Essentials of Finance
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Course Introduction
Essentials of Finance provides a foundational understanding of the principles and practices that guide financial decision-making in both personal and business contexts. The course covers key topics such as time value of money, financial statement analysis, budgeting, investment fundamentals, risk management, and the role of financial markets. Students gain practical skills in evaluating financial health, making informed investment selections, and understanding the impact of financial policies, preparing them for further study in finance or for making sound financial choices in their own lives.
Recommended Textbook
CFIN 3 3rd Edition by Scott Besley
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Page 2
Chapter 1: An Overview of Managerial Finance
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Sample Questions
Q1) Normal profits are those that result in rates of return that are just sufficient to attract new capital in financial markets.
A)True
B)False
Answer: True
Q2) No firm can take cost-increasing,socially responsible actions in a competitive marketplace and expect to continue to compete,even if those cost-increasing actions yield significant benefits to the firm.
A)True
B)False Answer: False
Q3) If a firm's managers want to maximize stock price it is in their best interests to operate efficient,low-cost plants,develop new and safe products that consumers want,and maintain good relationships with customers,suppliers,creditors,and the communities in which they operate.
A)True
B)False
Answer: True
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3
Chapter 2: Analysis of Financial Statements
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Q1) In order to accurately estimate cash flow from operations,depreciation must be added back to net income.The reason for this is that even though depreciation is deducted from revenue it is really a non-cash charge.
A)True
B)False
Answer: True
Q2) Pepsi Corporation's current ratio is 0.5,while Coke Company's current ratio is 1.5.Both firms want to "window dress" their coming end-of-year financial statements.As part of their window dressing strategy,each firm will double its current liabilities by adding short-term debt and placing the funds obtained in the cash account.Which of the statements below best describes the actual results of these transactions?
A) The transactions will have no effect on the current ratios.
B) The current ratios of both firms will be increased.
C) The current ratios of both firms will be decreased.
D) Only Pepsi Corporation's current ratio will be increased.
E) Only Coke Company's current ratio will be increased.
Answer: D
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Page 4
Chapter 3: The Financial Environment: Markets, institutions, and Investment Banking
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Sample Questions
Q1) The securities exchange commission is the U.S.government agency that regulates the issuance and trading of stocks and bonds.
A)True
B)False
Answer: True
Q2) Because foreign banks are less regulated and have fewer restrictions concerning the types of business activities they can pursue than their U.S.counterparts,such banks often engage in numerous aspects of multi-layer financial deals.
A)True
B)False
Answer: True
Q3) If you wanted to purchase previously issued shares of stock from another investor you would find the shares in the
A) primary market.
B) debt market.
C) IPO market.
D) secondary market.
E) SEO market.
Answer: D
Page 5
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Chapter 4: The Time Value of Money
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Sample Questions
Q1) Your father,who is 60,plans to retire in 2 years,and he expects to live independently for 3 years.He wants a retirement income which has,in the first year,the same purchasing power as $40,000 has today.However,his retirement income will be of a fixed amount,so his real income will decline over time.His retirement income will start the day he retires,2 years from today,and he will receive a total of 3 retirement payments.Inflation is expected to be constant at 5 percent.Your father has $100,000 in savings now,and he can earn 8 percent on savings now and in the future.How much must he save each year,starting today,to meet his retirement goals?
A) $1,863
B) $2,034
C) $2,716
D) $5,350
E) $6,102
Q2) The effective annual rate is less than the simple rate when we have monthly compounding.
A)True
B)False
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Page 6
Chapter 5: The Cost of Money
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Q1) The nominal rate of interest is defined as the sum of the nominal risk-free rate of return and the expected inflation rate.
A)True
B)False
Q2) If you have information that a recession is ending,and the economy is about to enter a boom,and your firm needs to borrow money,it should probably issue long-term rather than short-term debt.
A)True
B)False
Q3) The term structure is defined as the relationship between interest rates and maturities of similar securities.
A)True
B)False
Q4) Firms with the most profitable investment opportunities are willing and able to pay the most for capital,so they tend to attract it away from less efficient firms or from those whose products are not in demand.
A)True
B)False
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Chapter 6: Bonds Debt-Characteristics and Valuation
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Q1) LIBOR is an acronym for London Interbank Offer Rate,which is an average of interest rates offered by London banks to U.S.corporations.
A)True
B)False
Q2) Trickle Corporation's 12 percent coupon rate,semiannual payment,$1,000 par value bonds which mature in 25 years.The bonds currently sell for $1,230.51 in the market,and the yield curve is flat.Assuming that the yield curve is expected to remain flat,what is Trickle's most likely before-tax cost of debt if it issues new bonds today?
A) 4.78%
B) 6.46%
C) 7.70%
D) 9.56%
E) 12.92%
Q3) Eurobonds are typically issued as registered bonds rather than bearer bonds.
A)True
B)False
Q4) A bond's value will increase as interest rates rise over time.
A)True
B)False
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Chapter 7: Stocks Equity-Characteristics and Valuation
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Q1) Suppose you are willing to pay $30 today for a share of stock which you expect to sell at the end of one year for $32.If you require an annual rate of return of 12 percent,what must be the amount of the annual dividend which you expect to receive at the end of Year 1?
A) $2.25
B) $1.00
C) $1.60
D) $3.00
E) $1.95
Q2) A share of preferred stock pays a dividend of $0.50 each quarter.If you are willing to pay $20.00 for this preferred stock,what is your simple (not effective)annual rate of return?
A) 10%
B) 8%
C) 6%
D) 12%
E) 14%
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Chapter 8: Risk and Rates of Return
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Q1) Steve Brickson currently has an investment portfolio that contains four stocks with a total value equal to $80,000.The portfolio has a beta (?)equal to 1.4.Steve wants to invest an additional $20,000 in a stock that has ? = 2.4.After Steve adds the new stock to his portfolio,what will be the portfolio's beta?
A) 1.6
B) 1.9
C) 2.0
D) Not enough information is given to compute the portfolio's beta (?).
E) None of the above is correct.
Q2) The tighter the probability distribution,the less variability there is and the less likely it is that the actual outcome will be close to the expected value; consequently the more likely it is that the actual return will be much different from the expected return.
A)True
B)False
Q3) The expected rate of return of an asset will always equal one of the possible rates of return for that asset.
A)True
B)False
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Chapter 9: Capital Budgeting Techniques
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Q1) Beyond some point,a further increase in the size of the firm's total capital budget may lead to a decrease in the NPVs of all the investments being considered.
A)True
B)False
Q2) The NPV method implicitly assumes that the rate at which cash flows can be reinvested is the required rate of return,whereas the IRR method implies that the firm has the opportunity to reinvest at the project's IRR.
A)True
B)False
Q3) The internal rate of return is that discount rate which equates the present value of the cash outflows (or costs)with the present value of the cash inflows.
A)True
B)False
Q4) A capital budgeting project is acceptable if the rate of return required for such a project is greater than the project's internal rate of return.
A)True
B)False
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11
Chapter 10: Project Cash Flows and Risk
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Q1) Carolina Insurance Company,an all-equity life insurance firm,is considering the purchase of a fire insurance company.If the purchase is made,Carolina will be 50 percent larger than before.Currently,Carolina's stock has a beta of 1.2 and the return required is 15.2 percent.The fire insurance company is expected to generate a return of 20 percent with a beta of 2.5.If the risk-free rate is 8 percent and the market risk premium is 6 percent,should Carolina make the investment?
A) No; the expected return is less than the required return.
B) No; the IRR is less than the appropriate required rate of return.
C) Yes; the IRR is greater than the appropriate required rate of return.
D) Yes; the expected return is greater than the required return.
E) Yes; the project's risk/return combination lies above the SML.
Q2) A sunk is a cash outlay that has already been incurred and that cannot be recovered regardless of whether the project is accepted or rejected.These sunk costs are extremely important in capital budgeting decisions.
A)True
B)False
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Page 12
Chapter 11: The Cost of Capital
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Q1) Which of the following statements is correct?
A) Beta measures market risk, but if a firm's stockholders are not well diversified, beta may not accurately measure the firm's total risk.
B) If the calculated beta underestimates the firm's true investment risk, then the CAPM method will overestimate r<sub>s</sub>.
C) The discounted cash flow method of estimating the cost of equity can't be used unless the growth component, g, is constant during the analysis period.
D) An advantage shared by both the DCF and CAPM methods of estimating the cost of equity capital, is that they yield precise estimates and require little or no judgment.
E) None of the above is a correct statement.
Q2) Refer to J.Ross and Sons Inc.What is the firm's cost of newly issued common stock?
A) 10.0% B)
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Chapter 12: Capital Structure
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Q1) Financial leverage affects both EPS and EBIT,while operating leverage only affects EBIT.
A)True
B)False
Q2) Which of the following statements is correct?
A) Suppose Company A's EPS is expected to experience a larger percentage change in response to a given percentage change in sales than Company B's EPS. Other things held constant, Company A would appear to have more business risk than Company B.
B) Statement a would be correct if the term "EBIT" were substituted for "EPS."
C) Statement a would be correct if the term "EBIT" were substituted for "sales."
D) Statement a would be correct if the words "financial risk" were substituted for "business risk."
E) The above statements are all false.
Q3) The announcement of a stock offering by a mature firm that seems to have financing alternatives is taken as a signal that the firm's prospects are very good.
A)True
B)False
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Page 14
Chapter 13: Distribution of Retained Earnings: Dividends and Stock Repurchases
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Q1) Which of the following would not have an influence on the optimal dividend policy?
A) The possibility of accelerating or delaying investment projects.
B) A strong shareholders' preference for current income versus capital gains.
C) Bond indenture constraints.
D) The costs associated with selling new common stock.
E) All of the above can have an effect on dividend policy.
Q2) According to the free cash flow hypothesis,cash flows that cannot be reinvested in positive net present value projects should be kept as retained earnings.
A)True
B)False
Q3) In the real world,we find that dividends
A) Usually exhibit greater stability than earnings.
B) Fluctuate more widely than earnings.
C) Tend to be a lower percentage of earnings for mature firms.
D) Are usually changed every year to reflect earnings changes.
E) Are usually set as a fixed percentage of earnings.
Q4) The ex-dividend date is the date on which a firm actually mails dividend checks.
A)True
B)False
Page 15
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Chapter 14: Working Capital Policy
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Sample Questions
Q1) Golden Fritter Corporation has a current ratio equal to three.If Golden Fritter issues
$1,000,000 in long term bonds and uses the proceeds to purchase inventory,what will happen to the current ratio?
A) Increase
B) Decrease
C) Stay the same
D) Change, but more information is required to determine the direction of the change.
E) None of the above.
Q2) Due to advanced technology and the similarity of general procedures,working capital management for multinational firms is no more complex than it is for domestic firms.
A)True
B)False
Q3) The best and most comprehensive picture of a firm's liquidity position is obtained by examining its cash budget.
A)True
B)False
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Chapter 15: Managing Short-Term Assets
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Q1) The collection policy refers to the procedures the firm follows to collect its credit accounts.
A)True
B)False
Q2) Chadmark Corporation's budgeted monthly sales are $3,000.Forty percent of its customers pay in the first month and take the 2 percent discount.The remaining 60 percent pay in the month following the sale and don't receive a discount.Chadmark's bad debts are very small and are excluded from this analysis.Purchases for next month's sales are constant each month at $1,500.Other payments for wages,rent,and taxes are constant at $700 per month.Construct a single month's cash budget with the information given and determine the average cash gain or (loss)during a typical month for Chadmark Corporation.
A) $2,600
B) $800
C) $776
D) $740
E) $728
Q3) A Eurodollar is a U.S.dollar deposited in a bank outside the United States.
A)True
B)False
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Chapter 16: Managing Short-Term Liabilities Financing
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Q1) Many firms borrow by using banker's acceptances (i.e.,getting a bank to guarantee the firm's debt)when they are too small or too risky to use the commercial paper market.
A)True
B)False
Q2) A promissory note is the document signed when a bank loan is executed and it specifies financial aspects of the loan.The separate indenture note will specify items such as collateral and other terms and conditions.
A)True
B)False
Q3) An arrangement in which a bank agrees to lend up to a specified maximum of funds as needed over a specified time period is a
A) compensating balance.
B) line of credit.
C) commercial paper.
D) trade credit.
E) promissory note.
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Chapter 17: Financial Planning and Control
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Q1) If a firm has no preferred stock,its financial breakeven point is the sales level that results in net income equal to zero.
A)True
B)False
Q2) The fact that long-term debt and equity funds are raised infrequently and in large amounts lessens the need for the firm to forecast them on a continual basis.
A)True
B)False
Q3) Breakeven analysis can be used to determine how large sales of a new product must be for the firm to achieve profitability,but it is not useful in studying the effects of a general expansion in the firm's operations.
A)True
B)False
Q4) Breakeven analysis is important in the planning and control process because the cost-volume-profit relationship can be influenced greatly by the proportion of the firm's assets that are fixed.
A)True
B)False
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Chapter 18: project Cash Flows and Risk
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Q1) Which of the following statement completions is incorrect? For a profitable firm,when MACRS accelerated depreciation is compared to straight-line depreciation,MACRS accelerated allowances produce
A) Higher depreciation charges in the early years of an asset's life.
B) Larger cash flows in the earlier years of an asset's life.
C) Larger total undiscounted profits from the project over the project's life.
D) Smaller accounting profits in the early years, assuming the company uses the same depreciation method for tax and book purposes.
E) None of the above (All of the above are correct.)
Q2) The use of accelerated versus straight-line depreciation causes net income reported to stockholders to be lower,and cash flows higher,for the duration of a project's life,other things held constant.
A)True
B)False
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