Financial Analysis
Exam Review
Course Introduction
Financial Analysis is designed to provide students with a comprehensive understanding of the principles and techniques used to evaluate the financial health and performance of businesses. The course covers key topics such as ratio analysis, trend analysis, cash flow analysis, and financial statement interpretation. Students will learn how to assess profitability, liquidity, solvency, and efficiency using real-world financial data, and how to apply analytical skills for strategic decision-making. Through case studies and practical exercises, participants will develop the ability to critically analyze financial statements and report findings effectively to stakeholders.
Recommended Textbook
Financial Management Theory and Practice 14th Edition by Eugene F. Brigham
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Page 2
Chapter 1: An Overview of Financial Management and the Financial Environment
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Sample Questions
Q1) There are three primary disadvantages of a regular partnership: (1)unlimited liability, (2)limited life of the organization,and (3)difficulty of transferring ownership.These combine to make it difficult for partnerships to attract large amounts of capital and thus to grow to a very large size.
A)True
B)False
Answer: True
Q2) Suppose the U.S.Treasury announces plans to issue $50 billion of new bonds.Assuming the announcement was not expected,what effect,other things held constant,would that have on bond prices and interest rates?
A) Prices and interest rates would both rise.
B) Prices would rise and interest rates would decline.
C) Prices and interest rates would both decline.
D) There would be no changes in either prices or interest rates.
E) Prices would decline and interest rates would rise.
Answer: E
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3
Chapter 2: Financial Statements, cash Flow, and Taxes
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Q1) Bae Inc.has the following income statement.How much net operating profit after taxes (NOPAT)does the firm have? \[\begin{array} { l r r }
\text { Sales } & & \$ 2,000.00 \\
\text { Costs } & & 1,200.00 \\
\hline \text { Depreciation } && 100.00 \\
\text { EBIT }& \$ & 700.00 \\
\hline \text { Interest exgense } & & 200.00 \\
\text { EBT }& \$ & 500.00 \\
\text { Taxes (35\%) }& & 175.00 \\
\text { Net income } & & \$ &325.00
\end{array}\]
A) $370.60
B) $390.11
C) $410.64
D) $432.25
E) $455.00
Answer: E
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Chapter 3: Analysis of Financial Statements
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Sample Questions
Q1) Lincoln Industries' current ratio is 0.5.Considered alone,which of the following actions would increase the company's current ratio?
A) Use cash to reduce long-term bonds outstanding.
B) Borrow using short-term notes payable and use the cash to increase inventories.
C) Use cash to reduce accruals.
D) Use cash to reduce accounts payable.
E) Use cash to reduce short-term notes payable.
Answer: B
Q2) Cordelion Communications is considering issuing new common stock and using the proceeds to reduce its outstanding debt.The stock issue would have no effect on total assets,the interest rate Cordelion pays,EBIT,or the tax rate.Which of the following is likely to occur if the company goes ahead with the stock issue?
A) The times interest earned ratio will decrease.
B) The ROA will decline.
C) Taxable income will decrease.
D) The tax bill will increase.
E) Net income will decrease.
Answer: D
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Page 5
Chapter 4: Time Value of Money
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Sample Questions
Q1) A time line is meaningful even if all cash flows do not occur annually.
A)True
B)False
Q2) Which of the following statements is CORRECT?
A) If CF<sub>0</sub> is positive and all the other CFs are negative, then you cannot solve for I.
B) If you have a series of cash flows, each of which is positive, you can solve for I, where the solution value of I causes the PV of the cash flows to equal the cash flow at Time 0.
C) If you have a series of cash flows, and CF<sub>0</sub> is negative but each of the following CFs is positive, you can solve for I, but only if the sum of the undiscounted cash flows exceeds the cost.
D) To solve for I, one must identify the value of I that causes the PV of the positive CFs to equal the absolute value of the PV of the negative CFs. This is, essentially, a trial-and-error procedure that is easy with a computer or financial calculator but quite difficult otherwise.
E) If you solve for I and get a negative number, then you must have made a mistake.
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Chapter 5: Bonds, bond Valuation, and Interest Rates
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Q1) The desire for floating-rate bonds,and consequently their increased usage,arose out of the experience of the early 1980s,when inflation pushed interest rates up to very high levels and thus caused sharp declines in the prices of outstanding bonds.
A)True
B)False
Q2) Which of the following statements is CORRECT?
A) An indenture is a bond that is less risky than a mortgage bond.
B) The expected return on a corporate bond will generally exceed the bond's yield to maturity.
C) If a bond's coupon rate exceeds its yield to maturity, then its expected return to investors exceeds the yield to maturity.
D) Under our bankruptcy laws, any firm that is in financial distress will be forced to declare bankruptcy and then be liquidated.
E) All else equal, senior debt generally has a lower yield to maturity than subordinated debt.
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7
Chapter 6: Risk and Return
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Q1) The slope of the SML is determined by investors' aversion to risk.The greater the average investor's risk aversion,the steeper the SML.
A)True
B)False
Q2) Stocks A and B are quite similar: Each has an expected return of 12%,a beta of 1.2,and a standard deviation of 25%.The returns on the two stocks have a correlation of 0.6.Portfolio P has 50% in Stock A and 50% in Stock B.Which of the following statements is CORRECT?
A) Portfolio P has a standard deviation that is greater than 25%.
B) Portfolio P has an expected return that is less than 12%.
C) Portfolio P has a standard deviation that is less than 25%.
D) Portfolio P has a beta that is less than 1.2.
E) Portfolio P has a beta that is greater than 1.2.
Q3) A stock's beta is more relevant as a measure of risk to an investor who holds only one stock than to an investor who holds a well-diversified portfolio.
A)True B)False
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Page 8
Chapter 7: Valuation of Stocks and Corporations
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Sample Questions
Q1) Which of the following statements is CORRECT,assuming stocks are in equilibrium?
A) Assume that the required return on a given stock is 13%. If the stock's dividend is growing at a constant rate of 5%, its expected dividend yield is 5% as well.
B) A stock's dividend yield can never exceed its expected growth rate.
C) A required condition for one to use the constant growth model is that the stock's expected growth rate exceeds its required rate of return.
D) Other things held constant, the higher a company's beta coefficient, the lower its required rate of return.
E) The dividend yield on a constant growth stock must equal its expected total return minus its expected capital gains yield.
Q2) Founders' shares are a type of classified stock where the shares are owned by the firm's founders,and they generally have more votes per share than the other classes of common stock.
A)True
B)False
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Chapter 8: Financial Options and Applications in Corporate Finance
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Q1) Which of the following statements is most correct,holding other things constant,for XYZ Corporation's traded call options?
A) The higher the strike price on XYZ's options, the higher the option's price will be.
B) Assuming the same strike price, an XYZ call option that expires in one month will sell at a higher price than one that expires in three months.
C) If XYZ's stock price stabilizes (becomes less volatile), then the price of its options will increase.
D) If XYZ pays a dividend, then its option holders will not receive a cash payment, but the strike price of the option will be reduced by the amount of the dividend.
E) The price of these call options is likely to rise if XYZ's stock price rises.
Q2) The exercise value is the positive difference between the current price of the stock and the strike price.The exercise value is zero if the stock's price is below the strike price.
A)True
B)False
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Chapter 9: The Cost of Capital
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Sample Questions
Q1) The cost of capital used in capital budgeting should reflect the average cost of the various sources of long-term funds a firm uses to acquire assets.
A)True
B)False
Q2) With its current financial policies,Flagstaff Inc.will have to issue new common stock to fund its capital budget.Since new stock has a higher cost than reinvested earnings,Flagstaff would like to avoid issuing new stock.Which of the following actions would REDUCE its need to issue new common stock?
A) Increase the percentage of debt in the target capital structure.
B) Increase the proposed capital budget.
C) Reduce the amount of short-term bank debt in order to increase the current ratio.
D) Reduce the percentage of debt in the target capital structure.
E) Increase the dividend payout ratio for the upcoming year.
Q3) If a firm's marginal tax rate is increased,this would,other things held constant,lower the cost of debt used to calculate its WACC.
A)True
B)False
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Chapter 10: The Basics of Capital Budgeting: Evaluating Cash Flows
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Sample Questions
Q1) If the IRR of normal Project X is greater than the IRR of mutually exclusive (and also normal)Project Y,we can conclude that the firm should always select X rather than Y if X has NPV > 0.
A)True
B)False
Q2) Which of the following statements is CORRECT? Assume that the project being considered has normal cash flows,with one outflow followed by a series of inflows.
A) A project's regular IRR is found by discounting the cash inflows at the WACC to find the present value (PV), then compounding this PV to find the IRR.
B) If a project's IRR is greater than the WACC, then its NPV must be negative.
C) To find a project's IRR, we must solve for the discount rate that causes the PV of the inflows to equal the PV of the project's costs.
D) To find a project's IRR, we must find a discount rate that is equal to the WACC.
E) A project's regular IRR is found by compounding the cash inflows at the WACC to find the terminal value (TV), then discounting this TV at the WACC.
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Chapter 11: Cash Flow Estimation and Risk Analysis
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Sample Questions
Q1) McLeod Inc.is considering an investment that has an expected return of 15% and a standard deviation of 10%.What is the investment's coefficient of variation?
A) 0.67
B) 0.73
C) 0.81
D) 0.89
E) 0.98
Q2) Although it is extremely difficult to make accurate forecasts of the revenues that a project will generate,projects' initial outlays and subsequent costs can be forecasted with great accuracy.This is especially true for large product development projects.
A)True
B)False
Q3) Because of improvements in forecasting techniques,estimating the cash flows associated with a project has become the easiest step in the capital budgeting process. A)True
B)False
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13
Chapter 12: Corporate Valuation and Financial Planning
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Q1) Which of the following statements is CORRECT?
A) Suppose a firm is operating its fixed assets at below 100% of capacity, but it has no excess current assets. Based on the AFN equation, its AFN will be larger than if it had been operating with excess capacity in both fixed and current assets.
B) If a firm retains all of its earnings, then it cannot require any additional funds to support sales growth.
C) Additional funds needed (AFN) are typically raised using a combination of notes payable, long-term debt, and common stock. Such funds are non-spontaneous in the sense that they require explicit financing decisions to obtain them.
D) If a firm has a positive free cash flow, then it must have either a zero or a negative AFN.
E) Since accounts payable and accrued liabilities must eventually be paid off, as these accounts increase, AFN as calculated by the AFN equation must also increase.
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Chapter 13: Agency Conflicts and Corporate Governance
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Sample Questions
Q1) The CEO of D'Amico Motors has been granted some stock options that have provisions similar to most other executive stock options.If D'Amico's stock underperforms the market,these options will necessarily be worthless.
A)True
B)False
Q2) ESOPs were originally designed to help improve worker productivity,but today they are also used to help prevent hostile takeovers.
A)True
B)False
Q3) A poison pill is also known as a corporate restructuring.
A)True
B)False
Q4) Which of the following is NOT normally regarded as being a good reason to establish an ESOP?
A) To enable the firm to borrow at a below-market interest rate.
B) To make it easier to grant stock options to employees.
C) To help prevent a hostile takeover.
D) To help retain valued employees.
E) To increase worker productivity.
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Chapter 14: Distributions to Shareholders: Dividends and Repurchases
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Sample Questions
Q1) If a firm adheres strictly to the residual dividend policy,then if its optimal capital budget requires the use of all earnings for a given year (along with new debt according to the optimal debt/total assets ratio),then the firm should pay
A) no dividends to common stockholders.
B) dividends only out of funds raised by the sale of new common stock.
C) dividends only out of funds raised by borrowing money (i.e., issue debt).
D) dividends only out of funds raised by selling off fixed assets.
E) no dividends except out of past retained earnings.
Q2) Grandin Inc.is evaluating its dividend policy.It has a capital budget of $625,000,and it wants to maintain a target capital structure of 60% debt and 40% equity.The company forecasts a net income of $475,000.If it follows the residual dividend policy,what is its forecasted dividend payout ratio?
A) 40.61%
B) 42.75%
C) 45.00%
D) 47.37%
E) 49.74%
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Page 16
Chapter 15: Capital Structure Decisions
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Q1) Which of the following statements best describes the optimal capital structure? The optimal capital structure is the mix of debt,equity,and preferred stock that maximizes the company's ____.
A) stock price.
B) cost of equity.
C) cost of debt.
D) cost of preferred stock.
E) earnings per share (EPS).
Q2) Two operationally similar companies,HD and LD,have the same total assets,operating income (EBIT),tax rate,and business risk.Company HD,however,has a much higher debt ratio than LD.Also HD's basic earning power (BEP)exceeds its cost of debt (r<sub>d</sub>).Which of the following statements is CORRECT?
A) HD should have a higher times interest earned (TIE) ratio than LD.
B) HD should have a higher return on equity (ROE) than LD, but its risk, as measured by the standard deviation of ROE, should also be higher than LD's.
C) Given that BEP > r<sub>d</sub>, HD's stock price must exceed that of LD.
D) Given that BEP > r<sub>d</sub>, LD's stock price must exceed that of HD.
E) HD should have a higher return on assets (ROA) than LD.
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Page 17
Chapter 16: Supply Chains and Working Capital Management
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Q1) Thornton Universal Sales' cost of goods sold (COGS)average $2,000,000 per month,and it keeps inventory equal to 50% of its monthly COGS on hand at all times.Using a 365-day year,what is its inventory conversion period?
A) 11.7 days
B) 13.0 days
C) 14.4 days
D) 15.2 days
E) 16.7 days
Q2) For a firm that makes heavy use of net float,being able to forecast collections and disbursement check clearings is essential.
A)True
B)False
Q3) If a firm has set up a revolving credit agreement with a bank,the risk to the firm of being unable to obtain funds when needed is lower than if it had an informal line of credit.
A)True B)False
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Page 18
Chapter 17: Multinational Financial Management
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Q1) A box of chocolate candy costs 28.80 Swiss francs in Switzerland and $20 in the United States.Assuming that purchasing power parity (PPP)holds,what is the current exchange rate?
A) 1 U.S. dollar equals 0.69 Swiss francs
B) 1 U.S. dollar equals 0.85 Swiss francs
C) 1 U.S. dollar equals 1.21 Swiss francs
D) 1 U.S. dollar equals 1.29 Swiss francs
E) 1 U.S. dollar equals 1.44 Swiss francs
Q2) If the United States is running a deficit trade balance with China,then in a free market we would expect the value of the Chinese yuan to depreciate against the U.S.dollar.
A)True
B)False
Q3) Calculating a currency cross rate involves determining the exchange rate for two currencies by using a third currency as a base.
A)True
B)False
Q4) A Eurodollar is a U.S.dollar deposited in a bank outside the United States. A)True
B)False
Page 19
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Q1) Which of the following factors would increase the likelihood that a company would call its outstanding bonds at this time?
A) A provision in the bond indenture lowers the call price on specific dates, and yesterday was one of those dates.
B) The flotation costs associated with issuing new bonds rise.
C) The firm's CFO believes that interest rates are likely to decline in the future.
D) The firm's CFO believes that corporate tax rates are likely to be increased in the future.
E) The yield to maturity on the company's outstanding bonds increases due to a weakening of the firm's financial situation.
Q2) The term "leaving money on the table" refers to the situation where an investment banking house makes a very low bid for the right to underwrite a firm's new stock offering.The banker is,in effect,"buying the job" with the low bid and thus not getting all the money his firm would normally earn on the job.
A)True
B)False
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Page 20
Chapter 18: Extension 18 A: Rights Offerings
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Q1) To finance the construction of a new plant,Pietersen Corporation must raise an additional $10,000,000 of equity capital through the sale of common stock.The firm currently has an EPS of $5.40 and a P/E ratio of 10,with 1,200,000 shares outstanding.If the firm wants its ex-rights price to be $50,what subscription price must it set on the new shares?
A)$29.55
B)$33.78
C)$39.28
D)$41.80
E)$50.00
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21
Chapter 19: Lease Financing
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Q1) Under a sale and leaseback arrangement,the seller of the leased property is the lessee and the buyer is the lessor.
A)True
B)False
Q2) Many leases written today combine the features of operating and financial leases.Such leases are often called "combination leases."
A)True
B)False
Q3) Leasing is typically a financing decision and not a capital budgeting decision.Thus,the availability of lease financing cannot affect the size of the capital budget.
A)True
B)False
Q4) The full amount of a lease payment is tax deductible provided the contract qualifies as a true lease under IRS guidelines.
A)True
B)False
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Chapter 20: Hybrid Financing: Preferred Stock, warrants, and Convertibles
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Q1) The "preferred" feature of preferred stock means that it normally will provide a higher expected return than will common stock.
A)True
B)False
Q2) The common stock of Southern Airlines currently sells for $33,and its 8% convertible debentures (issued at par,or $1,000)sell for $850.Each debenture can be converted into 25 shares of common stock at any time before 2025.What is the conversion value of the bond?
A) $707.33
B) $744.56
C) $783.75
D) $825.00
E) $866.25
Q3) Preferred stock can provide a financing alternative for some firms when market conditions are such that they cannot issue either pure debt or common stock at any reasonable cost.
A)True
B)False
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Chapter 21: Dynamic Capital Structures
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Q1) MM showed that in a world without taxes,a firm's value is not affected by its capital structure.
A)True
B)False
Q2) The Miller model begins with the MM model with taxes and then adds personal taxes.
A)True
B)False
Q3) MM showed that in a world with taxes,a firm's optimal capital structure would be almost 100% debt.
A)True
B)False
Q4) According to MM,in a world without taxes the optimal capital structure for a firm is approximately 100% debt financing.
A)True
B)False
Q5) The MM model is the same as the Miller model,but with zero corporate taxes.
A)True
B)False
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Chapter 22: Mergers and Corporate Control
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Q1) Which of the following statements is most CORRECT?
A) Regulations in the United States prohibit acquiring firms from using common stock to purchase another firm.
B) Defensive mergers are designed to make a company less vulnerable to a takeover.
C) Hostile mergers always create value for the acquiring firm.
D) In a tender offer, the target firm's management always remain after the merger is completed.
E) A conglomerate merger is one where a firm combines with another firm in the same industry.
Q2) In a merger with true synergies,the post-merger value exceeds the sum of the separate companies' pre-merger values.
A)True
B)False
Q3) A conglomerate merger occurs when two firms with either a horizontal or a vertical business relationship combine.
A)True
B)False
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Chapter 23: Enterprise Risk Management
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Q1) Suppose the December CBOT Treasury bond futures contract has a quoted price of 80'07.If annual interest rates go up by 1.00 percentage point,what is the gain or loss on the futures contract? (Assume a $1,000 par value,and round to the nearest whole dollar.)
A)-$78.00
B) -$82.00
C) -$86.00
D) -$90.00
E) -$95.00
Q2) In theory,reducing the volatility of its cash flows will always increase a company's value.
A)True B)False
Q3) One objective of risk management can be to reduce the volatility of a firm's cash flows.
A)True B)False
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Chapter 24: Bankruptcy, reorganization, and Liquidation
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Q1) Which of the following statements is most CORRECT?
A) Federal bankruptcy law deals only with corporate bankruptcies. Municipal and personal bankruptcy are governed solely by state laws.
B) All bankruptcy petitions are filed by creditors seeking to protect their claims against firms in financial distress. Thus, all bankruptcy petitions are involuntary as viewed from the perspective of the firm's management.
C) Chapters 11 and 7 are the most important bankruptcy chapters for financial management purposes. If a reorganization plan cannot be worked out under Chapter 11, then the company will be liquidated as prescribed in Chapter 7 of the Act.
D) "Restructuring" a firm's debt can involve forgiving a certain portion of the debt, but it cannot call for changing the debt's maturity or its contractual interest rate.
E) Our bankruptcy laws were enacted in the 1800s, revised in the 1930s, and have remained unaltered since that time.
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Chapter 25: Portfolio Theory and Asset Pricing Models
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Q1) If the returns of two firms are negatively correlated,then one of them must have a negative beta.
A)True
B)False
Q2) Which of the following statements is CORRECT?
A) The slope of the CML is (S1U1B1MS1U1B0 -rS1U1B1RFS1U1B0)/bS1U1B1MS1U1B0.
B) All portfolios that lie on the CML to the right of -MS1U1B0 are inefficient.
C) All portfolios that lie on the CML to the left of -S1U1B1MS1U1B0 are inefficient.
D) The slope of the CML is (S1U1B1MS1U1B0 - rS1U1B1RFS1U1B0)/ \(\sigma\)S1U1B1MS1U1B0.
E) The Capital Market Line (CML) is a curved line that connects the risk-free rate and the market portfolio.
Q3) A stock with a beta equal to -1.0 has zero systematic (or market)risk.
A)True
B)False
Q4) The slope of the SML is determined by the value of beta.
A)True
B)False
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Chapter 26: Real Options
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Q1) Which of the following will NOT increase the value of a real option?
A) An increase in the volatility of the underlying source of risk.
B) An increase in the risk-free rate.
C) An increase in the cost of obtaining the real option.
D) A decrease in the probability that a competitor will enter the market of the project in question.
E) Lengthening the time in which a real option must be exercised.
Q2) The option to abandon a project is a real option,but a call option on a stock is not a real option.
A)True B)False
Q3) Real options affect the size,but not the risk,of a project's expected cash flows.
A)True B)False
Q4) Real options exist when managers have the opportunity,after a project has been implemented,to make operating changes in response to changed conditions that modify the project's cash flows.
A)True B)False
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Chapter 27: Providing and Obtaining Credit
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Sample Questions
Q1) Sunnydale Organics,Inc.harvests crops in roughly 90-day cycles based on a 360-day year.The firm receives payment from its harvests sometime after shipment.Due in part to the firm's rapid growth,it has been borrowing to finance its harvests using 90-day bank notes on which the firm pays 12 percent discount interest.If the firm requires $60,000 in proceeds from each note,what must be the face value of each note?
A) $61,856
B) $67,531
C) $60,000
D) $68,182
E) $67,423
Q2) When deciding whether to offer a discount for cash payment,a firm must balance the profits from additional sales with the lost revenues from the discount.
A)True
B)False
Q3) If sales are seasonal,the days sales outstanding will fluctuate from month to month,even if the amount of time customers take to pay remains unchanged.
A)True
B)False
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Chapter 28: Advanced Issues in Cash Management and Inventory Control
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Sample Questions
Q1) Which of the following is true of the EOQ model? Note that the optimal order quantity,Q,will be called EOQ.
A) If the annual sales, in units, increases by 20%, then EOQ will increase by 20%.
B) If the average inventory increases by 20%, then the total carrying costs will increase by 20%.
C) If the average inventory increases by 20% the total order costs will increase by 20%.
D) The EOC is the same for all companies.
E) If the fixed per order cost increases by 20%, then EOQ will increase by 20%.
Q2) A just-in-time system is designed to stretch accounts payable as long as possible. A)True
B)False
Q3) The cash balances of most firms consist of transactions,compensating,precautionary,and speculative balances.We can produce a total desired cash balance by calculating the amount needed for each purpose and then summing them together.
A)True
B)False
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Page 31
Chapter 29: Pension Plan Management
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Sample Questions
Q1) Which of the following statements about defined contribution plans is incorrect?
A) In general, employees can choose the investment vehicle under a defined contribution plan. Thus, highly risk-averse employees can choose low-risk investments, while more risk-tolerant employees can choose high-risk investments.
B) In a defined contribution plan, the employer must make larger-than-average contributions to the pension plan when investment returns have been below expectations.
C) Defined benefit plans are used more often by large corporations than by small companies.
D) The PBGC insures a portion of pension benefits.
E) A defined contribution plan places the risk of poor pension portfolio performance on the employee.
Q2) The performance measurement of stock portfolio managers must recognize the risk inherent in the investment portfolio.One way to incorporate risk into performance measurement is to examine the portfolio's alpha,which measures the vertical distance of the portfolio's return above or below the Security Market Line.
A)True
B)False
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Chapter 30: Financial Management in Not For Profit
Businesses
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Sample Questions
Q1) Not-for-profit firms have fund capital in place of equity capital.Since fund capital does not have to provide a return to stockholders,the appropriate cost of fund capital in a cost of capital estimate is zero.
A)True B)False
Q2) Which of the following statements about a not-for-profit firm's fund capital is most correct?
A) The sole source of fund capital is the excess of revenues over expenses.
B) Fund capital has a zero opportunity cost.
C) Fund capital can only come from donations.
D) Fund capital does not change over time.
E) Fund capital is equivalent to equity capital in investor-owned firms.
Q3) The net present social value model formally recognizes that not-for-profit firms must consider the social value along with the financial value of proposed new projects. A)True B)False
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