Investment Analysis
Exam Questions
Course Introduction
Investment Analysis provides students with a comprehensive understanding of the theories, tools, and practices used to evaluate various investment opportunities. The course covers fundamental concepts such as risk and return, portfolio theory, valuation of stocks and bonds, and alternative investments. Students will learn how to analyze market data, assess economic trends, and utilize quantitative techniques to make informed investment decisions. Through case studies and real-world applications, the course emphasizes the development of critical thinking and practical skills necessary for investment management and financial analysis in personal and institutional contexts.
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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Q1) Which of the following factors would be most likely to lead to an increase in interest rates in the economy?
A) Households reduce their consumption and increase their savings.
B) The Federal Reserve decides to try to stimulate the economy.
C) There is a decrease in expected inflation.
D) The economy falls into a recession.
E) Most businesses decide to modernize and expand their manufacturing capacity, and to install new equipment to reduce labor costs.
Answer: E
Q2) Recently,Hale Corporation announced the sale of 2.5 million newly issued shares of its stock at a price of $21 per share.Hale sold the stock to an investment banker,who in turn sold it to individual and institutional investors.This is a primary market transaction. A)True
B)False
Answer: True
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Chapter 2: Financial Statements, cash Flow, and Taxes
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Q1) HHH Inc.reported $12,500 of sales and $7,025 of operating costs (including depreciation).The company had $18,750 of investor-supplied operating assets (or capital),the weighted average cost of that capital (the WACC)was 9.5%,and the federal-plus-state income tax rate was 40%.What was HHH's Economic Value Added (EVA),i.e.,how much value did management add to stockholders' wealth during the year?
A) $1,357.13
B) $1,428.56
C) $1,503.75
D) $1,578.94
E) $1,657.88
Answer: C
Q2) Its retained earnings is the actual cash that the firm has generated through operations less the cash that has been paid out to stockholders as dividends.Retained earnings are kept in cash or near cash accounts and,thus,these cash accounts,when added together,will always be equal to the firm's total retained earnings.
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) Refer to Exhibit 3.1.What is the firm's current ratio?
A) 0.97
B) 1.08
C) 1.20
D) 1.33
E) 1.47
Answer: D
Q2) Refer to Exhibit 3.1.What is the firm's profit margin?
A) 1.40%
B) 1.56%
C) 1.73%
D) 1.93%
E) 2.12%
Answer: D
Q3) The "apparent," but not the "true," financial position of a company whose sales are seasonal can differ dramatically,depending on the time of year when the financial statements are constructed.
A)True
B)False Answer: True
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Chapter 4: Time Value of Money
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Sample Questions
Q1) You have just purchased a U.S.Treasury bond for $747.25.No payments will be made until the bond matures 5 years from now,at which time it will be redeemed for $1,000.What interest rate will you earn on this bond?
A) 4.37%
B) 4.86%
C) 5.40%
D) 6.00%
E) 6.60%
Q2) What's the present value of a perpetuity that pays $250 per year if the appropriate interest rate is 5%?
A) $4,750
B) $5,000
C) $5,250
D) $5,513
E) $5,788
Q3) If the discount (or interest)rate is positive,the future value of an expected series of payments will always exceed the present value of the same series.
A)True
B)False
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Chapter 5: Bonds, bond Valuation, and Interest Rates
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Sample Questions
Q1) Reinegar Corporation is planning two new issues of 25-year bonds.Bond Par will be sold at its $1,000 par value,and it will have a 10% semiannual coupon.Bond OID will be an Original Issue Discount bond,and it will also have a 25-year maturity and a $1,000 par value,but its semiannual coupon will be only 6.25%.If both bonds are to provide investors with the same effective yield,how many of the OID bonds must Reinegar issue to raise $3,000,000? Disregard flotation costs,and round your final answer up to a whole number of bonds.
A) 4,228
B) 4,337
C) 4,448
D) 4,562
E) 4,676
Q2) Which of the following bonds has the greatest interest rate price risk?
A) A 10-year, $1,000 face value, zero coupon bond.
B) A 10-year, $1,000 face value, 10% coupon bond with annual interest payments.
C) All 10-year bonds have the same price risk since they have the same maturity.
D) A 10-year, $1,000 face value, 10% coupon bond with semiannual interest payments.
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Page 7
Chapter 6: Risk and Return
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Q1) The CAPM is built on historic conditions,although in most cases we use expected future data in applying it.Because betas used in the CAPM are calculated using expected future data,they are not subject to changes in future volatility.This is one of the strengths of the CAPM.
A)True
B)False
Q2) Even if the correlation between the returns on two securities is +1.0,if the securities are combined in the correct proportions,the resulting 2-asset portfolio will have less risk than either security held alone.
A)True
B)False
Q3) Market risk refers to the tendency of a stock to move with the general stock market.A stock with above-average market risk will tend to be more volatile than an average stock,and its beta will be greater than 1.0.
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 7: Valuation of Stocks and Corporations
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Q1) According to the nonconstant growth model discussed in the textbook,the discount rate used to find the present value of the expected cash flows during the initial growth period is the same as the discount rate used to find the PVs of cash flows during the subsequent constant growth period.
A)True
B)False
Q2) Kinkead Inc.forecasts that its free cash flow in the coming year,i.e.,at t = 1,will be -$10 million,but its FCF at t = 2 will be $20 million.After Year 2,FCF is expected to grow at a constant rate of 4% forever.If the weighted average cost of capital is 14%,what is the firm's value of operations,in millions?
A) $158
B) $167
C) $175
D) $184
E) $193
Q3) Free cash flows should be discounted at the firm's weighted average cost of capital to find the value of its operations.
A)True
B)False
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Page 9
Chapter 8: Financial Options and Applications in Corporate Finance
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Q1) Suppose you believe that Basso Inc.'s stock price is going to increase from its current level of $22.50 sometime during the next 5 months.For $3.10 you can buy a 5-month call option giving you the right to buy 1 share at a price of $25 per share.If you buy this option for $3.10 and Basso's stock price actually rises to $45,what would your pre-tax net profit be?
A) -$3.10
B) $16.90
C) $17.75
D) $22.50
E) $25.60
Q2) The exercise value is also called the strike price,but this term is generally used when discussing convertibles rather than financial options.
A)True
B)False
Q3) If the market is in equilibrium,then an option must sell at a price that is exactly equal to the difference between the stock's current price and the option's 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 debt,r<sub>d</sub>,is normally less than r<sub>s</sub>,so r<sub>d</sub>(1 - T)will normally be much less than r<sub>s</sub>.Therefore,as long as the firm is not completely debt financed,the weighted average cost of capital (WACC)will normally be greater than r<sub>d</sub>(1 - T).
A)True
B)False
Q2) The cost of debt is equal to one minus the marginal tax rate multiplied by the average coupon rate on all outstanding debt.
A)True
B)False
Q3) Refer to Exhibit 9.1.Based on the CAPM,what is the firm's cost of common stock?
A) 11.15%
B) 11.73%
C) 12.35%
D) 13.00%
E) 13.65%
Q4) "Capital" is sometimes defined as funds supplied to a firm by investors.
A)True
B)False
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Chapter 10: The Basics of Capital Budgeting: Evaluating Cash Flows
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Q1) Patterson Co.is considering a project that has the following cash flow and WACC data.What is the project's NPV? Note that a project's expected NPV can be negative,in which case it will be rejected. \(\begin{array}{lcccc}
\text { WACC: } & 10.00 \% & & & \\ \text { Year } & 0 & 1 & 2 & 3 \\ \text { Cash flows } & -\$ 950 & \$ 500 & \$ 400 & \$ 300 \end{array}\)
A) $54.62
B) $57.49
C) $60.52
D) $63.54
E) $66.72
Q2) A firm should never accept a project if its acceptance would lead to an increase in the firm's cost of capital (its WACC).
A)True
B)False
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Chapter 11: Cash Flow Estimation and Risk Analysis
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Q1) The primary advantage to using accelerated rather than straight-line depreciation is that with accelerated depreciation the present value of the tax savings provided by depreciation will be higher,other things held constant.
A)True
B)False
Q2) If a firm's projects differ in risk,then one way of handling this problem is to evaluate each project with the appropriate risk-adjusted discount rate.
A)True
B)False
Q3) The change in net working capital associated with new projects is always positive,because new projects mean that more working capital will be required.This situation is especially true for replacement projects.
A)True
B)False
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Chapter 12: Corporate Valuation and Financial Planning
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Q1) North Construction had $850 million of sales last year,and it had $425 million of fixed assets that were used at only 60% of capacity.What is the maximum sales growth rate North could achieve before it had to increase its fixed assets?
A) 54.30%
B) 57.16%
C) 60.17%
D) 63.33%
E) 66.67%
Q2) One of the first steps in arriving at a firm's forecasted financial statements is a review of industry-average operating ratios relative to these same ratios for the firm to determine whether changes to the ratios need to be made.
A)True
B)False
Q3) As long as a firm does not pay out 100% of its earnings,the firm's annual profit that is retained in the business (i.e.,the addition to retained earnings)is another source of funds for a firm's expansion.
A)True
B)False
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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) A poison pill is also known as a corporate restructuring.
A)True
B)False
Q3) Two important issues in corporate governance are (1)the rules that cover the board's ability to fire the CEO and (2)the rules that cover the CEO's ability to remove members of the board.
A)True
B)False
Q4) ESOPs were originally designed to help improve worker productivity,but today they are also used to help prevent hostile takeovers.
A)True
B)False
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Chapter 14: Distributions to Shareholders: Dividends and Repurchases
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Q1) David Rose Inc.forecasts a capital budget of $500,000 next year with forecasted net income of $400,000.The company wants to maintain a target capital structure of 30% debt and 70% equity.If the company follows the residual dividend policy,how much in dividends,if any,will it pay?
A) $42,869
B) $45,125
C) $47,500
D) $50,000
E) $52,500
Q2) If investors prefer firms that retain most of their earnings,then a firm that wants to maximize its stock price should set a low payout ratio.
A)True
B)False
Q3) The dividend irrelevance theory,proposed by Miller and Modigliani,says that provided a firm pays at least some dividends,how much it pays does not affect either its cost of capital or its stock price.
A)True
B)False
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Chapter 15: Capital Structure Decisions
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Q1) The world-famous discounter,Fernwood Booksellers,specializes in selling paperbacks for $7 each.The variable cost per book is $5.At current annual sales of 200,000 books,the publisher is just breaking even.It is estimated that if the authors' royalties are reduced,the variable cost per book will drop by $1.Assume authors' royalties are reduced and sales remain constant; how much more money can the publisher put into advertising (a fixed cost)and still break even?
A) $600,000
B) $466,667
C) $333,333
D) $200,000
E) None of the above
Q2) Different borrowers have different risks of bankruptcy,and bankruptcy is costly to lenders.Therefore,lenders charge higher rates to borrowers judged to be more at risk of going bankrupt.
A)True
B)False
Q3) Whenever a firm borrows money,it is using financial leverage.
A)True
B)False
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Page 17
Chapter 16: Supply Chains and Working Capital Management
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Q1) If a firm sells on terms of 2/10 net 30 days,and its DSO is 28 days,then the fact that the 28-day DSO is less than the 30-day credit period tells us that the credit department is functioning efficiently and there are no past-due accounts.
A)True
B)False
Q2) Fireside Inc.has the following data.What is the firm's cash conversion cycle?
Inventory conversion period =\( \quad \) \( \quad \) \( \quad \)38 days
Average collection period \( = \)\( \quad \) \( \quad \) \( \quad \)19 days
Payables deferral period =\( \quad \) \( \quad \) \( \quad \) \( \quad \)20 days
A) 33 days
B) 37 days
C) 41 days
D) 45 days
E) 49 days
Q3) Changes in a firm's collection policy can affect sales,working capital,and profits.
A)True
B)False
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Page 18
Chapter 17: Multinational Financial Management
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Q1) Suppose that 1 British pound currently equals 1.62 U.S.dollars and 1 U.S.dollar equals 1.62 Swiss francs.What is the cross exchange rate between the pound and the franc?
A) 1 British pound equals 3.2400 Swiss francs
B) 1 British pound equals 2.6244 Swiss francs
C) 1 British pound equals 1.8588 Swiss francs
D) 1 British pound equals 1.0000 Swiss francs
E) 1 British pound equals 0.3810 Swiss francs
Q2) Due to advanced communications technology and the standardization of general procedures,working capital management for multinational firms is no more complex than it is for large domestic firms.
A)True
B)False
Q3) The Eurodollar market is essentially a long-term market; most loans and deposits in this market have maturities longer than one year. A)True
B)False
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Q1) When a firm refunds a debt issue,the firm's stockholders gain and its bondholders lose.This points out the risk of a call provision to bondholders and explains why a non-callable bond will typically command a higher price than an otherwise similar callable bond.
A)True
B)False
Q2) Stanovich Enterprises has 10-year,12.0% semiannual coupon bonds outstanding.Each bond is now eligible to be called at a call price of $1,060.If the bonds are called,the company must replace them with new 10-year bonds.The flotation cost of issuing new bonds is estimated to be $45 per bond.How low would the yield to maturity on the new bonds have to be in order for it to be profitable to call the bonds today,i.e.,what is the nominal annual "breakeven rate"?
A) 9.29%
B) 9.78%
C) 10.29%
D) 10.81%
E) 11.35%
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Page 20
Chapter 18: Extension 18 A: Rights Offerings
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Q1) Pietersen Corporation must raise an additional $10,000,000 of equity capital through the sale of common stock in order to finance the construction of a new plant.The firm currently has an EPS of $5.40 and a P/E ratio of 10,with 1,200,000 shares outstanding.The firm will offer new shares to its current stockholders at $40 per share.Find (1)the number of new shares to be issued, (2)the ex-rights price of the stock (assuming that the new market value of the stock will simply be the proceeds of the new issue plus the current value of equity,divided by new shares outstanding),and (3)the value of one right. \(\begin{array}{lll}
& \text { Sub Price } & \text { Ex-rights } \\
\text { a. } & \$ 39.65 & \$ 42.50 \\
\text { b. } & \$ 40.25 & \$ 43.50 \\
\text { c. } & \$ 42.65 & \$ 47.50 \\
\text { d. } & \$ 44.55 & \$ 49.00 \\
\text { e. } & \$ 46.65 & \$ 50.00 \end{array}\)
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21
Chapter 19: Lease Financing
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Q1) Delamont Transport Company (DTC)is evaluating the merits of leasing versus purchasing a truck with a 4-year life that costs $40,000 and falls into the MACRS 3-year class.If the firm borrows and buys the truck,the loan rate would be 10%,and the loan would be amortized over the truck's 4-year life,so the interest expense for taxes would decline over time.The loan payments would be made at the end of each year.The truck will be used for 4 years,at the end of which time it will be sold at an estimated residual value of $10,000.If DTC buys the truck,it would purchase a maintenance contract that costs $1,000 per year,payable at the end of each year.The lease terms,which include maintenance,call for a $10,000 lease payment (4 payments total)at the beginning of each year.DTC's tax rate is 40%.What is the net advantage to leasing? (Note: Assume MACRS rates for Years 1 to 4 are 0.3333,0.4445,0.15,and 0.07.)
A) $849
B) $896
C) $945
D) $999
E) $1,047
Q2) A sale and leaseback arrangement is a type of financial,or capital,lease.
A)True
B)False
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Chapter 20: Hybrid Financing: Preferred Stock, warrants, and Convertibles
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Q1) A convertible debenture can never sell for more than its conversion value or less than its bond value.
A)True
B)False
Q2) McGovern Enterprises is interested in issuing bonds with warrants attached.The bonds will have a 30-year maturity and annual interest payments.Each bond will come with 20 warrants that give the holder the right to purchase one share of stock per warrant.The investment bankers estimate that each warrant will have a value of $10.00.A similar straight-debt issue would require a 10% coupon.What coupon rate should be set on the bonds-with-warrants so that the package would sell for $1,000?
A) 6.75%
B) 7.11%
C) 7.48%
D) 7.88%
E) 8.27%
Q3) A warrant holder is not entitled to vote,but he or she does receive any cash dividends paid on the underlying stock.
A)True
B)False
Page 23
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Chapter 21: Dynamic Capital Structures
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Q1) The MM model with corporate taxes is the same as the Miller model,but with zero personal taxes.
A)True
B)False
Q2) When a firm has risky debt,its debt can be viewed as an option on the total value of the firm with an exercise price equal to the face value of the equity.
A)True
B)False
Q3) In a world with no taxes,MM show that a firm's capital structure does not affect the firm's value.However,when taxes are considered,MM show a positive relationship between debt and value,i.e.,its value rises as its debt is increased.
A)True
B)False
Q4) In the MM extension with growth,the appropriate discount rate for the tax shield is the unlevered cost of equity.
A)True
B)False
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Chapter 22: Mergers and Corporate Control
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Q1) A conglomerate merger occurs when two firms with either a horizontal or a vertical business relationship combine.
A)True
B)False
Q2) The purchase of assets at below their replacement cost and tax considerations are two factors that motivate mergers.
A)True
B)False
Q3) In a financial merger,the relevant post-merger cash flows are simply the sum of the expected cash flows of the two companies,measured as if they were operated independently.
A)True
B)False
Q4) A joint venture is one in which two,or sometimes more,independent companies agree to combine resources in order to achieve a specific objective,usually limited in scope.
A)True
B)False
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Chapter 23: Enterprise Risk Management
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Q1) One objective of risk management can be to reduce the volatility of a firm's cash flows.
A)True
B)False
Q2) A commercial bank recognizes that its net income suffers whenever interest rates increase.Which of the following strategies would protect the bank against rising interest rates?
A) Entering into an interest rate swap where the bank receives a fixed payment stream, and in return agrees to make payments that float with market interest rates.
B) Purchase principal only (PO) strips that decline in value whenever interest rates rise.
C) Enter into a short hedge where the bank agrees to sell interest rate futures.
D) Sell some of the bank's floating-rate loans and use the proceeds to make fixed-rate loans.
E) Buying inverse floaters.
Q3) In theory,reducing the volatility of its cash flows will always increase a company's value.
A)True
B)False
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Chapter 24: Bankruptcy, reorganization, and Liquidation
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Q1) Even if a firm's cash flow projections indicate that it will soon be unable to meet its interest payments,a bankruptcy case cannot begin until the firm actually defaults on a scheduled payment.
A)True
B)False
Q2) Chapter 7 of the Bankruptcy Act is designed to do which of the following?
A) Establish the rules of reorganization for firms with projected cash flows that eventually will be sufficient to meet debt payments.
B) Ensure that the firm is viable after emerging from bankruptcy.
C) Allow the firm to negotiate with each creditor individually.
D) Provide safeguards against the withdrawal of assets by the owners of the bankrupt firm and allow insolvent debtors to discharge all of their obligations and to start over unhampered by a burden of prior debt.
E) Protect shareholders against creditors.
Q3) The basic doctrine of fairness under bankruptcy provisions states that claims must be recognized in the order of their legal and contractual priority.
A)True
B)False
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Chapter 25: Portfolio Theory and Asset Pricing Models
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Q1) Security A has an expected return of 12.4% with a standard deviation of 15%,and a correlation with the market of 0.85.Security B has an expected return of -0.73% with a standard deviation of 20%,and a correlation with the market of -0.67.The standard deviation of r<sub>M</sub> is 12%.
A) To someone who acts in accordance with the CAPM, which security is more risky, A or
B? Why? (Hint: No calculations are necessary to answer this question; it is easy.)
B) What are the beta coefficients of A and B? Calculations are necessary.
C) If the risk-free rate is 6%, what is the value of r<sub>M</sub>?
Q2) Which is the best measure of risk for an asset held in isolation,and which is the best measure for an asset held in a diversified portfolio?
A) Standard deviation; correlation coefficient.
B) Beta; variance.
C) Coefficient of variation; beta.
D) Beta; beta.
E) Variance; correlation coefficient.
Q3) A stock with a beta equal to -1.0 has zero systematic (or market)risk.
A)True
B)False
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28
Chapter 26: Real Options
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Q1) Which of the following is most CORRECT?
A) Real options change the risk, but not the size, of projects' expected cash flows.
B) Real options are likely to reduce the cost of capital that should be used to discount a project's expected cash flows.
C) Very few projects actually have real options.
D) Real options are less valuable when there is a lot of uncertainty about the true values future sales and costs.
E) Real options change the size, but not the risk, of projects' expected cash flows.
Q2) Real options are options to buy real assets,like stocks,rather than interest-bearing assets,like bonds.
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
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Chapter 27: Providing and Obtaining Credit
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Sample Questions
Q1) Tillyard Inc.requires a $25,000 1-year loan.The bank offers to make the loan,and it offers you three choices: (1)15 percent simple interest,annual compounding; (2)13 percent nominal interest,daily compounding (360-day year); (3)9 percent add-on interest,12 end-of-month payments.The first two loans would require a single payment at the end of the year,the third would require 12 equal monthly payments beginning at the end of the first month.What is the difference between the highest and lowest effective annual rates?
A) 1.12%
B) 2.48%
C) 3.60%
D) 4.25%
E) 5.00%
Q2) The percentage aging schedule of accounts receivable is the most robust way to see if customers are,on average,paying more slowly,because it is unaffected by seasonal changes in sales.
A)True
B)False
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Chapter 28: Advanced Issues in Cash Management and Inventory Control
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Q1) The easier a firm's access to borrowed funds the higher its precautionary balances will be,in order to protect against sudden increases in interest rates.
A)True B)False
Q2) For some firms,holding highly liquid marketable securities is a substitute for holding cash because a marketable securities portfolio can accomplish the same objective as cash.
A)True
B)False
Q3) 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%.
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Chapter 29: Pension Plan Management
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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) From a pure cost standpoint,a firm with a defined contribution plan would be more likely to hire older workers than a firm with a defined benefit plan.
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) Since not-for-profit firms do not pay taxes,they receive no tax benefits whatsoever from using debt financing.
A)True B)False
Q3) 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.
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