments of venture capital firm are less diversified than the investments of a single individual.
C)A venture capital firm generally has a narrow range of expertise among its general partners.
D)The investor will have a direct say in how the companies that the venture capital firm funds will be run.
E)The venture capital firm guarantees a higher return.
Q2) A cash offer differs from a rights offer in that in the latter shares are offered to both existing shareholders and investors at large.
A)True
B)False
Q3) What is the general long-run performance of an IPO?
Q4) How many types of seasoned equity offerings are there?
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Page 16
Chapter 15: Debt Financing
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Q1) Private debt cannot be in the form of bonds.
A)True
B)False
Q2) Which of the following would be most likely to have the lowest price?
A)a straight senior bond
B)a convertible senior bond
C)a callable subordinated bond
D)a straight subordinated bond
E)a callable senior bond
Q3) Tompkinson's PLC,a British company,issues a bond in Canadian dollars in Canada,intended for Canadian investors.Which of the following best describes this bond?
A)a foreign bond
B)a Eurobond
C)a global bond
D)a Yankee bond
E)a Maple bond
Q4) What is a sinking fund?
Q5) What is the difference between secured and unsecured debt?
Q6) Why are bond covenants necessary?
Q7) What is the difference between Eurobonds and Foreign bonds?
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Chapter 16: Capital Structure
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Questions
Q1) Market timing means that managers may sell ________ when they believe the stock is over-valued and rely on ________ when the stock is under-valued.
A)debt,shares
B)debt,preferred stock
C)new shares,debt
D)debt,debt
E)shares,preferred stock
Q2) Suppose Blank Company has only one project,as forecast above,and an unlevered cost of equity of 8%.If the company borrows $10,000 at 5% to make the investment,what is expected return to equity holders?
A)8.0%
B)11.6%
C)9.33%
D)30.0%
E)33.3%
Q3) Equity-debt holder conflicts are more likely to arise if the risk of financial distress is high.
A)True
B)False
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Chapter 17: Payout Policy
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Q1) What is the difference between a regular dividend and a liquidating dividend?
Q2) A firm may announce its intention to buy its own shares in the open market like any other investor,also known as a(n):
A)open market purchase.
B)tender offer.
C)targeted repurchase.
D)greenmail.
E)Dutch auction.
Q3) When a firm repurchases shares,the supply of shares is ________,but at the same time,the firm's assets ________.
A)reduced,decline
B)increased,decline
C)reduced,increase
D)increased,increase
E)reduced,are unchanged
Q4) Why do firms issue stock dividends or split their stock?
Q5) What is the bird-in-the-hand fallacy in dividend theory under perfect capital markets?
Q6) What is the effect on the stock price when a firm repurchases its shares?
Q7) What are the characteristics of special dividend?
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Chapter 18: Financial Modelling and Pro Forma Analysis
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Q1) Using the percent of sales method,and assuming 20% growth in sales and no change in interest expense,estimate Billy's Burgers' net income for 2016.
A)$23.28 million
B)$35.76 million
C)$24.84 million
D)$28.16 million
E)$30.29 million
Q2) ________ is the maximum growth rate a firm can achieve without resorting to external financing.
A)Return on equity
B)Sustainable growth rate
C)Retention rate
D)Internal growth rate
E)Asset expansion rate
Q3) How do we know if expansion is a good idea for the firm?
Q4) How do we compute net new financing?
Q5) What is net new financing?
Q6) What is the implied assumption in percent of sales method?
Q7) What is the plug?
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Chapter 19: Working Capital Management
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Q1) A firm that chooses a low-risk,restrictive credit policy will tend to have a larger investment in receivables.
A)True
B)False
Q2) What are the costs of holding inventory?
Q3) Ally Manufacturing has an average accounts payable balance of $420,000.Its average annual cost of goods sold is $10,220,000.It receives terms of 2/15 net 30 from its suppliers.Is Ally managing its accounts payables well?
A)Yes,since it,on average,chooses not to take the discount,but pays when payment is due.
B)Yes,since it,on average,takes the discount,and pays at the end of the discount period.
C)Yes,since it,on average,stretches payment beyond the due payment date.
D)No,since it,on average,does not take advantage of the discount period and pays well before payment is due.
E)No,since it,on average,does not make payment before it is due.
Q4) What is the collection float?
Q5) What is the cash discount?
Q6) What is the credit period?
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Chapter 20: Short-Term Financial Planning
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Q1) What are loan origination fees and what effect does it have on the loan?
Q2) The accounts receivable and inventory of a firm typically are used as collateral when issuing short-term secured financing.
A)True
B)False
Q3) Which of the following bank loan arrangements is typically accompanied by a requirement that the firm maintain a minimum level of deposits with the lending bank and restricts the level of the borrowing firm's working capital?
A)single,end-of-period payment loan
B)bridge loan
C)committed line of credit
D)uncommitted line of credit
E)discount loan
Q4) How does seasonality lead to short-term financing needs?
Q5) If the benefit of a lower rate from short-term debt is offset by the risk that the firm will have to refinance at a higher rate,why would a firm choose an aggressive financing policy?
Q6) Why should permanent working capital be financed with long-term sources of funds?
Page 22
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Chapter 21: Risk Management
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Q1) A firm can borrow at a floating rate of LIBOR + 2.5% on short-term loans.If it swaps its short-term payments so that it receives LIBOR + 1.25% and pays a fixed rate of 3.75%,what is the rate of interest on its borrowing?
A)5.00%
B)3.75%
C)7.50%
D)2.50%
E)1.25%
Q2) Heinz uses 1000 tons of corn syrup each year as an ingredient in its tomato ketchup products.Heinz is concerned about the increase in prices of corn-based products and purchases a fixed-price contract to buy corn syrup at $20,000 per ton.What is the impact on earnings before taxes as opposed to no hedging if the price of corn is $25,000 per ton over the next year?
A)+$5 million
B)-$5 million
C)$0
D)+$5,000
E)-$5,000
Q3) What is key personnel insurance?
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Chapter 22: International Corporate Finance
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Q1) The one-year forward exchange rate is 40 INR/USD.If the one-year interest rate in the United States is 4% and in India is 7%,what is the spot exchange rate so as to preclude arbitrage?
A)38.88
B)39.01
C)39.23
D)39.32
E)39.46
Q2) The ________ rate is a price for a currency denominated in another currency.
A)marginal
B)foreign exchange
C)interest
D)reversion
E)conversion
Q3) Firms that have a considerable amount of earnings abroad do not face any risk from changes in exchange rates.
A)True
B)False
Q4) What is covered interest parity?
Q5) Why do firms prefer forward contracts rather than the cash-can-carry strategy?
Page 24
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Chapter 23: Leasing
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Q1) Which of the following is a valid argument for leasing?
A)avoiding capital expenditure controls
B)preserving capital
C)reducing leverage through off-balance-sheet financing
D)efficiency gains from specialization
E)increased resale costs
Q2) Toronto Trucking has decided to lease a long-haul trailer for the next 6 years using a $1.00 out lease.The purchase price of the trailer is $189,000.If the risk-free rate is a 4% APR with monthly compounding,what would be the monthly lease payment for a 6-year lease?
A)$2,950.79
B)$2,947.10
C)$2,956.93
D)$2,941.16
E)$2,913.55
Q3) What is a lease-equivalent loan?
Q4) What is the difference between a fixed price lease and a fair market value cap lease?
Q5) What is the difference between a security interest and a true lease in bankruptcy?
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Chapter 24: Mergers and Acquisitions
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Q1) Consider two firms,Big Company and Little Enterprises,both with earnings of $6 per share and 2 million shares outstanding.Big is a mature company with few growth opportunities and a stock price of $56 per share.Little is a new firm with much higher growth opportunities and a stock price of $72 per share.Assume Little acquires Big using its own stock and the takeover adds no value.What is the change in Little's earnings per share as a result of the acquisition?
A)$3.86
B)-$2.63
C)$0.75
D)$0
E)$6.00
Q2) Shaw Communications Inc.proposes a merger with Rogers Communications Inc.The combined firm is expected to serve over 70% of the Canadian telecommunications market.What type of synergies are the most likely reason behind this merger?
A)economies of scale
B)vertical integration
C)expertise
D)monopoly gains
E)efficiency gains
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Chapter 25: Corporate Governance
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Q1) Which monitors of a firm,other than the board of directors,become experts in the firm and are in a position to detect irregularities first?
A)securities analysts
B)lenders
C)employees
D)regulators
E)shareholders
Q2) Explain what it means for a firm to have dual class shares.
Q3) How do securities analysts provide outside monitoring of a corporation?
Q4) Why is monitoring the firm's managers more closely an imperfect solution to the conflict of interest problem?
Q5) Which monitors of a firm,other than the board of directors,are most likely to detect outright fraud?
A)securities analysts
B)lenders
C)employees
D)regulators
E)shareholders
Q6) What is tunnelling?
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