Financial Management
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Course Introduction
Financial Management is a foundational course that introduces students to the principles and practices involved in effective financial decision-making within organizations. The course covers key topics such as financial analysis, planning and control, the time value of money, risk and return, capital budgeting, cost of capital, and working capital management. Emphasis is placed on understanding how financial managers use analytical tools to allocate resources, maximize firm value, and ensure long-term financial stability. Through case studies and practical applications, students gain the skills needed to interpret financial statements, assess investment opportunities, and make strategic financial decisions in both the corporate and personal finance contexts.
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Corporate Finance A Focused Approach 5th Edition by Michael C. Ehrhardt
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Chapter 1: An overview of financial management and the financial environment
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Q1) With which of the following statements would most people in business agree?
A) The short-run profits of a corporation will almost always increase if the firm takes actions the government has determined are in the nation's best interests.
B) Government agencies and firms almost always agree with one another regarding the restrictions that should be placed on hiring and firing employees.
C) Although people's moral characters are probably developed before they get into a business school, it is still useful for business schools to cover ethics, including giving students an idea about the adverse consequences of unethical behavior to themselves, their firms, and the nation.
D) Developing a formal set of rules defining ethical and unethical behavior is not useful for a large corporation.Such rules generally can't be applied in many specific instances, so it is better to deal with ethical issues on a case-by-case basis.
E) Because of the courage it takes to blow the whistle, "whistle blowers" are generally promoted more rapidly than other employees.
Answer: C
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3
Chapter 2: Financial statements, cash flow, and taxes
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Q1) Which of the following items is NOT included in current assets?
A) Short-term, highly liquid, marketable securities.
B) Accounts receivable.
C) Inventory.
D) Bonds.
E) Cash.
Answer: D
Q2) Which of the following factors could explain why Regal Industrial Fixtures had a negative net cash flow last year, even though the cash on its balance sheet increased?
A) The company repurchased 20% of its common stock.
B) The company sold a new issue of bonds.
C) The company made a large investment in new plant and equipment.
D) The company paid a large dividend.
E) The company had high amortization expenses.
Answer: B
Q3) Total net operating capital is equal to net fixed assets.
A)True
B)False
Answer: False
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Page 4
Chapter 3: Analysis of financial statements
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Sample Questions
Q1) For the coming year, Crane Inc.is considering two financial plans.Management expects sales to be $301, 770, operating costs to be $266, 545, assets to be $200, 000, and its tax rate to be 35%.Under Plan A it would use 25% debt and 75% common equity.The interest rate on the debt would be 8.8%, but the TIE ratio would have to be kept at 4.00 or more.Under Plan B the maximum debt that met the TIE constraint would be employed.Assuming that sales, operating costs, assets, the interest rate, and the tax rate would all remain constant, by how much would the ROE change in response to the change in the capital structure?
A) 3.83%
B) 4.02%
C) 4.22%
D) 4.43%
E) 4.65%
Answer: A
Q2) The times-interest-earned ratio is one, but not the only, indication of a firm's ability to meet its long-term and short-term debt obligations.
A)True
B)False
Answer: True
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Chapter 4: Time value of money
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Sample Questions
Q1) Suppose you borrowed $14, 000 at a rate of 10.0% and must repay it in 5 equal installments at the end of each of the next 5 years.How much interest would you have to pay in the first year?
A) $1, 200.33
B) $1, 263.50
C) $1, 330.00
D) $1, 400.00
E) $1, 470.00
Q2) Suppose your credit card issuer states that it charges a 15.00% nominal annual rate, but you must make monthly payments, which amounts to monthly compounding.What is the effective annual rate?
A) 15.27%
B) 16.08%
C) 16.88%
D) 17.72%
E) 18.61%
Q3) A time line is not meaningful unless all cash flows occur annually.
A)True
B)False
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Chapter 5: Bonds, bond valuation, and interest rates
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Q1) Which of the following statements is CORRECT?
A) Most sinking funds require the issuer to provide funds to a trustee, who saves the money so that it will be available to pay off bondholders when the bonds mature.
B) A sinking fund provision makes a bond more risky to investors at the time of issuance.
C) Sinking fund provisions never require companies to retire their debt; they only establish "targets" for the company to reduce its debt over time.
D) If interest rates have increased since a company issued bonds with a sinking fund, the company is less likely to retire the bonds by buying them back in the open market, as opposed to calling them in at the sinking fund call price.
E) Sinking fund provisions sometimes turn out to adversely affect bondholders, and this is most likely to occur if interest rates decline after the bond has been issued.
Q2) For bonds, price sensitivity to a given change in interest rates is generally greater the longer before the bond matures.
A)True
B)False
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Chapter 6: Risk and return
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Q1) Stock A's beta is 1.7 and Stock B's beta is 0.7.Which of the following statements must be true about these securities? (Assume market equilibrium.)
A) Stock B must be a more desirable addition to a portfolio than A.
B) Stock A must be a more desirable addition to a portfolio than B.
C) The expected return on Stock A should be greater than that on B.
D) The expected return on Stock B should be greater than that on A.
E) When held in isolation, Stock A has more risk than Stock B.
Q2) Suppose that during the coming year, the risk free rate, rRF, is expected to remain the same, while the market risk premium (rM - rRF), is expected to fall.Given this forecast, which of the following statements is CORRECT?
A) The required return on all stocks will remain unchanged.
B) The required return will fall for all stocks, but it will fall more for stocks with higher betas.
C) The required return for all stocks will fall by the same amount.
D) The required return will fall for all stocks, but it will fall less for stocks with higher betas.
E) The required return will increase for stocks with a beta less than 1.0 and will decrease for stocks with a beta greater than 1.0.
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Chapter 7: Valuation of stocks and corporations
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Q1) Carby Hardware has an outstanding issue of perpetual preferred stock with an annual dividend of $7.50 per share.If the required return on this preferred stock is 6.5%, at what price should the preferred stock sell?
A) $104.27
B) $106.95
C) $109.69
D) $112.50
E) $115.38
Q2) A stock is expected to pay a year-end dividend of $2.00, i.e., D? = $2.00.The dividend is expected to decline at a rate of 5% a year forever (g = -5%).If the company is in equilibrium and its expected and required rate of return is 15%, which of the following statements is CORRECT?
A) The company's dividend yield 5 years from now is expected to be 10%.
B) The constant growth model cannot be used because the growth rate is negative.
C) The company's expected capital gains yield is 5%.
D) The company's expected stock price at the beginning of next year is $9.50.
E) The company's current stock price is $20.
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Chapter 8: Financial options and applications in corporate finance
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Q1) An investor who writes standard call options against stock held in his or her portfolio is said to be selling what type of options?
A) Put
B) Naked
C) Covered
D) Out-of-the-money
E) In-the-money
Q2) Because of the time value of money, the longer before an option expires, the less valuable the option will be, other things held constant.
A)True
B)False
Q3) If the current price of a stock is below the strike price, then an option to buy the stock is worthless and will have a zero value.
A)True
B)False
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Chapter 9: The cost of capital
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Q1) If a firm is privately owned, and its stock is not traded in public markets, then we cannot measure its beta for use in the CAPM model, we cannot observe its stock price for use in the DCF model, and we don't know what the risk premium is for use in the bond-yield-plus-risk-premium method.All this makes it especially difficult to estimate the cost of equity for a private company.
A)True
B)False
Q2) The cost of preferred stock to a firm must be adjusted to an after-tax figure because 70% of dividends received by a corporation may be excluded from the receiving corporation's taxable income.
A)True
B)False
Q3) Refer to Exhibit 9.1.What is the best estimate of the firm's WACC?
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Chapter 10: The basics of capital budgeting: evaluating cash flows
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Q1) 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) If Project A has a higher IRR than Project B, then Project A must also have a higher NPV.
B) The IRR calculation implicitly assumes that all cash flows are reinvested at the WACC.
C) The IRR calculation implicitly assumes that cash flows are withdrawn from the business rather than being reinvested in the business.
D) If a project has normal cash flows and its IRR exceeds its WACC, then the project's NPV must be positive.
E) If Project A has a higher IRR than Project B, then Project A must have the lower NPV.
Q2) The regular payback method is deficient in that it does not take account of cash flows beyond the payback period.The discounted payback method corrects this fault.
A)True
B)False
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Chapter 11: Cash flow estimation and risk analysis
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Q1) Which of the following factors should be included in the cash flows used to estimate a project's NPV?
A) Interest on funds borrowed to help finance the project.
B) The end-of-project recovery of any working capital required to operate the project.
C) Cannibalization effects, but only if those effects increase the project's projected cash flows.
D) Expenditures to date on research and development related to the project, provided those costs have already been expensed for tax purposes.
E) All costs associated with the project that have been incurred prior to the time the analysis is being conducted.
Q2) Erickson Inc.is considering a capital budgeting project that has an expected return of 25% and a standard deviation of 30%.What is the project's coefficient of variation?
A) 1.20
B) 1.26
C) 1.32
D) 1.39
E) 1.46
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Chapter 12: Corporate valuation and financial planning
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Q1) If a firm with a positive net worth is operating its fixed assets at full capacity, if its dividend payout ratio is 100%, and if it wants to hold all financial ratios constant, then for any positive growth rate in sales, it will require external financing.
A)True
B)False
Q2) The capital intensity ratio is the amount of assets required per dollar of sales and it has a major impact on a firm's capital requirements.
A)True
B)False
Q3) The Besnier Company had $250 million of sales last year, and it had $75 million of fixed assets that were being operated at 80% of capacity.In millions, how large could sales have been if the company had operated at full capacity?
A) $312.5
B) $328.1
C) $344.5
D) $361.8
E) $379.8
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Chapter 13: Agency conflicts and corporate governance
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Q1) 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.
Q2) Which of the following is NOT normally regarded as being a barrier to hostile takeovers?
A) Targeted share repurchases.
B) Shareholder rights provisions.
C) Restricted voting rights.
D) Poison pills.
E) Abnormally high executive compensation.
Q3) 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
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Chapter 14: Distributions to shareholders: dividends and repurchases
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Q1) Which of the following statements is correct?
A) The clientele effect can explain why so many firms change their dividend policies so often.
B) One advantage of adopting the residual dividend policy is that this policy makes it easier for corporations to develop a specific and well-identified dividend clientele.
C) New-stock dividend reinvestment plans are similar to stock dividends because they both increase the number of shares outstanding but don't change the firm's total amount of book equity.
D) Investors who receive stock dividends must pay taxes on the value of the new shares in the year the stock dividends are received.
E) If a firm follows the residual dividend policy, then a sudden increase in the number of profitable projects is likely to reduce the firm's dividend payout.
Q2) The announcement of an increase in the cash dividend should, according to MM, lead to an increase in the price of the firm's stock.
A)True
B)False
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Chapter 15: Capital structure decisions
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Q1) Which of the following statements is CORRECT?
A) The factors that affect a firm's business risk are affected by industry characteristics and economic conditions.Unfortunately, these factors are generally beyond the control of the firm's management.
B) One of the benefits to a firm of being at or near its target capital structure is that this eliminates any risk of bankruptcy.
C) A firm's financial risk can be minimized by diversification.
D) The amount of debt in its capital structure can under no circumstances affect a company's business risk.
E) A firm's business risk is determined solely by the financial characteristics of its industry.
Q2) As the text indicates, a firm's financial risk has identifiable market risk and diversifiable risk components.
A)True
B)False
Q3) Whenever a firm borrows money, it is using financial leverage.
A)True
B)False
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Chapter 16: Supply chains and working capital management
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Q1) Albrecht Inc.is a no-growth firm whose sales fluctuate seasonally, causing total assets to vary from $320, 000 to $410, 000, but fixed assets remain constant at $260, 000.If the firm follows a maturity matching (or moderate)working capital financing policy, what is the most likely total of long-term debt plus equity capital?
A) $260, 642
B) $274, 360
C) $288, 800
D) $304, 000
E) $320, 000
Q2) The average accounts receivable balance is a function of both the volume of credit sales and the days sales outstanding.
A)True
B)False
Q3) Uncertainty about the exact lives of assets prevents precise maturity matching in an ex post (i.e., after the fact)sense even though it is possible to match maturities on an ex ante (expected)basis.
A)True
B)False
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Chapter 17: Multinational financial management
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Q1) A Eurodollar is a U.S.dollar deposited in a bank outside the United States.
A)True
B)False
Q2) Suppose it takes 1.82 U.S.dollars today to purchase one British pound in the foreign exchange market, and currency forecasters predict that the U.S.dollar will depreciate by 12.0% against the pound over the next 30 days.How many dollars will a pound buy in 30 days?
A) 1.12
B) 1.63
C) 1.82
D) 2.04
E) 3.64
Q3) A foreign currency will, on average, depreciate against the U.S.dollar at a percentage rate approximately equal to the amount by which its inflation rate exceeds that of the United States.
A)True B)False
Q4) Exchange rate quotations consist solely of direct quotations.
A)True
B)False
19
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