Financial Decision Making Test
Preparation
Course Introduction
Financial Decision Making explores the principles and practices that guide sound financial choices in both personal and organizational contexts. This course covers fundamental concepts such as time value of money, risk and return, capital budgeting, financial statement analysis, and investment strategies. Students learn to evaluate financial information, assess alternatives, and make decisions that align with strategic goals. Through case studies and real-world scenarios, the course prepares students to identify financial opportunities, manage resources efficiently, and understand the broader impact of financial decisions on business performance and sustainability.
Recommended Textbook Fundamentals of Corporate Finance 3rd Eition by Jonathan Berk
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Page 2
Chapter 1: Corporate Finance and the Financial Manager
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Q1) A C corporation earns $4.30 per share before taxes. The corporate tax rate is 35%, the personal tax rate on dividends is 20%, and the personal tax rate on non-dividend income is 39%. What is the total amount of taxes paid if the company pays a $3.00 dividend?
A)$1.68
B)$2.53
C)$2.11
D)$2.95
Answer: C
Q2) Which of the following is a measure of the aggregate price level of collections of pre-selected stocks?
A)NASDAQ
B)S&P 500
C)NYSE
D)Euronext
Answer: B
Q3) What is the term for the applicable price that I will pay, if I have to buy a stock?
Answer: The buyer of a stock pays the ask price when he buys the stock.
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3
Chapter 2: Introduction to Financial Statement Analysis
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Q1) A company that produces drugs is preparing a balance sheet. Which of the following would be most likely to be considered a long-term asset on this balance sheet?
A)commercial paper held by the company
B)the inventory of chemicals used to produce the drugs made by the company
C)a patent for a drug held by the company
D)the cash reserves of the company
Answer: C
Q2) Which of the following is a way that the operating activity section of the statement of cash flows adjusts Net Income from the balance sheet?
A)It subtracts all expenses and costs related to a firm's operating activities.
B)It adds all non-cash entries related to a firm's operating activities.
C)It adds the cash that flows from investors to a firm.
D)It removes the cash used for investment purposes.
Answer: B
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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Q1) A metal fabrication company is pricing raw supplies of aluminum. The following are the costs to the company to receive one ton of aluminum from various sources. Which source offers the best price for aluminum per ton?
A)3010 U.S. dollars per ton
B)3185 Australian dollars per ton, with $0.953 U.S. = 1 AUD
C)5888 Brazilian reals per ton, with $0.507 U.S. = 1 BRL
D)105,517 Indian rupees per ton, with $0.029 U.S. = 1 INR
Answer: C
Q2) Costs and benefits must be put in common terms if they are to be compared.
A)True
B)False
Answer: True
Q3) Stella deposits $4500 in a savings account at a bank that offers interest of 4.7% on such accounts. What is the value of the money in her savings account in one year's time?
A)$4298
B)$212
C)$4712
D)$6597
Answer: C
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Chapter 4: Time Value of Money: Valuing Cash Flow
Streams
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Q1) Trial and error is the only way to compute the internal rate of return (IRR)when interest is calculated over five or more periods.
A)True
B)False
Q2) Assume that you are 30 years old today, and that you are planning on retirement at age 65. Your current salary is $42,000 and you 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
Q3) Cash flows from an annuity occur every year in the future.
A)True
B)False
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Chapter 5: Interest Rates
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Q1) If the current inflation rate is 2.0%, then the nominal rate necessary for you to earn
a(n)7.3% real interest rate on your investment is closest to ________.
A)11.3%
B)9.4%
C)13.2%
D)15.1%
Q2) Why, in general, do investment opportunities offer a rate greater than that offered by U.S. Treasury securities for the same horizon?
A)Most investment opportunities bear far greater risk than those offered by U.S. Treasury securities.
B)The return from U.S. Treasury securities generally attracts less tax than the returns from other investments.
C)The opportunity cost of capital for a given horizon is generally based on U.S. Treasury securities with that same horizon.
D)U.S. Treasury securities are generally considered to be the best alternative to most investments.
Q3) Everything else remaining same, under what situation will APR and EAR be equal?
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Chapter 6: Bonds
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Q1) Under what situation should the clean price, dirty price, and the price calculated by the basic annuity and present value (PV)equations for a bond be equal?
Q2) A $5000 bond with a coupon rate of 5.7% paid semiannually has ten years to maturity and a yield to maturity of 6.4%. If interest rates fall and the yield to maturity decreases by 0.8%, what will happen to the price of the bond?
A)The price of the bond will fall by $293.50.
B)The price of the bond will fall by $352.20.
C)The price of the bond will rise by $410.90.
D)The price of the bond will rise by $293.50.
Q3) The only cash payment an investor in a zero-coupon bond receives is the face value of the bond on its maturity date. A)True B)False
Q4) What care, if any, should be taken regarding the sign of the cash flows while drawing the timeline and associated cash flows of a coupon bond?
Q5) How are the cash flows of a coupon bond different from an amortizing loan?
Q6) Under what situation can a zero-coupon bond be selling at a premium?
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Page 8
Chapter 7: Stock Valuation
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Q1) JRN Enterprises just announced that it plans to cut its dividend from $3.00 to $1.50 per share and use the extra funds to expand its operations. Prior to this announcement, JRN's dividends were expected to grow indefinitely at 4% per year and JRN's stock was trading at $25.50 per share. With the new expansion, JRN's dividends are expected to grow at 8% per year indefinitely. Assuming that JRN's risk is unchanged by the expansion, the value of a share of JRN after the announcement is closest to ________.
A)$19.32
B)$12.75
C)$38.63
D)$25.50
Q2) A firm can either pay its earnings to its investors, or it can keep them and reinvest them.
A)True
B)False
Q3) Which of the following formulas is INCORRECT?
A)Div<sub>t</sub> = EPS<sub>t</sub> × Dividend Payout Rate
B)P<sub>N</sub> = (r<sub>E</sub> - g)× Div<sub>N+1</sub>
C)earnings growth rate = retention rate × return on new investment
D)r<sub>E</sub> = (Div<sub>t</sub> / P<sub>0</sub>)+ g
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Page 9
Chapter 8: Investment Decision Rules
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Sample Questions
Q1) A manufacturer of video games develops a new game over two years. This costs $830,000 per year with one payment made immediately and the other at the end of two years. When the game is released, it is expected to make $1.20 million per year for three years after that. What is the net present value (NPV)of this decision if the cost of capital is 10%?
A)$950,349
B)$1,045,384
C)$1,520,559
D)$1,805,663
Q2) What is a safe method to use when confronted with mutually exclusive projects?
Q3) Assuming that your capital is constrained, which project should you invest in last?
A)Project A
B)Project I
C)Project D
D)Project C
Q4) Preference for cash today versus cash in the future in part determines net present value (NPV).
A)True
B)False
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Chapter 9: Fundamentals of Capital Budgeting
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Q1) The difference between scenario analysis and sensitivity analysis is ________.
A)scenario analysis is based upon the internal rate of return (IRR)and sensitivity analysis is based upon net present value (NPV)
B)only sensitivity analysis allows us to change estimated inputs of net present value (NPV)analysis
C)scenario analysis considers the effect on net present value (NPV)of changing multiple project parameters
D)only scenario analysis breaks the net present value (NPV)calculation into its component assumptions
Q2) Which of the following statements is FALSE?
A)Many projects use a resource that the company already owns.
B)When evaluating a capital budgeting decision, we generally include interest expense.
C)Only include as incremental expenses in your capital budgeting analysis the additional overhead expenses that arise because of the decision to take on the project.
D)As a practical matter, to derive the forecasted cash flows of a project, financial managers often begin by forecasting earnings.
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11
Chapter 10: Stock Valuation: a Second Look
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Q1) Valuation models use the relationship between share value, future cash flows, and the cost of capital to estimate these quantities for a given firm. Realistically, for a publicly traded firm, what can we reliably use such models to determine?
I. the firm's future cash flows
II. the firm's cost of capital
III. the firm's market price
A)I only
B)II only
C)III only
D)I and II
Q2) Individual investors' tendency to trade too much based on the mistaken belief that they can pick winners and losers better than investment professionals is known as
A)the disposition effect
B)the investor attention hypothesis
C)the investor overconfidence hypothesis
D)the excessive trading costs hypothesis
Q3) Which is the best valuation technique when using comparables?
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Chapter 11: Risk and Return in Capital Markets
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Q1) The average annual return for the S&P 500 from 1886 to 2006 is 5%, with a standard deviation of 15%. Based on these numbers, what is a 95% confidence interval for 2007's returns?
A)-12.5%, 17.5%
B)-15%, 25%
C)-25%, 35%
D)-25%, 25%
Q2) Amazon.com stock prices gave a realized return of 15%, 15%, -15%, and -15% over four successive quarters. What is the annual realized return for Amazon.com for the year?
A)-4.45%
B)-7.12%
C)-5.12%
D)0%
Q3) On average, stocks have delivered higher returns than bonds in the long run. A)True B)False
Q4) Comment on the accuracy of the statement that as we put more stocks in a portfolio, its risk gets eliminated to zero.
Q5) Which type of investment has historically had the lowest volatility?
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Chapter 12: Systematic Risk and the Equity Risk Premium
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Q1) Which of the following statements is FALSE?
A)While the sign of a correlation is easy to interpret, its magnitude is not.
B)Independent risks are uncorrelated.
C)When the covariance equals 0, the returns are uncorrelated.
D)To find the risk of a portfolio, we need to know more than the risk and return of the component stocks; we need to know the degree to which the stocks' returns move together.
Q2) For each 1% change in the market portfolio's excess return, the investment's excess return is expected to change by ________ due to risks that it has in common with the market.
A)beta
B)alpha
C)0%
D)1%
Q3) What diversification, if any, is achieved if two stocks in a portfolio are perfectly positively correlated?
Q4) In a two asset portfolio, what happens to the portfolio weight of the better performing asset?
Q5) Is it possible for a stock to have high total risk but low systematic risk?
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Chapter 13: The Cost of Capital
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Q1) What is the assumption about risk when using WACC to evaluate a project?
Q2) 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
Q3) A firm has outstanding debt with a coupon rate of 8%, nine years maturity, and a price of $1,000. What is the after-tax cost of debt if the marginal tax rate of the firm is 40%?
A)3.8%
B)4.8%
C)4.3%
D)4.4%
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Page 15
Chapter 14: Raising Equity Capital
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Q1) Which of the following statements is FALSE?
A)A venture capital firm is a limited partnership that specializes in raising money to invest in the private equity of young firms.
B)Venture capitalists typically control about three-quarters of the seats on a startup's board of directors, and often represent the single largest voting block on the board.
C)The initial capital that is required to start a business is usually provided by the entrepreneur and her immediate family.
D)Individual investors who buy equity in small private firms are called angel investors.
Q2) 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
Q3) What are some of the disadvantages of going public?
Q4) What is the general long-run performance of an IPO?
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Page 16
Chapter 15: Debt Financing
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Q1) A company issues a callable (at par)20-year, 5% coupon bond with annual coupon payments. The bond can be called at par in one year after release or any time after that on a coupon payment date. On release, it has a price of $102 per $100 of face value. What is the yield to maturity of this bond when it is released?
A)2.40%
B)4.84%
C)5.60%
D)6.66%
Q2) A company issues a callable (at par)five-year, 7% coupon bond with annual coupon payments. The bond can be called at par in one year after release or any time after that on a coupon payment date. On release, it has a price of $110 per $100 of face value. What is the yield to worst of this bond when it is released?
A)1.40%
B)2.73%
C)3.00%
D)4.71%
Q3) What are notes?
Q4) What are callable bonds?
Q5) What is an original issue discount bond?
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Chapter 16: Capital Structure
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Q1) With perfect capital markets, what is the market price per share of Luther's stock after the share repurchase?
A)$20
B)$24
C)$15
D)$25
Q2) As the level of debt increases the tax benefits of debt increase until ________.
A)interest costs exceed dividend payments
B)tax shield benefit exceeds distress costs
C)raw material costs exceed dividend payments
D)employee costs exceed interest expense
Q3) What is the capital structure of a firm?
Q4) Equity in a firm with no debt is called ________.
A)levered equity
B)unlevered equity
C)risk-free equity
D)preferred equity
Q5) What effect does debt have on a firm's weighted average cost of capital?
Q6) What are the issues in determining the optimal leverage for a firm?
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Q7) What are the issues in determining the present value (PV)of financial distress?
Chapter 17: Payout Policy
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Q1) Different investor groups have differing tax preferences that create clientele effects in which dividend policy of a firm is optimized for the tax preferences of its investors.
A)True
B)False
Q2) What is the general trend of dividend payments of U.S. corporations over the last few decades?
Q3) A firm has $300 million of assets that includes $40 million of cash and 10 million shares outstanding. If the firm uses $30 million of its cash to repurchase shares, what is the new price per share?
A)$24.00
B)$36.00
C)$30.00
D)$42.00
Q4) In a stock split or stock dividend, the company issues additional shares rather than cash to its shareholders.
A)True
B)False
Q5) What are the ways in which a firm can retain its free cash flow?
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Chapter 18: Financial Modeling and Pro Forma Analysis
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Q1) Which of the following accounts may reasonably be expected to grow with sales?
I. Accounts Receivable
II. Accounts Payable
III. Property, Plant and Equipment
IV. Inventory
V. Long-Term Debt
A)I, II, and III
B)I, II, and V
C)I, II and IV
D)III and V
Q2) Assuming that Ideko has an EBITDA multiple of 9.4, then the continuation unlevered price-earnings ratio of Ideko in 2015 is closest to ________.
A)17.2
B)16.4
C)14.5
D)28.6
Q3) Why is EBITDA multiple used for valuation rather than sales or earnings?
Q4) What is minimum required cash?
Q5) How do we know if expansion is a good idea for the firm?
Q6) What are a firm's options when it generates more cash than planned?
Page 20
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Chapter 19: Working Capital Management
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Q1) If a supplier is offering trade credit of 1/10 net 30, and a buyer chooses not to take the discount, when should they pay, assuming that they wish to stay on good terms with the supplier?
A)any time before day 10
B)on day 10
C)on day 30
D)any time after day 30
Q2) A firm that chooses a low-risk, restrictive credit policy will tend to have a larger investment in receivables.
A)True
B)False
Q3) Which of the following is the major benefit to a firm of using just-in-time inventory management?
A)minimizes the risk of stock-outs
B)minimizes the total number of orders that the firm places
C)reduces acquisition costs for placing goods in inventory
D)largely eliminates the carrying costs of maintaining a large inventory
Q4) Can a firm's cash cycle be longer than a firm's operating cycle?
Q5) What is credit period?
Q6) What are the advantages of holding inventory?
Page 21
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Chapter 20: Short-Term Financial Planning
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Q1) Which of the following statements regarding commercial paper is FALSE?
A)With dealer paper, dealers sell the commercial paper to investors in exchange for a spread (or fee)for their services.
B)With dealer paper, the spread increases the proceeds that the issuing firm receives, thereby decreasing the effective cost of the paper.
C)The minimum face value is $25,000, and most commercial paper has a face value of at least $100,000.
D)With direct paper, the firm sells the security directly to investors.
Q2) What is permanent working capital?
Q3) A petroleum exploration company takes a short-term bank loan in order to finance the purchase of several truck-mounted, vibroseis shakers, which have unexpectedly come onto the market at a good price. Once the purchase is made, the company will obtain long-term financing. Which of the following best describes the short-term loan the company has taken?
A)a single, end-of-period payment loan
B)a promissory note
C)a bridge loan
D)an uncommitted line of credit
Q4) What are loan origination fees and what effect does it have on the loan?
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Chapter 21: Option Applications and Corporate Finance
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Q1) KD Industries stock is currently trading at $32 per share. Consider a put option on KD stock with a strike price of $30. The maximum value of this put option is ________.
A)$0
B)$32
C)$30
D)$2
Q2) How many of the January 2009 call options are in-the-money?
A)2
B)4
C)1
D)3
Q3) Which of the following will not increase the value of a put option?
A)an increase in the time to maturity
B)a decrease in the stock price
C)a decrease in the stocks volatility
D)an increase in the exercise price
Q4) What effect does volatility of the underlying asset have on the price of the option?
Q5) What is a put option?
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Chapter 22: Mergers and Acquisitions
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Q1) Which of the following statements regarding recapitalization as a takeover defense is FALSE?
A)Another defense against a takeover is a recapitalization, in which a company changes its capital structure to make itself less attractive as a target.
B)Restructuring itself can produce efficiency gains, often removing the principal motivation for the takeover in the first place.
C)By increasing leverage on its own, the target firm can reap the benefit of the interest tax shields.
D)In many cases, a substantial portion of the synergy gains that an acquirer anticipates from a takeover are savings from a decrease in leverage as well as other cost reductions.
Q2) Most acquirers pay an acquisition premium for a target. Upon announcement of the bid, the target's stock price increases, on average, so that the stock price is the same as the price bid by the acquirer.
A)True
B)False
Q3) If Martin pays no premium to acquire Luther, what will the earnings per share be after the merger?
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Chapter 23: International Corporate Finance
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Q1) Which of the following statements is FALSE?
A)The rate of interest paid on government bonds or other securities in a country with a tradition of weak enforcement of property rights is likely not really a risk-free rate. Instead, interest rates in the country will reflect a risk premium for the possibility of default, so relations such as covered interest rate parity will likely not hold exactly.
B)If the return difference in a segmented financial market results from a market friction such as capital controls, corporations can exploit this friction by setting up projects and raising capital in the high-return country/currency.
C)Important macroeconomic reasons for segmented capital markets include capital controls and foreign exchange controls that create barriers to international capital flows and thus segment national markets.
D)A segmented financial market has an important implication for international corporate finance: One country or currency has a higher rate of return than another country or currency, when the two rates are compared in the same currency.
Q2) What is a currency timeline?
Q3) What are internationally segmented capital markets?
Q4) What is cash-and-carry strategy?
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Chapter 24: Leasing
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Q1) Which of the following statements regarding operating leases is FALSE?
A)They are also called a finance leases.
B)The lease is viewed as a rental for accounting purposes.
C)The lessee reports the entire lease payment as an operating expense.
D)They are disclosed in the footnotes of the lessee's financial statements.
Q2) Calculate the monthly lease payments for a four year fixed price lease that allows the lessee to buy the Bulldozer at the end of the lease for $8,000.
Q3) Which of the following statements is FALSE?
A)A lease is a contract between two parties: the lessee and the lessor.
B)Most leases involve little or no upfront payment.
C)The lessee is the owner of the asset, who is entitled to the lease payments in exchange for lending the asset.
D)At the end of the contract term, the lease specifies who will retain ownership of the asset and at what terms.
Q4) Which of the following is considered an unfair comparison?
A)FMV lease versus $1.00-out lease
B)$1.00-out lease versus true tax lease
C)lease versus buy
D)lease versus borrow
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Chapter 25: Insurance and Risk Management
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Q1) The value of insurance comes from its ability to reduce the cost of ________ for the firm.
A)adverse selection
B)vertical integration
C)overhead
D)market imperfections
Q2) To cover the costs that result if some aspect of the business causes harm to a third party or someone else's property a firm would purchase ________.
A)business interruption insurance
B)property insurance
C)business liability insurance
D)key personnel insurance
Q3) Which of the following is an agreement to trade an asset on some future date, at a price that is fixed today?
A)margin
B)futures contract
C)notional contract
D)interest rate swap
Q4) What are some of the disadvantages of long-term supply contracts?
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Chapter 26: Corporate Governance
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Q1) What is corporate governance?
Q2) Which of the following statements is FALSE?
A)An active takeover market is part of the system through which the threat of dismissal is maintained.
B)When internal governance systems such as ownership, compensation, board oversight, and shareholder activism fail, the one remaining way to remove poorly performing managers is by mounting a hostile takeover.
C)Likely because hostile takeovers and internal governance systems are substitute mechanisms, researchers have found that boards are less likely to fire managers for poor performance during active takeover markets than they are during lulls in takeover activity.
D)The effectiveness of the corporate governance structure of a firm depends on how well protected its managers are from removal in a hostile takeover.
Q3) What are some of the negative effects of increasing the sensitivity of managerial pay to firm performance?
Q4) How does a pyramid structure work?
Q5) What is the difference between inside, gray, and outside directors?
Q6) What is the role of takeovers in corporate governance?
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