Financial Analysis
Exam Questions
Course Introduction
Financial Analysis is a foundational course that equips students with the skills required to interpret and evaluate financial statements, assess organizational performance, and make informed economic decisions. Through the study of key concepts such as ratio analysis, cash flow analysis, and trend evaluation, students learn to critically analyze the financial health of businesses. The course integrates real-world case studies and practical exercises, emphasizing the application of analytical tools to assess profitability, liquidity, solvency, and operational efficiency, thereby preparing students for advanced financial management and investment decision-making.
Recommended Textbook
Fundamentals of Corporate Finance 4th Edition Jonathan Berk
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Page 2
Chapter 1: Corporate Finance and the Financial Manager
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Q1) In which of the following relationships is an agency conflict problem LEAST likely to arise?
A) the relationship between a hire-car company and the persons who hire that company's cars regarding the treatment of those cars
B) the relationship between high-level military officers and the soldiers who serve under them regarding the willingness of the soldiery to take risks
C) the relationship between a restaurateur and the suppliers of produce to that restaurant regarding the freshness of the produce supplied
D) the relationship between a driver and the passengers in a car regarding the safe driving of that car
Answer: D
Q2) Financial decisions require that you weigh alternatives in strictly monetary terms.
A)True
B)False
Answer: False
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Chapter 2: Introduction to Financial Statement Analysis
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Q1) Company A has current assets of $42 billion and current liabilities of $41 billion. Company B has current assets of $2.7 billion and current liabilities of $1.8 billion. Which of the following statements is correct, based on this information?
A) Company A is less likely than Company B to have sufficient working capital to meet its short-term needs.
B) Company A has greater leverage than Company B.
C) Company A has less leverage than Company B.
D) Company A and Company B have roughly equivalent enterprise values.
Answer: A
Q2) Which of the following balance sheet equations is INCORRECT?
A) Assets - Liabilities = Shareholders' equity
B) Assets = Liabilities + Shareholders' equity
C) Assets - Current liabilities = Long-term liabilities
D) Assets - Current liabilities = Long-term liabilities + Shareholders' equity
Answer: C
Q3) How can we cross check the statement of cash flows?
Answer: The last item in the statement of cash flows should equal the difference in cash balances between two adjacent balance sheets.
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Chapter 3: Time Value of Money: an Introduction
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Sample Questions
Q1) Why is it usually necessary to use the time value of money when performing a cost-benefit analysis?
A) For an investment project to be considered, costs must have a higher dollar value than benefits.
B) In most investment projects, costs are incurred up front, but benefits are received in the future.
C) For practical purposes, a dollar today may be considered to be equal to a dollar at some future time.
D) Although costs and benefits generally occur concurrently, the benefits will accrue value over time, due to interest.
Answer: B
Q2) How does arbitrage help the Law of One Price?
Answer: Any arbitrage opportunity will exploit any mispricing to restore the Law of One Price.
Q3) What is one of the main obstacles in cost-benefit analysis?
Answer: One of the main obstacles in the cost-benefit analysis is that not all benefits that are expected to occur in the future can be stated in dollar terms.
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Chapter 4: Time Value of Money: Valuing Cash Flow
Streams
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Q1) Assume that you are 30 years old today, and that you are planning on retirement at age 65. You expect your salary to be $42,000 one year from now and you also expect your salary to increase at a rate of 5% per year as long as you work. To save for your retirement, you plan on making annual contributions to a retirement account. Your first contribution will be made on your 31st birthday and will be 8% of this year's salary. Likewise, you expect to deposit 8% of your salary each year until you reach age 65. Assume that the rate of interest is 9%. The present value (PV) (at age 30) of your retirement savings is closest to ________.
A) $61,303
B) $30,652
C) $42,912
D) $67,433
Q2) Joe just inherited the family business, and having no desire to run the family business, he has decided to sell it to an entrepreneur. In exchange for the family business, Joe has been offered an immediate payment of $100,000. Joe will also receive payments of $50,000 in one year, $50,000 in two years, and $75,000 in three years. The current market rate of interest for Joe is 6%.
In terms of present value (PV), how much will Joe receive for selling the family business?
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Chapter 5: Interest Rates
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Q1) A homeowner has a $227,000 home with a 20-year mortgage, paid monthly at 6.60% APR. After five years he receives $50,000 as an inheritance. If he pays this $50,000 toward his mortgage along with his regular payment, by approximately how many years will it reduce the amount of time it takes him to pay off his mortgage?
A) 5.5 years
B) 8.6 years
C) 10.2 years
D) 12.8 years
Q2) Can the nominal interest rate ever be negative? Can the real interest rate ever be negative? Explain.
Q3) A small business repairs its store. The builders charge them $130,000 which will be paid back in monthly installments over three years at 6.80% APR. The builders will reduce this rate to 6.30% APR if they pay $2600 up front. By approximately how much will this reduce the monthly loan repayments?
A) $109
B) $218
C) $164
D) $55
Q4) How are interest and return of principal handled in an amortizing loan payment?
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Chapter 6: Bonds
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Q1) The Sisyphean Company has a bond outstanding with a face value of $1000 that reaches maturity in 5 years. The bond certificate indicates that the stated coupon rate for this bond is 8.1% and that the coupon payments are to be made semiannually. Assuming the appropriate YTM on the Sisyphean bond is 10.6%, then this bond will trade at ________.
A) a premium
B) a discount
C) par
D) none of the above
Q2) The Sisyphean Company has a bond outstanding with a face value of $5000 that matures in 10 years. The bond certificate indicates that the stated coupon rate for this bond is 8.9% and that the coupon payments are to be made semiannually. How much will each semiannual coupon payment be?
A) $445.0
B) $222.5
C) $667.5
D) $890.0
Q3) Under what situation can a zero-coupon bond be selling at a premium?
Q4) Under what situation can a zero-coupon bond be selling at par to its face value?
Q5) How are the cash flows of a coupon bond different from an amortizing loan?
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Chapter 7: Stock Valuation
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Q1) Avril Synchronistics will pay a dividend of $1.20 per share this year. It is expected that this dividend will grow by 3% each year in the future. What will be the current value of a single share of Avril's stock if the firm's equity cost of capital is 16%?
A) $6.46
B) $6.92
C) $9.23
D) $10.15
Q2) Jumbuck Exploration has a current stock price of $3.00 and is expected to sell for $3.15 in one year's time, immediately after it pays a dividend of $0.28. Which of the following is closest to Jumbuck Exploration's equity cost of capital?
A) 7.17%
B) 8.60%
C) 14.33%
D) 17.91%
Q3) Can the dividend-discount model handle negative growth rates?
Q4) What role do dividends play in stock investing?
Q5) What is a major assumption about growth rate in the dividend-discount model?
Q6) How can the dividend-discount model handle changing growth rates?
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Chapter 8: Investment Decision Rules
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Q1) Which of the following is NOT a limitation of the payback rule?
A) It does not consider the time value of money.
B) Lacks a decision criterion that is economically based.
C) It is difficult to calculate.
D) It does not consider cash flows occurring after the payback period.
Q2) What is a safe method to use when confronted with mutually exclusive projects?
Q3) What can you comment about the shape of the net present value (NPV) profile of a multiple IRR project?
Q4) The Net Present Value rule implies that we should compare a project's net present value (NPV) to zero.
A)True
B)False
Q5) When different investment rules give conflicting answers, then decisions should be based on the Net Present Value rule, as it is the most reliable and accurate decision rule.
A)True
B)False
Q6) What is the Net Present Value rule?
Q7) What is the decision criterion using the Net Present Value rule?
Q8) What is the decision criterion while using the payback rule?
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Chapter 9: Fundamentals of Capital Budgeting
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Q1) Cameron Industries is purchasing a new chemical vapor depositor in order to make silicon chips. It will cost $6 million to buy the machine and $10,000 to have it delivered and installed. Building a clean room in the plant for the machine will cost an additional $3 million. The machine is expected to have a working life of six years. Which of these activities will be reported as an operating expense?
A) the delivery and install cost only
B) the cost of the depositor only
C) the delivery and install cost and the cost of the depositor
D) None of these costs should be reported an an operating expense.
Q2) A firm reports that in a certain year it had a net income of $5.0 million, depreciation expenses of $3.0 million, capital expenditures of $2.0 million, and Net Working Capital decreased by $1.1 million. What is the firm's free cash flow for that year?
A) $11.1 million
B) $7.1 million
C) $5.1 million
D) $4.9 million
Q3) How do we handle interest expense when making a capital budgeting decision?
Q4) What do you understand by break-even analysis?
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Chapter 10: Stock Valuation: a Second Look
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Q1) Which of the following statements is FALSE?
A) The most common valuation multiple is the price-earnings ratio.
B) You should be willing to pay proportionally more for a stock with lower current earnings.
C) A firm's price-earnings ratio is equal to the share price divided by its earnings per share.
D) The intuition behind the use of the price-earnings ratio is that when you buy a stock, you are in a sense buying the rights to the firm's future earnings, and differences in the scale of firms' earnings are likely to persist.
Q2) Individual investors who grow up and live during a time of high stock returns are more likely to invest in stocks.
A)True
B)False
Q3) In the method of comparables, the known values of a firm's cash flows are used to estimate the unknown cash flows of a similar firm.
A)True
B)False
Q4) Which is the best valuation technique when using comparables?
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Page 12
Chapter 11: Risk and Return in Capital Markets
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Q1) The risk that is linked across outcomes is called ________.
A) diversifiable risk
B) common risk
C) uncorrelated risk
D) independent risk
Q2) On average, stocks have delivered higher returns than bonds in the long run.
A)True
B)False
Q3) If the Federal Reserve were to change from an expansionary to a contractionary monetary policy, this would be an example of ________.
A) unsystematic risk
B) systematic risk
C) independent risk
D) diversification risk
Q4) When looking at investment portfolios historically, was there a pattern between returns and volatility?
Q5) What are the two components of realized return from a stock investment?
Q6) What is the diversification achieved by an investor if he invests in Exxon Mobil, Dell, and Bank of America?
Page 13
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Chapter 12: Systematic Risk and the Equity Risk Premium
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Q1) Why should an investor invest in a negative-beta stock knowing that it will have an expected return lower than the risk-free rate?
Q2) Suppose you invest $20,000 by purchasing 200 shares of Abbott Labs (ABT) at $50 per share, 200 shares of Lowes (LOW) at $30 per share, and 100 shares of Ball Corporation (BLL) at $40 per share. Suppose over the next year Ball has a return of 12.5%, Lowes has a return of 21%, and Abbott Labs has a return of -10%. The return on your portfolio over the year is ________.
A) 0%
B) 7.6%
C) 3.8%
D) 5.7%
Q3) If you build a large enough portfolio, you can diversify away all ________ risk, but you will be left with ________ risk.
A) diversifiable, unsystematic
B) unsystematic, systematic
C) systematic, undiversifiable
D) undiversifiable, diversifiable
Q4) How does the S&P 500 index rank in terms of number and market capitalization of U.S. public firms?
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Chapter 13: The Cost of Capital
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Q1) Assume SAP Inc. received a $2 million grant under its Small Business Innovation program. SAP invested the grant money and developed a system to remove metal contaminants from storm water in shipyards. The firm estimates that each shipyard spends $600,000 a year on storm water clean-up efforts. If SAP is able to sign up and retain four shipyards from the first year onwards, what is the present value (PV) of the project (net of investment) if the cost of capital for SAP is 14% per year? Assume a cost of operations and other costs for SAP equal 60% of revenue.
A) $3.89 million
B) $4.13 million
C) $4.86 million
D) $5.10 million
Q2) For an unlevered firm, the cost of capital can be determined by using the
A) yield on the traded debt
B) Capital Asset Pricing Model
C) dividend yield
D) preferred stock yield
Q3) Why do we use market values rather than book values in calculation of WACC?
Q4) Should a firm with high retained earnings have a lower cost of equity?
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Chapter 14: Raising Equity Capital
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Q1) As part of the registration statement, the preliminary prospectus circulates to investors before the stock is offered. This preliminary prospectus is also called a(n)
A) IPO filing
B) 10-K filing
C) blue whale
D) red herring
Q2) Which of the following statements is FALSE?
A) More often than not, firms return to the equity markets and offer new shares for sale, a type of offering called a seasoned equity offering (SEO).
B) Usually, profitable growth opportunities occur throughout the life of a firm, and in some cases it is not feasible to finance these opportunities out of retained earnings.
C) When a firm issues stock using an SEO, it follows many of the same steps as for an IPO. The main difference is that a market price for the stock already exists, so the price-setting process is not necessary.
D) A firm's need for outside capital usually ends at the IPO.
Q3) What is the general long-run performance of an IPO?
Q4) How do the transaction costs of IPO puzzle financial economists?
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Page 16
Chapter 15: Debt Financing
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Q1) A firm issues $225 million in straight bonds at an original issue discount of 2.0% and a coupon rate of 6%. The firm pays fees of 4% on the face value of the bonds. The net amount of funds that the debt issue will provide for the firm is ________.
A) $200.925 million
B) $211.5 million
C) $222.075 million
D) $232.65 million
Q2) By definition, a preferred stock is a form of debt security.
A)True
B)False
Q3) In terms of public offerings of bonds, what is an indenture?
A) a list of the duties of a trust company representing the bondholders' interests
B) a memorandum that must be produced to describe the details of a bond offering
C) a formal contract that specifies a firm's obligations to the bondholders
D) a schedule of the fees charged by an underwriting company
Q4) Bond covenants tend to increase a bond issuer's borrowing costs.
A)True
B)False
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Chapter 16: Capital Structure
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Q1) The presence of financial distress costs can explain why firms choose debt levels that are too low to exploit the interest tax shield.
A)True
B)False
Q2) A firm requires an investment of $30,000 and borrows $20,000 at 9%. If the return on equity is 15% and the tax rate is 30%, what is the firm's WACC?
A) 9.20%
B) 7.36%
C) 11.04%
D) 18.40%
Q3) Investment cash flows are independent of financing choices in a ________.
A) market with frictions
B) perfect capital market
C) setting with frictions in investment returns
D) firm with leverage
Q4) What are the issues in determining the optimal leverage for a firm?
Q5) What are direct costs of financial distress?
Q6) What role do industries play in the capital structure choice for a firm?
Q7) What are the issues in determining the present value (PV) of financial distress?
Page 18
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Chapter 17: Payout Policy
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Q1) Omicron Technologies has $60 million in excess cash and no debt. The firm expects to generate additional free cash flows of $48 million per year in subsequent years and will pay out these future free cash flows as regular dividends. Omicron's unlevered cost of capital is 10% and there are 12 million shares outstanding. Omicron's board is meeting to decide whether to pay out its $60 million in excess cash as a special dividend or to use it to repurchase shares of the firm's stock. Omicron's enterprise value is closest to
A) $384.00 million
B) $576.00 million
C) $960.00 million
D) $480.00 million
Q2) The share price falls when a dividend is paid because the reduction in cash decreases the ________.
A) liabilities of the firm
B) current account of the firm
C) market value of assets
D) equity of the firm
Q3) What is the general trend of dividend payments of U.S. corporations over the last few decades?
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Page 19
Chapter 18: Financial Modeling and Pro Forma Analysis
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Q1) Is total net working capital or incremental net working capital more relevant for calculation of free cash flow?
Q2) A services firm does all its business in cash only. The firm projects a cash balance of $2,000 in its account after all taxes and costs are paid. The owners plan to invest $5,000 and pay a dividend of $1000. How much net new financing is needed?
A) $4,000
B) $5,000
C) $6,000
D) $7,000
Q3) What is the free cash flow to equity holders for a firm with free cash flow of $7000, after-tax interest expense of $1,000, and an increase in debt of $3,000?
A) $6,000
B) $7,000
C) $8,000
D) $9,000
Q4) What are a firm's options when it generates more cash than planned?
Q5) How do we know if expansion is a good idea for the firm?
Q6) What is common starting point for forecasting?
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Chapter 19: Working Capital Management
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Q1) Which of the following statements is FALSE?
A) Firms may hold inventory because factors such as seasonality in demand mean that customer purchases do not perfectly match the most efficient production cycle.
B) Inventory helps minimize the risk that the firm will not be able to obtain an input it needs for production.
C) If a firm holds too much inventory, stock-outs, the situation when a firm runs out of product, may occur, leading to lost sales.
D) Because excessive inventory uses cash, efficient management of inventory increases firm value.
Q2) Effective inventory management builds up assets through increases in inventory and thus increases a firm's value.
A)True
B)False
Q3) The three steps in establishing a credit policy are establishing credit standards, establishing credit terms, and establishing a collection policy.
A)True B)False
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Chapter 20: Short-Term Financial Planning
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Q1) In which quarter are Fancy's seasonal working capital needs the greatest?
A) 1
B) 2
C) 3
D) 4
Q2) Tropic Fruit Preserves wants to borrow $4 million for two months. It uses its inventory as collateral for a 15% (APR compounded monthly) loan under a warehouse arrangement where the warehouse fee is $18,000 paid at the end of the two months. What is the EAR of this loan for Tropic Fruit Preserves?
A) 3.2%
B) 7.8%
C) 15.5%
D) 19.2%
Q3) The temporary working capital needs for Hasbeen Toys in quarter 3 is closest to ________.
A) $845 million
B) $0 million
C) $770 million
D) $340 million
Q4) What do we understand by negative cash flow shocks?
Page 22
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Chapter 21: Option Applications and Corporate Finance
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Q1) Assume you want to buy one options contract that with an exercise price closest to being at-the-money and that expires January 2009. The current price that you would have to pay for such a contract is ________.
A) $680
B) $380
C) $650
D) $420
Q2) Consider the following equation: C = P + S - PV(K) - PV(Div)
In this equation, what does the term S represent?
A) the payoff of a zero-coupon bond
B) the strike price of the option
C) the value of the call option
D) the stock's current price
Q3) ________ 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) None of the above
Q4) When is an option in-the-money?
23
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Chapter 22: Mergers and Acquisitions
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Q1) Consider two firms, Thither and Yon. Both companies will either make $30 million or lose $10 million every year with equal probability. The companies' profits are perfectly negatively correlated. What are the expected after-tax profits of the combined company (Thither and Yon) in any year, assuming a corporate tax rate of 35% and no tax loss carry back or carry forward?
A) $19.5 million
B) $6.5 million
C) $4.75 million
D) -$6.5 million
Q2) The period of the ________ is known for known for "strategic" or "global" deals that were more likely to be friendly and to involve companies in related businesses; these mergers often were designed to create strong firms on a scale that would allow them to compete globally.
A) 1960s
B) 1970s
C) 1980s
D) 1990s
Q3) Assume that Martin pays no premium to acquire Luther. Calculate Martin's price-earnings (P/E) ratio both pre and post merger.
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Chapter 23: International Corporate Finance
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Q1) The amount of the taxes paid in dollars for the Irish operations is closest to
A) $20.5 million
B) $5.1 million
C) $29.5 million
D) $50.0 million
Q2) A(n) ________ market is one where an investor can exchange any currency in any amount at the spot rate or forward rate and is free to purchase or sell any security in any amount in any country at their current market prices.
A) financial
B) limit order
C) internationally integrated capital
D) over-the-counter
Q3) One British pound can be purchased for $1.90. What is the exchange rate in terms of pounds per dollar?
A) £0.451
B) £0.491
C) £0.526
D) £0.543
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Chapter 24: Leasing
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Q1) 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
Q2) Which of the following statements is FALSE?
A) In a direct lease, the lessor is the manufacturer (or a primary dealer) of the asset.
B) The lease specifies any cancellation provisions, the options for renewal and purchase, and the obligations for maintenance and related servicing costs.
C) If a firm already owns an asset it would prefer to lease, it can arrange a sale and leaseback transaction.
D) With many leases, the lessor provides the initial capital necessary to purchase the asset, and then receives and retains the lease payments.
Q3) In the chapter, the lease versus buy decision was called an unfair comparison. Why? What is the correct comparison?
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Chapter 25: Insurance and Risk Management
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Q1) Which of the following statements is FALSE?
A) Corporations use interest rate swaps routinely to alter their exposure to interest rate fluctuations.
B) The value of a swap, while initially zero, will fluctuate over time as interest rates change.
C) An interest rate that adjusts to current market conditions is called a floating rate.
D) When interest rates rise, the swap's value will rise for the party receiving the fixed rate; conversely, it will fall for the party paying the fixed rate.
Q2) The duration of a five-year bond with 8% annual coupons trading at par is closest to ________.
A) 2.5 years
B) 4.3 years
C) 5.0 years
D) 6.2 years
Q3) What are some of the disadvantages of long-term supply contracts?
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?
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Chapter 26: Corporate Governance
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Sample Questions
Q1) Directors who are not employees, former employees, or family members of employees and who do not have existing or potential business relationships with the firm are called ________.
A) monitoring directors
B) independent directors
C) gray directors
D) inside directors
Q2) How does a pyramid structure work?
Q3) Which of the following statements is FALSE?
A) Increasing the pay-for-performance sensitivity comes with the added benefit of reducing managers' risk.
B) Stock and option grants give managers a direct incentive to increase the stock price to make their stock or options as valuable as possible.
C) By tying compensation to performance, the shareholders effectively give the manager an ownership stake in the firm.
D) During the 1990s, most companies adopted compensation policies that more directly gave managers an ownership stake by including grants of stock or stock options to executives.
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